U.S.
      SECURITIES AND EXCHANGE COMMISSION





Washington,
      D.C. 20549





FORM
      10-QSB





x
            QUARTERLY
                REPORT PURSUANT TO SECTION 13 OR 15(D) OF THESECURITIES
                EXCHANGE ACT OF 1934For
                the quarterly period ended: June 30, 2007o
            TRANSITION
                REPORT PURSUANT TO SECTION 13 OR 15(D) OF THESECURITIES
                EXCHANGE ACT OF 1934





For
      the
      transition period from ________ to _________


Commission
      file number 000-27642




**TRANSDERM
      LABORATORIES CORPORATION**


(Exact
      name of small business issuer


as
      specified in its charter)





Delaware
            
            13-3518345(State
                or other jurisdiction of
              incorporation
                or organization)
            
            (I.R.S.
                Employer Identification No.)





101
      Sinking Springs Lane, Emigsville, PA 17318


(Address
      of principal executive offices)




(717)
      764-1191


(Issuer's
      telephone number)








(Former
      name, former address and former


fiscal
      year, if changed since last report)





APPLICABLE
      ONLY TO ISSUERS INVOLVED IN BANKRUPTCY


PROCEEDINGS
      DURING THE PRECEDING FIVE YEARS





Check
      whether the registrant filed all documents and reports required to be filed
      by
      Section l2, 13 or 15(d) of the Exchange Act after the distribution of securities
      under a plan confirmed by a court. Yes o No o





APPLICABLE
      ONLY TO CORPORATE ISSUERS





State
      the
      number of shares outstanding of each of the issuer's classes of common equity,
      as of the latest practicable date: At June 2, 2008, there were 40,000,000 shares
      of common stock outstanding.





Transitional
      Small Business Disclosure Format (Check one): Yes o No x





**PART
      I — FINANCIAL INFORMATION**





**Item
      1. Financial Statements.**


ITEM
      1.  FINANCIAL
      STATEMENTS





Index
      to
      Consolidated Financial Statements.





PAGEConsolidated
                Balance Sheets June 30, 2007 (Unaudited) and December 31, 2006
                (Audited)
            
            
            F–2Consolidated
                Statements of Operations Six Months Ended June 30, 2007 (Unaudited)
                and
                June 30, 2006 (Unaudited)
            
            
            F–3Consolidated
                Statements of Operations Three Months Ended June 30, 2007 (Unaudited)
                and
                June 30, 2006 (Unaudited)
            
            
            F–4Consolidated
                Cash Flow Statements Six Months Ended June 30, 2007 (Unaudited) and
                June
                30, 2006 (Unaudited)
            
            
            F–5Notes
                to Consolidated Financial Statements (Unaudited)
            
            
            F–6
                to F–15


F–1





TRANSDERM
      LABORATORIES CORPORATION


CONSOLIDATED
      BALANCE SHEETS


(In
      thousands, except per share amounts)





June
                30,
            
            December
                31,2007
            
            2006(Unaudited)ASSETSCURRENT
                ASSETSCash
            
            $
            135
            
            $
            1,145Accounts
                receivable
            
            
            1,065
            
            
            1,885Inventories
            
            
            837
            
            
            937Other
                current assets
            
            
            150
            
            
            20Total
                Current Assets
            
            
            2,187
            
            
            3,987PROPERTY,
                PLANT AND EQUIPMENT, net
            
            
            1,276
            
            
            1,528MORTGAGE
                ESCROW DEPOSIT
            
            
            201
            
            
            201TOTAL
                ASSETS
            
            $
            3,664
            
            $
            5,716LIABILITIES
                AND STOCKHOLDERS’ DEFICIENCYCURRENT
                LIABILITIESAccounts
                payable
            
            $
            85
            
            $
            147Royalties
                payable
            
            
            7,072
            
            
            7,321Other
                liabilities
            
            
            862
            
            
            1,291Current
                portion of long-term debt
            
            
            41
            
            
            40Subordinated
                promissory note
            
            
            7,000
            
            
            7,000Redeemable
                preferred stock
            
            
            8,500
            
            
            8,500Preferred
                stock dividends payable
            
            
            5,937
            
            
            5,639Total
                Current Liabilities
            
            
            29,497
            
            
            29,938LONG-TERM
                LIABILITIESLong-term
                payable - Health-Chem
            
            
            9,879
            
            
            9,231Mortgage
                payable
            
            
            1,299
            
            
            1,318Payable
                to affiliate
            
            
            666
            
            
            666Note
                payable
            
            
            167
            
            
            167Total
                Long-Term Liabilities
            
            
            12,011
            
            
            11,382COMMITMENTSPREFERRED
                STOCK
            
            
            0
            
            
            0STOCKHOLDERS’
                DEFICIENCYCommon
                stock, par value $.001 per share; 60,000,000 shares authorized; 40,000,000
                shares issued and outstanding
            
            
            40
            
            
            40Accumulated
                deficit
            
            
            <37,884
            >
            
            <35,644
            >Total
                Stockholders’ Deficiency
            
            
            <37,844
            >
            
            <35,604
            >TOTAL
                LIABILITIES AND STOCKHOLDERS’ DEFICIENCY
            
            $
            3,664
            
            $
            5,716





See
      Notes
      to Consolidated Financial Statements.


F–2


TRANSDERM
      LABORATORIES CORPORATION


CONSOLIDATED
      STATEMENTS OF OPERATIONS (Unaudited)


(In
      thousands, except per share amounts)





Six
                Months EndedJune
                30,2007
            
            2006REVENUES:Product
                sales
            
            $
            2,254
            
            $
            2,919Product
                development revenue
            
            
            327
            
            
            92Total
                revenues
            
            
            2,581
            
            
            3,011COSTS
                AND EXPENSES:Cost
                of sales – royalties
            
            
            840
            
            
            536Cost
                of sales – other
            
            
            1,909
            
            
            1,695Selling,
                general and administrative
            
            
            1,402
            
            
            880Research
                and development
            
            
            216
            
            
            258LOSS
                FROM OPERATIONS
            
            
            <1,786
            >
            
            <358
            >Interest
                income <expense>, net
            
            
            <564
            >
            
            <511
            >Other
                income <expense>, net
            
            
            408
            
            
            0LOSS
                  FROM OPERATIONS BEFORE TAXES AND
                  MINORITY INTEREST
            
            
            <1,942
            >
            
            <869
            >Minority
                interest
            
            
            0
            
            
            0Income
                tax expense
            
            
            0
            
            
            0NET
                LOSS
            
            
            <1,942
            >
            
            <869
            >PREFERRED
                DIVIDENDS
            
            
            298
            
            
            298NET
                LOSS APPLICABLE TO COMMON STOCKHOLDERS
            
            $
            <2,240
            >
            $
            <1,167
            >NET
                LOSS PER COMMON SHARE (BASIC & DILUTED)
            
            $
            <.06
            >
            $
            <.03
            >Average
                number of common shares outstanding: (in thousands)Basic
            
            
            40,000
            
            
            40,000Diluted
            
            
            40,000
            
            
            40,000





See
      Notes
      to Consolidated Financial Statements.


F–3





TRANSDERM
      LABORATORIES CORPORATION


CONSOLIDATED
      STATEMENTS OF OPERATIONS (Unaudited)


(In
      thousands, except per share amounts)





Three
                Months EndedJune
                30,2007
            
            2006REVENUES:Product
                sales
            
            $
            1,105
            
            $
            1,300Product
                development revenue
            
            
            59
            
            
            87Total
                revenues
            
            
            1,164
            
            
            1,387COSTS
                AND EXPENSES:Cost
                of sales – royalties
            
            
            577
            
            
            238Cost
                of sales – other
            
            
            978
            
            
            781Selling,
                general and administrative
            
            
            953
            
            
            412Research
                and development
            
            
            98
            
            
            138LOSS
                FROM OPERATIONS
            
            
            <1,442
            >
            
            <182
            >Interest
                income <expense>, net
            
            
            <287
            >
            
            <253
            >Other
                income <expense>, net
            
            
            408
            
            
            0LOSS
                  FROM OPERATIONS BEFORE TAXES AND
                  MINORITY INTEREST
            
            
            <1,321
            >
            
            <435
            >Minority
                interest
            
            
            0
            
            
            0Income
                tax expense
            
            
            0
            
            
            0NET
                LOSS
            
            
            <1,321
            >
            
            <435
            >PREFERRED
                DIVIDENDS
            
            
            149
            
            
            149NET
                LOSS APPLICABLE TO COMMON STOCKHOLDERS
            
            $
            <1,470
            >
            $
            <584
            >NET
                LOSS PER COMMON SHARE (BASIC & DILUTED)
            
            $
            <.04
            >
            $
            <.01
            >Average
                number of common shares outstanding: (in thousands)Basic
            
            
            40,000
            
            
            40,000Diluted
            
            
            40,000
            
            
            40,000





See
      Notes
      to Consolidated Financial Statements.


F–4





TRANSDERM
      LABORATORIES CORPORATION


CONSOLIDATED
      CASH FLOW STATEMENTS (Unaudited)


(In
      thousands)





Six
                Months EndedJune
                30,2007
            
            2006**CASH
                FLOWS FROM OPERATING ACTIVITIES:**Net
                loss applicable to common stockholders
            
            $
            <2,240
            >
            $
            <1,167
            >Adjustments
                to reconcile net loss to net cash provided by operating
                activities:Depreciation
                and amortization
            
            
            160
            
            
            158Preferred
                stock dividends payable
            
            
            298
            
            
            298Write-off
                of property, plant and equipment
            
            
            92
            
            
            0Changes
                in:Accounts
                receivable
            
            
            820
            
            
            2,045Inventories
            
            
            100
            
            
            <276
            >Other
                current assets
            
            
            <130
            >
            
            23Mortgage
                escrow deposit
            
            
            0
            
            
            <5
            >Accounts
                payable
            
            
            <62
            >
            
            <125
            >Royalties
                payable
            
            
            <249
            >
            
            537Other
                liabilities
            
            
            <429
            >
            
            <1,266
            >Net
                cash <used for> provided by operating activities
            
            
            <1,640
            >
            
            222**CASH
                FLOWS FROM INVESTING ACTIVITIES:**Additions
                to property, plant and equipment
            
            
            0
            
            
            <105
            >Net
                cash used for investing activities
            
            
            0
            
            
            <105
            >**CASH
                FLOWS FROM FINANCING ACTIVITIES:**Borrowings
                from affiliates, net
            
            
            648
            
            
            267Long-term
                debt payments
            
            
            <18
            >
            
            <24
            >Net
                cash provided by financing activities
            
            
            630
            
            
            243**NET
                <DECREASE> INCREASE IN CASH**
            
            
            <1,010
            >
            
            360Cash
                at beginning of period
            
            
            1,145
            
            
            759Cash
                at end of period
            
            $
            135
            
            $
            1,119Supplemental
                Disclosures of Cash Flow Information:Cash
                paid during the period for:Interest
            
            $
            93
            
            $
            86





See
      Notes
      to Consolidated Financial Statements.


F–5


TRANSDERM
      LABORATORIES CORPORATION


NOTES
      TO
      CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)





1. Basis
      of Presentation





Transderm
      Laboratories Corporation (“Transderm”) engages in the development, manufacture
      and marketing of transdermal drug delivery systems. Transderm operates
      principally through its 98.5% owned subsidiary, Hercon Laboratories Corporation
      (“Hercon”, which together with Transderm is referred to collectively as the
“Company”). Transderm is 90% owned by Health-Chem Corporation (“Health-Chem” and
      together with Transderm, Hercon and Health-Chem’s other subsidiaries, the
“Group”).





As
      of
      June 30, 2007, the Company’s sole product and continuing source of revenues were
      transdermal nitroglycerin patches (the “Hercon products”) used for transdermal
      relief of the vascular and cardiovascular symptoms related to angina pectoris
      which it has manufactured and sold pursuant to the terms of a license agreement
      between Key Pharmaceuticals, Inc. (“Key”) and Hercon entered into in March 2000
      (the “Key License”). On
      April
      26, 2007, Key terminated the Key License for failure to pay royalties and sued
      the Company for accrued royalties owed. In May 2007, the Company and Key entered
      into a Final
      Judgment On Consent which, among other things, granted the Company a limited
      right to manufacture and sell the Hercon Products through August 16, 2007 and
      outlined a financial settlement between Key and Hercon as to royalties owed
      under the License Agreement and that
      contemplated that the Company would discontinue manufacturing and selling the
      Hercon Products after August 16, 2007. Over the ensuing months, Key periodically
      extended the time during which the Company could manufacture and sell the Hercon
      Products under the Key License. On April 21, 2008, the Company and Key entered
      into a Settlement Agreement that
      entitles the Company to manufacture and sell transdermal products under the
      Key
      License indefinitely, subject to the Company’s continued satisfaction of the
      terms of such agreement, which consists principally of the payment of an
      aggregate of $425,000
      in seven equal installments of $60,714.29, the first of which is due and owing
      on or before July 21, 2008 and the remaining installments to be due and owing
      on
      or before October 21, 2008, January 21, 2009, April 21, 2009, July 21, 2009,
      October 21, 2009 and December 21, 2009. For all
      periods presented in this report, 100% of the net product sales reported as
      revenue in the consolidated statements of operations was generated by products
      sold under the Key License and any loss of or inability to manufacture and
      sell
      products under the Key
      License would have a material negative impact on our operations.





The
      Company also generates revenues from research and development activities it
      undertakes for client companies and will be the contract manufacturer of these
      products if United States Food and Drug Administration (“FDA”) approval is
      obtained.





The
      accompanying unaudited consolidated financial statements include the accounts
      of
      Transderm and Hercon. As of December 31, 2004, the consolidated financial
      statements also include a Variable Interest Entity (“VIE”), York Realty Leasing
      LLC, of which Transderm is the primary beneficiary as further described in
      Note
      7. All significant intercompany accounts and transactions, including those
      involving the VIE, have been eliminated in consolidation. The Company is a
      90%
      owned subsidiary of Health-Chem Corporation (“Health-Chem”).


F–6


The
      accompanying unaudited consolidated financial statements have been prepared
      in
      accordance with generally accepted accounting principles in the United States
      of
      America for interim financial information. Accordingly, they do not include
      all
      of the information and footnotes required by generally accepted accounting
      principles in the United States for full year financial statements. In the
      opinion of management, all adjustments considered necessary for a fair
      presentation have been included and are of a normal, recurring nature. Operating
      results for the six month period ended June 30, 2007 are not necessarily
      indicative of the results that may be expected for the year ended December
      31,
      2007. These consolidated financial statements should be read in conjunction
      with
      the consolidated financial statements and notes thereto that are included in
      the
      Company’s Annual Report on Form 10-KSB for the fiscal period ended December 31,
      2006.





2. Cash
      Management





The
      Company participates in Health-Chem’s cash management practice, wherein all cash
      requirements are borrowed from Health-Chem and all excess cash is advanced
      to
      Health-Chem. The intercompany balance was $9,879,000 at June 30, 2007. Interest
      is charged based upon the average outstanding intercompany balance and interest
      rate on Health-Chem’s debt. The average interest rate charged was 10.375% during
      both the six months ended June 30, 2007 and 2006.





3. Expenses
      Charged by Health-Chem





Pursuant
      to a Corporate Services Agreement between the Company and Health-Chem,
      Health-Chem pays for certain administrative expenses on behalf of the Company
      for which Health-Chem is reimbursed. These expenses are comprised primarily
      of
      an allocation of corporate services including executive, professional, legal
      and
      accounting. The allocation of these costs, approximately $428,000 and $176,000
      for the six months ended June 30, 2007 and 2006, respectively, reflect
      Health-Chem’s estimate of their cost for these services based upon a method
      (allocation based upon the Company’s net sales as a percentage of Health-Chem’s
      consolidated net sales) which is considered by the Company to be reasonable.
      The
      Company estimates that these expenses, on a stand-alone basis, would not have
      been materially different from the costs allocated.





4. Per
      Share Information





Basic
      and
      diluted earnings per share are computed based upon the weighted average number
      of common shares outstanding during each period after adjustment for any
      dilutive effect of the Company's stock options.





5. Stock
      Options





In
      accordance with SFAS No. 123, *Accounting
      for Stock-Based Compensation* and SFAS
      No. 148, *Accounting
      for Stock-Based Compensation-Transition and Disclosure* ,
      the
      Company accounts for its stock option plans under the intrinsic-value-based
      method as defined in APB No. 25, *Accounting
      for Stock Issued to Employees* .
      The
      following table illustrates the effect on net earnings and earnings per share
      if
      the Company had applied the fair value recognition provisions of SFAS No. 123
      to
      stock-based employee compensation (in thousands, except per share
      amounts):


F–7





Six
                Months Ended
            
            Three
                Months EndedJune
                30,
            
            June
                30,2007
            
            2006
            
            2007
            
            2006Net
                loss applicable to common stockholders, as reported:
            
            $
            <2,240
            >
            $
            <1,167
            >
            $
            <1,470
            >
            $
            <584
            >Add:
                Stock-based compensation expense recognized under the intrinsic value
                method
            
            
            0
            
            
            0
            
            
            0
            
            
            0Deduct:
                Stock-based compensation expense determined under fair value based
                method
            
            
            0
            
            
            0
            
            
            0
            
            
            0Pro
                forma net loss applicable to common stockholders
            
            $
            <2,240
            >
            $
            <1,167
            >
            $
            <1,470
            >
            $
            <584
            >Net
                loss per common share:Basic
                – as reported
            
            $
            <.06
            >
            $
            <.03
            >
            $
            <.04
            >
            $
            <.01
            >Basic
                – pro forma
            
            $
            <.06
            >
            $
            <.03
            >
            $
            <.04
            >
            $
            <.01
            >Diluted
                – as reported
            
            $
            <.06
            >
            $
            <.03
            >
            $
            <.04
            >
            $
            <.01
            >Diluted
                – pro forma
            
            $
            <.06
            >
            $
            <.03
            >
            $
            <.04
            >
            $
            <.01
            >





6. Going
      Concern





As
      of
      June 30, 2007, the Company’s financial and operating condition raised
      significant doubt about its ability to continue as a going concern. At said
      date, the Company had
      aggregate debts and liabilities of $41,508,000
      and had a working capital deficiency of $27,310,000. These debts and liabilities
      include $7,072,000 of royalties due under the Key License and $31,473,000 to
      Health-Chem. T he
      Company has sustained operating losses in each of the last three years.





In
      addition, at June 30, 2007 Health-Chem owes $11,779,000 under outstanding
      debentures which became due in 1999 and under which it currently is in default,
      which exerts pressure on the financial condition of the Group as a
      whole.





The
      Group
      has been able to continue to operate over the last several years because it
      has
      not made any payments under the debentures since 1999 and because it did not
      make any royalty payments under the Key License since its inception in March
      2000 until May 2007. Apart from these obligations, the Group has been paying
      its
      other current debts and liabilities as they become due from cash flow generated
      from operations. The Group does not have cash on hand to repay the amount due
      under the debentures.





The
      Company’s financial condition has prevented it from securing financing or
      obtaining loans from which it could repay all or a portion of its
      liabilities .
      Moreover, as previously noted, as of June 30, 2007, the Company’s sole product
      and continuing source of revenues was a transdermal nitroglycerin patch and
      the
      Company does not have any business prospects for the foreseeable future. If
      the
      Company does not abide by the terms of the Settlement Agreement, including
      its
      obligations to make quarterly cash payments going forward, the Company could
      lose its right to manufacture and sell transdermal products under the Key
      License (until the expiration of the patent on February 16, 2010), and will
      have
      no other source of revenue. In
      light
      of the uncertainty relating to the Company’s ability to continue operating
      without the benefit of a license to utilize Key’s technology in its transdermal
      patch products, Transderm
      and/or Hercon may have to seek protection under federal bankruptcy laws in
      which
      case it would not be able to continue as a going concern.


F–8





Management
      has not developed a firm plan for addressing the conditions that give rise
      to
      its ability to continue operating as a going concern, but at a minimum
      will:





·
            seek
                to develop other business opportunities for the Company, in the
                pharmaceutical industry or otherwise;


·
            investigate
                the possibility of selling Hercon Laboratories Corporation;


·
            seek
                to raise working capital through borrowing or through issuing equity;
                and


·
            evaluate
                new directions for the Company.





Management
      will continue to develop and modify its plans to adapt to business and financial
      conditions as they evolve. However, management can offer no assurance that
      it
      will be successful in developing a plan which permits the Company to continue
      as
      a going concern. The accompanying consolidated financial statements do not
      include any adjustments that might result from the outcome of these
      uncertainties.





7. Property,
      Plant and Equipment





In
      December 2004, the Company sold its real property, buildings, improvements
      and
      equipment located in Emigsville, Pennsylvania to York Realty Leasing LLC, an
      affiliated company, for a sale price of $1.9 million. Concurrent with the sale,
      the Company entered into a 15-year net lease with York Realty Leasing LLC for
      the property expiring in December 2019, which can be extended by the Company
      for
      an additional five years. The agreement provides for a Company repurchase option
      at a price of $1,995,000. The base annual lease cost during the initial 15
      year
      term is $212,400, and the base lease expense for the remaining term of the
      lease
      is as follows: 2007 - $212,400; 2008 - $212,400; 2009 - $212,400; 2010 -
      $212,400; 2011 - $212,400; and 2012 and thereafter - $1,699,200. In December
      2002, the Company received an appraisal for the real property, including the
      structures and appurtenances, which appraised the market value of the property
      at $1,850,000. The proceeds from the sale were used to satisfy a $1.6 million
      first mortgage associated with the property and to substantially pay off a
      $367,500 second mortgage, a portion of which was held by related parties. Andy
      Yurowitz, the Company’s Chairman of the Board, President, Chief Executive
      Officer and a member of the Board of Directors, is a 50% owner of York Realty
      Leasing LLC. As a result of Financial Interpretation 46(R), effective as of
      December 31, 2004, the Company’s consolidated balance sheet includes the assets
      and liabilities of York Realty Leasing LLC. In December 2005, York Realty
      Leasing LLC obtained a $1.4 million mortgage on this property with a financial
      institution.





I n
      September 2007, subsequent to the close of the period covered by this report,
      Andy Yurowitz sold his 50% interest in York Realty Leasing LLC, as
      more
      fully described in Note 12 - Subsequent Events.





8. Settlement
      Liability: Royalties





During
      March 2006, the Company received notice from Key that it was in default under
      the License Agreement for failing to make royalty payments due. The License
      Agreement includes a provision affording Key the right to terminate the License
      Agreement if a breach of the agreement was continuing for thirty days after
      the
      receipt from Key of notice of and a demand to cure the breach. Hercon did not
      have the financial resources to pay the accrued royalties within the prescribed
      time and, on April 26, 2007, Key terminated the License and Hercon’s right to
      manufacture and sell products utilizing its technology.





On
      April
      27, 2007, Key filed a complaint against Hercon in the United States District
      Court, District of New Jersey (the “Court”) demanding, among other things, that
      Hercon pay accrued royalties under the License Agreement (the
“Complaint”).


F–9





On
      May
      23, 2007, the Court entered a Final Judgment On Consent between Key and Hercon
      (the “Consent Judgment”) which set aside the complaint filed by Key against the
      Company on April 26, 2007 (the “Complaint”) and served as the basis for settling
      the amount due by Hercon to Key under the License Agreement and governed the
      relationship between the parties thereafter. The Consent Judgment was predicated
      on Hercon’s intention to wind down and cease business operations by August 16,
      2007 while remaining operational until such date in order to maximize the value
      of its assets and inventory for the benefit of its creditors. Under the Consent
      Judgment, the parties agreed, among other things, that (i) Hercon owed Key
      accrued royalties in the amount of $8,000,000 (the “Judgment Amount”); (ii)
      Hercon would have a limited right to operate under the License Agreement until
      August 16, 2007, provided that Hercon paid to Key the sum of $500,000 upon
      the
      execution of the Consent Judgment, which sum Hercon paid as ordered on May
      23,
      2007, which, under the Consent Judgment, reduced the Judgment Amount to $7
      million; and (iii) any additional payments made to Key to satisfy the Consent
      Judgment would reduce the Judgment Amount by twice as much. Hercon’s payment of
      $500,000 pursuant to the Consent Judgment resulted in a $1,000,000 reduction
      in
      the Judgment Amount, thus generating a forgiveness of debt of $500,000. Hercon
      has recorded this $500,000 forgiveness of debt as other income. The $7 million
      Judgment Amount is included in the June 30, 2007 royalties payable balance
      of
      $7,072,000. The Consent Judgment increased the amount due by $332,000 to a
      total
      of $8,000,000.





On
      several occasions subsequent to June 30, 2007, Key periodically extended the
      time during which the Company could manufacture and sell the Hercon Products
      under the Key License. On April 21, 2008, the Company and Key entered into
      a
      Settlement Agreement that
      entitles the Company to manufacture and sell transdermal products under the
      Key
      License indefinitely, subject to the Company’s continued satisfaction of the
      terms of such agreement .
      This
      Settlement Agreement is more
      fully described in Note 12 - Subsequent Events .





9. Commitments
      & Contingencies





Approximately
      forty-five percent of the Company’s employees are covered by a collective
      bargaining agreement with a local unit of the Retail Wholesale and Department
      Store Union, AFL-CIO (“R.W.D.S.U.”). The R.W.D.S.U. agreement is for a three
      year period ending December 10, 2007. The contract is subject to annual renewal
      thereafter and acknowledges that the R.W.D.S.U. is the exclusive bargaining
      agent for the Company’s regular production employees, excluding all other
      employees including but not limited to supervisors, foremen, clerical employees,
      time-keepers, watchmen, guards, maintenance personnel and part-time
      employees.





Certain
      raw materials and components used in the manufacture of our products are
      available from limited sources, and, in some cases, a single source. Generally,
      regulatory authorities must approve raw material sources for transdermal
      products. Without adequate approved supplies of raw materials or packaging
      supplies, our manufacturing operations could be interrupted until another
      supplier is identified, our products approved and trading terms with it
      negotiated. We may not be able to identify an alternative supplier and any
      supplier that we do identify may not be able to obtain the requisite regulatory
      approvals in a timely manner, or at all. Furthermore, we may not be able to
      negotiate favorable terms with an alternative supplier. Any disruptions in
      our
      manufacturing operations from the loss of an approved supplier may cause us
      to
      incur increased costs and lose revenues and may have an adverse effect on our
      relationships with our partners and customers, any of which could have adverse
      effects on our business and results of operations. Our business also faces
      the
      risk that third party suppliers may supply us with raw materials that do not
      meet required specifications, which, if undetected by us, could cause our
      products to test out of specification and require us to recall the affected
      product.


F–10





We
      market
      all of our products through a single marketing representative. If we were to
      lose the services of such marketing agent for any reason or said entity does
      not
      maintain a steady demand for our product, and we are unable to identify an
      adequate replacement, our business, results of operations and financial
      condition would be materially adversely affected.





We
      rely
      on insurance to protect us from many business risks, including product
      liability, business interruption, property and casualty loss and employment
      practices liability. The cost of insurance has risen significantly in recent
      years. In response, we may increase deductibles and/or decrease certain
      coverages to mitigate these costs. There can be no assurance that the insurance
      that we maintain and intend to maintain will be adequate, or that the cost
      of
      insurance and limitations in coverage will not adversely affect our business,
      financial position or results of operations. Furthermore, it is possible that,
      in some cases, coverage may not be available at any price.





10. Litigation





On
      January 4, 2008, subsequent
      to the close of the period covered by this report, Transderm
      filed a Complaint for Declaratory Relief, Breach of Contract and Monetary
      Damages against York Realty Leasing LLC , as
      more
      fully described in Note 12 – Subsequent
      Events.





On
      January 24, 2008, subsequent
      to the close of the period covered by this report, the
      Company filed a Motion to Vacate Consent Judgment seeking
      to vacate the Consent Judgment because, among other things, the Consent Judgment
      was not properly authorized or consented to by the Company. On January 25,
      2008,
      also subsequent
      to the close of the period covered by this report, the Company
      filed an
      Order
      to Show Cause Seeking Temporary Restraints u nder
      which it sought injunctive relief to prevent Key from enforcing the Consent
      Judgment based upon the likelihood that the Company would prevail on the Motion
      to Vacate the Consent Judgment. See Note 12
      - Subsequent
      Events for a further discussion of these actions.





On
      February 25, 2008, subsequent to the
      close of the period covered by this report, Andy
      Yurowitz, a director and the former chief executive of Health-Chem and each
      of
      its subsidiaries, served each of Health-Chem and Hercon with a summons without
      complaint which was filed in The Supreme Court of the State of New York, Kings
      County on February 7, 2008 , as
      more
      fully described in Note 12 - Subsequent
      Events.





11. Other
      Income <Expense>, Net





Other
      income <expense>, net for the six months ended June 30, 2007 was $408,000.
      This amount consists of income of $500,000 related to the execution of the
      Consent Judgment, as more fully described in Note 8 - Settlement Liability:
      Royalties, partially offset by a loss of $92,000 related to the write-off of
      uncompleted construction.


F–11





12. Subsequent
      Events





On
      July
      23, 2007, Key and Hercon entered into a letter agreement whereby Key granted
      Hercon’s request to extend its ability to operate under the Consent Judgment.
      Key has agreed to extend Hercon’s limited right to operate under the Consent
      Judgment through November 16, 2007 subject to Hercon’s payment of $150,000 in
      three monthly installments of $50,000 in immediately available funds to be
      received by Key by August 18, 2007, September 15, 2007 and October 13, 2007,
      respectively. Such payments are to be deemed additional consideration and shall
      not affect Hercon’s obligation to comply with all of its obligations under the
      Consent Judgment, which remains in full force and effect. The payments required
      by the letter agreement shall reduce the principle due under the Consent
      Judgment by the amount of the actual payment. Additional payments against
      principle made by Hercon and received by Key by November 16, 2007, excluding
      the
      $150,000 due under the letter agreement and any royalties that are otherwise
      due
      pursuant to the limited license granted under the Consent Judgment, shall reduce
      the Consent Judgment by twice the amount of such additional payment. Hercon
      has
      made the required August 18, 2007, September 15, 2007 and October 13, 2007
      installment payments. On November 8, 2007, prior to its termination by the
      Company, McTevia & Associates entered into a letter of intent with a third
      party that describes a transaction in which such party would acquire the Consent
      Judgment from Key for the purposes of acquiring the assets of Hercon and its
      existing business as a going concern through a consensual foreclosure under
      the
      Consent Judgment (the “Letter of Intent”). The transactions contemplated by the
      Letter of Intent were subject to numerous conditions, including the third
      party’s ability to enter into agreements and secure the required regulatory
      approvals that would allow it seamlessly to continue the operation of Hercon’s
      business at its current facilities. By letter dated December 3, 2007, the
      Company notified the third party that McTevia did not have the power or
      authority to enter into the Letter of Intent and that such document is not
      a
      binding and valid agreement of the Company or of any of its constituent
      corporations. On
      November 21, 2007, Key advised the Company that it would continue to forebear
      from enforcing its rights under the Consent Judgment solely to permit a third
      party to complete due diligence relating to the Company in connection with
      such
      party’s proposed purchase of the Consent Judgment from Key. By letter dated
      December 28, 2007, the Company (i) requested that Key agree to forebear from
      executing on the Consent Judgment retroactive from November 16, 2007 and for
      an
      additional 90 days to commence on the date that such extension was to have
      been
      granted, if at all, and (ii) advised Key that it would submit a proposal
      to settle or satisfy the Consent Judgment in an economically feasible manner
      and
      continue operations .
      By
      letter dated January 18, 2008, representatives of Key advised Hercon that it
      had
      rejected Hercon’s request for an extension of the limited
      right to operate under the Consent Judgment
      and that Hercon was required to immediately cease manufacturing and selling
      transdermal nitroglycerin patch products which were the subject of the License
      Agreement. The Company discontinued selling the transdermal nitroglycerin patch
      products as of the close of business on January 18, 2008 and discontinued
      manufacturing the transdermal nitroglycerin patch products as of the close
      of
      business on January 21, 2008. On January 24, 2008, the Company filed a Motion
      to
      Vacate Consent Judgment seeking
      to vacate the Consent Judgment because, among other things, the Consent Judgment
      was not properly authorized or consented to by the Company. On January 25,
      2008,
      the Company filed an
      Order
      to Show Cause Seeking Temporary Restraints u nder
      which it sought injunctive relief to prevent Key from enforcing the Consent
      Judgment based upon the likelihood that the Company would prevail on the Motion
      to Vacate the Consent Judgment. On
      January 25, 2008, counsel for Key informally notified the Company that it would
      not seek sanctions against the Company for any resumption of operations pending
      resolution of the Company’s motion for interim relief, and the Company
      immediately resumed manufacturing and selling transdermal patches. On February
      12, 2008, the Company and Key entered into a letter agreement whereby Key agreed
      to extend the Company’s limited right to operate under the Consent Judgment
      through March 10, 2008 in exchange for the Company’s immediate withdrawal, with
      prejudice, of the Motion to Vacate Consent Judgment and Order to Show Cause
      Seeking Temporary Restraints and the Company’s acknowledgment that the Consent
      Judgment is legally valid and binding upon the Company. In connection with
      the
      negotiation of the February 12, 2008 letter, Key agreed to consider any proposal
      made by the Company to settle or satisfy the Consent Judgment without
      foreclosing its option to accept a third party offer to purchase the Consent
      Judgment. Since the execution of the February 12, 2008 letter agreement, the
      Company had been in negotiations with Key with respect to the Company’s possible
      settlement of the Consent Judgment. On March 11, 2008, Key agreed to extend
      the
      Company’s limited right to operate under the Consent Judgment through March 24,
      2008 to permit the parties to continue negotiating a resolution to Key’s claims,
      including the possible settlement of the Consent Judgment by the Company from
      Key .  On
      April
      21, 2008, the Company and Key entered into a Settlement Agreement that
      entitles the Company to manufacture and sell transdermal products under the
      Key
      License indefinitely, subject to the Company’s continued satisfaction of the
      terms of such agreement. Under
      the
      Settlement Agreement, the Company agreed to pay Key an aggregate of $1,425,000,
      of which the Company paid Key $1,000,000 upon the execution of the Settlement
      Agreement and agreed to pay the balance of $425,000 in seven equal installments
      of $60,714.29, the first of which is due and owing on or before July 21, 2008
      and the remaining installments to be due and owing on or before October 21,
      2008, January 21, 2009, April 21, 2009, July 21, 2009, October 21, 2009 and
      December 21, 2009. The amount paid and payable under the Settlement Agreement
      was allocated as follows: $650,000 was applied to the purchase of the Consent
      Judgment; $350,000 was applied to the satisfaction of all royalties due for
      the
      period October 1, 2007 through the execution of the Settlement Agreement; and
      payments aggregating $425,000 will be applied to the satisfaction of all
      royalties that may become due under the License Agreement from the date of
      the
      Settlement Agreement through the termination of the License
      Agreement.


F–12





The
      Settlement Agreement further provides that:





·
            The
                License Agreement will continue in effect until it expires on February
                16,
                2010 as modified by the Settlement Agreement so that all royalties
                which
                become due after April 21, 2007 under the License Agreement would
                be
                satisfied by the additional payments to be made in the future totaling
                $425,000, as described above, and that the Company would no longer
                be
                required to account to Key for royalties due after April 21,
                2008;





·
            The
                Consent Judgment, including Key’s right to receive $8,000,000 in past due
                royalty payments thereunder, reduced by a credit of $1,150,000 in
                respect
                of payments by Hercon prior to entering into the Settlement Agreement,
                would remain in full force and effect until Key received payment
                of all
                amounts owed under the Settlement
                Agreement;





·
            The
                Company may not assign, delegate or otherwise transfer the License
                Agreement or any of its rights or obligations arising under the License
                Agreement without the prior written consent of
                Key;


F–13


·
            All
                agents, officers, directors and stockholders of all parties to the
                Settlement Agreement were released and all such parties agreed to
                hold the
                others harmless from any and all claims that were or could have been
                asserted in the action brought by Key or in the Action or in relation
                to
                the Consent Judgment or any claims which would or could have been
                asserted
                by or against the parties prior to the execution of the Settlement
                Agreement, provided, however, that if at any time, any of the monies
                paid
                to Key were set aside as a preference under the bankruptcy laws,
                or were
                otherwise ordered to be disgorged from Key in connection with legal
                proceedings that involve the Company or any of its affiliates, Key’s
                release would be deemed null and void, if the Company was unable
                to cure
                the setting aside of the monies paid. In the event the disgorgement
                is not
                cured, avoided, or otherwise recovered in connection with a bankruptcy
                case involving any corporate constituent of the Company, Key would
                have an
                allowed claim in such bankruptcy case for the full amount of the
                Consent
                Judgment less any amounts previously paid to and retained by
                it;





·
            Any
                breaches by the Company of its obligations under the Settlement Agreement
                which were not cured within 25 days after written notice requesting
                cure
                would entitle Key to enforce the Consent Judgment, and any payments
                made
                by the Company to Key pursuant to the Settlement Agreement would
                be
                applied towards the satisfaction of the Consent Judgment;
                and





·
            Andrew
                Levinson and Manfred Mayerfeld, directors of each constituent corporation
                of the Company, agreed that they would be jointly and severally liable
                to
                Key, if within 90 days of the date that Key received the first payment,
                a
                proceeding were commenced against Hercon or Key and Key was thereafter
                ordered in such proceeding, pursuant to a final, non-appealable order,
                to
                return or disgorge all or any portion of the initial $1,000,000 payment
                under the Settlement Agreement. The amount for which either or both
                would
                be liable would be the lesser of the amount ordered to be returned
                or
                disgorged or the amount of that initial payment. Any obligations
                of Mr.
                Levinson or Mr. Mayerfeld would be deemed to be extinguished if within
                90
                days of the date Key received the first payment, it did not receive
                notice
                of an action, potential action or other proceeding requiring it to
                return
                or disgorge such payment or any portion thereof and such action or
                proceeding is not commenced. At a meeting of the Board of Directors
                of the
                Company (the “Board”) held on April 16, 2008, at which the Board approved
                the terms of settlement described above, the Board agreed to defer
                consideration of appropriate collateral to be provided to Messrs.
                Levinson
                and Mayerfeld for their guarantee and appropriate compensation to
                them
                therefor.





If
      the
      Company does not abide by the terms of the Settlement Agreement, including
      its
      obligations to make quarterly cash payments going forward, the Company could
      lose its right to manufacture and sell transdermal products under the Key
      License (until the expiration of the patent on February 16, 2010), and will
      have
      no other source of revenue.





The
      note
      payable of $167,000 at June 30, 2007 relates to the purchase of certain fixed
      assets. The purchase of these fixed assets was pursuant to a development,
      manufacturing and supply agreement that Hercon entered into with a client
      company. Payment terms of the note are contingent upon certain performance
      criteria under the agreement. One such performance criteria applicable to the
      client company may result in the note being forgiven. On August 20, 2007, the
      client company and Hercon entered into a letter amendment to the development,
      manufacturing and supply agreement whereby the $167,000 note was immediately
      forgiven.


F–14





On
      September 25, 2007, Andy Yurowitz sold his 50% interest in York Realty Leasing
      LLC at cost to William Robbins, an unrelated third party, making Mr. Robbins
      the
      100% owner of York Realty Leasing LLC. Prior to this sale, Mr. Robbins had
      owned
      the remaining 50% of York Realty Leasing LLC.





On
      December 11, 2007, the Company entered into a new collective bargaining
      agreement with the R.W.D.S.U. The new agreement is for a three year period
      ending December 10, 2010 and is on substantially the same terms as the expiring
      agreement.





On
      January 4, 2008, Transderm filed a Complaint for Declaratory Relief, Breach
      of
      Contract and Monetary Damages against York Realty Leasing LLC (“York”) in the
      Court of Common Pleas of York County, Pennsylvania (the “Complaint”). The action
      arises out of York’s various correspondences to Transderm alleging that it is in
      breach of and default under the lease between the parties dated December 7,
      2004
      for failure to pay rent as provided in the lease. In the Complaint, the Company
      is seeking, among other things, a declaratory judgment to the effect that the
      lease is in full force and effect, that the Company is not in default under
      the
      lease and that Transderm is owed an amount on account with York which York
      has
      refused to credit to Transderm. On January 23, 2008, the Company filed an
      amended complaint in this matter seeking to clarify certain facts but otherwise
      requesting the same relief. York did not file a timely answer to the Company’s
      complaint and, upon further notice to York, the Court entered a default judgment
      in favor of the Company on February 26, 2008. A hearing in this matter was
      held
      on April 25, 2008 whereby the Court ordered that the lease is in full force
      and
      effect, that the Company is not in default under the lease and that Transderm
      is
      entitled to a rental credit of $57,200.





On
      February 25, 2008, Andy Yurowitz, a director and the former chief executive
      of
      Health-Chem and each of its subsidiaries, served each of Health-Chem and Hercon
      with a summons without complaint which was filed in The Supreme Court of the
      State of New York, Kings County on February 7, 2008. The summons also indicated
      that Andrew Levinson and Manfred Mayerfeld, members of the Boards of Health-Chem
      and Hercon, will be named in this action. The summons requires that each party
      file a notice of appearance in the action within a specified time after being
      served. The summons states that the nature of the action and the relief sought
      is defendant’s breach of contract and failure to pay wages. Until the Company is
      served with and reviews the complaint with counsel, it is unable to comment
      upon
      the allegations or any potential defenses.


F–15




**Item
      2. Management’s Discussion and Analysis or Plan of
      Operation.**




This
      Management’s Discussion or Plan of Operation section contains a number of
      forward-looking statements, all of which are based on current expectations.
      Actual results may differ materially from the anticipated results discussed
      herein.





The
      Company





Transderm
      Laboratories Corporation (“Transderm”) manufactures nitroglycerin transdermal
      patches and conducts research and development activities for third parties
      on a
      contract basis. Transderm conducts the majority of its business and all of
      its
      manufacturing operations through Hercon Laboratories Corporation (“Hercon”), in
      which it owns 98.5% of the outstanding shares of capital stock (Transderm and
      Hercon may sometimes be referred to collectively as “we”, “us”, or the
“Company”). Transderm
      is a 90%-owned subsidiary of Health-Chem Corporation ("Health-Chem" which,
      together with Transderm, Hercon and Health-Chem’s other subsidiaries, may be
      referred to as the “Group”).





Until
      April 25, 2007, the Company had manufactured and sold drug-in-adhesive
      transdermal nitroglycerin patch products (the “Hercon Products”) under the terms
      of a license agreement between Key Pharmaceuticals, Inc., a
      division of Schering Plough (“Key”),
      and Hercon dated March 13, 2000 (the “License Agreement”). By letter dated April
      26, 2007, Key notified Hercon that it terminated the License Agreement based
      on
      Hercon’s failure to pay royalties on sales of the Hercon Products or otherwise
      account to Key for sales of the Hercon Products. On April 27, 2007, Key served
      Hercon with a complaint filed in the United States District Court, District
      of
      New Jersey (the “Court”), demanding payment of all royalties due under the
      License Agreement (the “Action”). Hercon did not have the means to repay the
      accrued royalties under the License Agreement. The products covered by the
      Key
      License represented the Company’s only products and, upon termination of the
      License Agreement, left it without any other meaningful source of continuing
      revenue.





On
      May
      23, 2007, Key, on the one hand, and Hercon and McTevia & Associates, LLC, as
      the purported trustee of the Company’s assets (“Trustee”) pursuant to a
      so-called trust mortgage under
      which the Company purportedly granted to McTevia & Associates a security
      interest in all of its real and personal property, on the
      other hand, executed a Final Judgment On Consent wherein, among other things,
      (i) the parties stipulated that the amount of royalties owed to Key under the
      License Agreement exceeded $8 million (though the parties settled on that
      amount), (ii) the parties outlined a financial settlement with respect to
      royalties owed to Key, (iii) the Company was required to pay Key the sum of $500,000
      (for which it would be credited the amount of $1 million and which would reduce
      the aggregate royalties owed to Key by $1 million to $7 million) and (iv)
      Key granted the Company a limited right under the License Agreement to
      manufacture and sell the Hercon Products through August 16, 2007, as more fully
      described in Transderm’s quarterly report on Form 10-Q for the three months
      ended March 31, 2007 (the “Consent Judgment”). The
      Consent Judgment was predicated on Hercon’s intention to wind down and cease
      business operations by August 16, 2007 while remaining operational until such
      date in order to maximize the value of its assets and inventory for the benefit
      of its creditors.





Over
      the
      ensuing months, Key periodically extended the Company’s limited right to
      manufacture and sell the Hercon Products under the Consent Judgment, in one
      case
      requiring the payment of $150,000 to extend such right to November 16,
      2007.





On
      November 12, 2007, the Group terminated the Trustee and began to negotiate
      directly with Key.


2


On
      April
      21, 2008, after many months of negotiations, Key and Hercon entered into a
      Settlement Agreement (“Settlement Agreement”) with respect to settling
      outstanding controversies between the parties under the terms of the Consent
      Judgment, which will allow the Company to continue manufacturing and selling
      the
      Hercon Products indefinitely, subject to satisfying certain continuing financial
      obligations.





Under
      the
      Settlement Agreement, a copy
      of which was annexed as an exhibit to Transderm’s Current Report on Form 8-K
      filed with the SEC on April 29, 2008, the
      parties agreed that, among other material terms:





·
            The
                Company would pay to Key an aggregate of $1,425,000, of which the
                Company
                paid Key $1,000,000 upon the execution of the Settlement Agreement
                and
                agreed to pay the balance of $425,000 in seven equal installments
                of
                $60,714.29, payable as follows: by July 21, 2008, October 21, 2008,
                January 21, 2009, April 21, 2009, July 21, 2009, October 21, 2009
                and
                December 21, 2009. The payments aggregating $425,000 will be applied
                to
                the satisfaction of all royalties that may become due under the License
                Agreement from the date of the Settlement Agreement through the
                termination of the License
                Agreement.





·
            The
                License Agreement will continue in effect until it expires on February
                16,
                2010 as modified by the Settlement Agreement, in that all future
                royalties
                under the License Agreement would be satisfied by the additional
                payments
                to be made in the future totaling $425,000, as described above, and
                that
                the Company would no longer be required to account to Key for royalties
                going forward;





·
            The
                Consent Judgment, including Key’s right to receive past due royalty
                payments thereunder (aggregating $6,850,000 as of the date of the
                Settlement Agreement), would remain in full force and effect until
                Key
                received payment of all amounts owed under the Settlement
                Agreement;





·
            All
                parties to the Settlement Agreement and their respective affiliates
                were
                released from all claims that were or could have been asserted in
                the
                action brought by Key, that were subsumed within Key’s lawsuit against
                Hercon or in relation to the Consent Judgment or otherwise, except
                that if
                Key was required to return any of the monies paid to it under a bankruptcy
                or other disgorgement proceeding, which, if not cured by the Company,
                then
                Key’s release would be deemed void and Key would have a right to pursue
                the full amount due to it under the Consent Judgment, as well as
                any other
                course of action it would be entitled to
                take;





·
            The
                Company would have the right to cure any breach of the Settlement
                Agreement within 25 days after written notice requesting a
                cure.





·
            Andrew
                Levinson and Manfred Mayerfeld, directors of each of the constituent
                corporations of the Company, agreed that they would be jointly and
                severally liable to Key, if within 90 days of the date that Key received
                the first payment, a proceeding were commenced against Hercon or
                Key and
                Key was thereafter ordered in such proceeding, pursuant to a final,
                non-appealable order, to return or disgorge all or any portion of
                the
                initial $1,000,000 payment under the Settlement Agreement. The amount
                for
                which either or both would be liable would be the lesser of the amount
                ordered to be returned or disgorged or the amount of that initial
                payment.
                Any obligations of Mr. Levinson or Mr. Mayerfeld would be deemed
                to be
                extinguished if within 90 days of the date Key received the first
                payment,
                it did not receive notice of an action, potential action or other
                proceeding requiring it to return or disgorge such payment or any
                portion
                thereof and such action or proceeding is not commenced. At a meeting
                of
                the Board of Directors of the Company (the “Board”) held on April 16,
                2008, at which the Board approved the terms of settlement described
                above,
                the Board agreed to defer consideration of appropriate collateral
                to be
                provided to Messrs. Levinson and Mayerfeld for their guarantee and
                appropriate compensation to them
                therefor.


3


In
      order
      to satisfy the initial payment to Key under the Settlement Agreement, Transderm
      borrowed $1 million from its parent, Health-Chem Corporation, which owns 90%
      of
      Transderm’s outstanding common stock.





The
      foregoing description of the contents of the Settlement Agreement is qualified
      by the full text of the agreement on file with the SEC.





As
      of
      June 30, 2007, the Company had total liabilities of approximately $41.5 million,
      which includes (i) $31.4 million owed to Health-Chem, (ii) $7.1 million of
      royalties owed to Key under
      the Key License and (iii) other current trade payables and miscellaneous
      liabilities aggregating $3.0 million. Also, at June 30, 2007, the Company had
      a
      working capital deficiency of $27.3 million and cash and other current assets
      of
      $2.2 million. The notes to our audited consolidated financial statements for
      the
      year ended December 31, 2006 and the auditor’s report accompanying said
      financial statements indicate that these liabilities and the Company’s working
      capital deficiency raise substantial doubt about our ability to continue as
      a
      going concern.





Results
      of Operations .





Six
      months ended June 30, 2007 versus the six months ended June 30,
      2006





We
      incurred a net loss during the six months ended June 30, 2007 of $2,240,000
      as
      compared to a net loss of $1,167,000 for the same period in 2006. The increase
      in net loss was attributable primarily to a decline in product sales and to
      additional selling, general and administrative expenses, as described in the
      ensuing paragraphs.





For
      the
      six months ended June 30, 2007, product sales decreased by approximately 23%
      from the corresponding 2006 period from $2,919,000 to $2,254,000, which, in
      each
      case, consisted exclusively of sales of transdermal nitroglycerin patches.
      Management attributes the decrease to a 61% decline in product sales to one
      of
      our largest customers and at a lower average net selling price.





Product
      development revenue for the six months ended June 30, 2007 was $327,000,
      consisting of revenues generated from research and development projects we
      are
      undertaking for three customers. Product development revenue for the same period
      in 2006 was $92,000, consisting of revenues from two research and development
      projects. The $235,000 increase is due to the timing of milestone payments
      received associated with the various projects.





Other
      income for the six months ended June 30, 2007 was $408,000. This amount
      consists of income of $500,000 resulting from the forgiveness of debt under
      the
      Consent Judgment, as more fully explained below, which partially is offset
      by a
      loss of $92,000 related to the write-off of uncompleted construction .
      The
      Company did not report any other income for the same period in 2006. The
      $500,000 represents forgiveness of debt in that a $500,000 payment made to
      Key
      under the terms of the Consent Judgment resulted in a reduction of total
      royalties owed to Key under the License Agreement by $1,000,000.





Gross
      profit decreased by $948,000, or 122%, leading to a gross loss of $168,000
      for
      the six months ended June 30, 2007 as compared to a gross profit of $780,000
      for
      the same period in 2006. Gross profit as a percent of total revenues decreased
      from 26% during the six months ended June 30, 2006 to a negative 7% during
      the
      same period in 2007. **** The
      decrease in gross profit was due primarily to decreased sales volumes of lower
      margin products and to additional royalty expense of $332,000 recorded pursuant
      to the Consent Judgment.


4


Selling,
      general and administrative expenses increased by $522,000 for the six months
      ended June 30, 2007 as compared to the corresponding period in 2006. The
      increase is due primarily to increases in professional/consulting fees, legal
      fees and corporate services expenses allocated from Health-Chem of $289,000,
      $136,000 and $252,000, respectively, partially offset by decreases in wages
      and
      commission expense of $98,000 and $40,000, respectively. A significant portion
      of the legal and professional/consulting fees incurred during 2007 were
      attributable to the Key royalty negotiations and establishing the Trust
      Mortgage .





Research
      and development expenses decreased by $42,000 to $216,000 for the six months
      ended June 30, 2007 as compared to the corresponding period in 2006. The
      decrease is due primarily to decreases in wages, lab supplies and repairs and
      maintenance of $13,000, $14,000 and $16,000, respectively.





Net
      interest expense increased by $53,000, or 10%, to $564,000 for the six months
      ended June 30, 2007 as compared to $511,000 for the same period in 2006. The
      increase consists of a $67,000 increase in interest expense, partially offset
      by
      a $14,000 increase in interest income. The interest expense increase is due
      to
      $62,000 of additional interest related to higher average outstanding balances
      on
      borrowings from Health-Chem and to $5,000 of additional interest due to higher
      interest rates associated with the variable rate mortgage. The interest income
      increase is due primarily to the Company adopting an investment policy in April
      2006 whereby all excess cash is automatically invested in interest-bearing
      instruments.





Three
      months ended June 30, 2007 versus the three months ended June 30,
      2006





We
      incurred a net loss during the three months ended June 30, 2007 of $1,470,000
      as
      compared to a net loss of $584,000 for the same period in 2006. The increase
      in
      net loss was attributable primarily to a decline in product sales and to
      additional selling, general and administrative expenses, as described in the
      ensuing paragraphs.





For
      the
      three months ended June 30, 2007, product sales decreased by approximately
      15%
      from the corresponding 2006 period from $1,300,000 to $1,105,000, which, in
      each
      case, consisted exclusively of sales of transdermal nitroglycerin patches.
      Management attributes the decrease to a lower average net selling
      price.





Product
      development revenue for the three months ended June 30, 2007 was $59,000,
      consisting of revenues generated from research and development projects we
      are
      undertaking for one customer. Product development revenue for the same period
      in
      2006 was $87,000, consisting of revenues from two research and development
      projects. The $28,000 decrease is due to the timing of milestone payments
      received associated with the various projects.





Other
      income for the three months ended June 30, 2007 was $408,000. This amount
      consists of income of $500,000 resulting from the forgiveness of debt under
      the
      Consent Judgment, as more fully explained below, which partially is offset
      by a
      loss of $92,000 related to the write-off of uncompleted construction .
      The
      Company did not report any other income for the same period in 2006. The
      $500,000 represents forgiveness of debt in that a $500,000 payment made to
      Key
      under the terms of the Consent Judgment resulted in a reduction of total
      royalties owed to Key under the License Agreement by
      $1,000,000.


5


Gross
      profit decreased by $759,000, or 206%, leading to a gross loss of $391,000
      for
      the three months ended June 30, 2007 as compared to a gross profit of $368,000
      for the same period in 2006. Gross profit as a percent of total revenues
      decreased from 27% during the three months ended June 30, 2006 to a negative
      34%
      during the same period in 2007. **** The
      decrease in gross profit was due primarily to increased sales volumes of lower
      margin products and to additional royalty expense of $332,000 recorded pursuant
      to the Consent Judgment.





Selling,
      general and administrative expenses increased by $541,000 for the three months
      ended June 30, 2007 as compared to the corresponding period in 2006. The
      increase is due primarily to increases in professional/consulting fees, legal
      fees and corporate services expenses allocated from Health-Chem of $291,000,
      $136,000 and $205,000, respectively, partially offset by decreases in wages
      and
      commission expense of $59,000 and $16,000, respectively. A significant portion
      of the legal and professional/consulting fees incurred during 2007 were
      attributable to the Key royalty negotiations and establishing the Trust
      Mortgage .





Research
      and development expenses decreased by $40,000 for the three months ended June
      30, 2007 as compared to the corresponding period in 2006. The decrease is due
      primarily to decreases in wages, repairs and maintenance, lab supplies and
      clinical materials/testing of $3,000, $16,000, $13,000 and $7,000,
      respectively.





Net
      interest expense increased by $34,000, or 13%, to $287,000 for the three months
      ended June 30, 2007 as compared to $253,000 for the same period in 2006. The
      increase consists of a $33,000 increase in interest expense and a $1,000
      decrease in interest income. The interest expense increase is due to $32,000
      of
      additional interest related to higher average outstanding balances on borrowings
      from Health-Chem and to $1,000 of additional interest due to higher interest
      rates associated with the variable rate mortgage. The interest income decrease
      is due primarily to lower interest rates associated with the mortgage escrow
      deposit.





Liquidity
      and Capital Resources .





At
      June
      30, 2007, the Company had total current assets of $2.2 million, including
      $135,000 in cash, and a working capital deficiency of $27.3 million, the
      calculation of which includes current liabilities owed to Health-Chem
      aggregating $21.6 million. Without giving effect to current liabilities in
      favor
      of Health-Chem, we had a working capital deficiency of $5.7 million. Our total
      stockholders’ deficiency was $37.8 million at June 30, 2007, compared to $35.6
      million at December 31, 2006. As of June 30, 2007, we had an accumulated
      deficit of approximately $37,884,000. Our principal sources of liquidity have
      been cash provided by loans from Health-Chem and cash generated by operations.
      Our principal uses of cash have been for working capital, royalty fees and
      the
      payment of various professional, consulting and legal fees.





Our
      working capital deficiency increased by $1,359,000 from December 31, 2006 to
      June 30, 2007 due to a decrease of $1,800,000 in current assets, partially
      offset by a decrease of $441,000 in current liabilities. The current assets
      decrease consists of decreases in cash, accounts receivable and inventory of
      $1,010,000, $820,000 and $100,000, respectively, partially offset by an increase
      in other current assets of $130,000. The current liabilities decrease consists
      primarily of decreases in accounts payable, royalties payable and other
      liabilities of $62,000, $249,000 and $429,000, respectively, partially offset
      by
      an increase in preferred stock dividends payable of $298,000. The decrease
      in
      accounts receivable resulted from a decrease in sales in the second quarter
      of
      2007 as compared to the fourth quarter of 2006 and also reflects the timing
      of
      customer payments. The decrease in inventory reflects lower transdermal
      nitroglycerin product sales and the timing of raw material purchases. The
      increase in other current assets is due primarily to retainers paid to various
      professional organizations. The royalties payable decrease is attributable
      to
      the Company commencing royalty payments to Key in May 2007. The other
      liabilities decrease is due primarily to decreases in accrued chargebacks,
      rebates and allowances, and audit fees. The increase in preferred stock
      dividends payable is due to legally available funds not being available to
      make
      the required dividend payment.


6





Cash
      used
      for operating activities for the six months ended June 30, 2007 was $1,640,000,
      as compared to cash provided by operating activities of $222,000 for the same
      period in 2006. The decrease is due primarily to a $2,240,000 net loss in 2007
      as compared to a $1,167,000 net loss in 2006 and to decreasing accounts
      receivable, inventory, accounts payable, royalties payable and other liabilities
      of $820,000, $100,000, $62,000, $249,000 and $429,000, respectively, and
      increasing other current assets of $130,000 in 2007 as compared to decreasing
      accounts receivable, other current assets, accounts payable and other
      liabilities of $2,045,000, $23,000, $125,000 and $1,266,000, respectively,
      and
      increasing inventory and royalties payable of $276,000 and $537,000,
      respectively, in 2006. The Company had no investing activities for the six
      months ended June 30, 2007. Investing activities for the six months ended June
      30, 2006 used cash of $105,000, consisting of additions made to property, plant
      and equipment. Financing activities for the six months ended June 30, 2007
      provided $630,000 of cash as compared to the same period in 2006 which provided
      $243,000 of cash.





The
      Company’s current financial and operating condition raises significant doubt
      about our ability to continue as a going concern. We anticipate that, given
      our
      historical operating results, we may not generate sufficient revenues from
      product sales to satisfy our ongoing obligations under the Settlement Agreement
      until the amount due is paid in full. We are paying our current expenses,
      obligations and liabilities to third parties as they become due from cash
      generated from sales and from cash borrowed from Health-Chem, which received
      a
      $1.85 million payment from the State of Pennsylvania in May 2007, representing
      amounts held by such agency on Health-Chem’s behalf. We would like to expand our
      operations to add other transdermal products and enter into agreements with
      third parties to conduct research and development activities on their behalf,
      though we cannot say with certainty whether we will be presented with any such
      opportunities or if we will have the capital resources to pursue such
      activities. We do not have the capital to pursue such opportunities and we
      cannot be certain that we will have access to capital on acceptable terms,
      if at
      all, should an opportunity presents itself. Accordingly, we cannot predict
      our
      future capital requirements at this time.





Off-Balance
      Sheet Arrangements .





We
      have
      not entered into any off-balance sheet arrangements.





Critical
      Accounting Policies .





Our
      significant accounting policies are described in Note 2 of the Notes to
      Consolidated Financial Statements of the Company’s Annual Report on Form 10-KSB
      for the year ended December 31, 2006. Included within these policies are certain
      policies which contain critical accounting estimates and, therefore, have been
      deemed to be “critical accounting policies.” Critical accounting estimates are
      those which require management to make assumptions about matters that were
      uncertain at the time the estimate was made and for which the use of different
      estimates, which reasonably could have been used, or changes in the accounting
      estimates that are reasonably likely to occur from period to period, could
      have
      a material impact on the presentation of our financial condition, changes in
      financial condition or results of operations.


7


Inflation .





We
      believe that our results of operations are not dependent upon moderate changes
      in inflation rates.





**FORWARD-LOOKING
      STATEMENTS**





The
      Private Securities Litigation Reform Act of 1995 (the Act) provides a safe
      harbor for forward-looking statements made by or on behalf of our company.
      From
      time to time, our representatives and we may make written or verbal
      forward-looking statements, including statements contained in this report and
      other company filings with the SEC and in our reports to stockholders.
      Statements that relate to other than strictly historical facts, such as
      statements about our plans and strategies, expectations for future financial
      performance, new and existing products and technologies, and markets for our
      products are forward-looking statements within the meaning of the Act.
      Generally, the words "believe," "expect," "intend," "estimate," "anticipate,"
      "will" and other similar expressions identify forward-looking statements. The
      forward-looking statements are and will be based on our then-current views
      and
      assumptions regarding future events and operating performance, and speak only
      as
      of their dates. Investors are cautioned that such statements involve risks
      and
      uncertainties that could cause actual results to differ materially from
      historical or anticipated results due to many factors including, but not limited
      to, our limited revenues, our future capital needs, uncertainty of capital
      funding, acceptance of our product offerings, the effects of government
      regulations on our business, competition, and other risks. We undertake no
      obligation to publicly update or revise any forward-looking
      statements.




**Item
      3. Controls and Procedures.**





(a)
      Disclosure Controls and Procedures. Our management, with the participation
      of
      our chief executive officer and chief financial officer, has evaluated the
      effectiveness of our disclosure controls and procedures (as such term is defined
      in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the
      period covered by this report. Based on such evaluation, our chief executive
      officer and chief financial officer have concluded that, as of the end of such
      period, our disclosure controls and procedures are effective in recording,
      processing, summarizing and reporting, on a timely basis, information required
      to be disclosed by us in the reports that we file or submit under the Exchange
      Act.





(b)
      Internal Control Over Financial Reporting. There have not been any changes
      in
      our internal control over financial reporting (as such term is defined in Rules
      13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to
      which this report relates that have materially affected, or are reasonably
      likely to materially affect, our internal control over financial
      reporting.





**PART
      II — OTHER INFORMATION**





**Item
      1. Legal Proceedings.**





As
      of the
      date hereof, the Company is party to three legal proceedings, as
      follows:





Key:  See
      Part
      I, Item 2. Management’s Discussion and Analysis or Plan of Operation for a
      discussion of the action by Key against Hercon in the Federal District Court
      for
      the District of New Jersey.


8





York
      Realty LLC:  On
      January 4, 2008, Transderm filed a Complaint for Declaratory Relief, Breach
      of
      Contract and Monetary Damages against York Realty Leasing, LLC (“York”) in the
      Court of Common Pleas of York County, Pennsylvania (the “Complaint”). The action
      arises out of York’s various correspondences to Transderm alleging that it is in
      breach of and default under the lease between the parties dated December 7,
      2004
      for failure to pay rent as provided in the lease. In the Complaint, the Company
      is seeking, among other things, a declaratory judgment to the effect that the
      lease is in full force and effect, that the Company is not in default under
      the
      lease and that Transderm is owed an amount on account with York which York
      has
      refused to credit to Transderm. On January 23, 2008, the Company filed an
      amended complaint in this matter seeking to clarify certain facts but otherwise
      requesting the same relief. York did not file a timely answer to the Company’s
      complaint and, upon further notice to York, the Court entered a default judgment
      in favor of the Company on February 26, 2008. A hearing in this matter was
      held
      on April 25, 2008 whereby the Court ordered that the lease is in full force
      and
      effect, that the Company is not in default under the lease and that Transderm
      is
      entitled to a rental credit of $57,200.





Yurowitz
      Action:  On
      February 25, 2008, Andy Yurowitz, a director and the former chief executive
      of
      Transderm, Hercon and Health-Chem, served each of Health-Chem and Hercon with
      a
      summons without complaint which was filed in The Supreme Court of the State
      of
      New York, Kings County on February 7, 2008. The summons also indicated that
      Andrew Levinson and Manfred Mayerfeld, members of the Boards of Health-Chem
      and
      Hercon, will be named in this action. The summons requires that each party
      file
      a notice of appearance in the action within a specified time after being
      served.





The
      summons states that the nature of the action and the relief sought is
      defendant’s breach of contract and failure to pay wages. Until the Company is
      served with and reviews the complaint with counsel, it is unable to comment
      upon
      the allegations or any potential defenses.





**Item
      2. Changes in Securities and Small Business Issuer Purchase of Equity
      Securities.**





(a) None.





(b) None.





(c)
      During the three months ended June 30, 2007, the Company did not issue any
      securities.





(d) None.





(e) None.





**Item
      3. Defaults Upon Senior Securities.**





On
      August
      31, 1995, Hercon issued to Health-Chem a $7,000,000, 9% Subordinated Promissory
      Note in exchange for the then outstanding borrowings from affiliates. The
      Company has been required to make semi-annual interest payments each March
      and
      September on this note. The principal amount of $7,000,000 was due on March
      31,
      2002. In March, 2002 the Company defaulted on its obligation to repay the
      principal amount of $7,000,000. Interest on the principal amount of this
      promissory note, which accrues at the rate of $630,000 per annum, is transferred
      semi-annually each March and September into the Group’s intercompany
      account.




**Item
      4. Submission of Matters to a Vote of Security Holders.**





None.


9


**Item
      5. Other Information.**





(a)  Cancellation
      of Note Payable.  On
      August
      20, 2007, a note payable by Hercon in the amount of $167,000 at June 30, 2007
      was cancelled under the terms of an agreement between Hercon and a client that
      had retained Hercon to undertake research and development activities on its
      behalf. The agreement provided that in the event that the client did not file
      certain documents with the United States Food and Drug Administration by May
      30,
      2006, the note was cancelable by Hercon and all amounts due thereunder would
      be
      forgiven by the note holder.





(b)  Termination
      of Andy Yurowitz as Chief Executive Officer and President.  On
      May
      14, 2007, James McTevia, in his capacity as Chief Restructuring Officer of
      the
      Company, terminated Andy Yurowitz as a paid employee of Transderm, Hercon and
      Health-Chem. Mr. Yurowitz’s status as an officer of each of these companies was
      not affected by such termination. On November 22,
      2007,
      the Board ratified the prior termination of Andy Yurowitz as a paid employee
      and
      terminated him as the Chief Executive Officer and President, for cause. Mr.
      Yurowitz continues to serve as a member of the board of Transderm, Hercon and
      Health-Chem.





(c)  Appointment
      of Acting Chief Executive Officer.   On
      November 22, 2007, the board of directors appointed Ron Burghauser, the chief
      financial officer of Transderm and Hercon, as the acting chief executive officer
      of each company.





**Item
      6. Exhibits.**





(a)
      Exhibits.





Exhibit
                No.
            
            Description10.1
            
            Consent
                Judgment dated May 23, 2007, by the United States District Court,
                District
                of New Jersey entered a Final Judgment On Consent between Key
                Pharmaceuticals, Inc. and Hercon Laboratories
                Corporation.31.1
            
            Certification
                of Principal Executive Officer and Principal Financial Officer pursuant
                to
                Rule 13a-14 and Rule 15d 14(a), promulgated under the Securities
                and
                Exchange Act of 1934, as Amended.32.1
            
            Certification
                pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section
              906
                of the Sarbanes-Oxley Act of
                2002.


10





SIGNATURES





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





TRANSDERM
      LABORATORIES CORPORATION





Name
                and Capacity
            
            Date/s/
                Ronald J. Burghauser
            
            June
                3, 2008By:
                Ronald J. Burghauser
              Acting
                Chief Operating Officer,
              Chief
                Financial Officer,
              Treasurer
                and Secretary
              (Principal
                Financial Officer)
              (Principal
                Accounting Officer)


11