United
States Securities and Exchange Commission


Washington,
D.C.  20549




FORM
10-K




þ
            Annual Report Pursuant to
      Section 13 or 15(d) of the Securities Exchange Act of
      1934


For the
fiscal year ended June 30, 2010




or




 ̈
            Transition Report Pursuant to
      Section 13 or 15(d) of the Securities Exchange Act of
      1934


For the
transition period from __________ to ____________





Commission
File No.  001-33407




IsoRay,
Inc


(Exact
name of registrant as specified in its charter)




Minnesota
                      (State
      of incorporation)
                    41-1458152
                      (I.R.S.
      Employer Identification No.)350 Hills St., Suite 106
                      Richland, Washington
                      (Address
      of principal executive offices)
                    99354
                      (Zip
      code)




Registrant's
telephone number, including area code:  (509)
375-1202




Securities
registered pursuant to Section 12(b) of the Exchange Act – Common Stock – $0.001
par value


(NYSE
Amex)





Securities
registered pursuant to Section 12(g) of the Exchange Act – Series C Preferred
Share Purchase Rights




Number of shares outstanding
of each of the issuer's classes of common equity:





Class
                  Outstanding as of September 16,
      2010Common
      stock, $0.001 par value
                  23,048,754





Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act.  Yes o No x




Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act.  Yes o No x




Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Exchange Act of 1934 during the preceding 12
months (or for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days. Yes x No
o




Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding
12 months (or for such shorter period that the registrant was required to submit
and post such files). Yes x No o




Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.  o




Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company.  See the definitions of “large accelerated filer,” “accelerated
filer” and “smaller reporting company” in Rule 12b-2 of the Exchange
Act.


Large
accelerated filer o     
 Accelerated filer o     
 Non-accelerated filer o


Smaller
reporting company x





Indicate by check mark whether the
registrant is a shell company (as defined in Rule 12b-2 of the Act):
YesoNox




State the
aggregate market value of the voting and non-voting common equity held by
non-affiliates computed by reference to the price at which the common equity was
last sold, or the average bid and asked price of such common equity, as of the
last business day of the registrant’s most recently completed second fiscal
quarter – $22,025,806 as of December 31, 2009.




Documents
incorporated by reference – none.









ISORAY,
INC.





Table
of Contents




PageITEM
      1 – BUSINESS
                1ITEM
      1A – RISK FACTORS
                25ITEM
      1B – UNRESOLVED STAFF COMMENTS
                34ITEM
      2 – PROPERTIES
                34ITEM
      3 – LEGAL PROCEEDINGS
                34ITEM
      4 – [REMOVED AND RESERVED]
                34ITEM
      5 – MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
      ISSUER PURCHASES OF EQUITY SECURITIES
                35ITEM
      6 – SELECTED FINANCIAL DATA
                37ITEM
      7 – MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
      RESULTS OF OPERATIONS
                37ITEM
      7A – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
      RISK
                48ITEM
      8 – FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
                48ITEM
      9 – CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
      FINANCIAL DISCLOSURE
                49ITEM
      9A – CONTROLS AND PROCEDURES
                49ITEM
      9B – OTHER INFORMATION
                51ITEM
      10 – DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE
GOVERNANCE
                51ITEM
      11 – EXECUTIVE COMPENSATION
                55ITEM
      12 – SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
      RELATED STOCKHOLDER MATTERS
                57ITEM
      13 – CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR
      INDEPENDENCE
                58ITEM
      14 – PRINCIPAL ACCOUNTANT FEES AND SERVICES
                59ITEM
      15 – EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
                59SIGNATURES
                63


Caution Regarding
Forward-Looking Information





In
addition to historical information, this Form 10-K contains certain
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995 (PSLRA).  This statement is included for the
express purpose of availing IsoRay, Inc. of the protections of the safe harbor
provisions of the PSLRA.





All
statements contained in this Form 10-K, other than statements of historical
facts, that address future activities, events or developments are
forward-looking statements, including, but not limited to, statements containing
the words "believe," "expect," "anticipate," "intends," "estimate," "forecast,"
"project," and similar expressions.  All statements other than statements
of historical fact are statements that could be deemed forward-looking
statements, including any statements of the plans, strategies and objectives of
management for future operations; any statements concerning proposed new
products, services, developments or industry rankings; any statements regarding
future revenue, economic conditions or performance; any statements of belief;
and any statements of assumptions underlying any of the foregoing.  These
statements are based on certain assumptions and analyses made by us in light of
our experience and our assessment of historical trends, current conditions and
expected future developments as well as other factors we believe are appropriate
under the circumstances.  However, whether actual results will conform to
the expectations and predictions of management is subject to a number of risks
and uncertainties described under Item 1A – Risk Factors beginning on page 25
below that may cause actual results to differ materially.





Consequently,
all of the forward-looking statements made in this Form 10-K are qualified by
these cautionary statements and there can be no assurance that the actual
results anticipated by management will be realized or, even if substantially
realized, that they will have the expected consequences to or effects on our
business operations.  Readers are cautioned not to place undue reliance on
such forward-looking statements as they speak only of the Company's views as of
the date the statement was made.  The Company undertakes no obligation to
publicly update or revise any forward-looking statements, whether as a result of
new information, future events or otherwise.





PART
I





As used
in this Form 10-K, unless the context requires otherwise, “we” or “us” or the
“Company” means IsoRay, Inc. and its subsidiaries.





ITEM
1 – BUSINESS





General





Century
Park Pictures Corporation (Century) was organized under Minnesota law in
1983.  Century had no operations since its fiscal year ended September 30,
1999 through June 30, 2005.





On July
28, 2005, IsoRay Medical, Inc. (Medical) became a wholly-owned subsidiary of
Century pursuant to a merger.  Century changed its name to IsoRay, Inc.
(IsoRay or the Company).  In the merger, the Medical stockholders received
approximately 82% of the then outstanding securities of the
Company.





Medical,
a Delaware corporation, was incorporated on June 15, 2004 to develop,
manufacture and sell isotope-based medical products and devices for the
treatment of cancer and other malignant diseases.  Medical is headquartered
in Richland, Washington.





IsoRay
International LLC (International), a Washington limited liability company, was
formed on November 27, 2007 and is a wholly-owned subsidiary of the
Company.  International has not had any significant transactions since its
inception.





1


Available
Information





The
Company electronically files its annual reports on Form 10-K, quarterly reports
on Form 10-Q, current reports on Form 8-K, and all amendments to these reports
and other information with the Securities and Exchange Commission (SEC). 
These reports can be obtained by accessing the SEC’s website at
www.sec.gov.  The public can also obtain copies by visiting the SEC’s
Public Reference Room at 100 F Street NE, Washington, DC 20549 or by calling the
SEC at 1-800-SEC-0330.  In addition, the Company makes copies of its annual
and quarterly reports available to the public at its website at
www.isoray.com.  Information on this website is not a part of this
Report.





Business
Operations





Overview





In 2003,
IsoRay obtained clearance from the FDA for treatment for all solid tumor
applications using Cesium-131 (Cs-131).  Such applications include prostate
cancer; ocular melanoma; head, neck and lung tumors; and breast, liver, brain
and pancreatic cancer.  The seed may be used in surface, interstitial and
intracavity applications for tumors with known radio sensitivity. 
Management believes its Cs-131 technology will allow it to become a leader in
the brachytherapy market.  Management believes that the IsoRay Proxcelan
Cesium-131 brachytherapy seed represents the first major advancement in
brachytherapy technology in over 21 years with attributes that could make it the
long-term “seed of choice” for internal radiation therapy
procedures.





IsoRay
began production and sales of Proxcelan Cesium-131 brachytherapy seeds in
October 2004 for the treatment of prostate cancer after clearance of its
premarket notification (510(k)) by the Food and Drug Administration (FDA). 
In December 2007, IsoRay began selling its Proxcelan Cs-131 seeds for the
treatment of ocular melanoma.  In June 2009, the Company began selling its
Proxcelan Cs-131 seeds for treatment of head and neck tumors, commencing with
treatment of a tumor that could not be accessed by other treatment
modalities.  During the fiscal year ended June 30, 2010, the Company
continued to expand the number of areas of the body in which the Proxcelan
Cs-131 seeds were being utilized by adding lung cancer in August 2009,
colorectal cancer in October 2009, and chest wall cancer in December 2009. 
The Company is continuing to expand the use of the Proxcelan Cs-131 seed for
other cancer treatment applications using both existing delivery systems and
researching delivery systems other than those historically used by the
Company.





In August
2009, IsoRay Medical received clearance from the FDA for its premarket
notification (510(k)) for ProxcelanTM Cesium-131 brachytherapy seeds that are
preloaded into bioabsorbable braided strands. This clearance permits the product
to be commercially distributed for treatment of lung, head and neck tumors as
well as tumors in other organs.  While Cs-131 brachytherapy seeds
themselves have been cleared for treatment in all organs since 2003, this 510(k)
allows Cs-131 seeds to be delivered in a convenient and sterile format that can
be implanted without additional seed loading by the facility.  The 510(k)
also clears the application of braided strands onto a bioabsorbable mesh matrix
to further facilitate the implant procedure.





Brachytherapy
seeds are small devices used in an interstitial radiation procedure.  The
procedure has become one of the primary treatments for prostate cancer. 
The brachytherapy procedure places radioactive seeds as close as possible to (in
or near) the cancerous tumor (the word “brachytherapy” means close
therapy).  The seeds deliver therapeutic radiation thereby killing the
cancerous tumor cells while minimizing exposure to adjacent healthy
tissue.  This procedure allows doctors to administer a higher dose of
radiation directly to the tumor.  Each seed contains a radioisotope sealed
within a welded titanium capsule.  When brachytherapy is the only treatment
(monotherapy), approximately 70 to 120 seeds are permanently implanted in the
prostate in an outpatient procedure lasting less than one hour.  The number
of seeds used varies based on the size of the prostate and the activity level
specified by the physician.  When brachytherapy is combined with external
beam radiation or intensity modulated radiation therapy (dual therapy), then
approximately 40 to 80 seeds are used in the procedure.  The isotope decays
over time and eventually the seeds become inert.  The seeds may be used as
a primary treatment or in conjunction with other treatment modalities, such as
chemotherapy, or as treatment for residual disease after excision of primary
tumors.  The number of seeds for other treatment sites will vary from as
few as 8 to16 to as many at 117 to 123 depending on the type of cancer, the
location of the tumor being treated and the type of therapy being
utilized.





2


Brachytherapy
Isotope Comparison





Increasingly,
prostate cancer patients and their doctors who decide to use seed brachytherapy
as a treatment option choose Cs-131 because of its significant advantages over
Palladium-103 (Pd-103) and Iodine-125 (I-125), two other isotopes currently in
use.  These advantages include:





Higher
Energy


Cs-131
has a higher average energy than any other commonly used prostate brachytherapy
isotope on the market.  Energy is a key factor in how uniformly the
radiation dose can be delivered throughout the prostate.  This quality of a
prostate implant is known as homogeneity.  Early studies demonstrate Cs-131
implants are able to deliver the required dose while maintaining homogeneity
across the gland itself and potentially reducing unnecessary dose to critical
structures such as the urethra and rectum. (Prestidge B.R., Bice W.S., Jurkovic
I., et al. Cesium-131 Permanent Prostate Brachytherapy:  An Initial
Report.  Int. J.
Radiation Oncology Biol. Phys. 2005:  63 (1)
5336-5337.)





Shorter
Half-Life


Cs-131
has the shortest half-life of any commonly used prostate brachytherapy isotope
at 9.7 days.  Cs-131 delivers 90% of the prescribed dose in just 33 days
compared to 58 days for Pd-103 and 204 days for I-125.  By far the most
commonly reported side effects of prostate brachytherapy are irritative and
obstructive symptoms in the acute phase post-implant (Neill B, et al. The Nature
and Extent of Urinary Morbidity in Relation to Prostate Brachytherapy Urethral
Dosimetry. Brachytherapy
2007:6(3)173-9.).  The short half-life of Cs-131 reduces the duration of
time during which the patient experiences the irritating effects of the
radiation.





Improved Coverage of the
Prostate


Permanent
prostate brachytherapy utilizing Cs-131 seeds allows for better dose homogeneity
and sparing of the urethra and rectum while providing comparable prostate
coverage compared to I-125 or Pd-103 seeds with comparable or fewer seeds and
needles.  Several studies have demonstrated dosimetric advantages of Cs-131
over the other commonly used prostate brachytherapy isotopes. (Musmacher JS, et
al. Dosimetric Comparison of Cesium-131 and Palladium-103 for Permanent Prostate
Brachytherapy. Int. J.
Radiation Oncology Biol. Phys.2007:69(3)S730-1.) (Yaparpalvi R, et al.
Is Cs-131 or I-125 or Pd-103 the “Ideal” Isotope for Prostate Boost
Brachytherapy? A Dosimetric View Point. Int. J. Radiation Oncology Biol.
Phys.2007:69(3)S677-8) (Sutlief S, et al.  Cs-131 Prostate
Brachytherapy and Treatment Plan Parameters. Medical Physics
2007:34(6)2431.) (Yang R, et al.  Dosimetric Comparison of Permanent
Prostate Brachytherapy Plans Utilizing Cs-131, I-125 and Pd-103 Seeds. Medical Physics
2008:35(6)2734.)





Rapid Resolution of Side
Effects


Studies
demonstrate that objective measures of common side-effects showed an early peak
in symptoms in the 2-week to 1-month time frame.  Resolution of morbidity
resolved rapidly within 4-6 months. (Prestidge B, et. al. Clinical Outcomes of a
Phase-II, Multi-institutional Cesium-131 Permanent Prostate Brachytherapy Trial.
Brachytherapy. 2007: 6
(2)78.) (Moran B, et al.  Cesium-131 Prostate Brachytherapy: An Early
Experience.  Brachytherapy 2007:6(2)80.)
(Jones A, et al. IPSS Trends for Cs-131 Permanent Prostate Brachytherapy. Brachytherapy 2008:7(2)194.)
(DeFoe SG, et al. Is There Decreased Duration of Acute Urinary and Bowel
Symptoms after Prostate Brachytherapy with Cesium 131 Radioisotope?  Int. J. Radiation Oncology Biol.
Phys. 2008:72(S1)S317.)  More stringent studies are underway to more
fully characterize any advantage in side effect resolution experienced by
patients undergoing Cs-131 prostate brachytherapy versus brachytherapy with
other isotopes.





3


Higher Biologically
Effective Dose


Another
benefit to the short half-life of Cs-131 is what is known as the “biological
effective dose” or BED.  BED is a way for health care providers to predict
how an isotope will perform against cancers exhibiting different characteristics
– for instance, slow versus fast growing tumors.  Studies have shown Cs-131
is able to deliver a higher BED across a wide range of tumor types than either
I-125 or Pd-103. Although prostate cancer is typically viewed as a slow growing
cancer it can present with aggressive features.  Cs-131’s higher BED may be
particularly beneficial in such situations.  (Armpilia CI, et al.  The
Determination of Radiobiologically Optimized Half-lives for Radionuclides Used
in Permanent Brachytherapy Implants.  Int. J. Radiation Oncology Biol.
Phys. 2003; 55 (2):  378-385.)





PSA
Control


Investigators
tracking PSA in both single arm and randomized trials have concluded Cs-131’s
PSA response rates show similar early tumor control to I-125, long considered
the gold standard in permanent seed brachytherapy.  Longitudinal PSA
measurements from ongoing Cs-131 clinical series demonstrate trends very similar
to those seen with other isotopes. (Moran B, et. al. Cesium-131 Prostate
Brachytherapy” An Early Experience. Brachytherapy. 2007:6(2)80.)
(Bice W, et. al.  Recommendations for permanent prostate brachytherapy with
131Cs: a consensus report from the Cesium Advisory Group. Brachytherapy
2008:7(4)290-296.) (Platta CS, et al. Early Outcomes of Prostate Seed Implants
with 131Cs: Toxicity and Initial PSA Dynamics from a Single Institution. Int. J. Radiation Oncology Biol.
Phys. 2008:72(S1)S323-4.)





Industry
Information





Incidence
of Prostate Cancer





The
prostate is a walnut-sized gland located in front of the rectum and underneath
the urinary bladder.  Prostate cancer is a malignant tumor that begins most
often in the periphery of the gland and, like other forms of cancer, may spread
beyond the prostate to other parts of the body.  According to the American
Cancer Society, approximately one man in six will be diagnosed with prostate
cancer during his lifetime and one man in thirty-six will die of prostate
cancer.  It is the most common form of cancer in men after skin cancer, and
the second leading cause of cancer deaths in men following lung and bronchus
cancers that account for 30% of deaths from cancer in men in the United
States.  The American Cancer Society estimates there will be about 217,730
new cases of prostate cancer diagnosed and an estimated 32,050 deaths associated
with the disease in the United States in 2010.  Because of early detection
techniques (e.g., screening for prostate specific antigen, or PSA),
approximately nine out of ten prostate cancers are found in the local and
regional stages (local means it is still confined to the prostate; regional
means it has spread from the prostate to nearby areas, but not to distant sites,
such as bone).





Prostate
cancer accounts for about 11% of cancer related deaths in men.  Prostate
cancer incidence and mortality increase with age.  The American Cancer
Society has reported that the incidence of prostate cancer rises rapidly after
age 50.  Almost 2 of 3 prostate cancers are found in men over the age of
65.





The
American Cancer Society recommends that men be given an opportunity to make an
informed decision with their health care provider about whether to be screened
for prostate cancer.  The decision should be made after getting information
about the uncertainties, risks, and potential benefits of prostate cancer
screening.  Men should not be screened unless they receive this
information.  In March 2010, the American Cancer Society warned that
regular testing for prostate cancer is of questionable value and can do more
harm than good.





This
discussion about screening should take place at age 50 for men who are at
average risk of prostate cancer and are expected to live at least 10 more
years.





4


This
discussion should take place starting at age 45 for men at high risk of
developing prostate cancer.  This includes African American men and men who
have a first-degree relative (father, brother or son) diagnosed with prostate
cancer at an early age (younger than age 65).





This
discussion should take place at age 40 for men at even higher risk (those with
several first-degree relatives who had prostate cancer at an early
age).





After
this discussion, those men who want to be screened should be tested with the
prostate specific antigen (PSA) blood test.  The digital rectal exam (DRE)
may also be done as a part of screening but is no longer
recommended.





Incidence
of Lung Cancer





An
estimated 222,520 new cases of lung cancer are expected in 2010, accounting for
15% of all cancer diagnoses in the United States.  Lung cancer accounts for
the most cancer related deaths in both men and women in the United States. 
An estimated 157,300 deaths, accounting for about 28% of all cancer deaths, are
expected to occur in 2010.  This exceeds the combined number of deaths from
the three leading causes of cancer (breast, prostate, and colon cancers). 
It also accounts for 6% of all deaths from any source in the United
States.  (Cancer
Management: A Multidisciplinary Approach, 11th ed. (2008). Richard
Pazdur, Lawrence R. Coia, William J. Hoskins, Lawrence D. Wagman; American
Cancer Society, 2009.)





Cigarette
smoking is by far the most important risk factor for lung cancer.  Risk
increases with quantity and duration of cigarette consumption.  Cigar and
pipe smoking also increase risk.  Other risk factors include occupational
or environmental exposure to secondhand smoke, radon, asbestos (particularly
among smokers), certain metals (chromium, cadmium, arsenic), some organic
chemicals, radiation, air pollution, and a history of tuberculosis. 
Genetic susceptibility plays a contributing role in the development of lung
cancer, especially in those who develop the disease at a younger age. 
(American Cancer Society, 2010)





The
1-year relative survival for lung cancer increased from 35% in 1975-1979 to 42%
in 2002-2005, largely due to improvements in surgical techniques and combined
therapies.  However, the 5-year survival rate for all stages combined is
only 16%.  The 5-year survival rate is 53% for cases detected when the
disease is still localized, but only 15% of lung cancers are diagnosed at this
early stage.  (American Cancer Society, 2010)





Incidence
of Head and Neck Cancers





An estimated 49,260 new cases of head
and neck cancer are expected in 2010, including 23,880 cases of oral cavity
cancer, 12,720 cases of laryngeal cancer, and 12,660 cases of pharyngeal cancer
diagnosed in the United States.  (American Cancer Society,
2010.)





Symptoms
may include a sore in the throat or mouth that bleeds easily and does not heal,
a lump or thickening, ear pain, a neck mass, coughing up blood, and a red or
white patch that persists.  Difficulties in chewing, swallowing, or moving
the tongue or jaw are often late symptoms.  (American Cancer Society,
2010)





Known
risk factors include all forms of smoked and smokeless tobacco products and
excessive consumption of alcohol.  Many studies have reported a synergism
between smoking and alcohol use, resulting in more than a 30-fold increased risk
in individuals who both smoke and drink heavily.  Human Papilloma Virus
(HPV) infection is associated with certain types of oropharyngeal cancer. 
(American Cancer Society, 2010)





5





Incidence
of Ocular Melanoma





The
American Cancer Society estimates that 2,480 new cases of cancers of the eye and
orbit (primarily melanoma) will be diagnosed in 2010 and about 230 deaths from
cancer of the eye will occur in 2010 in the United States.  Primary eye
cancer can occur at any age but most occur in people over 50 years of age. 
(American Cancer Society, 2010)





Many
patients with eye melanoma (cancer) have no symptoms unless the cancer grows in
certain parts of the eye or becomes more advanced.  Signs and symptoms of
eye melanomas can include problems with vision including blurry vision or sudden
loss of vision, floaters or flashes of light, visual field loss, a growing dark
spot on the iris, change in the size or shape of the pupil, change in position
of the eyeball within its socket, bulging of the eye, and/or change in the way
the eye moves within the socket.  Known risk factors for ocular melanoma
include sun exposure, certain occupations (e.g. welders, farmers, fishermen,
chemical workers and laundry workers), race/ethnicity/eye and skin color, and
certain inherited conditions such as dysplastic nevus syndrome.  (American
Cancer Society, 2010)





Incidence
of Colorectal Cancer





An
estimated 142,570 new cases of colorectal cancer are expected in the United
States in 2010, including 102,900 new cases of colon cancer and 39,670 new cases
of rectal cancer.  (American Cancer Society, 2010.)





Symptoms
may include a change in bowel habits including diarrhea, constipation, or
narrowing of the stool that lasts for more than a few days, a feeling of the
need to have a bowel movement which is not relieved by doing so, rectal
bleeding, dark stools or blood in the stool, cramping or abdominal pain,
weakness and fatigue, and unintended weight loss.





Known
risk factors include age, personal history of colorectal polyps or colorectal
cancer, personal history of inflammatory bowel disease, family history of
colorectal cancer, inherited syndromes and racial and ethnic
background.





The
5-year relative survival rates for colon cancer are 74% in stage I, a range of
37% to 67% in stage II, a range of 28% to 73% in stage III and 6% in stage
IV.  The 5-year relative survival rates for rectal cancer are 74% in stage
I, a range of 32% to 65% in stage II, a range of 33% to 74% in stage III and 6%
in stage IV.





Prostate
Brachytherapy





The
industry has experienced an overall decrease in the number of cases of prostate
cancer treated with brachytherapy as physicians have elected to utilize other
treatment modalities, or to defer definitive treatment to a higher degree than
historically.





Minimally
invasive brachytherapy has significant advantages over competing treatments
including lower cost, equal or better survival data, fewer side effects, faster
recovery time and the convenience of a single outpatient implant procedure that
generally lasts less than one hour (Merrick, et al., Techniques in Urology, Vol.
7, 2001; Potters, et al., Journal of Urology, May 2005; Sharkey, et al., Current
Urology Reports, 2002).





Treatment
Options and Protocol





In
addition to brachytherapy, localized prostate cancer can be treated with
prostatectomy surgery (RP for radical prostatectomy), external beam radiation
therapy (EBRT), intensity modulated radiation therapy (IMRT), dual or
combination therapy, high dose rate brachytherapy (HDR), cryosurgery, hormone
therapy, and watchful waiting.  The success of any treatment is measured by
the feasibility of the procedure for the patient, morbidities associated with
the treatment, overall survival, and cost.  When the cancerous tissue is
not completely eliminated, the cancer typically returns to the primary site,
often with metastases to other areas of the body.





6


Prostatectomy Surgery Options.Historically the most common treatment option for prostate cancer,
radical prostatectomy is the removal of the prostate gland and some surrounding
tissue through an invasive surgical procedure.  RP is performed under
general anesthesia and involves a hospital stay of three days on average for
patient observation and recovery.  Possible side affects of RP include
impotence and incontinence.  According to a study published in the Journal of the American Medical Association
in January 2000, approximately 60% of men who had a RP reported erectile
dysfunction as a result of surgery.  This same study stated that
approximately 40% of the patients observed reported at least occasional
incontinence.  New methods such as laparoscopic and robotic prostatectomy
surgeries are currently being used more frequently in order to minimize the
nerve damage that leads to impotence and incontinence, but these techniques
require a high degree of surgical skill.  RP and laparoscopic prostatectomy
are projected to decrease approximately 31% in the U.S. from the 2004 high of
66,567 to 20,838 procedures in 2014.  However, robotic surgeries are
projected to more than replace the decrease in the RP and laparoscopic
procedures (Source: iData Research Inc., 2008).





Primary External Beam Radiation
Therapy.  EBRT involves directing a beam of radiation from outside
the body at the prostate gland to destroy cancerous tissue.  EBRT
treatments are received on an outpatient basis five days per week usually over a
period of eight or nine weeks.  Some studies have shown, however, that the
ten-year disease free survival rates with treatment through EBRT are less than
the disease free survival rates after RP or brachytherapy treatment.  Side
effects of EBRT can include diarrhea, rectal leakage, irritated intestines,
frequent urination, burning while urinating, and blood in the urine.  Also
the incidence of incontinence and impotence five to six years after EBRT is
comparable to that for surgery.  EBRT procedures are projected to increase
slightly from 22,000 procedures in 2006 to 24,900 in 2012 (Source: Millennium
Research Group, 2008).





Intensity Modulated Radiation
Therapy.IMRT is considered a more advanced form of EBRT in which
sophisticated computer control is used to aim the beam at the prostate from
multiple different angles and to vary the intensity of the beam.  Thus,
damage to normal tissue and critical structures is minimized by distributing the
unwanted radiation over a larger geometric area.  This course of treatment
is similar to EBRT and requires daily doses over a period of seven to eight
weeks to deliver the total dose of radiation prescribed to kill the tumor. 
Because IMRT is a new treatment, less clinical data regarding treatment
effectiveness and the incidence of side effects is available.  One
advantage of IMRT, and to some extent EBRT, is the ability to treat cancers that
have begun to spread from the tumor site.  An increasingly popular therapy
for patients with more advanced prostate cancer is a combination of IMRT with
seed brachytherapy, known as combination or dual therapy.  IMRT in the U.S.
(including dual therapy) is projected to grow 9% per year from 31,500 procedures
in 2007 to 48,500 procedures in 2012 (Source: Millennium Research Group,
2008).  IMRT is generally more expensive than other common treatment
modalities.





Dual or Combination Therapy.Dual therapy is the combination of IMRT or 3-dimensional conformal
external beam radiation and seed brachytherapy to treat extra-prostatic
extensions or high risk prostate cancers that have grown outside the
prostate.  Combination therapy treats high risk patients with a full course
of IMRT or EBRT over a period of several weeks.  When this initial
treatment is completed, the patient must then wait for several more weeks to
months to have the prostate seed implant.  Management estimates that at
least 30% of all prostate implants are now dual therapy cases.





High Dose Rate Temporary
Brachytherapy.  HDR temporary brachytherapy involves placing very
tiny plastic catheters into the prostate gland, and then giving a series of
radiation treatments through these catheters.  The catheters are then
removed, and no radioactive material is left in the prostate gland.  A
computer-controlled machine inserts a single highly radioactive iridium seed
into the catheters one by one.  This procedure is typically repeated at
least three times while the patient is hospitalized for at least 24 hours. 
HDR is projected to grow approximately 1.3% per year from 26,200 procedures in
2007 through 2012 (Source: Millennium Research Group, 2008).





7


Cryosurgery.Cryosurgery involves placing cold metal probes into the prostate and
freezing the tissue in order to destroy the tumor.  Cryosurgery patients
typically stay in the hospital for a day or two and have had higher rates of
impotence and other side effects than those who have used seed implant
brachytherapy.





Additional Treatments.Additional treatments include hormone therapy and chemotherapy. 
Hormone therapy is generally used to shrink the tumor or make it grow more
slowly but will not eradicate the cancer.  Likewise, chemotherapy will not
eradicate the cancer but can slow the tumor growth.  Generally, these
treatment alternatives are used by doctors to extend patients’ lives once the
cancer has reached an advanced stage or in conjunction with other treatment
methods.  Hormone therapy can cause impotence, decreased libido, and breast
enlargement.  Most recently, hormone therapy has been linked to an
increased risk of cardiovascular disease in men with certain pre-existing
conditions such as heart disease or diabetes.  Chemotherapy can cause
anemia, nausea, hair loss, and fatigue.





Watchful Waiting.Watchful waiting is not a treatment but might be suggested by some
healthcare providers depending on the age and life expectancy of the
patient.  Watchful waiting may be recommended if the cancer is diagnosed as
localized and slow growing, and the patient is asymptomatic.  Generally,
this approach is chosen when patients are trying to avoid the side affects
associated with other treatments or when they are not candidates for current
therapies due to other health issues.  Healthcare providers will carefully
monitor the patient’s PSA levels and other symptoms of prostate cancer and may
decide on active treatments at a later date.





Comparing
Cs-131 to I-125 and Pd-103 Clinical Results





Long-term
survival data is now available for brachytherapy with I-125 and Pd-103, which
support the efficacy of brachytherapy.  Clinical data indicate that
brachytherapy offers success rates for early-stage prostate cancer treatment
that are equal to or better than those of RP or EBRT.  While clinical
studies of brachytherapy to date have focused primarily on results from
brachytherapy with I-125 and Pd-103, management believes that these data are
also relevant for brachytherapy with Cs-131.  In fact, it appears that
Cs-131 offers improved clinical outcomes over I-125 and Pd-103, given its
shorter half-life and higher energy.





Improved patient
outcomes.  A number of published studies describing the use of I-125
and Pd-103 brachytherapy in the treatment of early-stage prostate cancer have
been very positive when compared to other treatment options.  A recent
study of 2,963 prostate cancer patients who underwent brachytherapy as their
sole therapeutic modality at 11 institutions across the U.S. concluded that
low-risk patients (who make up the preponderance of localized cases) who
underwent adequate implants experienced rates of PSA relapse survival of greater
than 90% between eight and ten years (Zelefsky MJ, et al, “Multi-institutional
analysis of long-term outcome for stages T1-T2 prostate cancer treated with
permanent seed implantation”  International Journal of Radiation
Oncology Biology Physics, Volume 67, Issue 2, 2007,
327-333).





Other
recent studies have demonstrated similar, durably high rates of control
following brachytherapy for localized prostate cancer out to 15 years
post-treatment (Sylvester J, et al. “15-year biochemical relapse free survival
in clinical stage T1-T3 prostate cancer following combined external beam
radiotherapy and brachytherapy; Seattle experience”, International Journal of Radiation
Oncology Biology Physics, Vol. 67, Issue 1, 2007, 57-64).  The
cumulative effect of these series has been the conclusion by leaders in the
field that brachytherapy offers a disease control rate as high as surgery,
though with a lesser side-effect profile than surgery (Ciezki JP. 
“Prostate brachytherapy for localized prostate cancer” Current Treatment Options in
Oncology, Volume 6, 2005, 389-393).





8


Reduced Incidence of Side
Effects.  Sexual impotence and urinary incontinence are two major
concerns men face when choosing among various forms of treatment for prostate
cancer.  Studies have shown that brachytherapy with existing sources
results in lower rates of impotence and incontinence than surgery (Buron C, et al. 
“Brachytherapy versus prostatectomy in localized prostate cancer: results of a
French multicenter prospective medico-economic study”.International
Journal of Radiation Oncology, Biology, Physics, Volume 67, 2007,
812-822). Combined with the high disease control rates described in many
studies, these findings have driven the adoption of brachytherapy as a
front-line therapy for localized prostate cancer.





It has
been noted, however, that a significant proportion of patients who undergo I-125
or Pd-103 brachytherapy experience acute urinary irritative symptoms following
treatment – in fact more so than with surgery or external beam radiation therapy
(Frank SJ, et al, “An assessment of quality of life following radical
prostatectomy, high dose external beam radiation therapy, and brachytherapy
iodine implantation as monotherapies for localized prostate cancer” Journal of Urology, Volume
177, 2007, 2151-2156).  It has been postulated that Cs-131, with the
shortest available half-life for a low-dose rate therapy isotope, will result in
a quicker resolution of these irritative symptoms based on the shorter time
interval over which normal tissue receives radiation from the implanted
sources.





Preliminary
data drawn from several clinical studies suggest that patients treated with
Cs-131 do in fact experience a faster resolution of these side effects in
comparison to similar studies published for other isotopes (Defoe SG, et al, “Is
there a decreased duration of acute urinary and bowel symptoms after prostate
brachytherapy with Cesium 131 isotope?", International Journal of Radiation
Oncology Biology Physics, Volume 72 (Supplement 1), S317; Jones A, et al,
"IPSS Trends for Cs-131 Permanent Prostate Brachytherapy" Brachytherapy, Volume 7,
Issue 2, 194; Platta CS, et al, “Early Outcomes of Prostate Seed Implants with
131Cs: Toxicity and Initial PSA Dynamics from a Single Institution" International Journal of Radiation
Oncology Biology Physics, Volume 72 (Supplement 1), 2008,
S323-4).





A Cs-131
monotherapy trial for the treatment of prostate cancer was fully enrolled in
February 2007.  The trial was a 100 patient multi-institutional study that
sought to (1) document the dosimetric characteristics of Cs-131, (2) to
summarize the side effect profile of Cs-131 treatment, and (3) to track
biochemical (PSA) results in patients following Cs-131
therapy.





The
investigators responsible for conducting the study have concluded based on the
results of the monotherapy trial that Cs-131 is a viable alternative as an
isotope for permanent seed prostate brachytherapy (Prestidge BR, Bice WS,
“Clinical outcomes of a Phase II, multi-institutional Cesium-131 permanent
prostate brachytherapy trial”. Brachytherapy, Volume 6,
Issue 2, April-June 2007, Page 78).





Some of
the significant and specific findings were as follows:





§
            Patient
      reported irritative urinary symptoms (IPSS Scores) were mild to moderate
      with relatively rapid resolution within 4-6 months.  The figure below
      depicts the symptom scores in the Cs-131 study as compared to published
      reports of patients who underwent I-125 brachytherapy.  Especially
      notable is the steep drop in the Cs-131 group scores (purple line) as
      opposed to the more gradual drop in the I-125 group scores (green and blue
      lines).




9









§
            Prostate
      Specific Antigen, or PSA, response over 36 months has been very
      encouraging to date with similar tumor control rates to that of
      I-125.  (Prestidge BR, Bice WS, “Clinical outcomes of a Phase II,
      multi-institutional Cesium-131 permanent prostate brachytherapy trial”.
      Brachytherapy, Volume 6, Issue
      2, April-June 2007, Page 78).  The graph below depicts the
      median PSAs to date from the 100 patient Cs-131 brachytherapy series as
      compared to previously published I-125 series.  There have been no
      PSA failures in the Cs-131 monotherapy study to date.  (A PSA failure
      is a rise in the blood level of PSA in prostate cancer patients after
      treatment with radiation or
surgery.)











§
            Gland
      coverage was excellent and the dose delivered to critical structures
      outside the prostate was well within acceptable limits. (Bice WS,
      Prestidge BR, “Cesium-131 permanent prostate brachytherapy: The dosimetric
      analysis of a multi-institutional Phase II trial”.  Brachytherapy 2007(6);
      88-89.).





10


Several
other series have been reported that have compared dosimetric parameters
(indicators of dose) among Cs-131, Pd-103, and I-125.  These comparative
studies have shown a clear advantage to Cesium-131 from a dosimetric
point-of-view, in terms of successful gland coverage obtained (typically
measured by D90) while keeping unnecessary gland over-dosing (typically measured
by V150 or V200) to a minimum (Musmacher JS, et al, "Dosimetric Comparison of
Cesium-131 and Palladium-103 for Permanent Prostate Brachytherapy" International Journal of Radiation
Oncology Biology Physics, Volume 69, (Supplement 3), 2007, S730-1;
Yaparpalvi R, et al, "Is Cs-131 or I-125 or Pd-103 the Ideal Isotope for
Prostate Boost Brachytherapy? A Dosimetric View Point." International Journal of Radiation
Oncology Biology Physics, Volume 69 (Supplement 3), 2007, S677-8; Sutlief
S and Wallner K,   "Cs-131 Prostate Brachytherapy and Treatment Plan
Parameters." Medical
Physics, Volume 34, 2007, 2431; Kurtzman S, "Dosimetric Evaluation of
Permanent Prostate Brachytherapy Using Cs-131 Sources" International Journal of Radiation
Oncology Biology Physics, Volume 66 (Supplement 3),
S395).





The
monotherapy Cs-131 trial will continue to follow patients with annual updates on
symptoms and patient long-term survival data.  The Company anticipates
maintaining this ongoing monitoring over several years to prove the long-term
effectiveness of Cs-131.





The
prospective randomized monotherapy trial headed by Dr. Brian Moran of The
Chicago Prostate Cancer Center directly compared Cs-131 to I-125 PSA response
and treatment related morbidities following brachytherapy for localized
carcinoma of the prostate in low to intermediate risk patients.  Dr. Moran
concluded that prostate brachytherapy with Cs-131 is effective and
well-tolerated; both PSA response and the acute morbidity profile were very
encouraging.  Dr. Moran will continue to track these patients in order to
collect long-term outcomes.





The
Cs-131 Advisory Group’s (CAG) article entitled “Recommendations for permanent
prostate brachytherapy with 131Cs: a
consensus report from the Cesium Advisory Group” was published in Brachytherapy in the fourth
quarter of calendar year 2008.  The CAG is sponsored by the Company. 
The objective of the article was toprovide consensus
recommendations for Cs-131 prostate brachytherapy based on experience to date
for physicians still unfamiliar with Cs-131.  These recommendations are
based on three clinical trials in which one of the trials has completed the
patient accrual, published in the peer reviewed literature, and the combined CAG
experience of more than 1,200 Cs-131 implants.  The recommendations from
the group are designed to aid practitioners in the safe and effective delivery
of Cs-131 prostate brachytherapy.





The
Company has also commissioned a dual therapy protocol.  This
multi-institutional trial observes the dosimetric characteristics of Cs-131 and
health related quality of life (HRQOL) results following combined Cs-131
transperineal permanent prostate brachytherapy and external beam radiotherapy in
patients with intermediate to high risk prostate cancer.  This protocol is
being conducted to confirm clinically what radiobiological data suggests
regarding this treatment modality.  The quantified dosimetric variables
collected will be correlated to the reported HRQOL data and ultimately compared
to existing data in the literature for similar investigations using I-125 and
Pd-103.  Patient enrollment for this study began in April 2007 and during
the year ended June 30, 2010 enrollment to the study was closed.





In
addition to establishing the dosimetric and quality of life impact of Proxcelan
Cesium-131 brachytherapy seeds in different treatment modalities, all trials
have been designed to collect ongoing PSA results for the purposes of
establishing long-term survival rates using Cs-131 seed implant
brachytherapy.





Lung
Cancer Treatment Options





Lung
cancer has historically been treated utilizing surgery, radiation therapy, other
local treatments, chemotherapy and targeted therapy.  Surgery generally
involves removing a portion of the lung (lobectomy, segmentectomy, wedge
resection) or the entire lung (pneumonectomy).  Chemotherapy may be used
either as a primary treatment or a secondary treatment depending on the type and
stage of the lung cancer.  Standard external beam radiation therapy is
sometimes used as the primary treatment if the tumor cannot be removed by
surgery due to the tumor’s location or the patient’s health however this is now
used less often as it is being replaced with newer EBRT techniques such as
3D-CRT, IMRT and stereotactic radiation therapy. (American Cancer Society,
2010)





11


Brachytherapy
is now being used in conjunction with surgery to kill small areas of cancer that
might be missed during surgery.  The Company believes that Cs-131, with its
shorter half-life and high energy, is better suited for treating lung cancer
than either I-125 or Pd-103.  The bioabsorbable mesh used in this procedure
to apply the Proxcelan Cs-131 brachytherapy seeds generally dissolves after
about 45 days.  Cs-131 delivers 90% of its dose in 33 days and is therefore
well-suited to use with bioabsorbable mesh.




Head
and Neck Cancer Treatment Options





Most head
and neck cancers have historically been treated with some combination of surgery
including tumor resection, Mohs micrographic surgery, full or partial mandible
(jaw bone) resection, maxillectomy, laryngectomy, neck dissection, pedicle or
free flap reconstruction, tracheostomy, gastrostomy tube or dental extraction
and implants; chemotherapy and radiation therapy including external beam
radiation therapy (EBRT), accelerated and hyperfractionated radiation therapy,
three-dimensional conformal radiation therapy (3D-CRT) and intensity modulated
radiation therapy (IMRT), and brachytherapy (both high-dose rate (HDR) and
low-dose rate (LDR)).





Surgery
is the most common option.  Chemotherapy is often used in conjunction with
surgery or radiation therapy depending on the type and stage of the
cancer.  External beam radiation therapy and brachytherapy have been used
together or in combination with surgery or chemotherapy





Management
believes Proxcelan Cs-131 represents an improved approach to brachytherapy
treatment of head and neck cancers.





Ocular
Melanoma Treatment Options





In
addition to brachytherapy to treat ocular melanoma, other treatment options
include surgery, external beam radiation, and laser therapy.  Surgery could
include removal of part of the iris, a portion of the outer eyeball, or the
removal of the entire eyeball, and is used less often than in the past as the
use of radiation therapy has grown.  External beam radiation (including
conformal proton beam radiation therapy and stereotactic radiosurgery) involves
sending radiation from a source outside the body that is focused on the cancer
but has not been as widely used to date for ocular melanoma.  Laser
therapy, rarely used now to treat ocular melanoma, burns the cancerous tissue by
using a highly focused, high-energy light beam.  Laser therapy can be
effective for very small melanomas but it is more often used to treat side
effects from radiation. (American Cancer Society, 2010)





Brachytherapy
has become the most commonly used radiation treatment for most eye
melanomas.  Brachytherapy using Cs-131, I-125, or Pd-103 is done by placing
the seeds in a plaque (shaped like a small cap) that is attached to the eyeball
with minute stitches for 4 to 5 days.  The patient generally stays in the
hospital until the plaque is removed from the eye.  Brachytherapy cures
approximately 9 out of 10 small tumors and can preserve the vision of some
patients.  (American Cancer Society, 2010)





Colorectal
Treatment Options





Colorectal
cancer has historically been treated using surgery, radiation therapy,
chemotherapy and other targeted therapies.  Depending on the stage of the
cancer, two or more of these types of treatment may be combined at the same time
or used after one another. (American Cancer Society, 2010)





For the
treatment of early stage colon and rectal cancers, surgery is often the main
treatment.  Colorectal surgeries include open colectomy,
laparoscopic-assisted colectomy, and polypectomy and local excision. 
Rectal surgeries include polypectomy and local excision, local transanal
resection, transanal endoscopic microsurgery (TEM), lower anterior resection,
proctectomy with coloanal anastomosis,  abdominoperineal resection and
pelvic exenteration. (American Cancer Society, 2010)





12


For the
treatment of colorectal cancers beyond early stage, other surgery treatments
(radiofrequency ablation, ethanol ablation, cryosurgery and hepatic artery
embolization), radiation therapy (external beam radiation, endocavitary
radiation, brachytherapy, yttrium-90 microsphere radioembolization),
chemotherapy, and targeted therapies (Avastin, Erbitux, Vectibix) can be used.
(American Cancer Society, 2010)





Low-dose
rate (LDR) brachytherapy including Proxcelan Cesium-131 is typically utilized in
treating individuals with rectal cancer who are not healthy enough to tolerate
curative surgery.  This is generally a one-time only procedure and does not
require ongoing visits for several weeks as is common with other types of
radiation therapy such as external-beam radiation therapy and endocavitary
radiation therapy.  Management believes that the advantages provided by
Cesium-131 shown through the treatment of other cancers will benefit patients
utilizing Proxcelan Cesium -131 brachytherapy seeds in the treatment of their
colorectal cancers with low-dose rate brachytherapy.





Our
Strategy





The key
elements of IsoRay’s strategy for fiscal year 2011 include:




§
            Support clinical research and
      sustained product development.  The Company plans to structure
      and support clinical studies on the therapeutic benefits of Cs-131 for the
      treatment of solid tumors and other patient benefits.  We are and
      will continue to support clinical studies with several leading radiation
      oncologists to clinically document patient outcomes, provide support for
      our product claims, and compare the performance of our seeds to competing
      seeds.  IsoRay plans to sustain long-term growth by implementing
      research and development programs with leading medical institutions in the
      U.S. and other countries to identify and develop other applications for
      IsoRay’s core radioisotope
technology.





Management
plans to continue to build on an increasing number of studies related to Cs-131
therapy in the management of cancer that were published in the medical
literature and presented at relevant oncology society meetings in 2010. 
The publication and presentation of speculative and real-world data contribute
to the acceptability of Cs-131 in the oncologic marketplace, and discussion in
the medico-scientific community of established and novel Cs-131 applications is
considered a prerequisite to expansion into untapped markets.





In
calendar year 2010, eight presentations were made at the American Brachytherapy
Society describing Cs-131 treatment of prostate, lung, and breast cancer. 
Five publications were abstracted to the MEDLINE database of citations of the
medical literature that reported patients treated with Cs-131 for prostate
cancer.  Five additional publications mentioned Cs-131 as an accepted
treatment for prostate cancer, and two publications specifically discussed the
physics and dosimetric profile of Cs-131 for the treatment of prostate and eye
cancers.





§
            Continue to introduce the
      Proxcelan Cs-131 brachytherapy seed into the U.S. market for prostate
      cancer.  Utilizing our direct sales organization, IsoRay
      intends to continue to seek to increase the number of centers making the
      use of Proxcelan Cs-131 seeds available to their patients in brachytherapy
      procedures for prostate cancer and by increasing the number of patients
      being treated at current centers using the Proxcelan Cs-131 seeds. 
      IsoRay hopes to capture much of the incremental market growth if and when
      seed implant brachytherapy recovers market share from other treatments and
      to take market share from existing
competitors.





§
            Increase utilization of Cs-131
      in treatment of other solid tumor applications such as head and neck,
      lung, chest wall, and colorectal cancers.IsoRay Medical has
      clearance from the FDA for its premarket notification, (510(k)) for
      ProxcelanTM brachytherapy seeds that are preloaded into bioabsorbable
      braided strands. This order cleared the product for commercial
      distribution for treatment of lung and head and neck tumors as well as
      tumors in other organs.  IsoRay will continue to explore licenses or
      joint ventures with other companies to develop the appropriate
      technologies and therapeutic delivery systems for treatment of other solid
      tumors such as breast, liver, pancreas, and brain
  cancers.




13




§
            Return GliaSite® radiation
      therapy system to market in the United States and European Union (EU).In June of 2010, the Company acquired exclusive worldwide
      distribution rights to the GliaSite® radiation therapy system, the only
      FDA-cleared balloon catheter device used in the treatment of brain cancer
      from Hologic, Inc.  The product possesses an established
      reimbursement rate for both in-patient and out-patient settings.  The
      Company intends to return the product to market in a configuration
      equivalent to the original FDA-cleared device.  The Company is
      working to obtain the rights to license or acquire the Iotrex solution
      (Iodine -125) manufactured for use in the GliaSite® radiation therapy
      system.  The Company has developed a liquid Cesium-131
      solution for use in the GliaSite® radiation therapy system as either a
      substitute for the Iotrex or as an alternative treatment option for
      physicians to utilize in the
system.





§
            Continue to develop data on
      Cs-131 for treatment of ocular melanoma.  The Company’s
      first sale for ocular melanoma occurred in late 2007 and periodic sales
      have occurred since then.  IsoRay is sponsoring a prospective review
      of the patients treated with Cs-131 to date.  This clinical data will
      be presented at the November 2010 annual meeting of the American Society
      for Therapeutic Radiology and Oncology (ASTRO).  Although the ocular
      melanoma market is not a large one, this application of Cs-131 continues
      to demonstrate the potential viability for other solid
    tumors.





·
            Introduce Proxcelan Cesium-131
      brachytherapy seeds to the Canadian and European Union (EU)
      markets.  Health Canada’s Therapeutic Products Directorate has
      approved IsoRay’s Class 3 Medical Device License Applications for Model
      CS-1 Proxcelan TM (Cesium-131) brachytherapy seeds and the ProxcelanTM
      Sterile Implant Devices containing Model CS-1 Seeds.  This allows
      IsoRay to market its brachytherapy seeds and related preloaded
      brachytherapy seeds throughout Canada.  In November 2009, the Company
      entered into a distribution agreement with Inter V Medical of Montreal,
      Quebec, Canada for exclusive rights to sell the Proxcelan Cs-131
      brachytherapy seed in Canada.  Approval to market Cesium-131 seeds in
      Russia was also obtained in 2009; and the Company has an exclusive
      distribution agreement in place with a Russian distributor, UralDial LLC,
      to distribute Proxcelan Cs-131 brachytherapy seeds in Russia, however, the
      economic downturn in Russia has slowed the Company’s market penetration
      efforts.  The Company is focusing on the Canadian and European Union
      (EU) markets until the Russian market
recovers.





§
            Maintain ISO 13485
      certification.  In August 2008, the Company obtained its ISO
      13485 certification.  This was an important step to allow the Company
      to register and eventually sell its Proxcelan Cs-131 brachytherapy seeds
      in Canada, the European Union (EU) and Russia.  The Company completed
      its registrations of Proxcelan Cs-131 brachytherapy seeds in Canada and
      Russia during fiscal year 2009.





Products





IsoRay
markets the Proxcelan Cs-131brachytherapy
seed for the treatment of prostate cancer, lung cancer, ocular melanomas, head
and neck cancers, and colorectal cancer.  The Company intends to market
Cs-131 for the treatment of other malignant disease, such as brain and
gynecological cancers, in the near future through the use of existing proven
technologies that have received FDA-clearance.  The strategy of utilizing
existing FDA-cleared technologies intends to reduce the time and cost required
to develop new applications of Cs-131 and deliver them to market.





Competitive
Advantages of Proxcelan Cs-131





Management
believes that the Proxcelan Cesium-131 brachytherapy seed has specific clinical
advantages for treating cancer over I-125 and Pd-103, the other isotopes
currently used in brachytherapy seeds.  The table below highlights the key
differences of the three seeds.  The Company believes that the short
half-life, high-energy characteristics of Cs-131 will increase industry growth
and facilitate meaningful penetration into the treatment of other forms of
cancer such as lung cancer.




14




Isotope
      Delivery Over TimeIsotope
              Half-Life
              Energy
              90%
      Dose
              Total
      DoseCs-131
              9.7
      days
              30.4
      KeV
              33
      days
              115
      GyPd-103
              17
      days
              20.8
      KeV
              58
      days
              125
      GyI-125
              60
      days
              28.5
      KeV
              204
      days
              145
      Gy




Cs-131
Manufacturing Process and Suppliers





Product Overview. Cs-131 is a
radioactive isotope that can be produced by the neutron bombardment of
Barium-130 (Ba-130).  When placed into a nuclear reactor and exposed to a
flux of neutrons, Ba-130 becomes Ba-131, the radioactive material that is the
parent isotope of Cs-131.  The radioactive isotope Cs-131 is normally
produced by placing a quantity of stable non-radioactive barium (ideally barium
enriched in isotope Ba-130) into the neutron flux of a nuclear reactor. 
The irradiation process converts a small fraction of this material into a
radioactive form of barium (Ba-131).  The Ba-131 decays by electron capture
to the radioactive isotope of interest (Cs-131).





To
produce the Proxcelan seed, the purified Cs-131 isotope is adsorbed onto a
ceramic core containing a gold X-ray marker. This internal core assembly is
subsequently inserted into a titanium capsule that is then welded shut and
becomes a sealed radioactive source and a biocompatible medical device. The
dimensional tolerances for the ceramic core, gold X-ray marker, and the titanium
capsule are extremely important.  To date the Company has used sole-source
providers for certain components such as the gold X-ray marker and the titanium
capsule as these suppliers have been validated by our quality department and
they have been cost effective.





Isotope Suppliers.  Due
to the short half-life of both the Ba-131 and Cs-131 isotopes, potential
suppliers must be capable of removing irradiated materials from the reactor core
on a routine basis for subsequent processing to produce ultra-pure Cs-131. 
In addition, the supplier’s nuclear reactor facility must have sufficient
irradiation capacity to accommodate barium targets and the nuclear reactors must
have sufficient neutron flux to economically produce commercially viable
quantities of Cs-131.  Ideally, the irradiation facility will also have a
radiochemical separation infrastructure to carry out the initial separation
steps.  The Company has identified key reactor facilities in the U.S. and
Russia that are capable of meeting these requirements.  In order to manage
the Russian supply more effectively IsoRay entered into a second agreement with
UralDial, LLC (a Russian LLC) on November 30, 2009 to provide Cs-131 isotope
from Russia to the Company’s facility in Richland, WA through December 31,
2010.  UralDial obtains Cs-131 from two suppliers.  The Company also
continues to receive irradiated barium from the MURR reactor located in the
United States.  For the fiscal year ended June 30, 2010, approximately
sixty-eight percent (68%) of our Cs-131 was supplied by one of two Russian
supply sources and thirty-two percent (32%) from domestic sources.





The
Company plans to expand Cs-131 manufacturing capability at the MURR reactor but
will continue to obtain Cs-131 from multiple suppliers.  Failure to obtain
deliveries of Cs-131 from at least one of its Russian suppliers could have a
material adverse effect on seed production.  Management believes it will
continue to rely solely on its existing suppliers in the near future, however,
shutdowns from these suppliers could cause delays in deliveries and
production.





Quality Controls.  We
have established procedures and controls to comply with the FDA’s Quality System
Regulation.  The Company constantly monitors these procedures and controls
to ensure that they are operating properly, thereby working to maintain a
high-quality product.  Also, the quality, production, and customer service
departments maintain open communications to ensure that all regulatory
requirements for the FDA, DOT, and applicable nuclear radiation and health
authorities are fulfilled.





15


In July
2008, IsoRay had its baseline inspection by the FDA at its manufacturing and
administrative offices in Richland, WA.  This inspection was carried out
over a five day period of time during which the investigator performed a
complete inspection following Quality Systems Inspection Techniques
(QSIT).  At the end of the inspection, no report of deviations from Good
Manufacturing Practices or list of observations (form FDA 483) was issued to
IsoRay.





Order Processing.  The
Company has implemented a just-in-time production process that is responsive to
customer input and orders to ensure that individual customers receive a higher
level of customer service than received from our competitors who have the luxury
of longer lead times due to longer half-life products.  Time from order
confirmation to completion of product manufacture is reduced to several working
days, including receipt of irradiated barium (from the domestic supplier’s
reactor) or unpurified Cs-131 (from the international supplier’s reactor),
separation and purification of Cs-131, isotope labeling of the core, loading of
cores into pre-welded titanium “cans” for final welding, testing, quality
assurance and shipping.





It is up
to each physician to determine the dosage necessary for implants and acceptable
dosages vary among physicians.  Many of the physicians who order our seeds
order more seeds than necessary to assure themselves that they have a sufficient
quantity.  Upon receipt of an order, the Company either delivers the seeds
from its facility directly to the physician in either loose or preloaded form or
sends the order to an independent preloading service that delivers the seeds
preloaded into needles or cartridges just prior to implant.  If the implant
is postponed or rescheduled, the short half-life of the seeds makes them
unsuitable for use and therefore they must be re-ordered.





Due to
the lead time for obtaining and processing the Cs-131 isotope and the short
half-life, the Company relies on sales forecasts and historical knowledge to
estimate the proper inventory levels of isotope needed to fulfill all customer
orders.  Consequently, some portion of the isotope is lost through decay
and is not used in an end product.  Management continues to reduce the
variances between ordered isotope and isotope deliveries and is continually
improving its ordering process efficiencies.





Automated
Manufacturing Process





In fiscal
2010, IsoRay pursued further automation identified by management to reduce cost
and increase radiation safety while allowing an expansion of product loading
configurations.  The Company will continue to evaluate and implement
automation in the future that supports process improvement, employee safety and
resource management.  The Company continues to contract with a third party
to outsource certain sub-processes where cost effective.





Manufacturing
Facility





The
Company maintains a production facility located at Applied Process Engineering
Laboratory (APEL).  The APEL facility became operational in September
2007.  The production facility has over 15,000 square feet and includes
space for isotope separation, seed production, order dispensing, a clean room
for radiopharmacy work, and a dedicated shipping area.  A description of
the lease terms for the APEL facility is located in the Other Commitments and
Contingencies section of Item 7 below.  Management believes that the APEL
facility will be utilized for manufacturing space through fiscal year 2016 which
is the original lease term plus the two three-year renewal options. 
Management has exercised the first of two three-year renewal options to extend
the APEL facility lease through April 2013 and it believes that the Company will
exercise the second three-year renewal option through April 2016.





Management
no longer believes that the shuttle system at Idaho's Advanced Test Reactor
(ATR) will provide the conditions necessary for Cs-131 production.  The
facility's capacity is fully allocated to the Navy and management believes it
would be difficult to have IsoRay's commercial operations at the same facility
as these military operations, even if the shuttle was certified for use in
IsoRay operations, which has not occurred.





16


Repackaging
Services





Most
brachytherapy manufacturers offer their seed product to the end user packaged in
five principal configurations provided in a sterile or non-sterile package
depending on the customer’s preference.  These include:





§
            Loose
    seeds


§
            Pre-loaded needles
      (loaded typically with three to five seeds and
  spacers)


§
            Pre-loaded Mick
      cartridges (fits the Mick
applicator)


§
            Strands of seeds
      (consists of seeds and spacers in a biocompatible “shrink
      wrap”)


§
            Preloaded Strands(strands loaded into the
needle)





In fiscal
year 2010, the Company delivered approximately 67% of its Proxcelan seeds to
customers configured in Mick cartridges, approximately 31% of the Proxcelan seed
configured in stranded forms and the remaining 2% in a loose form.





The role
of the preloading service is to package, assay and certify the contents of the
final product configuration shipped to the customer.  A commonly used
method of providing this service is through independent radiopharmacies.
 Manufacturers send loose seeds along with the physician's instructions to
the radiopharmacy which, in turn, loads needles and/or strands the seeds
according to the doctor's instructions.  These radiopharmacies then
sterilize the product and certify the final packaging prior to shipping directly
to the end user.





IsoRay
currently has agreements with several independent radiopharmacies to assay,
preload, and sterilize loose seeds.  Shipping to independent pharmacies
creates additional loss of our isotope through decay.  While the Company
pre-loads many of its current orders, we have continued to utilize loading
services to supplement our own custom preloading operation and to meet the
requests of the ordering physicians.





We
currently load approximately 96% of Mick cartridges in our own facility which in
fiscal year 2010 accounted for approximately 67% of seeds sold.  The
remaining approximately 33% of seeds sold are strand configurations including
preloaded strands.  Although the Company performs in-house analytical
services to eliminate loss in isotope activity due to radioactive decay, the
Company utilizes independent radiopharmacies to back up its own preloading
operation, handle periodic increases in demand and cater to certain doctors’
preferences.





Independent
radiopharmacies traditionally provide the final packaging of the product
delivered to the end user thereby eliminating the opportunity for
reinforcing the "branding" of our seed product.  By providing our own
repackaging service, we are able to preserve the product branding
opportunity and eliminate any concerns related to the handling of our product by
a third party prior to receipt by the end user.





Providing
custom packaging configurations enhances our product while providing an
additional revenue stream and incremental margins to the Company through
pricing premiums charged to our customers.  The end users of these
packaging options are willing to pay a premium because of the savings they
realize by eliminating the need for loose seed handling and
loading requirements on-site, eliminating the need for additional staffing
to sterilize seeds and needles, and eliminating the expense of additional
assaying of the seeds.





With
clearance from the FDA for preloading flexible braided strands and bioabsorbable
mesh, IsoRay became the second company in the industry that has 510(k) clearance
to preload both the strands and the mesh.  This allows IsoRay to reduce
loading costs by providing them directly to our customers.




17




Marketing
and Sales




Marketing
Strategy





The
Company is marketing Proxcelan Cesium-131 brachytherapy seeds as the “seed of
choice” for prostate brachytherapy.  Based on current and preliminary
clinical studies, management believes there is no apparent clinical reason to
use other isotopes when Cs-131 is available.  The advantages associated
with a higher energy and shorter half-life isotope are generally accepted within
the clinical community and the Company intends to help educate potential
patients about the clinical benefits from Cs-131 for their brachytherapy seed
treatment.





IsoRay
has chosen to identify its proprietary Cs-131 seed with the trademarked brand of
“Proxcelan.”  Management is using this brand to differentiate Cs-131 seeds
from seeds using the other isotopes.  We continue to target the competing
isotope products of iodine and palladium rather than the various manufacturers
and distributors of these isotopes.  Using this strategy, the choice of
brachytherapy isotopes should be less dependent on the name and distribution
strengths of the various iodine and palladium manufacturers and distributors and
more dependent on the therapeutic benefits of Cs-131.





The
professional and patient market segments each play a role in the ultimate choice
of cancer treatment and the specific isotope chosen for seed brachytherapy
treatment.  The Company has developed a customized brand message for each
audience.  In 2010, the Company’s website www.isoray.com was again
substantially updated to deliver the message that Cs-131 is for the treatment of
cancers throughout the body and includes sections that provide background
information on the Company, cancer treatment utilizing brachytherapy in
prostate, lung, ocular and brain, information for physicians/clinician
resources, investor information, current events that representatives will
attend, and contact information.  IsoRay also maintains print and visual
medias (including physician brochures discussing the clinical advantages of
Cs-131, clinical information binders, informational DVDs, single sheet glossies
with targeted clinical data, etc.), and advertisements in leading medical
journals.  In addition, the Company attends national professional meetings,
including the following:





§
            American
      Brachytherapy Society (ABS);


§
            American
      Society for Therapeutic Radiation and Oncology
  (ASTRO);


§
            Association
      of American Physicists in Medicine (AAPM);
and


§
            various
      local chapter meetings.





The
Company also continues to consult with noted contributors from the medical
physics community and expects articles for professional journals such as Medical Physics, the Brachytherapy
Journal, and the International Journal of
Radiation Oncology, Biology, and
Physics regarding the benefits of and clinical trials involving Cs-131
will continue to be submitted.





IsoRay
has conducted physician training programs in the past but is no longer doing so
as it no longer believes the costs of these training programs are offset by
improved sales.





In
today’s U.S. health care market, patients are more informed and involved in the
management of their health than in the past.  Many physicians relate
incidents of their patients coming for consultations armed with articles
researched on the Internet and other sources describing new treatments and
medications.  In many cases, these patients are demanding a certain therapy
or drug and the physicians are complying when medically
appropriate.





Because
of this consumer-driven market factor, we also promote our products directly to
the general public.  We target the prostate cancer patient, his spouse,
family and care givers.  We emphasize to these segments the specific
advantages of the Proxcelan Cesium-131 brachytherapy seed through our websites
(located at www.isoray.com and www.proxcelan.com), patient advocacy efforts,
informational patient brochures and DVDs with patient testimonials, patient
focused informational website (www.proxcelan.com), and advertisements in
specific markets supporting brachytherapy.  None of our websites should be
considered a part of this Report.





18


In
addition, the Company continues to promote the clinical findings of the various
protocols through presentations by respected thought leaders.  The Company
will continually review and update all marketing materials as more clinical
information is gathered from the protocols and studies.





Apart
from clinical studies and papers sponsored by the Company, several physicians
across the country are now independently publishing papers and studies extolling
the benefits of Cs-131.





Sales
and Distribution





According
to a recent industry survey, approximately 2,000 hospitals and free standing
clinics are currently offering radiation oncology services in the United
States.  Not all of these facilities offer seed brachytherapy
services.  These institutions are staffed with radiation oncologists and
medical physicists who provide expertise in radiation therapy treatments and
serve as consultants for urologists and prostate cancer patients.  We
target the radiation oncologists and the medical physicists as well as
urologists as key clinical decision-makers in the type of radiation therapy
offered to prostate cancer patients.





IsoRay
has a direct sales organization to introduce Proxcelan Cesium-131 brachytherapy
seeds to radiation oncologists and medical physicists.  Currently IsoRay
has five direct sales persons and a VP of Business Development.  These
sales people include those experienced in the brachytherapy market and the
medical device market.  In 2008, the Company had six direct sales persons
and a National Sales Director; however, the Company has experienced some
turnover in the sales force due to changes in the sales compensation program,
termination of those who failed to sell sufficient amounts of products, and the
travel demands required by the position.  With the assistance of an
executive search firm, the Company is currently actively recruiting one to two
additional sales persons with previous experience in radiation oncology and
specifically with brachytherapy sales.





In 2009,
IsoRay entered into an exclusive distribution agreement with BrachySciences to
market Cs-131 seeds in the U.S.  BrachySciences has a sales force of
approximately 6 sales persons and a manager, bringing the total sales personnel
selling Proxcelan Cs-131 brachytherapy seeds in the U.S. to approximately
12.  The BrachySciences sales force sold its first Cs-131 prostate implant
in August 2009; but its results to date have been disappointing.





The
Company expects to continue to expand its customer base outside the U.S. market
through use of established distributors in the key markets of other
countries.  This strategy should reduce the time and expenses required to
identify, train and penetrate the key implant centers and establish
relationships with the key opinion leaders in these markets.  Using
established distributors also should reduce the time spent acquiring the proper
radiation handling licenses and other regulatory requirements of these
markets.





Reimbursement





Reimbursement
by third party payers is the primary means of payment for all IsoRay
products.  The Centers for Medicare and Medicaid Services (CMS) is the
primary payer, providing coverage for approximately 65% of all prostate
brachytherapy cases.  Well established brachytherapy coverage and payment
policies are currently in place by CMS and other non-governmental payers. 
 In 2003, CMS established a unique HCPCS code for Cs-131 brachytherapy
seeds that permitted providers to report the use of Cs-131 directly to
payers.  In July 2007, CMS established two separate Cs-131 codes for
providers to report loose seeds and stranded seeds due to the cost differential
of these two products.  Reimbursement for prostate brachytherapy services
and sources is well established in the US and most providers (hospitals and
physicians) are not faced with reimbursement challenges when providing this
treatment option to patients.





19


Prostate
brachytherapy is typically performed in an outpatient setting, and as such, is
covered by the CMS Outpatient Prospective Payment System.  Through December
31, 2009, when charges for the seeds were correctly submitted by the provider to
CMS, CMS reimbursed the hospital or clinic for the cost of the seeds.  On
January 1, 2010, CMS changed the hospital outpatient system by implementing a
fixed reimbursement per seed for stranded and loose seeds.   Iodine,
palladium and cesium each have their own reimbursement values for stranded and
loose seeds.   If reported correctly when seeds are submitted for
payment to CMS, providers are reimbursed at a flat rate that is equivalent to
the cost of the seeds.  It is expected that this reimbursement system
established in January 2010 will continue as it is currently scheduled through
calendar 2011 but there is no assurance that this will occur.  Private
insurance companies have historically followed the CMS reimbursement
policies.





Other
Information





Customers





Customers
representing ten percent or more of total Company sales for the twelve months
ended June 30, 2010 include:


Various
      Northern California facilities (1)
            11.6%
      of revenueEl
      Camino Hospital (Los Gatos, CA) (1)
            11.0%
      of revenueUniversity
      of Pittsburgh Medical Center (Pittsburgh, PA)
            10.7%
      of revenue





(1)
            The
      following facilities located in northern California are used by one doctor
      (the Company’s Medical Director):  Fremont Surgery Center (6.1%),
      Mills Peninsula Health Services (2.6%), San Mateo Surgery Center (1.4%)
      and all others used by this doctor combined (1.5%).  El Camino
      Hospital is a facility used by two doctors, 6.4% of the 11% (58% of the
      facility sales) are attributable to the Company’s Medical Director for a
      total of approximately 18% of
sales.





The loss
of any of these significant customers would have a material adverse effect on
the Company’s revenues, which would continue until the Company located new
customers to replace them.





Proprietary
Rights





The
Company relies on a combination of patent, copyright and trademark laws, trade
secrets, software security measures, license agreements and nondisclosure
agreements to protect its proprietary rights.  Some of the Company’s
proprietary information may not be patentable.  The Company has a
registered U.S. trademark for Proxcelan.




The
Company intends to vigorously defend its proprietary technologies, trademarks,
and trade secrets.  Members of management, employees, and certain equity
holders have previously signed non-disclosure, non-compete agreements, and
future employees, consultants, advisors, with whom the Company engages, and who
are privy to this information, will be required to do the same.  A patent
for the cesium separation and purification process was granted on May 23, 2000
by the U.S. Patent and Trademark Office (USPTO) under Patent Number 6,066,302,
with an expiration date of May 23, 2020.  The process was developed by Lane
Bray, Chief Chemist and a shareholder of the Company, and has been assigned
exclusively to IsoRay.  IsoRay’s predecessor also filed for patent
protection in four European countries under the Patent Cooperation Treaty. 
Those patents have been assigned to IsoRay.





Our
management believes that certain aspects of the IsoRay seed design and
construction techniques are patentable innovations.  These innovations have
been documented in IsoRay laboratory records, and a patent application was filed
with the USPTO on November 12, 2003.  In August 2008, this patent was
granted by the USPTO under Patent Number 7,410,458, with an expiration date of
November 12, 2023.  Certain methodologies regarding isotope production,
separation, and seed manufacture are retained as trade secrets and are embodied
in IsoRay’s procedures and documentation.  In June 2004, July 2004, and
February 2007, five patent applications were filed relating to methods of
deriving Cs-131 developed by IsoRay employees.  The Company is currently
working on developing and patenting additional methods of deriving Cs-131 and
other isotopes.





20


There are
specific conditions attached to the assignment of the Cs-131 patent from Lane
Bray.  In particular, the associated Royalty Agreement provides for 1% of
gross profit payment from seed sales to Lane Bray and 1% of gross profit from
any use of the Cs-131 process patent for non-seed products.  If IsoRay
reassigns the Royalty Agreement to another company, these royalties increase to
2%.  The Royalty Agreement has an anti-shelving clause which requires
IsoRay to return the patent if IsoRay permanently abandons sales of products
using the invention.  During fiscal years 2010 and 2009, the Company
recorded royalty expense of $23,041 and $20,063, respectively, related to this
patent.





The terms
of a license agreement with the Lawrence Family Trust (successor to Don
Lawrence) for a patent application and related “know-how” require the payment of
a royalty based on the Net Factory Sales Price, as defined in the agreement, of
licensed product sales.  Because the licensor’s patent application was
ultimately abandoned, only a 1% “know-how” royalty remains applicable. To date,
management believes that there have been no product sales incorporating the
“know-how;” and therefore believes no royalty is due pursuant to the terms of
the agreement.  Management believes that ultimately no royalties should be
paid under this agreement as there is no intent to use this “know-how” in the
future.





The
Lawrence Family Trust has disputed management’s contention that it is not using
this “know-how”.  On September 25, 2007 and again on October 31, 2007, the
Company participated in nonbinding mediation regarding this matter; however, no
settlement was reached with the Lawrence Family Trust.  After additional
settlement discussions, which ended in April 2008, the parties failed to reach a
settlement.  The parties may demand binding arbitration at any
time.





Research
and Development





During
the three-year period ended June 30, 2010, IsoRay and its predecessor companies
incurred more than $2.7 million in costs related to research and development
activities.  The Company expects to continue ongoing research and
development activities for the foreseeable future.





Government
Regulation





The
Company's present and future intended activities in the development, manufacture
and sale of cancer therapy products are subject to extensive laws, regulations,
regulatory approvals and guidelines.  Within the United States, the
Company's therapeutic radiological devices must comply with the U.S. Federal
Food, Drug and Cosmetic Act, which is enforced by the FDA.  The Company is
also required to adhere to applicable FDA Quality System Regulations, also known
as the Good Manufacturing Practices, which include extensive record keeping and
periodic inspections of manufacturing facilities.  The Company's
predecessor obtained FDA 510(k) clearance in March 2003 to market the Proxcelan
Cs-131 seed for the treatment of localized solid tumors and other malignant
disease and IsoRay obtained FDA 510(k) clearance in November 2006 to market
preloaded brachytherapy seeds.






In the
United States, the FDA regulates, among other things, new product clearances and
approvals to establish the safety and efficacy of these products.  We are
also subject to other federal and state laws and regulations, including the
Occupational Safety and Health Act and the Environmental Protection
Act.





The
Federal Food, Drug, and Cosmetic Act and other federal statutes and regulations
govern or influence the research, testing, manufacture, safety, labeling,
storage, record keeping, approval, distribution, use, reporting, advertising and
promotion of such products.  Noncompliance with applicable requirements can
result in civil penalties, recall, injunction or seizure of products, refusal of
the government to approve or clear product approval applications,
disqualification from sponsoring or conducting clinical investigations,
preventing us from entering into government supply contracts, withdrawal of
previously approved applications, and criminal prosecution.





21


In the
United States, medical devices are classified into three different categories
over which the FDA applies increasing levels of regulation: Class I, Class II,
and Class III.  Most Class I devices are exempt from premarket notification
(510(k)); most Class II devices require premarket notification (510(k)); and
most Class III devices require premarket approval.  Our Proxcelan Cs-131
seed is a Class II device and received 510(k) clearance in March
2003.





Approval
of new Class III medical devices is a lengthy procedure and can take a number of
years and require the expenditure of significant resources.  There is a
shorter FDA review and clearance process for Class II medical devices, the
premarket notification or 510(k) process, whereby a company can market certain
Class II medical devices that can be shown to be substantially equivalent to
other legally marketed devices.  Since brachytherapy seeds have been
classified by the FDA as a Class II device, we have been able to achieve market
clearance for our Cs-131 seed using the 510(k) process.





As a
registered medical device manufacturer with the FDA, we are subject to
inspection to ensure compliance with their current Good Manufacturing Practices,
or cGMP.  These regulations require that we and any of our contract
manufacturers design, manufacture and service products, and maintain documents
in a prescribed manner with respect to manufacturing, testing, distribution,
storage, design control, and service activities.  Modifications or
enhancements that could significantly affect the safety or effectiveness of a
device or that constitute a major change to the intended use of the device
require a new 510(k) notice for any product modification.





The
Medical Device Reporting regulation requires that we provide information to the
FDA on deaths or serious injuries alleged to be associated with the use of our
devices, as well as product malfunctions that are likely to cause or contribute
to death or serious injury if the malfunction were to recur.  Labeling and
promotional activities are regulated by the FDA and, in some circumstances, by
the Federal Trade Commission.





As a
medical device manufacturer, we are also subject to laws and regulations
administered by governmental entities at the federal, state and local
levels.  For example, our facility is licensed as a medical device
manufacturing facility in the State of Washington and is subject to periodic
state regulatory inspections.  Our customers are also subject to a wide
variety of laws and regulations that could affect the nature and scope of their
relationships with us.





In
support of IsoRay’s global strategy to expand marketing to Canada, the European
Union (EU) and Russia, we initiated the process in fiscal year 2008 to obtain
the European CE Mark, Canadian registration, and certification to ISO 13485, an
internationally recognized quality system.  European law requires that
medical devices sold in any EU Member State comply with the requirements of the
European Medical Device Directive (MDD) or the Active Implantable Medical Device
Directive (AIMDD).  IsoRay’s products are classified in Europe as an active
implantable and are subject to the AIMDD.  Compliance with AIMDD and
obtaining a CE Mark involves being certified to ISO 13485 and obtaining approval
of the product technical file by a notified body that is recognized by competent
authorities of a Member State.  Compliance with ISO 13485 is also required
for registration of a company for sale of its products in Canada.  Many of
the recognized EU Notified Bodies are also recognized by Health Canada to
conduct the ISO 13485 inspections for Canadian registration.  During fiscal
year 2009, the Company received its certification to ISO 13485 and obtained
approval from Health Canada for its Canadian registration.  The Company
continues to focus on the Canadian and Russian markets while renewing its
efforts to penetrate the European Union market.





In the
United States, as a manufacturer of medical devices and devices utilizing
radioactive byproduct material, we are subject to extensive regulation by not
only federal governmental authorities, such as the FDA, but also by state and
local governmental authorities, such as the Washington State Department of
Health,to ensure
such devices are safe and effective.  In Washington State, the Department
of Health, by agreement with the federal Nuclear Regulatory Commission (NRC),
regulates the possession, use, and disposal of radioactive byproduct material as
well as the manufacture of radioactive sealed sources to ensure compliance with
state and federal laws and regulations.  Our Cs-131 brachytherapy seeds
constitute both medical devices and radioactive sealed sources and are subject
to these regulations.





22


Moreover,
our use, management, and disposal of certain radioactive substances and wastes
are subject to regulation by several federal and state agencies depending on the
nature of the substance or waste material.  We believe that we are in
compliance with all federal and state regulations for this purpose.




Seasonality





The
Company believes that some seed implantation procedures are deferred around
physician vacations (particularly in the summer months), holidays, and medical
conventions and conferences resulting in a seasonal influence on the Company’s
business.  These factors cause a momentary decline in revenue which
management believes is ultimately realized later.  Because almost
thirty-four percent (34%) of the Company's business is dependant on three
physicians, simultaneous vacations by these three physicians could cause
significant drops in the Company's productivity during those reporting
periods.





Employees





As of
September 3, 2010, IsoRay employed thirty-six full-time individuals and one
part-time individual.  The Company's future success will depend, in part,
on its ability to attract, retain, and motivate highly qualified sales,
technical and management personnel.  From time to time, the Company may
employ independent consultants or contractors to support its research and
development, marketing, sales, and administrative organizations.  None of
the Company's employees are represented by any collective bargaining unit. 
The Company estimates that successful implementation of its growth plan will
result in up to three to five additional employees by the end of fiscal year
2011.





In fiscal
year 2010, the Company employed five direct sales persons and a VP of Business
Development.  The Company experienced some growth in the sales group as
there were three sales persons added and one sales person lost through
attrition.





Competition





The
Company competes in a market characterized by technological innovation,
extensive research efforts, and significant competition.  In general, the
Proxcelan Cesium-131 brachytherapy seed competes with conventional methods of
treating localized cancer, including, but not limited to, all forms of
prostatectomy surgery and external beam radiation therapy which includes
intensity modulated radiation therapy, as well as competing permanent
brachytherapy devices.  Surgery has historically represented the most
common medical treatment for early-stage, localized prostate cancer but use of
radical prostatectomy has declined in recent years.  EBRT is also a
well-established method of treatment and is widely accepted for patients who
represent a poor surgical risk or whose prostate cancer has advanced beyond the
stage for which surgical treatment is indicated.  Management believes that
if general conversion from these treatment options (or other established or
conventional procedures) to the Proxcelan Cesium-131 brachytherapy seed does
occur, such conversion will likely be the result of a combination of equivalent
or better efficacy, reduced incidence and duration of side effects and
complications, lower cost, better quality of life outcomes, and pressure by
health care providers and patients.





History
has shown the advantage of being the first to market a new brachytherapy
product.  For example, Theragenics Corp., which introduced the original
Pd-103 seed, claimed over 59% of the Pd-103 market share (through CR Bard, other
distributors, and direct distribution) in 2008.  (Source:  Millennium
Research Corp, 2008).  Although factors other than being first to market
contribute to becoming a market leader, the Company believes it has the
opportunity to obtain a similar and significant advantage by being the first to
introduce a Cs-131 seed.





23


The
Company’s patented Cs-131 separation process is likely to provide a sustainable
competitive advantage.  Production of Cs-131 also requires specialized
facilities that represent high cost and long lead time if not readily
available.  In addition, a competitor would need to develop a method for
isotope attachment and seed assembly, would need to conduct testing to meet NRC
and FDA requirements, and would need to obtain regulatory clearances before
marketing a competing device.





Several
companies have obtained regulatory clearance to produce and distribute Pd-103
and I-125 seeds, which compete directly with our seed.  However, as the
Company expands the application of its Proxcelan Cesium-131 seed to other
cancers (other than prostate), management believes it may improve its
competitive advantages over Pd-103 and I-125 which do not have as wide of an
application to other certain locations or have the potential for greater side
effects.  It is possible that three or four of the current I-125 or Pd-103
seed manufacturers (e.g., CR Bard, Oncura, Theragenics, etc.) are capable of
producing and marketing a Cs-131 seed, but none have reported efforts to do
so.  Best Medical obtained a seed core patent in 1992 that named ten
different isotopes, including Cs-131, for use in their seeds.  Best Medical
received FDA 510(k) clearance to market a Cs-131 seed on June 6, 1993 but to
date has not produced any products for sale.  In addition to the FDA and
the NRC, Best Medical would be required to submit a Cs-131 seed to the TG-43
task group of the American Association of Physicists in Medicine to determine
the seed’s characteristics such as anisotropy, dose rate constant, etc.  To
date there has been no submission to the TG-43 task group for a competing Cs-131
seed.





Additional
Growth Opportunities





Management
of the Company sees growth opportunities through sales for homeland security
applications, expansion into international markets and additional treatment
applicability to cancers other than prostate.  The Company plans to
introduce Cs-131 for prostate brachytherapy initially into Canada, the European
Union (EU) and Russia and later into other international markets through
partnerships and strategic alliances with channel partners for manufacturing and
distribution but other than with respect to Canada has only one distribution
agreement outside the United States as of the date of this Report.





Cs-131
has FDA clearance to be used for treatments for a broad spectrum of cancers
including breast, brain, lung, and liver cancer, and the Company believes that a
major opportunity exists as an adjunct therapy for the treatment of residual
lung, head and neck, and other cancers.  The Company has already begun
treating ocular melanoma, lung and head and neck tumors, and colorectal tumors
as of the date of this Report.  The Company continues to have discussions
with prominent physicians and to evaluate treatments for other cancer
sites.





There is
also an opportunity to develop and market other radioactive isotopes to the
United States market, and to market Cs-131 isotope itself, separate from its use
in our seeds.  The Company is also in the preliminary stages of exploring
alternate methods of delivering our isotopes to various organs throughout the
body.  Our new liquid form of Cs-131 may be advantageous to use in other
FDA cleared devices as an alternative to our titanium-encapsulated seed to
deliver radiation to these other body sites.





Consistent
with the strategy of identifying alternative methods of delivering our isotopes
to new locations, the Company has obtained exclusive worldwide distribution
rights to the GliaSite® radiation therapy system, the world’s only FDA-cleared
balloon catheter device used in the treatment of brain cancer.  This
technology was previously used to treat approximately 500 cases annually in some
40 hospitals worldwide however this technology has not been available for sale
since 2007.  This exclusive worldwide distribution agreement with Hologic,
Inc aligns with the Company strategy to locate existing FDA-cleared technologies
to provide new ways to treat other organs with Cesium-131.  The Company is
in negotiations with a previous distributor of the GliaSite® radiation therapy
system in the European Union for distribution rights to the system in Germany,
Austria, Switzerland and Italy but there is no assurance an agreement will be
reached.  The Company intends to return the product to market in a
configuration equivalent to the original FDA-cleared device.  The Company
is working to obtain the rights to license or acquire the Iotrex solution
(Iodine-125) manufactured for use in the GliaSite® radiation therapy
system.  The Company has developed a liquid Cesium-131 solution
for use in the GliaSite® radiation therapy system as either a substitute for the
Iotrex solution if an intellectual property agreement can not be reached or as a
future alternative treatment option for physicians to utilize in the system. Use
of liquid Cesium-131 will require clearance of a 510(k) application with the
FDA.





24


ITEM
1A – RISK FACTORS





Risks
Related to Our Industry and Operations





Our Revenues Depend Upon One
Product.  Until such time as we develop additional products, our
revenues depend upon the successful production, marketing, and sales of the
Proxcelan Cs-131 brachytherapy seed.  The rate and level of market
acceptance of this product may vary depending on the perception by physicians
and other members of the healthcare community of its safety and efficacy as
compared to that of competing products, if any; the clinical outcomes of the
patients treated; the effectiveness of our sales and marketing efforts in the
United States, Canada, the European Union (EU) and Russia; any unfavorable
publicity concerning our product or similar products; our product’s price
relative to other products or competing treatments; any decrease in current
reimbursement rates from the Centers for Medicare and Medicaid Services or
third-party payers; regulatory developments related to the manufacture or
continued use of the product; availability of sufficient supplies of enriched
barium (now coming from Russia) for Cs-131 seed production; ability to produce
sufficient quantities of this product; the ability of physicians to properly
utilize the device and avoid excessive levels of radiation to patients, and the
ability to use this product to treat multiple types of cancers in various
organs.  Because of our reliance on this product as the sole source of our
revenue, any material adverse developments with respect to the commercialization
of this product may cause us to continue to incur losses rather than profits in
the future.





Although Cleared To Treat Any
Malignant Tissue, Our Sole Product Is Currently Used To Treat Primarily One Type
Of Cancer.  Currently, the Proxcelan Cs-131 seed is used almost
exclusively for the treatment of prostate cancer (over ninety-six percent of our
sales).  We are just beginning to treat other types of cancer including
lung cancer (approximately 3% of our sales) and ocular melanoma, head and neck,
colorectal and chest wall that together constitute less than one percent of our
sales.  Management believes the Proxcelan Cs-131 seed will continue to be
used to treat other types of cancers as the Company identifies existing delivery
systems that it can be utilized or develops new delivery methods for the
product, however these delivery systems may not prove as effective as
anticipated  Management believes that clinical data gathered by select
groups of physicians under treatment protocols specific to other organs will be
needed prior to widespread acceptance of our product for treating other cancer
sites.  If our current and future products do not become accepted in
treating cancers of other sites, our sales will depend solely on treatment of
prostate cancer, a market with increasing competition and ongoing loss of market
share by all brachytherapy products.





We Have Ongoing Cash
Requirements.IsoRay has generated
material operating losses since inception.  We expect to continue to
experience significant net operating losses.  Due to previous capital
investments and substantial cost reductions, management believes cash and cash
equivalents on hand at June 30, 2010 will be sufficient to meet our
anticipated cash requirements for operations, debt service, and capital
expenditure requirements through at least the next seven months or until
approximately January 31, 2011.  The Company has an active S-3 filing to
issue additional shares of up to $4.0 million in at the market transactions and
has a sales agreement with C. K. Cooper & Company, Inc (CKCC) through
December 31, 2010 to sell common stock to investors.  Management now
estimates that operational cashflow breakeven will be achieved at approximately
$700,000 in monthly revenue.  However, there is no assurance as to when
break-even will occur.  If we are unable to generate profits and unable to
obtain additional financing to meet our working capital requirements, we may
have to curtail our business.





We Rely Heavily On A Limited Number
Of Suppliers.  Some materials used in our products are currently
available only from a limited number of suppliers.  In fiscal 2010,
approximately sixty-eight percent (68%) of our Cs-131 was supplied through
UralDial from reactors located in Russia.  Unless the Company substantially
increases its purchase requirements resulting from significant increases in
demand for its product, the cost of Cs-131 in Russia could increase from current
pricing.  Our current contract with UralDial terminates on December 31,
2010 and will have to be renegotiated.  Management will seek to negotiate
favorable pricing but there is no assurance as to the outcome of these
negotiations.





25


If the
development of barium enrichment capabilities is successful, the Company plans
to expand Cs-131 manufacturing capability at the MURR reactor in the United
States. Reliance on any single supplier increases the risks associated with
concentrating isotope production at a single reactor facility which can be
subject to unanticipated shutdowns. Failure to obtain deliveries of Cs-131 from
multiple sources could have a material adverse effect on seed production and
there may be a delay before we could locate alternative suppliers beyond the
three currently used.





We may
not be able to locate additional suppliers outside of Russia capable of
producing the level of output of cesium at the quality standards we require.
Additional factors that could cause interruptions or delays in our source of
materials include limitations on the availability of raw materials or
manufacturing performance experienced by our suppliers and a breakdown in our
commercial relations with one or more suppliers.  Some of these factors may
be completely out of our and our suppliers’ control.





Virtually
all titanium tubing used in brachytherapy seed manufacture comes from a single
source, Accellent Corporation.  We currently obtain a key component of our
seed core from another single supplier.  We do not have formal written
agreements with Accellent Corporation.  Any interruption or delay in the
supply of materials required to produce our products could harm our business if
we were unable to obtain an alternative supplier or substitute equivalent
materials in a cost-effective and timely manner.  To mitigate any potential
interruptions, the Company continually evaluates its inventory levels and
management believes that the Company maintains a sufficient quantity on hand to
alleviate any potential disruptions.





Unfavorable Industry Trends in the
Prostate Market. Several factors occurred in fiscal 2009 that caused our
revenues to significantly decline and these factors continued into fiscal 2010
contributing to our failure to improve sales in the prostate market. 
Beginning in the fall of 2008, U.S. consumers significantly curtailed all
spending (even for life saving medical procedures) which impacted the
brachytherapy industry as a whole.  In February of 2009 noted urologists
announced at a medical conference that prostate specific antigen (PSA) testing
was not as necessary as previously believed.  Their statements were widely
publicized.  Management continues to believe that many people have been
influenced by these statements to cut back on PSA testing thereby decreasing in
the short term the number of prostate procedures performed.





In 2010,
the American Cancer Society revised their advice regarding PSA testing.  In
March 2010, the American Cancer Society warned that regular testing for prostate
cancer is of questionable value and can do men more harm than good.  The
ACS suggested that an initial discussion about screening should take place at
age 50 for men who are at average risk of prostate cancer and are expected to
live at least 10 more years.  For men at high risk of developing prostate
cancer, the discussion should take place starting at age 45 for men at high risk
of developing prostate cancer, this includes African American men and men who
have a first-degree relative (father, brother or son) diagnosed with prostate
cancer at an early age (younger than age 65).  For men at even higher risk
such as those with several first-degree relatives who had prostate cancer at an
early age, this discussion should take place at age 40.  After this
discussion, those men who want to be screened should be tested with the prostate
specific antigen (PSA) blood test.  The digital rectal exam (DRE) may also
be done as a part of screening but is no longer recommended.





Also the
emergence of IMRT as the preferred treatment alternative as a result of a much
higher reimbursement rate to physicians compared to brachytherapy treatments has
resulted in declining market share for brachytherapy treatment.  In fiscal
2010, each of these factors continues to impact the performance of the Company
in the prostate market and the industry as a whole and there is no assurance
that they will not continue to impact sales of the Company in the prostate
market through fiscal 2011.





26


Future Production Increases Will
Depend on Our Ability to Acquire Larger Quantities of Cs-131 and Hire More
Employees.IsoRay currently obtains
Cs-131 through its contract with UralDial and through reactor irradiation of
natural barium and subsequent separation of Cs-131 from the irradiated barium
targets.  The amount of Cs-131 that can be produced from a given reactor
source is limited by the power level and volume available within the reactor for
irradiating targets.  This limitation can be overcome by utilizing barium
feedstock that is enriched in the stable isotope Ba-130.  However, the
number of suppliers of enriched barium is limited and they may be unable to
produce this material in sufficient quantities and at a reasonable
price.





IsoRay
entered into an exclusive agreement (through December 31, 2010) with UralDial in
Russia to provide Cs-131 in quantities sufficient to supply a significant
percentage of future demand for this isotope.  Due to the purchase of
enriched barium in June 2007, IsoRay has access to sufficient quantities of
enriched barium that may be recycled to increase the production of Cs-131. 
Although the UralDial agreement provides for supplying Cs-131 in significant
quantities, there is no assurance that this will result in IsoRay gaining access
to a continuing sufficient supply of enriched barium feedstock.  If we were
unable to obtain supplies of isotopes from Russia in the future, our overall
supply of Cs-131 would be reduced significantly unless the Company has a source
of enriched barium for utilization in domestic reactors.





We Have Entered Into An Agreement
With A Single Distributor For Our Cesium-131 From Russia.  In
December 2009, the Company entered into a new agreement with UralDial to
purchase Cs-131 directly from UralDial through December 31, 2010 instead of
directly from Institute of Nuclear Materials (INM) and Research Institute of
Atomic Reactors (RIAR) as the Company had done prior to the original agreement
with UralDial in December 2008.  As a result, the Company continues to rely
on UralDial to obtain Cs-131 from Russian sources.  UralDial has agreed to
maintain at least two Russian sources of its Cs-131 and through the
UralDial agreement we have obtained set pricing for our Russian Cs-131 through
the end of 2010.  There can be no guarantee that UralDial will always be
able to supply us with sufficient Cs-131 or will renew our existing contract on
favorable terms in December 2010, which could be due in part to risks associated
with foreign operations and beyond our and UralDial's control.  If we were
unable to obtain supplies of isotopes from Russia in the future, our overall
supply of Cs-131 would be reduced significantly unless we have a source of
enriched barium for utilization in domestic reactors.





We Are Subject To Uncertainties
Regarding Reimbursement For Use Of Our Products.  Hospitals and
freestanding clinics may be less likely to purchase our products if they cannot
be assured of receiving favorable reimbursement for treatments using our
products from third-party payers, such as Medicare and private health insurance
plans.  Currently, Medicare reimburses hospitals at fixed rates that cover
the cost of stranded and loose seeds.  Clinics and physicians performing
procedures in a free standing center are reimbursed at the actual cost of the
seeds.  It is expected that CMS will continue to reimburse providers using
this same methodology in 2011.





In 2003,
IsoRay applied to the CMS and received a reimbursement code for our Cs-131
seed.  On July 1, 2007, CMS revised the coding system for brachytherapy
seeds and separated the single code into two codes – one code for loose seeds
and a second code for stranded seeds.  This methodology was applied to all
companies manufacturing brachytherapy seeds.  Reimbursement amounts are
reviewed and revised annually based upon information submitted to CMS on claims
by providers.  Although no changes are anticipated for 2011, adjustments
can be made to reimbursement amounts or coverage policies, which could result in
changes to reimbursement for brachytherapy services.  These changes can
positively or negatively affect market demand for our products.  We monitor
these changes and provide comments, as permitted, when changes are proposed,
prior to implementation.





In July
2010, CMS published proposed changes for both reimbursement programs for
government fiscal year 2011.  No changes in reimbursement have been
proposed by CMS for 2011.  If the proposed changes are finalized, as
expected in November 2010, there will be no changes in CMS reimbursement for
2011 but there is no assurance this will occur and is subject to revision
annually.




27


Historically,
private insurers have followed Medicare guidelines in establishing reimbursement
rates.  However, third-party payers are increasingly challenging the
pricing of certain medical services or devices, and we cannot be sure that they
will reimburse our customers at levels sufficient for us to maintain favorable
sales and price levels for our products.  There is no uniform policy on
reimbursement among third-party payers, and we can provide no assurance that our
products will continue to qualify for reimbursement from all third-party payers
or that reimbursement rates will not be reduced.  A reduction in or
elimination of third-party reimbursement for treatments using our products would
likely have a material adverse effect on our revenues.





Furthermore,
any federal and state efforts to reform government and private healthcare
insurance programs, such as those passed by the federal government in 2010,
could significantly affect the purchase of healthcare services and products in
general and demand for our products in particular.  Medicare is the payer
in approximately 70% of all U.S. prostate brachytherapy cases and management
anticipates this percentage to increase annually.  We are unable to predict
whether potential healthcare reforms will be enacted, whether other healthcare
legislation or regulations affecting the business may be proposed or enacted in
the future or what effect any such legislation or regulations would have on our
business, financial condition or results of operations.





Our Operating Results Will Be
Subject To Significant Fluctuations.  Our quarterly revenues,
expenses, and operating results are likely to fluctuate significantly in the
future.  Fluctuation may result from a variety of factors, which are
discussed in detail throughout this “RISK FACTORS” section,
including:


§
            our
      achievement of product development objectives and
    milestones;


§
            demand
      and pricing for the Company’s
products;


§
            effects
      of aggressive competitors;


§
            hospital,
      clinic and physician purchasing
decisions;


§
            research
      and development and manufacturing
expenses;


§
            patient
      outcomes from our therapy;


§
            physician
      acceptance of our products;


§
            government
      or private healthcare reimbursement
policies;


§
            healthcare
      reform:


§
            our
      manufacturing performance and
capacity;


§
            incidents,
      if any, that could cause temporary shutdown of our manufacturing
      facility;


§
            the
      amount and timing of sales orders;


§
            rate
      and success of future product
approvals;


§
            timing
      of FDA clearance, if any, of competitive products and the rate of market
      penetration of competing products;


§
            seasonality
      of purchasing behavior in our
market;


§
            overall
      economic conditions; and


§
            the
      successful introduction or market penetration of alternative
      therapies.





We Have Limited Data on the Clinical
Performance of Cs-131.  As of June 30, 2010, the Proxcelan Cs-131
seed has been implanted in over 5,000patients and research
papers are being published on the use of the Proxcelan seed.  While there
is less historical statistical data for the Proxcelan seed than is available for
I-125 and Pd-103 seeds during the fiscal year ended June 30, 2010, the Company
reached a key milestone by collecting the first 5 year outcome data for patients
that received treatment with the Proxcelan seed.  In addition, during 2010
there were nine reports of the Proxcelan seed being used in the treatment of
prostate and ocular melanoma published in peer-reviewed literature.  There
were eight presentations made at the 2010 meeting of the American Brachytherapy
Society covering the application of the Proxcelan seed in prostate, lung and
breast cancers.  While this limited data may prevent us from drawing
statistically significant conclusions, the side effects experienced by these
patients were less severe than side effects observed in seed brachytherapy with
I-125 and Pd-103 and in other forms of treatment such as radical
prostatectomy.  These early results indicate that the onset of side effects
generally occurs between one and three weeks post-implant, and the side effects
are resolved between five and eight weeks post-implant, more quickly than the
resolution of side effects that occur with competing seeds or with other forms
of treatment.  These limited findings support management’s belief that the
Cs-131 seed will result in less severe side effects than competing treatments,
but we may have to gather data on outcomes from additional patients before we
can establish statistically valid conclusions regarding the incidence of side
effects from our seeds.


28




We Are Subject To The Risk That
Certain Third Parties May Mishandle Our Product.  We rely on
third parties, such as Federal Express, to deliver our Proxcelan Cs-131 seed,
and on other third parties, including various radiopharmacies, to package our
Proxcelan Cs-131 seed in certain specialized packaging forms requested by
customers.  We are subject to the risk that these third parties may
mishandle our product, which could result in adverse effects, particularly given
the radioactive nature of our product.





It Is Possible That Other Treatments
May Be Deemed Superior To Brachytherapy.  Our Proxcelan Cs-131
seed faces competition not only from companies that sell other radiation therapy
products, but also from companies that are developing alternative therapies for
the treatment of cancers.  It is possible that advances in the
pharmaceutical, biomedical, or gene therapy fields could render some or all
radiation therapies, whether conventional or brachytherapy,
obsolete.  If alternative therapies are proven or even perceived to
offer treatment options that are superior to brachytherapy, physician adoption
of our product could be negatively affected and our revenues from our product
could decline.





Our Industry Is Intensely
Competitive.  The medical device industry is intensely
competitive.  We compete with both public and private medical device,
biotechnology and pharmaceutical companies that have been in existence longer
than we have, have a greater number of products on the market, have greater
financial and other resources, and have other technological or competitive
advantages.  In addition, centers that wish to offer the Proxcelan
Cs-131 seed must comply with licensing requirements specific to the state in
which they do business and these licensing requirements may take a considerable
amount of time to comply with.  Certain centers may choose to not
offer our Proxcelan Cs-131 seed due to the time required to obtain
necessary license amendments.  We also compete with academic
institutions, government agencies, and private research organizations in the
development of technologies and processes and in acquiring key
personnel.  Although we have patents granted and patents applied for
to protect our isotope separation processes and Cs-131 seed manufacturing
technology, we cannot be certain that one or more of our competitors will not
attempt to obtain patent protection that blocks or adversely affects our product
development efforts.  To minimize this potential, we have entered into
exclusive agreements with key suppliers of isotopes and isotope precursors,
which are subject to becoming non-exclusive as we have failed to meet minimum
purchase requirements.





We May Be Unable To Adequately
Protect Or Enforce Our Intellectual Property Rights Or Secure Rights To
Third-Party Patents.  Our ability and the abilities of our
partners to obtain and maintain patent and other protection for our products
will affect our success.  We are assigned, have rights to, or have
exclusive licenses to patents and patents pending in the U.S. and numerous
foreign countries.  The patent positions of medical device companies
can be highly uncertain and involve complex legal and factual
questions.  Our patent rights may not be upheld in a court of law if
challenged.  Our patent rights may not provide competitive advantages
for our products and may be challenged, infringed upon or circumvented by our
competitors.  We cannot patent our products in all countries or afford
to litigate every potential violation worldwide.





Because
of the large number of patent filings in the medical device and biotechnology
field, our competitors may have filed applications or been issued patents and
may obtain additional patents and proprietary rights relating to products or
processes competitive with or similar to ours.  We cannot be certain
that U.S. or foreign patents do not exist or will not be issued that would harm
our ability to commercialize our products and product candidates.





The Value Of Our Granted Patents,
and Our Patents Pending, Is Uncertain.  Although our management
strongly believes that our patent on the process for producing Cs-131, our
patents on additional methods for producing Cs-131 and other isotopes, our
patent pending on the manufacture of the brachytherapy seed, and anticipated
future patent applications, which have not yet been filed, have significant
value, we cannot be certain that other like-kind processes may not exist or be
discovered, that any of these patents is enforceable, or that any of our patent
applications will result in issued patents.


29





Failure To Comply With Government
Regulations Could Harm Our Business.  As a medical device and
medical isotope manufacturer, we are subject to extensive, complex, costly, and
evolving governmental rules, regulations and restrictions administered by the
FDA, by other federal and state agencies, and by governmental authorities in
other countries.  Compliance with these laws and regulations is
expensive and time-consuming, and changes to or failure to comply with these
laws and regulations, or adoption of new laws and regulations, could adversely
affect our business.





In the
United States, as a manufacturer of medical devices and devices utilizing
radioactive by-product material, we are subject to extensive regulation by
federal, state, and local governmental authorities, such as the FDA and the
Washington State Department of Health,to ensure such devices
are safe and effective.  Regulations promulgated by the FDA under the
U.S. Food, Drug and Cosmetic Act, or the FDC Act, govern the design,
development, testing, manufacturing, packaging, labeling, distribution,
marketing and sale, post-market surveillance, repairs, replacements, and recalls
of medical devices.  In Washington State, the Department of Health, by
agreement with the federal Nuclear Regulatory Commission (NRC), regulates the
possession, use, and disposal of radioactive byproduct material as well as the
manufacture of radioactive sealed sources to ensure compliance with state and
federal laws and regulations.  Our Proxcelan Cs-131 brachytherapy
seeds constitute both medical devices and radioactive sealed sources and are
subject to these regulations.





Under the
FDC Act, medical devices are classified into three different categories, over
which the FDA applies increasing levels of regulation: Class I,
Class II, and Class III.  Our Proxcelan Cs-131 seed has been
classified as a Class II device and has received clearance from the FDA through
the 510(k) pre-market notification process.  Any modifications to the
device that would significantly affect safety or effectiveness, or constitute a
major change in intended use, would require a new 510(k)
submission.  As with any submittal to the FDA, there is no assurance
that a 510(k) clearance would be granted to the Company.





In
addition to FDA-required market clearances and approvals for our products, our
manufacturing operations are required to comply with the FDA's Quality System
Regulation, or QSR, which addresses requirements for a company's quality program
such as management responsibility, good manufacturing practices, product and
process design controls, and quality controls used in
manufacturing.  Compliance with applicable regulatory requirements is
monitored through periodic inspections by the FDA Office of Regulatory Affairs
(ORA).  We anticipate both announced and unannounced inspections by
the FDA.  Such inspections could result in non-compliance reports
(Form 483) which, if not adequately responded to, could lead to enforcement
actions.  The FDA can institute a wide variety of enforcement actions
ranging from public warning letters to more severe sanctions such as fines;
injunctions; civil penalties; recall of our products; operating restrictions;
suspension of production; non-approval or withdrawal of pre-market clearances
for new products or existing products and criminal prosecution.  There
can be no assurance that we will not incur significant costs to comply with
these regulations in the future or that the regulations will not have a material
adverse effect on our business, financial condition and results of
operations.





The
marketing of our products in foreign countries will, in general, be regulated by
foreign governmental agencies similar to the FDA.  Foreign regulatory
requirements vary from country to country.  The time and cost required
to obtain regulatory approvals could be longer than that required for FDA
clearance in the United States and the requirements for licensing a product in
another country may differ significantly from FDA requirements.  We
will rely, in part, on foreign distributors to assist us in complying with
foreign regulatory requirements.  We may not be able to obtain these
approvals without incurring significant expenses or at all, and the failure to
obtain these approvals would prevent us from selling our products in the
applicable countries.  This could limit our sales and
growth.


30





Our Business Exposes Us To Product
Liability Claims.  Our design, testing, development,
manufacture, and marketing of products involve an inherent risk of exposure to
product liability claims and related adverse publicity.  Insurance
coverage is expensive and difficult to obtain, and, although we currently have a
five million dollar policy, in the future we may be unable to obtain or renew
coverage on acceptable terms, if at all.  If we are unable to obtain
or renew sufficient insurance at an acceptable cost or if a successful product
liability claim is made against us, whether fully covered by insurance or not,
our business could be harmed.





Our Business Involves Environmental
Risks.  Our business involves the controlled use of hazardous
materials, chemicals, biologics, and radioactive
compounds.  Manufacturing is extremely susceptible to product loss due
to radioactive, microbial, or viral contamination; material or equipment
failure; vendor or operator error; or due to the very nature of the product’s
short half-life.  Although we believe that our safety procedures for
handling and disposing of such materials comply with state and federal standards
there will always be the risk of accidental contamination or
injury.  In addition, radioactive, microbial, or viral contamination
may cause the closure of the respective manufacturing facility for an extended
period of time.  By law, radioactive materials may only be disposed of
at state-approved facilities.  At our leased facility we use
commercial disposal contractors.  We may incur substantial costs
related to the disposal of these materials.  If we were to become
liable for an accident, or if we were to suffer an extended facility shutdown,
we could incur significant costs, damages, and penalties that could harm our
business.





We Rely Upon Key
Personnel. Our success will depend,
to a great extent, upon the experience, abilities and continued services of our
executive officers, sales staff and key scientific personnel.  If we
lose the services of several officers, sales personnel, or key scientific
personnel, our business could be harmed.  Our success also will depend
upon our ability to attract and retain other highly qualified scientific,
managerial, sales, and manufacturing personnel and their ability to develop and
maintain relationships with key individuals in the
industry.  Competition for these personnel and relationships is
intense and we compete with numerous pharmaceutical and biotechnology companies
as well as with universities and non-profit research
organizations.  We may not be able to continue to attract and retain
qualified personnel.





Our Ability To Operate In Foreign
Markets Is Uncertain.  Our future growth will depend in part on
our ability to establish, grow and maintain product sales in foreign markets,
particularly in Canada, the European Union (EU) and Russia.  However,
we have limited experience in marketing and distributing products in other
countries.  Any foreign operations would subject us to additional
risks and uncertainties, including our customers’ ability to obtain
reimbursement for procedures using our products in foreign markets; the burden
of complying with complex and changing foreign regulatory requirements;
time-sensitive delivery requirements due to the short half-life of our product;
language barriers and other difficulties in providing long-distance customer
service; potentially increase time to collect accounts receivable; significant
currency fluctuations, which could cause third-party distributors to reduce the
number of products they purchase from us because the cost of our products to
them could fluctuate relative to the price they can charge their customers;
reduced protection of intellectual property rights in some foreign countries;
and the possibility that contractual provisions governed by foreign laws would
be interpreted differently than intended in the event of a contract
dispute.  Any future foreign sales of our products could also be
adversely affected by export license requirements, the imposition of
governmental controls, political and economic instability, trade restrictions,
changes in tariffs, and difficulties in staffing and managing foreign
operations.  Many of these factors may also affect our ability to
import Cs-131 from Russia under our contract with UralDial.





Our Ability To Expand Operations And
Manage Growth Is Uncertain.  Our efforts to expand our
operations will result in new and increased responsibilities for management
personnel and will place a strain upon the entire company.  To compete
effectively and to accommodate growth, if any, we may be required to continue to
implement and to improve our management, manufacturing, sales and marketing,
operating and financial systems, procedures and controls on a timely basis and
to expand, train, motivate and manage our employees.  There can be no
assurance that our personnel, systems, procedures, and controls will be adequate
to support our future operations.  If the Proxcelan Cs-131 seed were
to rapidly become the “seed of choice,” it is unlikely that we could meet
demand.  We could experience significant cash flow difficulties and
may have difficulty obtaining the working capital required to manufacture our
products and meet demand.  This would cause customer discontent and
invite competition.


31





Risks
Related to Our Stock and Reporting Requirements





If We Are Unable To Successfully
Address The Material Weakness In Our Internal Controls, Our Ability To Report
Our Financial Results On A Timely And Accurate Basis May Be Adversely
Affected.  Effective
internal controls are necessary for us to provide reliable financial reports and
effectively prevent fraud. If we cannot provide reliable financial reports or
prevent fraud, our reputation and operating results could be harmed. We have in
the past discovered, and may in the future discover, areas of our internal
controls that need improvement. In its assessment of the effectiveness in
internal control over financial reporting as of June 30, 2010, the Company
determined that there were deficiencies that constituted a material weakness.
Specifically, the Company did not maintain a sufficient complement of personnel
with the appropriate level of knowledge, experience and training to analyze,
review and monitor the accounting of complex financial
transactions.  As a result, the Company did not prepare adequate
contemporaneous documentation that would provide a sufficient basis for an
effective evaluation and review of the accounting for complex transactions that
are significant or non-routine.  This material weakness resulted in
errors in the preliminary June 30, 2010 consolidated financial statements and
more than a remote likelihood that a material misstatement of the Company’s
annual or interim financial statements would not be prevented or
detected.  The Company is in the process of developing and
implementing a remediation plan to address the material weakness described
above, along with the deficiencies also identified in the assessment, which are
described under Item 9A below.  Specifically, in April 2010, an
additional accounting position at the Company's operating subsidiary was filled
with a Certified Public Accountant to address issues with segregation of duties,
and the Company is assessing additional steps that may be taken in fiscal year
2011 to improve internal controls.  We cannot be certain that these
measures will ensure that we implement and maintain adequate controls over our
financial processes and reporting in the future. Any failure to implement
required new or improved controls, or difficulties encountered in their
implementation, could harm our operating results or cause us to fail to meet our
reporting obligations. Inferior internal controls could also cause investors to
lose confidence in our reported financial information, which could have a
negative effect on the trading price of our stock.





Our Reporting Obligations As A
Public Company Are Costly.  Operating a public company involves
substantial costs to comply with reporting obligations under federal securities
laws that have continued to increase as provisions of the Sarbanes Oxley Act of
2002 have been implemented.  As a smaller reporting company, the
Company incurred costs to implement additional provisions of the Sarbanes Oxley
Act during fiscal year 2010 in particular related to the implementation of
Section 404(b).  These Section 404(b) reporting obligations were
permanently exempted through legislation passed in July 2010 and this exemption
retrospectively applied to the year ended June 30, 2010 for companies classified
as smaller reporting companies.





Our Stock Price Is Likely To Be
Volatile.  There is generally significant volatility in the
market prices and limited liquidity of securities of early stage companies, and
particularly of early stage medical product companies.  Contributing
to this volatility are various events that can affect our stock price in a
positive or negative manner.  These events include, but are not
limited to: governmental approvals of or refusals to approve regulations or
actions; market acceptance and sales growth of our products; litigation
involving the Company or our industry; developments or disputes concerning our
patents or other proprietary rights; changes in the structure of healthcare
payment systems; departure of key personnel; future sales of our securities;
fluctuations in our financial results or those of companies that are perceived
to be similar to us; swings in seasonal demands of purchasers; investors’
general perception of us; and general economic, industry and market
conditions.  If any of these events occur, it could cause our stock
price to fall.


32





The Price Of Our Common Stock May Be
Adversely Affected By The Future Issuance And Sale Of Shares Of Our Common Stock
Or Other Equity Securities, Including Pursuant To The Sales Agreement, Or By Our
Announcement That Such Issuances And Sales May Occur.We
cannot predict the size of future issuances or sales of our common stock or
other equity securities, including those made pursuant to the Company's sales
agreement with CKCC, future acquisitions or capital raising activities, or the
effect, if any, that such issuances or sales may have on the market price of our
common stock. In addition, CKCC, as agent for sales under the sales agreement,
will not engage in any transactions that stabilize the price of our common
stock. The issuance and sale of substantial amounts of common stock or other
equity securities, including the issuances and sales pursuant to the sales
agreement, or announcement that such issuances and sales may occur, could
adversely affect the market price of our common stock.




Our Reduced Stock Price May
Adversely Affect Our Liquidity.  Our common stock has been
trading at less than $1.00 per share periodically in the last
year.  Many market makers are reluctant to make a market in stock with
a trading price of less than $1.00 per share.  To the extent that we
have fewer market makers for our common stock, our volume and liquidity will
likely decline, which could further depress our stock price.





Future Sales By Shareholders, Or The
Perception That Such Sales May Occur, May Depress The Price Of Our Common
Stock.The sale or availability
for sale of substantial amounts of our shares in the public market, including
shares issuable upon conversion of outstanding preferred stock or exercise of
common stock warrants and options, or the perception that such sales could
occur, could adversely affect the market price of our common stock and also
could impair our ability to raise capital through future offerings of our
shares.  As of June 30, 2010, we had 23,048,754 outstanding shares of
common stock, and the following additional shares were reserved for issuance:
2,274,706 shares upon exercise of outstanding options, 3,165,768 shares upon
exercise of outstanding warrants, and 59,065 shares upon conversion of preferred
stock.  Any decline in the price of our common stock may encourage
short sales, which could place further downward pressure on the price of our
common stock and may impair our ability to raise additional capital through the
sale of equity securities.





The Issuance Of Shares Upon Exercise
Of Derivative Securities May Cause Immediate And Substantial Dilution To Our
Existing Shareholders. The issuance of shares
upon conversion of the preferred stock and the exercise of common stock warrants
and options may result in substantial dilution to the interests of other
shareholders since these selling shareholders may ultimately convert or exercise
and sell all or a portion of the full amount issuable upon
exercise.  If all derivative securities were converted or exercised
into shares of common stock, there would be approximately an additional
5,500,000 shares of common stock outstanding as a result.  The
issuance of these shares will have the effect of further diluting the
proportionate equity interest and voting power of holders of our common
stock.





Failure to Comply with NYSE Amex
Listing Standards And Any Resulting Delisting Could Adversely Affect The Market
For Our Common Stock.  Our common stock is presently listed on
the NYSE Amex. The NYSE Amex will consider delisting a company's securities if,
among other things, the company fails to maintain minimum stockholder's equity
or the company has sustained losses which are so substantial in relation to its
overall operations or its existing financial resources, or its financial
condition has become so impaired that it appears questionable, in the opinion of
the NYSE Amex, as to whether such issuer will be able to continue operations
and/or meet its obligations as they mature. There can be no assurance that we
will be able to maintain our listing on the NYSE Amex indefinitely. In the event
that our common stock is delisted from the NYSE Amex, trading, if any, in the
common stock would be conducted in the over-the-counter market. As a result, our
shareholders would likely find it more difficult to dispose of, or to obtain
accurate quotations as to the market value of, our common stock.




We Do Not Expect To Pay Any
Dividends For The Foreseeable Future. We do not anticipate
paying any dividends to our shareholders for the foreseeable future except for
dividends on the Series B Preferred Stock which we intend to pay on or before
December 31, 2010 if required to comply with the Form S-3 eligibility
requirements.  The terms of certain of our and our subsidiary's
outstanding indebtedness substantially restrict the ability of either company to
pay dividends.  Accordingly, shareholders must be prepared to rely on
sales of their common stock after price appreciation to earn an investment
return, which may never occur.  Any determination to pay dividends in
the future will be made at the discretion of our Board of Directors and will
depend on our results of operations, financial conditions, contractual
restrictions, restrictions imposed by applicable laws and other factors our
Board deems relevant.


33





Certain Provisions of Minnesota Law
and Our Charter Documents Have an Anti-Takeover Effect. There exist certain
mechanisms under Minnesota law and our charter documents that may delay, defer
or prevent a change of control.  Anti-takeover provisions of our
articles of incorporation, bylaws and Minnesota law could diminish the
opportunity for shareholders to participate in acquisition proposals at a price
above the then-current market price of our common stock.  For example,
while we have no present plans to issue any preferred stock, our Board of
Directors, without further shareholder approval, may issue shares of
undesignated preferred stock and fix the powers, preferences, rights and
limitations of such class or series, which could adversely affect the voting
power of the common shares.  In addition, our bylaws provide for an
advance notice procedure for nomination of candidates to our Board of Directors
that could have the effect of delaying, deterring or preventing a change in
control.  Further, as a Minnesota corporation, we are subject to
provisions of the Minnesota Business Corporation Act, or MBCA, regarding
“business combinations,” which can deter attempted takeovers in certain
situations.  Pursuant to the terms of a shareholder rights plan
adopted in February 2007, each outstanding share of common stock has one
attached right.  The rights will cause substantial dilution of the
ownership of a person or group that attempts to acquire the Company on terms not
approved by the Board of Directors and may have the effect of deterring hostile
takeover attempts.  The effect of these anti-takeover provisions may
be to deter business combination transactions not approved by our Board of
Directors, including acquisitions that may offer a premium over the market price
to some or all shareholders.  We may, in the future, consider adopting
additional anti-takeover measures.  The authority of our Board to
issue undesignated preferred or other capital stock and the anti-takeover
provisions of the MBCA, as well as other current and any future anti-takeover
measures adopted by us, may, in certain circumstances, delay, deter or prevent
takeover attempts and other changes in control of the Company not approved by
our Board of Directors.





ITEM
1B – UNRESOLVED STAFF COMMENTS





As a
smaller reporting company, the Company is not required to provide Item 1B
disclosure in this Annual Report.





ITEM
2 – PROPERTIES





The
Company’s executive offices are located at 350 Hills Street, Suite 106,
Richland, WA 99354, (509) 375-1202, where IsoRay currently leases approximately
15,900 square feet of office and laboratory space for approximately $23,100 per
month plus monthly janitorial expenses of approximately $430 from Energy
Northwest, the owner of the Applied Process Engineering Laboratory (the APEL
facility).  The Company is not affiliated with this
lessor.  The monthly rent is subject to annual increases based on the
Consumer Price Index.  The current lease was entered into in May 2010,
expires on April 30, 2013, and has one additional three-year renewal option
remaining.





The
Company’s management believes that all facilities occupied by the Company are
adequate for present requirements, and that the Company’s current equipment is
in good condition and is suitable for the operations involved.





ITEM
3 – LEGAL PROCEEDINGS





The
Company is not involved in any material legal proceedings as of the date of this
Report.




ITEM 4 – [REMOVED AND
RESERVED]




34




PART
II





ITEM
5 – MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES





The
Company’s Articles of Incorporation provide that the Company has the authority
to issue 200,000,000 shares of capital stock, which are currently divided into
two classes as follows: 194,000,000 shares of common stock, par value of $0.001
per share; and 6,000,000 shares of preferred stock, par value of $0.001 per
share.  As of September 7, 2010, we had 23,048,754 outstanding shares
of Common Stock and 59,065 outstanding shares of Preferred Stock.





On April
19, 2007, our common stock began trading on the American Stock Exchange (now the
NYSE Amex) under the symbol "ISR."  Even though we have obtained our
NYSE Amex listing, there is still limited trading activity in our
securities.





The
following table sets forth, for the fiscal quarters indicated, the high and low
sales prices for our common stock as reported on the NYSE Amex.





Year
      ended June 30, 2010
                        
                        High
                        
                        
                        LowFirst
      quarter
                        
                        $
                        1.65
                        
                        
                        $
                        0.23Second
      quarter
                        
                        
                        1.21
                        
                        
                        
                        0.72Third
      quarter
                        
                        
                        1.58
                        
                        
                        
                        0.82Fourth
      quarter
                        
                        
                        1.58
                        
                        
                        
                        1.02Year
      ended June 30, 2009
                        
                        High
                        
                        
                        LowFirst
      quarter
                        
                        $
                        0.90
                        
                        
                        $
                        0.35Second
      quarter
                        
                        
                        0.70
                        
                        
                        
                        0.20Third
      quarter
                        
                        
                        0.32
                        
                        
                        
                        0.15Fourth
      quarter
                        
                        
                        0.39
                        
                        
                        
                        0.19





The
Company has never paid any cash dividends on its Common Stock and does not plan
to pay any cash dividends in the foreseeable future.  On December 11,
2009, the Board of Directors declared a dividend on the Series B Preferred Stock
of all outstanding and cumulative dividends through December 31,
2009.  There is no Series A Preferred Stock
outstanding.  The total Series B accrued dividends of $36,679 were
paid as of December 31, 2009.   At June 30, 2010, there were
59,065 Series B preferred shares outstanding and cumulative dividends in arrears
were $5,316.  There is no Series A Preferred Stock
outstanding.





As of
September 3, 2010, we had approximately 259 shareholders of record, exclusive of
shares held in street name.





Equity Compensation
Plans





On May
27, 2005, the Company adopted the 2005 Stock Option Plan (the Option Plan) and
the 2005 Employee Stock Option Plan (the Employee Plan), pursuant to which it
may grant equity awards to eligible persons.  On August 15, 2006, the
Company adopted the 2006 Director Stock Option Plan (the Director Plan) pursuant
to which it may grant equity awards to eligible persons.  Each of the
Plans has subsequently been amended.  The Option Plan allows the Board
of Directors to grant options to purchase up to 1,800,000 shares of common stock
to directors, officers, key employees and service providers of the Company, and
the Employee Plan allows the Board of Directors to grant options to purchase up
to 2,000,000 shares of common stock to officers and key employees of the
Company.  The Director Plan allows the Board of Directors to grant
options to purchase up to 1,000,000 shares of common stock to directors of the
Company.  Options granted under all of the Plans have a ten year
maximum term, an exercise price equal to at least the fair market value of the
Company’s common stock (based on the trading price on the NYSE Amex) on the date
of the grant, and with varying vesting periods as determined by the
Board.


35




As of
June 30, 2010, the following options had been granted under the option
plans.





Number
      of
                                        
                                        
                                        Weighted-
                                        
                                        
                                        Number
      ofsecurities
      to
                                        
                                        
                                        average
                                        
                                        
                                        securitiesbe
      issued on
                                        
                                        
                                        exercise
                                        
                                        
                                        remainingexercise
      of
                                        
                                        
                                        price
      of
                                        
                                        
                                        available
      foroutstanding
                                        
                                        
                                        outstanding
                                        
                                        
                                        futureoptions,
                                        
                                        
                                        options,
                                        
                                        
                                        issuancewarrants,
                                        
                                        
                                        warrants,
                                        
                                        
                                        under
      equityand
      rights
                                        
                                        
                                        and
      rights
                                        
                                        
                                        compensationPlan
      Category
                                        
                                        #
                                        
                                        
                                        $
                                        
                                        
                                        plansEquity
      compensation plans approved by shareholders
                                        
                                        N/A
                                        
                                        
                                        N/A
                                        
                                        
                                        N/AEquity
      compensation plans not approved by shareholders
                                        
                                        
                                        2,274,706
                                        
                                        
                                        $
                                        1.96
                                        
                                        
                                        
                                        1,551,845Total
                                        
                                        
                                        2,274,706
                                        
                                        
                                        $
                                        1.96
                                        
                                        
                                        
                                        1,551,845





Sales of Unregistered
Securities





All sales
of unregistered securities were previously reported.





Use of Proceeds from
Registered Securities





On
October 27, 2010, we filed a registration statement on Form S-3 to register
securities up to $15 million in value for future issuance in our capital raising
activities.  The registration statement became effective on November
13, 2010, and we filed a prospectus supplement relating to the Sales Agreement
described below on April 23, 2010.  The Commission file number
assigned to the registration statement is 333-162694.





On April
22, 2010, we entered into a Sales Agreement (the "Agreement") with C. K. Cooper
& Company, Inc. ("CKCC").  Pursuant to the terms of the Agreement,
the Company may offer and sell (the "Offering") from time to time through CKCC,
as the Company's sales agent, up to $4 million of shares of the Company's common
stock, par value $0.001 per share (the "Shares").  CKCC is not
required to sell any specific number or dollar amount of Shares but will use its
commercially reasonable efforts, as the Company's agent and subject to the terms
of the Agreement, to sell the Shares offered, as instructed by the Company.
Sales of the Shares, if any, may be made by means of ordinary brokers'
transactions on the NYSE AMEX at market prices and such other sales as agreed to
by the Company and CKCC. CKCC will receive from us a commission of 2.0% based on
the gross sales price per share for any Shares sold through it as agent under
the Agreement. Net proceeds from the sale of the Shares will be used for general
corporate purposes. The Company has also agreed to reimburse CKCC for certain
expenses incurred in connection with entering into the Agreement and has
provided CKCC with customary indemnification rights.





On July
29, 2010, we entered into an amendment (the "Amendment") to the
Agreement.  The purpose of the Amendment is to extend the term of the
offering of Shares by CKCC as the Company's sales agent pursuant to the
Agreement.  The offering of Shares pursuant to the Agreement, as
amended by the Amendment, will terminate upon the earliest of (i) December 31,
2010, (ii) the sale of all Shares subject to the Agreement or (iii) the
termination of the Agreement by the Company or CKCC.  The other terms
of the Agreement remain in effect and have not been changed by the
Amendment.





CKCC has
not yet commenced the Offering as it has not yet been instructed to do so by the
Company.




36





ITEM
6 – SELECTED FINANCIAL DATA





As a
smaller reporting company, the Company is not required to provide Item 6
disclosure in this Annual Report.





ITEM
7 – MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS





Critical Accounting Policies
and Estimates





Management’s
discussion and analysis of the Company’s financial condition and results of
operations is based upon its consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America.  The preparation of these financial
statements requires management to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenues and expenses, and related
disclosures of contingent liabilities.  On an on-going basis,
management evaluates past judgments and estimates, including those related to
bad debts, inventories, accrued liabilities, and
contingencies.  Management bases its estimates on historical
experience and on various other assumptions that are believed to be reasonable
under the circumstances, the results of which form the basis for making
judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources.  Actual results may differ from
these estimates under different assumptions or conditions.





The
Company believes the following critical accounting policies affect its more
significant judgments and estimates used in the preparation of its consolidated
financial statements.





Short-Term
Investments





The
Company invests certain excess cash in marketable securities consisting
primarily of commercial paper, auction rate securities, certificates of deposit,
and money market funds.  The Company classifies all debt securities as
“available-for-sale” and records the debt securities at fair value with
unrealized gains and temporary unrealized losses included in other comprehensive
income/loss within shareholders’ equity, if material.  Any declines in
fair value that are considered other than temporary are recorded in the
Consolidated Statements of Operations.





Fair Value of Financial
Instruments




The
Accounting Standards Codification (ASC) 820, Fair Value Measurements and
Disclosures, of the Financial Accounting Standards Board (FASB), permits,
but does not require, entities to measure many financial instruments and certain
other items not specifically identified in other topics of the ASC, such as
available-for-sale investments, at fair value. We have not elected to measure
additional assets and liabilities at fair value.




Fair
value is defined as the price that would be received in the sale of an asset, or
paid to transfer a liability, in an orderly transaction between market
participants at the measurement date. A three-level valuation hierarchy is used
to qualify fair value measurements based upon the transparency of inputs to the
valuation of an asset or liability as of the measurement date:




Level 1.    Inputs
to the valuation methodology are quoted prices (unadjusted) for identical assets
or liabilities in active markets. Level 1 assets and liabilities include
debt and equity securities and derivative financial instruments actively traded
on exchanges, as well as U.S. Treasury securities and U.S. Government and agency
mortgage-backed securities that are actively traded in highly liquid
over-the-counter markets.


37





Level 2.    Model
inputs are observable inputs, other than Level 1 prices, such as quoted
prices for similar assets and liabilities in active markets, quoted prices for
identical or similar assets or liabilities in markets that are not active, and
inputs that are observable or can be corroborated, either directly or
indirectly, for substantially the full term of the financial instrument.
Level 2 assets and liabilities include debt instruments that are traded
less frequently than exchange traded securities and derivative instruments, for
which the model inputs are observable in the market or can be corroborated by
market observable data. Examples in this category are less frequently traded
mortgage-backed securities, corporate debt securities and derivative
contracts.





Level 3.    Inputs
to the valuation methodology are unobservable but significant to the fair value
measurement. Examples in this category include interests in loans held for sale,
certain securitized financial assets or certain private equity
investments.




Fair
value is applied to eligible assets based on quoted market prices, where
available. For financial instruments for which quotes from recent exchange
transactions are not available, fair value is based on discounted cash flow
analysis and comparisons to similar instruments. Discounted cash flow analysis
is dependent upon estimated future cash flows and the level of interest
rates.




The
methods used for current fair value calculations of Level 2 and
Level 3 assets and liabilities may not be indicative of net realizable
value or reflective of future fair values. If readily determined market values
became available, or if actual performance were to vary appreciably from
assumptions used, assumptions may need to be adjusted, which could result in
material differences from the recorded carrying amounts. We believe our methods
of determining fair value are appropriate and consistent with other market
participants. However, the use of different methodologies or application of
different assumptions to value certain financial instruments could result in a
different estimate of fair value.





Effective
July 1, 2008, the Company implemented ASC 820, Fair Value Measurements and
Disclosures, of the Financial Accounting Standards Board (FASB),ASC
820 defines fair value, establishes a framework for measuring fair value in
accordance with accounting principles generally accepted in the United States,
and expands disclosures about fair value measurements.  The Company
elected to implement this Standard with the one-year deferral permitted for
nonfinancial assets and nonfinancial liabilities measured at fair value, except
those that are recognized or disclosed on a recurring basis.  This
deferral applied to fixed assets and intangible asset impairment testing and
initial recognition of asset retirement obligations for which fair value is
used.  The Company does not expect any significant impact to our
consolidated financial statements when we implement ASC 820 for these assets and
liabilities.





ASC 820
requires disclosures that categorize assets and liabilities measured at fair
value into one of three different levels depending on the observability of the
inputs employed in the measurement.  Level 1 inputs are quoted prices
in active markets for identical assets or liabilities.  Level 2 inputs
are observable inputs other than quoted prices included within Level 1 for the
asset or liability, either directly or indirectly through market-corroborated
inputs.  Level 3 inputs are unobservable inputs for the asset or
liability reflecting significant modifications to observable related market data
or our assumptions about pricing by market participants.





At June
30, 2010, all of the Company’s financial assets and liabilities are accounted
and reported at fair value using Level 1 inputs.





Also
effective July 1, 2008, the Company adopted ASC Topic 825, Financial
Instruments.  The statement allows entities to value many
financial instruments and certain other items at fair value.  ASC 825
provides guidance over the election of the fair value option, including the
timing of the election and specific items eligible for the fair value
accounting.  If the fair value option is elected then unrealized gains
and losses are reported in earnings at each subsequent reporting
date.  The Company elected not to measure any additional financial
instruments or other items at fair value as of July 1, 2008 in accordance with
ASC 825.  Accordingly, the adoption of ASC 825 did not impact our
consolidated financial statements.  The Company did elect to fair
value its ARS rights that were received in October 2008 and exercised in January
2009 in accordance with ASC 825.


38





Accounts
Receivable





Accounts
receivable are stated at the amount that management of the Company expects to
collect from outstanding balances.  Management provides for probable
uncollectible amounts through an allowance for doubtful
accounts.  Additions to the allowance for doubtful accounts are based
on management’s judgment, considering historical write-offs, collections and
current credit conditions.  Balances which remain outstanding after
management has used reasonable collection efforts are written off through a
charge to the allowance for doubtful accounts and a credit to the applicable
accounts receivable.  Payments received subsequent to the time that an
account is written off are considered bad debt recoveries.





Inventory





Inventory
is reported at the lower of cost or market.  Cost of raw materials is
determined using the weighted average method.  Cost of work in process
and finished goods is computed using standard cost, which approximates actual
cost, on a first-in, first-out basis.





Fixed
Assets





Fixed
assets are capitalized and carried at the lower of cost or net realizable
value.  Normal maintenance and repairs are charged to expense as
incurred.  When assets are sold or otherwise disposed of, the cost and
accumulated depreciation are removed from the accounts and any resulting gain or
loss is recognized in operations.





Depreciation
is computed using the straight-line method over the following estimated useful
lives:


Production
      equipment
              
              3
      to 7 yearsOffice
      equipment
              
              2
      to 5 yearsFurniture
      and fixtures
              
              2
      to 5 years





Leasehold
improvements and capital lease assets are amortized over the shorter of the life
of the lease or the estimated useful life of the asset.





Management
of the Company periodically reviews the net carrying value of all of its
equipment on an asset by asset basis.  These reviews consider the net
realizable value of each asset to determine whether an impairment of value has
occurred, and if there is a need for any asset impairment
write-down.





Although
management has made its best estimate of the factors that affect the carrying
value based on current conditions, it is reasonably possible that changes could
occur which could adversely affect management's estimate of net cash flows
expected to be generated from its assets, and necessitate asset impairment
write-downs.





Deferred Financing
Costs





Financing
costs related to the acquisition of debt are deferred and amortized over the
term of the related debt using the effective interest method.Deferred financing costs
include the fair value of common shares issued to certain shareholders for their
guarantee of certain Company debt in accordance with (ASC) 820 Capitalization of Interestand (ASC) 230 Statement
of Cash Flows.  The value of the shares issued was the
estimated market price of the shares as of the date of
issuance.  Amortization of deferred financing costs, totaling $14,909
and $37,035 for the years ended June 30, 2010 and 2009, respectively, is
included in financing expense on the statements of operations.


39





Licenses





Amortization
of licenses is computed using the straight-line method over the estimated
economic useful lives of the assets.  During fiscal year 2009, the
Company determined that the entire remaining value of the IBt license was
impaired and recorded an impairment charge of $425,434 that is included in cost
of product sales for the year ended June 30, 2009. (see Footnote 7 to the
audited consolidated financial statements)





Amortization
of licenses was $11,867 and $30,067 for the years ended June 30, 2010 and 2009,
respectively.  Based on the licenses recorded at June 30, 2010, and
assuming no subsequent impairment of the underlying assets, the annual
amortization expense for each fiscal year ending June 30 is expected to be as
follows:  $11,721 for 2011, $0 for all years thereafter.





Other
Assets





Other
assets, which include deferred charges and patents, are stated at cost less
accumulated amortization.  Amortization of patents is computed using
the straight-line method over the estimated economic useful lives of the
assets.  The Company periodically reviews the carrying values of
patents and other assets. Impairments are recognized when the expected future
operating cash flows to be derived from such assets are less than their carrying
value.





Amortization
of other assets was $16,861 and $11,315 for the years ended June 30, 2010 and
2009 respectively.  Based on the patents and other intangible assets
recorded in other assets at June 30, 2010, and assuming no subsequent impairment
of the underlying assets, the annual amortization expense for each fiscal year
ending June 30 is expected to be as follows: $15,139 for each year 2011 through
2015 and $142,629 thereafter.





Asset Retirement
Obligation





The fair
value of the future retirement costs of the Company’s leased assets are recorded
as a liability on a discounted basis when they are incurred and an equivalent
amount is capitalized to property and equipment.  The initial recorded
obligation is discounted using the Company’s credit-adjusted risk free-rate and
is reviewed periodically for changes in the estimated future costs underlying
the obligation.  The Company amortizes the initial amount capitalized
to property and equipment and recognizes accretion expense in connection with
the discounted liability over the estimated remaining useful life of the leased
assets.





In
September 2007, an asset retirement obligation of $473,096 was established
representing the discounted cost of the Company’s estimate of the obligations to
remove any residual radioactive materials and all leasehold improvements at the
end of the lease term at its new production facility.  The estimate
was developed by qualified production personnel and the general contractor of
the new facility.  The Company has reviewed the estimate again based
on its experience with decommissioning its old facility and believes that the
original estimate continues to be applicable.





During
the years ended June 30, 2010 and 2009, the asset retirement obligations changed
as follows:





2010
                    
                    
                    2009Beginning
      balance
                    
                    $
                    553,471
                    
                    
                    $
                    506,005Accretion
      of discount
                    
                    
                    51,920
                    
                    
                    
                    47,466Ending
      balance
                    
                    $
                    605,391
                    
                    
                    $
                    553,471





Because
the Company does not expect to incur any expenses related to its asset
retirement obligations in fiscal year 2011, the entire balance as of June 30,
2010 is classified as a noncurrent liability.


40





Financial
Instruments





The
Company discloses the fair value of financial instruments, both assets and
liabilities, recognized and not recognized in the balance sheet, for which it is
practicable to estimate the fair value.  The fair value of a financial
instrument is the amount at which the instrument could be exchanged in a current
transaction between willing parties, other than a forced liquidation
sale.





The
carrying amounts of financial instruments, including cash and cash equivalents,
short-term investments, accounts receivable, accounts payable, notes payable,
and capital lease obligations, approximated their fair values at June 30, 2010
and 2009.





Revenue
Recognition





The
Company applies the provisions of ASC Topic 605, Revenue Recognition. ASC 605
provides guidance on the recognition, presentation and disclosure of revenue in
financial statements.  ASC 605 outlines the basic criteria that must
be met to recognize revenue and provides guidance for the disclosure of revenue
recognition policies.  The Company recognizes revenue related to
product sales when (i) persuasive evidence of an arrangement exists,
(ii) shipment has occurred, (iii) the fee is fixed or determinable,
and (iv) collectability is reasonably assured.




Revenue
for the fiscal years ended June 30, 2010 and 2009 was derived primarily from
sales of the Proxcelan Cs-131 brachytherapy seed, which is used in the treatment
of cancer.  The Company recognizes revenue once the product has been
shipped to the customer.  Prepayments, if any, received from customers
prior to the time that products are shipped are recorded as deferred revenue. In
these cases, when the related products are shipped, the amount recorded as
deferred revenue is then recognized as revenue.  The Company accrues
for sales returns and other allowances at the time of
shipment.  Although the Company does not have an extensive operating
history upon which to develop sales returns estimates, we have used the
expertise of our management team, particularly those with extensive industry
experience and knowledge, to develop a proper methodology.





Stock-Based
Compensation





The
Company measures and recognizes expense for all share-based payments at fair
value.  The Company uses the Black-Scholes option valuation model to
estimate fair value for all stock options on the date of grant.  For
stock options that vest over time, the Company recognizes compensation cost on a
straight-line basis over the requisite service period for the entire
award.





Research and Development
Costs





Research
and development costs, including salaries, research materials, administrative
expenses and contractor fees, are charged to operations as
incurred.  The cost of equipment used in research and development
activities which has alternative uses is capitalized as part of fixed assets and
not treated as an expense in the period acquired.  Depreciation of
capitalized equipment used to perform research and development is classified as
research and development expense in the year recognized.





Legal
Contingencies





In the
ordinary course of business, the Company is involved in legal proceedings
involving contractual and employment relationships, product liability claims,
patent rights, environmental matters, and a variety of other
matters.  The Company is also subject to various local, state, and
federal environmental regulations and laws due to the isotopes used to produce
the Company’s product.  As part of normal operations, amounts are
expended to ensure that the Company is in compliance with these laws and
regulations.  While there have been no reportable incidents or
compliance issues, the Company believes that if it relocates its current
production facilities then certain decommissioning expenses will be incurred and
has recorded an asset retirement obligation for these expenses.


41





The
Company records contingent liabilities resulting from asserted and unasserted
claims against it, when it is probable that a liability has been incurred and
the amount of the loss is reasonably estimable.  Estimating probable
losses requires analysis of multiple factors, in some cases including judgments
about the potential actions of third-party claimants and
courts.  Therefore, actual losses in any future period are inherently
uncertain.  Currently, the Company does not believe any probable legal
proceedings or claims will have a material adverse effect on its financial
position or results of operations.  However, if actual or estimated
probable future losses exceed the Company’s recorded liability for such claims,
it would record additional charges as other expense during the period in which
the actual loss or change in estimate occurred.





Income
Taxes





Income
taxes are accounted for under the liability method.  Under this
method, the Company provides deferred income taxes for temporary differences
that will result in taxable or deductible amounts in future years based on the
reporting of certain costs in different periods for financial statement and
income tax purposes.  This method also requires the recognition of
future tax benefits such as net operating loss carryforwards, to the extent that
realization of such benefits is more likely than not.  Deferred tax
assets and liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which those temporary differences are expected to
be recovered or settled.  The effect on deferred tax assets and
liabilities of a change in tax rates is recognized in operations in the period
that includes the enactment of the change.  Management has determined
that the Company, its subsidiary, and its predecessors are subject to
examination of their income tax filings in the United States and state
jurisdictions for the 2005 through 2008 tax years.  In the event that
the Company is assessed penalties and or interest, penalties will be charged to
other operating expense and interest will be charged to interest
expense.





Income (Loss) Per Common
Share





Basic
earnings per share is calculated by dividing net income (loss) available to
common shareholders by the weighted average number of common shares outstanding,
and does not include the impact of any potentially dilutive common stock
equivalents, including preferred stock, common stock warrants or options that
are potentially convertible into common stock as those would be antidilutive due
to the Company’s net loss position.





Securities
that could be dilutive in the future as of June 30, 2010 and 2009 are as
follows:





2010
                      
                      
                      2009Preferred
      stock
                      
                      
                      59,065
                      
                      
                      
                      59,065Common
      stock warrants
                      
                      
                      3,165,768
                      
                      
                      
                      3,216,644Common
      stock options
                      
                      
                      2,274,706
                      
                      
                      
                      2,708,166Total
      potential dilutive securities
                      
                      
                      5,499,539
                      
                      
                      
                      5,983,875





Subsequent
Events





Effective
April 1, 2009, the Company adopted ASC 855 Subsequent
Events.  This Statement establishes the accounting for, and
disclosure of, material events that occur after the balance sheet date, but
before the financial statements are issued.  In general, these events
will be recognized if the condition existed at the date of the balance sheet,
and will not be recognized if the condition did not exist at the balance sheet
date.  Disclosure is required for non-recognized events if required to
keep the financial statements from being misleading.  The guidance in
this Statement is very similar to current guidance provided in accounting
literature and, therefore, will not result in significant changes in
practice.  Subsequent events have been evaluated through the date our
financial statements were issued—the filing time and date of our 2010 Annual
Report on Form 10-K.


42





Use of
Estimates





The
preparation of financial statements in accordance with accounting principles
generally accepted in the United States of America requires management of the
Company to make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes.  Accordingly, actual
results could differ from those estimates and affect the amounts reported in the
financial statements.





Results of
Operations





Financial
Presentation





The
following sets forth a discussion and analysis of the Company’s financial
condition and results of operations for the two years ended June 30, 2010 and
2009.  This discussion and analysis should be read in conjunction with
our consolidated financial statements appearing elsewhere in this Annual Report
on Form 10-K.  The following discussion contains forward-looking
statements.  Our actual results may differ significantly from the
results discussed in such forward-looking statements.  Factors that
could cause or contribute to such differences include, but are not limited to,
those discussed in “Item 1A — Risk Factors,” beginning on page 25 of
this Annual Report on Form 10-K.





Year ended June 30, 2010
compared to year ended June 30, 2009





Product sales.  The
Company generated revenue of $5,286,084 for the year ended June 30,
2010  compared to revenue of $5,417,815 for the year ended June 30,
2009, a decrease of $131,731 or 2.4%.  The total number of cases for
the year ended June 30, 2010 as compared to the year ended June 30, 2009
declined 5.7%.  Revenue generated from prostate cancer related therapy
amounted to approximately 97% of revenue in the year ended June 30, 2010 while
the remaining approximately 3% is from new treatment modalities including lung,
colorectal, head and neck and chest wall cancers.  In the year ended
June 30, 2009 nearly 100% of revenue was generated by prostate cancer
therapy.  Management believes that the overall market for prostate
brachytherapy has received increased pressure from other treatment options with
higher reimbursement rates such as intensity-modulated radiation therapy (IMRT)
and management is focused on new treatment modalities to become a larger portion
of the total revenue in the future.





Cost of product
sales.  Cost of product sales was $4,560,287 for the year ended
June 30, 2010 compared to cost of product sales of $5,771,147 for the year ended
June 30, 2009.  While the Company continues to streamline
manufacturing processes, the reduction of cost of product sales of $1,210,860 or
21% for the year ended June 30, 2010 as compared to the year ended June 30,
2009, was substantially impacted by a one-time impairment charge of
$425,434.  The remaining year to year cost reduction of $785,426 was
composed of decreases in depreciation and amortization expense of $219,000,
occupancy expense of $66,000, payroll and benefits expense of $172,000 and
pre-loading expense of 207,000.  The Company achieved a $785,000
reduction in production costs as a result of a continued focus on analyzing and
improving all aspects of production operations.  These continued
efforts during fiscal year 2010 have resulted in improved production processes,
better utilization of labor, ability to utilize Company personnel in lieu of
consultants and the continued increased use of internal seed loading
capabilities by customers instead of external third-party seed loading
services.





Gross margin
(loss).  Gross margin was $725,797 for the year ended June 30,
2010 compared to a gross loss of $353,332 for the year ended June 30,
2009.  The improvement of $1,079,129 or 305% was due to the one-time
impairment charge in the year ended June 30, 2009 as well as continued
reductions in production costs and more efficient use of manufacturing resources
in the year ended June 30, 2010.


43





Research and development
expenses.  Research and development expenses for the year ended
June 30, 2010 were $340,959 which represents a decrease of $617,706 or
approximately 64% less than the research and development expenses of $958,665
for the year ended June 30, 2009.





The cost
savings of approximately $618,000 were primarily due to a $305,000 reduction in
protocol expense as the major cost for the monotherapy protocol has been
completed, consulting costs of $74,000 as several production projects were
completed, legal costs were reduced by $127,000 and savings of $60,000 in
payroll and benefits, related taxes and share-based compensation.





Sales and marketing
expenses.  Sales and marketing expenses were $1,953,598 for the
year ended June 30, 2010 compared to sales and marketing expenses of $2,365,973
for the year ended June 30, 2009, which represents a decrease of $412,375 or
17%.





The
decrease of approximately $412,000 is primarily the net result of a reduction in
wages, benefits, related taxes and share-based compensation of $242,000 that is
related to both temporary and permanent attrition as well as forfeiture of
related equity stock options; a decrease of $88,000 in travel that is a result
of both the temporary attrition and improved trip planning; and a reduction of
$76,000 in marketing and advertising expense through reducing the number of
trade journals that were used for advertising.





General and administrative
expenses.  General and administrative expenses for the year
ended June 30, 2010 were $2,440,140 compared to general and administrative
expenses of $2,792,611 for the year ended June 30, 2009. The decrease of
approximately $352,000 is primarily the net result of reductions in wages,
benefits, related taxes and share-based compensation of $137,000; reduction in
legal expense of $157,000; and a decrease in consulting expenses of $92,000 that
was partially offset by an increase in audit, Sarbanes-Oxley Act related
compliance and tax expense of $50,000.





Operating loss.  In
the year ended June 30, 2010, the Company had an operating loss of $4,008,900
compared to $6,470,581 for the year ended June 30, 2009, a decrease of
$2,461,681 or 38%.  The Company’s operating loss reduction of
approximately $2.5 million was achieved through savings in cost of product sales
of $1.2 million (including a one-time impairment charge of $425,000), research
and development of $618,000, sales and marketing of $412,000, and general and
administrative of $352,000.





Interest
income.  Interest income was $11,433 for the year ended June
30, 2010 compared to interest income of $111,047 for the year ended June 30,
2009.  The decrease of $99,614 or 90% is the result of lower average
cash and short-term investment balances during the year ended June 30, 2010 and
decreased interest rates.





Gain on the fair value of short-term
investments.    There was no gain on short-term
investments for the year ended June 30, 2010 as compared to a gain of $274,000
for the year ended June 30, 2009.  The gain of $274,000 for the year
ended June 30, 2009 was due to the receipt of the Company’s rights related to
its auction rate securities (ARS) issued by its broker in October
2008.  The gain was calculated as the fair value amount of the put
rights as estimated on the date of receipt plus the changes in their fair value
offset by additional realized losses on the Company’s ARS.





Financing and interest
expense.  Financing and interest expense for the year ended
June 30, 2010 was $36,389 compared to $75,307 for the year ended June 30, 2009,
a decrease of $39,000 or 52%.  Financing expense included interest
expense of approximately $19,000 and $38,000 for the years ended June 30, 2010
and 2009, respectively.  The decrease is due to the lower than average
debt balances in the year ended June 30, 2010.  The remaining balance
of financing expense represents the amortization of deferred financing
costs.


44





Liquidity and capital
resources.  We have historically financed our operations
through the sale of common stock and related warrants.  During fiscal
year 2010, the Company primarily used existing cash reserves to fund its
operations and capital expenditures.





Cash
flows from operating activities





Cash used
in operating activities was approximately $2.7 million in fiscal year 2010
compared to approximately $3.9 million in fiscal year 2009, a decrease of
approximately $1.3 million.  Cash used by operating activities is net
loss adjusted for non-cash items and changes in operating assets and
liabilities.





The
reduction of net cash used by operating activities of $1.3 million is
attributable to the reduction of the Company’s net loss of $2.1 million with an
offsetting reduction in non cash charges of $600,000 in fiscal year 2010
compared to fiscal year 2009 and a reduction of $260,000 in operating assets and
liabilities in the fiscal year 2010 compared to the fiscal year
2009.





Cash
flows from investing activities





Cash
provided by investing activities was approximately $1.6 million for the year
ended June 30, 2010 and $2.2 million for the year ended June 30,
2009.  Cash expenditures for fixed assets were approximately $22,000
in fiscal year 2010 and approximately $58,000 in fiscal year
2009.  The short-term investments of the Company matured in the year
ended June 30, 2010 and provided $1.7 million of cash proceeds.  The
Company sold its remaining auction rate securities in January 2009 which
generated $4.0 million of cash proceeds.





Cash
flows from financing activities





Cash used
in financing activities was approximately $270,000 for the year ended June 30,
2010 and $102,000 for the year ended June 30, 2009 and was used mainly for
payments of debt, capital leases and the cash payment of stock offering
costs.





Projected
2011 Liquidity and Capital Resources





At June
30, 2010, cash and cash equivalents amounted to $1,678,869 with no short-term
investments compared to $2,990,744 of cash and cash equivalents and $1,679,820
of short-term investments at June 30, 2009.





The
Company had approximately $1.2 million of cash as of September 21,
2010.  As of that date management believed that the Company’s monthly
required cash operating expenditures were approximately $223,000 which
represents a significant decrease of approximately $100,000 from average monthly
cash operating expenditures in fiscal year 2009.  Management believes
that less than $100,000 will be spent on capital expenditures for the entire
fiscal year 2011, but there is no assurance that unanticipated needs for capital
equipment may not arise.





The
Company’s loan with the Benton-Franklin Economic Development District matured
and was paid during the fiscal year ended June 30, 2010.  The Company
has only one remaining loan facility outstanding with the Hanford Area Economic
Investment Fund Committee (HAEIFC), with a principal balance of approximately
$179,995 as of June 30, 2010.





During
fiscal year 2011, the Company intends to continue its existing protocol studies
and begin new protocol studies on lung cancer treatment using
Cs-131.  Currently, the Company has budgeted approximately $100,000 in
fiscal year 2011 for protocol expenses relating to lung cancer as well as
continued work on the dual therapy and mono therapy prostate
protocols.


45





Based on
the foregoing assumptions, management believes cash and cash equivalents on hand
at June 30, 2010 should be sufficient to meet our anticipated cash
requirements for operations, debt service, and capital expenditure requirements
through January 31, 2011.





Management
plans to attain breakeven and generate additional cash flows by increasing
revenues from both new and existing customers (through our direct sales channels
and through our distributors), expanding into other market applications which
initially will include head and neck implants, colorectal and lung implants
while maintaining the Company's focus on cost control.  Management
believes the Company will reach breakeven with revenues of approximately
$750,000 per month with cashflow breakeven from operations being reached at
approximately $700,000.  However, there can be no assurance that the
Company will attain profitability or that the Company will be able to attain its
revenue targets. Sales in the prostate market have not shown the increases
necessary to breakeven during the past two fiscal years and did not improve
during the year ended June 30, 2010.  As management is now focused on
expanding into head and neck, colorectal, lung and brain applications,
management believes the Company will need to raise additional capital for
protocols, marketing staff, production staff and production equipment as it
attempts to gain market share. Initially, management plans to seek to sell
common stock pursuant to either an “at the market”  offering or
through a direct registered offering at a discount to the market price of not
more than 15% and has an effective Form S-3 shelf offering registration
statement available for this purpose.





Management
executed a sales agreement with C.K. Cooper & Company, Inc. (CKCC) on April
22, 2010 to sell shares as the Company’s sales agent at market prices, which was
amended on July 29, 2010.  As amended, the sales agreement expires on
December 31, 2010.  If the shares are sold, the shares will be issued
pursuant to the Form S-3 (File No. 333-162694) which became effective on
November 13, 2009 and the prospectus supplement dated April 23,
2010.  Sales cannot exceed $4 million under the prospectus supplement
and must be sold “at the market” price of the common stock as of the day the
sales are made.





The
Company may also finance its future cash needs through solicitation of warrant
holders to exercise their warrants at potentially reduced exercise prices,
possible strategic collaborations, debt financing or through other sources that
may be dilutive to existing shareholders but as the Company now has insufficient
capital to fund operations through the end of the current fiscal year, it may
need to offer more substantial discounts.  Management anticipates that
if it raises financing that it will be at a discount to the market price of
common stock of not more than 15% and dilutive to shareholders. Of course,
funding may not be available to it on acceptable terms, or at all. If the
Company is unable to raise additional funds, it will have to discontinue or
significantly curtail operations.





Long-Term
Debt





The
Company has a single loan facility in place as of June 30, 2010.  The
loan facility is from HAEIFC and was originated in June 2006.  The
loan originally had a total facility of $1,400,000 which was reduced in
September 2007 to the amount of the Company’s initial draw of
$418,670.  The principal balance owed on the loan as of June 30, 2010
was $179,995.  This loan is secured by receivables, equipment,
materials and inventory, and certain life insurance policies and also required
personal guarantees.  The final payment on the HAEIFC loan will be due
in September 2013.





HAEIFC
has granted the Company a waiver from enforcing several loan covenants in the
loan agreement.  The waiver is effective through June 30,
2011.





Other
Commitments and Contingencies





In May
2010, Medical exercised the first of two options to renew the original lease
that was entered into on May 2, 2007 with Energy Northwest, the owner of the
Applied Process Engineering Laboratory (the APEL lease), for an additional 3
years with a new lease expiration date of April 30, 2013.  Due to a
reduction in some lab and office space at APEL, the rent has been reduced to
approximately $23,100 per month.


46





Future
minimum lease payments under operating leases, including the one remaining
three-year renewal of the APEL lease, are as follows:





Year ending June 30,2011
                        
                        $
                        296,1572012
                        
                        
                        284,9152013
                        
                        
                        282,3902014
                        
                        
                        282,3902015
                        
                        
                        282,390Thereafter
                        
                        
                        235,324$
                        1,663,566





In
February 2006, the Company signed a license agreement with International
Brachytherapy SA (IBt), a Belgian company, covering North America and providing
the Company with access to IBt’s Ink Jet production process and its proprietary
polymer seed technology for use in brachytherapy procedures using
Cs-131.  Under the original agreement royalty payments were to be paid
on net sales revenue incorporating the technology.





On
October 12, 2007, the Company entered into Amendment No. 1 (the Amendment) to
its License Agreement dated February 2, 2006 with IBt.  The Company
paid license fees of $275,000 (under the original agreement) and $225,000 (under
the Amendment) during fiscal years 2006 and 2008, respectively.  The
Amendment eliminated the previously required royalty payments based on net sales
revenue, and the parties originally intended to negotiate terms for future
payments by the Company for polymer seed components to be purchased at IBt's
cost plus a to-be-determined profit percentage.  Management no longer
believes that introducing Cs-131 polymer seeds is a viable strategy due to
concerns regarding physician acceptance and the costs to revamp the Company’s
existing manufacturing procedures to incorporate this technology.  In
December 2008, the Company recorded an impairment charge to write down this
license based on its current intentions to not utilize this
technology.





In
November 2008, a subsidiary of the Company entered into a written contract with
a contractor based in the Ukraine to formalize a research and development
project originally begun over three years ago to develop a proprietary
separation process to manufacture enriched barium.  There is no
assurance that this process can be developed.  The contract called for
an initial payment of $17,800 and a payment of $56,610 upon completion of a
successful demonstration.  The Company’s initial demonstration was
postponed due to an electrical problem that damaged equipment and due to
economic difficulties in the Ukraine that have protracted the contractor’s
efforts with a planned demonstration originally expected in Fall
2009.  The contractor has not delivered a successful demonstration as
required by the contract despite on-going commitments to the Company to do
so.  There is no assurance this demonstration will occur or whether it
will be successful.  If a successful demonstration occurs, the Company
will then need decide if the prototype model will produce sufficient quantities
of enriched barium or if a larger production model will need to be built for an
additional cost estimated to be $100,000 to $150,000.





The
Company is subject to various local, state, and federal environmental
regulations and laws due to the isotopes used to produce the Company’s
product.  As part of normal operations, amounts are expended to ensure
that the Company is in compliance with these laws and
regulations.  While there have been no reportable incidents or
compliance issues, the Company believes that if it relocates its current
production facilities then certain decommissioning expenses will be
incurred.  An asset retirement obligation was established in the first
quarter of fiscal year 2008 for the Company’s obligations at its new production
facility.  This asset retirement obligation will be for obligations to
remove any residual radioactive materials and to remove all leasehold
improvements.





The
industry that the Company operates in is subject to product liability
litigation.  Through its production and quality assurance procedures,
the Company works to mitigate the risk of any lawsuits concerning its
product.  The Company also carries product liability insurance to help
protect it from this risk.


47





The
Company has no off-balance sheet arrangements.





Inflation





Management
does not believe that the current levels of inflation in the United States have
had a significant impact on the operations of the Company.  If current
levels of inflation hold steady, management does not believe future operations
will be negatively impacted.





New Accounting
Standards





On July
1, 2009, the Company adopted  ASC 105, Generally Accepted Accounting
Principles, new accounting provisions which establishes the FASB Accounting
Standards CodificationTM (the Codification) as the single official source of
authoritative accounting principles recognized by the FASB to be applied by
nongovernmental entities in the preparation of financial statements in
conformity with generally accepted accounting principles (GAAP) other than rules
and interpretive releases issued by the Securities and Exchange Commission. The
Codification reorganized the literature and changed the naming mechanism by
which topics are referenced. The Codification became effective for interim and
annual periods ending after September 15, 2009. The Company’s accounting
policies and amounts presented in the financial statements were not impacted by
this change.





On July
1, 2009, the Company adopted new accounting provisions which were delayed from
the effective date of fair value accounting for one year for certain
nonfinancial assets and nonfinancial liabilities, excluding those that are
recognized or disclosed in financial statements at fair value on a recurring
basis (that is, at least annually). For purposes of applying the new provisions,
nonfinancial assets and nonfinancial liabilities include all assets and
liabilities other than those meeting the definition of a financial asset or a
financial liability. The Company had previously adopted new standards for fair
value accounting on July 1, 2008. The adoption of these new provisions did not
have a material effect on the Company but will affect future calculations of
asset retirement obligations and long-lived asset impairment.





On July
1, 2009, the Company adopted ASC 805, Business Combinations, this new accounting
standard applies to business combinations and for non-controlling interests. The
new business combination provisions require an acquirer to measure the
identifiable assets acquired, the liabilities assumed and any non-controlling
interest in the aquiree at their fair values on the acquisition date, with
goodwill being the excess value over the net identifiable assets acquired. In
addition, the new provisions require that a non-controlling interest in a
subsidiary be reported as equity in the consolidated financial statements. The
calculation of earnings per share will continue to be based on income amounts
attributable to the parent. The adoption of these statements did not have a
material effect on the Company’s financial statements.




ITEM
7A – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK





As a
smaller reporting company, the Company is not required to provide Item 7A
disclosure in this Annual Report.





ITEM
8 – FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA





The
required accompanying financial statements begin on page F-1 of this
document.


48





ITEM
9 – CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE





There
were no disagreements or reportable events with DeCoria, Maichel & Teague,
P.S.




ITEM
9A – CONTROLS AND PROCEDURES





Disclosure
Controls and Procedures





Under the
supervision and with the participation of our management, including our
principal executive officer and principal financial officer, we conducted an
evaluation of the design and operation of our disclosure controls and
procedures, as such term is defined under Rules 13a-14(c) and 15d-14(c)
promulgated under the Securities Exchange Act of 1934, as amended (the "Exchange
Act"), as of June 30, 2010.  Based on that evaluation, our principal
executive officer and our principal financial officer concluded that the design
and operation of our disclosure controls and procedures were
effective.  The design of any system of controls is based in part upon
certain assumptions about the likelihood of future events, and there can be no
assurance that any design will succeed in achieving its stated goals under all
potential future conditions, regardless of how remote.  However,
management believes that our system of disclosure controls and procedures is
designed to provide a reasonable level of assurance that the objectives of the
system will be met.





Management’s
Report on Internal Control over Financial Reporting





Our
management is responsible for establishing and maintaining adequate internal
control over financial reporting, as such term is defined in Rule 13a-15(f) of
the Exchange Act.  Under the supervision and with the participation of
our management, including our principal executive officer and principal
financial officer, we conducted an evaluation of the effectiveness of our
internal control over financial reporting based on the framework in Internal Control – Integrated
Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission.





A
material weakness is a significant deficiency, or combination of significant
deficiencies, that result in more than a remote likelihood that a material
misstatement of the annual or interim financial statements will occur and not be
detected by management before the financial statements are
published.  In its assessment of the effectiveness in internal control
over financial reporting as of June 30, 2010, the Company determined that
there was a material weakness and a significant deficiency, as described
below.





·
            Material weakness - The
      Company did not maintain a sufficient complement of personnel with the
      appropriate level of knowledge, experience and training to analyze, review
      and monitor the accounting of complex financial
      transactions.  As a result, the Company did not prepare adequate
      contemporaneous documentation that would provide a sufficient basis for an
      effective evaluation and review of the accounting for complex transactions
      that are significant or non-routine.  This material weakness
      resulted in errors in the preliminary June 30, 2010 consolidated financial
      statements and more than a remote likelihood that a material misstatement
      of the Company’s annual or interim financial statements would not be
      prevented or detected.





·
            Significant deficiency
      - There is a lack of segregation of duties in preparation of the financial
      statements and other key financial transactions.  The Controller
      is responsible for almost every key financial duty and has access to all
      of the Company’s financial information.  Such a lack of
      segregation of duties is typical in a company with limited
      resources.  Although the Company’s CEO and Board of Directors
      review the financial statements and would most likely discover any
      misappropriation of funds, this cannot be assured by the existing
      system.





Due to
the above significant deficiency and the resulting material weakness,
management concluded that our internal control over financial reporting was not
effective as of June 30, 2010.


49





The
Company is in the process of developing and implementing a remediation plan to
address the material weakness and significant deficiency as described
above.





The
Company has taken the following actions to improve internal control over
financial reporting:





·
            In
      April 2010, the Company filled an additional accounting position with an
      individual who is a Certified Public Accountant to address issues with
      segregation of duties.





·
            The
      Company plans to continue to enhance staff knowledge through continued
      training and periodic reviews.





In light
of the aforementioned material weakness, management conducted a thorough review
of all significant or non-routine transactions and adjustments for the year
ended June 30, 2010.  As a result of this review, management believes
that there are no material inaccuracies or omissions of material fact and to the
best of its knowledge, believes that the consolidated financial statements for
the year ended June 30, 2010 fairly present in all material respects the
financial condition and results of operations for the Company in conformity with
U.S. generally accepted accounting principles.





This
annual report on Form 10-K does not include an attestation report of our
independent registered public accounting firm regarding internal control over
financial reporting due to a permanent exemption for smaller reporting companies
from the internal control audit requirements of Section 404(b)of the
Sarbanes-Oxley Act of 2002.





Changes
in Internal Control over Financial Reporting





There
have not been any changes in our internal control over financial reporting (as
such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act)
during the most recent fiscal quarter that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting.





Limitations
on the Effectiveness of Controls





Our
management, including our principal executive officer and principal financial
officer, does not expect that our disclosure controls and internal controls will
prevent all errors and all fraud.  A control system, no matter how
well conceived and operated, can provide only reasonable, not absolute,
assurance that the objectives of the control system are met.  Further,
the design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their
costs.  Because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, within the Company have been
detected.  These inherent limitations include the realities that
judgments in decision making can be faulty, and that breakdowns can occur
because of a simple error or mistake.  Additionally, controls can be
circumvented by the individual acts of some persons, by collusion of two or more
people, or by management or board override of the control.





The
design of any system of controls also is based in part upon certain assumptions
about the likelihood of future events, and there can be no assurance that any
design will succeed in achieving its stated goals under all potential future
conditions; over time, controls may become inadequate because of changes in
conditions, or the degree of compliance with the policies or procedures may
deteriorate.  Because of the inherent limitations in a cost-effective
control system, misstatements due to error or fraud may occur and not be
detected.


50





ITEM
9B – OTHER INFORMATION





There
were no items required to be disclosed in a report on Form 8-K during the fourth
quarter of the fiscal year ended June 30, 2010 that have not been already
disclosed on a Form 8-K filed with the SEC.





PART
III




ITEM
10 – DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE





Each
member of the Board of Directors serves a one-year term and is subject to
reelection at the Company’s Annual Meeting of Shareholders held each
year.





Board
Committees





The Board
has established an Audit Committee consisting of Thomas LaVoy (Chairman), Robert
Kauffman, and Albert Smith; a Compensation Committee consisting of Albert Smith
(Chairman) and Robert Kauffman; and a Nominating Committee consisting of Robert
Kauffman (Chairman), Thomas LaVoy, and Albert Smith.  No other
committees have been formed.





Audit
Committee





The Audit
Committee was established on December 8, 2006, the date on which its Charter was
adopted.  The Audit Committee Charter lists the purposes of the Audit
Committee as overseeing the accounting and financial reporting processes of the
Company and audits of the financial statements of the Company and providing
assistance to the Board of Directors in monitoring (1) the integrity of the
Company’s financial statements, (2) the Company’s compliance with legal and
regulatory requirements, (3) the independent auditor’s qualifications and
independence, and (4) the performance of the Company’s internal audit function,
if any, and independent auditor.





The Board
of Directors has determined that Mr. LaVoy and Mr. Kauffman are each
an “audit committee financial expert” as defined in Item 407(d)(5) of Regulation
S-K promulgated by the Securities and Exchange Commission, and each Audit
Committee member is independent under applicable NYSE Amex
standards.  The Board’s conclusions regarding the qualifications of
Mr. LaVoy as an audit committee financial expert were based on his service
as a chief financial officer of a public company, his experience as a certified
public accountant and his degree in accounting.  The Board’s
conclusions regarding the qualifications of Mr. Kauffman as an audit
committee financial expert were based on his service as a chief executive
officer of multiple public companies, his active supervision of the principal
financial and accounting officers of the public companies for which he served as
chief executive officer, and his M.B.A. in Finance.





Executive
Officers and Directors





The
executive officers and directors serving the Company as of June 30, 2010 were as
follows:





Name
                  
                  Age
                  
                  Position Held
                  
                  Term*Dwight
      Babcock
                  
                  62
                  
                  Chairman,
      Chief Executive Officer
                  
                  AnnualBrien
      Ragle
                  
                  41
                  
                  Controller, Principal Financial and Accounting OfficerRobert
      Kauffman
                  
                  70
                  
                  Vice-Chairman
                  
                  AnnualThomas
      LaVoy
                  
                  50
                  
                  Director
                  
                  AnnualAlbert
      Smith
                  
                  66
                  
                  Director
                  
                  Annual





* For
directors only


51





Dwight
Babcock – Mr. Babcock was appointed CEO of the Company on February 18,
2009.  He was previously appointed Chairman and Interim CEO of the
Company on February 26, 2008 and has served as a Director of the Company since
2006.  Mr. Babcock has served as Chairman and Chief Executive Officer
of Apex Data Systems, Inc., an information technology company, since
1975.  Apex Data Systems automates the administration and claims
adjudication needs of insurance companies both nationally and
internationally.  Mr. Babcock was formerly President and CEO of
Babcock Insurance Corporation (BIC) from 1974 until 1985.  BIC was a
nationally recognized third party administrator operating within 35
states.  Mr. Babcock has knowledge and experience in the equity arena
and has participated in various activities within the venture capital, private
and institutional capital markets.  Mr. Babcock studied marketing and
economics at the University of Arizona where he currently serves on the
University of Arizona Astronomy Board.  Mr. Babcock brings over 35
years of CEO-level experience to his service on the Company's
Board.





Brien
Ragle – Mr. Ragle has over 14 years of finance and accounting experience,
including financial reporting, and cost, project, and management accounting in
addition to performing operational analysis.  Mr. Ragle became
IsoRay's Controller in October 2009.  Before joining IsoRay in January
2007 as Cost Accounting Manager, Mr. Ragle was employed by BNG America, LLC, a
wholly-owned subsidiary of Energy Solutions, LLC (ES) from 2005 to 2006 as a
Project Accounting Manager and from 2000 to 2004 as a Business Unit Controller
by SCM Consultants, Inc, a wholly-owned subsidiary of Tetra Tech, Inc
(TTEK).  Mr. Ragle holds Bachelor of Arts degrees in Business
Administration, accounting emphasis, and Hospitality Management from Washington
State University and is a Certified Public Accountant in the State of
Washington.





Robert
Kauffman – Mr. Kauffman has been a Director of the Company since 2005 and was
appointed Vice-Chairman of the Company on February 26,
2008.  Mr. Kauffman has served as Chief Executive Officer and
Chairman of the Board of Alanco Technologies, Inc. (NASDAQ: ALAN), an
Arizona-based information technology company, since July 1,
1998.  Mr. Kauffman was formerly President and Chief Executive
Officer of NASDAQ-listed Photocomm, Inc., from 1988 until 1997 (since renamed
Kyocera Solar, Inc.).  Photocomm was the nation’s largest publicly
owned manufacturer and marketer of wireless solar electric power systems with
annual revenues in excess of $35 million.  Prior to Photocomm,
Mr. Kauffman was a senior executive of the Atlantic Richfield Company
(ARCO) whose varied responsibilities included Senior Vice President of ARCO
Solar, Inc., President of ARCO Plastics Company and Vice President of ARCO
Chemical Company.  Mr. Kauffman earned an M.B.A. in Finance at
the Wharton School of the University of Pennsylvania, and holds a B.S. in
Chemical Engineering from Lafayette College, Easton,
Pennsylvania.  Mr. Kauffman has substantial experience in serving as
CEO for public companies, and brings these skills to his service on the
Company's Board.





Thomas
LaVoy – Mr. LaVoy has been a Director of the Company since 2005.  Mr.
LaVoy has served as Chief Financial Officer of SuperShuttle International, Inc.,
since July 1997 and as Secretary since March 1998.  SuperShuttle is
one of the largest providers of shuttle services in major cities throughout the
West and Southwest regions of the United States.  He has also served
as a director of Alanco Technologies, Inc. (NASDAQ: ALAN) since 1998 and
presently serves on its audit committee.  From September 1987 to
February 1997, Mr. LaVoy served as Chief Financial Officer of NASDAQ-listed
Photocomm, Inc.  Mr. LaVoy was a Certified Public Accountant with the
firm of KPMG Peat Marwick from 1980 to 1983.  Mr. LaVoy has a Bachelor
of Science degree in Accounting from St. Cloud University, Minnesota, and is a
Certified Public Accountant.  Mr. LaVoy brings over 25 years of CFO
experience for progressively growing companies in multiple industries to his
service on the Company's Board.





Albert
Smith – Mr. Smith has been a Director of the Company since 2006.  Mr.
Smith was the co-founder of and served as Vice Chairman of CSI Leasing, Inc., a
private computer leasing company from 1972 until March 2005.  He
founded Extreme Video Solutions, LLC a privately held video conferencing company
with headquarters in Scottsdale, Arizona in December 2005.  In January
2008, he formed Face to Face Live, Inc. (successor to Extreme Video Solutions)
where he presently serves as CEO.  Mr. Smith presently serves as
Chairman of the Board for Doulos Ministries, Inc.  Mr. Smith has
extensive experience in marketing and sales having managed a national sales
force of over fifty people while at CSI Leasing, Inc.  Mr. Smith holds
a BS in Business Administration from Ferris State College.  Mr. Smith
brings his entrepreneurial skills in founding and growing multiple private
companies, together with a strong sales and marketing background, to his service
on the Company's Board.


52





The
Company’s directors, as named above, will serve until the next annual meeting of
the Company’s shareholders or until their successors are duly elected and have
qualified.  Directors will be elected for one-year terms at the annual
shareholders meeting.  There is no arrangement or understanding
between any of the directors or officers of the Company and any other person
pursuant to which any director or officer was or is to be selected as a director
or officer, and there is no arrangement, plan or understanding as to whether
non-management shareholders will exercise their voting rights to continue to
elect the current directors to the Company’s board.  There are also no
arrangements, agreements or understandings between non-management shareholders
that may directly or indirectly participate in or influence the management of
the Company’s affairs.





There are
no agreements or understandings for any officer or director to resign at the
request of another person, and none of the officers or directors are acting on
behalf of, or will act at the direction of, any other person.  There
are no family relationships among our executive officers and
directors.





Significant
Employees





Certain
significant employees of our subsidiary, IsoRay Medical, Inc., and their
respective ages as of the date of this report are set forth in the table
below.  Also provided is a brief description of the experience of each
significant employee during the past five years.





Name
                
                Age
                
                Position Held &
  TenureLane
      Bray
                
                82
                
                Chief
      ChemistFredric
      Swindler
                
                62
                
                Vice-President,
      Regulatory Affairs and Quality AssuranceAnthony
      Pasqualone
                
                55
                
                Vice-President,
      Business DevelopmentWilliam
      Cavanagh, III
                
                44
                
                Vice-President,
      Research and
Development





Lane Bray
– Mr. Bray is known nationally and internationally as a technical expert in
separations, recovery, and purification of isotopes and is a noted authority in
the use of cesium and strontium ion exchange for Department of Energy’s West
Valley and Hanford nuclear waste cleanup efforts.  In 2000,
Mr. Bray received the ’Radiation Science and Technology’ award from the
American Nuclear Society.  Mr. Bray has authored or co-authored
over 110 research publications, 12 articles for nine technical books, and holds
28 U.S. and foreign patents.  Mr. Bray patented the USDOE/PNNL
process for purifying medical grade Yttrium-90 that was successfully
commercialized in 1999.  Mr. Bray also invented and patented the
proprietary isotope separation and purification process that is assigned to
IsoRay.  Mr. Bray was elected ‘Tri-Citian of the Year’ in 1988,
nominated for ‘Engineer of the Year’ by the American Nuclear Society in 1995,
and was elected ‘Chemist of the Year for 1997’ by the American Chemical Society,
Eastern Washington Section.  Mr. Bray retired from the Pacific
Northwest National Laboratory in 1998.  Since retiring in 1998,
Mr. Bray worked part time for PNNL on special projects until devoting all
of his efforts to IsoRay in 2004.  Mr. Bray has been a Washington
State Legislator, a Richland City Councilman, and a Mayor of
Richland.  Mr. Bray has a B.A. in Chemistry from Lake Forest
College.





Fredric
Swindler – Mr. Swindler joined IsoRay Medical in October 2006 and has over 40
years experience in manufacturing and regulatory compliance.  Mr.
Swindler also serves as Secretary for IsoRay, Inc., a position he has held since
June 11, 2008.  Mr. Swindler served as VP, Quality Assurance and
Regulatory Affairs for Medisystems Corporation, a manufacturer and distributor
of medical devices, from 1994 until joining the Company.  During his
tenure at Medisystems Corporation, Mr. Swindler developed a quality system to
accommodate vertically integrated manufacturing, developed regulatory
strategies, policies and procedures, and submitted nine pre-market notifications
(510(k)) to the FDA.  Prior to this, Mr. Swindler held various
positions with Marquest Medical Products from 1989 to 1994, Sherwood Medical
Products from 1978 to 1989, Oak Park Pharmaceuticals in 1978, and Mead Johnson
& Company from 1969 to 1978.  Mr. Swindler holds a Bachelor of
Science degree in Biomedical Engineering from Rose-Hulman Institute of
Technology and a Masters of Business Administration from the University of
Evansville.


53





Anthony
Pasqualone – Mr. Pasqualone joined IsoRay Medical in November 2008 and has been
involved in marketing brachytherapy extensively since 1989 when brachytherapy
started to gain attention as a viable treatment option for prostate
cancer.  Prior to joining IsoRay, Mr. Pasqualone served as the
National Oncology Development Manager at Calypso Medical from April 2007 to
November 2008.  Prior to that Mr. Pasqualone was a consultant with
BrachySciences from December 2005 to April 2007.  He also served as a
VP of Strategic Markets from May 2003 to December 2005 in the Urology Division
of CR Bard.  From April 1997 to May 2003, he was a principal and Vice
President of Sales at SourceTech Medical, which developed and introduced
SeedLink to the brachytherapy market in 2003.  He started his career
managing brachytherapy sales as the National Sales Manager at Theragenics
Corporation, where he helped develop market acceptance of Pd-103.  In
1995 he brought the first stranded product to market while working with the team
at Oncura (Amersham Corporation).  Mr. Pasqualone is an alumnus of
Fordham University with a BS in Science.





William
Cavanagh III – Mr. Cavanagh joined IsoRay Medical in January
2010.  Mr. Cavanagh has most recently been engaged in the research and
development of dendritic cell therapies for cancer and infectious
diseases.  He served as Chief Scientific Officer for Sangretech Biomedical,
LLC for the six years prior to joining IsoRay Medical.  At Sangretech,
he oversaw the design and implementation of a novel cancer therapy.  Mr.
Cavanagh began his extensive career in cancer treatment technologies  in
the early 1990s, when he helped lead research and development of a therapy
involving the insertion of radioactive sources directly into the prostate for
the treatment of prostate cancer (prostate brachytherapy).  He has designed
several cancer treatment-related studies, is listed as an author on 34
peer-reviewed publications, and is the listed inventor on a U.S. patent
application detailing a novel treatment for cancer.   Mr. Cavanagh has
also served as Director of the Haakon Ragde Foundation for Advanced Cancer
Studies in Seattle, Washington, where he led the research foundation in the
selection of viable research projects directed at treating advanced
cancers.  Mr. Cavanagh holds a B.S. in Biology from the University of
Portland (Oregon) and completed two years of medical school before beginning his
career in research management.





Section 16(a) Beneficial
Ownership Reporting Compliance





Section
16(a) of the Securities Exchange Act of 1934 (the Exchange Act) requires the
Company’s directors and executive officers, and persons who beneficially own
more than ten percent of a registered class of our equity securities, to file
with the Securities and Exchange Commission (the Commission) initial reports of
beneficial ownership and reports of changes in beneficial ownership of our
Common Stock.  The rules promulgated by the Commission under Section
16(a) of the Exchange Act require those persons to furnish us with copies of all
reports filed with the Commission pursuant to Section 16(a).  The
information in this section is based solely upon a review of Forms 3, Forms 4,
and Forms 5 received by us.





We
believe that IsoRay’s executive officers, directors and 10% shareholders timely
complied with their filing requirements during the year ended June 30, 2010
except for a single Form 3, which was filed late by Brien Ragle.





Code of
Ethics





We have
adopted a Code of Conduct and Ethics that applies to all of our officers,
directors and employees and a separate Code of Ethics for Chief Executive
Officer and Senior Financial Officers that supplements our Code of Conduct and
Ethics.  The Code of Conduct and Ethics was previously filed as
Exhibit 14.1 to our Form 10-KSB for the period ended June 30, 2006, and the Code
of Ethics for Chief Executive Officer and Senior Financial Officers was
previously filed as Exhibit 14.2 to this same report.  The Code of
Ethics for Chief Executive Officer and Senior Financial Officers is also
available to the public on our website at
http://www.isoray.com/corporate_governance..  Each of these policies
comprises written standards that are reasonably designed to deter wrongdoing and
to promote the behavior described in Item 406 of Regulation S-K promulgated by
the Securities and Exchange Commission.


54





Nominating
Procedures





There
have been no material changes to the procedures by which our shareholders may
recommend nominees to the Board of Directors during our last fiscal
year.





ITEM
11 – EXECUTIVE COMPENSATION





The
following summary compensation table sets forth information concerning
compensation for services rendered in all capacities during our past two fiscal
years awarded to, earned by or paid to each of the following
individuals.  Salary and other compensation for these officers,
employees and former officers are set by the Compensation Committee of the Board
of Directors, except for employee compensation which is set by officers of the
Company.





Summary
      Compensation TableNonqualifiedNonequity
                                                                          
                                                                          
                                                                          deferredStock
                                                                          
                                                                          
                                                                          Option
                                                                          
                                                                          
                                                                          incentive
      plan
                                                                          
                                                                          
                                                                          compensation
                                                                          
                                                                          
                                                                          All
      otherSalary
                                                                          
                                                                          
                                                                          Bonus
                                                                          
                                                                          
                                                                          awards
                                                                          
                                                                          
                                                                          awards
                                                                          
                                                                          
                                                                          compensation
                                                                          
                                                                          
                                                                          earnings
                                                                          
                                                                          
                                                                          compensation
                                                                          
                                                                          
                                                                          TotalName
      and principal position
                                                                          
                                                                          Year
                                                                          
                                                                          ($)
                                                                          
                                                                          
                                                                          ($)
                                                                          
                                                                          
                                                                          ($)
                                                                          
                                                                          
                                                                          ($)
      (1)
                                                                          
                                                                          
                                                                          ($)
                                                                          
                                                                          
                                                                          ($)
                                                                          
                                                                          
                                                                          ($)
                                                                          
                                                                          
                                                                          ($)Dwight
      Babcock
                                                                          
                                                                          2010
                                                                          
                                                                          
                                                                          237,539
                                                                          
                                                                          
                                                                          
                                                                          25,000
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          136,000
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          
                                                                          
                                                                          
                                                                          398,539Chairman
      and CEO (2)
                                                                          
                                                                          2009
                                                                          
                                                                          
                                                                          140,308
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          50,000
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          190,308Brien
      Ragle
                                                                          
                                                                          2010
                                                                          
                                                                          
                                                                          92,771
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          24,480
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          117,251Controller,
      PFO / PAO
                                                                          
                                                                          2009
                                                                          
                                                                          
                                                                          83,109
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          5,202
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          88,311Robert
      Bilella
                                                                          
                                                                          2010
                                                                          
                                                                          
                                                                          97,200
                                                                          
                                                                          
                                                                          
                                                                          100,650
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          5,610
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          203,460Territory
      Sales Manager
                                                                          
                                                                          2009
                                                                          
                                                                          
                                                                          86,722
                                                                          
                                                                          
                                                                          
                                                                          106,550
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          2,448
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          195,720Frederic
      Swindler
                                                                          
                                                                          2010
                                                                          
                                                                          
                                                                          160,000
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          24,480
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          184,480VP –
      QA / RA
                                                                          
                                                                          2009
                                                                          
                                                                          
                                                                          160,000
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          9,450
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          -
                                                                          
                                                                          
                                                                          
                                                                          169,450





(1)
            Amounts
      represent the ASC 718, Compensation – Stock
      Compensation valuation for the fiscal years ended June 30, 2010 and
      2009, respectively.  All such options were awarded under one of
      the Company’s stock option plans.  All options awarded (with the
      exception of Mr. Babcock’s stock option grants that were immediately
      vested on the grant date) vest in three equal annual installments
      beginning with the first anniversary from the date of grant and expire ten
      years after the date of grant.  All options were granted at the
      fair market value of the Company’s stock on the date of grant and the
      Company used a Black-Scholes methodology as discussed in the footnotes to
      the financial statements to value the
options.


(2)
            Mr.
      Babcock became the Chairman and Interim CEO on February 26, 2008 and was
      appointed CEO on February 18, 2009.  He was serving as Interim
      CEO on a contract basis.  Mr. Babcock also received compensation
      as a Director of the Company until his appointment as CEO on February 18,
      2009 which is disclosed in the table
above.





Outstanding
      Equity Awards at Fiscal Year-EndOption
      awardsEquityIncentiveplan
      awards:Number
      of
                                                                                                          
                                                                                                          
                                                                                                          Number
      of
                                                                                                          
                                                                                                          
                                                                                                          Number
      ofsecurities
                                                                                                          
                                                                                                          
                                                                                                          securities
                                                                                                          
                                                                                                          
                                                                                                          securitiesunderlying
                                                                                                          
                                                                                                          
                                                                                                          underlying
                                                                                                          
                                                                                                          
                                                                                                          underlyingunexercised
                                                                                                          
                                                                                                          
                                                                                                          unexercised
                                                                                                          
                                                                                                          
                                                                                                          unexercised
                                                                                                          
                                                                                                          
                                                                                                          Optionoptions
                                                                                                          
                                                                                                          
                                                                                                          options
                                                                                                          
                                                                                                          
                                                                                                          unearned
                                                                                                          
                                                                                                          
                                                                                                          exercise
                                                                                                          
                                                                                                          Option(#)
                                                                                                          
                                                                                                          
                                                                                                          (#)
                                                                                                          
                                                                                                          
                                                                                                          options
                                                                                                          
                                                                                                          
                                                                                                          price
                                                                                                          
                                                                                                          expirationName
                                                                                                          
                                                                                                          exercisable
                                                                                                          
                                                                                                          
                                                                                                          unexercisable
                                                                                                          
                                                                                                          
                                                                                                          (#)
                                                                                                          
                                                                                                          
                                                                                                          ($)
                                                                                                          
                                                                                                          dateDwight
      Babcock,
                                                                                                          
                                                                                                          
                                                                                                          50,000
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          6.30
                                                                                                          
                                                                                                          03/31/2016Chairman
      and CEO
                                                                                                          
                                                                                                          
                                                                                                          50,000
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          3.80
                                                                                                          
                                                                                                          06/23/201650,000
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          3.11
                                                                                                          
                                                                                                          08/15/201650,000
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          4.14
                                                                                                          
                                                                                                          06/01/2007100,000
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          0.75
                                                                                                          
                                                                                                          05/13/2018200,000
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          0.26
                                                                                                          
                                                                                                          06/01/2019100,000
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          1.43
                                                                                                          
                                                                                                          06/30/2020Brien
      Ragle
                                                                                                          
                                                                                                          
                                                                                                          5,000
                                                                                                          (2)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          4.40
                                                                                                          
                                                                                                          03/02/2017Controller,
      Principal Finance and Accounting Officer
                                                                                                          
                                                                                                          
                                                                                                          2,000
                                                                                                          (3)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          4.14
                                                                                                          
                                                                                                          06/01/201734,000
                                                                                                          (5)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          0.26
                                                                                                          
                                                                                                          06/01/201920,000
                                                                                                          (6)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          1.43
                                                                                                          
                                                                                                          06/30/2020Fred
      Swindler
                                                                                                          
                                                                                                          
                                                                                                          10,000
                                                                                                          (2)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          4.40
                                                                                                          
                                                                                                          03/02/2017Vice-President,
      Quality Assurance and Regulatory Affairs
                                                                                                          
                                                                                                          
                                                                                                          10,000
                                                                                                          (3)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          4.14
                                                                                                          
                                                                                                          06/01/201710,000
                                                                                                          (4)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          0.65
                                                                                                          
                                                                                                          07/01/201850,000
                                                                                                          (5)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          0.26
                                                                                                          
                                                                                                          06/01/201920,000
                                                                                                          (6)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          1.43
                                                                                                          
                                                                                                          06/30/2020Robert
      Bilella
                                                                                                          
                                                                                                          
                                                                                                          84,236
                                                                                                          (1)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          4.15
                                                                                                          
                                                                                                          06/23/2015Territory
      Sales Manager
                                                                                                          
                                                                                                          
                                                                                                          18,000
                                                                                                          (5)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          0.26
                                                                                                          
                                                                                                          06/01/20195,000
                                                                                                          (6)
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          -
                                                                                                          
                                                                                                          
                                                                                                          
                                                                                                          1.43
                                                                                                          
                                                                                                          06/30/2020




55





(1)
            Represents
      the June 23, 2005 grant, all of which were exercisable as of June 23,
      2008.




(2)
            Represents
      the March 2, 2007 grant, all of which were exercisable as of March 2,
      2010.


(3)
            Represents
      the June 1, 2007 grant, all of which were exercisable as of June 1,
      2010.


(4)
            Represents
      a July 1, 2008 grant, one-third of which became exercisable on July 1,
      2009, one-third of which will became exercisable on July 1, 2010, and the
      final third will become exercisable on July 1,
  2011.




(5)
            Represents
      a June 1, 2009 grant, one-third of which became exercisable on June 1,
      2010, one-third of which will become exercisable on June 1, 2011, and the
      final third will become exercisable on June 1,
  2012.


(6)
            Represents
      a June 30, 2010 grant, one-third of which will become exercisable on June
      30, 2011, one-third of which will become exercisable on June 30, 2012, and
      the final third will become exercisable on June 30,
  2013.





The
Company has a 401(k) plan that covers all eligible full-time employees of the
Company.  Contributions to the 401(k) plan are made by participants to
their individual accounts through payroll withholding.  Additionally,
the 401(k) plan provides for the Company to make contributions to the 401(k)
plan in amounts at the discretion of management.  The Company has not
made any contributions to the 401(k) plan and does not maintain any other
retirement plans for its executives or employees.





Non-Employee
      Director CompensationFees
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    Non-qualifiedearned
      or
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    Non-equity
                                    
                                    
                                    deferredpaid
      in
                                    
                                    
                                    Stock
                                    
                                    
                                    Option
                                    
                                    
                                    incentive
      plan
                                    
                                    
                                    compensation
                                    
                                    
                                    All
      othercash
                                    
                                    
                                    awards
                                    
                                    
                                    awards
                                    
                                    
                                    compensation
                                    
                                    
                                    earnings
                                    
                                    
                                    compensation
                                    
                                    
                                    TotalName
                                    
                                    ($)
                                    
                                    
                                    ($)
                                    
                                    
                                    ($)
                                    
                                    
                                    ($)
                                    
                                    
                                    ($)
                                    
                                    
                                    ($)
                                    
                                    
                                    ($)Robert
      Kauffman
                                    
                                    
                                    61,500
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    61,500Thomas
      LaVoy
                                    
                                    
                                    49,500
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    49,500Albert
      Smith
                                    
                                    
                                    37,500
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    37,500





Beginning
in fiscal year 2008, each non-employee director received cash compensation of
$3,000 per month.  In addition, each non-employee director received
$1,000 per Board meeting attended in person or $500 per Board meeting attended
via telephone and $500 per committee meeting attended.  Beginning in
March 2008, Mr. Kauffman began receiving an additional $2,000 per month for
serving as Vice-Chairman, and Mr. LaVoy began receiving an additional $1,000 per
month for serving as Audit Committee Chairman.  Each non-employee
director had stock options to purchase 150,000 shares of the Company’s common
stock outstanding as of June 30, 2010.


56





Compensation Committee
Interlocks and Insider Participation





As a
smaller reporting company, the Company is not required to provide this
disclosure.





Compensation Committee
Report





As a
smaller reporting company, the Company is not required to provide this
disclosure.





ITEM
12 – SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS




The
following tables set forth certain information regarding the beneficial
ownership of the Company’s common stock and preferred stock as of September 21,
2010 for (a) each person known by the Company to be a beneficial owner of five
percent or more of the outstanding common or preferred stock of the Company, (b)
each executive officer, director and nominee for director of the Company, and
(c) directors and executive officers of the Company as a group.  As of
September 21, 2010, the Company had 23,048,754 shares of common stock and 59,065
shares of preferred stock outstanding.  Except as otherwise indicated
below, the address for each listed beneficial owner is c/o IsoRay, Inc., 350
Hills Street, Suite 106, Richland, Washington 99354.





Common
      Stock Share OwnershipCommon
      StockOptionsCommon
      Shares
                          
                          
                          Exercisable
      Within
                          
                          
                          Common
                          
                          
                          Percent
      ofName of Beneficial Owner
                          
                          Owned
                          
                          
                          60 Days
                          
                          
                          Warrants
                          
                          
                          Class (1)Dwight
      Babcock (2)
                          
                          
                          130,856
                          
                          
                          
                          550,000
                          
                          
                          
                          12,500
                          
                          
                          
                          2.94
                          %Brien
      Ragle
                          
                          
                          -
                          
                          
                          
                          18,333
                          
                          
                          
                          -
                          
                          
                          
                          —
                          %Robert
      Kauffman
                          
                          
                          63,802
                          
                          
                          
                          150,000
                          
                          
                          
                          -
                          
                          
                          
                          —
                          %Thomas
      LaVoy
                          
                          
                          40,423
                          
                          
                          
                          150,000
                          
                          
                          
                          -
                          
                          
                          
                          —
                          %Albert Smith
                          
                          
                          198,101
                          
                          
                          
                          150,000
                          
                          
                          
                          -
                          
                          
                          
                          1.50
                          %Directors and Executive Officers as a
      group
                          
                          
                          433,182
                          
                          
                          
                          1,018,333
                          
                          
                          
                          12,500
                          
                          
                          
                          6.08
                          %





(1)
            Percentage
      ownership is based on 23,048,754 shares of Common Stock outstanding on
      September 21, 2010.  Shares of Common Stock subject to stock
      options or warrants which are currently exercisable or will become
      exercisable within 60 days after September 21, 2010 are deemed outstanding
      for computing the percentage ownership of the person or group holding such
      options or warrants, but are not deemed outstanding for computing the
      percentage ownership of any other person or
  group.


(2)
            Mr.
      Babcock’s common shares owned include 2,695 shares owned by his
      spouse.





Preferred
      Stock Share OwnershipPreferredShares
                    
                    
                    Percent
      ofName of Beneficial Owner
                    
                    Owned
                    
                    
                    Class (1)Aissata
      Sidibe (2)
                    
                    
                    20,000
                    
                    
                    
                    33.86
                    %William
      and Karen Thompson Trust (3)
                    
                    
                    14,218
                    
                    
                    
                    24.07
                    %Jamie
      Granger (4)
                    
                    
                    10,529
                    
                    
                    
                    17.83
                    %Hostetler
      Living Trust (5)
                    
                    
                    9,479
                    
                    
                    
                    16.05
                    %Leslie
      Fernandez (6)
                    
                    
                    3,688
                    
                    
                    
                    6.24
                    %





(1)
            Percentage
      ownership is based on 59,065 shares of Preferred Stock outstanding on
      September 21, 2010.


(2)
            The
      address of Ms. Sidibe is 229 Lasiandra Ct, Richland, WA
    99352.


57


(3)
            The
      address of the William and Karen Thompson Trust is 285 Dondero Way, San
      Jose, CA 95119.


(4)
            The
      address of Jamie Granger is 53709 South Nine Canyon Road, Kennewick, WA
      99337.


(5)
            The
      address of the Hostetler Living Trust is 9257 NE 175th Street, Bothell, WA
      98011.


(6)
            The
      address of Leslie Fernandez is 2615 Scottsdale Place, Richland, WA
      99352.





No
officers or directors beneficially own shares of Preferred Stock.





ITEM
13 – CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR
INDEPENDENCE





IsoRay
Medical, Inc.’s patent rights to its Cs-131 process were acquired from Lane
Bray, a shareholder and employee of the Company, and are subject to a 1% royalty
on gross profits and certain contractual restrictions.  Pursuant to
the royalty agreement, the Company must also pay a royalty of 2% of Gross Sales,
as defined in the royalty agreement, for any sub-assignments of the aforesaid
patented process to any third parties.  The royalty agreement will
remain in force until the expiration of the patents on the assigned technology,
unless earlier terminated in accordance with the terms of the underlying
agreement.  The Company recorded royalty expense of $23,041 and
$20,063 for the years ended June 30, 2010 and 2009, respectively, related to
these payments.





Patent and Know-How Royalty
License Agreement





Effective
August 1, 1998, Pacific Management Associates Corporation (PMAC) transferred its
entire right, title and interest in an exclusive license agreement with Donald
Lawrence to IsoRay, LLC (a predecessor company) in exchange for a membership
interest.  The terms of the license agreement require the payment of a
royalty based on the Net Factory Sales Price, as defined in the agreement, of
licensed product sales.  Because the licensor’s patent application was
ultimately abandoned, only a 1% “know-how” royalty based on Net Factory Sales
Price, as defined, remains applicable.  To date, management believes
that there have been no product sales incorporating the “know-how” and that
therefore no royalty is due pursuant to the terms of the
agreement.  Management believes that ultimately no royalties should be
paid under this agreement as there is no intent to use this “know-how” in the
future.





The
licensor of the Lawrence “know-how” has disputed management’s contention that it
is not using this “know-how”.  On September 25, 2007 and again on
October 31, 2007, the Company participated in nonbinding mediation regarding
this matter; however, no settlement was reached with the Lawrence Family
Trust.  After additional settlement discussions which ended in April
2008, the parties still failed to reach a settlement.  The parties may
demand binding arbitration at any time.





Director
Independence




Using the
standards of the NYSE Amex, the Company's Board has determined
that Mr. Kauffman, Mr. LaVoy, and Mr. Smith each qualify under
such standards as an independent director.  Mr. Kauffman, Mr.
LaVoy and Mr. Smith each meet the NYSE Amex listing standards for independence
both as a director and as a member of the Audit Committee, and Mr. Kauffman and
Mr. Smith each meet the NYSE Amex listing standards for independence both as a
director and as a member of the Compensation Committee.  No other
directors are independent under these standards.  The Company did not
consider any relationship or transaction between itself and these
independent directors not already disclosed in this report in making this
determination.




58




ITEM
14 – PRINCIPAL ACCOUNTANT FEES AND SERVICES





The
Company paid or accrued the following fees in each of the prior two fiscal years
to its principal accountant, DeCoria, Maichel & Teague, P.S.:





Year ended
                      
                      
                      Year endedJune 30,
                      
                      
                      June 30,2010
                      
                      
                      20091.
                      Audit
      fees
                      
                      $
                      65,861
                      
                      
                      $
                      31,0472.
                      Audit-related
      fees
                      
                      
                      –
                      
                      
                      
                      –3.
                      Tax
      fees
                      
                      
                      10,350
                      
                      
                      
                      7,9004.
                      All
      other fees
                      
                      
                      22,750
                      
                      
                      
                      –Totals
                      
                      $
                      98,961
                      
                      
                      $
                      39,947





Audit
fees include fees for the audit of our annual financial statements, reviews of
our quarterly financial statements, and related consents for documents filed
with the SEC.  Tax fees include fees for the preparation of our
federal and state income tax returns.  All other fees are related to
deferred offering costs for the active S-3 filing.




As part
of its responsibility for oversight of the independent registered public
accountants, the Audit Committee has established a pre-approval policy for
engaging audit and permitted non-audit services provided by our independent
registered public accountants, DeCoria, Maichel & Teague, P.S.  In
accordance with this policy, each type of audit, audit-related, tax and other
permitted service to be provided by the independent auditors is specifically
described and each such service, together with a fee level or budgeted amount
for such service, is pre-approved by the Audit Committee.  The Audit
Committee has delegated authority to its Chairman to pre-approve additional
non-audit services (provided such services are not prohibited by applicable law)
up to a pre-established aggregate dollar limit.  All services
pre-approved by the Chairman of the Audit Committee must be presented at the
next Audit Committee meeting for review and ratification.  All of the
services provided by DeCoria, Maichel & Teague, P.S. described above were
approved by our Audit Committee.





The
Company’s principal accountant, DeCoria, Maichel & Teague P.S., did not
engage any other persons or firms other than the principal accountant’s
full-time, permanent employees.




ITEM
15 – EXHIBITS AND FINANCIAL STATEMENT SCHEDULES





(Except
as otherwise indicated, all exhibits were previously filed)





Exhibit #
              
              Description2.1
              
              Merger
      Agreement dated as of May 27, 2005, by and among Century Park Pictures
      Corporation, Century Park Transitory Subsidiary, Inc., certain
      shareholders and IsoRay Medical, Inc. incorporated by reference to the
      Form 8-K filed on August 3, 2005.2.2
              
              Certificate
      of Merger, filed with the Delaware Secretary of State on July 28, 2005
      incorporated by reference to the Form 8-K filed on August 3,
      2005.3.1
              
              Articles
      of Incorporation and By-Laws are incorporated by reference to the Exhibits
      to the Company's Registration Statement of September 15,
    1983.3.2
              
              Certificate
      of Designation of Rights, Preferences and Privileges of Series A and B
      Convertible Preferred Stock, filed with the Minnesota Secretary of State
      on June 29, 2005 incorporated by reference to the Form 8-K filed on August
      3, 2005.3.3
              
              Restated
      and Amended Articles of Incorporation incorporated by reference to the
      Form 10-KSB filed on October 11, 2005.3.4
              
              Text
      of Amendments to the Amended and Restated By-Laws of the Company,
      incorporated by reference to the Form 8-K filed on February 7,
      2007.3.5
              
              Amended
      and Restated By-Laws of the Company dated as of January 8, 2008,
      incorporated by reference to the Form 8-K filed on January 14,
      2008.4.2
              
              Intentionally
      Omitted.4.3
              
              Intentionally
      Omitted.4.4
              
              Intentionally
      Omitted.4.5
              
              Intentionally
      Omitted.




59





4.6
              
              Intentionally
      Omitted.4.7
              
              Amended
      and Restated 2005 Stock Option Plan incorporated by reference to the Form
      S-8 filed on August 19, 2005.4.8
              
              Amended
      and Restated 2005 Employee Stock Option Plan incorporated by reference to
      the Form S-8 filed on August 19, 2005.4.9
              
              Intentionally
      Omitted.4.10
              
              Intentionally
      Omitted.4.11
              
              Form
      of IsoRay, Inc. Common Stock Purchase Warrant, incorporated by reference
      to the Form SB-2/A1 filed on March 24, 2006.4.12
              
              2006
      Director Stock Option Plan, incorporated by reference to the Form S-8
      filed on August 18, 2006.4.13
              
              Intentionally
      Omitted.4.14
              
              Form
      of IsoRay, Inc. Common Stock Purchase Warrant, dated August 9, 2006,
      incorporated by reference to the Form 8-K filed on August 18,
      2006.4.15
              
              Intentionally
      Omitted.4.16
              
              Amended
      and Restated 2006 Director Stock Option Plan, incorporated by reference to
      the Form S-8/A1 filed on December 18, 2006.4.17
              
              Amended
      and Restated 2005 Stock Option Plan, incorporated by reference to the Form
      S-8/A1 filed on December 18, 2006.4.18
              
              Intentionally
      Omitted.4.19
              
              Rights
      Agreement, dated as of February 1, 2007, between the Computershare Trust
      Company N.A., as Rights Agent, incorporated by reference to Exhibit 1 to
      the Company’s Registration Statement on Form 8-A filed on February 7,
      2007.4.20
              
              Certificate
      of Designation of Rights, Preferences and Privileges of Series C Junior
      Participating Preferred Stock, incorporated by reference to Exhibit 1 to
      the Company’s Registration Statement on Form 8-A filed February 7,
      2007.4.21
              
              2008
      Employee Stock Option Plan, incorporated by reference to the Form S-8
      filed on January 14, 2008.10.2
              
              Universal
      License Agreement, dated November 26, 1997 between Donald C. Lawrence and
      William J. Stokes of Pacific Management Associates Corporation,
      incorporated by reference to the Form SB-2 filed on November 10,
      2005.10.3
              
              Royalty
      Agreement of Invention and Patent Application, dated July 12, 1999 between
      Lane A. Bray and IsoRay LLC, incorporated by reference to the Form SB-2
      filed on November 10, 2005.10.4
              
              Intentionally
      Omitted.10.5
              
              Section
      510(k) Clearance from the Food and Drug Administration to market Lawrence
      CSERION Model CS-1, dated March 28, 2003, incorporated by reference to the
      Form SB-2 filed on November 10, 2005.10.6
              
              Intentionally
      Omitted.
 10.7
              
              Intentionally
      Omitted.10.8
              
              Intentionally
      Omitted.10.9
              
              Intentionally
      Omitted.10.10
              
              Registry
      of Radioactive Sealed Sources and Devices Safety Evaluation of Sealed
      Source, dated September 17, 2004, incorporated by reference to the Form
      SB-2/A2 filed on April 27, 2006.10.11
              
              Intentionally
      Omitted.10.12
              
              Intentionally
      Omitted.10.13
              
              Intentionally
      Omitted.10.14
              
              Intentionally
      Omitted.10.15
              
              Intentionally
      Omitted.10.16
              
              Intentionally
      Omitted.10.17
              
              Intentionally
      Omitted.10.18
              
              State
      of Washington Radioactive Materials License dated October 6, 2005,
      incorporated by reference to the Form SB-2 filed on November 10,
      2005.10.19
              
              Express
      Pricing Agreement Number 219889, dated October 5, 2005 between FedEx and
      IsoRay Medical, Inc., incorporated by reference to the Form 10-QSB filed
      on November 21, 2005.




60





10.20
              
              Intentionally
      Omitted.10.21
              
              Intentionally
      Omitted.10.22
              
              Agreement
      dated August 9, 2005 between the Curators of the University of Missouri
      and IsoRay Medical, Inc., incorporated by reference to the Form SB-2/A2
      filed on April 27, 2006 (confidential treatment requested for redacted
      portions).10.23
              
              Intentionally
      Omitted.10.24
              
              Intentionally
      Omitted.10.25
              
              Economic
      Development Agreement, dated December 14, 2005, by and between IsoRay,
      Inc. and the Pocatello Development Authority, incorporated by reference to
      the Form 8-K filed on December 20, 2005.10.26
              
              License
      Agreement, dated February 2, 2006, by and between IsoRay Medical, Inc. and
      IBt SA, incorporated by reference to the Form 8-K filed on March 24, 2006
      (confidential treatment requested for redacted
  portions).10.27
              
              Intentionally
      Omitted.10.28
              
              Service
      Agreement between IsoRay, Inc. and Advanced Care Medical, Inc., dated
      March 1, 2006, incorporated by reference to the Form SB-2/A2 filed on
      April 27, 2006.10.29
              
              Intentionally
      Omitted.10.30
              
              Intentionally
      Omitted.10.31
              
              Loan
      Agreement, dated June 15, 2006, by and between IsoRay Medical, Inc. and
      the Hanford Area Economic Investment Fund Committee, incorporated by
      reference to the Form 8-K filed on June 21, 2006.10.32
              
              Commercial
      Security Agreement, dated June 15, 2006, by and between IsoRay Medical,
      Inc. and the Hanford Area Economic Investment Fund Committee, incorporated
      by reference to the Form 8-K filed on June 21, 2006.10.33
              
              Common
      Stock and Warrant Purchase Agreement among IsoRay, Inc. and the other
      signatories thereto, dated August 9, 2006, incorporated by reference to
      the Form 8-K filed on August 18, 2006.10.34
              
              Intentionally
      Omitted.10.35
              
              Form
      of Officer and Director Indemnification Agreement, incorporated by
      reference to the Form SB-2 Post Effective Amendment No. 2 filed on October
      13, 2006.10.36
              
              Intentionally
      Omitted.10.37
              
              Intentionally
      Omitted.10.38
              
              Form
      of Securities Purchase Agreement by and among IsoRay, Inc. and the
      Buyers dated March 22, 2007, incorporated by reference to the Form
      8-K filed on March 23, 2007.10.39
              
              Form
      of Common Stock Purchase Warrant dated March 21, 2007, incorporated by
      reference to the Form 8-K filed on March 23, 2007.10.40
              
              Intentionally
      Omitted.10.41
              
              Intentionally
      Omitted.10.42
              
              Intentionally
      Omitted.10.43
              
              Intentionally
      Omitted.10.44
              
              Intentionally
      Omitted.10.45
              
              Intentionally
      Omitted.10.46
              
              Amendment
      No. 1 to License Agreement, dated October 12, 2007, by and between IsoRay
      Medical, Inc. and IBt, SA, incorporated by reference to the Form 8-K filed
      on October 17, 2007.10.47
              
              Intentionally
      Omitted.10.48
              
              Intentionally
      Omitted.10.49
              
              Contract,
      dated December 10, 2008, by and between IsoRay Medical, Inc. and UralDial
      LLC, incorporated by reference to the Form 8-K filed on December 12, 2008
      (confidential treatment requested for redacted
  portions).10.50
              
              Distribution
      Agreement, dated February 18, 2009, by and between IsoRay Medical, Inc.
      and Biocompatibles, Inc., incorporated by reference to the Form 8-K filed
      on February 24, 2009 (confidential treatment requested for redacted
      portions).




61





10.51
              
              Amendment
      No. 1 to Service Agreement, dated February 18, 2009, by and between IsoRay
      Medical, Inc. and Biocompatibles, Inc., incorporated by reference to the
      Form 8-K filed on February 24, 2009 (confidential treatment requested for
      redacted portions).10.52
              
              Intentionally
      Omitted.10.53
              
              Intentionally
      Omitted.10.54
              
              Distributor
      Agreement, dated effective November 10, 2009, by and between IsoRay
      Medical, Inc. and Inter V Medical, Inc., incorporated by reference to the
      Form 8-K filed on November 18, 2009 (confidential treatment requested for
      redacted portions).10.55
              
              Distribution
      Agreement, dated effective November 15, 2009, by and between IsoRay
      Medical, Inc. and Oncura, Inc., incorporated by reference to the Form 8-K
      filed on December 3, 2009 (confidential treatment requested for redacted
      portions).10.56
              
              Contract,
      dated December 1, 2009, by and between IsoRay Medical, Inc. and UralDial
      LLC, incorporated by reference to the Form 8-K filed on December 7, 2009
      (confidential treatment requested for redacted
  portions).10.57
              
              Sales
      Agreement between IsoRay, Inc. and C. K. Cooper & Company, Inc., dated
      April 22, 2010, incorporated by reference to the Form 8-K filed on April
      23, 2010.10.58
              
              Consulting
      and Severance Agreement dated January 12, 2010 between IsoRay, Inc. and
      Lori Woods, incorporated by reference to the Form 10-Q filed on May 12,
      2010.10.59
              
              License
      Agreement, dated effective June 14, 2010, by and between IsoRay Medical,
      Inc. and Hologic Inc., incorporated by reference to the Form 8-K filed on
      June 23, 2010 (confidential treatment requested for redacted
      portions).10.60
              
              Amendment,
      dated July 29, 2010, of the Sales Agreement between IsoRay, Inc. and C. K.
      Cooper & Company, Inc., dated April 22, 2010, incorporated by
      reference to the Form 8-K filed on July 30, 2010.10.61
              
              Loan
      Covenant Waiver Letter dated September 23, 2010 from the Hanford Area
      Economic Investment Fund Committee, filed herewith.21.1
              
              Subsidiaries
      of the Company, filed herewith.23.1
              
              Consent
      of DeCoria, Maichel & Teague, P.S., filed herewith.31.1
              
              Certification
      Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 - Chief
      Executive Officer, filed herewith.31.2
              
              Certification
      Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 - Chief
      Financial Officer, filed herewith.32.1
              
              Certifications
      Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, filed
      herewith.





Reports on Form
8-K





On April
23, 2010, the Company filed a Current Report on Form 8-K announcing its entry
into a Sales Agreement with C.K Cooper and Company, Inc to offer and sell from
time to time as the Company’s agent, up to $4 million of shares of the Company’s
common stock, par value $0.001 per share.





On May
12, 2010, the Company filed a Current Report on Form 8-K announcing its
financial results for the quarter ended March 31, 2010.





On June
23, 2010, the Company filed a Current Report on Form 8-K announcing that its
wholly owned subsidiary IsoRay Medical, Inc. entered into a License Agreement
with Hologic Inc.





On July
30, 2010, the Company filed a Current Report on Form 8-K announcing that the
Company entered into an amendment to the Sales Agreement between the Company and
C.K. Cooper & Company, Inc. dated April 22, 2010.  The purpose of
the Amendment is to extend the term of the offering of shares pursuant to the
Sales Agreement until December 31, 2010.




62


IsoRay,
Inc.


Index
to Financial Statements





PageReport
      of Independent Registered Public Accounting Firm
                  
                  F-2Financial
      Statements:Consolidated
      Balance Sheets as of June 30, 2010 and 2009
                  
                  F-3Consolidated
      Statements of Operations for the years ended June 30, 2010 and
      2009
                  
                  F-4Consolidated
      Statement of Changes in Shareholders’ Equity for the years ended June 30,
      2010 and 2009
                  
                  F-5Consolidated
      Statements of Cash Flows for the years ended June 30, 2010 and
      2009
                  
                  F-6Notes
      to Consolidated Financial Statements
                  
                  F-7




F-1


Report
of Independent Registered Public Accounting Firm





Board of
Directors and Shareholders


IsoRay,
Inc.


Richland,
Washington





We have
audited the accompanying consolidated balance sheets of IsoRay, Inc. and
Subsidiaries (“the Company”) (see Note 1) as of June 30, 2010 and 2009, and the
related consolidated statements of operations, changes in shareholders’ equity
and cash flows for the years then ended. These financial statements are the
responsibility of the Company’s management. Our responsibility is to express an
opinion on these financial statements based on our audits.





We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.





In our
opinion the financial statements referred to above present fairly, in all
material respects, the consolidated financial position of IsoRay, Inc. and
Subsidiaries as of June 30, 2010 and 2009, and the consolidated results of their
operations and their cash flows for the years then ended, in conformity with
accounting principles generally accepted in the United States of
America.





/s/
DeCoria, Maichel & Teague, P.S.





Spokane,
Washington


September
23, 2010




F-2





IsoRay,
Inc and Subsidiaries


Consolidated
Balance Sheets





June 30,
                
                
                June 30,2010
                
                
                2009AssetsCurrent
      assets:Cash
      and cash equivalents
                
                $
                1,678,869
                
                
                $
                2,990,744Short-term
      investments
                
                
                -
                
                
                
                1,679,820Accounts
      receivable, net of allowance for doubtful accounts of $36,390 and $86,931,
      respectively
                
                
                896,266
                
                
                
                746,568Inventory
                
                
                681,677
                
                
                
                789,246Prepaid
      expenses and other current assets
                
                
                259,975
                
                
                
                151,077Total
      current assets
                
                
                3,516,787
                
                
                
                6,357,455Fixed
      assets, net of depreciation and amortization
                
                
                3,959,983
                
                
                
                4,891,484Deferred
      financing costs, net of accumulated amortization
                
                
                13,277
                
                
                
                28,186Restricted
      cash
                
                
                180,154
                
                
                
                178,615Other
      assets, net of accumulated amortization
                
                
                272,594
                
                
                
                285,826Total
      assets
                
                $
                7,942,795
                
                
                $
                11,741,566Liabilities
      and shareholders’ equityCurrent
      liabilities:Accounts
      payable and accrued expenses
                
                $
                404,401
                
                
                $
                416,993Accrued
      protocol expense
                
                
                242,029
                
                
                
                221,888Accrued
      radioactive waste disposal
                
                
                60,060
                
                
                
                60,000Accrued
      payroll and related taxes
                
                
                186,513
                
                
                
                103,887Accrued
      vacation
                
                
                68,525
                
                
                
                84,817Notes
      payable, due within one year
                
                
                49,445
                
                
                
                161,437Total
      current liabilities
                
                
                1,010,973
                
                
                
                1,049,022Notes
      payable, due after one year
                
                
                130,550
                
                
                
                176,023Asset
      retirement obligation, non-current
                
                
                605,391
                
                
                
                553,471Total
      liabilities
                
                
                1,746,914
                
                
                
                1,778,516Commitments
      and contingencies (Note 18)Shareholders’
      equity:Preferred
      stock, $.001 par value; 6,000,000 shares authorizedSeries
      A: 1,000,000 shares allocated; no shares issued and
      outstanding
                
                
                -
                
                
                
                -Series
      B: 5,000,000 shares allocated; 59,065 shares issued and
      outstanding
                
                
                59
                
                
                
                59Common
      stock, $.001 par value; 194,000,000 shares authorized; 23,048,754 and
      22,942,088 shares issued and outstanding
                
                
                23,049
                
                
                
                22,942Treasury
      stock, at cost 13,200 shares
                
                
                (8,390
                )
                
                
                (8,390
                )Additional
      paid-in capital
                
                
                48,084,783
                
                
                
                47,818,203Accumulated
      deficit
                
                
                (41,903,620
                )
                
                
                (37,869,764
                )Total
      shareholders’ equity
                
                
                6,195,881
                
                
                
                9,963,050Total
      liabilities and shareholders’ equity
                
                $
                7,942,795
                
                
                $
                11,741,566





The
accompanying notes are an integral part of these consolidated financial
statements.





F-3




IsoRay,
Inc and Subsidiaries


Consolidated
Statements of Operations





June 30,
                          
                          
                          June 30,2010
                          
                          
                          2009Product
      sales
                          
                          $
                          5,286,084
                          
                          
                          $
                          5,417,815Cost
      of product sales
                          
                          
                          4,560,287
                          
                          
                          
                          5,771,147Gross
      income / (loss)
                          
                          
                          725,797
                          
                          
                          
                          (353,332
                          )Operating
      expenses:Research
      and development
                          
                          
                          340,959
                          
                          
                          
                          958,665Sales
      and marketing
                          
                          
                          1,953,598
                          
                          
                          
                          2,365,973General
      and administrative
                          
                          
                          2,440,140
                          
                          
                          
                          2,792,611Total
      operating expenses
                          
                          
                          4,734,697
                          
                          
                          
                          6,117,249Operating
      loss
                          
                          
                          (4,008,900
                          )
                          
                          
                          (6,470,581
                          )Non-operating
      income (expense):Interest
      income
                          
                          
                          11,433
                          
                          
                          
                          111,047Gain
      on fair value of short-term investments
                          
                          
                          -
                          
                          
                          
                          274,000Financing
      and interest expense
                          
                          
                          (36,389
                          )
                          
                          
                          (75,307
                          )Non-operating
      income / (expense), net
                          
                          
                          (24,956
                          )
                          
                          
                          309,740Net
      loss
                          
                          
                          (4,033,856
                          )
                          
                          
                          (6,160,841
                          )Preferred
      stock dividends
                          
                          
                          (10,632
                          )
                          
                          
                          (10,632
                          )Net
      loss applicable to common shareholders
                          
                          $
                          (4,044,488
                          )
                          
                          $
                          (6,171,473
                          )Basic
      and diluted loss per share
                          
                          $
                          (0.18
                          )
                          
                          $
                          (0.27
                          )Weighted
      average shares used in computing net loss per share:Basic
      and diluted
                          
                          
                          22,960,421
                          
                          
                          
                          22,942,088




The
accompanying notes are an integral part of these consolidated financial
statements.


F-4




IsoRay,
Inc and Subsidiaries


Consolidated
Statement of Changes in Shareholders’ Equity




Series B PreferredPreferred Stock
                      
                      
                      Common Stock
                      
                      
                      Treasury Stock
                      
                      
                      Additional
                      
                      
                      AccumulatedShares
                      
                      
                      Amount
                      
                      
                      Shares
                      
                      
                      Amount
                      
                      
                      Shares
                      
                      
                      Amount
                      
                      
                      Paid-in Capital
                      
                      
                      Deficit
                      
                      
                      TotalBalances
      at June 30, 2008
                      
                      
                      59,065
                      
                      
                      $
                      59
                      
                      
                      
                      22,942,088
                      
                      
                      $
                      22,942
                      
                      
                      
                      5,000
                      
                      
                      $
                      (3,655
                      )
                      
                      $
                      47,464,507
                      
                      
                      $
                      (31,708,923
                      )
                      
                      $
                      15,774,930Repurchase
      of Company common stock (Note 13)
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      8,200
                      
                      
                      
                      (4,735
                      )
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      (4,735
                      )Share-based
      compensation
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      353,696
                      
                      
                      
                      
                      
                      
                      
                      353,696Net
      loss
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      (6,160,841
                      )
                      
                      
                      (6,160,841
                      )Balances
      at June 30, 2009
                      
                      
                      59,065
                      
                      
                      $
                      59
                      
                      
                      
                      22,942,088
                      
                      
                      $
                      22,942
                      
                      
                      
                      13,200
                      
                      
                      $
                      (8,390
                      )
                      
                      $
                      47,818,203
                      
                      
                      $
                      (37,869,764
                      )
                      
                      $
                      9,963,050Issuance
      of common stock pursuant to exercise of options
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      106,666
                      
                      
                      
                      107
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      30,226
                      
                      
                      
                      
                      
                      
                      
                      30,333Payment
      of dividend to Preferred shareholders
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      (36,679
                      )
                      
                      
                      
                      
                      
                      
                      (36,679
                      )Share-based
      compensation
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      273,033
                      
                      
                      
                      
                      
                      
                      
                      273,033Net
      loss
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      (4,033,856
                      )
                      
                      
                      (4,033,856
                      )Balances
      at June 30, 2010
                      
                      
                      59,065
                      
                      
                      $
                      59
                      
                      
                      
                      23,048,754
                      
                      
                      $
                      23,049
                      
                      
                      
                      13,200
                      
                      
                      $
                      (8,390
                      )
                      
                      $
                      48,084,783
                      
                      
                      $
                      (41,903,620
                      )
                      
                      $
                      6,195,881





The
accompanying notes are an integral part of these consolidated financial
statements.


F-5





IsoRay,
Inc and Subsidiaries


Consolidated
Statements of Cash Flows





June 30,
                
                
                June 30,2010
                
                
                2009Cash
      flows from operating activities:Net
      loss
                
                $
                (4,033,856
                )
                
                $
                (6,160,841
                )Adjustments
      to reconcile net loss to net cash used by operating
      activities:Depreciation
      and amortization of fixed assets
                
                
                953,243
                
                
                
                1,206,935Impairment
      of IBt license
                
                
                -
                
                
                
                425,434Write-off
      of certain foreign patents and trademarks
                
                
                -
                
                
                
                85,818Amortization
      of deferred financing and other assets
                
                
                43,637
                
                
                
                79,563(Gain)
      loss on fair value of short-term investments
                
                
                -
                
                
                
                (274,000
                )Accretion
      of asset retirement obligation
                
                
                51,920
                
                
                
                47,466Share-based
      compensation
                
                
                273,033
                
                
                
                353,696Changes
      in operating assets and liabilities:Accounts
      receivable, net
                
                
                (149,698
                )
                
                
                269,927Inventory
                
                
                107,569
                
                
                
                110,718Prepaid
      expenses, other current assets and other assets
                
                
                (6,194
                )
                
                
                114,777Accounts
      payable and accrued expenses
                
                
                (12,593
                )
                
                
                (258,408
                )Accrued
      protocol expense
                
                
                20,141
                
                
                
                161,888Accrued
      radioactive waste disposal
                
                
                60
                
                
                
                44,000Accrued
      payroll and related taxes
                
                
                82,627
                
                
                
                (118,145
                )Accrued
      vacation
                
                
                (16,292
                )
                
                
                (37,764
                )Net
      cash used by operating activities
                
                
                (2,686,403
                )
                
                
                (3,948,936
                )Cash
      flows from investing activities:Purchases
      of fixed assets
                
                
                (21,742
                )
                
                
                (57,778
                )Additions
      to licenses and other assets
                
                
                (11,721
                )
                
                
                (37,773
                )Change
      in restricted cash
                
                
                (1,539
                )
                
                
                (2,763
                )Purchase
      of short-term investments
                
                
                -
                
                
                
                (1,679,820
                )Proceeds
      from the sale or maturity of short-term investments
                
                
                1,679,820
                
                
                
                4,000,000Net
      cash provided by investing activities
                
                
                1,644,818
                
                
                
                2,221,866Cash
      flows from financing activities:Principal
      payments on notes payable
                
                
                (157,465
                )
                
                
                (71,924
                )Principal
      payments on capital lease obligations
                
                
                -
                
                
                
                (25,560
                )Preferred
      dividends paid
                
                
                (36,679
                )
                
                
                -Proceeds
      from cash sales of common stock, pursuant to exercise of
      options
                
                
                30,333
                
                
                
                -Cash
      payment on stock offering costs
                
                
                (106,479
                )
                
                
                -Repurchase
      of Company common stock
                
                
                -
                
                
                
                (4,735
                )Net
      cash used by financing activities
                
                
                (270,290
                )
                
                
                (102,219
                )Net
      decrease in cash and cash equivalents
                
                
                (1,311,875
                )
                
                
                (1,829,289
                )Cash
      and cash equivalents, beginning of year
                
                
                2,990,744
                
                
                
                4,820,033Cash
      and cash equivalents, end of year
                
                $
                1,678,869
                
                
                $
                2,990,744Supplemental
      disclosures of cash flow information:Cash
      paid for interest
                
                $
                18,698
                
                
                $
                38,752





The
accompanying notes are an integral part of these consolidated financial
statements.


F-6





IsoRay,
Inc.


Notes
to Consolidated Financial Statements


For
the years ended June 30, 2010 and 2009





1.
            Organization





Century
Park Pictures Corporation (Century) was organized under Minnesota law in
1983.  Century had no operations during the period from September 30,
1999 through June 30, 2005.





On July
28, 2005, IsoRay Medical, Inc. (Medical) became a wholly-owned subsidiary of
Century pursuant to a merger.  Century changed its name to IsoRay,
Inc. (IsoRay or the Company).  In the merger, the Medical stockholders
received approximately 82% of the then outstanding securities of the
Company.





Medical,
a Delaware corporation, was incorporated effective June 15, 2004 to develop,
manufacture and sell isotope-based medical products and devices for the
treatment of cancer and other malignant diseases.  Medical is
headquartered in Richland, Washington.





IsoRay
International LLC, a Washington limited liability company, was formed on
November 27, 2007 to serve as an owner in a Russian LLC that planned to
distribute the Company’s products to the Russian market and also license the
Company’s technology for use in manufacturing Cs-131 brachytherapy seeds in
Russia.  During fiscal year 2009, the Company divested its ownership
in the Russian LLC.





2.
            Summary
      of Significant Accounting Policies





Consolidation





The
accompanying consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiaries (collectively the
Company).  All significant intercompany accounts and transactions have
been eliminated.





Cash
Equivalents





The
Company considers all highly liquid investments with original maturities of
three months or less when purchased to be cash equivalents.





Short-Term
Investments





The
Company invests certain excess cash in marketable securities consisting
primarily of commercial paper, auction rate securities, certificates of deposit,
and money market funds.  The Company classifies all debt securities as
“available-for-sale” and records the debt securities at fair value with
unrealized gains and temporary unrealized losses included in other comprehensive
income/loss within shareholders’ equity, if material.  Declines in
fair values that are considered to be other than temporary are recorded in the
Consolidated Statements of Operations.





Fair Value of Financial
Instruments





Effective
July 1, 2008, the Company implemented ASC Topic 820, Fair Value Measurements and
Disclosures.  ASC Topic 820 defines fair value, establishes a
framework for measuring fair value in accordance with accounting principles
generally accepted in the United States, and expands disclosures about fair
value measurements.  The Company elected to implement this Statement
with the permitted one-year deferral permitted for nonfinancial assets and
nonfinancial liabilities measured at fair value, except those that are
recognized or disclosed on a recurring basis.  This deferral applies
to fixed assets, intangible asset impairment testing and initial recognition of
asset retirement obligations for which fair value is used.  The
Company did not experience any significant impact to our consolidated financial
statements when we implemented ASC Topic 820 for these assets and
liabilities.


F-7





ASC Topic
820 requires disclosures that categorize assets and liabilities measured at fair
value into one of three different levels depending on the observability of the
inputs employed in the measurement.  Level 1 inputs are quoted prices
in active markets for identical assets or liabilities.  Level 2 inputs
are observable inputs other than quoted prices included within Level 1 for the
asset or liability, either directly or indirectly through market-corroborated
inputs.  Level 3 inputs are unobservable inputs for the asset or
liability reflecting significant modifications to observable related market data
or our assumptions about pricing by market participants.





There
were no financial assets or liabilities at June 30, 2010.





Also
effective July 1, 2008, the Company utilized the guidance contained in ASC Topic
820 regarding  the election of the fair value option, including the
timing of the election and specific items eligible for the fair value
accounting.  If the fair value option is elected then unrealized gains
and losses are reported in earnings at each subsequent reporting
date.  The Company elected not to measure any additional financial
instruments or other items at fair value as of July 1,
2008.  Accordingly, the adoption of this did not impact our
consolidated financial statements.  The Company did elect to fair
value its ARS rights that were received in October 2008 and exercised in January
2009.





Accounts
Receivable





Accounts
receivable are stated at the amount that management of the Company expects to
collect from outstanding balances.  Management provides for probable
uncollectible amounts through an allowance for doubtful
accounts.  Additions to the allowance for doubtful accounts are based
on management’s judgment, considering historical experience write-offs,
collections and current credit conditions.  Balances which remain
outstanding after management has used reasonable collection efforts are written
off through a charge to the allowance for doubtful accounts and a credit to the
applicable accounts receivable.  Payments received subsequent to the
time that an account is written off are treated as bad debt
recoveries.





Inventory





Inventory
is reported at the lower of cost or market.  Cost of raw materials is
determined using the weighted average method.  Cost of work in process
and finished goods is computed using standard cost, which approximates actual
cost, on a first-in, first-out basis.





Fixed
Assets





Fixed
assets are capitalized and carried at the lower of cost or net realizable
value.  Normal maintenance and repairs are charged to expense as
incurred.  When assets are sold or otherwise disposed of, the cost and
accumulated depreciation are removed from the accounts and any resulting gain or
loss is recognized in operations.





Depreciation
is computed using the straight-line method over the following estimated useful
lives:


Production
      equipment
              3
      to 7 yearsOffice
      equipment
              2
      to 5 yearsFurniture
      and fixtures
              2
      to 5 years





Leasehold
improvements and capital lease assets are amortized over the shorter of the life
of the lease or the estimated useful life of the asset.





Management
of the Company periodically reviews the net carrying value of all of its
equipment on an asset by asset basis.  These reviews consider the net
realizable value of each asset to determine whether there is an impairment in
value which has occurred, and there is a need for any asset impairment
write-down.


F-8





Although
management has made its best estimate of the factors that affect the carrying
value based on current conditions, it is reasonably possible that changes could
occur which could adversely affect management's estimate of net cash flows
expected to be generated from its assets, and necessitate asset impairment
write-downs.





Deferred Financing
Costs





Financing
costs related to the acquisition of debt are deferred and amortized over the
term of the related debt using the effective interest method.Deferred financing costs
include the fair value of common shares issued to certain shareholders for their
guarantee of certain Company debt (see Note 10).  The value of the
shares issued was the estimated market price of the shares as of the date of
issuance.  Amortization of deferred financing costs, totaling $14,909
and $37,035 for the years ended June 30, 2010 and 2009, respectively, is
included in financing and interest expense on the consolidated statements of
operations.





Licenses





Amortization
of licenses is computed using the straight-line method over the estimated
economic useful lives of the assets.  Amortization of licenses was
$11,867 and $30,067 for the years ended June 30, 2010 and 2009,
respectively.  Based on the licenses recorded at June 30, 2010, and
assuming no subsequent impairment of the underlying assets, the annual
amortization expense for each fiscal year ending June 30 is expected to be as
follows:  $11,721 for 2011, $0 for all years thereafter.





Other
Assets





Other
assets, which include deferred charges and patents, are stated at cost, less
accumulated amortization.  Amortization of patents is computed using
the straight-line method over the estimated economic useful lives of the
assets.  The Company periodically reviews the carrying values of
patents and any related impairments are recognized when the expected future
operating cash flows to be derived from such assets are less than their carrying
value.





Amortization
of other assets was $16,861 and $11,315 for the years ended June 30, 2010 and
2009, respectively.  Based on the patents and other intangible assets
recorded in other assets at June 30, 2010, and assuming no subsequent impairment
of the underlying assets, the annual amortization expense for each fiscal year
ending June 30 is expected to be as follows: $15,139 for 2011through 2015, and
$142,629 thereafter.





Asset Retirement
Obligation





The fair
value of the future retirement costs of the Company’s leased assets are recorded
as a liability on a discounted basis when they are incurred and an equivalent
amount is capitalized to property and equipment.  The initial recorded
obligation is discounted using the Company’s credit-adjusted risk-free rate and
is reviewed periodically for changes in the estimated future costs underlying
the obligation.  The Company amortizes the initial amount capitalized
to property and equipment and recognizes accretion expense in connection with
the discounted liability over the estimated remaining useful life of the leased
assets.





In
September 2007, an asset retirement obligation of $473,096 was established
representing the discounted cost of the Company’s estimate of the obligations to
remove any residual radioactive materials and all leasehold improvements at the
end of the lease term at its new production facility.  The estimate
was developed by qualified production personnel and the general contractor of
the new facility.  The Company has reviewed the estimate and believes
that the original estimate continues to be applicable.




F-9


During
the years ended June 30, 2010 and 2009, the asset retirement obligations changed
as follows:





2010
                  
                  
                  2009Beginning
      balance
                  
                  $
                  553,471
                  
                  
                  $
                  506,005Accretion
      of discount
                  
                  
                  51,920
                  
                  
                  
                  47,466Ending
      balance
                  
                  $
                  605,391
                  
                  
                  $
                  553,471





Because
the Company does not expect to incur any expenses related to its asset
retirement obligations in fiscal year 2011, the entire balance as of June 30,
2010 is classified as a noncurrent liability.





Financial
Instruments





The
Company discloses the fair value of financial instruments, both assets and
liabilities, recognized and not recognized in the balance sheet, for which it is
practicable to estimate the fair value.  The fair value of a financial
instrument is the amount at which the instrument could be exchanged in a current
transaction between willing parties, other than a forced liquidation
sale.





At June
30, 2009, the Company’s financial assets, composed of short-term investments,
were reported at fair value using Level 1 inputs.  There were no
financial assets or liabilities at June 30, 2010.





Revenue
Recognition





The
Company recognizes revenue related to product sales when (i) persuasive
evidence of an arrangement exists, (ii) shipment has occurred,
(iii) the fee is fixed or determinable, and (iv) collectability is
reasonably assured.




Revenue
for the fiscal years ended June 30, 2010 and 2009 was derived primarily from
sales of the Proxcelan Cs-131 brachytherapy seed, which is used in the treatment
of cancer.  The Company recognizes revenue once the product has been
shipped to the customer.  Prepayments, if any, received from customers
prior to the time that products are shipped are recorded as deferred revenue. In
these cases, when the related products are shipped, the amount recorded as
deferred revenue is then recognized as revenue.  The Company accrues
for sales returns and other allowances at the time of
shipment.  Although the Company does not have an extensive operating
history upon which to develop sales returns estimates, we have used the
expertise of our management team, particularly those with extensive industry
experience and knowledge, to develop a proper methodology.





Shipping and Handling
Costs





Shipping
costs include charges associated with delivery of goods from the Company’s
facilities to its customers and are reflected in cost of product
sales.  Shipping costs paid to the Company by our customers are
classified as product sales.





Stock-Based
Compensation





The
Company measures and recognizes expense for all share-based payments at fair
value.  The Company uses the Black-Scholes option valuation model to
estimate fair value for all stock options on the date of grant.  For
stock options that vest over time, the Company recognizes compensation cost on a
straight-line basis over the requisite service period for the entire
award.





Research and Development
Costs





Research
and development costs, including salaries, research materials, administrative
expenses and contractor fees, are charged to operations as
incurred.  The cost of equipment used in research and development
activities which has alternative uses is capitalized as part of fixed assets and
not treated as an expense in the period acquired.  Depreciation of
capitalized equipment used to perform research and development is classified as
research and development expense in the year recognized.


F-10


Advertising and Marketing
Costs





Advertising
costs are expensed as incurred except for the cost of tradeshows and related
marketing materials which are deferred until the tradeshow
occurs.  Advertising and marketing costs expensed (including
tradeshows) were $292,727 and $376,319 for the years ended June 30, 2010 and
2009, respectively.  Marketing costs of $8,900 and $5,800 were
included in prepaid expenses at June 30, 2010 and 2009
respectively.





Legal
Contingencies





In the
ordinary course of business, the Company is involved in legal proceedings
involving contractual and employment relationships, product liability claims,
patent rights, environmental matters, and a variety of other
matters.  The Company is also subject to various local, state, and
federal environmental regulations and laws due to the isotopes used to produce
the Company’s product.  As part of normal operations, amounts are
expended to ensure that the Company is in compliance with these laws and
regulations.  While there have been no reportable incidents or
compliance issues, the Company believes that if it relocates its current
production facilities then certain decommissioning expenses will be incurred and
has recorded an asset retirement obligation for these expenses.





The
Company records contingent liabilities resulting from asserted and unasserted
claims against it, when it is probable that a liability has been incurred and
the amount of the loss is reasonably estimable.  Estimating probable
losses requires analysis of multiple factors, in some cases including judgments
about the potential actions of third-party claimants and
courts.  Therefore, actual losses in any future period are inherently
uncertain.  Currently, the Company does not believe any probable legal
proceedings or claims will have a material adverse effect on its financial
position or results of operations.  However, if actual or estimated
probable future losses exceed the Company’s recorded liability for such claims,
it would record additional charges as other expense during the period in which
the actual loss or change in estimate occurred.





Income
Taxes





Income
taxes are accounted for under the liability method.  Under this
method, the Company provides deferred income taxes for temporary differences
that will result in taxable or deductible amounts in future years based on the
reporting of certain costs in different periods for financial statement and
income tax purposes.  This method also requires the recognition of
future tax benefits such as net operating loss carry-forwards, to the extent
that realization of such benefits is more likely than not.  Deferred
tax assets and liabilities are measured using enacted tax rates expected to
apply to taxable income in the years in which those temporary differences are
expected to be recovered or settled.  The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in operations in
the period that includes the enactment of the change.  Management has
determined that the Company, its subsidiary, and its predecessors are subject to
examination of their income tax filings in the United States and state
jurisdictions for the 2005 through 2008 tax years.  In the event that
the Company is assessed penalties and or interest, penalties will be charged to
other operating expense and interest will be charged to interest
expense.





Income (Loss) Per Common
Share





Basic
earnings per share is calculated by dividing net income (loss) available to
common shareholders by the weighted average number of common shares outstanding,
and does not include the impact of any potentially dilutive common stock
equivalents, including preferred stock, common stock warrants or options that
are potentially convertible into common stock as those would be antidilutive due
to the Company’s net loss position.





Securities
that could be dilutive in the future as of June 30, 2010 and 2009 are as
follows:





2010
                  
                  
                  2009Preferred
      stock
                  
                  
                  59,065
                  
                  
                  
                  59,065Common
      stock warrants
                  
                  
                  3,165,768
                  
                  
                  
                  3,216,644Common
      stock options
                  
                  
                  2,274,706
                  
                  
                  
                  2,708,166Total
      potential dilutive securities
                  
                  
                  5,499,539
                  
                  
                  
                  5,983,875




F-11




Subsequent
Events





Effective
April 1, 2009, the Company adopted ASC 855, Subsequent
Events.  This Statement establishes the accounting for, and
disclosure of, material events that occur after the balance sheet date, but
before the financial statements are issued.  In general, these events
will be recognized if the condition existed at the date of the balance sheet,
and will not be recognized if the condition did not exist at the balance sheet
date.  Disclosure is required for non-recognized events if required to
keep the financial statements from being misleading.  The guidance in
this Statement is very similar to current guidance provided in accounting
literature and, therefore, will not result in significant changes in
practice.  Subsequent events have been evaluated through the date our
financial statements were issued—the filing time and date of our 2010 Annual
Report on Form 10-K.





Use of
Estimates





The
preparation of financial statements in accordance with accounting principles
generally accepted in the United States of America requires management of the
Company to make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes including the allowance for
doubtful accounts receivable; net realizable value of the enriched barium
inventory; the estimated useful lives used in calculating depreciation and
amortization on the Company’s fixed assets, patents, trademarks and other
assets; estimated amount and fair value of the asset retirement obligation
related to the Company’s production facilities; and inputs used in the
calculation of expense related to share-based compensation including volatility,
estimated lives and forfeiture rates of options
granted..  Accordingly, actual results could differ from those
estimates and affect the amounts reported in the financial
statements.





Impact of Recently Issued
Accounting Pronouncements





On July
1, 2009, the Company adopted new accounting provisions which establishes the
FASB Accounting Standards CodificationTM (ASC or the Codification) as the
single official source of authoritative accounting principles recognized by the
FASB to be applied by nongovernmental entities in the preparation of financial
statements in conformity with generally accepted accounting principles (GAAP)
other than rules and interpretive releases issued by the Securities and Exchange
Commission. The Codification reorganized the literature and changed the naming
mechanism by which topics are referenced.  The Codification became
effective for interim and annual periods ending after September 15,
2009.  The Company’s accounting policies and amounts presented in the
financial statements were not impacted by this change.





On July
1, 2009, the Company adopted new accounting provisions which were delayed from
the effective date of fair value accounting for one year for certain
nonfinancial assets and nonfinancial liabilities, excluding those that are
recognized or disclosed in financial statements at fair value on a recurring
basis (that is, at least annually). For purposes of applying the new provisions,
nonfinancial assets and nonfinancial liabilities include all assets and
liabilities other than those meeting the definition of a financial asset or a
financial liability. The Company had previously adopted new standards for fair
value accounting on July 1, 2008.  The adoption of these new
provisions did not have a material effect on the Company but will affect future
calculations of asset retirement obligations and long-lived asset
impairment.




On July
1, 2009, the Company adopted new accounting provisions for business combinations
and for non-controlling interests.   The new business combination
provisions require an acquirer to measure the identifiable assets acquired,
the liabilities assumed and any non-controlling interest in the acquiree at
their fair values on the acquisition date, with goodwill being the excess value
over the net identifiable assets acquired. In addition, the new provisions
require that a non-controlling interest in a subsidiary be reported as equity in
the consolidated financial statements. The calculation of earnings per share
will continue to be based on income amounts attributable to the
parent.  The adoption of these statements did not have a material
effect on the Company’s financial statements.




F-12


In
January 2010, the Company adopted ASU No. 2010-06, “Fair Value Measurements
and Disclosures (Topic 820): Improving Disclosures about Fair Value
Measurements,” which amends ASC 820. This new accounting guidance requires
expanded fair value measurement disclosures in quarterly and annual financial
statements. The new guidance clarifies existing disclosure requirements for the
Level 2 and Level 3 fair value measurement. Additionally, the new guidance also
requires details of significant transfers of assets between Level 1 and Level 2
fair value measurement categories, including the reasons for such transfers, as
well as gross presentation of activity within the Level 3 fair value measurement
category. ASU No. 2010-06 is effective for the Company on January 1,
2010, except for the gross presentation of Level 3 activity, which is effective
January 1, 2011. Adoption of ASU No. 2010-06 did not impact the
results of operations, financial position or cash flows of the
Company.





On
February 24, 2010, the Company adopted ASU No. 2010-09, “Subsequent
Events (Topic 855): Amendments to Certain Recognition and Disclosure
Requirements” which amends FASB ASC 855, “Subsequent Events.” According to this
standard, SEC filers are no longer required to disclose the date through which
subsequent events have been evaluated in originally issued and revised financial
statements. ASU No. 2010-09 was effective immediately and the Company
adopted these new requirements on February 24, 2010.





In April
2010, the Company adopted ASU 2010-12, “Income Taxes (Topic 740): Accounting for
Certain Tax Effects of the 2010 Health Care Reform Acts.” After consultation
with the FASB, the SEC stated that it “would not object to a registrant
incorporating the effects of the Health Care and Education Reconciliation Act of
2010 when accounting for the Patient Protection and Affordable Care Act.” The
Company does not expect the provisions of ASU 2010-12 to have a material impact
on the financial position, results of operations or cash flows of the
Company.





3.         Short-Term
Investments





The
Company’s short-term investments consisted of the following at June 30, 2010 and
2009:





2010
                  
                  
                  2009Certificates
      of deposit
                  
                  $
                  –
                  
                  
                  $
                  1,679,820Municipal
      debt securities
                  
                  
                  –
                  
                  
                  
                  –$
                  –
                  
                  
                  $
                  1,679,820





On
January 2, 2009, the Company exercised its put option with UBS to redeem its ARS
at par value.  The entire $4 million of cash was deposited into the
Company’s account on January 5, 2009.





4.         Inventory





Inventory
consisted of the following at June 30, 2010 and 2009:





2010
                  
                  
                  2009Raw
      materials
                  
                  $
                  546,080
                  
                  
                  $
                  609,932Work
      in process
                  
                  
                  130,840
                  
                  
                  
                  155,827Finished
      goods
                  
                  
                  4,757
                  
                  
                  
                  23,487$
                  681,677
                  
                  
                  $
                  789,246





The cost
of materials and production costs contained in inventory that are not useable
due to the passage of time, and resulting loss of bio-effectiveness, are written
off to cost of product sales at the time it is determined that the product is
not useable.





In June
2007, the Company purchased $469,758 of enriched barium that will be used in
future production of our isotope.  The enriched barium is held at an
off-site storage location in Richland, Washington and is included in raw
materials at June 30, 2010 and 2009.


F-13





5.         Prepaid
Expenses





Prepaid
expenses consisted of the following at June 30, 2010 and 2009:





2010
                  
                  
                  2009Prepaid
      insurance
                  
                  
                  6,757
                  
                  
                  
                  30,625Prepaid
      rent
                  
                  
                  –
                  
                  
                  
                  24,402Other
      prepaid expenses
                  
                  
                  222,527
                  
                  
                  
                  61,900Other
      current assets
                  
                  
                  30,691
                  
                  
                  
                  34,150$
                  259,975
                  
                  
                  $
                  151,077





6.         Fixed
Assets





Fixed
assets consisted of the following at June 30, 2010 and 2009:





2010
                    
                    
                    2009Production
      equipment
                    
                    $
                    3,114,894
                    
                    
                    $
                    3,089,793Office
      equipment
                    
                    
                    169,890
                    
                    
                    
                    169,890Furniture
      and fixtures
                    
                    
                    148,265
                    
                    
                    
                    148,265Leasehold
      improvements (a)
                    
                    
                    4,643,965
                    
                    
                    
                    4,643,965Construction
      in progress
                    
                    
                    –
                    
                    
                    
                    3,3598,077,014
                    
                    
                    
                    8,055,272Less
      accumulated depreciation
                    
                    
                    (4,117,031
                    )
                    
                    
                    (3,163,788
                    )$
                    3,959,983
                    
                    
                    $
                    4,891,484





(a)
            Balance
      includes asset retirement addition of $473,096 as of June 30, 2010 and
      2009.





Depreciation
and amortization expense related to fixed assets totaled $953,243 and $1,206,935
for 2010 and 2009, respectively.





7.           Impairment
of IBt License





In
December 2008, the Company reevaluated its license agreement with International
Brachytherapy SA (IBt) in connection with an overall review of its present cost
structure and projected market and manufacturing strategies (see Note 18 for
further details on the IBt license agreement).  Management determined
through this review that it does not currently intend to utilize the IBt license
as part of its market strategy due to the cost of revamping its manufacturing
process to incorporate the technology and as there can be no assurance that
physicians would accept this new technology without extensive education and
marketing costs.  However, the Company does not intend to cancel the
license agreement at this time; therefore, the license was reviewed in terms of
an “abandoned asset” for purposes of ASC Topic 360, Property, Plant and
Equipment.As there are no
anticipated future revenues from the license and the Company cannot sell or
transfer the license, it was determined that the entire value was
impaired.  Therefore, the Company recorded an impairment charge of
$425,434 in December 2008 that is included in cost of product sales for the year
ended June 30, 2009.





8.           Restricted
Cash





The
Washington Department of Health, effective October 2007, has required the
Company to provide collateral for the decommissioning of its
facility.  To satisfy this requirement, the Company funded two
certificates of deposits (CDs) totaling $172,500 in separate
banks.  The CDs both have original maturities of three months but are
classified as long-term as the Company does not anticipate decommissioning the
facility until the end of the current lease plus the one remaining three-year
lease option period.  The end date of the current lease including the
one three-year renewal option is April 2016.  Interest earned on the
CDs is rolled-over at the maturity of each CD and becomes part of the restricted
cash balance.  Interest earned and added to restricted cash during the
fiscal year ended June 30, 2010 and 2009 was $1,539 and $2,763,
respectively.  These funds will be used to settle a portion of the
Company’s remaining asset retirement obligations (Note 2).


F-14





9.       Other
Assets





Other
assets, net of accumulated amortization, consisted of the following at June 30,
2010 and 2009:





2010
                      
                      
                      2009Deferred
      charges
                      
                      $
                      54,270
                      
                      
                      $
                      52,363Patents
      and trademarks, net ofaccumulated
      amortization of$40,383
      and $25,244
                      
                      
                      218,324
                      
                      
                      
                      233,463$
                      272,594
                      
                      
                      $
                      285,826





Deferred
charges consist of prepaid legal fees for patents and trademarks which have not
yet been obtained, and prepayments and deposits on fixed assets and
contracts.  Amortization of patents and trademarks was $15,139 and
$6,150 for the years ended June 30, 2010 and 2009, respectively.





During
fiscal year 2009, the Company performed a review of its prepaid legal fees for
patents and trademarks that had not been obtained and were classified within
other assets on the consolidated balance sheet.  The focus of the
review was on patent and trademark applications that the Company had been
pursuing in foreign countries.  The Company decided to limit its
foreign applications to Canada, Europe, and Russia, as well as the continued
protection of the US patents and trademarks.  This decision resulted
in the write-off of $85,818 of other patent and trademark application fees
relating to other countries during fiscal year 2009 that was included in
research and development expenses.





10.     Notes
Payable





Notes
payable consisted of the following at June 30, 2010 and 2009:





2010
                        
                        
                        2009Benton-Franklin
      Economic DevelopmentDistrict
      (BFEDD) note payable (a)
                        
                        $
                        –
                        
                        
                        $
                        115,898Hanford
      Area Economic Investment FundCommittee
      (HAEIFC) note payable (b)
                        
                        
                        179,995
                        
                        
                        
                        221,562179,995
                        
                        
                        
                        337,460Less
      amounts due within one year
                        
                        
                        (49,445
                        )
                        
                        
                        (161,437
                        )Amounts
      due after one year
                        
                        $
                        130,550
                        
                        
                        $
                        176,023





(a)
            The
      note payable to BFEDD, which was collateralized by substantially all of
      the Company’s assets, and guaranteed by certain shareholders, was executed
      pursuant to a Development Loan Agreement.  The note contained
      certain restrictive covenants relating to: working capital; levels of
      long-term debt to equity; incurrence of additional indebtedness; payment
      of compensation to officers and directors; and payment of
      dividends.  The note was payable in monthly installments
      including interest at 8.0% per annum with a final balloon payment made in
      November 2009.





(b)
            In
      June 2006, the Company entered into a note payable with HAEIFC, which is
      collateralized by receivables, inventory, equipment, and certain life
      insurance policies.  The loan originally had a total facility of
      $1,400,000 which was reduced in September 2007 to the amount of the
      Company’s initial draw of $418,670.  The note contains certain
      restrictive covenants relating to: financial ratios; payment of
      compensation to officers and directors; and payment of dividends and
      employee bonuses.  The note accrues interest at 9% and is
      payable in monthly installments with the final installment due in
      September 2013. At June 30, 2010, the Company was not in compliance with
      certain of the covenants.  The Company has obtained a waiver
      from HAEIFC, relating to these covenants, through June 30,
      2011.


F-15




Principal
maturities on notes payable as of June 30, 2010 are as follows:





Year ending June 30,2011
                    
                    $
                    49,4452012
                    
                    
                    54,0592013
                    
                    
                    54,1542014
                    
                    
                    17,3372015
                    
                    
                    –Thereafter
                    
                    
                    –$
                    179,995





11.     Share-Based
Compensation





The
following table presents the share-based compensation expense recognized in
accordance with ASC Topic 718, Stock Compensation,during
the years ended June 30, 2010 and 2009:





Year ended June 30,2010
                  
                  
                  2009Cost
      of product sales
                  
                  $
                  22,615
                  
                  
                  $
                  17,619Research
      and development
                  
                  
                  5,206
                  
                  
                  
                  23,450Sales
      and marketing expenses
                  
                  
                  74,745
                  
                  
                  
                  148,407General
      and administrative expenses
                  
                  
                  170,467
                  
                  
                  
                  164,220Total
      share-based compensation
                  
                  $
                  273,033
                  
                  
                  $
                  353,696





The total
value of the stock options awards is expensed ratably over the vesting period of
the employees receiving the awards.  As of June 30, 2010, total
unrecognized compensation cost related to stock-based options and awards was
$248,492 and the related weighted-average period over which it is expected to be
recognized is approximately 1.36 years.





The
Company currently provides share-based compensation under three equity incentive
plans approved by the Board of Directors: the Amended and Restated 2005 Stock
Option Plan (the Option Plan), the Amended and Restated 2005 Employee Stock
Option Plan (the Employee Plan), and the 2006 Director Stock Option Plan (the
Director Plan).  The Option Plan allows the Board of Directors to
grant options to purchase up to 1,800,000 shares of common stock to directors,
officers, key employees and service providers of the Company.  The
Employee Plan allows the Board of Directors to grant options to purchase up to
2,000,000 shares of common stock to officers and key employees of the
Company.  The Director Plan allows the Board of Directors to grant
options to purchase up to 1,000,000 shares of common stock to directors of the
Company.  Options granted under all of the plans have a ten year
maximum term, an exercise price equal to at least the fair market value of the
Company’s common stock on the date of the grant, and varying vesting periods as
determined by the Board.  For stock options with graded vesting terms,
the Company recognizes compensation cost on a straight-line basis over the
requisite service period for the entire award.





A summary
of stock option information within the Company’s share-based compensation plans
for the year ended June 30, 2010 is as follows:





Shares
                  
                  
                  Price (a)
                  
                  
                  Life (b)
                  
                  
                  Value (c)Outstanding
      at June 30, 2010
                  
                  
                  2,274,706
                  
                  
                  $
                  1.96
                  
                  
                  
                  7.21
                  
                  
                  $
                  924,174Vested
      and expected to vest at June 30, 2010
                  
                  
                  2,180,616
                  
                  
                  $
                  2.02
                  
                  
                  
                  7.14
                  
                  
                  $
                  843,714Vested
      and exercisable at June 30, 2010
                  
                  
                  1,730,961
                  
                  
                  $
                  2.36
                  
                  
                  
                  6.75
                  
                  
                  $
                  512,760




F-16




(a)
            Weighted
      average exercise price per share.


(b)
            Weighted
      average remaining contractual life.


(c)
            Aggregate
      intrinsic value.





The
aggregate intrinsic value of options exercised during the years ended June 30,
2010 and 2009 was $109,700 and $0, respectively.  The Company’s
current policy is to issue new shares to satisfy option exercises.





The
weighted average fair value of stock option awards granted and the key
assumptions used in the Black-Scholes valuation model to calculate the fair
value are as follows for the year ended June 30, 2010 and 2009:





Years ended June 30,2010
                        
                        
                        2009Weighted
      average fair value of options granted
                        
                        $
                        1.26
                        
                        
                        $
                        0.21Key
      assumptions used in determining fair value:Weighted
      average risk-free interest rate
                        
                        
                        1.90
                        %
                        
                        
                        2.55
                        %Weighted
      average life of the option (in years)
                        
                        
                        4.78
                        
                        
                        
                        4.66Weighted
      average historical stock price volatility
                        
                        
                        168.79
                        %
                        
                        
                        128.23
                        %Expected
      dividend yield
                        
                        
                        0.00
                        %
                        
                        
                        0.00
                        %





The
Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable.  In addition, option valuation models require the input
of highly subjective assumptions, including the expected stock price
volatility.  Although the Company is using the Black-Scholes option
valuation model, management believes that because changes in the subjective
input assumptions can materially affect the fair value estimate, this valuation
model does not necessarily provide a reliable single measure of the fair value
of its stock options.  The risk-free interest rate is based on the
U.S. treasury security rate with an equivalent term in effect as of the date of
grant.  The expected option lives, volatility, and forfeiture
assumptions are based on historical data of the Company.





12.       Shareholders’
Equity





The
authorized capital structure of the Company consists of $.001 par value
preferred stock and $.001 par value common stock.





Preferred
Stock





The
Company's Articles of Incorporation authorize 6,000,000 shares of $0.001 par
value preferred stock available for issuance with such rights and preferences,
including liquidation, dividend, conversion, and voting rights, as described
below.





Series A





Series A
preferred shares are entitled to a 10% dividend annually on the stated par value
per share.  These shares are convertible into shares of common stock
at the rate of one share of common stock for each share of Series A preferred
stock, and are subject to automatic conversion into common stock upon the
closing of an underwritten public offering pursuant to an effective registration
statement under the Securities Act of 1933 covering the offer and sale of common
stock in which the gross proceeds to the Company are at least $4
million.  Series A preferred shareholders have voting rights equal to
the voting rights of common stock, except that the vote or written consent of a
majority of the outstanding preferred shares is required for any changes to the
Company’s Articles of Incorporation, Bylaws or Certificate of Designation, or
for any bankruptcy, insolvency, dissolution or liquidation of the
Company.  Upon liquidation of the Company, the Company’s assets are
first distributed ratably to the Series A preferred shareholders.  At
June 30, 2010 and 2009, there were no Series A preferred shares
outstanding.


F-17




Series B





Series B
preferred shares are entitled to a cumulative 15% dividend annually on the
stated par value per share.  These shares are convertible into shares
of common stock at the rate of one share of common stock for each share of
Series B preferred stock, and are subject to automatic conversion into common
stock upon the closing of an underwritten public offering pursuant to an
effective registration statement under the Securities Act of 1933 covering the
offer and sale of common stock in which the gross proceeds to the Company are at
least $4 million.  Series B preferred shareholders have voting rights
equal to the voting rights of common stock, except that the vote or written
consent of a majority of the outstanding preferred shares is required for any
changes to the Company’s Articles of Incorporation, Bylaws or Certificate of
Designation, or for any bankruptcy, insolvency, dissolution or liquidation of
the Company.  Upon liquidation of the Company, the Company’s assets
are first distributed ratably to the Series A preferred shareholders, then to
the Series B preferred shareholders.





On
December 11, 2009, the Board of Directors declared a dividend on the Series B
Preferred Stock of all outstanding and cumulative dividends through December 31,
2009.  The total dividends of $36,679 were paid as of December 31,
2009.  The Company anticipates paying any cash dividends on the Series
B Preferred Stock on or before December 31, 2010 if required to comply with the
Form S-3 eligibility requirements.  At June 30, 2010, there were
59,065 Series B preferred shares outstanding and cumulative dividends in arrears
were $5,316.





In
addition to the previously outstanding shares of common stock and Series B
preferred stock, the Company had the following transactions that affected
shareholders’ equity during the years ended June 30, 2010 and 2009.





Warrants to Purchase Common
Stock





In
connection with the various common stock offerings and at other times the
Company has issued warrants for the purchase of common stock.  The
warrants activity is summarized as follows:





2010
                  
                  
                  2009Warrants
                  
                  
                  Price (a)
                  
                  
                  Warrants
                  
                  
                  Price (a)Beginning
      balance outstanding
                  
                  
                  3,216,644
                  
                  
                  $
                  5.55
                  
                  
                  
                  3,245,082
                  
                  
                  $
                  5.50Cancelled/expired
                  
                  
                  (56,876
                  )
                  
                  
                  0.70
                  
                  
                  
                  (28,438
                  )
                  
                  
                  0.70Granted
                  
                  
                  6,000
                  
                  
                  
                  1.18
                  
                  
                  
                  –
                  
                  
                  
                  –Ending
      balance outstanding
                  
                  
                  3,165,768
                  
                  
                  $
                  5.62
                  
                  
                  
                  3,216,644
                  
                  
                  $
                  5.55





(a)
            Weighted
      average exercise price per share.





On
January 13, 2010, the Board of Directors extended the expiration dates of
warrants issued pursuant to the Company’s private placement memorandums dated
October 17, 2005 and February 1, 2006 for an additional one-year
period.  The Board of Directors had previously retroactively extended
these warrants on January 8, 2008 for a one-year period beyond their initial
expiration dates of October 2007 to February 2008 and again extended the these
warrants on January 13, 2010 for an additional one-year period beyond their
extended expiration dates of October 2009 to February 2010.  Based on
these extensions, the warrants will now expire between October 2010 and February
2011.  No other terms or conditions of the warrants were
changed.  The change in expiration dates affected outstanding warrants
to purchase 2,102,142 shares of common stock.  Of these outstanding
warrants, there were warrants to purchase 12,500 common shares held by the
Chairman and CEO of the Company.  Prior to the original extension,
warrants to purchase 1,286,219 shares of common stock had passed their original
expiration dates.


F-18





The
change in expiration date was a modification of the original warrant based on
market conditions and was accounted for as a financing transaction similar to an
extension of time in the offering of shares in a stock
sale.  Therefore there was no effect on the statement of operations as
the Company had previously determined that under ASC Topic 815, Derivatives and Hedging,these warrants were equity instruments rather than
derivatives.





On June
8, 2010, the Board of Directors issued 6,000 warrants to Schultz Public
Relations at an exercise price of $1.18 and a five year term.  These
warrants were issued for services rendered by Schultz Public Relations at an
exercise price equal to the closing price of the Company's common stock on the
grant date.





The
following table summarizes additional information about the Company’s common
warrants outstanding as of June 30, 2010:





Number of Warrants
                                        
                                        Range of Exercise Prices
                                        
                                        Expiration Date53,000
                                        
                                        $6.00
                                        
                                        October
      2010162,500
                                        
                                        $6.00
                                        
                                        November
      2010909,469
                                        
                                        $6.00
                                        
                                        December
      2010700,250
                                        
                                        $6.00
                                        
                                        January
      2011276,923
                                        
                                        $6.00
      to $6.50
                                        
                                        February
      2011826,100
                                        
                                        $5.00
                                        
                                        March
      2011206,526
                                        
                                        $4.40
                                        
                                        March
      20126,000
                                        
                                        $1.18
                                        
                                        June
      201525,000
                                        
                                        $2.00
                                        
                                        July
      20153,165,768





Common Stock
Options





A summary
of the Company’s stock option activity and related information for the years
ended June 30, 2010 and 2009 is as follows:





2010
                  
                  
                  2009Shares
                  
                  
                  Price (a)
                  
                  
                  Shares
                  
                  
                  Price (a)Beginning
      balance outstanding
                  
                  
                  2,708,166
                  
                  
                  $
                  2.08
                  
                  
                  
                  2,803,393
                  
                  
                  $
                  2.62Granted
      (b)
                  
                  
                  290,000
                  
                  
                  
                  1.34
                  
                  
                  
                  993,900
                  
                  
                  
                  0.31Cancelled
                  
                  
                  (616,794
                  )
                  
                  
                  2.48
                  
                  
                  
                  (1,089,127
                  )
                  
                  
                  1.86Exercised
                  
                  
                  106,666
                  
                  
                  
                  0.28
                  
                  
                  
                  –
                  
                  
                  
                  .–Ending
      balance outstanding
                  
                  
                  2,274,706
                  
                  
                  $
                  1.96
                  
                  
                  
                  2,708,166
                  
                  
                  $
                  2.08Exercisable
      at end of year
                  
                  
                  1,730,961
                  
                  
                  $
                  2.36
                  
                  
                  
                  1,837,018
                  
                  
                  $
                  2.74





(a)
            Weighted
      average exercise price per share.


(b)
            All
      options granted had exercise prices equal to or greater than the ending
      market price of the Company’s common stock on the grant
    date.




F-19


The
following table summarizes additional information about the Company’s stock
options outstanding as of June 30, 2010:





Options Outstanding
                                      
                                      Options ExercisableRange of Exercise Prices
                                      
                                      Shares
                                      
                                      
                                      Price (a)
                                      
                                      Life (b)
                                      
                                      Shares
                                      
                                      
                                      Price (a)$0.26
                                      
                                      
                                      670,600
                                      
                                      
                                      $
                                      0.26
                                      
                                      8.91
      yrs
                                      
                                      
                                      356,856
                                      
                                      
                                      $
                                      0.26$0.65
      to $0.84
                                      
                                      
                                      150,000
                                      
                                      
                                      
                                      0.76
                                      
                                      7.87
      yrs
                                      
                                      
                                      103,333
                                      
                                      
                                      
                                      0.75$1.00
      to $1.43
                                      
                                      
                                      372,802
                                      
                                      
                                      
                                      1.33
                                      
                                      7.76
      yrs
                                      
                                      
                                      189,486
                                      
                                      
                                      
                                      1.30$1.96
      to $2.00
                                      
                                      
                                      300,000
                                      
                                      
                                      
                                      2.00
                                      
                                      5.08
      yrs
                                      
                                      
                                      300,000
                                      
                                      
                                      
                                      2.00$3.10
      to $3.11
                                      
                                      
                                      349,534
                                      
                                      
                                      
                                      3.11
                                      
                                      6.16
      yrs
                                      
                                      
                                      349,534
                                      
                                      
                                      
                                      3.11$3.50
      to $3.85
                                      
                                      
                                      150,000
                                      
                                      
                                      
                                      3.70
                                      
                                      6.00
      yrs
                                      
                                      
                                      150,000
                                      
                                      
                                      
                                      3.70$4.14
      to $4.15
                                      
                                      
                                      128,270
                                      
                                      
                                      
                                      4.15
                                      
                                      5.65
      yrs
                                      
                                      
                                      128,270
                                      
                                      
                                      
                                      4.15$4.40
                                      
                                      
                                      33,500
                                      
                                      
                                      
                                      4.40
                                      
                                      6.68
      yrs
                                      
                                      
                                      33,500
                                      
                                      
                                      
                                      4.40$5.50
      to $6.50
                                      
                                      
                                      120,000
                                      
                                      
                                      
                                      6.29
                                      
                                      5.71
      yrs
                                      
                                      
                                      120,000
                                      
                                      
                                      
                                      6.29Total
      options
                                      
                                      
                                      2,274,706
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      1,730,961





(a)
            Weighted
      average exercise price.


(b)
            Weighted
      average remaining contractual life.





13.         Treasury
Stock





In June
2008, the Board of Directors of IsoRay authorized the repurchase of up to
1,000,000 shares of the Company’s common stock.  The Company
repurchased no shares of its common stock during the year ended June 30, 2010
and 8,200 shares of its common stock for $4,735 during the year ended June 30,
2009.





14.         Income
Taxes





The
Company recorded no income tax provision or benefit for the years ended June 30,
2010 and 2009.





The
Company had a net deferred tax asset of approximately $12.6 and $11.3 million as
of June 30, 2010 and 2009, respectively.  The deferred tax asset has
arisen principally from net operating loss carry-forwards, share-based
compensation, depreciation and amortization, and accrued
compensation.  The deferred tax asset was calculated based on the
currently enacted 34% statutory income tax rate.  Since management of
the Company cannot determine if it is more likely than not that the Company will
realize the benefit of its net deferred tax asset, a valuation allowance equal
to the full amount of the net deferred tax asset at June 30, 2010 and 2009 has
been established.





At June
30, 2010, the Company had tax basis net operating loss carry-forwards of
approximately $32.4 million available to offset future regular taxable
income.  These net operating loss carry-forwards expire through
2030.





15.         401(k)
and Profit Sharing Plan





The
Company has a 401(k) plan, which commenced in fiscal year 2007, covering all
eligible full-time employees of the Company.  Contributions to the
401(k) plan are made by the participants to their individual accounts through
payroll withholding.  The 401(k) plan also allows the Company to make
contributions at the discretion of management.  To date, the Company
has not made any contributions to the 401(k) plan.





16.           UralDial,
LLC





On
January 23, 2008, the Company, through its subsidiary IsoRay International LLC,
became a thirty percent (30%) owner in a Russian limited liability company,
UralDial, LLC (UralDial), a new company based in Yekaterinburg,
Russia.  In December 2008, the Company entered into an agreement to
sell its thirty percent (30%) interest in UralDial for a nominal
amount.  UralDial did not have any material assets or liabilities at
the time of the Company’s disposition of its ownership
interest.


F-20




In
December 2008 and December 2009, the Company negotiated contracts to purchase
Cs-131 from UralDial.  Under the contracts, the Company will purchase
Cs-131 from UralDial rather than purchasing Cs-131 directly from the two
suppliers in Russia that the Company had purchased from
previously.  UralDial will provide Cs-131 from at least two Russian
facilities subject to scheduled maintenance shutdowns of the facilities from
time to time.  The recent contract entered into in December 2009
continues to stabilize the supply arrangements for the 12 months beginning in
December 2009 and ending in December 2010.





The
Company has an existing distribution agreement with UralDial that allows
UralDial to distribute Proxcelan Cs-131 brachytherapy seeds in
Russia.  The Company, through UralDial, has regulatory approval to
sell Cs-131 seeds in Russia.  However, the economic downturn in Russia
has slowed the Company’s market penetration efforts.  There was no
revenue from this agreement in the years ended June 30, 2009 or June 30,
2010.





17.          Distribution
Agreement





On
February 18, 2009, the Company entered into an exclusive distribution agreement
with BrachySciences, a division of Biocompatibles International
plc.  The agreement allows BrachySciences to sell the Company’s
Proxcelan Cs-131 brachytherapy seeds throughout the United States.  In
fiscal year 2010, this agreement generated approximately $22,000 in
sales.





18.         Commitments
and Contingencies





Royalty Agreement for
Invention and Patent Application





A
shareholder of the Company previously assigned his rights, title and interest in
an invention to IsoRay Products LLC (a predecessor company) in exchange for a
royalty equal to 1% of the Gross Profit, as defined, from the sale of “seeds”
incorporating the technology.  The patent and associated royalty
obligations were transferred to the Company in connection with the merger
transaction.





The
Company must also pay a royalty of 2% of Gross Sales, as defined, for any
sub-assignments of the aforesaid patented process to any third
parties.  The royalty agreement will remain in force until the
expiration of the patents on the assigned technology, unless earlier terminated
in accordance with the terms of the underlying agreement.





During
fiscal years 2010 and 2009, the Company recorded royalty expenses of $23,041 and
$20,063, respectively.





Patent and Know-How Royalty
License Agreement





The
Company is the holder of an exclusive license to use certain “know-how”
developed by one of the founders of a predecessor to the Company and licensed to
the Company by the Lawrence Family Trust, a Company shareholder.  The
terms of this license agreement require the payment of a royalty based on the
Net Factory Sales Price, as defined in the agreement, of licensed product
sales.  Because the licensor’s patent application was ultimately
abandoned, only a 1% “know-how” royalty based on Net Factory Sales Price, as
defined in the agreement, remains applicable.  To date, management
believes that there have been no product sales incorporating the “know-how” and
therefore no royalty is due pursuant to the terms of the
agreement.  Management believes that ultimately no royalties should be
paid under this agreement as there is no intent to use this “know-how” in the
future.





The
licensor of the “know-how” has disputed management’s contention that it is not
using this “know-how”.  On September 25, 2007 and again on October 31,
2007, the Company participated in nonbinding mediation regarding this matter;
however, no settlement was reached with the Lawrence Family
Trust.  After additional settlement discussions, which ended in April
2008, the parties failed to reach a settlement.  The parties may
demand binding arbitration at any time.




F-21


Operating Lease
Agreements





The
Company leases office and laboratory space and production and office equipment
under non-cancelable operating leases.  The lease agreements require
monthly lease payments and expire on various dates through April 2016 (including
renewal dates).  The Company’s significant lease is described
below.





On May 2,
2007, Medical entered into a lease for its new production facility with Energy
Northwest, the owner of the Applied Process Engineering Laboratory (the APEL
lease).  The new lease originally provided the Company with 19,328
square feet of manufacturing and office space and the Company has moved all
manufacturing operations to this new leased space as of September 2007 and
vacated its leased space at the PEcoS-IsoRay Radioisotope Laboratory
(PIRL).  The APEL lease was renewed in May 2010 for occupancy of
15,932 square feet of manufacturing and office space with a three year term
expiring on April 30, 2013, plus an option to renew for one additional
three-year term, and monthly rent of approximately $23,100, subject to annual
increases based on the Consumer Price Index, plus monthly janitorial expenses of
approximately $400.  Due to the severe economic penalty associated
with not exercising the one lease renewal option remaining, the Company
currently intends to exercise the  one remaining three-year renewal
option at the appropriate time in the lease.  The amount of space
returned to the landlord during the lease renewal process in fiscal year 2010
was sufficient to offset the annual cost of living increase prescribed in the
lease agreement.





Future
minimum lease payments under operating leases including the one three-year
renewal of the APEL lease, which the Company intends to exercise, are as
follows:





Year ending June 30,2011
                    
                    $
                    296,1572012
                    
                    
                    284,9152013
                    
                    
                    282,3902014
                    
                    
                    282,3902015
                    
                    
                    282,390Thereafter
                    
                    
                    235,324$
                    1,663,566





Rental
expense amounted to $306,212 and $325,496 for the years ended June 30, 2010 and
2009, respectively.





License Agreement with
IBt





In
February 2006, the Company signed a license agreement with International
Brachytherapy SA (IBt), a Belgian company, covering North America and providing
the Company with access to IBt’s Ink Jet production process and its proprietary
polymer seed technology for use in brachytherapy procedures using
Cs-131.  Under the original agreement royalty payments were to be paid
on net sales revenue incorporating the technology.





On
October 12, 2007, the Company entered into Amendment No. 1 (the Amendment) to
its License Agreement dated February 2, 2006 with IBt.  The Company
paid license fees of $275,000 (under the original agreement) and $225,000 (under
the Amendment) during fiscal years 2006 and 2008, respectively.  The
Amendment eliminated the previously required royalty payments based on net sales
revenue, and the parties originally intended to negotiate terms for future
payments by the Company for polymer seed components to be purchased at IBt's
cost plus a to-be-determined profit percentage.  No agreement has been
reached on these terms and there is no assurance that the parties will
consummate an agreement pursuant to such terms.  The Company does not
currently intend to use this technology and recorded an impairment charge on the
remaining book value of the license in fiscal year 2009.




F-22


19.         Concentrations
of Credit and Other Risks





Financial
Instruments





The
Company’s financial instruments that are exposed to concentrations of credit
risk consist primarily of cash and cash equivalents, short-term investments, and
accounts receivable.





The
Company’s cash and cash equivalents are maintained with high-quality financial
institutions.  The accounts are guaranteed by the Federal Deposit
Insurance Corporation (FDIC) up to $250,000.  At June 30, 2010, cash
balances uninsured by the FDIC totaled approximately $1.4 million.





Short-term
investments are held by a major, high-quality financial
institution.  Generally, these securities are traded in a highly
liquid market and may be redeemed upon demand and bear minimal
risk.  Management regularly monitors the composition and maturities of
these investments and the Company has not experienced any material realized
losses on its investments.





The
Company’s accounts receivable result from credit sales to
customers.  The Company had three customers whose sales were greater
than 10% for the year ended June 30, 2010 and two customers whose sales were
greater than 10% for the year ended 2009.  These customers represented
a combined 33.1% and 35.0% of the Company’s total revenues for the years ended
June 30, 2010 and 2009, respectively.  These same customers accounted
for a combined 42.3% and 39.6% of the Company’s net accounts receivable balance
at June 30, 2010 and 2009, respectively.





The loss
of any of these significant customers would have a temporary adverse effect on
the Company’s revenues, which would continue until the Company located new
customers to replace them.





The
Company routinely assesses the financial strength of its customers and provides
an allowance for doubtful accounts as necessary.





Inventories





Most
components used in the Company’s product are purchased from outside
sources.  Certain components are purchased from single
suppliers.  The failure of any such supplier to meet its commitment on
schedule could have a material adverse effect on the Company’s business,
operating results and financial condition.  If a sole-source supplier
or a supplier of Cs-131 or irradiated barium were to go out of business or
otherwise become unable to meet its supply commitments, the process of locating
and qualifying alternate sources could require up to several months, during
which time the Company’s production could be delayed.  Such delays
could have a material adverse effect on the Company’s business, operating
results and financial condition.




F-23


SIGNATURES





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





Dated:  September
28, 2010





ISORAY,
      INC., a Minnesota corporationBy
                    /s/
    Dwight  BabcockDwight
      Babcock, Chief Executive Officer and ChairmanBy
                    /s/ Brien L. RagleBrien
      L. Ragle, Controller, Principal Financial and
                      Accounting
      Officer





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





Dated:  September
28, 2010





/s/
    Dwight  BabcockDwight
      Babcock, Chief Executive Officer and Chairman/s/ Brien L. RagleBrien
      L. Ragle, Controller, Principal Financial and Accounting
      Officer/s/ Robert KauffmanRobert
      Kauffman, Director and Vice-Chairman/s/ Thomas LaVoyThomas
      LaVoy, Director/s/ Albert SmithAlbert
      Smith, Director




63