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                          SECURITIES AND EXCHANGE COMMISSION
                               WASHINGTON, D.C.  20549
                               -----------------------
                                     FORM 10-KSB
(X)       ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
                                 EXCHANGE ACT OF 1934

           FOR THE FISCAL YEAR                     COMMISSION FILE
          ENDED OCTOBER 31, 1997                  NUMBER 33-23460-LA

                                   AQUASEARCH, INC.
                                   ----------------
                (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

                 COLORADO                              33-0034535
          (STATE OR INCORPORATION)      (I.R.S. EMPLOYER IDENTIFICATION NO.)

                           73-4460 QUEEN KA'AHUMANU HIGHWAY
                                      SUITE 110
                              KAILUA-KONA, HAWAII 96740
                                    (808) 326-9301
                (Address and telephone of principal executive offices)

          Securities registered pursuant to Section 12(b) of the Act:  None

          Securities registered pursuant to Section 12(g) of the Act:  None

     Check whether the issuer (1) filed all reports required to be filed by 
Section 13 or 15(d) of the Exchange Act during the past 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
   ----   ----

     Check if there is no disclosure of delinquent filers pursuant to Item 405
of Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [ X ]

     Registrant's revenues for its most recent fiscal year:  $1,077.

     The  aggregate market value of the voting stock held by non-affiliates
computed by reference to the price at which the stock was sold, or the average
bid and asked prices of such stock, as of a specified date within the past 60
days was $10,520,374 as of December 31, 1997.

     The number of shares outstanding of each of issuer's classes of common 
equity, as of October 31, 1997, was 47,819,881 shares of Common Stock, $0.0001
par value.

     Documents Incorporated by Reference:  None

     Transitional Small Business Disclosure
     Format (check one):  [ ] Yes    [X] No

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                                        PART I

     THIS ANNUAL REPORT ON FORM 10-KSB (THE "ANNUAL REPORT") CONTAINS CERTAIN 
FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 21E OF THE SECURITIES
EXCHANGE ACT OF 1934, AS AMENDED, (THE "EXCHANGE ACT"), INCLUDING STATEMENTS
THAT INDICATE WHAT THE COMPANY "BELIEVES", "EXPECTS" AND "ANTICIPATES" OR
SIMILAR EXPRESSIONS.  THESE STATEMENTS INVOLVE KNOWN AND UNKNOWN RISKS,
UNCERTAINTIES AND OTHER FACTORS WHICH MAY CAUSE ACTUAL RESULTS, PERFORMANCE OR
ACHIEVEMENTS OF THE COMPANY TO DIFFER MATERIALLY FROM THOSE EXPRESSED OR IMPLIED
BY SUCH FORWARD-LOOKING STATEMENTS.  SUCH FACTORS INCLUDE, AMONG OTHERS, THE
INFORMATION CONTAINED UNDER THE CAPTION "PART II, ITEM 6, MANAGEMENT'S PLAN OF
OPERATION - FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS" AND ELSEWHERE IN
THIS ANNUAL REPORT.  THE READER IS CAUTIONED NOT TO PLACE UNDUE RELIANCE ON
THESE FORWARD-LOOKING STATEMENTS, WHICH REFLECT MANAGEMENT'S ANALYSIS ONLY AS OF
THE DATE OF THIS ANNUAL REPORT.  THE COMPANY UNDERTAKES NO OBLIGATION TO
PUBLICLY RELEASE THE RESULTS OF ANY REVISION OF THESE FORWARD-LOOKING
STATEMENTS.  THE READER IS STRONGLY URGED TO READ THE INFORMATION SET FORTH
UNDER THE CAPTION "PART II, ITEM 6, MANAGEMENT'S PLAN OF OPERATION-FACTORS THAT
MAY AFFECT FUTURE OPERATING RESULTS" FOR A MORE DETAILED DESCRIPTION OF THESE
SIGNIFICANT RISKS AND UNCERTAINTIES.


ITEM 1.  DESCRIPTION OF BUSINESS.

BACKGROUND

     Aquasearch, Inc. ("Aquasearch" or the "Company") is a development stage
company that is developing a proprietary, closed-system technology for the
large-scale, commercial cultivation of photosynthetic microalgae.  The Company's
microalgae cultivation technology is known as the Aquasearch Growth Module (the
"AGM").

     The Company was founded in February 1988 as a Colorado corporation and
acquired all the assets of Aquasearch, Inc., a California corporation, in
May 1988 in a stock-for-stock exchange.

     The Company commenced operations in Borrego Springs, California and
developed its first prototype AGM in 1988.  Until March 1993, the Company
conducted research and development focused on refining its production technology
and cultivating microalgal species of several markedly different varieties.

     In March 1993, the Company formed a joint venture company with Cyanotech,
an unaffiliated producer of microalgae, to develop commercial systems for the
production of astaxanthin-rich microalgae. Aquasearch contributed approximately
$147,000 in capital to the joint venture company and licensed its AGM technology
to the joint venture company.  Cyanotech contributed approximately $15,000 in
capital to the joint venture company and made available its facilities and
personnel at the HOST Business Park at Keahole Point, Kailua-Kona, Hawaii.  AGMs
were constructed in July 1993 that demonstrated the economics of the production
process and provided samples of astaxanthin-rich microalgae for analysis and
trial applications.

     In the summer of 1994, Aquasearch initiated discussions with Cultor 
Ltd., a Finnish food conglomerate ("Cultor"), regarding the purchase of 
astaxanthin-rich microalgae.  While awaiting a response from Cultor, 
Cyanotech elected to discontinue its participation in the joint venture 
company and the joint venture agreement was terminated by mutual consent

                                         -1-
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in November 1994.  The dissolution agreement provided that all intellectual
property rights to the AGM technology reverted to Aquasearch.

     In December 1994, Cultor initiated a series of feeding trials with farmed
salmon using astaxanthin-rich microalgae produced by the Company.

     In April 1995, the Company leased a half-acre site within the HOST Business
Park and began construction of a research and development facility capable of
producing small amounts of microalgae containing astaxanthin for marketing
purposes.  This half-acre facility, comprised of AGMs and an operating
laboratory, was completed in June 1995.

     In July 1995, the Company entered into a three-year Supply Agreement with
Svenska Foder, then a subsidiary of Cultor, pursuant to which Svenska Foder
agreed to act as the exclusive distributor of the Company's natural astaxanthin
product for animal feed and animal nutrition applications in Sweden, Norway and
Finland for poultry, pigs, cattle and horses.  In December 1996, Cultor sold
Svenska Foder to KKR, a Danish animal feeds company, and assumed all of Svenska
Foder's rights and obligations under the Svenska Foder Supply Agreement.

     In July 1995, the Company leased additional space in the Hawaii Ocean
Science and Technology  ("HOST") Business Park to expand its half-acre research
and development facility to a one-acre research and development/production
facility.  Construction of the one-acre research and development/production
facility was completed in October 1995.

     In May 1996, the Company entered into a three-year Distribution and
Development Agreement with Cultor (recently extended to four years) pursuant to
which the Company will act as the exclusive worldwide supplier of natural
astaxanthin derived from microalgae to Cultor in the field of animal feed and
animal nutrition and Cultor will act as the exclusive worldwide distributor of
Aquasearch's natural astaxanthin product in the field of animal feed and animal
nutrition. Under the Cultor Distribution and Development Agreement, Cultor and
Aquasearch may, at Cultor's option, mutually develop a new joint venture company
for the sole purpose of producing and selling natural astaxanthin derived from
microalgae in the field of animal feed and animal nutrition.  See "Description
of Business--Corporate Partner Relationships." 

     In July 1996, the Company was awarded U.S. Patent Number 5,541,056 for a
"Method of Control of Microorganism Growth Process," which claims certain
processes that operate in the Company's proprietary, closed-system
photobioreactor, the Aquasearch Growth Module.  The Company's U.S. filing was
made under the provision of the Patent Cooperation Treaty, and the Company is in
the process of pursuing international patents pursuant thereto.

     In September 1996, the Company's shareholders approved the Cultor
Distribution and Development Agreement and the Cultor Stock Subscription
Agreement.

     In October 1996, Cultor acquired 400,000 shares of the Company's Common
Stock at a purchase price of $0.50 pursuant to the Cultor Stock Subscription
Agreement.

     In November 1996, the Company executed a Letter of Intent with C. Brewer
and Company, Limited ("C. Brewer") with respect to the acquisition of between 80
and 90 acres of property in the Ka'u region of the Big Island of Hawaii valued
at between $900,000 and $1,000,000 in exchange for C. Brewer's acquisition of
approximately 6% of the Company's outstanding Common Stock.  In addition, C.
Brewer acquired a three-year warrant to purchase up to 500,000 shares of
Aquasearch Common Stock at a purchase price of $1.25 per share.


                                         -2-
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     In September 1997, Aquasearch executed a Letter of Intent with Inflazyme
Pharmaceuticals, Limited to enter into a ten-year drug development and
manufacturing agreement.  Under the terms of the agreement, Aquasearch would
produce large-scale research quantities of several thousand different microalgae
in its AGM photobioreactors.  Inflazyme intends to investigate each species for
therapeutic activity in the areas of inflammation, cancer, blood and
cardiovascular diseases.  Aquasearch would receive cost-plus reimbursement of
all its research costs (including dedicated physical facilities); potential
milestone payments associated with steps in the U.S. Food and Drug
Administration drug approval process; and royalties on future net product sales.

     The Company believes that strategic relationships will continue to be an
important part of its business strategy.  There can be no assurance that the
Company will be able to maintain existing corporate partner relationships, enter
into future relationships to develop additional applications for natural
astaxanthin or to develop other microalgae products or that any such
relationships will be successful.

     Aquasearch has an active Scientific Advisory Board consisting of eight
Ph.D.s with expertise in the fields of aquaculture, marine biology, fluid
dynamics, and the chemistry, photobiology, physiology and mass culture of
microalgae.

     Aquasearch is incorporated in Colorado; its principal executive offices are
located at 73-4460 Queen Ka'ahumanu Highway, Suite 110, Kailua-Kona, Hawaii
96740; its telephone number is (808) 326-9301; and its Website is
www.aquasearch.com.

SUMMARY DESCRIPTION OF TECHNOLOGY AND PRODUCTS

     Aquasearch, Inc. is a development stage company that develops and
commercializes natural products from microalgae using its proprietary,
large-scale photobioreactor technology known as the Aquasearch Growth Module.

     Microalgae are a diverse group of over 30,000 species of microscopic plants
that have a wide range of biochemical characteristics.  Microalgae produce many
different and unusual fats, sugars, proteins, amino acids, vitamins, enzymes,
pigments and other bioactive compounds that have existing and potential
commercial applications in such fields as animal and human nutrition, food
colorings, cosmetics, diagnostic products, pharmaceuticals, research grade
chemicals, pigments and dyes.  Microalgae grow ten times faster than the fastest
growing land-based crops and represent a largely unexploited and renewable
natural resource with a biodiversity comparable to that of land-based plants.

     The principal impediment to commercializing microalgae is the lack of
large-scale cultivation technology.  Other microbes, such as bacteria and fungi,
are cultivated in large, closed-system fermenters, as known as "bioreactors." 
The products manufactured in this way are the basis of both the pharmaceutical
and brewing industries, for example.

     Bioreactors are closed to avoid contamination by unwanted species. 
Bioreactors are controlled because every microbe prefers certain environmental
conditions, such as temperature, to grow optimally.

     Bacteria and fungi grow in the dark.  Bioreactors, therefore, are dark. 
Microalgae, however, are green plants: they require light.  Microalgae cannot
grow in bioreactors.  They must be grown in "photobioreactors" - closed,
controlled cultivation chambers into which light can penetrate.

     Commercial bioreactors for cultivating bacteria and fungi are large.  The
size of industrial bioreactors is typically in the range of 1,000 to 20,000
gallons.


                                         -3-
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     The Company believes photobioreactors will have to be the same size as
industrial bioreactors in order to be of commercial value but, according to
recent technology surveys by experts, most photobioreactors now in use around
the world are less than 100 gallons in size.

THE AQUASEARCH GROWTH MODULE

     Aquasearch believes it has developed the largest, commercial-scale
photobioreactor known.  The Company has for the past year routinely - and
simultaneously - operated more than ten Aquasearch Growth Modules (the "AGM")
ranging in size from 1,000 to 2,000 gallons.

     Aquasearch has spent more than $2.4 million over the last two years on
development of its AGM technology.  The Company believes that the two major
recent improvements in its technology are (i) size and (ii) computerized process
control.

     The standard production-model AGM grew from 1,000 gallons in 1996 to 2,000
gallons in 1997.  The design for a model of more than 5,000 gallons is slated
for standard operations during 1998.  These significant increases were made
possible by research and engineering conducted jointly by the Company's staff
and its Scientific Advisory Board.

     Computerized process control advanced significantly during 1997.  The AGM
utilizes computer-controlled equipment to monitor and adjust the turbulence
rate, pH, gas exchange, temperature and nutrient levels within the AGM to
optimize microalgae growth rates.  New hardware and proprietary software
developed in 1997 have significantly improved control of the system and have
reduced labor requirements.

     Aquasearch believes that the AGM offers significant technical and economic
advantages compared with the open pond systems currently used by certain
competitors, including increased yields and the ability to economically
cultivate hundreds of microalgal species at commercial scale that cannot be
produced in competitive microalgae cultivation systems due to substantially
higher risks of contamination and lack of control.

     Aquasearch also believes that the AGM compares favorably with other known
closed systems with respect to both capital and operating costs, primarily due
to the large size of the AGM.

     Aquasearch believes that its current AGM technology can be used to
cultivate hundreds of species of microalgae for commercial purposes. 
Notwithstanding these perceived advantages of the Company's technology, the
production of various species of microalgae on a commercial scale involves
various risks and uncertainties.

     ASTAXANTHIN

     Aquasearch's first commercial product is astaxanthin, a naturally occurring
red pigment derived from HAEMATOCOCCUS PLUVIALIS, a freshwater microalga.  The
primary market for astaxanthin currently is aquaculture.  According to industry
sources, the global aquaculture market steadily doubled in value from $13
billion in 1985 to $26 billion in 1990, and is projected to grow to more than
$50 billion by the year 2000.  Industry sources indicate that farmed salmon and
shrimp (the fastest and fourth fastest growing aquaculture products,
respectively) will account for more than half the total value of world
aquaculture production by the year 2000.  Free swimming salmon and shrimp
acquire pink flesh from natural astaxanthin contained in microalgae and other
species ingested in the wild.  Farmed salmon and shrimp, however, currently
acquire pink flesh only from the addition of synthetic astaxanthin (or a less
effective substitute product) to their feed.  The


                                         -4-
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world market for astaxanthin in aquaculture was estimated to be approximately
$125 million in 1996, and continued growth is expected.

     Aquasearch believes it is one of the first companies to produce commercial
quantities of natural astaxanthin from microalgae.  The world market for
astaxanthin is currently dominated by a single producer, Hoffman-LaRoche, which
has maintained the market price of its synthetic astaxanthin product (which is
derived from petrochemicals) at approximately $2,500 per kilogram for more than
a decade.  Aquasearch's natural astaxanthin product will compete directly with
Hoffman-LaRoche's synthetic astaxanthin product.  There can be no assurance that
the market price of synthetic astaxanthin will be maintained at historical
levels or what effect this may have on the market price of Aquasearch's natural
astaxanthin product.

     In May 1996, Aquasearch entered into a three-year exclusive Distribution
and Development Agreement with Cultor (recently extended to four years) pursuant
to which Aquasearch will act as the exclusive worldwide supplier of natural
astaxanthin derived from microalgae to Cultor in the field of animal feed and
animal nutrition and Cultor will act as the exclusive worldwide distributor of
Aquasearch's natural astaxanthin product in the field of animal feed and animal
nutrition.  Cultor is a $2 billion Finnish food conglomerate that is a leading
worldwide producer of animal feed and animal nutrition products.  Aquasearch
estimates that Cultor and its affiliated companies currently utilize
approximately $30 million of synthetic astaxanthin per year in feed products for
the aquaculture and livestock industries.  Astaxanthin is currently used in
poultry feed to impart a more reddish hue to egg yolks.  Recently published
studies indicate that natural astaxanthin, as compared with synthetic
astaxanthin, may have additional benefits with respect to fertility, weight gain
and feed efficiency in broiler chickens and layer hens.

     Under the Cultor Distribution and Development Agreement, Cultor and
Aquasearch may, at Cultor's option, mutually develop a new joint venture company
for the sole purpose of producing and selling natural astaxanthin derived from
microalgae in the field of animal feed and animal nutrition.  Pursuant to this
arrangement, Aquasearch would contribute a ten-acre natural astaxanthin
production facility to be constructed in 1998 in return for its 50% stake in the
new company and Cultor would contribute cash equal to the appraised value of the
new ten-acre production facility in return for its 50% stake.  Under the Cultor
Distribution and Development Agreement, Cultor also has the option to increase
its stake in the new company by purchasing from Aquasearch a further 25% of the
new company (thus increasing Cultor's stake to 75%) for cash based on a formula.
The formula provides that the purchase price for the additional shares to be
acquired by Cultor from Aquasearch will equal the greater of (i) $1 million,
(ii) half of the current replacement value of the astaxanthin production
facility initially contributed by Aquasearch or (iii) an amount equal to X
multiplied by Y; where "X" equals the difference between the Transfer Price (as
defined) and the Aquasearch Production Costs (as defined) for the six-month
period commencing on November 1, 1999 and ending on April 30, 2000 and "Y"
equals six (or, in other words, an amount equal to twelve times annual profit in
the third year of the contract).  Aquasearch will license certain technology to
the new company to make, use and sell natural astaxanthin derived from
microalgae within the field of animal feed and animal nutrition only and will
retain the right to make, use and sell natural astaxanthin derived from
microalgae in all fields other than animal feed and nutrition as well as the
right to make, use and sell any microalgal products other than natural
astaxanthin in all fields, including the field of animal feed and animal
nutrition.  The Company's obligations and performance under the Cultor
Distribution and Development Agreement and the potential formation of a new
joint venture company with Cultor involve various risks and uncertainties.

     Over the past twenty months, the Company has been producing natural 
astaxanthin at varying rates of between one and eight kilograms per month at 
its existing one-acre research and development/production facility.  The 
amounts produced have been used by Cultor for a variety of product 
development purposes. The production targets under the Cultor Distribution 
and Development Agreement were initially 40 kilograms per month at the end of 
the first year and 120 kilograms per month at the end of the second year; 
however,


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Aquasearch and Cultor recently agreed to extend the term of the Cultor
Distribution and Development Agreement by one year and to amend the production
targets to be 40 kilograms per month at the end of the second year
(September 1998) and 120 kilograms per month at the end of the third year
(September 1999).  In order to meet these production targets, Aquasearch must
significantly expand and improve its production facilities and processes, which
will involve various risks and uncertainties. 

     PHARMACEUTICALS

     Most pharmaceutical products developed to date have been derived from the
approximately 20,000 species of land-based plants.  Aquasearch believes that the
30,000 estimated species of microalgae represent a comparable - but as yet
untapped - source of pharmaceutical products.  The Company is aware of several
compounds, isolated from microalgae, that have demonstrated activity against
certain diseases in pre-clinical trials.  However, despite the possibility of
new drug discoveries among microalgae, the Company believes that the
pharmaceutical industry has largely ignored microalgae because commercial scale
production technology, such as the AGM, has been unavailable to produce the
amounts required.

     Aquasearch believes that the discovery and manufacture of 
pharmaceuticals from microalgae is potentially a large market.  According to 
industry sources, pharmaceutical companies are now under unusually intense 
pressure to fill their development pipelines with new drug candidates.  
Aquasearch believes that this pressure, in combination with new screening 
techniques based on genomics, is already causing the pharmaceutical industry 
to broaden its search for new drugs. The wider and more intensive search for 
new drug candidates, Aquasearch believes, will put microalgae high on the 
list of unexplored but potentially valuable sources.

     Aquasearch believes it is capable of producing the relatively large 
quantities of microalgae raw material necessary for the drug discovery 
process. The Company was awarded a Master Agreement from the U.S. National 
Cancer Institute for just this purpose, although no contracts have yet been 
issued. The Company does not have the expertise to develop and fully 
commercialize pharmaceutical products on its own.  Aquasearch's strategy is 
to establish the AGM as a core technology for the cultivation of microalgae 
and to seek collaborative research and development, sales, marketing and 
distributing relationships with established pharmaceutical companies in order 
to develop and commercialize potential pharmaceutical products from 
microalgae.

     In September 1997, the Company executed a Letter of Intent with Inflazyme
Pharmaceuticals, Limited to enter into a 10-year drug development and
manufacturing agreement.  Under the agreement, Aquasearch would produce
large-scale research quantities of several thousand microalgae in its AGM
technology, and Inflazyme would investigate each species for therapeutic
activity in the areas of inflammation, cancer, blood and cardiovascular
diseases.

     Aquasearch would receive cost-plus reimbursement of all direct, indirect,
fixed and variable costs related to research activities for Inflazyme. 
Furthermore, Aquasearch would receive potential milestone payments as a drug
candidate proceeds through the U.S. FDA approval process.  Aquasearch would also
receive a royalty on net product sales, as well as manufacturing rights.

     Aquasearch would be free under its agreement with Inflazyme to seek
additional drug development agreements with other pharmaceutical companies, and
to provide those additional companies with the same microalgae furnished to
Inflazyme.  The Company's development of pharmaceutical products from microalgae
involves many significant risks and uncertainties.


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INDUSTRY BACKGROUND

     Microalgae have the following properties that make their commercial
production attractive: 

     (i) microalgae naturally produce a vast array of natural compounds: many
different and unusual fats, sugars, proteins, amino acids, vitamins, enzymes,
pigments and other bioactive compounds; 

     (ii) microalgae grow ten times faster than sugar cane, the fastest growing
land-based crop (which makes it possible to harvest new crops every two to three
days utilizing optimal culture and processing technologies); 

     (iii) ease of processing: microalgae have a uniform cell structure with no
bark, stems, branches or leaves (which permits easier extraction of products and
higher utilization of cells and makes it practical to manipulate and control
growing conditions in order to optimize particular cell characteristics); and 

     (iv) the raw materials required for microalgae growth are abundant: these
include sunlight, carbon dioxide and nitrogen.

     Existing and potential commercial applications for microalgae include
animal and human nutrition, natural food colorings, cosmetics ingredients and
colorings, diagnostic products, pharmaceuticals, research grade chemicals and
pigments and dyes.  The largest volume of microalgae products produced today are
algae used as human food and nutritional supplements.  These include forms of
SPIRULINA spp., CHLORELLA spp., lake grown blue green algae (APHANIZOMENON
FLOS-AQUAE) and natural beta carotene from DUNALIELLA SALINA.  These microalgae
food supplements contain, in varying degrees, highly absorbable sources of
phytonutrients including mixed carotenoids, B vitamins, GLA, protein and
essential amino acids.  Emerging commercial applications for microalgae include
products for drug design, pharmaceuticals and diagnostics.  One company has
developed an infant formula ingredient from microbial oils enriched with
microbial fatty acid components derived from microalgae and fungi that may be
linked to the development and function of the brain and retina.

     Although many potentially valuable compounds have been identified in
microalgae, until recently there was no technology to provide for cost effective
production of multiple species of microalgae in commercial quantities.  To the
Company's knowledge, and with the exception of the infant formula product,
substantially all other commercial quantities of microalgal products are
currently produced in open pond environments with microalgal species that thrive
in harsh environments which eliminate or neutralize competing species, predators
and  contaminants.  These few species, such as SPIRULINA spp., CHLORELLA spp.,
and DUNALIELLA SALINA require a medium for growth characterized by either an
extremely high salinity or pH or another chemistry that is hostile to most
competing species, predators and contaminants.  Accordingly, the problem of
contamination is drastically reduced in such abnormal environments, as is the
number of microalgal species that can be produced.

     Commercial cultivation of the other three principal groups of microbes
--bacteria, yeasts and fungi -- is currently accomplished in closed, controlled
bioreactors (fermenters), and provides the basis for multi-billion dollar
industries (such as pharmaceuticals) based on natural products produced by these
microbes.  The Company believes that microalgae are the only major group of
microbes that are not currently widely cultivated in closed, controlled
cultivation systems and that such closed systems are essential for commercial
exploitation of the estimated 30,000 species of microalgae.


                                         -7-
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THE AQUASEARCH SOLUTION

     Aquasearch has designed, developed and implemented proprietary production
technologies, systems and processes that provide a controlled environment for
the principal conditions required to optimize and maintain microalgae growth. 
This technology includes the AGM, which is a closed-system photobioreactor that
utilizes computer-controlled equipment to monitor and adjust the turbulence
rate, pH, gas exchange, temperature and nutrient levels within the AGM to
optimize microalgae growth rates.  To date, the AGM has produced at least a
doubling of growth rate in tested species compared with conventional open pond
technology.  Equally important, the AGM is a closed, sterile, controlled,
photosynthetic system that protects the cultured microalgal species from the
bacteria and other microbial contaminants that frequently destroy them in
conventional open pond systems.

     As a result, the AGM enables the continuous growth and harvesting of
microalgae for several months without re-inoculation, thus enabling a semi-batch
continuous production cycle.  The specific processes and controlled conditions
are designed to meet the unique requirements of each microalgal species.  To
date, Aquasearch has conducted experiments on five different microalgal species,
each with significantly different optimal growth environments.  In each case,
the AGM has provided a stable environment that fostered sustained continuous
growth.  Based on these preliminary studies, the Company believes that the AGM
can be used to cultivate hundreds of species of microalgae.

     The Company has also designed, developed and implemented proprietary
harvesting technologies, systems and processes for the production of microalgae
that it believes provide significant competitive advantages over traditional
microalgae production techniques.

     Aquasearch believes that the capital cost of operating the AGM compares
favorably with other known microalgae cultivation systems, thus reducing the
Company's costs of production and potentially expanding the number of microalgae
species that can be commercially exploited.

     Notwithstanding these perceived advantages of the Company's technology, the
production of certain species of microalgae on a commercial scale involves many
significant technical challenges, some of which may never have been faced
before.

     The Company believes that the location of its research and development and
production facility in the HOST Business Park at Keahole Point, Kailua-Kona,
Hawaii is an important competitive advantage.  Aquasearch believes that the
combination of consistent warm temperatures, abundant sunlight, low rainfall and
the provision of cold, clean deep seawater at this facility makes this a
favorable location to economically cultivate microalgae on a large scale year
round.  The Company believes that, in contrast to its facility (and others in
the HOST Business Park), other microalgae production facilities located in areas
lacking these characteristics are likely to be subject to significantly higher
costs of production and fewer production days per year.

     At the HOST Business Park, Aquasearch has access to cold, clean deep
seawater that is pumped up from a depth of 2,000 feet.  This seawater is used as
a means of controlling the temperature of the AGM and may be used by Aquasearch
as a source of nutrients for culture of marine microalgae.  Additionally,
Aquasearch's facility has access to a complete industrial infrastructure and is
located 30 miles from a deep water port and immediately adjacent to an
international airport.

     The concentration of the Company's existing and planned production capacity
in the HOST Business Park (as well as any other potential production sites in
the Hawaiian Islands) involves certain risks and


                                         -8-
<PAGE>

uncertainties relating to potential natural disasters such as volcanic
eruptions, earthquakes, tidal waves, hurricanes and related matters indigenous
to Hawaii.

AQUASEARCH'S STRATEGY

     The Company's objective is to become the leader in cost-effective
cultivation technology to produce natural commercial products from microalgae.
The Company's strategies to achieve this goal may be summarized as follows:

-    BUILD SIGNIFICANT MARKET SHARE IN THE ASTAXANTHIN MARKET.  Aquasearch
     intends to build upon its position as one of the first producers of
     commercial quantities of natural astaxanthin from microalgae.  Through its
     collaboration with Cultor, Aquasearch's products will gain faster access to
     the world market than would have been possible if Aquasearch had attempted
     to build its own marketing and distribution channel first.  The Company
     believes that the combination of its microalgae cultivation technology and
     expertise with Cultor's animal feed and animal nutrition research and
     development capabilities and worldwide sales, marketing and distribution
     network is an important competitive advantage.  Aquasearch plans to
     independently develop and/or collaborate with Cultor and other corporate
     partners with respect to the development of additional applications for its
     natural astaxanthin product.

-    CONTINUALLY IMPROVE AND ENHANCE ITS CORE PLATFORM TECHNOLOGY.  Aquasearch
     has developed proprietary, cost effective, microalgae cultivation and
     harvesting technologies and processes that it believes provide it with
     significant competitive advantages over other known cultivation
     technologies.  Aquasearch plans to continue to improve upon its AGM
     technology and other technologies in order to improve yields of natural
     astaxanthin from HAEMATOCOCCUS PLUVIALIS and to develop additional products
     from other microalgae species.  The Company's talents in science and
     engineering will be applied to innovation and optimization that are focused
     on improving quality, reducing costs and competing effectively.  Aquasearch
     plans to continue aggressive development and protection of its intellectual
     property.

-    DEVELOP PHARMACEUTICALS AND COMMERCIAL PIGMENTS.  Aquasearch plans to
     initiate pharmaceutical drug discovery through development of its
     collaboration with Inflazyme Pharmaceuticals, and to seek additional
     strategic relationships with other pharmaceutical companies.  The Company
     also plans to undertake research and development of potential commercial
     pigments from other species of microalgae.  In particular, Aquasearch plans
     to determine if four other carotenoid pigments, related to astaxanthin and
     currently used in synthetic form in human foods and animal feeds, can be
     derived cost-effectively from microalgae in commercial quantities.  The
     Company believes that the world market for these four synthetic pigments is
     currently in excess of $1 billion per year.

-    EXPAND STRATEGIC ALLIANCES IN BUSINESS.  Aquasearch intends to strengthen
     existing and develop new relationships with companies interested in
     commercializing microalgae products.  In particular, Aquasearch is
     targeting potential partners, like Cultor and Inflazyme, that have greater
     research and development, scientific, technical, financial, marketing,
     sales and/or distribution resources than Aquasearch.  The Company's primary
     objective in expanding relationships with these companies is to gain
     visibility into their product requirements in order further develop
     Aquasearch's technology and expand the markets for its existing and
     potential products.

-    EXPAND STRATEGIC ALLIANCES IN RESEARCH AND DEVELOPMENT.  Aquasearch plans
     to leverage its access to new discoveries of products and technologies by
     stronger relationships with universities and other public research
     institutions.  In particular, Aquasearch has been accepted as a


                                         -9-
<PAGE>

     charter industry member of the Marine Bioprocess Engineering Center
     (MarBEC) at the University of Hawaii.  MarBEC is a program currently being
     considered as one of ten finalists in a national competition, of which five
     will be funded, by the U.S. National Science Foundation.  MarBEC is focused
     specifically on research and engineering to commercialize microalgae
     pigments and enzymes and, if funded in mid-1998, would sustain a 10-year
     program valued at more than $30 million.  Charter industry members (which
     include Merck, Eastman Chemical, Hoechst and Monsanto) are expected to
     commercialize MarBEC discoveries and to play a strong role in developing a
     graduate degree program.  In return, charter industry members would receive
     preferential rights to new products and technologies.  The Company's
     primary objective in participating in MarBEC and other similar research
     efforts is to have heightened access to expertise, equipment, facilities,
     new product development, and potential strategic business partners.

-    DEVELOP COSMETICS AND OTHER APPLICATIONS.  Aquasearch currently plans to
     conduct research and development of potential cosmetics and other
     applications from microalgae.  Aquasearch intends to identify such
     potentially marketable compounds through the efforts of its existing
     technical staff, its Scientific Advisory Board and the scientific
     institutes and universities (such as Scripps Institution of Oceanography,
     University of California, San Diego; University of Hawaii at Manoa and the
     University of Southern Mississippi) at which members of the Company's
     Scientific Advisory Board are conducting teaching and research activities.

PRODUCTS AND POTENTIAL PRODUCTS

     The following discussion describes the Company's existing natural
astaxanthin product and potential future products:

     EXISTING PRODUCT: ASTAXANTHIN

     Substantially all of Aquasearch's efforts to date have been focused on the
development of its AGM technology and the initial production of natural
astaxanthin derived from HAEMATOCOCCUS PLUVIALIS.  The two primary markets for
natural astaxanthin are currently aquaculture and poultry feed.

     AQUACULTURE.  Astaxanthin is the red pigment that occurs in the natural
diets of a number of marine species (including, for example, salmon, shrimp,
carp, trout, red sea bream, ornamental fish, lobsters and crabs) which provides
the red coloring in their flesh or shells.  In nature, astaxanthin, like other
marine pigments, is produced only by microalgae and is then passed up the food
chain.  Farmed salmon, trout and shrimp do not obtain astaxanthin in
non-pigmented commercial fish feed.  The resulting salmon, trout and shrimp
taste the same as pink salmon, trout and shrimp, but, due to consumer
preference, fetch about half the price.  (Industry studies have demonstrated
that color is the most significant factor influencing consumer salmon
purchases.)  For this reason, fish farmers have an important incentive to add
astaxanthin (in synthetic or natural form) or an alternative product into their
fish feed in order to increase the value of their produce.

     The aquaculture market for synthetic astaxanthin is currently estimated to
be approximately $125 million per annum, and continued growth is expected.  This
market is currently dominated by a single producer, Hoffman-LaRoche, which has
maintained the market price of synthetic astaxanthin at about $2,500 per
kilogram for more than a decade.  Aquasearch has entered into an exclusive
distribution and development agreement with Cultor with respect to the
production and distribution of Aquasearch's natural astaxanthin product derived
from HAEMATOCOCCUS PLUVIALIS.  Cultor owns Ewos, a Finnish company with
production facilities worldwide, which Aquasearch believes currently sells
approximately one-third of the world's salmon feed.  Aquasearch's natural
astaxanthin product has compared favorably with synthetic astaxanthin in tests
conducted by Cultor. Aquasearch's natural astaxanthin product will compete
directly with


                                         -10-
<PAGE>

Hoffman-LaRoche's synthetic astaxanthin product in the aquaculture feed market.
There can be no assurance that the market price of synthetic astaxanthin will be
maintained at historical levels or what effect this may have on the market price
of Aquasearch's natural astaxanthin product.

     POULTRY FEED.  The amount of natural pigments ingested in the diet
determines the hue of the egg yolks produced by poultry.  For many years,
poultry producers have added synthetic canthaxanthin -- a closely related
pigment to astaxanthin -- and other natural pigments (such as marigolds) to
livestock feeds in order to satisfy consumer preferences for various colored egg
yolks.  Recent legislation in Sweden, however, requires that all colorants added
to animal feeds be derived from natural sources.  This legislation prompted
Svenska Foder, the largest poultry feed producer in Sweden (and a subsidiary of
Cultor prior to December 1996), to seek out Aquasearch to provide natural
astaxanthin as an alternative colorant for poultry feed.  Aquasearch's natural
astaxanthin product has compared favorably with synthetic astaxanthin in tests
performed by Svenska Foder.  In addition, recently published studies by Svenska
Foder suggest that natural astaxanthin may have additional benefits with respect
to fertility, weight gain and feed efficiency in broiler chickens and layer
hens. In December 1996, Cultor sold its majority interest in Svenska Foder to
KKR, a Danish animal feeds company. In connection with this sale, Cultor
acquired all of Svenska Foder's rights under the Svenska Foder Supply Agreement.

     OTHER POTENTIAL APPLICATIONS.  Aquasearch intends to explore, independently
and jointly with its corporate partners, additional applications of natural
astaxanthin in the field of animal feed and animal nutrition and in other
fields, such as human nutrition and food coloring.  The Company believes that
the potential market for astaxanthin in human health and nutrition is large.  No
assurance can be given that Aquasearch or any of its corporate partners will be
successful in developing additional commercial applications for the Company's
natural astaxanthin product.

     POTENTIAL PRODUCTS

     PHARMACEUTICALS.  Most pharmaceutical products developed to date have been
derived from land-based plants, and the biodiversity of microalgae is comparable
to that of land-based plants.  In 1997, Aquasearch executed a Letter of Intent
with Inflazyme Pharmaceuticals, Limited to enter into 10-year drug development
and manufacturing agreement in which Aquasearch would provide large-scale
research quantities of microalgae - on a cost-plus basis - and Inflazyme would
identify and commercialize new therapeutic drugs from microalgae.  The two
companies plan to test several thousand species of microalgae for therapeutic
potential.  Aquasearch is aware of at least one company, Martek Biosciences
Corporation, that has collaborated with Merck & Co. and others to develop
pharmaceuticals from microalgae.  Aquasearch is also aware that certain
compounds derived from microalgae enhanced the production of an anti-cancer drug
that is now in Phase II clinical trials.  The Company believes that many
pharmaceutical and biotechnology companies will be interested to collaborate
with Aquasearch to develop new drugs from microalgae, although there can be no
assurances in this regard.  The Company believes this interest exists especially
because of the AGM technology, which Aquasearch views as unique in its ability
to provide the large quantities of pure material required for research,
development and manufacture of drugs from microalgae.  Aquasearch does not
currently have the expertise to develop and commercialize pharmaceutical
products on its own.  Aquasearch's strategy will be to establish the AGM as a
core technology for the cultivation of commercial quantities of microalgae and
to seek collaborative research and development and sales, marketing and
distribution relationships with established pharmaceutical companies in order to
develop and commercialize potential microalgal pharmaceutical products.  The
Company's development of pharmaceutical products from microalgae involves many
significant risks and uncertainties.

     OTHER PIGMENTS FROM MICROALGAE.  Using its AGM technology, Aquasearch has
the capability of cultivating additional microalgal species rich in pigments. 
Microalgae contain the entire spectrum


                                         -11-
<PAGE>

of colors found in aquatic environments, including more than 1,000 specific
pigments.  These pigments may be useful in other feeds for the aquaculture and
animal feed markets.  In addition, the Company believes that natural pigments
found in microalgae can be substituted for synthetic pigments currently used in
the food processing industry.  For example, canthaxanthin is used widely in the
food industry today for colorings in cakes, candy, soda and processed meats. 
The Company believes that the worldwide market for synthetic canthaxanthin is
currently in excess of $200 million. Aquasearch is aware of a number of
microalgae species that contain a high percentage of canthaxanthin and other
closely related pigments with global markets of comparable size.  Similarly,
there is a growing demand for natural pigments in cosmetics, skin and hair care
products that could be derived from microalgal species.  Aquasearch believes it
has the technical expertise to identify microalgae species that produce pigments
that could be useful in the food processing, cosmetics and consumer products
industries, among others.  The Company believes that the combined worldwide
market for canthaxanthin and three other pigments currently being evaluated by
the Company is in excess of $1 billion.  The Company's development of additional
microalgae pigmentation products involves many significant risks and
uncertainties.

     AQUACULTURE FEEDS.  Microalgae are the primary source of food for most
aquatic species in their larval stages.  According to independent sources, the
aquaculture market currently produces approximately 18% of the world's fisheries
consumption based on 1994 figures (which are the most recent data available) and
was estimated to be a $35 billion  market in 1996.  Aquaculture feeds typically
represent the highest cost of production for the aquaculture farmer and many are
required to grow or purchase microalgae or microalgae sources for their
hatcheries.  Problems of contamination are a significant business risk and some
farmers are currently purchasing prepared larval feeds.  One of the significant
obstacles to the development of aquaculture has been the difficulty of feeding
the larvae.  Aquasearch believes that the AGM can provide a cost-effective
technology for growing feed for the aquaculture industry, both for existing
species and future aquaculture species.  The Company's development of microalgae
aquaculture feed products involves many significant risks and uncertainties.

     COSMETICS.  Aquasearch believes that microalgae contain several significant
features of importance to the cosmetics industry.  First, the natural colors
that occur in microalgae can be used directly as coloring agents in cosmetics. 
Second, many species of microalgae possess light blocking compounds that
regulate the amount of ultraviolet and other wavelengths they absorb and have
potential applications in sunscreens and other products containing sun blocking
agents.  Last, bioactive agents derived from microalgae may be useful as
cosmetics themselves.  For example, Aquasearch is aware that an extract from a
marine organism is an active ingredient in a wrinkle-reducing skin cream
marketed by Estee Lauder.  This product currently generates more than a million
dollars a year in royalties to its developer.  Aquasearch believes that the
market for cosmetics derived from microalgae is a potentially large market. 
Aquasearch does not currently have the expertise to develop and commercialize
cosmetics products on its own.  Aquasearch's strategy will be to establish the
AGM as a core technology for the cultivation of commercial quantities of
microalgae and to seek collaborative research and development and marketing,
sales and distribution relationships with established cosmetics and consumer
goods companies in order to develop and commercialize potential microalgal
cosmetics products.  The Company's development of microalgae cosmetics products
involves many significant risks and uncertainties.

MANUFACTURING

     ASTAXANTHIN

     Aquasearch began culturing HAEMATOCOCCUS PLUVIALIS at its current facility
in the HOST park in 1995.  HAEMATOCOCCUS PLUVIALIS is cultured using a series of
photobioreactors of varying sizes to achieve culturing consistency before
entering the AGM.  The AGM is a large photobioreactor that


                                         -12-
<PAGE>

utilizes computer-controlled equipment to monitor and adjust  the turbulence
rate, pH, gas exchange, temperature and nutrient levels within the AGM to
optimize microalgae growth rates.

     The AGMs are harvested regularly and the extracted amount is pumped from
the AGM into open ponds where, using proprietary processes, the microalgae is
caused to turn red (biosynthesis of astaxanthin).  Once the optimal reddening
has occurred, the microalgae are drained from the ponds and dewatered.  The
microalgae slurry is then further processed, dried and packaged using
proprietary equipment and processes.

     Over the past three months, Aquasearch has instituted three significant
improvements in its production process.  First, the Company has initiated
certain changes in its cultivation procedures that have resulted in achieving a
sustained three-fold increase in productivity of HAEMATOCOCCUS PLUVIALIS in the
AGM.  Second, the Company has employed a new AGM model that is double the size
of previous models; this new model has not only performed better, but it also
requires only half the labor of earlier models.  Finally, the Company has
designed an even larger model AGM (of more than 5,000 gallons) that is planned
for routine production usage in 1998, and is anticipated to further reduce labor
costs by a factor of five.  There are significant risks and uncertainties
involved, particularly in the development of the very large volume AGM, and
there can be no assurance that the Company will achieve effective implementation
in a timely manner.

     Over the past twenty months, the Company has been producing natural
astaxanthin at varying rates of between one and eight kilograms per month at its
existing one-acre research and development/production facility.  The amounts
produced have been used by Cultor for a variety of product development purposes.
The production targets under the Cultor Distribution and Development Agreement
were initially 40 kilograms per month at the end of the first year and 120
kilograms per month at the end of the second year; however, Aquasearch and
Cultor recently agreed to extend the term of the Cultor Distribution and
Development Agreement by one year and to amend the production targets to be 40
kilograms per month at the end of the second year (September 1998) and 120
kilograms per month at the end of the third year (September 1999).  In order to
meet these production targets, Aquasearch must significantly expand and improve
its production facilities and processes, which will involve various risks and
uncertainties. 

     OTHER MICROALGAE SPECIES

     In addition to HAEMATOCOCCUS PLUVIALIS, the Company has used its AGM
technology to successfully culture the following species of microalgae:
CHLORELLA SOROKINIENSIS, LYNGBYA LAGERHEIMII, SPIRULINA PLATENSIS and
HAEMATOCOCCUS LACUSTRIS.  Commercial production of additional species of
microalgae will require the development of custom processes to create optimal
conditions for the cultivation and harvesting of each species.  Based on
preliminary studies, Aquasearch believes that the fundamental aspects of the
technology used to produce HAEMATOCOCCUS PLUVIALIS will be directly applicable
to the production of hundreds of other species of microalgae and that principal
variations are likely to occur in the modification of harvesting processes
rather than adaptation of the AGM.

MARKETING AND SALES

     Aquasearch's primary business strategy is to continue development of its
platform technology and to establish its expertise and reputation as a cost
effective developer and manufacturer of high value microalgal products.  The
Company presently plans to develop strategic research and development, sales and
marketing and distribution arrangements with established companies that have
significant market shares in the fields in which Aquasearch intends to develop
and sell products.  The Company believes that this approach reduces the time to
market for its products and increases the likelihood of market acceptance for
its products.  Alternatively, Aquasearch does not believe that acquiring or
developing the legal, regulatory, sales and


                                         -13-
<PAGE>

marketing expertise necessary to compete with established vertically integrated
companies with significant market shares is likely to yield the best return on
investment for the Company or its shareholders.  In general, Aquasearch intends
to follow substantially the same strategy with respect to the development,
marketing and sale of future products that it followed in connection with the
development, marketing and sale of its natural astaxanthin product; namely, to
identify potential corporate partners already familiar with the potential
product as part of their own research and development efforts and to enter into
strategic development agreements to manufacture value-added products to the
specifications of these corporate partners.  Once new products are in
production, the Company may create one or more separate operating companies with
licenses to use the technology solely for the specific microalgal species and
end use.

CORPORATE PARTNER RELATIONSHIPS

     SVENSKA FODER

     In July 1995, Aquasearch signed the Svenska Foder Supply Agreement with
Svenska Foder, pursuant to which Svenska Foder agreed to act as the exclusive
distributor of Aquasearch's natural astaxanthin for animal feed and animal
nutrition applications in Sweden, Denmark, Norway and Finland for poultry, pigs,
cattle and horses.  The Svenska Foder Supply Agreement had a term of three years
and required Aquasearch to deliver five kilograms of natural astaxanthin per
month.  Svenska Foder used the natural astaxanthin in place of synthetic
astaxanthin in chicken feed to increase the reddish hue in egg yolks.  Recently
published studies suggest that natural astaxanthin may have additional benefits
with respect to fertility, weight gain and feed efficiency in broiler chickens
and layer hens.  In December 1996, Cultor sold Svenska Foder to KKR, a Danish
animal feeds company, and assumed all of Svenska Foder's rights and obligations
under the Svenska Foder Supply Agreement.

     CULTOR

     In May 1996, Aquasearch entered into a three-year exclusive Distribution
and Development Agreement with Cultor (recently extended to four years) pursuant
to which Aquasearch will act as the exclusive worldwide supplier of natural
astaxanthin from microalgae to Cultor in the field of animal feed and animal
nutrition and Cultor will act as the exclusive worldwide distributor of
Aquasearch's natural astaxanthin in the field of animal feed and animal
nutrition.  The following description of certain terms and conditions of the
Cultor Distribution and Development Agreement does not purport to be complete
and is qualified in its entirety by reference to the definitive Agreement.

     The Cultor Distribution and Development Agreement initially provided 
that from and after September 24, 1997 the target production requirement for 
the Company and the target purchase requirement for Cultor would be 40 
kilograms of natural astaxanthin per month, and that the target production 
requirement for the Company and the target purchase requirement for Cultor 
from and after September 24, 1998 would be 120 kilograms of natural 
astaxanthin per month; however, the Company and Cultor recently agreed to 
extend the term of the Cultor Distribution and Development Agreement by one 
year and to amend the production targets to be 40 kilograms per month at the 
end of the second year (September 1998) and 120 kilograms per month at the 
end of the third year (September 1999). The extension is conditioned on the 
Company raising a minimum of $3.5 million in a combination of debt and equity 
or by mutual agreement. Under the Agreement, Cultor has the obligation to 
obtain all governmental approvals for, promote and distribute the product, at 
its own expense, in each country in which it proposes to sell the product.  
During the term of the Agreement, the Company and Cultor will share equally 
in the margin (the "Transfer Price") between the production costs of 
Aquasearch (the "Aquasearch Production Costs") and the net sales price (which 
is equal to the gross sales price to the end user less volume bonuses, 
freight and agent's commissions).

                                         -14-
<PAGE>

     The Agreement provides that Cultor and Aquasearch may, at Cultor's option,
mutually develop a new joint venture company for the sole purpose of producing
and selling natural astaxanthin in the field of animal feed and animal
nutrition.  Pursuant to this arrangement, Aquasearch would contribute a ten-acre
natural astaxanthin production facility to be constructed in 1998 in return for
its 50% stake in the new company and Cultor would contribute cash equal to the
appraised value of the ten-acre production facility in return for its 50% stake.
Under the Agreement, Cultor also has the option to increase its stake in the new
company by purchasing from Aquasearch a further 25% of the new company (thus
increasing Cultor's stake to 75%) for cash based on a formula.  The formula
provides that the purchase price for the additional shares to be acquired by
Cultor from Aquasearch will equal the greater of (i) $1 million, (ii) half of
the current replacement value of the astaxanthin production facilities initially
contributed by Aquasearch or (iii) an amount equal to X multiplied by Y; where
"X" equals the difference between the Transfer Price and the Aquasearch
Production Costs for the six-month period commencing on November 1, 1999 and
ending on April 30, 2000 and "Y" equals six (or, in other words, an amount equal
to twelve times annual profit in the third year of the contract).

     Under the Agreement, Aquasearch will license certain technology to the new
company to make, use and sell natural astaxanthin within the field of animal
feed and animal nutrition only and will retain the right (i) to make, use and
sell natural astaxanthin in all fields other than animal feed and nutrition and
(ii) to make, use and sell any microalgal products other than natural
astaxanthin in all fields, including the field of animal feed and animal
nutrition.  The Agreement contains detailed provisions regarding the financing
and management of the new company, procedures for resolving deadlocks between
the parties, mechanisms governing the buy-out of one party by the other,
covenants mandating the distribution of 40% of the annual profits of the new
company to its shareholders and establishing royalty rates under a marketing
agreement that may be entered into between the new company and Cultor,
provisions restricting the transfer of ownership interests by Aquasearch and
Cultor and providing for rights of first refusal and registration rights,
termination provisions and detailed provisions governing the allocation of
intellectual property rights upon termination.

     In connection with the execution of the Cultor Distribution and Development
Agreement, Cultor and Aquasearch also entered into a Stock Subscription
Agreement pursuant to which Cultor purchased 400,000 shares of Aquasearch Common
Stock at a purchase price of $0.50 per share.

     The Company believes that the Cultor Distribution and Development Agreement
is beneficial to the Company in the following ways.  First, the arrangement will
substantially reduce the time to market for the Company's natural astaxanthin
product because Cultor, at its own expense, will be responsible for obtaining
all regulatory approvals and promoting and selling the product.  Second, by
establishing an exclusive arrangement with Cultor (along with its affiliated
entities, the second largest consumer of synthetic astaxanthin in the world),
the Company believes it has established an additional barrier to entry to
potential competitors.  Third, the Company retains all of its intellectual
property rights to develop applications for astaxanthin outside the field of
animal feed and animal nutrition and will obtain an exclusive license to use all
microalgae technology developed by the new company, if any.  Fourth, the Company
believes that the collaboration with Cultor to develop the market for
astaxanthin in animal feed and nutrition will enhance the Company's reputation
in the industry and stimulate additional research and development with respect
to microalgae products other than astaxanthin.  The Company's obligations and
performance under the Cultor Distribution and Development Agreement and the
potential formation of a new joint venture company with Cultor involve various
risks and uncertainties. In addition, in order to meet the production targets
under the Cultor Distribution and Development Agreement, Aquasearch must
significantly expand and improve its production facilities and processes which
will involve various risks and uncertainties.

     Notwithstanding the foregoing, if the Company is unable to develop any
commercial uses for natural astaxanthin outside of the field of animal feed and
animal nutrition and if the Company is unable to develop, cultivate and sell
microalgae products other than astaxanthin, then the Company and its
shareholders will have


                                         -15-
<PAGE>

sold the Company's sole product and source of revenues to Cultor for the
purchase price set forth in the Cultor Distribution and Development Agreement. 
The Company believes that its ability to develop additional uses for astaxanthin
outside of the field of animal feed and nutrition and its ability to develop
microalgal products other than astaxanthin will be significantly enhanced by its
collaboration with Cultor in developing the astaxanthin market for animal feed
and animal nutrition.

COMPETITION

     The Company's natural astaxanthin product will compete directly with the
synthetic astaxanthin product developed and marketed worldwide by
Hoffman-LaRoche.  Hoffman-LaRoche has significantly greater research and
development, technical, financial, management, marketing and sales resources
than Aquasearch as well as a worldwide reputation and a dominant market share.
In addition, at least two companies, Astacarotene and Cyanotech, have either
announced plans to produce natural astaxanthin from microalgae or are producing
small quantities for test and commercial purposes.  Moreover, Cyanotech claims
to be currently producing astaxanthin from microalgae, but has declined to
specify the amount it has actually sold.  Cyanotech is not known to have entered
into a strategic relationship or supply agreement with any company that is a
significant consumer of astaxanthin, such as Cultor (which is estimated to
consume approximately 30% of the world's production).  To Aquasearch's knowledge
there is only one company that is a larger consumer of astaxanthin than Cultor,
and that second consumer is believed to account for approximately 50% of the
world market.  Cyanotech recently announced plans to enter into even larger
scale commercial production of natural astaxanthin in 1998, although it has not
indicated who its customers might be.  Aquasearch believes that competition in
the astaxanthin market will intensify significantly in the near future.  

     Alternative sources of pigmentation that have been tested include
astaxanthin from shrimp shells, paprika and a yeast strain PFAFFIA RHODOZYMA.
Aquasearch believes that only PFAFFIA RHODOZYMA continues to be evaluated as a
potential alternative to synthetic or natural astaxanthin from microalgae. 
Aquasearch's natural astaxanthin product is expected to compete with synthetic
astaxanthin (and any other alternative products) primarily on the basis of
product performance, price and proprietary position.  In this regard, although
Hoffman-LaRoche maintained the market price of synthetic astaxanthin at
approximately $2,500 per kilogram for more than a decade when there was no
viable competitive product available, there can be no assurance that
Hoffman-LaRoche will not cut the price of its synthetic astaxanthin product
significantly in response to the introduction of any competing natural
astaxanthin product.  Any such pricing or other competitive pressure could have
a material adverse effect on Aquasearch's business, financial condition, results
of operations and relationships with corporate partners.  The existence of
products of which Aquasearch is not aware, or products that may be developed in
the future, may also adversely affect the marketability of Aquasearch's natural
astaxanthin product.

     Aquasearch plans to aggressively pursue pharmaceutical drug discovery
partnerships along lines similar to those envisioned by the agreement of mutual
intent between Aquasearch and Inflazyme Pharmaceuticals.  Aquasearch is not
presently aware of any other microalgae company engaged or interested in the
possibility of pharmaceutical drug development that also has the capability of
large-volume, commercial scale cultivation represented by Aquasearch's AGM
technology.

     Aquasearch believes that its AGM and related microalgae cultivation and
harvesting technologies currently offer significant technical and economic
advantages compared with the open pond systems currently used by certain
competitors, including increased yields and the ability to cultivate hundreds of
microalgal species that cannot be produced in open pond systems due to
substantially higher risks of contamination and lack of control.  Aquasearch
also believes that its AGM and related microalgae cultivation and harvesting
technologies compare favorably with other known closed systems with respect to
capital and operating costs.


                                         -16-
<PAGE>

However, the existence of technology of which Aquasearch is not aware, or
technology that may be developed in the future, may adversely affect the
technical and competitive advantages that Aquasearch currently believes it holds
compared with competing open pond and known closed system microalgae cultivation
technologies.

     Aquasearch intends to develop other natural products from microalgae that
will compete with existing natural and synthetic products.  The Company expects
that competition to develop additional microalgal products will be intense. 
Aquasearch's future competitors are expected to include major pharmaceutical,
food processing, chemical and specialized biotechnology companies, many of which
will have financial, technical and marketing resources significantly greater
than those of Aquasearch.  In addition, specialized biotechnology companies may
form collaborations with large established companies to support research,
development and commercialization of products that may be competitive with
future products of Aquasearch.  Also, academic institutions, governmental
agencies and other public and private research organizations are conducting
research activities and seeking patent protection and may commercialize products
competitive with those of Aquasearch on their own or through joint ventures. 
The existence of products of which Aquasearch is not aware, or products that may
be developed in the future, may adversely affect the marketability of additional
products developed by Aquasearch.

     Aquasearch's competitive position will also depend on its ability to
attract and retain qualified scientific and other personnel, develop effective
proprietary products, successfully perform under the Cultor Distribution and
Development Agreement, conclude and successfully perform its contemplated drug
development agreement with Inflazyme Pharmaceuticals, implement research and
development and production plans, obtain patent protection and secure adequate
capital sources.

PATENTS, LICENSES AND PROPRIETARY TECHNOLOGY

     Aquasearch relies upon a combination of patents, copyright protection,
trade secrets, know-how, continuing technological innovation and licensing
opportunities to develop and maintain its competitive position.  The Company's
future prospects depend in part on its ability to obtain patent protection for
its products and processes, to preserve its copyright and trade secrets and to
operate without infringing the proprietary rights of third parties.  Aquasearch
has been awarded one patent in the United States, one patent by the European
Patent Office (which is applicable to all member nations of the European Union),
and one patent in Australia for its closed system microalgae cultivation
process. The Company has additional patents pending internationally and in the
United States.

     The patent positions of pharmaceutical, biopharmaceutical and biotechnology
companies, which are analogous to the Company, are generally uncertain and
involve complex legal and factual questions.  There can be no assurance that any
of the Company's pending patent applications will result in issued patents, that
the Company will develop additional proprietary technologies that are
patentable, that any patents issued to the Company or its strategic partners
will provide a basis for commercially viable products or will provide the
Company with any competitive advantages or will not be challenged by third
parties, or that the patents of others will not have a material adverse effect
on the ability of the Company to do business.  In addition, patent law relating
to the scope of claims in the technology fields in which the Company operates is
still evolving.  The degree of future protection for the Company's proprietary
rights, therefore, is uncertain.  Furthermore, there can be no assurance that
others will not independently develop similar or alternative technologies,
duplicate any of the Company's technologies, or, if patents are issued to the
Company, design around the patented technologies developed by the Company.  In
addition, the Company could incur substantial costs in litigation if it is
required to defend itself in patent suits brought by third parties or if it
initiates such suits.

     Others may have filed and in the future are likely to file patent
applications that are similar or identical to those of the Company.  To
determine the priority of inventions, the Company may have to participate in


                                         -17-
<PAGE>

interference proceedings declared by the United States Patent and Trademark
Office that could result in substantial cost to the Company.  No assurance can
be given that any such patent application will not have priority over patent
applications filed by the Company.  In addition, the laws of certain foreign
countries may not protect the Company's patent and other intellectual property
rights to the same extent as the laws of the United States.

     The Company's future prospects also depend in part on the Company neither
infringing patents or proprietary rights of third parties nor breaching any
licenses that may relate to the Company's technologies and products.  There can
be no assurance that the Company will not infringe the patents, licenses or
other proprietary rights of third parties.  In addition, the Company may in the
future receive notices claiming infringement from third parties as well as
invitations to take licenses under third party patents.  Any legal action
against the Company or its strategic partners claiming damages and seeking to
enjoin commercial activities relating the affected products and processes could,
in addition to subjecting the Company to potential liability for damages,
require the Company or its strategic partners to obtain a license in order to
continue to manufacture or market the affected products and processes.  There
can be no assurance that the Company or its strategic partners would prevail in
any such action or that any license (including licenses proposed by third
parties) required under any such patent would be made available on commercially
acceptable terms, if at all.  The Company has not conducted an exhaustive patent
search and no assurance can be given that patents do not exist or could not be
filed that would have a material adverse effect on the Company's ability to
develop and market its products.  There are a significant number of United
States and foreign patents and patent applications in the Company's area of
interest, and the Company believes that there may be significant litigation in
the industry regarding patent and other intellectual property rights.  If the
Company becomes involved in such litigation, it could consume a substantial
portion of the Company's managerial and financial resources, which could have a
material adverse effect on the Company's business, financial condition, results
of operations and relationships with corporate partners.

     The enactment of legislation implementing the General Agreement on Trade
and Tariffs has resulted in certain changes in United States patent laws that
became effective on June 8, 1995.  Most notably, the term of patent protection
for patent applications filed on or after June 8, 1995 is no longer a period of
seventeen years from the date of grant.  The new term of United States patents
will commence on the date of issuance and terminate twenty years after the
effective date of filing and may result in a substantially shortened term of the
Company's patent protection which may adversely affect the Company's patent
position.

     While the disclosure and use of the Company's proprietary technology,
know-how and trade secrets are generally controlled under agreements with the
parties involved, there can be no assurance that all confidentiality agreements
will be honored, that others will not independently develop similar or superior
technology, that disputes will not arise concerning  the ownership of
intellectual property, or that dissemination of the Company's proprietary
technology, know-how and trade secrets will not occur.

GOVERNMENT REGULATION AND PRODUCT TESTING

     Aquasearch's natural astaxanthin product, potential products and its
manufacturing and research activities are or may become subject to varying
degrees of regulation by a number of government authorities in the United States
and other countries, including the FDA pursuant to the Federal Food, Drug and
Cosmetic Act.  Each existing or potential microalgal product that is developed
or marketed by Aquasearch, its licensees or its strategic partners for use by
humans may present unique regulatory problems and risks, depending on the
product type, uses and method of manufacture.  The FDA regulates, in varying
degrees and in different ways, dietary supplements, other food products, medical
devices and pharmaceutical products, including their manufacture, testing,
exportation, labeling, and, in some cases, advertising. Generally, prescription
pharmaceuticals and certain types of medical devices are regulated more
vigorously than foods, such as dietary


                                         -18-
<PAGE>

supplements.  Any future products developed by Aquasearch for use in human
nutrition, pharmaceuticals or cosmetics, will require Aquasearch to develop and
adhere to GMP as required by the FDA, ISO standards as required in Europe, and
any other applicable standards mandated by federal, state, local or foreign
laws, regulations and policies.  Currently, the Company's production facilities
do not comply with GMP or ISO standards and significant capital expenditures and
compliance procedures would have to be made and implemented before the Company's
production facilities could meet GMP and ISO qualifications.

     The Company is or may become subject to other federal, state and foreign
laws, regulations and policies with respect to labeling of its products,
importation of organisms, and occupational safety, among others.  Federal, state
and foreign laws, regulations and policies are always subject to change and
depend heavily on administrative policies and interpretations.  The Company is
working with Cultor with respect to compliance with foreign laws, regulations
and policies pertaining to use of its natural astaxanthin product in the field
of animal feed and animal nutrition.  There can be no assurance that any changes
with respect to federal, state and foreign laws, regulations and policies, and,
particularly with respect to the FDA or other such regulatory bodies, with
possible retroactive effect, will not have a material adverse effect on the
Company's business, financial condition, results of operations and relationships
with corporate partners.  There can be no assurance that any of the Company's
potential products will satisfy applicable regulatory requirements.

     The Company's natural astaxanthin product is viewed as a food ingredient by
regulatory authorities in Sweden.  Regulatory authorities in other jurisdictions
may view the Company's natural astaxanthin product as a food additive.  All new
color additives for ultimate human consumption in the United States require
premarket clearances from the FDA.  Therefore, Aquasearch's natural astaxanthin
product and any additional food color products for use in the United States will
require FDA clearance, unless they meet the requirements of current color
additive regulations.  The process of obtaining clearances for a new color
additive is expensive and time consuming.  Extensive information is required on
the toxicity of the additive, including carcinogenicity studies and other animal
testing.  Although the FDA approved the Hoffman-LaRoche synthetic astaxanthin
product as a food additive in 1995, there can be no assurance that the FDA will
grant similar approval for Aquasearch's natural astaxanthin product.  As of the
date of this Annual Report, the Company has not applied for FDA clearance for
the Company's natural astaxanthin product as a food additive. No assurances can
be given that any potential Aquasearch food color product will be cleared by the
FDA on a timely basis, if at all.

     Although the FDA approved the Hoffman-LaRoche synthetic astaxanthin product
as a food ingredient in 1995, there can be no assurances that the FDA will grant
similar approval for Aquasearch's natural astaxanthin product.

     Regulatory approvals in other markets in which Aquasearch's natural
astaxanthin product is likely to be distributed, including in particular, the
European Union, Japan, Canada and Australia, vary by market.  Currently, the
Aquasearch natural astaxanthin product has been approved in Sweden for use in
poultry feed and is considered by the Swedish authorities as a feed ingredient
rather than a food additive.  The Company believes that the approval process in
Australia, Japan and certain other Asian countries will come under their
"natural" status and be approved relatively quickly; however, there can be no
assurances in this regard.  The Aquasearch natural astaxanthin product has not
been submitted for approval by the European Union, and there can be no assurance
that the determination by Swedish authorities will have any influence on the
determination to be made by the European Union.

     Under the terms of the Cultor Distribution and Development Agreement,
Cultor has the responsibility to obtain any FDA and other approvals necessary in
each country in which Cultor determines to distribute the product.


                                         -19-
<PAGE>

     The Company is also subject to numerous environmental and safety laws and
regulations, including those governing the use and disposal of hazardous
materials.  Any violation of, and the cost of compliance with, these regulations
could have a material adverse effect on the Company's business, financial
condition, results of operations and relationships with corporate partners.

EMPLOYEES

     As of October 31, 1997, Aquasearch has 15 full-time employees, of whom four
have Ph.D.s, nine are involved in the production and harvesting process, five
are involved in research and development and two are involved in administration
and support.  The Company considers relations with its employees to be good. 
None of the Company's employees is covered by a collective bargaining agreement.

SCIENTIFIC ADVISORY BOARD

     The Aquasearch Scientific Advisory Board is composed of leading experts in
aquaculture, marine biology and fluid dynamics and the chemistry, photobiology
and mass culture of microalgae.  The Scientific Advisory Board provides guidance
to the Company regarding the optimization of its production and processing
methods and research and development pertaining to both existing and potential
microalgal products.  The Scientific Advisory Board held its inaugural meeting
in May 1996 and is scheduled to meet approximately four times per year.  Between
meetings, individual Scientific Advisory Board members consult with the Company
on an as-needed basis.  Aquasearch believes that the individual and collective
knowledge and experience of its Scientific Advisory Board provides the Company
with an important competitive advantage.  The current members of the Aquasearch
Scientific Advisory Board are as follows:

     DR. JOHN BARDACH received a B.Sc. in Zoology from Queen's University,
Canada in 1946 and a Ph.D. in Zoology from University of Wisconsin in 1949. 
Dr. Bardach has served as Director of the Bermuda Biological Station, the Hawaii
Institute of Marine Biology and the East-West Center, as well as Professor at
the University of Hawaii. Dr. Bardach's numerous international appointments have
included Chairmanship of the U.S. National Academy of Sciences Panel on Aquatic
Food Sources, the World Bank-FAO Panel on Aquaculture Research Needs of
Developing Countries, and the State of Hawaii Aquaculture Advisory Council.  Two
of his books, HARVEST OF THE SEA and AQUACULTURE (now in its 25th printing),
establish him as one of the fathers of modern aquaculture.

     DR. ROBERT R. BIDIGARE received a B.S. (SUMMA CUM LAUDE) in Aquatic Biology
from Eastern Michigan University in 1977 and a Ph.D. in Biological Oceanography
from Texas A&M University in 1981.  Dr. Bidigare currently is Associate
Professor of Oceanography at University of Hawaii.  Dr. Bidigare serves on the
Advisory Board for the National Center for the Culture of Marine Phytoplankton,
is a member of the NASA SeaWIFS Science Working Team and an observer on the
International Oceanographic Commission Group of Experts on Standards and
Reference Materials.  Dr. Bidigare has authored more than 75 scientific papers,
and is a recognized expert on plant pigment chemistry, bio-optics and
biochemistry of microalgae.

     DR. JOHN CULLEN received a B.Se. (Honors in Biology) from University of
California, Santa Cruz in 1974 and a Ph.D. in Biological Oceanography from
Scripps Institution of Oceanography, University of California, San Diego, in
1980.  Dr. Cullen has held faculty positions at the University of Texas, the
Bigelow Laboratory for Ocean Sciences and Dalhousie University in Halifax,
Canada, where he now holds the Chair of Environmental Observation Technology. 
Dr. Cullen's research has focused in the area of microalgae growth rates,
productivity, nutrient requirements and bio-optics.


                                         -20-
<PAGE>

     DR. WILLIAM FENICAL received a B.S. in Biochemistry from California State
Polytechnic University in 1963, an M.S. in Organic Chemistry from San Jose State
University in 1965 and a  Ph.D. in Organic Chemistry from University of
California, Riverside in 1968.  Dr. Fenical joined the faculty of Scripps
Institution of Oceanography, University of California, San Diego, in 1973, where
he has served as Director of the University of California-wide Institute of
Marine Resources (1988-1993) and Director of the Marine Research Division since
1989.  Dr. Fenical is recognized as one of the world's authorities on the
chemistry of marine natural products, an area in which he has published more
than 250 scientific articles.  Dr. Fenical has served as an advisor on marine
natural product chemistry to the National Institutes of Health, the National
Research Council, and numerous pharmaceutical companies, including Sterling
Winthrop, Ligand, Pharmagenesis and Bristol-Myers.  He serves on the editorial
boards of the JOURNAL OF NATURAL PRODUCTS, MOLECULAR MARINE BIOLOGY AND
BIOTECHNOLOGY, and the JOURNAL OF MARINE BIOTECHNOLOGY.  He holds seven patents
for novel chemical compounds of a biomedical nature, including a wrinkle
reducing agent that is the active ingredient in a skin cream marketed by Estee
Lauder, which produces more than $1 million per year in royalties for the
University of California.

     DR. MARK E. HUNTLEY received a B.Sc. degree (SUMMA CUM LAUDE) in Biology
from the University of Victoria, Canada in 1976 and earned a Ph.D. in Biological
Oceanography from Dalhousie University in Halifax, Canada in 1980.  Dr. Huntley
is a research biologist at Scripps Institution of Oceanography, University of
California, San Diego, and President, Chief Executive Officer and Chairman of
the Board of Directors of Aquasearch.  Dr. Huntley has won numerous awards and
grants in his field, published more than 75 articles and a book, and lectured
throughout the world.  He serves on the Executive Committee of the Global Ocean
Ecosystem Dynamics program, a component of the U.S. Global Change Research
Program, and the only element of the International Geosphere-Biosphere Program
that is examining the impact of global climate change on marine ecosystems.  He
has served as an advisor to numerous international, national and state agencies,
including the United States State Department, the United States Department of
Interior and the White House Office of Science and Technology Policy. 
Dr. Huntley is a co-founder of Aquasearch and a co-inventor of the Aquasearch
Growth Module.

     DR. EDWARD A. LAWS received a B.A. (MAGNA CUM LAUDE) in Chemistry from
Harvard College in 1967 and a Ph.D. in Chemical Physics from Harvard College in
1971.  He was an instructor in Oceanography at Florida State University from
1971 through 1974, and then joined the faculty at the University of Hawaii,
where he is now a Professor of Oceanography.  Dr. Laws has served as Chairman of
the Oceanography Department, School of Ocean and Earth Science and Technology at
the University of Hawaii, which was ranked by the National Academy of Sciences
in 1995 as the fifth best program of its kind in the nation.  Dr. Laws recently
was appointed Assistant Vice President, Graduate Research and Education, of the
University of Hawaii.  Dr. Laws is an expert on the large-scale cultivation of
microalgae, an area in which he has focused his research and has graduated a
number of Ph.D.s.

     DR. PETER P. NIILER received his B.S. degree from Lehigh University in
1960, earned honors as a Fulbright Scholar at Cambridge University, England in
1961, and was awarded a Ph.D. as a Woodrow Wilson Fellow from Brown University
in 1964.  Dr. Niiler has taught and conducted research at Harvard College, Nova
University and Oregon State University.  He is currently a Professor of
Oceanography at Scripps Institution of Oceanography, University of California,
San Diego, where he heads one of the largest oceanographic research programs in
the nation.  Dr. Niiler has published more than 125 scientific papers and has
invented various oceanographic instrumentation technologies that are now in
commercial production with sales of $6 million annually.  Dr. Niiler is an
expert in applied mathematics and fluid mechanics and was a co-inventor of
processes used in the Aquasearch Growth Module.

     DR. DONALD REDALJE received his B.S. in Environmental Biology from the
University of California, Santa Barbara in 1971 and his Ph.D. from University of
Hawaii in 1980.  He has conducted


                                         -21-
<PAGE>

research and taught at Scripps Institution of Oceanography, University of
California, San Diego, the Naval Postgraduate School, Moss Landing Marine
Laboratory, and the University of Southern Mississippi, where he recently served
as Director of the Center for Marine Science.  Dr. Redalje is internationally
recognized for his development of a method to measure the productivity of
microalgae, and is an expert on the biochemistry and physiology of marine
plants.  Dr. Redalje is a co-founder of Aquasearch and co-inventor of the
Aquasearch Growth Module.

     Most members of the Scientific Advisory Board are not employed by the
Company and each of these members may have commitments to other entities that
could limit their availability to the Company.  There can be no assurance that
the Company will be able to retain its key Scientific Advisory Board members. 


ITEM 2.  DESCRIPTION OF PROPERTIES

     The Company is located in Kailua-Kona, Hawaii, at the HOST Business Park. 
The facility in Kailua-Kona currently consists of approximately five leased
acres containing a number of AGMs, reddening ponds, a processing facility, a
laboratory, administrative offices and additional space for production and
research and development.  All products are currently produced at this facility.
Aquasearch has no production facilities or offices outside the State of Hawaii.

     The Company has initiated the application process for a thirty-year lease
of its current five acre parcel from the Natural Energy Laboratory of Hawaii
Authority ("NELHA"), the state entity which administers the HOST Business Park. 
Leases of thirty years have historically been awarded to companies once they
have completed their research and development stage, which the Company plans to
complete this year.  The government-administered process to award a thirty-year
lease has usually taken less than two years.  More than half of the 800-acre
HOST Business Park facility is currently undeveloped and the Company believes
that, as one of the fastest growing and largest employers in HOST Business Park,
its lease application is likely to be considered favorably, although there can
be no assurances in this regard.

     Construction to expand the Company's existing one-acre research and
development/production facility to a four-acre facility is scheduled to begin in
early 1998, contingent on available funds.  The design and engineering process
for this expansion was initiated in April 1996 when Aquasearch solicited bids
from various engineering firms.  As a result of the bidding process, Aquasearch
retained Harris Group, Inc. of Seattle, an engineering firm with extensive
experience in the design of biotech, microbe-based production plants, to design
the build-out of the facility.  The engineering process for this expansion was
completed in September 1996.  In late 1997 the Company retained a local team
including architects, engineers and contractors to complete the design process
and to obtain the necessary construction permits.  In late 1997, Aquasearch was
granted the necessary permits to begin construction immediately on all facets of
expansion that relate directly to increasing production.  The final design of a
laboratory and processing building remains to be submitted for permit approval. 
The Company has received a firm bid of approximately $1.2 million for all
construction required to complete its entire expansion plan.  Expansion
activities are currently postponed, pending available financing.

     On November 14, 1996, the Company executed a Letter of Intent with C.
Brewer and Company, Limited ("C. Brewer") with respect to the acquisition by the
Company of between 80 and 90 acres of property in the Ka'u region of the Big
Island of Hawaii valued at between $900,000 and $1,000,000 in exchange for the
issuance to C. Brewer of between 2,570,000 and 2,850,000 shares of Common Stock
of the Company (the "C. Brewer Common Stock") at a purchase price of $0.35 per
share. In addition, C. Brewer acquired a three-year warrant (the C. Brewer
Warrant") to purchase up to 500,000 shares of Common Stock at a purchase price
of $1.25 per share. The stockholders' equity at October 31, 1997 does not
reflect the issuance of the C. Brewer


                                         -22-
<PAGE>

Common Stock or the C. Brewer Warrant because, as of October 31, 1997, the
parties had not finally selected the site to be exchanged, which remained
contingent upon Aquasearch's analysis of water and other factors related to the
sites.  These analyses were completed in November 1997, and Aquasearch indicated
the site of its preference.  However, the Company does not wish to finalize its
agreement with C. Brewer until such time as Aquasearch clearly has the ability
to further expand its production facilities beyond its current one-acre site,
which is contingent on obtaining further capital.

     The Company leases approximately 2,000 square feet of office space in
Honolulu for use by the Company's Chief Executive Officer. The annual rental
expense for this space was approximately $48,000 in fiscal 1997.


ITEM 3. LEGAL PROCEEDINGS

     Aquasearch is not currently a party to any legal proceedings.


ITEM 5.  MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.

MARKET INFORMATION

     The Company's Common Stock is currently traded in the "pink sheets" (OTC
Bulletin Board Symbol: AQSE).  The following table sets forth for the periods
indicated the high and low bid quotations for the Company's Common Stock as
reported by M.H. Myerson & Company, one of the Company's market makers.  These
quotations are believed to represent inter-dealer quotations, without adjustment
for retail mark-up, mark-down or commissions and may not represent actual
transactions.

<TABLE>
<CAPTION>

                                                      HIGH BID        LOW BID
                                                     ----------     ----------
<S>                                                  <C>            <C>
FISCAL 1996
     First Quarter. . . . . . . . . . . . . . . .      $0.74          $0.21
     Second Quarter . . . . . . . . . . . . . . .      $0.75          $0.50
     Third Quarter. . . . . . . . . . . . . . . .      $0.97          $0.53
     Fourth Quarter . . . . . . . . . . . . . . .      $0.66          $0.31
FISCAL 1997
     First Quarter. . . . . . . . . . . . . . . .      $0.63          $0.33
     Second Quarter . . . . . . . . . . . . . . .      $0.39          $0.20
     Third Quarter. . . . . . . . . . . . . . . .      $0.28          $0.17
     Fourth Quarter . . . . . . . . . . . . . . .      $0.36          $0.19

</TABLE>

     As of October 31, 1997, the Company had approximately 2,000 record holders
of its 47,819,881 shares of Common Stock.


DIVIDEND POLICY

     The Company has never paid cash dividends on its capital stock.  The
Company currently intends to retain all available funds for use in the operation
and expansion of its business.  The Company does not anticipate paying any cash
dividends in the foreseeable future.  As of October 31, 1997, the Company had an
accumulated deficit at approximately $4.8 million, and until this deficit is
eliminated will be prohibited from paying dividends except out of net profits.


                                         -23-
<PAGE>

RECENT SALES OF UNREGISTERED SECURITIES

     In October 1997, the Company issued 50,000 shares of Common Stock at $0.25
per share to Edward E. David, Sc.D., for consulting services rendered as a
member of the Company's Board of Directors. No underwriter was used. This
offering was made pursuant to the exemption provided under Section 4(2) of the
Securities Act.

     In October 1997, the Company sold 50,000 shares of Common Stock at $0.25
per share to Edward E. David, Sc.D., a member of the Company's Board of
Directors. The total proceeds to the Company from this transaction were $12,500.
No underwriter was used. This offering was made pursuant to the exemption
provided under Section 4(2) of the Securities Act.

     In October 1997, the Company issued 10,000 shares of Common Stock at $0.25
per share to Oskar R. Zaborsky, Ph.D., for consulting services rendered as a
member of the Company's Board of Directors. No underwriter was used. This
offering was made pursuant to the exemption provided under Section 4(2) of the
Securities Act.

     In October 1997, the Company sold 10,000 shares of Common Stock at $0.25
per share to Oskar R. Zaborsky, Ph.D., a member of the Company's Board of
Directors. The total proceeds to the Company from this transaction were $2,500.
No underwriter was used. This offering was made pursuant to the exemption
provided under Section 4(2) of the Securities Act.

     During the two quarters ended October 31, 1997, the Company issued one-year
Convertible Notes Payable amounting to $560,000. The holders of these notes have
an option to convert to equity under a planned private placement in early fiscal
1998. The Convertible Notes carry an interest rate of 10 percent per annum and
warrants to purchase 100 shares of Common Stock at $0.50 per share for each
$1,000 aggregate principal amount of Convertible Notes.  The holders are
shareholders and an officer/director of the Company.

     In April 1997, the Company sold a total 1,000,000 shares of its Common
Stock to an officer of the Company at a purchase price of $0.21 per share.  In
addition, the Company granted this person a non-statutory stock option to
purchase 1,000,000 shares of Common Stock at an exercise price of $1.00 per
share.  The option has a term of ten years.  These transactions were exempt from
registration under the Securities Act of 1933 pursuant to Section 4(2).  No
underwriters were involved in these transactions.

     During the period from October 1996 to April 1997, the Company sold an 
aggregate of 5,044,570 Units, consisting of one share of Common Stock and one 
Common Stock Purchase Warrant (the "Warrants"), to 42 accredited investors 
(the "Unit Investors") in a private placement (the "Unit Offering") under 
Section 4(2) of the Securities Act of 1933, as amended. The purchase price of 
the Units ranged from $0.21 per Unit to $0.44 per Unit. The Warrants have a 
term of three years and are exercisable at $1.00 per share, subject to 
adjustment.  The Warrants are redeemable by the Company at $.01 per Warrant 
during their three-year exercise period upon 30 days' notice anytime that the 
closing bid price per share of the Common Stock exceeds $1.50 per share 
(subject to adjustment) for 20 trading days out of 30 consecutive trading 
days ending on the third day prior to the date of the notice of redemption.  
The gross proceeds from the Unit Offering were $1,275,980. The Placement 
Agent for the Unit Offering, First Honolulu Securities, Inc., received total 
commissions of $76,558.80 (equal to 6% of the gross proceeds from the sale of 
the Units) and 302,674 Common Stock Purchase Warrants (equal to 6% of the 
number of Units sold). The terms of the Warrants issued to First Honolulu 
Securities, Inc. are identical to the terms of the Warrants issued to the 
Unit Investors in the Unit Offering.

     In October 1997, the Company issued 1,303,000 shares of Common Stock to 
the Unit Investors as compensation for the failure by the Company to cause 
the registration statement of the


                                         -24-
<PAGE>

shares purchased in the Unit Offering to be declared effective by the 
Securities and Exchange Commission (the "Commission") on or before May 29, 
1997.  The registration statement was declared effective on November 12, 
1997.  These have been reflected in the shares issued and outstanding as of 
October 31, 1997.

     In November 1996, the Company issued a total of 28,138 shares of Common 
Stock to a total of five members of its Scientific Advisory Board (Robert 
Bidigare, John Cullen, John Bardach, William Fenical and Edward Laws) for 
services rendered through May 1996 (6,731 shares at $0.892 per share), 
through August 1996 (9,407 shares at $0.50 per share) and through November 
1996 (12,000 shares at $0.638 per share).  No underwriters were used.  This 
offering was made in reliance on the exemption provided under Section 4(2) of 
the Securities Act.

     In October 1996, the Company sold 400,000 shares of Common Stock at $0.50
per share to Cultor pursuant to the Cultor Stock Subscription Agreement.  The
total proceeds to the Company from this transaction were $200,000.  No
underwriters were used.  This offering was made in reliance on the exemption
provided under Section 4(2) of the Securities Act.

     On September 24, 1996, the Company's shareholders approved (i) the Cultor
Distribution and Development Agreement, (ii) the Cultor Stock Subscription
Agreement and (iii) an amendment to the Company's Articles of Incorporation to
increase the number of shares of Common Stock that the Company is authorized to
issue from 50,000,000 shares to 100,000,000 shares and authorized the creation
and issuance from time to time of up to 5,000,000 shares of Preferred Stock in
one or more series with such designations, rights, preferences, privileges and
restrictions as the Board of Directors may determine.

     In February 1996, the Company issued 40,000 shares of Common Stock at $0.62
per share, to Seth Huntley, one of the Company's production technicians, for
services rendered during the period from August 1995 through January 1996.  No
underwriter was used.  This offering was made to Mr. Huntley without
registration pursuant to the exemption provided under Section 4(2) of the
Securities Act.

     In January 1996, the Company sold 4,000,000 shares of Common Stock at $0.15
per share to 15 accredited investors in a private placement under Section 4(2)
of the Securities Act.  The total proceeds to the Company from this transaction
were $600,000.  No underwriters were used.

     In January 1996, the Company sold 2,492,800 shares of Common Stock at
$0.125 per share to one non-U.S. purchaser under Regulation S under the
Securities Act. The total proceeds to the Company from this transaction were
$311,600.  No underwriters were used.

     In December 1995, the Company issued 40,000 shares of Common Stock at
$0.125 per share to John J. Emerick, the Company's Vice President of Operations,
for services rendered during the period from July 1995 through December 1995. 
No underwriter was used.  This offering was made to Mr. Emerick without
registration pursuant to the exemption provided under Section 4(2) of the
Securities Act.

     In November 1995, the Company issued an aggregate of 264,000 shares of
Common Stock at $0.125 per share to nine accredited investors as partial payment
for their services in constructing the Company's  research and development
facility at Keahole Point.  No underwriters were used.  This offering was made
in reliance on the exemption provided under Section 4(2) of the Securities Act.

     In October 1995, the Company issued 127,875 shares at $0.0625 to 8
accredited investors for prior services rendered to the Company. No underwriters
were used.  This offering was made under Section 4(2) of the Securities Act.


                                         -25-
<PAGE>

     In September 1995, the Company sold 2,712,500 shares of Common Stock at
$0.08 per share to 15 accredited investors in a private placement under
Section 4(2) of the Securities Act. No underwriters were used.

     In August 1995, the Company returned to Mark E. Huntley, Ph.D., the
Company's President and Chief Executive Officer, 1,320,000 shares of Common
Stock out of the 4,635,575 shares of Common Stock gifted to the Company by
Dr. Huntley in 1989.  The closing bid price of the Company's Common Stock on the
date the 1,320,000 shares were returned to Dr. Huntley was $0.15 per share. No
underwriters were used.  This offering was made to Dr. Huntley under
Section 4(2) of the Securities Act.

     In July 1995, the Company sold 3,200,000 shares of Common Stock at $0.0625
per share to one non-U.S. purchaser under Regulation S under the Securities Act.
The total proceeds to the Company from this transaction were $200,000.  No
underwriters were used.

     In June 1995, the Company issued 50,000 shares of Common Stock at $0.10 per
share to Robert Bidigare, Ph.D., for services rendered in connection with the
analysis of scientific data from feed trials with Cultor.  No underwriters were
used.  These shares were issued to Dr. Bidigare without registration pursuant to
the exemption provided under Section 4(2) of the Securities Act.

     In March 1995, the Company sold 1,710,000 shares of Common Stock at $0.10
per share to 33 accredited investors in a private placement under Section 4(2)
of the Securities Act.  No underwriters were used.  The total proceeds to the
Company were $171,000.


ITEM 6.  MANAGEMENT'S PLAN OF OPERATION

     THIS ANNUAL REPORT CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE MEANING
OF SECTION 21E OF THE EXCHANGE ACT, INCLUDING STATEMENTS, TREND ANALYSIS AND
OTHER INFORMATION RELATIVE TO MARKETS FOR THE COMPANY'S PRODUCTS AND TRENDS IN
REVENUES AND ANTICIPATED EXPENSE LEVELS, AS WELL AS STATEMENTS INCLUDING WORDS
SUCH AS "ANTICIPATE," "EXPECT," "BELIEVE," "PLAN," "ESTIMATE" AND "INTEND" AND
OTHER SIMILAR EXPRESSIONS. SUCH FORWARD-LOOKING STATEMENTS INVOLVE KNOWN AND
UNKNOWN RISKS, UNCERTAINTIES AND OTHER FACTORS THAT MAY CAUSE ACTUAL RESULTS,
PERFORMANCE OR ACHIEVEMENTS OF THE COMPANY TO DIFFER MATERIALLY FROM THOSE
EXPRESSED OR IMPLIED BY SUCH FORWARD-LOOKING STATEMENTS. SUCH FACTORS INCLUDE,
AMONG OTHERS, THE INFORMATION DESCRIBED UNDER THE CAPTION "FACTORS THAT MAY
AFFECT FUTURE OPERATING RESULTS" AND OTHER RISKS DETAILED FROM TIME TO TIME IN
THE COMPANY'S PERIODIC REPORTS AND OTHER INFORMATION FILED WITH THE COMMISSION.

OVERVIEW

     Since its inception in 1988, Aquasearch has been engaged in the development
of proprietary, large-scale photobioreactor technology for the commercial
cultivation of microalgae.  The Company developed its photobioreactor
technology, the Aquasearch Growth Module ("AGM"), in California and then moved
its base of operations to Hawaii, where it established a small, one-acre
production facility in 1995.  

     In early 1996, the Company began producing microalgae rich in astaxanthin -
the primary pigment used in salmon and trout feed, and also in poultry feed -
under a three-year Supply Agreement with Svenska


                                         -26-
<PAGE>

Foder, a Swedish animal feeds company.  Svenska Foder agreed to act as the
exclusive distributor of the Company's natural astaxanthin product for use in
feeds for poultry, pigs, cattle and horses.

     In May 1996, the Company entered into a three-year Distribution and
Development Agreement with Cultor (recently extended to four years) pursuant to
which the Company will act as the exclusive worldwide supplier of natural
astaxanthin derived from microalgae to Cultor in the field of animal feed and
animal nutrition and Cultor will act as the exclusive worldwide distributor of
Aquasearch's natural astaxanthin product in the field of animal feed and animal
nutrition.  Cultor is a $2 billion Finnish food conglomerate that is a leading
worldwide producer of animal feed and animal nutrition products.  Aquasearch
estimates that Cultor and its affiliated companies currently utilize
approximately $30 million of synthetic astaxanthin per year in feed products for
the aquaculture and livestock industries.  Under the Cultor Distribution and
Development Agreement, Cultor and Aquasearch may, at Cultor's option, mutually
develop a new joint venture company for the sole purpose of producing and
selling natural astaxanthin derived from microalgae in the field of animal feed
and animal nutrition.  See "Description of Business--Corporate Partner
Relationships."

     In December 1996, Cultor, the parent company of Svenska Foder, sold Svenska
Foder to KKR, a Danish animal feeds company, and assumed all of Svenska Foder's
rights and obligations under the Svenska Foder Supply Agreement.

     The Company was awarded U.S. Patent Number 5,541,056 in July 1996 for a
"Method of Control of Microorganism Growth Process," which claims certain
processes that operate in its proprietary, large-scale photobioreactor system,
the Aquasearch Growth Module.

     During fiscal year 1997, Aquasearch accrued more intellectual property,
significantly enhanced its core photobioreactor technology, further developed
its natural astaxanthin product in collaboration with Cultor, and established
additional strategic business relationships.

     INTELLECTUAL PROPERTY AND TECHNOLOGY OPTIMIZATION - 1997

     In July 1997, Aquasearch was awarded European Patent Number 0494887 for a
"Process and Apparatus for the Production of Photosynthetic Microbes," which not
only claims certain processes, but also certain features of its core technology,
the Aquasearch Growth Module.  The European patent complements, but does not
supplant claims made in the U.S. Patent awarded in 1996.  The Company's European
filing was made under the Patent Cooperation Treaty, and the Company is in the
process of pursuing international patents pursuant thereto.

     Aquasearch placed great emphasis in 1997 on optimizing the Aquasearch
Growth Module and its performance.  The Company believes that the most important
advances that can be made concern the size of the AGM and the sustainability of
its performance.  Any increase in size has the effect of reducing capital costs
of the system by a comparable amount, because the greatest costs relate to
automated sensors and computer-controlled devices.  Thus, a double-size AGM
costs approximately the same amount as a unit half the size, and reduces the
amount of labor by half.  Furthermore, the Company believes that photobioreactor
technology cannot be commercially viable until the unit size exceeds about 1,000
gallons.

     During the past three months the Company has increased the size of its
largest AGM from 1,000 gallons to 2,000 gallons.  The larger AGM is not only
less costly, but required less labor, operated for a longer period of time and
had significantly greater productivity than the smaller version.  The Company
has conducted intensive engineering studies on an even larger model AGM of more
than 5,000 gallons that has now been designed, and is slated for construction in
1998.  Management anticipates replacing all production capacity with the new,
very large AGMs in 1998, contingent on available capital.  The Company believes
that the use


                                         -27-
<PAGE>

of these very large AGMs will increase total production capacity by a factor of
more than six with no increase in labor costs.

     Aquasearch began replacing its computer control system with
state-of-the-art industrial process control in 1997.  Improvements that are
still underway have already reduced labor and hardware costs, and have provided
significantly better quality control.  The Company believes that its process
control system is already greatly advanced compared to the standard in
biology-based manufacturing.  Aquasearch continues to develop certain
proprietary software that it believes will couple strongly with its AGM hardware
to confer a significant advantage over competitive technologies.

     The Company introduced in late 1997 certain changes in nutrient media
formulation, sterility procedures and other practices resulting from its
research.  These changes yielded a sustained improvement of AGM productivity by
a factor of five by comparison to the Company's performance over the preceding
year.

     DEVELOPMENT OF NATURAL ASTAXANTHIN PRODUCTS - 1997

     During 1997 Aquasearch and Cultor jointly carried out expensive and
essential projects aimed directly at demonstrating efficacy of the Company's
natural astaxanthin product in salmon and trout feed.  It is the opinion of both
companies that conclusive demonstration of product efficacy is essential to
gaining and maintaining market share.

     Two important projects were undertaken in 1997.  The first project,
conducted on contract with the Norwegian Fisheries Research Institute,
demonstrated equivalence between Aquasearch's natural astaxanthin product and
Hoffman-LaRoche's synthetic astaxanthin with regard to efficacy of pigmentation
of salmonid fish (salmon and trout).  The second project, still underway, has
demonstrated a shelf life of more than 6 months for the Company's natural
astaxanthin product.  The shelf life experiments will continue for at least 6
months more.

     The results of these product development projects have demonstrated,
largely at Cultor's expense, that Aquasearch's product is of value to the
consumer.  To the knowledge of Aquasearch, no other company has yet demonstrated
equivalent results for any products that might compete with the synthetic
astaxanthin produced by Hoffman-LaRoche.  Aquasearch believes the results of
these projects represent important marketing tools.

     NEW STRATEGIC BUSINESS RELATIONSHIPS - 1997

     On November 14 1996, the Company executed a Letter of Intent with C. Brewer
and Company Limited ("C. Brewer") with respect to the acquisition by the Company
of between 80 and 90 acres of property in the Ka'u region of the Big Island of
Hawaii valued at between $900,000 and $1,000,000 in exchange for C. Brewer's
acquisition of approximately 6% of the outstanding Common Stock of the Company. 
In addition, C. Brewer acquired a three-year warrant to purchase up to 500,000
shares of Aquasearch Common Stock at a purchase price of $1.25 per share.  See
"Description of Business--Corporate Partner Relationships."

     In July 1997, Aquasearch agreed to become a charter member of the Marine
Bioprocess Engineering Center (MarBEC) initiative launched by the University of
Hawaii at Manoa.  Ten universities - including University of Hawaii - are now
competing nationwide for a total of five Engineering Research Centers to be
awarded by the U.S. National Science Foundation.  MarBEC, if funded in early
1998 at approximately $30 million for a 10-year period, will focus entirely on
the development of new enzymes and pigments from microalgae.  Charter industry
members (including Aquasearch, Merck, Monsanto, Hoechst and Eastman Chemical)
will have equal preferential rights to new products from microalgae developed by
MarBEC.


                                         -28-
<PAGE>

Aquasearch believes that it is the only charter member of MarBEC that has
developed photobioreactor technology, which is likely to be required for the
commercial exploitation of any new product from microalgae.

     In September 1997, Aquasearch executed a Letter of Intent with Inflazyme
Pharmaceuticals, Limited to enter into a ten-year drug development and
manufacturing agreement.  Under the terms of the agreement, Aquasearch would
produce large-scale research quantities of several thousand different microalgae
in its AGM photobioreactors.  Inflazyme intends to investigate each species for
therapeutic activity in the areas of inflammation, cancer, blood and
cardiovascular diseases.  Aquasearch would receive cost-plus reimbursement of
all its research costs (including dedicated physical facilities); potential
milestone payments associated with steps in the U.S. Food and Drug
Administration drug approval process; and royalties on future net product sales.

     The Company believes that its agreements with C. Brewer, University of
Hawaii, and Inflazyme represent important strategic alliances that form the
basis of long term business opportunities.  In Aquasearch's view, C. Brewer
would provide the real property required for expansion of production capacity;
MarBEC would provide a strongly leveraged product development effort at the
level of $3 million per year; and Inflazyme would directly pay for the bulk of
Aquasearch's research and development costs in pharmaceutical drug development.

     MANAGEMENT'S PLAN OF OPERATION FOR 1998

     During 1998, Aquasearch intends to focus its efforts on strengthening its
intellectual property position, optimizing the performance of its proprietary
AGM technology, expanding its production capacity to meet Cultor targets,
initiating a business in pharmaceutical drug development, and creating dramatic
improvements in productivity through employee incentives.

-    INTELLECTUAL PROPERTY:  The Company is maintaining several international
     patent applications under the aegis of the Patent Cooperation Treaty, and
     contemplates new filings that will enhance its formal claims to
     intellectual property.  At the same time, Aquasearch continues to develop
     certain trade secrets that management believes would consolidate its
     competitive stance.

-    TECHNOLOGY IMPROVEMENT:  Aquasearch intends to enlarge the size of its
     proprietary AGM technology by a factor of at least two during 1998. 
     Furthermore, the process control system is slated for hardware and software
     improvements.  The Company believes that, as in 1997, this effort will
     continue to reduce capital costs, reduce labor costs, and improve
     productivity.

-    EXPANSION OF PRODUCTION CAPACITY:  Aquasearch is poised to significantly
     increase its production capacity.  Construction permits have already been
     issued that, when implemented, would augment production capacity by at
     least five-fold.  Furthermore, the Company is planning to increase its
     production capacity by the construction of a separate ten-acre facility
     dedicated to astaxanthin production for Cultor.  All increases in
     production capacity are contingent on the availability of financing.

-    PHARMACEUTICAL DRUG DEVELOPMENT:  The Company believes that the
     consummation of its contract with Inflazyme will pay for a large fraction
     of the Company's pharmaceutical research and development costs.  The
     Company believes that between seven and ten new personnel will need to be
     hired to perform under the Inflazyme project.  The Company intends to keep
     its current personnel entirely focused on astaxanthin-related science and
     technology.  New personnel hired for the Inflazyme work will be dedicated
     entirely to that project and will function as a separate team, which costs
     will be borne by Inflazyme.  The Company believes that additional
     laboratory facilities may also


                                         -29-
<PAGE>

     be required for Inflazyme's contract research and development.  The Company
     expects, based on its Letter of Intent and the current form of the draft
     contract between the parties, that costs for such dedicated facilities will
     be borne by Inflazyme.  Aquasearch intends, during 1998, to pursue
     additional drug development agreements with a variety of biotechnology and
     pharmaceutical companies.

-    IMPROVEMENTS IN PRODUCTIVITY THROUGH EMPLOYEE INCENTIVES:  At the outset of
     fiscal year 1998 Aquasearch has announced to its employees that it intends
     to award significant cash bonus incentives to all employees provided that
     the Company meets certain quarterly production targets.  Targets are
     planned that management believes would materially affect the Company's
     business.  Under the employee incentive program, cash bonuses would
     represent as much as a 25% increase in salary on a quarterly basis.  The
     Company also intends to award stock options to all employees as a further
     incentive to increase productivity.  Aquasearch believes that employee
     incentives will significantly enhance productivity.

     The Company believes that strategic relationships and collaborations will
continue to be an important part of its business strategy.  There can be no
assurances that the Company will be able to maintain existing corporate partner
relationships, enter into future relationships to develop additional
applications for natural astaxanthin or to develop new microalgae products or
that any such relationships will be successful.

     Since inception, the Company's primary operating activities have consisted
of basic research and development and production process development.  From
inception through October 31, 1997, the Company had an accumulated deficit of
approximately $4.8 million.  The Company's losses to date have resulted
primarily from costs incurred in research and development and from general and
administrative costs associated with the Company's operations.  The Company
expects to continue to incur operating losses for at least the next two years as
it expands its production facilities to meet the production targets under the
Cultor Distribution and Development Agreement and increases its research and
development efforts.  The Company expects to have quarter-to-quarter and
year-to-year fluctuations in revenues, expenses and losses, some of which could
be significant.

     The Company has a limited operating history and any assessment of the
Company's prospects must include the technology risks, market risks, expenses
and other difficulties frequently encountered by development stage companies,
and particularly companies attempting to enter competitive industries with
significant technology risks and barriers to entry.  Although the Company has
attempted to address these risks by, among other things, hiring and retaining
highly qualified persons and forging strategic alliances with companies that
complement the Company's technical strengths, there can be no assurance that the
Company will overcome these risks in a timely manner, if at all.

     The Company is in the process of transitioning toward becoming a full-scale
commercial producer of microalgal products.  These changes in its business have
placed and will continue to place significant demands on the Company's
management, working capital and financial and management control systems.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS

RESULTS OF OPERATIONS

     REVENUES

     Since inception, the Company has been primarily engaged in basic research
and development and manufacture process development; recruiting personnel;
purchasing operating assets; and raising capital.  In


                                         -30-
<PAGE>

1996, the Company shipped its natural astaxanthin product to Svenska Foder under
the Svenska Foder Supply Agreement, which resulted in revenues of approximately
$10,000.  In 1997, Aquasearch's natural astaxanthin product was provided to
Cultor under the Cultor Distribution and Development Agreement, resulting in
revenues of  $1,077; the majority of product shipped or produced was used
primarily for a variety of product development projects carried out jointly by
Aquasearch and Cultor.

     RESEARCH AND DEVELOPMENT COSTS

     Research and development costs include salaries, consulting fees, 
development materials, equipment depreciation and costs associated with 
operating the Company's one-acre research and development/production 
facility. Research and development costs were approximately $794,000 for the 
fiscal year ended October 31, 1997 compared with $649,000 and $89,000 in 1996 
and 1995, respectively.  Substantially all of these funds were expended to 
improve the Company's natural astaxanthin production system, to implement 
improved computerized process control, and to reduce capital costs of the AGM 
technology. From inception through October 31, 1997, the Company's total 
research and development costs were approximately $1,887,000.  Aquasearch 
expects to incur significant additional research and development expenses in 
future periods.

     GENERAL AND ADMINISTRATIVE EXPENSES

     General and administrative expenses consist principally of salaries and 
fees for professional services.  General and administrative costs were 
approximately $1,072,000, $641,000 and $393,000 for the fiscal years ended 
October 31, 1997, 1996 and 1995, respectively.  The increase in annual 
general and administrative expenses since 1995 reflects additional costs 
associated with personnel additions, legal fees incurred in connection with 
developing and protecting the Company's intellectual property position and 
raising capital, as well as other expenses.  Also, included in fiscal 1997, 
is $275,000 of stock issued as compensation for the failure by the Company to 
cause the registration statement of the shares purchased, under a private 
placement during period October 1996 through April 1997, to be declared 
effective by the Securities and Exchange Commission on or before May 29, 
1997.  From inception through October 31, 1997, the Company's total general 
and administrative expenses were approximately $2.7 million.  The Company 
anticipates that its general and administrative expenses will increase over 
time as it expands its production capacity, expands its intellectual property 
protection and raises additional capital.

LIQUIDITY AND CAPITAL RESOURCES

     The Company has financed its operations to date through public and private
sales of equity securities.  In the past twelve months, Aquasearch raised
approximately $1.2 million of net proceeds from the sale of 5,044,570 units
consisting of one share of Common Stock and one Common Stock Purchase Warrant,
in private placement transactions; $210,000 from the private placement of
1,000,000 shares of Common Stock; and $560,000 from the private placement of
convertible notes.  In the fiscal years ended October 31, 1996 and 1995,
Aquasearch raised approximately $1.3 million and $552,000 of net proceeds from
the sale of 7,901,643 and 7,622,500 shares of Common Stock, respectively, in
private placement transactions.  From inception through October 31, 1997, the
Company had raised total net proceeds of approximately $4.8 million through
public and private sales of equity and debt securities.

     In the fiscal year ended October 31, 1997, operating activities consumed
approximately $2.0 million of cash compared with $470,000 in 1996 and $295,000
in 1995.  The primary reason for this increase was an increase in staffing and
research and development activities in the 1997 period.  From inception through
October 31, 1997, operating activities have consumed approximately $3.6 million
of cash.


                                         -31-
<PAGE>

     Capital expenditures for the year ended October 31, 1997 amounted to
approximately $167,000 compared with capital expenditures for the fiscal years
ended October 31, 1996 and 1995 of $329,000 and $315,000, respectively.  From
inception through October 31, 1997, total capital expenditures have been
approximately $822,000.  The Company's net plant and equipment assets increased
from $709,000 at October 31, 1996 to $807,000 at the end of fiscal 1997.  Total
assets at October 31, 1997 stood at $915,000, including approximately $47,000 in
cash.
   
     The Company currently estimates that it will require between $1.5 million
and $2.0 million in operating capital over the next twelve months before any
planned capital expenditures. The Company anticipates that it will require
approximately $3.7 million in financing during fiscal 1998 to automate, optimize
and expand its existing research and development/production facility from a
one-acre facility to a four-acre facility and an additional $7 million over the
subsequent twelve months to complete construction and begin operation of a
ten-acre production facility dedicated solely to the production of natural
astaxanthin derived from microalgae and to fund research and development of new
microalgal products.  If the Company is not able to raise sufficient capital to
automate, optimize and expand its one-acre facility to a four-acre facility or
to construct the ten-acre facility, the Company's ability to meet its production
targets under the Cultor Distribution and Development Agreement would be
adversely affected as would its ability to fund the research and development of
new microalgal products.  The Company believes that its existing capital
resources, funds to be raised through public and/or private offerings of equity
and/or debt securities and bank financing will be sufficient for continued
operations through fiscal 1998.  Aquasearch is presently pursuing additional
sources of capital in order to maintain and expand its operations.  These
capital sources include government contracts and grants, product sales, license
agreements and equity or debt financing.  There can be no assurance that the
Company will be successful in raising the additional capital necessary to
sustain or expand its operations, or that such capital will be available on
terms that would not result in substantial dilution to existing investors.  The
Company's inability to raise sufficient capital could cause it to significantly
curtail operations, which would have a material adverse effect on the Company's
business, financial condition, results of operations and relationships with its
corporate partners.  See "Factors That May Affect Future Operating
Results--Substantial Near-Term Capital Needs; Uncertainty of Additional Funding;
Dilution" and "--Substantial Long-Term Capital Needs; Uncertainty of Additional
Funding; Dilution." 


FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS

SUBSTANTIAL NEAR-TERM CAPITAL NEEDS; UNCERTAINTY OF ADDITIONAL FUNDING; DILUTION

     The Company currently estimates that it will require between $1.5 million
and $2.0 million in operating capital over the next twelve months before any
planned capital expenditures. In addition, the Company will require
approximately $3.7 million in funding during fiscal 1998 and an additional $7
million over the subsequent twelve months in order to further commercialize its
natural astaxanthin product and scale-up its production facilities to satisfy
the 1999 production targets under the Cultor Distribution and Development
Agreement and to fund research and development of new microalgal products.  The
Company expects to obtain approximately half of this funding from sales of
equity and/or convertible debt securities in the private and/or public markets
and the balance from bank financing.  The Company's capital requirements will
depend on many factors including, but not limited to, the timing of development
of the Company's products, the timing of the scale-up of the existing one-acre
research and development/production facility to a four-acre facility, the timing
of the construction and scale-up of the new ten-acre natural astaxanthin
production facility, market acceptance of the Company's natural astaxanthin
product, and the response of competitors to the Company's natural astaxanthin
product and technology.  If additional funds are raised through the issuance of
equity securities, the percentage ownership of the current shareholders of the
Company


                                         -32-
<PAGE>

will be reduced and such equity securities may have rights, preferences, and
privileges senior to those of the holders of the Company's Common Stock.  There
can be no assurance that additional capital will be available on terms favorable
to the Company or its shareholders, if at all.  Moreover, the Company's cash
requirements may vary materially due to production yield problems, research and
development results, product testing results, changing relationships with its
corporate partners, changes in the focus and direction of the Company's research
and development programs, competitive and technological advances, litigation and
other factors. If adequate funds are not available, the Company may be required
to curtail operations significantly or to obtain funds through entering into
collaboration agreements on unattractive terms that may require the Company to
relinquish certain technology or product rights, including patent and other
intellectual property rights.  The Company's inability to raise capital would
have a material adverse effect on the Company's business, financial condition,
results of operations and relationships with its corporate partners.  See  "Item
6.  Management's Plan of Operation--Management's Discussion and Analysis of
Financial Condition and Results of Operations--Overview" and "--Liquidity and
Capital Resources" and "Business--Overview," "--Manufacturing" and "--Corporate
Partner Relationships--Cultor."

SUBSTANTIAL LONG-TERM CAPITAL NEEDS; UNCERTAINTY OF ADDITIONAL FUNDING; DILUTION

     Substantial expenditures will be required to enable the Company to continue
its research and development activities and to manufacture and market its
products.  The level of expenditures required for these activities will depend
in part on whether the Company develops, manufactures and markets its products
independently or with other companies through collaborative arrangements.  The
Company's future capital requirements will also depend on one or more of the
following factors: the Company's ability to scale-up and manufacture its natural
astaxanthin product in cost-effective commercial quantities; market acceptance
of the Company's natural astaxanthin product; the extent and progress of its
research and development programs; the time and costs of obtaining regulatory
clearances (for those products subject to such clearance); the progress of
preclinical and clinical studies (where applicable); the costs involved in
filing, protecting and enforcing patent claims; competing technological and
market developments; the cost of developing and/or operating production
facilities for its existing product and potential products (depending on which
products the Company decides to produce itself); and the costs of
commercializing the Company's products.  There can be no assurance that funding
to carry on these activities will be available at all or on favorable terms to
permit successful commercialization of the Company's products.  In addition, the
Company has no credit facility or other committed sources of capital, and there
can be no assurance that it will be able to establish such arrangements on
satisfactory terms, if at all.  To the extent that capital resources are
insufficient to meet future capital requirements, the Company will have to raise
additional funds to continue development of its technologies and products. 
There can be no assurance that such funds will be available on favorable terms,
or at all.  To the extent that additional capital is raised through the sale of
equity and/or convertible debt securities, the issuance of such securities could
result in dilution to the Company's shareholders.  If adequate funds are not
available, the Company may be required to curtail operations significantly or to
obtain funds through entering into collaboration agreements on unattractive
terms that may require the Company to relinquish certain technology or product
rights, including patent and other intellectual property rights.  The Company's
inability to raise capital would have a material adverse effect on the Company's
business, financial condition, results of operations and relationships with its
corporate partners.  See "Item 6.  Management's Plan of Operation--Management's
Discussion and Analysis of Financial Condition and Results of 
Operations--Overview" and "--Liquidity and Capital Resources," 
"Business--Products and Potential Products," "--Manufacturing" and 
"--Corporate Partner Relationships."


                                         -33-
<PAGE>

HISTORY OF LOSSES AND EXPECTATION OF FUTURE LOSSES

     The Company was founded in 1988 and has experienced quarterly and annual
operating losses since its inception.  The Company's net loss in fiscal 1997 was
approximately $1.9 million and the Company's accumulated deficit at October 31,
1997 was approximately $4.8 million.  The Company's losses to date have resulted
primarily from costs incurred in research and development and from general and
administrative costs associated with the Company's operations.  The Company
expects to continue to incur operating losses for at least the next two years as
it expands its production facilities to meet the production targets under the
Cultor Distribution and Development Agreement (as hereinafter defined) and
increases its research and development efforts.  The Company expects to have
quarter-to-quarter and year-to-year fluctuations in revenues, expenses and
losses, some of which could be significant.  Future financial results will be
affected by, among other things, the following factors: the Company's ability to
successfully manage the transition from a research and development company to a
commercial-scale production enterprise, the Company's ability to complete
successfully the commercialization and cost optimization of its natural
astaxanthin product; production costs and yield issues associated with the
scale-up of production of its natural astaxanthin product; the progress of the
Company's research and development programs with respect to the development of
additional microalgal products; the time and costs of obtaining regulatory
approvals for those products subject to such approval; the Company's ability to
protect its proprietary rights; the costs of filing, protecting and enforcing
the Company's patent claims; competing technological and market developments and
the costs of commercializing and marketing the Company's existing and potential
products.  There can be no assurance that the Company will ever be able to
achieve or sustain profitability in the future.  See "Item 6.  Management's Plan
of Operation--Management's Discussion and Analysis of Financial Condition and
Results of Operations."

RISKS INHERENT IN COMMERCIAL PRODUCTION OF MICROALGAE

     The development of technology to cultivate and harvest a wide variety of
microalgae species is a lengthy and technically challenging process.  The
Company has faced a number of significant technical problems in the development
of its AGM technology and in its initial production of natural astaxanthin
derived from HAEMATOCOCCUS PLUVIALIS, including various forms of microbial
contamination, variability in production cycle times due to technical and
biological factors, and proportional losses of final product due to processing
inefficiencies.  As a result of these factors and, to a lesser extent, ongoing
experimentation with processes and methods and limited capacity, the Company's
production has fluctuated between one and eight kilograms per month during the
past twelve months.

     The Company expects to encounter additional technical problems in
connection with the scale-up in production of HAEMATOCOCCUS PLUVIALIS (and any
other potential microalgal products).  Some of these problems may be presently
unknown, may never have been faced, and may have the effect of lowering
production yields.  There can be no assurance that the Company will be
successful in correcting these technical problems.  The Company's failure to
satisfy its production targets under the Cultor Distribution and Development
Agreement for an extended period could have a material adverse effect on the
Company's business, financial condition, results of operations and its
relationships with its corporate partners.  See "Business--Overview," "--The
Aquasearch Solution," "--Products and Potential Products," "--Manufacturing" and
"--Corporate Partner Relationships."

LIMITED MANUFACTURING EXPERIENCE

     To be successful, the Company must be able to produce its products at
acceptable costs in compliance with contractual requirements, regulatory
requirements and local health, safety and environmental regulations.  The
Company is at an early stage of development and has only limited experience
producing products derived from


                                         -34-
<PAGE>

microalgae.  To date, the Company's only shipments of its first product, natural
astaxanthin derived from microalgae, have been made to one customer, Cultor 
pursuant to the Svenska Foder Supply Agreement entered into in July 1995 between
the Company and Svenska Foder AB, a former subsidiary of Cultor, and/or pursuant
to the Cultor Distribution and Development Agreement. In connection with the
sale of Svenska Foder to KKR, a Danish animal feeds company, in December 1996,
Cultor acquired all of Svenska Foder's rights under the Svenska Foder Supply
Agreement. The Company was not able consistently to meet the five kilograms of
natural astaxanthin production targets initially set forth in the Svenska Foder
Supply Agreement. The Company may continue to experience lower than anticipated
production yields or production constraints from time to time that may adversely
affect its ability to satisfy customer orders, including, in particular, the
production requirements under the Cultor Distribution and Development Agreement.
While the Company's inability to satisfy its production targets to date has not
disrupted relations with its corporate partners, continued inability to satisfy
demand may have a material adverse effect on the Company's business, financial
condition, results of operations and its relationships with its corporate
partners.  See "Business--Overview," "--Products and Potential Products,"
"--Manufacturing" and "--Corporate Partner Relationships."

RISKS ASSOCIATED WITH SCALE-UP OF PRODUCTION FACILITIES

     To date, the Company has not produced large quantities of natural
astaxanthin.  The Company has experienced significant delays in product
development and cultivation and harvesting process development from time to time
and its product development and cultivation and harvesting processes will
require additional research and development as well as substantial additional
capital and other resources prior to full scale commercialization. The Company
estimates that it will require approximately $3.7 million in financing during
fiscal 1998 to automate, optimize and expand its existing research and
development facility from a one-acre facility to a four-acre facility and an
additional $7 million over the subsequent twelve months to complete the
construction and commence operation of a ten-acre production facility dedicated
solely to the production of natural astaxanthin derived from microalgae and to
fund research and development of new microalgal products.  Construction and
facility scale-up costs as well as research and development and production costs
could substantially exceed budgeted amounts and estimated time frames may
require significant extension.  Any such additional costs or delays could have a
material adverse effect on the Company's business, financial condition, results
of operations and relationships with its corporate partners.

     The Company believes that its existing one-acre research and
development/production facility will not be sufficient to meet the
September 1998 40 kilogram per month production target under the Cultor
Distribution and Development Agreement.  After completion of the expansion of
the existing one-acre research and development/production facility to a
four-acre facility, the Company believes that it will have sufficient production
capacity, based on existing technology and processes, to meet the September 1998
40 kilogram per month production target under the Cultor Distribution and
Development Agreement, but not the September 1999 120 kilogram per month
production target.

     In order to meet the September 1999 120 kilogram per month production
target under the Cultor Distribution and Development Agreement, the Company must
complete construction and scale-up of the new ten-acre production facility.

     In order to meet the September 1998 40 kilogram per month production target
and the September 1999 120 kilogram per month production target under the Cultor
Distribution and Development Agreement, the Company will be required to
significantly increase its current production capacity.  This scale-up of the
Company's current production technology poses a number of significant risks that
presently cannot be quantified or fully assessed.  For example, the Company's
production process is critically dependent upon supplies of freshwater, cold
seawater and utilities provided by the Natural Energy Laboratory of Hawaii
Authority, and any interruption in these supplies could have a material adverse
effect on the Company's production capability. Furthermore, microbial
contamination of the Company's water supplies also poses


                                         -35-
<PAGE>

significant risks to productivity that may override the Company's existing
efforts and capability to maintain the sterility of its water supply.  The
success of the Company's proposed expansion plans will be dependent upon the
timely performance of a large number of contractors, sub-contractors, suppliers
and various agencies of the State of Hawaii that regulate and license
construction, each of which is beyond the control of the Company.  Any failure
by these contractors, suppliers or state agencies to perform in a timely manner
could cause delays, cost overruns or changes in the Company's construction and
expansion plans, which could have a material adverse effect on the Company's
business, financial condition, results of operations and relationships with its
corporate partners.

     There can be no assurance that the Company will be successful in resolving
known or unknown biological and engineering development problems, that the
Company will be able to develop its products within the estimated time schedule,
or in accordance with present cost projections, or that the products developed
by the Company will be commercially viable or widely accepted.  See
"Business--Overview," "--Products and Potential Products," "--Manufacturing" and
"--Corporate Partner Relationships."

CUSTOMER CONCENTRATION

     The Company entered into a three-year exclusive Distribution and
Development Agreement with Cultor (recently extended to four years) with respect
to the production, sale and use of natural astaxanthin in the field of animal
feed and animal nutrition worldwide.  The failure of the Company to gain
additional customers for its natural astaxanthin product in other applications
and customers for its other potential products, the loss of Cultor or any
potential corporate partner as a customer, or a significant reduction in the
level of sales to Cultor or any potential corporate partner could have a
material adverse effect on the Company's business, financial condition, results
of operations and relationships with its corporate partners. See
"Business--Aquasearch's Strategy--Expand Strategic Alliances" and "--Corporate
Partner Relationships."

EFFECT OF INCREASED COMPETITION ON MARKET PRICE OF SYNTHETIC AND NATURAL
ASTAXANTHIN

     The primary competition for the Company's natural astaxanthin product is
currently synthetic astaxanthin.  The synthetic astaxanthin market is currently
dominated by a single producer, Hoffman-LaRoche which has maintained the market
price of its synthetic astaxanthin (derived from petrochemicals) at
approximately $2,500 per kilogram for more than a decade. The Company does not
know Hoffman-LaRoche's cost of production for synthetic astaxanthin or its
probable response to the introduction of the Company's competitive product. 
Hoffman-LaRoche has significantly greater research and development, technical,
financial, sales and marketing resources than the Company and holds a commanding
market share. There can be no assurance that the market price for synthetic
astaxanthin will remain at $2,500 after commercial introduction of the Company's
natural astaxanthin product.  Any significant decrease in the market price for
synthetic astaxanthin is likely to have an adverse effect on the market price
for the Company's natural astaxanthin product, which could have a material
adverse effect on the Company's business, financial condition, results of
operations and relationships with its corporate partners.  See
"Business--Overview," "--Products and Potential Products--Existing Product:
Astaxanthin--Aquaculture" and "Competition."

RISKS ASSOCIATED WITH POTENTIAL JOINT VENTURE

     Pursuant to the Cultor Distribution and Development Agreement, Cultor and
Aquasearch may, at Cultor's option, mutually develop a new joint venture company
for the sole purpose of producing and selling natural astaxanthin in the field
of animal feed and animal nutrition.  Pursuant to this arrangement, Aquasearch
would contribute the ten-acre natural astaxanthin production facility in return 


                                         -36-
<PAGE>

for its 50% stake in the new company and Cultor would contribute cash equal to
the appraised value of this production facility in return for its 50% stake. 
Under the Cultor Distribution and Development Agreement, Cultor also has the
option to acquire a further 25% stake in the new company (thus increasing
Cultor's stake to 75%) for cash based on a formula.  See "Business--Corporate
Partner Relationships--Cultor."

     The decision to form, and the timing of the decision to form, the new joint
venture company is solely within the discretion of Cultor and may occur at any
time prior to September 24, 2000.  Similarly, the decision to exercise, and the
timing of the decision to exercise, the option to purchase from Aquasearch a
further 25% stake in the new joint venture company (thus increasing Cultor's
stake to 75%) is solely within the discretion of Cultor and may occur at any
time prior to September 24, 2000.  There can be no assurance that the Company
will have developed markets for its natural astaxanthin product other than
animal feed and animal nutrition at the time, if any, that Cultor exercises its
option to form the joint venture company.  Similarly, there can be no assurance
that the Company will have developed microalgal products other than natural
astaxanthin at the time, if any, that Cultor exercises its option to form the
joint venture company.  See "Business--Overview" and "--Corporate Partner
Relationships--Cultor."

RELIANCE ON CORPORATE PARTNER RELATIONSHIPS

     An important element of the Company's business strategy involves developing
strategic relationships with companies that have established research and
development, sales, marketing and distribution capabilities for the microalgal
products that the Company intends to develop.  In May 1996, the Company executed
the three-year exclusive Cultor Distribution and Development Agreement with
Cultor (recently extended to four years) covering the production and
distribution of the Company's natural astaxanthin product worldwide in the field
of animal feed and animal nutrition.

     The Company intends to enter into strategic relationships with other
companies to apply its technology, fund development, commercialize future
products, and assist in obtaining regulatory approvals.  There can be no
assurance that any of the Company's present or future corporate partners will
perform their obligations as expected or devote sufficient resources to the
development, testing or marketing of the Company's potential products developed
under such arrangements.  Any parallel development by a strategic partner of
alternative technologies or products, preclusion of the Company from entering
into competitive arrangements, failure to obtain timely regulatory approvals,
premature termination of an agreement, or failure by a strategic partner to
devote sufficient resources to the development and commercialization of the
Company's products could have a material adverse effect on the Company's
business, financial condition, results of operations and relationships with its
corporate partners.

     The Company's agreements with its consultants and corporate partners are
complex.  There may be provisions within such agreements that give rise to
disputes regarding the rights and obligations of the parties.  These and other
possible disagreements could lead to delays in research, development or
commercialization of certain products, or could result in litigation or
arbitration, which could be time-consuming and expensive, and could have a
material adverse effect on the Company's business, financial condition, results
of operations and relationships with its corporate partners.

     There can be no assurance that the Company will be able to maintain or
expand its relationships with its existing corporate partners or to replace its
existing corporate partners in the event any such relationship were terminated.
In the event of the termination of the Cultor Distribution and Development
Agreement, the Company's ability to distribute its natural astaxanthin product
in the field of animal feed and animal nutrition would be materially adversely
affected, which would have a material adverse effect on the Company's business,
financial condition and results of operations.


                                         -37-
<PAGE>

     The Company's primary strategy for the development, regulatory approval,
production and commercialization of certain of its products is to enter into
collaborations with various corporate partners, licensors, licensees and others.
There can be no assurance that the Company will be able to negotiate
collaborative arrangements in the future on acceptable terms, if at all, or that
such collaborative arrangements will be beneficial to the Company.  To the
extent that the Company is not able to establish such arrangements, it would
face increased capital requirements to undertake such activities at its own
expense and might encounter significant delays in introducing its products into
certain markets or find that the development, manufacture or sale of its
products in such markets is adversely affected.  See "Business--Aquasearch's
Strategy--Expand Strategic Alliances" and "--Corporate Partner Relationships."

COMPETITION

     Competition in the world market for astaxanthin is intense and is 
expected to increase significantly in the near future.  The Company's natural 
astaxanthin product will compete directly with the synthetic astaxanthin 
product developed and marketed worldwide by Hoffman-LaRoche.  Hoffman-LaRoche 
has significantly greater research and development, technical, financial, 
management, marketing and sales resources than the Company as well as a 
worldwide reputation and dominant market share.  In addition, at least three 
companies, Astacarotene, Heliosynthese and Cyanotech Corporation 
("Cyanotech"), have either announced plans to produce natural astaxanthin 
from microalgae or have produced small quantities for test and commercial 
purposes.  Moreover, Cyanotech announced plans to enter into large-scale 
commercial production of natural astaxanthin during 1997.

     The Company's natural astaxanthin product is expected to compete with
synthetic astaxanthin (and any other alternative products) primarily on the
basis of product performance, price and proprietary position.  Although
Hoffman-LaRoche has maintained the market price of synthetic astaxanthin at
approximately $2,500 per kilogram for more than a decade, there can be no
assurance that Hoffman-LaRoche will maintain the price of its synthetic
astaxanthin product in response to the introduction of the Company's natural
astaxanthin product.  Any such pricing or other competitive pressure could have
a material adverse effect on the Company's business, financial condition,
results of operations and relationships with its corporate partners.  The
existence of products of which the Company is not aware, or products that may be
developed in the future, may also adversely affect the marketability of the
Company's natural astaxanthin product.

     Aquasearch anticipates that competition to develop microalgal products
other than natural astaxanthin will also be intense.  The Company's competitors
for these potential products are expected to include major pharmaceutical, food
processing, chemical and specialized biotechnology companies, many of which will
have financial, technical and marketing resources significantly greater than
those of Aquasearch.  In addition, other emerging marine bioscience companies,
similar to Aquasearch, may form collaborations with large established companies
to support research, development and commercialization of products that may be
competitive with future products of Aquasearch.  Also, academic institutions,
governmental agencies and other public and private research organizations are
conducting research activities and seeking patent protection and may
commercialize products competitive with those of Aquasearch on their own or
through joint ventures.  The existence of products of which Aquasearch is not
aware, or products that may be developed in the future, may adversely affect the
marketability of additional products developed by Aquasearch.

     Aquasearch believes that its AGM and related microalgae cultivation and
harvesting technologies currently offer significant technical and economic
advantages compared with the open pond systems currently used by certain
competitors, including increased yields and the ability to cultivate hundreds of
microalgal species at commercial scale that cannot be produced in open pond
systems due to substantially higher risks of contamination and lack of control.
Aquasearch also believes that its AGM and related microalgae cultivation and
harvesting technologies compare favorably with other known closed systems with
respect to capital and


                                         -38-
<PAGE>

operating costs.  However, the existence of technology of which Aquasearch is
not aware, or technology that may be developed in the future, may adversely
affect the technical and competitive advantages that Aquasearch currently
believes it holds compared with competing open pond and known closed system
microalgae cultivation technologies.

DEPENDENCE ON KEY PERSONNEL

     The Company's prospects depend to a significant extent upon certain members
of senior management, including, in particular, Mark E. Huntley, Ph.D., the
Company's Chairman, President and Chief Executive Officer.  The Company does not
have an employment agreement with Dr. Huntley or any other senior executives. 
The loss of any senior executive or other key employee could have a material
adverse effect on the Company's business, financial condition, results of
operations and relationships with its corporate partners.

     The Company is highly dependent on its ability to attract and retain key
scientific, technical, management and operating personnel, including consultants
and members of its Scientific Advisory Board. As the number of qualified marine
and aquatic microbiologists is limited, competition for such personnel is
intense.  The Company will need to develop expertise and add skilled employees
or retain consultants in such areas as research and development, clinical
testing, government approvals, manufacturing and marketing in the future.  There
can be no assurance that the Company will be able to attract and retain the
qualified personnel or develop the expertise needed in these areas.  The Company
currently has a small research and development and management group with limited
operating experience.  The loss of the services of one or more members of the
research and development or management group or the inability to hire additional
personnel and develop expertise as needed would have a material adverse effect
on the Company's business, financial condition, results of operations and
relationships with its corporate partners.

     Members of the Company's Scientific Advisory Board assist the Company in
optimizing its production and processing methods and formulating research and
development strategy pertaining to both existing and potential microalgal
products.  Most members of the Scientific Advisory Board are not employed by the
Company and each of these members may have commitments to other entities that
could limit their availability to the Company.  There can be no assurance that
the Company will be able to retain its key Scientific Advisory Board members. 
See "Business -- Scientific Advisory Board." 

RISKS ASSOCIATED WITH MANAGEMENT OF GROWTH

     To date, the Company has been engaged almost exclusively in research and
development activities.  The Company is in the process of transitioning toward
becoming a full-scale commercial producer of microalgae products.  These changes
in its business have placed and will continue to place significant demands on
the Company's management, working capital and financial and management control
systems.  Failure to upgrade the Company's operating, management and financial
control systems or difficulties encountered during such upgrades could adversely
affect the Company's business, financial condition, results of operations and
relationships with its corporate partners.  Although the Company believes that
its systems and controls are adequate to address its current needs, there can be
no assurance that such systems will be adequate to address future expansion of
the Company's business.  The Company's results of operations will be adversely
affected if revenues do not increase sufficiently to compensate for the increase
in operating expenses resulting from any expansion and there can be no assurance
that any expansion will be profitable or that it will not adversely affect the
Company's results of operations.  In addition, the success of any future
expansion plans will depend in part upon the Company's ability to continue to
improve and expand its management and financial control systems, to attract,
retain and motivate key personnel, and to raise additional required capital. 
There can be no assurance that the Company will be successful in these efforts. 
See "Item 6.  Management's Plan of Operation--Management's Discussion and
Analysis of Financial Condition and Results of


                                         -39-
<PAGE>

Operations--Overview" and "--Liquidity and Capital Resources" and
"Business--Aquasearch's Strategy," "--Products and Potential Products" and
"--Manufacturing."

RISKS ASSOCIATED WITH EXPANSION INTO ADDITIONAL MARKETS AND PRODUCT DEVELOPMENT

     Other than its natural astaxanthin product, the Company currently has no
products actively under development.  The Company believes that its near-term
prospects are substantially dependent on the expansion of the worldwide market
for natural astaxanthin and the Company's ability to successfully develop and
commercialize new products and penetrate new markets.  There can be no assurance
that the Company can successfully develop its natural astaxanthin or any other
potential microalgae products, that any such products will be capable of being
produced in commercial quantities at reasonable cost, or that any such products
will achieve market acceptance.  The Company has no experience marketing its
products directly and is presently entirely dependent on the marketing skills
and efforts of its corporate partners.  There can be no assurance that the
marketing efforts of such corporate partners will be successful or whether such
corporate partners will eventually compete with the Company or assist the
Company's competitors.  Many other companies have significantly greater
marketing and product development experience and resources to devote to
marketing and product development than the Company.  The Company has entered
into, and expects to enter into additional, selected strategic alliances with
third parties for product development, marketing and sales.  There can be no
assurances regarding the performance of such third parties, or the overall
success, if any, of such strategic alliances.  The inability of the Company to
successfully develop or commercialize its natural astaxanthin or any potential
microalgae products would have a material adverse effect on the Company's
business, financial condition, results of operations and its relationships with
its corporate partners.  See "Business--Aquasearch's Strategy" and "--Products
and Potential Products."

DEPENDENCE ON PROPRIETARY TECHNOLOGY AND UNPREDICTABILITY OF INTELLECTUAL
PROPERTY PROTECTION

     Aquasearch relies upon a combination of patents, copyright protection,
trade secrets, know-how, continuing technological innovation and licensing
opportunities to develop and maintain its competitive position.  The Company's
future prospects depend in part on its ability to obtain patent protection for
its products and processes, to preserve its copyright and trade secrets and to
operate without infringing the proprietary rights of third parties.  Aquasearch
has been awarded one patent in the United States, one patent by the European
Patent Office (which is applicable to all member nations of the European Union),
and one patent in Australia for its closed system microalgae cultivation
process.  The Company has additional patent applications pending in the United
States and internationally.

     The patent positions of pharmaceutical, biopharmaceutical and biotechnology
companies, including the Company, are generally uncertain and involve complex
legal and factual questions.  There can be no assurance that any of the
Company's pending patent applications will result in issued patents, that the
Company will develop additional proprietary technologies that are patentable,
that any patents issued to the Company or its corporate partners will provide a
basis for commercially viable products or will provide the Company with any
competitive advantages or will not be challenged by third parties, or that the
patents of others will not have a material adverse effect on the ability of the
Company to do business.  In addition, patent law relating to the scope of claims
in the technology fields in which the Company operates is still evolving.  The
degree of future protection for the Company's proprietary rights, therefore, is
uncertain.  Furthermore, there can be no assurance that others will not
independently develop similar or alternative technologies, duplicate any of the
Company's technologies, or, if patents are issued to the Company, design around
the patented technologies developed by the Company.  In addition, the Company
could incur substantial costs in litigation if it is required to defend itself
in patent suits brought by third parties or if it initiates such suits.


                                         -40-
<PAGE>

     Others may have filed and in the future are likely to file patent
applications that are similar or identical to those of the Company.  To
determine the priority of inventions, the Company may have to participate in
interference proceedings declared by the United States Patent and Trademark
Office that could result in substantial cost to the Company.  No assurance can
be given that any such patent application will not have priority over patent
applications filed by the Company.  In addition, the laws of certain foreign
countries may not protect the Company's patent and other intellectual property
rights to the same extent as the laws of the United States.

     The Company's future prospects also depend in part on the Company neither
infringing patents or proprietary rights of third parties nor breaching any
licenses that may relate to the Company's technologies and products.  There can
be no assurance that the Company will not infringe the patents, licenses or
other proprietary rights of third parties.  In addition, the Company may in the
future receive notices claiming infringement from third parties as well as
invitations to take licenses under third party patents.  Any legal action
against the Company or its collaborative partners claiming damages and seeking
to enjoin commercial activities relating to the affected products and processes
could, in addition to subjecting the Company to potential liability for damages,
require the Company or its corporate partners to obtain a license in order to
continue to manufacture or market the affected products and processes.  There
can be no assurance that the Company or its corporate partners would prevail in
any such action or that any license (including licenses proposed by third
parties) required under any such patent would be made available on commercially
acceptable terms, if at all.  There may be a significant number of United States
and foreign patents and patent applications in the Company's area of interest,
and the Company believes that there may be significant litigation in the
industry regarding patent and other intellectual property rights.  If the
Company becomes involved in such litigation, it could consume a substantial
portion of the Company's managerial and financial resources, which could have a
material adverse effect on the Company's business, financial condition, results
of operations and relationships with its corporate partners.

     The enactment of legislation implementing the General Agreement on Trade
and Tariffs has resulted in certain changes in United States patent laws that
became effective on June 8, 1995.  Most notably, the term of patent protection
for patent applications filed on or after June 8, 1995 is no longer a period of
seventeen years from the date of grant.  The new term of United States patents
will commence on the date of issuance and terminate twenty years after the
effective date of filing may result in a substantially shortened term of the
Company's patent protection which may adversely affect the Company's patent
position.

     While the disclosure and use of the Company's proprietary technology,
know-how and trade secrets are generally controlled under agreements with the
parties involved, there can be no assurance that all confidentiality agreements
will be honored, that others will not independently develop similar or superior
technology, that disputes will not arise concerning the ownership of
intellectual property, or that dissemination of the Company's proprietary
technology, know-how and trade secrets will not occur.  See "Business--Patents,
Licenses and Proprietary Technology."

UNCERTAINTY REGARDING OBTAINING AND MAINTAINING GOVERNMENT APPROVALS

     Aquasearch's natural astaxanthin product, potential products and its
research and production activities are or may become subject to varying degrees
of regulation by a number of government authorities in the United States and
other countries, including the United States Food and Drug Administration
("FDA") pursuant to the Federal Food, Drug and Cosmetic Act.  Each existing or
potential microalgal product that is developed or marketed by Aquasearch, its
licensees or its corporate partners can present unique regulatory problems and
risks, depending on the product type, uses and method of manufacture.  Any
future products developed by Aquasearch for use in human nutrition,
pharmaceuticals or cosmetics, if any, will require Aquasearch to develop and
adhere to Good Manufacturing Practices ("GMP") as required by the FDA, ISO


                                         -41-
<PAGE>

standards as required in Europe, and any other applicable standards mandated by
federal, state, local or foreign laws, regulations and policies.  Currently, the
Company's production facilities do not comply with GMP or ISO standards and
significant capital expenditures would have to be made and compliance procedures
implemented before the Company's production facilities could meet GMP and ISO
qualifications.

     The Company is also subject to other federal, state and foreign laws,
regulations and policies with respect to labeling of its products, importation
of organisms, and occupational safety, among others.  Federal, state and foreign
laws, regulations and policies are always subject to change and depend heavily
on administrative policies and interpretations.  The Company is working with
Cultor with respect to compliance with foreign laws, regulations and policies
pertaining to use of its natural astaxanthin product in the field of animal feed
and animal nutrition.  There can be no assurance that any changes with respect
to federal, state and foreign laws, regulations and policies, and, particularly
with respect to the FDA or other such regulatory bodies, with possible
retroactive effect, will not have a material adverse effect on the Company's
business, financial condition, results of operations and relationships with its
corporate partners.  There can be no assurance that any of the Company's
potential products will satisfy applicable regulatory requirements.  See
"Business --Government Regulation and Product Testing."

     The Company is subject to numerous environmental and safety laws and
regulations, including those governing the use and disposal of hazardous
materials.  Any violation of, and the cost of compliance with, these regulations
could have a material adverse effect on the Company's business, financial
condition, results of operations and relationships with its corporate partners. 
See "Business--Government Regulation and Product Testing."

CONCENTRATION OF PRODUCTION CAPACITY; RELIANCE ON CLIMATIC CONDITIONS

     All of the Company's production capacity is currently located at its
Kailua-Kona, Hawaii facility, on property leased from the State of Hawaii and
situated on a 200-year-old lava flow adjacent to a dormant volcano.  The Company
maintains minimal finished goods inventory.  In the event that production at, or
transportation from, such facility (or any facility that the Company might
construct in the Hawaiian Islands) were interrupted by fire, volcanic eruption,
earthquake, tidal wave, hurricane, or other natural disaster, work stoppage,
termination or suspension of the Company's facility lease by the State of Hawaii
for public use or similar purposes, other regulatory actions or any other cause,
the Company would be unable to continue to produce its products at such
facility.  Such an interruption would have a material adverse effect on the
Company's business, financial condition, results of operations and relationships
with its corporate partners.  See "Business--The Aquasearch Solution" and
"--Properties."

     Due to the importance of sunlight and a consistent warm temperature for
microalgae growth, the Company's production may be significantly affected by
weather patterns and unusual seasonal weather changes.  Any unseasonably cool or
cloudy weather would adversely impact the Company's production and could have a
material adverse effect on the Company's business, financial condition, results
of operations and relationships with its corporate partners.

RISKS ASSOCIATED WITH INTERNATIONAL SALES

     The Company currently has a distribution arrangement with Cultor, a Finnish
company.  The Company expects that international sales will represent a
significant portion of its revenue for the foreseeable future because
aquaculture production, the primary market for natural astaxanthin today, is
more highly developed in Europe and Asia than in the United States.  The
Company's business, financial condition and results of operations may be
materially and adversely affected by any difficulties associated with managing
accounts receivable from international customers, tariff regulations, imposition
of governmental controls, political and


                                         -42-
<PAGE>

economic instability or other  trade restrictions.  Although the Cultor
Distribution and Development Agreement provides that sales will be denominated
in United States dollars, fluctuations in currency exchange rates could cause
the Company's products to become relatively more expensive to customers in the
affected country, leading to a reduction in sales in that country.

PRODUCT LIABILITY

     The Company faces an inherent business risk of exposure to product
liability claims alleging that the use of its technology or products resulted in
adverse effects.  There can be no assurance that the Company's current level of
product liability insurance together with indemnification rights under its
existing license agreements and other collaborative arrangements will be
adequate to protect the Company.  It is uncertain whether the Company will be
able to obtain increased levels of insurance as the Company grows, that any
level of insurance would be economically practical or that it would be able to
renew its current or future policies.  A product liability claim or recall in
excess of insured amounts or amounts recoverable under applicable contractual
arrangements could have a material adverse effect on the Company's business,
financial condition, results of operations and relationships with its corporate
partners.

CONCENTRATION OF STOCK OWNERSHIP

     Based upon an aggregate of 47,819,881 shares of Common Stock outstanding 
at October 31, 1997, the Company's directors and executive officers, as a 
group, will beneficially own approximately 19.9% of the Company's outstanding 
Common Stock.  As a result, these shareholders will have the ability to 
strongly influence the actions of the Board of Directors and the outcome of 
actions that are brought before the shareholders for approval.  Such a high 
level of ownership may have the effect of delaying or preventing a change in 
control of the Company and may adversely affect the voting and other rights 
of the holders of Common Stock.  See "Item 11. Security Ownership of Certain 
Beneficial Owners and Management."

POSSIBLE VOLATILITY OF STOCK PRICE; LIMITED LIQUIDITY; ABSENCE OF DIVIDENDS

     The market price of the Company's Common Stock has experienced, and may
continue to experience, a high level of volatility, as frequently occurs with
publicly traded life sciences companies and many companies whose securities
trade on the NASD Electronic Bulletin Board.  See "Risk Factors--Risks
Associated with Low-Priced Over-The-Counter" Securities."  Announcements of
technological innovations or new commercial products by the Company or its
competitors, developments or disputes concerning patent or proprietary rights,
publicity regarding actual or potential benefits relating to products under
development by the Company or its competitors, general regulatory developments
affecting the Company's products in both the United States and foreign
countries, market conditions for life sciences companies in general and economic
and other internal and external factors, as well as period-to-period
fluctuations in financial results, may have a significant impact on the
Company's business or the future market price of the Common Stock.  Since the
Company's initial public offering of Common Stock in January 1989, the average
daily trading volume in the Common Stock as reported on the NASD Electronic
Bulletin Board has been relatively low.  See "Price Range of Common Stock."
There can be no assurance that a more active public trading market will ever
develop for the Common Stock.  The Company has never declared or paid any cash
dividends on its Common Stock and does not intend to do so for the foreseeable
future. See "Dividend Policy."

RISKS ASSOCIATED WITH LOW-PRICED "OVER-THE-COUNTER" SECURITIES

     The Company's Common Stock is currently traded in the "over-the-counter
market" in the "Electronic Bulletin Board" of the National Association of
Securities Dealers, Inc. (the "NASD").  See "Price Range of


                                         -43-
<PAGE>

Common Stock." Securities of companies traded on the NASD Electronic Bulletin
Board are generally more difficult to dispose of and to obtain accurate
quotations as to price than securities of companies that are traded on the
Nasdaq National Market, the Nasdaq SmallCap Market or the major stock exchanges.

     The Securities Enforcement and Penny Stock Reform Act of 1990 requires
additional disclosure relating to the market for penny stocks in connection with
trades in any stock defined as a penny stock.  Securities and Exchange
Commission regulations generally define a penny stock to be an equity security
that has a market price of less than $5.00 per share, subject to certain
exceptions.  Such exceptions include any equity security listed on Nasdaq or a
national securities exchange and any equity security issued by an issuer that
has (i) net tangible assets of at least $2,000,000, if such issuer has been in
continuous operation for three years, (ii) net tangible assets of at least
$5,000,000, if such issuer has been in continuous operation for less than three
years, or (iii) average annual revenue of at least $6,000,000, if such issuer
has been in continuous operation for less than three years.  Unless an exception
is available, the regulations require the delivery, prior to any transaction
involving a penny stock, of a disclosure schedule explaining the penny stock
market and the risks associated therewith.

     In addition, trading in the Company's securities is currently subject to
Rule 15g-9 promulgated under the Exchange Act for non-Nasdaq and non-exchange
listed securities.  Pursuant to Rule 15g-9, broker/dealers who recommend the
Company's securities to persons other than established customers and accredited
investors must make a special written suitability determination for the
purchaser and receive the purchaser's written agreement to a transaction prior
to sale.  Securities are exempt from this rule if their market price is at least
$5.00 per share.

     The impact of the regulations applicable to penny stocks on the Company's
securities is to reduce the market liquidity of the Company's securities by
limiting the ability of broker/dealers to trade the Company's securities and the
ability of purchasers of the Company's securities to sell their securities in
the secondary market.  The low price of the Company's Common Stock also has a
negative effect on the amount and percentage of transaction costs paid by
individual shareholders and the potential ability of the Company to raise
additional capital by issuing additional shares.  The primary reasons for these
effects include the internal policies of certain institutional investors that
prohibit the purchase of low-priced stocks, the fact that many brokerage houses
do not permit low-priced stocks to be used as collateral for margin accounts or
to be purchased on margin and certain brokerage house policies and practices
that tend to discourage individual brokers from dealing in low-priced stocks. In
addition, since broker's commissions on low-priced stocks represent a higher
percentage of the stock price than commissions on higher priced stocks, the
current low share price of the Common Stock results in individual shareholders
paying transaction costs that are a higher percentage of their total share value
than would be the case if the Company's share price were substantially higher.

     The Company intends to apply for listing on the Nasdaq SmallCap Market as
soon as it meets the eligibility requirements.  Under recently implemented
Nasdaq rules, in order to be eligible for listing on the Nasdaq SmallCap Market,
(i) the Company's Common Stock must have a minimum bid price of $4.00, (ii) the
Company must have minimum tangible net assets (total assets less total
liabilities and goodwill) of $4 million or a market capitalization of at least
$50 million or net income of at least $750,000 in two of the three prior years,
(iii) the Company must have a public float of at least one million shares with a
market value of at least $5 million and (iv) the Common Stock must have at least
three market makers and be held of record by at least 300 shareholders.  If at
any time the Company were to satisfy all listing requirements other than the
minimum bid price of $4.00 per share, then the Board of Directors is likely to
recommend that the Company effect a reverse stock split in order to meet this
minimum trading price listing requirement.  Any such reverse stock split would
require shareholder approval. There can be no assurance that at any time the
Company would be


                                         -44-
<PAGE>

able to satisfy some or all listing requirements or that any proposed reverse
stock split will be approved by the shareholders or successfully implemented
following such approval.

POTENTIAL ADVERSE EFFECT OF EXERCISE OF WARRANTS AND SALES OF WARRANT 
COMMON STOCK.  

     As of October 31, 1997, the Company had outstanding 5,347,244 Common Stock
Purchase Warrants that have an exercise price of $1.00 (the "Warrants") per
share, 25,974 Common Stock Purchase Warrants that have an  exercise price of
$0.21 per share, and 56,000 Common Stock Purchase Warrants that have an exercise
price of $0.50 per share.  The exercise of the outstanding Warrants will dilute
the percentage ownership of the holders of the Common Stock, and any sales in
the public market of Common Stock issuable upon the exercise of the Warrants
(the "Warrant Common Stock") may adversely affect prevailing market prices for
the Common Stock.  Moreover, the terms upon which the Company will be able to
obtain additional equity capital may be adversely affected since the holders of
such Warrants can be expected to exercise them at a time when the Company would,
in all likelihood, be able to obtain any needed capital on terms more favorable
to the Company than those provided in the outstanding Warrants.

POTENTIAL ADVERSE EFFECT OF REDEMPTION OF WARRANTS.

     The Warrants are subject to redemption by the Company at a price of $.01
each, commencing on February 1, 1997, on at least 30 days' prior written notice,
if the average closing bid price of the Common Stock as reported on The Nasdaq
SmallCap Market, if traded thereon, or, if not traded thereon, the average
closing sale price if listed on a national securities exchange (or other
reporting system that provides last sale prices), or, if not traded thereon, the
average of the closing bid prices on the NASD Electronic Bulletin Board, equals
or exceeds $1.50 per share (subject to adjustment for stock splits, stock
dividends and similar events) for a period of 20 trading days during any 30
consecutive trading days ending on the third day prior to the date on which the
Company gives notice of redemption.  Upon the giving of such notice of
redemption, holders of the Warrants will lose their right to exercise the
Warrants, except during such 30-day notice of redemption period.  Upon the
receipt of a notice of redemption of the Warrants, the holders thereof would be
required to (i) exercise the Warrants and pay the exercise price at a time when
it may be disadvantageous for them to do so; (ii) sell the Warrants at the then
market price, if any, when they might otherwise wish to hold the Warrants; or
(iii) accept the redemption price which is likely to be substantially less than
the market value of the Warrants at the time of redemption.

POTENTIAL ADVERSE EFFECT OF ISSUANCE OF PREFERRED STOCK

     The Company's Articles of Incorporation authorize the issuance of up to
5,000,000 shares of "blank check" Preferred Stock, with such designations,
rights, preferences, privileges and restrictions as determined by the Board of
Directors from time to time.  As a result, the Board of Directors is empowered,
without further shareholder approval, to issue Preferred Stock with dividend,
liquidation, conversion, voting or other rights that could adversely affect the
voting power or other rights of the holders of the Common Stock.  In the event
of issuance, the Preferred Stock could be used, under certain circumstances, as
a method of discouraging, delaying or preventing a change in control of the
Company.  Although the Company has no present plans to issue any shares of
Preferred Stock, there  can be no assurance that the Company will not issue
Preferred Stock at some time in the future.  

SHARES ELIGIBLE FOR FUTURE SALE
   
     As of October 31, 1997, the Company had 47,819,881 shares of Common Stock
outstanding.  Of the shares outstanding, 41,767,636 have either been registered
under the Securities Act or are freely tradable


                                         -45-
<PAGE>

without volume limitations under Rule 144(k) under the Securities Act; and the
balance of the outstanding shares are freely tradable under Rule 144(d) of the
Securities Act.  In addition, the Company recently filed a registration
statement covering the sale by certain shareholders of the Company of an
aggregate of 1,033,138 shares of Common Stock.  No prediction can be made as to
the effect, if any, that sales of shares of Common Stock or the availability of
such shares for sale will have on the market prices prevailing from time to
time.  The possibility exists, however, that substantial amounts of Common Stock
may be sold in the public market which may adversely affect prevailing market
prices for the Common Stock and could impair the Company's ability to raise
capital through the sale of its equity securities.


ITEM 7.  FINANCIAL STATEMENTS

     Audited balance sheets as of October 31, 1997, 1996 and 1995 and the
related statements of loss and accumulated deficit, cash flows and stockholders'
equity (deficit) for the years ended October 31, 1997, 1996 and 1995 (and from
inception to October 31, 1997) together with related notes and the reports of
Ernst & Young LLP and Johnson, Holscher & Co., independent auditors, appear on
pages F-1 through F-22 of this Report.


ITEM 8.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.

     There were no changes in or disagreements with accountants on accounting
and financial disclosure during fiscal 1997.

     In connection with the preparation of the audited financial statements for
fiscal 1996, the Company determined that it would be in the best interests of
the Company and its stockholders to retain the national accounting firm of
Ernst & Young LLP to serve as its independent auditors.  This change was more
time consuming than the Company initially anticipated and was not completed
until February 7, 1997.  On February 9, 1997, the Company filed a Current Report
on Form 8-K with the Commission to announce the change in auditors, as is
required by the rules and regulations of the Commission.  Set forth below is the
text of that Form 8-K:


"ITEM 4.  CHANGES IN REGISTRANT'S CERTIFYING ACCOUNTANT

     Johnson, Holscher & Company, P.C. ("Johnson Holscher") was previously the
principal accountants for Aquasearch, Inc. (the "Company").  On February 9,
1997, that firm's appointment as principal accountants was terminated by
dismissal and Ernst & Young LLP was engaged as principal accountants.  The
decision to change accountants was approved by the Audit Committee of the Board
of Directors.

     In connection with the audit of fiscal year ended October 31, 1994 and 
1995 and the subsequent interim period through February 9, 1997, there were 
no disagreements between Johnson Holscher and the Company with respect to any 
matter of accounting principles or practices, financial statement disclosure, 
or auditing scope or procedures, which disagreements if not resolved to 
Johnson Holscher's satisfaction would have caused them to make reference in 
connection with their opinion to the subject matter of the disagreement.

     The audit report of Johnson Holscher on the financial statements of the
Company as of and for the year ended October 31, 1995, did not contain any
adverse opinion or disclaimer of opinion, nor were they qualified or modified as
to uncertainty, audit scope, or accounting principles, except as follows with 
respect to the 1994 audit report: 

     As shown in the financial statements, the Company incurred a net 
     loss of $240,090 for the year ended October 31, 1994, and has incurred 
     substantial net losses for each of the past five years.

     These factors, and others discussed in Note 6, indicate that there 
     is substantial doubt about the Company being able to continue in 
     existence. Accordingly, the assets and liabilities of the Company have 
     been written down to liquidated basis."

                                         -46-
<PAGE>

                                       PART II

ITEM 9.  DIRECTORS, EXECUTIVE OFFICERS AND CONTROL PERSONS; COMPLIANCE WITH
SECTION 16(A) OF THE EXCHANGE ACT.

DIRECTORS AND EXECUTIVE OFFICERS

     The directors and executive officers of Aquasearch and their respective
ages and positions with Aquasearch are set forth in the following table.

<TABLE>
<CAPTION>

           Name                         Age                         Position
------------------------------       ---------   -------------------------------------------------
<S>                                  <C>         <C>
Mark E. Huntley, Ph.D. . . . .          47        President, Chief Executive Officer, and Chairman
Pearn P. Niiler, Ph.D. . . . .          60        Director
Earl S. Fusato . . . . . . . .          50        Chief Financial Officer, Secretary and Director
Edward E. David, Ph.D. . . . .          72        Director
Oskar R. Zaborsky, Ph.D. . . .          56        Director

</TABLE>

     MARK E. HUNTLEY, PH.D., is a co-founder of Aquasearch, a co-inventor of the
Aquasearch Growth Module and has served as the President, Chief Executive
Officer and Chairman of the Board since inception.  Dr. Huntley has served as a
research biologist at Scripps Institution of Oceanography, University of
California, San Diego since 1980.  Dr. Huntley has won numerous awards and
grants in his field, published more than 75 articles and a book, and lectured
throughout the world.  Dr. Huntley serves on the Executive Committee of the
Global Ocean Ecosystem Dynamics program, a component of the United States Global
Change Research Program, and the only element of the International
Geosphere-Biosphere Program that is examining the impact of global climate
change on marine ecosystems.  Dr. Huntley has served as an advisor to numerous
international, national and state agencies, including The United States State
Department, the United States Department of the Interior and the White House
Office of Science and Technology Policy.  Dr. Huntley received a B.Sc. degree
(SUMMA CUM LAUDE) in Biological Oceanography from the University of Victoria,
Canada 1976 and a Ph.D. in Biological Oceanography from Dalhousie University in
Halifax, Canada in 1980.

     PEARN P. NIILER, PH.D., has been a consultant to the Company since 1990 and
has served as a director of the Company since 1991.  Dr. Niiler is an expert in
applied mathematics and fluid dynamics and was a co-inventor of various
processes used in the Aquasearch Growth Module.  Dr. Niiler is a Professor of
Oceanography at Scripps Institution of Oceanography, University of California,
San Diego, where he heads one of the largest oceanographic research programs in
the nation.  Dr. Niiler has taught and conducted research at Harvard College,
Nova University and Oregon State University and has published more than 125
scientific papers.  Dr. Niiler received his B.S. degree from Lehigh University,
earned honors as a Fulbright Scholar at Cambridge University, England, and was
awarded a Ph.D. as a Woodrow Wilson Fellow from Brown University. 

     EARL S. FUSATO joined the Company as Chief Financial Officer in April 1997.
Mr. Fusato served as chief financial officer a Hawaii based real estate firm
from 1992 to 1994. During the period from 1983 to 1992, Mr. Fusato served in
various financial positions with VeriFone, including Vice President, Finance
from 1983 to 1987 and Treasurer from 1987 to 1990.  Prior to that, Mr. Fusato
spent 13 years as an auditor at KPMG Peat Marwick, LLP and Ernst & Young, LLP.
Mr. Fusato is a Certified Public Accountant.

     EDWARD E. DAVID, PH.D., has served as a director of the Company since
September 1997.  Dr. David is currently President of EED, Inc., an industrial
and governmental consulting firm, and Vice President and Principal of the
Washington Advisory Group, a science and technology consulting firm.  Dr. David
served as President of Exxon Research and Engineering from 1977 to 1986; as
Executive Vice


                                         -47-
<PAGE>

President of Research and Development of Gould Inc. and as President of Gould
Laboratories from 1973 to 1977; and as Executive Director of the Communications
Systems Division of Bell Laboratories from 1965 to 1970.  Dr. David served as
Science Advisor to the President of the United States and Director of the White
House Office of Science and Technology from 1970 to 1973.  Dr. David holds 12
honorary degrees, has received numerous national awards and is a member of the
National Academy of Engineering and the National Academy of Sciences.

     OSCAR R. ZABORSKY, PH.D. has served as a director of the Company since
October 1997. Dr. Zaborsky is currently the Director of the Marine Biotechnology
and Biosystems Engineering Laboratory at the School of Ocean and Earth Science
at the University of Hawaii; a Visiting Scholar at the Department of Chemical
Engineering, University of California, Berkeley; and the Williamson-Matsunaga
FREE (Fellow in Renewable Energy Engineering) Scholar in Hydrogen Systems,
sponsored by the Hawaiian Electric Company. Dr. Zaborsky is a former Director of
the Board on Biology of the U.S. National Academy of Sciences; a former Program
Manager of the U.S. National Science Foundation; and a former Biotechnology
Program Advisor at the Argonne National Laboratory of the U.S. Department of
Energy.

BOARD OF DIRECTORS COMMITTEES AND OTHER INFORMATION

     All directors hold office until the next annual meeting of shareholders and
until their successors have been duly elected and qualified.  Officers are
elected by and serve at the discretion of the Board of Directors.  There are no
family relationships among the directors or officers of the Company.

     The Board of Directors currently has an Audit Committee and a Compensation
Committee.  The Audit Committee oversees the actions taken by the Company's
independent auditors and reviews the Company's internal financial and accounting
controls and policies.  The Compensation Committee is responsible for
determining salaries, incentives and other forms of compensation for officers,
employees and consultants of the Company and administers the Company's incentive
compensation and benefit plans.

DIRECTOR COMPENSATION

     Directors of the Company do not receive cash for services they provide as
directors.  From time to time, certain directors who are not employees of the
Company have served as consultants to the Company for which they have been paid
customary fees based on the value of the services rendered and/or received
grants of options to purchase shares of the Company's Common Stock.  The Company
does not provide additional compensation for committee participation or special
assignments of the Board of Directors.

ITEM 10.  EXECUTIVE COMPENSATION

SUMMARY COMPENSATION

     The following table sets forth the information, on an accrual basis, with
respect to the compensation of Mark E. Huntley, Ph.D., the Chief Executive
Officer of the Company, for the three fiscal years ended October 31, 1997.

<TABLE>
<CAPTION>

                           YEAR ENDED        SALARY/OTHER          STOCK        NO. OF SECURITIES
   NAME AND POSITION       OCTOBER 31,       COMPENSATION         AWARDS(1)     UNDERLYING OPTIONS
-----------------------    -----------       ------------         ---------     ------------------
<S>                        <C>               <C>                 <C>            <C>
Mark E. Huntley, Ph.D.,       1997           $      0(2)                $0                 0
President and Chief           1996           $      0(2)                $0                 0
Executive Officer             1995           $      0(2)         $ 198,000(3)      1,665,250(4)

</TABLE>


                                         -48-
<PAGE>

(1)  The dollar value of each of the restricted stock awards in the table above
     was determined by multiplying the closing bid price of the Company's Common
     Stock on the date of grant of the stock award by the number of shares
     awarded.

(2)  Dr. Huntley has at all times during 1995, 1996 and 1997 served as a
     consultant to the Company while continuing his employment as a research
     biologist at Scripps Institution of Oceanography, University of California,
     San Diego.  Pursuant to the rules and regulations of the Commission,
     however, Dr. Huntley's position as President and Chief Executive Officer of
     the Company qualifies him as an employee of the Company.  Notwithstanding
     this, all compensation paid to Dr. Huntley to date has been as though he
     was an independent consultant to the Company.

(3)  On August 24, 1995, the Company returned to Dr. Huntley 1,320,000 shares of
     Common Stock from the 4,635,575 shares of Common Stock that Dr. Huntley had
     gifted to the Company in 1989.  Although the Company had intended this
     transaction to qualify as a return of capital to Dr. Huntley without any
     tax or other consequences to the Company or Dr. Huntley, under the rules
     and regulations of the Commission, this transaction qualifies as a stock
     grant in return for prior services.  The closing bid price of the Common
     Stock on the date of grant was $0.15 per share.

(4)  On August 1, 1995, the Board of Directors granted a stock option to
     Dr. Huntley, with a term of seven years, payable, if exercised, by a
     promissory note payable over 3 years with interest at 5% per annum, to
     purchase up to 1,665,250 shares of Common Stock at an exercise price of
     $0.0625 per share.

     The total annual salary and bonus for any other executive officer did not
exceed $100,000 for the fiscal year ended October 31, 1997.

STOCK OPTION GRANTS

     The following are grants of stock options made to executive officers and
directors during the fiscal year ended October 31, 1997.  

<TABLE>
<CAPTION>

                              NUMBER OF       % OF TOTAL
                             SECURITIES      OPTIONS GRANTED      EXERCISE
                             UNDERLYING      TO EMPLOYEES IN      OR BASE       EXPIRATION
   NAME AND POSITION          OPTIONS         FISCAL YEAR        PRICE ($/SH)     DATE
----------------------       ----------      ---------------     ------------   ----------
<S>                          <C>             <C>                 <C>            <C>
Earl S. Fusato, Chief         1,500,000(1)        58.2%          $0.36/share    1/28/2007
Financial Officer             1,000,000(2)                       $1.00/share    4/07/2007

</TABLE>

(1)  On January 28, 1997, the Company granted a nonstatutory stock option to
     Mr. Fusato to purchase 1,500,000 shares at $.36 per share that vests over
     five years.

(2)  On April 7, 1997 in connection with Mr. Fusato's purchase of 1,000,000
     shares of Company's common stock, the Company granted him a nonstatutory
     stock option to purchase 1,000,000 shares of Common Stock at $1.00 per
     share. This option is fully vested.

STOCK OPTIONS EXERCISED DURING FISCAL YEAR

     No stock options or stock appreciation rights were exercised by any
executive officers or directors of the Company during the fiscal year ending
October 31, 1997.

OPTION VALUES

     The following table sets forth information with respect to the value of
unexercised options held by executive officers as of October 31, 1997:


                                         -49-
<PAGE>

                            FISCAL YEAR-END OPTION VALUES

<TABLE>
<CAPTION>
                                   NUMBER OF SECURITIES
                                  UNDERLYING UNEXERCISED        VALUE OF UNEXERCISED
                                       OPTIONS AT              IN-THE-MONEY OPTIONS AT
                                     FISCAL YEAR END             FISCAL YEAR END(1)
                                  --------------------------  --------------------------
          NAME                    EXERCISABLE  UNEXERCISABLE  EXERCISABLE  UNEXERCISABLE
------------------------------    -----------  -------------  -----------  -------------
<S>                               <C>          <C>            <C>          <C>
Mark E. Huntley, Ph.D. . . . .    1,665,250        -0-         $378,845        -0-
Earl S. Fusato . . . . . . . .    1,300,000     1,200,000         -0-          -0-

---------------------

</TABLE>

(1)  Value of unexercised options is based on the closing bid price of the
     Company's Common Stock on the Nasdaq Electronic Bulletin Board on
     October 31, 1997 ($0.29 per share) minus the exercise price.

LTIP AWARDS DURING FISCAL YEAR

     No long term incentive plan awards were made to any executive officers or
directors of the Company during the fiscal year ending October 31, 1997.

EMPLOYMENT CONTRACTS

     There are currently no employment contracts or change-in-control
arrangements between the Company and any director or executive officer.

EMPLOYEE BENEFIT PLANS

     1996 STOCK OPTION PLAN.  In March 1996, the Board of Directors adopted 
the 1996 Stock Option Plan.  The 1996 Stock Option Plan provides for the 
grant of incentive stock options to employees and nonstatutory stock options 
and stock purchase rights to employees and consultants.  A total of 5,000,000 
shares of Common Stock have been reserved for issuance under the 1996 Stock 
Option Plan.  The 1996 Stock Option Plan will be administered by the Board of 
Directors, except that with respect to option grants to executive officers, 
the 1996 Stock Option Plan is administered by the Compensation Committee of 
the Board of Directors.  Options and stock purchase rights granted under the 
1996 Stock Option Plan will vest as determined by the relevant administrator, 
and may accelerate and become fully vested in the event of an acquisition of 
the Company if so determined by the relevant administrator. The exercise 
price of options and stock purchase rights granted under the 1996 Stock 
Option Plan will be as determined by the relevant administrator, although the 
exercise price of incentive stock options must be at least equal to the fair 
market value of the Company's Common Stock on the date of grant.  The Board 
of Directors may amend or modify the 1996 Stock Option Plan at any time.  The 
1996 Stock Option Plan will terminate in March 2006, unless terminated 
earlier by the Board of Directors.

LIMITATIONS ON LIABILITY AND INDEMNIFICATION MATTERS

     The Company has adopted provisions in its Restated Articles of
Incorporation that eliminate the personal liability of its directors for
monetary damages arising from a breach of their fiduciary duties in certain
circumstances to the fullest extent permitted by law and authorize the Company
to indemnify its directors and officers to the fullest extent permitted by law.
Such limitation of liability does not affect the availability of equitable
remedies such as injunctive relief or rescission.


                                         -50-
<PAGE>

     The Company's Restated Articles of Incorporation provide that the Company
shall indemnify its directors and officers to the fullest extent permitted by
Colorado law, including circumstances in which indemnification is otherwise
discretionary under Colorado  law.  The Company has entered into indemnification
agreements with its officers and directors containing provisions which will in
some respects be broader than the specific indemnification provisions contained
in the Colorado Corporations Code.  The indemnification agreements require the
Company, among other things, to indemnify such officers and directors against
certain liabilities that may arise by reason of their status or service as
directors or officers (other than liabilities arising from willful misconduct of
a culpable nature) and to advance their expenses incurred as a result of any
proceeding against them as to which they could be indemnified.

     At present, there is no pending material litigation or proceeding involving
a director or officer of the Company where indemnification will be required or
permitted.  The Company is not aware of any threatened material litigation or
proceeding which may result in a claim for such indemnification.


ITEM 11.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

     The following table sets forth certain information with respect to the
beneficial ownership of the Company's Common Stock as of the date of this Annual
Report for (i) each entity or group that is known by the Company to beneficially
own five percent or more of the outstanding Common Stock of the Company,
(ii) each director, (iii) each executive officer and (iv) the Company's
directors and officers as a group.  Except pursuant to applicable community
property laws or as indicated in the footnotes to this table, to the Company's
knowledge, each shareholder identified in the table possesses voting and
investment power with respect to all shares of Common Stock shown as
beneficially owned by such shareholder.

<TABLE>
<CAPTION>

 TITLE           NAME AND ADDRESS                      NATURE OF            NO. OF        PERCENT
OF CLASS        OF BENEFICIAL OWNER               BENEFICIAL OWNERSHIP     SHARES(1)      OF CLASS
--------  --------------------------------        --------------------     ---------      --------
<S>       <C>                                     <C>                      <C>            <C>
Common    Mark E. Huntley, Ph.D.(2)               Direct                   5,683,186       11.5%
          c/o Aquasearch, Inc.
          73-4460 Queen Ka'ahumanu Highway
          Suite 110
          Kailua-Kona, Hawaii 96740

Common    Earl S. Fusato (3)                      Direct                   2,534,476        5.2%
          c/o Aquasearch, Inc.
          73-4460 Queen Ka'ahumanu Highway
          Suite 110
          Kailua-Kona, Hawaii 96740

Common    Pearn P. Niiler, Ph.D. (4)              Direct                   1,918,402        3.9%
          c/o Aquasearch, Inc.
          73-4460 Queen Ka'ahumanu Highway
          Suite 110
          Kailua-Kona, Hawaii 96740

Common    Edward E. David, Sc.D. (5)              Direct                     150,000       *
          c/o Aquasearch, Inc.
          73-4460 Queen Ka'ahumanu Highway
          Suite 110
          Kailua-Kona, Hawaii 96740

Common    Oskar R. Zaborsky, Ph.D. (6)            Direct                     100,000       *
          c/o Aquasearch, Inc.
          73-4460 Queen Ka'ahumanu Highway
          Suite 110
          Kailua-Kona, Hawaii 96740

</TABLE>


                                         -51-
<PAGE>

<TABLE>
<CAPTION>

 TITLE           NAME AND ADDRESS                      NATURE OF            NO. OF        PERCENT
OF CLASS        OF BENEFICIAL OWNER               BENEFICIAL OWNERSHIP     SHARES(1)      OF CLASS
--------  --------------------------------        --------------------     ---------      --------
<S>       <C>                                     <C>                      <C>            <C>
          All directors and officers as                                    10,386,064      19.9%
          a group (5 persons)

</TABLE>

*  Less than one percent

(1)  Applicable percentage of beneficial ownership is based on 47,819,881 shares
     outstanding as of October 31, 1997, together with applicable options for
     each shareholder. Beneficial ownership is determined in accordance with the
     rules and regulations of the Commission, and includes voting and investment
     power with respect to shares.  Shares of Common Stock subject to options
     currently exercisable or exercisable within 60 days after October 31, 1997
     are deemed outstanding for purposes of computing the percentage ownership
     of the person holding such options, but are not deemed outstanding for
     computing the percentage of any other shareholder.
(2)  Includes options to purchase 1,665,250 shares of Common Stock at an
     exercise price of $0.0625 per share, with a term of seven years, payable by
     a  promissory note payable over 3 years with interest at 5% per annum.
(3)  Includes options to purchase 275,000 shares and 1,000,000 shares of Common
     Stock at an exercise price of $0.36 and $1.00 per share, respectively, that
     are exercisable within 60 days of October 31, 1997, and warrants to acquire
     115,384 shares of Common Stock @1.00 per share.
(4)  Includes options to purchase 1,291,050 shares of Common Stock at an
     exercise price of $0.0625 per share, with a term of seven years, payable by
     a  promissory note payable over 3 years with interest at 5% per annum.
(5)  Includes options to purchase 50,000 shares of Common Stock at an exercise
     price of $0.25 that are immediately exercisable.
(6)  Includes options to purchase 80,000 shares at an exercise price of $0.25
     per share that are immediately exercisable.


ITEM 13.  EXHIBITS AND REPORTS ON FORM 8-K

EXHIBITS

3.1*      Articles of Incorporation of Registrant

3.2+      Articles of Amendment of Articles of Incorporation, filed October 
          4, 1996.

3.3*      By-laws of Registrant

4.1+      Form of 1996 Bridge Note

4.2+      Form of Private Placement Warrant

10.1#     Distribution and Development Agreement between Cultor Ltd. and
          Aquasearch, Inc., dated May 14, 1996

10.2#     Stock Subscription Agreement between Cultor Ltd. and Aquasearch, Inc.,
          dated May 14, 1996

10.3+     The Amended Keahole Point Facilities Use Agreement dated August 22,
          1996 by and between The National Energy Laboratory of Hawaii Authority
          and the Registrant

10.4$     Letter of Intent between C. Brewer and Company Limited and the
          Registrant

11.1      Statement Regarding Computation of Per Share Earnings Incorporated by
          reference to the exhibit filed with Registrant's Annual Report on Form
          10-KSB filed October 31, 1995.

*         Incorporated by reference to the exhibit filed with Registrant's 
          Annual Report on Form 10K-SB for the fiscal year ended October 31, 
          1995.

#         Incorporated by reference to the exhibit filed with Registrant's
          Current Report on Form 8-K filed September 13, 1996.

+         Incorporated by reference to the exhibit filed with the Registrant's
          Annual Report on Form 10-KSB for the fiscal year ended October 31,
          1996.


                                         -52-
<PAGE>

$         Incorporated by reference to the Registrant's Current Report on Form
          8-K dated November 13, 1996.


REPORTS ON FORM 8-K

     No reports were filed during the last quarter of year ended October 31,
1997.


                                         -53-
<PAGE>

                                      SIGNATURES

     In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
has duly caused this Amendment No. 1 to Annual Report on Form 10KSB to be signed
on February 12, 1998, on its behalf by the undersigned, thereunto duly
authorized.

                                             AQUASEARCH, INC.


                                             By /s/ Mark E. Huntley
                                                --------------------------------
                                                  Mark E. Huntley
                                                  Chief Executive Officer

     In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the registrant and in the capacities and on
the date indicated.

                    Signature                                      Date
/s/ Mark E. Huntley
-----------------------------
Mark E. Huntley                                             February 12, 1998
Director, President, CEO & Chairman of the
Board of Directors


/s/ Pearn P. Niiler
-----------------------------
Pearn P. Niiler                                             February 12, 1998
Director  


/s/ Earl S. Fusato
-----------------------------
Earl S. Fusato                                              February 12, 1998
Director


-----------------------------
Edward E. David, Ph.D.                                      February 12, 1998
Director  


-----------------------------
Oskar R. Zaborsky, Ph.D.                                    February 12, 1998
Director


                                         -54-
<PAGE>

                                 FINANCIAL STATEMENTS

                                   AQUASEARCH, INC.
                           (A DEVELOPMENT STAGE ENTERPRISE)


                            INDEX TO FINANCIAL STATEMENTS


Report of Independent Auditors . . . . . . . . . . . . . . . . . . . . . . . F-2

Independent Auditor's Report . . . . . . . . . . . . . . . . . . . . . . . . F-3

Audited Financial Statements:

Balance Sheets as of October 31, 1995, 1996 and 1997 . . . . . . . . . . . . F-4

Statements of Loss and Accumulated Deficit from Inception to
  October 31, 1997 and for the Fiscal Years Ended October 31,
  1995, 1996 and 1997. . . . . . . . . . . . . . . . . . . . . . . . . . . . F-5

Statements of Cash Flows from Inception to October 31, 1997 
  and for the Fiscal Years Ended October 31, 1995, 1996 and 1997 . . . . . . F-6

Statements of Stockholders' Equity (Deficit) from Inception to 
  October 31, 1997 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . F-7

Notes to Financial Statements. . . . . . . . . . . . . . . . . . . . . . . .F-11


                                         F-1
<PAGE>

                            REPORT OF INDEPENDENT AUDITORS


The Board of Directors
Aquasearch, Inc.


We have audited the accompanying balance sheets of Aquasearch, Inc. (a 
development stage enterprise) as of October 31, 1997 and 1996, and the 
related statements of loss and accumulated deficit, cash flows, and 
stockholders' equity (deficit) for the years then ended and for the period 
from inception to October 31, 1997. These financial statements are the 
responsibility of the Company's management. Our responsibility is to express 
an opinion on these financial statements based on our audit. The financial 
statements as of and for the period from inception to October 31, 1995, were 
audited by other auditors whose report dated December 2, 1995 except for Note 
5 dated January 26, 1996, and Note 8 dated April 6, 1997, expressed an 
unqualified opinion on those statements. The financial statements for the 
period from inception to October 31, 1995 include no revenues and a net loss 
of $1,616,518. Our opinion on the statements of loss and accumulated deficit, 
cash flows, and stockholders' equity (deficit) for the period from inception 
to October 31, 1997, insofar as it relates to amounts for prior periods 
through October 31, 1995, is based solely on the report of the other auditors.

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

In our opinion, based on our audits and the report of other auditors, the 
financial statements referred to above present fairly, in all material 
respects, the financial position of Aquasearch, Inc. (a development stage 
enterprise) as of October 31, 1997 and 1996, and the results of its 
operations and its cash flows for the years then ended and the period from 
inception to October 31, 1997, in conformity with generally accepted 
accounting principles.

As discussed in Note 1 to the financial statements, the Company's recurring 
losses from operations and working capital deficit at October 31, 1997 raise 
substantial doubt about its ability to continue as a going concern. The 
October 31, 1997 financial statements do not include any adjustments that 
might result from the outcome of this uncertainty.

                                   /s/ Ernst & Young LLP


January 31, 1998
Honolulu, Hawaii


                                         F-2
<PAGE>

                             INDEPENDENT AUDITORS' REPORT


To the Board of Directors
Aquasearch, Inc.
San Diego, California


     We have audited the accompanying balance sheets of Aquasearch, Inc. (a 
development stage enterprise) (a Colorado corporation) as of October 31,  
1995, 1994 and 1993, and the related statements of loss and accumulated  
deficit, cash flows, and stockholders' equity for the years then ended and  
for the period from inception to October 31, 1995. These financial statements 
 are the responsibility of the Company's management. Our responsibility is to 
 express an opinion on these financial statements based on our audit.

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

     In our opinion, the financial statements referred to above present 
fairly, in  all material respects, the financial position of Aquasearch, Inc. 
(a development stage enterprise) as of October 31, 1995, 1994 and 1993, and 
the results of its operations, cash flows, and changes in stockholders' 
equity  for the years then ended and for the period from inception to October 
31, 1995, in conformity with generally accepted accounting principles.

Englewood, Colorado
December 2, 1995 except
Note 5 dated January 26, 1996
and Note 8 dated April 6, 1997                    /s/ Johnson, Holscher & Co.
                                                  PROFESSIONAL CORPORATION


                                         F-3
<PAGE>

                                   AQUASEARCH, INC.
                           (A DEVELOPMENT STAGE ENTERPRISE)
                                    BALANCE SHEETS

<TABLE>
<CAPTION>

                                                                                October 31
                                                           ----------------------------------------------------
                                                                                                      1995
                                                               1997                1996           (as restated)
                                                          -------------        -------------      -------------
                                                                                                    (NOTE 8)
<S>                                                       <C>                 <C>                 <C>
Assets
Current assets:
   Cash . . . . . . . . . . . . . . . . . . . . . . . .    $    47,006         $   187,166         $    27,208
   Cash in escrow . . . . . . . . . . . . . . . . . . .              -             460,980                   -
   Accounts receivable  . . . . . . . . . . . . . . . .          1,219               1,933                   -
   Stock subscriptions receivable . . . . . . . . . . .              -                   -              35,000
   Prepaid expenses . . . . . . . . . . . . . . . . . .         24,439               5,534               9,177
   Refundable deposits  . . . . . . . . . . . . . . . .          4,570               3,145               2,535
                                                           -----------         -----------         -----------
Total current assets. . . . . . . . . . . . . . . . . .         77,234             658,758              73,920
                                                           -----------         -----------         -----------

Notes receivable. . . . . . . . . . . . . . . . . . . .         30,516                   -                   -
Plant and equipment:
   Plant. . . . . . . . . . . . . . . . . . . . . . . .        738,889             676,709             408,219
   Equipment. . . . . . . . . . . . . . . . . . . . . .        173,052              68,349               7,740
   Less accumulated depreciation  . . . . . . . . . . .       (104,894)            (35,876)               (320)
                                                           -----------         -----------         -----------
Net plant and equipment . . . . . . . . . . . . . . . .        807,047             709,182             415,639
Total assets. . . . . . . . . . . . . . . . . . . . . .    $   914,797         $ 1,367,940         $   489,559
                                                           -----------         -----------         -----------
                                                           -----------         -----------         -----------

Liabilities and Stockholders' Equity (Deficit)
Current liabilities:
Accounts payable. . . . . . . . . . . . . . . . . . . .    $   446,344            $466,165           $ 233,181
   Deposits held. . . . . . . . . . . . . . . . . . . .              -             460,980                   -
   Notes payable (NOTE 2) . . . . . . . . . . . . . . .        575,000             150,000                   -
                                                           -----------         -----------         -----------
Total current liabilities . . . . . . . . . . . . . . .      1,021,344           1,077,145             233,181
                                                           -----------         -----------         -----------

Stockholders' Equity (Deficit)
   Preferred stock (5,000,000 shares authorized)
   (Note 1) . . . . . . . . . . . . . . . . . . . . . .              -                   -                   -
   Common stock ($0.0001 par value, 100,000,000
   shares authorized, 47,819,881, 40,829,331 and
   32,583,688 shares outstanding at October 31,
   1997, 1996 and 1995 respectively). . . . . . . . . .          5,904               5,204               4,379
   Additional paid-in capital . . . . . . . . . . . . .      4,699,470           3,234,309           1,902,785
   Deficit accumulated during the development stage . .     (4,811,921)         (2,948,718)         (1,650,786)
                                                           -----------         -----------         -----------
Total stockholders' equity (deficit). . . . . . . . . .       (106,547)            290,795             256,378
                                                           -----------         -----------         -----------
Total liabilities and stockholders' equity
   (deficit). . . . . . . . . . . . . . . . . . . . . .    $   914,797         $ 1,367,940         $   489,559
                                                           -----------         -----------         -----------
                                                           -----------         -----------         -----------

</TABLE>

                               SEE ACCOMPANYING NOTES.


                                         F-4
<PAGE>

                                   AQUASEARCH, INC.
                           (A DEVELOPMENT STAGE ENTERPRISE)

                      STATEMENTS OF LOSS AND ACCUMULATED DEFICIT

<TABLE>
<CAPTION>

                                                                                    For the years ended October 31,
                                                                          ---------------------------------------------------
                                                           From
                                                       inception to                                                  1995
                                                       October 31,                                              (as restated)
                                                           1997                1997               1996             (NOTE 8)
                                                      -------------       -------------      -------------      -------------
<S>                                                   <C>                 <C>                <C>                <C>
Operations
Sales. . . . . . . . . . . . . . . . . . . .               11,077               1,077              10,000                   -
Cost of sales. . . . . . . . . . . . . . . .               23,464               2,238              21,226                   -
                                                      -----------         -----------         -----------         -----------
Gross loss from operations . . . . . . . . .              (12,387)             (1,161)            (11,226)                  -
Research and development costs . . . . . . .            1,886,536             793,770             648,601              89,264
General and administrative expenses. . . . .            2,705,248           1,072,051             640,702             393,171
                                                      -----------         -----------         -----------         -----------
Loss from operations . . . . . . . . . . . .           (4,604,171)         (1,866,982)         (1,300,529)           (482,435)
Other Income (Expense)
Interest . . . . . . . . . . . . . . . . . .               (5,182)              4,465               2,597              (1,762)
Other. . . . . . . . . . . . . . . . . . . .               (6,702)               (686)                  -              (2,616)
Investment in joint venture. . . . . . . . .             (147,096)                  -                   -                   -
                                                      -----------         -----------         -----------         -----------
Total other income (expense) . . . . . . . .             (158,980)              3,779               2,597              (4,378)
                                                      -----------         -----------         -----------         -----------
Loss before income taxes and
extraordinary item . . . . . . . . . . . . .           (4,763,151)         (1,863,203)         (1,297,932)           (486,813)

Extraordinary item - loss on write down
of assets to liquidation basis . . . . . . .              (14,502)                  -                   -                   -
                                                      -----------         -----------         -----------         -----------

Loss before income taxes . . . . . . . . . .           (4,777,653)         (1,863,203)         (1,297,932)           (486,813)
Federal and State income taxes . . . . . . .                    -                   -                   -                   -
                                                      -----------         -----------         -----------         -----------
Net loss . . . . . . . . . . . . . . . . . .           (4,777,653)         (1,863,203)         (1,297,932)           (486,813)
Accumulated Deficit
Balance, beginning of period . . . . . . . .              (34,268)         (2,948,718)         (1,650,786)         (1,163,973)
                                                      -----------         -----------         -----------         -----------
Balance, end of period . . . . . . . . . . .          $(4,811,921)        $(4,811,921)        $(2,948,718)        $(1,650,786)
                                                      -----------         -----------         -----------         -----------
                                                      -----------         -----------         -----------         -----------

Loss per share . . . . . . . . . . . . . . .          $     (0.21)        $     (0.04)        $     (0.03)        $     (0.02)
                                                      -----------         -----------         -----------         -----------
                                                      -----------         -----------         -----------         -----------

Weighted average shares outstanding. . . . .           22,936,599          44,646,653          37,679,955          25,541,021
                                                      -----------         -----------         -----------         -----------
                                                      -----------         -----------         -----------         -----------
</TABLE>
                               SEE ACCOMPANYING NOTES.


                                         F-5
<PAGE>

                                   AQUASEARCH, INC.
                           (A DEVELOPMENT STAGE ENTERPRISE)

                               STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>

                                                                                    For the years ended October 31,
                                                                          ---------------------------------------------------
                                                           From
                                                       inception to                                                  1995
                                                       October 31,                                              (as restated)
                                                           1997                1997               1996             (NOTE 8)
                                                      -------------       -------------      -------------      -------------
<S>                                                   <C>                 <C>                <C>                <C>
Cash Flows from Operating Activities
Net loss . . . . . . . . . . . . . . . . . .         $(4,777,653)        $(1,863,203)        $(1,297,932)          $(486,813)

Adjustments to reconcile net loss to net
 cash used in operating activities:
  Amortization . . . . . . . . . . . . . . .                3,527                   -                   -                   -
  Depreciation . . . . . . . . . . . . . . .              110,601              69,018              35,556                 320
  Expenses paid with common stock. . . . . .              755,319             311,154              62,800             210,998
  Loss on write down of assets to
    liquidation basis. . . . . . . . . . . .                5,392                   -                   -                   -
  Changes in:
     Other current assets. . . . . . . . . .             (28,808)            (20,330)               3,033            (10,505)
     Receivables . . . . . . . . . . . . . .              (1,219)                 714              33,067            (35,000)
     Accounts payable. . . . . . . . . . . .              362,631            (19,821)             232,968             110,536
     Deposits held . . . . . . . . . . . . .                    -           (460,980)             460,980            (85,000)
                                                     ------------        ------------        ------------          ----------
Cash used in operating activities. . . . . .          (3,570,210)         (1,983,448)           (469,528)           (295,464)
Cash Flows from Investing Activities
Purchase of fixed assets . . . . . . . . . .            (821,525)           (166,883)           (329,099)           (315,180)
                                                     ------------        ------------        ------------          ----------
Cash used in investing activitie . . . . . .            (821,525)           (166,883)           (329,099)           (315,180)

Cash Flows from Financing Activities
Cash (held in) released from escrow. . . . .                    -             460,980           (460,980)              85,000
Increase in notes receivable . . . . . . . .             (30,516)            (30,516)                   -                   -
Issuance of common stock . . . . . . . . . .            4,136,322           1,320,129           1,326,600             571,580
Increase (decrease) in notes payable . . . .              604,800             425,000             150,000                   -
Offering costs . . . . . . . . . . . . . . .            (271,919)           (165,422)            (57,035)            (19,941)
                                                     ------------        ------------        ------------          ----------
Cash provided by financing activities. . . .            4,438,687           2,010,171             958,585             636,639
                                                     ------------        ------------        ------------          ----------

Net increase (decrease) in cash. . . . . . .               46,952           (140,160)             159,958              25,995
Cash, beginning of the period. . . . . . . .                   54             187,166              27,208               1,213
                                                     ------------        ------------        ------------          ----------
Cash, end of the period. . . . . . . . . . .         $     47,006        $     47,006        $    187,166          $   27,208
                                                     ------------        ------------        ------------          ----------
                                                     ------------        ------------        ------------          ----------

</TABLE>

                               SEE ACCOMPANYING NOTES.


                                         F-6
<PAGE>

                                   AQUASEARCH, INC.
                           (A DEVELOPMENT STAGE ENTERPRISE)

                     STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)

                          FROM INCEPTION TO OCTOBER 31, 1997


<TABLE>
<CAPTION>

                                                          Common Stock
                                                ----------------------------
                                                                                                                    Total
                                                                                 Additional                      Stockholders'
                                                  Number of                       Paid-in        Accumulated        Equity
                                                   Shares           Amount        Capital          Deficit         (Deficit)
                                                ------------     ------------   ------------     ------------     ------------
<S>                                             <C>              <C>            <C>              <C>             <C>
Balance, October 31, 1988. . . . . . . . . .    $ 20,000,000     $    2,000     $   72,730       $   (101,984)   $   (27,254)
Sale of stock ($0.05 per share). . . . . . .       4,000,000            400        166,291                   -        166,691
Treasury shares acquired at no cost. . . . .    (11,198,838)              -              -                   -              -
Exercise of A warrants for stock
   ($0.12 per share) . . . . . . . . . . . .         556,000             56         66,664                   -         66,720
Loss for the year ended
   October 31, 1989. . . . . . . . . . . . .               -              -              -           (183,333)      (183,333)
                                                ------------     ------------   ------------     ------------     ------------
Balance, October 31, 1989. . . . . . . . . .      13,357,162          2,456        305,685           (285,317)         22,824
Sale of stock ($0.07 per share). . . . . . .         140,000             14          9,786                   -          9,800
Stock issued for services ($0.05 per share).         300,000             30         13,515                   -         13,545
Exercise of A warrants for stock
   ($0.12 per share) . . . . . . . . . . . .       2,792,000            279        328,540                   -        328,819
Loss for the year ended
   October 31, 1990. . . . . . . . . . . . .               -              -              -           (163,839)      (163,839)
                                                ------------     ------------   ------------     ------------     ------------
Balance, October 31, 1990. . . . . . . . . .      16,589,162          2,779        657,526           (449,156)        211,149
Sale of stock ($0.04 per share). . . . . . .         125,000             13          5,987                   -          6,000
Stock issued in consideration for loans
   ($0.04 per share) . . . . . . . . . . . .         290,000             29         11,571                   -         11,600
Loss for the year ended October 31, 1991 . .               -              -              -           (251,401)      (251,401)
                                                ------------     ------------   ------------     ------------     ------------

</TABLE>


                                         F-7
<PAGE>

                                   AQUASEARCH, INC.
                           (A DEVELOPMENT STAGE ENTERPRISE)

                     STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
                                     (CONTINUED)

<TABLE>
<CAPTION>

                                                          Common Stock
                                                ----------------------------
                                                                                                                    Total
                                                                                 Additional                      Stockholders'
                                                  Number of                       Paid-in        Accumulated        Equity
                                                   Shares           Amount        Capital          Deficit         (Deficit)
                                                ------------     ------------   ------------     ------------     ------------
<S>                                             <C>              <C>            <C>              <C>             <C>
Balance, October 31, 1991. . . . . . . . . .      17,004,162     $    2,821     $  675,084       $   (700,557)   $   (22,652)

Sale of stock ($0.15 per share). . . . . . .          20,000              2          2,998                   -          3,000
Stock issued for services ($0.0001 to
  $0.04 per share) . . . . . . . . . . . . .         453,500             45          6,134                   -          6,179
Loss for the year ended
  October 31, 1992 . . . . . . . . . . . . .               -              -              -            (81,128)       (81,128)
                                                ------------     ------------   ------------     ------------     ------------
Balance, October 31, 1992. . . . . . . . . .      17,477,662          2,868        684,216           (781,685)       (94,601)
Sale of stock ($0.08 per share). . . . . . .       3,175,000            318        244,071                   -        244,389
Stock issued for services 
  ($0.08 per share). . . . . . . . . . . . .         673,751             68         54,083                   -         54,151
Conversion of notes and advances for
  stock ($0.08 per share). . . . . . . . . .         861,900             87         69,315                   -         69,402
Loss for the year ended
  October 31, 1993 . . . . . . . . . . . . .               -              -              -           (142,198)      (142,198)
                                                ------------     ------------   ------------     ------------     ------------
Balance, October 31, 1993. . . . . . . . . .      22,188,313          3,341      1,051,685           (923,883)        131,143
Sale of stock ($0.03 per share). . . . . . .         250,000             25          7,475                   -          7,500
Stock issued for services
  ($0.08 per share). . . . . . . . . . . . .       1,025,000            101         81,900                   -         82,001
Loss for the year ended 
  October 31, 1994 . . . . . . . . . . . . .               -              -              -           (240,090)      (240,090)
                                                ------------     ------------   ------------     ------------     ------------

</TABLE>


                                         F-8
<PAGE>

                                   AQUASEARCH, INC.
                           (A DEVELOPMENT STAGE ENTERPRISE)

                     STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
                                     (CONTINUED)

<TABLE>
<CAPTION>

                                                          Common Stock
                                                ----------------------------
                                                                                                                    Total
                                                                                 Additional                      Stockholders'
                                                  Number of                       Paid-in        Accumulated        Equity
                                                   Shares           Amount        Capital          Deficit         (Deficit)
                                                ------------     ------------   ------------     ------------     ------------
<S>                                             <C>              <C>            <C>              <C>             <C>
Balance, October 31, 1994. . . . . . . . . .    $ 23,463,313     $    3,467     $1,141,060       $ (1,163,973)   $   (19,446)
Sale of stock ($0.0625 to $0.10 per share) .       7,622,500            762        550,883                   -        551,645
Stock issued for services ($0.10 per share).         177,875             18         12,974                   -         12,992
Reissue stock previously canceled
  at no cost . . . . . . . . . . . . . . . .       1,320,000            132          (132)                   -              -
Loss for the year ended
  October 31, 1995 . . . . . . . . . . . . .               -              -              -           (288,813)      (288,813)
                                                ------------     ------------   ------------     ------------     ------------
Balance, October 31, 1995,
  as previously reported . . . . . . . . . .      32,583,688          4,379      1,704,785         (1,452,786)        256,378
Correction of reissuance of stock
  previously canceled (NOTE 8) . . . . . . .               -              -        198,000           (198,000)              -
                                                ------------     ------------   ------------     ------------     ------------
Balance, October 31, 1995, as restated . . .      32,583,688          4,379      1,902,785         (1,650,786)        256,378
Sale of stock ($0.125 to $0.50 per share). .       7,901,643            791      1,268,758                   -      1,269,549
Stock issued for services ($0.125 to
  $0.62 per share) . . . . . . . . . . . . .         344,000             34         62,766                   -         62,800
Loss for the year ended
  October 31, 1996 . . . . . . . . . . . . .               -              -              -         (1,297,932)    (1,297,932)
                                                ------------     ------------   ------------     ------------     ------------

</TABLE>


                                         F-9
<PAGE>

                                   AQUASEARCH, INC.
                           (A DEVELOPMENT STAGE ENTERPRISE)

                     STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
                                     (CONTINUED)

<TABLE>
<CAPTION>

                                                          Common Stock
                                                ----------------------------
                                                                                                                    Total
                                                                                 Additional                      Stockholders'
                                                  Number of                       Paid-in        Accumulated        Equity
                                                   Shares           Amount        Capital          Deficit         (Deficit)
                                                ------------     ------------   ------------     ------------     ------------
<S>                                             <C>              <C>            <C>              <C>             <C>
Balance, October 31, 1996. . . . . . . . . .    $ 40,829,331     $    5,204     $3,234,309       $ (2,948,718)   $    290,795

Sale of stock ($0.21 to $0.44 per
  share) . . . . . . . . . . . . . . . . . .       5,095,727            510      1,123,681                   -      1,124,191
Stock issued for services ($0.17 to
  $0.892 per share). . . . . . . . . . . . .         103,138             11         35,336                   -         35,347
Exercise of options for stock
  ($0.625 per share) . . . . . . . . . . . .         488,250             49         30,467                   -         30,516
Penalty shares ($0.2116 per share)
  (NOTE 2) . . . . . . . . . . . . . . . . .       1,303,435            130        275,677                   -        275,807
Loss for the year ended October 31,
  1997 . . . . . . . . . . . . . . . . . . .               -              -              -         (1,863,203)    (1,863,203)
                                                ------------     ------------   ------------     ------------     ------------
Balance, October 31, 1997. . . . . . . . . .    $ 47,819,881     $    5,904     $4,699,470       $ (4,811,921)   $  (106,547)
                                                ------------     ------------   ------------     ------------     ------------
                                                ------------     ------------   ------------     ------------     ------------
</TABLE>

                               SEE ACCOMPANYING NOTES.


                                         F-10
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)

                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


1.   Basis of Presentation and Significant Accounting Policies

     Aquasearch, Inc. (Aquasearch), a Colorado corporation founded in
February 1988, is a development stage company that develops and commercializes
natural products from microalgae using its proprietary, large-scale
photobioreactor technology known as the Aquasearch Growth Module. The Company's
principal operations are located in Kailua-Kona, Hawaii.

     Microalgae are a diverse group of over 30,000 species of microscopic plants
that have a wide range of physiological and biochemical characteristics.
Microalgae produce many different and unusual fats, sugars, proteins, amino
acids, vitamins, enzymes, pigments and other bioactive compounds that have
existing and potential commercial applications in such fields as animal and
human nutrition, food colorings, cosmetics, diagnostic products,
pharmaceuticals, research grade chemicals, pigments and dyes. Microalgae grow
ten times faster than the fastest growing land-based crops and represent a
largely unexploited and renewable natural resource with a biodiversity
comparable to that of land-based plants.

     Aquasearch's first commercial product is astaxanthin, a naturally occurring
red pigment derived from a freshwater microalgae. The primary market for
astaxanthin currently is aquaculture. Free swimming salmon and shrimp acquire
pink flesh from natural astaxanthin contained in microalgae and other species
ingested in the wild. Farmed salmon and shrimp, however, currently acquire pink
flesh from the addition of synthetic astaxanthin (or a less effective substitute
product) to their feed.

     Because no significant sales have occurred and because the Company has 
devoted most of its efforts since inception to research and development, the 
Company is considered to be in the development stage.

Basis of Presentation

     The Company's financial statements have been presented on the basis that it
is able to continue as a going concern, which contemplates the realization of
assets and the satisfaction of liabilities in the normal course of business. The
Company has incurred operating losses since inception totaling approximately
$4.8 million. At October 31, 1997, the Company had a working capital deficit of
approximately $950,000. During the year ended October 31, 1997, the Company sold
additional shares of stock through a private placement and issued convertible
notes, which were sufficient to fund its immediate operating financial needs.


                                         F-11
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)


                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


1.   Basis of Presentation and Significant Accounting Policies (continued)

Basis of Presentation (continued)

     In May 1996, the Company entered into a three-year (recently extended to
four years) Distribution and Development Agreement with Cultor, Ltd. (Cultor).
Aquasearch will act as the exclusive worldwide supplier of natural astaxanthin
derived from microalgae to Cultor in the field of animal feed and animal
nutrition and Cultor will act as the exclusive worldwide distributor of
Aquasearch's natural astaxanthin product in the field of animal feed and animal
nutrition. Cultor is a $2.0 billion Finnish food conglomerate that is a leading
worldwide producer of animal feed and animal nutrition products. The terms of
the extended Cultor agreement require that from September 1998 the Company is to
provide Cultor with 40 kilograms of natural astaxanthin per month increasing to
120 kilograms per month beginning in September 1999. The agreement provides that
Aquasearch and Cultor share equally in the gross margin of the product shipped.

     The agreement also provides that Cultor and Aquasearch may, at Cultor's
option, mutually develop a new joint venture company for the sole purpose of
producing and selling natural astaxanthin in the field of animal feed and animal
nutrition. Pursuant to this arrangement, Aquasearch would contribute a ten-acre
natural astaxanthin production facility that is planned to be constructed in
late 1998 in return for its 50% stake in the new company and Cultor would
contribute cash equal to the appraised value of the facility for its 50% stake.

     In connection with the execution of the agreement, Cultor purchased 400,000
shares of the Company's common stock at a purchase price of $0.50 per share.

     The Company has begun planning for the expansion of its present one-acre
research and development facility to a four-acre research and
development/production facility that will allow it to meet its September 1998 40
kilogram per month target production requirement under the Cultor Agreement. To
complete the expansion, the Company estimates that it must obtain between $4 and
$7 million of additional capital. In order to meet the September 1999 120
kilogram per month target, the Company anticipates that it must construct a
ten-acre production facility.


                                         F-12
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)

                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


1.   Basis of Presentation and Significant Accounting Policies (continued)

Basis of Presentation (continued)

     The Company currently projects that it will require between $1.5 and $2.0
million in operating capital in 1998, before any planned capital expenditures
related to the construction of its new production facility. The Company is
presently pursuing additional sources of capital in order to maintain and expand
its operations in fiscal 1998. These capital sources include government
contracts and grants, product sales, license agreements and equity and debt
financing. 

     The Company's continued existence is dependent upon its ability to obtain
working capital and long-term financing to meet its obligations on a timely
basis and to fund expansion of its production facilities and continued research
and development of new microalgae products. The Company is presently unable to
reasonably determine the likelihood of obtaining such financing. In addition,
the failure of the Company to gain additional customers for its natural
astaxanthin product in other applications and customers for its other potential
products, the loss of Cultor or any potential corporate partner as a customer,
or a significant reduction in the level of sales to Cultor or any potential
corporate partner could have a material adverse effect on the Company's
business, financial condition and results of operations.

     The accompanying financial statements do not include any adjustments,
including those related to the classification of recorded asset amounts or the
amounts or classification of liabilities, that might result from the outcome of
the aforementioned uncertainties.

Cash Equivalents

     For purposes of the statements of cash flows, the Company considers all
highly liquid investments purchased with an original maturity of three months or
less to be cash equivalents.

Cash in Escrow and Deposits Held

     Cash in escrow and deposits held represent funds received from prospective
purchasers of the Company's common stock for which written confirmation and
representation letters, as required by the private placement memorandum, were
not received as of the balance sheet date.


                                         F-13
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)

                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


1.   Basis of Presentation and Significant Accounting Policies (continued)

Plant and Equipment

     Plant and equipment is stated at cost. Depreciation is provided on the
straight-line method over ten years for plant and five years for equipment.

Preferred Stock

     The Company has authorized 5,000,000 shares of "blank check" preferred
stock, with such designations, rights, preferences, privileges and restrictions
to be determined by the Company's Board of Directors.  No preferred stock has
been issued as of October 31, 1997.

Stock Issued for Services

     Stock issued for services is based on management's estimate of the fair
value of the Company's restricted stock at the date of issue or the fair 
value of the services received, whichever is more reliably measurable.

Income Taxes

     The Company uses the asset and liability method of accounting for income
taxes as required by Statement of Financial Accounting Standards No. 109 (SFAS
109), ACCOUNTING FOR INCOME TAXES. SFAS 109 requires the recognition of deferred
tax assets and liabilities for the expected future tax consequences of temporary
differences between the carrying amounts and the tax basis of certain assets and
liabilities.

     Since its inception, the Company has incurred net operating losses.
Accordingly, no provision has been made for income taxes.


                                         F-14
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)

                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


1.   Basis of Presentation and Significant Accounting Policies (continued)

Loss Per Share

     Loss per share was based on the average common shares outstanding during
the period. Average common share equivalents have not been included in the
computation of loss per share as their effect would be anti-dilutive.

Disclosures About Fair Value of Financial Instruments

     The carrying amounts of the Company's financial instruments, including
cash, cash in escrow, accounts payable, deposits held and notes payable are
deemed to approximate fair value due to their short-term nature.

Use of Estimates

     The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.

2.   Common Stock and Common Stock Warrants

     On January 12, 1989, the Company sold to the public 4,000,000 shares of its
$0.0001 par value common stock. The shares were sold as part of a unit for $0.05
per unit. Each unit consisted of one share of common stock and one common stock
purchase warrant ("A" warrant). The "A" warrant entitled the holder thereof to
purchase one additional share of common stock and one common stock purchase
warrant ("B" warrant) for $0.12 per share. The "B" warrant entitles the holder
to purchase one additional share of common stock for $1.00. The warrants may be
redeemed by the Company at $0.0001 per warrant. The offering netted $165,691 to
the Company on the date of closing.

     During the years ended October 31, 1989 and 1990, 3,348,000 "A" warrants
were exercised at $0.12 per share which netted the Company $393,523 (after issue
costs). All remaining "A" warrants have been canceled. The 3,348,000 "B"
warrants expired on September 15, 1996.


                                         F-15
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)

                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


2.   Common Stock and Common Stock Warrants (continued)

     In August and September 1996, the Company obtained approximately $150,000
of short-term bridge financing from four individual investors pursuant to a note
and warrant purchase agreement dated August 1, 1996. The notes matured on
September 30, 1996.

     In conjunction with the execution of the notes, the investors received a
total of 25,974 warrants entitling the holder to purchase one share of common
stock at an exercise price of $0.21 per share. The warrants expire on
December 31, 1999.

     During the period from October 1996 to April 1997, the Company sold an 
aggregate of 5,044,570 units, consisting of one share of Common Stock and one 
Common Stock Purchase Warrant (the "Warrants"), to accredited investors (the 
"Unit Investors") in a private placement (the "Unit Offering"). The purchase 
price of the units ranged from $0.21 per unit to $0.44 per unit. The Warrants 
have a term of three years and are exercisable at $1.00 per share, subject to 
adjustment. The Warrants are redeemable by the Company at $0.01 per Warrant 
during their three-year exercise period upon 30 days' notice anytime that the 
closing bid price per share of the Common Stock exceeds $1.50 per share 
(subject to adjustment) for 20 trading days out of 30 consecutive trading 
days ending on the third day prior to the date of the notice of redemption. 
The gross proceeds from the Unit Offering were $1,275,980. The placement 
agent for the Unit Offering, First Honolulu Securities, Inc., received total 
commissions of $76,559 (equal to 6% of the gross proceeds from the sale of 
the units) and 302,674 Common Stock Purchase Warrants (equal to 6% of the 
number of units sold). The terms of the Warrants issued are identical to the 
terms of the Warrants issued to the Unit Investors in the Unit Offering.

     In October 1997, the Company issued 1,303,000 shares of Common Stock to 
the Unit Investors as compensation for the failure by the Company to cause 
the registration statement of the shares purchased in the Unit Offering to be 
declared effective by the Securities and Exchange Commission on or before May 
29, 1997. The registration statement was declared effective on November 12, 
1997. The shares have been reflected as issued and outstanding as of October 
31, 1997.

     In November 1996, the Company executed a letter of intent with C. Brewer
and Company, Limited (C. Brewer) with respect to the acquisition of between 80
and 90 acres of property on the Big Island of Hawaii valued at between $900,000
and $1,000,000 in exchange for C. Brewer's acquisition of approximately 6% of
the outstanding common stock of the Company. In connection with this
transaction, C. Brewer also acquired a warrant to purchase up to 500,000 shares
of the Company's common stock at an exercise price of $1.25 per share. This
transaction has not been consummated as of October 31, 1997.


                                         F-16
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)

                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


2.   Common Stock and Common Stock Warrants (continued)

     During the two quarters ended October 31, 1997, the Company issued one-year
convertible notes payable totaling  $560,000. The holders of these notes have an
option to convert to equity under a planned private placement in fiscal
1998. The convertible notes payable carry an interest rate of 10 percent per
annum and warrants to purchase 100 shares of common stock at $0.50 per share for
each $1,000 aggregate principal amount of convertible notes. The holders are
shareholders and an officer/director of the Company. As of October 31, 1997,
none of the described warrants were issued.

     As of October 31, 1997, there were a total of 5,373,218 common stock
purchase warrants issued and outstanding, of which 5,347,244 warrants had an
exercise price of $1.00 per share and 25,974 warrants had an exercise price of
$0.21 per share. No warrants were exercised during the year ended October 31,
1997.  At October 31, 1997, the Company had reserved a sufficient number of
shares of its common stock for issuance pursuant to the exercise of the
warrants.

3.   Common Stock Options

     In August 1995, the Company granted nonstatutory stock options, exercisable
immediately, to seven individuals to purchase a total of 5,777,462 shares of the
Company's common stock at an exercise price of $0.0625 per share. In addition,
the Company also granted stock options to three individuals which became
exercisable in July 1996 to purchase a total of 180,000 shares of the Company's
common stock at an exercise price of $0.61 per share.  The options have a term
of seven years.

     In March 1996, the Company's Board of Directors approved a stock option
plan which provides for the granting of nonstatutory stock options to employees
and consultants of the Company.  A total of 5,000,000 shares of the Company's
common stock has been reserved for issuance under the plan.  Terms of awards
under the plan including vesting requirements, exercise prices and expiration
dates are determined at the discretion of the plan's administrator.  The plan
terminates in March 2006.

     In July 1996, the Company granted nonstatutory stock options to a
consultant for a total of 400,000 shares of the Company's common stock at an
exercise price of $0.56 per share. The options were immediately exercisable with
respect to 200,000 shares. The remaining options became exercisable in
January 1997 for 100,000 shares and July 1997 for 100,000 shares.  The options
have a term of ten years.

     In November 1996, the Company granted nonstatutory stock options to ten
employees for a total of 107,307 shares of the Company's common stock at an
exercise price of $0.34 per share.  The options vest over a period of five years
and have a term of ten years.

     In January 1997, the Company granted a nonstatutory stock option to an
officer/director of the Company for a total of 1,500,000 shares of the Company's
common stock at an exercise price of $0.36 per share.  The option vests over a
period of five years and has a term of ten years.


                                         F-17
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)

                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


3.   Common Stock Options (continued)

     In April 1997, the Company sold a total of 1,000,000 shares of its common
stock to an officer/director of the Company at a purchase price of $0.21 per
share. In addition, the Company granted this person a nonstatutory stock option
for a total of 1,000,000 shares of the Company's common stock at an exercise
price of $1.00 per share. The option is fully vested and has a term of ten
years.

     In August 1997, the Company granted a nonstatutory stock option to a
consultant for a total of 1,072,000 shares of the Company's common stock at an
exercise price of $0.25 per share. The option was immediately exercisable with
respect to 112,000 shares.  The remainder becomes exercisable on the achievement
of certain agreed on milestones.  The option has a term of seven years.

     In September 1997, the Company granted nonstatutory stock options to 14
employees for a total of 474,510 shares of the Company's common stock at an
exercise price of $0.25 per share.  The options vest over a period of five years
and have a term of ten years.

     During the year ended October 31, 1997, the Company granted nonstatutory
stock options to four consultants for a total of 145,000 shares of the Company's
common stock at exercise prices ranging from $0.25 to $0.50 per share.  The
options are fully vested and have a term of seven years.


     The Company has elected to follow Accounting Principles Board Opinion No.
25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES (APB 25), and related
interpretations in accounting for its employee stock options because, as
discussed below, the alternative fair value accounting provided under FASB
Statement No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION (Statement 123),
requires use of option valuation models that were not developed for use in
valuing employee stock options.  Under APB 25, because the exercise price of the
Company's employee stock options equals or exceeds the market price of the
underlying stock on the date of grant, no compensation expense is recognized.

     Pro forma information regarding net income and earnings per share is
required by Statement 123, and has been determined as if the Company had
accounted for its employee stock options under the fair value method of that
statement.  The fair value for these options was estimated at the date of grant
using a Black-Scholes option pricing model with the following weighted-average
assumptions:  risk-free interest rate of 6%, expected dividend yield of 0%,
volatility factor of the expected market price of the Company's common stock of
0.63, and an expected life of the option of 4.6 years.

     The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable.  In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility.  Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee stock options.


                                         F-18
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)

                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


3.   Common Stock Options (continued)

     For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period.  The Company's
pro forma information follows:

<TABLE>
<CAPTION>

                                               Year Ended October 31,
                                                1996           1997
                                                ----           ----
<S>                                          <C>            <C>
     Pro forma net loss                      $1,373,932     $2,115,244
     Pro forma loss per share                  $(0.04)        $(0.05)

</TABLE>

     A summary of the Company's stock option activity, and related information
for the year ended October 31, 1997 follows:

<TABLE>
<CAPTION>

                                                            Weighted-Average
                                             Options         Exercise Price
                                             -------         --------------
<S>                                         <C>             <C>
Outstanding, beginning of year              6,312,462            $0.11
Granted                                     4,298,817             0.47
Exercised                                    (488,250)            0.06
Forfeited                                    (197,766)            0.26
                                            ---------
Outstanding, end of year                    9,925,263            $0.26
                                            ---------
                                            ---------

Exercisable, end of year                    1,695,000            $0.79

</TABLE>

     The 488,250 of common stock options exercised during the year were in
exchange for three-year notes receivable bearing interest at 5 percent per
annum.

     Weighted-average exercise prices and fair values of options issued during
the year ended October 31, 1997 with exercise prices which equaled or
exceeded the market prices of the Company's stock on the grant date follows:


                                         F-19
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)

                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


3.   Common Stock Options (continued)

<TABLE>
<CAPTION>

                                                    Weighted-Average

                                                 Exercise
                                   Options        Price     Fair Value
                                   -------        -----     ----------
<S>                                <C>           <C>        <C>
Options whose exercise price
equaled the market price of
the stock on the grant date        2,081,817      $0.33       $0.20

Options whose exercise price
exceeded the market price of
the stock on the grant date        2,217,000       0.59        0.07
                                   ---------

Options issued during the year     4,298,817
                                   ---------
                                   ---------

</TABLE>

     The following summarizes information about the Company's stock options
outstanding at October 31, 1997:

<TABLE>
<CAPTION>

                                      Options Outstanding                                     Options Exercisable
                                      -------------------                                     -------------------

                                        Weighted-Average            Weighted-                               Weighted-
   Range of                                Remaining             Average Exercise                        Average Exercise
Exercise Prices           Number        Contractual Life              Price               Number              Price
---------------           ------        ----------------              -----               ------              -----
<S>                     <C>             <C>                      <C>                   <C>               <C>
$0.06                   5,139,212          8.0 years                 $0.06                20,000              $0.06
$0.25 to $0.36          3,256,051             8.9                     0.30               145,000               0.20
$0.50 to $1.00          1,530,000             9.3                     0.85             1,530,000               0.85
                        ---------                                                      ---------
                        9,925,263                                                      1,695,000
                        ---------                                                      ---------
                        ---------                                                      ---------

</TABLE>


                                         F-20
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)

                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


4.   Related Party Transactions

     During the year ended October 31, 1991, the Company borrowed $29,000 
from stockholders. The four separate notes were unsecured, carried an 
interest rate of 12% and were due in August 1992. As an inducement for the 
loans, the Company issued a total of 290,000 shares of restricted stock to 
the lenders. For purposes of the financial statements, this stock was valued 
at $0.04 per share based on recent sales of restricted stock. Loan issue 
costs of $5,322 were charged to interest expense in 1991 and unamortized loan 
issue costs of $6,693 were written off. During the year ended October 31, 
1993, these loans were converted to 430,650 shares of common stock.

     During the year ended October 31, 1995, the Company reissued 1,320,000
shares of common stock to its president and chief executive officer. These were
shares which had been previously returned to the Company (see Note 8).

     The Company has also issued restricted stock for services to various
officers, directors and members of the Scientific Advisory Board as follows:

<TABLE>
<CAPTION>

                                   Number of
                                     Shares             Value
          YEAR                   -----------------------------
<S>                              <C>                   <C>
          1997                     103,138             $39,016
          1996                      40,000               5,000
          1995                     177,875              12,992
          1994                   1,025,000              82,000

</TABLE>

5.   Income Taxes

     Since its formation the Company has incurred net operating losses. As of
October 31, 1997, the Company had a net operating loss carryforward available to
offset future taxable income for federal and state income tax purposes of
approximately $4 million. The net operating loss carryforward for tax reporting
purposes expires in the years from 1999 to 2012. The Company also has a research
credit carryover approximating $90,000 which expires between the years 2003 and
2012.

     No deferred tax benefit or liability has been recorded for temporary
differences between book and tax reporting due to the uncertainty of any
eventual recovery or payment.


                                         F-21
<PAGE>

                                   AQUASEARCH, INC.

                           (A DEVELOPMENT STAGE ENTERPRISE)

                            NOTES TO FINANCIAL STATEMENTS

                           OCTOBER 31, 1997, 1996 AND 1995


6.   Investment in OceanColor, Inc.

     In March 1993, the Company invested $50,000 in a joint venture (OceanColor,
Inc.) with Cyanotech Corporation (Cyanotech). The Company and Cyanotech each
owned 50% of OceanColor, Inc. During the year ended October 31, 1994, the
Company invested an additional $97,100 in this joint venture. In November 1994,
the joint venture was dissolved with the licensing rights to its proprietary
technology reverting entirely to the Company. At the time of dissolution, there
was approximately $7,500 of equipment in the joint venture which was distributed
to the Company.

7.   Supplemental Disclosure of Noncash Investing and Financing Activities

     During the year ended October 31, 1995, the Company constructed its plant
facility at a cost of $408,219. At October 31, 1995, there remained in accounts
payable approximately $100,800 of this cost. Accordingly, the amount which
remained in accounts payable was removed from cash paid for the purchase of
fixed assets in the statement of cash flows for the year ended October 31, 1995.

8.   Correction of Accounting for Reissuance of Stock Previously Canceled

     During the year ended October 31, 1995, the Company reissued 1,320,000
shares of restricted stock to its president and chief executive officer. These
were shares which had been previously returned to the Company by the president
and chief executive officer at no cost to the Company. The reissuance was
recorded at par value in the financial statements for the year ended October 31,
1995 with no effect on net loss for that year. The Company has subsequently
valued the reissued stock at $0.15 per share based on the quoted market price of
the restricted stock at the date of reissuance. As a result, the Company's
financial statements for the year ended October 31, 1995 have been restated as
follows:

<TABLE>
<CAPTION>

                                                                                     As originally
                                                                                       Reported         As restated
                                                                                   -----------------------------------
<S>                                                                                <C>                  <C>
     Balance sheet:
          Additional paid-in capital . . . . . . . . . . . . . . . . . . .           $1,704,785          $1,902,785
          Deficit accumulated during the development stage . . . . . . . .           (1,452,786)         (1,650,786)
     Statement of loss and accumulated deficit:
          General and administrative expenses. . . . . . . . . . . . . . .              195,171             393,171
          Net income (loss). . . . . . . . . . . . . . . . . . . . . . . .             (288,813)           (486,813)
          Loss per share . . . . . . . . . . . . . . . . . . . . . . . . .                (0.01)              (0.02)
     Statement of cash flows:
          Expenses paid with common stock. . . . . . . . . . . . . . . . .               12,998             210,998

</TABLE>


                                         F-22