** **

**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

**FORM 10-Q**

**(Mark One)**

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

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

**OR**

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

**Forthe transition period from                       to                      **

**CommissionFile Number: 000-50786**

**STRATAGENE CORPORATION**

(Exact name of registrantas specified in its charter)

| **Delaware**                     | ** ** | **33-0683641**       |
|----------------------------------|------------|----------------------|
| (State or other  jurisdiction of |       | (I.R.S. Employer     |
| incorporation or  organization)  |       | Identification  No.) |

 

| **11011 North Torrey Pines Road, La Jolla, CA** | ** ** | **92037**  |
|-------------------------------------------------|------------|------------|
| (Address of  principal executive offices)       |       | (Zip Code) |

 

**(858) 373-6300**

(Registrant’stelephone number, including area code)

**No Change**

(Former name,former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant: (1) hasfiled all reports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months (or for such shorter periodthat the registrant was required to file such reports), and (2) has beensubject to such filing requirements for the past 90 days. Yes xNo o

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

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

 

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

Indicate thenumber of shares outstanding of each of the issuer’s classes of common stock,as of the latest practicable date.

| Class                                |       | Outstanding at  May 11, 2007 |
|--------------------------------------|------------|------------------------------|
| **Common  Stock, $0.0001 Par Value** | ** ** | **22,491,617**               |

 

 

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STRATAGENECORPORATION

Quarterly Report on Form10-Q

Table of Contents
| Part I. Financial  Information                                                                      |                                                                                                              |
|-----------------------------------------------------------------------------------------------------|-------------------------------------------------------------------------------------------------------------------|
|                                                                                                |                                                                                                              |   |
| Item  1. Financial Statements                                                                       |                                                                                                              |
|                                                                                                | Consolidated  Balance Sheets as of March 31, 2007 (unaudited) and December 31, 2006                               |   |
|                                                                                                | Consolidated Statements of Income for the Three Months  Ended March 31, 2007 (unaudited) and 2006 (unaudited)     |   |
|                                                                                                | Consolidated Statements of Cash Flows for the Three  Months Ended March 31, 2007 (unaudited) and 2006 (unaudited) |   |
|                                                                                                | Notes to Unaudited Consolidated Financial Statements                                                              |   |
|                                                                                                |                                                                                                              |   |
| Item 2. Management’s Discussion and Analysis of  Financial Condition and Results of Operations |                                                                                                              |
|                                                                                                |                                                                                                              |
| Item 3. Quantitative and Qualitative Disclosures about  Market Risk                                 |                                                                                                              |
|                                                                                                |                                                                                                              |
| Item 4. Controls and Procedures                                                                     |                                                                                                              |
|                                                                                                |                                                                                                              |
| Part  II. Other Information                                                                         |                                                                                                              |
|                                                                                                |                                                                                                              |
| Item  1. Legal Proceedings                                                                          |                                                                                                              |
|                                                                                                |                                                                                                              |
| Item  1A. Risk Factors                                                                              |                                                                                                              |
|                                                                                                |                                                                                                              |
| Item 6.  Exhibits                                                                                   |                                                                                                              |
|                                                                                                |                                                                                                              |
| Signatures                                                                                          |                                                                                                              |
|                                                                                                     |                                                                                                                   |  |  |

 

Note: Items 2, 3,4 and 5 of Part II are omitted because they are not applicable.

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**PART I.FINANCIAL INFORMATION**

**ITEMI. FINANCIAL STATEMENTS**

**STRATAGENECORPORATION AND SUBSIDIARIES**

**CONSOLIDATED BALANCE SHEETS**
| ** **                                                                                                                                                                     | ** ** | **March 31,** | ** **  | **December 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------|-------------|-----------------------|------------|
| ** **                                                                                                                                                                     | ** ** | **2007**           | ** **  | **2006**              | ** ** |
| ** **                                                                                                                                                                     | ** ** | **(unaudited)**    | ** **  | ** **            | ** ** |
| **ASSETS**                                                                                                                                                                     | ** ** | ** **         | ** **  | ** **            | ** ** |
| Current assets:                                                                                                                                                                |       |               |        |                  |       |
| Cash and cash  equivalents                                                                                                                                                     |       | $                  | 20,254,210  |                  | $          | 9,735,360 |   |
| Cash —  restricted                                                                                                                                                        |       | 12,625,758         |        | 33,129,967            |       |
| Accounts  receivable, less allowance for doubtful accounts and sales returns of  $580,753 and $474,644 at March 31, 2007 and December 31, 2006, respectively                   |       | 14,239,371         |        | 12,447,542            |       |
| Income taxes  receivable                                                                                                                                                       |       | 2,485,185          |        | —                |       |
| Inventories                                                                                                                                                                    |       | 12,259,251         |        | 12,262,819            |       |
| Deferred income  tax assets                                                                                                                                                    |       | 9,940,656          |        | 13,446,005            |       |
| Prepaid expenses  and other current assets                                                                                                                                     |       | 3,766,374          |        | 3,368,078             |       |
| Total current  assets                                                                                                                                                          |       | 75,570,805         |        | 84,389,771            |       |
| Property and equipment,  net                                                                                                                                                   |       | 10,655,067         |        | 10,927,339            |       |
| Other assets                                                                                                                                                                   |       | 516,368            |        | 406,859               |       |
| Goodwill                                                                                                                                                                       |       | 27,234,214         |        | 27,234,214            |       |
| Intangible assets                                                                                                                                                              |       | 6,821,513          |        | 6,618,018             |       |
| Total assets                                                                                                                                                                   |       | $                  | 120,797,967 |                  | $          | 129,576,201 |   |
|                                                                                                                                                                           |       |               |        |                  |       |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                                                                                 |       |               |        |                  |       |
| Current liabilities:                                                                                                                                                           |       |               |        |                  |       |
| Accounts payable                                                                                                                                                               |       | $                  | 5,571,610   |                  | $          | 7,418,908 |   |
| Accrued expenses  and other liabilities                                                                                                                                        |       | 43,357,893         |        | 52,642,853            |       |
| Current portion  of long-term debt                                                                                                                                             |       | 240,000            |        | 240,000               |       |
| Income taxes  payable                                                                                                                                                          |       | —             |        | 317,725               |       |
| Deferred  revenue, current                                                                                                                                                     |       | 3,011,012          |        | 2,138,232             |       |
| Total current  liabilities                                                                                                                                                     |       | 52,180,515         |        | 62,757,718            |       |
| Deferred revenue                                                                                                                                                               |       | 576,449            |        | 540,994               |       |
| Long-term debt, less  current portion                                                                                                                                          |       | 3,535,000          |        | 3,535,000             |       |
| Deferred income tax  liabilities                                                                                                                                               |       | 1,283,774          |        | 1,383,327             |       |
| Other liabilities                                                                                                                                                              |       | 206,123            |        | 242,151               |       |
| Total liabilities                                                                                                                                                              |       | 57,781,861         |        | 68,459,190            |       |
| Commitments and  contingencies (Note 9)                                                                                                                                        |       |               |        |                  |       |
| Stockholders’ equity:                                                                                                                                                     |       |               |        |                  |       |
| Preferred stock,  $.0001 par value; 4,000,000 shares authorized; no shares issued and  outstanding at March 31, 2007 and December 31, 2006                                     |       | —             |        | —                |       |
| Common stock,  $.0001 par value; 50,000,000 shares authorized; 22,471,395 and 22,452,952  shares issued and outstanding at March 31, 2007 and December 31, 2006,  respectively |       | 2,247              |        | 2,245                 |       |
| Additional  paid-in capital                                                                                                                                                    |       | 56,714,115         |        | 56,278,961            |       |
| Unearned  stock-based compensation                                                                                                                                             |       | (4,915             | )           | (7,969                | )          |
| Retained  earnings                                                                                                                                                             |       | 7,171,156          |        | 5,790,271             |       |
| Accumulated  other comprehensive loss                                                                                                                                          |       | (866,497           | )           | (946,497              | )          |
| Total  stockholders’ equity                                                                                                                                               |       | 63,016,106         |        | 61,117,011            |       |
| Total liabilities and  stockholders’ equity                                                                                                                               |       | $                  | 120,797,967 |                  | $          | 129,576,201 |   |

 

See accompanyingnotes to unaudited consolidated financial statements.

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**STRATAGENECORPORATION AND SUBSIDIARIES**

**CONSOLIDATED INCOME STATEMENTS**
| ** **                                 | ** ** | **Three Months Ended  March 31,** | ** ** |
|--------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                 | ** ** | **2007**                                         | ** ** | **2006** | ** ** |
| ** **                                 | ** ** | **(unaudited)**                                  | ** ** |
| Revenues                                   | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| Product sales                              |       | $                                                | 23,739,074 |   | $ | 23,320,153 |   |
| Royalty revenue                            |       | 483,616                                          |       | 497,841 |   |
| Contract revenue                           |       | 205,778                                          |       | 437,500 |   |
| Total revenue                              |       | 24,428,468                                       |       | 24,255,494 |   |
| Costs and  expenses:                       |       |                                             |       |   |   |
| Cost of product sales                      |       | 8,434,210                                        |       | 8,463,420 |   |
| Research and development                   |       | 3,062,453                                        |       | 3,388,812 |   |
| Selling and marketing                      |       | 4,480,865                                        |       | 5,569,594 |   |
| General and administrative                 |       | 5,310,935                                        |       | 5,004,253 |   |
| Litigation charge                          |       | 1,100,000                                        |       | 123,059 |   |
| Impairment charges                         |       | 26,047                                           |       | 47,599 |   |
| Total operating costs and expenses         |       | 22,414,510                                       |       | 22,596,737 |   |
| Income from operations                     |       | 2,013,958                                        |       | 1,658,757 |   |
| Other  non-operating income and expenses:  |       |                                             |       |   |   |
| Loss on foreign currency transactions      |       | (83,726                                          | )          | (23,478 | ) |
| Other income, net                          |       | 2,170                                            |       | 47,338 |   |
| Interest expense                           |       | (307,620                                         | )          | (313,177 | ) |
| Interest income                            |       | 423,468                                          |       | 288,005 |   |
| Total other non-operating income (expense) |       | 34,292                                           |       | (1,312 | ) |
| Income before  income taxes                |       | 2,048,250                                        |       | 1,657,445 |   |
| Income tax  expense                        |       | (667,365                                         | )          | (554,416 | ) |
| Net income                                 |       | $                                                | 1,380,885  |   | $ | 1,103,029 |   |
|                                       |       |                                             |       |   |   |
| Earnings per  share:                       |       |                                             |       |   |   |
| Basic                                      |       | $                                                | 0.06       |   | $ | 0.05 |   |
| Diluted                                    |       | $                                                | 0.06       |   | $ | 0.05 |   |
|                                       |       |                                             |       |   |   |
| Weighted average  shares:                  |       |                                             |       |   |   |
| Basic                                      |       | 22,454,142                                       |       | 22,324,580 |   |
| Diluted                                    |       | 22,505,560                                       |       | 22,715,131 |   |

 

See accompanyingnotes to unaudited consolidated financial statements.

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**STRATAGENECORPORATION AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**
| ** **                                                                                   | ** ** | **Three Months Ended  March 31,** | ** ** |
|----------------------------------------------------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                                                                   | ** ** | **2007**                                         | ** ** | **2006** | ** ** |
| ** **                                                                                   | ** ** | **(unaudited)**                                  | ** ** |
| **Cash  flows from operating activities:**                                                   |       |                                             |       |   |   |
| Net income                                                                                   |       | $                                                | 1,380,885  |   | $ | 1,103,029 |   |
| Adjustments to reconcile net income to net cash  provided by (used in) operating activities: |       |                                             |       |   |   |
| Depreciation and amortization                                                                |       | 940,638                                          |       | 889,776 |   |
| Stock-based compensation                                                                     |       | 285,659                                          |       | 252,183 |   |
| Impairment of long-lived assets                                                              |       | 26,047                                           |       | 47,599 |   |
| Bad debt expense                                                                             |       | 124,957                                          |       | 55,115 |   |
| Excess and obsolete inventory expense                                                        |       | (83,250                                          | )          | 30,619 |   |
| Loss on disposal of assets                                                                   |       | 703                                              |       | 31,924 |   |
| Deferred income taxes                                                                        |       | 3,405,794                                        |       | — |   |
| Changes in assets and liabilities:                                                           |       |                                             |       |   |   |
| Accounts receivable                                                                          |       | (1,872,888                                       | )          | (1,594,916 | ) |
| Inventories                                                                                  |       | 136,167                                          |       | 21,534 |   |
| Prepaid expenses and other current assets                                                    |       | (391,843                                         | )          | (222,980 | ) |
| Income taxes receivable                                                                      |       | (2,486,102                                       | )          | 566,918 |   |
| Other assets                                                                                 |       | (109,027                                         | )          | (67,089 | ) |
| Accounts payable                                                                             |       | (1,876,450                                       | )          | 1,448,838 |   |
| Accrued expenses and other liabilities                                                       |       | (9,262,628                                       | )          | (1,436,112 | ) |
| Deferred revenue                                                                             |       | 898,403                                          |       | 87,287 |   |
| Other liabilities                                                                            |       | (36,322                                          | )          | (25,661 | ) |
| Income taxes payable                                                                         |       | (313,021                                         | )          | (583 | ) |
| Net cash provided by (used in) operating activities                                          |       | (9,232,278                                       | )          | 1,187,481 |   |
| **Cash  flows from investing activities:**                                                   |       |                                             |       |   |   |
| Purchases of property and equipment                                                          |       | (328,053                                         | )          | (427,545 | ) |
| Additions to intangible assets                                                               |       | (586,636                                         | )          | (141,460 | ) |
| Proceeds from maturities of marketable debt  securities                                      |       | —                                           |       | — |   |
| Changes in restricted cash                                                                   |       | 20,505,200                                       |       | (21,235,689 | ) |
| Net cash provided by (used in) investing activities                                          |       | 19,590,511                                       |       | (21,804,694 | ) |
| **Cash  flows from financing activities:**                                                   |       |                                             |       |   |   |
| Payments under line of credit                                                                |       | —                                           |       | (5,500,000 | ) |
| Distributions to stockholders                                                                |       | —                                           |       | (5,571,321 | ) |
| Tax benefit from stock option exercise                                                       |       | 7,649                                            |       | 28,574 |   |
| Proceeds from issuance of common stock                                                       |       | 116,240                                          |       | 266,492 |   |
| Net cash provided by (used in) financing activities                                          |       | 123,889                                          |       | (10,776,255 | ) |
| Effects of foreign currency exchange rates on cash                                           |       | 36,728                                           |       | 89,839 |   |
| Net increase (decrease) in cash                                                              |       | 10,518,850                                       |       | (31,303,629 | ) |
| Cash and cash equivalents at beginning of period                                             |       | 9,735,360                                        |       | 40,508,365 |   |
| Cash and cash equivalents at end of period                                                   |       | $                                                | 20,254,210 |   | $ | 9,204,736 |   |
| **Supplemental  disclosure of cash flow information:**                                       |       |                                             |       |   |   |
| Cash paid during the period for:                                                             |       |                                             |       |   |   |
| Interest                                                                                     |       | $                                                | 42,758     |   | $ | 35,773 |   |
| Income taxes                                                                                 |       | $                                                | 49,932     |   | $ | 2,974 |   |

 

See accompanyingnotes to unaudited consolidated financial statements.

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**STRATAGENECORPORATION AND SUBSIDIARIES**

**NOTESTO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS**

**March31, 2007**

**1. Basis of Presentation**

The consolidatedfinancial statements of Stratagene Corporation and its subsidiaries(collectively, “Stratagene” or the “Company”) for the three months ended March31, 2007 and 2006 are unaudited.  In theopinion of management, these financial statements include all normal, recurringadjustments that are necessary to present fairly the consolidated financialposition of the Company as of March 31, 2007 and the consolidated results ofoperations and cash flows of the Company for the three months ended March 31,2007 and 2006.

The financial informationof the Company has been presented on a consolidated basis.  Intercompany balances and transactions havebeen eliminated as appropriate in the consolidation of Stratagene for financialreporting purposes.

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States requires management to make estimates andassumptions that affect the amounts reported in the consolidated financialstatements and disclosures made in the accompanying notes. Actual results maydiffer from those estimates.

These statements havebeen prepared pursuant to the rules and regulations of the Securities andExchange Commission (“SEC”) and do not include all the information and notedisclosures required by accounting principles generally accepted in the UnitedStates of America for complete financial statements but reflect all adjustments(consisting only of normal recurring accruals) necessary for the fairpresentation of the financial position, results of operations and cash flowsfor the periods and dates presented. These unaudited consolidated financialstatements should be read in conjunction with the consolidated financialstatements and related notes included in the Company’s Annual Report on Form10-K for the year ended December 31, 2006.

The results of operationsfor any interim period are not necessarily indicative of results to be expectedfor the full year or for any subsequent interim period.

*Reclassification —*Certainreclassifications have been made to conform prior period financial informationto the current presentation.

*New Accounting Pronouncements —*InJuly 2006, the Financial Accounting Standards Board, (“FASB”) issued FASBInterpretation No. 48, (“FIN 48”), *Accounting for Uncertaintyin Income Taxes - an Interpretation of FASB Statement No. 109*.  FIN 48 clarifies the accounting for uncertaintyin income taxes recognized in a company’s financial statements in accordancewith Statement of Financial Accounting Standards (“SFAS”) No. 109, *Accounting for Income Taxes,*(“SFAS No. 109”)*.*This interpretation prescribes a recognitionthreshold and measurement attribute for the financial statement recognition andmeasurement of a tax position taken or expected to be taken in a tax return.This Interpretation also provides guidance on derecognition, classification,interest and penalties, accounting in interim periods, disclosure, andtransition. FIN 48 was effective for fiscal years beginning after December 15,2006.  See Note 8, *IncomeTaxes,* for more information on the impact of the adoption of FIN 48.

In September 2006, the FASB issued SFAS No. 157, *Fair Value Measurements* (“SFAS No. 157”). SFAS No. 157establishes a framework for measuring fair value in generally acceptedaccounting principles (“GAAP”), and expands disclosures about fair valuemeasurements. This Statement is effective for financial statements issued forfiscal years beginning after November 15, 2007, and interim periods withinthose fiscal years.  Management has notyet completed its evaluation of the impact of adopting SFAS No. 157.

On February 15, 2007, the FASB issued SFAS No. 159, *The Fair Value Option for Financial Assets and Financial Liabilities*.   SFAS No. 159 permits all entities to choose,at specified election dates, to measure eligible items at fair value (the “fairvalue option”).  A business entity shallreport unrealized gains and losses on items for which the fair value option hasbeen elected in earnings (or another performance indicator if the businessentity does not report earnings) at each subsequent reporting date.  Upfront costs and fees related to items forwhich the fair value option is elected shall be recognized in earnings asincurred and not deferred.  SFAS No. 159is effective for fiscal years beginning after November 15, 2007, with earlyadoption permitted.  The Company iscurrently evaluating whether SFAS No. 159 will have a material effect on itsconsolidated financial statements.

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**2. Earnings Per Share (“EPS”)**

Basic EPS is based on theweighted-average number of shares outstanding during the periods, while dilutedEPS also includes the dilutive effects of the Company’s outstanding commonstock options computed using the treasury stock method.  The number of shares used in computing EPS isas follows:

|                                         | ** ** | **Three Months Ended** | ** ** |
|-----------------------------------------|------------|----------------------------------|------------|
| ** **                              | ** ** | **March 31,  2007**         | ** ** | **March 31,  2006** | ** ** |
| ** **                              | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Weighted average  shares:               |       |                             |       |   |   |
| Basic                                   |       | 22,454,142                       |       | 22,324,580 |   |
| Effect of dilutive common stock options |       | 51,418                           |       | 390,551 |   |
| Diluted                                 |       | 22,505,560                       |       | 22,715,131 |   |

 

Options outstandingtotaling 2,519,929 and 666,001 for the three month periods ended March 31, 2007and 2006, respectively, were excluded from the calculations of earnings percommon share, as their effect would have been antidilutive.

**3. Accounting for Share-BasedCompensation**

In December 2004, theFASB revised Statement of Financial Accounting Standards No. 123 (“SFAS123(R)”), *Share-Based Payment*, which establishesaccounting for share-based awards exchanged for employee services and requirescompanies to expense the estimated fair value of these awards over therequisite employee service period. On April 14, 2005, the SEC adopted a newrule amending the effective dates for SFAS No. 123(R). In accordance with thenew rule, the Company adopted the accounting provisions of SFAS No. 123(R)beginning in the first quarter of 2006.

Under SFAS No. 123(R),share-based compensation cost is measured at the grant date, based on theestimated fair value of the award, and is recognized as expense over theemployee’s requisite service period. The Company has no awards with market orperformance conditions. The Company adopted the provisions of SFAS No. 123(R)on January 1, 2006, using the modified prospective application.  Under the modified prospective application,prior periods are not revised for comparative purposes.  Prior to January 1, 2006, the Companyfollowed Accounting Principles Board (“APB”) Opinion No. 25, *Accounting for Stock Issued to Employees,* (“ABP No. 25”),**as amended, for its stock compensation.  The valuation provisions of SFAS No. 123(R)apply to new awards and to awards that are outstanding on the effective dateand subsequently modified or cancelled. The Company will recognize estimatedcompensation expense for awards outstanding at the effective date over theremaining service period using the compensation cost calculated for pro formadisclosure purposes under FASB Statement No. 123, *Accountingfor Stock-Based Compensation* (“SFAS No. 123”).

On November 10, 2005, theFASB issued FASB Staff Position No. SFAS 123(R)-3, *TransitionElection Related to Accounting for Tax Effects of Share-Based Payment Awards*.The Company has elected to adopt the alternative transition method provided inthis FASB Staff Position for calculating the tax effects of share-basedcompensation pursuant to SFAS No. 123(R). The alternative transition methodincludes a simplified method to establish the beginning balance of theadditional paid-in capital pool (“APIC pool”) related to the tax effects ofemployee share-based compensation, which is available to absorb taxdeficiencies recognized subsequent to the adoption of SFAS No. 123(R).

*Share-Based CompensationInformation under SFAS No. 123(R)*

The value of Stratageneemployee stock options was estimated at the dates of grant using the minimumvalue method of SFAS No. 123 from the inception date of the applicable stockoption plan through June 2, 2004, and the

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fair value method for all option grants madesubsequent to that date using the Black-Scholes option pricing model. The fairvalue of the Hycor Biomedical Inc. (“Hycor”) employee stock options assumed byStratagene in the Hycor merger were estimated at the merger date using theBlack-Scholes pricing model for all option grants. For options granted thathave multiple cliff vesting periods, the Company amortizes compensation costusing the graded vesting method prescribed by FASB Interpretation No. 28, *Accounting for Stock Appreciation Rights and Other Variable StockOption and Award Plans*. The Company has elected to follow the gradedvesting method and has continued to use the Black-Scholes valuation methodunder SFAS No. 123(R).

The weighted-averageestimated fair values of employee stock options granted during the three monthsended March 31, 2007 and 2006 were $3.71 and $4.72, respectively.  The weighted-average estimated fair values ofemployee stock granted under Stratagene Corporation’s Employee Stock PurchaseProgram (“ESPP”) during the three months ended March 31, 2007 and 2006 were$1.77 and $2.42 using the Black-Scholes model with the followingweighted-average assumptions (annualized percentages) for the three monthsended March 31, 2007 and 2006:

|                              | ** ** | **Three Months Ended  March 31, 2007** | ** ** | **Three Months Ended  March 31, 2006** | ** ** |
|------------------------------|------------|------------------------------------------------------------|------------|------------------------------------------------------------|------------|
| ** **                   | ** ** | **Options**                                                | ** ** | **ESPP**                                                   | ** ** | **Options** | ** ** | **ESPP** | ** ** |
| Risk free  interest rate     |       | 4.7                                                        | %          | 5.0                                                        | %          | 4.6 | % | 4.5 | % |
| Dividend yield               |       | 0                                                          | %          | 0                                                          | %          | 0 | % | 0 | % |
| Volatility  factor           |       | 45                                                         | %          | 45                                                         | %          | 45 | % | 45 | % |
| Expected life  (in years)    |       | 4.8 years                                                  |       | 0.24 years                                                 |       | 6.2 years |   | 0.24 years |   |
| Pre-vesting forfeiture  rate |       | 7                                                          | %          | NA                                                         |       | 7 | % | NA |   |

 

The risk-free interestrate assumption is based upon observed interest rates appropriate for theexpected terms of the Company’s employee stock options.  The Company paid a special $0.25 per sharedividend to stockholders on January 6, 2006 as a result of a settlement withCambridge Antibody Technology, but this dividend was not considered in thedividend yield of 0.0% as the Company has no intentions of paying cash dividendsin the foreseeable future.  Thevolatility factor was calculated based on the historical volatility of theHycor and Stratagene stock prices and the consideration of trends and futureevents.  The expected life of employeestock options represents the weighted-average period the stock options areexpected to remain outstanding and is calculated using the simplified method asdescribed in the SEC’s Staff Accounting Bulletin No. 107, *Share-BasedPayment,*(“SAB No. 107”). Using the simplified method, options granted to employees with a fouryear vesting schedule have an expected life of 6.25 years and options grantedto directors with a three year vesting schedule have an expected life of 6years.  Due to the fact that options vestratably over the vesting period, the weighted average expected life iscalculated as 4.8 years.  The pre-vestingforfeiture rate is based on the Company’s historical option cancellationinformation and was normalized for significant non-recurring employeeterminations that occurred related to the merger with Hycor.

Total estimatedshare-based compensation expense, related to all of the Company’s share-basedawards, including those granted under the ESPP, recognized for the three monthsended March 31, 2007 and 2006 was comprised as follows:

|                                                          | ** ** | **Three Months  Ended  March 31,  2007** | ** ** | **Three Months  Ended  March 31,  2006** | ** ** |
|----------------------------------------------------------|------------|----------------------------------------------------|------------|----------------------------------------------------|------------|
|                                                     |       |                                               |       |                                               |       |
| Capitalized to  inventory                                |       | $                                                  | 28,923     |                                               | $          | 9,496 |   |
|                                                     |       |                                               |       |                                               |       |
| Cost of product  sales                                   |       | 23,547                                             |       | 15,687                                             |       |
| Research and  development                                |       | 47,774                                             |       | 33,312                                             |       |
| Selling and  marketing                                   |       | 74,874                                             |       | 33,207                                             |       |
| General and  administrative                              |       | 106,573                                            |       | 88,093                                             |       |
| Share-based compensation expense before taxes            |       | 252,768                                            |       | 170,299                                            |       |
| Related income  tax benefits                             |       | (84,677                                            | )          | (56,965                                            | )          |
| Share-based compensation expense after taxes             |       | $                                                  | 168,091    |                                               | $          | 113,334 |   |
|                                                     |       |                                               |       |                                               |       |
| Net share-based  compensation expense, per common share: |       |                                               |       |                                               |       |
| Basic                                                    |       | $                                                  | 0.01       |                                               | $          | 0.01 |   |
| Diluted                                                  |       | $                                                  | 0.01       |                                               | $          | 0.01 |   |

 

8

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*Options to Non-Employees*

Charges for optionsgranted to non-employees have been determined in accordance with SFAS No. 123 andEmerging Issues 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*, as the estimatedfair value of the consideration received or the estimated fair value of theequity instruments issued, whichever is more reliably measured. The fair valuefor these options is based on the Black-Scholes pricing model using theassumptions described above. The Company recognized $29,576 and $58,429 of stock-basedcompensation expense for the three months ended March 31, 2007 and 2006,respectively. The expense was recorded in research and development expense. Thetotal deferred charges for options granted to non-employees are re-measuredquarterly as the underlying options vest and are included in additional paid-incapital in the financial statements.

**4. Balance Sheet Information**

*RestrictedCash*

Restricted cash totaled $12,625,758 and $33,129,967 atMarch 31, 2007 and December 31, 2006, respectively. Total interest earned onrestricted cash was $347,947 and $195,075 for the three months ended March 31,2007 and 2006, respectively.

Restricted cash deposits include a $12.2 million civilsupersedeas bond that Stratagene posted in order to permit the company toappeal a judgment of the district court related to litigation with InvitrogenCorporation without being subject to collection activities by Invitrogen. Thisbond is secured by $12.2 million of cash in an interest-bearing restrictedaccount. The cash collateral required to support the bond was provided from theavailable cash resources of the Company. For further detail on this litigation, see Note 9, *Commitmentsand Contingencies — Legal*.

Also included in restricted cash are amounts relatedto the sinking fund payments required under the reimbursement agreementrelating to the Bastrop County Industrial Revenue Bonds (“IRB”). The Companymakes monthly deposits into an interest-bearing sinking fund account. EachApril, the sinking fund deposits are then used to make the required IRB annualpayment. Annual payments of $240,000 are required through April 2021 with anannual payment of $175,000 in April 2022 when the bonds mature.

*Inventories*

Inventories are stated atthe lower of cost or market. Cost is determined on a first-in, first-out basis.Inventories consist of the following:

|                             | ** ** | **March 31,  2007** | ** ** | **December 31,  2006** | ** ** |
|-----------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                  | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Raw materials  and supplies |       | $                        | 6,706,631  |                        | $          | 6,902,492 |   |
| Work-in-process             |       | 1,562,453                |       | 1,344,175                   |       |
| Finished goods              |       | 3,990,167                |       | 4,016,152                   |       |
| Total                       |       | $                        | 12,259,251 |                        | $          | 12,262,819 |   |

 

*IntangibleAssets and Goodwill*

The following sets forththe Company’s intangible assets by major asset class:
| ** **                                      | ** ** | ** **                    | ** ** | **March 31, 2007** | ** ** | **December 31, 2006** | ** ** |
|-------------------------------------------------|------------|-------------------------------|------------|------------------------------|------------|---------------------------------|------------|
| ** **                                      | ** ** | **Useful Life  (Years)** | ** ** | **Gross**                    | ** ** | **Accumulated  Amortization**   | ** ** | **Net Book  Value** | ** ** | **Gross** | ** ** | **Accumulated  Amortization** | ** ** | **Net Book  Value** | ** ** |
| Intangible assets  subject to amortization:     |       |                          |       |                         |       |                            |       |   |   |   |   |   |   |   |   |
| Amortizable patents and other                   |       | 2 - 7 years                   |       | $                            | 10,498,793 |                            | $          | 5,557,019 |   | $ | 4,941,774 |   | $ | 9,977,035 |   | $ | 5,307,691 |   | $ | 4,669,344 |   |
| Amortizable intangible assets                   |       | 1 - 5 years                   |       | 1,189,000                    |       | 884,261                         |       | $ | 304,739 |   | 1,189,000 |   | 815,326 |   | 373,674 |   |
| Intangible assets  not subject to amortization: |       |                          |       |                         |       |                            |       |   |   |   |   |   |   |   |   |
| Non-amortizable intangible assets               |       |                          |       | 1,575,000                    |       | —                          |       | $ | 1,575,000 |   | 1,575,000 |   | — |   | 1,575,000 |   |
| Goodwill                                        |       |                          |       | $                            | 27,234,214 |                            | —     |   | $ | 27,234,214 |   | 27,234,214 |   | — |   | 27,234,214 |   |
|                                            |       |                          |       | $                            | 40,497,007 |                            | $          | 6,441,280 |   | $ | 34,055,727 |   | $ | 39,975,249 |   | $ | 6,123,017 |   | $ | 33,852,232 |   |

 

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Amortizable patents and other includes costs incurredin connection with patent applications, which consist principally of legalfees. Amortizable intangible assets, non-amortizable intangible assets andgoodwill were established in connection with the merger with Hycor.  Goodwill represents the excess of thepurchase price over the fair value of the tangible and identifiable intangibleassets. The other non-amortizable intangible assets represent $1,575,000 for atrade name with an indefinite life. The intangible assets subject toamortization include $480,000 for patents and trademarks, which will beamortized over 2 to 7 years, and $1,189,000 for contractually based customerrelationships, which will be amortized over 1 to 5 years.

Amortization expensetotaled approximately $318,000 and $300,000 for the three months ended March31, 2007 and 2006, respectively.

*AccruedExpenses and Other Liabilities*

Accrued expensesand other liabilities consist of the following:

|                                         | ** ** | **March 31,  2007** | ** ** | **December 31,  2006** | ** ** |
|-----------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                              | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Accrued  compensation                   |       | $                        | 1,985,410  |                        | $          | 2,284,497 |   |
| Accrued  royalties                      |       | 17,581,303               |       | 17,811,849                  |       |
| Litigation  accrual                     |       | 21,182,453               |       | 30,584,401                  |       |
| Warranty                                |       | 204,376                  |       | 218,011                     |       |
| Other accrued  expenses and liabilities |       | 2,404,351                |       | 1,744,095                   |       |
| Total                                   |       | $                        | 43,357,893 |                        | $          | 52,642,853 |   |

 

**5. Stockholders’ Equity**

The followingtable summarizes equity transactions during the three months ended March 31,2007:
| ** **                                                                        | ** ** | **Common Stock** | ** ** | **Additional  Paid-in** | ** ** | **Unearned  Stock-based** | ** ** | **Retained**     | ** ** | **Accumulated  Other  Comprehensive** | ** ** | **Total  Stockholders’** | ** ** |
|-----------------------------------------------------------------------------------|------------|-----------------------|------------|-------------------------|------------|---------------------------|------------|------------------|------------|---------------------------------------|------------|-------------------------------|------------|
| ** **                                                                        | ** ** | **Shares**            | ** ** | **Amount**              | ** ** | **Capital**               | ** ** | **Compensation** | ** ** | **Earnings**                          | ** ** | **Loss**                      | ** ** | **Equity** | ** ** |
| ** **                                                                        | ** ** | ** **            | ** ** | ** **              | ** ** | ** **                | ** ** | ** **       | ** ** | ** **                            | ** ** | ** **                    | ** ** | ** ** | ** ** |
| Balance as of  January 1, 2007                                                    |       | 22,452,952            |       | $                       | 2,245      |                      | $          | 56,278,961       |       | $                                     | (7,969     | )                             | $          | 5,790,271 |   | $ | (946,497 | ) | $ | 61,117,011 |   |
| Amortization of unvested options acquired in the  Hycor merger                    |       | —                |       | —                  |       | —                    |       | 3,054            |       | —                                |       | —                        |       | 3,054 |   |
| Common stock issued pursuant to employee stock  purchase plan                     |       | 14,407                |       | 1                       |       | 90,042                    |       | —           |       | —                                |       | —                        |       | 90,043 |   |
| Common stock issued upon exercise of stock options                                |       | 4,036                 |       | 1                       |       | 26,196                    |       | —           |       | —                                |       | —                        |       | 26,197 |   |
| Tax benefit received from the exercise of stock  options                          |       | —                |       | —                  |       | 7,649                     |       | —           |       | —                                |       | —                        |       | 7,649 |   |
| Compensation expense for non-employee stock options                               |       | —                |       | —                  |       | 29,576                    |       | —           |       | —                                |       | —                        |       | 29,576 |   |
| Compensation expense for employee stock options and  employee stock purchase plan |       | —                |       | —                  |       | 281,691                   |       | —           |       | —                                |       | —                        |       | 281,691 |   |
| Net income                                                                        |       | —                |       | —                  |       | —                    |       | —           |       | 1,380,885                             |       | —                        |       | 1,380,885 |   |
| Foreign currency translation                                                      |       | —                |       | —                  |       | —                    |       | —           |       | —                                |       | 80,000                        |       | 80,000 |   |
| Balance as of March 31, 2007                                                      |       | 22,471,395            |       | $                       | 2,247      |                      | $          | 56,714,115       |       | $                                     | (4,915     | )                             | $          | 7,171,156 |   | $ | (866,497 | ) | $ | 63,016,106 |   |

 

**6. Stock Benefit Plans**

*2000 Stock Option Plan, as amendedand restated*— In 2000, Stratagene adopted a stock optionplan (the “2000 Plan”), which provides for the grant of options to employees ofStratagene or a subsidiary of Stratagene and BioCrest Holdings, LLC (“BCH”) ora subsidiary of BCH to purchase up to 2,000,000 shares of common stock atexercise prices of not less than the fair value of the common stock. Optionsunder the 2000 Plan vest over a period determined by Stratagene’s board ofdirectors, but not longer than five years. The options generally expire sevenyears after the grant date. BCH was dissolved on February 9, 2006.

In 2004, prior to the completion of the merger withHycor, Stratagene amended and restated the 2000 Plan. As amended and restated,the stock option plan permits the issuance of options to purchase an aggregateof 3,000,000

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shares of common stock. Options under the amended andrestated 2000 Plan vest over a period determined by Stratagene’s board ofdirectors, but not longer than five years. The options generally expire tenyears after the grant date.

*2004 Independent Directors OptionPlan*— In June 2004, the Company adopted a director’s stockoption plan for its independent directors. Approximately 300,000 shares of theCompany’s common stock have been reserved for issuance under this plan. Theindependent directors each received an automatic award of an option to purchase20,000 shares of common stock under the director’s stock option plan uponinitial appointment or election to the Company’s board of directors and,thereafter, will receive an automatic award of an option to purchase up to10,000 shares of common stock at each annual meeting occurring during theirterm as a member of Stratagene’s board of directors. The options vest in threeequal annual installments on the anniversary date of such grant and expire tenyears after the grant date. The price per share of these options equals 100% ofthe fair market value of a share of common stock on the date the option wasgranted.

*Stratagene Corporation 2006 Equity Incentive AwardPlan (the “2006 Plan”)*— On June 1, 2006, the Company’sstockholders approved the 2006 Plan. Under this plan, employees, consultants and directors may receive grantsof stock options, stock appreciation rights, restricted stock awards,restricted stock units and dividend equivalents in any combination, separatelyor in tandem.  Approval of the 2006 Planwas necessitated in part by the Company’s desire to expand the types of equityawards that the board of directors may grant to its employees, consultants anddirectors.  Additionally, the number ofshares remaining available for issuance under the existing 2000 Stock OptionPlan was not sufficient to meet the Company’s anticipated needs.

As a result of theadoption of the 2006 Plan, no new awards will be made under the 2000 Plan.  Initially, the number of shares of Stratagenecommon stock that may be issued pursuant to awards granted under the 2006 Planshall not exceed, in the aggregate, 500,000 shares.  The number of shares of common stockinitially reserved for issuance under the 2006 Plan shall be subject toincrease pursuant to the terms of the 2006 Plan.  Inaddition, the number of shares reserved for issuance pursuant to awardsunder the 2006 Plan will be automatically increased on each January 1 duringthe term of the 2006 Plan, commencing on January 1, 2007 and continuing until,and including, January 1, 2016.  Theannual increase in the number of shares shall be equal to the least of:

·                  5%of the Company’s outstanding capital stock on such January 1;

·                  750,000shares; or

·                  an amountdetermined by the Company’s board of directors.

The number of shares of our common stock that may beissued pursuant to awards granted under the 2006 Plan shall not exceed, in theaggregate, 11,000,000 shares during the term of the Plan.

Any shares thatare represented by awards under the 2006 Plan that are forfeited, expire, orare canceled, or that are forfeited back to Stratagene or reacquired byStratagene after delivery for any reason, or that are tendered to Stratagene orwithheld to pay the exercise price or related tax withholding obligations inconnection with any award under the 2006 Plan, will again be available forawards under the 2006 Plan. Only shares actually issued under the 2006 Planwill reduce the share reserve.

The following table summarizes option activity for allapproved plans: 
| ** **                      | ** ** | **Options** | ** ** | **Weighted-  average  Exercise  Price** | ** ** |
|---------------------------------|------------|-------------|------------|-----------------------------------------|------------|
| Outstanding,  December 31, 2006 |       | 2,812,939   |       | $                                       | 8.68       |   |
| Granted                         |       | 7,000       |       | 8.41                                    |       |
| Exercised                       |       | (4,036      | )          | 6.49                                    |       |
| Forfeited                       |       | (192,232    | )          | 9.83                                    |       |
| Outstanding,  March 31, 2007    |       | 2,623,671   |       | $                                       | 8.60       |   |
|                            |       |        |       |                                    |       |
| Exercisable March 31,  2007     |       | 1,808,192   |       | $                                       | 9.11       |   |

 

The weighted average remaining contractual term ofoutstanding options at March 31, 2007 is 6.43 years.  The aggregate intrinsic value of such optionsis $1,174,729.  The weighted averageremaining contractual term of exercisable options at March 31, 2007 is 5.48years.  Intrinsic value represents thedifference between the option price at grant date and the market price ofStratagene’s common stock at the balance sheet date.  The aggregate intrinsic value of such optionsis $443,701.

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As of March 31, 2007, there was $1,103,596 of totalunrecognized compensation costs related to non-vested share-based compensationarrangements under the various option plans. This cost is expected to be recognized over a weighted average period of2.0 years.

The following table summarizes information aboutStratagene stock options outstanding as of March 31, 2007:
| ** **                                  | ** ** | **Options Outstanding**                              | ** ** | **Options Exercisable**                                              | ** ** |
|---------------------------------------------|------------|-----------------------------------------------------------|------------|---------------------------------------------------------------------------|------------|
| **Range of Exercise Prices** | ** ** | **Number  Outstanding  as of  March 31,  2007** | ** ** | **Weighted-  average  Remaining  Contractual  Life (in Years)** | ** ** | **Weighted-  average  Exercise  Price** | ** ** | **Number  Exercisable  as of  March 31,  2007** | ** ** | **Weighted-  average  Exercise  Price** | ** ** |
| $1.73 - $8.00                               |       | 743,562                                                   |       | 7.30                                                                      |       | $ | 6.56 |   | 217,785 |   | $ | 6.12 |   |
| $8.01 - $8.11                               |       | 356,400                                                   |       | 6.85                                                                      |       | 8.11 |   | 320,400 |   | 8.11 |   |
| $8.12 - $9.20                               |       | 312,000                                                   |       | 7.63                                                                      |       | 8.64 |   | 105,316 |   | 8.67 |   |
| $9.21 - $9.34                               |       | 798,960                                                   |       | 7.18                                                                      |       | 9.34 |   | 778,962 |   | 9.34 |   |
| $9.35 - $11.18                              |       | 156,141                                                   |       | 4.08                                                                      |       | 9.98 |   | 129,121 |   | 9.86 |   |
| $11.19 - $12.00                             |       | 256,608                                                   |       | 0.95                                                                      |       | 12.00 |   | 256,608 |   | 12.00 |   |
|                                        |       | 2,623,671                                                 |       | 6.43                                                                      |       | $ | 8.60 |   | 1,808,192 |   | $ | 9.11 |   |

 

*Employee Stock Purchase Plan*—In June 2004, the Company adopted the Stratagene ESPP that provides for theissuance of up to 1,000,000 shares of the Company’s common stock. The ESPP isintended to qualify under Section 423 of the Internal Revenue Code and is for thebenefit of qualifying employees as designated by the board of directors. Underthe terms of the ESPP, purchases are made quarterly. Participating employeesmay elect to have a maximum of 15% of their compensation, up to a maximum of$25,000 of the fair market value of the common stock per calendar year,withheld through payroll deductions to purchase shares of common stock underthe ESPP. The price of the common stock purchased under the ESPP will be equalto 85% of the fair market value of the common stock on the offering or purchasedate, whichever is lower. During the three months ended March 31, 2007 and2006, 14,407 and 13,598 shares of common stock were issued under the ESPP fromproceeds of $90,044 and $115,991, respectively. During the three months endedMarch 31, 2007 and 2006, the Company expensed $25,568 and $33,030,respectively, of share-based compensation related to the ESPP.

**7. Comprehensive Income**

Components ofcomprehensive income, net of income taxes, were as follows:

|                                           | ** ** | **Three Months Ended** | ** ** |
|-------------------------------------------|------------|----------------------------------|------------|
| ** **                                | ** ** | **March 31,  2007**         | ** ** | **March 31  2006** | ** ** |
| ** **                                | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Net income                                |       | $                                | 1,380,885  |   | $ | 1,103,029 |   |
| Foreign currency  translation gain (loss) |       | 80,000                           |       | 78,717 |   |
| Comprehensive income, net of tax          |       | $                                | 1,460,885  |   | $ | 1,181,746 |   |

 

**8. Income Taxes**

The Company adopted the provisions of FIN 48 onJanuary 1, 2007, which clarifies the accounting and disclosure for uncertaintyin tax positions, as defined.  FIN 48seeks to reduce the diversity in practice associated with certain aspects ofthe recognition and measurement related to accounting for income taxes.

In accordance with FIN 48, the Company has analyzedfiling positions in all of the federal, state, and foreign jurisdictions whereit is required to file income tax returns, as well as all open tax years in thesejurisdictions.

The periods subject to examination for the Company’sU.S. federal return are the 2003 through 2006 tax years. There are currently noU.S. federal examinations in progress for these open years. The periods subjectto examination for most of the Company’s state returns are 2003 through 2006,with the Texas return being subject to examination from 2002 through 2006. TheCompany is currently under examination for a subsidiary’s 2002 and 2003California state income tax returns as well as carryforward attributes thatwere generated prior to 2002.  TheCompany’s foreign jurisdictions are subject to examination for various yearsbetween 2003 and 2006, depending on

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the jurisdiction. The Company’s 2003 tax return in the Netherlands is currently in theearly stages of examination.  No otherexamination is taking place for foreign jurisdictions.

As of December 31, 2006, the Company had unrecognizedtax benefits of approximately $400,000, excluding interest and penalties, andthis amount was unchanged as of March 31, 2007. It is possible that the amount of the liability for unrecognized taxbenefits could change during the next 52-week period as a result of currentexaminations. An estimate of the range of the possible change cannot be made atthis time.

Interest and penalties accrued on the $400,000unrecognized tax benefits is approximately $28,000.  In accordance with the Company’s accountingpolicy, it recognizes accrued interest and penalties related to unrecognizedtax benefits in the same tax classification as the unrecognized benefit.

**9. Commitments and Contingencies**

*RoyaltyPayments —*TheCompany accrues and pays royalties in accordance with the applicable royaltycontracts to which it is a party.  Accruedexpenses and other liabilities at each of March 31, 2007 and December 31, 2006include $5.2 million of accrued royalties due to an unrelated third partylicense holder for estimated royalties due from the second quarter of 2003through the third quarter of 2005. The Company accrued royalties under thispatent license agreement based on an estimate of the amounts payable inaccordance with the terms of the patent license agreement. The Company’scalculations of royalty payments are subject to review by the license holder.Beginning in the second half of 2003 through late 2005, such royalty paymentswere withheld by the Company while the Company evaluated a possible overpaymentof royalties paid in prior periods. However, no assurances can be made that theCompany will recover any of the overpayments. Stratagene’s financial position,results of operations and cash flows could be materially affected if theparties subsequently determine that the royalties differ significantly from theamounts recorded by Stratagene. The patent underlying this royalty obligationexpired in the United States in March 2005. The corresponding foreign patentsexpire in 2006 and 2007. Following the expiration of these process patents,Stratagene will no longer be required to pay royalties on future product salesrelated to such patents.

*Corporate Collaboration —*Stratageneentered into a strategic partnership with Strand Life Sciences in December 2005to develop a suite of next generation software solution products for sale.Under the terms of the agreement, Strand and Stratagene will collaborate on thedesign and development of innovative software products to address theincreasingly complex demands of biological data analysis for life scientists.Stratagene will exclusively market and sell the jointly developed products.  Under the agreements, Stratagene was requiredto make aggregate milestone payments of $0.9 million to Strand upon acceptanceof certain deliverables. Research and development expense of $0.1 million wasrecorded for the three months ended March 31, 2006.  There was no research and development expenserecorded for the three months ended March 31, 2007, but approximately $0.1million is expected to be expensed in the twelve months ended December 31,2007. Also, Stratagene is required to make $1.5 million in minimum annualpayments to Strand in the first twelve months after the first commercial saleor 60 days after final acceptance of the product.  The first minimum annual payment period beganon April 1, 2006.  The minimum annualpayments will be offset by $0.5 million of the milestone payments in the firsttwelve months of the contract term. Stratagene has accrued and paid for the entire first-year minimumpayments, less credits for milestone payments, due under the agreements throughMarch 31, 2007.  Stratagene will also berequired to make $1.7 million in minimum annual payments to Strand in thesecond twelve months of the contract term, which begins on April 1, 2007.

Stratagene entered into an agreement with theDiagnostics Division of Bayer HealthCare LLC, or Bayer, in December 2005,pursuant to which Bayer will purchase a customized version of Stratagene’sMx3005P instrument system for use in a new platform Bayer is developing forperforming molecular diagnostics tests worldwide.  Under the terms of the agreement, Stratageneis developing customized software and system features for Bayer’s use.  The agreement also calls for Stratagene toimplement Quality System Regulations (“QSR”) and procedures under whichStratagene will manufacture the customized Mx3005P instrument system forBayer.  Stratagene receives milestonepayments based upon completion of software-based customization and regulatoryactivities needed to meet Bayer’s clinical requirements.

EITFNo. 00-21, *Revenue Arrangements withMultiple Deliverables,* provides guidance on accounting forarrangements, such as the Bayer agreement, that involve the delivery orperformance of multiple products, services, or rights to use assets withincontractually binding arrangements. The Company recognizes revenue fordelivered

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elements in accordancewith SAB No. 104 and our revenue recognition policy and only when it isdetermined that the earnings process is complete and all elements forrecognition of contract revenue have been achieved.

The Bayer agreement includes milestone payments duringthe development phase of the contract. For instrumentation products wheresoftware is considered more than incidental to the product, the Companyrecognizes revenue when persuasive evidence of an arrangement exists, deliveryhas occurred, the sales price is fixed and determinable and collectibility isprobable. During the development phase of this contract, the Company willperform engineering services and deliver development units to Bayer. Revenue isrecognized when the Company’s revenue recognition criteria is met, which isgenerally upon the delivery and acceptance of the development units by Bayer.The Company records deferred revenue for amounts received in advance ofacceptance as deferred revenue. Costs incurred under the Bayer agreement areclassified as work-in-process under Prepaid Expenses and Other Current Assets,and will be recognized in the same manner as revenue.

Stratagene also entered into a License, Manufacturingand Supply Agreement with Focus Diagnostics, Inc., or Focus, in October 2005,to address the growing molecular diagnostics market for infectious diseases.Focus, which was recently acquired by Quest Diagnostics, a publicly-tradedcompany, is a specialty diagnostics company that develops innovative infectiousdisease products and is a leading reference laboratory for infectious andimmunological diseases.  Under theagreement, Stratagene has granted Focus a non-exclusive license to itsproprietary FullVelocity technology, and Stratagene will provide expertise andknowledge that Focus will use to develop selected molecular diagnostics testingkits and products. In exchange, Focus will pay Stratagene a royalty fee basedon Focus’ sales of finished products. Stratagene will also manufacture the diagnostic products which Focusintends to commercialize globally. Additionally, Stratagene will manufactureand sell reagents to Focus for laboratory-developed tests to be used in Focus’national reference laboratory.

Stratagene also entered intoa Joint Development and License Agreement with Rosetta Inpharmatics LLC, orRosetta, in July 2006, whereby the Company and Rosetta will work together todevelop an RNA extraction product.  Theproduct consists of a machine, a consumable cartridge, and a reagentpack that fits in the machine. The cartridge contains the sample to beprocessed and the machine moves fluids from the reagent pack throughthe card in order to purify RNA.The product will beused to obtain RNA profiles from clinical trial patients.   Rosetta will pay us for milestones achievedduring the development period.  In thecase of a successful product, Rosetta will also pay the Company a royalty onour sales of finished products to Merck (Rosetta’s parent) and other thirdparties.

*Consolidation of European Operations*— In February 2007, the Company made the decision toconsolidate its German and Netherlands distribution centers into one locationin the Netherlands.  As a result of themove, the Company will incur relocation and severance costs for employeesaffected by the transition as well as costs associated with transferringequipment, modifying building leases, and other set-up costs. In accordancewith SFAS No. 146, *Accounting for CostsAssociated**with Exit or DisposalActivities*, the Company estimated the transition costs associatedwith the move and will charge those costs to expense ratably over the futureservice period. Such estimate is approximately $373,000, of which approximately$109,000 of the expense was recorded in the first quarter of 2007. The Companyexpects the transition to be completed in the third quarter of 2007.

*Legal*— Stratageneis a party to litigation in the ordinary course of business. Due to theuncertainties inherent in litigation, no assurances can be given as to theoutcome of these proceedings. If any of these matters were resolved in a mannerunfavorable to the Company, Stratagene’s business, financial condition, resultsof operations, and cash flows could be materially harmed. Additionally,favorable outcomes or gain contingencies that may result from these matters, ifany, are not recognized until they are realized. Information on the mostsignificant of these matters follows.

***InvitrogenCorporation***

In June 2000, wewere sued by Invitrogen Corporation (formerly Life Technologies, Inc.) in theUnited States District Court for the District of Maryland. The complaintalleges that we willfully infringed United States patent no. 6,063,608 (andUnited States patent nos. 5,244,797 and 5,405,776) for making, using andselling products derived from, using or containing RNase H minus reversetranscriptase enzymes. Invitrogen’s motion for a preliminary injunction wasdenied and the case was stayed pending a trial in a related action involvingInvitrogen and a third party regarding the same patents. Invitrogen appealedthe denial of an injunction and the stay to the Federal Circuit Court ofAppeals. In February 2002, the Federal Circuit Court of Appeals affirmed thedistrict court’s decision. The case against us remains administratively stayed.

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In March 2001, we were sued by Invitrogen Corporationin the United States District Court for the Western District of Texas (Austin).The complaint alleged (1) that we willfully infringed United States patent no.4,981,797 for making, using and selling competent *E. coli*cell products and (2) for lost profits and/orreasonable royalty damages of up to approximately $22.0 million. In November2001, the district court granted our motion for summary judgment, finding thatwe did not infringe the ‘797 patent. Invitrogen appealed the judgment to theFederal Circuit Court of Appeals which, in May 2003, reversed the districtcourt’s decision in part and remanded the case for further proceedings. InJanuary 2004, on remand from the Federal Circuit Court, the district courtdetermined on Invitrogen’s motion for partial summary judgment that weinfringed the ‘797 patent based on our then existing manufacturing process andfurther held on partial summary judgment, that while the ‘797 patent was notinvalid for indefiniteness, the ‘797 patent was invalid because of public useunder 35 U.S.C. § 102(b).  Invitrogen appealed the district court’s rulingof invalidity, and oral arguments were heard before the Federal Circuit Courtof Appeals in May 2005.  In October 2005, the Federal Circuit Courtreversed the district court’s summary judgment of invalidity due to public use,affirmed the district court’s partial summary judgment of infringement,affirmed the district court’s denial of summary judgment of invalidity due toindefiniteness, and remanded the case for further proceedings.  Invitrogenadmitted that our current manufacturing processes do not infringe the ‘797patent and that there is no claim for an injunction.  The case went totrial on July 17, 2006, and on July 25, 2006, the jury returned a verdict thatthe ‘797 patent was not invalid and that our infringement of the patent waswillful.  The jury denied Invitrogen’s request for lost profits damages inthe amount of $32 million dollars because it found that we had a non-infringingmanufacturing process for competent cells during the relevant period.  However, the jury returned a verdict for areasonable royalty of approximately $7.9 million.

On October 31, 2006, the district court entered finaljudgment on the jury verdict.  The courtreduced the jury award to approximately $7.5 million due to Invitrogen’sfailure to mark its products, but it also trebled a portion of the award thatwas related to our sales of the allegedly infringing products made prior to November2, 2001.   The court awarded Invitrogen atotal damages amount of $16.2 million in addition to attorney’s fees, costs,and prejudgment interest.  On January 10,2007, the district court issued an order awarding Invitrogen its attorney’sfees and costs at $2.1 million, and the parties stipulated to a prejudgmentinterest amount of $1.3 million.  Thecourt fixed the supersedeas bond amount at $12.2 million.

We believe that the jury’s verdict and the damagesawarded by the district court were not supported by the facts of the case orthe law and as a result, we have appealed the judgment to the United StatesCourt of Appeals for the Federal Circuit. Our appeal challenges the conclusion that the patent was enforceable andnot invalid, the appropriateness of the damages determined by the jury, and thecourt’s trebling of a portion of the damages verdict and award of attorney’sfees.  Invitrogen has also cross-appealedthe district court’s reduction of the damages award due to the failure tomark.  We had previously modified ourprocess for manufacturing competent E. coli cell products and, as a result,Invitrogen has agreed that our products sold in recent years and currentlyoffered for sale will not be affected by the jury verdict.

In November of 2006, we filed a supersedeas bond inthe amount of $11.5 million in order to permit us to appeal the judgment of thedistrict court without being subject to collection activities by Invitrogen. InJanuary 2007, following the court’s decision setting the bond amount at $12.2million; we funded the bond to that amount for the term of the appeal. The bondis secured by $12.2 million of cash in an interest-bearing restricted account.  The $12.2 million amount for the supersedeas bond is comprised of the$7.5 million compensatory portion of the amended jury verdict, plus estimatedattorneys fees and costs of $2.1 million, plus pre-judgment interest of $1.5million and post-judgment interest of $1.1 million.

In considering whether to record a loss contingencyand, if so, an amount, we considered the guidance provided by FASB Statement ofFinancial Accounting Standards (“SFAS”) No. 5, *Accountingfor Contingencies,*and FASB Interpretation No. 14 (As Amended),*Reasonable Estimation of the Amount of aLoss, an Interpretation of FASB Statement No. 5*. SFAS No. 5requires an accrual to be made when a loss is probable and estimable.  Wehave now accrued an aggregate of $19.6 million in expense for the judgmentawarded in this matter.  We accrued $7.9million for this matter in the second quarter of 2006 based on the juryverdict. We accrued an additional $12.5 million in the third quarter of 2006based upon the court judgment. The accrual was then reduced by $0.8 million inthe fourth quarter of 2006 based upon the adjustment to estimated legal feesand court costs by the court. The $19.6 million accrual includes total damagesof $16.2 million, attorneys’ fees and costs of $2.1 million, and pre-judgmentinterest of $1.3 million.  Although we have appealed the district courtjudgment to the Federal Circuit Court of Appeals, we have accrued $19.6million, as we believe that we have met the conditions for accrual as stated inSFAS No. 5. Post-judgment interest at the rate of approximately 5.05%compounded annually will be applied to the compensatory portion of the damagesand will be accrued against our earnings until the matter is resolved.

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In November 2001, we filed a complaint in the UnitedStates District Court for the District of Maryland charging InvitrogenCorporation with willful infringement and inducing others to infringe UnitedStates patent no. 5,556,772 for making, using, selling and offering for salecertain polymerase blend products. We seek a permanent injunction againstcontinued infringement as well as monetary damages (compensatory and enhanced)and recovery of our attorneys’ fees and costs. Given the nature of patentlitigation, at the present time we are unable to quantify the amount ofremuneration we will ultimately seek in this proceeding or the likelihood ofrecovering any portion of such remuneration once quantified.  Pursuant to a stipulation of the parties, thecase is presently administratively stayed and no trial date is currently setfor this case.  We have been advised bythe United States Patent Office of its Notice of Intent to issue the patentreexamination certificate.  The partieshave agreed to a schedule to complete discovery and for trial to begin once thereexamination certificate issues.

***Takara Bio***

In November 2002, Stratagene filed a complaint in theUnited States District Court for the District of Maryland charging Takara Biowith willful infringement of and inducing others to infringe United Statespatent no. 5,556,772 for making, using, selling and offering for sale certainpolymerase blend products. Stratagene and Takara Bio have now reached amutually beneficial settlement resolving the district court litigation and apatent interference proceeding in the U.S. Patent & Trademark Office.  Stratagene believes the principal financialeffect of the settlement will be the avoidance of the costs and risks ofcontinued litigation.  Further, potentialdisputes in the future will be avoided through cross-licenses of the parties’respective patent rights relating to enzyme blends.

***Third WaveTechnologies***

In September 2004,Stratagene was sued by Third Wave Technologies, Inc. (“Third Wave”) in theUnited States District Court for the Western District of Wisconsin. Thecomplaint alleged that Stratagene infringed United States patent nos. 6,348,314and 6,090,543, and have induced or contributed to infringement of thepatents-in-suit, by making, using, importing, offering for sale and/or sellingassays employing cleavage of nucleic acids, including at least our FullVelocityproducts.  Third Wave sought a preliminaryand permanent injunction, monetary damages (compensatory and enhanced), andrecovery of its attorneys’ fees and costs. In October 2004, Stratagene filedits answer to the complaint responding that it did not infringe a valid orenforceable claim of either patent. Stratagene also asserted affirmativedefenses, including invalidity and unenforceability, and counterclaims ofinvalidity and non-infringement. Stratagene sought an award of its fees andcosts incurred in defending itself in this action.  A jury trial commencedon August 22, 2005.  The jury returned a verdict that the patents-in-suitwere valid and infringed by Stratagene.  Additionally, the jury returned averdict for monetary damages in the amount of $5.3 million and that Stratagene’sinfringement was willful.  Based on the jury’s verdict, the district courtpermanently enjoined Stratagene from making, advertising, promoting the use of,selling, offering to sell, using, permitting to be used, contributing to theuse, sale or offering for sale of, or inducing the use, sale or offering forsale the FullVelocity QPCR and FullVelocity QRT-PCR products, or any otherproduct used in a method that meets all of the limitations of any of theasserted claims.  On December 19, 2005,the district court awarded Third Wave treble damages of $15.9 million,attorneys’ fees and costs in an amount to be determined by the district courtand pre-judgment interest.  In January2006, Stratagene posted a $21.0 million civil supersedeas bond to stay paymentof the judgment of the district court, and filed an appeal to the FederalCircuit Court of Appeals.  As of December31, 2005, Stratagene had accrued $20.6 million in expense for the judgmentawarded in this matter.  This amountincluded total damages of $15.9 million, attorneys’ fees and costs of $4.2million, and pre-judgment interest of $0.5 million.  In March 2006, Third Wave was awarded anadditional $0.1 million for other court costs, bringing the total award to$20.7 million.  The district court’saward was appealed to the Federal Circuit Court of Appeals and the argumentswere heard on December 7, 2006, and the remaining funds from the appeal bondwere returned to Stratagene.

In January 2007,Stratagene reached an out-of-court settlement with Third Wave for the Wisconsincase for $10.75 million.  Stratageneagreed to pay Third Wave $10.75 million in cash as full satisfaction for thejudgment. The companies also have agreed to stay any further litigation fornine months. Stratagene and Third Wave have also agreed to a process to resolveany other patent disputes through an agreement that enables either company toelect to arbitrate a patent dispute or to resolve it through a royalty-bearinglicense.  As a result of the settlement,Stratagene adjusted its accrual from $20.7 million to $10.75 million atDecember 31, 2006.  The settlementpayment was made with funds from the $21.0 million appeal bond in February2007.

In May 2005, Stratagene filed a complaint in theUnited States District Court for the District of Delaware charging Third WaveTechnologies with willful infringement of and inducing others to infringeUnited States patent

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nos. 6,528,254 and 6,548,250 for making, using,selling and offering for sale certain of its Invader® Plus products. Stratagene was seeking apermanent injunction against continued infringement as well as monetary damages(compensatory and enhanced) and recovery of its attorneys’ fees and costs. Inconnection with the settlement of the Third Wave vs. Stratagene matters inJanuary 2007, Stratagene also dismissed without prejudice Stratagene’s lawsuitagainst Third Wave in the U.S. District Court in Delaware.

***Applera Corporation***

In November 2004, Stratagene received notice of apatent infringement suit filed by Applera Corporation against the Company andother parties in the United States District Court for the District ofConnecticut for alleged infringement of U.S. patent no. 6,814,934. TheStratagene products alleged to infringe are the Mx4000 and Mx3000P instrumentsand certain related reagents. In December 2004, Stratagene filed our answer tothe complaint responding that it does not infringe, directly or indirectly, anyvalid and enforceable claim of the ‘934 patent and asserting relatedcounterclaims of invalidity and non-infringement. In April 2006, the court helda Markman hearing and issued its claim construction.  Thereafter, the parties entered into anagreement to stay further discovery and motions pending the outcome ofsettlement negotiations between the parties. This agreement has now expired and discovery has been proceeding whilethe parties continue their negotiations. The case is now expected to be scheduled for a trial in 2008.  An estimate of the possible loss or range ofloss cannot be made at this time and the Company is unable to determine whetherthe outcome of the litigation could have a material impact on its results ofoperations, financial condition, or cash flows in any future period.

In June 2005, Stratagene received notice that Applerahad filed an infringement action against the Company in the DusseldorfDistrict Court in Germany relating to EP patent 0 872 562,the European counterpart of the ‘934 patent.  By decision of theOpposition Division of the European Patent Office dated January 7, 2005, the ‘562patent was revoked.  Based upon that revocation, Stratagene moved to staythe district court proceedings in July 2005.  That motion wasgranted.  On July 7, 2006, an appellatepanel of the European Patent Office reversed the revocation decision of theOpposition Division and remanded the case back to the Opposition Division forfurther consideration of additional invalidity grounds.  Applera moved to lift the stay in theDusseldorf District Court.  The courtgranted the motion and the proceedings have resumed.  The Dusseldorf District Court conducted atrial of this action on May 10, 2007. The trial court did not reach a decision on May 10, 2007, and it iscurrently expected that a decision will be made on June 14, 2007. The outcomeof the trial remains uncertain, but if the Court were to find that Stratageneinfringes the patent, the Court could enjoin Stratagene from further sales ofits current instruments in Germany and could force Stratagene to discloseinformation with regard of the past sales of the allegedly infringing productsand declare that Applera is entitled to damage claims against Stratagene.  Management has assessed the probability of anunfavorable outcome from the Dusseldorf courts decision and in accordance withSFAS No.5, has determined that a contingency accrual should be recorded in theMarch 31, 2007 financial statements.  Anevaluation of the amount of loss was made with the assistance of outside legalcounsel and management considered the guidance of FASB Interpretation No. 14(As amended), *Reasonable Estimation of the Amount of aLoss, an Interpretation of FASB Statement No. 5*. Based on thisguidance, the Company has recorded a loss contingency of $1.1 million relatedto possible monetary damages, court costs and interest related to our sales ofallegedly infringing products in the country of Germany during the patentperiod. The Company is unable to determine the ultimate outcome of this courtcase in Dusseldorf and will continue to vigorously defend itself in thismatter. If the Company is ultimately found to infringe the patent in suit, theoutcome of the litigation could differ from the Company’s estimate and have amaterial impact on its results of operations, financial condition, or cashflows in any future period.

***Ariadne Genomics***

In March 2005, Stratagene filed a demand forarbitration with the American Arbitration Association (“AAA”) against AriadneGenomics, Inc. (“Ariadne”) for declaratory relief and damages relating to theExclusive Marketing and Distribution Agreement (the “Agreement”) executed inDecember 2002 between the parties. Ariadne filed counterclaims in the AAA, which Stratagene denied.  The parties have now reached an amicablesettlement of this matter.  In October2005, Stratagene and Ariadne executed a Binding Settlement Agreement Term Sheet(the “Term Sheet”) to resolve all of the disputes, and the parties are in theprocess of completing a comprehensive Settlement Agreement.  In brief, the settlement memorialized in theTerm Sheet provides that Stratagene’s exclusive right to market, sell anddistribute the software products covered by the Agreement between the partieshas been confirmed, and that the term of that Agreement has been extendedthrough December 31, 2005.  In addition,Ariadne agreed to pay Stratagene a sum of $300,000 by December 31, 2005, whichwas paid.  All proceedings between theparties will be dismissed with prejudice, and all disputes in the United StatesPatent & Trademark Office will be dismissed by agreement. After executingthe Term Sheet, Stratagene and Ariadne entered into negotiations for acomprehensive

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settlement agreement, but have been unable to resolvecertain remaining issues.  Pursuant tothe Term Sheet, any remaining disputes regarding the settlement or the parties’claims against each other are to be submitted to binding arbitration before asingle neutral arbitrator in San Diego County. That arbitration occurred on February 27, 2006.  The arbitration decision was rendered onMarch 20, 2006, which affirmed and interpreted the parties’ Term Sheet andrequired certain actions on the part of both parties, none of which involvedthe payment of any amounts to the other party. Ariadne then filed a request that the arbitration award be revised oramended.  The arbitrator declined to doso in a ruling on April 19, 2006, declaring that the previous arbitration awardwas final and would not be changed.

***Bio-RadLaboratories, Inc.***

On November 20, 2006, Stratagene filed a complaint inthe United States District Court for the Southern District of California forpatent infringement against Bio-Rad Laboratories, Inc., MJ GeneWorks, and MJResearch, Inc. (both subsidiaries of Bio-Rad) for willful infringement ofUnited States Patent Nos. 6,054,263, 5,779,981, 5,288,647, and 5,395,591, whichare owned by Stratagene.  Stratageneseeks monetary damages (compensatory and enhanced), attorneys’ fees and costsand an injunction.  The complaint has now been served and Stratagene ispresently exploring settlement with Bio-Rad.

****StockholderLitigation****

On April 10, 2007, the Company was named a defendantin a complaint, captioned *David Whitney v.Stratagene Corporation et al.*, filed against Stratagene and theindividual members of its Board of Directors in the Superior Court of County ofSan Diego, State of California (Case No. 37-2007-0064779-CU-BT-CTL).  OnApril 19, 2007, the Company was named a defendant in a complaint, captioned *Iris Waegelin v. Stratagene Corporation et al.*,filed against Stratagene and the individual members of its Board of Directorsin the Superior Court of County of San Diego, State of California (Case No.37-2007-00065305-CU-SL-CTL).  Each of the complaints generally alleges,among other things, that the proposed sale of the Company to AgilentTechnologies, Inc., a Delaware corporation (“Agilent”), pursuant to theAgreement and Plan of Merger among the Company, Agilent and a wholly ownedsubsidiary of Agilent, dated as of April 5, 2007 (the “Merger Agreement”), wasthe result of an unfair process by which Stratagene and the individual membersof its Board of Directors violated applicable law by breaching applicablefiduciary duties of loyalty, due care, candor, independence, good faith andfair dealing.  Each of the complaintsseeks certification of the matter as a class action, a declaratory judgmentthat Stratagene’s proposed sale to Agilent pursuant to the Merger Agreement wasentered into in breach of Stratagene’s and each of its directors’ fiduciaryduties and is therefore unlawful and unenforceable, and an injunctionprohibiting the consummation of the merger contemplated by the MergerAgreement. The Company believes the claims asserted in the complaints arewithout merit and intends to vigorously defend against these actions.

***Other Legal Matters***

In October, 2005Stratagene realized pre-tax income of approximately $34.1 million from asettlement with Cambridge Antibody Technology related to certain patentrights.  This $34.1 million was offset bya $10.7 million royalty obligation related to this settlement due to a thirdparty. The amount due related to the third party has not been settled andremains accrued as of March 31, 2007.

During 2005, Stratagene paid $2.9 million in legalfees to an outside law firm that represented the Company in a litigation matterthat was tried before a jury. Subsequent to year end, Stratagene ended ourattorney/client relationship with this firm. Subsequent to year end, Stratageneindicated that it may pursue claims for damages against the outside law firmand the outside law firm indicated that it may adjust billing creditspreviously applied to payments made through the third quarter of 2005 in theamount of $1.1 million. Stratagene believes that it has fairly stated its legalexpenses in 2005 and 2006 after considering these unresolved issues.  As of March 31, 2007, accrued but unpaidlegal fees amounted to $1.0 million.

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**10. Segment Information**

The Company operates intwo business segments: research supplies and clinical diagnostics.  Segment information is as follows:
| ** **                             | ** ** | **Three Months Ended  March 31, 2007** | ** ** | **Three Months Ended  March 31, 2006** | ** ** |
|----------------------------------------|------------|------------------------------------------------------------|------------|------------------------------------------------------------|------------|
| ** **                             | ** ** | **Research  Supplies**                                     | ** ** | **Clinical  Diagnostics**                                  | ** ** | **Total** | ** ** | **Research  Supplies** | ** ** | **Clinical  Diagnostics** | ** ** | **Total** | ** ** |
| ** **                             | ** ** | ** **                                                 | ** ** | ** **                                                 | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Product sales from  external customers |       | $                                                          | 18,086,305 |                                                       | $          | 6,342,163 |   | $ | 24,428,468 |   | $ | 18,331,867 |   | $ | 5,923,627 |   | $ | 24,255,494 |   |
| Income before income taxes             |       | $                                                          | 91,336     |                                                       | $          | 1,956,914 |   | $ | 2,048,250 |   | $ | (11,154 | ) | $ | 1,668,599 |   | $ | 1,657,445 |   |

 

At March 31, 2007and December 31, 2006, total assets for each business segment were as follows:
| ** **   | ** ** | **March 31, 2007** | ** ** | **December 31, 2006** | ** ** |
|--------------|------------|------------------------------|------------|---------------------------------|------------|
| ** **   | ** ** | **Research  Supplies**       | ** ** | **Clinical  Diagnostics**       | ** ** | **Total** | ** ** | **Research  Supplies** | ** ** | **Clinical  Diagnostics** | ** ** | **Total** | ** ** |
| Total assets |       | $                            | 78,970,565 |                            | $          | 41,827,402 |   | $ | 120,797,967 |   | $ | 88,149,644 |   | $ | 41,426,557 |   | $ | 129,576,201 |   |
|              |            |                              |            |                                 |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

**11. Subsequent Event**

On April 5, 2007, theCompany entered into the Merger Agreement with Agilent and Jackson AcquisitionCorp., a Delaware corporation and wholly owned subsidiary of Agilent (“MergerSub”), pursuant to which Merger Sub would merge with and into the Company, withthe Company to be the surviving corporation of the merger (the “Merger”).  The Board of Directors of the Companyapproved the Merger Agreement and the transactions contemplated thereby on theunanimous recommendation of a special committee of the Board of Directors ofthe Company comprised solely of independent directors (the “Special Committee”),and each of the Special Committee and the Board of Directors has recommendedthat the Merger Agreement be submitted to the Company’s stockholders foradoption.

Subject to the terms andconditions of the Merger Agreement, at the effective time of the Merger (the “EffectiveTime”), each share of Company common stock that is issued and outstandingimmediately prior to the Effective Time will be converted into and representthe right to receive an amount of cash, without interest, equal to $10.94. Inaddition, each vested option to purchase Company common stock with an exerciseprice per share that is less than $10.94 and that is issued and outstandingimmediately prior to the Effective Time will be converted into and representthe right to receive an amount of cash, without interest, equal to the productof (i) the number of shares of Company common stock subject to such vestedCompany option multiplied by (ii) the sum of $10.94 minus the exercise priceper share of Company common stock subject to such vested Company option. Vested options to purchase Company common stock with an exercise price pershare equal to or greater than $10.94, and unvested options to purchase Companycommon stock, that are, in each case, issued and outstanding immediately priorto the Effective Time will be cancelled and extinguished without any payment orother consideration therefor or the issuance of any securities in exchange orsubstitution therefor.

In addition to certainother covenants, the Company has agreed pursuant to the Merger Agreement that,subject to certain exceptions with respect to an unsolicited superioracquisition proposal, the Company will not, from the date of the MergerAgreement until the earlier of the closing of the Merger or the termination ofthe Merger Agreement in accordance with its terms, (i) solicit, initiate,support or knowingly encourage any inquiry, proposal or offer from, furnish anynon-public information to, or participate in any discussions or negotiations,or enter into any agreement with, any party or group regarding any alternativetransaction to the Merger, (ii) approve, endorse or recommend any alternativetransaction to the Merger (except to the extent specifically permitted by theMerger Agreement), or (iii) enter into any letter of intent or contractrelating to any alternative transaction proposal. The Company has also agreedto prepare and file with the SEC a proxy statement in connection with thesolicitation of proxies from Company stockholders for adoption of the MergerAgreement and to convene and hold a special meeting of the Company’sstockholders to consider adoption of the Merger Agreement. On May 10, 2007, theCompany filed a definitive proxy statement with the SEC relating to the Mergerand has set June 6, 2007 as the date for the special meeting of Companystockholders to adopt the Merger Agreement.

The consummation of theMerger is subject to certain conditions set forth in the Merger Agreement,including, but not limited to, adoption of the Merger Agreement by the Company’sstockholders, there being no material adverse change with respect to theCompany, the expiration or termination of the applicable waiting period withrespect to the Merger  under the Hart-Scott-Rodino Antitrust ImprovementsAct of 1976, as amended, or the HSR Act, the receipt of approvals underantitrust, competition or similar laws of other foreign jurisdictions that arerequired to be obtained

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with respect to the Merger, the lack of any judgment,order, injunction or other legal prohibition entered or issued by any court orother governmental authority which prohibits, makes illegal or enjoins theconsummation of the Merger or the Divestiture (as hereinafter defined), thecontinued effectiveness of the agreements implementing the Divestiture andother customary closing conditions. On May 9, 2007, Stratagene and Agilentreceived confirmation of the early termination of the applicable waiting periodfor the Merger under the HSR Act.  TheMerger Agreement may be terminated by either the Company or Agilent undercertain circumstances, including, but not limited to, if (i) the Merger is notconsummated by August 31, 2007 (unless such termination date is extendedpursuant to the terms of the Merger Agreement), (ii) the Merger Agreement shallnot have been adopted by the stockholders of the Company in accordance with theMerger Agreement, and (iii) subject to satisfaction of certain conditions setforth in the Merger Agreement, the Special Committee changes its recommendationto Company stockholders to vote in favor of adopting the Merger Agreement as aresult of the Company’s receipt of an unsolicited alternative transactionproposal that the Special Committee and the Board of Directors of the Companyeach determine is more favorable to the Company’s stockholders from a financialpoint of view than the terms of the Merger Agreement and is reasonably likelyto be consummated on the terms proposed (a “Change of Recommendation”). If the Merger Agreement is terminated under certain circumstances, includingtermination of the Merger Agreement by either the Company or Agilent upon aChange of Recommendation, subject to the terms and conditions of the MergerAgreement, the Company will be required to pay to Agilent a termination fee of$8,500,000. No assurances can be given that the conditions to closing thetransactions contemplated by the Merger Agreement will be satisfied, or thatthe transactions contemplated thereby ultimately will be consummated.  Theclosing of the Merger is expected to occur in the second quarter of 2007.

In connection with theexecution of the Merger Agreement, Agilent entered into a Voting Agreement (the“Voting Agreement”), dated as of April 5, 2007, with Joseph A. Sorge, M.D., theChairman of the Board, Chief Executive Officer and President of the Company,and certain trusts and entities controlled by Dr. Sorge (collectively, the “PrincipalStockholders”) which, as of the date of the Voting Agreement, beneficiallyowned, collectively, an aggregate of approximately 58.6% of the Company’svoting securities. Pursuant to the Voting Agreement, the Principal Stockholdershave agreed, among other things, (a) not to sell or otherwise transfer sharesof Company capital stock owned by such stockholders as of the date of theVoting Agreement or acquired subsequent thereto to any third party, subject tocertain limited exceptions (including sales of Company common stock held by Dr.Sorge pursuant to the terms of the 10b5-1(c) Sales Plan between Dr. Sorgeand Pacific Growth Equities, LLC dated as of June 8, 2006), (b) to voteall shares of the Company’s capital stock owned by them in favor of theadoption of the Merger Agreement and the transactions contemplated thereby,including the Merger (and against any proposal made in opposition to, or incompetition with, consummation of the Merger and the other transactionscontemplated by the Merger Agreement), (c) not to solicit, initiate, support orknowingly encourage any inquiry or proposal from, furnish any non-publicinformation concerning the Company and/or its subsidiaries to, or participatein any discussions or negotiations with, any person regarding any alternativetransaction to the Merger, and (d) not to approve, endorse or recommend anyalternative transaction (except to the extent expressly permitted by the MergerAgreement).  In addition, each Principal Stockholder has granted to theofficers of Agilent an irrevocable proxy to vote its shares of Company commonstock at every meeting of the stockholders of the Company, and with respect toevery written consent of the Company stockholders in lieu of any such meeting,as described above.  The Voting Agreement will terminate simultaneouslywith the consummation of the Merger, the termination of the Merger Agreement inaccordance with its terms or, subject to certain conditions, upon a Change ofRecommendation pursuant to the Merger Agreement.

On April 5, 2007, theCompany also entered into an Asset Purchase Agreement (the “Asset PurchaseAgreement”) with Catalyst Assets LLC, a Delaware limited liability company ofwhich Dr. Sorge is the sole member (“Catalyst”), and Agilent entered into aLicense Agreement (the “License Agreement”) with Catalyst, pursuant to which,among other things, following the Effective Time, the Company will sell,transfer and assign to Catalyst, certain assets (which include, among otherthings, certain patent rights, a parcel of real property owned by the Companylocated in Jackson, Wyoming, certain tangible assets located at the facility onsuch real property, and certain contractual arrangements and their relatedobligations) for an aggregate cash purchase price of $6,600,000, the appraisedvalue of such assets, and Agilent will grant to Catalyst a non-exclusive,non-transferable, world-wide, fully paid, royalty free license to certainintellectual property and Agilent will be provided certain rights to supply,manufacture and distribute certain products (the transactions contemplated bythe Asset Purchase Agreement and the License Agreement, collectively, the “Divestiture”). Pursuant to the Asset Purchase Agreement, Catalyst has agreed, among otherthings, not to directly or indirectly engage in or participate in thefinancing, operation, management or control of, or permit Catalyst’s name to beused in connection with, any person or business that engages or participates ina Competing Business Purpose (as defined in the Asset Purchase Agreement)during the three-year period following the closing of the transactionscontemplated by the Asset Purchase Agreement.

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Also in connection withthe proposed Merger, Dr. Sorge entered into a Severance Waiver Agreement (the “SeveranceWaiver Agreement”) with the Company pursuant to which, subject to andconditioned upon the consummation of the Merger, Dr. Sorge and the Company haveagreed that Dr. Sorge’s employment with the Company will be terminated by theCompany effective immediately prior to the Effective Time and Dr. Sorge willwaive his rights to all cash severance benefits and retain his rights to allnon-cash severance benefits from the Company in connection with the Merger,including under his existing employment agreement with the Company.  Inaddition, Dr. Sorge entered into a Non-Competition Agreement (the “Non-CompetitionAgreement”) with Agilent pursuant to which Dr. Sorge has agreed, among other things,not to, directly or indirectly, engage in or participate in the financing,operation, management or control of, or permit his name to be used inconnection with, any person or business that engages or participates in aCompeting Business Purpose (as defined in the Non-Competition Agreement) duringthe three-year period following the Effective Time.  Each of the AssetPurchase Agreement, the License Agreement, the Severance Waiver Agreement andthe Non-Competition Agreement will automatically terminate in the event theMerger Agreement is terminated in accordance with its terms.

The foregoing descriptions of the Merger Agreement,the Voting Agreement, the Asset Purchase Agreement, the License Agreement, theSeverance Waiver Agreement and the Non-Competition Agreement and thetransactions contemplated thereby do not purport to be complete and arequalified in their entirety by the terms of the Merger Agreement, the VotingAgreement, the Asset Purchase Agreement, the License Agreement, the SeveranceWaiver Agreement and the Non-Competition Agreement, which were filed with theSEC on April 11, 2007 as Exhibits 2.1, 10.1, 10.2, 10.3, 10.4 and 10.5,respectively, to the Company’s Current Report on Form 8-K.

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

*The following information should beread in conjunction with the financial**statements and the related notes included in Item 1of Part I of this Quarterly**Reporton Form 10-Q and with the financial statements and related notes included inour Annual Report on Form 10-K for the year ended December 31, 2006. Ourfinancial**information includesthe accounts and balances of Stratagene**Corporation and its subsidiaries on a consolidated basis.*

*This “Management’s Discussion andAnalysis of Financial Condition and**Results of Operations” and other sections of thisQuarterly Report on Form 10-Q**containforward-looking statements and include assumptions concerning our operations,future results and prospects. These forward-looking**statements are based on current expectations and aresubject to a number of**risks,uncertainties and other factors. Our actual results could**differ materially from those expressed in or impliedby these forward-looking**statementsas a result of various factors, including those set forth below under “RiskFactors.”*

**Cautionary Note RegardingForward-Looking Statements**

This Quarterly Report on Form 10-Q includes “forward-lookingstatements” intended to qualify for the safe harbor from liability established bythe Private Securities Litigation Reform Act of 1995.  Some of the statements in this QuarterlyReport on Form 10-Q, including, but not limited to, statements contained in the“Management’s Discussion and Analysis of Financial Condition and Results of Operations,”are forward-looking statements within the meaning of Section 27A of theSecurities Act of 1933, as amended, and Section 21E of the Securities ExchangeAct of 1934, as amended. These statements are therefore entitled to theprotection of the safe harbor provisions of these laws. We generally identifyforward-looking statements in this Annual Report by using words such as “believe,”“intend,” “target,” “expect,” “estimate,” “may,” “should,” “plan,” “project,” “contemplate,”“anticipate,” “predict” or similar expressions. You can also identifyforward-looking statements by discussions of strategies, plans or intentions,among other things. These statements involve known and unknown risks,uncertainties and other factors that may cause our actual results, levels ofactivity, performance or achievements to be materially different from anyfuture results, levels of activity, performance or achievements expressed orimplied by these forward-looking statements. These factors include the absenceof a public market for our common stock prior to the Hycor merger, our abilityto introduce new products and the acceptance of these products by themarketplace, competition, the inability to sell products as a result of thepossible termination of license agreements, fluctuations in operating results,dependence on key employees, our indebtedness, future capital requirements, thepossibility of unproductive research and development projects, ability tomanage growth, price volatility of our common stock, the impact of future salesof common stock on our stock price, potential declines in research anddevelopment budgets or funding, our ongoing ability to protect our ownintellectual property rights and avoid violating the intellectual propertyrights of third parties and our ability to consummate the Merger pursuant tothe Merger Agreement.

Although we believe that the expectations reflected inour forward-looking statements are reasonable, we cannot guarantee futureresults, events, levels of activity, performance or achievement. Anyforward-looking statements are made pursuant to the Private SecuritiesLitigation Reform Act of 1995 and, as such, speak only as of the datemade.  We undertake no obligation topublicly update or revise any forward-looking statements, whether as a resultof new information, future events or otherwise, unless required by law.

**Recent Developments**

On April 5, 2007, theCompany entered into an Agreement and Plan of Merger (the “Merger Agreement”)with Agilent Technologies, Inc., a Delaware corporation (“Agilent”), andJackson Acquisition Corp., a Delaware corporation and wholly owned subsidiaryof Agilent (“Merger Sub”), pursuant to which Merger Sub would merge with andinto the Company, with the Company to be the surviving corporation of the merger(the “Merger”).  The Board of Directorsof the Company approved the Merger Agreement and the transactions contemplatedthereby on the unanimous recommendation of a special committee of the Board ofDirectors of the Company comprised solely of independent directors (the “SpecialCommittee”), and each of the Special Committee and the Board of Directors hasrecommended that the Merger Agreement be submitted to the Company’sstockholders for adoption.

Subject to the terms andconditions of the Merger Agreement, at the effective time of the Merger (the “EffectiveTime”), each share of Company common stock that is issued and outstandingimmediately prior to the Effective Time will be converted into and representthe right to receive an amount of cash, without interest, equal to $10.94.

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In addition, each vested option to purchase Companycommon stock with an exercise price per share that is less than $10.94 and thatis issued and outstanding immediately prior to the Effective Time will beconverted into and represent the right to receive an amount of cash, withoutinterest, equal to the product of (i) the number of shares of Company commonstock subject to such vested Company option multiplied by (ii) the sum of$10.94 minus the exercise price per share of Company common stock subject tosuch vested Company option.  Vested options to purchase Company commonstock with an exercise price per share equal to or greater than $10.94, andunvested options to purchase Company common stock, that are, in each case, issuedand outstanding immediately prior to the Effective Time will be cancelled andextinguished without any payment or other consideration therefore or theissuance of any securities in exchange or substitution therefore.

In addition to certainother covenants, the Company has agreed pursuant to the Merger Agreement that,subject to certain exceptions with respect to an unsolicited superioracquisition proposal, the Company will not, from the date of the MergerAgreement until the earlier of the closing of the Merger or the termination ofthe Merger Agreement in accordance with its terms, (i) solicit, initiate,support or knowingly encourage any inquiry, proposal or offer from, furnish anynon-public information to, or participate in any discussions or negotiations,or enter into any agreement with, any party or group regarding any alternativetransaction to the Merger, (ii) approve, endorse or recommend any alternativetransaction to the Merger (except to the extent specifically permitted by theMerger Agreement), or (iii) enter into any letter of intent or contractrelating to any alternative transaction proposal. The Company has also agreedto prepare and file with the SEC a proxy statement in connection with thesolicitation of proxies from Company stockholders for adoption of the MergerAgreement and to convene and hold a special meeting of the Company’sstockholders to consider adoption of the Merger Agreement. On May 10, 2007, theCompany filed a definitive proxy statement with the SEC relating to the Mergerand has set June 6, 2007 as the date for the special meeting of Companystockholders to adopt the Merger Agreement.

The consummation of theMerger is subject to certain conditions set forth in the Merger Agreement,including, but not limited to, adoption of the Merger Agreement by the Company’sstockholders, there being no material adverse change with respect to theCompany, the expiration or termination of the applicable waiting period withrespect to the Merger  under the Hart-Scott-Rodino Antitrust ImprovementsAct of 1976, as amended, or the HSR Act, the receipt of approvals underantitrust, competition or similar laws of other foreign jurisdictions that arerequired to be obtained with respect to the Merger, the lack of any judgment,order, injunction or other legal prohibition entered or issued by any court orother governmental authority which prohibits, makes illegal or enjoins theconsummation of the Merger or the Divestiture (as hereinafter defined), thecontinued effectiveness of the agreements implementing the Divestiture andother customary closing conditions. On May 9, 2007, Stratagene and Agilentreceived confirmation of the early termination of the applicable waiting periodfor the Merger under the HSR Act.  TheMerger Agreement may be terminated by either the Company or Agilent undercertain circumstances, including, but not limited to, if (i) the Merger is notconsummated by August 31, 2007 (unless such termination date is extendedpursuant to the terms of the Merger Agreement), (ii) the Merger Agreement shallnot have been adopted by the stockholders of the Company in accordance with theMerger Agreement, and (iii) subject to satisfaction of certain conditions setforth in the Merger Agreement, the Special Committee changes its recommendationto Company stockholders to vote in favor of adopting the Merger Agreement as aresult of the Company’s receipt of an unsolicited alternative transactionproposal that the Special Committee and the Board of Directors of the Companyeach determine is more favorable to the Company’s stockholders from a financialpoint of view than the terms of the Merger Agreement and is reasonably likelyto be consummated on the terms proposed (a “Change of Recommendation”). If the Merger Agreement is terminated under certain circumstances, includingtermination of the Merger Agreement by either the Company or Agilent upon aChange of Recommendation, subject to the terms and conditions of the MergerAgreement, the Company will be required to pay to Agilent a termination fee of$8,500,000. No assurances can be given that the conditions to closing thetransactions contemplated by the Merger Agreement will be satisfied, or thatthe transactions contemplated thereby ultimately will be consummated.  Theclosing of the Merger is expected to occur in the second quarter or thebeginning of the third quarter of 2007.

In connection with theexecution of the Merger Agreement, Agilent entered into a Voting Agreement (the“Voting Agreement”), dated as of April 5, 2007, with Joseph A. Sorge, M.D., theChairman of the Board, Chief Executive Officer and President of the Company,and certain trusts and entities controlled by Dr. Sorge (collectively, the “PrincipalStockholders”) which, as of the date of the Voting Agreement, beneficially owned,collectively, an aggregate of approximately 58.6% of the Company’s votingsecurities. Pursuant to the Voting Agreement, the Principal Stockholders haveagreed, among other things, (a) not to sell or otherwise transfer shares ofCompany capital stock owned by such stockholders as of the date of the VotingAgreement or acquired subsequent thereto to any third party, subject to certainlimited exceptions (including sales of Company common stock held by Dr. Sorgepursuant to the terms of the 10b5-1(c) Sales Plan between Dr. Sorge andPacific Growth Equities, LLC dated as of June 8, 2006), (b) to vote allshares of the Company’s capital stock owned by them in favor of the adoption ofthe Merger Agreement and the transactions contemplated thereby, including theMerger (and against any proposal made in opposition to, or in competition with,consummation of the Merger and the other

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transactions contemplated by the Merger Agreement),(c) not to solicit, initiate, support or knowingly encourage any inquiry orproposal from, furnish any non-public information concerning the Company and/orits subsidiaries to, or participate in any discussions or negotiations with,any person regarding any alternative transaction to the Merger, and (d) not toapprove, endorse or recommend any alternative transaction (except to the extentexpressly permitted by the Merger Agreement).  In addition, each PrincipalStockholder has granted to the officers of Agilent an irrevocable proxy to voteits shares of Company common stock at every meeting of the stockholders of theCompany, and with respect to every written consent of the Company stockholdersin lieu of any such meeting, as described above.  The Voting Agreementwill terminate simultaneously with the consummation of the Merger, the terminationof the Merger Agreement in accordance with its terms or, subject to certainconditions, upon a Change of Recommendation pursuant to the Merger Agreement.

On April 5, 2007, theCompany also entered into an Asset Purchase Agreement (the “Asset PurchaseAgreement”) with Catalyst Assets LLC, a Delaware limited liability company ofwhich Dr. Sorge is the sole member (“Catalyst”), and Agilent entered into aLicense Agreement (the “License Agreement”) with Catalyst, pursuant to which,among other things, following the Effective Time, the Company will sell,transfer and assign to Catalyst, certain assets (which include, among otherthings, certain patent rights, a parcel of real property owned by the Companylocated in Jackson, Wyoming, certain tangible assets located at the facility onsuch real property, and certain contractual arrangements and their relatedobligations) for an aggregate cash purchase price of $6,600,000, the appraisedvalue of such assets, and Agilent will grant to Catalyst a non-exclusive,non-transferable, world-wide, fully paid, royalty free license to certainintellectual property and Agilent will be provided certain rights to supply,manufacture and distribute certain products (the transactions contemplated bythe Asset Purchase Agreement and the License Agreement, collectively, the “Divestiture”). Pursuant to the Asset Purchase Agreement, Catalyst has agreed, among otherthings, not to directly or indirectly engage in or participate in thefinancing, operation, management or control of, or permit Catalyst’s name to beused in connection with, any person or business that engages or participates ina Competing Business Purpose (as defined in the Asset Purchase Agreement)during the three-year period following the closing of the transactionscontemplated by the Asset Purchase Agreement.

Also in connection withthe proposed Merger, Dr. Sorge entered into a Severance Waiver Agreement (the “SeveranceWaiver Agreement”) with the Company pursuant to which, subject to andconditioned upon the consummation of the Merger, Dr. Sorge and the Company haveagreed that Dr. Sorge’s employment with the Company will be terminated by theCompany effective immediately prior to the Effective Time and Dr. Sorge willwaive his rights to all cash severance benefits and retain his rights to allnon-cash severance benefits from the Company in connection with the Merger,including under his existing employment agreement with the Company.  Inaddition, Dr. Sorge entered into a Non-Competition Agreement (the “Non-CompetitionAgreement”) with Agilent pursuant to which Dr. Sorge has agreed, among otherthings, not to, directly or indirectly, engage in or participate in thefinancing, operation, management or control of, or permit his name to be usedin connection with, any person or business that engages or participates in aCompeting Business Purpose (as defined in the Non-Competition Agreement) duringthe three-year period following the Effective Time.  Each of the AssetPurchase Agreement, the License Agreement, the Severance Waiver Agreement andthe Non-Competition Agreement will automatically terminate in the event theMerger Agreement is terminated in accordance with its terms.

The foregoing descriptions of the Merger Agreement,the Voting Agreement, the Asset Purchase Agreement, the License Agreement, theSeverance Waiver Agreement and the Non-Competition Agreement and thetransactions contemplated thereby do not purport to be complete and arequalified in their entirety by the terms of the Merger Agreement, the VotingAgreement, the Asset Purchase Agreement, the License Agreement, the SeveranceWaiver Agreement and the Non-Competition Agreement, which were filed with theSEC on April 11, 2007 as Exhibits 2.1, 10.1, 10.2, 10.3, 10.4 and 10.5,respectively, to the Company’s Current Report on Form 8-K.

**Overview**

We develop and manufacture biological products,instruments and software designed to improve the speed and accuracy of lifesciences research and clinical diagnosis. We market our products to researchersand clinicians in clinical laboratories and academic, hospital and governmentinstitutions, as well as to scientists in pharmaceutical and biotechnologycompanies, in the U.S. and internationally. Scientists and clinicians use ourproducts to identify genes and proteins, study how genes and proteins regulatecells, determine the molecular mechanisms of health and disease, search for newdrug therapies, and develop diagnostic tests.

We engage in business activity in two operatingsegments: Research Supplies and Clinical Diagnostics. We have marketed and soldour Research Supplies products for over 20 years, while the ClinicalDiagnostics products are a

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new addition to our product portfolio as a result ofthe merger with Hycor Biomedical Inc. in June 2004. Hycor’s experience inmanufacturing and marketing Food and Drug Administration, or FDA, regulatedclinical diagnostic products also spans more than 20 years.

**Basis of Presentation**

Our financial information has been presented on aconsolidated basis. The results of operations for any interim period are notnecessarily indicative of results to be expected for the full year or for anysubsequent interim period.

**Critical Accounting Policies andEstimates**

Our consolidated financial statements are prepared inaccordance with accounting principles generally accepted in the United Statesof America and management is required to make certain estimates, judgments andassumptions that affect the reported amounts of assets and liabilities at thedate of the financial statements and the reported amounts of revenues andexpenses during the periods presented. The significant accounting policies thatwe believe are the most critical to aid in fully understanding and evaluatingour reported financial results include the following:

***Use of Estimates***

Preparing the financial statements in conformity withaccounting principles generally accepted in the United States requiresmanagement to make estimates and assumptions that affect the amounts reportedin the consolidated financial statements and disclosures made in theaccompanying notes. Actual results could differ from those estimates.

***Share-BasedCompensation***

Under our 2000 Stock Option Plan, as amended andrestated and our 2004 Director Plan, we grant share-based awards to eligibleemployees and directors to purchase shares of our common stock. In addition, wehave a qualified ESPP in which eligible employees may elect to withhold up to15% of their compensation up to a maximum of $25,000 of the fair market valueof the common stock per calendar year, withheld through payroll deductions, topurchase shares of common stock under the ESPP. The price of the common stockpurchased under the ESPP will be equal to 85% of the fair market value of thecommon stock on the offering or purchase date, whichever is lower.

The benefits provided by these plans qualify asshare-based compensation under the provisions SFAS No. 123(R), which requiresus to recognize compensation expense based on their estimated fair valuesdetermined on the date of grant for all share-based awards granted, modified orcancelled as of January 1, 2006 (the effective date). Prior to theeffective date, we did not recognize any compensation cost in our incomestatements for share-based awards granted with an option price equal to thefair market value of the our common stock on the date of grant or employeestock purchase rights as we accounted for them under the recognition andmeasurement principles of APB No. 25, and its related interpretations andadopted the disclosure only provisions of SFAS No. 123.

We adopted SFAS No. 123(R) on January 1, 2006using the modified-prospective-transition method. Under this method,share-based compensation cost is measured at the grant date based on theestimated fair value of the award and is recognized as expense over theemployee’s requisite service period. For the three months ended March 31,2007 and 2006, we recognized $0.3 million and $0.2 million of compensationexpense for employee stock options, respectively. At March 31, 2007 and2006, there was $1.1 million and $0.8 million remaining in unrecognizedcompensation cost related to employee stock options, respectively, which areexpected to be recognized over a weighted average period of 2.0 years and 1.5years, respectively.

We estimate the fair value of share-based awards onthe date of grant using the Black-Scholes option-pricing model (Black-Scholesmodel), which was also used for the pro forma information required to bedisclosed under SFAS No. 123. The determination of fair value of share-basedawards using an option-pricing model requires the use of certain estimates andassumptions that affect the reported amount of share-based compensation costrecognized in our Consolidated Income Statements. Among these include estimatesof the risk-free interest rate, expected dividends, expected volatility of ourstock price, the expected term of share-based awards, and the forfeiture rate.These estimates and assumptions are highly subjective and may result inmaterially different amounts should circumstances change and we employdifferent assumptions in our application of SFAS No. 123(R) in future periods.

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For share-based awards issued during the three monthsended March 31, 2007, the risk-free interest rate assumption is based uponobserved interest rates appropriate for the expected terms of our employeestock options.  We paid a special $0.25per share dividend to stockholders on January 6, 2006 as a result of asettlement with Cambridge Antibody Technology, but this dividend was notconsidered in the dividend yield of 0.0% as we have no intentions of payingcash dividends in the foreseeable future. The volatility factor was calculated based on the historical volatilityof the Hycor and Stratagene stock prices and the consideration of trends andfuture events.  The expected life ofemployee stock options represents the weighted-average period the stock optionsare expected to remain outstanding and is calculated using the simplifiedmethod as described in the SEC’s SAB No. 107. Using the simplified method, options granted to employees with a fouryear vesting schedule have an expected life of 6.25 years and options grantedto directors with a three year vesting schedule have an expected life of 6years.  The post-vesting forfeiture rateis based on our historical option cancellation information and was normalizedfor significant non-recurring employee terminations that occurred related tothe merger with Hycor.

***Revenue Recognition***

We recognize revenue from research supplies,diagnostic and basic instrumentation product sales under the provisions ofStaff Accounting Bulletin, or SAB, No. 104, *RevenueRecognition,*which is generally when we ship our products, transfertitle and eliminate our risk of loss. In accordance with Statement of Position,or SOP, No. 97-2, *Software RevenueRecognition*, as amended by SOP No. 98-9, for instrumentationproducts where software is considered more than incidental to the product, werecognize revenue when persuasive evidence of an arrangement exists, deliveryhas occurred, the sales price is fixed or determinable and collectibility isprobable. Generally, these criteria are met at the time we ship the product andtransfer the title. When contractual acceptance clauses exist, we recognizerevenue upon satisfaction of such clauses. We record amounts received inadvance of performance or acceptance as deferred revenue.

The following table summarizes the types of deferredrevenue and the timing of when we recognize that revenue:
| **Type of  deferred revenue**                       | ** ** | **When recognized**                                                                                                                                                                                                                      |
|-----------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| Extended  warranty or maintenance agreements        |       | Recognized over the term of the contract, generally  12 months. In most cases, these contracts were sold at the time of product purchase  and the recognition of revenue begins after the warranty period, which is  generally one year. |
|                                                |       |                                                                                                                                                                                                                                     |
| License  agreements                                 |       | Recognized over the term of the agreement, generally  12 months.                                                                                                                                                                         |
|                                                |       |                                                                                                                                                                                                                                     |
| Collaboration  agreements — milestone payments |       | Recognized over the period that the specified  services or products are delivered and accepted by the customer.                                                                                                                          |

 

The following table provides the percentage of theending balance in deferred revenue that each type of deferred revenuerepresents as of March 31, 2007 and December 31, 2006:
| **Type of deferred revenue**               | ** ** | **March 31,  2007** | ** ** | **December 31,  2006** | ** ** |
|-----------------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| Extended  warranty, installation or maintenance agreement |       | 31                       | %          | 41                          | %          |
| License  agreements                                       |       | 18                       | %          | 23                          | %          |
| Collaboration  agreements — milestone payments       |       | 51                       | %          | 36                          | %          |
| Total deferred revenue                                    |       | 100                      | %          | 100                         | %          |

 

Someof our agreements contain multiple elements. Emerging Issues Task Force (“EITF”)No. 00-21, *Revenue Arrangements withMultiple Deliverables,* provides guidance on accounting forarrangements that involve the delivery or performance of multiple products,services, or rights to use assets within contractually binding arrangements. Werecognize revenue for delivered elements in accordance with SAB No. 104 and ourrevenue recognition policy only when we determine that the earnings process iscomplete and all events for recognition of contract revenue have been achieved.

Some of our agreements also contain milestonepayments. Revenue from a milestone achievement is recognized when earned, asevidenced by acknowledgement from our collaborator, provided that (i) themilestone event is substantive, (ii) the milestone represents theculmination of an earnings process, (iii) the milestone payment isnon-refundable and (iv) there are no further performance obligations onthe part of Stratagene. If all of these criteria are not met, the milestoneachievement is recognized over the remaining minimum period of our performanceobligations under the agreement.

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***Accounts Receivable***

We perform ongoing credit evaluations of our customersand adjust credit limits based upon payment history and the customer’s currentcreditworthiness. We regularly monitor collections and payments from customersand maintain a provision for estimated credit losses based upon historicalexperience and any specific customer collection issues that have beenidentified. Our credit losses have historically been within expectations andthe provisions established.

***Inventories***

We value inventories at the lower of the actual costto purchase and/or manufacture the inventory or the current estimated marketvalue of the inventory. We regularly review inventory quantities on hand andrecord a provision for excess and obsolete inventory on specifically identifieditems based primarily on an estimated forecast of product demand and productionrequirements. Our losses from disposal of excess or obsolete inventory have historicallybeen within expectations and the provisions established. However, our estimatesof future product demand may prove to be inaccurate, in which case we may haveunderstated or overstated the provision required for excess and obsoleteinventory. In addition, rapid technological change or new product developmentcould result in an increase in the quantity of obsolete inventory on hand. Inthe future, if our inventory is determined to be overvalued, we would berequired to recognize such costs in our cost of products sold at the time ofsuch determination. Likewise, if our inventory is determined to be undervalued,we may have over-reported our cost of products sold in previous periods andwould be required to recognize such additional operating income at the time ofsale or disposition.

Additionally, our manufacturing costs and inventorycarrying costs are dependent on our accurate estimates of customer demand forour products. A significant increase in the demand for our products couldresult in a short-term increase in the cost of inventory purchases, while asignificant decrease in demand could result in an increase in the amount ofexcess inventory quantities on hand and increase the expense of storing andmaintaining the inventory until it is sold. As a result, although we attempt tomaximize the accuracy of our forecasts of future product demand, anysignificant unanticipated changes in demand or technological developments couldhave a significant impact on the value of our inventory and our reportedoperating results.

***Income Taxes***

Deferred taxes - Our deferred tax assets relate toprior operating losses that are available to offset future taxable income andtax credits that are available to offset future income taxes. We also recognizedeferred taxes for differences between the financial statement carrying amountsand the tax bases of assets and liabilities. We evaluate a variety of factorsin determining the amount of deferred income tax assets to be recognizedpursuant to SFAS, No. 109, *Accounting for**Income Taxes*.

FIN 48 - Effective January 1, 2007, we adoptedFinancial Accounting Standards Board, or FASB, Interpretation No. 48,Accounting for *Uncertainty in Income Taxes — aninterpretation of SFAS No. 109*, or FIN No. 48, which prescribes arecognition threshold and measurement process for recording in the financialstatements uncertain tax positions taken or expected to be taken in a taxreturn. Additionally, FIN No. 48 provides guidance on the derecognition,classification, accounting in interim periods and disclosure requirements foruncertain tax positions.

***Long-lived Assets***

We account for long-lived assets in accordance withthe provisions of SFAS No. 142, *Goodwill andIntangibles,*and SFAS No. 144, *Accountingfor the Impairment or Disposal of Long-Lived Assets.*TheseStatements require that long-lived assets and certain identifiable intangibleassets be reviewed annually for impairment or whenever events or changes incircumstances indicate that the carrying amount of an asset may not berecoverable. Recoverability of assets to be held and used is measured by acomparison of the carrying amount of the asset to the future net undiscountedcash flows expected to be generated by the asset. With the acquisition of Hycorin the second quarter of 2004, we have substantial amortizable andnon-amortizable long-lived assets (including goodwill) that are reviewed forimpairment annually and when there is an indication that the carrying value ofan asset may not be recoverable. If such assets are considered to be impaired,the impairment we would recognize is measured by the amount by which the carryingamount of the assets exceeds the fair value of the assets. Assets to bedisposed of are reported at the lower of the carrying amount or fair value lesssale costs.

***Royalties***

We enter into license agreements in the ordinarycourse of our business, which require royalty payments to be made based onspecified product sales. These agreements cover the majority of our products.We believe that we determine the royalties we calculate and accrue inaccordance with the patent license agreement. However, our

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royalty calculations are subject to review by thelicense holder. Therefore, our financial position, results of operations, orcash flows could be materially affected if the parties determine that theroyalties differ significantly from the amounts we have recorded. From mid-2003through late 2005, we withheld payments to a license holder while we evaluateda possible overpayment in the royalties we paid in prior periods. During thistime, we continued to accrue and record the estimated quarterly royalty payableunder the patent license agreement and reported this amount to the licenseholder. As of March 31, 2007, the amount of accrued and unpaid royaltiesrelated to this patent license agreement was approximately $5.2 million.

***Warranties***

We generally warrant certain equipment against defectsin workmanship or materials for a period of one year from the date of purchase.Upon shipment of equipment sold that includes a warranty, we establish, as partof cost of products sold, a provision for the expected costs of such warranty.While our warranty costs have historically not been significant, we cannotguarantee that we will continue to experience the same warranty return andrepair rates that we have in the past. A significant increase in product returnand repair rates could have a material adverse impact on operating results forthe period or periods in which such items materialize.

***Research andDevelopment***

We focus our research and development efforts ondeveloping products that use innovative technologies in both our ResearchSupplies and Clinical Diagnostics product lines. Research and development costsare expensed as incurred. For the three months ended March 31, 2007 and for theyear ended December 31, 2006, our research and development expenses totaled approximately$3.1 million and $12.5 million, respectively, and we expect to spend between13% and 15% of our revenues on research and development activities for at leastthe next few years.

We have numerous ongoing research and developmentinitiatives. Some of the efforts are for new product technologies, while othersare designed to support an existing product or products relating to one of ourmore than 4,000 stock keeping units, which cover approximately 85 existingproduct categories. In addition, the funds we used in our research anddevelopment activities are allocated among the various technologies andproducts in which we are currently involved and are not concentrated to onespecific product or product line.

We do not provide forward-looking estimates of costsand time to complete any of our individual ongoing research and developmentprojects because none of such projects are material to our company on anindividual basis. In addition, any such estimates would be subject to a numberof risks and uncertainties, including our ability to predict the outcome ofcomplex research, competition from other entities of which we may become awarein future periods, predictions of market potential from products that may bederived from our research and development efforts and our ability to recruitand retain personnel with the necessary knowledge and skills to perform therequired research activities.

**Results of Operations**

***Three months ended March 31, 2007 compared to three monthsended March 31, 2006***

**Revenues**

For the three monthsended March 31, 2007, total revenue increased approximately $0.2 million or0.7% compared to the three months ended March 31, 2006. The increase in revenuewas primarily the result of increases in our allergy and autoimmune product linesfrom our clinical diagnostics segment of approximately $0.3 million, or 11.8%,for the three months ended March 31, 2007, as compared to sales in those sameproduct lines for the three months ended March 31, 2006.  This increase was offset by decreased contractrevenue of $0.2 million for the three months ended March 31, 2007 as comparedto the three months ended March 31, 2006.

As a result of theweakening U.S. dollar, we recorded a positive foreign exchange rate impact torevenue of approximately $0.6 million or 2.5% of total revenue for the threemonths ended March 31, 2007 when compared to the foreign exchange rates for thethree months ended March 31, 2006.

We expect that futurerevenue will depend on a number of factors, including the market acceptance ofnew products, competitive conditions, currency fluctuations and the continuedfunding of customer research budgets.

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**Cost ofproduct sales**

Cost of product salesremained flat for the three months ended March 31, 2007 compared to the threemonths ended March 31, 2006.  As apercentage of sales, cost of product sales decreased from 36.2% for the threemonths ended March 31, 2006 to 35.3% for the three months ended March 31, 2007.

**Researchand Development Expenses**

Research and developmentexpenses decreased approximately $0.3 million or 9.6% for the three monthsended March 31, 2007 compared to the three months ended March 31, 2006,primarily due to deferral of costs related to deferred contract revenues duringthe three months ended March 31, 2007 compared to the three months ended March31, 2006.  We also recognized decreasedsoftware development expense related to the development agreement with StrandLife Sciences to develop a suite of next generation software solution productsfor sale.  As a percentage of totalrevenue, research and development expenses decreased from 14.0% for the threemonths ended March 31, 2006 to 12.5% for the three months ended March 31, 2007.

**Sellingand Marketing Expenses**

Selling and marketingexpenses decreased approximately $1.1 million, or 19.6%, for the three monthsended March 31, 2007 compared to the three months ended March 31, 2006. Thedecrease in spending was due to decreased costs for selling and marketingpersonnel as well as decreased marketing communications expense for the threemonths ended March 31, 2007 as compared to the three months ended March 31,2006.  As a percentage of total revenue,selling and marketing expenses decreased from 23.0% for the three months endedMarch 31, 2006 to 18.3% for the three months ended March 31, 2007.

**Generaland Administrative Expenses**

General andadministrative expenses increased approximately $0.3 million, or 6.1%, for thethree months ended March 31, 2007 compared to the three months ended March 31,2006.  This increase was due to legal andprofessional fees of approximately $0.8 million related to our proposedacquisition by Agilent, offset by a $0.7 million decrease in legal feesassociated with patent litigation. Additionally, the increase was due to approximately $0.1 million relatedto the costs associated with the consolidation of our European operations.  (See Note 9 to the financial statements formore information on this consolidation.) The increase was also due to $0.1 million of increased miscellaneous expensesin other general and administrative areas. As a percentage of total revenue, general and administrative expensesincreased from 20.6% for the three months ended March 31, 2006 to 21.7% for thethree months ended March 31, 2007.

**Litigation Charges**

Litigation charges increased $1.0 million due to a$1.1 million contingency accrual related to the patent infringement suit withApplera.  For more information on thissuit, see Note 9, *Commitments and Contingencies,* tothe financial statements.

**Impairment of Long-Lived Assets**

Impairment of long-lived assets decreased by $21,552,or 45.3%, from $47,599 for the three months ended March 31, 2006 to $26,047 forthe three months ended March 31, 2007. This expense relates to writing-off theremaining unamortized balances of patents that we believe are not recoverable.

**TotalOther Income (Expense), Net**

Total other income, net of expense, increasedapproximately $36,000 for the three months ended March 31, 2007 compared to thethree months ended March 31, 2006. The increased was partially due to a gain ininterest income of approximately $135,000 due to higher cash balances, offsetby higher foreign currency transaction losses of approximately $60,000 and lessother income of approximately $40,000.

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**Income Taxes**

We recorded $0.7 millionin tax expense for the three months ended March 31, 2007 as compared to $0.6million recorded for the three months ended March 31, 2006.  The effective tax rate for the three monthsended March 31, 2007 was 32.6% compared to 33.5% for the three months endedMarch 31, 2006.

We recognize federal andstate research and development and other credits when they are generated. Werecognize excess credits for mature operating entities and we will use thesecredits to offset future taxable income as we believe it is more likely thannot that we will realize the credits.

**Liquidity and Capital Resources**

Our liquidity requirements have historically consistedof research and development expenses, selling and marketing expenses, debt service,capital expenditures, working capital and general corporate purposes. We havefunded these expenses through cash from operations, supplemented withborrowings under credit facilities and other debt instruments.

For the three months ended March 31, 2007, we used netcash from operating activities of approximately $9.2 million and generated cashfor the three months ended March 31, 2006 of approximately $1.2 million. Wegenerated net cash for investing activities of approximately $19.6 million for thethree months ended March 31, 2007 and used net cash for investing activities ofapproximately $21.8 million for the three months ended March 31, 2006. Capitalexpenditures and additions to capitalized patent expenses for the three monthsended March 31, 2007 totaled approximately $0.3 million and $0.6 million,respectively, as compared to $0.4 million and $0.1 million, respectively, forthe three months ended March 21, 2006. Changes in restricted cash for the three months ended March 31, 2007generated cash of approximately $20.5 million and used cash of approximately$21.2 million for the three months ended March 31, 2006.  (See Note 4 to the financial statements formore information on restricted cash.)

We generated net cash for financing activities of $0.1million for the three months ended March 31, 2007 and used net cash forfinancing activities of $10.8 million for the three months ended March 31,2006.  The three months ended March 21,2006 included the repayment of $5.5 million in debt, as well as the payment ofdividends to stockholders of $5.6 million.

Based on our review of our accounts receivables, anallowance for doubtful accounts is accrued, however, we do not write offindividual accounts receivable until we have exhausted substantially all avenuesof legal recourse to collect the outstanding amount. The actual write-off forthe three months ended March 31, 2007 was minimal. No significant change tofuture liquidity is anticipated.

Accounts receivable used cash of approximately $1.9million and $1.6 million for the three months ended March 31, 2007 and 2006,respectively, primarily due to the timing of sales within the quarters.

Accrued expenses and other liabilities was a use ofcash of approximately $9.3 million for the three months ended March 31, 2007primarily due to the pay out of $10.75 million to Third Wave as a result of alitigation settlement offset by the $1.1 million accrual related to the Appleralitigation.  (For more information onthese cases, see Note 9 to the financial statements.).  Accrued expenses and other liabilities was ause of cash of approximately $1.4 million for the three months ended March 31,2006 primarily due to the pay out of bonuses during the first quarter of 2006.

Deferred income taxes provided a source of cash of$3.4 million for the three months ended March 31, 2007 primarily due to adecrease to the deferred tax asset of $3.9 million related to the Third Wavesettlement, offset by an increase to the deferred tax asset of approximately$0.4 million related to the Applera litigation accrual.

An increase in income taxes receivable used cash of$2.5 million for the three months ended March 31, 2007 due to the Companyrecording an income tax deduction for the $10.75 million payout to Third Wave.

Capital expenditures for property and equipment were$0.3 million and $0.4 million for the three months ended March 31, 2007 and2006, respectively. We currently anticipate capital spending on property andequipment to be in the range of $2.0 million to $2.5 million in fiscal 2007.

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We had cash and restricted cash totaling approximately$32.9 million and $42.9 million at March 31, 2007 and December 31, 2006,respectively, and working capital of approximately $23.4 million and $21.6million at March 31, 2007 and December 31, 2006, respectively.

As of March 31, 2007, BioCrest Manufacturing, L.P.,our consolidated subsidiary, had approximately $3.8 million in total debt,which relates to outstanding industrial revenue bonds.

The industrial revenue bonds are secured by land, buildingand equipment acquired in Bastrop County, Texas with the proceeds from theissuance of the bonds. The average interest rate on the industrial revenuebonds was 3.70% as of March 31, 2007 and 3.62% for the year ended December 31,2006. Under the instrument governing the industrial revenue bonds, we arerequired to make sinking fund payments of $240,000 per year through April 2021,and then $175,000 in April 2022 when the bonds mature.

On January 24,2006, we posted a $21.0 million surety bond related to the Third Wave juryverdict of $20.6 million in order to permit us to appeal the verdict withoutbeing subject to collection activities by Third Wave.  The cost of such surety bond was $84,000, andthe bond is secured by $21.0 million of cash, which was held in an interestbearing restricted account.  In January 2007, we reached an out-of-courtsettlement with Third Wave for $10.75 million. We paid Third Wave $10.75 million in cash as full satisfaction for thejudgment.  The settlement payment wasmade with the funds from the $21.0 million appeal bond in February 2007 and theremaining funds from the appeal bond were returned to Stratagene.

Cash was alsoimpacted by the court judgment in the matter *ofInvitrogen vs. Stratagene* that was filed on October 31, 2006 inFederal District Court in Texas. On November 15, 2006, we filed a supersedeasbond in the amount of $11.5 million in order to permit us to appeal thejudgment of the district court without being subject to collection activitiesby Invitrogen. The cost of such surety bond was $46,000, and the bond wassecured by $11.5 million of cash, which is being held in an interest bearingrestricted account. In January 2007, the District Court ordered that the bondamount should be $12.2 million and an additional $0.7 million in cash is nowbeing held in this account.  We fundedthe amount required to collateralize the $12.2 million supersedeas bond fromexisting cash on hand. We have now accrued an aggregate of $19.6 millionrelated to this verdict, which was reduced during the fourth quarter of 2006 by$0.8 million due to less attorney’s fees and costs allowed by the Court.  This $19.6 million is comprised of damages of$16.2 million plus attorneys’ fees and costs of approximately $2.1 million andpre-judgment interest of approximately $1.3 million.  Post-judgmentinterest at the rate of approximately 5.05% compounded annually remains ineffect and unpaid unless the judgment is reversed. If we are ultimatelyrequired to pay out all or a portion of the $19.6 million of damages accruedfor this matter upon an adverse judgment rendered by the court and affirmed onappeal, it would negatively impact our cash position.  In the event of payment or settlement of thejudgment amounts against us for cash, we would realize an offsetting taxbenefit which would partly mitigate our cash requirements. We currently havethe ability to pay such damage award with our existing cash resources.

In November 2004,we received notice of a patent infringement suit filed by Applera against usand other parties for alleged infringement of United States patent no.6,814,934.  Applera is seeking an outcomethat would require us to license the Applera technology claimed under U.S.Patent No. 6,814,934.  If we wererequired to pay up-front license fees or significant royalties to Applera forthis technology, our financial position could be negatively impacted.

In January 2006 we paid aspecial one-time cash dividend of $0.25 per common share to stockholders ofrecord as of December 16, 2005, which amounted to approximately $5.6 million inthe aggregate. We received a consent from the lender under our reducingrevolving credit facility with respect to the declaration and payment of thisdividend.

We expect that ourcurrent cash and cash equivalents, funds from operations and interest incomeearned thereon will be sufficient to fund our current operations for at least12 months and the foreseeable future. Our future capital requirements and theadequacy of our available funds will depend on many factors, including ourprofitability, future business acquisitions, scientific progress in ourresearch and development programs and the magnitude of those programs, ourability to establish collaborative and licensing arrangements, the costinvolved in preparing, filing, prosecuting, maintaining and enforcing patentclaims, the final outcome of pending patent litigations and appeals andcompeting technological and market developments.   Despite these expectations, we cannotguarantee we will have sufficient funds on hand to meet all of our cash needsas they arise during the next 12 months.

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**Contractual Obligations**

We lease certain facilities under noncancelableoperating leases, with facility leases for our headquarters in La Jolla,California and our offices in Garden Grove, California, the Netherlands,Germany, Scotland and Japan expiring on various dates between July 4, 2007 andSeptember 30, 2011.

In connection with the closing of the Hycor merger inJune 2004, we entered into a new employment agreement with our CEO, pursuant towhich, among other things, we reduced the CEO’s base annual salary from $1.1million to $450,000, and granted our CEO an option to purchase 738,960 sharesof Stratagene common stock at an exercise price of $9.34 per share. The agreementprovides for the compensation committee of the board of directors to review theCEO’s base salary on at least an annual basis, and the committee may alsoincrease the CEO’s base salary from time to time in its discretion. Pursuant tothe employment agreement, the CEO is entitled to participate in our bonusprogram on a basis at least comparable to other senior executives. The CEO mayalso receive bonuses at the discretion of the board of directors upon thecompensation committee’s recommendation. The new employment agreement has aninitial term of three years and is subject to successive one year renewalsunless either party provides a notice of non-renewal at least 30 days prior tothe termination of the then current term.

Employment agreements that we have entered into withour officers have salary ranges from $267,000 to $515,000.  Such agreements are typically short induration but are subject to successive automatic one year renewals unless oneparty gives proper notice of its intention not to renew the employmentagreement.  These agreements generallyprovide for severance benefits if we terminate the officer other than forcause, as defined in the employment agreements. Employment agreements with no expiration date are not included in thetable below.

We also entered into an Employment SeparationAgreement and Mutual General Release of all Claims, or the SeparationAgreement, with Ms. Ronni L. Sherman, our Executive Vice President and GeneralCounsel, in connection with her retirement from Stratagene. This agreementprovides for her to remain as a paid hourly consultant for an additional periodof one year at rates of $250-$350 per hour depending on the services rendered.Pursuant to the Separation Agreement, Ms. Sherman received a lump sum paymentof approximately $225,000 and will be entitled to receive an additional $40,000in quarterly $10,000 installments over the next twelve months. In addition, shewill be entitled to receive a minimum retainer for her consulting services of$10,000 per three-month period during each of the nextfour three-month periods.  Half of Ms. Sherman’s hourlyconsulting service billings will be credited against such retaineramounts. Her medical insurance benefits will also be continued atStratagene’s expense for a period of 18 months.

As discussed in Note 9 to the financials statements,we have entered into several license and collaboration agreements.  The Strand Life Sciences, or Strand,agreement required us to make aggregate milestone payments of $0.9 million toStrand upon our acceptance of certain deliverables.  Research and development expense of $0.1million was recorded in for the three months ended March 31, 2006.  There was no research and development expenserecorded for the three months ended March 31, 2007, but approximately $0.1million is expected to be expensed in the twelve months ended December 31,2007. Also, these agreements require us to make $1.5 million in minimum annualpayments to Strand in the first twelve months after our first commercial saleor 60 days after our final acceptance of the product. The first minimum annualpayment period began on April 1, 2006.  The minimum annual payments may be offset by $0.5 million of themilestone payments in the first twelve months of the contract term.  These agreements also require us to make $1.7million in minimum annual payments to Strand in the second twelve months of thecontract term, which begins on April 1, 2007. The contractual obligations table below reflects these obligations.

We also entered into an agreement with the DiagnosticsDivision of Bayer HealthCare LLC, or Bayer, in December 2005, pursuant to whichBayer will purchase a customized version of our Mx3005P instrument system foruse in a new platform Bayer is developing for performing molecular diagnosticstests worldwide.  Under the terms of theagreement, we are developing customized software and system features for Bayer’suse.  The agreement also calls for us toimplement Quality System Regulations (QSR) and procedures under which we willmanufacture the customized Mx3005P instrument system for Bayer.

We also entered into a Joint Development and LicenseAgreement with Rosetta Inpharmatics LLC, or Rosetta, in July 2006, whereby weand Rosetta will work together to develop an RNA extraction product.  The product consists of a machine,a consumable cartridge, and a reagent pack that fits in themachine. The cartridge contains the sample to be processed and the machinemoves fluids from the reagent pack through the card in orderto purify RNA. The

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product will be used to get RNA profiles from clinicaltrial patients.   Rosetta will pay us formilestones achieved during the development period.  In the case of a successful product, Rosettawill also pay us a royalty on our sales of finished products to Merck (Rosetta’sparent company) and other third parties.

In addition, in the normal course of operations, weenter into purchase commitments with vendors and suppliers of key raw materialsand other goods and services through purchase orders or other documentation.Such obligations are generally outstanding for periods of less than one yearand are settled by cash payments upon delivery of goods and services. AtDecember 31, 2006, aggregate purchase commitments related to various key raw materialsand other goods and services was approximately $3.1 million.

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The following table summarizes the approximate futureminimum payments under the above contractual obligations at December 31, 2006:
| ** **                       | ** ** | **Payment Due by Period** | ** ** |
|----------------------------------|------------|------------------------------------------|------------|
| **Contractual Obligations** | ** ** | **Total**                                | ** ** | **Less than  1 Year** | ** ** | **1-3  Years** | ** ** | **4-5  Years** | ** ** | **After 5  Years** | ** ** |
| Operating leases                 |       | $                                        | 3,539,756  |   | $ | 2,076,585 |   | $ | 1,354,272 |   | 108,899 |   | — |   |
| Principal on  long-term debt     |       | 3,775,000                                |       | 240,000 |   | 720,000 |   | 480,000 |   | 2,335,000 |   |
| Collaborative  agreements        |       | 1,950,000                                |       | 1,525,000 |   | 425,000 |   | — |   | — |   |
| Employment  agreements           |       | 196,875                                  |       | 196,875 |   | — |   | — |   | — |   |
| Consulting  agreements           |       | 125,000                                  |       | 105,000 |   | 20,000 |   | — |   | — |   |
| Other purchase  commitments      |       | 3,130,000                                |       | 3,130,000 |   | — |   | — |   | — |   |
| Total contractual  obligations   |       | $                                        | 12,716,631 |   | $ | 7,273,460 |   | $ | 2,519,272 |   | $ | 588,899 |   | $ | 2,335,000 |   |
|                                  |            |                                          |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Assuming that long-term debt principal payments aremade according to their respective payment schedules, the future aggregateinterest expense on long-term debt would be approximately $1.2 million.

**Off-Balance Sheet Arrangements**

At March 31, 2007 and December 31, 2006, we did nothave any relationships with unconsolidated entities or financial partnerships,such as entities often referred to as structured finance, variable interest orspecial purpose entities, which would have been established for the purpose offacilitating off-balance sheet arrangements or other contractually narrow orlimited purposes. In addition, we do not engage in trading activities involvingnon-exchange traded contracts. As such, we are not materially exposed tocertain financing, liquidity, market or credit risk that could arise if we hadengaged in such relationships.

**New Accounting Pronouncements**

In July 2006, the Financial Accounting StandardsBoard, (“FASB”) issued FASB Interpretation No. 48, (“FIN 48”), *Accounting for Uncertainty in Income Taxes - an Interpretation of FASBStatement No. 109*.  FIN 48clarifies the accounting for uncertainty in income taxes recognized in acompany’s financial statements in accordance with Statement of FinancialAccounting Standards (“SFAS”) No. 109, *Accountingfor Income Taxes,*(“SFASNo. 109”)*.*Thisinterpretation prescribes a recognition threshold and measurement attribute forthe financial statement recognition and measurement of a tax position taken orexpected to be taken in a tax return. This Interpretation also providesguidance on derecognition, classification, interest and penalties, accountingin interim periods, disclosure, and transition. FIN 48 was effective for fiscalyears beginning after December 15, 2006. See Note 8 to the financial statements for more information on theadoption of FIN 48.

In September 2006, the FASB issued SFAS No. 157, *Fair Value Measurements* (“SFAS No. 157”). SFAS No. 157establishes a framework for measuring fair value in generally acceptedaccounting principles (“GAAP”), and expands disclosures about fair valuemeasurements. This Statement is effective for financial statements issued forfiscal years beginning after November 15, 2007, and interim periods withinthose fiscal years.  Management has notyet completed its evaluation of the impact of adopting SFAS No. 157.

On February 15, 2007, the FASB issued SFAS No. 159, *The Fair Value Option for Financial Assets and Financial Liabilities*.   SFAS No. 159 permits all entities to choose,at specified election dates, to measure eligible items at fair value (the “fairvalue option”).  A business entity shallreport unrealized gains and losses on items for which the fair value option hasbeen elected in earnings (or another performance indicator if the businessentity does not report earnings) at each subsequent reporting date.  Upfront costs and fees related to items forwhich the fair value option is elected shall be recognized in earnings asincurred and not deferred.  SFAS No. 159is effective for fiscal years beginning after November 15, 2007, with earlyadoption permitted.  The Company iscurrently evaluating whether SFAS No. 159 will have a material effect on itsconsolidated financial statements.

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**Item 3.Quantitative and Qualitative Disclosures about Market Risk**

***Foreign Currency Translation/Transaction***

We measure the accounts of our foreign subsidiariesand affiliates using the local currency as the functional currency. For theseoperations, we translate assets and liabilities accounts into U.S. dollars atperiod-end exchange rates, and we translate income and expense accounts ataverage monthly exchange rates. We exclude net translation gains or losses fromnet income and reflect them in accumulated other comprehensive income (loss) inthe accompanying consolidated balance sheets.

Our international sales expose us to foreign currencyrisk in the ordinary course of our business. Our foreign subsidiaries generatedapproximately 35% and 33% of our revenue for the three months ended March 31,2007 and 2006, respectively. The foreign subsidiaries sell products in variouslocal currencies that they collect at future dates and purchase raw materialsand finished goods in both U.S. dollars and local currencies. Accordingly, weare exposed to transaction gains and losses that could result from changes inforeign currency exchange rates. We include realized gains and losses fromforeign currency transactions in operations as incurred.

For financial reporting purposes, we translate theforeign subsidiaries’ income statements from the local currency into U.S.dollars at the exchange rates in effect during the reporting period. When thelocal currency strengthens compared to the U.S. dollar, there is a positiveeffect on the foreign subsidiaries’ sales as reported in our consolidatedfinancial statements. Conversely, when the U.S. dollar strengthens, there is anegative effect. For the three months ended March 31, 2007, the net impact toour reported sales from the effect of exchange rate fluctuations was a decreaseof approximately $0.6 million, when compared to the exchange rates for thethree months ended March 31, 2006.

***Fair Value of Financial Instruments***

The carrying amounts ofcash, marketable securities, restricted cash, foreign currency exchangecontracts, accounts receivable, prepaid expenses and other current assets,accounts payable, accrued expenses, other current liabilities, and lines ofcredit are considered to be representative of their respective fair valuesbecause of the short-term nature of these financial instruments. The carryingamount of the long-term debt is a reasonable estimate of fair value, as theloans have terms based on market rates.

We consider the carrying amounts of cash, marketablesecurities, restricted cash, foreign currency exchange contracts, accountsreceivable, prepaid expenses and other current assets, accounts payable,accrued expenses, other current liabilities, and lines of credit to berepresentative of their respective fair values because of the short-term natureof these financial instruments. The carrying amount of the long-term debt is areasonable estimate of fair value, as the loans have terms based on marketrates.

***Interest Rates***

We generally invest our cash and cash equivalents inmoney market accounts and short-term debt instruments of highly rated creditissuers. We limit the amount of credit exposure to any one issuer and seek toimprove the safety and likelihood of preserving our invested funds by limitingdefault risk and market risk. Based on our short-term investment portfolio atMarch 31, 2007, we believe that a 10% rise or fall in interest rates would havehad no material impact on our financial statements.

The following table shows the average interest ratefor the three months ended March 31, 2007 for our long-term debt obligation:
| **Long-term Debt Obligations** | ** ** | **Average Interest Rate for  the Three Months Ended  March 31, 2007** | ** ** |
|------------------------------------------|------------|---------------------------------------------------------------------------------------------------------------|------------|
| Industrial  revenue bonds                |       | 3.70                                                                                                          | %          |

 

Our interest income on marketable securities dependson the interest rate attributable primarily to the debt securities that wepurchase. We have categorized these securities as available for sale and, as aresult, we stated them at fair value. Marketable debt securities are availablefor current operations and we classify them in the

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consolidated balance sheet as current assets. Weinclude unrealized holding gains and losses as a component of accumulated othercomprehensive income (loss), net of tax, until realized.

**Item4. Controls and Procedures**

We maintain disclosurecontrols and procedures that are designed to ensure that we record, process,and summarize information that we are required to disclosed in the reports wefile pursuant to the Securities Exchange Act of 1934, as amended, and that wereport such information within the time periods specified in the rules andforms of the Securities and Exchange Commission, and that we accumulate andcommunicate such information to our management, including our Chief ExecutiveOfficer and Chief Financial Officer, as appropriate, to allow timely decisionsregarding required disclosure. In designing and evaluating the disclosurecontrols and procedures, we recognize that any controls and procedures, nomatter how well designed and operated, can provide only reasonable assurance ofachieving the desired control objectives, and in reaching a reasonable level ofassurance, we are required to apply our judgment in evaluating the cost-benefitrelationship of possible controls and procedures.

We carried out anevaluation, under our management’s supervision and participation, including ourChief Executive Officer and Chief Financial Officer, of the effectiveness ofthe design and operation of our disclosure controls and procedures as of theend of the period covered by this quarterly report. Based on the foregoing, ourChief Executive Officer and Chief Financial Officer concluded that ourdisclosure controls and procedures were effective at the reasonable assurancelevel.

*Changes in Internal Control OverFinancial Reporting*

There have been no changes in our internal controlover financial reporting during our first fiscal quarter of 2007 that havematerially affected, or are reasonably likely to materially affect, ourinternal control over financial reporting.

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**PART II. OTHER INFORMATION**

**Item 1.Legal Proceedings**

Information regardinglegal proceedings is contained in Note 9 to our Consolidated FinancialStatements for the period ended March 31, 2007, which note is incorporatedherein by this reference and is included as part of “Item 1. FinancialStatements,” to this Form 10-Q.

**Item 1A.Risk Factors**

It is important to carefully consider the followingrisks, together with other matters described in this Form 10-Q or in otherdocuments referred to in this Form 10-Q in evaluating our business andprospects. If any of the following risks occur, our business, financialcondition or operating results could be harmed. In such case, the trading priceof our common stock could decline. The risks described below are not the onlyrisks we face. Additional risks not presently known to us or that we currentlydeem immaterial may also impair business operations.

**Stratagenemay suffer negative consequences if the proposed merger with a subsidiary ofAgilent is not completed.**

If the merger isnot completed or the merger agreement is terminated, Stratagene will be subjectto a number of material risks, including:

·                  the provision inthe merger agreement which provides that under specified circumstancesStratagene could be required to pay to Agilent a termination fee of $8.5million;

·                  the market priceof Stratagene common stock may decline to the extent that the current marketprice of such shares reflects a market assumption that the merger will becompleted;

·                  costs related tothe merger, such as legal and accounting fees, must be paid even if the mergeris not completed;

·                  the diversion ofmanagement attention from the day-to-day business of Stratagene and theunavoidable disruption to our employees during the period before the completionof the merger may make it difficult for Stratagene to regain its financialposition if the merger does not occur;

·                  if the mergeragreement is terminated and Stratagene’s board of directors seeks anothermerger or business combination, we cannot be certain that we will be able tofind a partner willing to pay an equivalent or more attractive price than theprice to be paid by Agilent in the merger; and

·                  employeesimportant to the success of Stratagene as a stand-alone company may have leftin anticipation of the merger.

**If the conditions toour proposed merger with Agilent set forth in the merger agreement are not met,the merger may not occur.**

Several conditionsmust be satisfied in order to complete the proposed merger with Agilent. Theseconditions are set forth in detail in the merger agreement, which Stratagenefiled with the SEC on April 11, 2007 as Exhibit 2.1 to its Current Report onForm 8-K. We cannot assure you that each of the conditions will besatisfied.  If the conditions are notsatisfied or waived, the proposed merger will not occur or will be delayed, andwe may lose some or all of the benefits of the proposed merger.  If we do not complete the proposed mergerwith Agilent, our board of directors may not be able to find another partnerwilling to pay an equivalent or more attractive price for another merger orbusiness combination than that which would have been paid in the proposedmerger.

****Directors and officers of Stratagene may haveinterests in the proposed merger that may be in addition to, or different from,the interests of our other stockholders.****

You should be aware that some of our directorsand executive officers have interests in the merger that may be in addition to,or different from, the interests of our stockholders generally.  Theseinterests may present them with actual or potential conflicts of interest andmay entitle them to certain benefits in connection with the proposed

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merger to which our other stockholders may not beentitled.  For example, each of our existing employment agreements withour executive officers other than Dr. Sorge, our Chairman of theBoard, Chief Executive Officer and President, provides that, if suchexecutive officer is terminated for “cause” or resigns with “good reason” (asdescribed in the applicable employment agreement) within prescribed timeperiods prior to or following the consummation of a “change of control” (asdescribed in the applicable employment agreement), including the proposedmerger, such executive officer will be entitled to certain cash severancepayments and the continuation of certain benefits for a period of time,and accelerated vesting of all unvested stock options previously granted tosuch executive officer under our equity compensation plans.  In addition,the merger agreement also provides that our officers and directors will beindemnified by Agilent and us against certain liabilities and we or Agilentwill maintain in effect directors’ and officers’ liability insurance on behalfof those directors and officers following the effective time of the merger. Seethe section entitled “The Merger — Interests of Stratagene Officers andDirectors in the Merger” in our definitive proxy statement filed with the SECon May 10, 2007 for addition information regarding the interests of ourofficers and directors in connection with the proposed merger.

**Our future success depends on thetimely introduction of new****productsand the acceptance of these new products in the marketplace.**

Rapid technological change and frequent new product introductionsare typical for the markets we serve. Our future success will depend in largepart on continuing to develop and introduce new products in a timely mannerthat address evolving market requirements.

We believe successful new product introductionsprovide a significant competitive advantage because customers make aninvestment of time in selecting and learning to use new products and arereluctant to switch thereafter. To the extent that we fail to introduce new andinnovative products, we may lose market share to our competitors, which may bedifficult to regain. Any inability, for technological or other reasons, tosuccessfully develop and introduce new products could materially damage ourbusiness.

In the past we have experienced, and are likely toexperience in the future, delays in developing and introducing products. Wecannot assure you that we will keep pace with the rapid rate of change in lifesciences or clinical diagnostic research, or that our new products willadequately meet the requirements of the marketplace or achieve marketacceptance. Some of the factors affecting market acceptance of new productsinclude:

·                  availability, quality and pricerelative to competitive products;

·                  the timing of introducing the productrelative to competitive products;

·                  customers’ opinions of the product’sutility;

·                  citation of the product in publishedresearch; and

·                  general trends in life sciences andclinical diagnostics research.

**The markets for our products areextremely competitive and****subjectto rapid technological change. If we fail to compete****effectively, our business may suffer.**

The markets for our products are highly competitive.We compete with many other suppliers of life sciences research products andclinical diagnostic products. Many of our competitors have greater financial,operational and sales and marketing resources and more experience in researchand development than we do. These competitors and other companies may havedeveloped or could in the future develop new technologies that compete with ourproducts or even render our products obsolete. Competition in our markets isprimarily driven by:

·                  product performance, features andreliability;

·                  price;

·                  timing of product introductions;

·                  ability to develop, maintain andprotect proprietary products and technologies;

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·                  sales and distribution capabilities;

·                  technical support and service; and

·                  breadth of product line.

If a competitor develops or acquires superiortechnology or cost-effective alternatives to our products, our business,financial condition and results of operations could be materially adverselyaffected.

Our competitors have in the past and may in the futurecompete by lowering prices. We may respond by lowering our prices, which couldreduce revenues and profits. Conversely, failure to anticipate and respond toprice competition may damage our market share. In addition, we must continuallyadapt to new marketing and distribution trends in order to compete effectively.

We believe that customers in our markets display a significantamount of loyalty to their initial supplier of a particular product. Therefore,it may be difficult to make sales to customers who have previously purchasedproducts from our competitors. To the extent we are unable to be the first todevelop and supply new products, our competitive position may suffer.

**We may****be prevented from selling some of our products if ourexisting license agreements are terminated.**

Approximately 40% of our product sales in 2006 wereattributable to products sold pursuant to license agreements. If we lose therights to use a patented technology, we may be forced to stop selling some ofour products or redesign our products and may lose significant sources ofrevenues. In addition, potential competitors could license technologies that wefail to license. Losing a significant license could have a material adverseeffect on our business.

Our licenses include:

·                  a license from Applera Corporation(which license was assigned to Applera from Hoffman La Roche and RocheMolecular Systems, Inc. in 2005) granting us, among other rights, the right tomanufacture, promote and sell certain products for use in the research field ina process referred to as the “PCR process;” and

·                  a license from Applied Biosystems,which grants us rights to manufacture, promote and sell thermal cyclers(certain laboratory instruments capable of generating and maintaining specifictemperatures for a defined period of time) under certain patents for use in theresearch field.

Applera may terminate its license agreement (1) forcause, (2) if certain parties acquire more than 50% of the voting stock of oursubsidiary that is a party to the agreement, and (3) in the event of ourbankruptcy or insolvency. Since mid-2003 and through late 2005, we withheldroyalty payments to Applera under this license agreement pending furtherevaluation of a potential overpayment of royalties paid to Applera in priorperiods. During that period, we continued to record estimated quarterlyroyalties payable under this license agreement and report these amounts toApplera. We believe that we determine the royalties we calculate and accruesuch royalties in accordance with the terms of this patent license agreement.However, our royalty calculations are subject to review by Applera. Our financialposition or results of operations could be materially affected if the partiesdetermine that the royalties differ significantly from the amounts we haverecorded. Additionally, there can be no assurances that we will recover anyoverpayment in royalties paid in prior periods. The U.S. patents that coveredthe PCR process underlying this royalty obligation expired in March 2005.Certain of the corresponding foreign patents expired in 2006, while othersexpire in 2007. Upon expiration of these patents outside of the United States,we will no longer be required to pay royalties under these patents on futureproduct sales.

The agreement with Applied Biosystems may beterminated (1) for cause, (2) upon the change in control of our subsidiary thatis a party to the license agreement, and (3) in the event of our bankruptcy orinsolvency.

We do not anticipate that either of these licenseagreements will terminate in the near future.

Our licenses typically subject us to variouscommercialization, sublicensing and other material obligations. If we fail tocomply with these requirements, we could lose important rights under a license,such as the right to exclusivity in a specified market. In some cases, we couldalso lose all rights under a license. In addition, the

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licensor could lose patent protection for a number ofreasons, including the invalidity or unenforceability of the licensed patent.We typically do not receive significant indemnification under such arrangementsfrom a licensor against third party claims of intellectual propertyinfringement.

**Because our quarterly revenue andoperating results may vary****significantlyin future periods, our stock price may decline.**

Our operating results have fluctuated in the past andmay continue to fluctuate in the future. In particular, we have historicallyseen slower sales in the fourth quarter as a result of reduced purchases byacademic and research institutions as well as the closing of such facilitiesduring the holiday period. Our revenues are unpredictable and may alsofluctuate due to changes in demand for our products, delays in developing andintroducing new products and new product introductions by our competitors. Ahigh proportion of our costs are fixed, due in part to significant research anddevelopment costs. Thus, small declines in revenue could disproportionatelyaffect operating results in a quarter and the price of our common stock maydecline. Moreover, a variety of factors may affect our ability to make accurateforecasts regarding our operating results. Because of these factors, ouroperating results in one or more future quarters may fail to meet theexpectations of securities analysts or investors, which could also cause ourstock price to decline.

**Our founder, chairman of our board ofdirectors, chief executive****officerand president exerts considerable control over our business.**

As of March 31, 2007, Joseph A. Sorge, M.D., ourfounder, chairman of the board of directors, chief executive officer andpresident, beneficially owned approximately 59% of our outstanding commonstock. As a result, Dr. Sorge controls all matters requiring approval of ourstockholders, such as electing directors and approving mergers or otherbusiness combinations, including the Merger. Such a concentration of ownershipmay result in the consummation of change in control transactions which ourother stockholders may not favor, including the Merger, or delay or preventtransactions resulting in our change of control other than the Merger,including alternative transactions where stockholders might otherwise receive apremium for their shares over then current market prices.

**We depend substantially on keyemployees, and losing the****servicesof any of our key employees or failing to hire qualified employees****could seriously damage our business.**

To a large degree, we depend on our founder, chairmanof our board of directors, chief executive officer and president, Joseph A.Sorge, M.D. Dr. Sorge has significant expertise in the life sciences researchmarket and has been instrumental in establishing and executing our businessplan. Losing Dr. Sorge’s services could have a material adverse effect on ourbusiness. Dr. Sorge has an existing employment agreement with us, which expiresin June 2007, subject to automatic one year renewals unless either partyprovides timely notice of non-renewal. We maintain directors and officers insurance for the benefit of ourofficers and directors.  In the secondquarter of 2006, we purchased a key man life insurance policy insuring Dr.Sorge with a face value of $10.0 million.

Because our products and services are highly technicalin nature, only highly qualified and trained scientists have the necessaryskills to develop and market our products and provide our services. As such,our future success also will depend in large part on the continued service ofour key scientific and management personnel, including research anddevelopment, customer service, marketing and sales staffs. We face intensecompetition for these professionals from our competitors, our customers andother companies throughout our industry. We do not generally enter intoemployment agreements requiring these employees to continue their employmentfor any period of time. Any failure on our part to hire, train and retain asufficient number of qualified professionals could seriously damage ourbusiness.

**Our indebtedness could limit ourability to operate our business,****obtain additional financing and pursue other business opportunities.**

As of March 31, 2007, we had approximately $3.8 millionof outstanding indebtedness related to industrial revenue bonds. In addition,we had a credit agreement with a lender but due to a default under the creditagreement at September 30, 2006 the lender has terminated the revolving creditfacility portion of the credit agreement. There was no outstanding balance under this revolving credit facilitysince December 2005.  Our existing orfuture indebtedness could have negative consequences for us, including thefollowing:

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·                  we will need a portion of our cashflow to pay the principal and interest on our indebtedness, includingindebtedness we may incur in the future;

·                  payments of our indebtedness willreduce the funds that would otherwise be available for our operations andfuture business opportunities;

·                  we may have greater relative debtburdens than our competitors, which may place us at a competitive disadvantage;

·                  our debt level may make us morevulnerable than our competitors to a downturn in our business or the economy ingeneral; and

·                  there would be a material adverseeffect on our business and financial condition if we are unable to service ourindebtedness or obtain additional financing.

**We may not have financing for futurecapital requirements, which****mayhave a material adverse effect on our business.**

Although historically our cash flow from operationshas been sufficient to satisfy working capital, capital expenditure andresearch and development requirements, in the future we may need to incuradditional debt or issue equity in order to fund these requirements as well asto fully pay outstanding judgments or litigation settlements or makeacquisitions and other investments. Our senior credit facility restricts ourability to incur new debt and our revolving credit facility has recently been terminated.  While we are seeking to obtain a new seniorlender there is no assurance we will be able to obtain new senior financing onacceptable terms or at all. If we cannot obtain additional debt or equityfinancing on acceptable terms or if we are limited with respect to incurringadditional debt or issuing equity, we may be unable to address gaps in ourproduct offerings or improve our technology, particularly through strategicacquisitions or investments.

We may need to raise substantial amounts of money tofund a variety of future activities integral to the development of ourbusiness, including, but not limited to, the following:

·                  for research and development tosuccessfully develop additional products;

·                  to file and prosecute patentapplications and defend and assert patents to protect our technology;

·                  to retain qualified employees,particularly in light of intense competition for qualified scientists;

·                  to manufacture additional productsourselves or through third parties;

·                  to acquire new technologies, productsor companies; and

·                  to pay outstanding judgments or tofund litigation settlements.

If we raise funds through the issuance of debt orequity, any debt securities or preferred stock issued will have rights,preferences and privileges senior to those of holders of our common stock inthe event of a liquidation. The terms of the debt securities may imposerestrictions on our operations. If we raise funds through the issuance ofequity, this issuance would dilute the ownership interest of our existingstockholders. We expect to fund future acquisitions in part by issuingadditional equity. If the price of our equity is low or volatile, we may not beable to acquire other companies.

**Our inability to secure and maintainintellectual property protection for our****products and technologies could adversely affect ourability to****compete.**

Our success depends to a significant degree upon ourability to develop, maintain and protect proprietary products and technologies.We file patent applications in the United States and selectively in foreigncountries as part of our strategy to protect our proprietary products andtechnologies. However, patents provide only limited protection of ourintellectual property. The assertion of patent protection involves complexlegal and factual determinations and is therefore uncertain and expensive. Wecannot provide assurances that patents will be granted with respect to any ofour pending patent applications, that the scope of any of our patents will besufficiently broad

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to offer meaningful protection, or that we willdevelop additional proprietary technologies that are patentable. Our issuedpatents, or third party patents that we license, could be successfullychallenged, invalidated or circumvented. This could result in our patent rightsfailing to create an effective competitive barrier. Losing a significant patentor failing to get a patent to issue from a pending patent application that weconsider significant could have a material adverse effect on our business.

The laws governing the scope of patent coverage in theUnited States and abroad continue to evolve, particularly in the life sciencesarea. The laws of some foreign countries may not protect our intellectualproperty rights to the same extent as United States laws. We hold patents onlyin selected countries. Therefore, third parties can make, use and sell productscovered by our patents in countries in which we do not have patent protection.

We give our customers the right to use some of ourproducts for research purposes only under certain licenses. These licensescould be contested.  Therefore, noassurances can be given that we would either be aware of an unauthorized use orbe able to enforce these license limitations in a cost-effective manner.

We attempt to protect our trade secrets by enteringinto confidentiality agreements with employees, consultants and third parties.However, these agreements might be breached and, if they are, there may not bean adequate remedy available to us. Also, our trade secrets might become knownto a third party through means other than by breach of its confidentialityagreements, or they could be independently developed by our competitors. If ourtrade secrets become known, our business and competitive position could be adverselyaffected.

**We are currently, andcould in the future be, subject to lawsuits, arbitrations, and other legalactions, particularly involving claims for infringement of patents and otherintellectual property rights.**

We believe that wehave meritorious defenses against the claims currently asserted against us andintend to defend them vigorously. However, the outcome of legal actions isinherently uncertain, and we cannot be sure that we will prevail in any ofthese actions. An adverse determination in some of our current legal actions,particularly the cases described below, could have a material adverse effect onour business. Our products are based on complex, rapidly developingtechnologies. These products could be developed without knowledge of previouslyfiled patent applications that mature into patents that cover some aspect ofthese technologies. In addition, our belief that our products do not infringethe technology covered by valid and enforceable patents could be successfullychallenged by third parties. We have from time to time been notified that wemay be infringing patents and other intellectual property rights of others.Also, in the course of our business, we may from time to time have access toconfidential or proprietary information of third parties, and these partiescould bring a claim against us asserting that we had misappropriated theirtechnologies and had improperly incorporated such technologies into ourproducts. Due to these factors, there remains a constant risk of intellectualproperty litigation affecting our business. We have been made a party tolitigation involving intellectual property matters.  Such actions currently include thelitigations described in the following paragraphs, some of which, if determinedadversely, could have a material adverse effect on us. To avoid or settle legalclaims, it may be necessary or desirable in the future to obtain licensesrelating to one or more products or relating to current or future technologies,and we cannot be certain that we will be able to obtain these licenses or otherrights on commercially reasonable terms.

We have been involved in significant patent disputeswith third parties, a number of which remain unresolved. For example, we areinvolved in litigation with Invitrogen Corporation regarding patents relatingto certain enzymes and competent cell products. The case went to trial on July 17, 2006, and on July 25, 2006, the juryreturned a verdict that one such patent was valid and that Stratagene’sinfringement of the patent was willful.  The jury denied Invitrogen’srequest for lost profits damages in the amount of $32 million dollars butreturned a verdict for a reasonable royalty of approximately $7.9 million,based on a 15% royalty rate.  On October 31, 2006, the district court trebled a portion of the $7.9million that was related to sales made prior to November 2, 2001 for a totalaward of $16.2 million plus attorneys’ fees and costs in an amount to bedetermined by the district court and pre-judgment interest.  On November 15, 2006, we filed asupersedeas bond in the amount of $11.5 million in order to permit us to appealthe judgment of the district court without being subject to collectionactivities by Invitrogen. The appeal bond is secured by $11.5 million of cashin an interest-bearing restricted account.   In January 2007, the judge inthe Federal District Court ruled on the allowable attorneys’ fees and courtcosts in the case, which totaled $2.1 million. The court also ruled that a$12.2 million supersedeas bond was appropriate in this case. We increased thebond amount to $12.2 million and funded the additional bond collateral from ourexisting cash balances in January 2007. As of December 31, 2006, we have accrued $19.6 million related to thisverdict, which is comprised of damages of $16.2 million plus attorneys’ feesand costs of approximately $2.1 million and pre-judgment interest ofapproximately $1.3 million.  Post-judgment interest at the rate ofapproximately 5.05% compounded annually will

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accrue unless the judgment is reversed. If we areultimately required to pay out all or a portion of the $19.6 million of damagesaccrued for this matter upon an adverse judgment rendered by the court andaffirmed on appeal, it would negatively impact our cash position.  We currently have the ability to pay suchdamage award with our existing cash resources.

We are alsoinvolved in litigation with Applera Corporation regarding a patent that Appleraalleges is infringed by our real-time PCR instrumentation and certain relatedreagents.  In November 2004, we receivednotice of a patent infringement suit filed by Applera against us and otherparties for alleged infringement of United States patent no. 6,814,934.  Since that time, the other parties havesettled out-of-court with Applera.  Thedetails of those settlements are not known by Stratagene.  Applera is seeking an outcome that wouldrequire Stratagene to license the Applera technology.

Applera had also filed an infringementaction against us in the Dusseldorf District Court in Germany relatingto EP patent 0 872 562, the European counterpart of the ‘934patent.  On November 10, 2006, we filed our response to thecomplaint.  The Dusseldorf District Courtconducted a trial of this action on May 10, 2007.  The trial court did not reach a decision onMay 10, 2007, and it is currently expected that a decision will be made on June14, 2007. The outcome of the trial remains uncertain, but if the Court were tofind that we infringe the patent, the Court could enjoin us from further salesof our current instruments in Germany and assess damages in favor of Applera.

In addition, we wereinvolved in litigation in the Wisconsin Federal District Court with Third WaveTechnologies regarding patents relating to certain assays for the detection ofnucleic acids.  In a trial in August2005, the jury returned a verdict that the Third Wave patents-in-suit werevalid and infringed by us, for monetary damages in the amount of $5.3 million,and that our infringement was willful.  Based on the jury’s verdict, thedistrict court permanently enjoined us from further infringement.  The district court awarded Third Wave trebledamages of $15.9 million, attorneys’ fees and costs in an amount of $4.2million, pre-judgment interest of $0.5 million and $0.1 million of additionalcourt costs.  We posted a $21.0 millioncivil supersedeas bond to stay payment of the judgment of the district court,and filed an appeal to the Federal Circuit Court of Appeals.  In May 2005, we filed a lawsuit in Delawareagainst Third Wave for infringement of certain Stratagene patents.

In January 2007,we reached an out-of-court settlement with Third Wave for $10.75 million.  Stratagene paid Third Wave $10.75 million incash as full satisfaction for the judgment. The companies also have agreed tostay any further litigation for nine months. Stratagene also dismissed withoutprejudice Stratagene’s lawsuit against Third Wave in the U.S. Court inDelaware. Stratagene and Third Wave have also agreed to a process to resolvethat case or any other disputes through an agreement that enables eithercompany to elect to arbitrate a patent dispute or to resolve it through aroyalty-bearing license.  As result ofthe settlement, we adjusted our accrual from $20.7 million to $10.75 million atDecember 31, 2006.  The settlementpayment was made with funds from the $21.0 million appeal bond in February2007.

We are theplaintiff in litigation with Invitrogen Corporation regarding one of ourpatents relating to polymerase blend products and a defendant in litigationwith Invitrogen related to patents relating to RNase H minus reversetranscriptase products. As part of the patent infringement claims in thesematters, each party seeks monetary damages, injunctive relief and attorneys’fees.  As stated above, the outcome of any suchlitigation or appeal is inherently uncertain.

These cases aredescribed in further detail in Note 9 to our consolidated financial statementscontained in Part I of this report. The cost of litigation and the amount of managementtime associated with these cases is significant. There can be no assurance thatthese matters will be resolved favorably, that we will continue to be able tosell the products in question or other products as a result, or that anymonetary or other damages assessed against us will not have a material adverseeffect on our business.  Even a successful outcome may take years toachieve and the costs associated with such litigation, in terms of dollarsspent and diversion of management time and resources, could seriously harm ourbusiness.

Moreover, if a third party claims an intellectualproperty right to technology that we use, we may be forced to discontinue animportant product or product line, alter our products and processes, paylicense fees, pay damages for past infringement or cease certain activities.Under these circumstances, we may attempt to obtain a license to suchintellectual property, but we may not be able to do so on commerciallyreasonable terms, or at all.

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**We may spend resources on researchand development projects****withoutbeing able to achieve an adequate return, if any, on our investment.**

It is important for us to continue to invest heavilyin research and development. However, because we compete in a relatively newand constantly evolving market, we may pursue research and development projectsthat do not result in viable commercial products. In addition, we have in thepast, and may in the future, terminate research efforts in a particular areaafter we have made substantial initial funding commitments in that area. Anyfailure to translate research and development expenditures into successful newproduct introductions could have an adverse effect on our business.

**Our business could suffer if we failto manage our growth effectively.**

A significant portion of our historical revenue growthis attributable to internal product development. We are one of the smallercompanies in our industry, and therefore particularly dependent on internalinvention and product development to replace older products in our productline. Our ability to achieve our expansion objectives and to manage our growtheffectively depends upon a variety of factors, including our ability tointernally develop products, to attract and retain skilled employees, to successfullyposition and market our products and to identify and acquire technologies andintellectual property rights from third parties. In addition, we facesignificant challenges and risks in building and managing our sales team,including managing geographically dispersed sales efforts and adequatelytraining our sales people in the use and benefits of our products. Toaccommodate our growth and compete effectively, we will be required to improveour information systems, create additional procedures and controls and expand,train, motivate and manage our work force. Our future success will depend inpart on the ability of current and future management personnel to operateeffectively, both independently and as a group. We cannot be certain that ourpersonnel, systems, procedures and controls will be adequate to support ourfuture operations.

**Our stockprice could be adversely affected if we are unable to implement and maintaineffective internal control over financial reporting.**

Item 308 ofRegulation S-K promulgated under Section 404 of the Sarbanes-Oxley Act of 2002requires that public companies annually evaluate the effectiveness of theirinternal control over financial reporting as of the end of each fiscal year,and include a management report assessing the effectiveness of such internalcontrol over financial reporting in all annual reports.  Item 308 ofRegulation S-K also requires that the independent accountants of publiccompanies attest to, and report on, management’s assessment of its internalcontrol over financial reporting.  The initial compliance date withrespect to these requirements depends on whether a company is an “acceleratedfiler” as determined by Rule 12b-2 of the Exchange Act.  An “acceleratedfiler” must begin to comply with the rules regarding management’s report oninternal control over financial reporting for its first fiscal year ending onor after November 15, 2004.  The firstmanagement report for a “non-accelerated filer” must be provided for fiscalyears ending on or after December 15, 2007, with the first auditor’s report oninternal control due one year later.  “Accelerated filer” status ismeasured as of the end of each fiscal year and is determined in part on whetherthe aggregate market value of the common equity of a company held bynon-affiliates of such company is $75.0 million or more measured as of the lastbusiness day of the company’s most recently completed second fiscal quarter.

We are not an “acceleratedfiler” as of March 31, 2007 because the aggregate market value of our commonstock held by non-affiliates as of June 30, 2006 was not equal to orgreater than $75.0 million.  However, we will not be able to determine ifwe will be subject to the rules regarding the auditor’s report on internalcontrol over financial reporting for the fiscal year ending December 31, 2007until June 30, 2007.  If the aggregate market value of our common stockheld by our non-affiliates as of June 30, 2007 is equal to or greater than$75.0 million, then we will become an “accelerated filer” effective as ofDecember 31, 2007 and will be required to comply with the rules regardingmanagement’s report and the auditor’s report on internal control over financialreporting for fiscal 2007.  Conversely, if the aggregate market value ofour common stock held by non-affiliates as of June 30, 2007 is less than$75.0 million, then we will continue to be a “non-accelerated filer” for fiscal2007 and will be required to comply with the rules regarding management’sreport on internal control over financial reporting for the fiscal year endingDecember 31, 2007 and the first auditor’s report will be required for thefiscal year ending December 31, 2008.  Notwithstanding the extension ofthis compliance date, we are currently making efforts to prepare ourselves tobe able to comply with such requirements. These efforts include documenting,evaluating the design, and testing the effectiveness of our internal controlover financial reporting. During this process, we expect to make improvementsin the design and operation of our internal control over financial reporting,including further formalization of policies and procedures, improvedsegregation of duties and additional monitoring of controls.

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Our management,including our Chief Executive Officer and our Chief Financial Officer, cannotguarantee that our internal control over financial reporting will prevent allerrors and all fraud. A control system, no matter how well designed andoperated, can provide only reasonable, not absolute, assurance that the controlsystem’s objectives will be met. Further, the design of a control system mustreflect the fact that there are resource constraints, and the benefits ofcontrols must be considered relative to their costs. Because of the inherentlimitations in all control systems, no evaluation of controls can provideabsolute assurance that all control issues and instances of fraud, if any,within our company have been, or will, be detected. These inherent limitationsinclude the realities that judgments in decision-making can be faulty and thatbreakdowns can occur because of simple error or mistake. Controls can also becircumvented by the individual acts of some persons, by collusion of two ormore people, or by management override of the controls. The design of anysystem of controls is based in part on certain assumptions about the likelihoodof future events, and we cannot assure you that any design will succeed inachieving its stated goals under all potential future conditions. Over time,controls may become inadequate because of changes in conditions ordeterioration in the degree of compliance with policies or procedures. Becauseof the inherent limitations in a cost-effective control system, misstatementsdue to error or fraud may occur and not be detected.

We cannot assureyou that we or our independent registered public accounting firm will notidentify a material weakness in our internal control over financial reporting.A material weakness in our internal control over financial reporting wouldrequire management and our independent registered public accounting firm toevaluate our internal control over financial reporting as ineffective. If ourinternal control over financial reporting is not considered adequate, we mayexperience a loss of public confidence, which, among other things, could havean adverse effect on our business and our stock price.

**The price of our common stock isexpected to be volatile.**

The market price of our common stock may be subject tosignificant fluctuations. These fluctuations may occur, among other reasons, inresponse to:

·                  quarterly fluctuations in ouroperating and earnings per share results;

·                  technological innovations or newproduct introductions by us or our competitors;

·                  delays in developing and introducingnew products;

·                  disputes concerning patents, licensesor other proprietary rights;

·                  changes in earnings estimates byequity and market research analysts;

·                  sales of common stock by existingstockholders;

·                  loss of key personnel; and

·                  securities class actions or otherlitigation affecting us or other companies in our industry.

Any failure to meet analysts’ expectations could havean adverse effect on the market price for our common stock. In addition, thestock market is subject to extreme price and volume fluctuations. Thisvolatility has had a significant effect on the market prices of securitiesissued by many companies for reasons unrelated to the operating performance ofthese companies. In the past, following periods of volatility in the marketprice of a company’s securities, securities class action litigation has oftenbeen instituted against that company. If similar litigation were institutedagainst us, it could result in substantial costs and a diversion of ourmanagement’s attention and resources, which could have an adverse effect on ourbusiness, financial condition and results of operations. In addition, we cannotpredict the extent to which investors’ interest in us will lead to a liquidtrading market in our common stock.

**Future sales of currently outstandingshares of our common stock****couldadversely affect our stock price.**

As of March 31, 2007, we had approximately 22.5million shares of common stock outstanding. We have entered into a registrationrights agreement with Dr. Sorge and certain of his affiliates pursuant towhich, at the request of Dr. Sorge and subject to specified conditions, we willfile a registration statement under the Securities Act covering 2,000,000shares of our common stock held by Dr. Sorge and specified trusts and partnershipscontrolled by Dr. Sorge. Dr. Sorge and such trusts and partnerships are alsoentitled to register the remaining approximately

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11.2 million shares of our common stock held by themin specified situations. The shares held by Dr. Sorge and such trusts andpartnerships may also be sold from time to time in the public market subject tothe requirements of Rule 144 under the Securities Act.

In addition, on June 8, 2006, Dr. Sorge established astock trading plan in accordance with the guidelines of Rule 10b5-1 of theSecurities and Exchange Act of 1934. SEC Rule 10b5-1 allows executive officers,directors and other insiders to individually adopt pre-arranged, structuredstock trading plans when they are not in possession of material non-publicinformation. Once these plans are adopted, the officers and directors have nodiscretion over the timing, price or terms of any sales made pursuant to suchplans. The transactions under the plan will be disclosed publicly through Form4 filings and will be subject to the restrictions and filing requirementsmandated by Rule 144 of the U.S. Securities Act of 1933.  Under Dr. Sorge’s 10b5-1 plan, Dr. Sorge maysell shares of our common stock at prevailing market prices (but not below apredetermined minimum price of $9.00 per share and subject to otherrestrictions). The total number of shares subject to Dr. Sorge’s plan is876,000.  These sales are expected totake place periodically on a monthly basis through June 2007.  The sale by our current stockholders of asubstantial number of shares, or the expectation that such sales may occur,could significantly reduce the market price of our common stock.

We have also registered the shares of common stockthat we may issue from time to time under our employee benefits plans. As aresult, these shares can be freely sold in the public market upon issuance,subject to restrictions under the securities laws. If any of our stockholderscause a large number of securities to be sold in the public market, the salescould reduce the trading price of our common stock. These sales also couldimpede our ability to raise future capital.

**Reductions in research anddevelopment budgets or government funding may****impact our sales.**

Fluctuations in the research and development budgetsof our customers could have a significant effect on the demand for ourproducts. Research and development budgets fluctuate due to changes inavailable resources, spending priorities and institutional budgetary policies.Our business could be seriously damaged by any significant decrease in researchand development expenditures by pharmaceutical and biotechnology companies,academic institutions or government and private laboratories.

A substantial portion of our sales have been toresearchers at universities, government laboratories and private foundationswhose funding is dependent upon grants from government agencies, such as theUnited States National Institutes of Health. Although we are not aware of anyimpending reductions in governmental grants, government funding of research anddevelopment is subject to the political process and as a result the amount ofavailable funding may decrease. Our sales may be adversely affected if ourcustomers delay purchases as a result of uncertainties surrounding the approvalof government budget proposals. A reduction in government funding for theNational Institutes of Health or other government research agencies couldseriously damage our business.

In recent years, the pharmaceutical and biotechnologyindustries have undergone substantial consolidation. Further mergers orcorporate consolidations in these industries could cause us to lose existingcustomers and potential future customers. Pharmaceutical and biotechnologycompanies have generally raised little money in the past few years, and someare low on funds. Some of these companies have begun to reduce their researchand development budgets in recent years. It is possible that thesebiotechnology and pharmaceutical companies will continue to reduce spending onresearch and development in the future and some companies may go out ofbusiness entirely. In addition, health care reform and other changes in theregulatory environment affecting these industries could have an adverse impacton research and development expenditures by pharmaceutical and biotechnologycompanies, which would negatively impact our business.

Our academic customers generally receive funds fromapproved grants at particular times of the year, as determined by thegovernment. Grants have in the past been frozen for extended periods or haveotherwise become unavailable to various institutions without advance notice.The timing of the receipt of grant funds affects the timing of purchasedecisions by our customers and, as a result, can cause fluctuations in our salesand operating results.

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**Failure to license new technologiescould impair our new product****development.**

In order to meet the needs of our customers, we mustdevelop a broad spectrum of products. To develop a product line, it issometimes advantageous or necessary to license technologies from third parties.Approximately 40% of our product sales for 2006 were attributable to productsmanufactured or sold under licenses from third parties. As a result, we believeour ability to license new technologies from third parties is and will continueto be important to our ability to offer new products.

From time to time, we are notified or become aware ofpatents held by third parties that are related to technologies we are sellingor may sell in the future. After consideration of these patents, we may attemptto obtain a license for these technologies. We can give no assurances that wewill be able to negotiate such licenses on commercially reasonable terms, or atall.

Our ability to gain access to technologies necessaryto develop new products depends, in part, on our ability to convince thirdparties that we can successfully commercialize their technologies. We can giveno assurances that we will be able to continue to identify new technologiesdeveloped by others or that we will be able to negotiate appropriate licenseson commercially reasonable terms, or at all.

**Changes in distribution andpurchasing methods by our customers****may force us to use more expensive marketing anddistribution channels.**

A number of our customers have developed purchasinginitiatives to reduce the number of vendors they purchase from in order tolower their supply costs. In some cases, these customers have establishedagreements with large distributors, which include discounts and thedistributors’ direct involvement with the purchasing process. These activitiesmay force us to supply these large distributors with our products at a discountto continue to reach our customers. For similar reasons, many of our largercustomers, including the government, have requested and may in the futurerequest special pricing arrangements, including blanket purchase agreements. Todate, we do not believe that these special pricing arrangements have had amaterial effect on either revenues or margins. However, in the future theseagreements may limit our pricing flexibility, which could adversely impact ourbusiness, financial condition and results of operations. In addition, if welose one or more of our distributors and cannot arrange suitable alternatives,our business could be adversely affected.

Several of our customers have requested that we sellour products through third party, e-commerce web sites. While this trend doesnot seem to be growing, offering our products through these web sites generallyrequires us to agree to offer volume-related discounts and pay commissions onthe sales made through these web sites to these third party e-commerceproviders. Consequently, margins on sales made through these third party websites would generally be lower than those on sales made through traditionalchannels. Our business may be harmed as a result of these web sites or othersales methods that may be developed in the future.

**We rely on third party manufacturersfor raw materials and****productcomponents.**

We rely on third party manufacturers to supply many ofour raw materials and product components. Some of these components are onlyavailable from a single supplier or a limited group of suppliers, eitherbecause the market

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for these components is too small to support multiplesuppliers or because the components are protected by patents, in which casethere may only be a single supplier for the covered components. Our reliance onoutside vendors generally, and a sole supplier or a limited group of suppliersin particular, involves several risks, including:

·                  an inability to obtain an adequatesupply of required components due to manufacturing capacity constraints, thediscontinuance of a product by a third-party manufacturer, or an acquisition ofthe manufacturer by one of our competitors or other supply constraints;

·                  delays and long lead times inreceiving materials from vendors; and

·                  reduced control over quality andpricing of components.

If a sole source third party supplier were to go outof business, we might be unable to find a replacement for such source or itmight take us several months to be able to make the substance or componentinternally. If a sole source third party supplier were to be acquired by acompetitor, that competitor may elect not to sell to us in the future.

**Adverse developments affecting ourinternational operations or****foreigncurrency fluctuations could harm our results from operations.**

Including sales made by our subsidiaries anddistributors, our products are currently marketed in over 60 countriesthroughout the world. Measured in U.S. dollars, our revenue outside the UnitedStates for the three months ended March 31, 2007 was approximately 35%. Inaddition, approximately 18% of our total sales for the three months ended March31, 2007 were for products exported from the United States. We expect thatinternational sales will continue to account for a significant percentage ofour revenues for the foreseeable future, in part because we intend to expandour international operations. There are a number of risks arising from ourinternational business, including:

·                  difficulties and costs associatedwith staffing and managing foreign operations;

·                  unexpected changes in regulatoryrequirements;

·                  the difficulties of compliance with awide variety of foreign laws and regulations;

·                  more limited protection forintellectual property rights in some countries;

·                  changes in our internationaldistribution network and direct sales force;

·                  potential trade restrictions andexchange controls;

·                  import and export licensingrequirements;

·                  longer accounts receivable collectioncycles in certain foreign countries; and

·                  potential increased costs associatedwith overlapping tax structures.

A significant portion of our business is conducted incurrencies other than the U.S. dollar, which is our reporting currency. Werecognize foreign currency gains or losses arising from our operations in theperiod incurred. As a result, currency fluctuations among the U.S. dollar andthe currencies in which we do business could adversely affect our results ofoperations. We cannot predict the effects of exchange rate fluctuations uponour future operating results because of the number of currencies involved, thevariability of currency exposures and the potential volatility of currencyexchange rates. In the past, we have engaged in foreign currency exchangehedging transactions to manage our foreign currency exposure, but we cannot assureyou that our future strategies will adequately protect our operating resultsfrom the effects of exchange rate fluctuations.

**Our activities involve hazardousmaterials and may subject our business to****costly environmental liability.**

We use hazardous materials, including phenol,chloroform and ethanol, and radioactive isotopes in connection with ourresearch and development activities, as well as in our manufacturing processesand in evaluating the

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performance of various products. We are subject tofederal, state and local laws and regulations governing the use, manufacture,storage, handling and disposal of these materials and specified waste products.We cannot completely eliminate the risk of accidental contamination of propertyor injury to individuals from these materials. In the event of such anaccident, we could be liable for any damages that result, which could have amaterial adverse effect on our business, financial condition and results ofoperations. We carry insurance for contamination resulting from using hazardousmaterials with $25,000 limitations per incident with respect to pollutionclean-up and removal and radioactive contamination. Additionally, any accidentcould partially or completely shut down our research and manufacturing facilitiesand operations. We may also have to incur substantial costs to comply withcurrent or future environmental laws and regulations.

**Interruptions in our manufacturingoperations could adversely impact****our ability to effectively operate our business.**

We maintain manufacturing facilities in Garden Grove,California, in the Austin, Texas area, and in Edinburgh, Scotland. Damage tothese facilities due to fire, earthquake or other natural disaster, power loss,unauthorized entry or other events could cause an interruption in producing ourproducts. We do not have or plan to obtain earthquake insurance. In late 1999and early 2000 we opened a manufacturing facility outside of Austin, Texas andmoved 100 jobs to that location. During the transition process, we lost somekey personnel who were important to certain manufacturing processes. As aresult, we were unable to manufacture certain products for a period of three tosix months. Many of the customers who wanted to purchase the affected productsduring this period switched to other suppliers and we found it difficult toreacquire these customers once we were able to manufacture the products again.Accordingly, we believe that a prolonged interruption in our manufacturingoperations could have a material adverse impact on our ability to effectivelyoperate our business.

**We could incur substantial unexpectedexpenses,****experienceproduct returns and suffer damage to our brand and reputation if our biologicalproducts and instruments are not properly produced or****manufactured.**

Our biological products and instruments are complexand may be improperly produced or manufactured. In the past, we havevoluntarily recalled several of our products. In each case, we identified andcorrected the problem. If we need to recall our products, we could experiencedecreased sales and loss of customers and market share. In addition, a recallwould divert managerial and financial resources and could harm our reputationwith customers.

**Our business could suffer if ouraccess to necessary tissue samples is restricted or****ethical concerns surrounding the use of geneticinformation become widespread.**

We require access to human and other tissue samplesand other biological materials to continue to develop our products. We competewith many other companies for these materials and may not be able to obtain ormaintain access to these materials on acceptable terms, or at all. In addition,genetic testing has raised ethical issues regarding confidentiality and theappropriate use of the resulting information. Governmental regulation in theUnited States and foreign countries could limit access to, or use of, human andother tissue samples or restrict the use of, or regulate, genetic testing. Ifwe lose access to sufficient numbers or sources of tissue samples, or iftighter restrictions are imposed on our customers’ use of the informationgenerated from tissue samples, our business could suffer.

**Anti-takeover provisions of ourcertificate of incorporation and****bylaws and provisions of Delaware law could delay or prevent a change of****control that you may favor.**

Provisions of our amended and restated certificate ofincorporation and amended and restated bylaws may discourage, delay or preventa merger or other change of control transactions that stockholders may considerfavorable or may impede the ability of the holders of our common stock tochange our management. The provisions of our amended and restated certificateof incorporation and amended and restated bylaws, among other things, authorizeour board of directors to issue preferred stock in one or more series, withoutstockholder approval.

Because we have not chosen to be exempt from Section203 of the Delaware General Corporation Law, this provision could also delay orprevent a change of control that you favor. Section 203 provides that, subjectto limited exceptions, persons that acquire, or are affiliated with a personthat acquires, more than 15 percent of the outstanding voting stock of aDelaware corporation shall not engage in any business combination with thatcorporation, including by merger, consolidation or acquisition of additionalshares, for a three-year period following the date on which that person or itsaffiliate crosses the 15 percent ownership threshold.

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Additionally, because Dr. Sorge owns approximately 59%of the Company’s outstanding common stock, he controls all matters requiringapproval of our stockholders. As a result, among other things, Dr. Sorge mustapprove any merger or other business combination related to our company.

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**Item 6.Exhibits**
| ** ** | Exhibit    | ** ** | ** **                                                                                                                                                                                                                                                                                        |
|------------|------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** ** | **Number** | ** ** | **Description**                                                                                                                                                                                                                                                                                   |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 2.1        |       | Agreement and Plan of Merger, dated as of April 5,  2007, among Agilent Technologies, Inc., Jackson Acquisition Corp. and  Stratagene Corporation* #                                                                                                                                              |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 3.1        |       | Second Amended and Restated Certificate of  Incorporation of the registrant**                                                                                                                                                                                                                     |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 3.2        |       | Amended and Restated Bylaws of the registrant**                                                                                                                                                                                                                                                   |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 10.1       |       | Voting Agreement, dated as of April 5, 2007, among  Agilent Technologies, Inc. and Joseph A. Sorge, M.D., J.A. Sorge Trust I,  J.A. Sorge Trust II, J.A. Sorge Trust III, J.A. Sorge Trust IV, Joseph A.  Sorge Charitable Remainder Trust dated December 26, 2002 and BioSenses  Partners, L.P.# |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 10.2       |       | Asset Purchase Agreement, dated as of April 5, 2007,  by and between Stratagene Corporation and Catalyst Assets LLC#                                                                                                                                                                              |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 10.3       |       | License Agreement, dated as of April 5, 2007,  between Agilent Technologies, Inc. and Catalyst Assets LLC#                                                                                                                                                                                        |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 10.4       |       | Severance Waiver Agreement, dated as of April 5,  2007, by and between Stratagene Corporation and Joseph A. Sorge, M.D.#                                                                                                                                                                          |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 10.5       |       | Non-Competition Agreement, dated as of April 5,  2007, by and between Agilent Technologies, Inc. and Joseph A. Sorge, M.D.#                                                                                                                                                                       |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 31.1       |       | Certification of Chief Executive Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                              |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 31.2       |       | Certification of Chief Financial Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                              |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 32.1       |       | Certification of Chief Executive Officer pursuant to  18 U.S.C. Section 1350, as created by Section 906 of the Sarbanes-Oxley Act  of 2002.***                                                                                                                                                    |
|       |       |       |                                                                                                                                                                                                                                                                                              |
|       | 32.2       |       | Certification of Chief Financial Officer pursuant to  18 U.S.C. Section 1350, as created by Section 906 of the Sarbanes-Oxley Act  of 2002.***                                                                                                                                                    |

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*                    Schedulesto this agreement are not material and have been omitted in reliance on Item601(b)(2) of Regulation S-K.  The Company agrees to furnish supplementallya copy of any omitted schedule to the Securities and Exchange Commission uponrequest.

**             Incorporatedby reference to the Quarterly Report on Form 10-Q for the period ended June 30,2004.

***      Thesecertifications are being furnished solely to accompany this quarterly reportpursuant to 18 U.S.C. Section 1350, and are not being filed for purposes ofSection 18 of the Securities Exchange Act of 1934, as amended, and are not tobe incorporated by reference into any filing of the Company, whether madebefore or after the date hereof, regardless of any general incorporationlanguage in such filing.

#                    Incorporatedby reference to the Current Report on Form 8-K filed on April 11, 2007.

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**SIGNATURES**

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.
|                    | **STRATAGENE CORPORATION** |
|--------------------|----------------------------|
|               | ** **                 |
| Date: May 15, 2007 | By:                        | /s/ Joseph A.  Sorge, M.D. |   |
|               |                       | Joseph A. Sorge, M.D. |
|               |                       | Chairman of the Board, Chief Executive Officer and  President |
|               | * *                   | *(Principal Executive Officer)* |
|               |                       |   |
| Date: May 15, 2007 | By:                        | /s/ Steve R.  Martin |   |
|               |                       | Steve R. Martin |
|               |                       | Vice President and Chief Financial Officer |
|               | * *                   | *(Principal Financial Officer and* |
|               | * *                   | *Principal Accounting Officer)* |

 

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