** **

**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

**FORM 10-Q**

**(Mark One)**

**x**                              QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF1934

**Forthe quarterly period ended March 31, 2007**

**OR**

** ̈**                                 TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

**For the transition periodfrom        to      **

** **

**CommissionFile Number 000-50856**

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**NEUROMETRIX, INC.**

(Exact name of registrantas specified in its charter)

| **Delaware**                                  |   | **04-3308180**       |
|-----------------------------------------------|--------|----------------------|
| (State or other  jurisdiction of              |   | (I.R.S. Employer     |
| incorporation or  organization)               |   | Identification  No.) |
|                                          |   |                 |
| **62  Fourth Avenue, Waltham, Massachusetts** |   | **02451**            |
| (Address of  principal executive offices)     |   | (Zip Code)           |

 

**(781) 890-9989**

(Registrant’s telephonenumber, including area code)

Indicate by check mark whether the registrant(1) has filed all reports required to be filed by Section 13 or15(d) of the Securities Exchange Act of 1934 during the preceding twelve(12) months (or for such shorter period that the registrant was required tofile such reports), and (2) has been subject to such filing requirementsfor the past ninety (90) days.

Yes x   No o

Indicate by checkmark whether the registrant is a large accelerated filer, an accelerated filer,or a non-accelerated filer. See definition of “accelerated filer” and “largeaccelerated filer” in Rule 12b-2 of the Exchange Act (check one):

| Large accelerated  filer o |   | Accelerated  filer x |   | Non-accelerated  filer o |
|---------------------------------|--------|---------------------------|--------|-------------------------------|

 

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

Yes o   No x

Indicate the number of shares outstanding of each ofthe issuer’s classes of common stock, as of the latest practicable date:12,608,054 shares of common stock, par value $0.0001 per share, wereoutstanding as of May 2, 2007.

 

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**NEUROMETRIX, INC.FORM 10-QINDEX**
| **PART I—FINANCIAL INFORMATION** | ** ** | ** **                                                                                     | ** ** |
|--------------------------------------------|------------|------------------------------------------------------------------------------------------------|------------|
|                                       |       |                                                                                           |       |   |   |
| Item 1.                                    |       | Condensed Financial Statements                                                                 |       | 3 |   |
|                                       |       |                                                                                           |       |   |   |
|                                       |       | Balance Sheets (unaudited) as of March 31, 2007  and December 31, 2006               |       | 3 |   |
|                                       |       |                                                                                           |       |   |   |
|                                       |       | Statements  of Operations (unaudited) for the three months ended March 31, 2007 and  2006 |       | 4 |   |
|                                       |       |                                                                                           |       |   |   |
|                                       |       | Statements  of Cash Flows (unaudited) for the three months ended March 31, 2007 and  2006 |       | 5 |   |
|                                       |       |                                                                                           |       |   |   |
|                                       |       | Notes to Financial Statements (unaudited)                                                      |       | 6 |   |
|                                       |       |                                                                                           |       |   |   |
| Item 2.                                    |       | Management’s Discussion and Analysis of Financial  Condition and Results of Operations    |       | 10 |   |
|                                       |       |                                                                                           |       |   |   |
| Item 3.                                    |       | Quantitative and Qualitative Disclosures About Market  Risk                                    |       | 18 |   |
|                                       |       |                                                                                           |       |   |   |
| Item 4.                                    |       | Controls and Procedures                                                                        |       | 18 |   |
|                                       |       |                                                                                           |       |   |   |
| **PART II—OTHER  INFORMATION**   |       |                                                                                           |       |
|                                       |       |                                                                                           |       |   |   |
| Item  1.                                   |       | Legal  Proceedings                                                                             |       | 20 |   |
|                                       |       |                                                                                           |       |   |   |
| Item  1A.                                  |       | Risk  Factors                                                                                  |       | 20 |   |
|                                       |       |                                                                                           |       |   |   |
| Item 2.                                    |       | Unregistered Sales of Equity Securities and Use of  Proceeds                                   |       | 20 |   |
|                                       |       |                                                                                           |       |   |   |
| Item 3.                                    |       | Defaults Upon Senior Securities                                                                |       | 20 |   |
|                                       |       |                                                                                           |       |   |   |
| Item 4.                                    |       | Submission of Matters to a Vote of Security Holders                                            |       | 20 |   |
|                                       |       |                                                                                           |       |   |   |
| Item  5.                                   |       | Other  Information                                                                             |       | 20 |   |
|                                       |       |                                                                                           |       |   |   |
| Item 6.                                    |       | Exhibits                                                                                       |       | 20 |   |
|                                       |       |                                                                                           |       |   |   |
| Signatures                                 |       | 21                                                                                             |       |

 

2

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**PART IFINANCIAL INFORMATION**

**Item 1.  Condensed Financial Statements**

**NeuroMetrix, Inc.Balance Sheets(Unaudited)**
| ** **                                                                                                                                                                                | ** ** | **March 31,  2007** | ** ** | **December 31,  2006** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| **Assets**                                                                                                                                                                                | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Current assets:                                                                                                                                                                           |       |                     |       |                        |       |
| Cash and cash  equivalents                                                                                                                                                                |       | $                        | 6,816,156  |                        | $          | 7,909,778 |   |
| Short-term held-to-maturity  investments                                                                                                                                                  |       | 31,791,497               |       | 32,410,685                  |       |
| Accounts receivable,  net of allowance for doubtful accounts of $1,100,000 and $900,000 at  March 31, 2007 and December 31, 2006, respectively                                  |       | 6,715,150                |       | 7,698,550                   |       |
| Inventories, net                                                                                                                                                                          |       | 4,614,227                |       | 3,633,389                   |       |
| Prepaid expenses and  other current assets                                                                                                                                                |       | 962,996                  |       | 761,400                     |       |
| Current portion of  deferred costs                                                                                                                                                        |       | 379,081                  |       | 370,013                     |       |
| Total current assets                                                                                                                                                                      |       | 51,279,107               |       | 52,783,815                  |       |
|                                                                                                                                                                                      |       |                     |       |                        |       |
| Restricted cash                                                                                                                                                                           |       | 1,458,598                |       | 1,458,598                   |       |
| Fixed assets, net                                                                                                                                                                         |       | 1,081,206                |       | 1,115,436                   |       |
| Deferred costs                                                                                                                                                                            |       | 324,099                  |       | 348,430                     |       |
| Total assets                                                                                                                                                                              |       | $                        | 54,143,010 |                        | $          | 55,706,279 |   |
|                                                                                                                                                                                      |       |                     |       |                        |       |
| **Liabilities and Stockholders’  Equity**                                                                                                                                            |       |                     |       |                        |       |
| Current liabilities:                                                                                                                                                                      |       |                     |       |                        |       |
| Accounts payable                                                                                                                                                                          |       | $                        | 2,085,121  |                        | $          | 2,766,650 |   |
| Accrued compensation                                                                                                                                                                      |       | 2,118,724                |       | 2,460,328                   |       |
| Other accrued expenses                                                                                                                                                                    |       | 4,591,013                |       | 4,275,983                   |       |
| Current portion of  deferred revenue                                                                                                                                                      |       | 1,419,976                |       | 1,386,867                   |       |
| Total current  liabilities                                                                                                                                                                |       | 10,214,834               |       | 10,889,828                  |       |
|                                                                                                                                                                                      |       |                     |       |                        |       |
| Deferred revenue                                                                                                                                                                          |       | 1,252,680                |       | 1,335,138                   |       |
| Other long-term  liabilities                                                                                                                                                              |       | 58,182                   |       | 72,727                      |       |
| Total liabilities                                                                                                                                                                         |       | 11,525,696               |       | 12,297,693                  |       |
|                                                                                                                                                                                      |       |                     |       |                        |       |
| Commitments and  contingencies                                                                                                                                                            |       |                     |       |                        |       |
|                                                                                                                                                                                      |       |                     |       |                        |       |
| Stockholders’ equity:                                                                                                                                                                |       |                     |       |                        |       |
| Preferred stock, $0.001  par value, 5,000,000 shares authorized, none outstanding                                                                                                         |       | —                   |       | —                      |       |
| Common stock, $0.0001  par value; 50,000,000 shares authorized; 12,607,446 and 12,601,224 shares  issued and outstanding at March 31, 2007 and December 31, 2006,  respectively |       | 1,261                    |       | 1,260                       |       |
| Additional paid-in  capital                                                                                                                                                               |       | 97,737,846               |       | 97,205,145                  |       |
| Deferred compensation                                                                                                                                                                     |       | (57,397                  | )          | (110,705                    | )          |
| Accumulated deficit                                                                                                                                                                       |       | (55,064,396              | )          | (53,687,114                 | )          |
| Total stockholders’  equity                                                                                                                                                          |       | 42,617,314               |       | 43,408,586                  |       |
| Total liabilities and stockholders’ equity                                                                                                                                           |       | $                        | 54,143,010 |                        | $          | 55,706,279 |   |

 

The accompanyingnotes are an integral part of these financial statements.

3

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**NeuroMetrix, Inc.Statements of Operations(Unaudited)**
|                                                                                                     | ** ** | **Three Months Ended** | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                                          | ** ** | **March 31,  2007**         | ** ** | **March 31,  2006** | ** ** |
| ** **                                                                                          | ** ** | ** **                       | ** ** | **(as restated)** | ** ** |
| Revenues:                                                                                           |       |                             |       |   |   |
| Diagnostic device                                                                                   |       | $                                | 1,279,204  |   | $ | 1,541,437 |   |
| Biosensor                                                                                           |       | 10,272,778                       |       | 10,281,838 |   |
| Other                                                                                               |       | 205,804                          |       | — |   |
| Total revenues                                                                                      |       | 11,757,786                       |       | 11,823,275 |   |
|                                                                                                |       |                             |       |   |   |
| Cost of revenues                                                                                    |       | 3,094,618                        |       | 2,879,913 |   |
| Gross margin                                                                                        |       | 8,663,168                        |       | 8,943,362 |   |
| Operating expenses:                                                                                 |       |                             |       |   |   |
| Research and  development(1)                                                                        |       | 1,215,072                        |       | 1,258,608 |   |
| Sales and marketing(1)                                                                              |       | 5,975,938                        |       | 5,268,253 |   |
| General and  administrative(1)                                                                      |       | 3,342,218                        |       | 2,805,249 |   |
| Total operating expenses                                                                            |       | 10,533,228                       |       | 9,332,110 |   |
| Loss from operations                                                                                |       | (1,870,060                       | )          | (388,748 | ) |
| Interest income                                                                                     |       | 492,778                          |       | 293,586 |   |
| Loss before provision for income taxes                                                              |       | (1,377,282                       | )          | (95,162 | ) |
| Provision for income taxes                                                                          |       | —                           |       | 7,500 |   |
|                                                                                                |       |                             |       |   |   |
| Net loss                                                                                            |       | $                                | (1,377,282 | ) | $ | (102,662 | ) |
|                                                                                                |       |                             |       |   |   |
| Net loss per common share  (basic and diluted)                                                      |       | $                                | (0.11      | ) | $ | (0.01 | ) |
|                                                                                                |       |                             |       |   |   |
| Weighted average shares used  to compute net loss per common share (basic and diluted)              |       | 12,605,431                       |       | 12,414,479 |   |
|                                                                                                |       |                             |       |   |   |   |
| (1)   Non-cash stock-based compensation expense  included in these amounts is as follows: |       |                             |       |   |   |
|                                                                                                |       |                             |       |   |   |
| Research and development                                                                            |       | $                                | 41,631     |   | $ | 218,751 |   |
| Sales and  marketing                                                                                |       | 214,140                          |       | 190,908 |   |
| General and administrative                                                                          |       | 311,879                          |       | 327,554 |   |
|                                                                                                     |            |                                  |            |  |  |  |  |  |

 

The accompanyingnotes are an integral part of these financial statements.

4

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**NeuroMetrix, Inc.Statements of Cash Flows(Unaudited)**
| ** **                                                                   | ** ** | **Three Months Ended** | ** ** |
|------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                   | ** ** | **March 31,  2007**         | ** ** | **March 31,   2006** | ** ** |
| ** **                                                                   | ** ** | ** **                       | ** ** | **(as restated)** | ** ** |
| **Cash  flows for operating activities:**                                    | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Net loss                                                                     |       | $                                | (1,377,282 | ) | $ | (102,662 | ) |
| Adjustments to  reconcile net loss to net cash used in operating activities: |       |                             |       |   |   |
| Depreciation and  amortization                                               |       | 111,527                          |       | 83,876 |   |
| Compensation  expense associated with stock options                          |       | 567,650                          |       | 737,213 |   |
| Provision for  doubtful accounts                                             |       | 317,525                          |       | 108,529 |   |
| Amortization of  premium on investments                                      |       | 16,857                           |       | 55,484 |   |
| Provision for  income taxes                                                  |       | —                           |       | 7,500 |   |
| Changes in  operating assets and liabilities:                                |       |                             |       |   |   |
| Accounts receivable                                                          |       | 665,875                          |       | (1,141,692 | ) |
| Inventories                                                                  |       | (980,838                         | )          | (353,063 | ) |
| Prepaid expenses and other current assets                                    |       | (201,596                         | )          | (77,121 | ) |
| Accounts payable                                                             |       | (681,529                         | )          | (260,533 | ) |
| Accrued compensation and other accrued expenses                              |       | (26,574                          | )          | 558,313 |   |
| Other long-term liabilities                                                  |       | (14,545                          | )          | (14,545 | ) |
| Deferred revenue and deferred costs                                          |       | (34,086                          | )          | 162,929 |   |
| Net cash used in  operating activities                                       |       | (1,637,016                       | )          | (235,772 | ) |
|                                                                         |       |                             |       |   |   |
| **Cash  flows for investing activities:**                                    | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Purchases of  investments                                                    |       | (10,393,381                      | )          | (13,786,153 | ) |
| Maturities of  investments                                                   |       | 10,995,712                       |       | 10,840,724 |   |
| Purchases of  fixed assets                                                   |       | (77,297                          | )          | (144,157 | ) |
| Net cash  provided by (used in) investing activities                         |       | 525,034                          |       | (3,089,586 | ) |
|                                                                         |       |                             |       |   |   |
| **Cash  flow from financing activities:**                                    | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Proceeds from  exercise of stock options                                     |       | 18,360                           |       | 551,074 |   |
| Net cash  provided by financing activities                                   |       | 18,360                           |       | 551,074 |   |
|                                                                         |       |                             |       |   |   |
| Net decrease in  cash and cash equivalents                                   |       | (1,093,622                       | )          | (2,774,284 | ) |
| Cash and cash  equivalents, beginning of period                              |       | 7,909,778                        |       | 8,170,037 |   |
| Cash and cash  equivalents, end of period                                    |       | $                                | 6,816,156  |   | $ | 5,395,753 |   |

 

The accompanyingnotes are an integral part of these financial statements.

5

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**NeuroMetrix, Inc.**

**Notes to Unaudited FinancialStatements**

**1.             Business and Basis of Presentation**

**Business**

NeuroMetrix, Inc.(the “Company”), a Delaware corporation, was formed in June 1996. TheCompany designs, develops and sells proprietary medical devices used to helpphysicians diagnose neuropathies and neurovascular diseases. Neuropathies arediseases of the peripheral nerves and parts of the spine that frequently arecaused by or associated with diabetes, low back pain and carpal tunnelsyndrome, as well as other clinical disorders. The Company markets and sellsthe NC-stat System, an internally-developed product, to physician practicegroups for the diagnosis of neuropathies. Diabetic retinopathy is aneurovascular disease affecting the vision of patients with diabetes. TheCompany has an exclusive sales and marketing license with EyeTelImaging, Inc. (“EyeTel”) to market the DigiScope®, a product designed todetect diabetic retinopathy. The Company operates in one business segment.

InOctober 2006, the Company entered into an exclusive seven year licensingagreement with EyeTel. The agreement grants the Company an exclusive license tomarket, brand, and sell EyeTel’s DigiScope throughout the primary carephysician and endocrinologist market in the United States. The DigiScope,developed by EyeTel in collaboration with the Wilmer Eye Institute at JohnsHopkins, is a United States Food and Drug Administration cleared diagnosticdevice that primary care physicians and endocrinologists can use for the early detectionof diabetic retinopathy. In connection with the agreement, the Company receivedwarrants to purchase up to 500,000 shares of EyeTel common stock at an exerciseprice of $0.16 per share, subject to adjustment for stock splits and with aterm of ten years. The warrants are subject to a vesting schedule based on theCompany’s achievement of annual performance milestones relating to units placedand customer usage of the DigiScope through 2011. If the Company does not meetone or both of the requirements for any calendar year, but does meet thecombined requirements for two or more consecutive years, the shares scheduledto vest for each of the years will vest. There were no warrants vested as of March 31, 2007.  The agreement also grants the Company financingparticipation rights in connection with EyeTel’s next round of venture capitalfinancing. The Company received an option to purchase EyeTel preferred stock,up to the lesser of (i) 30% of the total amount raised in the financing or(ii) $5.0 million. In the event that the Company participates in the nextround of financing, and the Company’s maximum permitted amount is less than$5.0 million, the Company has the right to participate in any subsequentfinancing rounds equal to the difference between $5.0 million and the amountpreviously invested.

Revenues from theDigiScope, for which we initiated sales and marketing efforts during the firstquarter of 2007, are derived through: (1) eye scan fees, (2) monthly rentalfees and (3) installation and training fees. Eye scan fees using the DigiScope are recognized at the time of thepatient examination.  Installation andtraining fees are deferred and recognized on a straight line basis over thenon-cancelable term of the contact, currently one year.

The accompanyingunaudited balance sheet as of March 31, 2007, unaudited statements ofoperations for the three month periods ended March 31, 2007 and 2006 andthe unaudited statements of cash flows for the three month periods endedMarch 31, 2007 and 2006 have been prepared in accordance with accountingprinciples generally accepted in the United States of America for interimfinancial information and with the instructions to Form 10-Q andArticle 10 of Regulation S-X. Accordingly, they do not include all of theinformation and footnotes required by accounting principles generally acceptedin the United States of America for complete financial statements. In theopinion of management, all adjustments (consisting only of normal recurringaccruals) considered necessary for a fair statement of the results ofoperations have been included. Operating results for the three month periodended March 31, 2007 are not necessarily indicative of the results thatmay be expected for the year ending December 31, 2007 or any other period.These financial statements and notes should be read in conjunction with thefinancial statements for the year ended December 31, 2006 included in theCompany’s Annual Report on Form 10-K (File No. 000-50856). Theaccompanying balance sheet as of December 31, 2006 has been derived fromaudited financial statements prepared at that date, but does not include alldisclosures required by accounting principles generally accepted in the UnitedStates of America.

**Use ofEstimates**

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States of America requires management to make estimatesand assumptions that affect the reported amounts of assets and liabilities andthe disclosure of contingent assets and liabilities at the date of thefinancial statements and the reported amounts of revenues and expenses duringthe reporting period. Actual results could differ from those estimates.

**RecentAccounting Pronouncements**

InFebruary 2007, the Financial Accounting Standards Board (“FASB”) issuedSFAS No. 159, “*The Fair Value Optionfor Financial Assets and Financial Liabilities, including an amendment of FASBStatement No. 115*.” (“SFAS No. 159”)  SFASNo. 159 permits entities to choose to measure many financial instrumentsand certain other items at fair value that are not currently required to be 

6

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measured at fair value.Unrealized gains and losses on items for which the fair value option has beenelected are reported in earnings. SFAS No. 159 does not affect anyexisting accounting literature that requires certain assets and liabilities tobe carried at fair value. SFAS No. 159 is effective for fiscal yearsbeginning after November 15, 2007. The Company does not believe that theadoption of SFAS No. 159 will have a material impact on its financialposition, results of operations or cash flows.

InSeptember 2006, the FASB issued SFAS No. 157, *“Fair Value Measurements”* (“SFASNo. 157”). SFAS No. 157 defines fair value in numerous accountingpronouncements, establishes a framework for measuring fair value in generallyaccepted accounting principles (“GAAP”) and expands disclosures related to theuse of fair value measures in financial statements. SFAS No. 157 does notexpand the use of fair value measures in financial statements, but standardizesits definition and guidance in GAAP.  The standard emphasizes that fairvalue is a market-based measurement and not an entity-specific measurementbased on an exchange transaction in which the entity sells an asset ortransfers a liability (exit price). SFAS No. 157 establishes a fair valuehierarchy from observable market data as the highest level to fair value basedon an entity’s own fair value assumptions as the lowest level. SFASNo. 157 is effective for our financial statements issued in 2008; however,earlier application is encouraged. The Company has not yet determined theimpact that the adoption of SFAS No. 157 will have on its financialposition, results of operations or its cash flows.

In June 2006,the FASB issued FASB Interpretation No. 48,*“Accounting for Uncertainty in Income Taxes—an interpretation of FASBStatement No. 109”* (“FIN No. 48”), which clarifies theaccounting and disclosure for uncertainty in tax positions, as defined. FINNo. 48 requires that management recognize in the Company’s financialstatements the impact of the tax position if that position is more likely thannot of being sustained upon examination, based on the technical merits of theposition. The Company adopted the provisions of FIN No. 48 effectiveJanuary 1, 2007 and such adoption did not have a material effect on thefinancial statements.   See Note 7 — IncomeTaxes — Adoption of FIN No. 48.

**2.             Restatement**

As previouslydisclosed in Note 2 - Restatement of the Notes to Financial Statements includedin the Company’s Annual Report on Form 10-K for the year ended December 31,2006, the Company has restated its financial statements for the quarter endedMarch 31, 2006 to correct an error in accounting for sales taxliabilities. The error arose from the Company’s failure in certain stateswithin the United States to charge sales tax to customers as required by statelaw and subsequently file and remit such collections to the state taxauthorities. The Company has computed the error as the total of the sales taxdue, based on historical sales in those states where sales tax should have beencollected, and the resulting interest and penalties in accordance with theapplicable state law.

The impact ofcorrecting this error results in an increase in general and administrativeexpenses of $250,000 and a reduction of net income of $250,000 for the quarterended March 31, 2006.

The following table presents the impact of therestatement:

|                                                                              | ** ** | **Three Months Ended**         | ** ** |
|------------------------------------------------------------------------------|------------|------------------------------------------|------------|
| ** **                                                                   | ** ** | **March 31, 2006**             | ** ** |
| ** **                                                                   | ** ** | **As   Previously   Reported** | ** ** | **Restated** | ** ** |
| **Statement  of Operations:**                                                | ** ** | ** **                               | ** ** | ** ** | ** ** |
| General and  administrative                                                  |       | $                                        | 2,555,249  |   | $ | 2,805,249 |   |
| Total operating  expenses                                                    |       | 9,082,110                                |       | 9,332,110 |   |
| Loss from  operations                                                        |       | (138,748                                 | )          | (388,748 | ) |
| Income (loss)  before provision for income taxes                             |       | 154,838                                  |       | (95,162 | ) |
| Net income  (loss)                                                           |       | 147,338                                  |       | (102,662 | ) |
| Net income  (loss) per common share (basic and diluted)                      |       | $                                        | 0.01       |   | $ | (0.01 | ) |
| Weighted average  shares used to compute net loss per common share (diluted) |       | 13,133,266                               |       | 12,414,479 |   |
| **Cash  Flows:**                                                             | ** ** | ** **                               | ** ** | ** ** | ** ** |
| Net income  (loss)                                                           |       | $                                        | 147,338    |   | $ | (102,662 | ) |
| Accrued expenses and  compensation                                           |       | $                                        | 308,313    |   | $ | 558,313 |   |

 

As applicable, thefootnotes contained elsewhere within these financial statements have also beenrestated to correct this error.

**3.             Net Loss Per Common Share**

The Companyaccounts for and discloses net loss per common share in accordance with SFASNo. 128, “*Earnings Per Share*”.Basic net loss per common share is computed by dividing net loss attributableto common stockholders by the weighted average number 

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of common sharesoutstanding. Diluted net loss per common share is computed by dividing net lossattributable to common stockholders by the weighted average number of commonshares and dilutive potential common share equivalents then outstanding.Potential common shares consist of shares issuable upon the exercise of stockoptions and warrants (using the treasury stock method.)

The followingpotentially dilutive common shares were excluded from the calculation ofdiluted net loss per common share because their effect was antidilutive foreach of the periods presented:

|                      | ** ** | **Three Months Ended** | ** ** |
|----------------------|------------|----------------------------------|------------|
| ** **           | ** ** | **March 31, 2007**     | ** ** | **March 31, 2006** | ** ** |
| ** **           | ** ** | ** **                       | ** ** | **(as restated)** | ** ** |
| Options  outstanding |       | 1,872,323                        |       | 1,324,107 |   |

 

**4.             Inventories**

Inventories consist ofthe following:

|                       | ** ** | **March 31,   2007** | ** ** | **December 31,   2006** | ** ** |
|-----------------------|------------|--------------------------------|------------|-----------------------------------|------------|
| ** **            | ** ** | ** **                     | ** ** | ** **                        | ** ** |
| Purchased  components |       | $                              | 464,721    |                              | $          | 345,852 |   |
| Finished goods        |       | 4,149,506                      |       | 3,287,537                         |       |
|                  |       | $                              | 4,614,227  |                              | $          | 3,633,389 |   |

 

**5.             Other Balance Sheet Items**

Other accrued expensesconsist of the following:

| ** **             | ** ** | **March 31,   2007** | ** ** | **December 31,   2006** | ** ** |
|------------------------|------------|--------------------------------|------------|-----------------------------------|------------|
|                   |       |                           |       |                              |       |
| Professional  services |       | $                              | 683,802    |                              | $          | 401,186 |   |
| Sales taxes            |       | 3,041,534                      |       | 2,851,307                         |       |
| Other                  |       | 865,677                        |       | 1,023,490                         |       |
|                   |       | $                              | 4,591,013  |                              | $          | 4,275,983 |   |

 

Product Warranty Costs

The Companyaccrues estimated product warranty costs at the time of sale which are includedin cost of sales in the statements of operations. The amount of the accruedwarranty liability is based on historical information such as past experience,product failure rates, number of units repaired and estimated cost of materialand labor. The liability for product warranty costs is included in accruedexpenses in the balance sheet.

The following is arollforward of the Company’s accrued warranty liability for the three monthperiods ended March 31, 2007 and 2006

|                                 | ** ** | **Three Months Ended** | ** ** |
|---------------------------------|------------|----------------------------------|------------|
| ** **                      | ** ** | **March 31,   2007**   | ** ** | **March 31,   2006** | ** ** |
|                            |       |                             |       |   |   |
| Balance at  beginning of period |       | $                                | 231,725    |   | $ | 124,852 |   |
| Accrual for  warranties         |       | 185,288                          |       | 93,528 |   |
| Settlements made                |       | (164,755                         | )          | (104,488 | ) |
| Balance at end of  period       |       | $                                | 252,258    |   | $ | 113,892 |   |

 

**6.             Shareholder Rights Plan**

On March 7, 2007,the Company’s Board of Directors adopted a Shareholder Rights Plan and declareda dividend distribution of one preferred stock purchase right for eachoutstanding share of the Company’s common stock to shareholders of record as ofthe close of business on March 8, 2007. Initially, these rights will not be exercisable and will trade with theshares of the Company’s common stock. Under the Shareholder Rights Plan, the rights generally will becomeexercisable if a person becomes an “acquiring person” by acquiring 15% or moreof the common stock of the Company or if a person commences a tender offer thatcould result in that person owning 15% or more of the common stock of theCompany.  If a person becomes anacquiring person, each holder of a right (other than the acquiring person)would be entitled to purchase, at the then-current exercise price, such numberof shares of preferred stock which are equivalent to shares of the Company’scommon stock having a value of twice the exercise price of the right.  If the Company is acquired in a merger orother business combination transaction after any such event, each holder of aright would then be entitled to purchase, at the then-current exercise price,shares of the acquiring company’s common stock having a value of twice theexercise price of the right.

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**7.             Income Taxes - Adoption of FIN No.48**

On January 1,2007, the Company adopted the provisions of FIN No. 48.  FIN No. 48 requires that the impact of taxpositions be recognized in the financial statements if they are more likelythan not of being sustained based on the technical merits of the position.  As disclosed in the financial statementsincluded in the Company’s Annual Report on Form 10-K for the year endedDecember 31, 2006, the Company has a valuation allowance against the fullamount of its net deferred taxes.  TheCompany currently provides a valuation allowance against deferred taxes when itis more likely than not that some portion, or all of its deferred tax assetswill not be realized.

As a result of theimplementation of FIN No. 48, the Company reduced its deferred tax assets andthe associated valuation allowance for gross unrecognized tax affected benefitsof approximately $120,000.  There was noadjustment to the Company’s accumulated deficit as a result of theseunrecognized tax benefits since there was a full valuation allowance againstthe related deferred tax assets.  Ifthese unrecognized tax benefits are ultimately recognized, they would have noimpact on the effective tax rate due the existence of the valuation allowance.

The Company filesincome tax returns in the U.S. federal jurisdiction and various statejurisdictions. The Company has not been audited by the Internal Revenue Service(“IRS”) or any states in connection with income taxes.  The periods from 1996 — 2006 remain open toexamination by the IRS and state jurisdictions.

The Company’spolicy is to recognize interest and penalties accrued on any unrecognized taxbenefits as a component of income tax expense. As of the date of adoption ofFIN No. 48, the Company did not have any accrued interest or penaltiesassociated with any unrecognized tax benefits, nor was any interest expenserecognized during the quarter. The Company’s effective tax rate differs fromthe federal statutory rate primarily due to non-deductible expenses and isoffset somewhat by state tax credits.

Under InternalRevenue Code Section 382, cumulative ownership changes by material shareholdersexceeding 50% during a 3-year period can potentially limit a company’s futureuse of its net operating losses.   The Company has performed aSection 382 study and, under current tax rules, the limitations are notexpected to significantly impact the recorded value or timing of utilization ofthe Company’s net operating losses. However, ownership changes since the completion of the study and infuture periods may further limit the utilization of net operating losses andtax credit carryforwards.

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**Item2.    Management’s Discussion andAnalysis of Financial Condition and Results of Operations**

*Youshould read the following discussion of our financial condition and results ofoperations in conjunction with our condensed financial statements and theaccompanying notes to those financial statements included elsewhere in thisQuarterly Report on Form 10-Q. This discussion contains forward-lookingstatements that involve risks and uncertainties. For a description of factorsthat may cause our actual results to differ materially from those anticipatedin these forward looking statements, please refer to the section of thisQuarterly Report on Form 10-Q titled “Cautionary Note RegardingForward-Looking Statements.”*

We have restatedour financial statements as of and for quarter ended March 31, 2006 tocorrect an error in accounting for sales taxes, as discussed in Note 2 -Restatement of the Notes to Unaudited Financial Statements included elsewherein this Quarterly Report on Form 10-Q.  Additional information about this restatement may be found in Note - 2Restatement of the Notes to Financial Statements included in our Annual Reporton Form 10-K for the year ended December 31, 2006.

**Overview**

NeuroMetrix wasfounded in June 1996. We design, develop and sell proprietary medicaldevices used to help physicians diagnose neuropathies and neurovasculardisease. Our proprietary technology provides physicians with an in-office diagnosticsystem, the NC-stat System, which enables physicians to make rapid and accuratediagnoses of neuropathies, including carpal tunnel syndrome, low back and legpain and diabetic peripheral neuropathy. The NC-stat System is comprised of:(1) disposable single use NC-stat biosensors that are placed on thepatient’s body; (2) the NC-stat monitor and related components; and(3) the NC-stat docking station, an optional device that enables thephysician’s office to transmit data to our onCall Information System. Eachcomponent of the NC-stat System is also sold separately. The sensitivity of thenervous system to metabolic and mechanical damage, compounded by its limitedregenerative ability, creates a market opportunity for a medical device thatcan assist in point-of-service diagnoses of neuropathies in a manner that iscost-effective for the patient and third-party payer. We believe the ease ofuse, accuracy and convenience provided by the NC-stat System position it tobecome a standard of care for the assessment of neuropathies at thepoint-of-service.

Neurovasculardisease includes conditions such as retinopathy, an eye disease prevalent inpatients with diabetes. We hold an exclusive sales and marketing license to aproduct known as the DigiScope®, which allows primary care and specialistphysicians to diagnose diabetic retinopathy and refer patients to an eyespecialist for treatment if deemed necessary based on the results. It isrecommended by the American Diabetes Association (“ADA”) that all patients withdiabetes receive an annual dilated eye examination to monitor vision. There areapproximately 21 million people in the United States with diabetes according tothe ADA and only approximately 50% comply with the recommendation to have anannual eye examination. We believe that a product such as the DigiScope inprimary care physicians’ and endocrinologists’ offices could potentially leadto an increase in the level of testing and result in the earlier detection ofeye diseases in patients with diabetes.

We derive themajority of our revenues from the sale of NC-stat biosensors, monitors anddocking stations directly to end users, which are generally physician practicegroups. Our NC-stat biosensors are disposable products that are used once andinactivated after use. The NC-stat monitor is an electronic instrument that isused with the NC-stat biosensors to perform nerve conduction studies for thepurpose of diagnosing neuropathies. The NC-stat monitor displays the pertinentresults of nerve conduction studies on an LCD screen immediately at theconclusion of each study. The NC-stat docking station is an optional devicethat is used to transmit to the onCall Information System data generated by thenerve conduction study performed with the NC-stat monitor. The onCallInformation System formulates the data it receives for each test into adetailed report that is provided to the customer through facsimile or e-mail.

InOctober 2006, we entered into an exclusive seven year licensing agreementwith EyeTel Imaging, Inc. (“EyeTel”). The agreement grants us an exclusivelicense to market, brand and sell EyeTel’s DigiScope throughout the primarycare physician and endocrinologist market in the United States   We launched our sales and marketing effortsrelating to the DigiScope and recognized initial revenues from the DigiScopeduring the first quarter of 2007. Revenues associated with the DigiScope are derived through: (1) eye scanfees; (2) monthly rental fees and (3) installation and training fees.  Under the terms of agreement, we are requiredto remit a percentage of the revenues related to the DigiScope to EyeTel.

Reimbursement fromthird-party payers is an important element of success for medical productscompanies. Except as discussed below, we believe that the nerve conductionstudies performed by our customers with the NC-stat System have beensatisfactorily covered by third-party payers. As our presence in the marketexpands and the use of the NC-stat System increases, we have experiencedand are likely to continue to experience an increased focus from third-partypayers and governmental agencies regarding the reimbursement of nerveconduction studies performed using the NC-stat System and an increased focusfrom these organizations regarding the professional requirements for performingnerve conduction studies in general. A number of third-party payers, includingcommercial payers, have taken and may continue to take the position of notreimbursing our customers for their use of the NC-stat System. During thesecond half of 2006 and early 2007, five local Medicare carriers covering atotal of twenty states issued draft local coverage decisions (“LCDs”), finalLCDs or coding articles particularly addressing coverage and reimbursementpolicies under Medicare for nerve conduction studies performed using theNC-stat System. Several of these carriers indicated that they will notreimburse physicians under Medicare for nerve conduction studies performedusing the NC-stat System under the three existing Current ProceduralTerminology (“CPT”) codes for conventional nerve conduction studies (95900,95903 and 95904), which provide for levels of reimbursement fixed by Center forMedicaid and Medicare Services (“CMS”), but rather that physicians must submitclaims for reimbursement for these procedures under a miscellaneous CPT code(95999), in which case the local carriers may determine the level of 

10

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reimbursement to be paid,if any. One of these Medicare carriers recently indicated in their final LCDthat the NC-Stat should be reimbursed under the CPT codes for conventionalnerve conduction studies, reversing their initial position that themiscellaneous CPT code should be used. We do not know what success our customers will have in obtainingreimbursement under the miscellaneous code or what level of reimbursement theymay receive if they are successful. In certain regions impacted by thesereimbursement decisions, our customers have experienced lower levels ofreimbursement and higher levels of claims denials. If physicians do not receiveadequate reimbursement under the miscellaneous CPT code from those localcarriers, our existing customers may limit or curtail their use of the NC-statSystem and we may be unable to obtain new customers, both of which couldmaterially and adversely impact our revenues and profitability. The AmericanMedical Association (“AMA”) CPT Editorial Panel has formed a committee which isexpected to examine the reimbursement coding of automated nerve conductionstudies, including the NC-stat System and other traditional equipment. Thefindings of this committee may affect which CPT codes Medicare carriers andcommercial payers require from physicians who perform procedures with theNC-stat System. Additional third-party payers, including local Medicarecarriers and commercial payers, could potentially take a position that couldreduce or eliminate the reimbursement for the NC-stat System and could have theimpact of deterring usage by our customers. For example, certain regional Blue Cross Blue Shield carriers recentlyadopted policies indicating that they will not provide reimbursement for theuse of the NC-stat System, citing that the NC-stat System is experimental andinvestigational.  We are in the processof communicating with these payers, directly or through our network ofreimbursement consultants, to address their concerns. Third-party payers mayalso impose requirements on physicians to submit additional paperworksupporting the medical necessity of nerve conduction studies performed using theNC-stat System. We believe these requirements are negatively impacting the useof the NC-stat System by existing customers and our sales to new customers,both of which are having an adverse impact on our revenues.

Additionally, theLCDs and coding articles issued by local Medicare carriers have also addresseda number of other issues, including (1) the background and training ofphysicians supervising or performing nerve conduction studies; (2) thelevel of training requirements for technicians performing a nerve conductionstudy; (3) whether nerve conduction tests should be required to beperformed concomitantly with an nEMG procedure; and (4) whether theNC-stat System is comparable to conventional nerve conduction testingequipment. We do not believe that these LCDs prohibit physicians from receivingreimbursement under Medicare for medically necessary nerve conduction studiesperformed using the NC-stat System. However, these LCDs are relatively new andthey do appear to be targeted at limiting access to perform and/orreimbursement for nerve conduction studies. In certain cases, these LCDs arebeing interpreted or implemented in a manner that impacts the ability ofphysicians to receive reimbursement under Medicare, including lower levels ofreimbursement and an increase in the number of claims being denied, for nerveconduction studies performed using the NC-stat System, which are having anadverse impact on our revenues.

One of the primarychallenges we face in our business is successfully expanding the market fornerve conduction studies. A successful market expansion will depend upon, inpart, our targeting of primary care and specialist physicians who traditionallyhave not been targeted by companies selling equipment used to perform nerveconduction studies and our ability to alter physicians’ practices relating tothe diagnosis of neuropathies. In order to successfully implement thisstrategy, we have established a sales force of 55 employees, including 51regional sales managers, as of March 31, 2007. We have also expanded thenetwork of independent sales agents to generate sales leads for our regionalsales managers. We also will participate in various industry conferences inorder to accelerate the market awareness and adoption of our products. Theseefforts, as well as the overall expansion of our business, will providechallenges to our organization and may increase the burden on our managementand operations. We plan to monitor our business as it grows and appropriatelyacquire and allocate resources to address these issues.

Our long-termfinancial objectives are to grow our business through the sale of the NC-statSystem and the DigiScope and additional products that may be commercialized forthe diagnosis and treatment of neuropathies and to achieve sustainableprofitability. However, during the remainder of 2007 our revenues may continueto decline and we may continue to incur losses as a result of the reimbursementand other issues we are currently facing. Our efforts during the remainder of2007 will focus on (1) sales of the NC-stat System, (2) sales andmarketing of the DigiScope for the detection of diabetic retinopathy,(3) the expected launch of our third-generation neurodiagnostic system,the ADVANCETM System, (4) efforts to manage thereimbursement challenges posed by third-party payers for the NC-stat System and(5) our ongoing research and development programs. Our expectedlaunch of the ADVANCE System will depend upon our receipt of regulatoryclearance from the U.S. Food and Drug Administration (“FDA”). We submitted ourinitial 510(k) filing for the ADVANCE System in the first quarter of 2007 andrecently submitted a response to a request for additional information from theFDA. During the remainder of 2007, we expect to continue efforts onimprovements to our biosensors, on the development of products to diagnoseadditional neuropathies, on the development of a product forthe minimally invasive treatment of neuropathies and on thefinal development efforts on the ADVANCE System. During 2007, we initiatedclinical testing of our product for the local delivery of drugsfor the treatment of neuropathies by both primary care and specialistphysicians. We believe that the accomplishment of these goals will have a positiveimpact on our progress toward the long-term objective of growing the businessand achieving sustainable profitability.

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**Resultsof Operations**

The following tablepresents certain statement of operations information stated as a percentage oftotal revenues:
| ** **                              | ** ** | **Three Months Ended   March 31,** | ** ** |
|-----------------------------------------|------------|--------------------------------------------------------|------------|
| ** **                              | ** ** | **2007**                                               | ** ** | **2006** | ** ** |
| ** **                              | ** ** | ** **                                             | ** ** | **(as restated)** | ** ** |
| Revenues:                               | ** ** | ** **                                             |       |   |   |
| Diagnostic  device                      |       | 10.9                                                   | %          | 13.0 | % |
| Biosensor                               |       | 87.4                                                   |       | 87.0 |   |
| Other                                   |       | 1.8                                                    |       | — |   |
| Total revenues                          |       | 100.0                                                  |       | 100.0 |   |
|                                    |       |                                                   |       |   |   |
| Cost of revenues                        |       | 26.3                                                   |       | 24.4 |   |
|                                    |       |                                                   |       |   |   |
| Gross margins                           |       | 73.7                                                   |       | 75.6 |   |
|                                    |       |                                                   |       |   |   |
| Operating  expenses:                    |       |                                                   |       |   |   |
| Research and  development               |       | 10.3                                                   |       | 10.6 |   |
| Sales and  marketing                    |       | 50.8                                                   |       | 44.6 |   |
| General and  administrative             |       | 28.4                                                   |       | 23.7 |   |
| Total operating  expenses               |       | 89.6                                                   |       | 78.9 |   |
| Loss from  operations                   |       | (15.9                                                  | )          | (3.3 | ) |
| Interest income                         |       | 4.2                                                    |       | 2.5 |   |
| Loss before  provision for income taxes |       | (11.7                                                  | )          | (0.8 | ) |
| Provision for  income taxes             |       | —                                                 |       | 0.1 |   |
| Net loss                                |       | (11.7                                                  | )%         | (0.9 | )% |

 

**Comparisonof Three Months Ended March 31, 2007 and March 31, 2006**

*Revenues*

The following tablespresent a breakdown of our customers, biosensor units used and revenues:

|            | ** ** | **12-Month Period   Ended March 31,** | ** ** | ** ** | ** ** | ** ** | ** ** |
|------------|------------|-----------------------------------------------------------|------------|------------|------------|------------|------------|
| ** ** | ** ** | **2007**                                                  | ** ** | **2006**   | ** ** | **Change** | ** ** | **% Change** | ** ** |
|       |       |                                                      |       |       |       |       |       |   |   |
| Customers  |       | 5,211                                                     |       | 3,639      |       | 1,572      |       | 43.2 | % |

 

|                       | ** ** | **Three Months Ended   March 31,** | ** ** | ** ** | ** ** | ** ** | ** ** |
|-----------------------|------------|--------------------------------------------------------|------------|------------|------------|------------|------------|
| ** **            | ** ** | **2007**                                               | ** ** | **2006**   | ** ** | **Change** | ** ** | **% Change** | ** ** |
|                  |       |                                                   |       |       |       |       |       |   |   |
| Biosensor units  used |       | 293,200                                                |       | 255,500    |       | 37,700     |       | 14.8 | % |
| ** **            | ** ** | ** **                                             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |

 

|                    | ** ** | **($ in thousands)** | ** ** | ** ** | ** ** |
|--------------------|------------|--------------------------------|------------|------------|------------|
| Revenues:          |       |                           |       |       |       |   |   |   |   |
| Diagnostic  device |       | $                              | 1,279.2    |       | $          | 1,541.4 |   | $ | (262.2 | ) | (17.0 | ) |
| Biosensor          |       | 10,272.8                       |       | 10,281.8   |       | (9.1 | ) | (0.1 | ) |
| Other              |       | 205.8                          |       | —     |       | 205.8 |   | N/A |   |
| Total revenues     |       | $                              | 11,757.8   |       | $          | 11,823.3 |   | $ | (65.5 | ) | (0.6 | )% |

 

Diagnostic devicerevenues were $1.3 million and $1.5 million for the three months endedMarch 31, 2007 and March 31, 2006, respectively, a decrease of$262,200, or 17.0%.  Of this decrease,approximately $347,800 is attributable to a lower number of units sold,primarily a result of the impact of our reimbursement matters.  Conversely, this decrease is offset by anincrease of approximately $85,600 attributable to the increase in the listprice of our NC-stat monitors and docking stations from $5,000 to $6,000effective January 1, 2007, which resulted in a higher average sale priceduring the three months ended March 31, 2007 as compared to the same periodin 2006. Diagnostic device revenues accounted for 10.9% and 13.0% of our totalrevenues for the three months ended March 31, 2007 and March 31,2006, respectively.

Biosensor revenueswere $10.3 million for the three months ended March 31, 2007 and 2006.Biosensor revenues accounted for 87.4% and 87.0% of our total revenues for thethree months ended March 31, 2007 and March 31, 2006, respectively.

Our customers used293,200 biosensors in the three months ended March 31, 2007, compared to255,500 biosensors for the same period in 2006, an increase of 37,700 or 14.8%.This increase in biosensor usage is primarily the result of the increase in thecustomer base, offset by a decline in average usage per customer.  During the 12-month period endingMarch 31, 2007, a total of 5,211 customers used our NC-stat Systemcompared to 3,639 customers for the same period ending March 31,2006.  The average usage per accountdeclined from 70 biosensors per quarter for the quarter ended March 31, 2006 to56 biosensors per quarter for the quarter ended March 31, 2007.

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Other revenues areattributable to the DigiScope, for which we obtained an exclusive sales andmarketing license from EyeTel in October 2006 and launched our sales andmarketing efforts during the first quarter of 2007. The revenues related to theDigiScope were derived from customer accounts that existed at the time of oursigning of the license agreement with EyeTel and were transferred to us.

Our total revenueswere $11.8 million for the three months ended March 31, 2007 andMarch 31, 2006.

We anticipate thatrevenues in the remainder of 2007 may continue to decline. In the first quarterof 2007, we experienced a decline in revenues of approximately 17% from thefourth quarter of 2006, which we believe primarily resulted from theuncertainty created by the issuance of draft LCDs, final LCDs and codingarticles addressing reimbursement for nerve conduction studies that were issuedby five local Medicare carriers covering a total of twenty states and policiesissued by commercial payers intended to deter usage or limit the reimbursementfor the NC-stat System. These developments and other future reimbursementdecisions could adversely impact reimbursement for procedures performed usingthe NC-stat System. Our revenues in the remainder of 2007 are likely to beimpacted by (a) the level of reimbursement, if any, established for proceduresperformed using the NC-stat System by these carriers and other third-partypayers, (b) whether final LCDs are applied in a manner that places additionalrestrictions or qualifications on the performance of these procedures, (c) anyother reimbursement determinations relating to nerve conduction studies thatmay be issued by third-party payers or (d) any other events causing uncertaintyas to the existence or amount of reimbursement physicians are likely to receivefor performing procedures using the NC-stat System. We do, however, expectrevenues to be positively impacted by the initiation of our sales and marketingefforts for the DigiScope. Overall, revenues could be impacted by a variety offactors, including the level of demand for our products, potential for changesin third-party reimbursement for nerve conduction studies, the overall economy,competitive factors and the factors described in the section of this Quarterly Reporton Form 10-Q titled “Cautionary Note Regarding Forward-Looking Statements.”

*Costsand expenses*

The following tablepresents our costs and expenses and net loss:
|                                                                                                      | ** ** | **Three Months Ended  March 31,** | ** ** | ** **                     | ** ** | ** ** | ** ** |
|------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------|------------|--------------------------------|------------|------------|------------|
| ** **                                                                                           | ** ** | **2007**                                         | ** ** | **2006**                       | ** ** | **Change** | ** ** | **% Change** | ** ** |
| ** **                                                                                           | ** ** | ** **                                       | ** ** | **(as restated)**         | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                                                                           | ** ** | ** **                                       | ** ** | **($ in thousands)** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Cost of revenues:                                                                                    |       |                                             |       |                           |       |       |       |   |   |
| Diagnostic  device                                                                                   |       | $                                                | 230.5      |                           | $          | 303.1      |       | $ | (72.6 | ) | (23.9 | )% |
| Biosensor                                                                                            |       | 2,695.7                                          |       | 2,576.9                        |       | 118.9      |       | 4.6 |   |
| Other                                                                                                |       | 168.4                                            |       | —                         |       | 168.4      |       | N/A |   |
| Total costs of revenues                                                                              |       | 3,094.6                                          |       | 2,879.9                        |       | 214.7      |       | 7.5 |   |
| Gross Margin:                                                                                        |       |                                             |       |                           |       |       |       |   |   |
| Diagnostic device                                                                                    |       | 1,048.7                                          |       | 1,238.4                        |       | (189.7     | )          | (15.3 | ) |
| Biosensor                                                                                            |       | 7,577.0                                          |       | 7,705.0                        |       | (127.9     | )          | (1.7 | ) |
| Other                                                                                                |       | 37.4                                             |       | —                         |       | 37.4       |       | N/A |   |
| Total gross  margin                                                                                  |       | 8,663.2                                          |       | 8,943.4                        |       | (280.2     | )          | (3.1 | ) |
| Gross Margin %:                                                                                      |       |                                             |       |                           |       |       |       |   |   |
| Diagnostic  device                                                                                   |       | 82.0                                             | %          | 80.3                           | %          |       |       |   |   |
| Biosensor                                                                                            |       | 73.8                                             |       | 74.9                           |       |       |       |   |   |
| Other                                                                                                |       | 18.2                                             |       | —                         |       |       |       |   |   |
| Total gross margin %                                                                                 |       | 73.7                                             |       | 75.6                           |       |       |       |   |   |
| Operating Expenses:                                                                                  |       |                                             |       |                           |       |       |       |   |   |
| Research and development(1)                                                                          |       | 1,215.1                                          |       | 1,258.6                        |       | (43.5      | )          | (3.5 | ) |
| Sales and  marketing(1)                                                                              |       | 5,975.9                                          |       | 5,268.3                        |       | 707.7      |       | 13.4 |   |
| General and  administrative(1)                                                                       |       | 3,342.2                                          |       | 2,805.2                        |       | 537.0      |       | 19.1 |   |
| Total operating  expenses                                                                            |       | 10,533.2                                         |       | 9,332.1                        |       | 1,201.1    |       | 12.9 |   |
| Loss from operations                                                                                 |       | (1,870.1                                         | )          | (388.7                         | )          | (1,481.3   | )          | 381.0 |   |
| Interest income                                                                                      |       | 492.8                                            |       | 293.6                          |       | 199.2      |       | 67.8 |   |
| Loss before provision for  income taxes                                                              |       | (1,377.3                                         | )          | (95.2                          | )          | (1,282.1   | )          | 1,347.3 |   |
| Provision for  income taxes                                                                          |       | —                                           |       | 7.5                            |       | (7.5       | )          | (100.0 | ) |
| Net loss                                                                                             |       | $                                                | (1,377.3   | )                              | $          | (102.7     | )          | $ | (1,274.6 | ) | 1,241.6 | % |
|                                                                                                 |       |                                             |       |                           |       |       |       |   |   |   |
| (1)    Non-cash  stock-based compensation expense included in these amounts is as follows: |       |                                             |       |
|                                                                                                 |       |                                             |       |                           |       |       |       |   |   |
| Research and development                                                                             |       | $                                                | 41.6       |                           | $          | 218.8      |       |   |   |   |   |
| Sales and  marketing                                                                                 |       | 214.1                                            |       | 190.9                          |       |       |       |   |   |
| General and administrative                                                                           |       | 311.9                                            |       | 327.6                          |       |       |       |   |   |
|                                                                                                      |            |                                                  |            |                                |            |            |            |  |  |  |  |  |  |

 

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*GrossMargin*

Diagnostic devicegross margin percentage increased to 82.0% for the three months endedMarch 31, 2007 from 80.3% for the same period in 2006. The increase in thegross margin percentage is primarily attributable to an increase in the listprice of our NC-stat System from $5,000 to $6,000 effective January 1,2007.

Biosensor grossmargin percentage decreased to 73.8% for the three months ended March 31,2007 from 74.9% for the same period in 2006. The decrease in the biosensorgross margin percentage is primarily due to the change in the mix of biosensorssold.

Other gross marginpercentage, which related entirely to the DigiScope, was 18.2% for the threemonths ended March 31, 2007. DigiScope revenues in the first quarter of 2007represent monthly rental fees and eye scan fees associated with customeraccounts that existed at the time of our signing the license agreement withEyeTel. Under the terms of agreement, we are required to remit a percentage ofthe revenues related to the DigiScope to EyeTel. The agreement includes aprovision for a higher percentage of the scan fees to be remitted to EyeTel forthese existing customers for the first nine months of the agreement.

Our overall grossmargin percentage was 73.7% for the three months ended March 31, 2007compared to 75.6% for the same period in 2006.

Our gross marginsmay decline during the remainder of 2007 with increased placements and scansperformed with the DigiScope and the potential introduction of the ADVANCESystem, which is expected to have lower gross margins due to higher productioncosts compared with the current diagnostic devices. We do, however, expect thatthe DigiScope gross margins will improve as we obtain new customers and realizea higher percentage of the eye scan fees compared with the existing customerbase.

*Researchand Development*

Our research anddevelopment, or R&D, expenses include expenses associated with ourresearch, product development, clinical, regulatory and quality assurancedepartments.

R&D expensesdecreased $43,500, or 3.5%, to $1.2 million for the three months endedMarch 31, 2007 from $1.3 million for the same period in 2006. As apercentage of revenues, R&D expenses were 10.3% and 10.6% for the threemonths ended March 31, 2007 and March 31, 2006, respectively. Thedecrease in expenses was primarily due to a decrease of $177,100 in stock-basedcompensation expense relating to option grants to non-employees, offset in partby an increase of $140,900 in personnel costs resulting from the hiring ofadditional employees in our R&D department and also due to increases inemployee compensation. The new hires and the associated increase in personnelcosts is primarily related to the development of the ADVANCE System.

We expect ourspending on R&D will be relatively unchanged during the remainder of 2007,as compared with the first quarter of 2007. We anticipate that resourcesdevoted to the development of the ADVANCE System will be reallocated to otherresearch and development efforts. This amount may vary, however, depending onthe opportunities and challenges that arise during the year.

*Salesand Marketing*

Our sales andmarketing expenses include expenses from the marketing, field sales, salesadministration and reimbursement departments.

Sales andmarketing expenses increased $707,700, or 13.4%, to $6.0 million for the threemonths ended March 31, 2007 from $5.3 million for the same period in 2006.As a percentage of revenues, sales and marketing expenses were 50.8% and 44.6%for the three months ended March 31, 2007 and March 31, 2006,respectively. The increase in expenses was primarily due to an increase of$282,500 in employee compensation and benefit costs attributable to theexpansion of our sales force, an increase of $168,800 in advertising andpromotional materials and an increase of $138,100 in consulting services,primarily to assist us with the reimbursement challenges we are facing.

We have increasedour sales force to 55 employees, including 51 regional sales managers, as ofMarch 31, 2007 from 46 employees, including 43 regional sales managers as ofMarch 31, 2006. We plan to sell the DigiScope through the same sales force usedto sell the NC-stat System and as a result we do not anticipate the need to expandthe sales force to support the sales and marketing efforts for the DigiScope.However, we may incur additional expenses relating to sales commissions andmarketing materials in connection with the sale of the DigiScope. For theremainder of 2007, we expect sales and marketing expenses to decline modestly,as compared with the first quarter of 2007; however, this may vary, dependingprimarily on our revenues for 2007.

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*Generaland Administrative*

Our general andadministrative expenses include expenses from the executive, finance,administrative, customer service and information technology departments.

General andadministrative expenses increased $537,000, or 19.1%, to $3.3 million for thethree months ended March 31, 2007 from $2.8 million for the same period in2006. As a percentage of revenues, general and administrative expenses were28.4% and 23.7% for the three months ended March 31, 2007 andMarch 31, 2006, respectively. The increase in expenses is primarily due toan increase of $337,200 in professional fees for legal and accounting servicesand an increase of $209,000 in bad debt expense resulting from an increase inpast due accounts.

We expect ourgeneral and administrative expenses to increase during the remainder of 2007,as compared with the first quarter of 2007, as a result of consulting expensesand legal fees associated with our efforts to address the reimbursement andother legal challenges we face, including the investigation by the U.S.Department of Justice of which we are the subject.

*InterestIncome*

Interest incomewas $492,800 and $293,600 during the three months ended March 31, 2007 andMarch 31, 2006, respectively. Interest income was earned from investmentsin cash equivalents and short-term investments. The increase in interest incomefor the quarter ended March 31, 2007, as compared to the quarter endedMarch 31, 2006 is primarily due to higher average cash balances and anincrease in the average portfolio yield attributable to a shift in theportfolio mix to higher yielding fixed maturities and the impact of highermarket interest rates in 2007.

*Provision for Income Taxes*

We recorded noprovision for the quarter ended March 31, 2007. We recorded a tax provisionrelated to the alternative minimum tax of $7,500 for the quarter endedMarch 31, 2006.

**Liquidityand Capital Resources**

Ourprincipal source of liquidity is our current cash and cash equivalents andshort-term held-to-maturity investments. As of March 31, 2007, theweighted average maturity of our cash equivalents and short-termheld-to-maturity investments was 166 days. Our ability to generate cashfrom operations is dependent upon our ability to generate revenue from sales ofour products, as well as our ability to manage our operating costs and manageour investments in inventories and other components of working capital. Adecrease in demand for our products or unanticipated increases in our operatingcosts or investments in inventories and other components of working capital,would likely have an adverse effect on our liquidity and cash generated fromoperations. The following sets forth information relating to our liquidity:
| ** **                                                                | ** ** | **March 31,   2007** | ** ** | **December 31,   2006** | ** ** | **Change** | ** ** | **% Change** | ** ** |
|---------------------------------------------------------------------------|------------|--------------------------------|------------|-----------------------------------|------------|------------|------------|-------------------|------------|
| ** **                                                                | ** ** | **($ in thousands)** | ** ** |
| Cash and cash  equivalents                                                |       | $                              | 6,816.2    |                              | $          | 7,909.8    |       | $                 | (1,093.6   | ) | (13.8 | )% |
| Short-term  held-to-maturity investments                                  |       | 31,791.5                       |       | 32,410.7                          |       | (619.2     | )          | (1.9              | )          |
| Total cash, cash  equivalents and short-term held-to-maturity investments |       | $                              | 38,607.7   |                              | $          | 40,320.5   |       | $                 | (1,712.8   | ) | (4.2 | )% |

 

During the firstquarter of 2007, our cash and cash equivalents and short-term held-to-maturityinvestments decreased by $1.7 million, primarily due to $1.6 million of cashused in operations and $77,300 of cash used for capital expenditures.

Inmanaging our working capital, two of the financial measurements we monitor aredays’ sales outstanding, or DSO, and inventory turnover rate, which arepresented in the table below for the three month periods ended March 31,2007, March 31, 2006 and the year ended December 31, 2006:
| ** **                                | ** ** | **Three Months Ended  March 31,** | ** ** | **Year Ended  December 31,** | ** ** |
|-------------------------------------------|------------|--------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                | ** ** | **2007**                                         | ** ** | **2006**                               | ** ** | **2006** | ** ** |
| Days’ sales  outstanding (days)      |       | 55                                               |       | 39                                     |       | 40 |   |
| Inventory turnover rate  (times per year) |       | 3.0                                              |       | 4.0                                    |       | 4.3 |   |

 

Our payment termsextended to our customers generally require payment within 30 days from invoicedate. During the first quarter of 2007, we experienced an increase in DSO to 55days from 49 days in the fourth quarter of 2006 and there was a significantincrease in the percentage of accounts receivable past due 60 days or more. Webelieve that these increases were primarily the result of challengessurrounding the reimbursement by Medicare and commercial payers in certainregions of the United States for nerve conduction studies performed using theNC-stat System. As long as we continue to face these reimbursement challengesour DSO and our working capital

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may continue to be adversely impacted. Accountspayable are normally paid within 30 to 40 days from receipt of a vendor’sinvoice.

Our inventoryturnover for the quarter ended March 31, 2007 was 3.0 times, compared with4.3 times for the year ended December 31, 2006. The decrease in the inventoryturnover rate for the quarter ended March 31, 2007 as compared to the yearended December 31, 2006 was primarily due to decreased demand for the NC-statSystem, increased production of biosensors at our third-party manufacturer andthe initial production of the ADVANCE System. We anticipate additionalincreases in inventory levels by approximately $1.0 million to $1.2 million inpreparation for the expected release of the ADVANCE System. We anticipate thiswill continue to reduce our inventory turnover as we build inventory prior tothe initial sale of this new product.

The following setsforth information relating to the sources and uses of our cash:
| ** **                                           | ** ** | **Three Months Ended  March 31,** | ** ** |
|------------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                           | ** ** | **2007**                                         | ** ** | **2006** | ** ** |
| ** **                                           | ** ** | ** **                                       | ** ** | **(as restated)** | ** ** |
| ** **                                           | ** ** | **(in thousands)**                          | ** ** |
| Net cash used in  operating activities               |       | $                                                | (1,637.0   | ) | $ | (235.8 | ) |
| Net cash  provided by (used in) investing activities |       | 525.0                                            |       | (3,089.6 | ) |
| Net cash  provided by financing activities           |       | 18.4                                             |       | 551.1 |   |
|                                                      |            |                                                  |            |  |  |  |  |

 

Our operatingactivities used $1.6 million and $235,800 in the three months ended March 31,2007 and 2006, respectively. In the first quarter of 2007, a net loss of $1.4million and a net use of cash of approximately $1.3 million for our investmentin working capital was offset by $1.0 million in non-cash items, mainlycompensation expense associated with stock options. The primary drivers for theuses of cash in our investment in working capital were attributable to anincrease in our inventories of $980,800 primarily for the release of theADVANCE System and a decrease in accounts payable of $681,500. These items werepartially offset by a $665,900 decrease in accounts receivable, excluding theprovision for doubtful accounts, due to a decline in revenues. In the firstquarter of 2006, a net loss of $102,700 and a net use of cash of approximately$1.1 million for our investment in working capital was partly offset by$992,600 in non-cash items, mainly compensation expense associated with stockoptions. The primary drivers of our investment in working capital wereattributable to an increase in accounts receivable of $1.1 million, excludingthe provision for doubtful accounts, due to growth in revenues. Additionally,our inventories increased $353,100, due to the growth in our business and astrategic decision to increase inventory levels from two months to three monthsof purchases, and a decrease in accounts payable of $260,500. These items wereoffset by a $558,300 increase in accrued expenses, partially attributable tosales taxes.

As a result of thedecline in revenues and increase in expenses, we incurred a net loss in thefirst quarter of 2007 and we expect to experience net losses for the remainderof 2007. This may have an adverse impact on our cash flows from operatingactivities for the remainder of 2007. In addition, we expect to have increasedinvestments in working capital, especially inventories, due to the pre-launchproduction of the ADVANCE System.

Our investingactivities provided $525,000 of cash in the three months ended March 31, 2007and used $3.1 million of cash in the same period a year ago. In the firstquarter of 2007, $11.0 million in investment maturities provided cash which wasoffset by $10.4 million in investment purchases and $77,300 used to fundpurchases of fixed assets primarily related to computer equipment and toolingequipment for new products. In the first quarter of 2006, $13.8 million ininvestment purchases and $144,200 used to fund purchases of fixed assets,primarily computer equipment, were partially offset by $10.8 million in cashprovided from investment maturities.

During 2007, weexpect to continue to maintain our cash and investments in money market fundsand short-term investment vehicles. We do not currently have any significantcommitments to purchase capital equipment and we expect that our capitalexpenditures will be comparable to the level of such expenditures in 2006.

In connection withour property lease entered into at the beginning of January 2001, we arerequired to maintain, for the benefit of the lessor, an irrevocable standbyletter of credit stating the lessor as the beneficiary. The original amount ofthe letter of credit was $1,860,000. During September 2005, in accordancewith the terms of the lease agreement, the amount required under the letter ofcredit was reduced to $1,430,000. The letter of credit is secured by acertificate of deposit in an amount equal to 102% of the letter of credit, or$1,458,600. The lease expires in March 2009. The certificate of deposit isrenewable in 30-day increments. This amount is classified as restricted cash inthe balance sheet.

Our financingactivities provided $18,400 and $551,100 in the three months ended March 31, 2007and 2006, respectively. Cash provided by financing activities in the firstquarter of 2007 and 2006 represents the proceeds from the exercise of stockoptions.

During theremainder of 2007, we may fund sales and marketing efforts for the DigiScopeand continue our research and development programs, including the ADVANCESystem and our drug delivery system, which is expected to enter the clinicalstage of development in 2007, for the minimally invasive delivery oftherapeutic agents to treat neuropathies by both primary care and specialist physicians.We also expect to incur capital expenditures for computer hardware and softwareto support our business and the additional requirements of our customer base.We believe that the combination of funds available from cash and cashequivalents and funds available from our short-term investments will beadequate to finance our ongoing operations for at least 24 months, includingthe expenditures described above.

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To date, inflationhas not had a material impact on our financial operations.

*Off-BalanceSheet Arrangements, Contractual Obligation and Contingent Liabilities andCommitments*

As ofMarch 31, 2007, we did not have any off-balance sheet financingarrangements.

* NewAccounting Pronouncements*

InFebruary 2007, the Financial Accounting Standards Board (“FASB”) issuedSFAS No. 159, “*The Fair Value Optionfor Financial Assets and Financial Liabilities, including an amendment of FASBStatement No. 115*.” (“SFAS No. 159”) SFAS No. 159permits entities to choose to measure many financial instruments and certainother items at fair value that are not currently required to be measured atfair value. Unrealized gains and losses on items for which the fair valueoption has been elected are reported in earnings. SFAS No. 159 does notaffect any existing accounting literature that requires certain assets andliabilities to be carried at fair value. SFAS No. 159 is effective forfiscal years beginning after November 15, 2007. We believe that ouradoption of SFAS No. 159 will not have a material impact on our financialposition, results of operations or cash flows.

InSeptember 2006, the FASB issued SFAS No. 157, *“Fair Value Measurements”* (“SFASNo. 157”). SFAS No. 157 defines fair value in numerous accountingpronouncements, establishes a framework for measuring fair value in generallyaccepted accounting principles (“GAAP”) and expands disclosures related to theuse of fair value measures in financial statements. SFAS No. 157 does notexpand the use of fair value measures in financial statements, but standardizesits definition and guidance in GAAP. The Standard emphasizes that fair value isa market-based measurement and not an entity-specific measurement based on anexchange transaction in which the entity sells an asset or transfers aliability (exit price). SFAS No. 157 establishes a fair value hierarchyfrom observable market data as the highest level to fair value based on anentity’s own fair value assumptions as the lowest level. SFAS No. 157 iseffective for our financial statements issued in 2008; however, earlierapplication is encouraged. We have not yet determined the impact that theadoption of SFAS No. 157 will have on our financial position, results ofoperations or its cash flows.

In June 2006,the FASB issued FASB Interpretation No. 48,*“Accounting for Uncertainty in Income Taxes—an interpretation of FASBStatement No. 109”* (“FIN No. 48”), which clarifies theaccounting and disclosure for uncertainty in tax positions, as defined. FINNo. 48 requires that management recognize in the Company’s financial statementsthe impact of the tax position if that position is more likely than not ofbeing sustained upon examination, based on the technical merits of theposition. The Company adopted the provisions of FIN No. 48 effectiveJanuary 1, 2007 and such adoption did not have a material effect on thefinancial statements. See Note 7 — Income Taxes — Adoption of FIN No. 48.

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**CAUTIONARY NOTE REGARDINGFORWARD-LOOKING STATEMENTS**

The statementscontained in this Quarterly Report on Form 10-Q, including under thesection titled “Management’s Discussion and Analysis of FinancialCondition and Results of Operations” and other sections of this QuarterlyReport, include forward-looking statements within the meaning ofSection 27A of the Securities Act of 1933, as amended, andSection 21E of the Securities Exchange Act of 1934, as amended, including,without limitation, statements regarding our or our management’s expectations,hopes, beliefs, intentions or strategies regarding the future. The words “believe,”“may,” “will,” “estimate,” “continue,” “anticipate,” “intend,” “expect,” “plan”and similar expressions may identify forward-looking statements, but theabsence of these words does not mean that a statement is not forward-looking.The forward-looking statements contained in this Quarterly Report are based onour current expectations and beliefs concerning future developments and theirpotential effects on us. There can be no assurance that future developmentsaffecting us will be those that we have anticipated. These forward-lookingstatements involve a number of risks, uncertainties (some of which are beyondour control) or other assumptions that may cause actual results or performanceto be materially different from those expressed or implied by theseforward-looking statements. These risks and uncertainties include, but are notlimited to, risks associated with: our dependence on the NC-stat System and itscomponents; our ability to increase our customer base and expand the market forour products; our ability to accurately predict the size of the market for theNC-stat System; our ability to manage our growth; obtaining necessaryregulatory approvals, including regulatory approval for the ADVANCE System andthe onCall Information System; our reliance on single source third partymanufacturers and suppliers to produce our products; reimbursement by thirdparty payors to our customers for procedures performed using the NC-statSystem; limitations on the reimbursement for the NC-stat System if the AMA CPTpanel renders a decision that the codes for traditional nerve conduction arenot applicable to the NC-stat System; compliance with applicable qualitycontrol and manufacturing standards; compliance with federal and state lawsprotecting the confidentiality of patient health information and prohibiting “kickbacks”and false or fraudulent claims or adverse publicity or costs relating to anyinvestigation into our practices under these laws; our ability to retain andrecruit key management, scientific and sales personnel; delays in thedevelopment of new products or to planned improvements to our products;effectiveness of our products compared to other medical device products;protection of our intellectual property and other proprietary rights; conflictswith the intellectual property of third parties; product liability lawsuits orclaims that may be brought against us; dependence upon computer andcommunication infrastructure utilized by our products; publication of futureclinical studies or other articles or announcement of positions by physicianassociations or other organizations that are unfavorable to our products; ourcapital and financing needs; our successful integration of any acquiredbusinesses; and the other factors described in the section of our Annual Reporton Form 10-K titled “Item 1A. Risk Factors,” as updated in Part II,Item1A of this Quarterly Report on Form 10-Q and our other filings. Should oneor more of these risks or uncertainties materialize, or should any of our assumptionsprove incorrect, actual results may vary in material respects from thoseprojected in these forward-looking statements. We undertake no obligation toupdate or revise any forward-looking statements, whether as a result of newinformation, future events or otherwise, except as may be required underapplicable securities laws.

**Item3.    Quantitative and Qualitative Disclosures About Market Risk**

We do not usederivative financial instruments in our investment portfolio and have noforeign exchange contracts. Our financial instruments consist of cash, cashequivalents, short-term investments, accounts receivable, accounts payable,accrued expenses and long-term obligations. We consider investments that, whenpurchased, have a remaining maturity of 90 days or less to be cashequivalents. The primary objectives of our investment strategy are to preserveprincipal, maintain proper liquidity to meet operating needs, and maximizeyields. To minimize our exposure to an adverse shift in interest rates, we investmainly in cash equivalents and short-term investments and long-term investmentswith a maturity of eighteen months or less and maintain an average maturity oftwelve months or less. We do not believe that a 10% change in interest rateswould have a material impact on the fair value of our investment portfolio orour interest income.

**Item4.    Controls and Procedures**

**(a)**   Evaluation of disclosure controls andprocedures.

Our managementcarried out an evaluation, with the participation of our Chief ExecutiveOfficer and our Chief Financial Officer, of the effectiveness of our disclosurecontrols and procedures (as defined in Rules 13a-15(e) and15d-15(e) under the Securities Exchange Act of 1934, as amended (the “ExchangeAct”)) as of March 31, 2007. Our disclosure controls and procedures aredesigned to provide reasonable assurance that information required to bedisclosed by us in the reports that we file or submit under the Exchange Act isrecorded, processed, summarized and reported within the time periods specifiedin the SEC’s rules and forms, and that such information is accumulated andcommunicated to our management, including our Chief Executive Officer and ourChief Financial Officer, to allow timely decisions regarding requireddisclosures.

As previouslydisclosed in our Annual Report on Form 10-K for the year ended December 31,2006, we have a material weakness in internal controls over financial reportingrelating to state sales tax as described below. Our Chief Executive Officer andour Chief Financial Officer concluded that because our material weaknesscontinued to exist at March 31, 2007, our disclosure controls and procedureswere not effective as of March 31, 2007. Notwithstanding the materialweakness described below, our management believes that the financial statementsincluded in this Quarterly Report on Form 10-Q are fairly presented in allmaterial respects in accordance with accounting principles generally acceptedin the United States of America.

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A materialweakness is a control deficiency, or combination of control deficiencies, thatresults in more than a remote likelihood that a material misstatement of theannual or interim financial statements will not be prevented or detected. As ofDecember 31, 2006, we did not maintain effective controls over our sales taxliability and related expense accounts. Specifically*,* we did not have adequate controls designed and in place toassure that state sales taxes were properly collected and remitted in allstates in which we operate. This control deficiency resulted in the restatementof our financial statements for the years ended December 31, 2005 and2004, each of the quarters of 2005 and the first three quarters of the yearended December 31, 2006. Additionally, this control deficiency couldresult in a misstatement of our sales tax liability and related accounts that,in the future, would result in a material misstatement to the annual or interimfinancial statements that would not be prevented or detected. Accordingly,management has concluded that this control deficiency constitutes a materialweakness which still exists at March 31, 2007.

We have undertakenefforts to remediate this control deficiency and are currently assessing salesand marketing activities in each state in which we have sales but have not beenfiling sales tax returns to determine if we have nexus. Based on thisassessment, we are in the process of communicating with each applicable stateto register and determine the amount of sales tax due for prior periods and totake the necessary steps to become compliant with all sales tax requirements ona prospective basis. We have retained a third party consulting firm and acertified service provider to assist us with this process. We anticipate thatthis process will be complete within the next several months.

**(b)**         Changes in internal control over financial reporting.

There have been nochanges to our internal control over financial reporting (as defined inRule 13a-15(f) under the Exchange Act) during the quarter endedMarch 31, 2007 that has materially affected, or is reasonably likely tomaterially affect, our internal control over financial reporting.

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**Part II**

**Other Information**

**Item1.   Legal Proceedings**

None.

**Item1A. Risk Factors**

There have been nomaterial changes in the risk factors described in “Item 1A—Risk Factors”of our Annual Report on Form 10-K for the year ended December 31,2006, except to the extent updated or to the extent additional factualinformation disclosed elsewhere in this Quarterly Report on Form 10-Q relatesto such risk factors.

**Item2.   Unregistered Sales of Equity Securities and Use of Proceeds**

None.

**Item3.    Defaults Upon Senior Securities**

None.

**Item4.    Submission of Matters to a Vote of Security Holders.**

None.

**Item5.    Other Information**

None.

**Item6.    Exhibits**

See theExhibit Index on the page immediately preceding the exhibits for alist of exhibits filed as part of this quarterly report, whichExhibit Index is incorporated herein by this reference.

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SIGNATURES

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 
|                         | ** ** | ** ** | ** ** | **NEUROMETRIX, INC.**                 |
|-------------------------|------------|------------|------------|---------------------------------------|
| Date:  May 9, 2007 |       | /s/        |       | Shai N. Gozani, M.D.,  Ph. D.         |
|                    |       |       |       | Shai N. Gozani, M.D., Ph. D.          |
|                    |       |       |       | Chief Executive Officer and President |
| Date:  May 9, 2007 |       | /s/        |       | W. Bradford Smith                     |
|                    |       |       |       | W. Bradford Smith                     |
|                    |       |       |       | Chief Financial Officer               |

 

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Exhibit Index
| 3.1   |   | Certificate of Designations, Preferences and Rights  of a Series of Preferred Stock of NeuroMetrix, Inc. classifying and  designating the Series A Junior Participating Cumulative Preferred Stock (1). |
|-------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 4.1   |   | Shareholder Rights  Agreement, dated as of March 7, 2007 between NeuroMetrix, Inc. and American  Stock Transfer & Trust Company, as Rights Agent. (1)                                               |
| *31.1 |   | Certification of  Principal Executive Officer pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002.                                                                                          |
| *31.2 |   | Certification of  Principal Financial Officer pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002.                                                                                          |
| *32   |   | Certification of  Principal Executive Officer and Principal Financial Officer pursuant to Section 906  of the Sarbanes-Oxley Act of 2002.                                                          |

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*                    Filedherewith

(1)             Incorporatedherein by reference to NeuroMetrix, Inc.’s Form 8-A filed on March 8, 2007.

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