**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

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**FORM 10-QSB**

 
| **(Mark One)**                                                                                                                                                                           |       |                                                                                                          |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------------|
| **ý**                                                                                                                                                                               | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES  EXCHANGE ACT OF 1934**  |
|                                                                                                                                                                                     |       |                                                                                                          |
| **For the  Quarterly Period Ended March 31, 2006**                                                                                                                                       |
|                                                                                                                                                                                     |       |                                                                                                          |
| **Or**                                                                                                                                                                                   |
|                                                                                                                                                                                     |       |                                                                                                          |
| **o**                                                                                                                                                                                    | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES  EXCHANGE ACT OF 1934** |
|                                                                                                                                                                                     |       |                                                                                                          |
| **For the  transition period from               to            ** |
| ** **                                                                                                                                                                               |
| **Commission  file number 0-50442**                                                                                                                                                      |

 

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**MEDICOR LTD.**

(Exact name of smallbusiness issuer as specified in its charter)

 

| **Delaware**                              | ** ** | **14-1871462**      |
|-------------------------------------------|------------|---------------------|
| (State or other  jurisdiction             |       | (IRS Employer       |
| of incorporation or  organization)        |       | Identification No.) |
|                                      |       |                |
| **4560 S. Decatur Blvd., Suite 300**      | ** ** | ** **          |
| **Las Vegas, Nevada**                     | ** ** | **89103**           |
| (Address of principal  executive offices) |       | (Zip Code)          |

 

**(702) 932-4560**

(Issuer’stelephone number)

 

Check whether the issuer (1) filed allreports required to be filed by Section 13 or 15 (d) of the Exchange Act duringthe past 12 months (or for such shorter period that the registrant was requiredto file such reports), and (2) has been subject to such filing requirements forthe past 90 days. Yes ý     No o

 

Indicate by check mark whether the registrant is a shell company (asdefined in Rule 12b-2 of the Exchange Act). Yes o     No ý

 

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On May 12, 2006, there were 23,734,641sharesof common stock outstanding.

 

Transitional Small BusinessDisclosure Format (Check one):  Yes o  No **ý**

 

 

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**MEDICORLTD.**

 

# **INDEX**

# ** **

| Part I. Financial  Information |                                                                                        |
|--------------------------------|---------------------------------------------------------------------------------------------|
|                           |                                                                                        |
| Item 1.                        | Consolidated Financial  Statements (Unaudited)                                              |   |
|                           |                                                                                        |   |
|                           | Consolidated Balance Sheet – March  31, 2006                                           |   |
|                           |                                                                                        |   |
|                           | Consolidated Statements of  Operations – Three Months Ended March 31, 2006 and 2005    |   |
|                           |                                                                                        |   |
|                           | Consolidated Statements of  Operations – Nine months Ended March 31, 2006 and 2005     |   |
|                           |                                                                                        |   |
|                           | Consolidated Statements of  Cash Flows – Nine months Ended March 31, 2006 and 2005     |   |
|                           |                                                                                        |   |
|                           | Notes to Consolidated  Financial Statements – March 31, 2006                           |   |
|                           |                                                                                        |   |
| Item 2.                        | Management’s Discussion and  Analysis of Financial Condition and Results of Operations |   |
|                           |                                                                                        |   |
| Item 3.                        | Controls and  Procedures                                                                    |   |
|                           |                                                                                        |   |
| Part II.  Other Information    |                                                                                        |
|                           |                                                                                        |
| Item 1.                        | Legal Proceedings                                                                           |   |
|                           |                                                                                        |   |
| Item 2.                        | Unregistered  Sales of Equity Securities and Use of Proceeds                                |   |
|                           |                                                                                        |   |
| Item 3.                        | Defaults upon  Senior Securities                                                            |   |
|                           |                                                                                        |   |
| Item 4.                        | Submission of  Matters to a Vote of Security Holders                                        |   |
|                           |                                                                                        |   |
| Item 5.                        | Other Information                                                                           |   |
|                           |                                                                                        |   |
| Item 6.                        | Exhibits and Reports on Form  8-K                                                           |   |
|                           |                                                                                        |   |
|                           | Signatures                                                                                  |   |

 

2

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***PART I – FINANCIAL INFORMATION***

 

***ITEM 1. CONSOLIDATED FINANCIALSTATEMENTS (UNAUDITED)***

 

**MediCor Ltd.**

**Consolidated Balance Sheet**

**March 31, 2006**

**(Unaudited)**

 
| **Assets**                                                                                                                                          |   |        |       |
|-----------------------------------------------------------------------------------------------------------------------------------------------------|--------|-------------|------------|
|                                                                                                                                                |   |        |       |
| Current assets:                                                                                                                                     |   |        |       |
|                                                                                                                                                |   |        |       |
| Cash and cash equivalents                                                                                                                           |   | $           | 724,744    |   |
| Accounts receivable, net of allowance of  $1,173,675                                                                                                |   | 7,511,114   |       |
| Notes receivable, net of allowance of  $3,386,109                                                                                                   |   | —      |       |
| Inventories                                                                                                                                         |   | 5,049,291   |       |
| Prepaid expenses and other current assets                                                                                                           |   | 137,118     |       |
|                                                                                                                                                |   |        |       |
| Total current assets                                                                                                                                |   | 13,422,267  |       |
| Property and equipment, net                                                                                                                         |   | 4,976,997   |       |
| Goodwill and other intangible assets, net                                                                                                           |   | 42,378,849  |       |
| Deposits                                                                                                                                            |   | 1,145,720   |       |
| Other assets                                                                                                                                        |   | 501,423     |       |
|                                                                                                                                                |   |        |       |
| Total assets                                                                                                                                        |   | $           | 62,425,255 |   |
|                                                                                                                                                |   |        |       |
| **Liabilities and Stockholders’ Equity**                                                                                                       |   |        |       |
|                                                                                                                                                |   |        |       |
| Current liabilities:                                                                                                                                |   |        |       |
|                                                                                                                                                |   |        |       |
| Accounts payable                                                                                                                                    |   | $           | 8,381,982  |   |
| Accrued expenses and other current  liabilities                                                                                                     |   | 3,997,227   |       |
| Short-term note payable                                                                                                                             |   | 16,818      |       |
| Note payable to related party                                                                                                                       |   | 60,686,257  |       |
| Interest payable to related party                                                                                                                   |   | 7,420,643   |       |
| Current portion of long-term debt                                                                                                                   |   | 2,871,212   |       |
|                                                                                                                                                |   |        |       |
| Total current liabilities                                                                                                                           |   | 83,374,139  |       |
|                                                                                                                                                |   |        |       |
| Long-term debt, net of current portion                                                                                                              |   | 11,481,036  |       |
|                                                                                                                                                |   |        |       |
| Total liabilities                                                                                                                                   |   | 94,855,175  |       |
|                                                                                                                                                |   |        |       |
| Commitments and contingencies (Note T)                                                                                                              |   |        |       |
|                                                                                                                                                |   |        |       |
| Preferred shares subject to mandatory  redemption requirements                                                                                      |   | 6,810,258   |       |
|                                                                                                                                                |   |        |       |
| Stockholders’ equity (deficit)                                                                                                                 |   |        |       |
|                                                                                                                                                |   |        |       |
| Common shares, $0.001 par value,  100,000,000 shares authorized, 21,114,939 shares issued, 21,094,641 shares  outstanding and 20,298 shares retired |   | 21,061      |       |
| Additional paid-in capital                                                                                                                          |   | 27,570,016  |       |
| Accumulated deficit                                                                                                                                 |   | (65,562,602 | )          |
| Accumulated other comprehensive loss                                                                                                                |   | (1,268,653  | )          |
|                                                                                                                                                |   |        |       |
| Stockholders’ deficit                                                                                                                          |   | (39,240,178 | )          |
|                                                                                                                                                |   |        |       |
| Total liabilities and stockholders’ equity                                                                                                     |   | $           | 62,425,255 |   |

 

Seeaccompanying notes to unaudited consolidated financial statements

 

3

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**MediCor Ltd.**

**Consolidated Statements of Operations**

**Three Months Ended March 31, 2006 and 2005**

**(Unaudited)**

 
| ** **                                                        | ** ** | **2006**   | ** ** | **2005**   | ** ** |
|-------------------------------------------------------------------|------------|------------|------------|------------|------------|
| Net sales                                                         |       | $          | 7,878,064  |       | $          | 7,130,409 |   |
| Cost of sales                                                     |       | 4,679,951  |       | 4,838,448  |       |
|                                                              |       |       |       |       |       |
| Gross profit                                                      |       | 3,198,113  |       | 2,291,961  |       |
|                                                              |       |       |       |       |       |
| Operating expenses:                                               |       |       |       |       |       |
| Selling, general and administrative                               |       |       |       |       |       |
| Salaries and wages                                                |       | 1,147,269  |       | 1,070,157  |       |
| Other                                                             |       | 3,515,693  |       | 3,300,906  |       |
| Research and development                                          |       | 1,084,124  |       | 680,895    |       |
|                                                              |       |       |       |       |       |
| Operating loss                                                    |       | (2,548,973 | )          | (2,759,997 | )          |
|                                                              |       |       |       |       |       |
| Non-operating expenses:                                           |       |       |       |       |       |
| Net interest expense                                              |       | 1,531,370  |       | 1,152,087  |       |
| Loss (gain) on foreign exchange  transactions                     |       | (88,089    | )          | 2,889      |       |
|                                                              |       |       |       |       |       |
| Loss before income taxes                                          |       | (3,992,254 | )          | (3,914,973 | )          |
| Income tax benefit                                                |       | (307,772   | )          | —     |       |
|                                                              |       |       |       |       |       |
| Net loss                                                          |       | (3,684,482 | )          | (3,914,973 | )          |
|                                                              |       |       |       |       |       |
| Preferred dividends                                               |       |       |       |       |       |
| Preferred dividends deemed                                        |       | —     |       | —     |       |
| Preferred dividends in arrears Series A  Preferred 8%             |       | 127,351    |       | 215,749    |       |
|                                                              |       |       |       |       |       |
| Net loss attributable to common  stockholders                     |       | $          | (3,811,833 | )          | $          | (4,130,722 | ) |
|                                                              |       |       |       |       |       |
| Net loss per share of common stock, basic  and diluted            |       | $          | (0.18      | )          | $          | (0.23 | ) |
|                                                              |       |       |       |       |       |
| Weighted average number of shares  outstanding, basic and diluted |       | 20,766,268 |       | 18,146,056 |       |

 

See accompanying notes to unaudited consolidated financial statements

 

4

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**MediCor Ltd.**

**Consolidated Statements of Operations**

**Nine Months Ended March 31, 2006 and 2005**

**(Unaudited)**

 
| ** **                                                        | ** ** | **2006**    | ** **  | **2005**    | ** ** |
|-------------------------------------------------------------------|------------|-------------|-------------|-------------|------------|
| Net sales                                                         |       | $           | 20,521,373  |        | $          | 19,418,722 |   |
| Cost of sales                                                     |       | 13,500,691  |        | 11,572,363  |       |
|                                                              |       |        |        |        |       |
| Gross profit                                                      |       | 7,020,682   |        | 7,846,359   |       |
|                                                              |       |        |        |        |       |
| Operating expenses:                                               |       |        |        |        |       |
| Selling, general and administrative                               |       |        |        |        |       |
| Salaries and wages                                                |       | 4,519,296   |        | 3,407,126   |       |
| Other                                                             |       | 7,806,299   |        | 10,137,350  |       |
| Research and development                                          |       | 2,569,837   |        | 1,882,084   |       |
|                                                              |       |        |        |        |       |
| Operating loss                                                    |       | (7,874,750  | )           | (7,580,201  | )          |
|                                                              |       |        |        |        |       |
| Non-operating expenses:                                           |       |        |        |        |       |
| Net interest expense                                              |       | 4,308,645   |        | 3,681,570   |       |
| Loss (gain) on foreign exchange  transactions                     |       | 19,529      |        | (218,774    | )          |
|                                                              |       |        |        |        |       |
| Loss before income taxes                                          |       | (12,202,924 | )           | (11,042,997 | )          |
| Income tax expense (benefit)                                      |       | (167,691    | )           | 282,316     |       |
|                                                              |       |        |        |        |       |
| Net loss                                                          |       | (12,035,233 | )           | (11,325,313 | )          |
|                                                              |       |        |        |        |       |
| Preferred dividends                                               |       |        |        |        |       |
| Preferred dividends deemed                                        |       | —      |        | 260,172     |       |
| Preferred dividends in arrears Series A  Preferred 8%             |       | 379,115     |        | 645,059     |       |
|                                                              |       |        |        |        |       |
| Net loss attributable to common  stockholders                     |       | $           | (12,414,348 | )           | $          | (12,230,544 | ) |
|                                                              |       |        |        |        |       |
| Net loss per share of common stock, basic  and diluted            |       | $           | (0.61       | )           | $          | (0.68 | ) |
|                                                              |       |        |        |        |       |
| Weighted average number of shares  outstanding, basic and diluted |       | 20,484,105  |        | 18,112,930  |       |

 

See accompanying notes to unaudited consolidated financial statements

 

5

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**MediCor Ltd.**

**Consolidated Statements of Cash Flows**

**Nine Months Ended March 31, 2006 and 2005**

**(Unaudited)**

 
| ** **                                                                                                                  | ** ** | **2006**   | ** **  | **2005**    | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------|------------|------------|-------------|-------------|------------|
| **CASH FLOWS FROM OPERATING ACTIVITIES:**                                                                                   |       |       |        |        |       |
| Net loss                                                                                                                    |       | $          | (12,035,233 | )           | $          | (11,325,313 | ) |
| Adjustments to reconcile net loss to net  cash utilized by operating activities                                             |       |       |        |        |       |
| Depreciation and amortization                                                                                               |       | 1,306,063  |        | 835,657     |       |
| Provision for doubtful accounts                                                                                             |       | 415,587    |        | 3,138,008   |       |
| Inventory write down                                                                                                        |       | —     |        | 350         |       |
| Non-employee stock options                                                                                                  |       | 95,784     |        | 144,383     |       |
| Employee preferred stock                                                                                                    |       | —     |        | 80,000      |       |
| Directors’ restricted common stock                                                                                     |       | 26,500     |        | 53,000      |       |
| Increase (decrease) in cash flows from  changes in operating assets and liabilities, excluding the effects of  acquisitions |       |       |        |        |       |
| Accounts receivable, net                                                                                                    |       | (751,700   | )           | (1,982,967  | )          |
| Notes receivable                                                                                                            |       | (607,525   | )           | (2,053,897  | )          |
| Inventories                                                                                                                 |       | (1,172,456 | )           | (470,108    | )          |
| Prepaid expenses and other current assets                                                                                   |       | 95,692     |        | 689,804     |       |
| Goodwill                                                                                                                    |       | —     |        | (617,675    | )          |
| Deposits                                                                                                                    |       | (1,049,540 | )           | 617,675     |       |
| Other assets                                                                                                                |       | 117,493    |        | (625,611    | )          |
| Accounts payable                                                                                                            |       | 2,290,594  |        | 126,665     |       |
| Accrued expenses and other current  liabilities                                                                             |       | (441,910   | )           | 630,708     |       |
| Interest payable                                                                                                            |       | 3,810,735  |        | 1,893,353   |       |
| Non-current accrued liabilities                                                                                             |       | (517,356   | )           | —      |       |
| Net cash used in operating activities                                                                                       |       | (8,417,272 | )           | (8,865,968  | )          |
|                                                                                                                        |       |       |        |        |       |
| **CASH FLOWS FROM INVESTING ACTIVITIES:**                                                                                   |       |       |        |        |       |
| Additions to property and equipment                                                                                         |       | (308,848   | )           | (805,721    | )          |
| Acquisition of Laboratoires Eurosilicone  S.A., net of cash acquired                                                        |       | —     |        | (12,760,150 | )          |
| Acquisition of Deramedics, net of cash  acquired                                                                            |       | —     |        | (75,000     | )          |
| Net cash utilized in investing activites                                                                                    |       | (308,848   | )           | (13,640,871 | )          |
|                                                                                                                        |       |       |        |        |       |
| **CASH FLOWS FROM FINANCING ACTIVITIES:**                                                                                   |       |       |        |        |       |
| Proceeds from issuance of short-term debt                                                                                   |       | 10,630,000 |        | 19,491,043  |       |
| Proceeds from issuance of long-term debt                                                                                    |       | 336,381    |        | 10,786,063  |       |
| Proceeds from issuance of common stock                                                                                      |       | 598,239    |        | 29,977      |       |
| Proceeds from issuance of preferred shares  subject mandatory redemption requirements                                       |       | —     |        | 1,172,271   |       |
| Payments on convertible debentures                                                                                          |       | (50,000    | )           | (200,000    | )          |
| Payments on short-term debt                                                                                                 |       | (477,232   | )           | (5,872,912  | )          |
| Payments on long-term debt                                                                                                  |       | (2,376,322 | )           | (513,628    | )          |
| Payments of preferred shares dividends                                                                                      |       | (13,805    | )           | —      |       |
| Net cash provided by financing activities                                                                                   |       | 8,647,261  |        | 24,892,814  |       |
|                                                                                                                        |       |       |        |        |       |
| **EFFECT OF TRANSLATION ON CASH AND CASH  EQUIVALENTS**                                                                     |       | (1,031,196 | )           | (596,348    | )          |
|                                                                                                                        |       |       |        |        |       |
| **CHANGE IN CASH AND CASH EQUIVALENTS**                                                                                     |       |       |        |        |       |
| Net increase (decrease) in cash and cash  equivalents                                                                       |       | (1,110,055 | )           | 1,789,627   |       |
| Cash and cash equivalents at beginning of  period                                                                           |       | 1,834,799  |        | 165,092     |       |
|                                                                                                                        |       |       |        |        |       |
| Cash and cash equivalents at end of period                                                                                  |       | $          | 724,744     |        | $          | 1,954,719 |   |

 

6

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| ** **                                                                                                                                                                                               | ** ** | **2006** | ** ** | **2005** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------|------------|----------|------------|
| **SUPPLEMENTAL DISCLOSURE OF NON-CASH  ACTIVITIES**                                                                                                                                                      |       |     |       |     |       |
|                                                                                                                                                                                                     |       |     |       |     |       |
| Conversion of short-term debt to preferred  stock                                                                                                                                                        |       | $        | —     |     | $          | 250,000 |   |
| Conversion of long-term debt to common  stock                                                                                                                                                            |       | $        | 50,000     |     | $          | 75,000 |   |
| Issuance of preferred stock to employees  and consultants                                                                                                                                                |       | $        | —     |     | $          | 80,000 |   |
| Issuance of preferred stock in lieu of  dividends                                                                                                                                                        |       | $        | 237,000    |     | $          | — |   |
| Issuance of common stock to directors                                                                                                                                                                    |       | $        | —     |     | $          | 53,000 |   |
|                                                                                                                                                                                                     |       |     |       |     |       |
| The Company purchased all of the capital  stock of Laboratories Eurosilicone S.A. for $43,297,915. In conjunction with  the acquisition, liabilities were assumed as follows:                            |       |     |       |     |       |
| Fair value of assets acquired                                                                                                                                                                            |       | $        | —     |     | $          | 15,870,718 |   |
| Goodwill                                                                                                                                                                                                 |       | $        | —     |     | $          | 36,392,429 |   |
| Less: Liabilities assumed                                                                                                                                                                                |       | $        | —     |     | $          | (8,965,232 | ) |
| Cash paid for capital stock                                                                                                                                                                              |       | $        | —     |     | $          | 43,297,915 |   |
|                                                                                                                                                                                                     |       |     |       |     |       |
| Included in the fair value of assets  acquired and liabilities assumed was $2,532,081 for capital lease  obligations.                                                                                    |       |     |       |     |       |
|                                                                                                                                                                                                     |       |     |       |     |       |
| The Company purchased all of the capital  stock of Dermatological Medical Products and Specialites, S.A. de C.V. for $75,000.  In conjunction with the acquisition, liabilities were assumed as follows: |       |     |       |     |       |
| Fair value of assets acquired                                                                                                                                                                            |       | $        | —     |     | $          | 75,000 |   |
| Less: Liabilities assumed                                                                                                                                                                                |       | $        | —     |     | $          | — |   |
| Cash paid for capital stock                                                                                                                                                                              |       | $        | —     |     | $          | 75,000 |   |
|                                                                                                                                                                                                     |       |     |       |     |       |
| **SUPPLEMENTAL CASH FLOW DISCLOSURES**                                                                                                                                                                   |       |     |       |     |       |
|                                                                                                                                                                                                     |       |     |       |     |       |
| Cash paid during the period for:                                                                                                                                                                         |       |     |       |     |       |
| Interest                                                                                                                                                                                                 |       | $        | 653,361    |     | $          | 1,948,429 |   |
| Income taxes                                                                                                                                                                                             |       | $        | 484,823    |     | $          | — |   |

 

See accompanying notes to unaudited consolidated financial statements

 

7

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**MEDICOR LTD.**

**NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS**

**March 31, 2006**

 

**Note A - Description of Business**

 

MediCor Ltd. (the “Company” or “MediCor”) is a global health carecompany that acquires, develops, manufactures and markets products primarilyfor the aesthetic, plastic and reconstructive surgery and dermatology markets. Currentproducts include breast implant products, other implants and scar managementproducts. The Company’s breast implant products are currently sold in approximately85 countries, but are not sold in the United States or Canada. Our products aresold primarily in foreign (non-U.S.) countries and foreign sales are currentlyabout 95% of total sales, with the largest country (Brazil) accounting forabout 17% of sales. Breast implant and other implant products account for about94% of total sales for the quarter ended March 31, 2006, while scar managementproducts contributed approximately 6% of total sales. The Company sells itsproducts to hospitals, surgical centers and physicians primarily throughdistributors, as well as through direct sales personnel.

 

MediCor was founded in 1999 by chairman of the board Donald K. McGhan,the founder and former chairman and chief executive officer of InamedCorporation and McGhan Medical Corporation. MediCor’s objective is to be aleading supplier of selected international medical devices and technologies. Toachieve this strategy, MediCor intends to build upon and expand its businesslines, primarily in the aesthetic, plastic and reconstructive surgery anddermatology markets. MediCor intends to accomplish this growth through theexpansion of existing product lines and offerings and through the acquisitionof companies and other assets, including intellectual property rights anddistribution rights.

 

**Note B - Summary of Significant Accounting Policies**

 

*Principlesof Consolidation*

 

The consolidated financialstatements include the accounts of the Company and all of its subsidiaries inwhich a controlling interest is maintained. All inter-company accounts andtransactions have been eliminated.  Certain prior period amounts inpreviously issued financial statements have been reclassified to conform to thecurrent period presentation.  The consolidated financial statements havebeen prepared in United States dollars.

 

*CriticalAccounting Policies and Use of Estimates*****

 

The preparation of financialstatements in accordance with accounting principles generally accepted in theUnited States of America requires the Company to make estimates and judgmentsthat affect the reported amounts of assets, liabilities, revenues and expenses,and disclosure of contingent assets and liabilities. On an on-going basis, theCompany evaluates its estimates and judgments, including those related torevenue recognition, inventories, adequacy of allowances for doubtful accounts,valuation of long-lived assets and goodwill, income taxes, litigation andwarranties. The Company bases its estimates on historical and anticipatedresults and trends and on various other assumptions that the Company believesare reasonable under the circumstances, including assumptions as to futureevents. The policies discussed below are considered by management to becritical to an understanding of the Company’s financial statements. Theseestimates form the basis for making judgments about the carrying values ofassets and liabilities that are not readily apparent from other sources. Bytheir nature, estimates are subject to an inherent degree of uncertainty. Actualresults may differ from those estimates.

 

##### ***Revenue Recognition***

##### *** ***

##### ***TheCompany recognizes product revenue, net of sales discounts, returns andallowances, in accordance with Staff Accounting Bulletin No. 104, “RevenueRecognition” (“SAB No. 104”) and Statement of Financial Accounting StandardsNo. 48, “Revenue Recognition When Right of Return Exists” (“SFAS No. 48”).These statements establish that revenue can be recognized when persuasiveevidence of an arrangement exists, delivery has occurred and all significantcontractual obligations have been satisfied, the fee is fixed or determinable,and collection is considered probable. The Company recognizes revenue upondelivery of product to third-party distributors and customers and does notallow for bill-and-hold sales. Due to the widespread holding of consignmentinventory in the Company’s industry, the Company also recognizes revenue whenthe products are withdrawn from consignment inventory in hospitals, clinics anddoctors’ offices. The Company does not offer price protection to its third-partydistributors and customers and accepts product returns only if the***

 

8

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##### ***productis defective. Appropriate reserves are established for anticipated returns andallowances are based on product return history and expectation. The Company believesits estimate for anticipated returns is a “critical accounting estimate”because it requires the Company to estimate returns and, if actual returnsvary, it could have a material impact on reported sales and results ofoperations. Historically the Company’s estimates of return rates have not deviatedfrom the actual returns by more than 1% to 2%.***

##### *** ***

*Allowance for Doubtful Accounts*

 

##### ***MediCormaintains allowances for doubtful accounts for estimated losses resulting fromthe inability of some of its customers to make required payments. Theallowances for doubtful accounts are based on the analysis of historical baddebts, customer credit-worthiness, past transaction history with the customer,current economic trends, and changes in customer payment terms. If thefinancial condition of MediCor’s customers were to deteriorate, adverselyaffecting their ability to make payments, additional allowances might berequired.***

##### *** ***

##### ***Inventories***

##### *** ***

##### ***Inventoriesare stated at the lower of cost or market using the first-in, first-out (“FIFO”)method. The Company may write down its inventory for estimated obsolescence orunmarketable inventory equal to the difference between the cost of inventoryand the estimated market value based upon assumptions about future demand andmarket conditions.***

##### *** ***

##### ***Property and Equipment***

##### *** ***

Property and equipment are stated at costless accumulated depreciation and amortization. Depreciation is recorded on thestraight-line basis over the estimated useful lives of the assets, which rangefrom three to ten years. Amortization of leasehold improvements is based uponthe estimated useful lives of the assets or the term of the lease, whichever isshorter. Significant improvements and betterments are capitalized, whilemaintenance and repairs are charged to operations as incurred. Assetretirements and dispositions are accounted for in accordance with Statement ofFinancial Accounting Standards No. 144, “Accounting for the Impairment andDisposal of Long Lived Assets” (“SFAS No. 144”), as described below.

 

##### ***Accounting for Long-Lived Assets***

##### *** ***

##### ***TheCompany accounts for long-lived assets, other than goodwill, in accordance withthe provisions of SFAS No. 144, “Accounting for the Impairment and Disposal ofLong Lived Assets,” which supersedes SFAS No. 121 “Accounting for theImpairment of Long-Lived Assets and for Long-Lived Assets to be disposed of.”  This statement creates one accounting model,based on the framework established in SFAS No. 121, to be applied to all long-livedassets including discontinued operations. SFAS No. 144 requires, among otherthings, that an entity review its long-lived assets and certain relatedintangibles for impairment whenever changes in circumstances indicate that thecarrying amount of an asset may not be fully recoverable. We believe theestimate of our valuation of Long-Lived Assets is a “critical accountingestimate” because if circumstances arose that led to a decrease in thevaluation it could have a material impact on our results of operations. Withthe exception of the impairment of a patent which was written off in June 2005,as described in Note I to the financial statements included in our annualreport on Form 10-KSB, the Company does not believe that any other changes havetaken place.***

##### *** ***

##### ***Goodwill and Other IntangibleAssets***

##### *** ***

##### ***Goodwillrepresents the excess of the purchase price over the estimated fair value ofidentified assets the businesses acquired. Other intangible assets are recordedat fair value and amortized over periods ranging from three to 16 years. TheCompany adopted SFAS No. 142, “Goodwill and Other Intangible Assets” inJanuary 2002. As a result, goodwill is no longer amortized, but is subject to atransitional impairment analysis and is tested for impairment on an annualbasis. The test for impairment involves the use of estimates related to thefair values of the business operations with which goodwill is associated and isusually based on a market value approach. Other intangible assets are amortizedusing the straight-line method over their estimated useful lives and areevaluated for impairment under SFAS No. 144.***

 

9

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##### ***Product Replacement Programs***

##### *** ***

Most of the Company’s subsidiaries provide a product replacementprogram to surgeons for deflations of breast implant products for a period often (10) years from the date of implantation. For certain surgeons outside ofthe U.S., the Company provides a product replacement program for the life ofthe patient, including for competitive implants, for aesthetic dissatisfactionas well as for deflation. For each replacement, the surgeon receives financialassistance plus a free implant. Management has estimated the amount ofpotential future product replacement claims based on a detailed analysis. Expectedfuture obligations are determined based on the history of product shipments andclaims and are discounted to a current value, and this amount is set aside asan allowance. Changes to actual claims, interest rates and estimates wouldaffect the calculation and could materially impact the Company’s allowance andresults of operations. Although breast implant products are not currently beingsold in the U.S. (because we are in the process of obtaining FDA approval ofthem, as more fully described below), they were sold under a distributionagreement prior to November 2000 and an allowance for product replacements ismaintained for the products sold in prior years.

 

For the quarter ended March 31, 2006, PIP.America paid $115,900 withrespect to settlements under its product replacement program for productspreviously sold in the U.S. under its distribution agreement with Poly ImplantsProtheses S.A. (“PIP”), a third-party manufacturer of breast implants. For thequarter ended March 31, 2006, MediCor Aesthetics paid $2,000 with respect tosettlements under its product replacement program for the products previously inthe U.S. sold under its distribution agreement between Hutchison International,Inc. and Biosil Limited.

 

As of March 31, 2006, the Company’s product replacement program allowanceconsisted of:

 

| ** **                                                           | ** ** | **Allowance for  Product Replacement** | ** ** |
|----------------------------------------------------------------------|------------|----------------------------------------|------------|
|                                                                 |       |                                   |       |
| Balance at June 30, 2005                                             |       | $                                      | 1,004,072  |   |
| Accrual for product replacement program  expansion during the period |       | 83,526                                 |       |
| Settlements incurred during the period                               |       | (701,202                               | )          |
|                                                                 |       |                                   |       |
| Balance at March 31, 2006                                            |       | $                                      | 386,396    |   |

 

##### ***Shipping and Handling Costs***

##### *** ***

##### ***Shippingand handling costs incurred by the Company are included in cost of sales.***

##### *** ***

##### ***Research and Development***

##### *** ***

##### ***Researchand development costs are expensed by the Company as incurred, including thecosts of clinical studies and other regulatory approval activities.***

##### *** ***

##### ***Stock-Based Compensation***

##### *** ***

The Company has adopted the provisions ofSFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS No. 123”). Inaccordance with SFAS No. 123, MediCor has elected the disclosure-onlyprovisions related to employee stock options and follows the intrinsic valuemethod in Accounting Principals Board Opinion No. 25, “Accounting forStock Issued to Employees, (“APB Opinion No. 25”) in accounting for stockoptions issued to employees. Under APB Opinion No. 25, compensationexpense, if any, is recognized as the difference between the exercise price andthe fair value of the common stock on the measurement date, which is typicallythe date of grant, and is recognized over the service period, which istypically the vesting period.

 

The Company accounts for options and warrantgrants to non-employees using the guidance prescribed by SFAS No. 123,Financial Accounting Standards Board (“FASB”) Interpretation No. 44, “Accountingfor Certain Transactions Involving Stock Compensation, and Interpretation ofAPB No. 25,” and Emerging Issue Task Force (“EITF”) No. 96-18, “Accountingfor Equity Instruments That Are Issued to Other Than Employees for Acquiring,or In Conjunction with Selling, Goods, or Services” (“EITF No. 96-18”), wherebythe fair value of such option and warrant grants are measured using the FairValue

 

10

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Based Method at the earlier of the date atwhich the non-employee’s performance is completed or a performance commitmentis reached.

 

##### ***Income Taxes***

##### *** ***

Deferred income tax assets or liabilities arecomputed based on the temporary differences between the financial statement andincome tax bases of assets and liabilities using the statutory marginal incometax rate in effect for the years in which the differences are expected toreverse. Deferred income tax expenses or credits are based on the changes inthe deferred income tax assets or liabilities from period to period. Avaluation allowance against deferred tax assets is required if, based on theweight of available evidence, it is more likely than not that some portion orall of the deferred tax assets will not be realized. The valuation allowanceshould be sufficient to reduce the deferred tax asset to the amount that ismore likely than not to be realized.

 

##### ***Effects of Recent AccountingPronouncements***

##### *** ***

In December 2004, FASB issued Statement of Financial Accounting Standards SFAS No. 123(R), Share-Based Payment, which establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. A key provision of this statement is the requirement of a public entity to measure the cost of employee services received in exchange for an award of equity instruments (including stock options) based on the grant date fair value of the award. That cost will be recognized over the period during which an employee is required to provide service in exchange for the award (i.e., the requisite service period or vesting period).

 

On April 14, 2005, the SEC approved a newrule that delays the effective date for SFAS 123(R) to fiscal years beginningafter June 15, 2005, thereby rendering it effective as to the Company on July1, 2006.  The adoption of SFAS 123(R) is expected to have a materialimpact on the Company’s consolidated net income and earnings per share.

 

In May 2005, FASB issued Statement ofFinancial Accounting Standards SFAS No. 154, “Accounting Changes and ErrorCorrections” (“SFAS No. 154”), which replaces APB Opinion No. 20, “AccountingChanges and SFAS No. 3, Reporting Accounting Changes in Interim FinancialStatements.”  This pronouncement appliesto all voluntary changes in an accounting principle, and revises therequirements for accounting for and reporting a change in an accountingprinciple. SFAS No. 154 requires retrospective application to prior periods’financial statements of a voluntary change in accounting principle, unless itis impracticable to do so. This pronouncement also requires that a change inthe method of depreciation, amortization, or depletion for long-lived,non-financial assets be accounted for as a change in accounting estimate thatis effected by a change in accounting principle. SFAS No. 154 retains manyprovisions of APB Opinion 20 without change, including those related toreporting a change in accounting estimate, a change in the reporting entity,and correction of an error. The pronouncement also carries forward theprovisions of SFAS No. 3 which govern reporting accounting changes in interimfinancial statements. SFAS No. 154 is effective for accounting changes andcorrections of errors made in fiscal years beginning after December 15, 2005. TheStatement does not change the transition provisions of any existing accountingpronouncements, including those that are in a transition phase as of theeffective date of SFAS No. 154. The Company intends to apply the provisions ofthis statement effective July 1, 2006.

 

**Note C – Interim Reporting**

 

The accompanying unauditedconsolidated financial statements for the three and nine month periods ended March31, 2006 and March 31, 2005, have been prepared in accordance with accountingprinciples generally accepted in the United States for interim financialinformation and with instructions to Form 10-QSB and Item 310 ofRegulation S-B.  Accordingly, they do not include all of theinformation and footnotes required by accounting principles generally accepted inthe United States for complete financial statements.  In the opinion ofmanagement, all adjustments (consisting only of normal recurring accruals,unless otherwise indicated) considered necessary for a fair presentation of theresults of operations for the indicated periods have been included. Certain amounts recorded in previous periods have been reclassified to conformto the current period presentation.  Operating results for the three monthsended March 31, 2006 are not necessarily indicative of the results for the fullfiscal year.

 

11

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**Note D – Major Customers**

 

During the threeand nine months ended March 31, 2006, two different distributor customersaccounted for 15% and 8%, respectively, of the Company’s consolidated revenue. Revenuerelated to these two distributors for the three and nine months ended March 31,2005 was 13% and 12%, respectively.

 

**Note E – Cash and Cash Equivalents**

 

Allhighly liquid investments with original maturities of three months or less atthe date of purchase are considered to be cash equivalents.

 

**Note F – Accounts Receivable**

 

Accountsreceivable at March 31, 2006 consisted of:

 
| ** **                      | ** ** | **March 31, 2006** | ** ** |
|---------------------------------|------------|--------------------|------------|
|                            |       |               |       |
| Accounts receivable             |       | $                  | 8,684,789  |   |
| Allowance for doubtful accounts |       | (1,173,675         | )          |
|                            |       |               |       |
| Total                           |       | $                  | 7,511,114  |   |

 

Changesin allowance for doubtful accounts are as follows:

 
| Balance July 1, 2005      |   | $        | 1,365,613 |   |
|---------------------------|--------|----------|-----------|--------|
| Provisions                |   | 101,811  |      |
| Write-offs / (recoveries) |   | (293,749 | )         |
| Balance March 31, 2006    |   | $        | 1,173,675 |   |

 

**Note G – Notes Receivable**

 

Notesreceivable at March 31, 2006 consisted of:

 
| ** **       | ** ** | **March 31, 2006** | ** ** |
|------------------|------------|--------------------|------------|
|             |       |               |       |
| Notes receivable |       | $                  | 3,386,109  |   |
| Allowance        |       | (3,386,109         | )          |
|             |       |               |       |
| Total            |       | $                  | —     |   |

 

PolyImplants Protheses S.A. (“PIP”), a third-party manufacturer of breast implantslocated in France, issuedto the Company’s PIP.America subsidiary a revolving promissory note for certainsums to come due to PIP.America based on PIP.America’s and the manufacturer’sadministration of product replacement and product replacement related claims. Theseamounts have been fully provided for as an allowance, due to the lack of past paymentsand uncertain prospect of collection.

 

12

----

 

**Note H – Inventories**

 

Inventories at March 31,2006 consisted of:

 
| ** **      | ** ** | **March 31, 2006** | ** ** |
|-----------------|------------|--------------------|------------|
|            |       |               |       |
| Raw materials   |       | $                  | 1,113,563  |   |
| Work in process |       | 305,973            |       |
| Finished goods  |       | 3,629,755          |       |
|            |       |               |       |
|            |       | $                  | 5,049,291  |   |

 

**Note I - Property and Equipment**

 

Property and equipment at March31, 2006 consisted of:

 
| ** **                                       | ** ** | **March 31, 2006** | ** ** |
|--------------------------------------------------|------------|--------------------|------------|
|                                             |       |               |       |
| Buildings                                        |       | $                  | 4,051,498  |   |
| Machinery and equipment                          |       | 1,697,721          |       |
| Furniture and fixtures                           |       | 475,926            |       |
| Land                                             |       | 138,945            |       |
| Leasehold improvements                           |       | 107,748            |       |
|                                             |       |               |       |
| Property and equipment, gross                    |       | 6,471,837          |       |
| Less: Accumulated depreciation and  amortization |       | (1,494,840         | )          |
|                                             |       |               |       |
| Property and equipment, net                      |       | $                  | 4,976,997  |   |

 

Depreciation andamortization expense was $169,240 for the three months ended March 31, 2006 and$107,733 for the three months ended March 31, 2005. Depreciation andamortization expense was $494,175 for the nine months ended March 31, 2006 and$391,648 for the same period a year ago.

 

13

----

 

**Note J– Goodwill and Other Intangible Assets**

 

Goodwill and otherintangible assets as of March 31, 2006 consisted of:

 
| ** **                                                          | ** ** | **December 31, 2005** | ** ** |
|---------------------------------------------------------------------|------------|-----------------------|------------|
|                                                                |       |                  |       |
| Goodwill                                                            |       | $                     | 33,227,999 |   |
| Customer-related intangibles                                        |       | 4,402,080             |       |
| Supply agreements and other intangibles                             |       | 3,673,146             |       |
| Patents                                                             |       | 3,000,000             |       |
| Distribution and non-compete agreements                             |       | 355,000               |       |
| Trademarks and trade names                                          |       | 117,974               |       |
|                                                                |       |                  |       |
| Intangible assets, gross                                            |       | 44,776,198            |       |
|                                                                |       |                  |       |
| Accumulated amortization - goodwill                                 |       | (41,973               | )          |
| Accumulated amortization - customer-related  intangibles            |       | (1,436,093            | )          |
| Accumulated amortization - supply  agreements and other intangibles |       | (5,000                | )          |
| Accumulated amortization - patents                                  |       | (640,328              | )          |
| Accumulated amortization - distribution  agreements and non-compete |       | (244,315              | )          |
| Accumulated amortization - trademarks and  trade names              |       | (29,640               | )          |
|                                                                |       |                  |       |
| Accumulated amortization                                            |       | (2,397,350            | )          |
|                                                                |       |                  |       |
| Intangible assets, net                                              |       | $                     | 42,378,849 |   |

 

Amortization expense for the three monthsended March 31, 2006 was $275,530 compared to $84,799 for the prior period endedMarch 31, 2005. The amortization for the nine months ended March 31, 2006 was$811,888, compared to $259,814 with the prior period ended March 31, 2005.

 

The supply agreement and other intangiblesare purchase price adjustments that were a result of the acquisition selectedassets of Hutchison International, Inc. The Company is continuing to evaluatethese intangible assets in detail and anticipates that it will determine andplace a fair value upon completion of such valuation by June 30, 2006. Untilcompletion of such evaluation, the Company cannot currently estimate anypurchase price allocations. The Company does expect that a majority of theintangibles will be related to the distribution agreement with Biosil Limited.

 

The estimated amortization expense for thenext five years consists of:

 
| ** **                   | ** ** | **Twelve months ending** | ** ** |
|------------------------------|------------|--------------------------|------------|
| ** **                   | ** ** | **March 31, 2007**       | ** ** | **March 31, 2008** | ** ** | **March 31, 2009** | ** ** | **March 31, 2010** | ** ** | **March 31, 2011** | ** ** |
|                         |       |                     |       |   |   |   |   |   |   |   |   |
| Customer-related intangibles |       | $                        | 813,755    |   | $ | 813,755 |   | $ | 813,755 |   | $ | 813,755 |   | $ | 610,316 |   |
| Distribution agreements      |       | 22,500                   |       | 22,500 |   | 22,500 |   | 22,500 |   | 20,625 |   |
| Patents                      |       | 236,902                  |       | 236,902 |   | 236,902 |   | 236,902 |   | 236,902 |   |
| Trademarks and trade names   |       | 10,979                   |       | 10,979 |   | 10,979 |   | 10,979 |   | 10,979 |   |
| Other                        |       | —                   |       | — |   | — |   | — |   | — |   |
|                         |       |                     |       |   |   |   |   |   |   |   |   |
| Total                        |       | $                        | 1,084,136  |   | $ | 1,084,136 |   | $ | 1,084,136 |   | $ | 1,084,136 |   | $ | 878,823 |   |

 

14

----

 

**Note K– Deposits and Other Assets**

 

Deposits at March 31, 2006 totaled $1,145,720.The Company has $144,522 in security deposits on office leases, with local utilitycompanies and $1,001,196 in expenses incurred during the acquisition process ofBiosil Limited and Nagor Limited.

 

Other assets consisted of debt acquisitioncosts of $501,423 at March 31, 2006.

 

**Note L– Accrued Expenses**

 

Accrued expenses and othercurrent liabilities at March 31, 2006 consisted of:

 
| ** **                                  | ** ** | **March 31, 2006** | ** ** |
|---------------------------------------------|------------|--------------------|------------|
|                                        |       |               |       |
| Wages, paid leave and payroll related taxes |       | $                  | 2,633,933  |   |
| Legal settlement                            |       | 750,000            |       |
| Product replacement reserve                 |       | 386,396            |       |
| Other                                       |       | 226,898            |       |
|                                        |       |               |       |
|                                        |       | $                  | 3,997,227  |   |

 

The Company entered into asettlement with Europlex, S.A. de C.V, agreeing to extinguish and release allclaims, in exchange for future payments totaling $750,000 as described in Note U.Other accrued expenses included interest and other legal expenses.

 

**Note M–Debt**

 

## ***Long-term debit consisted of the following amounts:***

 
| ** **                                                                                  | ** ** | **March 31, 2006** | ** ** |
|---------------------------------------------------------------------------------------------|------------|--------------------|------------|
|                                                                                        |       |               |       |
| Variable 6-month EURIBOR plus 2.25%  euro-denominated note, with maturity in September 2011 |       | $                  | 11,252,746 |   |
| Convertible debentures                                                                      |       | 250,000            |       |
| Obligations under capital leases                                                            |       | 2,392,735          |       |
| Other notes                                                                                 |       | 473,585            |       |
|                                                                                        |       |               |       |
|                                                                                        |       | 14,369,066         |       |
| Less: current maturities                                                                    |       | (2,888,030         | )          |
|                                                                                        |       |               |       |
| Long-term debt                                                                              |       | $                  | 11,481,036 |   |

 

## ***In September 2004, MediCor’s ES Holdings subsidiary entered into anarrangement with a financial institution to borrow up to €16,400,000, at aninterest rate of six-month EURIBOR plus 2.25%, to fund payments due to thesellers of Eurosilicone, a company acquired by MediCor in July 2004. The lastborrowing is scheduled for 2007 and scheduled repayments complete in September2011. As of March 31, 2006, the outstanding principal was €9,318,041.***

## *** ***

Convertible debentures atMarch 31, 2006 were $250,000. These convertible debentures areconvertible, at the holder’s discretion, after one year and at the 18-month, 24-month,30-month and 36-month anniversary of the issuance date to shares of the Company’scommon stock at a price equal to the greater of $5.00 or seventy-five percent(75%) of the daily weighted average trading price per share of the Company’scommon stock over a period of twenty (20) trading days prior to the conversiondate. These convertible debentures mature between June 2006 and August 2006,and thus are all reported within the current portion of long-term debt. Duringthe quarter ended March 31, 2006, we did not incur any costs relating to theseconvertible debentures.

 

15

----

 

MediCor has several capital leases. Substantiallyall of these lease obligations reside with the Company’s Eurosiliconesubsidiary and are leases of facilities and vehicles. In addition, MediCor hasseveral other notes, with outstanding principal balances ranging from $16,818to $198,565 and annual interest rates ranging from 3.39% to 8.0%. (The Companyalso has an outstanding balance of $60,686,257 on a short-term note payable toan affiliate. See Note O.)

 

As of March 31, 2006, MediCor had $501,423 ofunamortized financing costs recorded in other assets. These costs are beingamortized straight-line over the life of the related note. This note matures inSeptember 2011.

 

Payments due on capitallease obligations as of March 31, 2006 are as follows:

 

| ** **                                              | ** ** | **Amount** | ** ** |
|---------------------------------------------------------|------------|------------|------------|
|                                                    |       |       |       |
| April 2006 - March 2007                                 |       | $          | 610,694    |   |
| April 2007 - March 2008                                 |       | 407,856    |       |
| April 2008 - March 2009                                 |       | 368,789    |       |
| April 2009 - March 2010                                 |       | 320,125    |       |
| April 2010 - March 2011                                 |       | 273,855    |       |
| Later years                                             |       | 1,077,130  |       |
|                                                    |       |       |       |
| Total minimum payments required                         |       | 3,058,449  |       |
| Less: Amount representing interest                      |       | (665,714   | )          |
|                                                    |       |       |       |
| Present value (principal) of capital lease  obligations |       | 2,392,735  |       |
|                                                    |       |       |       |
| Less: Current portion of capital lease  obligations     |       | (470,879   | )          |
|                                                    |       |       |       |
| Long term portion of capital lease  obligations         |       | $          | 1,921,856  |   |

 

## ***Principal payments due on long-term debt as of March 31, 2006, otherthan capital lease obligations, are as follows:***

 

| ** **                                                                | ** ** | **Amount** | ** ** |
|---------------------------------------------------------------------------|------------|------------|------------|
|                                                                      |       |       |       |
| April 2006 - March 2007                                                   |       | $          | 2,163,487  |   |
| April 2007 - March 2008                                                   |       | 2,034,649  |       |
| April 2008 - March 2009                                                   |       | 1,901,823  |       |
| April 2009 - March 2010                                                   |       | 1,875,458  |       |
| April 2010 - March 2011                                                   |       | 1,875,458  |       |
| Later years                                                               |       | 1,875,458  |       |
|                                                                      |       |       |       |
| Total minimum payments required                                           |       | 11,726,331 |       |
|                                                                      |       |       |       |
| Less: Amount representing interest                                        |       | (2,167,151 | )          |
|                                                                      |       |       |       |
| Present value (principal) of long-term debt                               |       | $          | 9,559,180  |   |
|                                                                      |       |       |       |
| Less: Current portion                                                     |       |       |       |
|                                                                      |       |       |       |
| Long term portion of long-term debt other  than capital lease obligations |       |       |       |

 

16

----

 

The current portion of long-term debt is asfollows:

 

| ** **                                    | ** ** | **Amount** | ** ** |
|-----------------------------------------------|------------|------------|------------|
|                                          |       |       |       |
| Current portion of capital lease  obligations |       | $          | 470,879    |   |
| Convertible debentures                        |       | 250,000    |       |
| Current portion of other long-term debt       |       | 2,150,333  |       |
|                                          |       |       |       |
|                                          |       | $          | 2,871,212  |   |
|                                               |            |            |            |  |  |

 

Short-term note payable was $16,818 at March31, 2006.

 

**Note N – Related Party Transactions**

 

InternationalIntegrated Industries, LLC (“LLC”) is a family holding company in which thechairman of the Company, Mr. Donald K. McGhan, has a controlling interest. Neitherthe Company nor any of its subsidiaries has any direct ownership in LLC. LLCacted on behalf of the Company by funding significant expenses incurred forwhich the Company has a revolving loan agreement as shown on the Company’sConsolidated Balance Sheet of $60,686,257 at March 31, 2006. The outstandingbalance of the note payable accrues interest at an annual interest rate of tenpercent (10%) per annum. During the three months ended March 31, 2006, LLCadvanced $3,355,000 to the Company, of which $40,073 was repaid. For the ninemonths ended March 31, 2006, LLC advanced $10,630,000 to the Company, of which $477,232was repaid. Interest expense relating to this note payable was $1,453,181 for thethree months ended March 31, 2006 and $4,210,734 for the nine months ended March31, 2006, of which $400,000 had been paid. The unpaid liability for theseexpenses is included in the Company’s note payable to affiliates, which iscontained in the financial statements presented herein. The Company has acommitment from LLC to fund operating shortfalls as necessary through April 1,2007.

 

InOctober 2003, the Company entered into a reimbursement agreement with GlobalAviation Delaware, LLC, a company controlled by its chairman, for thereimbursement of expenses incurred in the operation of its private plane whenused for MediCor business. The reimbursement agreement is effective only forexpenses incurred for MediCor business purposes. The Company recognized a totalexpense of $97,650 for the three months ended March 31, 2006 and $355,260 forthe nine months ended March 31, 2006 pursuant to the reimbursement agreement. Thisamount represents approximately 10.2% of the quarterly operating costs of theentity and 9.3% of the nine months’ operating costs of the entity. The Companyhas no minimum guarantees or guarantee of debt for this company. All expensesrecognized pursuant to the reimbursement agreement have been included by theCompany in selling, general, and administrative expenses. Under this agreement,only costs directly tied to MediCor’s use of the plane asset are reimbursableto the owner. All other operating costs (such as fuel, pilot wages, food, etc.)are paid directly by the Company through a service agreement we have withNexGen Management, a company controlled by the Company’s chairman. Alldisbursements to this agent occur only when the plane is used for MediCorbusiness purposes. The Company recognized a total expense of $101,048 for threemonths ended March 31, 2006 and $342,085 for the nine months ended pursuant tothe service agreement with NexGen Management. The Company has no minimumguarantees or guarantee of debt for this company. All expenses recognizedpursuant to the service agreement have been included by the Company in selling,general, and administrative expenses.

 

17

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**Note O– Federal Income Taxes**

 

TheCompany follows FAS 109 for reporting income taxes. The income tax expense (benefit) reflected in the Consolidated Statements ofOperations for the Company for the periods noted consisted of:

 
| ** **                                                           | ** ** | **March 31, 2006** | ** ** | **March 31, 2005** | ** ** |
|----------------------------------------------------------------------|------------|--------------------|------------|--------------------|------------|
|                                                                 |       |               |       |               |       |
| Current                                                              |       |               |       |               |       |
|                                                                 |       |               |       |               |       |
| Net loss                                                             |       | $                  | (3,472,273 | )                  | $          | (4,136,781 | ) |
| Foreign income tax expense (benefit) on  unconsolidated subsidiaries |       | (167,691           | )          | 282,316            |       |
|                                                                 |       | (3,639,964         | )          | (3,854,465         | )          |
| Deferred                                                             |       |               |       |               |       |
|                                                                 |       |               |       |               |       |
| Allowance for bad debts                                              |       | 141,300            |       | 368,598            |       |
| Allowance for product replacement                                    |       | 216,855            |       | 699,717            |       |
| Depreciation and amortization                                        |       | 444,061            |       | 190,588            |       |
|                                                                 |       | 802,216            |       | 1,258,903          |       |
|                                                                 |       |               |       |               |       |
| Total benefit                                                        |       | (2,837,748         | )          | (2,595,562         | )          |
| Valuation provision for realization of  deferred tax asset           |       | 2,670,057          |       | 2,877,878          |       |
|                                                                 |       |               |       |               |       |
| Total tax expense (benefit)                                          |       | $                  | (167,691   | )                  | $          | 282,316 |   |

 

Thecurrent tax expense for the nine months ended March 31, 2006 resulted fromincome tax paid by a foreign subsidiary. As of March 31, 2006, the Companyrecorded an allowance of $21,187,065 against certain future tax benefits, therealization of which is currently uncertain. The deferred differences relatedto certain accounts receivable, write-offs, provisions for product replacement,and depreciation and amortization expense not currently deductible as expensesunder Internal Revenue Service provisions. Although the Company recorded thisallowance to the deferred tax assets, the Company may still utilize the futuretax benefits from net operating losses for 20 years from the year of the lossto the extent of future taxable income. The estimated net operating losses fortax purposes of approximately $25 million will expire over several years endingin 2024.

 

Primarycomponents of the deferred tax assets at the periods noted were approximatelyas follows:

 
| ** **                                                 | ** ** | **March 31, 2006** | ** ** |
|------------------------------------------------------------|------------|--------------------|------------|
|                                                       |       |               |       |
| Computed expected income tax liability at  34%             |       | $                  | (3,472,273 | ) |
| Adjustments                                                |       |               |       |
| Net operating loss                                         |       | 16,402,856         |       |
| Provision for bad debts                                    |       | 1,550,327          |       |
| Provision for product replacement                          |       | 671,892            |       |
| Depreciation and amortization expense                      |       | 694,149            |       |
|                                                       |       |               |       |
| Income tax benefit                                         |       | $                  | 15,846,951 |   |
| Valuation allowance for realization of  deferred tax asset |       | (15,846,951        | )          |
|                                                       |       |               |       |
| Deferred tax asset, net                                    |       | $                  | —     |   |

 

18

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**Note P – Preferred Stock**

 

TheCompany authorized a series of 45,000 shares of preferred stock designated asSeries A 8.0% Convertible Preferred Stock (“Series A Preferred”) on July 5,2004. The Series A Preferred has a par value of $0.001 per share with aliquidation preference of $1,000 per share. In the event of liquidation,shareholders of the Series A Preferred shall be entitled to receive priority asto distribution over common stock. The Series A Preferred stock is convertibleinto common stock at any time at a conversion price of $3.85 per share untilJune 30, 2010, subject to potential adjustment in the event certain EBITDA orcommon stock value targets are not met. On June 30, 2011, all shares not yetconverted to common stock will be subject to a mandatory redemption. Theredemption price of $1,000 per share plus $1,000 per whole share for allaccrued and unpaid paid-in-kind dividends and any other accrued and unpaiddividends, whether or not declared, will be payable by the Company in cash. At March31, 2006, the Company had outstanding an aggregate of 6,456 shares, issued foraggregate consideration of $6,810,258.

 

**Note Q – Loss per Share**

 

A reconciliation of weightedaverage shares outstanding, used to calculate basic loss per share, to weightedaverage shares outstanding assuming dilution, used to calculate diluted lossper share, follows: 

 
| ** **                                          | ** ** | **Nine Months Ended  March 31, 2006** | ** **  | **Nine Months Ended  March 31, 2005** | ** ** |
|-----------------------------------------------------|------------|---------------------------------------|-------------|---------------------------------------|------------|
| ** **                                          | ** ** | **Income**                            | ** **  | **Shares**                            | ** ** | **Per-Share  Amount** | ** ** | **Income** | ** ** | **Shares** | ** ** | **Per-Share  Amount** | ** ** |
| ** **                                          | ** ** | **(Numerator)**                       | ** **  | **(Denominator)**                     | ** ** | ** ** | ** ** | **(Numerator)** | ** ** | **(Denominator)** | ** ** | ** ** | ** ** |
|                                                |       |                                  |        |                                  |       |   |   |   |   |   |   |   |   |
| Net income (loss) before preferred stock  dividends |       | (12,035,233                           | )           |                                  |       |   |   | (11,325,313 | ) |   |   |   |   |
| Less: Preferred stock dividends                     |       | 379,115                               |        |                                  |       |   |   | 905,231 |   |   |   |   |   |
|                                                |       |                                  |        |                                  |       |   |   |   |   |   |   |   |   |
| Basic EPS                                           |       | (12,414,348                           | )           | 20,484,105                            |       | (0.61 | ) | (12,230,544 | ) | 18,112,930 |   | (0.68 | ) |
|                                                |       |                                  |        |                                  |       |   |   |   |   |   |   |   |   |
| Effect of dilutive securities                       |       | —                                |        |                                  |       |   |   | — |   |   |   |   |   |
|                                                |       |                                  |        |                                  |       |   |   |   |   |   |   |   |   |
| Diluted EPS                                         |       | $                                     | (12,414,348 | )                                     | 20,484,105 |   | (0.61 | ) | $ | (12,230,544 | ) | 18,112,930 |   | (0.68 | ) |
|                                                     |            |                                       |             |                                       |            |  |  |  |  |  |  |  |  |  |  |

 

Common equivalent shares of 2,996,405 havebeen excluded from the computation of diluted earnings per share because theireffect would be anti-dilutive.

 

**Note R– Stock Options and Warrants**

 

The Company has a stockoption plan for key employees and consultants. There were 4,242,680 sharesreserved for issuance pursuant to the Company’s stock option plan and up to 4,100,000shares were reserved for issuance pursuant to stand-alone options granted inconnection with employment agreements. The Company’s employee share optionactivity and related information is summarized below:

 

| ** **                            | ** ** | **Options** | ** ** | **Weighted Average  Exercise Price** | ** ** |
|---------------------------------------|------------|-------------|------------|--------------------------------------|------------|
|                                  |       |        |       |                                 |       |
| Options outstanding at June 30, 2005  |       | 4,315,757   |       | $                                    | 3.28       |   |
|                                  |       |        |       |                                 |       |
| Granted                               |       | 160,000     |       | 3.10                                 |       |
| Exercised                             |       | (235,043    | )          | 1.92                                 |       |
| Cancelled                             |       | —      |       | —                               |       |
|                                  |       |        |       |                                 |       |
| Options outstanding at March 31, 2006 |       | 4,240,714   |       | $                                    | 3.33       |   |
|                                  |       |        |       |                                 |       |
| Options exercisable at end of period  |       | 1,267,179   |       | $                                    | 3.17       |   |

 

19

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The following table summarizes informationabout employee stock options outstanding at March 31, 2006:

 

| **Outstanding**                         | ** ** | **Exercisable**             | ** ** |
|-----------------------------------------|------------|-----------------------------|------------|
| **Range of  Exercise Prices** | ** ** | **Number of  Options** | ** ** | **Weighted  Average  Remaining  Years of  Contractual  Life** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Number of  Options** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
|                                    |       |                        |       |   |   |   |   |   |   |   |   |
| $1.00 -  $2.01                          |       | 800,714                     |       | 3.4 |   | $ | 1.76 |   | 342,179 |   | $ | 1.76 |   |
| $3.00 -  $3.80                          |       | 2,340,000                   |       | 5.1 |   | $ | 3.46 |   | 650,000 |   | $ | 3.46 |   |
| $4.15 -  $4.30                          |       | 1,100,000                   |       | 5.1 |   | $ | 4.23 |   | 275,000 |   | $ | 4.23 |   |

 

## ***Note S - Business Segment Information***

## *** ***

The Company is a corporate entity with anumber of wholly-owned, autonomous subsidiaries which operate as singlebusiness units in a single industry segment across multiple geographiclocations within the U.S. and internationally and, as such, does not havemultiple segments to report. For the three months ended March 31, 2006, salesfrom breast and other implant products were approximately 94% of total sales, whereassales from scar management products were approximately 6% of total sales. Revenuesfrom customers and distributors attributable to various foreign countriesoutside the U.S were material and equaled about 95% of total sales, with thelargest country (Brazil) accounting for about 17% of sales. Additionally, asignificant amount of revenues and costs are euro denominated. Long-livedassets attributable to various foreign countries outside the U.S. were materialand equaled about $36 million, all located in France. Amounts attributable tothe U.S. were approximately $7 million.

 

**Note T– Commitments and Contingencies**

 

The Company has received awritten commitment from LLC, an affiliate of its chairman, to providesufficient cash to fund any operating loss through April 1, 2007. The sameentity has provided the Company an aggregate of over $77 million infunding from the Company’s inception through March 31, 2006. The future fundingmay take the form of debt or equity or a combination thereof.

 

The Company’s PIP.Americasubsidiary has a distribution agreement with Poly Implants Protheses S.A. (“PIP”),a third-party manufacturer of breast implants located in France. This agreementcovers the sale by PIP.America of PIP’s saline, pre-filled breast implantproducts in North America, although no sales were reported in the year endingJune 30, 2004 because these products are not currently approved fordistribution in North America. Previously, the manufacturer was undertaking theprocess of securing FDA approval for these products. At March 30, 2004, PIP.Americahad $3,444,802 of accounts receivable from the manufacturer, representingamounts owed to PIP.America under the terms of the distribution agreement. Theseamounts have been fully provided for, with an allowance for doubtful account,due to the lack of payment and uncertain prospect of collection. EffectiveMarch 30, 2004, PIP.America and the manufacturer amended the distributionagreement to provide for, among other things, transferring administration,funding and ownership of the pre-market approval application process to PIP.America.In conjunction with this change, PIP.America forgave certain amounts owed bythe manufacturer, and the parties amended the pricing terms. The amendmentsobligate PIP.America to fund the ongoing clinical and regulatory costs andexpenses. The amounts and timing of these future costs are unknown and may bematerial. The likelihood and timing of obtaining FDA approval are also uncertain.Concurrently, the manufacturer issued to PIP.America a revolving promissorynote for certain sums to come due to PIP.America based on PIP.America’s and themanufacturer’s administration of product replacement and product replacement relatedclaims. The principal amount under the note as of March 31, 2006 was $3,386,109.

 

The Company’s EurosiliconeHoldings SAS subsidiary may be committed to make additional performancepayments to the previous shareholders of Eurosilicone, over the next two years,in connection with revenue targets.  These payments might be as high as€3,000,000 for each year, or a total of €6,000,000. Eurosilicone Holdings SASplans on funding these amounts under the commitments of the bank loan describedunder Note N.

 

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In October 1999, Case No. 99-25227-CA-01 June2000 Case No. 00-14665-CA-01, and July 2003, Case No. 0322537-CA-27, separatebut related complaints were filed by Saul and Ruth Kwartin, Steven M. Kwartin,and Robert and Nina Kwartin respectively, against our PIP.America subsidiary asco-defendant with PIP/USA, Inc. and Poly Implants Protheses, S.A., eachunaffiliated with MediCor, and Jean Claude Mas, Jyll Farren-Martin and ourchairman, personally, in the Circuit Court of Miami-Dade County, Florida. Alsoin September 2003, another member of the same family filed Case No.03-15006-CA-09, again alleging similar claims on his own behalf. All of thecases above have been consolidated for all pre-trial purposes, but not for trial.The Kwartin family members’ claims are primarily premised on allegations thatplaintiffs are shareholders of PIP/USA, Inc. (“PIP/USA”) or have statutory andcommon law rights of shareholders of PIP/USA as a result of loans orinvestments allegedly made to or into PIP/USA or a third party or under analleged employment agreement. Plaintiffs allege that, as a result, they havecertain derivative or other rights to an alleged distribution agreement betweenPoly Implants Prostheses, S.A. (“PIP-France”) and PIP/USA. Plaintiffs claim,among other things, that III Acquisition Corporation dba PIP.America (“PIP.America”)and its chairman tortiously interfered with that agreement and with plaintiffs’other alleged rights as lenders, investors, shareholders, quasi-shareholders oremployees of PIP/USA or other entities. In addition to monetary damages andinjunctive relief, plaintiffs seek to reinstate the alleged distributionagreement between PIP/USA and PIP-France and invalidate PIP.America’sdistributor relationship with PIP-France.

 

Peggy Williams v. PIP/USA, Inc., Case No. 03CH 9654, Jessica Fischer Schnebel, et al. v. PIP/USA, Inc., Case No. 03CH07239,Dawn Marie Cooper, et al. v. PIP/USA, Inc., Case No. 03CH11316, Miriam Furman,et al. v. PIP/USA, Inc., Case No. 03CH10832 and Karen S. Witt, et al. v.PIP/USA, Inc., Case No. 03CH12928 were filed in the Circuit Court of CookCounty, Chancery Division, in or around July 2003. Counsel for Jessica FischerSchnebel, et al. v. PIP/USA, Inc., Case No. 03CH07239 amended her class actioncomplaint to include plaintiffs from the other four cases, and each of theothers was voluntarily dismissed. The consolidated second amended complaintcontained counts alleging product liability, breach of the implied warrantiesof merchantability and fitness for a particular purpose, violation of theIllinois Consumer Fraud Act and third-party beneficiary status. Unspecifiedmonetary damages, exemplary damages and attorneys fees and costs had beensought. On January 26, 2006, PIP.America won dismissal of all counts in thesecases but the third-party beneficiary claims. Plaintiffs have amended andrefilled their complaint against PIP.America. Poly Implants Protheses, S.A., adefendant in the Schnebel litigation, has agreed that it will indemnifyPIP.America for any losses it may suffer as a result of the Illinoislitigation.

 

As it relates to cases involving PolyImplants Protheses, S.A., PIP.America is indemnified by PIP/USA, Inc., PolyImplants Protheses, S.A., and Poly Implants Protheses, S.A.’s President, JeanClaude Mas, personally, from, among other things, claims arising from productsmanufactured by PIP-France. PIP.America either already has, or is in theprocess of, asserting its indemnification claims and, in the event of anadverse judgment in any case, PIP.America intends to seek the benefits of thisindemnity. As a result, we believe the costs associated with these matters willnot have a material adverse impact on our business, results of operations orfinancial position.

 

In July, 2005, IP Resources Limited, aUK-based company filed an action against our subsidiary, Eurosilicone, SAS inthe Marseille Civil Court (Tribunal de Grande Instance), Marseille, France. Thecomplaint alleges Eurosilicone infringed upon a certain European Patentlicensed by IP Resources, Inc. known as “Implantable prosthesis device”, Patent#0 174 141 B1, and seeks damages of $3 million Euros. The case is in thepreliminary stages and the company believes it does not infringe on the 0 174141 B1 patent and is prepared to wage a vigorous defense based on both thevalidity of the patent and upon the merits of the claims.

 

Though it is not yet possible to predict theoutcome of the cases described above, MediCor and its subsidiaries, asapplicable, have denied plaintiffs’ allegations and are vigorously defendingthemselves in each lawsuit. MediCor and its subsidiaries have been and willcontinue to be periodically named as a defendant in other lawsuits in thenormal course of business, including product liability and product warrantyclaims. In the majority of such cases, the claims are dismissed, or settled forde minimis amounts. Litigation, particularly product liability litigation, canbe expensive and disruptive to normal business operations and the results ofcomplex proceedings can be very difficult to predict. Claims against MediCor orits subsidiaries have been and are periodically reviewed with counsel in theordinary course of business. We presently believe we or our subsidiaries havemeritorious defenses in all lawsuits in which we or our subsidiaries aredefendants, subject to the subsidiaries’ continuing product replacementobligations, which the subsidiaries intend to continue to satisfy. While it isnot possible to predict the outcome of these matters, we believe that the costsassociated with them will not have a material adverse impact on our business,results of operations or financial position.

 

21

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The Company has operating leasesfor office, manufacturing and warehouse facilities under various terms expiringfrom 2007 to 2010. Lease expenses amounted to $113,643 and $120,919 for the threemonths ended March 31, 2006 and 2005, respectively. For the nine months ended March31, 2006, lease expenses were $302,118 compared to $393,026 for the nine monthsending March 31, 2005. Future minimum operating lease payments are approximatedas follows:

 
| **Year ending March 31,** | ** ** | **Amount** | ** ** |
|------------------------------------------|------------|------------|------------|
|                                     |       |       |       |
| 2007                                     |       | 383,633    |       |
| 2008                                     |       | 254,703    |       |
| 2009                                     |       | 183,077    |       |

 

**Note U –Acquisitions**

 

On April 25, 2005, one of the Company’ssubsidiaries completed the purchase of selected assets and liabilities of privately-held Hutchison International,Inc., a third-party distributor of breast implants products in the UnitedStates for Biosil Limited. The completion of this transaction allowed theCompany to, among other things, negotiate and ultimately enter into anexclusive distribution agreement directly with Biosil Limited for its breastimplants in the United States. The acquisition itself did not have asignificant impact on the operating results of the Company, since theoperations have no existing revenue—pending FDA approval of the products. The various agreements called for payments in the form of stock and cash ofabout $3,000,003 as follows:  cash payments of $250,000 and 366,667 sharesof MediCor Ltd. common stock valued at $7.50, subject to future adjustmentbased on actual trading prices following approval for marketing the products inthe United States.

 

The purchase price resulted in a significantamount in other intangible assets and the Company is continuing to evaluatethis in detail and anticipates that it will determine and place a fair valueupon completion of such valuation by June 30, 2006. Until completion of suchevaluation, the Company cannot currently estimate any purchase priceallocations. The Company does expect that a majority of the intangibles will berelated to the distribution agreement with Biosil Limited.

 

The financial statements reflect variouspurchase price allocations. In accordance with SFAS No. 141, “BusinessCombinations” (“SFAS No. 141”), the total purchase price was allocated to thetangible and intangible assets acquired from Hutchison International, Inc.based upon their estimated fair values at the acquisition date. The purchaseaccounting adjustments made are based upon currently available information. Accordingly,the actual adjustments recorded in connection with the final purchase priceallocation may be updated according SFAS No. 141, and any such changes may bematerial.

 

22

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The following table summarizes the componentsof the total purchase price and the allocation as of the date of acquisitionand updated as of March 31, 2006:

 
| ** **                                      | ** ** | **Book Value of  Assets Acquired /  Liabilities Assumed** | ** ** | **Purchase Price  Adjustments** | ** ** | **Preliminary  Fair Value** | ** ** |
|-------------------------------------------------|------------|-----------------------------------------------------------|------------|---------------------------------|------------|-----------------------------|------------|
| Employee advances                               |       | $                                                         | 39,782     |                            | $          | —                      |       | $ | 39,782 |   |
| Inventory                                       |       | 372,061                                                   |       | (372,061                        | )          | —                      | (a)        |
| Property and equipment                          |       | 1,492                                                     |       | (1,492                          | )          | —                      | (b)        |
| Intangibles                                     |       | —                                                    |       | 3,243,146                       |       | 3,243,146                   | (c)        |
|                                            |       |                                                      |       |                            |       |                        |       |
| Total assets                                    |       | $                                                         | 413,335    |                            | $          | 2,869,593                   |       | $ | 3,282,928 |   |
|                                            |       |                                                      |       |                            |       |                        |       |
| Short-term product replacement allowance        |       | 195,750                                                   |       | 87,175                          |       | 282,925                     | (d)        |
| Book value of net assets                        |       | 217,585                                                   |       | (217,585                        | )          | —                      | (e)        |
| Purchase price                                  |       |                                                      |       | 3,000,003                       |       | 3,000,003                   | (e)        |
|                                            |       |                                                      |       |                            |       |                        |       |
| Total liabilities and shareholders’ equity |       | $                                                         | 413,335    |                            | $          | 2,869,593                   |       | $ | 3,282,928 |   |

 

The amounts contained in the purchase price allocation may change asadditional information becomes available regarding the assets and liabilitiesacquired. The purchase price allocations are expected to be finalized beforethe year ended June 30, 2006. Any change in the fair value of the net assetsmay change the amount of the purchase price allocable to goodwill. The Companyis continuing to evaluate this in detail and anticipates that it will determineand place a fair value upon completion of such valuation. Until completion ofsuch evaluation, the Company cannot currently estimate any possible changes in purchaseprice allocations.

 

----

(a)                                                         Inventory is obsolete because no FDAPre-Market Approval exists, and therefore no current market for the productexists.

(b)                                                        Office equipmentappears to be obsolete and beyond its useful life.

(c)                                                         Reflects initialdetermination of value associated with intangibles (specifically thedistribution/supply agreement with Biosil). Amount may be impacted by otherpurchase accounting adjustments and finalization of intangible valuation underSFAS 141 which will be finalized within one year of acquisition.

(d)                                                        Reflects additionalamounts for allowance associated with product replacement program.

(e)                                                         To record the purchase price, asfollows:  $250,000 of cash and $2,750,003in the form of common stock in MediCor (366,667 shares), which exceeds the bookvalue of purchased net assets by $2,782,418.

 

**Note V– Subsequent Events**

 

On April 26, 2006 the Company raised $50million in a private placement. The financing involved the sale of seniorsecured convertible notes and warrants to purchase a total of 29,166,667 sharesof common stock. Concurrently, Sirius Capital LLC, a private equity investmentfund affiliated with the Company’s Chairman and founder, Donald K. McGhan,converted $37.5 million of outstanding loans to the Company into an unsecuredsubordinated convertible note, with similar terms as the senior securedconvertible notes, and a warrant to purchase a total of 21,875,000 shares ofcommon stock. The debt is convertible into shares of common stock at a price of$4.00 per share and the warrants are exercisable at a price of $4.50 per share,subject in each case to customary anti-dilution adjustments.  $31,710,693of the Company’s remaining debt held by International Integrated Industries,LLC was subordinated to the new senior notes.

 

On April 28, 2006, the Company acquired privately-heldBiosil Limited and Nagor Limited, a manufacturer and distributor of aesthetic,plastic and reconstructive surgery devices.  The terms of the transactionwere a payment of £13 million in cash at closing, two subsequent payments of£3.5 million each, and 2.64 million shares of the Company’s common stock,issued at closing.

 

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***ITEM 2. MANAGEMENT’S DISCUSSION ANDANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS***

 

This Quarterly Report on Form 10-QSB, including thefollowing “Management’s Discussion and Analysis of Financial Condition andresults of Operations,” contains forward-looking statements that involve risksand uncertainties, as well as assumptions that, if they ever materialize orprove incorrect, could cause the results of the Company to differ materiallyfrom those expressed or implied by such forward-looking statements.  Allstatements other than statements of historical fact are statements that couldbe deemed forward-looking statements, including statements regarding new andexisting products, technologies and opportunities; statements regarding marketand industry segment growth and demand and acceptance of new and existingproducts any projections of sales, earnings, revenue, margins or otherfinancial items; any statements of the plans, strategies and objectives ofmanagement for future operations, including the execution of acquisition ormarketing plans; any statements regarding future economic conditions orperformance; any statements of belief or intention; and any statements ofassumptions underlying any of the foregoing.  Factors that may cause suchdifferences include, but are not limited to: increased competition; changes inproduct demand; changes in market acceptance; new product development; UnitedStates Food and Drug Administration (“FDA”) approval, denial or rescission ofapproval; delay, termination or rejection of new or existing products; changesin agreements with governmental agencies; changes in government regulation;supply of raw materials; changes in reimbursement practices; adverse results oflitigation; the performance of contracts by suppliers, customers and partners,including expiration or termination of agreements; employee management issues;the challenge of managing asset levels, including inventory; the difficulty ofaligning expense levels with revenue changes; and other risks that aredescribed herein and that are otherwise described from time to time in theCompany’s reports and other documents filed with the Securities and ExchangeCommission, including those contained in “Factors that May Affect FutureResults” set forth below in “Management’s Discussion and Analysis or Plan ofOperation.”  The Company assumes no obligation and does not intend to updatethese forward-looking statements, except as required by law. In the following “Management’sDiscussion and Analysis or Plan of Operation,” the terms “MediCor,” “we,” “us”and “our” refer to MediCor Ltd. and its consolidated subsidiaries, asappropriate in the context, and, unless the context otherwise requires, “commonstock” refers to the common stock, par value $0.001 per share, of MediCor Ltd.

 

**OVERVIEW**

 

MediCor Ltd. is a global health care company thatacquires, develops, manufactures and markets products primarily for theaesthetic, plastic and reconstructive surgery and dermatology markets. Current products include breast and other implants and scar managementproducts.  Our products are sold in foreign countries (non-U.S.) and foreignsales are currently about 95% of total sales. Breast implant and other implantproducts account for about 94% of total sales for the quarter ended March 31,2006, while scar management products contributed approximately 6% of total sales.Brazil accounted for about 17% of total breast implant and other implant sales.We sell our products to hospitals, surgical centers and physicians primarilythrough distributors, as well as through direct sales personnel.

 

**Company History and BusinessStrategy**

 

MediCor was founded in 1999 by chairman of the boardDonald K. McGhan, the founder and former Chairman and Chief Executive Officerof Inamed Corporation, McGhan Medical Corporation and McGhan Limited. Ourobjective is to be a leading supplier of selected international medical devicesand technologies. To achieve this objective, we intend to build upon and expandour business lines, primarily in the aesthetic, plastic and reconstructivesurgery and dermatology markets. We intend to accomplish this growth throughthe expansion of existing product lines and offerings and through theacquisition of companies and other assets, including intellectual propertyrights and distribution rights.

 

**Products**

 

Currently, MediCor has two main product lines:

 

•                  breast and other implants for aesthetic, plastic andreconstructive surgery; and

•                  scar management products.

 

24

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* *

***Breast and other implantproducts***

 

Our primary product line is breast and other implants, accounting forabout 94% of total sales for the three months ended March 31, 2006 and 93% forthe nine months ended March 31, 2006. With the acquisition of Eurosilicone inJuly 2004, we have become the third largest breast implant manufacturer in theworld in terms of sales, with an estimated 17% of the non-U.S. market.  Sales in foreign (non-U.S.) countries arecurrently about 95% of total sales, with the largest country accounting forabout 17% of sales.  Eurosilicone alsomanufactures a broad line of other implant products targeted for the aesthetic,cosmetic and reconstructive markets, including gluteal, calf, pectoral, malarand testicular implants, as well as external breast prostheses, whichcollectively account for approximately 4% of total sales.  The financing for the Eurosiliconeacquisition was provided primarily through loans from International IntegratedIndustries, LLC, an affiliate of MediCor’s chairman, as more fully described inthe financial statements and notes.

 

Our strategy to gain entry into the U.S. saline filled breast implantmarket relies upon our contractual agreements with independent parties withwhom we are working to obtain FDA approval of their PMA applications.  The PMA application for the Biosil Limitedinflatable saline breast implant has been submitted in module format.  We have already addressed some of the observationsarising from the FDA review of the application, and the four-year intervalclinical trial data are currently being analyzed by the FDA.  These data, together with our responses toany unaddressed observations, will be submitted as a PMA amendment followingcompletion of that FDA analysis. Although we now anticipate submitting the appropriate data in responseto the FDA’s observations and guidance in the first half of 2006, there can beno assurance of timing, review or decision concerning the PMA application.  We are also continuing to work with PolyImplants Protheses, S.A. (“PIP”) in furtherance of the PMA application for PIP’spre-filled saline breast implant.  We arecurrently assisting in the collection of appropriate data through its ongoingclinical trial.  We intend to submit thePMA application to the FDA upon satisfactory completion of data collection andanalysis.  Timing for submission of thecompleted PMA application is presently uncertain but is not expected to occurduring 2006 due to the need to collect, update and verify the clinicaldata.  As a result, there can be noassurance of timing, review or decision concerning any resulting PMAapplication.  Although we are not themanufacturer of these products, we do and will continue to provide technicaland other assistance with the clinical trials and regulatory efforts.

 

***Scar Management Products***

 

HPL Biomedical, one of our subsidiaries, competes under the nameBiodermis in the scar management market and distributes products used in theprevention and management of visible scar tissue known as keloid and hypertrophicscars. Sales from these products contributed about 6% of total sales for thethree months ended March 31, 2006 and 7% for the nine months ended March 31,2006.  The Biodermis products achievetherapeutic results by encapsulating the scar tissue with a soft, malleable,semi-occlusive polymer in the form of sheets and ointments that are believed tomimic the natural barrier function of the skin, improving the condition andappearance of scars. In the United States, the products are marketed under the namesEpiDermTM silicone gel sheeting, and XeragelTM and Pro-SilTM siliconeointments.  Internationally, the sameproducts are also marketed under the names TopiGelTM and DermaSofTM.

 

Biodermis’ secondary product lines consist mainly of two products,EPIfoamTM and HydroGOLDTM.  EPIfoam is asilicone backed, polyurethane foam utilized post-lipectomy to assist inrecovery and enhance the overall aesthetic appearance followingliposuction.  HydroGOLD is ahydrogel-based product for use in reducing the pain, discomfort and burningsensation frequently associated with procedures of the skin typically aimed atreducing fine lines and wrinkles and to eliminate or reduce the signs of aging,such as laser resurfacing, chemical peels and micro-dermabrasion.  Additionally, a portion of Biodermis’ revenueis derived from manufacturing of scar management and post-operative careproducts for other medical device companies who then sell the products undertheir own brand names.  To assure qualitycontrol and proper regulatory compliance, Biodermis retains allresponsibilities related to the FDA and European CE-mark certification andregulatory compliance related to manufacturing activities.  Some of these medical device companycustomers are allowed to compete for sales in similar markets and for similarcustomers against Biodermis’ distributors and direct sales staff.

 

**APPLICATION OF CRITICAL ACCOUNTING POLICIES AND ESTIMATES**

 

Management’s Discussion and Analysis addresses MediCor’s consolidatedfinancial statements, which have been prepared in accordance with accountingprinciples generally accepted in the United States.  The preparation ofthese financial statements requires management to make estimates andassumptions that affect the reported amounts of assets and liabilities and thedisclosure of contingent assets and liabilities at the date of the financialstatements and the reported amounts of revenues and expenses during thereporting period.  On an on-going basis, we evaluate our estimates andjudgments,

 

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including those related to revenue recognition,inventories, adequacy of allowances for doubtful accounts and productreplacement, valuation of long-lived assets and goodwill, income taxes, andlitigation.  We base our estimates on historical and anticipated resultsand trends and on various other assumptions that we believe are reasonableunder the circumstances, including assumptions as to future events.  Thepolicies discussed below are considered by management to be critical to anunderstanding of our financial statements. These estimates form the basis for making judgments about the carryingvalues of assets and liabilities that are not readily apparent from othersources.  By their nature, estimates are subject to an inherent degree ofuncertainty.  Actual results may differ from those estimates.

 

Management has identified the critical accounting policies to be thoserelated to revenue recognition, adequacies of allowances for doubtful accountsand product replacement, valuation of long-lived assets and goodwill, incometaxes, and litigation.

 

**RESULTS OF OPERATIONS**

 

***Sales***

 

Sales for the three months ended March 31, 2006 equaled $7,878,064, anincrease of $747,655 or 10% as compared to the prior year quarter.  This growth rate was negatively impacted byunfavorable foreign exchange rates by approximately 4%.  Unit growth drove this increase, offset by adecrease in unit prices.  Most of the salesgrowth was driven by the Latin America region.

 

For the nine months ended March 31, 2006 sales were $20,521,373, anincrease of $1,102,651or 6% versus the same period a year ago.  This growth rate was negatively impacted byunfavorable foreign exchange rates by approximately 2%.  Unit growth drove this increase, offset by adecrease in unit prices. The increase in sales for the period was primarilyattributable to sales growth in Latin America and other regions, which was thenpartially offset by a slight decline in European and Asia Pacific sales ofbreast implants caused by competition and weaker economic conditions in thatregion.  The Company’s historical salesgrowth rate over the most recent four quarters, including the current quarter,was about 7%, and the impact of foreign exchange was immaterial.

 

***Costof Sales***

 

Cost of sales as a percentage of net sales for the three months endedMarch 31, 2006 was approximately 59% compared to approximately 68% during thesame period in 2005.  For the nine monthsended March 31, 2006 cost of sales as a percentage of net sales was approximately66% compared to 60% during the same period in 2005.  The majority of the cost associated with theproduction of our product is recurring. The resulting increase in gross margin for the three months ended March31, 2006 from about 32% to about 41% and the decrease in gross margin for thenine months ended March 31, 2006 from 40% to 34% was primarily attributable tothe decrease in average selling prices of breast implants as describedabove.  Additionally, an increase inregulatory and quality control costs as well as production labor contributed tothe decline in gross margin for the nine months ending March 31, 2006.  These additional costs arose because theCompany has initiated ongoing programs to increase production and improvemanufacturing efficiencies and quality systems, which we believe will enable usto increase production and lower future unit cost of sales.  Based on our historical review of costs, weexpect that cost of sales in the future will remain in line on a percentagebasis with this historic level of approximately 66%.

 

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***Selling,General and Administrative Expenses***

 

Selling, general and administrative (“SG&A”) expenses increased to$4,662,962 for the three months ended March 31, 2006, as compared to $4,371,063during the same period in 2005.  Theincrease can be attributed to payroll related expenses of $540,023; printingexpense of $166,149; additional amortization and deprecation of $142,455; andadvertising fees of $104,189 and other various expenses of $43,888. These wereoffset by a reduction in bad debt expense of $704,805.  Of all SG&A expenses, the majority wererecurring charges for this quarter.

 

For the nine months ended March 31, 2006, SG&A decreased to$12,325,595 as compared to $13,544,476 during the same period a year ago.  The decrease can be attributed to a vendorsettlement of $983,558 relieving accounts payable recorded in a prior period;lower bad debt expense of $840,561; a bad debt recovery of $672,663; a reductionin product replacement expense of $637,808; a reversal of $517,536 in long-termaccrued liability previously provided for in a prior period and lowercommission expense of $234,987. These were offset by an increase in payroll$1,337,365; a legal settlement of $1,000,000; additional amortization anddepreciation expense of $371,066; travel related expenses of $281,247;advertising fees of $179,970; and other expenses of $79,657. Of all SG&Aexpenses, the majority were recurring charges for this period.

 

***Researchand Development Expenses***

*** ***

Research and development expenses in the recent quarter ending March31, 2006 were $1,084,124, as compared to $680,895 for the comparable period in2005.  For the nine months ended March 31, 2006, research and developmentexpenses increased to $2,569,839 as compared to $1,882,084 for the same perioda year ago.  The increase of $687,755 isprimarily attributable to a net increase in spending associated with the salinebreast implant clinical trials.  Costs associated with the PIP productwere $241,822 and costs relating to the development of other product lines were$445,933.  We expect that research anddevelopment expenses will decrease once we receive required governmentapprovals, but may increase as we bring new products to market or existingproducts to new markets.

* *

***InterestExpense***

 

Interest expense increased to $1,531,370 for the three months endedMarch 31, 2006, compared to $1,152,087 in same period in the prior year.  Interest expense increased to $4,308,645 forthe nine months ended March 31, 2006, as compared to $3,681,570 for the ninemonths ended March 31, 2005.  Interestexpense consists primarily of interest related to borrowings.  The changein interest expense was primarily due to an increase in the average principalbalance on the note payable to related party.

 

***NetLoss***

 

Net loss before preferreddividends for the three months ended March 31, 2006 increased to$3,684,482 from $3,914,973 for the comparable period in the previousyear.  Net loss before preferred dividends increased from $11,325,313reported in the nine months ended March 31, 2005 period to $12,035,233 for thenine months ended March 31, 2006.  Thechange was due to higher selling costs, research and development and interestexpense, which was then partially offset by a decrease in general andadministrative expenses.  Basic anddiluted loss per share was $0.20 for the three month period compared to $0.23for the comparable period last year. Basic and diluted loss per share was$0.61 for the nine month period compared to $0.68 for the comparable periodlast year.

 

**LIQUIDITYAND CAPITAL RESOURCES**

 

Cash used in operations during the nine months ended March 31, 2006 was$9,700,232 as impacted by selling, general and administrative expenses, continuedstartup costs, research and development expenses and interest expense. Ourinvesting activities of $308,848 were the acquisition of additional fixedassets.

 

Our ability to make payments to refinance our debt and to fund plannedcapital expenditures and operations will depend on our ability to secureadditional significant financing and generate sufficient cash in thefuture.  Currently, we have only limitedproduct sales in the United States and will not be in a position to materiallyincrease United States sales until the FDA issues a pre-market approvalrelating to one or more of the products sought to be sold by us.  We are currently funding activities for twopre-market approval applications, which are accounted as operating expenses.

 

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Historically, we have raised funds to support our operating expensesand capital requirements through sales of equity or debt securities or throughother credit arrangements, including borrowing from our affiliates.  Our existing cash, cash equivalents and cashgenerated from operations, including the operations of Eurosilicone, will beinsufficient to meet our anticipated cash needs for the next twelve months.  To satisfy our liquidity requirements, wewill need to raise additional funds. To the extent that additional sales ofequity or debt securities are insufficient to satisfy our liquidityrequirements, we plan to obtain any necessary additional funds through theincurrence of additional indebtedness to our affiliates.  We have received a written commitment fromInternational Integrated Industries, LLC, an affiliate of our chairman, toprovide sufficient cash to fund any operating expenses and capital expendituresthrough April 1, 2007. The same entity has provided to us over $77 million infunding through March 31, 2006.  Thishistoric funding has been a combination of equity and debt.  The outstanding debt is a revolving creditfacility with interest accruing at 10% per annum.  We have no set payment terms, though we tryto remain current on payments of interest so as not to incur compoundinterest.  It is payable on demand. As aresult, it can be called at any time and for any reason.  From time to time in connection with ourother fund-raising activities, International Integrated has converted some ofthe debt to equity alongside third-party investors.  There is no obligation or understanding thatany such conversions will occur.

 

We are presently seeking to refinance some or all of the InternationalIntegrated indebtedness through a combination of third-party indebtedness,equity and possible conversions of debt to equity.  We may or may not be successful.  In the interim, any future funding fromInternational Integrated may take the form of debt or equity or a combinationthereof.  We expect our operating lossesto continue and anticipate that we will need between $6.0 and $8.0 million inadditional liquidity to cover negative cash flow in fiscal 2006.  In addition, to the extent we want to pursueadditional acquisitions, we expect that we will need additional financing.  We do not presently have any commitments forsuch financing and it may not be available when we need it, on terms acceptableto us or at all.  The lack of adequatefinancing could adversely affect our ability to effect acquisitions.  Under the Eurosilicone acquisition agreement,our ES Holdings SAS subsidiary may be required to make a performance payment ofup to €3 million to the sellers in each of fiscal 2006 and 2007. If thesepayments are required and ES Holdings does not otherwise have sufficient fundsfrom dividends or distributions from Eurosilicone, ES Holdings intends to seekto draw the necessary funds from its credit facility with BNP Paribas, whichwas established in part to provide a back-up funding source for theseperformance payments.  AlthoughEurosilicone has positive cash flow, it may or may not be sufficient to fundall of its projected operational, working capital, financial and other obligations.  As a result, we expect that from time to timeEurosilicone may have any additional liquidity needs which may require MediCoror a third-party, such as a bank, to provide additional financing.  As described above we have a writtencommitment from International Integrated Industries, LLC, to provide sufficientcash to fund any operating expenses and capital expenditures through April 1,2007.

 

Our revenues are primarily denominated in U.S. dollars and in euros,with U.S. dollars accounting for approximately 50% of total revenues.  Our expenses are primarily denominated inU.S. dollars, with the exception of certain operating expenses ofEurosilicone.  We do not currently hedgeagainst foreign exchange risk and do not have any plan to do so in the immediatefuture.

 

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**FACTORSTHAT MAY AFFECT FUTURE RESULTS**

 

Certain statements contained in this Quarterly Report onForm 10-QSB, and other written and oral statements made from time to timeby us, do not relate solely to historical facts.  These statements are considered “forward-lookingstatements.”  Words such as “anticipate,”“believe,” “could,” “estimate,” “expect,” “forecast,” “intend,” “may,” “plan,” “possible,”“project,” “should,” “will,” and similar words and expressions, identifyforward looking statements.  Theseforward-looking statements involve important risks and uncertainties that couldmaterially alter results in the future from those expressed in anyforward-looking statements made by us or on our behalf.  We caution you that forward-lookingstatements are only predictions and those actual events or results may differmaterially.  In evaluating thesestatements, you should specifically consider the factors described below thatcould cause actual events or results to differ materially.  We assume no obligation and do not intend toupdate these forward-looking statements, except as required by law.

*** ***

***Ifwe are unable to maintain satisfactory agreements with third-party manufacturesto distribute saline filled breast implants in the United States, we may not beable to distribute those products in the United States.***

 

We currently are dependent on maintaining rights to distribute in theUnited States breast implant products manufactured by third parties.  In the case of our agreement with Biosil, weare operating together with Biosil under an expired agreement.  If we do not conclude our acquisition ofBiosil, there is no certainty that we would retain any rights under thisagreement.  Our relations with the othermanufacturer have from time to time been contentious, and there is no assurancethat we will be able to maintain those distribution rights on acceptable termsor at all.  If we fail to maintain theserights, we may not be able to sell breast implant products in the United Statesfor a number of years, if at all.

* *

***Ifclinical trials or pre-market approval applications for our products areunsuccessful or delayed, we will be unable to meet our anticipated developmentand commercialization timelines.***

 

Before obtaining regulatory approvals for the commercial sale of anyproducts, we must demonstrate through pre-clinical testing and clinical trialsthat our products are safe and effective for use in humans. We must alsoprepare and submit pre-market approval applications, based on data from thistesting and these trials to appropriate regulatory authorities. Conductingclinical trials and preparing and submitting pre-market approval applicationsare lengthy, time-consuming and expensive processes.

 

Completion of clinical trials may take several years or more.  Ourcommencement and rate of completion of clinical trials, and our submission ofpre-market approval applications, may be delayed by many factors, including:

 

•             lackof efficacy during the clinical trials;

•             unforeseensafety issues;

•             uncertaintieswith or actions of our collaborative partners or suppliers;

•             slowerthan expected patient recruitment;

•             difficultiesin patient retention; and

•             governmentor regulatory delays.

 

The results from pre-clinical testing and early clinical trials areoften not predictive of results obtained in later clinical trials.  Anumber of new products have shown promising results in clinical trials, butsubsequently failed to establish sufficient safety and efficacy data to obtainnecessary regulatory approvals.  Data obtained from pre-clinical andclinical activities are susceptible to varying interpretations or criticisms,which may delay, limit or prevent regulatory approval.  In addition,regulatory delays or rejections may be encountered as a result of many factors,including perceived defects in the design of the clinical trials, questionsabout data integrity and changes in regulatory policy during the period ofproduct development and questions about data integrity.  Any delays in, ortermination of, our clinical trials or clinical trials of our collaborativepartners or suppliers will adversely affect our development andcommercialization timelines, which would adversely affect our future sales andprofitability.

 

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***Ifwe are unable to develop, gain regulatory approval for and market new productsand technologies, we will not achieve meaningful revenue and may experience adecrease in demand for our products or our products could become obsolete.***

 

The medical device industry is highly competitive and is subject tosignificant and rapid technological change. We believe that our ability torespond quickly to consumer needs or advances in medical technologies, withoutcompromising product quality, will be crucial to our success.  We are continually engaged in productdevelopment and improvement programs to establish and improve our competitiveposition.  We cannot, however, guaranteethat we will be successful in enhancing our existing products or in developingor enhancing products we have in development or clinical trials.  Nor can we guarantee that we willsuccessfully develop new products or technologies that will timely achievenecessary safety and efficacy and regulatory approval or receive market acceptance.  Once developed, we must timely obtainregulatory approval for our products. The failure to obtain this approval in a timely manner can jeopardizeany chance of approval due to the age or integrity of data and may cause ourproducts to be obsolete once regulatory approval is granted.  Two of our competitors are in the advancedstage of obtaining regulatory approval for their silicone filled breastimplants in the United States, while we have not started the regulatory processfor those products in the U.S.  There isalso no assurance that we will obtain regulatory approval for our currentsaline filled breast implant products or any other products in the U.S.  These regulatory and marketing conditions putus at a significant disadvantage in the U.S. market.  The lack of U.S. regulatory approval for ourproducts, in the face of our competitors’ approvals, may also adversely affectus in foreign markets.

*** ***

***Ifchanges in the economy and consumer spending reduce consumer demand for ourproducts or our products in development, our sales and profitability willsuffer.***

 

Breast augmentation and reconstruction and other aesthetics proceduresare elective procedures.  Other than U.S. federally mandated insurancereimbursement for post-mastectomy reconstructive surgery, breast augmentationsand other cosmetic procedures are not typically covered by insurance.  Adverse changes in the economy may causeconsumers to reassess their spending choices and reduce the demand for cosmeticsurgery.  This shift could have an adverse effect on our projected futuresales and profitability.

 

***Ourability to expand our business will be significantly limited if we cannotobtain additional financing.***

 

To conduct our ongoing operations, expand our product lines andmarkets, and purchase new companies, products and intellectual property, wehave to date needed substantial third-party capital.  As a result, we currently have significantdebt that must be serviced.  Prior to ourrecent third-party financing, which we closed in April 2006, we had been fundedin substantial part by an affiliate of our chairman.  We do not anticipate that this funding sourcewill provide capital to finance our intended growth strategy in the future, andwe expect that if and to the extent we need additional financing to accomplishour future goals we will have to seek other sources.  We have in the past and will likely in thefuture negotiate with potential equity and debt providers to obtain additionalfinancing, but this additional financing may not be available on terms that areacceptable to us, or at all.  If adequatefunds are not otherwise available, or are not available on acceptable terms,our ability to implement desired expansion and growth plans may be impaired.  In addition, the financial terms of any suchfinancing, if obtainable, may be dilutive to existing stockholders.

 

***Werely on our chairman for continued capital funding, management direction andstrategic planning and we do not presently have any alternative funding or amanagement transition plan in place.***

 

We rely on our chairman, Donald K. McGhan, for our continued capitalfunding, management direction and strategic planning.  Mr. McGhan is a significant lender, and he isour principal stockholder, chairman of our board of directors and a member ofour four-person executive committee. Consequently, Mr. McGhan has substantial influence over significantcorporate transactions, including acquisitions that we may pursue.  Although we have no written charter, ourexecutive committee generally functions on the basis of consensus, though Mr.McGhan’s multiple roles and significant financial and stockholder stake aretypically considered.  To date, we havenot had any event where Mr. McGhan has sought to or exercised any type ofunilateral control over us, though there can be no assurance that this will nothappen in the future.  The loss of Mr.McGhan’s services or financial support to our company could materially andadversely affect our operations.  We donot presently have a written or other well-established management or financingtransition plan in the event we were to lose the services or financial supportof Mr. McGhan.

 

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***Becausewe have only a limited operating history and our business strategy calls forsignificant growth through new products and acquisitions, there is significantuncertainty about our business and prospects.***

 

MediCor and its subsidiaries have only been operating since 1999.Although our Biodermis and Eurosilicone operations have been in existence forlonger periods of time, Biodermis has only operated under our management sinceits acquisition in 2001 and Eurosilicone has only operated under MediCor’smanagement since its acquisition in July 2004. Significantly, during much of our history, we have also been preventedfrom selling our primary existing product, breast implants, in the U.S. marketdue to the FDA’s 2000 call for a PMA for those products.  As a result, all of our revenues prior to theEurosilicone acquisition were derived primarily from our scar managementproducts.  Revenue generated by ourBiodermis subsidiary has not been significant, and we do not expect more thanmodest internal growth in that segment. As a result, our historic business platform is not necessarilyindicative of our future business or prospects.

 

***MediCorand its prospects must be considered in light of the risks, expenses anddifficulties frequently encountered by companies in an early stage ofdevelopment, particularly companies in rapidly evolving markets such as themedical device market.***

 

Risks for our business include the uncertainties associated withdeveloping and implementing an evolving business model and the management ofboth internal and acquisition-based growth.  This is particularly acute ina rapidly evolving market such as the market for medical devices.  To address these risks, we must continue todevelop the strength and quality of our operations, maximize the valuedelivered to customers, respond to competitive developments and continue toattract, retain and motivate qualified employees.  We may not besuccessful in addressing these challenges.

 

***Ifwe suffer negative publicity concerning the safety of our products, our salesmay be harmed and we may be forced to withdraw products.***

 

Physicians and potential patients may have a number of concerns aboutthe safety of our products and proposed products, whether such concerns have abasis in generally accepted science or peer-reviewed scientific research ornot.  Negative publicity—whether accurateor inaccurate—about our products, based on, for example, news about breastimplant litigation or regulatory actions, could materially reduce marketacceptance of our products and could result in product withdrawals.  In addition, significant negative publicitycould result in an increased number of product liability claims, whether or notthese claims have merit.

 

***Becauseour strategy is based on successfully making acquisitions and otherwisediversifying or expanding our product offerings, we are exposed to numerousrisks associated with acquisitions, diversification and rapid growth.***

 

Our present growth strategy is based in significant part on theacquisition of other companies, products and technologies that meet ourcriteria for strategic fit, geographic presence, revenues, profitability,growth potential and operating strategy. The successful implementation of this strategy depends on our ability toidentify suitable acquisition candidates finance acquisitions, acquirecompanies and assets on acceptable terms and integrate their operationssuccessfully.

 

We may not be able to identify suitable acquisition candidates in ourdesired product areas or we may not be able to acquire identified candidates onacceptable terms.  Moreover, in pursuingacquisition opportunities we will likely compete with other companies withgreater financial and other resources. Competition for these acquisition targets likely could also result inincreased prices of acquisition targets and a diminished pool of companies andassets available for acquisition.

 

Acquisitions also involve a number of other risks, including the risksof acquiring undisclosed or undesired liabilities, acquired in-processtechnology, stock compensation expense and increased compensation expenseresulting from newly hired employees, the diversion of management attention,potential disputes with the sellers of one or more acquired entities and thepossible failure to retain key acquired personnel.  Client satisfaction or performance problemswith an acquired business or product line could also have a negative impact onour reputation as a whole, and any acquired entity or assets couldsignificantly under-perform relative to our expectations.  Our ability to meet these challenges has notbeen established through repeated acquisitions.

 

We expect that, at least for the foreseeable future, we will berequired to use primarily cash consideration for acquisitions.  We likely will be required to obtainsignificant third-party financing to accomplish these acquisitions.  This

 

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financing may not be available on acceptable terms, ifat all.  The terms of any such financingmay be dilutive to existing stockholders.

 

***Acquisitions,distribution agreement terms, product research and development, and regulatoryapprovals and compliance can result in significant provisions, write-offs andlitigation.***

*** ***

Some aspects of our business, such as acquisitions, distributionagreements with third parties and product research and development, includingregulatory approvals and compliance, have significant and sometimesunpredictable events that can result in material financial and accountingevents, including provisions, write-offs and litigation.  For example, in our Eurosilicone acquisition,we made an aggregate of $754,463 in negative purchase accounting adjustments,we have incurred a total of $7,243,691 in provisions and write-offs inconnection with our PIP.America subsidiary’s distribution agreement with PIPbecause of past uncertainties regarding PIP’s ability to pay its portion of theproduct replacement program for its products distributed in the UnitedStates.  These aspects of our business,such as acquiring companies and technologies, establishing and administeringdistributor relationships and developing new products, are part of our businessstrategy.  As a result of thesignificance of these events, their unpredictable timing and frequency and thevariance in structure and outcome, these events and their financial impact areunpredictable and can create material fluctuations in our financial results.

 

***Ifour intellectual property rights do not adequately protect our products ortechnologies, others could compete against us more directly.***

 

Our success depends in part on our ability to obtain patents ortrademarks or rights to patents or trademarks, protect trade secrets, operatewithout infringing upon the proprietary rights of others, and prevent othersfrom infringing on our patents, trademarks and other intellectual propertyrights.  We will be able to protect ourintellectual property from unauthorized use by third parties only to the extentthat it is covered by valid and enforceable patents, trademarks and licensesand we are able to enforce those rights. Patent protection generally involves complex legal and factual questionsand, therefore, enforceability and enforcement of patent rights cannot bepredicted with certainty.  Patents, ifissued, may be challenged, invalidated or circumvented.  Thus, any patents that we own or license fromothers may not provide adequate protection against competitors.  In addition, our pending and future patentapplications may fail to result in patents being issued.  Also, those patents that are issued may notprovide us with adequate proprietary protection or competitive advantagesagainst competitors with similar technologies. Moreover, the laws of certain foreign countries do not protect ourintellectual property rights to the same extent as do the laws of the UnitedStates.

 

In addition to patents and trademarks, our intellectual propertyincludes trade secrets and proprietary know-how.  We seek protection of this intellectualproperty primarily through confidentiality and proprietary informationagreements with our employees and consultants. These agreements may not provide meaningful protection or adequateremedies for violation of our rights in the event of unauthorized use ordisclosure of confidential and proprietary information.  Failure to protect our proprietary rightscould seriously impair our competitive position.

 

***Wedepend on a limited number of suppliers for certain raw materials and the lossof any supplier could adversely affect our ability to manufacture many of ourproducts.***

*** ***

We currently rely on a single supplier for silicone raw materials usedin many of our products.  We only have anoral supply agreement with this supplier which includes an understanding thatit will transfer the necessary formulations to us in the event that it cannotmeet our requirements.  We cannotguarantee that this agreement will be enforceable or that we would be able toproduce a sufficient amount of quality silicone raw materials in a timelymanner.  We will also depend on a sole orlimited number of third-party manufacturers for silicone breast implants to bedistributed by us in the North America market.

 

***Ourinternational business exposes us to a number of risks.***

 

A significant part of our current sales are and a significant part ofour projected future sales will be derived from international operations.  In addition, we have and anticipate having inthe future material international suppliers and operations, includingmanufacturing operations.  Accordingly,we are exposed to risks associated with international operations, includingrisks associated with re-valuation of the local currencies of countries wherewe purchase or sell our products or conduct business, which may result in ourpurchased products becoming more expensive to us in U.S. dollar terms or soldproducts becoming more expensive in local currency terms, thus reducing demandand sales of our products, or

 

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increased costs to us. Our operations and financial results alsod may be significantly affectedby other international factors, including:

 

•    foreign government regulation of medical devices;

•    product liability claims;

•    new export license requirements;

•    political or economic instability in our targetmarkets;

•    trade restrictions;

•    changes in tax laws and tariffs;

•    inadequate protection of intellectual propertyrights in some countries;

•    managing foreign distributors, manufacturers andstaffing;

•    managing foreign branch offices; and

•    foreign currency translations.

 

If these risks actually materialize, our sales to internationalcustomers, as well as those domestic customers that use products manufacturedabroad, may decrease or our supplier or manufacturing costs may materiallyincrease.

 

***Ourfailure to attract and retain key managerial, technical, selling and marketingpersonnel could adversely affect our business.***

 

Our success will depend upon our ability to attract and retain keymanagerial, financial, technical, selling and marketing personnel.  The lack of key personnel might significantlydelay or prevent the achievement of our development and strategicobjectives.  Although we maintain a keyman policy on two of our Eurosilicone managers for the benefit of ourcommercial bank lenders, we do not maintain any other key man life insurance onany of our employees.  Other than certainof our executives who are parties to employment agreements, none of ouremployees is under any obligation to continue providing services to us.  We are continuing to build our management andtechnical staffs. We believe that our success will depend to a significantextent on the ability of our key personnel, including the new management andtechnical staffs, to operate effectively, both individually and as agroup.  Competition for highly skilledemployees in our industry is high, and we cannot be certain that we will besuccessful in recruiting or retaining these personnel.  We may also face litigation from competitorswith hiring personnel formerly employed by them.

 

***MediCor’sfuture growth will place a significant strain on our managerial, operational,financial and other resources.***

*** ***

Our success will depend upon our ability to manage our internal andacquisition-based growth effectively. This will require that we continue to implement and improve ouroperational, administrative and financial and accounting systems and controlsand continue to expand, train and manage our employee base.  We anticipate that we will need to hire andretain numerous additional employees and consultants for both internal andacquisition-based growth for some time. Integration of these employees and consultants and employee andconsultant loss in the process will require significant management attentionand resources.  Our systems, procedures,controls and personnel may not be adequate to support our future operations andour management may not be able to achieve the rapid execution necessary toexploit the market for our business model.

 

***Ifour suppliers, collaborative partners or consultants do not perform, we will beunable to obtain, develop, market or sell products as anticipated and we may beexposed to additional risks.***

*** ***

We have in the past and may in the future enter into supply,collaborative or consulting arrangements with third parties to supply ordevelop products.  These arrangements maynot produce or provide successful products. If we fail to establish these arrangements, the number of products fromwhich we could receive future revenues will be limited.  Our dependence on supply, collaborative orconsulting arrangements with third parties subjects us to a number ofrisks.  These arrangements may not be onterms favorable to us.  We are alsoparticularly vulnerable to suppliers of heavily regulated products, such asbreast implants, to consistently and timely produce high-quality products.  If they do not, our business will sufferimmediately and likely materially. Agreements with suppliers may limit our supply of products or require usto purchase products we can not profitably sell.  They may also restrict our ability to market ordistribute other products.  Agreementswith consultants or collaborative partners typically allow the third partiessignificant discretion in electing whether or not to pursue any of the plannedactivities.  We cannot with certaintycontrol the amount and timing of resources our suppliers, collaborativepartners or consultants may devote to our products and these third parties maychoose to pursue alternative

 

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products.  Thesethird parties also may not perform their obligations as expected.  Business combinations, significant changes intheir business strategy, or their access to financial resources may adverselyaffect a supplier’s, partner’s or consultant’s willingness or ability tocomplete its obligations under the arrangement. Moreover, we could become involved in disputes with our suppliers,partners or consultants, which could lead to delays or termination of thearrangements and time-consuming and expensive litigation or arbitration.

 

***Ourquarterly operating results are subject to substantial fluctuations and anyfailure to meet financial expectations for any fiscal quarter may disappointsecurities analysts and investors and could cause our stock price to decline.***

*** ***

Our quarterly operating results may vary significantly due to acombination of factors, many of which are beyond our control.  These factors include:

 

•    changes in demand for our products;

•    our ability to meet the demand for our products;

•    movement in various foreign currencies, primarilythe euro and the U.S. dollar;

•    existing and increased competition;

•    our ability to compete against significantly largerand better funded competitors;

•    the number, timing, pricing and significance of newproducts and product introductions and enhancements by us and our competitors;

•    our ability to develop, introduce and market newand enhanced versions of our products on a timely basis;

•    changes in pricing policies by us and ourcompetitors;

•    the timing of significant orders and shipments;

•    regulatory approvals or other regulatory actionaffecting new or existing products;

•    litigation with respect to product liability claimsor product recalls and any insurance covering such claims or recalls; and

•    general economic factors.

 

As a result, we believe that period-to-period comparisons of ourresults of operations are not necessarily meaningful and investors should notrely upon these comparisons as indications of future performance.  These factors may cause our operating resultsto be below market analysts’ expectations in some future quarters, which couldcause the market price of our stock to decline.

 

***Ifwe are unable to avoid significant product liability claims or product recalls,we may be forced to pay substantial damage awards and other expenses that couldexceed our reserves and any applicable insurance coverage.***

 

In the past, the breast implant manufacturing industry has been subjectto significant litigation alleging product liability.  We also have in the past been, currently are,and may in the future be subject to product liability claims alleging that theuse of our technology or products has resulted in adverse health effects. Theseclaims may be brought even with respect to products that have received, or inthe future may receive, regulatory approval for commercial sale.  In particular, the manufacture and sale ofbreast implant products entails significant risk of product liability claimsdue to potential allegations of possible disease transmission and other healthfactors, rupture or other product failure. Some breast implant manufacturers that suffered these types of claims inthe past have been forced to cease operations or even to declarebankruptcy.  We may also face asubstantial risk of product liability claims from other products we may chooseto sell.  In addition to productliability claims, we may in the future need to recall or issue fieldcorrections related to our products due to manufacturing deficiencies, labelingerrors, or other safety or regulatory reasons. Product liability claims, relating to alleged product defects, aredistinguishable from product warranty claims, which relate to allegations thatproducts do not meet warranties of merchantability or fitness for a particularpurpose.  We address the substance ofpotential product warranty claims relating to products distributed by usthrough our product replacement programs discussed above in this Item 1, “Business.”

 

We do not presently have liability insurance to protect us from thecosts of claims for damages due to the use or recall of our products, exceptthat our Biodermis subsidiary carries a limited amount of product liabilityinsurance related to its products.  Wemay in the future seek additional insurance, which will be limited in bothcircumstance of coverage and amount. Recent premium increases and coverage limitations, includingspecifically limitations or prohibitions by insurers on insurance coveringbreast implant manufacturers, may make this insurance uneconomic or evenunavailable.  However, even if we obtainor increase insurance, one or more product liability claims or recall orders couldexceed any coverage we may

 

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hold.  If wecontinue to have limited or no coverage or our insurance does not providesufficient coverage, product liability claims or recalls could result in lossesin excess of our allowances.

 

***Lawsuits,including those seeking class action status, may, if successful, cause us toincur substantial liability, including damage awards and significant legal feesthat may exceed our reserves.***

 

Lawsuits have been filed naming us or one of our subsidiaries, theFrench manufacturer from which we have purchased breast implant products, andthe U.S. distributor of those same products who preceded our subsidiary in theU.S. market.  In these suits theplaintiffs have sought or currently seek, among other things, class actionstatus for claims, including claims for breach of warranty.  The claims arise from products distributedboth before and after our subsidiary that distributed the products came intoexistence.  Although certain of theclaims arise from products distributed by the other distributor prior to oursubsidiary coming into existence, we have still been named as a defendant.  While we have provided an amount equal to theoutstanding product replacement claims for claims arising from products oursubsidiary did distribute, the plaintiffs are seeking to hold our subsidiaryresponsible for more damages.  There canbe no assurance we can terminate the litigation as to our subsidiary for theprovided amounts.  Although oursubsidiary is indemnified by three separate entities, including Poly ImplantsProtheses, S.A., the French manufacturer, PIP/USA, Inc. the previousdistributor, and Mr. Jean Claude Mas, personally, there can be no assurancethis indemnity will protect us, as there is no guarantee that the Frenchmanufacturer, the previous distributor, or Mr. Mas will, or is able to, honorthe indemnification they have provided. If our subsidiary is unsuccessful in defending against the claimsinvolved in these suits, or if class action status is achieved, and theindemnification were to prove non-reliable, our subsidiary could be responsiblefor significant damages above the allowances and available assets needed tosatisfy such a judgment.

 

***OurEurosilicone operation does not carry product liability or similar insuranceand may expose us to additional risk.***

 

Our French Eurosilicone subsidiary has not in the past had a formal orinformal product replacement or any similar program.  However, it also does not have a history ofproduct-related litigation.  We believethis is in part due to not selling products in the United States, whichhistorically has been much more litigious than the rest of the world.  Eurosilicone also has in the past relied onthird-party distributors in countries where sales occur to support thoseproducts.  Eurosilicone recently beganintroducing a product replacement program on a country-by-country basis.  The institution of this product replacementprogram outside the United States or significant changes in litigationexperience outside the United States may expose our Eurosilicone subsidiary toadditional potential liability.  Althoughwe have policies of carefully observing corporate formalities and otherwiseseeking to preserve the protection of the corporate form, there can be noassurance that some or all of these potential liabilities will not expose us orour other subsidiaries to potential liabilities as well.

 

***Ifthird parties claim we are infringing their intellectual property rights, wecould suffer significant litigation or licensing expenses or be prevented frommarketing our products.***

 

Our commercial success depends significantly on our ability to operatewithout infringing the patents and other proprietary rights of others.  However, regardless of our intent, ourtechnologies may infringe the patents or violate other proprietary rights ofthird parties.  In the event of suchinfringement or violation, we may face litigation and may be prevented frompursuing product development or commercialization.

 

***Weare subject to substantial government regulation, which could adversely affectour business.***

 

The production and marketing of our products and intended products andour research and development, pre-clinical testing and clinical trialactivities are subject to extensive regulation and review by numerousgovernmental authorities, both in the United States and abroad.  Most of the medical devices we sell or intendto sell or develop must undergo rigorous pre-clinical testing and clinicaltrials and an extensive regulatory approval process before they can bemarketed.  This process makes it longer,more uncertain and more costly to bring the products to market, and some ofthese products may not be approved, or, once approved, they may berecalled.  The pre-market approvalprocess can be particularly expensive, uncertain and lengthy.  Many devices for which FDA approval has beensought by other companies have never been approved for marketing.  In addition to testing and approvalprocedures, extensive regulations also govern marketing, manufacturing,distribution, labeling, and record-keeping procedures.  If we or our suppliers or collaborativepartners do not comply with applicable regulatory requirements, this couldresult in warning letters, non-approval, suspensions of regulatory approvals,civil penalties and criminal fines, product seizures and recalls, operatingrestrictions, injunctions, and criminal prosecution.

 

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***Delaysin or rejection of FDA or other government entity approval of new productswould adversely affect our business.***

 

Delays or rejection may be encountered due to, among other reasons,government or regulatory delays, lack of efficacy during clinical trials,unforeseen safety issues, slower than expected rate of patient recruitment forclinical trials, inability to follow patients after treatment in clinicaltrials, inconsistencies between early clinical trial results and resultsobtained in later clinical trials, varying interpretations or criticisms ofdata generated by clinical trials, questions about data integrity from clinicaltrials, ageing of data, or changes in regulatory policy during the period ofproduct development in the United States and abroad.  We currently face these regulatory risks withrespect to our submitted and pending PMA applications.  In the United States, there has been acontinuing trend of more stringent FDA oversight in product clearance andenforcement activities, causing medical device manufacturers to experiencelonger approval cycles, more uncertainty, greater risk, and higherexpenses.  Internationally, there is arisk that we or our suppliers or collaborative partners may not be successfulin meeting the quality standards or other certification requirements. Even ifregulatory approval of a product is granted, this approval may entaillimitations on uses for which the product may be labeled and promoted.  It is possible, for example, that we or oursuppliers or collaborative partners may not receive FDA approval to market ourcurrent or future products for broader or different applications or to marketupdated products that represent extensions of our, our suppliers’, or ourcollaborative partners’ basic technology. In addition, we or our suppliers, or our collaborative partners may notreceive export or import approval for products in the future, and countries towhich products are to be exported may not approve them for import.

 

***Governmentregulation of manufacturing of medical devices is expensive and time consumingfor manufacturers and may result in product unavailability or recalls.***

 

Medical device manufacturing facilities also are subject to continualgovernmental review and inspection.  TheFDA has stated publicly that compliance with manufacturing regulations will bescrutinized more strictly.  Agovernmental authority may challenge our or our suppliers’ or collaborativepartners’ compliance with applicable federal, state and foreignregulations.  In addition, any discoveryof previously unknown problems with products or facilities may result inrestrictions on the product or the facility, including withdrawal of the productfrom the market or other enforcement actions.

 

***Ifour use of hazardous materials results in contamination or injury, we couldsuffer significant financial loss.***

 

Our manufacturing and research activities involve the controlled use ofhazardous materials.  We cannot eliminatethe risk of accidental contamination or injury from these materials.  In the event of an accident or environmentaldischarge, we may be held liable for any resulting damages, which may exceedour financial resources.

 

***Itis unlikely that we will issue dividends on our common stock in the foreseeablefuture.***

 

We have never declared or paid dividends on our common stock and do notintend to pay dividends in the foreseeable future.  The payment of dividends in the future willbe at the discretion of our board of directors. Therefore, an investor who purchases our common stock, in alllikelihood, will only realize a profit on its investment if the market price ofour common stock increases in value.

 

***Wewill sell additional equity securities in the future which will be at undeterminedprices and will reduce the percentage of our equity owned by our existingstockholders.***

 

In the future we will sell additional shares of our common stock, orother securities convertible into or otherwise entitling the holder to purchaseour common stock.  In the future we willalso issue additional options to purchase our common stock to our employees,possibly including our executive officers, and our directors, and possibly toconsultants and vendors.  We also intendto issue shares of our common stock in connection with acquisitions or othercommercial transactions and to holders of outstanding debt, including holdersthat are affiliates.  All such sales andissuances of our common stock, other equity securities, and warrants andoptions to purchase our common stock will be at presently undetermined prices,which may be lower than prices at which other holders of common stock purchasedsuch shares and dilutive to those holders and which will reduce the percentageof our equity owned by our existing stockholders.  These issuances may also adversely affectprevailing market prices for our common stock.

 

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***Theexercise of outstanding options and conversion rights will dilute thepercentage ownership of our stockholders, and any sales in the public market ofshares of our common stock underlying these options and conversion rights mayadversely affect prevailing market prices for our common stock.***

 

As of the date of this filing, there are outstanding options topurchase an aggregate of 5,681,757 shares of our common stock at per shareexercise prices ranging from $0.08 to $4.30. Furthermore, outstanding shares of our series A preferred stock may beconverted into 1,676,897 shares of our common stock at any time, andoutstanding convertible debentures may be converted into an aggregate of 50,000shares of our common stock at any time. In addition, we may issue additional shares of our common stock inrespect of dividends paid on outstanding shares of our series A preferredstock.  The exercise of such outstandingoptions and conversion rights will dilute the percentage ownership of ourstockholders, and any sales in the public market of shares of our common stockunderlying such options and conversion rights may adversely affect prevailingmarket prices for our common stock.

 

***Theprice of our common stock has historically been volatile.***

 

The market price of our common stock has in the past been, and may inthe future continue to be, volatile.  Avariety of events, including quarter-to-quarter variations in operating resultsor news announcements by us or our competitors as well as market conditions inthe medical device industry generally or the breast implant segment of thatmarket specifically or changes in earnings estimates by securities analysts,may cause the market price of our common stock to fluctuate significantly.  In addition, the stock market has experiencedsignificant price and volume fluctuations which have particularly affected themarket prices of equity securities of many companies and which often have beenunrelated to the operating performance of such companies.  These market fluctuations may adverselyaffect the price of our common stock.

 

***Ourcommon stock is thinly traded on the Over-the-Counter Bulletin Board, which maynot provide liquidity for our investors.***

 

Our common stock is quoted on the OTC Bulletin Board.  The OTC Bulletin Board is an inter-dealer,over-the-counter market that provides significantly less liquidity than the NasdaqStock Market or national or regional exchanges, such as the New York StockExchange and the American Stock Exchange. Securities traded on the OTC Bulletin Board are usually thinly traded,highly volatile, have fewer market makers and are not followed byanalysts.  Although we have commenced theapplication process to have our common stock listed on the American StockExchange, we were required to delay this application process due to thependency of an acquisition.  There can beno assurance that our common stock will be approved for listing in the futureonce we reinitiate the application process, and our stated intention to seek tolist our common stock on the Exchange may itself adversely affect investors’willingness to trade our stock unless and until such listing.  The SEC’s order handling rules, which applyto Nasdaq-listed securities, do not apply to securities quoted on the OTCBulletin Board.  Quotes for stocksincluded on the OTC Bulletin Board are not listed in newspapers.  Therefore, prices for securities tradedsolely on the OTC Bulletin Board may be difficult to obtain and holders ofshares of our common stock may have been unable to resell their shares at ornear their original acquisition price, or at any price.  If our common stock is approved for listingon the American Stock Exchange, because we will have no prior trading historyon the Exchange, there also can be no way to determine the prices or volumes atwhich our common stock would trade on the Exchange if it were so listed.  Holders of shares of our common stock may notbe able to resell their shares at or near their original acquisition price, orat any price.

 

***Wehave been subject to the penny stock regulations and will continue to be unlessand until our common stock is listed on a national securities exchange orquoted on the Nasdaq Stock Market.***

 

SEC regulations require additional disclosure relating to the marketfor penny stocks in connection with trades in any stock defined as a pennystock.  These regulations generally definea penny stock to be an equity security not listed on a national securitiesexchange or quoted on the Nasdaq Stock Market that has a market price of lessthan $5.00 per share, subject to certain exceptions.  Accordingly, we have been subject to the pennystock regulations, including those regulations that require the delivery, priorto any transaction involving a penny stock, of a disclosure schedule explainingthe penny stock market and the risks associated therewith and that imposevarious sales practice requirements on broker-dealers who sell penny stocks topersons other than established customers and accredited investors (generally,institutional investors).  In addition,under penny stock regulations, the broker-dealer must provide the customer withcurrent bid and offer quotations for the penny stock, the compensation of thebroker-dealer and its salesperson in the transaction and monthly accountstatements showing the market value of each penny stock held in the customer’saccount.  Moreover, broker-dealers who

 

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recommend “penny stocks” to persons other thanestablished customers and accredited investors must make a special writtensuitability determination for the purchaser and receive the purchaser’s writtenagreement to a transaction prior to sale. These regulations tend to limit the ability of broker-dealers to sellour securities and thus the ability of purchasers of our securities to selltheir securities in the secondary market. Unless and until our common stock is listed on a national securitiesexchange or quoted on the Nasdaq Stock Market or trades consistently above$5.00 per share, our common stock will be defined as a penny stock and besubject to these disclosure and trading restrictions.

 

***Theterms of our outstanding preferred stock or future preferred stock maynegatively affect the value of our common stock.***

 

We have the authority to issue an aggregate of 20,000,000 shares ofpreferred stock which may be issued by our board of directors with suchpreferences, limitations and relative rights as our board may determine withouta vote of our stockholders.  Presently,we have authorized 45,000 shares of preferred stock in one series, Series A8.0% Convertible Preferred Stock, 6,456 shares of which were outstanding on thedate of this filing.  Our series Apreferred stock has, and other classes of our preferred stock we may issue inthe future will have, priority over our common stock in the event ofliquidation or dissolution.  In the eventof our liquidation or dissolution, our then-outstanding preferred stock(including series A preferred stock) will have priority of payment over allshares of our common stock.  Preferredstock also generally has priority on payment of dividends over commonstock.  Our series A preferred stock hasthis priority, meaning that no dividends may be paid on our common stock unlessall accrued dividends on our series A preferred stock have been paid.  Each holder of convertible preferred stock(such as our series A preferred stock) may also generally, at the holder’soption, convert the preferred stock into common stock at any time.  We cannot predict whether, or to what extent,holders of convertible preferred stock will convert to common stock.  Preferred stock may also provide that theholders thereof may participate with the holders of common stock on dividendsor liquidation.  This may have the effectof substantially diluting the interest of the common stock holders.  Our series A preferred stock is not a participatingpreferred stock, though it is convertible into our common stock.

 

Our series A preferred stock is presently convertible into shares ofour common stock at a price of $3.85 per share of common stock based on theinitial $1,000 liquidation preference per share of series A preferredstock.  Our series A preferred stock alsovotes on an as-converted basis has the right to elect two of our sevenauthorized directors and has special voting rights on specified significanttransactions or events.  The certificateof designation for the series A preferred stock includes a provision that ifcertain EBITDA or common stock value targets are not met by June 30, 2008, thenthe liquidation preference of our series A preferred stock will be increasedpursuant to a formula, capped at an additional 83% of the original liquidationpreference of the originally issued series A preferred stock.

 

The perceived risk of dilution or any actual dilution occasioned by theconversion of our series A preferred stock, any other future series ofpreferred stock and/or issuance of awards under our 1999 stock compensationprogram may discourage persons from investing in our common stock or cause ourstockholders to sell their shares, which would contribute to the downward movementin stock price of our common stock.  Newinvestors could also require that their investment be on terms at least asfavorable as the terms of our series A preferred stock (or another series ofpreferred stock) due to the potential negative effect of the dilution on apotential investment.  In addition,downward pressure on the trading price of our common stock could encourageinvestors to engage in short sales, which would further contribute to downwardpressure on the price of our common stock.

 

The rights, preferences, powers and limitations of our series Apreferred stock, as well as those of any future series of preferred stock asmay be established, may have the effect of delaying, deterring, or preventing achange of control of our company.

 

***Ourrights and the rights of our stockholders to take action against our directorsand officers are limited, which could limit stockholders’ recourse in the eventof action not in stockholders’ best interests.***

 

Our certificate of incorporation limits the liability of directors andofficers to the maximum extent permitted by Delaware law.  In addition, our certificate of incorporationauthorizes us to obligate our company to indemnify our present and formerdirectors and officers for actions taken by them in those capacities to themaximum extent permitted by Delaware law. Our bylaws require us to indemnify each present or former director orofficer, to the maximum extent permitted by Delaware law, in the defense of anyproceeding to which he or she is made, or threatened to be made, a party byreason of his or her service to us.  Inaddition, we may be obligated to fund the defense costs incurred by ourdirectors and officers.  These

 

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limitations on recourse against officers and directorsand the affirmative protections of officers and directors may limit or restrictactions by or on behalf of the company or stockholders, which could adverselyaffect the company our stockholders.

 

***Concentrationof ownership of our common stock by our management and others and terminationof employment agreements we have entered into with our executive and otherofficers could negatively affect the market price of our common stock becausethey discourage open market purchases of our common stock by purchasers whomight seek to secure control of MediCor.***

 

Our officers and directors as a group currently own an aggregate of12,529,782 shares of common stock, hold securities convertible into 1,031,948shares of common stock, and have been granted options to purchase an additional1,492,322 shares of common stock.  Notall of these options can be exercised immediately and the options areexercisable at prices ranging from $1.50 to $4.30 per share.  We may in the future issue additional sharesof common stock, or securities exercisable for or convertible into commonstock, to our officers or directors.

 

If our executive officers and directors exercised all their options andconverted all of the securities beneficially owned by them into an aggregate of16,635,813 shares of our common stock, our officers and directors would ownapproximately 72% of our then-outstanding common stock.  This concentration of ownership wouldprobably insure our management’s continued control of MediCor.

 

In addition, International Integrated Industries, LLC, an affiliate ofour chairman, currently holds approximately $60,686,257 of our debt.  If some or all of that debt were convertedinto our common stock, International Integrated could own a substantialpercentage of our outstanding common stock. This additional concentration of ownership of our common stock couldfurther discourage persons from making open market purchases of our commonstock for the purpose of securing a controlling interest in MediCor and therebyprevent increases in the market price of our common stock.

 

Of the four members of MediCor’s Executive Committee, we have enteredinto employment agreements with Messrs. Theodore Maloney, Jim McGhan and PaulKimmel.  These agreements provide forpayments to them in the event that their employment is terminated by us,including without “good reason” as defined in the agreements.  We will pay an amount equal to two times theannual base compensation paid by us to such person plus applicable pro ratabonus amounts in the event of a termination by us without cause, as defined inthe agreements, or a termination by the executive for good reason, whichincludes the occurrence of a change in control, as defined in theagreements.  The employment agreementsfurther provide that in the event of the death or disability of any of Messrs.Maloney, McGhan or Kimmel, we will pay to such person an amount equal to threemonths’ compensation or compensation through the date our long-term disabilitypolicy begins paying benefits, as applicable. These termination-of-employment agreements may discourage persons frommaking open market purchases of our common stock for the purpose of securing acontrolling interest in MediCor.

 

***ITEM 3.  CONTROLS AND PROCEDURES***

 

As of the quarter ended March 31, 2006, management, with theparticipation of the chief executive and financial officers, carried out anevaluation of the effectiveness of our disclosure controls and procedurespursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the chief executive officer and the chieffinancial officer believe that, as of end of the fiscal quarter covered by thisreport, our disclosure controls and procedures were effective in making knownto them material information relating to MediCor (including its consolidatedsubsidiaries) required to be included in this report.  There were no significant changes in ourinternal control over financial reporting during the three months ended March31, 2006 that have materially affected or are likely to materially affect ourinternal control over financial reporting.

 

Managementof MediCor is responsible for establishing and maintaining effective internalcontrol over financial reporting as is defined in Exchange Act Rule13a-15(f).  The consolidated financialstatements and other information presented in this annual report have beenprepared in accordance with accounting principles generally accepted in theUnited States.  MediCor’s internalcontrol system was designed to provide reasonable assurance to our managementand board of directors regarding the preparation and fair presentation ofpublished financial statements. Disclosure controls and procedures, no matter how well designed andimplemented, can provide only reasonable assurance of achieving an entity’sdisclosure objectives.  The likelihood ofachieving such objectives is affected by limitations inherent in disclosurecontrols and procedures.  These includethe fact that human judgment in decision-making can be faulty and thatbreakdowns in internal control can occur because of human failures such assimple errors or mistakes or intentional circumvention of the

 

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established process.  Management will continue to review ourdisclosure controls and procedures periodically to determine theireffectiveness and to consider modifications or additions to them.

 

***PART II – OTHER INFORMATION***

 

***ITEM 1.  LEGAL PROCEEDINGS***

 

In October 1999, Case No. 99-25227-CA-01 June 2000 Case No.00-14665-CA-01, and July 2003, Case No. 0322537-CA-27, separate but relatedcomplaints were filed by Saul and Ruth Kwartin, Steven M. Kwartin, and Robertand Nina Kwartin respectively, against our PIP.America subsidiary asco-defendant with PIP/USA, Inc. and Poly Implants Protheses, S.A., eachunaffiliated with MediCor, and Jean Claude Mas, Jyll Farren-Martin and ourchairman, personally, in the Circuit Court of Miami-Dade County, Florida.  Also in September 2003, another member of thesame family filed Case No. 03-15006-CA-09, again alleging similar claims on hisown behalf.  All of the cases above havebeen consolidated for all pre-trial purposes, but not for trial.  The Kwartin family members’ claims areprimarily premised on allegations that plaintiffs are shareholders of PIP/USA,Inc. (“PIP/USA”) or have statutory and common law rights of shareholders ofPIP/USA as a result of loans or investments allegedly made to or into PIP/USAor a third party or under an alleged employment agreement.  Plaintiffs allege that, as a result, theyhave certain derivative or other rights to an alleged distribution agreementbetween Poly Implants Prostheses, S.A. (“PIP-France”) and PIP/USA.  Plaintiffs claim, among other things, thatIII Acquisition Corporation dba PIP.America (“PIP.America”) and its chairmantortiously interfered with that agreement and with plaintiffs’ other allegedrights as lenders, investors, shareholders, quasi-shareholders or employees ofPIP/USA or other entities. In addition to monetary damages and injunctiverelief, plaintiffs seek to reinstate the alleged distribution agreement betweenPIP/USA and PIP-France and invalidate PIP.America’s distributor relationshipwith PIP-France.

 

Peggy Williams v. PIP/USA, Inc., Case No. 03 CH 9654, Jessica FischerSchnebel, et al. v. PIP/USA, Inc., Case No. 03CH07239, Dawn Marie Cooper, etal. v. PIP/USA, Inc., Case No. 03CH11316, Miriam Furman, et al. v. PIP/USA,Inc., Case No. 03CH10832 and Karen S. Witt, et al. v. PIP/USA, Inc., Case No.03CH12928 were filed in the Circuit Court of Cook County, Chancery Division, inor around July 2003.  Counsel for JessicaFischer Schnebel, et al. v. PIP/USA, Inc., Case No. 03CH07239 amended her classaction complaint to include plaintiffs from the other four cases, and each ofthe others was voluntarily dismissed. The consolidated second amended complaint contained counts allegingproduct liability, breach of the implied warranties of merchantability andfitness for a particular purpose, violation of the Illinois Consumer Fraud Actand third-party beneficiary status. Unspecified monetary damages, exemplary damages and attorneys fees andcosts had been sought.  On January 26,2006, PIP.America won dismissal of all counts in these cases but thethird-party beneficiary claims. Plaintiffs have amended and refilled their complaint againstPIP.America.  Poly Implants Protheses,S.A., a defendant in the Schnebel litigation, has agreed that it will indemnifyPIP.America for any losses it may suffer as a result of the Illinoislitigation.

 

As it relates to cases involving Poly Implants Protheses, S.A.,PIP.America is indemnified by PIP/USA, Inc., Poly Implants Protheses, S.A., andPoly Implants Protheses, S.A.’s President, Jean Claude Mas, personally, from,among other things, claims arising from products manufactured byPIP-France.  PIP.America either alreadyhas, or is in the process of, asserting its indemnification claims and, in theevent of an adverse judgment in any case, PIP.America intends to seek thebenefits of this indemnity.  As a result,we believe the costs associated with these matters will not have a materialadverse impact on our business, results of operations or financial position.

 

In July, 2005, IP Resources Limited, a UK-based company filed an actionagainst our subsidiary, Eurosilicone, SAS in the Marseille Civil Court(Tribunal de Grande Instance), Marseille, France. The complaint allegesEurosilicone infringed upon a certain European Patent licensed by IP Resources,Inc. known as “Implantable prosthesis device”, Patent #0 174 141 B1, and seeksdamages of $3 million Euros. The case is in the preliminary stages and thecompany believes it does not infringe on the 0 174 141 B1 patent and isprepared to wage a vigorous defense based on both the validity of the patentand upon the merits of the claims.

 

Though it is not yet possible to predict the outcome of the casesdescribed above, MediCor and its subsidiaries, as applicable, have deniedplaintiffs’ allegations and are vigorously defending themselves in eachlawsuit.  MediCor and its subsidiarieshave been and will continue to be periodically named as a defendant in otherlawsuits in the normal course of business, including product liability andproduct warranty claims.  In the majorityof such cases, the claims are dismissed, or settled for de minimisamounts.  Litigation, particularlyproduct liability litigation, can be expensive and disruptive to normalbusiness operations and the results of complex proceedings can be verydifficult to predict.  Claims againstMediCor or its subsidiaries have been and are periodically reviewed withcounsel in the ordinary course of business. We presently believe

 

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we or our subsidiaries have meritorious defenses inall lawsuits in which we or our subsidiaries are defendants, subject to thesubsidiaries’ continuing product replacement obligations, which thesubsidiaries intend to continue to satisfy. While it is not possible to predict the outcome of these matters, webelieve that the costs associated with them will not have a material adverseimpact on our business, results of operations or financial position.

 

***ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES ANDUSE OF PROCEEDS***

 

None

 

***ITEM 3.  DEFAULTS UPON SENIOR SECURITIES***

 

None

 

***ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITYHOLDERS***

 

During the quarter covered by this report, no matter was submitted to avote of security holders through the solicitation of proxies or otherwise.

 

***ITEM 5. OTHER INFORMATION***

 

None

 

***ITEM 6. EXHIBITS***

 

See Exhibit Index at Page 43.

 

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SIGNATURES

 

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

 

 
|   |         | ***MEDICOR LTD.*** |                    |
|--------|--------------|-------------------------|-------------------------|
|   |         | (Registrant)            |                    |
|   |         |                    |                    |
|   |         |                    |                    |
| Date:  | May 15, 2006 | By:                     |                    |
|   |         |                    | /s/ Theodore R. Maloney |
|   |         |                    | Theodore R. Maloney     |
|   |         |                    | Chief Executive Officer |
|   |         |                    |                    |
| Date:  | May 15, 2006 | By:                     | /s/ Paul R. Kimmel      |
|   |         |                    | Paul R. Kimmel          |
|   |         |                    | Chief Financial Officer |
|        |              |                         |                         |  |

 

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EXHIBIT INDEX

 
| **Exhibit  No.** | ** ** | **Description**                                                                        |
|------------------|------------|----------------------------------------------------------------------------------------|
| 10.1             |       | Non-Employee Directors’ Deferral Plan                                             |
| 31.1             |       | Principal Executive Officer Certification Pursuant  To 17 C.F.R. Section 240.13a-14(a) |
| 31.2             |       | Principal Financial Officer Certification Pursuant  To 17 C.F.R. Section 240.13a-14(a) |
| 32.1             |       | Principal Executive Officer Certification Pursuant  To 18 U.S.C. Section 1350          |
| 32.2             |       | Principal Financial Officer Certification Pursuant  To 18 U.S.C. Section 1350          |

 

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