**U. S. SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

** **

**FORM 10-KSB**

 

**(MARKONE)**

 
| **ý****  ANNUAL REPORT  UNDER SECTION 13 OR 15 (d) OF THE  SECURITIES EXCHANGE ACT OF 1934** |
|-------------------------------------------------------------------------------------------------------------|
|                                                                                                        |
| **FOR  THE FISCAL YEAR ENDED SEPTEMBER 30, 2003**                                                           |
|                                                                                                        |   |   |
| **o****  TRANSITION  REPORT UNDER SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934**   |
|                                                                                                        |
| **COMMISSION  FILE NUMBER 1-7335**                                                                          |
|                                                                                                        |
| **LEE PHARMACEUTICALS**                                                                                     |
| (Name of small  business issuer in its charter)                                                             |
|                                                                                                        |

 
| **CALIFORNIA**                                                   |   | **95-2680312**                        |
|------------------------------------------------------------------|--------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization) |   | (I.R.S. Employer  Identification No.) |
|                                                             |   |                                  |
| **1444  SANTA ANITA AVENUE, SOUTH EL MONTE, CALIFORNIA**         |   | **91733**                             |
| (Address of  principal executive offices)                        |   | (Zip code)                            |
|                                                             |   |                                  |
| ISSUER’S  TELEPHONE NUMBER:  **(626) 442-3141**        |
|                                                             |
| SECURITIES  REGISTERED UNDER SECTION 12(b) OF THE EXCHANGE ACT   |
|                                                             |   |                                  |

 

| **Title of Each Class** |   | **Name of Each Exchange  on Which Registered** |
|-------------------------|--------|------------------------------------------------|
|                    |   |                                           |
| None                    |   |                                           |

 

SECURITIES REGISTEREDUNDER SECTION 12 (g) OF THE EXCHANGE ACT: Common Stock, par value $.10 per share

 

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

Yes       ý     No       o

 

Check if there is nodisclosure of delinquent filers in response to Item 405 of Regulation S-B isnot contained in this form, and no disclosure will be contained, to the best ofregistrant’s knowledge, in definitive proxy or information statementsincorporated by reference in Part III of this Form 10-KSB or any amendment tothis Form 10-KSB.  ý

 

State issuer’s revenuesfor its most recent fiscal year: $9,730,000 Gross

 

As of the close ofbusiness on November 28, 2003, the aggregate market value of LeePharmaceuticals’ Common Stock held by nonaffiliates was $279,374.

 

State the number ofshares outstanding of each of the issuer’s classes of common equity, as of thelatest practicable date.  Common Stock,par value $.10; 4,135,162 shares outstanding as of the close of business onNovember 28, 2003.

 

DOCUMENTS INCORPORATED BYREFERENCE:  NONE

 

 

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**PART I**

 

**ITEM 1.****     DESCRIPTION OF BUSINESS.**

 

The Company is engaged inthe development, purchase, manufacture, and marketing of consumer personal careproducts and professional dental products, all of which are targeted for theimproved well-being of the human body. The Company’s business is directed to two main areas:  (a) the development and marketing of a rangeof consumer products including over-the-counter items, health and beauty aids,cosmetics and prescription drug products containing controlled substances and(b) the manufacture and sale of materials and supplies for use in theprofessional dental health field.

 

The Company’s executiveoffices are located at 1444 Santa Anita Avenue, South El Monte, California91733, and its telephone number is (626) 442-3141. The Company  was incorporated in April 1971 as aCalifornia corporation.

 

**Consumer products segment**

 

The Company manufacturesand sells lip balm, lip gloss, hair removal products, antacid tablets, nasalcare products, artificial fingernail extenders and related fingernail products,a variety of over-the-counter items and prescription drug products.  The Company participates in cooperativeadvertising with many of its retailers.

 

In fiscal 2000, theCompany continued the expansion of the Lee® Lip-Ex® line to include 6 new “fun”flavored SPF 15 sticks.  In addition, anew line of 6 “fun” flavored sticks called Lee® Sippers® Lip Gloss was introduced.  The target markets include women andteenagers.** **On November 15, 1999, the Companypurchased Cope®, a tension headache relief tablet, and Astring-o-Sol®, aconcentrated mouthwash, from U.S. Dermatologics, Inc.  In addition, on January 31, 2000, the Company acquired Serutan®,toasted granules, a bulk-forming laxative, from Numark Laboratories, Inc.

 

On October 30, 2000, theCompany acquired the Sloans® Liniment hand pain relief medication from C.B.Fleet Co., Inc.  On February 12, 2001,the Company purchased the Black Draught® laxative product line from MonticelloDrug Company.  On August 22, 2001, theCompany acquired the DeWitt’s® analgesic pills for backache and joint painrelief from Monticello Drug Company. Subsequent to fiscal year end 2001, the Company exercised an option toresell the product line back to Monticello Drug Company.  Also, during fiscal 2001, the Companyexpanded its private label offerings to include several major grocery chains,drug wholesalers and retail chains.

 

The Consumer Products Divisionof the Company continues as the major revenue contributor to the Company.  In fiscal year 2003, the Lee ConsumerProducts Division generated in excess of 95% of the revenues of the Company.  The senior management team envisions thecontinued growth and importance of this division and has put in place resourcesfor further sales development.

 

In fiscal year 2003, theConsumer Products Division continued the emphasis on gaining productdistribution and product line diversification. This diversification was two-fold. First, through the further development of private label (store brands)for major chain accounts (K-Mart, Eckerd, Pathmark, Chain Drug Consortium,Family Dollar, Food Lion) in the USA and internationally.  Secondly, through acquisitions of productswhich are complementary to the existing Company’s products.

 

The primary strategy forfiscal year 2003 was to continue to establish a solid foundation to furtherbuild sales volume in retail establishments. This was done by targeting new trade classes, expanding sales globallyand replacing older, lower sales volume products.

 

In fiscal 2003, theCompany’s marketing department expanded the following product categories:

 

**Oral Care Products**

 

The Company continued theexpansion of the lip care category by providing key chain account retailerswith their own label of lip conditioners. This strategy has been successful to further partner with accounts inother categories.  In addition, theCompany has reinforced efforts in selling to both the dollar store as well asthe convenience store trade class which continues to gain consumer marketshare.

 

**Cough and Cold Products**

 

The Company has secureddistribution of the saline nasal spray by providing major chain retailers withtheir own private label.  The Companywill continue to pursue this strategy in the future.

 

During fiscal 2003, theCompany once again expanded its over-the-counter category of products by way ofan acquisition:

 

On September 10, 2003,the Company acquired OraStat® from Stiefel® Laboratories, Inc.  The OraStat® Oral Anesthetic Gel enjoysdistribution in retail outlets across the United States — distribution andsales levels that the Company hopes to expand under its sales and marketingexpertise.  In addition, the Company islooking at the possibility of generating additional volume with this product byproviding it as a store brand for major chain accounts.

 

Internal and externaldiversification efforts carried out by the Company’s Consumer Products Divisioncontributed long term opportunities for the Company during fiscal year2003.  This effort has:

 

•                  Addedsales volume in brand categories which were nonexistent in prior Companyhistory.

•                  Continuedexpansion efforts into convenience, independent novelty stores, and dollarstores.

•                  Expandedthe Company’s product line into global markets.

 

The Company sold iodex®(anti-infective ointment) to Monticello Drug Company in July 2003.

 

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**Domestic consumer products marketing**

 

Consumer products aresold nationally, principally through major retail drug, food and discountdepartment store chains.  In addition,the Lee® Lip-Ex® lip balm and Aquafilter®brands have national distribution in convenience and independent noveltystores.   Retail distribution isprimarily accomplished through a network of independent general merchandisesales representatives.  The Companyparticipates in cooperative advertising with many of its retailers.

 

**Consumer products competition**

 

The Consumer ProductsDivision of the Company operates in a highly competitive environment.  In the area of fingernail extension andover-the-counter drugs, the Company competes with many companies, most of whichare larger and with greater financial resources.

 

Competition in the depilatoryproduct category is intense, with competitors even more numerous than in theartificial fingernail field.  Theacquisition of Zip Wax and Bikini Bare brands of hair removal products hasgiven the Company two brands in this category.

 

The Company continues toexpand its product line via a combination of acquisitions and in-housedevelopment activity.  The Company’sconsumer products line is no longer restricted solely to the cosmeticsbusiness.

 

**Regulation of consumer products**

 

The Company’s consumer productsare regulated by the Food and Drug Administration.  The regulations deal principally with consumer safety and withthe effectiveness of the products for the purposes for which they are proposedto be used.  For many years, theregulations were applied only in cases of adulteration or misbranding.  Under the Fair Packaging and Labeling Act(1966), the FDA has moved to require new labeling data as to ingredients forall consumer products.

 

The Company believes thatall its consumer products are manufactured and sold in compliance with the lawsof each state and that no pre-marketing clearance of its products is requiredfrom any state.  The Company maintains acomprehensive data file on each of its consumer products and believes that itwould be able to apply for any required clearances expeditiously if data wereever required for its cosmetic, drug or food products.

 

To the extent theCompany’s products are marketed in foreign countries, foreign laws areapplicable as well as FDA regulations which control export of cosmetics.  To date, where regulations have beenestablished by foreign ministries of health which differ from those establishedin the United States, the Company has been able to make acceptable substitutions.  As a result, marketing of the products hasnot been significantly impeded by foreign regulations.

 

Material Safety DataSheets (MSDS) are available on all its consumer finished products.  The MSDSs are supplied to the Company’scustomers upon request.

 

All products for exportshipped by air or sea which contain listed hazardous materials meet UnitedNations Standards as of January 1991. The requirements are based on the U.N.’s performance-oriented packaging(POP) specifications found in the “Transport of Dangerous Goods” commonly called“The Orange Book”.

 

**Dental products segment**

 

From its inception in1971 through 2003, the Company at various times introduced dental productsdesigned to satisfy specific material or supply requirements of the practicingdental professional and of the orthodontic specialist.

 

Its dental product lineconsists of a variety of restorative materials (filling materials, core buildup materials), Beta Quartz glass ceramic inserts, splints, orthodonticbrackets, Maryland bridge adhesives, and enamel and dentin bonding materialsand related products.

 

**Dental marketing in the United States**

 

The Company markets itsdental and orthodontic products in the United States through telephonesolicitation, direct mail, and dental dealers. The Company plans and executes its own marketing programs.

 

**Dental marketing outside the United States**

 

The Company marketsdental products outside the United States through foreign dental distributorswho either solicit individual dentists and orthodontists and sell the Company’sproducts to them directly for use in the treatment of their patients, or sellthrough local dealers whom they engage to sell the Company’s products on theirbehalf.  The Company plans and executesits own international marketing programs and regularly displays its dentalproducts at international conventions by way of its distributors.

 

**Dental competition**

 

The dental preventive andrestorative materials industry is highly competitive, and the Company’s marketshare in the total industry is insignificant. The Company competes with larger corporations which have greaterfinancial resources.

 

**Regulation of Dental Products**

 

**Food and Drug Administration**

 

Dental materials areclassified as devices under the Medical Device Amendments of 1976 to theFederal Food, Drug and Cosmetic Act.

 

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All the dental deviceproducts marketed by the Company were registered as devices with the FDA at themandatory time (December 31, 1977).  Allnew devices marketed after May 28, 1976, must be processed under the FDApremarketing notification regulation (510 k) for determination of equivalencyto preenactment devices, or the product must be submitted as a new device whichrequires providing considerable extra test data.

 

The Safe Medical DevicesAct (SMDA) became law on November 28, 1990, requiring all serious injuries andserious illness contributed to or caused by medical devices to be reported todistributors, manufacturers and the FDA. SMDA also requires all premarket submissions to the FDA to containadequate information on safety and effectiveness.

 

As required by the FDA,the Company observes certain procedures and policies in the manufacture,quality control, and after-sale monitoring of performance for itsproducts.  Although the various criteriato be used by the FDA in regulating devices have not been finalized, theCompany believes that all of its products and procedures comply with allcurrent and anticipated device regulations. Over half the Company’s products fall into the FDA’s Class IIclassification which requires that those products must meet certain performancestandards.  The Company believes thatall affected products meet all current performance standards.

 

For those products placedin Class II, final marketing approval from the FDA is contingent on finalacceptance of the Panel’s findings and on development of standards (in largepart being done by the American Dental Association).  It is expected that, based upon current available information,most of the Company’s products will meet the standards currently anticipated;for the products that do not meet the standards, the Company will have tosubmit adequate data directly to the FDA. Failure to gain approval by the FDA could impede the marketing of thesedevices to the point of removal from the market until such time as clearance isobtained.

 

**Other governmental regulations**

 

To the extent theCompany’s products are marketed in foreign countries, the Company believes ithas complied with the laws of such countries, and with the FDA regulationswhich control export of devices.  Inthose countries which ban use of certain ingredients, the Company hasreformulated certain of its products to meet the specifications of thatparticular country.

 

There is generally worldwide movement to increase and/or streamline the regulations controlling medicaldevices.  The twenty two countries inEurope have consolidated their regulations into a joint code referred to as ISO9000.  This code regulates themanufacture and distribution of medical devices in Europe.  One of the provisions of the code is thatthe Company maintain a quality control system very much like the FDA system,but with some differences.  It appearsthat these differences are being negotiated so that both regulations will beequivalent.

 

Prior to this time, theCompany generally had to apply to each individual country to obtain permissionto sell in that country.  With theconsolidated regulations, a company needs only to apply to one.  At the moment all test data needed for anapplication must be generated in Europe or validated in Europe.  The resolution of differences between theFDA and the ISO 9000 regulations will probably result in U.S. data beingaccepted in Europe, and vice versa. Whether this consolidation will apply to prescription drugs isuncertain.

 

The Company elected tohave two of its major dental brands obtain the CE markings in order to continueto distribute those brands throughout Europe. The Company received the CE Markings on Prosthodent®and Insta-Bond®.

 

The Company believes thatall its dental products are manufactured and sold in compliance with the lawsof each state and country to whom the Company exports and that no premarketingclearance of its products is required from any state.

 

**Department of Transportation**

 

The MaterialsTransportation Bureau administers the Hazardous Materials Regulation, effectiveJuly 7, 1975.  It has been ascertainedthat those dental products and components marketed by the Company which fallwithin the provisions of the regulations are brought into compliance by properlabeling and/or filing for exemptions. The Company believes that it is in full compliance with all bureauregulations applicable to its products and that compliance with theseregulations will not significantly impede the marketing of its products.

 

**Applicable to All Segments**

 

**Foreign and Domestic Operations and Export Sales**

 
|                                             |   | **Year ended  September 30** |   |
|--------------------------------------------------|--------|------------------------------|--------|
|                                             |   | **2003**                     |   | **2002** |   | **2001** |   |
|                                             |   | **(000)**                    |   | **(000)** |   | **(000)** |   |
| United  States export sales (except Canada)      |   | $                            | 242    |   | $ | 253 |   | $ | 224 |   |
| United  States domestic sales (including Canada) |   | $                            | 9,488  |   | $ | 9,901 |   | $ | 9,253 |   |

** **

**Research program**

 

The Company focuses onbrand acquisitions rather than extensive internal research anddevelopment.  Effective July 1996 theCompany eliminated its internal research and development department, anddecided that future testing and research, that cannot be absorbed by itsquality assurance and production control departments, will be placed outsidethe Company.  The Company follows thepolicy of expensing all research and development costs when incurred.  The Company did not have any internalresearch and development expenses during fiscal years September 30, 2003 and2002.

 

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**Raw materials**

 

The raw materials used bythe Company in the manufacture of most of its dental and consumer products areobtained from commercial sources where they are presently available insufficient quantities and are refined by the Company as needed for use in itsproducts.  The Company generally carriessufficient amounts of raw materials inventory to meet the delivery requirementsof customers.

 

**Patents and trademarks**

 

The Company has adoptedthe policy of making patent disclosures on its products and of filingapplications for patents on the products or on aspects of their manufacture oruse when appropriate.  The Company ownsnine U.S. patents, including Dental Restoration System and Method and owns therights in a number of other U. S. patent applications pending.  The Company believes that, while patentprotection is desirable in certain areas, it is not essential; therefore,certain foreign patents have been abandoned as not necessary to the interest ofthe Company.

 

United States trademarksfor the major dental products as well as some consumer products, have beengranted.  Additional trademarks forother products have been applied for, both in the U. S. and in foreigncountries.  Trademarks for certain minorproducts, or in countries with minor market potential, have been abandoned asnot necessary to the interest of the Company.

 

**Current regulatory registration**

 

The Company has a licenseto manufacture and sell two dental products from the American DentalAssociation Health Research Foundation, which operates a dental researchfacility in the complex of the National Institute of Standards and Technology.

 

The Company is registeredwith the Federal and State of California FDA agencies as a manufacturer anddistributor of Drugs, Medical Devices, Processed Foods and Cosmetics.  The Company is also registered as a wastegenerator with the Environmental Protection Agency (EPA).

 

The Company has CECertifications on two dental products which are distributed in Europe:Prosthodent® Core Build Up Material and Lee Insta-Bond®Orthodontic Bracket Adhesive.

 

Effective November 23,1998, the Company applied for and was granted a Controlled Substance Licensewith the Drug Enforcement Agency (DEA). The license is issued for one year and grants the Company the right todistribute prescription drug products containing controlled substance (s).  As of March 3, 2003, the Company’s DEAlicense was renewed.

 

**Environmental protection regulation and litigation**

 

The Company owns amanufacturing facility located in South El Monte, California.  The California Regional Water QualityControl Board (The “RWQCB”) ordered the Company in 1988 and 1989 to investigatethe contamination on its property (relating to soil and groundwatercontamination).  The Company engaged aconsultant who performed tests and reported to the then Chairman of theCompany.  The Company resisted furtherwork on its property until the property upgradient was tested in greater detailsince two “apparent source” lots had not been tested.  On August 12, 1991, the RWQCB issued a “Cleanup and AbatementOrder” directing the Company to conduct further testing and cleanup thesite.  In October 1991, the Companyreceived from an environmental consulting firm an estimate of $465,200 forinvestigation and cleanup costs.  TheCompany believed that this estimate was inconclusive and overstated thecontamination levels.  The Companybelieves that subsequent investigations will support the Company’sconclusions  about that estimate.  The Company did not complete the testing forthe reasons listed above as well as “financial constraints”.  In June 1992, the RWQCB requested that theEPA evaluate the contamination and take appropriate action.  At the EPA’s request, Ecology &Environment, Inc. conducted an investigation of soil and groundwater on theCompany’s property.  Ecology &Environment Inc.’s Final Site Assessment Report, which was submitted to the EPAin June 1994, did not rule out the possibility that some of the contaminationoriginated on-site, and resulted from either past or current operations on theproperty.

 

On April 24, 2002, theRWQCB notified the Company that the detection of emergent chemicals ingroundwater, above State and Federal maximum containment levels or actionlevels, has caused the RWQCB and the EPA to reassess the threat posed togroundwater resources used for domestic supply.  The RWQCB directed the Company to test for the presence ofemergent chemicals in its groundwater monitoring wells.  The groundwater monitoring analyticalresults were due by July 15, 2002.  OnMay 24, 2002, the Company informed RWQCB that it could not comply with therequirement to conduct groundwater sampling due to ongoing financialdifficulties.

 

On July 8, 2002, theRWQCB sent a “Second Notice of Violation” to the Company directing the Companyto comply with the requirement to prepare a groundwater remedial action plan(RAP).  The Company previously notifiedthe RWQCB that it could not comply with the requirement to submit a RAP becauseof ongoing financial difficulties.  TheRWQCB requested that the Company submit certain financial information by July29, 2002 to “substantiate any alleged financial losses and determine whetherany suspension of implementing the...(Cleanup and Abatement Order) iswarranted.”  The Company has received anextension to submit the required financial information to August 19, 2002. TheCompany submitted the requested financial information on August 16, 2002.  The Company received a response wherebytheir request for financial hardship was denied.  The Company is in the process of appealing this decision basedprimarily upon the continued deterioration in the Company finances since theoriginal filing.  The Company may beliable for all or part of the costs of remediating the contamination on itsproperty and could be subject to enforcement action by the RWQCB, includinginjunctive and civil monetary remedies. As of the date of the financial statements, the Company’s share of thecosts have not been determined.

 

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The Company and nearbyproperty owners, in consort with their comprehensive general liability (CGL)carriers, engaged a consultant to perform a site investigation with respect tosoil and shallow groundwater contamination over the entire city block.  The CGL carriers provided $290,000 infunding which paid for the $220,000 study, $20,000 in legal fees for projectoversight, and a $50,000 balance in the operating fund.  Earlier the Company had accrued $87,500 asits proportionate share of the earlier quote of $175,000. Since that time, theoverall scope of the project was increased to $205,000 plus $15,000 for wastewater disposal, bringing the total to the above listed $220,000.  The $87,500 accrual was not spent on thisproject (as the entire cost was borne by the CGL carriers), but remains on thebooks as an accrual against the cost of remediation of the same site that wasincluded in the study.

 

The tenants of nearbyproperties upgradient have sued the Company alleging that hazardous materialsfrom the Company’s property caused contamination on the properties leased bythe tenants.  The case name is DelRay Industrial Enterprises, Inc. v. Robert Malone, et al., LosAngeles County Superior Court, Northwest District, commenced August 21,1991.  In this action, the plaintiff allegesenvironmental contamination by defendants of its property, and seeks a courtorder preventing further contamination and monetary damages.  The Company does not believe there is anybasis for the allegations and is vigorously defending the lawsuit.

 

The Company’s South ElMonte manufacturing facility is also located over a large area of possiblycontaminated regional groundwater which is part of the San Gabriel ValleySuperfund Site.  The Company has beennotified that it is a potentially responsible party  (“PRP”)  for thecontamination.   In 1995, the Companywas informed that the EPA estimated the cleanup costs for the South El Monte’sportion of the San Gabriel Valley Superfund Site to be $30 million.  The Company’s potential share of such amounthas not been determined.  Superfund PRPsare jointly and severally liable for superfund site costs, and are responsiblefor negotiating among themselves the allocation of the costs based on, amongother things, the outcome of environmental investigation.

 

In August 1995, theCompany was informed that the EPA entered into an Administrative Order ofConsent with Cardinal Industrial Finishes (“Cardinal”) for a PRP lead remedialinvestigation and feasibility study (the “Study”) which, the EPA states, willboth characterize the extent of groundwater contamination in South El Monte andanalyze alternatives to control the spread of contamination.  The Company and others entered into theSouth El Monte Operable Unit Site Participation Agreement with Cardinal pursuantto which, among other things, Cardinal contracted with an environmental firm toconduct the Study.  The Study has beencompleted.  The Company’s share of thecost of the Study was $15,000 and was accrued for in the financial statementsas of September 30, 1995.  The South ElMonte Operable Unit (SEMOU) participants developed four remedialalternatives.  The capital cost of thefour alternatives range from $0 (no action) up to $3.49 million.  The estimated annual operating cost for thefour alternatives range from $0 (no action) to $770,300.  Over a 30-year period, the total cost of thefour alternatives range from $0 (no action) up to $13.05 million.  The EPA prefers an alternative whichestimates the capital cost up to $3.08 million, the annual operating cost at$.48 million, and the 30-year period total cost up to approximately $9.09million.  The selection of the actualalternative implemented is subject to public comment.  At the present time, the Company does not know what its share ofthe cost may be, if any.  Therefore, noadditional accrual has been recognized as a liability on the Company’sbooks.  The Company requested that theEPA conduct an “ability-to-pay evaluation” to determine whether the Company isentitled to an early settlement of this matter based upon a limited ability topay costs associated with site investigation and remediation.  In August 2000, the EPA informed the Companythat it does not qualify for an early settlement at this time.

 

The EPA has informed theCompany that it has learned that the intermediate zone groundwatercontamination in the western portion of the SEMOU has migrated further west andhas now impacted the City of Monterey Park and Southern California WaterCompany production wells.  The EPAstated that the City of Monterey Park Water Department, San Gabriel ValleyWater Company and Southern California Water Company are planning to buildtreatment facilities for their wells. The EPA stated that these three water purveyors contacted some of theSEMOU PRPs, other than the Company, to seek funding to develop groundwatertreatment facilities for the contaminated wells.  A group of these PRPs calling themselves the “South El MonteCooperative Group” has been formed and purportedly has reached a generalagreement with the water purveyors to fund the development of treatmentfacilities and use the water purveyors’ wells in an attempt to contain thegroundwater contamination to meet EPA’s goals. At this time, the EPA has not reviewed or approved any specific plan toaddress contamination at the purveyor wells, nor has the EPA compromised itsright to recover response costs from any person who is legally responsible forcontamination within the SEMOU.  As ofthe date of this report, the Company has not been contacted by the South ElMonte Cooperative Group in respect to its participation in any proposed cleanupactivity.  As a result, the Company isnot able to determine what contribution, if any, it may be assessed inconnection with this cleanup activity.

 

By letter dated November13, 2000, the Company was notified that the City of Monterey Park, San GabrielValley Water Company and Southern California Water Company intend to bring suitunder the Safe Drinking Water and Toxic Enforcement Act of 1986 alleging thatthe Company has knowingly released volatile organic compounds in the soil andshallow groundwater beneath the Company’s property between at least on orbefore November 8, 1996 and the present and has failed to promptly clean up allof the contamination.  As of the date ofthis report, the Company has not been served with this lawsuit.

 

The City of South ElMonte, the city in which the Company has its manufacturing facility, is locatedin the San Gabriel Valley.  The SanGabriel Valley has been declared a Superfund site.  The 1995 Water Quality Control Plan issued by the CaliforniaRegional Water Quality Control Board states that the primary groundwater basinpollutants in the San Gabriel Valley are volatile organic compounds from industry,nitrates from subsurface sewage disposal and past agricultural activities.  In addition, the Plan noted that hundreds ofunderground storage tanks leaking gasoline and other toxic chemicals haveexisted in the San Gabriel Valley.  TheCalifornia Department of Toxic Substance Control has declared large areas ofthe San Gabriel Valley to be environmentally hazardous and subject to cleanupwork.

 

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The Company believes theCity of South El Monte does not appear to be located over any of the majorplumes.  However, the EPA has announcedit is studying the possibility that, although the vadose soil and groundwater,while presenting cleanup problems, there may be a contamination by DNAPs (densenon-aqueous phase liquids), i.e., “sinkers”, usually chlorinated organiccleaning solvents.  The EPA has proposedto drill six “deep wells” throughout the City of South El Monte at an estimatedcost of $1,400,000.  The EPA is conferringwith SEMPOA (South El Monte Property Owners Association) as to cost sharing onthis project.  SEMPOA has obtained muchlower preliminary cost estimates.  Theoutcome cost and exact scope of this are unclear at this time.

 

The Company and otherproperty owners engaged Geomatrix Consultants, Inc., to do a survey of vadosesoil and shallow groundwater in the “hot spots” detected in the previousstudies.  Geomatrix issued a reportdated December 1, 1997 (the “Report”), on the impact of volatile organiccompounds on the soil and groundwater at the Lidcombe and Santa Anita Avenue sitelocated in South El Monte, California (which includes the Company’sfacilities).  The Report indicatedgenerally low concentrations of tetrachloroethene, trichloaethene andtrichloroethane in the groundwater of the upgradient neighbor.  The Report was submitted to the RWQCB forits comments and response.  A meetingwith the parties and RWQCB was held on February 10, 1998.  The RWQCB had advised companies that vadosesoil contamination is minimal and requires no further action.  However, there is an area of shallowgroundwater which has a higher than desired level of chlorinated solvents, andthe RWQCB requested a proposed work plan be submitted by Geomatrix.  Geomatrix has submitted a “FocusedFeasibility Study” which concludes that there are five possible methods forcleanup.  The most expensive are for apump and sewer remediation which would cost between $1,406,000 and$1,687,000.  The Company is activelyexploring the less expensive alternative remediation methods, of which the twoproposed alternatives range in cost between $985,000 and $1,284,000.  Since there are four economic entitiesinvolved, the Company’s best estimate at this time, in their judgment, would bethat their forecasted share would be $287,000 less the liability alreadyrecognized on the books of $165,000 thereby requiring an additional $122,000liability.  Accordingly, the Companyrecorded an additional accrual of $122,000 in the third quarter of fiscal1998.  The $122,000 accrual is inaddition to the $79,000 accrual for the Monterey Site as will be explained inthe following paragraph.  The $79,000accrual, in the third quarter of fiscal 1998, related to the Monterey Site isnot included in the $287,000 figure above. In April 2000, the Company received a Notice of Violation from theRWQCB.  The Notice of Violation statesthat the Company and other property owners were required to submit agroundwater remedial action plan by November 1, 1999, and that the RWQCB hasbeen advised that the Company and the other property owners were unable tosubmit the required remedial action plan because the Company and the otherproperty owners could not agree on the allocation of financial responsibilityto prepare the action plan.  The RWQCBstated that it will no longer encourage the cooperative approach among theCompany and the other property owners in completing the cleanup requirementsand will pursue appropriate measures, including when necessary, enforcementactions.  The RWQCB states that it mayimpose civil liability penalties of up to $1,000 per day from November 1, 1999for failure to file the action plan.  Inlight of these events, no assurances can be given that the cleanup costs andpossible penalties will not exceed the amount of the Company’s current accrualsof $287,000 (which includes the $122,000 charge to income in the third quarterof fiscal 1998).

 

In July 2000, theproperty owners formed the Lidcombe & Santa Anita Avenue Work Group (LSAAW)in response to the RWQCB request for the preparation of an action plan.  The LSAAW submitted a Focused FeasibilityStudy to the RWQCB for their review and approval of the selected remedialaction method for the site.  Afterreceiving RWQCB approval, LSAAW obtained three cost proposals to implement theRWQCB approved pump and treat remedial method. According to these cost proposals, the lowest estimated costs for anassumed five (5) years of pump and treat remediation is $600,000.  This cost is lower than the previous costproposed work plan, discussed above, from Geomatrix Consultants, Inc.  The capital costs including contingenciesare approximately $300,000.

 

The LSAAW is hopeful theWater Quality Authority (WQA) is willing and able to reauthorize its grant forone-half (1/2) of the capital costs of its remediation system construction notto exceed $150,000.  It is estimated atthis time that the reserves for the Company’s share of this cost proposal areadequate since its prior accrual was based on the higher cost estimate fromGeomatrix.

 

Without any priorcorrespondence or inkling of the Company’s potential liability, the EPAinformed the Company that the Company may have potential liability for theongoing remediation of Operating Industries, Inc. (as they have gone out ofbusiness) Landfill Superfund Site in Monterey Park, California (the “MontereySite”).  The Monterey Site is a 190 acrelandfill that operated from 1948 to 1984, in which the Company disposed of nontoxic pH balanced waste water on six occasions between 1974 and 1978.  Over 4,000 companies have been identified ashaving contributed waste to the Monterey Site. The EPA has offered to settle the Company’s potential liability withrespect to the Monterey Site for a cost to the Company of $79,233.  The Company accrued a $79,000 charge in thethird quarter of fiscal 1998 with respect to this possible liability.  The Company has elected to file for relieffrom these obligations under the financial hardship option in the EPA’sresponse form.  On June 30, 2000, theEPA informed the Company that the EPA believed the Company is able to pay thefull settlement cost, but offered to reduce the amount of the settlement to$75,271.

 

The Company was notifiedby the EPA that the Company may have potential liability for waste material itdisposed of at the Casmalia Disposal Site (“Site”) located on a 252 acre parcelin Santa Barbara County, California. The Site was operational from 1973 to 1989, and over 10,000 separateparties disposed of waste there.  TheEPA stated that federal, state and local governmental agencies along with thenumerous private entities that used the Site for waste disposal will beexpected to pay their share as part of this settlement.  The U.S. EPA is also pursuing theowner(s)/operator(s) of the Site to pay for Site remediation.  The EPA has a settlement offer to the Companywith respect to the Site for a cost of $373,950.  The Company accrued a $374,000 charge in the first quarter offiscal 1999 with respect to this possible liability.  The Company has elected to file for relief from these obligationsunder the financial hardships option in the EPA’s response form.  The Company, the EPA and certain PRPs haveentered into an agreement tolling the applicable statutes of limitation.  The Company has been notified by the EPAthat their request for a waiver, due to financial hardship, was “partiallygranted.”  Improvements in the biddingprocess has lowered the Company’s estimated share down to $245,000 (from$374,000) and of that, the EPA was requesting that the Company pay $113,000, asa result of their findings on the application for waiver due to financialhardship.  The Company is consideringthe EPA’s request.

 

7

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The total amount ofenvironmental investigation and cleanup costs that the Company may incur withrespect to the foregoing is not known at this time.  However, based upon information available to the Company at thistime, the Company has expensed since 1988 a total of $860,000, of which $89,000were legal fees, exclusive of legal fees expended in connection with the Securitiesand Exchange Commission environmental investigation.  The actual costs could differ materially from the amountsexpensed for environmental investigation and cleanup costs to date.

 

As of September 30, 2003,no additional amounts have been incurred and no settlements have been reached.

 

**Other regulations**

 

During the last severalyears, several state, local and federal agencies have finalized or proposedregulations relating to hazardous materials. These include Los Angeles CountyHazardous Materials Business Plan, California and federal OSHA “right to know”laws, EPA “community right to know” laws and Extremely Hazardous SubstanceRegulations, Los Angeles County’s program for monitoring and closingunderground tanks, the California Safe Drinking and Toxic Enforcement Act of1986 (Prop 65), California Connelly-Sterling Toxic Hot Spots InformationAct  and AQMD’s New Source ofCarcinogenic Air Contaminants (Rule 1401). The Company believes it is in compliance with these regulations that arein effect and is anticipating it will be in compliance with those of these actsyet to be finalized.

 

The Internal StandardsOrganization in September 1996 released specifications (ISO 14000) forcompanies to use as guidelines in reducing worldwide contamination andimproving on recycling operations.  TheCompany believes that demonstrating that the Company meets these specificationsis good citizenship and also in time will be necessary for international trade.  The Company has not yet applied for an ISO14000 rating due to the burden of other environmental matters outlined above.

 

**Employees**

 

The Company’s work forceof 92 presently includes 34 permanent employees, both salaried and hourly, and58 personnel leased through employment agencies.

 

**Other**

 

The Company is notdependent upon any one supplier for any important raw material item.  Most raw material items are commodities andreadily available in the market.  Inmost instances, the Company utilizes two or more suppliers to furnish rawmaterials as needed.  Sources arebelieved to be sufficient to satisfy current and anticipated needs.

 

Demand for some of theCompany’s principal product lines is not seasonal.  The depilatory line of products is, however, generally seasonal,with demand significantly higher during the spring and summer months.

 

Although the Company doesnot believe that it is dependent upon any one customer or distributor, acustomer accounted for 12% of the Company’s net revenues during fiscal 2003 and2002, respectively.  No other customeraccounted for 8% or more of the Company’s net revenues for those fiscal years.

 

Backlog is not asignificant factor in the Company’s business. Most orders are filled immediately and in any event, are cancelableunder certain conditions.  There are nomaterial contracts with distributors.

 

Consumer ProductsDivision returns must include proof of purchase, sales receipt and a writtenexplanation of the reason for the return. The Company generally provides credits for replacement of product,however, on occasion it may provide a cash refund.

 

In addition, discontinuedor overstocked items may be returned once the customer receives a computerprinted “return authorization” and “shipping labels” for full case stock offactory fresh product to be sent freight prepaid to the Company’swarehouse.  The customer will notreceive credit for additional merchandise that may have been added to thereturn.

 

The Company’s salesreturn policy for the Dental Division, is as follows: “products returned to LeePharmaceuticals for credit must be sent postage paid and within 90 days ofpurchase”.  Defective merchandise can bereplaced free of charge at any time prior to the date of expiration.  Excessively used or improperly storedmerchandise is not eligible for replacement.

 

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

 

The Company occupies,through ownership or lease, seven buildings on contiguous lots in South ElMonte, California. The Company owns the following:

 
| **Address**             |   | **Approximate  square  footage** |   | **Usage**                         |
|-------------------------|--------|----------------------------------|--------|-----------------------------------|
|                    |   |                             |   |                              |
| 1428 Santa Anita Avenue |   | 10,400                           |   | Chemical processing and  filling. |

 

8

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The Company leases thefollowing:

 
| **Address**                 |   | **Approximate  square  footage** |   | **Aggregate  annual  rental** |   | **Lease  expiration  date** |       | **Usage**                                                                             |                                                                                               |
|-----------------------------|--------|----------------------------------|--------|-------------------------------|--------|-----------------------------|------------|---------------------------------------------------------------------------------------|----------------------------------------------------------------------------------------------------|
| 1434 Santa Anita Avenue     |   | 11,200                           |   | $                             | 65,070 | *                           | 11/30/2005 |                                                                                  | Inventory control, personnel, data processing,  accounting offices and dental production/shipping. |   |
|                        |   |                             |   |                          |   |                        |       |                                                                                  |                                                                                               |
| 1460 Santa Anita Avenue     |   | 14,560                           |   | 84,594                        | *      | 11/30/2005                  |       | Consumer shipping.                                                                    |                                                                                               |
|                        |   |                             |   |                          |   |                        |       |                                                                                  |                                                                                               |
| 1470 Santa Anita  Avenue(1) |   | 8,400                            |   | 48,803                        | *      | 11/30/2005                  |       | Effective July 16, 1996, the building was subleased.                                  |                                                                                               |
|                        |   |                             |   |                          |   |                        |       |                                                                                  |                                                                                               |
| 1500 Santa Anita Avenue     |   | 17,600                           |   | 102,252                       | *      | 11/30/2005                  |       | Warehouse, consumer packaging operations, injection  molding and corrugated printing. |                                                                                               |
|                        |   |                             |   |                          |   |                        |       |                                                                                  |                                                                                               |
| 1516 Santa Anita Avenue     |   | 17,600                           |   | 102,252                       | *      | 11/30/2005                  |       | Sales/marketing offices, purchasing and warehouse.                                    |                                                                                               |
|                        |   |                             |   |                          |   |                        |       |                                                                                  |                                                                                               |
| 1444 Santa Anita  Avenue(2) |   | 9,800                            |   | 78,360                        | *      | 11/30/2005                  |       | Executive office, consumer production, quality  control and bottle printing.          |                                                                                               |
|                        |   |                             |   |                          |   |                        |       |                                                                                  |                                                                                               |
| 1427 Lidcombe Avenue        |   | 6,000                            |   | 34,859                        | *      | 11/30/2005                  |       | Maintenance and chemical processing (rear building).                                  |                                                                                               |
|                        |   |                             |   |                          |   |                        |       |                                                                                  |                                                                                               |
| 1425 Lidcombe Avenue        |   | 6,000                            |   | 34,859                        | *      | 11/30/2005                  |       | Chemical processing and  packaging.                                                   |                                                                                               |
|                        |   |                             |   |                          |   |                        |       |                                                                                  |                                                                                               |
| 1445 Lidcombe Avenue(2)     |   | 9,200                            |   | 73,560                        | *      | 11/30/2005                  |       | Manufacturing and  packaging.                                                         |                                                                                               |
|                             |        |                                  |        |                               |        |                             |            |                                                                                       |                                                                                                    |  |

 

----

*                 Revisedbiannually for consumer price index change.

 

(1)          The Company entered intoa sublease agreement, effective April 1, 2001, which expires November 30,2005.  The gross annual rental income is$49,812.  This new sublease replaces thesublease which expired November 30, 2000.

 

(2)          This property is treatedas a sale leaseback agreement between the Company and Ronald G. Lee,President.  The monthly lease paymentswere set at the prevailing rates in the area at the time the leases werewritten.

 

All of the Company’sbusiness segments use the properties owned or leased by the Company except for1470 Santa Anita Avenue (sublease expires November 30, 2005).

 

The Company has a rightof first refusal to acquire most of the buildings which it leases.

 

The Company believes thatits existing facilities are adequate to enable it to continue to produce itsproducts at their present volume together with any moderate increases thereto.

 

**ITEM 3.****     LEGAL PROCEEDINGS.**

 

The action entitled CarmaLaboratories, Inc. v. Lee Pharmaceuticals, related to the tradedress, was settled in April, 2003.  Withrespect to the jars of lip balm related to a private label, the Company willcease and desist from using the color yellow as the background color on the capof its jar.  The parties acknowledgethat the compromise settlement which has been entered into by them is withoutadmission of wrongdoing, liability or violation of any law on the part ofeither party.

 

In addition, in theordinary course of its business, the Company is involved from time to time inlitigation.  In the opinion ofmanagement of the Company none of that litigation currently pending will have amaterial effect on its business or financial condition.  See Item I – “Applicable to All Segments -Environmental protection regulation and litigation” for additional informationconcerning certain environmental litigation.

 

**ITEM 4.****     SUBMISSION OF MATTERS TO AVOTE OF SECURITY HOLDERS.**

 

Not applicable.

 

9

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**PART II**

 

**ITEM 5.****     MARKET FOR COMMON EQUITY ANDRELATED STOCKHOLDERS MATTERS.**

 

The Company’s CommonStock trades on the electronic over-the-counter bulletin board under thetrading symbol LPHM.  For the two mostrecent fiscal years, its shares have closed at high and low trading prices asfollows:

 

|         |   | **QTR** |   | **High** |   | **Low** |   |
|--------------|--------|---------|--------|----------|--------|---------|--------|
| **FY  2003** |   | 1Q      |   | $        | .1300  |    | $      | .0800 |   |
|         |   | 2Q      |   | .1100    |   | .0900   |   |
|         |   | 3Q      |   | .1100    |   | .0900   |   |
|         |   | 4Q      |   | .1600    |   | .0900   |   |
| **FY  2002** |   | 1Q      |   | $        | .1600  |    | $      | .1100 |   |
|         |   | 2Q      |   | .2400    |   | .1700   |   |
|         |   | 3Q      |   | .2400    |   | .1200   |   |
|         |   | 4Q      |   | .2400    |   | .0800   |   |

 

There were approximately715 shareholders of record of the Company’s Common Stock as of the close ofbusiness on September 30, 2003.

 

The Company has not paidany cash dividends and has no present intention of paying cash dividends in theforeseeable future.

 

**ITEM 6.****     MANAGEMENT’S DISCUSSION ANDANALYSIS OR PLAN OF OPERATIONS.**

 

**Fiscal years ended September 30, 2003, and September 30, 2002**

 

In fiscal 2003, netrevenues decreased 5% to $8,758,000 from $9,226,000 in fiscal 2002.  The decrease in net revenues was primarilyattributed to lower sales volume associated with the Lee® Lip-Ex®lip balm category ($281,000).  Inaddition, the Company experienced lower volume from controlledsubstance/prescription drug items ($180,000), depilatories ($85,000), Take-Off®($60,000)  and various over-the-counteritems ($600,000).  The decrease in netrevenues was partially offset by higher sales volume generated from the privatelabel ($386,000) segment and newly acquired brands ($465,000).  The Company’s sales returns increased approximately $44,000 or 5% whencomparing fiscal years 2003 and 2002. The Company continued to experience the discontinuance of a few of theCompany’s  SKUs (stock keeping units) atthe retail store level.  The continuedexpansion into the private label business segment has been positive.

 

Cost of sales as apercentage of gross revenues for fiscal 2003 and 2002 was 54% and 49%,respectively.  The higher cost of salespercentage for fiscal 2003 was due to a continued change in the product mixalong with lower priced commodity-type goods with an accompanying higher costof goods attached to them, thereby generating lower gross margins in sales onthese related products.  The lower grossmargin goods include, but are not limited to, the Lee® Lip-Ex®lip balm category plus private label business. Over 32% of the Company’s gross sales were generated from the lowergross margin goods.  Also, the Companyhired an outside consulting firm to assist the Company in matters relating tothe Food and Drug Administration and Good Manufacturing Practices.  For fiscal year ended September 30, 2003,The Company expensed $36,000 in this endeavor. In addition, the Company has been utilizing analytical firms more thanin the past due to the increasing levels of labeling and expanded analyticaltesting requirements.  When comparingfiscal years ended September 30, 2003 and 2002, the above two statementsrealized an increase in costs of approximately $138,000.

 

Selling and advertisingexpenses increased $150,000 or 6% when comparing fiscal years 2003 and2002.  The increased expenses wereprimarily due to the following factors: (1) increased advertising expense($137,000), (2) added royalty expense from product line acquisitions in fiscal2002 ($77,000), (3) Increased product liability insurance premiums ($57,000),(4) increased freight costs ($36,000) and (5) higher building rent due to theCompany re-occupying a building which was previously subleased ($24,000).  The above increases were partially offset by(1) lower salesmen’s salaries, related fringe benefits and commissions due tothe resignation of a sales person who was not replaced ($100,000), (2) lowerbad debt expense ($49,000) and (3) lower amortization expense due to twoprevious product acquisitions becoming fully amortized ($33,000).

 

General andadministrative expenses increased $153,000 or 13% when comparing fiscal years2003 and 2002.  This increase wasprincipally due to (1) higher MIS (Management Information Systems) expenses forconsulting services ($78,000), (2) higher legal expenses related to the CarmaLaboratories, Inc. legal action ($40,000) and (3) an increase in supplies andprinting expenses ($38,000).

 

Financial AccountingStandards No. 142 (FAS-142) became effective for the Company on October 1,2001.  FAS-142 requires goodwill andother intangible assets that have indefinite useful lives to no longer beamortized; however, these assets must be tested at least annually forimpairment.  FAS-142 also requires anevaluation of existing acquired goodwill and other intangible assets for properclassification under the new requirements. As a result of FAS-142, the Company is required to evaluate periodicallyfor impairment of goodwill and other intangible assets.  For the years ended September 30, 2003 and2002, the Company had recorded an impairment charge of $254,000 and $659,000,respectively.

 

10

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Interest expenseincreased $74,000 or 10% when comparing fiscal years 2003 and 2002.  The increase was due to a higher overallaverage borrowings level related to loans not tied to prime, when comparingfiscal 2003 and 2002.  During fiscal2003, there were four new loans at a higher interest rate which were not tiedto prime.  The above was somewhat offsetby a lower average prime interest rate (4.25% versus 4.83%) in reference tocertain loans which are tied to prime.

 

Other income increased$502,000 or 306% to $666,000 when comparing fiscal years 2003 and 2002.  The significant increase was attributed torealized gains from the sale of three of the Company’s prior (November 1999,September 1997 and March 1993) product line acquisitions ($319,000).   Also, the Company earned approximately$153,000 which was the Company’s portion of the net profits from its investmentwith Monticello Drug Company and approximately $60,000 from its newdistribution agreement with the same company. Offsetting these increases was a $29,000 adjustment to accounts payablein fiscal 2002 recorded as other income. There was no comparable adjustment in fiscal 2003.

 

The Company reported anet loss of $1,104,000, or 27 cents per share, during fiscal year 2003 as aresult of the aforementioned.

 

**Liquidity and capital resources**

 

Working capital was anegative $3,525,000 at September 30, 2003, as compared with a negative$1,883,000 at September 30, 2002.  Thedecrease in working capital of $1,642,000 was due basically to a decease inaccounts receivable ($506,000) and increases in the current portion of longterm notes payable ($533,000) and in amounts due from related parties($599,000).  The ratio of current assetsto current liabilities was .5 to 1 at September 30, 2003 and .7 to 1 atSeptember 30, 2002.

 

In comparing fiscal years2003 and 2002, accounts receivable turnover increased (10.5 versus 10.1) andthe number of day’s sales were in average accounts receivable improved (29 daysversus 30 days).  This data wasrelatively constant during fiscal years 2003 and 2002 due to continuedcollection efforts.  Accounts payable asa percentage of total costs and expenses was 10% in fiscal 2003 versus 14% infiscal 2002.

 

Effective April 23, 2002,the Company renewed its accounts receivable financing, maturing May 2004,whereby 70% of the eligible domestic accounts receivable, not to exceed thegreater of $1,400,000 or $1,400,000 less amounts advanced on inventory, can beadvanced.  At September 30, 2003, theamount advanced to the Company was $605,000. The agreement is renewable for successive one year periodsthereafter.  Also, the agreementrequires minimum monthly interest of $3,000 with an interest rate of 8% aboveUnion Bank of California’s prime rate. The financing agreement includes a $300,000 term loan on inventory whichis incorporated in the working capital line of credit above.  The inventory term loan requires monthlypayments of $5,000 with an interest rate of 8% above Union Bank of California’sprime rate.  As of September 30, 2003,the inventory term loan principal balance was $155,000 and is being paid downto $0 at the rate of $5,000 per month. The $100,000 will be due when the financing agreement matures.  Additionally, there is a separate $400,000term loan on the Company’s equipment. As monthly payments are made to reduce the equipment term loan balance,the Company, from time to time, as needed, can request additional financing fornew and used equipment at 80% of the purchase price.  As of September 30, 2003, the equipment term loan balance was$216,000.  This equipment financing issecured by a security interest in all of the Company’s assets and requiresmonthly payments of $20,106 plus interest at Union Bank of California’s primerate plus 8%.  The continuing personalguarantee by the Company’s President, of obligations of the Company, remains inforce.

 

During fiscal 2003, theCompany financed the acquisition of a product line.  The debt incurred for the financing of this product line was$90,000 at an interest rate of 20%.

 

See “Business -Applicable to All Segments - Environmental protection regulation andlitigation” for a description of certain environmental matters relating to theCompany.

 

The Company has anaccumulated deficit of $9,227,000.  TheCompany’s past recurring losses and fiscal 2001 and 2000’s nominal profits fromoperations and inability to generate sufficient cash flow from normaloperations to meet its obligations as they come due raise substantial doubtabout the Company’s ability to continue as a going concern.  The Company’s ability to continue inexistence is dependent upon future developments, including retaining currentfinancing and achieving a level of profitable operations sufficient to enableit to meet its obligations as they become due.

 

The Company does notbelieve that inflation had a significant impact on its operations during fiscalyears 2003 and 2002.

 

11

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**ITEM 7.****                          FINANCIALSTATEMENTS.**

 
|                                     | **Page  Number**                                                                                           |
|------------------------------------------|------------------------------------------------------------------------------------------------------------|
| **Index to Financial Statements**        |                                                                                                       |
|                                     |                                                                                                       |
| Independent  Auditor’s Report       | 13                                                                                                         |
|                                     |                                                                                                       |
| Prior Independent Auditor’s  Report | 14                                                                                                         |
|                                     |                                                                                                       |
| Financial Statements:                    |                                                                                                       |
|                                     |                                                                                                       |
|                                     | Balance  sheet as of September 30, 2003                                                                    | 15 |
|                                     |                                                                                                       |   |
|                                     | Statements  of operations for the years ended September 30, 2003 and September 30, 2002                    | 16 |
|                                     |                                                                                                       |   |
|                                     | Statements  of stockholders’ (deficit) for the years ended September 30, 2003 and  September 30, 2002 | 17 |
|                                     |                                                                                                       |   |
|                                     | Statements  of cash flows for the years ended September 30, 2003 and September 30, 2002                    | 18 |
|                                     |                                                                                                       |   |
|                                     | Notes  to financial statements                                                                             | 19-32 |

 

12

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**GeorgeBrenner, CPA**

**APROFESSIONAL CORPORATION**

**10680 W.PICO BOULEVARD, SUITE 260**

**LOSANGELES, CALIFORNIA 90064**

**310/202-6445**– **FAX310/202-6494**

 

 

REPORT OFINDEPENDENT AUDITOR

 

To the Board of Directorsand Stockholders

of Lee Pharmaceuticals

 

I have audited theaccompanying balance sheet of Lee Pharmaceuticals (a California corporation) asof September 30, 2003, and the related statements of operations, stockholders’(deficit) and cash flows for the year ended September 30, 2003.  These financial statements are theresponsibility of the Company’s management. My responsibility is to express an opinion on these financial statementsbased on my audit.

 

I conducted my audit inaccordance with auditing standards generally accepted in the United States ofAmerica.  Those standards require that Iplan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements.  An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statement presentation.  I believe that my audit provides areasonable basis for my opinion.

 

The financial statementsof the Company for the year ended September 30, 2002 were audited by otherauditors whose report (attached) dated December 12, 2002 expressed anunqualified opinion on those statements with an explanation paragraph discussingthe going concern.

 

In my opinion, thefinancial statements referred to above present fairly, in all materialrespects, the financial position of Lee Pharmaceuticals as of September 30,2003 and the results of its operations and its cash flows for the year thenended, in conformity with accounting principles generally accepted in theUnited States of America.

 

The accompanyingfinancial statements have been prepared assuming that the Company will continueas a going concern.  As discussed inNote 1 of the financial statements, the Company has not shown a trend forgenerating sufficient net income and cash flow from normal operations.  Those conditions raise substantial doubtabout its ability to continue as a going concern.  Management’s plans regarding those matters are also described inNote 1.  The financial statements do notinclude any adjustments that might result from the outcome of this uncertainty.

 

As discussed in Note 13to the financial statements, the Company is named in several environmental remediationactions.  Although the Company hasaccrued a liability in the amount of $740,000, the total costs of these actionscannot be presently determined.  Thetotal amount of expense from inception relating to this issue is $860,000.

 
|                    | GEORGE BRENNER      |
|-------------------------|---------------------|
|                    |                |
|                    | George Brenner, CPA |
| Los Angeles, California |                |
| December 11, 2003       |                |

 

13

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***Caldwell, Becker, Dervin, Petrick &Co., L.L.P.***

***CERTIFIED PUBLIC ACCOUNTANTS***

 

INDEPENDENT AUDITOR’S REPORT

 

To the Board of Directorsand Stockholders

of Lee Pharmaceuticals

 

We have audited theaccompanying balance sheet of Lee Pharmaceuticals (a California corporation) asof September 30, 2002, and the related statements of operations, stockholders’(deficit), and cash flows for each of the years in the two-year period thenended.  These financial statements arethe responsibility of the Company’s management.  Our responsibility is to express an opinion on these financialstatements based on our audit.

 

We conducted our audit inaccordance with auditing standards generally accepted in the United States ofAmerica.  Those standards require thatwe plan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements.  An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statementpresentation.  We believe that our auditprovides a reasonable basis for our opinion.

 

In our opinion, thefinancial statements referred to above present fairly, in all materialrespects, the financial position of Lee Pharmaceuticals as of September 30,2002, and the results of its operations and its cash flows for each of theyears in the two-year period then ended, in conformity with accountingprinciples generally accepted in the United States of America.

 

The accompanying financialstatements have been prepared assuming that the Company will continue as agoing concern.  As discussed in Note 1to the financial statements, the Company has not shown a trend for generatingsufficient net income and cash flow from normal operations.  Those conditions raise substantial doubtabout its ability to continue as a going concern.  Management’s plans regarding those matters are also described inNote 1.  The financial statements do notinclude any adjustments that might result from the outcome of this uncertainty.

 

As discussed in Note 12to the financial statements, the Company is named in several environmentalremediation actions.  Although theCompany has accrued a liability in the amount of $740,000, the total costs ofthese actions cannot be presently determined. The total amount of expense relating to this issue is $860,000.

 

 

CALDWELL, BECKER, DERVIN,PETRICK & CO., L.L.P.

 

Caldwell, Becker, Dervin,Petrick & Co., L.L.P.

Woodland Hills,California

December 12, 2002

 

20750 Ventura Boulevard,Suite 140 • Woodland Hills, CA 91364

(818) 704-1040 •(323) 873-1040 • FAX (818) 704-5536

 

14

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**LEE PHARMACEUTICALS**

 

**BALANCESHEET**

(rounded tothousands)

 

**SEPTEMBER 30, 2003**

 

 
| **ASSETS**                                                                                                     |   |       |       |
|----------------------------------------------------------------------------------------------------------------|--------|------------|------------|
|                                                                                                           |   |       |       |
| **CURRENT  ASSETS:**                                                                                           |   |       | ** ** |
| Cash                                                                                                           |   | $          | 16,000     |   |
| Accounts  receivable, less allowance for doubtful accounts of $30,000 and sales returns  allowance of $160,000 |   | 580,000    |       |
| Inventories                                                                                                    |   | 2,506,000  |       |
| Deposits                                                                                                       |   | 222,000    |       |
| Other  current assets                                                                                          |   | 107,000    |       |
| **Total current assets**                                                                                       |   | 3,431,000  |       |
|                                                                                                           |   |       | ** ** |
| **PROPERTY,  PLANT AND EQUIPMENT, AT COST:**                                                                   |   |       | ** ** |
| Land                                                                                                           |   | 49,000     |       |
| Building                                                                                                       |   | 217,000    |       |
| Machinery  and equipment                                                                                       |   | 5,449,000  |       |
| Leasehold  improvements                                                                                        |   | 395,000    |       |
|                                                                                                           |   | 6,110,000  |       |
| Less  accumulated depreciation and amortization                                                                |   | (5,455,000 | )          |
| **Net property, plant and equipment**                                                                          |   | 655,000    |       |
| **Other assets:**                                                                                              |   |       |       |
| Intangible  assets, net of accumulated amortization of $2,315,000 and impairment of  $913,000                  |   | 1,928,000  |       |
| Non-current  deposits                                                                                          |   | 46,000     |       |
| **Total other assets**                                                                                         |   | 1,974,000  |       |
|                                                                                                           |   |       |       |
| **Total**                                                                                                      |   | $          | 6,060,000  |   |
|                                                                                                           |   |       |       |   |
| **LIABILITIES  AND STOCKHOLDERS’ (DEFICIT)**                                                              |   |       |       |
|                                                                                                           |   |       |       |
| **Current liabilities:**                                                                                       |   |       |       |
| Bank  overdraft                                                                                                |   | $          | 100,000    |   |
| Notes  payable - finance company                                                                               |   | 976,000    |       |
| Current  portion - notes payable, other                                                                        |   | 1,427,000  |       |
| Current  portion - note payable related party                                                                  |   | 910,000    |       |
| Accounts  payable                                                                                              |   | 992,000    |       |
| Accrued  liabilities                                                                                           |   | 441,000    |       |
| Environmental  cleanup liability                                                                               |   | 366,000    |       |
| Due  to related parties                                                                                        |   | 1,501,000  |       |
| Deferred  income                                                                                               |   | 243,000    |       |
| **Total current liabilities**                                                                                  |   | 6,956,000  |       |
|                                                                                                           |   |       |       |
| **Long-term notes payable to related parties**                                                                 |   | 1,613,000  |       |
| **Long-term notes payable, other**                                                                             |   | 1,399,000  |       |
| **Environmental cleanup liability - casmalia site**                                                            |   | 374,000    |       |
| **Deferred income**                                                                                            |   | 310,000    |       |
| **Total liabilities**                                                                                          |   | 10,652,000 |       |
|                                                                                                           |   |       |       |
| **Commitments and contingencies**                                                                              |   |       |       |
|                                                                                                           |   |       |       |
| **Stockholders’ (deficit):**                                                                              |   |       |       |
| Common  stock, $.10 par value; authorized 7,500,000 shares; issued and outstanding,  4,135,162 shares          |   | 413,000    |       |
| Additional  paid-in capital                                                                                    |   | 4,222,000  |       |
| Accumulated  (deficit)                                                                                         |   | (9,227,000 | )          |
| **Total stockholders’ (deficit)**                                                                         |   | (4,592,000 | )          |
|                                                                                                           |   |       |       |
| **Total**                                                                                                      |   | $          | 6,060,000  |   |

 

The accompanying notes are an integral part of thefinancial statements.

 

15

----

 

**LEE PHARMACEUTICALS**

 

**STATEMENTS OF OPERATIONS**

(rounded tothousands)

 

**FOR THE YEARS ENDED SEPTEMBER 30,**

 
|                                                                 |   | **2003**  |       | **2002**  |   |
|----------------------------------------------------------------------|--------|-----------|------------|-----------|--------|
|                                                                 |   |      |       |      |   |
| **Gross revenues**                                                   |   | $         | 9,730,000  |      | $      | 10,154,000 |   |
| Less:  Sales returns, discounts and allowances                       |   | (972,000  | )          | (928,000  | )      |
|                                                                 |   |      |       |      |   |
| **Net revenues**                                                     |   | 8,758,000 |       | 9,226,000 |   |
|                                                                 |   |      |       |      |   |
| **Costs and expenses:**                                              |   |      |       |      |   |
| Cost  of sales                                                       |   | 5,252,000 |       | 4,999,000 |   |
| Selling  and advertising                                             |   | 2,861,000 |       | 2,711,000 |   |
| General  and administrative                                          |   | 1,309,000 |       | 1,156,000 |   |
| Intangible  impairment loss                                          |   | 254,000   |       | 659,000   |   |
|                                                                 |   |      |       |      |   |
| **Total  costs and expenses**                                        |   | 9,676,000 |       | 9,525,000 |   |
|                                                                 |   |      |       |      |   |
| **Operating (loss)**                                                 |   | (918,000  | )          | (299,000  | )      |
| **Interest expense**                                                 |   | (851,000  | )          | (777,000  | )      |
| **(loss) gain on sale of fixed assets**                              |   | (1,000    | )          | 1,000     |   |
| **Other income**                                                     |   | 666,000   |       | 164,000   |   |
|                                                                 |   |      |       |      |   |
| **Net (loss)**                                                       |   | $         | (1,104,000 | )         | $      | (911,000 | ) |
|                                                                 |   |      |       |      |   |
| **loss per share data:**                                             |   |      |       |      |   |
|                                                                 |   |      |       |      |   |
| Basic  and fully diluted (loss) per share                            |   | $         | (.27       | )         | $      | (.22 | ) |
|                                                                 |   |      |       |      |   |
| Weighted  average common shares outstanding, basic and fully diluted |   | 4,135,162 |       | 4,135,162 |   |

 

The accompanying notes are an integral part of thefinancial statements.

 

16

----

 

**LEE PHARMACEUTICALS**

 

**STATEMENTS OF STOCKHOLDERS’ (DEFICIT)**

(rounded tothousands)

 

**FOR THE YEARS ENDED SEPTEMBER 30,**

 
|                           |   | **Common  Stock**     |   | **Additional** |    |                 |   |                       |   |
|--------------------------------|--------|-----------------------|--------|----------------|---------|----------------------|--------|----------------------------|--------|
|                           |   | **Number of  Shares** |   | **Amount**     |    | **Paid-in  Capital** |   | **Accumulated  (Deficit)** |   | **Total** |   |
|                           |   |                  |   |           |    |                 |   |                       |   |   |   |
| Balance  at September 30, 2001 |   | 4,135,162             |   | $              | 413,000 |                 | $      | 4,222,000                  |   | $ | (7,212,000 | ) | $ | (2,577,000 | ) |
|                           |   |                  |   |           |    |                 |   |                       |   |   |   |
| Net  (loss)                    |   |                  |   |           |    |                 |   | (911,000                   | )      | (911,000 | ) |
|                           |   |                  |   |           |    |                 |   |                       |   |   |   |
| Balance  at September 30, 2002 |   | 4,135,162             |   | 413,000        |    | 4,222,000            |   | (8,123,000                 | )      | (3,488,000 | ) |
|                           |   |                  |   |           |    |                 |   |                       |   |   |   |
| Net  (loss)                    |   |                  |   |           |    |                 |   | (1,104,000                 | )      | (1,104,000 | ) |
|                           |   |                  |   |           |    |                 |   |                       |   |   |   |
| Balance  at September 30, 2003 |   | 4,135,162             |   | $              | 413,000 |                 | $      | 4,222,000                  |   | $ | (9,227,000 | ) | $ | (4,592,000 | ) |

 

The accompanying notes are an integral part of thefinancial statements.

 

17

----

 

**LEE PHARMACEUTICALS**

 

**STATEMENTS OF CASH FLOWS**

(rounded tothousands)

 

**FOR THE YEARS ENDED SEPTEMBER 30,**

 
|                                                                               |   | **2003**  |       | **2002**   |   |
|------------------------------------------------------------------------------------|--------|-----------|------------|------------|--------|
| CASH  FLOWS PROVIDED BY OPERATING ACTIVITIES:                                      |   |      |       |       |   |
| Net  (loss)                                                                        |   | $         | (1,104,000 | )          | $      | (911,000 | ) |
| Adjustments  to reconcile net income to net cash provided by operating activities: |   |      |       |       |   |
| Depreciation                                                                       |   | 173,000   |       | 170,000    |   |
| Amortization  of intangibles                                                       |   | 198,000   |       | 231,000    |   |
| Intangible  impairment loss                                                        |   | 254,000   |       | 659,000    |   |
| Loss  (gain) on disposal of property, plant, and equipment                         |   | 1,000     |       | (1,000     | )      |
| (Decrease)  in deferred income                                                     |   | (172,000  | )          | (119,000   | )      |
| (Gain)  in sale of product brand                                                   |   | (266,000  | )          | —     |   |
| Change  in operating assets and liabilities:                                       |   |      |       |       |   |
| Decrease  (increase) in accounts receivable, net                                   |   | 506,000   |       | (337,000   | )      |
| (Increase)  in inventories                                                         |   | (88,000   | )          | (9,000     | )      |
| Decrease  (increase) in deposits                                                   |   | 99,000    |       | (42,000    | )      |
| Decrease  (increase) in other current assets                                       |   | 76,000    |       | (140,000   | )      |
| Increase  (decrease) in bank overdraft                                             |   | 27,000    |       | (12,000    | )      |
| (Decrease)  increase in accounts payable and accrued liabilities                   |   | (241,000  | )          | 330,000    |   |
| Increase  in due to related parties                                                |   | 599,000   |       | 48,000     |   |
|                                                                               |   |      |       |       |   |
| Net  cash provided by (used in) operating activities                               |   | 62,000    |       | (133,000   | )      |
|                                                                               |   |      |       |       |   |
| CASH  FLOWS FROM INVESTING ACTIVITIES:                                             |   |      |       |       |   |
| Additions  to property, plant and equipment                                        |   | (311,000  | )          | (125,000   | )      |
| Proceeds  from sale of equipment                                                   |   | —    |       | 1,000      |   |
| Proceeds  from sale of product brand                                               |   | 665,000   |       | 565,000    |   |
| Acquisition  of product brands and covenants not to compete                        |   | (90,000   | )          | (646,000   | )      |
|                                                                               |   |      |       |       |   |
| Net  cash provided by (used in) investing activities                               |   | 264,000   |       | (205,000   | )      |
|                                                                               |   |      |       |       |   |
| CASH  FLOWS FROM FINANCING ACTIVITIES:                                             |   |      |       |       |   |
| Proceeds  from notes payable to related party                                      |   | —    |       | 120,000    |   |
| (Payments  on) notes payable to related party                                      |   | (156,000  | )          | (244,000   | )      |
| (Decrease)  in notes payable                                                       |   | (258,000  | )          | (116,000   | )      |
| Proceeds  from notes payable, other                                                |   | 1,000,000 |       | 1,960,000  |   |
| (Payments  on) notes payable, other                                                |   | (922,000  | )          | (1,361,000 | )      |
|                                                                               |   |      |       |       |   |
| Net  cash provided by (used in) financing activities                               |   | (336,000  | )          | 359,000    |   |
|                                                                               |   |      |       |       |   |
| NET  (DECREASE) INCREASE IN CASH                                                   |   | (10,000   | )          | 21,000     |   |
| Cash,  beginning of year                                                           |   | 26,000    |       | 5,000      |   |
|                                                                               |   |      |       |       |   |
| Cash,  end of year                                                                 |   | $         | 16,000     |       | $      | 26,000 |   |
|                                                                               |   |      |       |       |   |
| SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:                                 |   |      |       |       |   |
|                                                                               |   |      |       |       |   |
| Cash  paid during the year for:                                                    |   |      |       |       |   |
| Interest                                                                           |   | $         | 789,000    |       | $      | 717,000 |   |
| Taxes                                                                              |   | $         | 1,000      |       | $      | 1,000 |   |

 

The accompanying notes are an integral part of thefinancial statements.

 

18

----

 

**LEE PHARMACEUTICALS**

**NOTES TO FINANCIAL STATEMENTS**

 

**NOTE 1 -****                     SUMMARYOF SIGNIFICANT ACCOUNTING POLICIES**

 

**Description of business**

 

The Company is engaged inthe development, purchase, manufacture, and marketing of consumer personal careproducts and professional dental products, all of which are targeted for theimproved well-being of the human body. The Company’s business is directed to two main areas:  (a) the development and marketing of a rangeof consumer products including over-the-counter items, health and beauty aids,cosmetics and prescription drug products containing controlled substances and(b) the manufacture and sale of materials and supplies for use in theprofessional dental health field.

 

**Continued existence**

 

The financial statementshave been prepared assuming the Company will continue as a going concern.  The Company has an accumulated deficit of$9,227,000.  The Company’s recurringlosses from operations and inability to generate sufficient cash flow fromnormal operations to meet its obligations as they come due raise substantialdoubt about the Company’s ability to continue as a going concern.  The Company’s ability to continue inexistence is dependent upon future developments, including retaining currentfinancing and achieving a level of profitable operations sufficient to enableit to meet its obligations as they become due. Management’s plans in regard to these matters are to increaseprofitability by increasing sales, control expenses and seek additionalfinancing from outside lenders.  Thefinancial statements do not include any adjustments to reflect the possiblefuture effects of the recoverability and classification of assets or theamounts and classification of liabilities that may result from the possibleinability of the Company to continue as a going concern.

 

**Reclassifications**

 

Certain reclassificationshave been made to the prior year financial statements to be consistent with the2003 presentation.

 

**Accounts receivable**

 

The Company providesallowances for doubtful accounts and for returned merchandise.  The Company’s estimates are based onhistorical collection and return experience and a review of the current statusof trade accounts receivable.  It isreasonably possible that the Company’s estimate of the allowances for doubtfulaccounts and returned merchandise will change in the future.  In connection with the Company’sdistribution agreement, see Note 20.

 

**Inventories**

 

Inventories are stated atthe lower of average cost or market using the first-in, first-out method.

 

**Depreciation and amortization**

 

Property and Equipment

 

Property and equipmentare recorded at cost.  Expenditures formajor additions and improvements are capitalized, and minor replacements,maintenance, and repairs are charged to expense as incurred.  When property and equipment are retired orotherwise disposed of, the cost and accumulated depreciation are removed fromthe accounts and any resulting gain or loss is included in the results ofoperations for the respective period. Amortization and depreciation are computed on the straight line methodsused for financial reporting purposes using the following lives:

 
| Building                |   | 31 years  |
|-------------------------|--------|-----------|
| Machinery and equipment |   | 5-7 years |
| Leasehold improvements  |   | 39 years  |

 

Depreciation expense was$173,000 and $170,000 for the years ended September 30, 2003 and 2002,respectively.

 

Intangibles

 

Intangible assets arebeing amortized under the straight-line method using the following lives:

 
| Covenants not to  compete |   | 60  months  -  120 months |
|---------------------------|--------|-----------------------------------------------|
| Distribution rights       |   | 56 months                                     |
|                           |        |                                               |  |  |

 

Amortization expense was$198,000 and $231,000 for the years ended September 30, 2003 and 2002,respectively.

 

19

----

 

**Environmental expenditures**

 

Environmentalexpenditures that relate to an existing condition caused by past operations,and which do not contribute to current or future revenue generation, areexpensed.  The Company’s proportionateshare of the liabilities are recorded when environmental remediation and/orcleanups are probable, and the costs can be reasonably estimated.  Management believes that the total amountprovided at September 30, 2003 for remedial cost studies is adequate based oncurrent information available.  (SeeNote 13 - “Assessment for environmental cleanup.”)

 

**Major customer and vendors**

 

The Company had one majorcustomer with sales volume approximating 12% of the Company’s net revenues forboth fiscal years ending September 30, 2003, and 2002.  The amount due from the customer was $58,000and $248,000 at September 30, 2003, and 2002, respectively, and is included inaccounts receivable in these financial statements.  The Company has five vendors that accounted for 25% of the totalinventory purchased for the fiscal year ended September 30, 2003.

 

**Revenue and expense recognition**

 

Income and expenses arerecorded on the accrual basis of accounting. The Company recognizes revenues from sales when goods have been shipped,there are no material uncertainties regarding customer acceptance, collectionof the resulting receivable is deemed probable, and no other significant vendorobligations exist.  Expenses arerecognized when services have been performed or inventory items have beenused.  Chemical items are recognized asinventory once Quality Control testing is in compliance with the Companyspecifications.  Adoption of SAB 101 hashad no effect on the way the Company recognizes revenue.  The Company has not had to change theiraccounting policies to comply with SAB 101.

 

**Concentration of credit risk**

 

Financial instrumentswhich potentially subject the Company to concentrations of credit risk consistof cash and trade receivables.  TheCompany places its cash with high credit quality financial institutions.  At times such investments may be in excessof the FDIC limit.  In regards to tradereceivables, the risk is limited due to the large number of customerscomprising the customer base, and the dispersion in different industries andgeographies.  Generally, the Companydoes not require collateral for its trade receivables.

 

**Deferred income tax accounts**

 

Deferred tax assets andliabilities are recognized for the future tax consequences attributable todifferences between the financial statement carrying amounts of existing assetsand liabilities and their respective tax bases.  Deferred tax assets, including tax loss and credit carryforwards,and liabilities are measured using enacted tax rates expected to apply totaxable income in the years in which those temporary differences are expectedto be recovered or settled.  The effecton deferred tax assets and liabilities of a change in tax rates is recognizedin income in the period that includes the enactment date.  Deferred income tax expense represents thechange during the period in the deferred tax assets and deferred taxliabilities.  The components of thedeferred tax assets and liabilities are individually classified as current andnon-current based on their characteristics. Deferred tax assets are reduced by a valuation allowance when, in theopinion of management, it is more likely than not that some portion or all ofthe deferred tax assets will not be realized.

 

**Use of estimates**

 

The preparation offinancial statements in conformity with generally accepted accountingprinciples requires management to make estimates and assumptions that affectthe reported amounts of assets and liabilities and disclosures of contingentassets and liabilities at the date of the financial statements and the reportedamounts of revenues and expenses during the reporting period.  Actual results could differ from thoseestimates.

 

**Fair value of financial instruments**

 

Based on borrowing ratescurrently available to the Company for bank loans with similar terms andmaturities, the fair value of the Company’s long-term debt approximates thecarrying value.  Furthermore, thecarrying value of all other financial instruments potentially subject tovaluation risk (principally consisting of accounts receivable and accountspayable) also approximates fair value.

 

**Impairment of long-lived assets andlong-lived assets to be disposed of**

 

The Company evaluates itslong-lived assets, including goodwill (product line) and certain identifiableintangibles, for impairment whenever events or changes in circumstancesindicate that the carrying amount of such assets or intangibles may not berecoverable.  Recoverability of assetsto be held and used is measured by a comparison of the carrying amount of anasset to future undiscounted net cash flows expected to be generated by theasset.  If such assets are considered tobe impaired, the impairment to be recognized is measured by the amount by whichthe carrying amount of the assets exceeds the fair value of the assets.  If an asset is to be disposed of, it isreported at the lower of the carrying amount or fair value less costs to sell.   (See Note 4 - “Intangible Assets.”)

 

**Advertising costs**

 

Advertising costs areexpensed as incurred.  Advertising costsfor fiscal years ended September 30, 2003 and 2002 were $297,000 and $160,000,respectively.

 

20

----

 

**Stock option plan**

 

The Company applies theintrinsic value-based method of accounting prescribed by Accounting PrinciplesBoard (“ABP”) Opinion No. 25, *Accounting for Stock Issued to Employees*,and related interpretations, in accounting for its outstanding stockoptions.  As such, deferred compensationexpense would generally be recorded on the date of grant only if the currentmarket price of the underlying stock exceeded the exercise price.  Such deferred compensation is expensedpro-rata over the vesting period of the stock option.  Repriced stock options are accounted for using variable planaccounting which requires periodic re-measurement of the intrinsic value of therelated stock option until its exercise, forfeiture or cancellation. (See Note14 - “Stock Options.”)

 

**Segment reporting**

 

In June 1997, the FASBissued Statement of Financial Accounting Standards (“SFAS”) No. 131, *Disclosuresabout Segments of an Enterprise and Related Information*.  SFAS No. 131 establishes standards for the mannerin which public companies report information about operating segments in annualand interim financial statements.  Italso establishes standards for related disclosures about products and services,geographic areas and major customers. The method for determining what information to report is based on theway management organizes the operating segments within the Company for makingoperating decisions and assessing financial performance.  The Company’s chief operating decision-makeris considered to be the Company’s chief executive officer (“CEO”).

 

Information available onreportable segments is as follows:

 
|                                          |   | **For Year  Ended September 30** |      |
|-----------------------------------------------|--------|----------------------------------|-----------|
|                                          |   | **2003**                         |      | **2002** |   |
| Revenue  from consumer personal care products |   | $                                | 9,530,000 |   | $ | 9,906,000 |   |
|                                          |   |                             |      |   |   |
| Revenue  from professional dental products    |   | $                                | 200,000   |   | $ | 248,000 |   |

 

The Company does notidentify or allocate assets by operating segment and does not allocate cost ofsales, operating profits, depreciation or other expenses by operating segments.

 

**New accounting pronouncements**

 

In September 2001, theFinancial Accounting Standards Board (FASB) issued Statement No. 143, *AssetRetirement Obligations*.  Thisstatement addresses financial accounting and reporting for obligationsassociated with the retirement of tangible long-lived assets and the associatedasset retirement costs.  The statementwill be effective for the Company’s fiscal year ending 2003.  Management does not expect the adoption ofthis standard to have a material impact on the Company’s financial statements.

 

In April 2002, the FASBissued Statement No. 145, *Rescission of FASB Statements No. 4, 44, and 64,Amendments of FASB Statement No. 13, and Technical Correction*s.  The Company does not believe that theadoption of this pronouncement will have a material effect on its financialstatements.

 

In June 2002, the FASBissued Statement No. 146, *Accounting for Costs Associated With Exit or DisposalActivities*.  This statementrequires the recognition of a liability for a cost associated with an exit ordisposal activity when the liability is incurred versus the date the Companycommits to an exit plan.  In addition,this statement states the liability should be initially measured at fair value.  The statement is effective for exit ordisposal activities that are initiated after December 31, 2002.  The Company does not believe that theadoption of this pronouncement will have a material effect on its financialstatements.

 

In January 2003, the FASBissued SFAS No. 148, *Accounting for Stock-Based Compensation – Transitionand Disclosure*.  Thisstatement provides alternative methods of transition for a voluntary change tothe fair value-based method of accounting for stock-based employeecompensation.  In addition, thisstatement also amends the disclosure requirements of SFAS No. 123 to requiremore prominent and frequent disclosures in the financial statements about theeffects of stock-based compensation  TheCompany does not believe that the adoption of this standard will have amaterial effect on its financial statements.

 

In January 2003, the FASBissued Interpretation No. 45, *Guarantor’s Accounting and Disclosure Requirementsfor Guarantees, Including Indirect Guarantees of Indebtedness of Others*.  FASB Interpretation No. 45 clarifies that aguarantor is required to recognize, at the inception of a guarantee, aliability for the fair value of the obligation undertaken in issuing certainguarantees.  The Company does not expectthat this interpretation will have a material effect on its financialstatements.

 

In January 2003, the FASBissued Interpretation No. 46, *Consolidation of Variable Interest Entities*.  This interpretation establishes standardsfor identifying a variable interest entity and for determining under whatcircumstances a variable interest entity should be consolidated with itsprimary beneficiary.  Until now, acompany generally has included another entity in its consolidated financialstatements only if it controlled the entity through voting interests.  Interpretation No. 46 changes that by requiringa variable interest entity to be consolidated by a company if that company issubject to a majority of the risk of loss from the variable interest entity’sactivities or is entitled to receive a majority of the entity’s residualreturns or both.  The Company does notbelieve that the adoption of this pronouncement will have a material effect onits financial statements.

 

21

----

 

**NOTE 2 -****                     NET(LOSS) PER SHARE**

 

Basic net (loss) pershare is computed using the weighted-average number of shares of Common Stockoutstanding.  Diluted net (loss) pershare is computed using the weighted-average number of shares of Common Stockoutstanding and, when dilutive, potentially dilutive shares from restrictedstock and options to purchase Common Stock using the treasury stock method.

 

The following is areconciliation of the shares used in the computation of basic and diluted net(loss) per share:

 
|                                                                                  |   | **For Year  Ended September 30** |   |
|---------------------------------------------------------------------------------------|--------|----------------------------------|--------|
|                                                                                  |   | **2003**                         |   | **2002** |   |
|                                                                                  |   |                             |   |   |   |
| Basic  net (loss) per share - weighted average number of common shares outstanding    |   | 4,135,162                        |   | 4,135,162 |   |
|                                                                                  |   |                             |   |   |   |
| Effect  of potentially dilutive securities outstanding - restricted stock and options |   | —                           |   | — |   |
|                                                                                  |   |                             |   |   |   |
| Shares  used in diluted net (loss) per share computation                              |   | 4,135,162                        |   | 4,135,162 |   |

 

Options to purchaseshares of Common Stock at an average share price which is greater than theaverage market price of the shares are not included in the computation ofdiluted earnings per share, or EPS, because the effect of their inclusion wouldhave been anti-dilutive.  For the yearsended September 30, 2003 and 2002,  0options and 212,000 options, respectively, to purchase shares of Common Stockwere excluded from the computation of diluted earnings per share.

 

**NOTE 3 -****                     INVENTORIES**

 

Inventories consist ofthe following at September 30, 2003:

 
| Raw  materials              |   | $         | 2,141,000 |   |
|-----------------------------|--------|-----------|-----------|--------|
| Work-in-process             |   | 342,000   |      |
| Finished  goods             |   | 464,000   |      |
|                        |   | 2,947,000 |      |
| Allowance  for obsolescence |   | (441,000  | )         |
| Total                       |   | $         | 2,506,000 |   |

 

**NOTE 4 -****                     INTANGIBLEASSETS**

 

The Company acquiredcertain product lines in fiscal 2003 (see Note 18) and in prior years.  Amounts related to these acquisitions areallocated to intangible assets. Included in intangible assets, which have not been fully amortized atSeptember 30, 2003, are the following:

 
|                      |   | **Cost**  |      | **Accumulated  Amortization  and Impairmentat 10/1/02** |   | **Acquisitions  (Sales)Current Year** |   | **Current  YearAmortization** |   | **Current  YearImpairment** |   | **Net  Unamortizedat 9/30/03** |   |
|---------------------------|--------|-----------|-----------|---------------------------------------------------------|--------|---------------------------------------|--------|-------------------------------|--------|-----------------------------|--------|--------------------------------|--------|
|                      |   |      |      |                                                    |   |                                  |   |                          |   |                        |   |                           |   |
| Product  lines            |   | $         | 3,065,000 |                                                    | $      | (1,809,000                            | )      | $                             | — |                        | $      | —                         |   | $ | (254,000 | ) | $ | 1,002,000 |   |
| Covenants  not to compete |   | 2,001,000 |      | (967,000                                                | )      | 90,000                                |   | (198,000                      | )      | —                      |   | 926,000                        |   |
|                      |   |      |      |                                                    |   |                                  |   |                          |   |                        |   |                           |   |
| Total                     |   | $         | 5,066,000 |                                                    | $      | (2,776,000                            | )      | $                             | 90,000 |                        | $      | (198,000                       | )      | $ | (254,000 | ) | $ | 1,928,000 |   |

 

**Product lines**

 

Since the acquisition,profit margins for certain of the products have been below management’sexpectations principally as a result of lower than expected sales levels.  During 2003, the Company performed adetailed evaluation of the product lines which took into considerationestimated future cash flows of the individual brands based on the brands’projected sales and the direct costs associated with manufacturing and sellingthe brands.  Where the individualbrands’ undiscounted cash flow projections were less than the carrying value,an impairment loss was calculated and recognized.  In determining the amount of impairment loss, the value of eachproduct line was calculated using the discounted future estimated annual cashflows.  A discount rate of 33.3%, whichrepresents an estimated risk-adjusted cost of capital, was used in thecalculation.  This evaluation resultedin a noncash charge to operations for the years ended September 30, 2003 of$254,000 and September 30, 2002 of $659,000.

 

**Covenant not to compete**

 

Covenant not to competeagreements (net) of $926,000 at September 30, 2003, represents the portion ofthe purchase price associated with the acquisition of ten different productlines allocated to noncompetition agreements. Under these agreements, the former companies agreed not to compete withthe Company for periods ranging from five to ten years.  The related cost is being amortized on thestraight-line method over the terms of the agreements.

 

22

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**NOTE 5 -****                    ****NOTES PAYABLE - FINANCE COMPANY**

 
| The agreement with the  lender covering the following notes payable contains a solvency provision  which has been waived by the lender.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |   |    |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------|
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   |    |
| Note payable (accounts  receivable financing), secured by accounts receivable, equipment,  inventories, and certain other assets, maximum revolving advance is  $1,400,000 (based on domestic accounts receivable as defined in the agreement  less amounts loaned on inventory, not to exceed $300,000, can be advanced),  requires minimum monthly interest of $3,000, interest rate is 8% above Union  Bank of California’s prime rate.  The  agreement matures May 2004 and is renewable annually.  The continuing personal guarantee by the  Company’s President, of the obligations of the Company, remains in force. |   | $       | 605,000 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   |    |
| Note payable, secured  by inventory, maximum amount of term loan is the lessor of $300,000 or 25% of  the amount of eligible inventory, requires monthly payments of $5,000 plus  interest at Union Bank of California’s prime rate plus 8%, maturing May 2004.                                                                                                                                                                                                                                                                                                                                                                            |   | 155,000 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   |    |
| Note payable, maximum  amount of term loan is $400,000, secured by the Company’s machinery and  equipment, requires monthly payments of $10,000 plus interest at Union Bank  of California’s prime rate plus 8%, maturing May 2004.                                                                                                                                                                                                                                                                                                                                                                                                   |   | 101,000 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   |    |
| Note payable, maximum  amount of term loan is $134,000, secured by the Company’s machinery and  equipment, requires monthly payments of $5,166 plus interest at Union Bank of  California’s prime rate plus 8%, maturing May 2004.                                                                                                                                                                                                                                                                                                                                                                                                    |   | 4,000   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   |    |
| Note payable, maximum  amount of term loan is $50,000, secured by the Company’s machinery and  equipment, requires monthly payments of $2,000 plus interest at Union Bank of  California’s prime rate plus 8%, maturing May 2004.                                                                                                                                                                                                                                                                                                                                                                                                     |   | 18,000  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   |    |
| Note payable, maximum  amount of term loan is $50,000, secured by the Company’s machinery and  equipment, requires monthly payments of $2,000 plus interest at Union Bank of  California’s prime rate plus 8%, maturing May 2004.                                                                                                                                                                                                                                                                                                                                                                                                     |   | 18,000  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   |    |
| Note payable, maximum  amount of term loan is $70,000, secured by the Company’s machinery and  equipment, requires monthly payments of $2,900 plus interest at Union Bank of  California’s prime rate plus 8%, maturing May 2004.                                                                                                                                                                                                                                                                                                                                                                                                     |   | 41,000  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   |    |
| Note payable, maximum  amount of term loan is $50,000, secured by the Company’s machinery and  equipment, requires monthly payments of $2,000 plus interest at Union Bank of  California’s prime rate plus 8%, maturing May 2004.                                                                                                                                                                                                                                                                                                                                                                                                     |   | 34,000  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   | $       | 976,000 |

 

Interest expense on the above notes was $156,000 forthe year ended September 30, 2003.

 

**NOTE 6 -****                     ACCRUEDLIABILITIES**

 

For the year endedSeptember 30, 2003, accrued liabilities consisted of the following:

 
| Payroll  taxes            |   | $       | 1,242   |   |
|---------------------------|--------|---------|---------|--------|
| Royalties                 |   | 63,253  |    |
| Commissions               |   | 38,821  |    |
| Customers’  deposits |   | 57,477  |    |
| Rental  deposits          |   | 8,641   |    |
| Salaries  and vacation    |   | 159,782 |    |
| Professional  fees        |   | 11,270  |    |
| Other                     |   | 100,514 |    |
| Total                     |   | $       | 441,000 |   |

 

**NOTE 7 -****                     DUETO RELATED PARTIES**

 

Due to related partiestotaling $1,501,000 at September 30, 2003, is comprised of accrued interest of$965,000 (see Note 10) and advances of $536,000 from two directors/stockholdersthat are unsecured.

 

**NOTE 8 -****                     RELATEDPARTY TRANSACTIONS**

 

The amounts of rents paidto the President/Stockholder were $148,000 for September 30, 2003 and $143,000for September 30, 2002.

 

During the fiscal yearending September 30, 2003, the total interest expensed to related parties (seeNote 10) was $109,000 of which $46,000 was paid.  Included in due to related parties, as of September 30, 2003, wasaccrued interest of $965,000.

 

During the fiscal yearending September 30, 2002, the total interest expensed to related parties (seeNote 10) was $130,000 of which $59,000 was paid.  Included in due to related parties, as of September 30, 2002, wasaccrued interest of $902,000.

 

23

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**NOTE 9 -****                     NOTESPAYABLE - OTHER**

 
| Note payable to a  company, secured by product brand, payable in monthly installments of  $12,000, plus interest, commencing July 25, 2001, and continuing monthly  thereafter, until and including September 25, 2001.  Thereafter, monthly installment payments will be $22,000.  The interest rate is the highest prime  rate published by Citibank, N.A., during the preceding month.  This note is past due its maturity.                            |   | $       | 357,000 |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------|---------|
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Notes  payable   to  bank,  secured   by  a  deed  on  land   and  building,  requires   monthly  payments of $4,200,  including interest at the bank’s reference rate (4% at September 30, 2003)  plus 4%, maturing January 2006.  The  note is guaranteed by the President and former Chairman of the Company.                                                                         |   | 89,000  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable to a  company, secured by product brand, payable in monthly installments of $3,000,  plus interest, commencing June 15, 2002, until January 15, 2004 (maturity  date).  The interest rate is the  highest prime rate in the Wall Street Journal during the previous month.  The interest rate at September 30, 2003,  was 4.00%.  The note is guaranteed by  the President of the Company.                                                   |   | 12,000  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable, secured  by product brand, bearing interest at 20%.   The note, as renewed, matures December 1, 2003.  As of the date of this report, the Company  is seeking to negotiate an extension of the maturity date to December 1,  2004.  Interest only payments are made  monthly.                                                                                                                                                               |   | 50,000  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable,  unsecured, payable in monthly installments of $6,000, plus interest at 20%  commencing January 10, 2001.  This  note matures on November 10, 2005.                                                                                                                                                                                                                                                                                                   |   | 164,000 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable, secured  by product brand, payable in monthly installments of $4,000, plus interest at  20%, commencing April 10, 2001.  This  note matures on May 10, 2005.                                                                                                                                                                                                                                                                                          |   | 88,000  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable, secured  by product brand, payable in monthly installments of $6,000, plus interest at  20%, commencing September 15, 2001.   This note matures on March 15, 2007.                                                                                                                                                                                                                                                                                    |   | 262,000 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable, secured  by product brand, payable in monthly installments of $5,000, plus interest at  20%, commencing December 25, 2001.   This note matures on November 25, 2006.                                                                                                                                                                                                                                                                                  |   | 200,000 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable, secured  by product brand, payable in monthly installments of $15,000, plus interest  at 24%, commencing March 15, 2002.   This note matures on February 15, 2004.                                                                                                                                                                                                                                                                                    |   | 120,000 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable, secured  by product brand, payable in monthly installments of $10,000, plus interest  at 24%, commencing March 20, 2002.   This note matures on February 20, 2004.                                                                                                                                                                                                                                                                                    |   | 80,000  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable, secured  by product brand, payable in monthly installments of $5,000, plus interest at  24%, commencing May 25, 2002.  This  note matures on December 25, 2003.                                                                                                                                                                                                                                                                                       |   | 35,000  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable, secured by  product brand, payable in monthly installments of $5,000, plus interest at  24%, commencing June 25, 2002.  This  note matures on January 25, 2004.                                                                                                                                                                                                                                                                                       |   | 30,000  |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable, secured  by product brand, payable in monthly installments of $5,000, plus interest at  20%, commencing August 1, 2002.  This  note matures on November 1, 2005.                                                                                                                                                                                                                                                                                      |   | 125,000 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable,  unsecured, with interest only payments at 10%, commencing August 20,  2003.  The due date of the note is  October 12, 2005,  and is guaranteed  by the President of the Company.   After two years from July 17, 2003, either party can give 90 days  written notice to pay off in full.                                                                                                                                                   |   | 300,000 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |    |
| Note payable,  unsecured, in the amount of $550,000, plus accrued interest at 20%,  commencing from October 2, 2002 through July 31, 2003.  After July 31, 2003, principal (monthly  installments of $20,000), plus interest, are payable.  The note is guaranteed by the President of  the Company.  This note matures on  April 15, 2006.  The product brand  previously securing this note was sold during fiscal year ended September 30,  2003. |   | 634,000 |

 

24

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| Note payable,  unsecured, payable in monthly installments of $5,000, plus interest at 20%,  commencing May 10, 2003.  This note  matures on December 10, 2004.                    |   | 80,000     |      |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|------------|-----------|
|                                                                                                                                                                                   |   |       |      |
| Note payable, secured  by product brand, payable in monthly installments of $5,000, plus interest at  20%, commencing October 15, 2003.   This note matures on December 15, 2005. |   | 200,000    |      |
|                                                                                                                                                                                   |   | 2,826,000  |      |
| Less  current portion ($172,000 in arrears)                                                                                                                                            |   | (1,427,000 | )         |
|                                                                                                                                                                                   |   | $          | 1,399,000 |   |
|                                                                                                                                                                                   |   |       |      |
| Interest expense on the  above notes was $528,000 for the year ended September 30, 2003.                                                                                               |   |       |      |
|                                                                                                                                                                                        |        |            |           |  |

 
| **NOTE 10 -** | **NOTES PAYABLE  RELATED PARTIES (LEE FAMILY MEMBERS)** |
|---------------|--------------------------------------------------------------|

 
| Notes payable to  relatives of the President/Stockholder, unsecured, bearing interest at bank’s  prime rate (4.00% at September 30, 2003), maturing January 2005.  Payable interest only.  At September 30, 2003, accrued interest  was $7,000.                                                                                                                     |   | $         | 40,000    |   |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------|-----------|--------|
|                                                                                                                                                                                                                                                                                                                                                                               |   |      |      |
| Note payable to  Director/Stockholder, unsecured, bearing interest at bank’s prime rate (4.00%  at September 30, 2003), principal and accrued interest is payable in January  2005. At September 30, 2003, accrued interest was $1,000.                                                                                                                                       |   | 372,000   |      |
|                                                                                                                                                                                                                                                                                                                                                                               |   |      |      |
| Notes payable to  related party (Lee Foundation), secured by product brand, bearing interest at  bank’s prime rate (4.00% at September 30, 2003), principal and accrued  interest is payable in January 2005. At September 30, 2003, accrued interest  was $6,700.                                                                                                            |   | 400,000   |      |
|                                                                                                                                                                                                                                                                                                                                                                               |   |      |      |
| Note payable to the  estate of a relative of a Director/Stockholder, unsecured, bearing interest  at bank’s prime rate (4.00% at September 30, 2003), and principal payable  based on a twelve (12) year fully amortized schedule commencing March 15,  1997.  No principal payments have been  made on this note. At September 30, 2003, accrued interest was $889,000. |   | 1,440,000 |      |
|                                                                                                                                                                                                                                                                                                                                                                               |   |      |      |
| Note payable to  Director/Stockholder, secured by product brand, bearing interest at bank’s  prime rate (4.00% at September 30, 2003), principal and accrued interest is  payable in January 2005.                                                                                                                                                                            |   | 21,000    |      |
|                                                                                                                                                                                                                                                                                                                                                                               |   |      |      |
| Note payable to  Director/Stockholder, unsecured, bearing interest at bank’s prime rate (4.00%  at September 30, 2003), principal and accrued interest is payable in January  2005. At September 30, 2003, accrued interest was $1,000.                                                                                                                                       |   | 250,000   |      |
|                                                                                                                                                                                                                                                                                                                                                                               |   | 2,523,000 |      |
| Less  current portion ($855,000 in arrears)                                                                                                                                                                                                                                                                                                                                        |   | (910,000  | )         |
|                                                                                                                                                                                                                                                                                                                                                                               |   | $         | 1,613,000 |   |
|                                                                                                                                                                                                                                                                                                                                                                               |   |      |      |
| Interest expense on the  above notes was $109,000 for the year ended September 30, 2003.                                                                                                                                                                                                                                                                                           |   |      |      |

 
| **NOTE 11 -** | **DEBT MATURITIES SCHEDULE** |
|---------------|------------------------------|

 

AtSeptember 30, 2003, the Company was committed to the following minimumprincipal payments.

 
| **Year  ending  September 30,** |   | **Notes  payable  finance company** |    | **Related  parties** |   | **Other** |   | **Total** |      |
|---------------------------------|--------|-------------------------------------|---------|----------------------|--------|-----------|--------|-----------|-----------|
|                            |   |                                |    |                 |   |      |   |      |      |
| 2004                            |   | $                                   | 976,000 |                 | $      | 910,000   |   | $         | 1,427,000 |   | $ | 3,313,000 |   |
| 2005                            |   | —                              |    | 1,203,000            |   | 635,000   |   | 1,838,000 |      |
| 2006                            |   | —                              |    | 120,000              |   | 703,000   |   | 823,000   |      |
| 2007                            |   | —                              |    | 120,000              |   | 61,000    |   | 181,000   |      |
| 2008                            |   | —                              |    | 120,000              |   | —    |   | 120,000   |      |
| Thereafter                      |   | —                              |    | 50,000               |   | —    |   | 50,000    |      |
|                            |   |                                |    |                 |   |      |   |      |      |
| Total                           |   | $                                   | 976,000 |                 | $      | 2,523,000 |   | $         | 2,826,000 |   | $ | 6,325,000 |   |

 

25

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**NOTE 12 -****              DEFERREDINCOME**

 

The deferred incomeconsists of nine assistance agreements paid for in advance by the purchaser ofthe product lines Klutch®, Astring-o-Sol®, and iodex®(see Note 19). The original agreements vary in length from thirty-six toforty-eight months.  At September 30,2003, the income earned per the agreements is as follows:

 
| **Year ending  September 30,** |   | **Amount** |    |
|--------------------------------|--------|------------|---------|
|                           |   |       |    |
| 2004                           |   | $          | 243,000 |   |
| 2005                           |   | $          | 185,000 |   |
| 2006                           |   | $          | 111,000 |   |
| 2007                           |   | $          | 14,000  |   |
|                           |   |       |    |
| Total                          |   | $          | 553,000 |   |

 

**NOTE 13 -****              COMMITMENTSAND CONTINGENCIES**

 

**Lease commitments**

 

At September 30, 2003,the Company is committed to its Chairman and to others under noncancelableoperating leases for land and buildings requiring minimum annual rentals asfollows:

 
| **Year ending  September 30,** |   | **Others** |      | **Chairman** |   | **Total** |   |
|--------------------------------|--------|------------|-----------|--------------|--------|-----------|--------|
|                           |   |       |      |         |   |      |   |
| 2004                           |   | $          | 474,000   |         | $      | 152,000   |   | $ | 626,000 |   |
| 2005                           |   | 474,000    |      | 152,000      |   | 626,000   |   |
| 2006                           |   | 79,000     |      | 25,000       |   | 104,000   |   |
| 2007                           |   | —     |      | —       |   | —    |   |
| 2008                           |   | —     |      | —       |   | —    |   |
|                           |   |       |      |         |   |      |   |
| Total                          |   | $          | 1,027,000 |         | $      | 329,000   |   | $ | 1,356,000 |   |

 

The leases expireNovember 30, 2005.  The renewal callsfor Consumer Price Index (based on Los Angeles - Riverside - Orange County: Allitems - All Urban Consumers) adjustments on December 1, 2002 and December 1,2004 pertaining to the leases above (Others) and adjustments on April 1, 2003and April 1, 2005 for the Chairman’s leases. The lessee has an option to renew at the end of all lease terms.

 

Generally, the leasesprovide that maintenance, insurance and a portion of property taxes are to bepaid by the Company.  The Company alsohas a right of first refusal to acquire most of the buildings which itleases.  The Company’s rental expensefor the years ended September 30, 2003, and 2002, was $627,000 and $596,000,respectively.

 

During fiscal year 2003,there were two subleases.  The leasesare subleased to other companies. Sublease income was $104,000 and $178,000 for fiscal years endedSeptember 30, 2003 and 2002, respectively. One sublease was renewed December 1, 2000 for $7,280 per month fortwenty-four months.  This subleaseexpired December 1, 2002 and was not renewed. The Company now occupies the building. The other sublease for $4,116 per month was signed April 1, 2001.  The monthly rental increased to $4,200 May1, 2003.  It will expire November 30,2005.

 
| **Year ending  September 30,** |   | **Sublease  revenues** |    |
|--------------------------------|--------|------------------------|---------|
|                           |   |                   |    |
| 2004                           |   | $                      | 50,400  |   |
| 2005                           |   | $                      | 50,400  |   |
| 2006                           |   | $                      | 8,400   |   |
| 2007                           |   | $                      | —  |   |
| 2008                           |   | $                      | —  |   |
|                           |   |                   |    |
| Total                          |   | $                      | 109,200 |   |

 

**Assessment for environmental cleanup**

 

The Company owns amanufacturing facility located in South El Monte, California.  The California Regional Water QualityControl Board (The “RWQCB”) ordered the Company in 1988 and 1989 to investigatethe contamination on its property (relating to soil and groundwatercontamination).  The Company engaged aconsultant who performed tests and reported to the then Chairman of theCompany.  The Company resisted furtherwork on its property until the property upgradient was tested in greater detailsince two “apparent source” lots had not been tested.  On August 12, 1991, the RWQCB issued a “Cleanup and AbatementOrder” directing the Company to conduct further testing and cleanup the site.  In October 1991, the Company received froman environmental consulting firm an estimate of

 

26

----

 

$465,200 for investigation and cleanup costs.  The Company believed that this estimatewas  inconclusive and overstated thecontamination levels.  The Companybelieves that subsequent investigations will support the Company’sconclusions  about that estimate.  The Company did not complete the testing forthe reasons listed above as well as “financial constraints”.  In June 1992, the RWQCB requested that theEPA evaluate the contamination and take appropriate action.  At the EPA’s request, Ecology &Environment, Inc. conducted an investigation of soil and groundwater on theCompany’s property.  Ecology &Environment Inc.’s Final Site Assessment Report, which was submitted to the EPAin June 1994, did not rule out the possibility that some of the contaminationoriginated on-site, and resulted from either past or current operations on theproperty.

 

On April 24, 2002, theRWQCB notified the Company that the detection of emergent chemicals ingroundwater, above State and Federal maximum containment levels or actionlevels, has caused the RWQCB and the EPA to reassess the threat posed togroundwater resources used for domestic supply.  The RWQCB directed the Company to test for the presence ofemergent chemicals in its groundwater monitoring wells.  The groundwater monitoring analyticalresults were due by July 15, 2002.  OnMay 24, 2002, the Company informed RWQCB that it could not comply with therequirement to conduct groundwater sampling due to ongoing financialdifficulties.

 

On July 8, 2002, theRWQCB sent a “Second Notice of Violation” to the Company directing the Companyto comply with the requirement to prepare a groundwater remedial action plan(RAP).  The Company previously notifiedthe RWQCB that it could not comply with the requirement to submit a RAP becauseof ongoing financial difficulties.  TheRWQCB requested that the Company submit certain financial information by July29, 2002 to “substantiate any alleged financial losses and determine whetherany suspension of implementing the...(Cleanup and Abatement Order) iswarranted.”  The Company has received anextension to submit the required financial information to August 19, 2002.  The Company submitted the requested financialinformation on August 16, 2002.  TheCompany received a response whereby their request for financial hardship wasdenied.  The Company is in the processof appealing this decision based primarily upon the continued deterioration inthe Company finances since the original filing.  The Company may be liable for all or part of the costs ofremediating the contamination on its property and could be subject toenforcement action by the RWQCB, including injunctive and civil monetaryremedies.  As of the date of thefinancial statements, the Company’s share of the costs have not beendetermined.

 

The Company and nearbyproperty owners, in consort with their comprehensive general liability (CGL)carriers, engaged a consultant to perform a site investigation with respect tosoil and shallow groundwater contamination over the entire city block.  The CGL carriers provided $290,000 infunding which paid for the $220,000 study, $20,000 in legal fees for projectoversight, and a $50,000 balance in the operating fund.  Earlier the Company had accrued $87,500 asits proportionate share of the earlier quote of $175,000. Since that time, theoverall scope of the project was increased to $205,000 plus $15,000 for wastewater disposal, bringing the total to the above listed $220,000.  The $87,500 accrual was not spent on thisproject (as the entire cost was borne by the CGL carriers), but remains on thebooks as an accrual against the cost of remediation of the same site that was includedin the study.

 

The tenants of nearbyproperties upgradient have sued the Company alleging that hazardous materialsfrom the Company’s property caused contamination on the properties leased bythe tenants.  The case name is DelRay Industrial Enterprises, Inc. v. Robert Malone, et al., LosAngeles County Superior Court, Northwest District, commenced August 21,1991.  In this action, the plaintiffalleges environmental contamination by defendants of its property, and seeks acourt order preventing further contamination and monetary damages.  The Company does not believe there is anybasis for the allegations and is vigorously defending the lawsuit.

 

The Company’s South ElMonte manufacturing facility is also located over a large area of possiblycontaminated regional groundwater which is part of the San Gabriel ValleySuperfund Site.  The Company has beennotified that it is a potentially responsible party  (“PRP”)  for the contamination.   In 1995, the Company was informed that theEPA estimated the cleanup costs for the South El Monte’s portion of the SanGabriel Valley Superfund Site to be $30 million.  The Company’s potential share of such amount has not beendetermined.  Superfund PRPs are jointlyand severally liable for superfund site costs, and are responsible fornegotiating among themselves the allocation of the costs based on, among otherthings, the outcome of environmental investigation.

 

In August 1995, theCompany was informed that the EPA entered into an Administrative Order ofConsent with Cardinal Industrial Finishes (“Cardinal”) for a PRP lead remedialinvestigation and feasibility study (the “Study”) which, the EPA states, willboth characterize the extent of groundwater contamination in South El Monte andanalyze alternatives to control the spread of contamination.  The Company and others entered into theSouth El Monte Operable Unit Site Participation Agreement with Cardinalpursuant to which, among other things, Cardinal contracted with anenvironmental firm to conduct the Study. The Study has been completed. The Company’s share of the cost of the Study was $15,000 and was accruedfor in the financial statements as of September 30, 1995.  TheSouth  El  Monte Operable Unit (SEMOU) participants developed four remedialalternatives.  The capital cost of thefour alternatives range from $0 (no action) up to $3.49 million.  The estimated annual operating cost for thefour alternatives range from $0 (no action) to $770,300.  Over a 30-year period, the total cost of thefour alternatives range from $0 (no action) up to $13.05 million.  The EPA prefers an alternative whichestimates the capital cost up to $3.08 million, the annual operating cost at$.48 million, and the 30-year period total cost up to approximately $9.09million.  The selection of the actualalternative implemented is subject to public comment.  At the present time, the Company does not know what its share ofthe cost may be, if any.  Therefore, noadditional accrual has been recognized as a liability on the Company’sbooks.  The Company requested that theEPA conduct an “ability-to-pay evaluation” to determine whether the Company isentitled to an early settlement of this matter based upon a limited ability topay costs associated with site investigation and remediation.  In August 2000, the EPA informed the Companythat it does not qualify for an early settlement at this time.

 

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The EPA has informed theCompany that it has learned that the intermediate zone groundwatercontamination in the western portion of the SEMOU has migrated further west andhas now impacted the City of Monterey Park and Southern California WaterCompany production wells.  The EPAstated that the City of Monterey Park Water Department, San Gabriel ValleyWater Company and Southern California Water Company are planning to buildtreatment facilities for their wells. The EPA stated that these three water purveyors contacted some of theSEMOU PRPs, other than the Company, to seek funding to develop groundwatertreatment facilities for the contaminated wells.  A group of these PRPs calling themselves the “South El MonteCooperative Group” has been formed and purportedly has reached a generalagreement with the water purveyors to fund the development of treatmentfacilities and use the water purveyors’ wells in an attempt to contain thegroundwater contamination to meet EPA’s goals. At this time, the EPA has not reviewed or approved any specific plan toaddress contamination at the purveyor wells, nor has the EPA compromised itsright to recover response costs from any person who is legally responsible forcontamination within the SEMOU.  As ofthe date of this report, the Company has not been contacted by the South ElMonte Cooperative Group in respect to its participation in any proposed cleanupactivity.  As a result, the Company isnot able to determine what contribution, if any, it may be assessed inconnection with this cleanup activity.

 

By letter dated November13, 2000, the Company was notified that the City of Monterey Park, San GabrielValley Water Company and Southern California Water Company intend to bring suitunder the Safe Drinking Water and Toxic Enforcement Act of 1986 alleging thatthe Company has knowingly released volatile organic compounds in the soil andshallow groundwater beneath the Company’s property between at least on orbefore November 8, 1996 and the present and has failed to promptly clean up allof the contamination.  As of the date ofthis report, the Company has not been served with this lawsuit.

 

The City of South ElMonte, the city in which the Company has its manufacturing facility, is locatedin the San Gabriel Valley.  The SanGabriel Valley has been declared a Superfund site.  The 1995 Water Quality Control Plan issued by the CaliforniaRegional Water Quality Control Board states that the primary groundwater basinpollutants in the San Gabriel Valley are volatile organic compounds fromindustry, nitrates from subsurface sewage disposal and past agriculturalactivities.  In addition, the Plan notedthat hundreds of underground storage tanks leaking gasoline and other toxicchemicals have existed in the San Gabriel Valley.  The California Department of Toxic Substance Control has declaredlarge areas of the San Gabriel Valley to be environmentally hazardous and subjectto cleanup work.

 

The Company believes theCity of South El Monte does not appear to be located over any of the majorplumes.  However, the EPA has announcedit is studying the possibility that, although the vadose soil and groundwater,while presenting cleanup problems, there may be a contamination by DNAPs (densenon-aqueous phase liquids), i.e., “sinkers”, usually chlorinated organiccleaning solvents.  The EPA has proposedto drill six “deep wells” throughout the City of South El Monte at an estimatedcost of $1,400,000.  The EPA isconferring with SEMPOA (South El Monte Property Owners Association) as to costsharing on this project.  SEMPOA hasobtained much lower preliminary cost estimates.  The outcome cost and exact scope of this are unclear at thistime.

 

The Company and otherproperty owners engaged Geomatrix Consultants, Inc., to do a survey of vadosesoil and shallow groundwater in the “hot spots” detected in the previousstudies.  Geomatrix issued a reportdated December 1, 1997 (the “Report”), on the impact of volatile organiccompounds on the soil and groundwater at the Lidcombe and Santa Anita Avenuesite located in South El Monte, California (which includes the Company’sfacilities).  The Report indicatedgenerally low concentrations of tetrachloroethene, trichloaethene andtrichloroethane in the groundwater of the upgradient neighbor.  The Report was submitted to the RWQCB forits comments and response.  A meetingwith the parties and RWQCB was held on February 10, 1998.  The RWQCB had advised companies that vadosesoil contamination is minimal and requires no further action.  However, there is an area of shallowgroundwater which has a higher than desired level of chlorinated solvents, andthe RWQCB requested a proposed work plan be submitted by Geomatrix.  Geomatrix has submitted a “FocusedFeasibility Study” which concludes that there are five possible methods forcleanup.  The most expensive are for apump and sewer remediation which would cost between $1,406,000 and$1,687,000.  The Company is activelyexploring the less expensive alternative remediation methods, of which the twoproposed alternatives range in cost between $985,000 and $1,284,000.  Since there are four economic entitiesinvolved, the Company’s best estimate at this time, in their judgment, would bethat their forecasted share would be $287,000 less the liability alreadyrecognized on the books of $165,000 thereby requiring an additional $122,000liability.  Accordingly, the Companyrecorded an additional accrual of $122,000 in the third quarter of fiscal1998.  The $122,000 accrual is inaddition to the $79,000 accrual for the Monterey Site as will be explained inthe following paragraph.  The $79,000accrual, in the third quarter of fiscal 1998, related to the Monterey Site isnot included in the $287,000 figure above. In April 2000, the Company received a Notice of Violation from theRWQCB.  The Notice of Violation statesthat the Company and other property owners were required to submit agroundwater remedial action plan by November 1, 1999, and that the RWQCB hasbeen advised that the Company and the other property owners were unable tosubmit the required remedial action plan because the Company and the otherproperty owners could not agree on the allocation of financial responsibilityto prepare the action plan.  The RWQCBstated that it will no longer encourage the cooperative approach among theCompany and the other property owners in completing the cleanup requirementsand will pursue appropriate measures, including when necessary, enforcementactions.  The RWQCB states that it mayimpose civil liability penalties of up to $1,000 per day from November 1, 1999for failure to file the action plan.  Inlight of these events, no assurances can be given that the cleanup costs andpossible penalties will not exceed the amount of the Company’s current accrualsof $287,000 (which includes the $122,000 charge to income in the third quarterof fiscal 1998).

 

28

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In July 2000, theproperty owners formed the Lidcombe & Santa Anita Avenue Work Group (LSAAW)in response to the RWQCB request for the preparation of an action plan.  The LSAAW submitted a Focused FeasibilityStudy to the RWQCB for their review and approval of the selected remedialaction method for the site.  Afterreceiving RWQCB approval, LSAAW obtained three cost proposals to implement theRWQCB approved pump and treat remedial method. According to these cost proposals, the lowest estimated costs for anassumed five (5) years of pump and treat remediation is $600,000.  This cost is lower than the previous costproposed work plan, discussed above, from Geomatrix Consultants, Inc.  The capital costs including contingenciesare approximately $300,000.

 

The LSAAW is hopeful theWater Quality Authority (WQA) is willing and able to reauthorize its grant forone-half (1/2) of the capital costs of its remediation system construction notto exceed $150,000.  It is estimated atthis time that the reserves for the Company’s share of this cost proposal areadequate since its prior accrual was based on the higher cost estimate fromGeomatrix.

 

Without any priorcorrespondence or inkling of the Company’s potential liability, the EPAinformed the Company that the Company may have potential liability for theongoing remediation of Operating Industries, Inc. (as they have gone out ofbusiness) Landfill Superfund Site in Monterey Park, California (the “MontereySite”).  The Monterey Site is a 190 acrelandfill that operated from 1948 to 1984, in which the Company disposed of nontoxic pH balanced waste water on six occasions between 1974 and 1978.  Over 4,000 companies have been identified ashaving contributed waste to the Monterey Site. The EPA has offered to settle the Company’s potential liability withrespect to the Monterey Site for a cost to the Company of $79,233.  The Company accrued a $79,000 charge in thethird quarter of fiscal 1998 with respect to this possible liability.  The Company has elected to file for relieffrom these obligations under the financial hardship option in the EPA’sresponse form.  On June 30, 2000, theEPA informed the Company that the EPA believed the Company is able to pay thefull settlement cost, but offered to reduce the amount of the settlement to$75,271.

 

The Company was notifiedby the EPA that the Company may have potential liability for waste material itdisposed of at the Casmalia Disposal Site (“Site”) located on a 252 acre parcelin Santa Barbara County, California. The Site was operational from 1973 to 1989, and over 10,000 separateparties disposed of waste there.  TheEPA stated that federal, state and local governmental agencies along with thenumerous private entities that used the Site for waste disposal will beexpected to pay their share as part of this settlement.  The U.S. EPA is also pursuing theowner(s)/operator(s) of the Site to pay for Site remediation.  The EPA has a settlement offer to theCompany with respect to the Site for a cost of $373,950.  The Company accrued a $374,000 charge in thefirst quarter of fiscal 1999 with respect to this possible liability.  The Company has elected to file for relieffrom these obligations under the financial hardships option in the EPA’sresponse form.  The Company, the EPA andcertain PRPs have entered into an agreement tolling the applicable statutes oflimitation.  The Company has beennotified by the EPA that their request for a waiver, due to financial hardship,was “partially granted.”  Improvementsin the bidding process has lowered the Company’s estimated share down to$245,000 (from $374,000) and of that, the EPA was requesting that the Companypay $113,000, as a result of their findings on the application for waiver dueto financial hardship.  The Company isconsidering the EPA’s request.

 

The total amount ofenvironmental investigation and cleanup costs that the Company may incur withrespect to the foregoing is not known at this time.  However, based upon information available to the Company at thistime, the Company has expensed since 1988 a total of $860,000, of which $89,000were legal fees, exclusive of legal fees expended in connection with theSecurities and Exchange Commission environmental investigation.  The actual costs could differ materiallyfrom the amounts expensed for environmental investigation and cleanup costs todate.

 

As of September 30, 2003,no settlements have been reached.  Thetotal amount expensed in prior years relating to this environmental issue is$860,000.  For the year ended September30, 2003, no additional amounts have been expensed or accrued.  The Company has an accrued liability on thebooks at September 30, 2003 of $740,000 for the environmental cleanup.

 

**NOTE 14 -****              STOCKOPTIONS**

 

The 1997 EmployeeIncentive Stock Option Plan was adopted by the Board of Directors on January20, 1997, and was approved by the Company’s shareholders on March 11,1997.  The Employee Incentive StockOption Plan provides for the granting of options to selected officers and keyemployees of the Company for the purchase of a total of 980,000 shares ofCommon Stock of the Company at a price per share equal to the fair market valueon the date of the grant.  The optionsexpire five years from the date of the grant. For the years ended September 30, 2003 and 2002, options of 212,000 and768,000, respectively, expired.

 

An additional 1997 StockOption Plan was adopted by the Board of Directors on January 20, 1997, and wasapproved by the Company’s shareholders on March 11, 1997.  This Stock Option Plan provides for thegranting of options to the Company’s outside directors for the purchase of150,000 shares of Common Stock of the Company at a price per share equal to thefair market value on the date of the grant. For the years ended September 3, 2003 and 2002, 0 and 150,000, respectively,options expired.

 

Only incentive stockoptions may be granted under the Employee Incentive Stock Option Plan and onlynonqualified stock options may be granted under the 1997 Stock Option Plan.

 

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Under both plans, theprice per share of the shares subject to each option shall not be less than100% of the fair market value of such stock on the date the stock option isgranted.  Stock options shall not beexercisable until one and one-half years from the date of the grant.  Commencing eighteen (18), thirty (30), andforty-two (42) months, respectively, after the date of the grant, an option maybe exercised to the extent of one third of the total number of shares to whichit relates.  Upon a change in control ofthe Company (as defined), all stock options granted to any optionee will becomefully exercisable.  Any stock optiongranted to an employee who at the time the option is granted, owns stockrepresenting more than ten percent (10%) of the total combined voting power ofall classes of stock of the Company, will be granted at a price equal to onehundred and ten percent (110%) of the fair market value determined as of thedate the stock option is granted.  Bothplans will expire on December 31, 2006.

 

The following is a statusof the stock options outstanding at September 30, 2003 and 2002 and the changesduring the years then ended:

 
|                                            |   | **2003**    |   | **2002**                              |   |
|-------------------------------------------------|--------|-------------|--------|---------------------------------------|--------|
|                                            |   | **Options** |   | **Weighted  average  exercise price** |   | **Options** |   | **Weighted  average  exercise price** |   |
|                                            |   |        |   |                                  |   |   |   |   |   |
| Outstanding,  beginning of year                 |   | 212,000     |   | $                                     | 0.22   |   | 1,130,000 |   | $ | 0.18 |   |
|                                            |   |        |   |                                  |   |   |   |   |   |
| Granted                                         |   | —      |   | —                                |   | — |   | — |   |
| Exercised                                       |   | —      |   | —                                |   | — |   | — |   |
| Expired/Forfeited                               |   | (212,000    | )      | $                                     | 0.22   |   | (918,000 | ) | $ | 0.18 |   |
|                                            |   |        |   |                                  |   |   |   |   |   |
| Outstanding,  end of year                       |   | —      |   | $                                     | — |   | 212,000 |   | $ | 0.22 |   |
|                                            |   |        |   |                                  |   |   |   |   |   |
| Exercisable  at end of year                     |   | —      |   | $                                     | — |   | 212,000 |   | $ | 0.22 |   |
|                                            |   |        |   |                                  |   |   |   |   |   |
| Weighted  average fair value of options granted |   |        |   | $                                     | — |   |   |   | $ | 0.22 |   |

 

There were no stockoptions outstanding at September 30, 2003.

 

**NOTE 15 -****              DEFERREDINCOME TAXES**

 

The net deferred taxamounts included in the accompanying balance sheet contain the followingamounts of deferred tax assets and liabilities:

 
| Deferred  tax asset - current         |   | $          | 150,000   |   |
|---------------------------------------|--------|------------|-----------|--------|
| Deferred  tax liability - current     |   | —     |      |
|                                  |   | 150,000    |      |
| Less  valuation allowance             |   | (150,000   | )         |
| Net  deferred tax asset - current     |   | $          | —    |   |
|                                  |   |       |      |
| Deferred  tax asset - non-current     |   | $          | 2,189,000 |   |
| Deferred  tax liability - non-current |   | —     |      |
|                                  |   | 2,189,000  |      |
| Less  valuation allowance             |   | (2,189,000 | )         |
| Net  deferred tax asset - non-current |   | $          | —    |   |

 

The deferred tax asset -current, results from an allowance for bad debts and inventory reserves, forfinancial statement purposes not allowed for income tax purposes.

 

The deferred tax asset -non-current, results from an estimated net operating loss carryforward forfederal and state income tax purposes, and from book depreciation andamortization in excess of tax amounts.

 

The Company has recordeda valuation allowance to reflect the estimated amount of deferred asset, whichmay not be realized.  Since the Companyhad net operating loss (NOL) carryforwards of approximately $12,066,000 forFederal, the tax rate used to calculate the deferred tax asset for Federal is15%.

 

Significant components ofthe Company’s deferred tax assets and liabilities are as follows:

 
| Deferred  tax assets - current:                           |   |       |   |
|-----------------------------------------------------------|--------|------------|--------|
| Allowance  for bad debts and returned merchandise         |   | $          | 45,000 |   |
| Inventory  reserve                                        |   | 105,000    |   |
| Total  deferred tax assets - current                      |   | 150,000    |   |
|                                                      |   |       |   |
| Deferred  tax assets - non-current:                       |   |       |   |
| Depreciation,  amortization and impairment                |   | 187,000    |   |
| Net  operating loss carryforward                          |   | 2,002,000  |   |
| Total  deferred tax assets - non-current                  |   | 2,189,000  |   |
|                                                      |   |       |   |
| Total  net deferred tax assets before valuation allowance |   | 2,339,000  |   |
| Valuation  allowance                                      |   | (2,339,000 | )      |
| Net  deferred tax assets                                  |   | $          | — |   |

 

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**NOTE16 -****              INCOMETAXES**

 

As of September 30, 2003,the Company had net operating loss (NOL) carryforwards of approximately$12,066,000 for Federal and $2,174,000 for California which for tax purposescan be used to offset future Federal and California income taxes.  The differences in the state carryforwardsrelate primarily to the treatment of loss carryforwards and depreciation ofproperty, plant and equipment.  The Federalcarryforwards expire from 2005 through 2023; California carryforwards expirefrom 2003 through 2007.   California hastemporarily suspended net operating losses. The Company has provided anallowance for the entire amount of the deferred asset applicable to the NOL.

 

**NOTE 17 -****              EMPLOYEEBENEFIT PLANS**

 

The Company has a 401(k)Profit Sharing Plan (the “Plan”) available to all employees who meet the Plan’seligibility requirements.  Under thePlan, participating employees may defer a percentage (not to exceed 50%) oftheir eligible pretax earnings up to the Internal Revenue Service’s annualcontribution limit (up to $12,000).  However, employees deemed to be highly compensated employees (HCE) forthe Plan year may defer a percentage (not to exceed 20%) of their eligiblepretax earnings up to the Internal Revenue Service’s annual contribution limit(up to $12,000).  Participants who haveattained the age of fifty by the end of the calendar year, and have contributedthe maximum amount permitted, are also eligible to make an additionalcontribution (catch-up contribution) up to $2,000 for calendar year 2003.   Company contributions are not required. Todate, the Company has not made any contributions to the Plan.

 

**NOTE 18 -****              ACQUISITIONS**

 

On March 9, 2002, theCompany purchased certain assets of product lines from Merz Pharmaceuticals LLCfor $225,000 plus approximately $63,000 for inventory.  The purchase price of $225,000 includes$200,000 for product line and $25,000 for a covenant not to compete.  The full $225,000 was remitted atclosing.  In addition, the Company isobligated to pay a royalty as follows: for the first twelve-month period following closing (i) twenty-five percent(25%) of the net sales of Medicone® and Sayman®; (ii)twenty-five percent (25%) of the net sales of the first 4,800 dozen sold ofCankaid®, and (iii) forty percent (40%) of the Cankaid®sold in excess of the first 4,800 dozen. For the next two 12-month periods after closing (8 consecutivequarters), the royalty payments will be (i) twenty percent (20%) of the netsales of Medicone® and Sayman®; (ii) twenty percent (20%)of the net sales of the first 4,800 dozen sold per 12-month period of Cankaid®,and (iii) forty percent (40%) of the Cankaid® units sold in excessof the first 4,800 dozen per 12-month period. Notwithstanding the above, no royalty shall be due on Lee’s sales ofCankaid® inventory with 10/02 or 11/02 expirations tocloseout/dollar store/off-price retailers at wholesale prices of less thanseventy cents ($.70).  The minimumroyalty due is $75,000 per year for the next three years.

 

On April 5, 2002, theCompany purchased certain assets of the One Step at a Time® andlite’n® Up product lines from Category One Products, L.L.C., for$350,000 plus inventory.  The full $350,000was remitted at the closing.  The$350,000 has been recorded as product line and is included in intangibleassets.  A clause in the agreementstipulates that if certain customers delete one of the product lines, thepurchase price will be adjusted downward. Subsequent to the payment of the $350,000, a customer did delete aproduct line and the purchase price was reduced by $14,000.  This amount was refunded to the Company byCategory One Products, L.L.C.  TheCompany also acquired the rights to a royalty agreement for $100,000.  The Company is paying $4,000 per week forthis royalty obligation.

 

On April 23, 2002, theCompany purchased certain assets of product lines Unguentine® andUnguentine® Plus from U.S. Dermatologics, Inc.  The purchase price is $85,000 for a covenantnot to compete and $12,000 for inventory. A cash payment of $25,000 was paid at closing and a Promissory note wassigned for the remaining $60,000.  Thenote is payable in monthly installments of $3,000 plus interest at the highestprime rate published in the Wall Street Journal the prior month beginning June15, 2002.  The inventory was paid for incash at the time of receipt.  Thisagreement also calls for the Company to pay a 20% royalty annually, for aperiod of three years, on net sales of one of the products, with a minimumpayment of $6,000.

 

In December 2002, theCompany signed an agreement with Monticello Drug Company relating to theacquisition of a product line in conjunction with a large pharmaceuticalcompany.  The original agreement calledfor Lee Pharmaceuticals to have a 40% ownership interest in the product lineand to receive 40% of the net product profits as a monthly royalty.  This investment was recorded on the booksfor $800,800.  The Company paid $430,000and recorded a current liability of $370,800. This agreement was revised in April 2003, so that Lee Pharmaceuticals’ownership interest and monthly royalty were reduced to 20%.  Monticello Drug Company repaid $215,000 ofthe original amount paid by the Company, and the Company reduced the currentliability ‘Due on Investment Acquisition’ to $185,400.  In June 2003, the agreement was furtherrevised so that Monticello Drug Company repurchased the remaining 20% of theCompany’s ownership interest.

 

On September 10, 2003,the Company purchased certain assets of the product line OraStat®Oral Anesthetic Gel from Stiefel® Laboratories, Inc.    The purchase price was $90,000 for acovenant not to compete and an undetermined amount for inventory.  The purchase price of  $90,000 was paid in cash at closing.

 

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| **NOTE  19 -** | **OTHER  INCOME** |
|----------------|-------------------|

 

For the year endedSeptember 30, 2003, the Company realized gains of approximately $43,000 relatedto the sale of the Astring-o-Sol® product line, approximately$108,000 related to the sale of the Klutch® product line, andapproximately $287,000 related to the sale of the iodex® productline.  The realized gains pertain to therecognition of the earned portion of the deferred income of the consultingagreements arising from the sale of the Astring-o-Sol® , Klutch®,and iodex® brands.  Theseamounts are included in other income on the statement of operations.  Also included in other income is $15,000 inproperty tax refunds paid in prior years, approximately $153,000 which is theCompany’s portion of the net profits for their prior investment with MonticelloDrug Company, and approximately $60,000 from the new marketing and distributionagreement with Monticello Drug Company.

 
| **NOTE 20 -** | **DISTRIBUTION AGREEMENT** |
|---------------|----------------------------|

 

In July 2003, the Companyentered into a distribution agreement with Monticello Drug Company whereby theCompany will warehouse, ship, bill and collect for certain Monticello DrugCompany owned products.  The Companywill receive a fee based on Monticello Drug Company’s gross sales for thisservice.  The distribution agreement isscheduled for a five year period commencing August 1, 2003.  The distribution agreement can be cancelledby Monticello Drug Company with a thirty day notice or by the Company with aone year notice.  The accountsreceivables and the related accounts payables are offset, and the resultingamount (approximately 15% of the accounts receivables) is included as othercurrent assets on the balance sheet and included as other income in thestatement of operations.

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

 

As previously reported ina Current Report on Form 8-K, on September 18, 2003, the Board of Directors ofthe Company authorized, effective September 18, 2003, (1) the resignation ofengagement of Caldwell, Becker, Dervin, Petrick & Co., L.L.P., asindependent auditors for the Company for the fiscal year ended September 30,2003 and (2) the engagement of George Brenner, CPA, as independent auditor forthe Company for fiscal 2003.  GeorgeBrenner, CPA, was engaged as the Company’s principal independent auditor onSeptember 18, 2003.

 

In connection with itsactivities for the period June 16, 2000, (the date Caldwell, Becker, Dervin,Petrick & Co., L.L.P., was engaged), through September 18, 2003, there wereno disagreements on any matter of accounting principles or practices, financialstatement disclosure, or auditing scope or procedure, which disagreements ifnot resolved to the satisfaction of Caldwell, Becker, Dervin, Petrick &Co., L.L.P., would have caused them to make reference in connection with theirreport to the subject matter.  Theopinions of Caldwell, Becker, Dervin, Petrick & Co., L.L.P., with respectto the Company’s financial statements did state that the financial statementswere prepared assuming the Company would continue as a going concern. Caldwell,Becker, Dervin, Petrick & Co., L.L.P., resigned from the engagement.

 

Prior to such firm’sengagement, George Brenner, CPA, was not consulted by the Company (or anyoneacting on its behalf) regarding (1) either the application of accountingprinciples to a specified transaction, either completed or proposed, or thetype of audit opinion that might be rendered on the Company’s financialstatements or (2) any matter that was either the subject of a “disagreement” ofa “reportable event” as such terms are defined in Regulation S-K promulgated bythe Securities and Exchange Commission.

 

**ITEM 8A.****                    CONTROLSAND PROCEDURES.**

 

As of September 30, 2003,the chief executive officer and chief financial officer of the Company (the“certifying officer”) evaluated the effectiveness of the Company’s disclosurecontrols and procedures.  These disclosurecontrols and procedures are designed to ensure that the information required tobe disclosed by the Company in its periodic reports filed with the Securitiesand Exchange Commission (the “Commission”) is recorded, processed, summarizedand reported, within the time periods specified by the Commission’s rules andforms, and that the information is communicated to the certifying officer on atimely basis.

 

The certifying officerconcluded, based on his evaluation, that the Company’s disclosure controls andprocedures are effective for the Company.

 

No change in theCompany’s internal controls over financial reporting identified in connectionwith the evaluation described above occurred that has materially affected, oris reasonably likely to materially affect, the Company’s internal controls overfinancial reporting.

 

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**PART III**

 
| **ITEM 9.** | **DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL  PERSONS; COMPLIANCE WITH  SECTION 16  (a) OF THE EXCHANGE ACT.** |
|-------------|-------------------------------------------------------------------------------------------------------------------------------|

 
| **ITEM 10.** | **EXECUTIVE COMPENSATION.** |
|--------------|-----------------------------|

 

Directors are elected toserve until the next annual stockholders’ meeting or until their respectivesuccessors have been elected and qualified or as otherwise provided in thebylaws.  Set forth below for the currentdirectors and executive officers are their ages, principal occupations duringthe past five years, and the period during which they have served as a directoror officer of the Company.

 
| **Name**               |   | **Age** |   | **Positions  held  with Company**                       |   | **A director  or officer  since** |   | **Principal  occupation  during the past five years (1)**                                                                                                                                                                                                        |
|------------------------|--------|---------|--------|---------------------------------------------------------|--------|-----------------------------------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| Dr. Henry L. Lee       |   | 77      |   | Director                                                |   | 1971                              |   | Chairman of the Board  of Lee Pharmaceuticals through April 1995 when he retired, available as a  consultant, currently a Director of the Company                                                                                                                |
|                   |   |    |   |                                                    |   |                              |   |                                                                                                                                                                                                                                                             |
| Ronald G. Lee          |   | 51      |   | President, Chairman and  Director                       |   | 1977                              |   | President and since  April 1995, Chairman of the Board of the Company                                                                                                                                                                                            |
|                   |   |    |   |                                                    |   |                              |   |                                                                                                                                                                                                                                                             |
| Michael L. Agresti     |   | 61      |   | Vice President –  Finance, Treasurer and Secretary |   | 1977                              |   | Vice President -  Finance, Treasurer and Secretary of the Company                                                                                                                                                                                                |
|                   |   |    |   |                                                    |   |                              |   |                                                                                                                                                                                                                                                             |   |   |   |   |
| William M. Caldwell IV |   | 56      |   | Director                                                |   | 1987                              |   | Chairman and President  of ITX, Inc., a company that offers telecommunications, data and network  security equipment and services to a variety of intermediaries and end users,  and President of CAIS Internet, an internet infra-structure solutions  company. |

 

----

**(1)** None of thecompanies named, other than the Company, is a parent, subsidiary or otheraffiliate of the Company.

 

**Family Relationships**

 

Ronald G. Lee is the sonof Dr. Henry L. Lee.

 

The Company has notadopted a Code of Ethics for its principal executive officer, principalfinancial officer, principal accounting officer, controller or personsperforming similar functions.  However,the Company anticipates formulating a Code of Ethics which will be adoptedwithin the next twelve months.

 

**ITEM 10.****                      EXECUTIVECOMPENSATION.**

 

The following table setsforth information with respect to remuneration paid by the Company to theexecutive officers of the Company with total annual salary and bonus of atleast $100,000 for services in all capacities while acting as officers anddirectors of the Company during the fiscal years ended September 30, 2003,2002, and 2001.

 

**SUMMARY COMPENSATION TABLE**

 
|                                    |   |     |   | **Annual  Compensation** |   | **Long Term  Compensation  Awards** |   |
|-----------------------------------------|--------|----------|--------|--------------------------|--------|-------------------------------------|--------|
| **Name and  Principal Position**        |   | **Year** |   | **Salary ($)**           |   | **Other  Annual  Compensation ($)** |   | **Options  (#)** |   | **All Other  Compensation ($)** |   |
|                                    |   |     |   |                     |   |                                |   |   |   |   |   |
| Ronald  G. Lee                          |   | 2003     |   | 213,095                  |   | 2,739                               | (1)    | — | (2) | $ | 5,000 | (3) |
| President,  Chairman                    |   | 2002     |   | 217,907                  |   | 3,732                               | (1)    | — | (2) | — |   |
| (since  April 26, 1995)  & Director |   | 2001     |   | 221,777                  |   | 4,634                               | (1)    | — | (2) | — |   |
|                                         |        |          |        |                          |        |                                     |        |  |  |  |  |  |

 

----

(1)         Includes reimbursement ofmedical and dental expenses not covered by the Company’s insurance plan.

 

(2)         No stock options weregranted during fiscal years 2003, 2002 and 2001.

 

(3)         Additional compensationfor non-business expenses.

 

Each of the directors ofthe Company who is not employed by the Company receives a director’s fee of$750 for each quarter and $500 for each meeting of the Board of Directorsattended, except Dr. Henry L. Lee.  As holderof the honorary title of Founder Chairman, Dr. Lee waived his fees.

 

33

----

 

**AGGREGATEDOPTION EXERCISES IN LAST FISCAL YEARAND FISCAL YEAR END OPTION VALUES**

 
| **Name**      |   | **Number of  Unexercised Options  at Fiscal Year End (#)  Exercisable/Unexercisable** |   |
|---------------|--------|---------------------------------------------------------------------------------------|--------|
|          |   |                                                                                  |   |
| Ronald G. Lee |   | 0/0                                                                                   |   |

 

No stock options wereoutstanding at September 30, 2003.

 

**ITEM 11.****                                              SECURITYOWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.**

 

The following table setsforth the persons who, as of November 30, 2003, were known to the Company to bebeneficial owner of more than five percent of the Company’s Common Stock:

 
| **Title of class** |   | **Name and  address  of beneficial owner**                          |   | **Amount and  nature  of beneficial ownership** |   | **Percentage  of class** |   |
|--------------------|--------|---------------------------------------------------------------------|--------|-------------------------------------------------|--------|--------------------------|--------|
|               |   |                                                                |   |                                            |   |                     |   |
| Common  Stock      |   | Ronald G. Lee  1444 Santa Anita Avenue  South El Monte, CA 91733    |   | 1,740,726 shares                                |   | 42                       | %      |
|               |   |                                                                |   |                                            |   |                     |   |
| Common  Stock      |   | Dr. Henry L. Lee  1444 Santa Anita Avenue  South El Monte, CA 91733 |   | 172,334 shares                                  | (1)    | 4                        | %      |

 

----

(1)          Includes 28,000 sharesof the Company’s Common Stock which Dr. Lee holds as trustee for the benefit ofcertain family members.  He has theright to vote such shares but otherwise disclaims beneficial ownership.

 

The following table setsforth the ownership of the Company’s Common Stock by its directors and itsnamed executive officers and all executive officers and directors as a group.

 
| **Title of class** |   | **Name of  beneficial owner**                       |   | **Amount and  nature  of beneficial ownership** |   | **Percentage  of class** |   |
|--------------------|--------|-----------------------------------------------------|--------|-------------------------------------------------|--------|--------------------------|--------|
|               |   |                                                |   |                                            |   |                     |   |
| Common  Stock      |   | Ronald G. Lee                                       |   | 1,740,726 shares                                |   | 42                       | %      |
|               |   |                                                |   |                                            |   |                     |   |
| Common  Stock      |   | Dr. Henry L. Lee                                    |   | 172,334  shares                            | (1)    | 4                        | %      |
|               |   |                                                |   |                                            |   |                     |   |
| Common  Stock      |   | William M. Caldwell IV                              |   | —                                          |   | —                   |   |
|               |   |                                                |   |                                            |   |                     |   |
| Common  Stock      |   | All officers and  directors  as a group (4 persons) |   | 1,927,596 shares                                | (1)    | 47                       | %      |

 

----

(1)          Includes 28,000 sharesof the Company’s Common Stock which Dr. Lee holds as trustee for the benefit ofcertain family  members.  He has the right to vote such shares butotherwise disclaims beneficial ownership.

 

The following table setsforth the Company’s Equity Compensation Plan information with respect to thefiscal year ended September 30, 2003.

 
| **Plan category**                                                |   | **Number of  securities  to be issued upon  exercise of  outstanding options,  warrants and rights  (a)** |   | **Weighted-average  exercise price of  outstanding options,  warrants and rights  (b)** |   | **Number of  securities  remaining available  for future issuance  under equity compensation  plans (excluding securities  reflected in column (a))  (c)** |   |
|------------------------------------------------------------------|--------|-----------------------------------------------------------------------------------------------------------|--------|-----------------------------------------------------------------------------------------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|
|                                                             |   |                                                                                                      |   |                                                                                    |   |                                                                                                                                                       |   |
| **Equity compensation  plans approved by  security holders**     |   |                                                                                                      |   |                                                                                    |   |                                                                                                                                                       |   |
|                                                             |   |                                                                                                      |   |                                                                                    |   |                                                                                                                                                       |   |
| The  1997 Employee  Incentive Stock Option Plan                  |   | 0                                                                                                         |   | 0                                                                                       |   | 980,000                                                                                                                                                    |   |
|                                                             |   |                                                                                                      |   |                                                                                    |   |                                                                                                                                                       |   |
| The  1997 Stock Option Plan                                      |   | 0                                                                                                         |   | 0                                                                                       |   | 150,000                                                                                                                                                    |   |
|                                                             |   |                                                                                                      |   |                                                                                    |   |                                                                                                                                                       |   |
| **Equity compensation  plans not approved  by security holders** |   |                                                                                                      |   |                                                                                    |   |                                                                                                                                                       |   |
|                                                             |   |                                                                                                      |   |                                                                                    |   |                                                                                                                                                       |   |
| None                                                             |   | 0                                                                                                         |   | 0                                                                                       |   | 0                                                                                                                                                          |   |
|                                                             |   |                                                                                                      |   |                                                                                    |   |                                                                                                                                                       |   |
| Total                                                            |   | 0                                                                                                         |   | 0                                                                                       |   | 1,130,000                                                                                                                                                  |   |

 

34

----

 

**ITEM 12.****                      CERTAINRELATIONSHIPS AND RELATED TRANSACTIONS.**

 

The information regardingborrowings from and sale and leaseback transactions between the Company andit’s Chairman of the Board which is contained in Notes 8 and 10 of Notes toFinancial Statements is incorporated herein by this reference.

 

**ITEM 13.****                      EXHIBITSAND REPORTS ON FORM 8-K.**

 
| (a) |   | Exhibits.  The following exhibits have been or are  being filed herewith, and are numbered in accordance with Item 601 of  Regulation S-B: |
|-----|--------|-------------------------------------------------------------------------------------------------------------------------------------------------|

 
|   |                                                               |   |
|--------|--------------------------------------------------------------------|--------|
|   | The following  exhibits  are filed herewith:                  |
|   |                                                               |   |
|   | 10.103                                                             | -      |   | Promissory note  evidencing advance made to the Registrant |
|   |                                                               |   |   |   |
|   | 10.104                                                             | -      |   | Promissory note  evidencing advance made to the Registrant |
|   |                                                               |   |
|   | 31.1                                                               | -      |   | Certification by Chief  Executive Officer and Chief Financial Officer |
|   |                                                               |   |   |
|   | 32.1                                                               | -      |   | Section 1350  Certification |
|   |                                                               |   |
|   | The following exhibits  have previously been filed by the Company: |
|   |                                                               |   |
|   | 3.1                                                                | -      |   | Articles of  Incorporation, as amended (1) |
|   |                                                               |   |   |   |
|   | 3.4                                                                | -      |   | By-laws, as amended  December 20, 1977 (2) |
|   |                                                               |   |   |   |
|   | 3.5                                                                | -      |   | Amendment of By-laws  effective March 14, 1978 (2) |
|   |                                                               |   |   |   |
|   | 3.6                                                                | -      |   | Amendment to By-laws  effective November 1, 1980 (3) |
|   |                                                               |   |   |   |
|   | 10.1                                                               | -      |   | Qualified Stock Option  Plan  including forms of grant (4) |
|   |                                                               |   |   |   |
|   | 10.2                                                               | -      |   | 1985 Employee Incentive  Stock Option Plan (5) |
|   |                                                               |   |   |
|   | 10.3                                                               | -      |   | Description of bonus  agreements between the Registrant and its officers (2) |
|   |                                                               |   |   |   |
|   | 10.4                                                               | -      |   | Lease dated December 1,  1990, for the premises located at 1470 Santa Anita Avenue, South El Monte,  California (6) |
|   |                                                               |   |
|   | 10.5                                                               | -      |   | Lease dated April 16,  1990, for the premises located at 1425 and 1427 Lidcombe Avenue, South El  Monte, California (6) |
|   |                                                               |   |
|   | 10.6                                                               | -      |   | Lease dated April 16,  1990, for the premises located at 1434 Santa Anita Avenue, South El Monte,  California (6) |
|   |                                                               |   |
|   | 10.7                                                               | -      |   | Lease dated April 16,  1990, for the premises located at 1460 Santa Anita Avenue, South El Monte,  California (6) |
|   |                                                               |   |
|   | 10.8                                                               | -      |   | Lease dated April 16,  1990, for the premises located at 1457 Lidcombe, South El Monte, California  (6) |
|   |                                                               |   |
|   | 10.9                                                               | -      |   | Lease dated April 16,  1990, for the premises located at 1500 Santa Anita Avenue, South El Monte,  California (6) |
|   |                                                               |   |
|   | 10.10                                                              | -      |   | Lease dated April 16,  1990, for the premises located at 1516 Santa Anita Avenue, South El Monte, California  (6) |
|   |                                                               |   |
|   | 10.11                                                              | -      |   | Lease dated March 1,  1991, for the premises located at 1444 Santa Anita Avenue, South El Monte,  California (6) |
|   |                                                               |   |
|   | 10.12                                                              | -      |   | Lease dated March 1,  1991, for the premises located at 1445 Lidcombe Avenue, South El Monte,  California (7) |
|   |                                                               |   |
|   | 10.13                                                              | -      |   | Promissory notes which  were amended in September 1992 evidencing advances by the Registrant’s  officers and directors (8) |
|   |                                                               |   |
|   | 10.14                                                              | -      |   | Promissory notes which  were amended in September 1994 evidencing advances by the Registrant’s officers  and directors (9) |
|   |                                                               |   |
|   | 10.15                                                              | -      |   | Promissory notes  evidencing advances made to the Registrant’s officers and directors (9) |
|   |                                                               |   |   |
|   | 10.16                                                              | -      |   | Promissory notes  evidencing advances made to the Registrant (9) |
|   |                                                               |   |   |
|   | 10.17                                                              | -      |   | Promissory notes which  were amended in January 1995 evidencing advances by the Registrant’s officers  and directors (10) |
|        |                                                                    |        |  |  |  |  |  |  |

 

35

----

 
|   | 10.18  | -      |   | Promissory notes  evidencing advances made by the Registrant’s officers and directors (10)                                                                                                                   |
|--------|--------|--------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.19  | -      |   | Promissory notes which  were amended in July 1995 evidencing advances made to the Registrant (10)                                                                                                                 |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.20  | -      |   | Royalty agreement dated  August 31, 1994, between Lee Pharmaceuticals and The Fleetwood Company,  regarding a brand acquisition (10)                                                                              |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.21  | -      |   | Royalty agreement dated  October 4, 1988, between Lee Pharmaceuticals and Roberts Proprietaries, Inc.  regarding a brand acquisition (10)                                                                         |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.22  | -      |   | Note payable to bank  dated April 26, 1996, between Lee Pharmaceuticals and San Gabriel Valley  Bank, secured by the deed on land and building (11)                                                               |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.23  | -      |   | Loan and security  agreement dated May 21, 1996, between Lee Pharmaceuticals and Preferred  Business Credit, Inc. regarding a revolving credit facility financing (11)                                            |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.24  | -      |   | Secured promissory note  dated September 17, 1996, between Lee Pharmaceuticals and Preferred Business  Credit, Inc. (12)                                                                                          |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.25  | -      |   | Promissory notes  evidencing advances made by the Registrant (12)                                                                                                                                                 |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.26  | -      |   | Promissory notes which  were amended in July 1996 evidencing advances made to the Registrant (12)                                                                                                                 |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.27  | -      |   | Sublease dated November  22, 1995, for the premises located at 1460 Santa Anita Avenue, South El  Monte, California (12)                                                                                          |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.28  | -      |   | Sublease dated June 11,  1996, for the premises located at 1470 Santa Anita Avenue, South El Monte,  California (12)                                                                                              |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.29  | -      |   | Lease dated December 1,  1995, for the premises located at 1444 Santa Anita Avenue, South El Monte,  California (12)                                                                                              |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.30  | -      |   | Lease dated December 1,  1995, for the premises located at 1445 Lidcombe Avenue, South El Monte,  California (12)                                                                                                 |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.31  | -      |   | 1997 Employee Incentive  Stock Option Plan (13)                                                                                                                                                                   |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.32  | -      |   | 1997 Stock Option Plan  (13)                                                                                                                                                                                      |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.33  | -      |   | Promissory note which  was amended in October 1997 evidencing advances made to the Registrant (14)                                                                                                                |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.34  | -      |   | Promissory notes which  were amended (modified) in December 1997 evidencing advances made to the  Registrant (14)                                                                                                 |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.35  | -      |   | Modification of loan  and security agreement dated September 10, 1997, between Lee Pharmaceuticals  and Preferred Business Credit, Inc. (14)                                                                      |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.36  | -      |   | Promissory note which  was amended in February 1997 evidencing advances made to the Registrant (14)                                                                                                               |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.37  | -      |   | Secured promissory note  dated October 21, 1996, between Lee Pharmaceuticals and Roberts Laboratories,  Inc. (14)                                                                                                 |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.38  | -      |   | Promissory note  evidencing advance made to the Registrant (15)                                                                                                                                                   |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.39  | -      |   | Promissory note  evidencing advance made to the Registrant (15)                                                                                                                                                   |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.40  | -      |   | Modification of loan and  security agreement dated May 21, 1996, between Lee Pharmaceuticals and  Preferred Business Credit, Inc. regarding a revolving credit facility  financing (16)                           |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.41  | -      |   | Modification of secured  promissory note dated August 29, 1997, between Lee Pharmaceuticals and  Preferred Business Credit, Inc. (16)                                                                             |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.42  | -      |   | Secured promissory note  dated May 15, 1998, between Lee Pharmaceuticals and Preferred Business  Credit, Inc. (16)                                                                                                |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.43  | -      |   | Continuing guaranty  dated May 15, 1998, between Lee Pharmaceuticals and Preferred Business  Credit, Inc. (16)                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.44  | -      |   | Asset Purchase and Sale  Agreement dated June 29, 1999, between Lee Pharmaceuticals (buyer) and  Premier Consumer Products, Inc. (seller) and Advanced Polymer Systems, Inc.,  regarding a brand acquisition (17) |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.45  | -      |   | Promissory note  evidencing advance made to the Registrant (17)                                                                                                                                                   |
|   |   |   |   |                                                                                                                                                                                                              |
|   | 10.46  | -      |   | Promissory note  evidencing advance made to the Registrant (18)                                                                                                                                                   |

 

36

----

 
|   | 10.47  | -      |   | Promissory note  evidencing advance made to the Registrant (19)                                                                                                                                                                   |
|--------|--------|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.48  | -      |   | Modification of loan  and security agreement dated October 29, 1999, between Lee Pharmaceuticals  and Finova Capital Corporation (formerly Preferred Business Credit, Inc.)  regarding a revolving credit facility financing (19) |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.49  | -      |   | Modification of secured  (by inventory) promissory note dated October 29, 1999, between Lee  Pharmaceuticals and Finova Capital Corporation (formerly Preferred Business  Credit, Inc.) (19)                                      |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.50  | -      |   | Modification of secured  (by equipment) promissory note dated October 29, 1999 ,between Lee  Pharmaceuticals and Finova Capital Corporation (formerly Preferred Business  Credit, Inc.) (19)                                      |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.51  | -      |   | Promissory note  evidencing advance made to the Registrant (20)                                                                                                                                                                   |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.52  | -      |   | Modification of loan  and security agreement dated May 19, 2000, between Lee Pharmaceuticals and  Finova Capital Corporation (formerly Preferred Business Credit, Inc.)  regarding a revolving credit facility financing (21)     |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.53  | -      |   | Modification of secured  (by inventory) promissory note dated May 19, 2000, between Lee  Pharmaceuticals and Finova Capital Corporation (formerly Preferred Business  Credit, Inc.) (21)                                          |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.54  | -      |   | Modification of secured  (by equipment) promissory note dated May 19, 2000, between Lee  Pharmaceuticals and Finova Capital Corporation (formerly Preferred Business  Credit, Inc.) (21)                                          |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.55  | -      |   | Modification of secured  (by Accutek equipment) promissory note dated May 19, 2000, between Lee  Pharmaceuticals and Finova Capital Corporation (formerly Preferred Business  Credit, Inc.) (21)                                  |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.56  | -      |   | Modification of secured  (by Accutek equipment) promissory note dated May 19, 2000 between Lee  Pharmaceuticals and Finova Capital Corporation (formerly Preferred Business  Credit, Inc.) (21)                                   |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.57  | -      |   | Promissory note  evidencing advance made to the Registrant (22)                                                                                                                                                                   |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.58  | -      |   | Promissory note  evidencing advance made to the Registrant (22)                                                                                                                                                                   |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.59  | -      |   | Lease dated May 25,  2000, for the premises located at 1470 Santa Anita Avenue, South El Monte,  California (22)                                                                                                                  |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.60  | -      |   | Lease dated May 25,  2000, for the premises located at 1425 and 1427 Lidcombe Avenue, South El  Monte, California (22)                                                                                                            |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.61  | -      |   | Lease dated May 25,  2000, for the premises located at 1434 Santa Anita Avenue, South El Monte,  California (22)                                                                                                                  |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.62  | -      |   | Lease dated May 25,  2000, for the premises located at 1460 Santa Anita Avenue, South El Monte,  California (22)                                                                                                                  |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.63  | -      |   | Lease dated May 25,  2000, for the premises located at 1500 Santa Anita Avenue, South El Monte,  California (22)                                                                                                                  |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.64  | -      |   | Lease dated May 25,  2000, for the premises located at 1516 Santa Anita Avenue, South El Monte,  California (22)                                                                                                                  |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.65  | -      |   | Sublease dated  September 14, 2000, for the premises located at 1460 Santa Anita Avenue,  South El Monte, California (23)                                                                                                         |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.66  | -      |   | Sublease guaranty dated  September 14, 2000, for the premises located at 1460 Santa Anita Avenue,  South El Monte, California (23)                                                                                                |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.67  | -      |   | Promissory note  evidencing advance made to the Registrant (23)                                                                                                                                                                   |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.68  | -      |   | Promissory note  evidencing advance made to the Registrant (24)                                                                                                                                                                   |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.69  | -      |   | Loan and security  agreement dated February 20, 2001, between Lee Pharmaceuticals and Preferred  Business Credit, Inc., regarding a revolving credit facility financing (24)                                                      |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.70  | -      |   | Secured promissory note  dated February 20, 2001, regarding equipment, between Lee Pharmaceuticals and  Preferred Business Credit, Inc. (24)                                                                                      |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.71  | -      |   | Secured promissory note  dated February 20, 2001, regarding inventory, between Lee Pharmaceuticals and  Preferred Business Credit, Inc. (24)                                                                                      |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.72  | -      |   | Sublease dated March 9,  2001, for the premises located at 1470 Santa Anita Avenue, South El Monte,  California (24)                                                                                                              |
|   |   |   |   |                                                                                                                                                                                                                              |
|   | 10.73  | -      |   | Sublease guaranty dated  March 9, 2001, for the premises located at 1470 Santa Anita Avenue, South El  Monte, California between Jing Jing Long (guarantor) and Lee Pharmaceuticals,  Inc. (sublandlord)  (24)               |

 

37

----

 
|   | 10.74  | -      |   | Promissory note  evidencing advance made to the Registrant (25)                                                                                                                                                                    |
|--------|--------|--------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.75  | -      |   | Sublease dated April  17, 2001, for the premises located at 1470 Santa Anita Avenue, South El  Monte, California (25)                                                                                                              |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.76  | -      |   | Restructuring and Offset  Agreement dated July 23, 2001, between Lee Pharmaceuticals, AP Pharma, Inc.  (formerly Advanced Polymer Systems, Inc.) and Premier Consumer Products,  Inc., regarding a prior brand acquisition (26)    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.77  | -      |   | Amended and Restated  Security Agreement dated July 23, 2001, between Lee Pharmaceuticals (grantor)  and AP Pharma, Inc. (formerly Advanced Polymer Systems, Inc.)  (Secured Party) regarding a prior brand  acquisition (26) |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.78  | -      |   | Promissory note dated  July 23, 2001, between Lee Pharmaceuticals and AP Pharma, Inc. (formerly  Advanced Polymer Systems, Inc.)  (26)                                                                                        |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.79  | -      |   | Promissory note  evidencing advance made to the Registrant (26)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.80  | -      |   | Promissory note which  was amended (modified) in November, 2001, evidencing advance made to the  Registrant (26)                                                                                                                   |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.81  | -      |   | Secured promissory note  dated March 16, 2001, between Lee Pharmaceuticals and Preferred Business  Credit, Inc. (26)                                                                                                               |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.82  | -      |   | Modification of secured  promissory note dated March 16, 2001, between Lee Pharmaceuticals and  Preferred Business Credit, Inc. (26)                                                                                               |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.83  | -      |   | Promissory note  evidencing advance made to the Registrant (27)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.84  | -      |   | Promissory note  evidencing advance made to the Registrant (28)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.85  | -      |   | Promissory note  evidencing advance made to the Registrant (28)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.86  | -      |   | Promissory note  evidencing advance made to the Registrant (29)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.87  | -      |   | Promissory note  evidencing advance made to the Registrant (29)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.88  | -      |   | Promissory note  evidencing advance made to the Registrant (29)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.89  | -      |   | Promissory note  evidencing advance made to the Registrant (29)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.90  | -      |   | Promissory note dated  April 23, 2002, between Lee Pharmaceuticals and U.S. Dermatologics, Inc. (29)                                                                                                                               |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.91  | -      |   | Modification of loan and  security agreement dated April 23, 2002, between Lee Pharmaceuticals and  Preferred Business Credit, Inc. (30)                                                                                           |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.92  | -      |   | Promissory note  evidencing advance made to the Registrant (30)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.93  | -      |   | Secured promissory note  dated April 23, 2002, between Lee Pharmaceuticals and Preferred Business  Credit, Inc. (30)                                                                                                               |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.94  | -      |   | Secured promissory note  dated August 22, 2002, between Lee Pharmaceuticals and Preferred Business  Credit, Inc. (30)                                                                                                              |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.95  | -      |   | Promissory note  evidencing advance made to the Registrant (31)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.96  | -      |   | Promissory note  evidencing advance made to the Registrant (31)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.97  | -      |   | Promissory note which  was amended (modified) in November 2002, evidencing advance made to the  Registrant (31)                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.98  | -      |   | Promissory note  evidencing advance made to the Registrant (32)                                                                                                                                                                    |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.99  | -      |   | Modification of secured  promissory note dated February 4, 2003, regarding inventory, between Lee  Pharmaceuticals and Preferred Business Credit, Inc. (32)                                                                        |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.100 | -      |   | Secured promissory note  dated November 14, 2002, regarding equipment, between Lee Pharmaceuticals and  Preferred Business Credit, Inc. (32)                                                                                       |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.101 | -      |   | Secured promissory note  dated February  4, 2003, regarding  equipment, between Lee Pharmaceuticals and Preferred Business Credit, Inc.  (32)                                                                                 |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 10.102 | -      |   | Promissory note  evidencing advance made to Registrant (33)                                                                                                                                                                        |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 31.1   | -      |   | Certification by Chief  Executive Officer and Chief Financial Officer                                                                                                                                                              |
|   |   |   |   |                                                                                                                                                                                                                               |
|   | 32.1   | -      |   | Section 1350  Certification                                                                                                                                                                                                        |

 

38

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(1)                        Filed asan Exhibit of the same number with the Company’s Form S-1 RegistrationStatement filed with the Securities and Exchange Commission on February 5,1973, (Registrant No. 2-47005), and incorporated herein by reference.

 

(2)                        Filed asExhibits 3.4, 3.5 and 13.18 with the Company’s Form 10-K Annual Report for thefiscal year ended September 30, 1978, filed with the Securities and ExchangeCommission in December 1978 and incorporated herein by reference.

 

(3)                        Filed asan Exhibit of the same number with the Company’s Form 10-K Annual Report forthe fiscal year ended September 30, 1979, filed with the Securities andExchange Commission in December 1979 and incorporated herein by reference.

 

(4)                        Filed asExhibit 5.1 with the Company’s Form 10-K Annual Report for the fiscal yearended September 30, 1973, filed with the Securities and Exchange Commission inDecember 1973 and incorporated herein by reference.

 

(5)                        Filed asExhibits 13.27 and 13.28 with the Company’s Form 10-K Annual Report for thefiscal year ended  September 30, 1986,filed with the Securities and Exchange Commission in December 1986 andincorporated herein by reference.

 

(6)                        Filed asExhibit 13.31 with the Company’s Form 10-K Annual Report for the fiscal yearended September 30, 1990, filed with the Securities and Exchange Commission inDecember 1990 and incorporated herein by reference.

 

(7)                        Filed asExhibit 13.32 with the Company’s Form 10-K Annual Report for the fiscal yearended September 30, 1991, filed with the Securities and Exchange Commission inDecember 1991 and incorporated herein by reference.

 

(8)                        Filed asExhibit 13.33 with the Company’s Form 10-K Annual Report for the fiscal yearended September 30, 1992, filed with the Securities and Exchange Commission inDecember 1992 and incorporated herein by reference.

 

(9)                        Filed asExhibits 10.14, 10.15 and 10.16 with the Company’s Form 10-KSB Annual Reportfor the fiscal year ended September 30, 1994, filed with the Securities andExchange Commission in December 1994 and incorporated herein by reference.

 

(10)                  Filed asExhibits 10.17, 10.18, 10.19, 10.20 and 10.21 with the Company’s Form 10-KSBAnnual Report for the fiscal year ended September 30, 1995, filed with theSecurities and Exchange Commission in December 1995 and incorporated herein byreference.

 

(11)                  Filed asExhibits 10.22 and 10.23 with the Company’s Form 10-QSB Quarterly Report forthe nine months ended June 30, 1996, filed with the Securities and ExchangeCommission in August 1996 and incorporated herein by reference.

 

(12)                  Filed asExhibits 10.24, 10.25, 10.26, 10.27, 10.28, 10.29 and 10.30 with the Company’sForm 10-KSB Annual Report for the fiscal year ended September 30, 1996, filedwith the Securities and Exchange Commission in December 1996 and incorporatedherein by reference.

 

(13)                  Included as anattachment to the Company’s definitive Proxy Statement to shareholders for themeeting dated March 11, 1997 and incorporated herein by reference.

 

(14)                  Filed asExhibits 10.33, 10.34, 10.35, 10.36 and 10.37 with the Company’s Form 10-KSBAnnual Report for the fiscal year ended September 30, 1997, filed with theSecurities and Exchange Commission in December 1997 and incorporated herein byreference.

 

(15)                  Filed asExhibits 10.37 and 10.38 with the Company’s Form 10-QSB Quarterly Report forthe three months ended December 31, 1997, filed with the Securities andExchange Commission in February 1998 and incorporated herein by reference.

 

(16)                  Filed asExhibits 10.1, 10.2, 10.3 and 10.4 with the Company’s Form 10-QSB QuarterlyReport for the nine months ended June 30, 1998, filed with the Securities andExchange Commission in August 1998 and incorporated herein by reference.

 

(17)                  Filed asExhibits 10.1 and 10.2 with the Company’s Form 10-QSB Quarterly Report for thenine months ended June 30, 1999, filed with the Securities and ExchangeCommission in August 1999 and incorporated herein by reference.

 

(18)                  Filed as Exhibit10.46 with the Company’s Form 10-KSB Annual Report for the fiscal year endedSeptember 30, 1999, filed with the Securities and Exchange Commission inDecember 1999 and incorporated herein by reference.

 

(19)                  Filed asExhibits 10.1, 10.2, 10.3 and 10.4 with the Company’s Form 10-QSB QuarterlyReport for the three months ended December 31, 1999, filed with the Securitiesand Exchange Commission in February 2000 and incorporated herein by reference.

 

39

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(20)                  Filed as Exhibit10.1 with the Company’s Form 10-QSB Quarterly Report for the six months endedMarch 31, 2000, filed with the Securities and Exchange Commission in May 2000and incorporated herein by reference.

 

(21)                  Filed asExhibits 10.1, 10.2, 10.3, 10.4 and 10.5 with the Company’s Form 10-QSBQuarterly Report for the nine months ended June 30, 2000, filed with theSecurities and Exchange Commission in August 2000 and incorporated herein byreference.

 

(22)                  Filed asExhibits 10.57, 10.58, 10.59, 10.60, 10.61, 10.62, 10.63 and 10.64 with theCompany’s Form 10-KSB Annual Report for the fiscal year ended September 30,2000, filed with the Securities and Exchange Commission in December 2000 andincorporated herein by reference.

 

(23)                  Filed asExhibits 10.1, 10.2 and 10.3 with the Company’s Form 10-QSB Quarterly Reportfor the three months ended December 31, 2000, filed with the Securities andExchange Commission in February 2001 and incorporated herein by reference.

 

(24)                  Filed as Exhibit10.1, 10.2, 10.3, 10.4 and 10.6 with the Company’s Form 10-QSB Quarterly Reportfor the six months ended March 31, 2001, filed with the Securities and ExchangeCommission in May 2001 and incorporated herein by reference.

 

(25)                  Filed asExhibits 10.1 and 10.2 with the Company’s Form 10-QSB Quarterly Report for thenine months ended June 30, 2001, filed with the Securities and ExchangeCommission in August 2001 and incorporated herein by reference.

 

(26)                  Filed asExhibits 10.76, 10.77, 10.78, 10.79, 10.80, 10.81 and 10.82 with the Company’sForm 10-KSB Annual Report for the fiscal year ended September 30, 2001, filedwith the Securities and Exchange Commission in December 2001 and incorporatedherein by reference.

 

(27)                  Filed as Exhibit10.1 with the Company’s Form 10-QSB Quarterly Report for the three months endedDecember 31, 2001, filed with the Securities and Exchange Commission inFebruary 2002 and incorporated herein by reference.

 

(28)                  Filed asExhibits 10.1 and 10.2 with the Company’s Form 10-QSB Quarterly Report for thesix months ended March 31, 2002, filed with the Securities and ExchangeCommission in May 2002 and incorporated herein by reference.

 

(29)                  Filed asExhibits 10.1, 10.2, 10.3, 10.4 and 10.5 with the Company’s Form 10-QSBQuarterly Report for the nine months ended June 30, 2002, filed with theSecurities and Exchange Commission in August 2002 and incorporated herein byreference.

 

(30)                  Filed asExhibits 10.91, 10.92, 10.93 and 10.94 with the Company’s Form 10-KSB AnnualReport for the fiscal year ended September 30, 2002, filed with the Securitiesand Exchange Commission in December 2002 and incorporated herein by reference.

 

(31)                  Filed as Exhibit10.1, 10.2 and 10.3 with the Company’s Form 10-QSB Quarterly Report for thethree months ended December 31, 2002, filed with the Securities and ExchangeCommission in February 2003 and incorporated herein by reference.

 

(32)                  Filed asExhibits 10.1, 10.2, 10.3 and 10.4 with the Company’s Form 10-QSB QuarterlyReport for the six months ended March 31, 2003, filed with the Securities andExchange Commission in May 2003 and incorporated herein by reference.

 

(33)                  Filed asExhibits 10.1, 31.1 and 32.1 with the Company’s Form 10-QSB Quarterly Reportfor the nine months ended June 30, 2003, filed with the Securities and ExchangeCommission in August 2003 and incorporated herein by reference.

 

(b)                                 Reportson Form 8-K:

 

                                                None

 

**ITEM 14.****                                              PRINCIPALACCOUNTANT FEES AND SERVICES.**

 

*Audit Fees.*  The audit fees billed to the Company by itsprincipal accountant for fiscal years ended September 30, 2003 and 2002 wereapproximately $42,000 and $38,000, respectively.  These fees pertain to the audit of the Company’s annual financialstatements and quarterly Form 10-QSBs.

 

*Audit-Related Fees, Tax Fees and AllOther Fees.*  No“audit-related fees,” “tax fees” or “all other fees,” as those terms aredefined by the Securities and Exchange Commission, were paid to our principalaccountant for the fiscal years ended September 30, 2003 and 2002.

 

40

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**SIGNATURES**

 

In accordance with Section 13 or 15(d) of theSecurities Exchange Act of 1934, the registrant has duly caused this report tobe signed on its behalf by the undersigned, thereunto duly authorized.

 

**LEEPHARMACEUTICALS**

 
| Date:  |    DECEMBER  22, 2003 |                                 | RONALD G. LEE |
|--------|--------------------------------------|--------------------------------------|---------------|
|   |                                 | Ronald G. Lee                        |
|   |                                 | Chairman of the Board  and President |

 

In accordance with the Securities Exchange Act of1934, this report has been signed by the following persons on behalf of theregistrant and in the capacities and on the dates indicated.

 

 
| Date:  |   DECEMBER  22, 2003 |                                                                  | RONALD G. LEE          |
|--------|--------------------------------|-----------------------------------------------------------------------|------------------------|
|   |                           | Ronald G. Lee                                                         |
|   |                           | Chairman of the Board  & President                                |
|   |                           | (Principal Executive,  Financial and Accounting Officer) and Director |
|   |                           |                                                                  |
|   |                           |                                                                  |
| Date:  |   DECEMBER  22, 2003 |                                                                  | HENRY L. LEE, JR.      |
|   |                           | Henry L. Lee, Jr.                                                     |
|   |                           | Director                                                              |
|   |                           |                                                                  |
|   |                           |                                                                  |
| Date:  |   DECEMBER  22, 2003 |                                                                  | WILLIAM M. CALDWELL IV |
|   |                           | William M. Caldwell IV                                                |
|   |                           | Director                                                              |

 

41

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