UNITED STATES




SECURITIES AND EXCHANGE COMMISSION




Washington, D.C. 20549




FORM 10-QSB




(Mark One)




[X] QUARTERLY REPORT PURSUANT
TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934




For the quarterly period ended June 30,
2007




[ ] TRANSITION REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934




For the transition period from ___________________ to
___________________




Commission file number 000-25075




ARTIFICIAL LIFE, INC.  (Exact name of small business issuer as specified in its charter)







|DELAWARE                                                       |  |  |  | 04-3253298                          
|-------------------------------------------------------------- |  |  |  | ------------------------------------
|(State or other
jurisdiction of incorporation or organization) |  |  |  | (I.R.S.
Employer Identification No.)



Artificial Life, Inc. 26/F., 88 Hing Fat Street
Causeway Bay Hong Kong(Address of principal executive offices)




(+852) 3102 2800Issuers telephone
number




Not Applicable(Former name, former address and
former fiscal year, if changed since last report)




Check whether the issuer: (1) filed all reports required to
be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]




Indicate by check mark whether the registrant is a shell
company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X ]




State the number of shares of each of the Issuers
classes of common equity, as of the latest practicable date: As of July 26, 2007, there were 35,798,952 shares of Common Stock, $.01 par value per
share, outstanding.




Transitional Small Business Disclosure Format (Check one):
Yes [ ] No [X]


---





ARTIFICIAL LIFE, INC.




INDEX OF INFORMATION CONTAINED IN FORM 10-QSB FOR THE
QUARTER ENDED JUNE 30, 2007


|                                                                                                                                                          |  |  |  | PAGE
|--------------------------------------------------------------------------------------------------------------------------------------------------------- |  |  |  | ----
|PART I  FINANCIAL INFORMATION                                                                                                                           
|                                                                                                                                                          |  |  |  |     
|Item 1 
Financial Statements (Unaudited)                                                                                                                 |  |  |  |     
|Condensed
Consolidated Balance Sheet at June 30, 2007                                                                                                     |  |  |  |     
|Condensed
Consolidated Statements of Operations and comprehensive income (loss) for the Three Months and Six Months Ended June 30, 2007 and June 30, 2006 |  |  |  |     
|Condensed
Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2007 and June 30, 2006                                                  |  |  |  |     
|Notes to
Condensed Consolidated Financial Statements                                                                                                      |  |  |  |     
|                                                                                                                                                          |  |  |  |     
|Item 2 
Managements Discussion and Analysis or Plan of Operations                                                                                       |  |  |  |     
|                                                                                                                                                          |  |  |  |     
|Item 3 
Controls and Procedures                                                                                                                          |  |  |  |     
|                                                                                                                                                          |  |  |  |     
|Item 3T
 Controls and Procedures                                                                                                                         |  |  |  |     
|                                                                                                                                                          |  |  |  |     
|PART II  OTHER INFORMATION                                                                                                                              
|                                                                                                                                                          |  |  |  |     
|Item 1 
Legal Proceedings                                                                                                                                |  |  |  |     
|                                                                                                                                                          |  |  |  |     
|Item 2 
Unregistered Sales of Equity Securities and Use of Proceeds                                                                                      |  |  |  |     
|                                                                                                                                                          |  |  |  |     
|Item 5 
Other Information                                                                                                                                |  |  |  |     
|                                                                                                                                                          |  |  |  |     
|Item 6 
Exhibits                                                                                                                                         |  |  |  |     
|                                                                                                                                                          |  |  |  |     
|Signatures                                                                                                                                                |  |  |  |     



2


---



PART I FINANCIAL INFORMATION




ITEM 1. FINANCIAL STATEMENTS




ARTIFICIAL LIFE, INC. CONDENSED CONSOLIDATED BALANCE
SHEET June 30, 2007 (UNAUDITED)







|ASSETS                                                                                                |  |  |  |   |             |  
|----------------------------------------------------------------------------------------------------- |  |  |  | - | ----------- | -
|Current
assets:                                                                                       |  |  |  |   |             |  
|Cash and cash
equivalents                                                                             |  |  |  | $ | 1,356,567   |  
|Accounts
receivable                                                                                   |  |  |  |   | 1,001,710   |  
|Deposits and
other                                                                                    |  |  |  |   | 329,769     |  
|Total current
assets                                                                                  |  |  |  |   | 2,688,046   |  
|                                                                                                      |  |  |  |   |             |  
|Fixed
assets:                                                                                         |  |  |  |   |             |  
|Office
equipment, net of accumulated depreciation of $21,461                                          |  |  |  |   | 61,249      |  
|Computer
equipment, net of accumulated depreciation of $89,528                                        |  |  |  |   | 82,942      |  
|Office
furniture, net of accumulated depreciation of $36,782                                          |  |  |  |   | 78,805      |  
|                                                                                                      |  |  |  |   | 222,996     |  
|                                                                                                     
|Prepaid
license rights                                                                                |  |  |  |   | 597,985     |  
|Deposits and
other assets                                                                             |  |  |  |   | 270,750     |  
|                                                                                                      |  |  |  |   | 868,735     |  
|                                                                                                     
|TOTAL ASSETS                                                                                          |  |  |  | $ | 3,779,777   |  
|                                                                                                      |  |  |  |   |             |  
|LIABILITIES
& STOCKHOLDERS EQUITY                                                                    |  |  |  |   |             |  
|Current
liabilities:                                                                                  |  |  |  |   |             |  
|Accounts
payable                                                                                      |  |  |  | $ | 1,356,545   |  
|Note payable
 officer/stockholder                                                                    |  |  |  |   | 147,563     |  
|Convertible
promissory notes, net of discount of $920,000                                             |  |  |  |   | 80,000      |  
|Accrued
expenses                                                                                      |  |  |  |   | 544,829     |  
|                                                                                                     
|Total
liabilities (all current)                                                                       |  |  |  |   | 2,128,937   |  
|                                                                                                     
|Stockholders equity:                                                                                 |  |  |  |   |             |  
|Preferred
stock, $.01 par value; 5,000,000 shares authorized, no shares issued and outstanding        |  |  |  |   |             |  
|Common stock,
$.01 par value; 130,000,000 shares authorized, 35,298,952 shares issued and outstanding |  |  |  |   | 352,989     |  
|Additional
paid-in capital                                                                            |  |  |  |   | 38,800,443  |  
|Notes
receivable from stockholders                                                                    |  |  |  |   | (19,577     | )
|Accumulated
deficit                                                                                   |  |  |  |   | (37,489,900 | )
|Other
comprehensive income                                                                            |  |  |  |   | 6,885       |  
|                                                                                                     
|Total
stockholders equity                                                                            |  |  |  |   | 1,650,840   |  
|                                                                                                     
|TOTAL
LIABILITIES AND STOCKHOLDERS EQUITY                                                            |  |  |  | $ | 3,779,777   |  



See accompanying notes to unaudited condensed consolidated
financial statements.




3


---



ARTIFICIAL LIFE, INC. CONDENSED CONSOLIDATED
STATEMENTS OF OPERATIONS (UNAUDITED)







|                                              |  |  |  | Three-month Period Ended June 30, |            | Six-month Period Ended June 30, | 
|--------------------------------------------- |  |  |  | --------------------------------- | ---------- | ------------------------------- | 
|
|Revenues:                                     |  |  |  |                                   |            |                                 | 
|Software
license agreements                   |  |  |  | $                                 | 690,066    |                                 | 
|Application
services and other                |  |  |  |                                   | 17,000     |                                 | 
|                                              |  |  |  |                                   | 707,066    |                                 | 
|Operating
expenses:                           |  |  |  |                                   |            |                                 | 
|General and
administrative                    |  |  |  |                                   |            |                                 | 
|Stock-based
compensation                      |  |  |  |                                   | 123,900    |                                 | 
|Other                                         |  |  |  |                                   | 293,314    |                                 | 
|Engineering
and cost of sales                 |  |  |  |                                   | 470,033    |                                 | 
|Research and
development                      |  |  |  |                                   | 73,934     |                                 | 
|Sales and
marketing                           |  |  |  |                                   | 440,183    |                                 | 
|Total
operating expenses                      |  |  |  |                                   | 1,401,364  |                                 | 
|Loss from
operations                          |  |  |  |                                   | (694,298   | )                               | 
|Other income
(expenses):                      |  |  |  |                                   |            |                                 | 
|Interest
income (expense)                     |  |  |  |                                   | 1,180      |                                 | 
|Other                                         |  |  |  |                                   | 8,505      |                                 | 
|Gain/ (loss)
on value of derivative liability |  |  |  |                                   |           |                                 | 
|                                              |  |  |  |                                   | 9,685      |                                 | 
|Net (loss)/Income                             |  |  |  |                                   | (684,613   | )                               | 
|Foreign
currency translation adjustment       |  |  |  |                                   | 6,885      |                                 | 
|Other
comprehensive (loss) income             |  |  |  | $                                 | (677,728   | )                               | 
|Net (loss)
income per share                   |  |  |  |                                   |            |                                 | 
|Basic                                         |  |  |  | $                                 | (0.02      | )                               | 
|Diluted                                       |  |  |  | $                                 | (0.02      | )                               | 
|Weighted
average shares outstanding           |  |  |  |                                   |            |                                 | 
|Basic                                         |  |  |  |                                   | 34,767,415 |                                 | 
|Diluted                                       |  |  |  |                                   | 34,767,415 |                                 | 



See accompanying notes to unaudited condensed consolidated
financial statements




4


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ARTIFICIAL LIFE, INC. CONDENSED CONSOLIDATED
STATEMENTS OF CASH FLOWS (UNAUDITED)







|                                                                            |  |  |  | Six-month Period Ended June 30, |           
|--------------------------------------------------------------------------- |  |  |  | ------------------------------- | ----------
|
|Cash flows
from operating activities:                                       |  |  |  |                                 |           
|                                                                           
|Net loss                                                                    |  |  |  | $                               | (1,216,657
|Adjustments
to reconcile net loss to net cash used in operating activities: |  |  |  |                                 |           
|                                                                           
|Depreciation
and amortization                                               |  |  |  |                                 | 37,657    
|Loss on
disposal of fixed assets                                            |  |  |  |                                 | 877       
|Bad debt
expense                                                            |  |  |  |                                 |           
|Interest
expense accrued on note payableofficer / stockholder               |  |  |  |                                 | 5,001     
|Stock based
compensation                                                    |  |  |  |                                 | 123,900   
|Loss on value
of derivative liabilities                                     |  |  |  |                                 |          
|Salary
accrued to officer/stockholder                                       |  |  |  |                                 |           
|Increase in
accounts receivable                                             |  |  |  |                                 | (707,705  
|Increase in
prepaid license rights, deposits and other assets               |  |  |  |                                 | (665,897  
|Increase /
(decrease) in accounts payable and accrued expenses              |  |  |  |                                 | 73,050    
|                                                                           
|Net cash used
in operating activities                                       |  |  |  |                                 | (2,349,774
|                                                                           
|Cash flows
from investing activities:                                       |  |  |  |                                 |           
|Purchase of
fixed assets                                                    |  |  |  |                                 | (162,734  
|                                                                           
|Net cash used
in investing activities                                       |  |  |  |                                 | (162,734  
|                                                                           
|Cash flows
from financing activities:                                       |  |  |  |                                 |           
|Proceeds from
issuance of common stock, net                                 |  |  |  |                                 | 1,604,272 
|Proceeds from
 issuance of convertible promissory notes                     |  |  |  |                                 | 1,000,000 
|Payments on
note payable  officer / stockholder                            |  |  |  |                                 | (80,243   
|(Repayment)/proceeds of short-term loan payable to stockholder              |  |  |  |                                 |          
|                                                                           
|Net cash
provided by financing activities                                   |  |  |  |                                 | 2,524,029 
|                                                                           
|Net increase
in cash and cash equivalents                                   |  |  |  |                                 | 11,521    
|Effects
of exchange rate changes on cash and cash equivalents               |  |  |  |                                 | 6,888     
|Cash and cash
equivalents at beginning of period                            |  |  |  |                                 | 1,338,158 
|                                                                           
|Cash and cash
equivalents at end of period                                  |  |  |  | $                               | 1,356,567 
|                                                                           
|Supplemental
disclosure of non-cash investing and financing activities:     |  |  |  |                                 |           
|                                                                           
|Reclassification of options and warrants as derivative liabilities          |  |  |  | $                               |          



See accompanying notes to unaudited condensed consolidated
financial statements.




5


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ARTIFICIAL LIFE, INC. NOTES TO CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS (UNAUDITED)




1. BASIS OF PRESENTATION




The accompanying unaudited condensed consolidated financial
statements of Artificial Life, Inc. (the Company) have been prepared in accordance with generally accepted accounting principles in the
United States of America for interim financial information and in accordance with the instructions to Form 10-QSB and Regulation S-B. Accordingly, they
do not include all information and footnotes required by generally accepted accounting principles for complete financial statement presentation. The
consolidated financial statements include the accounts of the Company, and its wholly owned subsidiaries: Artificial Life Ventures, Inc.
(Artificial Life Ventures), Artificial Life USA, Inc. (Artificial Life USA), Artificial Life Mobile Computing, Inc.
(Artificial Life Mobile Computing), Artificial Life Asia Limited (Artificial Life Asia) and Artificial Life Europe GmbH
(Artificial Life Europe). All significant inter-company balances and transactions have been eliminated in consolidation.




Operating results for the three and six months ended June
30, 2007 are not necessarily indicative of results that may be expected for the year ending December 31, 2007. For further information, refer to the
audited consolidated financial statements and notes thereto included in the Companys annual Report on Form 10-KSB for the year ended December 31,
2006.




The financial information included in this report has been
prepared in conformity with the accounting policies reflected in the financial statements included in the Companys Annual Report on Form 10-KSB
filed with the Securities and Exchange Commission.




2. STOCK BASED COMPENSATION




The Company has adopted Statement of Financial Accounting
Standards (SFAS) No. 123 (revised 2004), Share-Based Payment (SFAS 123R). SFAS 123R requires the recognition of the
cost of employee services received in exchange for an award of equity instruments in the financial statements and is measured based on the grant date
fair value of the award. SFAS 123R also requires the stock option compensation expense to be recognized over the period during which an employee is
required to provide service in exchange for the award (the vesting period). At January 1, 2007 and 2006, all outstanding options were fully vested.
Options to acquire 100,000 shares of common stock at an exercise price of $2.00 per share were granted to a director under the Amended and Restated
1998 Equity Incentive Plan (the Plan) during the 3-month period ended June 30, 2007 for his services as a director.




At June 30, 2007, the Company had outstanding and
exercisable options to purchase 5,565,000 shares of common stock under the Plan issued to employees as follows:







|Outstanding and
exercisable options issued to employees: |  |  |  | 5,565,000  
|-------------------------------------------------------- |  |  |  | -----------
|Weighted average
exercise price:                         |  |  |  | $0.71      
|Aggregate
intrinsic value:                               |  |  |  | $11,632,900
|Weighted average
remaining contractual term              |  |  |  | 1.36
years 



At June 30, 2007, the Company had outstanding and
exercisable warrants to purchase 962,500 shares of common stock issued to employees as follows:







|Outstanding and
exercisable warrants issued to employees: |  |  |  | 962,500   
|--------------------------------------------------------- |  |  |  | ----------
|Weighted average
exercise price:                          |  |  |  | $0.76     
|Aggregate
intrinsic value:                                |  |  |  | $1,959,000
|Weighted average
remaining contractual term               |  |  |  | 2.03
years



6


---



3. CUSTOMER CONCENTRATION




At June 30, 2007, two customers accounted for 92% of total
accounts receivable, one accounted for approximately 58% and the other one accounted for approximately 34%. For the three-month period ended June 30,
2007, the Company had one customer, which represented aproximately 87% of the Companys sales for the period. For the three-month period ended
June 30, 2006, the Company had two customers, which represented 10% or more of the Companys sales for the period, one accounted for approximately
81% and the other one accounted for approximately 10%.




4. NET INCOME / (LOSS) PER SHARE




Basic net loss per share is calculated based on the
weighted average number of common shares outstanding for the three and six month periods ended June 30, 2007 and 2006. Diluted earning per share
reflects additional common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to
income that would result from the assumed issuance. Potential common shares that may be issued by the Company relate to outstanding stock options and
warrants, and are determined using the treasury stock method. For all periods presented, except for the three months ended June 30, 2006, the
basic and diluted net loss per share is the same since the effect of inclusion of all outstanding options and warrants would be anti-dilutive. The following table sets forth the computation of fully diluted shares for the three months ended June 30, 2006:


|                                              | 
|--------------------------------------------- | 
|Shares used in basic per share calculation    | 
|Effect of dilutive securities:                | 
|Options                                       | 
|Warrants                                      | 
|Shares used in dilutive per share calculation | 



5. INCOME TAXES




There is no provision for income taxes for the three and
six months ended June 30, 2007. During the six months ended June 30, 2007, the Company reported a net loss of $1,216,657 and at December 31, 2006, the
Company had approximately $24,200,000 of federal net operating loss carry forwards expiring through 2022, for U.S. income tax purposes. The net
operating loss carry forwards may be subject to annual limitations based on ownership changes in the Companys common stock as provided by in
Section 382 of the Internal Revenue Code. At December 31, 2006 approximately $5,900,000 of net operating loss carryforwards were available for Hong
Kong income tax purposes that may be carried forward indefinitely.




The Company adopted the provisions of Financial Accounting
Standard Board Interpretation No. 48, Accounting for Uncertainty in Income Taxes  an interpretation of FASB Statement No. 109
(FIN 48), on January 1, 2007. There were no unrecognized tax benefits and there was no effect on the Companys financial condition or
results of operations as a result of implementing FIN48.




The Company files income tax returns in the US federal
jurisdiction and various State and foreign jurisdictions. The Company is no longer subject to US Federal tax examinations for years before 2004, and
State and foreign jurisdictions that remain subject to examination range from 2001 to 2006. Management does not believe there will be any material
changes in our unrecognized tax positions over the next 12 months.




The Companys policy is to recognize interest and
penalties accrued on any unrecognized tax benefits as a component of income tax expense. As of the date of the adoption of FIN48 there was no accrued
interest or penalties associated with any unrecognized tax benefits, nor was any interest expense recognized during the quarter.




6. DERIVATIVE STOCK OPTION AND WARRANT
LIABILITY




In October and December 2005, the Company issued 2,156,298
shares of common stock and 4,150,000 options which resulted in the Companys authorized and unissued shares being insufficient to settle all then
outstanding and exercisable options and warrants. In February and March 2006, the Company issued an additional 3,802,181 shares of common stock and
2,054,405 options. In May 2006, the Company issued an additional 20,000 shares of common stock. On June 30, 2006, the Company had issued a total of
30,952,160 shares and exceeded its authorized capital. In accordance with EITF 00-19, Accounting for Derivative Financial Instruments Indexed to,
and Potentially Settled in, a Companys Own Stock, the Company recorded a partial reclassification of outstanding and exercisable options and
warrants issuable to non-employees as derivatives. The Company elected to reclassify options and warrants with the latest maturity date first. During
the three and six months ended June 30, 2006, options and warrants to non-employees with a fair value of $0 and $1,493,000, respectively, were
reclassified as derivatives. The reclassified options and warrants had strike prices ranging from $0.30 to $1.50, were granted on various dates between
April 2001 and February 2006, and are exercisable on various dates between December 2006 and April 2011.




At June 30, 2006, the fair value of all reclassified
options and warrants was $3,712,000 and during the three and six months ended June 30, 2006, gain(losses) of $1,155,000 and ($1,457,000), respectively,
on the fair value of derivatives were recognized. During the Annual Meeting of Stockholders held on September 22, 2006, an amendment to the
Companys Amended and Restated Certificate of Incorporation to increase the number of authorized shares of common stock from the then 30 million
shares to 130 million shares was approved.




7


---



7. NOTE PAYABLE OFFICER/SHAREHOLDER




At June 30, 2007 the Company owed its chief executive
officer $147,563 which reflected a net decrease of $75,242 from the principal amount of indebtedness outstanding at December 31, 2006. Interest of
$5,001 was accrued during the six months ended June 30, 2007. The remaining advances bear interest at a rate of 5% per year and are
unsecured.




8. SEGMENT INFORMATION




The Company markets and supports mobile phone games and
applications and related intellectual property. The Companys products target mobile phone platforms, primarily 3G (third generation broadband
networks and platforms). Products have the form of applications as well as enabling technology for mobile devices. The Company believes that it
currently operates in one main business segment: games and applications for mobile platforms.




9. COMMITMENTS




In August 2006, the Company entered into a three-year
office lease with monthly charges of approximately $10,385 per month.




In February 2007, Artificial Life Europe in Berlin entered
into a five-year office lease with monthly charges of approximately $7,200 per month. The monthly charges increase by 1,100 Euro on each anniversary
until 2009 and the lease expires in February 2012.




10. SALES OF COMMON STOCK




In May 2007, the Company sold 200,000 shares of common
stock at $2.25 per share in private placements. The total cash proceeds to the Company were $450,000. In connection with these sales, the Company
issued, to the same investor, warrants to purchase 50,000 shares of common stock at $3.00 per share with a 24-month term.




During the three months ended June 30, 2007, in connection
with the exercise of certain options granted during period from November 2004 to December 2005, the Company issued 701,571 shares of common stock and
received total cash proceeds of $274,000. The exercise price for the options ranged from $0.36 to $1.00.




11. CONVERTIBLE PROMISSORY NOTES




On June 30, 2007, the Company issued convertible promissory
notes to two individuals for an aggregate principal amount of $1,000,000 (Convertible Notes). The Convertible Notes bear an annual interest
rate of ten percent, and mature on December 31, 2007 (the Maturity Date). The holders may convert the Convertible Notes and any unpaid
interest accumulated thereon after the Maturity Date into shares of common stock at a conversion price of $2.50 per share. In connection with the
issuance of the Convertible Notes, the Company issued warrants to purchase 300,000 shares of the Companys common stock at $3.00per share, with
3-year term.




The Convertible Notes were considered to have an embedded
beneficial conversion feature because the conversion price was less than the quoted market price at the time of the issuance. The Company allocated the
proceeds from the issuance between the warrants and the Convertible Notes based on relative fair values which amounted to $400,000 and $600,000,
respectively. The beneficial conversion feature of $520,000was recorded separately based on the intrinsic value method per EITF00-27. The Company
expects to amortize the discount to interest expense over the 6 months
ending December 31, 2007.




12. SUBSEQUENT EVENTS




On July 13, 2007, the Company issued 100,000 shares of
common stock valued at $2.50 per share in connection with the purchase of a software license. The total purchase price is $500,000 of which $50,000 was paid prior to June 30, 2007 and an additional $200,000 in cash is to be paid within 90 days of the purchase date.




On July 20, 2007, the Company issued 100,000 shares of
common stock to an employee in connection with the exercise of stock options granted in December 2005. The exercise price of the options was $0.36 per
share and the total cash proceeds to the Company were $36,000.




On July 25, 2007, the Company issued 300,000 shares of
common stock to an employee in connection with the exercise of stock options granted in April 2005. The exercise price of the options was $0.40 per
share and total cash proceeds to the Company were $120,000.




In July 2007, the Company established a subsidiary in Japan
with the name: Artificial Life Japan Ltd.




8


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ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OR
PLAN OF OPERATION.




GENERAL




The following Managements Discussion and Analysis is
intended to help the reader understand our results of operations and financial condition and is provided as a supplement to, and should be read in
conjunction with our financial statements and the related notes included elsewhere in this Quarterly Report on Form 10-QSB. This discussion contains,
in addition to historical statements, forward-looking statements that involve risks and uncertainties. Our actual future results could differ
significantly from the results discussed in the forward-looking statements. Factors that could cause or contribute to such differences include, but are
not limited to, the factors discussed in the section titled Risk Factors as well as other factors described in our Annual Report on Form
10-KSB for the year ended December 31, 2006. Any forward-looking statement speaks only as of the date on which such statement is made and we do not
intend to update any such forward-looking statements.




OVERVIEW




In the second quarter of 2007, we achieved a first major
milestone in our corporate development and business plan. During the first six months of 2007 we rolled out over 1,000,000 paid installations of our
mobile games which is an increase compared to the 100,000 game installations accumulated up to the end of 2006. The new installations in 2007 include
one time downloads, end user subscriptions via operator decks, off-deck sales and pre-installations on cell phones.




During the three months ended June 30, 2007, we continued
to market and expand the distribution of our products in Europe and Asia by entering into various strategic relationships.




In April 2007, we signed up one of Europes biggest
content aggregators and resellers, Arvato Mobile, a division of Bertelsman, to distribute our games in Europe. We also sold 500,000 pre-installed game
licenses to TalkWithUs in South Africa in April and announced our co-operation with Barthi Airtel, the biggest Indian mobile carrier, to launch our
games in India.




In May 2007, we launched our Happy Feet game with Warner Bros. in Japan, signed a joint development and distribution agreement with STAR TV, one of the biggest TV channels in
South East Asia, and signed a global content distribution agreement with Jamba/Jamster, one of Europes biggest mobile
aggregators.




In June 2007, we entered into an agreement with New Zealand
Telecom to launch our games in New Zealand and entered into an agreement with Saatchi & Saatchi to develop a custom mobile game for one of the
worlds leading consumer products companies. We also entered into a content development and distribution agreement with Oxygen Media Interactive
and launched our first Popstars game with Sat1/ProSieben in Germany.




In addition to marketing our current products we continue
to focus on developing more new 3G products, such as real time 3D/3G games and massive multi player mobile games. We are also in on-going talks with
several global media and game companies to license more appealing content and intellectual properties.




Even though several of the new products and services have
successfully been launched in several countries, there can be no guarantee that these new products and services will contribute substantially to our
future revenues or will continue to be successful.




For the quarter ended June 30, 2007, we reported a loss
from operation of $694,298 compared to a loss from operations of $450,516 for the second quarter of 2006. Our net loss for the second quarter of 2007
was $684,613 as compared to a net income of $705,203 for the second quarter of 2006. The decrease is mainly due to a non operational non-cash gain on
the value of derivative liabilities of $1,155,000 in the second quarter of 2006.




As of June 30, 2007, we had total assets of $3,779,777and
total liabilities of $2,128,937. As of June 30, 2007, current assets were $2,688,046 as compared to $1,549,623 at March 31, 2007, and current
liabilities were $2,128,937 as compared to $2,075,155 at March 31, 2007.




We had 55 full time employees as of June 30, 2007. We also
hire temporary staff, external consultants and interns to support our operations. We currently have 11 people on staff for our new European operations
and expect this number to exceed 20 people by the end of 2007.




9


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As we are still in the early phase of the global roll out
of our key mobile products in several countries around the world and as we resume research and development and new engineering efforts, results of
operations to date may not be indicative of our future results of operations. Moreover, we expect to experience significant fluctuations in our future
operating results due to a variety of factors. Factors that may affect our operating results include the speed of the expansion of the 3G mobile
markets, the general market acceptance of our products, our ability to sell and license our third party intellectual property, the increasing diversity
and number of mobile phone handset types, the amount of software consulting we undertake in the future, success in creating and entering into strategic
alliances, our mix of product and service sales, our response to competitive pressure, our ability to attract and retain qualified personnel, and our
ability to execute our business strategy in the Asian and European markets. Gross profit margins will vary from product to product and between products
and services and the countries in which we launch our products. Our sales mix may vary from period to period and our gross margins will fluctuate
accordingly.




RESULTS OF OPERATIONS




THREE MONTHS ENDED JUNE 30, 2007 COMPARED TO THREE
MONTHS ENDED JUNE 30, 2006




REVENUES: Revenues for the quarter ended June 30, 2007 were
$707,066 as compared to $221,532 for the quarter ended June 30, 2006. The increase of revenues of $485,534 or 219% was mainly due to product license
fees for pre-installments, downloads and subscriptions for our 3G games received from mobile operators, resellers and handset
manufacturers.




GENERAL AND ADMINISTRATIVE: General and administrative
expenses consist of salary for administrative personnel, rent, professional fees and costs associated with employee benefits, supplies, communications
and travel. General and administrative expenses for the quarter ended June 30, 2007 were $417,214 as compared to $292,460 for the quarter ended June 30
2006. The increase of $124,754 was primarily due to stock-based compensation expense of $123,900 recognized in accordance SFAS 123R and substantial
increases in legal and accounting fees.




ENGINEERING AND COST OF SALES: These costs generally
consist of salary, training, consulting, subcontracting and other expenses incurred to develop and fulfill the engineering (design specifications) of
the products and services from which we derive our revenues. Engineering expenses for the quarter ended June 30, 2007 were $470,033 as compared to
$259,442 for the quarter ended June 30, 2006. The increase of $210,591 was mainly the result of an increase in personnel costs.




RESEARCH & DEVELOPMENT: Research and development
expenses are similar in nature to engineering expenses, but they relate to products in their initial stage and are anticipated to generate revenue at a
later date. Research and development expenses for the quarter ended June 30, 2007 were $73,934 as compared to $58,141 for the quarter ended June 30,
2006. The increase of $15,793 was mainly due to an increase in overseas travels.




SALES AND MARKETING: Sales and marketing expenses consist
of salary expenses of sales and marketing personnel, costs relating to marketing materials, advertising, trade show related expense, traveling and
public relations activities. Sales and marketing expenses for the quarter ended June 30, 2007 were $440,183 as compared to $62,005 for the quarter
ended June 30, 2006. The increase of $378,178 was primarily due to increases in marketing activities in Africa and Europe, personnel
costs.




OTHER INCOME/EXPENSES: Other income(expense) is not
generated from normal business activities. Other income(expense) for the three months ended June 30, 2007 was $9,685 as compared to $719 for the
quarter ended June 30, 2006.




GAIN/LOSS ON VALUE OF DERIVATIVE LIABILITY: Gain on value
of derivative liability of $1,155,000 in the second quarter of 2006 resulted from the fair value of options and warrants classified as derivative
liabilities being marked to market at June 30, 2006.




LOSS FROM OPERATIONS AND NET LOSS: Loss from operations for
the quarter ended June 30, 2007 was $694,298 as compared to loss from operations of $450,516 for the quarter ended June 30, 2006. The increase in loss
from operations resulted from increased expenses of $729,316 mostly for legal, new staff, marketing activities, public relations, operating costs for
Artificial Life Europe GmbH and stock-based compensation expenses. Net loss for the quarter ended June 30, 2007 was $684,613 as compared to a profit of
$705,203 for the quarter ended June 30, 2006. The increase in net loss is mainly due to the gain of $1,155,000 on the value of derivative liabilities
in 2006. The basic and diluted net loss per share for the second quarter of 2007 was ($0.02), as compared to $0.02 net income per share for the second
quarter of 2006.




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SIX MONTHS ENDED JUNE 30, 2007 COMPARED TO SIX MONTHS
ENDED JUNE 30, 2006




REVENUES: Revenues for the six month period ended June 30,
2007 were $1,072,754 as compared to $406,755 for the six month period June 30, 2006. The increase of revenues of $665,999 or 160% was mainly due to
pre-installments, downloads and subscriptions for our 3G games received from mobile operators, resellers and handset manufacturers and product license
fees for newly signed contracts and revenues generated from mobile operators.




GENERAL AND ADMINISTRATIVE: General and administrative
expenses consist of salary for administrative personnel, rent, professional fees and costs associated with employee benefits, supplies, communications
and travel. General and administrative expenses for the six month period ended June 30, 2007 were $696,021 as compared to $414,747 for the six month
period ended June 30, 2006. The increase of $281,274 was primarily due to substantial increases in legal, accounting fees and Stock-based compensation
expenses recognized in accordance with SFAS 123R.




ENGINEERING AND COST OF SALES: These costs generally
consist of salary, training, consulting, subcontracting and other expenses incurred to develop and fulfill the engineering (design specifications) of
the products and services from which we derive our revenues. Engineering expenses for the six month period ended June 30, 2007 were $753,994 as
compared to $484,852 for the six month period ended June 30, 2006. The increase of $269,142 was the result of an increase in traveling expenses, an
increase in personnel.




RESEARCH & DEVELOPMENT: Research and development
expenses are similar in nature to engineering expenses, but they relate to products in their initial stage and are anticipated to generate revenue at a
later date. Research and development expenses for the six month period ended June 30, 2007 were $127,573 as compared to $89,241 for the six month
period ended June 30, 2006. The increase of $38,332 was mainly due to an increase in overseas travel.




SALES AND MARKETING: Sales and marketing expenses consist
of salary expenses of sales and marketing personnel, costs relating to marketing materials, advertising, trade show related expense, traveling and
public relations activities. Sales and marketing expenses for the six month period ended June 30, 2007 were $733,297 as compared to $138,395 for the
quarter ended June 30, 2006. The increase of $594,902 was primarily due to an increase in marketing activities for Africa and Europe and an increase in
personnel.




OTHER INCOME/EXPENSES: Other income(expense) is not
generated from normal business activities. Other income(expense) for the six months ended June 30, 2007 was $21,474 as compared to ($8,835) for the
quarter ended June 30, 2006.




GAIN / (LOSS) ON VALUE OF DERIVATIVE LIABILITY: Loss on
value of derivative liability of $1,457,000 in the six months ended June 30, 2006 resulted from the fair value of options and warrants reclassified as
derivative liabilities being marked to market at June 30, 2006.




LOSS FROM OPERATIONS AND NET LOSS: Loss from operations for
the six months ended June 30, 2007 was $1,238,131 as compared to loss from operations of $720,480 for the six month period ended June 30, 2006. The
increase in loss from operations resulted from increased expenses of $1,183,650. Net loss for the six month period ended June 30, 2007 was $1,216,657
as compared to a net loss of $2,186,315 for the six month period ended June 30, 2006. The decrease of $969,658 is mainly due to the loss of $1,457,000
on derivative liabilities for the six month period ended June 30, 2006. The basic and diluted net loss per share for the six month period ended June
30, 2007 was $0.04 as compared to $0.07 for the six month period ended June 30, 2006.




LIQUIDITY AND CAPITAL RESOURCES




As of June 30, 2007, we had a working capital deficit of
$559,109 and stockholders equity of $1,650,840.




In order to fund our cash needs we have borrowed funds from
time to time in the past from our chief executive officer, Eberhard Schoneburg. As of June 30, 2007 we owed our CEO an aggregate amount of $147,563, as
compared to $209,351 at March 31, 2007. The advanced funds bear interest at a rate of 5% per year and are unsecured.




To further improve the generation of revenues from the roll
out of our mobile technology, we are seeking additional financing through various sources to meet the needs of our current operations, capital
expenditures and commitments.




For the three months ended June 30, 2007, we issued a total
of 901,571shares of common stock, which consists of 200,000 shares sold at $2.25 per share in a private placement and 701,571 shares issued upon
exercise of certain options at exercise prices ranging from $0.36 to $1.00 per share. Subsequent to June 30, 2007, we issued an additional 500,000
shares of common stock, consisting of 100,000 shares at $2.50 per share issued as partial consideration for the purchase price of a software license,
and 400,000 shares issued upon exercise of certain options at exercise prices ranging from $0.36 to $0.40 per share. In connection with the exercise
of options and private




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placements, we received total cash proceeds of
approximately $880,000. In addition, on June 30, 2007, we issued convertible promissory notes to two individuals for an aggregate principal amount of
$1,000,000. The convertible notes are unsecured, bear an annual interest rate of ten percent and mature on December 31, 2007. The holders may convert
the convertible notes and any unpaid interest accumulated thereon after the maturity date into shares of our common stock at a conversion price of
$2.50 per share. The convertible notes may be prepaid at any time at the discretion of the Company. Management believes that these proceeds, together
with additional sales of common stock and warrants and any cash flow generated from operating activities will be sufficient to fund our operations and
working capital needs for the next twelve months.




We expect that we will need to raise additional capital to
support our operations and accommodate planned future growth. However, there can be no guarantees that such funds will be available on commercially
reasonable terms, if at all. If such financing is not available on satisfactory terms, we may be unable to expand or continue our business as desired
and operating results may be adversely affected. Debt financing will increase expenses and must be repaid regardless of operating results. Equity
financing could result in dilution to existing stockholders.




Contractual obligations at June 30, 2007 are as
follows:







|                                  |  |  |  | Total |           | Less than 1 year |  | 1  3 years |           | 4  5 years
|--------------------------------- |  |  |  | ----- | --------- | ---------------- |  | ----------- | --------- | -----------
|Operating
leases                  |  |  |  | $     | 835,698   |                  |  | $           | 216,775   |            
|Note payable,
officer/stockholder |  |  |  |       | 147,563   |                  |  |             | 147,563   |            
|Convertible
promissory notes      |  |  |  |       | 1,000,000 |                  |  |             | 1,000,000 |            
|                                  |  |  |  | $     | 1,983,261 |                  |  | $           | 1,364,338 |            



OFF-BALANCE SHEET ARRANGEMENTS




At June 30, 2007, we did not have any transactions,
obligations or relationships that could be considered off-balance sheet arrangements.




ITEM 3. CONTROLS AND PROCEDURES




As of the end of the period covered by this report
(Evaluation Date), our management concluded its evaluation of the effectiveness of the design and operation of our disclosure controls and
procedures. As of the Evaluation Date, the our Chief Executive Officer and Principal Financial Officer concluded that we maintain disclosure controls
and procedures that are effective in providing reasonable assurance that information required to be disclosed in our reports under the Securities Act
of 1934 (Exchange Act) is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms, and that
such information is accumulated and communicated to our management, including its Chief Executive Officer and Principal Financial Officer, as
appropriate, to allow timely decisions regarding required disclosure. Our management necessarily applied its judgment in assessing the costs and
benefits of such controls and procedures, which, by their nature, can provide only reasonable assurance regarding managements control objectives.
There have been no significant changes in our internal controls or in other factors that could significantly affect these controls subsequent to the
Evaluation Date.




ITEM 3T. CONTROLS AND PROCEDURES




Not applicable




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PART II  OTHER INFORMATION




ITEM 1  LEGAL PROCEEDINGS




On September 5, 2001 Copley Place Associates filed suit
against us alleging that we breached our commercial lease by vacating our former Boston, Massachusetts corporate headquarters prior to the expiration
of the lease term. Copley Place Associates has alleged damages of approximately $585,000 and the court granted their motion for summary judgment on
March 4, 2002. Damages assessed by the court in July 2002 have confirmed the summary judgment. We offered Copley Place Associates a complete settlement
of the matter for $50,000 and Copley Place Associates counter-offered $100,000. No final settlement has been achieved. We have accrued $100,000 in
connection with this matter.




In connection with claims for certain unpaid wages and
vacation pay made by former employees of our former U.S. operations in 2002, we had accrued $108,000 representing the potential liability for these
asserted claims with respect to this matter, as confirmed by an Administrative Law Magistrate. In January 2005 we received a court claim and a default
judgment from the pending cases against some of these former US employees. We filed a counter claim and a motion to void the default judgment. In
October 2006, we and the former employees, except Robert Pantano, our former CFO, signed a settlement agreement and general release under which we paid
$105,000. A court order reflecting dismissal of the non-CFO claims was issued on October 10, 2006. On March 27, 2007, the court granted Mr.
Pantanos motion for summary judgment with respect to his wage claim and with respect to the counterclaims that had been asserted against him. The
court also allowed Mr. Pantanos motion to amend his complaint to add a claim for retaliation, which claim is still pending. We and our Chief
Executive Officer have the right to appeal the courts decisions and intend to do so. We accrued $100,000 in the fourth quarter of 2006
representing the potential liabilities for the remaining CFO claim, which we believe is our maximum liability under this claim.




It is possible that we may become a party to legal
proceedings arising from the settlement of our outstanding liabilities.




ITEM 2  UNREGISTERED SALES OF EQUITY SECURITIES
AND USE OF PROCEEDS




In May and June 2007, we issued 500,000 shares of common
stock to two option holders in connection with the exercise of certain options granted in June 2005 at $0.40 per share. Total cash proceeds to the
Company were $200,000.




In May and June 2007, we sold 200,000 shares of common
stock at $2.25 per share for total cash proceeds of $450,000. In connection with these sales, we issued to the same investors warrants to purchase
50,000 shares at an exercise price of $3.00 per share for a period of 24-months.




On June 30, 2007, we issued warrants to purchase an
aggregate of 300,000 shares of our common stock exercisable for a period of three years from the date of issuance at an exercise price of $3.00 per
share. These warrants were issued to two investors in connection with the issuance of $1,000,000 principal amount of 10% convertible promissory notes
described elsewhere in the report.




The securities were offered and sold in private placement
transactions in reliance upon Regulation S under the Securities Act of 1933, as amended, and/or the exemption from registration provided by Section
4(2) of the Securities Act and Regulation D thereunder. The securities were offered without general solicitation or advertisement and were sold to a
limited number of investors who represented to us, among other things, that they (i) are non-U.S. persons as defined in Regulation S or are accredited
investors as such term is defined in Regulation D, (ii) acquired the securities for investment only and not with a view to distribution thereof, and
(iii) understand that the securities cannot be resold except pursuant to an effective registration statement under the Securities Act or in reliance
upon an applicable exemption from such registration requirements and that the certificates representing such securities will bear a restrictive legend
to that effect.




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ITEM 5  OTHER INFORMATION




On April 25, 2007, our Board of Directors approved an
additional $5,000 per month in compensation to Eberhard Schoneburg, our President and Chief Executive Officer, for additional services in connection
with his responsibilities as the CEO. In addition, our Board of Directors approved a monthly housing allowance of up to $5,000 for additional
accommodations in Germany and Japan, and to provide Mr. Schoneburg use of a company car, if necessary, as part of his travel
arrangements.




On June 30, 2007, we issued convertible promissory notes to
two individuals for an aggregate principal amount of $1,000,000 and warrants to purchase an aggregate of 300,000 shares of common stock at $3.00 per
share. The convertible notes bear an annual interest rate of ten percent and mature on December 31, 2007. The holders may convert the convertible notes
and any unpaid interest accumulated thereon after the maturity date into shares of our common stock at a conversion price of $2.50 per
share.




ITEM 6  EXHIBITS







|31.1 |  |  |  | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                    
|---- |  |  |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------
|     |  |  |  |                                                                                                                                                                        
|31.2 |  |  |  | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                    
|     |  |  |  |                                                                                                                                                                        
|32   |  |  |  | Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. §1350, as Adopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002.



Items 3 and 4 of Part II of the report are not
applicable and have been omitted.




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SIGNATURES




In accordance with the requirements of the Securities
Exchange Act of 1934, as amended, the Registrant caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.




ARTIFICIAL LIFE,
INC.




Date: August 14, 2007


|By: |  | /s/ Eberhard Schoneburg
|--- |  | -----------------------

|Name:  Title: |  | Eberhard
SchoneburgChief Executive Officer and Principal Financial
Officer
|------------- |  | --------------------------------------------------------------------------



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