<PAGE>   1
                                                                   EXHIBIT 10.31


                               EMPLOYMENT CONTRACT


                  This Employment Contract ("Contract") is entered into by and
between AMARILLO BIOSCIENCES, INC., a Texas corporation ("Employer"), and
KATHLEEN L. KELLEHER ("Employee"). ABI and its controlled subsidiaries shall be
hereinafter collectively referred to as "ABI Companies". Employer hereby employs
Employee, and Employee accepts employment, on the following terms and
conditions.

                                    ARTICLE I
                               TERM OF EMPLOYMENT

                  1.01. By this Contract, Employer employs Employee and Employee
accepts employment with Employer and with such ABI Companies as Employer shall
designate, for a period of one (1) year, commencing January 4, 1999; however,
this Contract may be terminated earlier by Employer for cause, at its option,
by giving written notice of termination to Employee, without prejudice to any
other remedy to which Employer may be entitled either at law, in equity or under
this Contract. "For cause," as used in this Section 1.01, shall mean and include
any of the following events:

                           (a)    Misappropriation or embezzlement by Employee 
involving Employer or an ABI Company;

                           (b)    The conviction in any jurisdiction of Employee
for any crime involving an ABI Company which constitutes a felony;

                           (c)    Employee's material violation of any of the 
material provisions of this Contract; provided, however, that Employer shall
give written notice of Employee's





                                       -1-

<PAGE>   2




violation of such provisions and Employee shall have a period of twenty (20)
business days to cure such violation; or

                           (d)    Employee shall have become Disabled (as 
defined in Section 2.01, below), and said Disability shall have continued for a
period of six (6) consecutive months, or a period of six (6) months in any
twelve (12) month period. All determinations regarding the existence and
continuation of a Disability shall be made as provided in Section 2.01, below.

                  Termination of this Contract for cause shall be effective upon
written notice thereof to Employee. Employee shall thereupon be entitled to
compensation earned prior to the date of termination, computed pro rata up to
and including the date of termination, shall be entitled to no further
compensation, and will be relieved of all duties and obligations under this
Contract as of the date of termination; provided, however, that the provisions
of Articles VII, IX and X shall survive both the expiration of this Contract, or
any earlier termination.

                  1.02. Employer may terminate this Contract at any time upon
two (2) weeks prior written notice to Employee; however, in the event of such
termination by Employer without cause, Employer shall continue to pay to
Employee the monthly base salary set forth in Section 2.01, below, for a period
of one (1) year from the date Employee receives notice of termination. Employee
must seek alternative employment and show reasonable proof of this to Employer.
Compensation earned by Employee during this period will be deducted from
Employer's obligation under this Section 1.02. In the case of termination of the
Contract by Employer, Employer can at the time of termination release Employee
in writing





                                       -2-

<PAGE>   3




from the non-competition provisions contained in Section 7.06, below. In such
event, the salary continuation provided for in this Section shall terminate.

                  In the event of termination of the Employment Contract by
Employee, Employee shall restate to Employer in written and explicit form the
applicability of the non-competition provisions contained in Section 7.06,
below. The Employer shall thereupon have a period of three (3) weeks to
discharge itself from the obligation of salary continuation payment as
heretofore described in this Section 1.02 by releasing Employee in writing from
the non-competition provisions of said Section 7.06. In such event, such
compensation will terminate upon the date employment terminates.

                                   ARTICLE II

                                  COMPENSATION

                  2.01. As compensation for all services rendered under this
Contract, Employee shall be paid by Employer a salary of TWELVE THOUSAND FIVE
HUNDRED AND NO/100 DOLLARS ($12,500.00) per month, payable at least monthly
during the term of this Contract. The amount paid is to be prorated for any
partial employment period. In the event Employee becomes Disabled (as
hereinafter defined), Employee shall continue to receive compensation from
employer as follows (but only until the expiration of one (1) year from date of
execution of this Contract):

                           (i)      during the first two (2) months following a
                                    determination of Disability, Employee shall
                                    receive compensation at the rate of one
                                    hundred percent (100%) of salary;






                                       -3-

<PAGE>   4




                           (ii)     during the third and fourth months following
                                    a determination of Disability, Employee
                                    shall receive compensation at the rate of
                                    seventy-five percent (75%) of salary; and

                           (iii)    during the fifth and sixth months following
                                    a determination of Disability, Employee
                                    shall receive compensation at the rate of
                                    fifty percent (50%) of salary; and

                           (iv)     after six (6) months following a
                                    determination of disability, Employee's
                                    compensation and all fringe benefits shall
                                    terminate, but this Contract shall remain
                                    in force, and Employee shall remain an
                                    employee of Employer, until Employer shall
                                    have given notice of termination as provided
                                    in Section 1.01, above.

                  For purposes of determining the percentage of salary and the
duration of payment thereof to which Employee is entitled following a
determination of Disability, if Employee resumes full-time employment hereunder
after such determination and thereafter becomes Disabled again, such succeeding
period of Disability shall be deemed a continuation of the prior period of
Disability unless a period of at least six continuous months of active full-time
employment has elapsed since the conclusion of the prior period of Disability.

                  Notwithstanding anything to the contrary contained in this 
Section 2.01:

                           (i)      any and all amounts payable to Employee 
                                    hereunder during any period of Disability 
                                    shall be reduced by any disability income 
                                    insurance proceeds paid to Employee under 
                                    any policies owned by and paid for by the 
                                    Employer; and

                           (ii)     Employee shall be conclusively deemed to be
                                    Disabled for purposes of this Agreement
                                    during any period in which she receives
                                    disability insurance proceeds from an
                                    insurance carrier pursuant to clause (i).

                  For all purposes of this Contract, "Disability" (including the
adjective "Disabled") shall mean Employee's inability by reason of physical or
mental incapacity to





                                       -4-

<PAGE>   5




perform the customary duties of her employment for a period of thirty (30)
consecutive days or a period of thirty (30) days in any consecutive three (3)
month period. If any dispute arises as to the existence of Employee's
Disability, such dispute shall be resolved by two licensed physicians, one
selected by the Board of Directors of Employer (other than Employee) and one
selected by Employee. If the two physicians so selected cannot agree as to
whether or not Employee is Disabled, the two physicians so selected shall
designate a third physician and the determination of two of the three physicians
so selected as to whether or not Employee is Disabled shall be final and binding
on the parties for all purposes.

                  2.02. Employer shall perform an annual performance review of
Employee's performance for the purpose of determining whether Employee's salary
and benefits should be adjusted.

                  2.03. Employee will be eligible for a bonus plan, said bonus
plan to be submitted to and approved by the Board of Directors of Employer
during the first six (6) months of 1999.

                                  ARTICLE III

                               DUTIES OF EMPLOYEE

                  3.01. Employee is employed as Chief Operating Officer and Vice
President of Business Development and shall work at 800 9th Street, Amarillo,
the principal offices of Employer, and at such other place(s) in the City of
Amarillo as Employer may direct. Employee shall be named to said positions as an
officer of Employer by the Board of Directors of Employer, and shall perform the
duties of Chief Operating Officer and Vice





                                       -5-

<PAGE>   6




President of Business Development, as such duties may be further set forth by
resolution of the Board of Directors of Employer. The expected duties are
delineated in Appendix "A" to this Employment Contract; however, Employee
understands and agrees that Employer shall have the right to modify such duties
from time to time, consistent with the legitimate business needs of Employer.
Employee shall devote her entire productive time, ability, attention and
energies to the business of Employer during the term of this Contract and during
such time, Employee shall not directly or indirectly render any services of a
business, commercial or professional nature to any other person or organization,
whether or not for compensation, without the prior consent of the Board of
Directors of Employer.

                                   ARTICLE IV

                     EMPLOYEE'S OBLIGATIONS AS TO INSURANCE

                  4.01. Employee agrees to submit to physical examination as may
be required for the obtaining by Employer of insurance on Employee's life, and
agrees to consent to the issuance of a policy or policies of insurance on her
life, such policies to be owned by Employer, and naming Employer as beneficiary.
Upon termination of Employee's employment for any reason, and if requested by
Employee, Employer shall assign any such policy to Employee, so that Employee
shall have the option of keeping the policy in force at Employee's expense. The
foregoing notwithstanding, Employer shall be entitled to retain the accumulated
cash value of any such policy.

                                      -6-


<PAGE>   7

                                    ARTICLE V

                                EMPLOYEE BENEFITS

                  5.01. If Employer provides hospital, surgical, medical,
dental, group life insurance, or other fringe benefits to its employees, or any
of them, at any time during the term of this Contract, Employee shall be
entitled to participate in such benefits, on terms and conditions at least as
favorable as those accorded to other employees of Employer, subject to
insurability.

                                   ARTICLE VI

                 REIMBURSEMENT OF EXPENSES INCURRED BY EMPLOYEE

                  6.01. Employee is authorized to incur reasonable business
expenses for promoting the business of Employer, including expenditures for
entertainment and travel. Employer will reimburse Employee for all such expenses
upon Employee's presentation of written expense vouchers, itemizing such
expenditures.

                                   ARTICLE VII

                           PROPERTY RIGHTS OF PARTIES

                  7.01. Employee will have access to and become familiar with,
during the course of employment, various trade secrets, consisting of formulas,
devices, secret inventions, processes, compilations of information, records,
and specifications owned by ABI Companies and regularly used in the operation of
ABI Companies. Employee shall not disclose any such trade secrets directly or
indirectly nor use them in any way either during the term of this Contract or at
any time thereafter except as required in the course of her employment. All
files, records, documents, drawings, specifications, equipment and similar items
relating to the business of ABI Companies, whether or not prepared by Employee,
shall





                                       -7-

<PAGE>   8




remain the exclusive property of ABI Companies and shall not be removed from the
premises of Employer under any circumstances, except in pursuit of the trade and
business of ABI Companies.

                  7.02. On the termination of employment or whenever requested
by Employer, Employee shall immediately deliver to Employer all property in
Employee's possession or under Employee's control belonging to ABI Companies,
including but not limited to all accounting records, computer terminals and
tapes, disks, or other data storage mechanisms, accounting machines, and all
office furniture and fixtures, supplies and other personal property in the
possession or under the control of Employee, in good condition, ordinary wear
and tear excepted, and including without limitation all correspondence files,
research data, and patent information or data, of every sort.

                  7.03. Employee does not claim any rights or interests in and
to trade secrets, formulas, devices, inventions, processes, patents,
applications, continuations, copyrights, trademarks, compilations of
information, records, specifications, rights, interests and data of any other
sort, affecting or pertaining directly or indirectly to the business of ABI
Companies as now conducted, or to the patents, trade secrets, and other rights
now owned by ABI Companies.

                  7.04. Employee agrees that she will promptly and fully inform
and disclose to Employer all inventions, designs, improvements and discoveries
that Employee may have during the term of this Contract that pertain or relate
to the business of ABI Companies or to any experimental work carried on by ABI
Companies, whether conceived by Employee





                                       -8-

<PAGE>   9




alone or with others and whether or not conceived during regular working hours.
All such inventions, designs, improvements and discoveries shall be the
exclusive property of Employer. Employee shall assist ABI Companies in obtaining
patents on all such inventions, designs, improvements and discoveries deemed
patentable by ABI Companies, and shall execute all documents and do all things
necessary to obtain such patents for Employer or ABI Companies.

                  7.05. It is contemplated that Employee in the course of her
employment will be engaged in work involving various patents and secret
processes owned by ABI Companies. All experiments, developments, formulas,
patterns, devices, secret inventions and compilations of information, records,
and specifications regarding such matters are trade secrets, which Employee
shall not disclose directly or indirectly to anyone other than ABI Companies or
their agents, or use in any way, either during the term of this Contract or at
any time after the termination of this Contract, except as required in the
course and scope of her employment.

                  7.06. During the term of this Contract, Employee shall not
directly or indirectly either as an employee, employer, consultant, agent,
principal, partner, stock holder, corporate officer, director, or in any other
individual or representative capacity engage or participate in any business that
is in competition in any manner whatsoever with the business of ABI Companies;
provided, however, that Employee may without restriction invest in
professionally managed mutual funds, where the investment decision regarding
specific securities is made by the fund manager, and not by Employee; and
Employee may purchase,





                                      -9-

<PAGE>   10




own and sell stock or other securities of pharmaceutical companies, as long as
Employee is not directly or indirectly through one or more intermediaries in
control of or controlled by or under common control with any such company.
Furthermore, upon the termination of this Contract, Employee expressly agrees
not to engage or participate directly or indirectly in any business that is in
competition with the business of ABI Companies, for a period of one (1) year;
and further provided, that no business will be considered to be in competition
with ABI Companies unless its business relates to the manufacture, sale, testing
or development of products containing interferon alpha, interferon gamma, tumor
necrosis factor alpha, lactosucrose, interleukin 18, or some other bioactive
substance hereafter developed, or brought under development, by an ABI Company.
Employer and Employee recognize and agree that ABI Companies may obtain or
develop additional technologies from time to time, and if that is the case,
Employer may expand the terms of this non-competition provision by giving
written notice to Employee of the additional technologies that are to be
protected.

                  7.07. In the event of a breach by Employee of any provisions
of this Article VII, the parties hereto agree that Employer, in addition to any
other remedies to which Employer may be entitled at law, shall be entitled to
the remedy of specific performance, it being understood and agreed by the
parties hereto that damages may be difficult to ascertain, and that an award of
damages would in all probability not sufficiently compensate Employer for any
breach by Employee of such provisions. ABI Companies are intended third-party
beneficiaries of the provisions of this Article VII.






                                      -10-

<PAGE>   11


                                  ARTICLE VIII

                                  STOCK OPTIONS

                  8.01. Upon commencement of employment on January 4, 1999,
Employee shall be awarded options to purchase one hundred thousand (100,000)
shares of common stock of ABI pursuant to the Company's 1996 Employee Stock
Option Plan, as amended and restated as of September 12, 1998 (the "Plan"). The
option price per share under such options shall be one hundred percent (100%) of
the Fair Market Value of Employer's common stock as of January 4, 1999, as
defined and set forth in Section 4.06 of the Plan. A copy of said Plan is
attached to this Employment Contract at Appendix "B", and is hereby incorporated
by reference, as if fully herein set forth in its entirety. Reference is made to
such Plan for a full explanation of the terms and conditions of the Plan, and
options granted to Employee pursuant to this Section 8.01 shall be fully subject
to all of the terms, conditions and provisions of the Plan. Options granted
under this Section 8.01 to Employee shall also be subject to any future
amendments of the Plan, made pursuant to Section 4.10 of the Plan. The options
are "incentive stock options" within the meaning of Section 422 of the Internal
Revenue Code of 1986. The 100,000 options to be granted to Employee on January
4, 1999, pursuant to this Section 8.01 shall vest one-third (1/3) at January 3,
2000, one-third (1/3) at January 3, 2001, and one-third (1/3) at January 3,
2002.

                  8.02. The grant of options described in Section 8.01 above
shall include the award of "Limited Rights" within the meaning of Article III of
the Plan, relating to each





                                      -11-

<PAGE>   12




option granted. Said Limited Rights shall be exercisable subject to all of the
terms and conditions of the Plan.

                  8.03. Employee agrees to execute and deliver to Employer an
appropriate incentive stock option agreement, as required by the Internal
Revenue Code of 1986 and regulations promulgated thereunder, evidencing the
grant of options provided for in this Article VIII.

                                   ARTICLE IX

                             COMPULSORY ARBITRATION

                  Employer and Employee desire to avoid and settle without
litigation future disputes which may arise between them relative to this
Contract. Accordingly, the parties agree to engage in good faith negotiations to
resolve any such dispute. In the event they are unable to resolve any such
dispute by negotiation, such dispute shall be submitted to arbitration to take
place in Dallas County in the State of Texas in compliance with the Commercial
Arbitration Rules of the American Arbitration Association. The arbitration award
shall be final and binding upon the parties hereto and may be filed with and
enforced by any court of competent jurisdiction.

                                    ARTICLE X

                   ENTIRETY OF AGREEMENT; AMENDMENTS; SURVIVAL

                  10.01. This Contract supersedes all other agreements, either
oral or in writing, between the parties to this Contract with respect to the
employment of Employee by





                                      -12-

<PAGE>   13



Employer, and this Contract contains the entire understanding of the parties and
all of the covenants and agreements between the parties with respect to such
employment.

                  10.02. This Contract may be amended only by an instrument
signed in writing by both parties; and provided further, that no amendment may
be executed on behalf of Employer, except pursuant to a resolution of the Board
of Directors of Employer.

                  10.03. The following provisions shall survive the expiration 
of this Agreement: ARTICLES VII, VIII, IX and X.


                  IN WITNESS WHEREOF, this Contract is executed by the
undersigned as of this ____ day of _______________, 1998.


EMPLOYEE:                        EMPLOYER:

                                      AMARILLO BIOSCIENCES, INC.

                                      By:
---------------------------              -------------------------------
KATHLEEN L. KELLEHER                     JOSEPH M. CUMMINS, President





                                      -13-