**UNITED
      STATES SECURITIES AND EXCHANGE COMMISSION**


**Washington,
      D.C. 20549**




**FORM
      10-Q**


(Mark
      One)




x Quarterly
      report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934





**For
      the quarterly period ended September 30, 2007**




or


o Transition report pursuant to Section 13 or 15(d) of the Securities Exchange
      Act
      of 1934




**Commission
      File Number 000-19720**


**ABAXIS,
      INC.**


*(Exact
      name of registrant as specified in its charter)*




**California**
              
              **77-0213001***(State of Incorporation)*
              
              *(I.R.S.
                  Employer Identification
                  No.)*




**3240
      Whipple Road**




**Union
      City, California 94587**




*(Address
      of principal executive offices)*




**(510)
      675-6500**




*(Registrant’s
      telephone number including area code)*




Indicate
      by check mark whether the registrant (1) has filed all reports required to
      be
      filed by Section 13 or 15(d) of the Securities 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 is a large accelerated filer, an
      accelerated filer, or a non-accelerated filer. See definition of “accelerated
      filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check
      one):




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






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




Yes o  No x




As
      of
      November 5, 2007, there were 21,526,000 shares of the Registrant’s common stock
      outstanding.












**ABAXIS,
      INC.**


**Form
      10-Q**


**For
      the Quarter Ended September 30, 2007**




**TABLE
      OF CONTENTS**





Page**PART
                I. FINANCIAL INFORMATION**
            ****Item
                1.
            Condensed
                Financial Statements (Unaudited):Condensed
                Statements of Operations for the Three and Six Months EndedSeptember30,
                2007 and 2006
            3Condensed
                Balance Sheets as of September 30, 2007 and March 31, 2007
            4Condensed
                Statements of Cash Flows for the Six Months Ended September 30, 2007
                and
                2006
            5Notes
                to the Unaudited Condensed Financial Statements
            6Item
                2.
            Management’s
                Discussion and Analysis of Financial Condition and Results of Operations
            14Item
                3.
            Quantitative
                and Qualitative Disclosures About Market Risk
            28Item
                4.
            Controls
                and Procedures
            29**PART
                II. OTHER INFORMATION**Item
                1.
            Legal
                Proceedings
            29Item
                1A.
            Risk
                Factors
            29Item
                2.
            Unregistered
                Sales of Equity Securities and Use of Proceeds
            39Item
                3.
            Defaults
                Upon Senior Securities
            39Item
                4.
            Submission
                of Matters to a Vote of Security Holders
            39Item
                5.
            Other
                Information
            39Item
                6.
            Exhibits
            40**SIGNATURES**
            41









**PART
      I. FINANCIAL INFORMATION**




**Item
      1. Condensed Financial Statements (Unaudited)**




**ABAXIS,
      INC.**


**CONDENSED
      STATEMENTS OF OPERATIONS**


**(Unaudited)**




**Three
                  Months Ended**
                **September
                  30,**
              
              
              **Six
                    Months Ended**
                  **September
                    30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006**Revenues
              
              $
              25,192,000
              
              $
              21,037,000
              
              $
              48,123,000
              
              $
              41,395,000Cost
                  of revenues
              
              
              11,335,000
              
              
              9,479,000
              
              
              21,250,000
              
              
              18,400,000Gross
                  profit
              
              
              13,857,000
              
              
              11,558,000
              
              
              26,873,000
              
              
              22,995,000Operating
                  expenses:Research
                  and development
              
              
              1,822,000
              
              
              1,519,000
              
              
              3,475,000
              
              
              3,236,000Sales
                  and marketing
              
              
              6,381,000
              
              
              5,533,000
              
              
              11,610,000
              
              
              10,004,000General
                  and administrative
              
              
              1,538,000
              
              
              1,386,000
              
              
              3,189,000
              
              
              2,970,000Total
                  operating expenses
              
              
              9,741,000
              
              
              8,438,000
              
              
              18,274,000
              
              
              16,210,000Income
                  from operations
              
              
              4,116,000
              
              
              3,120,000
              
              
              8,599,000
              
              
              6,785,000Interest
                  and other income (expense), net
              
              
              529,000
              
              
              367,000
              
              
              1,028,000
              
              
              703,000Income
                  before income taxes
              
              
              4,645,000
              
              
              3,487,000
              
              
              9,627,000
              
              
              7,488,000Income
                  tax provision
              
              
              1,757,000
              
              
              1,373,000
              
              
              3,641,000
              
              
              2,973,000Net
                  income
              
              $
              2,888,000
              
              $
              2,114,000
              
              $
              5,986,000
              
              $
              4,515,000Net
                  income per share:Basic
                  net income per share
              
              $
              0.13
              
              $
              0.10
              
              $
              0.28
              
              $
              0.22Diluted
                  net income per share
              
              $
              0.13
              
              $
              0.10
              
              $
              0.27
              
              $
              0.21Shares
                  used in the calculation of net income per share:Weighted
                  average common shares outstanding - basic
              
              
              21,448,000
              
              
              20,605,000
              
              
              21,380,000
              
              
              20,437,000Weighted
                  average common shares outstanding - diluted
              
              
              22,110,000
              
              
              21,968,000
              
              
              22,103,000
              
              
              21,890,000Share-based
                      compensation expense by function:Cost
                  of revenues
              
              $
              35,000
              
              $
              6,000
              
              $
              55,000
              
              $
              26,000Research
                  and development
              
              
              36,000
              
              
              31,000
              
              
              71,000
              
              
              58,000Sales
                  and marketing
              
              
              88,000
              
              
              76,000
              
              
              168,000
              
              
              153,000General
                  and administrative
              
              
              130,000
              
              
              84,000
              
              
              252,000
              
              
              150,000Total
                  share-based compensation expense
              
              $
              289,000
              
              $
              197,000
              
              $
              546,000
              
              $
              387,000
  See
        accompanying Notes to the Unaudited Condensed Financial
        Statements.




3





**ABAXIS,
      INC.**


**CONDENSED
      BALANCE SHEETS**


**(Unaudited)**


**ASSETS**
              
              **September
                  30,**
                **2007**
              
              **March
                  31,**
                **2007**Current
                assets:Cash
                  and cash equivalents
              
              $
              10,820,000
              
              $
              10,183,000Short-term
                  investments
              
              
              40,911,000
              
              
              35,028,000Trade
                  receivables (net of allowances of $193,000 at September 30, 2007and
                  $542,000 at March 31, 2007)
              
              
              19,346,000
              
              
              16,929,000Inventories,
                  net
              
              
              15,912,000
              
              
              14,813,000Prepaid
                  expenses
              
              
              958,000
              
              
              1,321,000Net
                  deferred tax asset - current
              
              
              5,851,000
              
              
              8,979,000Total
                  current assets
              
              
              93,798,000
              
              
              87,253,000Property
                  and equipment, net
              
              
              13,603,000
              
              
              12,662,000Intangible
                  assets, net
              
              
              412,000
              
              
              450,000Other
                  assets
              
              
              24,000
              
              
              38,000Net
                  deferred tax asset - non-current
              
              
              2,312,000
              
              
              2,312,000Total
                  assets
              
              $
              110,149,000
              
              $
              102,715,000**LIABILITIES
                  AND SHAREHOLDERS’ EQUITY**Current
                  liabilities:Accounts
                  payable
              
              $
              5,251,000
              
              $
              6,505,000Accrued
                  payroll and related expenses
              
              
              4,162,000
              
              
              3,830,000Other
                  accrued liabilities
              
              
              1,096,000
              
              
              1,169,000Deferred
                  revenue
              
              
              811,000
              
              
              917,000Warranty
                  reserve
              
              
              948,000
              
              
              315,000Total
                  current liabilities
              
              
              12,268,000
              
              
              12,736,000Non-current
                  liabilities:Deferred
                  rent
              
              
              344,000
              
              
              391,000Deferred
                  revenue
              
              
              1,184,000
              
              
              1,244,000Warranty
                  reserve
              
              
              346,000
              
              
              532,000Total
                  non-current liabilities
              
              
              1,874,000
              
              
              2,167,000Commitments
                  and contingencies (Note 7)Shareholders'
                  equity:Preferred
                  stock, no par value; 5,000,000 shares authorized; no shares issued
                  and
                  outstanding
              
              
              -
              
              
              -Common
                    stock, no par value; 35,000,000 shares authorized; 21,466,000
                    and
                    21,207,000 sharesissued
                  and
                    outstanding at September 30, 2007 and at March 31, 2007,
                    respectively
              
              
              105,491,000
              
              
              103,282,000Accumulated
                  deficit
              
              
              (9,484,000
              )
              
              (15,470,000
              )Total
                  shareholders' equity
              
              
              96,007,000
              
              
              87,812,000Total
                  liabilities and shareholders' equity
              
              $
              110,149,000
              
              $
              102,715,000


See
        accompanying Notes
        to
        the Unaudited Condensed Financial Statem ents
 4




**ABAXIS,
      INC.**


**CONDENSED
      STATEMENTS OF CASH FLOWS**


**(Unaudited)**




**Six
                  Months Ended**
                  **September
                    30,****2007**
              
              **2006****Operating
                  activities:**Net
                  income
              
              $
              5,986,000
              
              $
              4,515,000Adjustments
                  to reconcile net income to net cash provided by operating
                  activities:Depreciation
                  and amortization
              
              
              1,656,000
              
              
              1,253,000Loss
                  on disposal of property and equipment
              
              
              2,000
              
              
              29,000Share-based
                  compensation expense
              
              
              546,000
              
              
              387,000Excess
                  tax benefits from share-based awards
              
              
              (138,000
              )
              
              -Common
                  stock issued for employee benefit plans
              
              
              -
              
              
              66,000Changes
                  in assets and liabilities:Trade
                  receivables, net
              
              
              (2,417,000
              )
              
              (162,000
              )Inventories,
                  net
              
              
              (1,971,000
              )
              
              (1,918,000
              )Prepaid
                  expenses
              
              
              501,000
              
              
              (234,000
              )Other
                  assets
              
              
              14,000
              
              
              20,000Net
                  deferred tax assets
              
              
              3,128,000
              
              
              2,730,000Accounts
                  payable
              
              
              (1,254,000
              )
              
              1,450,000Accrued
                  payroll and related expenses
              
              
              332,000
              
              
              (246,000
              )Other
                  accrued liabilities
              
              
              (73,000
              )
              
              284,000Deferred
                  rent
              
              
              (47,000
              )
              
              (50,000
              )Deferred
                  revenue
              
              
              (166,000
              )
              
              (95,000
              )Warranty
                  reserve
              
              
              447,000
              
              
              100,000Other
                  long-term liabilities
              
              
              -
              
              
              2,000Net
                  cash provided by operating activities
              
              
              6,546,000
              
              
              8,131,000**Investing
                  activities:**Purchases
                  of available-for-sale investments
              
              
              (19,575,000
              )
              
              (39,177,000
              )Purchases
                  of held-to-maturity investments
              
              
              (14,176,000
              )
              
              -Proceeds
                  from maturities of available-for-sale investments
              
              
              -
              
              
              32,779,000Proceeds
                  from maturities of held-to-maturity investments
              
              
              27,868,000
              
              
              -Purchases
                  of property and equipment
              
              
              (1,680,000
              )
              
              (1,616,000
              )Net
                  cash used in investing activities
              
              
              (7,563,000
              )
              
              (8,014,000
              )**Financing
                  activities:**Proceeds
                  from issuance of common stock under stock plans, net
              
              
              1,516,000
              
              
              2,860,000Proceeds
                  from the exercise of warrants
              
              
              -
              
              
              86,000Excess
                  tax benefits from share-based awards
              
              
              138,000
              
              
              -Net
                  cash provided by financing activities
              
              
              1,654,000
              
              
              2,946,000Net
                  increase in cash and cash equivalents
              
              
              637,000
              
              
              3,063,000Cash
                  and cash equivalents at beginning of period
              
              
              10,183,000
              
              
              10,164,000Cash
                  and cash equivalents at end of period
              
              $
              10,820,000
              
              $
              13,227,000**Supplemental
                  disclosure of cash flow information:**Cash
                  paid for interest
              
              $
              4,000
              
              $
              4,000Cash
                  paid for income taxes, net of refunds
              
              $
              150,000
              
              $
              216,000**Supplemental
                  disclosure of non-cash information:**Change
                  in unrealized gains on short-term investments, net of tax
              
              $
              -
              
              $
              60,000Transfers
                  of equipment between inventory and property and equipment
              
              $
              881,000
              
              $
              876,000





See
      accompanying Notes to the Unaudited Condensed Financial Statements.




5




**ABAXIS,
      INC.**


**NOTES
      TO THE UNAUDITED CONDENSED FINANCIAL STATEMENTS**




**NOTE
      1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING
      POLICIES**




**Description
      of Business.**  Abaxis,
      Inc. (the “Company”), incorporated in California in 1989, develops,
      manufactures, markets and sells portable blood analysis systems for use in
      the
      human or veterinary patient-care setting to provide clinicians with rapid blood
      constituent measurements.




**Basis
      of Presentation** **.** The
      unaudited condensed financial statements included herein have been prepared
      by
      the Company pursuant to the rules and regulations of the Securities and Exchange
      Commission (the “SEC”). The unaudited condensed financial statements included
      herein reflect all normal recurring adjustments, which are, in the opinion
      of
      management, necessary to state fairly the results of operations and financial
      position for the periods presented. The results for the three and six month
      periods ended September 30, 2007 are not necessarily indicative of the results
      to be expected for the entire fiscal year ending March 31, 2008 or for any
      future period.




These
      unaudited condensed financial statements should be read in conjunction with
      Management’s Discussion and Analysis and the audited financial statements and
      notes thereto included in the Company’s Annual Report on Form 10-K for the
      fiscal year ended March 31, 2007.




**Reclassifications.** Certain
      reclassifications have been made to prior periods’ financial statements to
      conform to the current period presentation. These reclassifications had no
      material impact on previously reported results of operations or financial
      position.




**Use
      of Estimates in Preparation of Financial Statements.** The
      preparation of financial statements in accordance with accounting principles
      generally accepted in the United States of America, requires management to
      make
      estimates and assumptions that affect the reported amounts of assets and
      liabilities and disclosure of contingent assets and liabilities at the date
      of
      the financial statements and the reported amounts of revenues and expenses
      during the reporting period. Such management estimates include allowance for
      doubtful accounts, sales and other allowances, inventory reserves, income taxes,
      valuation allowance for net deferred tax assets, share-based compensation and
      warranty reserves. Actual results may differ from these estimates.




**NOTE
      2. RECENT ACCOUNTING PRONOUNCEMENTS**




**FIN
      48**




Effective
      April 1, 2007 the Company adopted the provisions of Financial Accounting
      Standards Board (“FASB”) Interpretation 48, “Accounting for Uncertainty in
      Income Taxes - an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48
      clarifies the accounting for uncertainty in income taxes recognized in an
      enterprise’s financial statements in accordance with FASB Statement No. 109 and
      prescribes a recognition threshold and measurement attribute for the financial
      statement recognition and measurement of tax positions taken or expected to
      be
      taken in a tax return. FIN 48 also provides guidance on derecognition,
      classification, interest and penalties, accounting in interim periods,
      disclosure and transition. As a result of implementing FIN 48, the Company
      did
      not change the amount of unrecognized tax benefits related to tax positions
      taken in prior periods. The Company did not have any unrecognized tax benefits
      as of April 1, 2007, the date of adoption, or as of September 30, 2007. Upon
      adoption of FIN 48, the Company’s policy to include interest and penalties
      related to gross unrecognized tax benefits within its provision for income
      taxes
      did not change. For the three and six months ended September 30, 2007, the
      Company did not recognize any interest and penalties related to unrecognized
      tax
      benefits. The Company files income tax returns in the United States federal
      jurisdiction and various states. The Company is not under examination for any
      of
      these jurisdictions.




**SFAS
      No. 157**




In
      September 2006, the FASB issued Statement of Financial Accounting Standards
      (“SFAS”) No. 157, “Fair Value Measurements” (“SFAS No. 157”), which clarifies
      the definition of fair value, establishes guidelines for measuring fair value
      and expands financial statement disclosures regarding fair value measurements.
      SFAS No. 157 will be effective for the Company on April 1, 2008. The Company
      is
      currently evaluating the impact of adopting SFAS No. 157 on its financial
      position, cash flows and results of operations.




**SFAS
      No. 159**




In
      February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for
      Financial Assets and Financial Liabilities” (“SFAS No. 159”). SFAS No. 159
      permits entities to choose, at specified election dates, to measure eligible
      items at fair value (the “fair value option”). Unrealized gains and losses on
      instruments for which the fair value option has been elected are reported in
      earnings at each subsequent reporting period. SFAS No. 159 will be effective
      for
      the Company on April 1, 2008. The Company is currently evaluating the impact
      of
      adopting SFAS
      No.
      159 on its
      financial position, cash flows and results of operations.




6




**NOTE
      3** **.
      SHORT-TERM INVESTMENTS**




As
        of
        September 30, 2007 and March 31, 2007, investments were classified as short-term
        investments. The contractual maturities for corporate debt securities were
        less
        than one year. Auction
        rate securities with maturities beyond one year were classified as short-term
        investments, based on their highly liquid nature and due to the frequency
        with
        which the interest rate is reset.
  Short-term
        investments classified as available-for-sale are reported at fair value at
        the
        balance sheet date. Auction rate securities are recorded at amortized cost,
        which approximates fair market value due to their variable interest rates.
        Short-term investments classified as held-to-maturity are reported at amortized
        cost at the balance sheet date because the Company has both the intent and
        ability to hold the investments until they mature.
  The
        amortized cost, unrealized gains and market value of short-term investments
        were
        as follows:


**September
                  30, 2007**
              
              
              **March
                  31, 2007****Amortized**
                **Cost**
              
              
              **Unrealized**
                **Gains**
              
              
              Market
                Value
              
              
              **Amortized**
                **Cost**
              
              
              **Unrealized**
                **Gains**
              
              
              **Market**
                **Value**Available-for-sale:Auction
                  rate securities
              
              $
              35,975,000
              
              $
              -
              
              $
              35,975,000
              
              $
              16,400,000
              
              $
              -
              
              $
              16,400,000Total
                  available-for-sale
              
              
              35,975,000
              
              
              -
              
              
              35,975,000
              
              
              16,400,000
              
              
              -
              
              
              16,400,000Held-to-maturity:Corporate
                  debt securities
              
              
              4,936,000
              
              
              -
              
              
              4,936,000
              
              
              18,628,000
              
              
              -
              
              
              18,628,000Total
                  held-to-maturity
              
              
              4,936,000
              
              
              -
              
              
              4,936,000
              
              
              18,628,000
              
              
              -
              
              
              18,628,000Total
                  short-term investments
              
              $
              40,911,000
              
              $
              -
              
              $
              40,911,000
              
              $
              35,028,000
              
              $
              -
              
              $
              35,028,000




**NOTE** **4** **.
      INVENTORIES, NET**




Inventories,
      net, include material, labor and overhead, and are stated at the lower of cost
      (first-in, first-out method) or market. Components of inventories, net, were
      as
      follows:


**September
                  30,**
                **2007**
              
              
              **March
                  31,**
                **2007**Raw
                  materials
              
              $
              7,557,000
              
              $
              7,974,000Work-in-process
              
              
              4,620,000
              
              
              3,203,000Finished
                  goods
              
              
              3,735,000
              
              
              3,636,000Inventories,
                  net
              
              $
              15,912,000
              
              $
              14,813,000




**NOTE
      5.** **WARRANTY
      RESERVES**




The
      Company provides for the estimated future costs to be incurred under the
      Company’s standard warranty obligation on its instruments. Starting on July 1,
      2007, the Company provides for the estimated future costs to be incurred under
      the Company’s warranty obligation on its reagent discs as part of warranty
      reserves. Prior to July 1, 2007, the Company maintained a provision for
      defective reagent discs as part of sales allowances.




**Instruments.** Since
      the beginning of fiscal 2006, the Company’s standard warranty obligation on
      instruments is two years. The estimated contractual warranty obligation is
      recorded when the related revenue is recognized and any additional amount is
      recorded when such cost is probable and can be reasonably estimated. The
      estimated accrual for warranty exposure is based on historical experience,
      estimated product failure rates, material usage, freight incurred in repairing
      the instrument after failure and known design changes.




**Reagent
      Discs.** Starting
      on July 1, 2007, the Company recorded a provision for defective reagent discs
      when the related sale is recognized and any additional amount is recorded when
      such cost is probable and can be reasonably estimated. The warranty cost
      includes the replacement costs and freight of a defective reagent disc. Prior
      to
      July 1, 2007, the Company recorded a provision for defective reagent discs
      as
      part of sales allowances since the Company primarily issued a credit to
      customers for defective reagent discs. Starting
      on July 1, 2007, the
      provision for defective reagent discs is recorded as part of warranty reserves,
      since the Company replaces defective reagent discs rather than issue a credit
      to
      customers. The Company believes the change will not have a material impact
      on
      the financial statement in the future or past.




The
      Company evaluates its estimates for warranty reserves on an ongoing basis and
      believes it has the ability to reasonably estimate warranty costs. However,
      unforeseeable changes in factors may impact the estimate for warranty and such
      changes could cause a material change in the Company’s warranty reserve accrual
      in the period in which the change was identified.




7




The
      changes in the Company’s accrued warranty reserve during the three and six
      months ended September 30, 2007 includes a provision for warranty costs and
      replacement costs for reagent discs. The change in the Company’s accrued
      warranty reserve during the three and six months ended September 30, 2007 and
      2006, was as follows:


**Three
                  Months Ended**
              
              **Six
                  Months Ended****September
                  30,**
              
              **September
                  30,****2007**
              
              **2006**
              
              **2007**
              
              **2006**Balance
                  at beginning of period
              
              $
              910,000
              
              $
              491,000
              
              $
              847,000
              
              $
              472,000Provision
                  for warranty expense
              
              
              612,000
              
              
              142,000
              
              
              874,000
              
              
              197,000Warranty
                  costs incurred
              
              
              (228,000
              )
              
              (55,000
              )
              
              (427,000
              )
              
              (91,000
              )Balance
                  at end of period
              
              
              1,294,000
              
              
              578,000
              
              
              1,294,000
              
              
              578,000Non-current
                  portion of warranty reserve
              
              
              346,000
              
              
              265,000
              
              
              346,000
              
              
              265,000Current
                  portion of warranty reserve
              
              $
              948,000
              
              $
              313,000
              
              $
              948,000
              
              $
              313,000




**NOTE
      6. LINE OF CREDIT**




The
      Company has a line of credit with Comerica Bank-California which provides for
      borrowings of up to $2,000,000. The line of credit terminates upon notification
      by either party and any outstanding balance is payable upon demand. The line
      of
      credit bears interest at the bank’s prime rate minus 0.25%, which totaled 7.50%
      at September 30, 2007, and is payable monthly. Of the $2,000,000 available,
      $410,000 was committed to secure a letter of credit for the Company’s facilities
      lease at September 30, 2007. At September 30, 2007, there was no amount
      outstanding under the Company’s line of credit. The weighted average interest
      rates on the line of credit during the three months ended September 30, 2007
      and
      2006 were 7.93% and 8.00%, respectively.




The
      line
      of credit agreement contains certain financial covenants, which are evaluated
      on
      a quarterly basis. At September 30,
      2007,
      the Company was in compliance with each of these covenants. Included in these
      financial covenants, among other stipulations, are the following
      requirements:




·
            The
                Company must have a minimum net income of $25,000 before preferred
                stock
                dividends and accretion on preferred stock in any three quarters
                of a
                fiscal year, provided that any loss before preferred stock dividends
                and
                accretion on preferred stock incurred in the remaining quarter is
                not to
                exceed $250,000.




·
            The
                Company is required to be profitable, as defined, on a fiscal year
                to date
                basis beginning with the six month period ended September 30, 2007
                and to
                have net income before preferred stock dividends and accretion on
                preferred stock of at least $1,150,000 for the fiscal year ending
                March
                31, 2008.




·
            The
                Company is required to comply with certain financial covenants as
                follows:




**Financial
                Covenants**
            **Requirements**Quick
                ratio, as defined
            Not
                less than 2.00 to 1.00Cash
                flow coverage, as defined
            Not
                less than 1.25 to 1.00Debt
                to net worth ratio, as defined
            Not
                greater than 1.00 to 1.00Tangible
                effective net worth, as defined
            Not
                less than $25,731,000




Borrowings
      under the line of credit are collateralized by the Company’s net book value of
      assets of $96.0 million at September 30, 2007, including its intellectual
      property.




**NOTE
      7. COMMITMENTS AND CONTINGENCIES**




**Purchase
      Commitments.** In
      November 2003, the Company entered into an original equipment manufacturing
      (“OEM”) agreement with Diatron Messtechnik GmbH (“Diatron”) of Austria to
      purchase Diatron hematology instruments. The Diatron hematology instruments
      are
      currently supplied by Diatron MI Kft. Under the terms of the OEM agreement,
      the
      Company became committed to purchase a minimum number of hematology instruments
      through fiscal 2009 from Diatron once the product was qualified for sale, which
      occurred in May 2004. In September 2006, the terms of the OEM agreement, with
      respect to the purchase commitments, were revised. Under the amended OEM
      agreement, the Company is committed to purchase a minimum number of hematology
      instruments through fiscal 2008. At September 30, 2007, the outstanding
      commitment due in fiscal 2008 is approximately $2,513,000. The commitment amount
      is based on the minimum number of hematology instruments required to be
      purchased by the Company, the cost of the instruments and the Euro exchange
      rate
      at period-end. Since the exchange rate can fluctuate in the future, the
      commitment in absolute dollars will change accordingly.




**Litigation.** The
      Company is involved from time to time in various litigation matters in the
      normal course of business. The Company does not believe that the ultimate
      resolution of these matters will have a material effect on its financial
      position or results of operations.




8




**NOTE
      8. SHARE-BASED COMPENSATION**




On
      April
      1, 2006, the Company adopted the provisions of SFAS No. 123 (revised 2004),
      “Share-Based Payment” (“SFAS No. 123(R)”) using
      the modified prospective method. SFAS No. 123(R) requires the measurement and
      recognition of compensation expense for all share-based payment awards made
      to
      employees and directors, including stock options and restricted stock units
      based on their fair values, in the Company’s results of operations. The
      share-based compensation expense includes expense for unvested awards at March
      31, 2006 and all awards granted subsequent to March 31, 2006. Share-based
      compensation expense for the unvested awards outstanding at March 31, 2006
      is
      based on the grant-date fair value as used in calculating the pro forma
      disclosures in prior period financial statements in accordance with the
      provisions of SFAS No. 123, “Accounting for Stock-Based
      Compensation.”




Prior
      to
      April 1, 2006, the Company accounted for share-based awards to employees and
      directors using the intrinsic value method supplemented by pro forma disclosures
      in accordance with Accounting Principles Board Opinion No. 25 “Accounting for
      Stock Issued to Employees” and other related guidance and therefore, no employee
      compensation cost had been recognized for share-based awards in financial
      statements prior to April 1, 2006 because the Company issued stock options
      with
      an exercise price equal to the market value at the date of grant.




Non-cash
      compensation expense recognized for share-based awards totaled $289,000 and
      $197,000 during the three months ended September 30, 2007 and 2006,
      respectively. Non-cash compensation expense recognized for share-based awards
      totaled $546,000 and $387,000 during the six months ended September 30, 2007
      and
      2006, respectively. Capitalized share-based compensation cost at September
      30,
      2007 and 2006 was $22,000 and $17,000, respectively, which was included in
      inventory on the Company’s balance sheet.




Prior
      to
      adopting SFAS No. 123(R), the Company presented all tax benefits resulting
      from
      the exercise of stock options as cash flows from operating activities in its
      Statements of Cash Flows. SFAS No. 123(R) requires cash flows resulting from
      excess tax benefits to be classified as a part of cash flows from financing
      activities. Excess tax benefits are realized tax benefits from tax deductions
      for exercised stock options and vested restricted stock units in excess of
      the
      deferred tax asset attributable to share-based compensation expense for such
      share-based awards. Excess
      tax benefits classified as a financing cash inflow for the three months ended
      September 30, 2007 and 2006 were $19,000 and $0, respectively. Excess
      tax benefits classified as a financing cash inflow for the six months ended
      September 30, 2007 and 2006 were $138,000 and $0, respectively.




**Equity
      Compensation Plans**




The
      Company’s share-based compensation plans are described below.




**2005
      Equity Incentive Plan.** The
      Company’s 2005 Equity Incentive Plan (the “Equity Incentive Plan”) restated and
      amended the Company’s 1998 Stock Option Plan. The Equity Incentive Plan allows
      for the awards of stock options, stock appreciation rights, restricted stock
      awards, restricted stock units, performance shares, performance units, deferred
      compensation awards or other share-based awards to employees, directors and
      consultants. The Equity Incentive Plan provides for the issuance of a maximum
      of
      4,886,000 shares, of which 464,000 shares of common stock were available for
      future issuance as of September 30, 2007.




Options
      granted to employees and directors generally expire ten years from the grant
      date. Options granted to employees generally become exercisable over a period
      of
      four years based on cliff-vesting terms and continuous employment. Options
      granted to non-employee directors generally become exercisable over a period
      of
      one year based on monthly vesting terms and continuous service. See the “Stock
      Options” section in this Note for additional information.




Restricted
      stock units awarded to employees generally vest over a period of four years
      and
      the awards may also be subject to accelerated vesting upon achieving certain
      performance-based milestones and continuous employment during the vesting
      period. Restricted stock units awarded to non-employee directors generally
      vest
      in full one year after the grant date based on continuous service. See the
      “Restricted Stock Units” section in this Note for additional
      information.




**1992
      Outside Directors’ Stock Option Plan.** Under
      the
      Company’s 1992 Outside Directors’ Stock Option Plan (the “Directors Plan”),
      options to purchase shares of common stock were automatically granted, annually,
      to non-employee directors. Options under the Directors Plan were nonqualified
      stock options and were granted at the fair market value on the date of grant
      and
      expired ten years from the date of grant. Options granted to non-employee
      directors generally become exercisable over a period of one year based on
      monthly vesting terms and continuous service .
      The
      Directors Plan provided for the issuance of a maximum of 250,000 shares. As
      of
      September 30, 2007, all outstanding options under the Directors Plan were fully
      vested and no shares of common stock were available for future issuance because
      the time period for granting options expired in accordance with the terms of
      the
      Directors Plan in June 2002.




The
      Company’s current practice is to issue new shares of common stock from its
      authorized shares for share-based awards.




9




**Stock
      Options**




Prior
      to
      April 1, 2006, the Company granted stock options to employees, with an exercise
      price equal to the closing market price of the Company’s common stock on the
      date of grant and with cliff-vesting terms over four years, conditional on
      continuous employment with the Company. In addition, prior to April 1, 2006,
      the
      Company granted stock options to non-employee directors with an exercise price
      equal to the closing market price of the Company’s common stock on the date of
      grant and became exercisable over a period of one year based on monthly vesting
      terms, conditional on continuous service to the Company.




The
      Company used the Black-Scholes option pricing model to determine the fair value
      of stock options granted prior to March 31, 2006. The fair value of each stock
      option granted was estimated on the date of the grant using the Black-Scholes
      option pricing model, based on a multiple option valuation approach, and
      forfeitures were recognized as they occurred. There were no stock options
      granted during the three and six months ended September 30, 2007 and 2006,
      respectively, or during fiscal 2007. As of September 30, 2007, the total
      unrecognized compensation expense related to stock options granted amounted
      to
      $101,000, which is expected to be recognized over a weighted average period
      of
      0.65 years.




The
      following table summarizes information regarding options outstanding and options
      exercisable at September 30, 2007 and the changes during the six-month period
      then ended:




**Number
                  of**
                **Shares**
              
              
              **Weighted**
                **Average**
                **Exercise**
                **Price**
                **Per
                  Share**
              
              
              **Weighted**
                **Average**
                **Remaining**
                **Contractual**
                **Life
                  (Years)**
              
              
              **Aggregate**
                **Intrinsic**
                **Value**Outstanding
                  at March 31, 2007
              
              
              1,577,000
              
              $
              7.82Granted
              
              
              -
              
              
              -Exercised
              
              
              (243,000
              )
              
              6.68Canceled
                  or forfeited
              
              
              (50,000
              )
              
              20.72Outstanding
                  at September 30, 2007
              
              
              1,284,000
              
              $
              7.53
              
              
              4.04
              
              $
              19,150,000Vested
                  and expected to vest at September 30, 2007
              
              
              1,281,000
              
              $
              7.53
              
              
              4.03
              
              $
              19,122,000Exercisable
                  at September 30, 2007
              
              
              1,254,000
              
              $
              7.42
              
              
              3.96
              
              $
              18,846,000


The
        aggregate intrinsic value in the table above represents the pre-tax intrinsic
        value, based on the Company’s closing stock price as of September 28, 2007, (the
        last trading day for the quarterly period ended September 30, 2007), that
        would
        have been received by the option holders had all option holders exercised
        their
        stock options as of that date. Total intrinsic value of stock options exercised
        was $578,000 and $2,472,000 during the three months ended September 30, 2007
        and
        2006, respectively. Total intrinsic value of stock options exercised was
        $4,025,000 and $8,225,000 during the six months ended September 30, 2007
        and
        2006, respectively. Cash proceeds from the exercise of stock options during
        the
        three months ended September 30, 2007 and 2006 were $218,000 and $734,000,
        respectively. Cash proceeds from the exercise of stock options during the
        six
        months ended September 30, 2007 and 2006 were $1,625,000 and $2,860,000,
        respectively.




**Restricted
      Stock Units**




The
      Company grants restricted stock unit awards to employees and directors as part
      of its share-based compensation program which began in fiscal 2007. The
      restricted stock unit awards entitle holders to receive shares of common stock
      at the end of a specified period of time. Vesting for restricted stock unit
      awards is based on continuous employment or service of the holder. Upon vesting,
      the equivalent number of common shares are typically issued net of tax
      withholdings. If the vesting conditions are not met, unvested restricted stock
      unit awards will be forfeited. Generally, the restricted stock unit awards
      vest
      according to one of the following time-based vesting schedules:




*·*
            *Restricted
                stock unit awards to employees:*Four
                year time-based vesting as follows: five percent vesting after the
                first
                year; additional 10 percent after the second year; additional 15
                percent
                after the third year; and the remaining 70 percent after the fourth
                year
                of continuous employment with the Company.




*·*
            *Restricted
                stock unit awards to non-employee directors:*100
                percent vesting after one year of continuous service to the
                Company.**




Certain
      restricted stock unit awards to employees may also be subject to accelerated
      vesting upon achieving certain performance-based milestones. Additionally,
      the
      Compensation Committee of the Company’s Board of Directors (the “Compensation
      Committee”), in its discretion, may provide in the event of a change in control
      for the acceleration of vesting and/or settlement of the restricted stock unit
      held by a participant upon such conditions and to such extent as determined
      by
      the Compensation Committee. It is currently anticipated that awards granted
      to
      executive officers will accelerate fully on a change of control. The vesting
      of
      non-employee director awards granted under the Equity Incentive Plan
      automatically will accelerate in full upon a change in control.




The
      fair
      value of restricted stock unit awards used in the Company’s expense recognition
      method is measured based on the number of shares granted and the closing market
      price of the Company’s common stock on the date of grant. Such value is
      recognized as an expense over the corresponding requisite service period. The
      Company’s policy is to recognize the expense based on the vested portions of the
      awards. The share-based compensation expense is reduced for an estimate of
      the
      restricted stock unit awards that are expected to be forfeited. The forfeiture
      estimate is based on historical data and other factors, and compensation expense
      is adjusted for actual results. As of September 30, 2007, the total unrecognized
      compensation expense related to restricted stock unit awards granted amounted
      to
      $9,103,000, which is expected to be recognized over a weighted average period
      of
      3.03 years.




10




The
      following table summarizes restricted stock unit activity for the six months
      ended September 30, 2007:


**Number
                  of**
                **Shares**
              
              
              **Weighted**
                **Average**
                **Grant
                  Date**
                **Fair
                  Value (1)**Unvested
                  at March 31, 2007
              
              
              295,000
              
              $
              24.66Granted
              
              
              243,000
              
              
              20.98Vested
              
              
              (22,000
              )
              
              25.07Forfeited
              
              
              (44,000
              )
              
              23.19Unvested
                  at September 30, 2007
              
              
              472,000
              
              $
              22.89




(1)
      The
      weighted average grant date fair value of restricted stock units is based on
      the
      number of shares granted and the closing market price of the Company’s common
      stock on the date of grant.




**NOTE
      9. NET INCOME PER SHARE**




Basic
      net
      income per share is computed by dividing the net income attributable to common
      shareholders by the weighted average number of common shares outstanding during
      the period. Diluted net income per share is computed by dividing the net income
      attributable to common shareholders by the weighted average number of common
      shares that would have been outstanding during the period assuming the issuance
      of common shares for all potential dilutive common shares outstanding using
      the
      treasury stock method. Dilutive potential common shares outstanding include
      outstanding stock options, restricted stock units and warrants.




The
      following is a reconciliation of the weighted average number of common shares
      outstanding used in calculating basic and diluted net income per
      share:


**Three
                      Months Ended**
                    **September
                      30,**
                  
                  
                  **Six
                      Months Ended**
                    **September
                      30,****2007**
                  
                  
                  **2006**
                  
                  
                  **2007**
                  
                  
                  **2006**Numerator:Net
                      income
                  
                  $
                  2,888,000
                  
                  $
                  2,114,000
                  
                  $
                  5,986,000
                  
                  $
                  4,515,000Denominator:Weighted
                      average common shares outstanding - basic
                  
                  
                  21,448,000
                  
                  
                  20,605,000
                  
                  
                  21,380,000
                  
                  
                  20,437,000Weighted
                      average effect of dilutive securities:Stock
                      options
                  
                  
                  658,000
                  
                  
                  1,223,000
                  
                  
                  707,000
                  
                  
                  1,313,000Restricted
                      stock units
                  
                  
                  4,000
                  
                  
                  4,000
                  
                  
                  10,000
                  
                  
                  1,000Warrants
                  
                  
                  -
                  
                  
                  136,000
                  
                  
                  6,000
                  
                  
                  139,000Weighted
                      average common shares outstanding - diluted
                  
                  
                  22,110,000
                  
                  
                  21,968,000
                  
                  
                  22,103,000
                  
                  
                  21,890,000Net
                      income per share:Basic
                      net income per share
                  
                  $
                  0.13
                  
                  $
                  0.10
                  
                  $
                  0.28
                  
                  $
                  0.22Diluted
                      net income per share
                  
                  $
                  0.13
                  
                  $
                  0.10
                  
                  $
                  0.27
                  
                  $
                  0.21


The
      Company excluded the following stock options and warrants from the computation
      of diluted weighted average shares outstanding because the exercise price of
      the
      stock options and warrants was greater than the average market price of the
      Company’s common stock during the period and, therefore, the inclusion of these
      stock options and warrants would be antidilutive to net income per
      share:


**Three
                  Months Ended**
              
              **Six
                  Months Ended****September
                  30,**
              
              **September
                  30,****2007**
              
              **2006**
              
              **2007**
              
              **2006**Weighted
                  average number of shares underlying antidilutive stock options
                  and
                  warrants
              
              
              218,000
              
              
              -
              
              
              218,000
              
              
              5,000Weighted
                  average exercise price per share underlying antidilutive stock
                  options and
                  warrants
              
              $
              21.65
              
              $
              -
              
              $
              21.66
              
              $
              22.10




The
      Company excluded the following restricted stock units from the computation
      of
      diluted weighted average shares outstanding because the inclusion of these
      awards would be antidilutive to net income per share:


**Three
                  Months Ended**
              
              **Six
                  Months Ended****September
                  30,**
              
              **September
                  30,****2007**
              
              **2006**
              
              **2007**
              
              **2006**Weighted
                  average number of shares underlying antidilutive restricted stock
                  units
              
              
              387,000
              
              
              212,000
              
              
              192,000
              
              
              184,000




11




**NOTE
      10. INCOME TAXES**




The
      Company’s effective tax rate was 38% and 39% for the three months ended September 30 ,
      2007
      and 200 6,
      respectively .
      The
      Company’s effective tax rate was 38% and 40% for the six months ended September
      30 ,
      2007
      and 2006, respectively. The decrease in the effective tax rate for the three
      and
      six months ended September 30,
      2007,
      as compared to the three and six months ended September 30,
      2006,
      was primarily due to tax benefits resulting from (a) federal research and
      development tax credits, which temporarily expired in the three and six months
      ended September 30, 2006, and (b) a change in the Company’s investment
      portfolio.




**NOTE
      11. COMPREHENSIVE INCOME**




The
      following is a summary of comprehensive income for the three and six months
      ended September 30, 2007 and 2006:




**Three
                  Months Ended**
                **September
                  30,**
              
              
              **Six
                  Months Ended**
                **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006**Net
                  income
              
              $
              2,888,000
              
              $
              2,114,000
              
              $
              5,986,000
              
              $
              4,515,000Other
                  comprehensive income:Change
                  in unrealized gains on short-term investments, net of tax
              
              
              -
              
              
              4,000
              
              
              -
              
              
              60,000Comprehensive
                  income
              
              $
              2,888,000
              
              $
              2,118,000
              
              $
              5,986,000
              
              $
              4,575,000




**NOTE
      12. SEGMENT REPORTING INFORMATION**




Operating
      segments are defined as components of an enterprise about which separate
      financial information is available that is evaluated regularly by the chief
      operating decision maker, or decision making group, in deciding how to allocate
      resources and in assessing performance.




The
      Company develops, manufactures, markets and sells portable blood analysis
      systems for use in the human or veterinary patient-care setting to provide
      clinicians with rapid blood constituent measurement requirements. The Company
      identifies its reportable segments as those customer groups that represent
      more
      than 10% of the combined revenue or gross profit or loss of all reported
      operating segments. The Company manages its business on the basis of the
      following two reportable segments: (i) the medical market and (ii) the
      veterinary market, which are based on the products sold by market and customer
      group. Each reportable segment has similar manufacturing processes, technology
      and shared infrastructures. The accounting policies for segment reporting are
      the same as for the Company as a whole.




**Medical
      Market**




In
      the
      medical market reportable segment, the Company serves a worldwide customer
      group
      consisting of military installations (ships, field hospitals and mobile care
      units), physicians office practices across all specialties, urgent care and
      walk-in clinics (free-standing or hospital-connected), home care providers
      (national, regional or local), nursing homes, ambulance companies, oncology
      treatment clinics, hospital labs and draw stations. The products manufactured
      and sold in this segment primarily consist of Piccolo chemistry analyzers and
      medical reagent discs.




**Veterinary
      Market**




In
      the
      veterinary market reportable segment, the Company serves a worldwide customer
      group consisting of companion animal hospitals, animal clinics with mixed
      practices of small animals, birds and reptiles, equine and bovine practitioners,
      veterinary emergency clinics, veterinary referral hospitals, universities,
      government, pharmaceutical companies, biotechnology companies and private
      research laboratories. The products manufactured and sold in this segment
      primarily consist of VetScan chemistry analyzers, hematology analyzers,
      veterinary reagent discs and hematology reagent kits.




The
      segment information for prior periods has been restated to conform to the
      current presentation of reportable segments for the three and six months ended
      September 30, 2007 and 2006. The table below summarizes revenues, cost of
      revenues and gross profit from the two operating segments.




12




**Three
                  Months Ended**
                **September
                  30,**
              
              
              **Six
                  Months Ended**
                **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006****Revenues:**Medical
                  Market
              
              $
              5,643,000
              
              $
              4,120,000
              
              $
              10,450,000
              
              $
              7,850,000Veterinary
                  Market
              
              
              17,989,000
              
              
              15,160,000
              
              
              34,425,000
              
              
              30,701,000Unallocated
                  amounts
              
              
              1,560,000
              
              
              1,757,000
              
              
              3,248,000
              
              
              2,844,000Total
                  revenues
              
              
              25,192,000
              
              
              21,037,000
              
              
              48,123,000
              
              
              41,395,000**Cost
                  of revenues:**Medical
                  Market
              
              
              2,805,000
              
              
              2,045,000
              
              
              5,248,000
              
              
              3,808,000Veterinary
                  Market
              
              
              7,889,000
              
              
              7,044,000
              
              
              14,848,000
              
              
              13,687,000Unallocated
                  amounts
              
              
              641,000
              
              
              390,000
              
              
              1,154,000
              
              
              905,000Total
                  cost of revenues
              
              
              11,335,000
              
              
              9,479,000
              
              
              21,250,000
              
              
              18,400,000**Gross
                  profit:**Medical
                  Market
              
              
              2,838,000
              
              
              2,075,000
              
              
              5,202,000
              
              
              4,042,000Veterinary
                  Market
              
              
              10,100,000
              
              
              8,116,000
              
              
              19,577,000
              
              
              17,014,000Unallocated
                  amounts
              
              
              919,000
              
              
              1,367,000
              
              
              2,094,000
              
              
              1,939,000Gross
                  profit
              
              $
              13,857,000
              
              $
              11,558,000
              
              $
              26,873,000
              
              $
              22,995,000




**NOTE
      13** **.
      REVENUES BY PRODUCT CATEGORY AND GEOGRAPHIC REGION AND SIGNIFICANT
      CONCENTRATIONS**




**Revenue
      Information**




The
      following is a summary of revenues for each group of products and services
      provided by the Company:


**Three
                  Months Ended**
              
              **Six
                  Months Ended****September
                  30,**
              
              **September
                  30,****Revenues
                  by Product Category**
              
              **2007**
              
              **2006**
              
              **2007**
              
              **2006**Instruments
              
              $
              7,462,000
              
              $
              6,568,000
              
              $
              13,926,000
              
              $
              13,298,000Reagent
                  discs and kits
              
              
              15,680,000
              
              
              12,280,000
              
              
              29,939,000
              
              
              24,390,000Other
                  products
              
              
              1,598,000
              
              
              1,688,000
              
              
              3,335,000
              
              
              2,764,000Product
                  sales, net
              
              
              24,740,000
              
              
              20,536,000
              
              
              47,200,000
              
              
              40,452,000Development
                  and licensing revenues
              
              
              452,000
              
              
              501,000
              
              
              923,000
              
              
              943,000Total
                  revenues
              
              $
              25,192,000
              
              $
              21,037,000
              
              $
              48,123,000
              
              $
              41,395,000


The
      following is a summary of revenues by geographic region based on customer
      location:


**Three
                  Months Ended**
              
              **Six
                  Months Ended****September
                  30,**
              
              **September
                  30,****Revenues
                  by Geographic Region**
              
              **2007**
              
              **2006**
              
              **2007**
              
              **2006**North
                  America
              
              $
              21,071,000
              
              $
              17,668,000
              
              $
              40,240,000
              
              $
              34,431,000Europe
              
              
              3,175,000
              
              
              2,319,000
              
              
              6,232,000
              
              
              4,762,000Asia
                  Pacific and rest of the world
              
              
              946,000
              
              
              1,050,000
              
              
              1,651,000
              
              
              2,202,000Total
                  revenues
              
              $
              25,192,000
              
              $
              21,037,000
              
              $
              48,123,000
              
              $
              41,395,000




**Significant
      Concentrations**




Revenues
      from significant customers as a percentage of total revenues were as
      follows:




**Geographical**
              
              
              **Three
                  Months Ended**
                **September
                  30,**
              
              
              **Six
                  Months Ended**
                **September
                  30,****Distributor**
              
              
              **Location**
              
              
              **2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006**Walco
                  International, Inc., d/b/a DVM Resources
              
              
              United
                  States
              
              
              13
              %
              
              16
              %
              
              14
              %
              
              16
              %




At
      September 30, 2007, one distributor in the
      United States accounted for 17% of trade receivables. At September 30, 2006,
      one
      distributor in the United States accounted for 19% of trade receivables.




13




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




**FORWARD-LOOKING
      STATEMENTS**




This
      Management’s Discussion and Analysis of Financial Condition and Results of
      Operations includes a number of forward-looking statements, which reflect
      Abaxis’ current views with respect to future events and financial performance.
      In this report, the words “anticipates,” “believes,” “continue,” “could,”
“estimates,” “expects,” “future,” “intends,” “may,” “might,” “plans,”
“projects,” “will,” and similar expressions identify forward-looking statements.
      These forward-looking statements are subject to certain risks and uncertainties,
      including but not limited to those discussed below, in Part II, Item 1A of
      this
      report and in our most recent Annual Report on Form 10-K filed with the
      Securities and Exchange Commission, that could cause actual results to differ
      materially from historical results or those anticipated. Such risks and
      uncertainties include, but are not limited to, the market acceptance of our
      products and the continuing development of our products, required United States
      Food and Drug Administration (“FDA”) clearance and other government approvals,
      risks associated with manufacturing and distributing our products on a
      commercial scale, free of defects, risks related to the introduction of new
      instruments manufactured by third parties, risks associated with entering the
      human diagnostic market on a larger scale, risks related to the protection
      of
      Abaxis’ intellectual property or claims of infringement of intellectual property
      asserted by third parties, risks involved in carrying of inventory, risks
      associated with the ability to attract, train and retain competent sales
      personnel, general market conditions and competition. Readers are cautioned
      not
      to place undue reliance on these forward-looking statements, which speak only
      as
      of the date hereof. Abaxis assumes no obligation to update any forward-looking
      statements as circumstances change.




**BUSINESS
      OVERVIEW**




Abaxis,
      Inc. (“Abaxis,” “us” or “we”) was incorporated in California in 1989. Our
      principal offices are located at 3240 Whipple Road, Union City, California
      94587. Our telephone number is (510) 675-6500 and our Internet address is
      www.abaxis.com. We make available free of charge on or through our Internet
      website our annual reports on Form 10-K, quarterly reports on Form 10-Q, current
      reports on Form 8-K and all amendments to those reports as soon as reasonably
      practicable after such material is electronically filed with or furnished to
      the
      Securities and Exchange Commission. Our common stock trades on the NASDAQ Global
      Market under the symbol “ABAX.”




We
      develop, manufacture, market and sell portable blood analysis systems for use
      in
      the human or veterinary patient-care setting to provide clinicians with rapid
      blood constituent measurements. Our primary product is a blood analysis system,
      consisting of a compact portable analyzer and a series of single-use plastic
      discs, called reagent discs, containing all the chemicals required to perform
      a
      panel of up to 14 tests on human patients and 13 tests on veterinary patients.
      We manufacture the system in our manufacturing facilities in Union City,
      California and we market our blood chemistry analyzers in both the medical
      market and in the veterinary market, as described below.




·
            Medical
                Market: We currently market the blood analysis system in the medical
                market under the name Piccolo xpressTM.
                Through October 2006, we marketed the blood analysis system in the
                medical
                market as the Piccolo®,
                now referred to as the Piccolo Classic. We continue to support and
                service
                our current population of Piccolo xpress and Piccolo Classic chemistry
                analyzers.




·
            Veterinary
                Market: We currently market the blood analysis system in the veterinary
                market under the name VetScan VS2®.
                Through March 2006, we marketed the blood analysis system in the
                veterinary market as the VetScan®,
                now referred to as the VetScan Classic. We continue to support and
                service
                our current population of VetScan VS2 and VetScan Classic chemistry
                analyzers.




In
      September 2007, we introduced a veterinary hematology instrument under the
      name
      VetScan HM5. The VetScan HM5 offers a 22-parameter complete blood count (CBC)
      analysis, including a five-part cell counter specifically designed for
      veterinary applications. In May 2004, we introduced a veterinary hematology
      instrument that offers an 18-parameter CBC analysis, including a three-part
      white blood cell differential, marketed originally as the VetScan HMII, and
      is
      now referred to as the VetScan HM2 TM .
      We
      currently purchase the hematology instruments from Diatron MI Kft. of Budapest,
      Hungary. Through April 2004, we marketed a veterinary hematology instrument
      under the name VetScan HMT. We continue to support and service our current
      population of VetScan HM5, VetScan HM2, VetScan HMII and VetScan HMT hematology
      instruments.




Our
      sales
      for any future periods are not predictable with a significant degree of
      certainty. We generally operate with a limited order backlog because our
      products are typically shipped shortly after orders are received. As a result,
      product sales in any quarter are generally dependent on orders booked and
      shipped in that quarter. Our expense levels, which are to a large extent fixed,
      are based in part on our expectations of future revenues. Accordingly, we may
      be
      unable to adjust spending in a timely manner to compensate for any unexpected
      revenue shortfall. As a result, any such shortfall would negatively affect
      our
      operating results and financial condition. In addition, our sales may be
      adversely impacted by pricing pressure from competitors. Our ability to be
      consistently profitable will depend, in part, on our ability to increase the
      sales volumes of our Piccolo and VetScan products and to successfully compete
      with other competitors. We believe that period to period comparisons of our
      results of operations are not necessarily meaningful indicators of future
      results.




14




**CRITICAL
      ACCOUNTING POLICIES, ESTIMATES AND JUDGMENTS**




Our
      financial statements are prepared in accordance with accounting principles
      generally accepted in the United States. The preparation of these financial
      statements requires management to make estimates and assumptions that affect
      the
      reported amounts of assets and liabilities at the date of the financial
      statements and revenues and expenses during the reporting period. On an on-going
      basis, we evaluate our estimates and the sensitivity of these estimates to
      deviations in the assumptions used in making them. We base our estimates on
      historical experience and on various other assumptions that are believed to
      be
      reasonable under the circumstances. However, there can be no assurance that
      our
      actual results will not differ from these estimates.




We
      have
      identified the policies below as critical because they are not only important
      to
      understanding our financial condition and results of operations, but also
      because application and interpretation of these policies requires both judgment
      and estimates of matters that are inherently uncertain and unknown. Accordingly,
      actual results may differ materially from our estimates. The impact and any
      associated risks related to these policies on our business operations are
      discussed below. A more detailed discussion on the application of these and
      other accounting policies are included in our Annual Report on Form 10-K for
      the
      fiscal year ended March 31, 2007.




**Revenue
      Recognition and Deferred Revenue.** Our
      primary customers are distributors and direct customers in both the medical
      and
      veterinary markets. Revenues from product sales, net of estimated sales
      allowances and rebates, are recognized when (i) evidence of an arrangement
      exists, (ii) upon shipment of the products to the customer, (iii) the sales
      price is fixed or determinable and (iv) collection of the resulting receivable
      is reasonably assured. Rights of return are not provided.




We
      recognize revenue associated with extended maintenance agreements ratably over
      the life of the contract. Amounts collected in advance of revenue recognition
      are recorded as a current or non-current liability based on the time from the
      balance sheet date to the future date of revenue recognition.




We
      provide incentives in the form of free goods or extended maintenance agreements
      to customers in connection with the sale of our instruments. Revenue from such
      sales is allocated separately to the instruments and incentives based on the
      relative fair value of each element. Revenue allocated to incentives is deferred
      until the goods are shipped to the customer or is recognized ratably over the
      life of the maintenance contract.




We
      periodically offer trade-in programs to customers for trading in an existing
      instrument to purchase a new instrument and we will either provide incentives
      in
      the form of free goods or reduce the sales price of the instrument. These
      incentives in the form of free goods are recorded according to the policies
      described above.




**Distributor
      and Customer Rebates.** We
      offer
      distributor pricing rebates and customer incentives from time to time. The
      distributor pricing rebates are offered to distributors upon meeting the sales
      volume requirements during a qualifying period. The distributor pricing rebates
      are recorded as a reduction to gross revenue during the qualifying period.
      Cash
      rebates are offered to customers who purchase specific instruments during a
      promotional period. The cash rebate is recorded as a reduction to gross revenue.




**Sales
      and Other Allowances.** We
      estimate a provision for defective reagent discs as part of sales allowances
      when we issue credits to customers for defective reagent discs. We also
      establish, upon shipment of our products to distributors, a provision for
      potentially defective reagent discs, based on historical experience. The
      provision for potentially defective reagent discs is recorded in sales
      allowances, using internal data available to estimate the level of inventory
      in
      the distribution channel, the lag time for customers to report defective reagent
      discs and the historical experience of defective reagent discs. Starting on
      July
      1, 2007, the provision for defective reagent discs is recorded as part of
      warranty reserves, instead of sales allowances, since we replace defective
      reagent discs rather than issue a credit to customers. Changes in our estimates
      for accruals related to provisions for defective reagent discs have not been
      material to our financial position or results of operations. In the future,
      the
      actual defective reagent discs may exceed our estimates, which could aversely
      affect our financial results.




**Allowance
      for Doubtful Accounts.** We
      maintain an allowance for doubtful accounts based on our assessment of the
      collectibility of the amounts owed to us by our customers. In determining the
      amount of the allowance, we make judgments about the creditworthiness of
      customers which is mostly determined by the customer’s payment history and the
      outstanding period of accounts. We specifically identify amounts that we believe
      to be uncollectible and the allowance for doubtful accounts is adjusted
      accordingly. An additional allowance is recorded based on certain percentages
      of
      our aged receivables, using historical experience to estimate the potential
      uncollectible and our assessment of the general financial condition of our
      customer base. If our actual collections experience changes, revisions to our
      allowances may be required, which could adversely affect our operating
      income.




**Warranty
      Reserves.** We
      provide for the estimated future costs to be incurred under our standard
      warranty obligation on our instruments. Since the beginning of fiscal 2006,
      our
      standard warranty obligation on instruments is two years. The estimated
      contractual warranty obligation is recorded when the related revenue is
      recognized and any additional amount is recorded when such cost is probable
      and
      can be reasonably estimated. W hile
      we
      engage in product quality programs and processes, including monitoring and
      evaluating the quality of our suppliers, our estimated
      accrual for warranty exposure is based on historical experience, estimated product
      failure rates, material usage and freight incurred in repairing the instrument
      after failure and
      known
      design changes .




15




Starting
      on July 1, 2007, we provide for estimated future costs to be incurred on our
      reagent discs as part of warranty reserves, which includes the replacement
      costs
      and freight of a defective reagent disc. A provision for defective reagent
      discs
      is recorded when related sales are recognized and any additional amounts are
      recorded when such costs are probable and can be reasonably estimated, at which
      time they are included in cost of revenues. Prior to July 1, 2007, we primarily
      issued a credit to customers for defective reagent discs and, therefore, the
      provision for defective reagent discs were recorded as part of sales and other
      allowances. Starting on July 1, 2007, the
      provision for defective reagent discs is recorded as part of warranty reserves,
      since we replace defective reagent discs rather than issue a credit to
      customers.




We
      analyze the adequacy of the ending accrual balance of warranty reserves each
      quarter. The determination of warranty reserves requires us to make estimates
      of
      the expected costs to repair or replace the instruments and to replace defective
      reagent discs under warranty. If actual repair or replacement costs of
      instruments or replacement costs of reagent discs differ significantly from
      our
      estimates, adjustments to cost of revenues may be required. ****




**Inventories.** We
      state
      inventories at the lower of cost or market, cost being determined using standard
      costs which approximates the first-in, first-out (FIFO) method. Inventories
      include material, labor and overhead. We establish provisions for excess,
      obsolete and unusable inventories after evaluation of future demand and market
      conditions. If future demand or actual market conditions are less favorable
      than
      those estimated by management or if a significant amount of the material were
      to
      become unusable, additional inventory write-downs may be required, which would
      have a negative effect on our operating income.




**Long-Lived
      Assets.** The
      carrying value of our long-lived assets is reviewed for impairment, in
      accordance with Statement of Financial Accounting Standards (“SFAS”) No. 144,
“Accounting for the Impairment or Disposal of Long-Lived Assets,” whenever
      events or changes in circumstances indicate that the carrying amount of an
      asset
      may not be recoverable. We look to current and future profitability, as well
      as
      current and future undiscounted cash flows, excluding financing costs, as
      primary indicators of recoverability. An impairment loss would be recognized
      when the sum of the undiscounted future net cash flows expected to result from
      the use of the asset and its eventual disposal is less than the carrying amount.
      If impairment is determined to exist, any related impairment loss is calculated
      based on fair value.




**Income
      Taxes.** We
      account for income taxes under the provisions of SFAS No. 109, “Accounting for
      Income Taxes” (“SFAS 109”). Under this method, deferred tax assets and
      liabilities are determined based on the differences between the financial
      statement carrying amounts of existing assets and liabilities and their
      respective tax bases. 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. Valuation
      allowances are established, when necessary, to reduce deferred tax assets to
      the
      amounts to be recovered.




Effective
      April 1, 2007 we adopted the provisions of Financial Accounting Standards Board
      (“FASB”) Interpretation 48, “Accounting for Uncertainty in Income Taxes - an
      interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 clarifies the
      accounting for uncertainty in income taxes recognized in the financial
      statements in accordance with SFAS 109 and prescribes a recognition threshold
      and measurement attribute for the financial statement recognition and
      measurement of tax positions taken or expected to be taken in a tax return.
      FIN
      48 also provides guidance on derecognition, classification, interest and
      penalties, accounting in interim periods, disclosure and transition. As a result
      of implementing FIN 48, we did not change the amount of unrecognized tax
      benefits related to tax positions taken in prior periods. We did not have any
      unrecognized tax benefits as of April 1, 2007, the date of adoption, or as
      of
      September 30, 2007. Upon adoption of FIN 48, our policy to include interest
      and
      penalties related to gross unrecognized tax benefits within our provision for
      income taxes did not change. For the three and six months ended September 30,
      2007, we did not recognize any interest and penalties related to unrecognized
      tax benefits. We file income tax returns in the United States federal
      jurisdiction and various states. We are not under examination for any of these
      jurisdictions.




**Share-Based
      Compensation Expense.**  On
      April
      1, 2006, we adopted SFAS No. 123 (revised 2004), “Share-Based Payment” (“SFAS
      No. 123(R)”) using
      the modified prospective method and therefore have not restated prior periods’
results. Under the fair value provisions of SFAS
      No.
      123(R), we recognize share-based compensation expense, net of an estimated
      forfeiture rate, for those shares expected to vest over the requisite service
      period of the award to employees and directors. Prior to April 1, 2006, we
      accounted for share-based awards to employees and directors using the intrinsic
      value method in accordance with Accounting Principles Board Opinion No. 25,
      “Accounting for Stock Issued to Employees” and other related guidance and
      therefore, no employee compensation cost had been recognized for share-based
      awards in financial statements prior to fiscal 2007 because we issued stock
      options with an exercise price equal to the market value at the date of grant.




We
      use
      the Black-Scholes option pricing model to determine the fair value of stock
      options granted prior to March 31, 2006. Determining the appropriate fair value
      model and calculating the fair value of share-based awards requires highly
      subjective assumptions, as described below.




·
            Risk-free
                interest rate: The risk-free interest rate is based on U.S. Treasury
                yields in effect at the time of grant for the expected term of the
                option.




·
            Expected
                stock price volatility: We estimate the volatility of our common
                stock at
                the date of grant based on the historical volatility of our common
                stock
                over a term of one year.




·
            Expected
                term: We estimate the expected term of stock options granted based
                on
                historical exercise patterns, which we believe are representative
                of
                future behavior.




·
            Expected
                dividends: We have not paid cash dividends on our common stock and
                we do
                not anticipate paying cash dividends in the foreseeable future;
                consequently, we use an expected dividend yield of
                zero.




16




For
      restricted stock units, the assumptions to calculate compensation expense is
      based on the fair value of the Company’s stock at the grant date. As
      a
      result, if factors change and we use different assumptions, our share-based
      compensation expense could be materially different in the future.




As
      required by SFAS No. 123(R), employee share-based compensation expense
      recognized is calculated based on the awards expected to vest and reduced for
      estimated forfeitures. The forfeiture rate is estimated based on historical
      data
      of our share-based awards that are granted, exercised and cancelled and upon
      historical experience of employee turnover, and compensation expense is adjusted
      for actual results. Changes in estimated forfeiture rates and differences
      between estimated forfeiture rates and actual experience may result in
      significant, unanticipated increases or decreases in share-based compensation
      expense from period to period. To the extent we revise our estimate of the
      forfeiture rate in the future, our share-based compensation expense could be
      materially impacted in the quarter of revision, as well as in following
      quarters.




**RESULTS
      OF OPERATIONS**




Abaxis
      develops, manufactures, markets and sells portable blood analysis systems for
      use in the human or veterinary patient-care setting to provide clinicians with
      rapid blood constituent measurement requirements. We operate in two segments:
      (i) the medical market and (ii) the veterinary market. See “Segment Results” in
      this section for a detailed discussion.




**Total
      Revenues**




**Revenues
      by Geographic Region and by Product Category.** Revenues
      by geographic region based on customer location and revenues by product category
      during the three and six months ended September 30,
      2007
      and 2006 were as follows:




**Three
                    Months Ended**
                  **September
                    30,**
              
              
              **Change**
              
              
              
              **Six
                    Months Ended**September
                  30,
              
              
              **Change****Increase/**
              
              
              **Percent**
              
              
              
              
              
              
              
              
              
              **Increase/**
              
              
              **Percent****Revenues
                  by Geographic Region**
              
              
              **2007**
              
              
              **2006**
              
              
              **(Decrease)**
              
              
              **Change**
              
              
              
              **2007**
              
              
              **2006**
              
              
              **(Decrease)**
              
              
              **Change**North
                  America
              
              $
              21,071,000
              
              $
              17,668,000
              
              $
              3,403,000
              
              
              19
              %
              
              $
              40,240,000
              
              $
              34,431,000
              
              $
              5,809,000
              
              
              17
              %Percentage
                  of total revenues
              
              
              84
              %
              
              84
              %
              
              
              
              
              
              
              
              
              84
              %
              
              83
              %Europe
              
              
              3,175,000
              
              
              2,319,000
              
              
              856,000
              
              
              37
              %
              
              
              6,232,000
              
              
              4,762,000
              
              
              1,470,000
              
              
              31
              %Percentage
                  of total revenues
              
              
              13
              %
              
              11
              %
              
              
              
              
              
              
              
              
              13
              %
              
              12
              %Asia
                  Pacific and rest of the world
              
              
              946,000
              
              
              1,050,000
              
              
              (104,000
              )
              
              (10
              %)
              
              
              1,651,000
              
              
              2,202,000
              
              
              (551,000
              )
              
              (25
              %)Percentage
                  of total revenues
              
              
              3
              %
              
              5
              %
              
              
              
              
              
              
              
              
              3
              %
              
              5
              %Total
                  revenues
              
              $
              25,192,000
              
              $
              21,037,000
              
              $
              4,155,000
              
              
              20
              %
              
              $
              48,123,000
              
              $
              41,395,000
              
              $
              6,728,000
              
              
              16
              %
 **Three
                      Months Ended**
                    **September
                      30,**
              
              **Change**
              
              
              
              **Six
                    Months Ended**
                  **September
                    30,**
              
              
              **Change****Increase/**
              
              
              **Percent**
              
              
              
              
              
              
              
              
              
              **Increase/**
              
              
              **Percent****Revenues
                  by Product Category**
              
              
              **2007**
              
              
              **2006**
              
              
              **(Decrease)**
              
              
              **Change**
              
              
              
              **2007**
              
              
              **2006**
              
              
              **(Decrease)**
              
              
              **Change**Instruments
              
              $
              7,462,000
              
              $
              6,568,000
              
              $
              894,000
              
              
              14
              %
              
              $
              13,926,000
              
              $
              13,298,000
              
              $
              628,000
              
              
              5
              %Percentage
                  of total revenues
              
              
              30
              %
              
              31
              %
              
              
              
              
              
              
              
              
              29
              %
              
              32
              %Reagent
                  discs and kits
              
              
              15,680,000
              
              
              12,280,000
              
              
              3,400,000
              
              
              28
              %
              
              
              29,939,000
              
              
              24,390,000
              
              
              5,549,000
              
              
              23
              %Percentage
                  of total revenues
              
              
              62
              %
              
              59
              %
              
              
              
              
              
              
              
              
              62
              %
              
              59
              %Other
                  products
              
              
              1,598,000
              
              
              1,688,000
              
              
              (90,000
              )
              
              (5
              %)
              
              
              3,335,000
              
              
              2,764,000
              
              
              571,000
              
              
              21
              %Percentage
                  of total revenues
              
              
              6
              %
              
              8
              %
              
              
              
              
              
              
              
              
              7
              %
              
              7
              %Product
                  sales, net
              
              
              24,740,000
              
              
              20,536,000
              
              
              4,204,000
              
              
              20
              %
              
              
              47,200,000
              
              
              40,452,000
              
              
              6,748,000
              
              
              17
              %Percentage
                  of total revenues
              
              
              98
              %
              
              98
              %
              
              
              
              
              
              
              
              
              98
              %
              
              98
              %Development
                  and licensing revenues
              
              
              452,000
              
              
              501,000
              
              
              (49,000
              )
              
              (10
              %)
              
              
              923,000
              
              
              943,000
              
              
              (20,000
              )
              
              (2
              %)Percentage
                  of total revenues
              
              
              2
              %
              
              2
              %
              
              
              
              
              
              
              
              
              2
              %
              
              2
              %Total
                  revenues
              
              $
              25,192,000
              
              $
              21,037,000
              
              $
              4,155,000
              
              
              20
              %
              
              $
              48,123,000
              
              $
              41,395,000
              
              $
              6,728,000
              
              
              16
              %




***Three
      Months Ended September 30, 2007 Compared to Three Months Ended September 30,
      2006***




**North
      America** **.** During
      the three months ended September 30, 2007, total revenues in North America
      increased 19%, or $3,403,000, as
      compared to the three months ended September
      30 ,
      2006.
      Components of the change in North America were as follows:




***Instruments.***  During the
      three
      months ended September
      30 ,
      200 7 ,
      total
      revenues from instruments sold in North America increased 9%, or $543,000,
      as
      compared to the three months ended September
      30 ,
      2006.
      The primary factors of the change were as follows:




17




(i)
      Sales
      of our Piccolo chemistry analyzers in North America (excluding the U.S.
      government) increased 20%, or $257,000, primarily due to increased distributor
      sales. Sales of our Piccolo chemistry analyzers to the U.S. government decreased
      10%, or $36,000.




(ii)
      Sales of our VetScan chemistry
      analyzers in North
      America decreased 20%, or $406,000, primarily due to manufacturing issues on
      our
      new chemistry analyzer resulting from a limited supply of quality products.
      Sales of our hematology instruments in North America increased 36%, or $728,000,
      primarily due to the release of the VetScan HM5 in September 2007.




***Reagent
      discs and kits.*** **  During the
      three
      months ended September
      30, 2007 ,
      total
      revenues from reagent discs and kits sold in North America increased 31%, or
      $2,990,000, as compared to the three months ended September
      30 ,
      2006.
      The primary factors of the change were as follows:




(i)
      Medical reagent discs sales in North America (excluding the U.S. government )
      increased 63%, or $862,000, primarily due to the expanded installed base of
      our
      Piccolo chemistry analyzers. Medical reagent discs sold to the U.S. government
      increased 4%, or $25,000.




(ii)
      Veterinary reagent discs sales in North America increased 29%, or $2,030,000,
      primarily due to the expanded installed base of our VetScan chemistry
      analyzers . Sales of
      hematology reagent kits in North America increased 10%, or $73,000.




***Other
      products.*** During the
      three
      months ended September
      30 ,
      2007,
      total revenues from other products sold in North America decreased 5%, or
      $81,000, as compared to the three months ended September 30 ,
      2006.




***Development
      and licensing.*** During the
      three
      months ended September
      30 ,
      2007,
      total revenues from development and licensing in North America decreased 10%,
      or
      $49,000, as compared to the three months ended September
      30 ,
      2006.




***Significant
      concentration.*** One
      distributor in the United States, DVM Resources, accounted for 13% and 16%
      of
      total worldwide revenues for the three months ended September
      30 ,
      2007
      and 2006, respectively.




**Europe** **.**  During
      the three months ended September 30, 2007, total revenues in Europe increased
      37%, or $856,000, as
      compared to the three months ended September
      30 ,
      2006.
      Components of the change in Europe were as follows:




***Instruments.***  During the
      three
      months ended September
      30 ,
      2007,
      total revenues from instruments sold in Europe increased 113%, or $431,000,
      as
      compared to the three months ended September
      30 ,
      2006.
      The primary factors of the change were as follows:




(i)
      Sales
      of our Piccolo chemistry analyzers in Europe increased
      288%, or $222,000, primarily due to increased distributor sales.




(ii)
      Sales of our VetScan chemistry analyzers in Europe increased 107%, or $219,000, primarily due to increased distributor sales.
      Sales
      of our hematology instruments in Europe decreased 10%, or $10,000.




***Reagent
      discs and kits.***  During the
      three
      months ended September
      30 ,
      2007,
      total revenues from reagent discs and kits sold in Europe increased 22%, or
      $426,000, as compared to the three months ended September 30,
      2006.
      The primary factors of the change were as follows:




(i)
      Medical reagent discs sales in Europe increased 40%, or $88,000.




(ii)
      Veterinary reagent discs sales in Europe increased 20% or $334,000, primarily
      due to the expanded installed base of our VetScan chemistry analyzers. Sales
      of
      hematology reagent kits in Europe increased 8%, or $4,000.




***Other
      products.*** During the
      three
      months ended September
      30 ,
      2007,
      total revenues from other products sold in Europe decreased 8%, or $1,000,
      as
      compared to the three months ended September
      30 ,
      2006.




**Asia
      Pacific and rest of the world** **.**  During
      the three months ended September 30, 2007, total revenues in Asia
      Pacific and rest of the world decreased 10%, or $104,000, as
      compared to the three months ended September
      30 ,
      2006.
      Components of the change in Asia Pacific and rest of the world were as
      follows:




***Instruments.***  During the
      three
      months ended September
      30 ,
      2007,
      total revenues from instruments sold in Asia Pacific and rest of the world
      decreased 18%, or $80,000, as compared to the three months ended September
      30 ,
      2006.
      The primary factors of the change were as follows:




(i)
      Sales
      of our Piccolo chemistry analyzers in Asia Pacific and rest of the world
      increased 520%, or $26,000.




(ii)
      Sales of our VetScan chemistry analyzers in Asia Pacific and rest of the world
      decreased 45%, or $156,000, primarily in Japan due to the termination of a
      distribution arrangement during the first quarter of fiscal 2008. Sales of
      our
      hematology instruments in Asia Pacific and rest of the world increased 57%,
      or
      $50,000.




18




***Reagent
      discs and kits.*** During the
      three
      months ended September
      30 ,
      2007,
      total revenues from reagent discs and kits sold in Asia Pacific and rest of
      the
      world decreased 3%, or $16,000, as compared to the three months ended September
      30 ,
      2006.
      The primary factors of the change were as follows:




(i)
      Medical reagent discs sales in Asia Pacific and rest of the world increased
      27%,
      or $9,000.




(ii)
      Veterinary reagent discs sales in Asia Pacific and rest of the world decreased
      2%, or $12,000. Sales of hematology reagent kits in Asia Pacific and rest of
      the
      world decreased 27%, or $13,000.




***Other
      products.*** During the
      three
      months ended September
      30 ,
      2007,
      total revenues from other products sold in Asia Pacific and rest of the world
      decreased 67%, or $8,000, as compared to the three months ended September
      30 ,
      2006.




***Six
      Months Ended September 30, 2007 Compared to Six Months Ended September 30,
      2006***




**North
      America** **.** During
      the six months
      ended September 30, 2007, total revenues in North America increased 17%, or
      $5,809,000, as
      compared to the six months ended September
      30 ,
      2006.
      Components of the change in North America were as follows:




***Instruments.***  During the
      six
      months ended September
      30 ,
      200 7 ,
      total
      revenues from instruments sold in North America increased 6%, or $597,000,
      as
      compared to the six months ended September
      30 ,
      2006.
      The primary factors of the change were as follows:




(i)
      Sales
      of our Piccolo chemistry analyzers in North America (excluding the U.S.
      government) increased 30%, or $751,000, primarily due to increased distributor
      sales. Sales of our Piccolo chemistry analyzers to the U.S. government decreased
      30%, or $159,000, primarily due to a decrease in the U.S. Military’s needs for
      our products, which were not predictable.




(ii)
      Sales of our VetScan chemistry analyzers in North America decreased 20%, or
      $832,000, primarily due to manufacturing issues on our new chemistry analyzer
      resulting from a limited supply of quality products. Sales of our hematology
      instruments in North America increased 24%, or $837,000, primarily due to the
      release of the VetScan HM5 in September 2007.




***Reagent
      discs and kits.*** **  During the
      six
      months ended September
      30, 2007 ,
      total
      revenues from reagent discs and kits sold in North America increased 23%, or
      $4,693,000, as compared to the six months ended September
      30 ,
      2006.
      The primary factors of the change were as follows:




(i)
      Medical reagent discs sales in North America (excluding the U.S. government)
      increased 47%, or $1,273,000, primarily due to the expanded installed base
      of
      our Piccolo chemistry analyzers. Medical reagent discs sold to the U.S.
      government decreased 2%, or $26,000.




(ii)
      Veterinary reagent discs sales in North America increased 23%, or $3,433,000,
      primarily due to the expanded installed base of our VetScan chemistry analyzers.
      Sales of hematology reagent kits in North America increased 1%, or $13,000.




***Other
      products.*** During the
      six
      months ended September
      30 ,
      2007,
      total revenues from other products sold in North America increased 20%, or
      $539,000, as compared to the six months ended September 30 ,
      2006.
      The net increase in other products was primarily due to an increase in demand
      from Becton, Dickinson and Company for products using the Orbos Discrete
      Lyophilization Process, which is based on seasonal demands.




***Development
      and licensing.*** During the
      six
      months ended September
      30 ,
      2007,
      total revenues from development and licensing in North America decreased 2%,
      or
      $20,000, as compared to the six months ended September
      30 ,
      2006.




***Significant
      concentration.*** One
      distributor in the United States, DVM Resources, accounted for 14% and 16%
      of
      total worldwide revenues for the six months ended September
      30 ,
      2007
      and 2006, respectively.




**Europe** **.**  During
      the six months
      ended September 30, 2007, total revenues in Europe increased 31%, or $1,470,000, as
      compared to the six months ended September
      30 ,
      2006.
      Components of the change in Europe were as follows:




***Instruments.***  During the
      six
      months ended September
      30 ,
      2007,
      total revenues from instruments sold in Europe increased 43%, or $640,000,
      as
      compared to the six months ended September
      30 ,
      2006.
      The primary factors of the change were as follows:




(i)
      Sales
      of our Piccolo chemistry analyzers in Europe increased
      160%, or $340,000, primarily due to increased distributor sales.




(ii)
      Sales of our VetScan chemistry analyzers in Europe increased 31%, or $323,000, primarily due to increased distributor sales. Sales
      of our hematology instruments in Europe decreased 11%, or $23,000.




19




***Reagent
      discs and kits.***  During the
      six
      months ended September 30 ,
      2007,
      total revenues from reagent discs and kits sold in Europe increased 24%, or
      $796,000, as compared to the six months ended September 30,
      2006.
      The primary factors of the change were as follows:




(i)
      Medical reagent discs sales in Europe increased 47%, or $168,000, primarily
      due
      to the expanded installed base of our Piccolo chemistry analyzers.




(ii)
      Veterinary reagent discs sales in Europe increased 22%, or $624,000, primarily
      due to the expanded installed base of our VetScan chemistry analyzers. Sales
      of
      hematology reagent kits in Europe increased 4%, or $4,000.




***Other
      products.*** During the
      six
      months ended September
      30 ,
      2007,
      total revenues from other products sold in Europe increased 136%, or $34,000,
      as
      compared to the six months ended September
      30 ,
      2006.




**Asia
      Pacific and rest of the world** **.**  During
      the six months
      ended September 30, 2007, total revenues in Asia
      Pacific and rest of the world decreased 25%, or $551,000, as
      compared to the six months ended September
      30 ,
      2006.
      Components of the change in Asia Pacific and rest of the world were as
      follows:




***Instruments.***  During the
      six
      months ended September
      30 ,
      2007,
      total revenues from instruments sold in Asia Pacific and rest of the world
      decreased 53%, or $609,000, as compared to the six months ended September
      30 ,
      2006.
      The primary factors of the change were as follows:




(i)
      Sales
      of our Piccolo chemistry analyzers in Asia Pacific and rest of the world
      increased 1400%, or $70,000.




(ii)
      Sales of our VetScan chemistry analyzers in Asia Pacific and rest of the world
      decreased 60%, or $409,000. Sales of our hematology instruments in Asia Pacific
      and rest of the world decreased 57%, or $270,000. The decrease in veterinary
      instruments was primarily in Japan due to the termination of a distribution
      arrangement during the first quarter of fiscal 2008.




***Reagent
      discs and kits.*** During the
      six
      months ended September
      30 ,
      2007,
      total revenues from reagent discs and kits sold in Asia Pacific and rest of
      the
      world increased 6%, or $60,000, as compared to the six months ended September
      30 ,
      2006.
      The primary factors of the change were as follows:




(i)
      Medical reagent discs sales in Asia Pacific and rest of the world increased
      96%,
      or $46,000.




(ii)
      Veterinary reagent discs sales in Asia Pacific and rest of the world increased
      6%, or $49,000. Sales of hematology reagent kits in Asia Pacific and rest of
      the
      world decreased 36%, or $35,000.




***Other
      products.*** During the six months
      ended September
      30 ,
      2007,
      total revenues from other products sold in Asia Pacific and rest of the world
      decreased 15%, or $2,000, as compared to the six months ended September
      30 ,
      2006.




**Segment
      Results**




***Three
      Months Ended September 30, 2007 Compared to Three Months Ended September 30,
      2006***




The
      following table presents revenues, cost of revenues, gross profit and percentage
      of revenues by operating segments for the three months ended September 30,
      2007
      and 2006:




**Three
                  Months Ended**
                **September
                  30,**
              
              
              
              **Change****2007**
              
              
              **Percent
                    of****Revenues
                  (1)**
              
              
              
              **2006**
              
              
              **Percent
                  of**
                **Revenues
                  (1)**
              
              
              
              **Increase/**
                **(Decrease)**
              
              
              **Percent**
                **Change****Revenues:**Medical
                  Market
              
              $
              5,643,000
              
              
              100
              %
              
              $
              4,120,000
              
              
              100
              %
              
              $
              1,523,000
              
              
              37
              %Percentage
                  of total revenues
              
              
              22
              %
              
              
              
              
              
              20
              %Veterinary
                  Market
              
              
              17,989,000
              
              
              100
              %
              
              
              15,160,000
              
              
              100
              %
              
              
              2,829,000
              
              
              19
              %Percentage
                  of total revenues
              
              
              72
              %
              
              
              
              
              
              72
              %Unallocated
                  amounts
              
              
              1,560,000
              
              
              
              
              
              
              1,757,000
              
              
              
              
              
              
              (197,000
              )
              
              (11
              %)Percentage
                  of total revenues
              
              
              6
              %
              
              
              
              
              
              8
              %Total
                  revenues
              
              
              25,192,000
              
              
              
              
              
              
              21,037,000
              
              
              
              
              
              
              4,155,000
              
              
              20
              %**Cost
                  of revenues:**Medical
                  Market
              
              
              2,805,000
              
              
              50
              %
              
              
              2,045,000
              
              
              50
              %
              
              
              760,000
              
              
              37
              %Veterinary
                  Market
              
              
              7,889,000
              
              
              44
              %
              
              
              7,044,000
              
              
              46
              %
              
              
              845,000
              
              
              12
              %Unallocated
                  amounts
              
              
              641,000
              
              
              
              
              
              
              390,000
              
              
              
              
              
              
              251,000
              
              
              64
              %Total
                  cost of revenues
              
              
              11,335,000
              
              
              
              
              
              
              9,479,000
              
              
              
              
              
              
              1,856,000
              
              
              20
              %**Gross
                  profit:**Medical
                  Market
              
              
              2,838,000
              
              
              50
              %
              
              
              2,075,000
              
              
              50
              %
              
              
              763,000
              
              
              37
              %Veterinary
                  Market
              
              
              10,100,000
              
              
              56
              %
              
              
              8,116,000
              
              
              54
              %
              
              
              1,984,000
              
              
              24
              %Unallocated
                  amounts
              
              
              919,000
              
              
              
              
              
              
              1,367,000
              
              
              
              
              
              
              (448,000
              )
              
              (33
              %)Gross
                  profit
              
              $
              13,857,000
              
              
              
              
              
              $
              11,558,000
              
              
              
              
              
              $
              2,299,000
              
              
              20
              %




(1)
      The
      percentage reported is based on revenues by operating segment.




20




**Medical
      Market**




**Revenues** **for
      Medical Market Segment**




During the
      three
      months ended September 30, 2007, total revenues in the medical market increased
      37%, or $1,523,000, as compared to the three months ended September
      3 0,
      2006.
      Components of the change were as follows:




***Instruments.*** Total
      revenues from our Piccolo chemistry analyzers increased 27%, or $469,000, during
      the three months ended September 30, 2007, as compared to the three months
      ended
      September 30, 2006. We sold a total of 178 Piccolo chemistry analyzers during
      the three months ended September 30, 2007, as compared to 173 Piccolo chemistry
      analyzers sold during the three months ended September 30, 2006. The changes
      in
      revenues were attributed to (a) an increase in revenues in North America
      (excluding the U.S. government) of 20%, or $257,000, primarily due to increased
      distributor sales; (b) an increase in revenues in Europe
      of 288%,
      or
      $222,000, primarily due to increased distributor sales; and (c) an increase
      in
      revenues in Asia Pacific and rest of the world of 520%, or $26,000. The increase
      in revenues was partially offset by a decrease in Piccolo chemistry analyzers
      sold to the U.S. government of 10%, or $36,000.




***Reagent
      discs.*** Total
      revenues from reagent discs sold in the medical market increased 45%, or
      $984,000,  during
      the three months ended September 30, 2007, as compared to the three months
      ended
      September 30, 2006. We sold 338,000 medical reagent discs during the three
      months ended September 30, 2007, as compared to 237,000 medical reagent discs
      sold during the three months ended September 30, 2006. The total increase in
      revenues from medical reagent discs was primarily attributed to the expanded
      installed base of our Piccolo chemistry analyzers and was comprised of (a)
      an
      increase in revenues in North America (excluding the U.S. government) of 63%,
      or
      $862,000; (b) an increase in medical reagent discs sold to the U.S. government
      of 4%, or $25,000; (c) an increase in revenues in Europe of 40%, or $88,000;
      and
      (d) an increase in revenues in Asia Pacific and rest of the world of 27%, or
      $9,000.




**Gross
      Profit for Medical Market Segment**




Gross
      profit for the medical market segment increased 37%, or $763,000, during the
      three months ended September 30, 2007, as compared to the three months ended
      September 30, 2006. Gross profit percentages for the medical market segment
      during each of the three months ended September 30, 2007 and 2006 was 50%.
      In
      absolute dollars, the increase in gross profit for the medical market segment
      was due to (a) an increase in medical reagent discs sold during the three months
      ended September 30, 2007 and (b) higher average selling prices of Piccolo
      chemistry analyzers and medical reagent discs during the three months ended
      September 30, 2007.




**Veterinary
      Market**




**Revenues** **for
      Veterinary Market Segment**




During the
      three
      months ended September 30, 2007, total revenues in the veterinary market
      increased 19%, or $2,829,000, as compared to the three months ended September
      30, 2006. Components of the change were as follows:




***Instruments.*** We sold
      a total of 593
      VetScan chemistry analyzers and hematology instruments during
      the three months ended September 30, 2007, as compared to 543 veterinary
      instruments sold during the three months ended September 30, 2006. The primary
      factors of the change were as follows:




(i)
      Sales
      of our VetScan chemistry analyzers decreased 13%, or $343,000, comprised of
      (a)
      a decrease in North America of 20%, or $406,000, primarily due to manufacturing
      issues on our new chemistry analyzer resulting from a limited supply of quality
      products, and (b) a decrease in Asia Pacific and rest of the world of 45%,
      or
      $156,000, primarily in Japan due to the termination of a distribution
      arrangement during the first quarter of fiscal 2008. The decrease in revenues
      was partially offset by an increase in Europe of 107%, or $219,000, primarily
      due to increased distributor sales.




(ii)
      Sales of our hematology instruments increased 34%, or $768,000, comprised of
      (a)
      an increase in North America of 36%, or $728,000, primarily due to the release
      of the VetScan HM5 in September 2007, (b) an increase in Asia Pacific and rest
      of the world of 57%, or $50,000, partially offset by (c) a decrease in Europe
      of
      10%, or $10,000.




***Reagent
      discs and kits.*** Total
      revenues from reagent discs and kits sold in the veterinary market increased
      24%, or $2,416,000, during the three months ended September 30, 2007, as
      compared to the three months ended September 30, 2006. The primary factors
      of
      the change were as follows:




(i)
      Total
      revenues from reagent discs sold in the veterinary market increased 25%, or
      $2,352,000, during the three months ended September 30, 2007, as compared to
      the
      three months ended September 30, 2006. We sold 906,000 veterinary reagent discs
      during the three months ended September 30, 2007, as compared to 770,000
      veterinary reagent discs sold during the three months ended September 30, 2006.
      The increase in revenues from veterinary reagent discs was primarily attributed
      to the expanded installed base of our VetScan chemistry analyzers and was
      comprised of (a) an increase in revenues in North America of 29%, or $2,030,000,
      (b) an increase in revenues in Europe of 20%, or $334,000, partially
      offset by (c) a decrease in revenues in Asia Pacific and rest of the world
      of
      2%, or $12,000.




21




(ii)
      Total revenues from hematology reagent kits sold in the veterinary market
      increased 8%, or $64,000, during the three months ended September 30, 2007,
      as
      compared to the three months ended September 30, 2006. The increase in revenues
      from hematology reagent kits was attributed to (a) an increase in revenues
      in
      North America of 10%, or $73,000, (b) an increase in revenues in Europe of
      8%,
      or $4,000, partially offset by (c) a decrease in revenues in Asia Pacific and
      rest of the world of 27%, or $13,000.




**Gross
      Profit for Veterinary Market Segment**




Gross
      profit for the veterinary market segment increased 24%, or $1,984,000, during
      the three months ended September 30, 2007, as compared to the three months
      ended
      September 30, 2006. Gross profit percentages for the veterinary market segment
      during the three months ended September 30, 2007 and 2006 were 56% and 54%,
      respectively. In absolute dollars, the increase in gross profit for the
      veterinary market segment was due to an increase in veterinary reagent discs
      sold during the three months ended September 30, 2007.




***Six
      Months Ended September 30, 2007 Compared to Six Months Ended September 30,
      2006***




The
      following table presents revenues, cost of revenues, gross profit and percentage
      of revenues by operating segments for the six months ended September 30, 2007
      and 2006:




**Six
                  Months Ended**
                **September
                  30,**
              
              
              
              **Change****2007**
              
              
              **Percent
                    of****Revenues
                  (1)**
              
              
              
              **2006**
              
              
              **Percent
                    of****Revenues
                  (1)**
              
              
              
              **Increase/**
                **(Decrease)**
              
              
              **Percent**
                **Change****Revenues:**Medical
                  Market
              
              $
              10,450,000
              
              
              100
              %
              
              $
              7,850,000
              
              
              100
              %
              
              $
              2,600,000
              
              
              33
              %Percentage
                  of total revenues
              
              
              22
              %
              
              
              
              
              
              19
              %Veterinary
                  Market
              
              
              34,425,000
              
              
              100
              %
              
              
              30,701,000
              
              
              100
              %
              
              
              3,724,000
              
              
              12
              %Percentage
                  of total revenues
              
              
              72
              %
              
              
              
              
              
              74
              %Unallocated
                  amounts
              
              
              3,248,000
              
              
              
              
              
              
              2,844,000
              
              
              
              
              
              
              404,000
              
              
              14
              %Percentage
                  of total revenues
              
              
              6
              %
              
              
              
              
              
              7
              %Total
                  revenues
              
              
              48,123,000
              
              
              
              
              
              
              41,395,000
              
              
              
              
              
              
              6,728,000
              
              
              16
              %**Cost
                  of revenues:**Medical
                  Market
              
              
              5,248,000
              
              
              50
              %
              
              
              3,808,000
              
              
              49
              %
              
              
              1,440,000
              
              
              38
              %Veterinary
                  Market
              
              
              14,848,000
              
              
              43
              %
              
              
              13,687,000
              
              
              45
              %
              
              
              1,161,000
              
              
              8
              %Unallocated
                  amounts
              
              
              1,154,000
              
              
              
              
              
              
              905,000
              
              
              
              
              
              
              249,000
              
              
              28
              %Total
                  cost of revenues
              
              
              21,250,000
              
              
              
              
              
              
              18,400,000
              
              
              
              
              
              
              2,850,000
              
              
              15
              %**Gross
                  profit:**Medical
                  Market
              
              
              5,202,000
              
              
              50
              %
              
              
              4,042,000
              
              
              51
              %
              
              
              1,160,000
              
              
              29
              %Veterinary
                  Market
              
              
              19,577,000
              
              
              57
              %
              
              
              17,014,000
              
              
              55
              %
              
              
              2,563,000
              
              
              15
              %Unallocated
                  amounts
              
              
              2,094,000
              
              
              
              
              
              
              1,939,000
              
              
              
              
              
              
              155,000
              
              
              8
              %Gross
                  profit
              
              $
              26,873,000
              
              
              
              
              
              $
              22,995,000
              
              
              
              
              
              $
              3,878,000
              
              
              17
              %




(1)
      The
      percentage reported is based on revenues by operating segment.




**Medical
      Market**




**Revenues** **for
      Medical Market Segment**




During the six months
      ended September 30, 2007, total revenues in the medical market increased 33%,
      or
      $2,600,000, as compared to the six months ended September 30, 2006. Components
      of the change were as follows:




***Instruments.*** Total
      revenues from our Piccolo chemistry analyzers increased 31%, or $1,002,000,
      during the six months ended September 30, 2007, as compared to the six months
      ended September 30, 2006. We sold a total of 355 Piccolo chemistry analyzers
      during the six months ended September 30, 2007, as compared to 297 Piccolo
      chemistry analyzers sold during the six months ended September 30, 2006. The
      changes in revenues were attributed to (a) an increase in revenues in North
      America (excluding the U.S. government) of 30%, or $751,000, primarily due
      to
      increased distributor sales; (b) an increase in revenues in Europe
      of 160%,
      or
      $340,000, primarily due to increased distributor sales; and (c) an increase
      in
      revenues in Asia Pacific and rest of the world of 1400%, or $70,000. The
      increase in revenues was partially offset by a decrease in Piccolo chemistry
      analyzers sold to the U.S. government of 30%, or $159,000, primarily due to
      a
      decrease in the U.S. Military’s needs for our products, which were not
      predictable.




22




***Reagent
      discs.*** Total
      revenues from reagent discs sold in the medical market increased 35%, or
      $1,461,000,  during
      the six months ended September 30, 2007, as compared to the six months ended
      September 30, 2006. We sold 612,000 medical reagent discs during the six months
      ended September 30, 2007, as compared to 457,000 medical reagent discs sold
      during the six months ended September 30, 2006. The total increase in revenues
      from medical reagent discs was primarily attributed to the expanded installed
      base of our Piccolo chemistry analyzers and was comprised of (a) an increase
      in
      revenues in North America (excluding the U.S. government) of 47%, or $1,273,000;
      (b) an increase in revenues in Europe of 47%, or $168,000; and (c) an increase
      in revenues in Asia Pacific and rest of the world of 96%, or $46,000. The
      increase in revenues was partially offset by a decrease in medical reagent
      discs
      sold to the U.S. government of 2%, or $26,000.




**Gross
      Profit for Medical Market Segment**




Gross
      profit for the medical market segment increased 29%, or $1,160,000, during
      the
      six months ended September 30, 2007, as compared to the six months ended
      September 30, 2006. Gross profit percentages for the medical market segment
      during the six months ended September 30, 2007 and 2006 were 50% and 51%,
      respectively. In absolute dollars, the increase in gross profit for the medical
      market segment was due to (a) an increase in Piccolo chemistry analyzers and
      medical reagent discs sold during the six months ended September 30, 2007 and
      (b) higher average selling prices of Piccolo chemistry analyzers and medical
      reagent discs during the six months ended September 30, 2007.




**Veterinary
      Market**




**Revenues** **for
      Veterinary Market Segment**




During the
      six
      months ended September 30, 2007, total revenues in the veterinary market
      increased 12%, or $3,724,000, as compared to the six months ended September
      30,
      2006. Components of the change were as follows:




***Instruments.*** We sold
      a total of 1,093 VetScan chemistry analyzers and hematology instruments during
      the six months ended September 30, 2007, as compared to 1,148 veterinary
      instruments sold during the six months ended September 30, 2006. The primary
      factors of the change were as follows:




(i)
      Sales
      of our VetScan chemistry analyzers decreased 16%, or $918,000, comprised of
      (a)
      a decrease in North America of 20%, or $832,000, primarily due to manufacturing
      issues on our new chemistry analyzer resulting from a limited supply of quality
      products, and (b) a decrease in Asia Pacific and rest of the world of 60%,
      or
      $409,000, primarily in Japan due to the termination of a distribution
      arrangement during the first quarter of fiscal 2008. The decrease in revenues
      was partially offset by an increase in Europe of 31%, or $323,000, primarily
      due
      to increased distributor sales.




(ii)
      Sales of our hematology instruments increased 13%, or $544,000, comprised of
      an
      increase in North America of 24%, or $837,000, primarily due to the release
      of
      the VetScan HM5 in September 2007. The increase in revenues was partially offset
      by (a) a decrease in Europe of 11%, or $23,000, and (b) a decrease in Asia
      Pacific and rest of the world of 57%, or $270,000, primarily in Japan due to
      the
      termination of a distribution arrangement during the first quarter of fiscal
      2008.




***Reagent
      discs and kits.*** Total
      revenues from reagent discs and kits sold in the veterinary market increased
      20%, or $4,088,000, during the six months ended September 30, 2007, as compared
      to the six months ended September 30, 2006. The primary factors of the change
      were as follows:




(i)
      Total
      revenues from reagent discs sold in the veterinary market increased 22%, or
      $4,106,000, during the six months ended September 30, 2007, as compared to
      the
      six months ended September 30, 2006. We sold 1,770,000 veterinary reagent discs
      during the six months ended September 30, 2007, as compared to 1,507,000
      veterinary reagent discs sold during the six months ended September 30, 2006.
      The increase in revenues from veterinary reagent discs was primarily attributed
      to the expanded installed base of our VetScan chemistry analyzers and was
      comprised of (a) an increase in revenues in North America of 23%, or $3,433,000;
      (b) an increase in revenues in Europe of 22%, or $624,000; and (c) an increase
      in revenues in Asia Pacific and rest of the world of 6%, or
      $49,000.




(ii)
      Total revenues from hematology reagent kits sold in the veterinary market
      decreased 1%, or $18,000, during the six months ended September 30, 2007, as
      compared to the six months ended September 30, 2006. The decrease in revenues
      from hematology reagent kits was attributed to (a) a decrease in revenues in
      Asia Pacific and rest of the world of 36%, or $35,000, partially offset by
      (b)
      an increase in revenues in North America of 1%, or $13,000, and (c) an increase
      in revenues in Europe of 4%, or $4,000.




23




**Gross
      Profit for Veterinary Market Segment**




Gross
      profit for the veterinary market segment increased 15%, or $2,563,000, during
      the six months ended September 30, 2007, as compared to the six months ended
      September 30, 2006. Gross profit percentages for the veterinary market segment
      during the six months ended September 30, 2007 and 2006 were 57% and 55%,
      respectively. In absolute dollars, the increase in gross profit for the
      veterinary market segment was due to (a) an increase in veterinary reagent
      discs
      sold during the six months ended September 30, 2007, partially offset by (b)
      a
      decrease in VetScan chemistry analyzers sold during the six months ended
      September 30, 2007 and (c) higher manufacturing costs on the VetScan chemistry
      analyzers during the six months ended September 30, 2007.




**Cost
      of Revenues**




The
      following sets forth, for the periods indicated, our cost
      of
      revenues :




**Three
                  Months Ended**
                **September
                  30,**
              
              **Change**
              
              
              
              **Six
                  Months Ended**
                **September
                  30,**
              
              
              **Change****Increase/**
              
              
              **Percent**
              
              
              
              
              
              
              
              
              
              **Increase/**
              
              
              Percent**2007**
              
              
              **2006**
              
              
              **(Decrease)**
              
              
              **Change**
              
              
              
              **2007**
              
              
              **2006**
              
              
              **(Decrease)**
              
              
              **Change**Cost
                  of revenues
              
              $
              11,335,000
              
              $
              9,479,000
              
              $
              1,856,000
              
              
              20%
              
              
              $
              21,250,000
              
              $
              18,400,000
              
              $
              2,850,000
              
              
              15
              %Percentage
                  of total revenues
              
              
              45
              %
              
              45
              %
              
              
              
              
              
              
              
              
              44
              %
              
              44
              %




Cost
      of revenues includes
      the costs associated with manufacturing, assembly, packaging, warranty repairs,
      test and quality assurance for our instruments, reagent discs and hematology
      reagent kits and manufacturing overhead, including costs of personnel and
      equipment associated with manufacturing support.




*Three
      and Six Months Ended September 30, 2007 Compared to Three and Six Months Ended
      September 30, 2006*




The
      increase in cost of revenues during the three and six months ended September
      30,
      2007, as compared to the three and six months ended September 30, 2006, was
      primarily due to (a) an increase in the sales volume of medical and veterinary
      reagent discs and (b) an increase in costs associated with manufacturing
      the VetScan
      VS2 and Piccolo xpress chemistry analyzers.




**Operating
      Expenses**




**Research
      and Development**




The
      following sets forth, for the periods indicated, our research and development
      expenses:




**Three
                  Months Ended**
                **September
                  30,**
              
              **Change**
              
              
              
              **Six
                  Months Ended**
                **September
                  30,**
              
              
              **Change****2007**
              
              
              **2006**
              
              
              **Increase/**
                **(Decrease)**
              
              
              **Percent**
                **Change**
              
              
              
              **2007**
              
              
              **2006**
              
              
              **Increase/**
                **(Decrease)**
              
              
              **Percent**
                **Change**Research
                  and development expenses
              
              $
              1,822,000
              
              $
              1,519,000
              
              $
              303,000
              
              
              20
              %
              
              $
              3,475,000
              
              $
              3,236,000
              
              $
              239,000
              
              
              7
              %Percentage
                  of total revenues
              
              
              7
              %
              
              7
              %
              
              
              
              
              
              
              
              
              7
              %
              
              8
              %




Research
      and development expenses consist of personnel costs (including salaries,
      benefits and share-based compensation expense), consulting expenses and
      materials and related expenses associated with the development of new tests
      and
      test methods, product improvements and enhancement of existing products and
      clinical trials.




*Three
      and Six Months Ended September 30, 2007 Compared to Three and Six Months Ended
      September 30, 2006*




The
      increase in research and development expenses during the three and six months
      ended September 30, 2007, as compared to the three and six months ended
      September 30, 2006, was primarily due to new product development and enhancement
      of existing products and clinical trials. Research and development expenses
      are
      based on the project activities planned and the level of spending depend on
      budgeted expenditures. The projects primarily relate to new product development
      in both the medical and veterinary markets and costs related to compliance
      with
      FDA regulations and clinical trials. Share-based compensation expense was
      $36,000 and $31,000 during the three months ended September 30, 2007 and 2006,
      respectively, and was $71,000 and $58,000 during the six months ended September
      30, 2007 and 2006, respectively.




We
      anticipate the dollar amount of research and development expenses to increase
      in
      fiscal 2008 from fiscal 2007 but remain consistent as a percentage of total
      revenues, as we complete new products for both the medical and veterinary
      markets. There can be no assurance, however, that we will undertake such
      research and development activities in future periods or, if we do, that such
      activities will be successful.








24




Sales
      and Marketing




The
      following sets forth, for the periods indicated, our sales and marketing
      expenses:




**Three
                  Months Ended**
                **September
                  30,**
              
              **Change**
              
              
              **Six
                  Months Ended**
                **September
                  30,**
              
              
              **Change****2007**
              
              
              **2006**
              
              
              **Increase/****(Decrease)**
              
              
              **Percent**
                **Change**
              
              
              **2007**
              
              
              **2006**
              
              
              **Increase/**
                **(Decrease)**
              
              
              **Percent**
                **Change**Sales
                  and marketing expenses
              
              $
              6,381,000
              
              $
              5,533,000
              
              $
              848,000
              
              
              15%
              
              $
              11,610,000
              
              $
              10,004,000
              
              $
              1,606,000
              
              
              16
              %Percentage
                  of total revenues
              
              
              25
              %
              
              26
              %
              
              
              
              
              
              
              
              24
              %
              
              24
              %




Sales
      and
      marketing expenses consist of personnel costs (including salaries, benefits
      and
      share-based compensation expense), commissions and travel-related expenses
      for
      personnel engaged in selling, costs associated with advertising, lead
      generation, marketing programs, trade shows, and services related to customer
      and technical support.




*Three
      and Six Months Ended September 30, 2007 Compared to Three and Six Months Ended
      September 30, 2006*




The
      increase in sales and marketing expenses during the three and six months ended
      September 30, 2007, as compared to the three and six months ended September
      30,
      2006, was primarily due to personnel-related costs resulting from an increase
      in
      headcount in various divisions including sales and marketing, customer service
      and technical service, to support the growth in both our medical and veterinary
      markets. Share-based compensation expense was $88,000 and $76,000 during the
      three months ended September 30, 2007 and 2006, respectively, and was $168,000
      and $153,000 during the six months ended September 30, 2007 and 2006,
      respectively.




**General
      and Administrative**




The
      following sets forth, for the periods indicated, our general
      and administrative expenses:


**Three
                  Months Ended**
                **September
                  30,**
              
              **Change**
              
              
              **Six
                  Months Ended**
                **September
                  30,**
              
              
              **Change****2007**
              
              
              **2006**
              
              
              **Increase/**
                **(Decrease)**
              
              
              **Percent****Change**
              
              
              **2007**
              
              
              **2006**
              
              
              **Increase/**
                **(Decrease)**
              
              
              **Percent**
                **Change**General
                  and administrative expenses
              
              $
              1,538,000
              
              $
              1,386,000
              
              $
              152,000
              
              
              11%
              
              $
              3,189,000
              
              $
              2,970,000
              
              $
              219,000
              
              
              7
              %Percentage
                  of total revenues
              
              
              6
              %
              
              7
              %
              
              
              
              
              
              
              
              7
              %
              
              7
              %




General
      and administrative expenses consist of personnel costs (including salaries, benefits and share-based compensation expense), and
      expenses for outside professional services related to general corporate
      functions, including accounting, human resources and legal.




*Three
      and Six Months Ended September 30, 2007 Compared to Three and Six Months Ended
      September 30, 2006*




The
      increase in general and administrative expenses during the three and six months
      ended September 30, 2007, as compared to the three and six months ended
      September 30, 2006, was primarily due to an increase in personnel-related costs,
      which includes share-based compensation expense. Share-based compensation
      expense was $130,000 and $84,000 during the three months ended September 30,
      2007 and 2006, respectively, and was $252,000 and $150,000 during the six months
      ended September 30, 2007 and 2006, respectively.




**Interest
      and Other Income (Expense), Net**




The
      following sets forth, for the periods indicated, our interest and other income
      (expense), net:




**Three
                  Months Ended**
                **September
                  30,**
              
              
              **Change**
              
              
              **Six
                  Months Ended**
                **September
                  30,**
              
              
              **Change****2007**
              
              
              **2006**
              
              
              **Increase/**
                **(Decrease)**
              
              
              **Percent**Change
              
              
              **2007**
              
              
              **2006**
              
              
              **Increase/**
                **(Decrease)**
              
              
              **Percent**
                **Change**Interest
                  and other income (expense), net
              
              $
              529,000
              
              $
              367,000
              
              $
              162,000
              
              
              44%
              
              $
              1,028,000
              
              $
              703,000
              
              $
              325,000
              
              
              46
              %




Interest
      and other income (expense), net, consists primarily of interest income earned
      on
      cash, cash equivalents and short-term investments.




*Three
      and Six Months Ended September 30, 2007 Compared to Three and Six Months Ended
      September 30, 2006*




The
      increase in interest and other income (expense), net, during the three and
      six
      months ended September 30, 2007, as compared to the three and six months ended
      September 30, 2006, was primarily attributed to interest income in our
      investment portfolio resulting from higher average invested balances compared
      to
      the same periods in fiscal 2007.




25




**Income
      Tax Provision**




The
      following sets forth, for the periods indicated, our income tax
      provision:




**Three
                  Months Ended**
                **September
                  30,**
              
              
              **Six
                  Months Ended**
                **September
                  30,****2007**
              
              
              **2006**
              
              
              **2007**
              
              
              **2006**Income
                  tax provision
              
              $
              1,757,000
              
              $
              1,373,000
              
              $
              3,641,000
              
              $
              2,973,000Effective
                  tax rate
              
              
              38
              %
              
              39
              %
              
              38
              %
              
              40
              %




*Three
      and Six Months Ended September 30, 2007 Compared to Three and Six Months Ended
      September 30, 2006*




The
      decrease in the effective tax rate for the three and six months ended September 30,
      2007,
      as compared to the three and six months ended September 30,
      2006,
      was primarily due to tax benefits resulting from (a) federal research and
      development tax credits, which temporarily expired in the three
      and six months ended September 30, 2006 ,
      and (b)
      a change in our investment portfolio.




We
      adopted the provisions of FASB Interpretation No. 48, “Accounting for
      Uncertainty in Income Taxes” (“FIN No. 48”) on April 1, 2007. As a result of
      implementing FIN No. 48, we did not change the amount of unrecognized tax
      benefits related to tax positions taken in prior periods. We did not have any
      unrecognized tax benefits as of April 1, 2007, the date of adoption, or as
      of September 30,
      2007. Our policy to include interest and penalties related to gross unrecognized
      tax benefits within our provision for income taxes did not change. During the
      three and six months ended September 30,
      2007, we did not recognize any interest and penalties related to unrecognized
      tax benefits.




**LIQUIDITY
      AND CAPITAL RESOURCES**




Total
      cash, cash equivalents and short-term investments at September 30, 2007 and
      March 31, 2007 were as follows:




**September
                  30,**
              
              
              **March
                  31,****2007**
              
              
              **2007**Cash
                  and cash equivalents
              
              $
              10,820,000
              
              $
              10,183,000Short-term
                  investments
              
              
              40,911,000
              
              
              35,028,000Total
                  cash, cash equivalents and short-term investments
              
              $
              51,731,000
              
              $
              45,211,000Percentage
                  of total assets
              
              
              47
              %
              
              44
              %




**Cash
      Flow Changes**




Cash
      provided (used) in the six months ended September 30, 2007 and 2006 were as
      follows:




**Six
                  Months Ended**
                **September
                  30,****2007**
              
              
              **2006**Net
                  cash provided by operating activities
              
              $
              6,546,000
              
              $
              8,131,000Net
                  cash used in investing activities
              
              
              (7,563,000
              )
              
              (8,014,000
              )Net
                  cash provided by financing activities
              
              
              1,654,000
              
              
              2,946,000Net
                  increase in cash and cash equivalents
              
              $
              637,000
              
              $
              3,063,000




At
      September 30, 2007, we had net working capital of $81,530,000 compared to
      $74,517,000 at March 31, 2007. Cash and cash equivalents at September 30, 2007
      were $10,820,000, compared to $10,183,000, at March 31, 2007. The increase
      in
      cash and cash equivalents was primarily due to proceeds from maturities of
      short-term investments and proceeds from exercises of stock options, partially
      offset by purchases of short-term investments and purchases of property and
      equipment.




**Operating
      Activities**




During
      the six months ended September 30,
      2007,
      we generated $6,546,000 in cash from operating activities. The cash provided
      by
      operating activities during the six months ended September 30,
      2007
      was primarily the result of net income of $5,986,000, adjusted for the effects
      of non-cash adjustments including depreciation and amortization of $1,656,000
      and share-based compensation expense of $546,000, partially offset by a decrease
      of $138,000 related to excess tax benefits from share-based awards and a
      decrease in net deferred tax assets of $3,128,000.




Our
      net
      trade receivables increased by $2,417,000, from $16,929,000 at March 31, 2007
      to
      $19,346,000 as of September 30,
      2007,
      primarily due to higher sales in the last month of the quarter ended September
      30, 2007. Net inventories increased by $1,099,000, from $14,813,000 at March
      31,
      2007 to $15,912,000 as of September 30,
      2007,
      primarily due to instrument manufacturing problems associated with new chemistry
      analyzers. Prepaid expenses decreased by $363,000, from $1,321,000 at March
      31,
      2007 to $958,000 as of September 30,
      2007,
      primarily due to the timing of payments. Current net deferred tax asset
      decreased by $3,128,000, from $8,979,000 at March 31, 2007 to $5,851,000 as
      of September 30,
      2007,
      primarily as a result of the utilization of federal net operating loss
      carryforwards and California research and development tax credit carryforwards
      during the six months ended September 30, 2007.




26




Accounts
      payable decreased by $1,254,000, from $6,505,000 at March 31, 2007 to $5,251,000
      as of September 30,
      2007,
      primarily due to the timing and payment of services and inventory purchases.
      Accrued payroll and related expenses increased by $332,000, from $3,830,000
      at
      March 31, 2007 to $4,162,000 as of September 30,
      2007,
      primarily due to an increase in personnel costs resulting from an increase
      in
      headcount during the six months ended September 30, 2007. Total warranty
      reserves increased by $447,000, resulting from an increase in the current
      portion of warranty reserves of $633,000, from $315,000 at March 31, 2007 to
      $948,000 as of September 30,
      2007,
      partially offset by a decrease in the non-current portion of warranty reserves
      of $186,000, from $532,000 at March 31, 2007 to $346,000 as of September 30,
      2007.
      The net change in warranty reserves is based on (a) the number of instruments
      in
      standard warranty and estimated repair costs and (b) an estimate of defective
      reagent discs and replacement costs. Total deferred revenue decreased by
      $166,000, resulting from a decrease in the current portion of deferred revenue
      of $106,000, from $917,000 at March 31, 2007 to $811,000 as of September 30,
      2007,
      and a decrease in the non-current portion of deferred revenue of $60,000, from
      $1,244,000 at March 31, 2007 to $1,184,000 as of September 30,
      2007,
      primarily due to the amortization of maintenance contracts offered to customers
      from time to time as incentives in the form of free goods in connection with
      the
      sale of our products.




We
      anticipate that we will incur incremental additional costs to support our future
      operations, including further additional pre-clinical testing and clinical
      trials for our current and future products; research and design costs related
      to
      the continuing development of our current and future products; and acquisition
      of capital equipment for our manufacturing facility, which includes the ongoing
      costs related to the continuing development of our current and future
      products.




**Investing
      Activities**




Net
      cash
      used in investing activities during the six months ended September 30, 2007
      totaled $7,563,000. This was  attributed
      to our short-term investments and property and equipment, as described below:




**Short-term
      Investments.** Cash
      used to purchase short-term investments, consisting of corporate debt securities
      and auction rate securities, totaled $33,751,000 during the six months ended September 30,
      2007.
      Cash provided by proceeds from maturities of short-term investments totaled
      $27,868,000 during the six months
      ended September 30,
      2007.




**Property
      and Equipment** **.** Cash
      used to purchase property and equipment totaled $1,680,000 during the six months
      ended September 30, 2007, primarily to support (a) new product introduction
      and
      (b) more efficient production lines. We anticipate that we will continue to
      purchase property and equipment necessary in the normal course of our
      business.




**Financing
      Activities**




Net
      cash
      provided by financing activities during the six months
      ended September 30, 2007 totaled $1,654,000, primarily consisting of $1,625,000
      from proceeds from stock options exercises and $ 138,000
      from excess tax benefits from share-based awards ,
      partially offset by $109,000 from payment of income withholding taxes due upon
      vesting of restricted stock units.




**Line
      of Credit**




We
      have a
      line of credit with Comerica Bank-California which provides for borrowings
      of up
      to $2,000,000. The line of credit terminates upon notification by either party
      and any outstanding balance is payable upon demand. The line of credit bears
      interest at the bank’s prime rate minus 0.25%, which totaled 7.50% at September 30,
      2007,
      and is payable monthly. Of the $2,000,000 available, $410,000 was committed
      to
      secure a letter of credit for our facilities lease at September 30,
      2007.
      At  September 30,
      200 7,
      there
      was no amount outstanding under our line of credit. The weighted average
      interest rates on the line of credit during the three months ended September 30,
      2007
      and 2006 were 7.93% and 8.00%, respectively.




The
      line
      of credit agreement contains certain financial covenants, which are evaluated
      on
      a quarterly basis. At September 30,
      2007,
      we were in compliance with each of these covenants. Included in these financial
      covenants, among other stipulations, are the following
      requirements:




·
            We
                must have a minimum net income of $25,000 before preferred stock
                dividends
                and accretion on preferred stock in any three quarters of a fiscal
                year,
                provided that any loss before preferred stock dividends and accretion
                on
                preferred stock incurred in the remaining quarter is not to exceed
                $250,000.




·
            We
                are required to be profitable, as defined, on a fiscal year to date
                basis
                beginning with the six month period ended September 30, 2007 and
                to have
                net income before preferred stock dividends and accretion on preferred
                stock of at least $1,150,000 for the fiscal year ending March 31,
                2008.




·
            We
                are required to comply with certain financial covenants as
                follows:




27




**Financial
                Covenants**
            **Requirements**Quick
                ratio, as defined
            Not
                less than 2.00 to 1.00Cash
                flow coverage, as defined
            Not
                less than 1.25 to 1.00Debt
                to net worth ratio, as defined
            Not
                greater than 1.00 to 1.00Tangible
                effective net worth, as defined
            Not
                less than $25,731,000




Borrowings
      under the line of credit are collateralized by our net book value of assets
      of
      $96.0 million at September 30,
      2007,
      including our intellectual property.




**Purchase
      Commitments**




A
      discussion of our amended  original
      equipment manufacturing agreement with Diatron Messtechnik GmbH is
      included in the Notes to the Unaudited Condensed Financial
      Statements.




**Contingencies**




We
      are
      involved from time to time in various litigation matters in the normal course
      of
      business. While the outcome of these proceedings and claims cannot be predicted
      with certainty, we do not believe that the ultimate resolution of these matters
      will have a material effect on our financial position or results of
      operations.




**Off-Balance
      Sheet Arrangements**




We
      have
      no off-balance sheet arrangements.




**Financial
      Condition**




We
      anticipate that our existing capital resources, available line of credit and
      anticipated revenue from the sales of our products will be adequate to satisfy
      our currently planned operating and financial requirements through at least
      the
      next 12 months. Our future capital requirements will largely depend upon the
      increased market acceptance of our point-of-care blood analyzer products.
      However, our sales for any future periods are not predictable with a significant
      degree of certainty. Regardless, we may seek to raise additional funds to pursue
      strategic opportunities.




**RECENT
      ACCOUNTING PRONOUNCEMENTS**




A
      discussion of recent accounting pronouncements is included in Note 2 of the
      Notes to the Unaudited Condensed Financial Statements.




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




**Interest
      Rate Risk**




We
      are
      exposed to the impact of interest rate changes with respect to our short-term
      investments and line of credit.




We
      invest
      excess cash in cash equivalents and in various types of short-term investments.
      Our investment objective is to maximize yields without significantly increased
      risk. At September 30, 2007, our short-term investments totaled $40,911,000,
      and
      there were no unrealized gains. The short-term investments consisted of auction
      rate securities and corporate debt securities. Although auction rate securities
      may have maturities beyond one year, these securities were classified as
      short-term, based on their highly liquid nature and due to the frequency with
      which the interest rate is reset; accordingly we have the ability to quickly
      liquidate these securities. In addition, we have the ability to hold the
      corporate debt securities until maturity and therefore, we believe
      we have no material exposure to interest rate risk .
      A
      sensitivity analysis assuming a hypothetical 10% movement in interest rates
      applied to our investment balances at September 30, 2007 indicated that such
      market movement would not have a material effect on our business, operating
      results or financial condition. We have not experienced any significant losses
      on our investment portfolio.




For
      our
      line of credit, which provides for borrowings of up to $2,000,000, the interest
      rate is equal to the bank’s prime rate minus 0.25%, which totaled 7.50% at
      September 30, 2007. Consequently, an increase in the prime rate would expose
      us
      to higher interest expenses. A sensitivity analysis assuming a hypothetical
      10%
      movement in the prime rate applied to our line of credit balance at September
      30, 2007 indicated that such market movement would not have a material effect
      on
      our business, operating results or financial condition, as there was no amount
      outstanding on our line of credit at September 30, 2007.




As
      a
      matter of management policy, we do not currently enter into transactions
      involving derivative financial instruments. In the event we do enter into such
      transactions in the future, such items will be accounted for in accordance
      with
      Statement of Financial Accounting Standards No. 133, “Accounting for Derivative
      Instruments and Hedging Activities.”




28




**Foreign
      Currency Rate Fluctuations**




We
      operate primarily in the United States and a majority of our revenues, cost
      of
      revenues, operating expenses and capital purchasing activities during the first
      two quarters of fiscal 2008 were transacted in U.S. dollars. However, we are
      exposed to foreign currency exchange rate fluctuations on the hematology
      instruments and hematology reagent kits purchased from Diatron, which are
      denominated in Euros. Additionally, operations from our Germany sales office
      are
      stated in Euros and translated into U.S. dollars at the period-end exchange
      rates. Although there was no material effect on our business, operating results
      or financial condition related to foreign currency rate fluctuations during
      the
      first two quarters of fiscal 2008, we cannot predict with certainty the effect
      of exchange rate fluctuations on our future operating results or financial
      condition.




Other
      than the foregoing, there have been no material changes in our market risk
      during the first two quarters of fiscal 2008 compared to the disclosures in Part
      II, Item 7A of our Annual Report on Form 10-K for the fiscal year ended March
      31, 2007.




**Item
      4. Controls and Procedures**




**Evaluation
      of Disclosure Controls and Procedures**




Based
      on
      our management’s evaluation, with the participation of our principal executive
      officer and principal financial officer, as of the end of the period covered
      by
      this report, our principal executive officer and principal financial officer
      have concluded that our disclosure controls and procedures, (which are defined
      under SEC rules as controls and other procedures of a company that are designed
      to ensure that information required to be disclosed by a company in the reports
      that it files under the Securities Exchange Act of 1934, as amended, (the
“Exchange Act”) is recorded, processed, summarized and reported within required
      time periods), were effective.




**Changes
      in Internal Control over Financial Reporting**




During
      the quarter ended September 30,
      2007, there was no change in our internal control over financial reporting
      that
      has materially affected, or is reasonably likely to materially affect, our
      internal control over financial reporting.




**Inherent
      Limitations on Controls and Procedures**




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.
      Because of its inherent limitations, internal control over financial reporting
      may not prevent or detect misstatements. Also, projections of any evaluation
      of
      effectiveness to future periods are subject to the risks that controls may
      become inadequate because of changes in conditions, or that the degree of
      compliance with the policies or procedures may deteriorate. Accordingly, even
      an
      effective system of internal control will provide only reasonable assurance
      that
      the objectives of the internal control system are met.






**PART
      II - OTHER INFORMATION**




**Item
      1. Legal Proceedings**




We
      are
      involved from time to time in various litigation matters in the normal course
      of
      business. We do not believe that the ultimate resolution of these matters will
      have a material effect on our financial position or results of operations.




**Item
      1A. Risk Factors**




**RISK
      FACTORS THAT MAY AFFECT OUR PERFORMANCE**




Our
      future performance is subject to a number of risks. If any of the following
      risks actually occur, our business could be harmed and the trading price of
      our
      common stock could decline.




When
      used
      in these risk factors, the words “anticipates,” “believes,” “continue,” “could,”
“estimates,” “expects,” “future,” “intends,” “may,” “might,” “plans,”
“projects,” “will” and similar expressions identify forward-looking statements.
      Our actual results could differ materially from those that we project in the
      forward-looking statements as a result of factors that we have set forth
      throughout this document as well as factors of which we are currently not aware.




In
      evaluating our business, you should carefully consider the following risks
      in
      addition to the other information in our Annual Report on Form 10-K for the
      fiscal year ended March 31, 2007 as filed with the Securities and Exchange
      Commission on June 14, 2007 .
      We note
      these factors for investors as permitted by the Private Securities Litigation
      Reform Act of 1995. It is not possible to predict or identify all such factors
      and, therefore, you should not consider any of the risks to be a complete
      statement of all the potential risks or uncertainties that we face.




29




***We
      are not able to predict sales in future quarters and a number of factors affect
      our periodic results, which makes our quarterly operating results less
      predictable.***




We
      are
      not able to accurately predict our sales in future quarters. Our revenue in
      the
      medical and veterinary markets is derived primarily by selling to distributors
      who resell our products to the ultimate user. While we are better able to
      predict sales of our reagent discs, as we sell these discs primarily for use
      with blood chemistry analyzers that we sold in prior periods, we generally
      are
      unable to predict with much certainty sales of our blood chemistry analyzers,
      as
      we typically sell our blood chemistry analyzers to new users. Accordingly,
      our
      sales in any one quarter are not indicative of our sales in any future
      period.




We
      generally operate with a limited order backlog, because we ship our products
      shortly after we receive the orders from our customers. As a result, our product
      sales in any quarter are generally dependent on orders that we receive and
      ship
      in that quarter. We base our expense levels, which are to a large extent fixed,
      in part on our expectations as to future revenues. We may be unable to reduce
      our spending in a timely manner to compensate for any unexpected revenue
      shortfall. As a result, any such shortfall would immediately materially and
      adversely impact our operating results and financial condition.




The
      sales
      cycle for our products can fluctuate, which may cause revenue and operating
      results to vary significantly from period to period. We believe the fluctuation
      is due to (i) seasonal patterns in the decision making processes by our
      independent distributors and direct customers and also (ii) on
      the
      purchasing requirements of the U.S. Military to acquire our products. Accordingly,
      we believe that period to period comparisons of our results of operations are
      not necessarily meaningful.




In
      the
      future, our periodic operating results may vary significantly depending on,
      but
      not limited to, a number of factors, including:




·  new
      product announcements made by us or our competitors;




·  changes
      in our pricing structures or the pricing structures of our
      competitors;




·  our
      ability to develop, introduce and market new products on a timely
      basis;




·  our
      manufacturing capacities and our ability to increase the scale of these
      capacities;




·  the
      mix
      of product sales between our blood chemistry analyzers and our reagent disc
      products;




·  the
      amount we spend on research and development; and




·  changes
      in our strategy.




***We
      could fail to achieve anticipated revenue if the market does not accept our
      products.***




Our
      core
      compact blood chemistry analyzer product differs substantially from current
      blood chemistry analyzers on the market. Our primary competition is from
      centralized laboratories that offer a greater number of tests than our products,
      but do so at a greater overall cost and require more time. We also compete
      with
      other point-of-care analyzers that cost more, require more maintenance and
      offer
      a narrower range of tests. However, these point-of-care analyzers are generally
      marketed by larger companies which have greater resources for sales and
      marketing, in addition to a recognized brand name and established distribution
      relationships.




Historically,
      we have marketed our VetScan systems through both direct sales and distribution
      channels to veterinarians. Although we believe that in our targeted markets,
      our
      reagent disc products provide a sufficient breadth of test menus, we continue
      to
      develop new animal blood tests and we cannot be assured that the tests will
      be
      accepted by the veterinary market.




In
      the
      human medical market, we have relatively limited experience in large scale
      sales
      of our Piccolo blood chemistry analyzer. Although we believe that our blood
      chemistry analyzers offer consumers many advantages, including according to
      our
      analyses substantial cost savings, in terms of the actual product and
      implementation of it procedurally, these advantages involve changes to current
      standard practices, such as using large clinical laboratories that will require
      changes in both the procedures and mindset of care providers. The human medical
      market in particular is highly regulated, structured, difficult to penetrate
      and
      often slow to adopt new product offerings. If we are unable to convince large
      numbers of medical clinics, hospitals and other point-of-care environments
      of
      the benefits of our products, we will suffer lost sales and could fail to
      achieve anticipated revenue.




30




***We
      could fail to achieve anticipated revenue if problems related to the manufacture
      of our new blood chemistry analyzers are not
      resolved.***




We
      manufacture our blood chemistry analyzers at our manufacturing facility in
      Union
      City, California. We are currently experiencing problems related to the
      manufacture of our new blood chemistry analyzer, which are primarily related
      to
      certain key components that we purchase from various suppliers. These
      manufacturing problems may be potentially related to quality on key components
      from our suppliers or to design issues of the key components required in our
      blood analyzer. If we are unable to resolve these manufacturing problems on
      our
      new blood chemistry analyzer, we will not be able to manufacture sufficient
      quantities to meet anticipated demand and, therefore, will not be able to
      effectively market and sell our new blood chemistry analyzer; accordingly,
      our
      revenue and business would be materially adversely affected.




***We
      rely on patents and other proprietary information, the loss of any would
      negatively affect our business.***




As
      of
      September 30, 2007, 35 patent applications have been filed on our behalf with
      the United States Patent and Trademark Office (“USPTO”), of which 30 patents
      have been issued. Additionally, we have filed several international patent
      applications covering the same subject matter as our domestic applications.
      The
      patent position of any medical device manufacturer, including us, is uncertain
      and may involve complex legal and factual issues. Consequently, we may not
      be
      issued any additional patents, either domestically or internationally.
      Furthermore, our patents may not provide significant proprietary protection
      because there is a chance that they will be circumvented or invalidated. We
      cannot be certain that we were the first creator of the inventions covered
      by
      our issued patents or pending patent applications, or that we were the first
      to
      file patent applications for these inventions, because (1) the USPTO maintains
      all patent applications that are not filed in any foreign jurisdictions in
      secrecy until it issues the patents (unless a patent application owner files
      a
      request for publication) and (2) publications of discoveries in the scientific
      or patent literature tend to lag behind actual discoveries by several months.
      We
      may have to participate in interference proceedings, which are proceedings
      in
      front of the USPTO, to determine who will be issued a patent. These proceedings
      could be costly and could be decided against us.




We
      also
      rely upon copyrights, trademarks and unpatented trade secrets. Others may
      independently develop substantially equivalent proprietary information and
      techniques that would undermine our proprietary technologies. Further, others
      may gain access to our trade secrets or disclose such technology. Although
      we
      require our employees, consultants and advisors to execute agreements that
      require that our corporate information be kept confidential and that any
      inventions by these individuals are property of Abaxis, there can be no
      assurance that these agreements will provide meaningful protection or adequate
      remedies for our trade secrets in the event of unauthorized use or disclosure
      of
      such information. The unauthorized dissemination of our confidential information
      would negatively impact our business .




***We
      must continue to develop our marketing and distribution experience in the human
      diagnostic market or our business will not grow.***




Although
      we have gained experience marketing our VetScan products in the veterinary
      diagnostic market, we have limited sales, marketing and distribution experience
      with our Piccolo chemistry analyzers in the human diagnostic market.
      Accordingly, we cannot assure you that:




·
            we
                will be able to establish and maintain effective distribution arrangements
                in the humandiagnosticmarket;




·
            any
                distribution arrangements that we are able to establish will be successful
                in marketing our products; or




·
            the
                costs associated with marketing and distributing our products will
                not be
                excessive.




Should
      we
      fail to effectively develop our marketing and distribution efforts, our growth
      will be limited and our results of operations will be adversely
      affected.




***We
      have only recently become profitable on a consistent basis and we must increase
      sales of our Piccolo and VetScan products or we may not be able to maintain
      profitability.***




We
      have
      not recognized a net loss attributable to common shareholders in the last 12
      fiscal quarters ended September 30, 2007. However, as of September 30, 2007,
      we
      had cumulative net losses of $9.5 million. Our ability to be consistently
      profitable will depend, in part, on our ability to increase our sales volumes
      of
      our Piccolo and VetScan products. Increasing the sales volume of our products
      will depend upon, among other things, our ability to:




·  continue
      to develop our products;




·  increase
      our sales and marketing activities;




·  effectively
      manage our manufacturing activities; and




·  effectively
      compete against current and future competitors.




We
      cannot
      assure you that we will be able to successfully increase our sales volumes
      of
      our products to achieve sustained profitability.




31




***We
      may inadvertently produce defective products, which may subject us to
      significant warranty liabilities or product liability claims and we may have
      insufficient product liability insurance to pay material uninsured
      claims.***




Our
      business exposes us to potential warranty and product liability risks which
      are
      inherent in the testing, manufacturing and marketing of human and veterinary
      medical products. We strive to apply sophisticated methods to raw materials
      and
      produce defect-free medical test equipment. Although we have established
      procedures for quality control on both the raw materials that we receive from
      suppliers and our manufactured final products, these procedures may prove
      inadequate to detect a defect that either occurs in limited quantities or that
      we have not anticipated. Our Piccolo and VetScan chemistry analyzers may be
      unable to detect all errors which could result in the misdiagnosis of human
      or
      veterinary patients.




Should
      we
      inadvertently ship defective products, we may be subject to substantial claims
      under our warranty policy or product liability law. In addition, our policy
      is
      to credit medical providers for any defective product that we produce, including
      those reagent discs that are rejected by our Piccolo and VetScan chemistry
      analyzers. Therefore, even if a mass defect within a lot or lots of reagent
      discs were detected by our Piccolo and VetScan chemistry analyzers, our need
      to
      replace such reagent discs free of charge would materially harm our financial
      condition. Further, in the event that a product defect is not detected by our Piccolo chemistry
      analyzer, our relatively recent expansion into the human medical market greatly
      increases the risk that the amount of damages involved with just one product
      defect would be material to our operations. We currently maintain limited
      product liability insurance that we believe is adequate for our needs, taking
      into account the risks involved and cost of coverage. However, our product
      liability insurance and cash may be insufficient to cover potential liabilities.
      In addition, in the future the coverage that we require may be unavailable
      on
      commercially reasonable terms, if at all. Even with our current insurance
      coverage, a mass product defect, product liability claim or recall would
      materially adversely affect our business or our financial
      condition.




***Many
      of our sales force have been employed by us for less than one year and we must
      effectively train and integrate our sales team in order to achieve our
      anticipated revenue or expand our business.***




As
      of
      September 30, 2007, we have 69 full-time sales personnel directly involved
      in
      our sales and marketing activities, many of whom have been employed by us for
      a
      limited period of time. If we are to increase our direct sales, we will need
      to
      train new sales personnel and supervise them closely. We also will continue
      hiring additional sales personnel. If we are unable to retain our existing
      personnel, or attract and train additional qualified personnel, our growth
      may
      be limited due to our lack of resources to market our products.




***We
      need to successfully manufacture and market additional reagent discs for the
      human diagnostic market if we are to compete in that
      market.***




We
      have
      developed a blood analysis system that consists of a portable blood analyzer
      and
      single-use reagent discs. Each reagent disc performs a series of standard blood
      tests. We believe that it is necessary to develop additional series of reagent
      discs with various tests for use with the Piccolo and VetScan chemistry
      analyzers. Historically, we have developed reagent discs suitable for the human
      medical and veterinary diagnostic markets. We have received 510(k) clearances
      from the U.S. Food and Drug Administration (“FDA”) for 25 test methods in the
      human medical market. These tests are included in standard tests for which
      the
      medical community receives reimbursements from third-party payors such as HMOs
      and Medicare. We may not be able to successfully manufacture or market these
      reagent discs. Our failure to meet these challenges will materially adversely
      affect our operating results and financial condition.




***We
      rely on distributors to sell our products and we rely on sole distributor
      arrangements in a number of countries. Our failure to successfully maintain
      these relationships could adversely affect our ability to*** ***achieve
      our anticipated revenue or expand our business*** ***.***




We
      sell
      our medical and veterinary products primarily through distributors. As a result,
      we are dependent upon these distributors to sell our products and to assist
      us
      in promoting and creating a demand for our products. We operate on a purchase
      order basis with the distributors and the distributors are under no contractual
      obligation to continue carrying our products. Further, many of our distributors
      may carry our competitors’ products, and may promote our competitors’ products
      over our own products. One distributor, DVM Resources, accounted for 13% and
      16%
      of our total worldwide revenues for the three months ended September 30, 2007
      and 2006, respectively, and for 14% and 16% of our total worldwide revenues
      for
      the six months ended September 30, 2007
      and 2006, respectively.




32




We
      have a
      number of distributors in the United States who distribute our VetScan products.
      While we continue to enter into arrangements with veterinary distributors,
      we
      have also terminated our distribution relationships with the veterinary division
      of Henry Schein in May 2006. While we have in the past, and expect to in the
      future, support
      those customers who were previously supplied products by Henry Schein through
      our current distributor base and direct service, the loss of these or other
      distributors may negatively affect our future revenues. Accordingly,
      if one or more of our distributors were to stop selling our products in the
      future, we may experience a sharp decline in our sales revenue or we may
      experience a delay in our sales revenue.




In
      the
      United States medical market, we have a few distributors for our Piccolo
      products. We entered into formal distribution agreements with McKesson
      Medical-Surgical Inc. in our first quarter of fiscal 2008, Cardinal Health
      in
      our fourth quarter of fiscal 2007, Henry Schein’s Medical Group in our first
      quarter of fiscal 2007 and PSS World Medical, Inc. in our third quarter of
      fiscal 2006, to sell and market Piccolo chemistry analyzers and the medical
      reagent discs. We depend on these distributors to assist us in promoting market
      acceptance of our Piccolo chemistry analyzers.




Internationally,
      we have a few distributors for our products in both the medical and veterinary
      diagnostic markets, which includes one distributor in Japan who received
      clearance in September 2005 from the Japanese regulatory agency to import and
      market our complete line of medical reagent discs, the Piccolo chemistry
      analyzer, as well as all veterinary reagent discs, the VetScan systems, with
      the
      exception of those products containing the Bile Acid assay. In July 2006, we
      received registration from TÜV SÜD Japan Ltd. for our Bile Acid assay and we
      also received approval from the Ministry of Agriculture in Japan to market
      and
      sell our new products, the VetScan VS2 and Piccolo xpress in
      Japan.
      In the first quarter of fiscal 2008, although we have terminated our distributor
      arrangement with our partner in Japan, our distributor in Japan will continue
      to
      service Abaxis products for a limited period until we secure a new
      distributor.




We
      currently have distributors that carry either our medical or veterinary products
      in the following countries: Australia, Austria, Bahrain, Belgium, Canada,
      Denmark, France, Germany, Hong Kong, Ireland, Israel, Italy, Japan, Korea,
      Macao, the Netherlands, New Zealand, Portugal, Romania ,
      Russia,
      Singapore, South Africa, Spain, Sweden, Switzerland, Turkey, United Arab
      Emirates, the United Kingdom and the United States. Our distributor in each
      of
      these countries is responsible for obtaining the necessary approvals to sell
      our
      new and existing products. These distributors may not be successful in obtaining
      proper approvals for our new and existing products in their respective
      countries, and they may not be successful in marketing our products. We plan
      to
      continue to enter into additional distributor relationships to expand our
      international distribution base and solidify our international presence.
      However, we may not be successful in entering into additional distributor
      relationships. Our distributors may terminate their relationship with us at
      any
      time. Historically, we have experienced a turnover among our international
      distributors. This high degree of turnover makes it difficult for us to
      establish a steady distribution network overseas. Consequently, we may not
      be
      successful in marketing our Piccolo and VetScan products
      internationally.




***We
      depend on sole suppliers for several key components in our products, many of
      whom we have not entered into contractual relationships with and failure of
      our
      suppliers to provide the materials to us could harm our
      business.***




We
      use
      several key components that are currently available from limited or sole sources
      as discussed below:




·
            **Reagent
                Discs:**Two
                injection molding manufacturers, C. Brewer & Co. and Nypro, Inc.,
                currently make the molded plastic discs which, when loaded with reagents
                and welded together, form our reagent disc products. We believe that
                only
                a few manufacturers are capable of producing these discs to the narrow
                tolerances that we require. To date, we have only qualified these
                two
                manufacturers to manufacture the molded plastic discs.




·
            **Reagent
                Chemicals:**We
                currently depend on the following single source vendors for some
                of the
                chemicals that we use to produce the dry reagent chemistry beads
                that are
                either inserted in our reagent discs or sold as a stand-alone product:
                Amano Enzyme USA Co., Ltd., Genzyme Corporation, Kikkoman Corporation
                Biochemical Division, Microgenics Corporation, Roche Molecular
                Biochemicals of Roche Diagnostics Corporation, a division of F.
                Hoffmann-La Roche, Ltd., Shinko American Inc. and Sigma Aldrich Inc.




·
            **Blood
                Analyzer Components:**Our analyzer products use several technologically advanced components
                that
                we currently purchase from the following single source vendors:
                PerkinElmer, Inc. and UDT Sensors. Our analyzers use a printer that
                is
                only made by Seiko North America Corporation. The loss of the supply
                of
                any of these components could force us to redesign our analyzers.




·
            **Hematology
                Instruments and Reagents:**Our hematology instruments are manufactured by Diatron in Hungary
                and is
                purchased by us as a completed instrument. To date, we have qualified
                three suppliers to produce the reagents for our hematology instruments:
                Clinical Diagnostic Solutions, Inc., Diatron and Mallinckrodt Baker
                BV.




33




For
      our
      hematology instruments purchased from Diatron, we are subject to minimum
      purchase requirements through fiscal 2008. The terms of the minimum purchase
      requirements are more fully explained herein under the subheading “Notes to the
      Unaudited Condensed Financial Statements.” We operate on a purchase order basis
      with all of the suppliers of our molded plastic reagent discs, reagent chemicals
      and blood analyzer components and thus these suppliers are under no contractual
      obligation to supply us with their products or to do so at specified prices.
      Although we believe that there are potential alternate suppliers available
      for
      these critical components, to date we have not qualified additional vendors
      beyond those referenced above.




Because
      we are dependent on a limited number of suppliers and manufacturers for critical
      components to our products, we are particularly susceptible to any interruption
      in the supply of these products or the viability of our assembly arrangements.
      The loss of any one of these suppliers or a disruption in our manufacturing
      arrangements could materially adversely affect our business and financial
      condition.




***We
      are dependent upon our profitability, and if we cannot remain profitable we
      may
      need additional funding in the future and these funds may not be available
      to
      us.***




We
      believe that our existing capital resources, available line of credit and
      anticipated revenue from the sales of our products will be adequate to satisfy
      our currently planned operating and financial requirements through the next
      12
      months, although no assurances can be given. The terms of our line of credit
      contain a number of covenants concerning financial tests that we must meet,
      and
      these tests are more fully explained herein under the subheading “Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations . ”




Further,
      we expect to incur incremental additional costs to support our future
      operations, including:




·
            further
                commercialization of our products and development of new test methods
                to
                allow us to further penetrate the human diagnostic market and the
                veterinary diagnostic market;




·
            our
                need to acquire capital equipment for our manufacturing facilities,
                which
                includes the ongoing costs related to the continuing development
                of our
                current and future products;




·
            research
                and design costs related to the continuing development of our current
                and
                future products; and




·
            additional
                pre-clinical testing and clinical trials for our current and future
                products.




To
      the
      extent that our existing resources and anticipated revenue from the sale of
      our
      products are insufficient to fund our activities or if we are unable to meet
      the
      financial covenants of our line of credit, we may have to raise additional
      funds
      from the issuance of public or private securities. In the event that we cannot
      maintain compliance with these financial covenants, we may also be subject
      to
      increased interest rate expenses. We may not be able to raise additional
      funding, or if we are able to, we may not be able to raise funding on acceptable
      terms. We may also dilute then-existing shareholders if we raise additional
      funds by issuing new equity securities. Alternately, we may have to relinquish
      rights to certain of our technologies, products and/or sales territories if
      we
      are required to obtain funds through arrangements with collaborative partners.
      If we are unable to raise needed funds, we may be required to curtail our
      operations significantly. This would materially adversely affect our operating
      results and financial condition.




***We
      may not be able to compete effectively with larger, better established entities
      or their products, or with future organizations or future products, which could
      cause our sales to decline.***




Blood
      analysis is a well established field in which there are a number of competitors
      that have substantially greater financial resources and larger, more established
      marketing, sales and service organizations than we do. We compete with the
      following organizations:




·
            commercial clinical laboratories;




·
            hospitals’ clinical laboratories; and




·  manufacturers
      of bench top multi-test blood analyzers and other testing systems that health
      care providers can use “on-site.”




Historically,
      hospitals and commercial laboratories performed most human diagnostic testing,
      and commercial laboratories performed most veterinary medical testing. We have
      identified five principal factors that customers typically use to evaluate
      our
      products and those of our competitors. These factors include:




·
            range
                of tests offered;




·
            immediacy
                of results;




·
            cost
                effectiveness;




·
            ease
                of use; and




·
            reliability
                of results.




34




We
      believe that we compete effectively on each of these factors except for the
      range of tests offered. Clinical laboratories are effective at processing large
      panels of tests using skilled technicians and complex equipment. While our
      current offering of reagent discs cannot provide the same broad range of tests,
      we believe that in certain markets our products provide a sufficient breadth
      of
      test menus to compete successfully with clinical laboratories given the
      advantages of our products with respect to the other four factors. However,
      we
      cannot assure you that we will continue to be able to compete effectively on
      cost effectiveness, ease of use, immediacy of results or reliability of results.
      We also cannot assure you that we will ever be able to compete effectively
      on
      the basis of range of tests offered.




Competition
      in the human and veterinary diagnostic markets is intense. Our principal
      competitors in the human diagnostic market are Alfa Wassermann S.P.A., i-STAT
      Corporation (which was purchased by Abbott Laboratories), Johnson & Johnson
      (including its subsidiary, Ortho-Clinical Diagnostics, Inc.) and Polymedco.
      Our
      principal competitors in the veterinary diagnostic market are Idexx
      Laboratories, Inc. and Heska Corporation. Most of our competitors have
      significantly greater financial and other resources than we do. In particular,
      many of our competitors have large sales forces and well-established
      distribution channels. Consequently, we must develop our distribution channels
      and improve our direct sales force in order to compete in these
      markets.




***Changes
      in third-party payor reimbursement regulations can negatively affect our
      business.***




By
      regulating the maximum amount of reimbursement they will provide for blood
      testing services, third-party payors, such as HMOs, pay-per-service insurance
      plans, Medicare and Medicaid, can indirectly affect the pricing or the relative
      attractiveness of our human testing products. For example, the Centers for
      Medicare and Medicaid Services (the “CMS”) set the level of reimbursement of
      fees for blood testing services for Medicare beneficiaries. If third-party
      payors decrease the reimbursement amounts for blood testing services, it may
      decrease the amount that physicians and hospitals are able to charge patients
      for such services. Consequently, we will need to charge less for our products.
      If the government and third-party payors do not provide for adequate coverage
      and reimbursement levels to allow health care providers to use our products,
      the
      demand for our products will decrease.




***We
      are subject to numerous governmental regulations and any regulatory changes
      are
      difficult to predict and may be damaging to our
      business.***




**Need
      for FDA Certification for Our Medical Device Products**




Our
      Piccolo products are regulated under the 1976 Medical Device Amendments to
      the
      Food, Drug and Cosmetic Act, which is administered by the FDA. The FDA has
      classified our Piccolo products as “Class I” and “Class II” devices. These
      classifications require us to submit to the FDA a pre-market notification form
      or 510(k). The FDA uses the 510(k) to substantiate product claims that are
      made
      by medical device manufacturers prior to marketing. In our 510(k) notification,
      we must, among other things, establish that the product we plan to market is
      “substantially equivalent” to (1) a product that was on the market prior to the
      adoption of the 1976 Medical Device Amendment or (2) a product that the FDA
      has
      previously cleared under the 510(k) process.




The
      FDA
      review process of a 510(k) notification can last anywhere from three to six
      months, and the FDA must issue a written order finding “substantial equivalence”
before a company can market a medical device. As of September 30, 2007, we
      have
      received market clearance from the FDA for our Piccolo chemistry analyzer and
      25
      reagent tests that we have on 12 reagent discs. We are currently developing
      additional tests that the FDA will have to clear through the 510(k) notification
      procedures. These new test products are crucial for our success in the human
      medical market. If we do not receive 510(k) clearance for a particular product,
      we will not be able to sell that product in the United States.




**Need
      to Comply with Manufacturing Regulations**




The
      1976
      Medical Device Amendment also requires us to manufacture our Piccolo products
      in
      accordance with Good Manufacturing Practices guidelines. Current Good
      Manufacturing Practice requirements are set forth in the 21 CFR 820 Quality
      System Regulation. These requirements regulate the methods used in, and the
      facilities and controls used for the design, manufacture, packaging, storage,
      installation and servicing of our medical devices intended for human use. Our
      manufacturing facility is subject to periodic inspections. Although
      we have obtained a license from the State of California to manufacture our
      products, various state regulatory agencies may regulate the manufacture of
      our
      products. To date, we have complied with the following:




35




·
            In
                April 2001, the State of California Food and Drug Branch granted
                our
                manufacturing facility “in compliance” status, based on the regulations
                for Good Manufacturing Practices for medical devices.




·
            In
                May 2001, the State of California Food and Drug Branch granted licensing
                for our manufacturing facility in Union City, California.




·
            In
                May 2002, we received our ISO 9001 certification, expanding our compliance
                with international quality standards.




·
            In
                December 2003, we received ISO 13485 Quality System certification
                as
                required by the 2003 European In Vitro Device Directive. This certified
                our quality system specifically to medical devices.




·
            In
                both September 2005 and March 2003, the FDA conducted a facility
                inspection and verified our compliance with the 21 CFR 820
                Regulation.




·
            In
                November 2006, we received our recertification to the ISO 13485:2003
                Quality System Standard for medical devices.




We
      cannot
      assure you that we will successfully pass a re-inspection by the FDA or the
      State of California. In addition, we cannot assure you that we can comply with
      all current or future government manufacturing requirements and regulations.
      If
      we are unable to comply with the regulations, or if we do not pass routine
      inspections, our business and results of operations will be materially adversely
      affected.




**Effects
      of the Clinical Laboratory Improvement Amendments on Our
      Products**




Our
      Piccolo products are also affected by the Clinical Laboratory Improvement
      Amendments (the “CLIA”) of 1988. The CLIA are intended to insure the quality and
      reliability of all medical testing in the United States regardless of where
      tests are performed. The current CLIA regulations divide laboratory tests into
      the following three categories:




·
            waived;




·
            moderately
                complex; and




·
            highly
                complex.




Many
      of
      the tests performed using the Piccolo chemistry analyzer are in the “moderately
      complex” category. This category requires that any location in which testing is
      performed be certified as a laboratory. Hence, we can only sell some Piccolo
      products to customers who meet the standards of a laboratory. To receive
“laboratory” certification, a testing facility must be certified by the CMS.
      After the testing facility receives a “laboratory” certification, it must then
      meet the CLIA regulations. Because we can only sell some Piccolo products to
      testing facilities that are certified “laboratories,” the market for some
      products is correspondingly constrained.




During
      fiscal 2007, the FDA granted waived status under CLIA regulations for the
      following analytes when used in conjunction with the Piccolo chemistry analyzer
      for the medical market:




·
            In
                March 2007, the FDA granted waived status under CLIA regulations
                for the
                following analytes: calcium (CA), creatinine (CRE), urea nitrogen
                (BUN)
                and uric acid (UA).




·
            In
                October 2006, the FDA granted waived status under CLIA regulations
                for the
                following analytes: albumin (ALB), alkaline phosphatase (ALP), amylase
                (AMY), gamma glutamyltransferase (GGT), total bilirubin (TBIL) and
                total
                protein (TP).




Prior
      to
      fiscal 2007, the FDA granted waived status under CLIA regulations for our total
      cholesterol (CHOL), high-density lipoprotein cholesterol (HDL), triglycerides
      (TRIG), glucose (GLU), alanine aminotransferase (ALT) and aspartate
      aminotransferase (AST) tests when used in conjunction with our Piccolo chemistry
      analyzer. Accordingly, we can offer the following Piccolo reagent discs as
      waived tests to the medical market: General Chemistry 6, General Chemistry
      13,
      the Lipid Panel, the Lipid Panel Plus and the Liver Panel Plus. Waived status
      permits untrained personnel to run the Piccolo chemistry analyzer using the
      General Chemistry 6, General Chemistry 13, the Lipid Panel, the Lipid Panel
      Plus
      and the Liver Panel Plus; thus, extending the sites (doctors’ offices and other
      point-of-care environments) that can use the Piccolo chemistry
      analyzer.




We
      cannot
      assure you that we will successfully receive CLIA waived status from the FDA
      for
      other products. Consequently, for the reagent discs that have not received
      CLIA
      waived status, the market for our Piccolo products may be confined to those
      testing facilities that are certified as “laboratories” and our growth can be
      limited accordingly. However, we are engaged in an active program to test and
      apply for CLIA waivers for additional analytes.




36




**Need
      to Comply with Various Federal, State, Local and International
      Regulations**




Federal,
      state, local and international regulations regarding the manufacture and sale
      of
      health care products and diagnostic devices may change. In addition, as we
      continue to sell in foreign markets, we may have to obtain additional
      governmental clearances in those markets. Foreign certifications that we have
      received include the following, among others:




·
            In
                December 2003, we received certification from the British Standards
                Institute to the ISO 13485:1996 quality system standard for medical
                devices. This quality system certification, along with successful
                completion of product testing to 2003 European standards and the
                translation of Piccolo product documentation into the required languages,
                enabled us to meet the compliance requirements of the CE Mark and
                the 2003
                European In Vitro Device Directive.




·
            In
                September 2005, we received the Canadian Medical Device Conformity
                Assessment System stamp on our ISO 13485 certificate to signify compliance
                with Health Canada regulations.




·
            In
                March 2006, we received our certification to the 2003 version of
                the ISO
                13485 Quality System Standard for medical devices.




·
            In
                November 2006, we received our recertification to the ISO 13485:2003
                Quality System Standard for medical
                devices.




Additionally,
      we have received registration from TÜV SÜD Japan Ltd. for our Bile Acid assay in
      Japan in July 2006. For our new products, the VetScan VS2 and Piccolo xpress,
      we
      have also received approval from the Ministry of Agriculture in Japan to market
      and sell these blood chemistry analyzers in Japan.




We
      cannot
      predict what impact, if any, such current or future regulatory changes would
      have on our business. We may not be able to obtain regulatory clearances for
      our
      products in the United States or in foreign markets, and the failure to obtain
      these regulatory clearances will materially adversely affect our business and
      results of operations.




Although
      we believe that we will be able to comply with all applicable regulations of
      the
      FDA and of the State of California, including the Quality System Regulation,
      current regulations depend on administrative interpretations. Future
      interpretations made by the FDA, CMS or other regulatory bodies may adversely
      affect our business.




***We
      depend on key members of our management and scientific staff, and we must retain
      and recruit qualified individuals if we are to be competitive or our ability
      to
      execute our business strategy and generate sales could be
      harmed.***




We
      are
      highly dependent on the principal members of our management and scientific
      staff. The loss of any of these key personnel, including in particular Clinton
      H. Severson, our President, Chief Executive Officer and Chairman of our Board
      of
      Directors, might impede the achievement of our business objectives. Mr.
      Severson’s amended and restated employment agreement with us has been filed with
      the Securities and Exchange Commission as an exhibit. Although historically
      we
      have been relatively successful both in retaining our current management and
      scientific staff, as well as attracting and retaining skilled and experienced
      marketing, sales and manufacturing personnel, we may not be able to employ
      such
      personnel on acceptable terms in the future because numerous medical products
      and other high technology companies compete for the services of these qualified
      individuals. We currently do not maintain key man life insurance on any of
      our
      employees.




***Standards
      for compliance with Section 404 of the Sarbanes-Oxley Act of 2002 are complex,
      and if we are unable to maintain effective internal control over our financial
      reporting, our business could be harmed and our stock price could
      decline.***




Rules
      adopted by the Securities and Exchange Commission pursuant to Section 404 of
      the
      Sarbanes-Oxley Act of 2002 require an annual assessment of internal control
      over
      financial reporting by our management and an attestation of its assessment
      by an
      independent registered public accounting firm. The standards that must be met
      for management to assess the internal control over financial reporting as
      effective are new and complex, require significant documentation, testing and
      possible remediation to meet the detailed standards.




Our
      management assessed the effectiveness of our internal control over financial
      reporting as of our fiscal years ended March 31, 2007 and 2006. Although we
      received an unqualified opinion on our financial statements for the fiscal
      years
      ended March 31, 2007 and 2006, and on the effectiveness of our internal control
      over financial reporting as of March 31, 2007 and 2006, the steps we have taken
      to date and the steps we are still in the process of taking to improve the
      reliability of our financial statements in the future are subject to continued
      management review, as well as oversight by the audit committee of our board
      of
      directors. The assessment for our fiscal year ended March 31, 2005 identified
      a
      material weakness in our internal control over financial reporting related
      to
      ineffective controls over the determination and reporting of the provision
      for
      income taxes. The control deficiency identified in fiscal 2005 could have
      resulted in a future material misstatement of our income tax provision (and
      related balance sheet accounts) that would not have been prevented or detected
      by management. Any failure to implement required new or improved controls,
      or
      difficulties encountered in implementation could harm operating results or
      prevent us from accurately reporting financial results or cause a failure to
      meet our reporting obligations in the future. If our management cannot assess
      our internal control over financial reporting as effective, or our independent
      registered public accounting firm is unable to provide an unqualified
      attestation report on such assessment, investor confidence and our share value
      may be negatively impacted.




37




***Our
      operating results could be materially affected by unanticipated changes in
      our
      tax provisions or exposure to additional income tax
      liabilities.***




Our
      determination of our tax liability (like any company’s determination of its tax
      liability) is subject to review by applicable tax authorities. Any adverse
      outcome of such a review could have an adverse effect on our operating results
      and financial condition. In addition, the determination of our provision for
      income taxes and other tax liabilities requires significant judgment including
      our determination of whether a valuation allowance against deferred tax assets
      is required. Although we believe our estimates and judgments are reasonable,
      the
      ultimate tax outcome may differ from the amounts recorded in our financial
      statements and may materially affect our financial results in the period or
      periods for which such determination is made.




***We
      must comply with strict and potentially costly environmental regulations or
      we
      could pay significant fines.***




We
      are
      subject to stringent federal, state and local laws, rules, regulations and
      policies that govern the use, generation, manufacture, storage, air emission,
      effluent discharge, handling and disposal of certain materials and wastes.
      In
      particular, we are subject to laws, rules and regulations governing the handling
      and disposal of biohazardous materials used in the development and testing
      of
      our products. We handle and dispose of human and veterinary blood samples for
      testing (whole blood, plasma, serum), which cost approximately $82,000 in fiscal
      2007 and includes other environmental health and safety expenses to comply
      with
      applicable environmental regulations. Although we believe that we have complied
      with applicable laws and regulations in all material respects and have not
      been
      required to take any action to correct any noncompliance, we may have to incur
      significant costs to comply with environmental regulations if our manufacturing
      to commercial levels continues to increase. In addition, if a government agency
      determines that we have not complied with these laws, rules and regulations,
      we
      may have to pay significant fines and/or take remedial action that would be
      expensive and we do not carry environmental-related insurance coverage.




***Our
      facilities and manufacturing operations are vulnerable to natural disasters
      and
      other unexpected losses; system failures or delays may harm our
      business.***




Our
      success depends on the efficient and uninterrupted operation of our
      manufacturing operations, which are co-located with our corporate headquarters
      in Union City, California. A failure of manufacturing operations, be it in
      the
      development and manufacturing of our Piccolo or VetScan blood
      chemistry analyzers or the reagent discs used in the blood chemistry analyzers, could
      result in our inability to supply customer demand.




We
      do not
      have a backup facility to provide redundant manufacturing capacity in the event
      of a system failure. Accordingly, if our location in Union City, California
      experienced a system failure or regulatory problem that temporarily shuts down
      our manufacturing facility, our manufacturing ability would become unavailable
      until we were able to bring an alternative facility online, a process which
      could take several weeks or even months. These manufacturing operations are
      also
      vulnerable to damage from earthquakes, fire, floods, power loss,
      telecommunications failures, break-ins and similar events. Although we carry
      property and business interruption insurance, our coverage may not be adequate
      to compensate us for all losses that may occur. Additionally, our computer
      servers may be vulnerable to computer viruses, physical or electronic break-ins
      and similar disruptions.




***Fluctuations
      in foreign exchange rates and the possible lack of financial stability in
      foreign countries could prevent overseas sales
      growth.***




Our
      international sales are currently overwhelmingly U.S. dollar-denominated. As
      a
      result, an increase in the value of the U.S. dollar relative to foreign
      currencies could make our products less competitive in international markets.
      For the limited amount of our sales denominated in local currencies, we are
      subject to fluctuations in exchange rates between the U.S. dollar and the
      particular local currency. Our operating results could also be adversely
      affected by the seasonality of international sales and the economic conditions
      of our overseas markets.




***Our
      stock price is highly volatile and investing in our stock involves a high degree
      of risk, which could result in substantial losses for
      investors.***




The
      market price of our common stock, like the securities of many other medical
      products companies, fluctuates over a wide range, and will continue to be highly
      volatile in the future. During the quarter ended September 30, 2007, the closing
      sale prices of our common stock on the NASDAQ Global Market ranged from $17.91
      to $22.45 per share and the closing sale price on September 28, 2007, the last
      day of trading for our quarter ended September 30, 2007, was $22.45 per share.
      During the last eight fiscal quarters ended September 30, 2007, our stock price
      closed at a high of $26.99 on April 17, 2007 and a low of $13.19 on October
      12,
      2005. Many factors may affect the market price of our common stock,
      including:




38




·
            fluctuation
                in our operating results;




·
            announcements
                of technological innovations or new commercial products by us or
                our
                competitors;




·
            changes
                in governmental regulation;




·
            prospects
                and proposals for health care reform;




·
            governmental
                or third-party payors’ controls on prices that our customers may pay for
                our products;




·
            developments
                or disputes concerning our patents or our other proprietary rights;




·
            public
                concern as to the safety of our devices or similar devices developed
                by
                our competitors; and




·
            general
                market conditions.




Because
      our stock price is so volatile, investing in our common stock is highly risky.
      A
      potential investor must be able to withstand the loss of his entire investment
      in our common stock.




***Our
      shareholders rights plan and our ability to issue preferred stock may delay
      or
      prevent a change of control of Abaxis.***




Our
      shareholder rights plan, adopted by our board of directors on April 22, 2003,
      may make it more difficult for a third party to acquire, or discourage a third
      party from attempting to acquire control of, Abaxis. The shareholder rights
      plan
      could limit the price that investors might be willing to pay in the future
      for
      shares of our common stock.




In
      addition, our board of directors has the authority to issue up to 5,000,000
      shares of preferred stock and to determine the price, rights, preferences,
      privileges and restrictions, including voting rights, of those shares without
      any further vote or action by the shareholders, except to the extent required
      by
      NASDAQ rules. The issuance of preferred stock, while providing flexibility
      in
      connection with possible financings or acquisitions or other corporate purposes,
      could have the effect of making it more difficult for a third party to acquire
      a
      majority of our outstanding voting stock.




**Item
      2. Unregistered Sales of Equity Securities and Use of Proceeds**




Not
      applicable.




**Item
      3. Defaults Upon Senior Securities**




Not
      applicable.




**Item
      4. Submission of Matters to a Vote of Security Holders**




Not
      applicable.




**Item
      5. Other Information**




Not
      applicable.




39




**Item
      6. Exhibits**




**Exhibit
                No.**
            **Description
                of Document****3.1**
            Restated
                Articles of Incorporation (Filed with the Securities and Exchange
                Commission as an exhibit with our Annual Report on Form 10-K for
                the
                fiscal year ended March 31, 1993 and incorporated herein by
                reference.)**3.2**
            By-laws
                (Filed with the Securities and Exchange Commission in our Registration
                Statement No. 33-44326 on December 11, 1991 and incorporated herein
                by
                reference.)**3.3**
            Amendment
                to the By-laws (Filed with the Securities and Exchange Commission
                as an
                exhibit with our Current Report on Form 8-K on July 30, 2007 and
                incorporated herein by reference.)**4.1**
            Registration
                Rights Agreement, dated as of March 29, 2002 (Filed with the
                Securities and Exchange Commission as an exhibit with our Current
                Report
                on Form 8-K on May 13, 2002 and incorporated herein by
                reference.)**4.2**
            Form
                of Warrant Agreement issued to purchasers of Series E Convertible
                Preferred Stock (Filed with the Securities and Exchange Commission
                as an
                exhibit with our Current Report on Form 8-K on May 13, 2002 and
                incorporated herein by reference.)**4.3**
            Reference
                is made to Exhibit 3.1, Exhibit 3.2 and Exhibit 3.3.**31.1**
            Certification
                of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
                Act of 2002**31.2**
            Certification
                of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley
                Act of 2002**32.1#**
            Certification
                of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley
                Act of 2002**32.2#**
            Certification
                of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley
                Act of 2002







#
              
              This
                  certification accompanies this Quarterly Report on Form 10-Q. The
                  certification is not deemed filed with the Securities and Exchange
                  Commission and is not to be incorporated by reference into any
                  filing of
                  Abaxis, Inc. under the Securities Act of 1933, as amended, or the
                  Securities Exchange Act of 1934, as amended, whether made before
                  or after
                  the date of this Quarterly Report on Form 10-Q and irrespective
                  of any
                  general incorporation language contained in any such
                  filing.


40




**SIGNATURES**




Pursuant
      to the requirements 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.






ABAXIS,
                INC.
              *(Registrant)*Date: November 9, 2007
            BY: /s/
                Clinton H. Severson
              
              Clinton H. Severson
              President,
                  Chief Executive Officer and Director
                (Principal
                  Executive Officer)Date: November 9, 2007
            BY: /s/
                Alberto R. Santa Ines
              
              Alberto
                R. Santa Ines
              Chief
                  Financial Officer and Vice President****of Finance
                (Principal
                  Financial and Accounting Officer)




41