**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

**FORM 10-KSB**

 

**ý**** ****ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIESEXCHANGE ACT OF 1934**

**For the fiscal year ended December 31, 2005**

** **

**o**** ****TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGEACT OF 1934**

**For the transition period from                        to                       **

** **

**Commission file number: 333-103781**

 

**ProUroCareMedical, Inc.**

(Exactname of registrant as specified in its charter)

 
| **Nevada**                                       | ** ** | **20-1212923**       |
|--------------------------------------------------|------------|----------------------|
| (State  or other jurisdiction                    |       | (IRS  Employer       |
| of  incorporation)                               |       | Identification  No.) |
|                                             |       |                 |
| **One Carlson Parkway, Suite 124, Plymouth, MN** | ** ** | **55447**            |
| (Address  of principal executive offices)        |       | (Zip  Code)          |

 

Registrant’s telephone number,including area code       **952-476-9093**

 

 

(Formername or former address, if changed since last report.)

 

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

 

Securities registered pursuant to Section 12(g) of the Act:

 

**Common Stock, $0.00001 par value**

 

Check whether the Issuer (1) filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Actduring the past 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days.    **Yes****ý****         No****o**

 

Check if there is no disclosure of delinquentfilers in response to Item 405 of Regulation S-B contained in this form, and nodisclosure will be contained, to the best of registrant’s knowledge, indefinitive proxy or information statements incorporated by reference in PartIII of this Form 10-KSB or any amendment to this Form 10-KSB    **ý**

 

Indicate by check mark whether the registrantis a shell company (as defined by Rule 12-b of the Exchange Act).    **Yes****o****     No****ý**

 

State issuer’s revenues for its most recentfiscal year:  **$0**

 

State the aggregate market value of the votingand non-voting common equity held by non-affiliates computed by reference tothe price at which the common equity was sold, or the average bid and askedprice of such common equity, as of a specified date within the past 60days.  (See definition of affiliate inRule 12b-2 of the Exchange Act.)**                             ****$9,311,941 as of March10, 2006**

 

State the number of shares outstanding of eachof the issuer’s classes of common equity, as of the latest practicable date.

 

**14,199,260 Common shares at March 10,2006**

 

Transitional Small Business Issuer Format(check one):    **Yes****o****         No****ý**

 

 

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**INTRODUCTORY CAUTIONARY STATEMENT**

 

*This Annual Report on Form 10-KSB includesforward-looking statements within the meaning of the Securities Exchange Act of1934, as amended (the “Exchange Act”). These statements are based management’s current beliefs and assumptionsand on information currently available to us. Forward-looking statementsinclude, among others, the information concerning possible or assumed futureresults of operations of ProUroCare Medical, Inc. and its subsidiaries (the “Company”,“we”, “us”, or “our”) set forth under the heading “Management’s Discussion andAnalysis or Plan of Operation” And elsewhere in this Annual Report  Forward-looking statements also includestatements where the words “may,” “will,”, “should,” “could,” “expect,” “anticipate,”“intend,” “plan,” “believe,” “estimate,” “predict,” “potential,” or similarexpressions are used.  Forward-lookingstatements are not guarantees of future performance. Our future actual resultsand shareholder values will likely differ materially from those expressed inthese forward-looking statements. We caution you not to put undue reliance onany forward-looking statements included in this document.  See “Risk Factors Associated with OurBusiness, operations, and Securities.”*

 

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**TABLE OF CONTENTS**

 
| ITEM 1:   | DESCRIPTION OF BUSINESS                                                                                           |   |
|-----------|-------------------------------------------------------------------------------------------------------------------|--------|
|      |                                                                                                              |   |
| ITEM 2:   | DESCRIPTION OF PROPERTY                                                                                           |   |
|      |                                                                                                              |   |
| ITEM 3:   | LEGAL PROCEEDINGS                                                                                                 |   |
|      |                                                                                                              |   |
| ITEM 4:   | SUBMISSION OF  MATTERS TO A VOTE OF SECURITY HOLDERS                                                              |   |
|      |                                                                                                              |   |
| ITEM 5:   | MARKET FOR  REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS                                       |   |
|      |                                                                                                              |   |
| ITEM 6:   | MANAGEMENT’S  DISCUSSION AND ANALYSIS OR PLAN OF OPERATION                                                   |   |
|      |                                                                                                              |   |
| ITEM 7:   | FINANCIAL  STATEMENTS                                                                                             |   |
|      |                                                                                                              |   |
| ITEM 8:   | CHANGES IN AND  DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURES                            |   |
|      |                                                                                                              |   |
| ITEM 8A:  | CONTROLS AND  PROCEDURES                                                                                          |   |
|      |                                                                                                              |   |
| ITEM 8B:  | OTHER  INFORMATION                                                                                                |   |
|      |                                                                                                              |   |
| ITEM 9:   | DIRECTORS, EXECUTIVE OFFICERS,  PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE  ACT |   |
|      |                                                                                                              |   |
| ITEM 10:  | EXECUTIVE  COMPENSATION                                                                                           |   |
|      |                                                                                                              |   |
| ITEM 11:  | SECURITY OWNERSHIP OF  CERTAIN BENEFICIAL OWNERS AND MANAGEMENT                                                   |   |
|      |                                                                                                              |   |
| ITEM  12: | CERTAIN  RELATIONSHIPS AND RELATED TRANSACTIONS                                                                   |   |
|      |                                                                                                              |   |
| ITEM 13:  | EXHIBITS                                                                                                          |   |
|      |                                                                                                              |   |
| ITEM  14: | PRINCIPAL  ACCOUNTANT FEES AND SERVICES                                                                           |   |

 

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**PARTI**

 

**ITEM1:  DESCRIPTION OF BUSINESS**

 

**History of Company; Overview**

** **

See “RISK FACTORSASSOCIATED WITH OUR BUSINESS, OPERATIONS AND SECURITIES”, page 16.

 

The Company(formerly known as Global Internet Communications, Inc.) was organized onFebruary 26, 2003 as a Nevada corporation. Pursuant to an Agreement and Plan of Merger and Reorganization dated asof April 5, 2004 (the ”Merger Agreement”), by and among the Company, GICAcquisition Corp., a Minnesota corporation and wholly owned subsidiary of theCompany (“Acquisition Co.”), and ProUroCare Inc., a privately held Minnesotacorporation (“PUC”), Acquisition Co. merged with and into PUC, with PUCremaining as the surviving company and a wholly owned operating subsidiary ofthe Company (such transaction is hereinafter referred to as the “Merger”).  The Merger was effective as of April 5, 2004,when articles of merger were filed with the Minnesota Secretary of State.  The Company entered into the Merger toacquire the business of PUC.  At the timeof the Merger, the Company had no material assets or liabilities, and since itsformation in February 2003 had not begun operating activities.

 

Effective upon theMerger, the legal existence of Acquisition Co. ceased, and all 3,501,001 sharesof common stock of PUC that were outstanding immediately prior to the Mergerand held by PUC shareholders were cancelled, with one share of PUC common stockissued to the Company.  Simultaneously,the former shareholders of PUC common stock received an aggregate of 9,603,003shares of common stock of the Company, representing approximately 82.1% of theCompany’s common stock outstanding immediately after the Merger.  As a result of the Merger, PUC is now awholly owned operating subsidiary of the Company, and PUC’s business is theCompany’s sole business enterprise.  OnApril 26, 2004, the Company changed its name to ProUroCare Medical Inc.,pursuant to a short-form merger with a wholly owned subsidiary formed for thesole purpose of effecting the name change, as allowed under Nevada corporatelaw.  On May 5, 2004 the Company’strading symbol on the Over-The-Counter Bulletin Board changed to “PRRC.”

 

We are engaged inthe business of developing and marketing innovative products for the detectionand treatment of male urologic prostate disease.  PUC was initially founded as a Minnesotacorporation by shareholders of Clinical Network Inc. (“Clinical Network”) inAugust 1999.  Clinical Network wasoriginally established in 1990 for the purpose of pursuing treatments forstress urinary incontinence in women.  InJuly 2001, Clinical Network began collaborating with CS Medical Technologies,L.L.C. (“CS Medical”), a developer of microwave treatment technology forprostate and cardiology treatments, for the development of products for themale urology market.  PUC’s business planand operations began at that time by bringing together the capabilities andexpertise of Clinical Network in the urological field with the minimallyinvasive microwave therapy technology developed by CS Medical to treat prostatedisease.  PUC acquired the rights to thistechnology by a license, which covers all of CS Medical’s technology, know-how,and patents related to urologic disorders that may be detected or treated usinga catheter-based microwave technology. CS Medical’s technology allows the user to direct microwave energyemitted at the end of a catheter in a specific direction, which is believed tobe a distinct advantage in the possible treatment of prostate disease.  Further development and clinical studies willbe required to bring this technology to market. The license required that PUC achieve a certain level of new capitalinvestment in 2002, which was accomplished, and pay royalties based on one-halfpercent of the amount by which net sales of products using this technologyexceeds $500,000 per quarter.

 

Also in July,2001, PUC obtained an exclusive worldwide license relating to an imaging systemdeveloped by Rensselaer Polytechnic Institute (“RPI”) that allows one tomonitor microwave therapy changes to tissue in real time.  The agreement with RPI covers all of RPI’sintellectual-property rights, including its patent rights, to its electricalimpedance tomography technology in the field of diagnosis and treatment ofurological and liver conditions.  Theagreement required PUC to make two $25,000 payments, which have been made, andcalls for royalties ranging from 1 to 3% of sales, depending on specific applicationof the technology, with minimum royalties of $20,000 per year 

 

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beginning in July, 2005.  Thelicense with RPI was amended on July 27, 2005 to allow PUC to sublicense thetechnology and requires PUC to initiate an FDA approval process on the imagingsystem by July 13, 2008.

 

In January 2002,PUC purchased certain assets (furniture and equipment) from Profile L.L.C. (“Profile”)and obtained a license from Profile providing for worldwide exclusive rights toits prostate imaging system and related patented technology.  The field of use for the exclusive license islimited to the diagnosis and treatment of enlarged prostate, prostate cancer,or other conditions of or disorders of the prostate which may be diagnosed,imaged, or treated using any diagnostic or imaging process.  The license will terminate upon the later ofthe date of expiration of the last to expire patent included in the licensedtechnology or the date that the Company permanently ceases the sale of devicesusing the technology.  The licenserequires royalties ranging from 1.05% to 3.05% of defined revenues.  Profile’s imaging system had been acquired byProfile from ArMed, where the technology had been developed by Dr. ArmenSarvazyan.  At the time PUC acquire thetechnology, working prototypes of the system had been assembled, and clinicalstudies demonstrating its capabilities had been performed.  In 2004, the Company entered into researchand development agreements with Dr. Sarvazyan’s company, Artann Laboratories,Inc. (“Artann’) to continue development and produce a limited number ofpre-clinical systems.  See “Plan ofOperation – Liquidity and Capital Resources” and “Description of Business –Research and Development.”  Our rightsand obligations under the licenses from Profile, CS Medical and RPI are morefully described below under the caption “Intellectual Property.”

 

In 2002 and early2003, PUC continued to pursue the development of the technologies licensed fromClinical Network, CS Medical, Profile and RPI, and developed technology internallyfor which a patent application has been filed. PUC began development of a next-generation prototype system for itsproposed initial product, the ProUroScan, under contracts with Minnetronix,Inc. and Resistance Technology Inc.  Thisactivity was largely funded by a private placement of $1.1 million completed in2002.  When this funding was exhausted, developmentactivity was largely curtailed during 2003 while the Company sought additionalfunding.  In July 2004, after completionof the Merger and closing of the private equity offering, we resumeddevelopment activities, and entered into a development agreement with Artann todevelop pre-clinical systems.

 

On July 27, 2005 we entered into an agreement withUrologix, Inc. (“Urologix”) to co-develop new products utilizing our electricalimpedance tomography (“EIT”) technology. The EIT technology is expected to beassembled into modules that will be compatible with and incorporated intoUrologix’ existing thermal therapy systems. The parties expect the project torequire several phases of research, testing and development, for which theyhave agreed to equally share the development cost.  If the development of the modules issuccessful, the parties contemplate entering into definitive agreementspursuant to which Urologix would market the new products subject to a licenseagreement.

 

During 2005, we were again forced to limit developmentactivities while we pursued the funding needed to complete our productdevelopment.  As funds have becomeavailable to us in early 2006 from these financing efforts, we have re-launchedour development efforts aimed at achieving FDA clearance of our ProUroScandevice by mid 2007.

 

**The Disease**

** **

Prostate diseaseis a persistent disease with a dramatically increasing prevalence.  It is currently estimated that over 100million digital rectal examinations are performed each year to assess for ormonitor prostate disease and that over 23 million men in the United States,Europe and Japan suffer from moderate to severe symptoms of prostatedisease.  Benign prostatic hyperplasia (“BPH”),commonly known as “enlarged prostate,” is the most common male urologicaldisease.  BPH dramatically affects thequality of life of millions of men by causing adverse changes in urinaryvoiding patterns.

 

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**Initial Product Offerings**

** **

***ProUroScan TM System Description.***

** **

Our initial product is the ProUroScan system,developed and designed as a unique diagnostic-imaging system that enablesphysicians to accurately display and chart a prostate examination for diseasediagnosis.  Such diagnosis is currentlyaccomplished by means of a digital rectal examination (“DRE”).  A DRE is a qualitative and subjective test inwhich a physician wearing a latex glove inserts a lubricated finger into the rectalchannel to feel or palpate the prostate gland for abnormalities.  The clinician must rely on his or herexperience and the sensitivity of their finger to estimate the size of theprostate and detect hardness or abnormalities within the prostate that mayindicate the presence of potentially life-threatening disease.  The ProUroScan is designed to produce adigital image of the prostate showing the size and symmetry of the prostate andthe location of soft-tissue abnormalities within the prostate.  We believe that the ProUroScan will enable aphysician to detect abnormalities in the prostate more accurately than withtheir finger, assess areas of the prostate that the physician cannot reach withtheir finger, and produce quantifiable and chartable results.

 

The ProUroScan imaging system is being designed todetect certain abnormalities that may be missed by other diagnostictechniques.  These abnormalities includeareas on the surface or within the prostate where the tissue has a differentlevel of elasticity or stiffness when compared with the rest of the gland,which can be precursors to a more clearly defined hardened area or nodule.  The ProUroScan offers the advantage of beingable to create an electronic record that can be stored within the system,printed and used for comparisons with new images created at a later date.  No such electronic records or color imagesare possible when performing a traditional DRE.

 

The ProUroScan system consists of a probe, a centralprocessing unit containing proprietary image construction algorithms, acomputer with color monitor and keyboard, a color printer, and single-usedisposable sheaths to cover the tip of the probe.  The ProUroScan probe is specially designedfor the rectal anatomy to minimize discomfort. It is ergonomic for the clinician and similar to a traditional DRE forthe patient.  The probe utilizes pressuresensors located on the face of the probe head to palpate the prostate.  The probe’s positioning system ensures thatthe person administering the test examines the entire surface of the prostate,and assists prostate image construction.

 

The probe attaches to the central processing unitwhich converts the information from the probe sensors with proprietaryalgorithms and then translates the data into a multicolor image on themonitor.  A standard diagram of theprostate will appear on the monitor along with a special cursor enabling theclinician to know where the probe is located within the patient’s body and toguide him or her across the posterior surface of the gland.

 

To perform a test, the clinician must first place asingle-use disposable sheath over the probe head and shaft and cover it with alubricant.  The tip of the probe is theninserted into the patient’s rectal channel and palpates the prostate.  As the prostate is palpated, a color image ofthe prostate is produced and displayed on the computer monitor, along withindicators of the amount of pressure being applied to help guide theclinician.  Differences in tissue stiffnessand elasticity will be depicted on the monitor in different colors.  Total testing time for a healthy prostateshould be under one minute.

 

Ideally, the ProUroScan will be administered by atrained clinician on all patients in need of a prostate exam. Standardizing theprocedure using the ProUroScan mechanical imaging device should minimize thedifferences in abilities between physicians in this otherwise subjectiveprocedure.  We expect the system willalso be more sensitive and have the ability to detect abnormalities that thenormal human finger cannot detect, thereby improving the quality of thediagnostic process.  It will also enablephysicians to literally see the differences in tissue elasticity or stiffness onthe color monitor instead of a traditional DRE that is “blind” and reliesexclusively on the clinician’s sense of touch. The system will create a hard copy of the prostate diagnostic procedurewhich can be placed into the patient’s file. This will be advantageous for thephysician on multiple fronts, as it gives the physician the ability to compareand 

 

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contrast the patient’s results from exam to exam, and to get secondopinions on the patient’s status in regards to the diagnosis.

 

We believe the ProUroScan is truly unique in themarket.  The closest comparison can bemade to an examination using a transrectal ultrasound device.  Transrectal ultrasound (“TRUS”) is a testthat uses a rectal probe and sound wave echoes to create an image of theprostate gland, thus allowing visual inspection for abnormal conditions.  Although well established as a highlyaccurate test, TRUS is used primarily as a guide for prostate biopsies, and isseldom used as a screening test.  It is avery expensive test, costing hundreds of dollars each, difficult to interpret, andrequires approximately 20 to 40 minutes to perform.  The ProUroScan uses mechanical imaging ratherthan sound waves echoes, has a probe that is smaller than that of an ultrasoundprobe, will be performed in less than one minute, and at a much lowercost.  The results of the test aredisplayed in color, making the results of the diagnostic test easy tointerpret.

 

We anticipate that the majority of its revenue will begenerated by usage fees based on consumption of proprietary disposable sheathsand/or probe tips.  The systemsthemselves likely will be placed in clinics under a variety of programs,including operating leases, financing leases, outright sale, or placements paidfor by premiums paid on the usage of the system.

 

We intend to position this product as an adjunctivetest to DRE and Prostate Specific Antigen (“PSA”) blood tests, which have low sensitivityand specificity and cannot be documented with color images.  The ProUroScan will be marketed towardsprimary care physicians and urologists.  Webelieve the ProUroScan will help ensure that primary care physicians screenmore effectively and quickly refer appropriate patients to urologists for moredefinitive testing.

 

The ProUroScan is currently in product developmentstage.  The design specifications are nearlyfinalized and performance characteristics are generally known.  Further development work in the areas ofpositioning system refinement, software, user interface, and sensor production,among others, must be completed before the system can be commercialized.  As discussed below, earlier versions of thesystem have been tested with positive results.

 

***Feasibility of ProUroScan -Preliminary Lab Studies*****.**

 

Two working prototype ProUroScan systems wereassembled to prove the feasibility of the device, to perform clinical studies,and to provide a means to test and develop future systems.  Initial lab studies with the prototypes havedemonstrated quantifiable positive results. During testing, a number of researchers were asked to palpate differentanatomically correct prostate models or “phantom” prostates through anintermediate layer of soft silicone and record their observations.  These phantoms contained nodule(s) of varioussizes at various depths and locations within the prostate. Multiple operatorsand multiple phantoms were used to collect data to assess the accuracy andprecision of the system.  Specificparameters including width and length of the model, presence and location ofnodules, and asymmetry of the model were noted. The ProUroScan was then used to examine the models, and in some casesfound nodules more accurately than the human finger, suggesting the opportunityfor earlier detection of prostate disease.

 

***ProUroScan Research andDevelopment Status*****.**

 

We anticipate that we will spend $2.5 million to $2.6 millionon research and product development, including clinical trials, over the next12 months.  Our efforts in this regardwill be primarily focused on completing the ProUroScan system and preparing forcommercialization.  We estimate that overthe past four years, we have spent approximately $2.6 million on research anddevelopment activities, including approximately $413,000, and $838,000 duringthe years ended December 31, 2005 and 2004, respectively.  Much of this work was performed undercontracted research and development agreements with third parties;approximately $2.0 million of the $2.6 million spent on research anddevelopment activities over the last four years was so contracted.

 

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Currently, two development agreements exist betweenProUroCare and Artann. Under the first agreement, the “Development Agreement,”Artann developed two working, pre-clinical ProUroScan systems.  These development-level systems weredelivered to ProUroCare in late November 2004. ProUroCare paid Artann $180,000 for this development work in 2004.

 

Under the second agreement, called the “Research andDevelopment Agreement,” Artann is to be a research and development partner tothe Company, supporting the further development of the ProUroScan and otherto-be-determined technologies in the urologic field.  Any intellectual property and know-howresulting from the advancement of the ProUroScan under this agreement will be assignedto ProUroCare.  For its role, Artann willreceive a total of $250,000 (plus incentives as explained below) payable uponcertain milestone events.  A payment of$50,000 was made to Artann upon the execution of the agreement in July, 2004.  In December, 2004 the Company paid Artann$110,000 following the shipment of the ProUroScan prototypes in accordance withthe Development Agreement (including a $10,000 bonus for delivery of thesystems ahead of schedule).  On May 6 andJune 6, 2005, Artann filed additional patent applications relating to a newprobe positioning technology, for which the Company will pay Artann$50,000.  Artann will also receiveadditional compensation in the form of five-year warrants to purchase up to500,000 shares of Company common stock, similarly issuable upon certainmilestone events.  Of these warrants,warrants for the purchase of 100,000 shares were issued upon the execution ofthe agreement, and warrants for the purchase of 200,000 shares were issued inDecember 2004.  The warrants areexercisable at a per-share price of $2.00, and were expensed as research anddevelopment expenses.  The final 200,000warrants are to be issued, contingent on the delivery of a system ready forclinical trials, in two equal 100,000-share installments on the one-year andtwo-year anniversaries of the Research and Development Agreement.  To date, we believe the systems we havereceived do not meet our criterion, and we are working with Artann to confirmthis assessment; accordingly, we have not issued the final 200,000 warrants.

 

In March, 2006 we engaged Devicix, LLC of Chaska,Minnesota, a firm that provides electrical, mechanical, biomedical, andsoftware engineering services to established and early-stage medical devicecompanies.  We expect this firm willassist us in transferring technology from Artann’s system, place designdocumentation under an FDA compliant quality control system, complete thedesign documentation required to submit an FDA request for product clearance,perform verification and validation testing including certification of safetyto medical device standards, and prepare a documentation package including thedefinition of assembly instructions and quality control processes for transferto manufacturing.

 

***Pre-Clinical Trial andRegulatory Status*****.**

 

Initial human clinical testing of the ProUroScansystem began in 1998 with a series of patients that were studied at the RobertWood Johnson Medical Center in collaboration with Artann.  The results of this first study were presentedby the Division of Urology and the Department of Pathology in an articlepublished in the September issue of the Journal of Urology (Vol. 60).  A second series of studies were conducted inFebruary 2000, at the Veteran’s Administration Medical Center inMinneapolis/St. Paul, Minnesota (“VA”) and at the Grand Strand Urology Clinicin Myrtle Beach, South Carolina (“Grand Strand”).  During these trials, traditional DRE and PSAtests were performed on all patients.  Inaddition, patients with suspicious test results were often referred for prostatebiopsy and in some cases, radical prostatectomies were performed.

 

In the initial 1998 trials, mechanical imaging wascapable of detecting areas of heterogeneity in prostate tissue which correlatedwith cancer.  The results of the imagingcorrelated closely with nodules palpated in all specimens and in one, itrevealed a suspicious area undetected by palpation but which was subsequentlyverified on histological analysis. Mechanical imaging also confirmed the absence of nodules in a controlgroup of patients that had negative biopsy results.  The findings from this initial study providedthe basis for the development of more advanced mechanical imaging systems andprobes.

 

In the second series of patients evaluated at the VAand Grand Strand in 2000, a more refined imaging system 

 

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was used with an improvedsensor probe.  A total of 19 patientswere evaluated and the results compared to DRE and PSA testing. In the VAseries, the imaging system clearly differentiated between patients with a knownnodularity and those without.  The systemwas also able to detect the relative size of the prostates within an acceptabledegree of accuracy.  Researchers alsoreported that the system was able to detect and process patient data fromlocations deeper that a normal DRE examination. Based on the results of the current clinical trials, the Company ispursuing additional clinical information that will permit continued assessmentand comparisons of patient DRE, Prostate MI and TRUS data.  The results of these studies were verypositive, but they have not been confirmed by an independent study.  Our targeted customers may not accept ourinterpretation of these results and may require independent verification.

 

We are currently in the process of establishing aseries of labeling claims reflecting the current needs of the market and thecapabilities of the system.  Given thatthe system will be capable of providing physicians with a number of differentoutputs, we are attempting to create a regulatory strategy that will enable usto begin marketing a basic system and then expand the labeling claims toincorporate more sophisticated features as they are developed and validated inclinical studies.  The advantage of thisapproach is that it allows us to minimize the time it will take to obtain FDAapproval and to begin commercializing an operational system sooner.  Having systems in place will also beimportant in assessing future enhancements while physicians are using it in actualclinical practice.

 

Although the initial claim has yet to be finalized,the content of the claim will likely be limited to the system’s ability to**producea surface map of the prostate as an aid to document palpable lesions identifiedduring a clinical prostate examination.  Basedon the scope of this claim and the input received from consultants and clinicalstudy sites, we believe the initial system can be submitted to the FDA formarket clearance under a 510K application, or be evaluated under the FDA’s*de novo* process. Following completion of the remaining engineering and developmentefforts on the current system, a small pre-clinical study will be conducted toensure that all design criteria and operating requirements of the system havebeen achieved.  Systems will then beplaced in a select number of major medical centers that will screen patientsand collect data for the FDA submission. It is anticipated that the FDA clinical studies will requireapproximately two to three months to complete, and that an additional monthwill be needed to analyze the data and prepare a formal submission to theagency.  Centers participating in thestudy will be required to obtain approval from their Institutional Review Board(“IRB”) to protect the rights and welfare of all participants.  IRB approval has been granted for the firstProUroScan studies at the Minneapolis/St. Paul Veteran’s Administration MedicalCenter and at the Robert Wood Johnson University Hospital in New Brunswick, NewJersey.

 

The actual number of patients that will be studied andthe specific clinical protocol that will be followed will be significantlyimpacted by a meeting that we anticipate having with the FDA during 2006, priorto conducting clinical trials.  At that meetingwe will present information about the product and all relevant and laboratorytesting data.  We will also propose astrategy for validating our labeling claim and a clinical protocol that allinvestigative centers will be expected to follow, with the goal being to obtainenough clinical data to have sufficient confidence that the system will performas defined in the product labeling.

 

Assuming the path outlined above is acceptable to theFDA, of which no assurance can be given, we expect to make a formal submissionto the agency shortly after completion of the clinical study.  Recently published FDA statistics indicatethat the average time from receipt of a 510K application to final action is 65days, with 90% completed in less than 180 days. Based on this data, assuming that the results of the clinical trialspose no unanticipated problems, we expect to receive FDA concurrence within 90 –180 days after the 510K application is filed. Such concurrence will allow us to begin active marketing of theProUroScan system within the United States.

 

As new and more enhanced product features aredeveloped, the Company plans to file additional submissions with the FDA and toobtain expanded labeling claims. Depending on the exact nature of these claims, the approval process mayrequire more extensive clinical studies and possibly a full pre-market approval(PMA) application.  Such an applicationwill likely take significantly more time and be more comprehensive than the510K approval process.  The 510K and *de novo* filing processes are described in more detail in the“Government Regulation” section, below.

 

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Simultaneous with the FDA submission, we expect toapply for a CE (Conformité Européene) mark, a mark displayed prominently on productsindicating compliance with the European regulatory directives.   Products bearing the CE mark may be soldfreely throughout all countries within the European Union.  We will utilize the services of a notifiedbody such as TÜV (Technischen Überwachungsvereine or Technical InspectionsOrganizations), a German company specialized in meeting European regulatorydirectives, to obtain CE mark approval. It is believed the CE mark approval process will be similar in durationto the FDA 510K process, or approximately six months.

 

***Therapeutic Products***

** **

In addition to our ProUroScan technology, we havesecured licensed rights to technology that offers significant enhancements toexisting treatments of BPH, prostate cancer, and other urologic applications.  These technologies are covered by patentsheld by the licensors—see “Intellectual Property” below.  We are not aware of any patents held byothers that would present any uncertainties regarding the protection of ourintellectual-property rights.

 

On July 27, 2005, we entered into a Memorandum ofUnderstanding (the “MOU”) with Urologix, Inc. (“Urologix”) pursuant to whichthe parties will co-develop new products utilizing ProUroCare’s electricalimpedance tomography (“EIT”) technology. The EIT technology is expected to beassembled into modules that will be compatible with and incorporated intoUrologix’ existing thermal therapy systems. The parties expect the project to require several phases of research,testing and development, the first three phases of which are projected to costapproximately $550,000 over the next 18 to 24 months.  ProUroCare and Urologix have agreed toequally share in the development costs of these phases.  The MOU will continue in effect for afive-year period following the date on which the Federal Drug Administrationfirst approves a Urologix EIT urology product for sale in the United States. Ifthe development of the modules is successful, the parties contemplate enteringinto definitive agreements pursuant to which Urologix would market the newproducts subject to a license agreement.

 

Current microwave thermal therapy treatment utilizes acatheter that is inserted into the patient’s urethra.  The catheter contains an antenna thatradiates microwave energy in an omni-directional, 360° pattern.  The tissue of the prostate absorbs thisenergy and heat is inductively generated to increase the temperature above 45°C, which is necessary to cause necrosis of the tissue.  After this tissue dies and is eliminated bythe body, the enlargement of the prostate is reduced, restoring urineflow.  The clinician is unable to monitorthe migration of heat within the prostate, which means that either too muchenergy may be applied, potentially causing collateral damage to adjacenthealthy organs, or too little energy may be applied, limiting its therapeuticeffectiveness.

 

We believe that our unique and proprietary EITtechnology will be a significant advancement to thermal therapy.  EIT is an imaging technology in which animage of the conductivity or resistivity of part of the body is inferred fromsurface electrical measurements.  Theheating that occurs during a thermal therapy procedure produces a change in thelocal conductivity or resistivity throughout the treatment volume.  These local changes in the electricalproperties of the tissue will be measured by a system of miniature electrodesplaced on the patient’s body, and a rectal probe, all of which connect to anelectronically controlled low-frequency power supply.  Each individual electrode will receive aspecific current and electronically measure all the possible induced voltagesamong the electrode array.  An inversionalgorithm is then employed to create a real-time image of the thermal pattern.

 

The EIT system will be assembled into modules thatwill be compatible with, and added on to, Urologix’ existing thermal therapysystems.  The modules will include alow-frequency power supply, electrodes, a rectal probe, monitor and softwarecontaining the proprietary algorithms.  Theupgraded systems will continue to utilize transurethral microwave catheters togenerate the heat necessary to cause necrosis. This system will enable urologists to observe the real-time migration ofheat through the prostate during treatment and adjust the amount of energyapplied in order to protect the urethral tissue and adjacent organs.  This information and increased energyefficiency will also help to minimize damage to healthy tissue.

 

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We have also licensed technology that will allow us inthe future to develop a focused-beam microwave array based on our licensedtechnology.  We expect that such afocused-beam array will enhance the safety and efficacy of microwave-basedthermal therapy treatments by allowing the treating physician to directtreatment in a much narrower (approximately 45°) pattern rather than theunfocused 360° pattern of current systems, and to control the depth oftreatment.  This will enable thephysician to selectively treat an area of the prostate, and spare healthytissue, helping to avoid damaging the rectal wall and adjacent organs.  Because the energy applied will be morefocused, less total energy can be used during treatment.  Lower energy levels are believed to reducecollateral damage to surrounding tissues when treating a patient and aretherefore believed to be a safer way to treat patients than microwave systemscurrently being used.

 

We believe that the combination of real-time visioningof the prostate and the ability to direct treatment will enable a physician totreat specific areas of the prostate that may have localized cancer or BPH,without damaging healthy prostate tissue or medial nerves, thus avoidingpotential impotence and erectile-dysfunction complications.  As a result, we believe that the technologieswill be positioned as significant enhancements to current microwave therapydevices, minimizing the types of complications and side effects inherent inmost current treatments and, as such, can encourage more rapid acceptance andadoption rates for the systems that incorporate this technology.

 

**Competition**

** **

***Prostate Imaging*****.**

 

We are not aware of any competitive product currentlybeing sold based on the same technological features as the ProUroScan.  Nonetheless, we expect competition tointensify in the market for prostate diagnosis and screening.  Currently available diagnostic methods thatare expected to compete with the ProUroScan include the traditional DRE and theProstate-Specific Antigen (PSA) test.  Webelieve that we can be competitive in the prostate-imaging market due to ourstrong patent position and anticipated ability to deliver high-qualityimaging/screening devices and results. We anticipate that our systems and tests will be very cost effective,with system costs expected to be less than $15,000 and per test disposable costsin the range of $12 to $15.

 

•      Digital Rectal Examination (DRE):  ADRE is a qualitative and subjective test in which a physician wearing a latexglove inserts a lubricated finger into the rectal channel, primarily to feel orpalpate the prostate gland for abnormalities. The clinician must rely on their experience and the ability of theirfinger to estimate the size of the prostate and to detect hardness or noduleswithin the prostate that might indicate the presence of potentiallylife-threatening disease.  We believethat some physicians may view our ProUroScan system as an unnecessary expensewhen compared to the negligible cost of a latex glove and lubricant, and mayargue that they obtain accurate information when palpating with theirfinger.  We believe the ProUroScan willultimately gain acceptance because it offers distinct advantages in prostatescreening compared to the standard DRE:

 

•   it will be more sensitive and able to detect smallernodules or tissue abnormalities on the surface or within the prostate;

 

•  it will not be affected by anatomic anomalies orobesity that now prevents physicians from fully palpating the prostate in asignificant percentage of their patients;

 

•  it will produce a real-time color image of theprostate;

 

•  it will enable physicians to electronically store andcompare the test results in patient files; and

 

•  the test will be standardized, minimizing thedifferences in technique and experience of clinicians.

 

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We expect that the ProUroScansystem’s sensitivity, standardization, and ability to electronically storeimages will allow physicians to observe changes in the prostate over time more accurately.  This is a significant capability for thoseBPH patients taking medication to reduce the size of the prostate, and formonitoring changes in patients that have early clinical indications of prostatecancer.

 

The ProUroScan’scapability is limited to the examination of the prostate, and will not detectother conditions unrelated to the prostate that a physician may detect in thecourse of a standard DRE, such as internal hemorrhoids, rectal cancer, stenosis(narrowing of the rectum), and a typical sphincter tone that may suggestneurological pathology.

 

•      Prostate-Specific Antigen (PSA):  The Prostate-Specific Antigen test (“PSA test”)is a blood test used to detect and quantify PSA, a substance produced only bythe prostate.  This test only screens forcancer and does not provide any indication to the physician regarding the sizeof the prostate or the presence of any other tissue abnormalities.  The PSA test is a screening tool usually usedin conjunction with a traditional DRE. An elevated PSA result does not necessarily mean a patient has prostatecancer nor does a normal PSA mean a patient does not have prostate cancer.  A meaningful number of false positive PSAtests occur, leading to unnecessary diagnostic procedures, such as biopsy.  It is also assumed that false negative PSAtest results on these patients occur.  Webelieve diagnostics companies are working to develop tests with improvedsensitivity and specificity to reduce the number of false positives and falsenegatives.  Improved PSA tests must be considereda competitor to the ProUroScan.

 

Other modalities that areavailable, but utilized on a very limited basis for screening applications,include TRUS, magnetic resonance imaging (MRI), computed tomography (CT) andnuclear medicine (NM).

 

•      Transrectal Ultrasound (TRUS):  Transrectalultrasound is a diagnostic imaging tool that is used to guide prostate biopsyto determine if cancer exists.  It isemployed primarily by urologists following the referral of a patient that hasbeen screened by a primary care physician using DRE and PSA.  When suspicious finding occur TRUS is used toguide the position of the biopsy needle prior to taking a core sample oftissue.  TRUS is not considered a primaryscreening tool (American Urologic Association) and is more costly and difficultto operate for most physicians.  Webelieve that ProUroScan will be much easier to operate requiring significantlyless training.  It will also be less costlyto acquire and maintain in a traditional medical office setting.

 

•      Magnetic Resonance Imaging (MRI): MRI is effective in providing high contrast, high-resolution images ofanatomy deep inside the human body. Nevertheless, full-sized, high-field strength MRI systems may cost $1million to $1.5 million, with smaller, lower-field strength magnets rangingfrom $700,000 to $1 million.  Dedicatedlimited-purpose units for such applications as prostate evaluation, orthopedicsor breast imaging have been developed but have not yet been shown to becommercially viable.  Thus, MRI is currentlytoo expensive to use for prostate-disease screening.

 

•      Computed Tomography (CT): CT involves placing the patient inside of a rotating array of X-raydetectors subjected to multiple x-rays, which are analyzed and processed into aseries of cross-sectional images of the body and then reconstructed to form acomputerized three-dimensional image (like loaf of bread comprised of multiple “slices”).  CT can be effective in prostate imaging, but CTequipment is expensive (approximately $500,000); transrectal ultrasound (TRUS)is generally preferable in terms of time and cost-effectiveness.

 

•      Nuclear Medicine (NM): NM involves the injection into the body of radioactive isotopes whichemit radiation that is detected and analyzed by a dedicated computer.  NM is highly effective in staging ofsoft-tissue tumors. NM is not suited as a mass-screening device, although NMcan be used for later-stage prostate cancer assessment.  NM equipment is also very expensive ($1.9-$10.0 million), and therefore not a very cost effective screening tool.

 

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***Therapeutic Products.***

 

Our anticipated therapeutic products will be intendedto provide significant enhancements to existing thermal-therapy devices.  Once developed, we anticipate they will besold to companies that utilize catheter-based microwave energy to treat BPH andcertain prostate cancers.  Competition inthe BPH treatment market for therapeutic products in which these companies competeis intense and expected to increase.  Webelieve that the principal competition in this area will come from bothsurgical and non-surgical therapies. Surgical therapies include transurethral prostatectomy (“TURP”),transurethral incision of the prostate (“TUIP”) or alternative surgical proceduresfor vaporizing prostate tissue using laser or radio frequency (“RF”)energy.  Non-surgical alternativesinclude drug therapy and emerging less invasive and more specific technologies.

 

•              Surgical Treatments for BPH:  Surgical treatments for BPH typically usevarious means to completely remove the prostatic urethra along with asubstantial portion of the diseased tissue within the prostate.  Approximately 1.0 million prostatic surgerieswere performed worldwide in 2002, of which 195,000 were performed in the UnitedStates according to the 2002 National Hospital Discharge Survey published bythe Center for Disease Control.  The mostcommon surgical procedure for the treatment of BPH is TURP, whereby a rigid instrumentis inserted into the patient’s urethra and through which the surgeon passes anelectrosurgical loop that is used to remove the urethra and the diseased tissuewithin the prostate.  While TURP resultsin a dramatic improvement in urine flow and a reduction in the AUA SymptomScore (a standardized questionnaire developed by the American UrologicalAssociation to assess the severity of urological discomfort symptoms men areexperiencing) a significant number of patients experience seriouscomplications.  Complications asdescribed in the AUA Guideline on the Management of Benign ProstaticHyperplasia (2003) include ejaculation problems, (65% of patients), erectiledysfunction (10%), excessive hemorrhaging requiring transfusion (8%), urethralstricture (7%) infection (6%), hematuria or blood in the urine (6%), andlong-term incontinence (3%).  There hasbeen a steady decline in the numbers of TURP procedures being performed in theU.S.  Three other prevalent proceduresare TUIP, transurethral vaporization of the prostate (“TVP”), and laser-assistedprostatectomy.  In TUIP, a surgeoninserts an instrument into the urethra that is able to make incisions in theprostate where it meets the bladder. Because of the circular muscle fibers running around the prostate, theTUIP allows the bladder neck to spring open and urine to flow freely.  During a TVP procedure, a surgeon inserts anelectrode into the urethra which generates enough heat to vaporize the tissueconstricting the urethra.  During alaser-assisted prostatectomy, a surgeon uses a laser inserted into the urethrato destroy tissue constricting the urethra. While these alternative surgical treatments have been effective inreducing some side effects associated with TURP, such as reduced risk of bloodloss, they still remove or damage the urethra, require general or regionalanesthesia and are performed in an operating room.

 

•              Drug Therapy:  Drug therapy for BPH has been available inthe United States since 1992, when the FDA approved the marketing of fourorally administered pharmaceutical products. By 1996, drug therapy for the treatment of BPH symptoms was beingadministered to approximately 1.5 million men in the United States.  By 2000, according to The National Instituteof Diabetes & Digestive & Kidney Diseases, 2.2 million prescriptionswritten for drugs to treat BPH.  Inaddition, combination therapy using alpha blockers and 5 –alpha reductaseinhibitors has proven beneficial.  Webelieve the dramatic growth of drug therapy in the short period since FDAapproval can be attributed to extensive drug company marketing, resulting inincreased patient awareness, and the desire of these patients for effectivetreatments which have less severe complications and side effects than currentlyavailable surgical procedures.  Some ofthe adverse common side effects to drug therapy as described in the AUAGuideline on the Management of Benign Prostatic Hyperplasia (2003) are:dizziness (15%), headache (12%), stuffy nose (11%), stomach/intestinal (11%),erection problem (8%), and decreased sexual desire (5%).

 

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•              Less-Invasive BPH Treatments:  In an effort to eliminate hospitalization andthe complications arising from surgical treatments, other technologies havebeen developed, or are under development for the treatment of BPH.  Two of these technologies are interstitialradio frequency therapy (“RF”), which is currently being marketed in the UnitedStates, and interstitial laser therapy, which has only been recently approvedfor commercialization in the United States. In an interstitial therapy procedure, a rigid scope is inserted into thepatient’s urethra and either needle electrodes or laser fibers pierce theurethra and are advanced into the lobes of the prostate.  RF or laser energy is then delivered, causingnecrosis of the surrounding tissues. Due to the limited amount of tissuenecrosis caused by each electrode or laser fiber, multiple punctures of theurethra are required in order to coagulate a sufficient amount of tissue.  While these procedures are designed to beperformed in approximately 30-45 minutes with local anesthesia, we believe thatintravenous sedation or regional anesthesia will be required in most patientsdue to the need to repeatedly puncture the urethra and manipulate the large,rigid instrument in the urethra.  As aresult, we believe that it will be difficult to consistently performinterstitial therapies in an office setting, and that its therapeutic productswill therefore be a cost-effective alternative.

 

In addition to the competitive treatments discussedabove, we are aware of other companies that have developed or are developingtechnologies for BPH treatment.  Thesetechnologies include stents (a tube-shaped structure that holds the urethraopen enabling urine to pass more freely), dilation balloons (a small balloonintroduced into the urethra and then inflated to relieve the prostate’spressure on the urethra), transurethral and transrectal hyperthermia (heatingthe prostate, either through the urethra or the rectum, to a point that causesnecrosis of the tissue and relieves the pressure on the urethra), andhigh-intensity focused ultrasound (a method involving the heating of theprostate sufficiently to cause tissue necrosis using ultrasound waves).  We expect that competition in the BPH fieldwill be based, among other things, on the ability of the therapy to providesafe, effective and lasting treatment, cost effectiveness, continued Medicarereimbursement, acceptance of the procedure by physicians, healthcare payors andpatients, marketing and sales capabilities, and third-party reimbursementpolicies.

 

**Intellectual Property**

** **

Our objective as a medical device company is to effectivelyand aggressively obtain, maintain and enforce patent protection for ourproducts, formulations, processes, methods and other proprietary technologies,preserve our trade secrets and licenses, and operate without infringing theproprietary rights of other parties both in the United States and in all othercountries where we may do business.  Ourpolicy is to actively seek to obtain, where appropriate, the broadestintellectual-property protection possible for our products, proprietaryinformation and proprietary technology through a combination of contractualarrangements, licenses, and patents, both in the United States and throughoutthe rest of the world.  We have, to date,licensed the rights to 20 U.S. patents and two U.S. patent applications, and inaddition have made one U.S. patent application for intellectual property thatwe own. In addition, we have applied for patents in Japan and several Europeancountries.

 

We also depend upon the skills, knowledge andexperience of our scientific and technical personnel, as well as that of ouradvisors, consultants and other contractors, none of which is patentable.  To help protect our proprietary know-howwhich is not patentable, and for inventions for which patents may be difficultto enforce, we rely on trade-secret protection and confidentiality agreements.  To this end, we require all employees,consultants, advisors and other contractors to enter into confidentialityagreements which prohibit the disclosure of confidential information and, whereapplicable, require disclosure and assignment to us of the ideas, developments,discoveries and inventions important to our business.

 

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We license from third parties various intellectualproperties essential to its business. The significant intellectual-property rights we license include:

 

•              Certain rights associated withprostate-imaging systems and related patented technology, from Profile. Theserights include the rights to patents covering methods and devices for palpationand mechanical imaging of the prostate (patent expires in 2019), real-timemechanical imaging of the prostate (patent expires 2021), and a method forusing a transrectal probe to mechanically image the prostate gland (patentexpires 2017).  We are pursuing twopatent applications covering these rights outside of the United States.  Together, the technology licensed fromProfile is the basis for the imaging technology used in our ProUroScanproduct.  The license requires that wereport our development activities to Profile each year and to pay for ongoingpatent prosecution and maintenance costs. The license requires no specific expenditure level to remain in force.

 

•              Certain rights associated with minimallyinvasive microwave therapy for the treatment prostate disease from CS Medical,including rights to two patents covering medical hyperthermia treatment anddiagnosis using microwave devices (patents for both of which expire in 2019),microwave balloon angioplasty (patent expires 2009), and a microwave heat pipearray for hyperthermia (patent expires 2019). We also have rights to a patent application for treatment of prostatictissue that is pending in Europe. Together, the technology licensed from CS Medical is the basis for ourproposed focused-beam microwave therapy product.  This license requires that we report ourdevelopment activities to CS Medical each year, but requires no specific levelof development expenditures.

 

•              Certain rights associated with electricalimpendence tomography (EIT) imaging systems and related patented technologyfrom Rensselaer Polytechnic Institute (RPI), including rights to processes forproducing optimal current patterns for EIT (patent expires 2014) and a processand apparatus for distinguishing conductivities by electric computed tomography(patent expires 2010).  Together, themethods licensed from RPI are the basis for the vision system portion of ourproposed focused-beam microwave therapy product.  This license requires that we initiate an FDAapproval process prior to July 13, 2008, but requires no specific level ofdevelopment expenditures. If we cease to carry on our business, the RPI licenseagreement will terminate immediately.

 

In 2003, we applied for our own patent for anintelligent medical-device barrier and we continue to pursue its issuance.  This technology provides a means of communicatingcertain information from a medical probe to the computer system of a medicaldevice using a special adapter integrated with a disposable sterile sheath orbarrier that will be used in a medical procedure.  We intend to use this device to ensure thesterility and functionality of the ProUroScan system’s probe.

 

**Manufacturing**

** **

We intend to retain contract manufacturers tomanufacture and assemble our initial pre-clinical and clinical systems anddisposable products.  We expect todevelop the capability to manufacture our own disposable products, and assembleand test our systems as we move into large scale commercialization.  In addition, the identification of newproduct candidates for development may require us to enter into licensing orother collaborative agreements with others, including medical-device companiesand pharmaceutical companies, and research institutions.  Finally, we may be required to enter intosales, marketing, licensing and/or distribution arrangements with third partiesfor our products.

 

**Government Regulation**

** **

The proposed products we intend to develop, assemble,and market are subject to regulation by the FDA and by comparable agencies in variousstates and various foreign countries. The process of complying with the requirements of the FDA, relatedagencies, and other state and foreign agencies can be costly and timeconsuming.

 

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We have developed and continue to refine regulatory strategies for ourproposed initial product offerings, as more fully described above under thecaption “Research and Development.” Although we have engaged sophisticated Washington, D.C. based regulatoryconsultants to help direct our regulatory compliance and filings, no assurancescan be given that such filings will be acceptable to the FDA or otherregulatory governing bodies.  Moreover,even if our filings are acceptable to the regulatory bodies with which we fileapplications, we may encounter significant delays which will materially andadversely affect our business and operations.

 

A *Class II device*is one which requires performance standards and post-market surveillance toassure safety and efficacy.  Thesedevices typically gain concurrence from FDA for marketing through anotification, commonly referred to as a 510K application.  This pathway is generally shorter and lessexpensive than a Pre-Market Approval (“PMA”) application which is required of *Class III devices* that are generally used for lifesustaining, implantable products or those that pose a high risk of injury tothe patient.  In order to obtain 510Kconcurrences, the Company must demonstrate that the ProUroScan is substantiallyequivalent to a previously approved product referred to as a (“predicate device”).  A device is substantially equivalent if ithas (a) the same intended use, and (b) either the same technologicalcharacteristics of a predicate device, or different technologicalcharacteristics but is shown to be as safe and effective as the predicatedevice.

 

In general, the data required to prove substantialequivalence in a 510K application is easier to collect than the safety andefficacy data required for a PMA.  In thecase of the ProUroScan, much of the supporting data will be gathered during theproduct-development phase.  Once filed,the FDA has 90 days in which to review the 510K application and respond.  Typically, the FDA’s response after reviewinga 510K is a request for additional data or clarification.  Depending on the complexity of theapplication and the amount of data required, the process may be lengthened byseveral weeks.  If additional data isneeded to support our claims, the 510K application process may be significantlylengthened.  Recently published FDAstatistics indicate the average time from receipt of a 510K application tofinal action is 65 days, with 90% completed in less than 180 days.

 

If the FDA issues an order declaring the device to beNSE (Not Substantially Equivalent) and placing it into a Class III category,the company can then request a *de novo*classification of the product.  Therequest must be in writing and sent within 30 days from the receipt of the NSEdetermination.  The request shouldinclude a description of the device, labeling for the device, reasons for therecommended classification and information to support the recommendation.  The *de novo* processhas a 60 day review period.  If FDAclassifies the device into Class II, the company will then receive an approvalorder to market the device. This device type can then be used as a predicatedevice for future 510K submissions. However, if FDA subsequently determinesthat the device will remain in the Class III category, the device cannot bemarketed until the company has obtained an approved PMA.  If we are required to follow a *de novo* process, an additional 60 – 90 days will be added onto the original 90 days required for the initial 510K review.

 

We are currently in the process of establishing aseries of labeling claims reflecting the current needs of the market and thecapabilities of the system.  Given thatthe system will be capable of providing physicians with a number of differentoutputs, we are attempting to create a regulatory strategy that will enable usto begin marketing a basic system and then expand the labeling claims toincorporate more sophisticated features as they are developed and validated inclinical studies.  The advantage of thisapproach is that it allows us to minimize the time it will take to obtain FDAapproval and begin commercializing an operational system.

 

Although the initial claim has yet to be finalized,the content of the claim will likely be limited to the system’s ability to**producea surface map of the prostate as an aid to document palpable lesions identifiedduring a clinical prostate examination.  Basedon the scope of this claim and the input received from consultants and clinicalstudy sites, we believe the initial system can be submitted to the FDA formarket clearance under a 510K application as a non-significant risk device.

 

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It is anticipated that the FDA clinical studies willrequire approximately two to three months to complete, and that an additionalmonth will be needed to analyze the data and prepare a formal submission to theagency.  Centers participating in thestudy will be required to obtain approval from their Institutional Review Board(“IRB”)to protect the rights and welfare of all participants.  IRB approval has been granted for the firstProUroScan studies at the Minneapolis/St. Paul Veteran’s AdministrationHospital and at the Robert Wood Johnson University Hospital in New Brunswick,New Jersey.  As new and more enhancedproduct features are developed, the Company plans to file additionalsubmissions with the FDA and to obtain expanded labeling claims.  Depending on the exact nature of theseclaims, the approval process may require more extensive clinical studies andpossibly a pre-market approval (PMA) application.

 

In regard to our proposed therapeutic products, ourdevelopment partner, Urologix, will likely determine the strategy and seekapproval from the FDA.  Due to this andthe early-development stages of our proposed therapeutic products, the type ofFDA filing that will be required for our proposed thermal-therapy products hasnot yet been determined.

 

Our clinical investigations will follow the FDA’sInvestigational Device Exemption (IDE) regulations, including the requirementsof informed consent and IRBs.  Prior tothe commencement of clinical investigations, we will have in place a completeset of standard operating procedures (SOPs) as to clinical monitoring,responsibilities, selecting investigators, selecting monitors, device control,agreements, records, reports, labeling, etc. All of these SOPs will conform to applicable FDA regulations.  Finally, prior to commercialization and 510Kclearance, we will comply with FDA registration and listing regulations byregistering with the FDA Form 2891, and listing the device on FDA Form 2892.

 

Once approved, the manufacturing, sale and performanceof our products will be subject to the ongoing FDA regulation and inspectionprocesses.  For example, the FDA reviewsdesign and manufacturing practices, labeling and record keeping, and manufacturers’required reports of adverse experience and other information to identifypotential problems with marketed medical devices.  We will also be subject to periodicinspection by the FDA for compliance with the FDA’s good manufacturing practiceregulations.  These regulations, also knownas the Quality System Regulations, govern the methods used in, and thefacilities and controls used for, the design, manufacture, packaging andservicing of all finished medical devices intended for human use.  If the FDA were to conclude that we are notin compliance with applicable laws or regulations, or that any of our medicaldevices are ineffective or pose an unreasonable health risk, the FDA could bansuch medical devices, detain or seize adulterated or misbranded medicaldevices, order a recall, repair, replacement, or refund of such devices, andrequire us to notify health professionals and others that the devices presentunreasonable risks of substantial harm to the public health.  The FDA may also impose operatingrestrictions, enjoin and restrain certain violations of applicable lawpertaining to medical devices, and assess civil or criminal penalties againstour officers, employees or us.  The FDAmay also recommend prosecution to the Department of Justice.

 

**Employees**

** **

We currently employ only our three executive officers,two functional area Vice Presidents, and one other employee.  We conduct much of our research anddevelopment, market research, regulatory function, and other businessoperations through the use of a variety of consultants and medical-devicedevelopment contractors.  Managementbelieves that using consultants and contractors to perform these functions ismore cost effective than hiring full-time employees, and affords us flexibilityin directing our resources toward specific and changing goals during ourdevelopment stage.  We anticipate hiring fourto five additional employees in the areas of engineering and regulatorycompliance within the next 12 months.  Some or all of these functions may beperformed by contracted individuals or consultants as management deems mosteffective.  To date, we have conductedour research and development activities related to our acquired technologiesand proposed products on a contract basis with Minnetronix, Inc. and ArtannLaboratories Inc.  In March, 2006 we engageda Minnesota-based contract development firm, Devicix, LLC, to perform certain developmentactivities on 

 

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the ProUroScan system.  The workconducted by these contractors has been supervised by a combination of ourexecutive management and consultants.

 

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**RISK FACTORSASSOCIATED WITH OUR BUSINESS,OPERATIONS AND SECURITIES**

 

**IMPORTANT NOTICES TO INVESTORS; SAFEHARBOR STATEMENT**

 

Statements in this Form 10-KSB which are not purelyhistorical are forward-looking statements. These statements with respect to the goals, plan objectives, intentions,expectations, financial condition, results of operations, future performanceand business of our Company, including, without limitation, (i) our ability tosuccessfully complete all clinical trials and commercial development of ourproducts and secure all necessary federal and other regulatory approvals tointroduce and market our products in the United States and around the world;(ii) our ability to fund our working capital needs over the next 12 to 24 months;(iii) our ability to successfully introduce our products into the medicaldevice markets; and (iv) all statements preceded by, followed by or thatinclude the words “may”, “would”, “could”, “should”, “expects”, “projects”, “anticipates”,“believes”, “estimates”, “plans”, “intends”, “targets” or similar expressions.

 

Forward-looking statements involve inherent risks anduncertainties, and important factors (many of which are beyond our control)that could cause actual results to differ materially from those set forth inthe forward-looking statements, including the following, in addition to thosecontained in our Company’s reports on file with the Securities and ExchangeCommission: general economic or industry conditions, nationally and in thephysician, urology and medical device communities in which we intend to dobusiness; our ability to fund our working capital needs over the next 12 to 24 months;our ability to complete the development of our existing and proposed productson a timely basis and at all; legislation or regulatory requirements, includingour securing all FDA and other regulatory approvals on a timely basis, and atall, prior to being able to market and sell our products in the United States;competition from larger and more well established medical device and othercompetitors; the development of products that may be superior to the productsoffered by us; securing and protecting our intellectual property and assets andenforcing breaches of the same; clinical results not anticipated by managementof the Company; the quality or composition of our products and the strength andreliability of our contract vendors and partners; ability to raise capital tofund our 2006 and 2007 working capital needs and launch our products into themarketplace in subsequent years; changes in accounting principles, policies orguidelines; financial or political instability; acts of war or terrorism; andother economic, competitive, governmental, regulatory and technical factorsaffecting our operations, proposed products and prices.

 

Accordingly, results actually achieved may differmaterially from expected results in these statements.  Forward-looking statements speak only as ofthe date they are made.  We do notundertake, and specifically disclaim, any obligation to update anyforward-looking statements to reflect events or circumstances occurring afterthe date of such statements.

 

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**As a development-stage company, we have no operatinghistory and our business plan has not yet been fully tested.  We anticipate incurring future losses untilour products are completed, we secure regulatory approval, and are our productsare introduced into the United States and worldwide markets.**

** **

The Company, conducting business through ourwholly-owned subsidiary, ProUroCare Inc. (sometimes referred to hereinafter as “we”),is a development-stage company.  We have yetto commence active operations or manufacture or sell any products associatedwith the proprietary urology-based imaging and therapeutic technologies that weintend to market.  We have no prioroperating history from which to evaluate our success, or our likelihood ofsuccess in operating our business, generating any revenues or achievingprofitability.  To date, we havegenerated no revenue and are proposing to enter the highly competitiveurology-imaging and therapeutic industries. There can be no assurance that our plans for developing and marketingour urology-based products will be successful, or that we will ever attainsignificant sales or profitability.  Weanticipate that we will incur losses in the near future.

 

**Our products have not been, and may never be, fully commerciallycompleted and developed.**

** **

We have developed and manufactured two workingProUroScan systems for testing, clinical validations, and demonstrationpurposes.  Previously we had developedand manufactured two working prototype ProUroScan systems to prove thefeasibility of the device and to provide a means to test and develop futuresystems.  Nevertheless, we have notgenerated any revenues from the sale of the ProUroScan nor have we manufacturedany ProUroScan in commercial quantities. The completion of the development of proposed products remains subjectto all the risks associated with the development and manufacture of newproducts based on innovative technologies, including unanticipated technical orother problems, failures to meet FDA requirements or performance objectives,and the possible insufficiency of the funds allocated for the completion ofsuch development, which could result in a change in the design, delay in thedevelopment, or abandonment of such applications and products.  Consequently, there can be no assurance thatour products will be successfully developed or manufactured.  Of course, our failure to complete thedevelopment of products will have materially adverse effect on our business.

 

**Even if finally developed, our products may not becommercially viable.**

** **

Even if we are able to successfully develop ourproducts, we may not be able to manufacture such products in commercialquantities and at prices that will be commercially viable.  Further, there is risk that our products maynot prove to be as effective as currently available medical or diagnostic products.  The inability to successfully completedevelopment of a product or application or a determination by us, forfinancial, technical or other reasons not to complete development of anyproduct or application, particularly in instances in which we have madesufficient capital expenditures could have a materially adverse affect on ourbusiness.

 

**Even if successfully developed, our products may notbe accepted by the marketplace.**

** **

Our products, even if successfully developed, will becompeting against existing treatments and competing products in the medicaldevice marketplace.  There can be noassurance that physicians, urologists or the medical device market in general willaccept our products.

 

**We will depend upon others for the manufacturing ofour products, which will subject our business to the risk that we will beunable to fully control the supply of our products to the market.**

** **

Our ability to develop, manufacture and successfullycommercialize our proposed products depends upon our ability to enter into andmaintain contractual and collaborative arrangements with others. We do notintend to initially manufacture any of our proposed products.  In this regard, we intend to retain contractmanufacturers.  There can be no assurancethat such manufacturers will be able to supply our products in the requiredquantities, at appropriate 

 

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quality levels or at acceptable costs. We may be adversely affected by any difficulties encountered by suchthird-party manufacturers that result in product defects, production delays orthe inability to fulfill orders on a timely basis.  If a manufacturer cannot meet our qualitystandards and delivery requirements in a cost-efficient manner, we would likelysuffer interruptions of delivery while we arrange for alternative manufacturingsources.  Any extended disruption in thedelivery of products could result in our inability to satisfy customer demandfor our products.  Consequently, ourinability to obtain alternative sources on a timely basis may have a materialadverse effect on our business and results of operations.

 

**Our reliance on third-party manufacturers and otherthird parties in other aspects of our business will reduce any profits we mayearn from our products, and may negatively affect future product development.**

** **

As noted above, we currently intend to market andcommercialize products manufactured by others, and in connection therewith wewill likely be required to enter into manufacturing, licensing and distributionarrangements with third parties.  Thesearrangements will likely reduce our product profit margins.  In addition, the identification of new productcandidates for development may require us to enter into licensing or othercollaborative agreements with others, including medical-device andpharmaceutical companies, and research institutions.  These collaborative agreements may require usto pay license fees, make milestone payments, pay royalties and/or grantrights, including marketing rights, to one or more parties.  Any such arrangement will reduce ourprofits.  Moreover, these arrangementsmay contain covenants restricting our product development or business effortsin the future.

 

**We may not be able to enter into manufacturingagreements or other collaborative agreements on terms acceptable to us, if atall, which failure would materially and adversely affect our business.**

** **

We cannot be sure that we will be able to enter intomanufacturing or other collaborative arrangements with third parties on termsacceptable to us, if at all.  If we failto establish such arrangements when and as necessary, we could be required toundertake these activities at our own expense, which would significantlyincrease our capital requirements and may delay the development, manufactureand commercialization of our products. If we could not find ways of addressing these capital requirements, wewould likely be forced to sell or abandon our business.

 

**We will need additional financing now and during 2006and 2007, and any such financing will likely be dilutive to our existingshareholders.**

** **

At March 10, 2006, we had cash on hand and a creditfacility in-place of approximately $378,000.  These funds are not sufficient for us tocomplete development of our products and gain FDA approval of them.  Management’s plan is to raise sufficientcapital to achieve these objectives through our pending debt financing in whichwe are establishing a $6 million senior credit facility guaranteed by a limitednumber of accredited individuals.  Inaddition, we may also raise additional financing if the net proceeds of thecredit facility prove insufficient to reach these goals, or if financingbecomes available under attractive terms. As of the date of this annual report,the Company has closed on $2.2 million of this facility, and has receivedverbal commitments and subscriptions from various individual guarantors for amajority of the remaining $3.8 million. Nevertheless, the Company cannot be certain that these verbalcommitments will be honored, nor that the remaining $3.8 million will besecured on a timely basis during 2006, or at all.  See MANAGEMENT’S PLAN OF OPERATION —LIQUIDITY AND CAPITAL RESOURCES.

 

As an incentive to the guarantors to provide theirguarantees of the $6 million bank credit facility, the Company intends to issueup to $2 million of unsecured convertible 10% debentures that are due in 36months.  The debentures are convertible atthe holders’ option into an aggregate of 4,000,000 shares of common stock (upto 6,666,667 shares if the underlying senior credit facility is not retired byOctober 31, 2007).  If additional fundsare raised by the issuance of equity securities, such as through the issuanceof stock or the issuance and exercise of warrants, then existing shareholderswill experience dilution of their ownership interest.  If additional funds are raised 

 

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by the issuance of debt or other equity instruments, the Company maybecome subject to certain operational limitations, and such securities may haverights senior to those of existing holders of common stock.

 

If adequate funds are not available under the pendingdebt financing on a timely basis in 2006, or not available on other acceptableterms, the Company may be unable to fund expansion, develop or enhanceproducts.  If the Company is forced toslow its development programs, or put them on hold, it would delay regulatoryapprovals needed, and thus market entry for our products. Ultimately, if noadditional financing is obtained beyond what has been secured to date, we couldbe forced to cease operations.

 

**We materially rely on consultants and contractors, someof whom have been partially or wholly paid through issuances of common stockdilutive to our shareholders.**

** **

In each of the past two years, the Company (incombination with PUC) has incurred consulting fees that represents a materialexpenditure in relation to our total operating costs.  During the year ended December 31, 2004, weincurred consulting fees totaling approximately $1.1 million.  Of this amount, approximately $255,000 wasincurred for business brokerage services rendered in connection with theMerger; $631,000 was incurred for research and development activities; $74,000was incurred for management and accounting services; $49,000 was incurred formarket research services; $59,000 was incurred for manufacturing andengineering services; $15,000 for medical advisory services; and $8,000 wasincurred for services rendered in connection with regulatory and reimbursement matters.  Furthermore, approximately $383,000 of thisamount was paid through the issuance of securities, including $281,000 by theissuance of warrants to purchase 200,000 shares of the Company’s common stock,and $102,000 by the issuance of 550,000 shares of common stock.  We also paid approximately $89,000 of accruedfinancing charges by issuing 44,441 shares of common stock to a contractor, andissued warrants to purchase an aggregate of 300,000 shares of common stock to aconsultant for business brokerage services rendered in connection with theMerger.

 

During the year ended December 31, 2005, we incurredconsulting fees totaling approximately $282,000.  Of this amount, approximately $92,000 wasincurred for business brokerage services rendered in connection with financingactivities; $116,000 was incurred for research and development activities;$2,000 was incurred for management and accounting services; $8,000 was incurredfor market research services; $14,000 was incurred for manufacturing andengineering services;$15,000 for medical advisory services; and $36,000 wasincurred for services rendered in connection with regulatory and reimbursementmatters. Approximately $69,000 of this amount was paid through the issuance of 75,000shares of common stock.

 

We expect to continue to materially rely onconsultants and contractors to perform a significant amount of research anddevelopment, pre-manufacturing, clinical, regulatory, and marketingactivities.  Expenses for theseactivities are anticipated to be approximately $1.2 to 1.3 million during thenext twelve months.  We plan to issuesecurities in partial satisfaction of certain development and consultingexpenses, including the Artann warrants discussed below.  Any such issuance could be dilutive toshareholders.

 

Under the terms of a research and developmentagreement with Artann Laboratories, Inc., we are committed to issue warrantsfor up to an additional 200,000 shares of common stock over the next two yearsat $2.00 per share or current market price, whichever is lower.

 

**The resale of our common stock into the market underRule 144 and under our prior SB-2 Registration Statement, has depressed andadversely affected the market price of our common stock in the public market,and thus, could cause additional dilution if and when the Company needs toraise additional working  capital.**

** **

The sale, or availability for sale, of our restrictedcommon stock in the public market pursuant to Rule 144, in the ordinary course,or under our SB-2 registration statement that became effective on January 24,2005 has adversely 

 

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affected the prevailing market price of our common stock, and willlikely to do so in the future. Furthermore, due to the 13,928,493 common sharesregistered thereunder, and the 11,575,425 shares of restricted common stockthat have been held over one (1) year, and thus, are eligible for resale underRule 144, selling stockholders may continue to depress the price of our commonstock. Accordingly, the adverse market and pricing pressures resulting from theresale of their common stock may continue for an extended period of time andcontinue to depress the price of our common stock in the open market.  If these adverse market conditions persist,and the Company needs to secure additional working capital during 2006 and2007, such pricing pressure and market conditions could hinder our ability toraise capital, and/or raise capital on terms and conditions acceptable to theCompany. In addition, shareholders may experience dilution if and when theCompany raises additional capital by the sale of its equity securities under suchadverse market conditions.

 

The registration statement previously made publiclyavailable for resale 13,928,493 shares of our common stock, assuming theissuance of all shares of common stock issuable upon exercise of warrants.  This figure represents nearly 90% of allshares of our common stock available in the public market after theeffectiveness of the registration statement. Prior to the effective date of theSB-2 registration, we had 13,988,057 shares of our common stock outstanding, ofwhich only approximately 1,600,000 shares were available for sale.  When the registration statement becameeffective, all 13,928,493 of the shares offered thereby (which figure includes1,581,877 shares of common stock issuable upon exercise of outstandingwarrants) became available for sale.  Wemay issue additional shares in connection with our business and may grantadditional stock options to our employees, officers, directors and consultantsor warrants to third parties.  Sales of asubstantial number of shares of our common stock in the public market under theSB-2 registration, Rule 144, or otherwise, would adversely affect the marketprice for our common stock and make it more difficult to sell our shares.

 

**The commercialization of our products may be significantlydelayed by governmental regulation and any and all such delays, if they occur,may materially affect the Company and our operations.**

** **

The proposed products we intend to develop, assembleand market are subject to regulations by the United States Food and DrugAssociation (the “FDA”), and by comparable agencies in certain states andvarious foreign countries.  The processof complying with the requirements of the FDA, related agencies, and otherstate and foreign agencies is costly, time consuming, and burdensome,especially for a pre-revenue, development stage company.  Although we have secured the assistance ofregulatory consultants to help direct our regulatory compliance and filings, noassurances can be given that such filings will be acceptable to the FDA orother regulatory bodies.  Further, evenif acceptable, we may encounter significant delays which will materially andadversely affect our business plan.

 

**We are highly dependent on the services provided bycertain key personnel.**

** **

We are highly and materially dependent upon theservices of our executive officers and other key personnel, including MauriceR. Taylor II, Michael P. Grossman, Richard Thon, Alan Haggerty, and RichardCarlson.  We have not obtained “key-man”life insurance insuring the lives of any of these persons.  We have employment agreements in place withMr. Taylor, Mr. Thon, Mr. Grossman, and Mr. Haggerty, but if the services ofany of these persons become unavailable to us, for any reason, our businesscould be adversely affected.

 

**Our officers and directors possess substantial votingpower with respect to our common stock, which could adversely affect the marketprice of our common stock.**

** **

Our officers and directors collectively possessbeneficial ownership of 4,687,116 shares of our common stock, which representsapproximately 31.2% of the voting power of our common stock.  This represents a significant portion of thevoting power of the Company’s shareholders. As a result, our directors and officers will have the ability to substantially(but not wholly) control our management and affairs through the election andremoval of our entire board of directors, and all other matters requiringshareholder approval, including the future merger, consolidation or sale of allor substantially all of our assets.  Thisconcentrated control could discourage others from 

 

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initiating any potential merger, takeover or other change-of-controltransaction that may otherwise be beneficial to our shareholders.  As a result, the return on an investment inour common stock through the market price of our common stock or ultimate saleof our business could be adversely affected.

 

###### ***Assets Pledged to Secure Senior Bank Facility;Assets Not Available to Secure Other Senior Debt Financing; Assignment Of AllAssets to Guarantors in Event of Default.***

 

As discussed *infra,*and inour audited financial statements, our pending senior debt financing throughCrown Bank, NA, Minneapolis, Minnesota, has required us to pledge all ourassets and certain licenses, as well as provide certain accredited investors’personal guarantees. As such, the Company will not be in a position in thefuture to pledge its assets to secure any debt or lending facility, in theevent it desired or needed to borrow such funds on a secured lending basis.Moreover, under the terms and conditions of the foregoing facility, and ouragreement with such guarantors, in the event of any default by the Company withits senior lender, and personal guarantees are called and honoured, the Companyand its lender have agreed that all the Company’s assets shall be assigned tosuch guarantors, pro rata, in consideration of such breach and obligation topay under the respective guarantees. Thus, common shareholders of the Company,and any existing and future investors in the Company’s common stock, would, ifthe foregoing breach and circumstances occurred, not have access or recourse tothe Company’s assets and collateral, and thus, would likely face a completeloss of their investment in the Company.

 

**We license from third parties, and do not own orcontrol, key intellectual property critical to our products.**

** **

We have exclusively licensed from third partiesintellectual properties covered by patents and patent applications.  Although we have been advised by patentcounsel that such licensed technologies have received protection in proposedmajor market areas, no assurance can be given that such protections will beproperly maintained by the parties controlling such intellectual properties, orthat such licenses will be honored and not breached.  The intellectual property licensed from thirdparties includes technology that is critical to our proposed products.  If the parties controlling such intellectualproperty breach our licenses, or fail to adequately maintain, assert and defendsuch intellectual property, we may not be able to maintain the technological(and thereby competitive) edge we believe we possess.  Any such loss of intellectual-propertyprotections would likely have a materially adverse effect on the Company andits business.

 

**If we lose our right to license from third partiescertain critical intellectual properties, our entire business would be injeopardy.**

** **

The agreements pursuant to which we license criticalintellectual properties are not irrevocable. If we should lose our right to license and use any technology covered byour licenses, such loss would have a materially adverse effect on the Companyand our business.  In such a case, theviability of the Company’s business would be in question. Our only alternativeswould be to find existing and non-infringing technology to replace that lost(if any exists), or develop new technology ourselves.  The pursuit of any such alternative wouldlikely cause significant delay in the development and introduction of ourproposed products.

 

**The protections for the intellectual property we ownand license from other parties may be successfully challenged by third parties.**

** **

We own and, as noted above, license from third partiesvarious key intellectual properties.  Noassurance can be given that any intellectual-property claims will not besuccessfully challenged by third parties. Any challenge to our intellectual property, regardless of merit, wouldlikely involve costly litigation which would materially and adversely affectthe Company.  Moreover, if a challengewere successful, it is possible that the viability of the Company’s businesswould be in question.  If a successfulchallenge were made to intellectual property that is critical 

 

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to our proposed products, the pursuit of any such alternative wouldlikely cause significant delay in the development and introduction of suchproducts.

 

**Rapid technological change in our competitivemarketplace may render our proposed products obsolete or diminish our abilityto compete in the marketplace.**

** **

The urologic-products and medical device markets areextremely competitive, dominated by large and well financed competition, andsubject to rapid technological advances and changes.  The discovery of new technologies andadvances in the application of such technologies to the medical marketplace ingeneral, and the market for urologic products in particular, may render ourproducts obsolete or non-competitive. Any such changes and advances could force us to abandon our currentlyproposed products, which would have a material and adverse effect on theCompany and its business.

 

**We compete with many companies with greater resourcesthan us; we may not be able to compete against companies with greater resourcesthan us, or with any competition.**

** **

The urology-imaging and therapeutic businesses and themedical device and life sciences business in general, are extremely competitive.  We have experienced, and expect to continueexperiencing significant competition in the medical device market.  Although we believe we may have a proprietaryniche in the prostate-imaging and prostate-therapeutic marketplaces, manyfactors beyond our control, including government regulation, will likelyencourage new competitors.  Inparticular, several large companies will compete with us in theprostate-imaging and prostate-therapeutic business.  Many of the companies that will be in directcompetition with us have significantly greater resources, more personnel andlonger operating histories than we do. Therefore, no assurance can be given that we will be able tosuccessfully compete with these, or any other companies in the marketplace, ifat all.

 

**Our failure to receive third-party reimbursement forour products, when in the marketplace, would result in diminished marketabilityof our products.**

** **

We do not currently receive reimbursement from anyparty for the use our products because there are no products fully developedand for sale in the marketplace and we have taken no steps to obtain approvalfor reimbursement for the use of any of our proposed products.  Nevertheless, we are working to formulate theappropriate approach to obtaining and optimizing government and third-partyreimbursement for the use of our products. We expect that the use of our ProUroScan product will be eligible forreimbursement utilizing existing “Current Procedural Terminology” (“CPT”)codes.  In addition, and as explainedbelow, we believe that our therapeutic products will be used in procedureseligible for reimbursement as well, without negatively affecting reimbursementfor such procedures.  The success of ourfuture medical-device products will materially depend on the ability ofmedical-service providers to obtain third-party reimbursement from privateinsurance sources Medicare, Medicaid, and various foreign governments whenusing our products.  It may be difficultto predict the timing and outcome of reimbursement decisions.  Importantly, there are no assurances thatsuch reimbursement will ever be obtained.

 

Each procedure performed by a physician is assigned aspecific CPT code.  When a procedure isperformed, the physician must use the CPT code when billing third-party payerssuch as insurance companies or the government. The amount of reimbursement the physician receives depends on therelative value assigned to the procedure by the third-party payer via the CPTcoding.  When a new product or procedureis introduced, it must be submitted to the American Medical Association’s (AMA)CPT Editorial Panel, who determines if an existing code should be used, or if anew code should be issued.  However,before reaching the Editorial Panel, it must first be screened by the CPTAdvisory Committee and the appropriate national medical specialty societyseated in the AMA House of Delegates (for prostate-related procedures, this isthe American Urology Association, or AUA). The process of obtaining a new CPT code can take from one to threeyears.

 

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In the case of the ProUroScan diagnostic system, it isanticipated that the product will initially be positioned as an adjunctive testto be used in combination with the current DRE and PSA tests.  This will create an opportunity for the testto be classified and potentially reimbursed at comparable levels to these testsor in combination with the existing levels of reimbursement  that are already provided.  Our reimbursement consultants (Hogan andHartson) have suggested that a patient pay model that would require the testand the supporting services to be paid directly by the patient at the time thetest is performed is also a feasible approach in the short term.   Analogs exist that are similar to our testsuggest that this approach could be implemented with appropriate marketing andpatient educational materials.  In theabsence of formal reimbursement coverage, providers must give beneficiaries aMedicare Advance Beneficiary Notice (“ABN”) before furnishing a Part B servicewhen there is a reasonable doubt that Medicare will cover the procedure.  An ABN can be used for all situations,including laboratory tests, by all physicians and suppliers.  As the level of clinical and payment experienceexpands, we anticipate filing for a formal CPT procedure code and reimbursementas previously described. There can be no assurance that we will be successfulin obtaining a unique CPT code for use of the ProUroScan system.

 

Our therapeutic products are anticipated to be “add-on”enhancements to existing thermal therapy systems.  These existing systems are used in proceduresthat already have designated CPT codes. The use of our add-on enhancements is not expected to alter theestablished CPT codes for such procedures or otherwise affect reimbursement forsuch procedures.  We anticipate thatthese products will be sold to established thermal therapy companies and notdirectly to the medical service provider. Because the thermal therapy procedures utilizing the equipment providedby these established companies already have designated CPT codes, neither thereimbursement for such procedures nor our future revenues are directly relatedto or dependent upon the establishment of new CPT codes.  Nevertheless, if reimbursement levels underthe existing CPT codes were reduced for applicable thermal therapy procedures,such reduction may adversely affect our ability to sell therapeutic products ata reasonable price.

 

**Our common stock is illiquid and may be difficult tosell; OTC trading.**

** **

Trading of our common stock is conducted on theOver-the-Counter Bulletin Board, or “OTC Bulletin Board.”  Management believes this has an adverseeffect on the liquidity of our common stock, not only in terms of the number ofsecurities that can be bought and sold at a given price, but also throughdelays in the timing of transactions and reduction in analyst coverage of ourCompany.  This may result in lower pricesfor our common stock than might otherwise be obtained if our stock were tradedon a larger or more established exchange, such as NASDAQ Small Market CapMarket, or otherwise,, and could also result in a larger spread between the bidand asked prices for our common stock.

 

**There is currently little trading volume in our commonstock, which may make it difficult to sell shares of our common stock.**

** **

Since the Merger, there has been very little tradingactivity in our common stock.  Over thepast three months, the average daily trading volume (as reported by BigCharts.comand Yahoo Finance) has been only approximately 9,000 shares.  The relatively small trading volume willlikely make it difficult for our shareholders to sell their shares as and whenthey choose.  Furthermore, small tradingvolumes generally depress market prices. As a result, investors may not always be able to resell shares of ourcommon stock publicly at the time and prices that they feel is fair orappropriate.

 

**Because our stock is deemed a “penny stock,” you mayhave difficulty selling shares of our common stock.**

** **

Our common stock is a “penny stock” and is thereforesubject to the requirements of Rule 15g-9 under the Securities Exchange Act of1934.  Under this Rule, broker-dealerswho sell penny stocks must provide purchasers of these stocks with astandardized risk-disclosure document prepared by the SEC. The penny-stockrules severely limit the liquidity of securities in the secondary market, andmany brokers choose not to participate in penny-stock 

 

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transactions.  As a result, thereis generally less trading in penny stocks. If you become a holder of our common stock, you may not always be ableto resell shares of our common stock publicly at the time and prices that youfeel are fair or appropriate.  Underapplicable regulations, our common stock will generally remain a “penny stock”until and for such time as its per-share price is $5.00 or more (as determinedin accordance with SEC regulations), or until meet certain net asset or revenuethresholds.  These thresholds include thepossession of net tangible assets (i.e., total assets less intangible assetsand liabilities) in excess of $2,000,000 in the event we have been operatingfor at least three years or $5,000,000 in the event we have been operating forfewer than three years, and the recognition of average revenues equal to atleast $6,000,000 for each of the last three years.  We do not anticipate meeting any of thethresholds in the foreseeable future.

 

**Our ability to use operating loss carryforwards may belimited by future changes in equity ownership; possible change in control andlimitation of losses in future years to offset income**

** **

We have generated net operating loss carryforwards ofapproximately $2.0 million which, if not used, will begin to expire in2021.  Federal and state tax laws imposesignificant restrictions on the utilization of net operating loss carryforwardsin the event of a change in ownership of the Company that constitutes an “ownershipchange,” as defined by the Internal Revenue Code, Section 382.  Management has analyzed the Merger andPrivate Placement transactions that occurred in April, 2004, and believes thatthey do not constitute such an ownership change.  However, those transactions, together withpossible future changes during the subsequent 36-month period may constitute achange in ownership that could subject the Company’s use of its net operatingloss carryforward to the above limitations. Specifically, under certain conditions, the convertible debentures beingissued and proposed to be issued pursuant to the Company’s current debtfinancing described above may be converted into enough common shares to triggersuch a change in ownership.  Based on theCompany’s estimates, the Section 382 limitation would apply to all of the $2.0million net operating loss carryforward.

 

**Our business and products subject us to the risk ofproduct-liability claims.**

** **

The manufacture and sale of medical products and theconduct of clinical trials using new technology involve customary risks ofproduct-liability claims.  There can beno assurance that our insurance coverage limits will be adequate to protect usfrom any liabilities which we might incur in connection with the clinicaltrials or the commercialization of any of our products.  Product-liability insurance is expensive andin the future may not be available on acceptable terms, if at all.  A successful product-liability claim orseries of claims brought against us in excess of our insurance coverage wouldhave a materially adverse effect on our business, financial condition andresults of operations.  In addition, anyclaims, even if not ultimately successful, could adversely affect themarketplace’s acceptance of our products.

 

**We have never paid dividends, and do not expect to paydividends in the foreseeable future.**

** **

We have never paid dividends on our capital stock anddo not anticipate paying any dividends for the foreseeable future.

 

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###### ***ITEM 2: DESCRIPTION OF PROPERTY***

 

Our executive offices are located at One CarlsonParkway, Suite 124, Plymouth, Minnesota 55447, where we rent office space on amonth-to-month basis from a company majority-owned and controlled by our ChiefExecutive Officer, Mr. Taylor.  Our rentexpense for this location for the year ended December 31, 2005 was $47,354,which we believe is at or below market for similar office space in Minneapolis,Minnesota.  We believe that our officesare adequate to meet our current requirements. We do not own any real property.  Wehave no official policy on investments in real estate, interests in realestate, real-estate mortgages, or securities of or persons primarily engaged inreal estate activities.

 

**ITEM3:  LEGAL PROCEEDINGS**

 

**OnApril 2, 2004, a former officer and employee of ProUroCare Inc. filed a lawsuitagainst ProUroCare Inc. and the Company relating to his separation ofemployment with ProUroCare Inc. prior to the Merger.  On August 1, 2005, ProUroCare Inc. and theCompany agreed to settle this lawsuit to limit further costs of litigation anddistraction to management.  Thus thislawsuit was dismissed with prejudice. Under the settlement agreement, theCompany did not admit any wrong-doing, but agreed to pay $160,000 plusapplicable employment taxes in complete settlement of all claims. Subsequently,the Company, due to a lack of working capital, failed to pay the settlement sum,and a motion was brought against the Company to enforce the terms of thesettlement, which was denied by the court hearing the matter. In response, anew action was filed and served on the Company alleging breach of contract andseeking damages of $160,000, unspecified consequential damages, attorneys’fees, costs and pre- and post-award interest on all damages arising from thesettlement noted above. On March 3, 2006 the Company and ProUroCare Inc.settled this lawsuit.  Under thesettlement agreement, the Company paid $177,000 plus $1,924 of payroll taxes incomplete settlement of all claims and a dismissal of the former employeesclaim.  Accordingly, the Company recordeda reserve of $178,924 for the settlement in the year ended December 31, 2005.**

 

**ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**

 

None.

 

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**PART II**

 

**ITEM 5:  MARKETFOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS**

 

**General**

** **

Our common stock has been quoted on theOver-the-Counter Bulletin Board, or “OTC Bulletin Board,” since December2003.  Our common stock currently tradeson the OTC Bulletin Board under the trading symbol “PRRC.”  Prior to May 5, 2004, the Company’ssecurities traded on the OTC Bulletin Board under the trading symbol “GICI.”  This change was made following the Merger ofGlobal internet Communications and ProUroCare Inc. on April 5, 2004.  The following table lists the high and lowbid information for the Company’s common stock as quoted on the OTC BulletinBoard by quarter for the years ended December 31, 2005 and 2004:

 
| ** **         | ** ** | **Price Range** | ** ** |
|--------------------|------------|-----------------|------------|
| **Quarter Ended**  | ** ** | **High**        | ** ** | **Low** | ** ** |
| March 31, 2004     |       | $               | 5.00       |   | $ | 0.48 |   |
| June 30, 2004      |       | $               | 3.45       |   | $ | 1.90 |   |
| September 30, 2004 |       | $               | 3.55       |   | $ | 2.05 |   |
| December 31, 2004  |       | $               | 2.40       |   | $ | 1.48 |   |
| March 31, 2005     |       | $               | 2.35       |   | $ | 1.05 |   |
| June 30, 2005      |       | $               | 1.35       |   | $ | 0.55 |   |
| September 30, 2005 |       | $               | 1.02       |   | $ | 0.55 |   |
| December 31, 2005  |       | $               | 1.23       |   | $ | 0.35 |   |

 

The abovequotations from the OTC Bulletin Board reflect inter-dealer prices, withoutretail mark-up, mark-down or commission, and may not represent actualtransactions.  The number of holders ofrecord of our common stock as of December 31, 2005 was approximately 244.  We have not paid or declared any dividends onour common stock and we do not anticipate paying dividends on our common stockin the foreseeable future.

 

**Recent Sales of Unregistered Securities**

 

Stock Transactions:

 

On December 30, 2005, the Company issued 45,413 shares of common stock to its current and former directors in satisfaction of accrued director’s fees in the amount of $40,418.  The shares were issued under Section 4(2) of the Securities Act of 1933, as amended, as such transaction involved a non-public offering of common stock to a limited number of subscribers.

 

Warrant Issuances:

 

**OnOctober 19, 2005, we issued five-year warrants to an individual lender andthree individual loan guarantors to acquire up to 200,000 shares of our commonstock at $0.50 per share as consideration to provide such credit to the Companyand the respective loan guarantees.  Thewarrants were issued in a private placement under Section 4(2) of theSecurities Act**of 1933, as amended, as such transaction was a non-publicoffering of common stock to a limited number of subscribers.

 

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**ITEM 6:  MANAGEMENT’SDISCUSSION AND ANALYSIS OR PLAN OF OPERATION**

 

The accompanying Plan of Operation should be read inconjunction with the audited financial statements, and notes thereto, includedin this annual report.

 

**Plan of Operation**

** **

***Assets; Property Acquisitions andDispositions*****.**

 

Our primary assets are cash and intellectual-propertyrights, which are the foundation for our proposed product offerings.  As we prepare for FDA submission and marketlaunch of our ProUroScan product, we expect to add four to five employees inthe areas of engineering and regulatory compliance within the next 12months.  Other than certain computerequipment and software acquisitions with a total cost of under $100,000, we donot anticipate purchasing or selling any significant equipment or other assetsin the near term.

 

***I******nitial Product Offerings.***

 

Our initial product is the ProUroScan system,developed and designed as a unique diagnostic-imaging system that enablesphysicians to accurately display and chart a prostate examination for diseasescreening and diagnosis.  Based onpreliminary testing on both models and actual patients in clinical settings, webelieve the ProUroScan’s proprietary imaging system will produce a digitalimage of the prostate showing the size of the prostate and the location oftissue abnormalities within the prostate. We believe that ProUroScan will enable a physician to detect hardness inthe prostate more accurately than with their finger, assess areas of theprostate that the physician cannot reach with their finger, and producequantifiable and chartable results.

 

The current pre-clinical version of the ProUroScan wasdeveloped under two research and development agreements with ArtannLaboratories (“Artann”).  Two working,pre-clinical ProUroScan systems were delivered by Artann in late November 2004,and have undergone extensive bench and laboratory testing to confirm thefunction of the system components and the overall operating system.  We continue to have on-going discussions withArtann concerning past and future development in connection with a prospectivegrant award from the National Institute of Health.  In March, 2006 we entered into a relationshipwith Devicix, LLC of Chaska, Minnesota to continue development work on thesystem.  Upon completion of thisdevelopment work, we expect to have systems ready for clinical studies.  The data generated from these studies will beused by the Company in making a 510K submission to the FDA.

 

The exact path we will follow to gain FDA clearancewill depend upon feedback we will receive at a meeting we intend to have withthe FDA in the second quarter of 2006. Assuming the path outlined above is acceptable to the FDA, we expect toconduct clinical trials and make a formal submission to the FDA during 2006 asoutlined above.  Recently published FDAstatistics indicate the average time from receipt of a 510K application tofinal action is 65 days, with 90% completed in less than 180 days.  Based on this data, assuming that the resultsof clinical trials pose no unanticipated problems, we expect to receive FDAconcurrence within 90 – 180 days after the 510K application is filed.  See “Government Regulation” above.

 

Over time, after receiving our initial FDA 510Kapproval and launching the system into the market, we plan to file moreadvanced claims involving enhanced features and functions of the ProUroScan system.  Depending on the exact nature of these moreadvanced claims, the approval process may require more extensive clinicalstudies and possibly a full pre-market approval (PMA) application.  Such an application likely will be takesignificantly more time and be more expensive than our 510K approval process.

 

27

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We have also licensed rights to technology that offerssignificant enhancements to existing microwave thermal therapy for treatment ofbenign prostate hyperplasia (“BPH”).  Weintend to use this technology to develop a means for urologists to observe and directthe application of heat to diseased portions of the prostate during thermaltherapy procedures. This work will be performed under a joint developmentagreement with Urologix, Inc.

 

***Current Operations and Expenses*****.**

 

We currently employ three executive officers, twofunctional area Vice Presidents, and one other employee.  We conduct our research and development,market research, regulatory function, and other business operations through theuse of a variety of consultants and medical-device developmentcontractors.  We believe that usingconsultants and contractors to perform these functions is more cost effectivethan hiring full-time employees, and affords the Company flexibility indirecting our resources toward specific and changing goals during ourdevelopment stage.  As we prepares for FDAsubmission and market launch of our ProUroScan product, we expect to add fourto five employees in the areas of engineering and regulatory compliance withinthe next 12 months.  During the next 12months, we expect to complete the development of clinical ProUroScan systems,conduct clinical trials, and file a 510(k) submission with the FDA; funddevelopment work on our therapeutic products; and prepare for initial marketlaunch.

 

***General and Administrative Expenses***

 

We incur ongoing expenses that are directly related tobeing a publicly traded company, including professional audit and legal fees,financial printing, press releases, and transfer agent fees.  Our facilities consist of a month-to-monthrental of approximately 2,200 square feet in an office that we share withanother company. Other expenses incurred include travel, insurance, telephone,supplies, and other miscellaneous expenses. During this time the Companyanticipates that it will spend approximately $1.3 million in marketing andadministrative expenses.  Of these, theCompany expects that approximately $840,000 will be for compensation, benefits,and payroll taxes.

 

***Research and Development***.

 

The Company anticipates that it will spend between $2.5and $2.6 million on research and product development of the ProUroScan systemover the next 12 months.  Of this amount,approximately $800,000-$850,000 will be spent on manufacturing, engineering,validation and documentation efforts with a contracted medical-productsdevelopment company.  Clinical trials andthe 510(k) filing with the FDA are expected to cost in the range of $375,000-425,000.  ProUroScan systems created for developmentand clinical use are expected to cost between $200,000 and $250,000.  Internal salaries, benefits, andmiscellaneous departmental expenses for software and hardware development,regulatory work, and project management are estimated to be approximately $1.2million.

 

For the Company’s thermal therapy products, we expectthat research and development efforts will be funded primarily through a jointdevelopment and marketing arrangement with a thermal therapy company.  Management expects that the Company willspend between $150,000 and $175,000 over the next twelve months in this jointdevelopment effort.

 

***Year Ended December 31, 2005 vs.2004*****. **
| ** **                                      | ** ** | **2005** | ** ** | **2004** | ** ** | **Increase  (Decrease)** | ** ** | **% Change** | ** ** |
|-------------------------------------------------|------------|----------|------------|----------|------------|--------------------------|------------|--------------|------------|
| General & administrative expenses (G&A) |       | $        | 1,670,893  |     | $          | 1,141,467                |       | $            | 529,426    |   | 46 | % |
|                                                 |            |          |            |          |            |                          |            |              |            |  |  |  |

 

Changes in significant components of G&A are asfollows:

 

•      G&A employee compensation costs (salary, payrolltaxes, and benefits) for the year ended December 31, 2005 were approximately $773,000,compared to $354,000 in the prior year period. The increased compensation 

 

28

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expense resultedfrom the addition of our Vice-President of Sales and Marketing in January of2005, and the addition of our Chief Financial Officer in July, 2004.  In addition, an accrual for incentive bonus wasmade in 2005, while none was made in 2004.

 

•      The Company recorded stock-based G&A compensationexpenses of approximately $291,000 for the year ended December 31, 2005,compared to approximately $220,000 for the comparable 2004 periods.  The increases are attributable to new optionissuances to the Company’s Vice-President of Sales and Marketing and ChiefFinancial Officer upon their hiring in January 2005 and July 2004,respectively.

 

•      The Company has a limited number of employees, andutilizes consultants in various fields to achieve its goals during itsdevelopment phase.  Until his hiring on July21, 2004, the Company’s Chief Financial Officer provided his services on apart-time consulting basis.  Consultingfees related to these services were approximately $61,000 for the year endedDecember 31, 2004.  Other consultingexpenses recorded as general and administrative costs totaled approximately $28,000in the year ended December 31, 2005. These expenses were primarily for various consultants specializing inmarket analysis, reimbursement and medical advising.  For the year ended December 31, 2004,consulting expenses for similar activities totaled approximately $79,000.  The year-to-year decrease is due to areduction in these activities resulting from a lack of available funding.

 

•      Professional fees related to auditing, patent filingand maintenance, and legal proceedings concerning the separation of employmentof a former officer of PUC totaled approximately $160,000 and $150,000 duringthe years ended December 31, 2005 and 2004, respectively.

 

•      An approximate $100,000 contingent expense related tothe separation-of-employment legal proceeding was recorded during the yearended December 31, 2005, which was in addition to a $75,000 contingent expenserelated to the same matter that was recorded during the year ended December 31,2004.

 

•      Legal, accounting, insurance, and other expenses ofbeing a public company of approximately $92,000 were recorded during fiscal 2005compared to approximately $71,000 during fiscal 2004.  The lower 2004 expense is a result of theCompany becoming public following the merger in April, 2004, thus not incurringsuch expenses in the first quarter of that year.

 
| ** **                                 | ** ** | **2005** | ** ** | **2004** | ** ** | **Increase  (Decrease)** | ** ** | **% Change** | ** ** |
|--------------------------------------------|------------|----------|------------|----------|------------|--------------------------|------------|--------------|------------|
| Research and development expense (R&D) |       | $        | 261,729    |     | $          | 708,164                  |       | $            | (446,435   | ) | (63 | )% |
|                                            |            |          |            |          |            |                          |            |              |            |  |  |  |

 

Changes in significant components of R&D are asfollows:

 

•      R&D employee compensation costs (salary, payrolltaxes, and benefits) for the year ended December 31, 2005 were approximately$50,000 stemming from the addition of our Vice-President of Engineering inSeptember, 2005. No employee compensation expense was recorded during 2004.

 

•      Contracted development costs decreased fromapproximately $631,000 in the year ended December 31, 2004 to approximately $114,000during the year ended December 31, 2005. The decrease follows the curtailment of most external developmentactivities due to lack of available funding beginning in the first quarter of2005. Development costs during 2004 include the value of warrants issued to ourdevelopment partners valued at approximately $281,000.

 

•      The Company engaged consultants in the areas ofregulatory guidance, product development and engineering. Expenses related tothese consulting activities were approximately $ 46,000 and $65,000 for theyears ended 

 

29

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December 31, 2005and 2004, respectively.  Again, thedecrease in expense was a result of the lack of available funding beginning inthe first quarter of 2005.

 
| ** **       | ** ** | **2005** | ** ** | **2004** | ** ** | **Increase  (Decrease)** | ** ** | **% Change** | ** ** |
|------------------|------------|----------|------------|----------|------------|--------------------------|------------|--------------|------------|
| Interest income  |       | $        | 446        |     | $          | 16,034                   |       | $            | (15,588    | ) | (97 | )% |
| Interest expense |       | $        | 95,880     |     | $          | 485,299                  |       | $            | (389,419   | ) | (80 | )% |

 

•      Interest income in 2004 was generated from bankinterest on the proceeds of the Private Placement.  As these funds were depleted, the interestearned declined accordingly.

 

•      Interest and finance charges related to bank loans andother outstanding debts totaled approximately $26,000 during the year endedDecember 31, 2005 compared to approximately $92,000 in 2004.   In 2003, 2004, and 2005, the Company issuedwarrants to certain loan guarantors as an incentive to provide theirguarantees.  The cost of these warrantswas expensed over the terms of their respective loans.  Interest expense during the year ended December31, 2005 related to warrants issued was approximately $70,000.   Interestexpense during the year ended December 31, 2004 related to warrants issued wasapproximately $394,000, of which approximately $310,000 related to warrantsissued to loan guarantors under the terms of price and dilution protectionprovisions of their original warrants issued in 2003.

 

**Liquidity and CapitalResources**

** **

We had a working capital (deficit) of approximately$(1,499,000) and $23,000 at December 31, 2005 and 2004, respectively.  Cash used in operations was approximately $732,000and $2,106,000 for the years ended December 31, 2005 and 2004, respectively,and $4,602,000 for the period from August 17, 1999 (date of inception) to December31, 2005.

 

The primary use of cash in the year ended December 31,2005 was to fund our operating losses and to repay approximately $60,000pursuant to an unsecured promissory note with a vendor and a $100,000 bankpromissory note. The primary use of cash in the period from August 17, 1999(inception) through December 31, 2005, in addition to funding our net loss, wasto pay $750,000 to Profile, LLC to redeem their common stock, including$650,000 (plus accrued interest) in relation to a note payable, arising fromtheir exercise of dissenter’s rights at the time of the Merger.  Cash was also used to fund the approximate$163,000 cost of the Merger, to repay approximately $242,000 pursuant to anunsecured promissory note with a vendor, repay a $100,000 bank promissory note,and to acquire approximately $21,000 of office furniture and computerequipment.

 

Common stock and warrants have also been used to funda portion of our operating loss in these periods.  Common stock was issued to pay forapproximately $193,000 of consulting services, $40,000 of accrued director’sfees, and approximately $89,000 of interest for the period from August 17, 1999(date of inception) to December 31, 2005. Warrants were used to pay for approximately $469,000 of contracteddevelopment costs for the period from August 17, 1999 (date of inception) to December31, 2005.

 

Pursuant to terms of the Research and DevelopmentAgreement with Artann Laboratories, Inc. and Armen Sarvazyan of July 2004, weare required to pay $250,000 for development services to be rendered throughJuly 2007, based on achievement of certain performance milestones.  As of December 31, 2005, we had paid $150,000to Artann Laboratories under the Research and Development Agreement.

 

On October 12,2004, we reached an agreement with one of our ProUroScan research anddevelopment contractors, Minnetronix Inc., regarding payment of amounts due toMinnetronix for past and future work. Under this agreement, we paid $80,538 of our outstanding balance due toMinnetronix, and issued an unsecured promissory note for the remaining balanceof $241,613.  In addition, the Companypaid $200,000 to Minnetronix as a deposit on future development work, to beapplied to the last mutually agreed-upon project expenses.  On April 18, 2005, we applied a 

 

30

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portion of the deposit topay off the balance of the unsecured promissory note and certain open invoicesfrom Minnetronix.  On July 25, 2005,Minnetronix returned $9,900 of the deposit. The remaining balance of the deposit is being held by Minnetronix and isbeing applied against their contracted work. As of December 31, 2005 theremaining balance of the deposit was $547.

 

**OnMarch 31, 2005 we borrowed $100,000 from a financial institution pursuant to apromissory note secured by substantially all assets of the Company and aguaranty by our Chief Executive Officer, Mr. Taylor.  On July 2, 2005 the due date of the note wasextended to October 2, 2005.  On October20, 2005 this note was amended and restated, as described below.**

** **

On April 11, 2005 we engaged a placement agent andcommenced a private placement of securities to institutional investors tosecure additional working capital.  OnMay 13, 2005 we issued 50,000 shares of common stock to the placement agentpursuant to the placement agency agreement. The placement agent was unable to secure capital on terms that wereacceptable to the Company and the private placement was abandoned in August,2005.  Costs associated with thisplacement effort were recorded as general and administrative expenses in theyear ended December 31, 2005.

 

On June 15, 2005we sold 65,790 shares of our common stock to one accredited investor outside ofthe placement agency agreement.  Netproceeds received from this investment were $50,000.

 

**OnAugust 1, 2005, ProUroCare Inc. and the Company agreed to settle a lawsuit witha former officer and employee of the Company to limit further costs oflitigation and the lawsuit was dismissed with prejudice. Under the settlement,the Company did not admit any wrong-doing, but agreed to pay $160,000 plusapplicable employment taxes in complete settlement of all claims. Subsequently,the Company failed to pay this settlement due to lack of funds, and a motionwas brought against the Company to enforce the terms of the settlement. Thismotion was denied by the court. In response, a new action was filed and servedon the Company alleging breach of contract and seeking damages of $160,000,unspecified consequential damages, attorneys’ fees, costs and pre- and post-awardinterest on all damages arising from the settlement noted above.  On March 3, 2006 the Company and ProUroCareInc. settled this lawsuit.  Under thesettlement agreement, we paid $177,000 plus $1,924 of payroll taxes in completesettlement of all claims and a dismissal of the former employees claim.  Accordingly, we recorded a reserve of$178,924 for the settlement in the year ended December 31, 2005.**

** **

EffectiveSeptember 1, 2005, we engaged new outside Corporate and Securities Law Counsel,Venture Law Resources, PLLC (VLR), Bloomington, Minnesota.  Pursuant to this engagement, VLR agreed torepresent the Company as its General Counsel and to assist with theintroduction of investors to the Company from time to time as requested,including potential success based compensation arising from services as afinder if successful. Under its agreement with VLR, we issued 25,000 shares ofcommon stock in lieu of a standard cash retainer in connection with VLR’sengagement.  The shares issued to VLRwere valued at $17,750, based upon the fair market value of our common stock onthe date of grant.  In February, 2006, anadditional 25,000 common shares were issued to VLR pursuant to theirengagement.

 

**OnSeptember 14, 2005 ProUroCare Inc., our wholly owned subsidiary, borrowed$100,000 from a financial institution and in connection therewith issued apromissory note to such financial institution. The promissory note was collateralized by the assets of the businessunder an existing Commercial Security Agreement with the financial institutionand a commercial guaranty signed by an investor, and bore interest at an annualrate of 8.0%.  The promissory note wasrepaid on February 16, 2006.  Inconnection with the commercial guaranty, we issued a five-year warrant to theinvestor to purchase 25,000 shares of our common stock at $0.50 per share.  On October 19, 2005, we issued anotherfive-year warrant to the investor to purchase 25,000 shares of our common stockat $0.50 per share.**

** **

**OnSeptember 21, 2005 ProUroCare Inc., borrowed $100,000 from an unrelatedindividual lender, and in connection therewith issued to the lender apromissory note.  The promissory note boreinterest at an annual rate of Prime less one-half percent and was repaid onFebruary 16, 2006.  In connection withthe promissory note, we issued a five-year warrant to the lender to purchase25,000 shares of our common stock at $0.50 per share.  On October 19, 2005, we issued anotherfive-year warrant to the lender to acquire 25,000 shares of common stock at$0.50 per share.**

** **

**31**

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** **

**OnOctober 20, 2005, our wholly-owned subsidiary, ProUroCare Inc., borrowed$300,000 from a financial institution. The loan was evidenced by a promissory note and collateralized by two$150,000 Commercial Guaranties provided by two investors.  The promissory note bore interest at anannual rate of 8.75% and was repaid on February 16, 2006.  In connection with the Commercial Guaranties,we issued five-year warrants to the guarantors to acquire up to 150,000 sharesof our common stock at $0.50 per share. The new promissory note amended an existing $100,000 promissory notefirst issued on March 31, 2005.  Underthe amended promissory note, a personal guaranty of the previous promissory noteby ProUroCare Medical Inc.’s Chairman and CEO, Mr. Taylor, was released.**

** **

These $400,000 of borrowings in September and October,2005 enabled the Company to meet certain immediate obligations and re-initiatelimited development work on the ProUroScan system.

 

In November 2005, we commenced a senior debt creditfinancing led by Crown Bank, NA in Minneapolis, Minnesota. This $6 million debtfinancing will be used to fund our 2006 working capital needs, fund our losses,complete the development of our products and fund us until we secure initialFDA market clearance. This $6 million credit facility is secured by all theCompany’s assets, and personally guaranteed by certain individual guarantors.As of the date of this annual report, the Company had already closed on $2.2million of this credit facility and has received verbal commitments andsubscriptions from individual guarantors for a majority of the remaining $3.8million.  Nevertheless, management cangive no assurance that these verbal commitments or subscriptions will behonored, nor that the remaining $3.8 million will be secured on a timely basisin 2006, or at all.

 

As consideration to the guarantors to provide theirguarantees for this $6 million bank credit facility, the Company intends toissue up to $2 million of unsecured convertible 10% debentures that are due in36 months.  The debentures areconvertible at the holders’ option into an aggregate of 4,000,000 shares ofcommon stock (up to 6,666,667 shares if the underlying senior credit facility isnot retired by October 31, 2007).  Ifadditional funds are raised by the issuance of equity securities, such asthrough the issuance of stock or the issuance and exercise of warrants, thenexisting shareholders will experience dilution of their ownershipinterest.  If additional funds are raisedby the issuance of debt or other equity instruments, the Company may becomesubject to certain operational limitations, and such securities may have rightssenior to those of existing holders of common stock.

 

If adequate funds are not available during 2006, ornot available on acceptable terms during 2006, the Company may be unable tofund expansion or complete the development or enhancement of its products.  If the Company is forced to slow itsdevelopment programs, or put them on hold pending securing financing, it coulddelay market entry. Ultimately, if no additional financing is obtained on atimely basis, or at all, we could be forced to cease operations.  See “RISK FACTORS ASSOCIATED WITH OURBUSINESS, OPERATIONS AND SECURITIES”, page 16.

 

**Critical Accounting Policies**

 

The Company’s critical accounting policies are those(i) having the most impact on the reporting of its financial condition andresults, and (ii) requiring significant judgments and estimates.  Due to the development-stage nature of theCompany’s current operations, the Company does not believe it has any criticalpolicies or procedures.

 

32

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**ITEM 7: FINANCIAL STATEMENTS**

 

The following financial statements areincluded:

 
| Report of  Independent Registered Public Accounting Firm       |   |
|----------------------------------------------------------------|--------|
|                                                           |   |
| Audited Financial Statements:                                  |   |
|                                                           |   |
| Consolidated Balance  Sheets                                   |   |
|                                                           |   |
| Consolidated  Statements of Operations                         |   |
|                                                           |   |
| Consolidated  Statement of Shareholders’ Equity (Deficit) |   |
|                                                           |   |
| Consolidated  Statements of Cash Flows                         |   |
|                                                           |   |
| Notes to  Consolidated Financial Statements                    |   |

 

33

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**REPORT OF INDEPENDENT REGISTEREDPUBLIC ACCOUNTING FIRM**

 

To the Shareholders, Audit Committee and Board of Directors

ProUroCare Medical Inc.

Plymouth, MN

 

We have audited the accompanying consolidated balance sheets ofProUroCare Medical Inc. (formerly known as ProUroCare, Inc.) (a developmentstage company) as of December 31, 2005 and 2004, and the related consolidatedstatements of operations, shareholders’ equity (deficit) and cash flows for theyears then ended and the period from August 17, 1999 (inception) to December31, 2005.  These consolidated financialstatements are the responsibility of the company’s management.  Our responsibility is to express an opinionon these consolidated financial statements based on our audits.

 

We conducted our audits in accordance with the standards of the PublicCompany Accounting Oversight Board (United States).  Those standards require that we plan andperform the audit to obtain reasonable assurance about whether the financial statementsare free of material misstatement.  Anaudit includes examining, on a test basis, evidence supporting the amounts anddisclosures in the financial statements. An audit also includes assessing the accounting principles used andsignificant estimates made by management as well as evaluating the overallfinancial statement presentation.  Webelieve that our audits provide a reasonable basis for our opinion.

 

In our opinion, the consolidated financial statements referred to abovepresent fairly, in all material respects, the financial position of ProUroCareMedical Inc. as of December 31, 2005 and 2004 and the results of theiroperations and their cash flows for the years then ended and the period fromAugust 17, 1999 (inception) to December 31, 2005, in conformity with U.S.generally accepted accounting principles.

 

The accompanying consolidated financial statements have been preparedassuming that the Company will continue as a going concern.  As discussed in Note 2 to the consolidatedfinancial statements, the Company has recurring operating losses, negative cashflows from operations, a working capital deficit, and a shareholders’  equity (deficit) that raise substantial doubtabout its ability to continue as a going concern.  Management’s plans (including a pendingfinancing) in regards to these matters are also described in Note 2.  The consolidated financial statements do notinclude any adjustments that might result from the outcome of this uncertainty.

 
|   | /s/ Virchow, Krause  & Company, LLP |
|--------|-----------------------------------------|

 

Minneapolis, Minnesota

January 27, 2006 (except as to Note 16, as to which the date is March 3,2006)

 

34

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**ProUroCareMedical Inc.**

(A Development StageCompany)

Consolidated BalanceSheets

 
| ** **                                                                                                                        | ** ** | **December 31,** | ** ** | **December 31,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                                                                                                                        | ** ** | **2005**         | ** ** | **2004**         | ** ** |
| **Assets**                                                                                                                        | ** ** | ** **       | ** ** | ** **       | ** ** |
| Current assets:                                                                                                                   |       |             |       |             |       |
| Cash                                                                                                                              |       | $                | 37         |             | $          | 301,522 |   |
| Deposit                                                                                                                           |       | 547              |       | 200,000          |       |
| Prepaid expenses                                                                                                                  |       | 12,483           |       | 19,336           |       |
| Total current  assets                                                                                                             |       | 13,067           |       | 520,858          |       |
| Equipment and furniture, net                                                                                                      |       | 7,636            |       | 12,587           |       |
| Deferred offering expenses                                                                                                        |       | 37,881           |       | —           |       |
| Debt issuance costs, net                                                                                                          |       | 52,727           |       | —           |       |
|                                                                                                                              |       | $                | 111,311    |             | $          | 533,445 |   |
|                                                                                                                              |       |             |       |             |       |
| **Liabilities  and Shareholders’ Equity (Deficit)**                                                                          |       |             |       |             |       |
| Current liabilities:                                                                                                              |       |             |       |             |       |
| Notes payable,  bank                                                                                                              |       | $                | 400,000    |             | $          | — |   |
| Notes payable,  net of original issue discount                                                                                    |       | 87,816           |       | 202,341          |       |
| Accounts payable                                                                                                                  |       | 387,302          |       | 112,602          |       |
| Accrued expenses                                                                                                                  |       | 627,872          |       | 174,025          |       |
| Due to Clinical  Network, Inc.                                                                                                    |       | 8,943            |       | 8,943            |       |
| Total current  liabilities                                                                                                        |       | 1,511,933        |       | 497,911          |       |
|                                                                                                                              |       |             |       |             |       |
| Commitments and contingencies (note 6)                                                                                            |       |             |       |             |       |
|                                                                                                                              |       |             |       |             |       |
| Shareholders’ equity (deficit):                                                                                              |       |             |       |             |       |
| Common stock,  $0.00001 par value. Authorized 100,000,000 shares; issued and outstanding 14,174,260  and 13,988,057, respectively |       | 142              |       | 140              |       |
| Additional paid-in  capital                                                                                                       |       | 8,804,181        |       | 8,212,283        |       |
| Deficit  accumulated during the development stage                                                                                 |       | (10,204,945      | )          | (8,176,889       | )          |
| Total  shareholders’ equity (deficit)                                                                                        |       | (1,400,622       | )          | 35,534           |       |
|                                                                                                                              |       | $                | 111,311    |             | $          | 533,445 |   |

 

See accompanyingnotes to consolidated financial statements.

 

35

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**ProUroCareMedical Inc.**

(A Development StageCompany)

 

Consolidated Statementsof Operations

 
| ** **                                     | ** ** | ** **       | ** ** | ** **       | ** ** | **Period from**    | ** ** |
|------------------------------------------------|------------|------------------|------------|------------------|------------|--------------------|------------|
| ** **                                     | ** ** | ** **       | ** ** | ** **       | ** ** | **August 17,**     | ** ** |
| ** **                                     | ** ** | ** **       | ** ** | ** **       | ** ** | **1999**           | ** ** |
| ** **                                     | ** ** | **Year ended**   | ** ** | **Year ended**   | ** ** | **(inception) to** | ** ** |
| ** **                                     | ** ** | **December 31,** | ** ** | **December 31,** | ** ** | **December 31,**   | ** ** |
| ** **                                     | ** ** | **2005**         | ** ** | **2004**         | ** ** | **2005**           | ** ** |
| Operating expenses:                            |       |             |       |             |       |               |       |
| Research and  development                      |       | $                | 261,729    |             | $          | 708,164            |       | $ | 4,467,805 |   |
| General and  administrative                    |       | 1,670,893        |       | 1,141,467        |       | 4,903,172          |       |
|                                           |       |             |       |             |       |               |       |
| Total operating  expenses                      |       | 1,932,622        |       | 1,849,631        |       | 9,370,977          |       |
|                                           |       |             |       |             |       |               |       |
| Operating loss                                 |       | (1,932,622       | )          | (1,849,631       | )          | (9,370,977         | )          |
|                                           |       |             |       |             |       |               |       |
| Interest income                                |       | 446              |       | 16,034           |       | 16,480             |       |
| Interest expense                               |       | (95,880          | )          | (485,299         | )          | (850,448           | )          |
|                                           |       |             |       |             |       |               |       |
| Net loss                                       |       | $                | (2,028,056 | )                | $          | (2,318,896         | )          | $ | (10,204,945 | ) |
|                                           |       |             |       |             |       |               |       |
| Net loss per common share:                     |       |             |       |             |       |               |       |
| Basic and diluted                              |       | $                | (0.14      | )                | $          | (0.18              | )          | $ | (1.29 | ) |
|                                           |       |             |       |             |       |               |       |
| Weighted average number of shares outstanding: |       |             |       |             |       |               |       |
| Basic and  diluted                             |       | 14,063,160       |       | 13,002,276       |       | 7,905,686          |       |

 

See accompanyingnotes to consolidated financial statements.

 

36

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**ProUroCareMedical Inc.**

(A DevelopmentStage Company)

 

ConsolidatedStatements of Shareholders’ Equity (Deficit)

 
| ** **                                                                                                                                                 | ** ** | ** **       | ** ** | ** **  | ** ** | ** **      | ** ** | **Deficit**            | ** ** | ** **           | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------|------------|-------------|------------|-----------------|------------|------------------------|------------|----------------------|------------|
| ** **                                                                                                                                                 | ** ** | ** **       | ** ** | ** **  | ** ** | ** **      | ** ** | **accumulated**        | ** ** | ** **           | ** ** |
| ** **                                                                                                                                                 | ** ** | ** **       | ** ** | ** **  | ** ** | **Additional**  | ** ** | **during the**         | ** ** | **Total**            | ** ** |
| ** **                                                                                                                                                 | ** ** | **Common stock** | ** ** | **paid-in** | ** ** | **development** | ** ** | **shareholders’** | ** ** |
| ** **                                                                                                                                                 | ** ** | **Shares**       | ** ** | **Amount**  | ** ** | **capital**     | ** ** | **stage**              | ** ** | **equity (deficit)** | ** ** |
| **Balance at inception, August 17, 1999**                                                                                                                  |       |             |       |        |       |            |       |                   |       |                 |       |
| Net loss for the  period from inception to December 31, 1999                                                                                               |       | —           |       | $           | —     |            | $          | —                 |       | $                    | —     |   | $ | — |   |
| **Balance,  December 31, 1999**                                                                                                                            | ** ** | **—**       | ** ** | **—**  | ** ** | **—**      | ** ** | **—**             | ** ** | **—**           | ** ** |
| Net loss for the  year ended December 31, 2000                                                                                                             |       | —           |       | —      |       | —          |       | —                 |       | —               |       |
| **Balance,  December 31, 2000**                                                                                                                            | ** ** | **—**       | ** ** | **—**  | ** ** | **—**      | ** ** | **—**             | ** ** | **—**           | ** ** |
| Issuance of  common stock to founders at $3.33 per share on March 1, 2001                                                                                  |       | 6                |       | —      |       | 20              |       | —                 |       | 20                   |       |
| Cancellation of  founders’ shares, March 6, 2001                                                                                                      |       | (6               | )          | —      |       | (20             | )          | —                 |       | (20                  | )          |
| Recapitalization  and transfer of common stock to Clinical Network, Inc. July 6, 2001                                                                      |       | 3,000,000        |       | 30          |       | (30             | )          | —                 |       | —               |       |
| Issuance of  common stock to CS Medical Technologies, LLC as consideration for technology  license agreement on July 6, 2001, valued at $0.158 per share   |       | 3,000,000        |       | 30          |       | 474,970         |       | —                 |       | 475,000              |       |
| Net loss for the  year ended December 31, 2001                                                                                                             |       | —           |       | —      |       | —          |       | (612,533               | )          | (612,533             | )          |
| **Balance,  December 31, 2001**                                                                                                                            | ** ** | **6,000,000**    | ** ** | **60**      | ** ** | **474,940**     | ** ** | **(612,533**           | **)**      | **(137,533**         | **)**      |
| Issuance of  common stock valued at $0.429 per share to Profile LLC for technology  license, January 14, 2002                                              |       | 3,999,999        |       | 40          |       | 1,713,560       |       | —                 |       | 1,713,600            |       |
| Issuance of  common stock at $2.33 per share for services rendered, November 14, 2002                                                                      |       | 44,214           |       | —      |       | 103,166         |       | —                 |       | 103,166              |       |
| Issuance of  common stock for cash at $2.33 per share on November 22, 2002, net of costs  of $193,386                                                      |       | 453,345          |       | 5           |       | 864,414         |       | —                 |       | 864,419              |       |
| Options to  purchase 900,000 shares issued to officers and directors, valued at $0.46 per  share, granted March 19, 2002; portion vested in 2002           |       | —           |       | —      |       | 124,583         |       | —                 |       | 124,583              |       |
| Options to  purchase 60,000 shares issued to consultants for services rendered, valued at  $0.46 per share, granted March 19, 2002; portion vested in 2002 |       | —           |       | —      |       | 18,400          |       | —                 |       | 18,400               |       |
| Warrant for  30,000 shares valued at $0.46 per share, issued to a director on April 19,  2002; portion vested in 2002                                      |       | —           |       | —      |       | 4,025           |       | —                 |       | 4,025                |       |
| Warrant for 1,500  shares valued at $0.33 per share issued for services rendered, November 11,  2002                                                       |       | —           |       | —      |       | 490             |       | —                 |       | 490                  |       |
| Net loss for the  year ended December 31, 2002                                                                                                             |       | —           |       | —      |       | —          |       | (3,613,003             | )          | (3,613,003           | )          |
| **Balance,  December 31, 2002**                                                                                                                            | ** ** | **10,497,558**   | ** ** | **105**     | ** ** | **3,303,578**   | ** ** | **(4,225,536**         | **)**      | **(921,853**         | **)**      |
| Stock issued in  lieu of cash for accounts payable, valued at $2.33 per share, February 25,  2003                                                          |       | 5,445            |       | —      |       | 12,705          |       | —                 |       | 12,705               |       |
| Warrants for  192,861 shares valued at $0.30 per share, issued to bank line of credit  guarantors, March 1, 2003                                           |       | —           |       | —      |       | 57,858          |       | —                 |       | 57,858               |       |
| Warrant for  21,429 shares valued at $0.30 per share, issued to director as a bank line of  credit guarantor, March 1, 2003                                |       | —           |       | —      |       | 6,429           |       | —                 |       | 6,429                |       |
| Warrant for  92,148 shares issued for services rendered, valued at $2.03 per share, June  30, 2003                                                         |       | —           |       | —      |       | 187,060         |       | —                 |       | 187,060              |       |
| Warrants for 225,006  shares valued at $0.36 per share, issued to bank line of credit guarantors,  August 5, 2003                                          |       | —           |       | —      |       | 81,003          |       | —                 |       | 81,003               |       |
| Warrant for  21,429 shares valued at $0.36 per share, issued to director as a bank line of  credit guarantor, August 5, 2003                               |       | —           |       | —      |       | 7,714           |       | —                 |       | 7,714                |       |
| Warrants for  64,287 shares valued at $0.34 per share, issued to bank line of credit  guarantors, September 11, 2003                                       |       | —           |       | —      |       | 21,858          |       | —                 |       | 21,858               |       |
| Warrant for  117,858 shares valued at $0.35 per share, issued to bank line of credit guarantor,  December 22, 2003                                         |       | —           |       | —      |       | 41,250          |       | —                 |       | 41,250               |       |
| Options to  purchase 900,000 shares issued to officers and directors, valued at $0.46 per  share, granted March 19, 2002; portion vested in 2003           |       | —           |       | —      |       | 133,400         |       | —                 |       | 133,400              |       |
| Options to  purchase 60,000 shares issued to consultants for services rendered, valued at  $0.46 per share, granted March 19, 2002; portion vested in 2003 |       | —           |       | —      |       | 6,900           |       | —                 |       | 6,900                |       |
|                                                                                                                                                            |            |                  |            |             |            |                 |            |                        |            |                      |            |  |  |  |  |

 

37

----

 
| ** **                                                                                                                                                                                                                                                                              | ** ** | ** **       | ** ** | ** **  | ** ** | ** **      | ** ** | **Deficit**            | ** ** | ** **           | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------|------------|-------------|------------|-----------------|------------|------------------------|------------|----------------------|------------|
| ** **                                                                                                                                                                                                                                                                              | ** ** | ** **       | ** ** | ** **  | ** ** | ** **      | ** ** | **accumulated**        | ** ** | ** **           | ** ** |
| ** **                                                                                                                                                                                                                                                                              | ** ** | ** **       | ** ** | ** **  | ** ** | **Additional**  | ** ** | **during the**         | ** ** | **Total**            | ** ** |
| ** **                                                                                                                                                                                                                                                                              | ** ** | **Common stock** | ** ** | **paid-in** | ** ** | **development** | ** ** | **shareholders’** | ** ** |
| ** **                                                                                                                                                                                                                                                                              | ** ** | **Shares**       | ** ** | **Amount**  | ** ** | **capital**     | ** ** | **stage**              | ** ** | **equity (deficit)** | ** ** |
| Warrant for  30,000 shares valued at $0.46 per share, issued to a director on April 19,  2002; portion vested in 2003                                                                                                                                                                   |       | —           |       | —      |       | 6,900           |       | —                 |       | 6,900                |       |
| Net loss for the  year ended December 31, 2003                                                                                                                                                                                                                                          |       | —           |       | —      |       | —          |       | (1,632,457             | )          | (1,632,457           | )          |
| **Balance,  December 31, 2003**                                                                                                                                                                                                                                                         | ** ** | **10,503,003**   | ** ** | **105**     | ** ** | **3,866,655**   | ** ** | **(5,857,993**         | **)**      | **(1,991,233**       | **)**      |
| Options to  purchase 30,000 shares issued to a consultant valued at $0.67 per share,  granted February 1, 2004, portion vested in 2004                                                                                                                                                  |       | —           |       | —      |       | 10,100          |       | —                 |       | 10,100               |       |
| Options to  purchase 450,000 shares issued to officer valued at $0.67 per share, granted  February 1, 2004; portion vested in 2004                                                                                                                                                      |       | —           |       | —      |       | 84,173          |       | —                 |       | 84,173               |       |
| Repurchase of  900,000 shares pursuant to the exercise of dissenters’ rights at time of  merger, April 5, 2004 in connection with $750,000 note payable                                                                                                                            |       | (900,000         | )          | (9          | )          | (749,991        | )          | —                 |       | (750,000             | )          |
| Issuance of  shares to shareholders of Global Internet Communications, Inc. pursuant to  merger April 5, 2004                                                                                                                                                                           |       | 2,097,000        |       | 21          |       | (21             | )          | —                 |       | —               |       |
| Issuance of  common stock for cash at $2.00 per share on April 5, 2004, net of costs of  $125,259                                                                                                                                                                                       |       | 1,980,000        |       | 20          |       | 3,834,721       |       | —                 |       | 3,834,741            |       |
| Cost associated  with Global Internet Communications, Inc. reverse merger effective April 5,  2004                                                                                                                                                                                      |       | —           |       | —      |       | (162,556        | )          | —                 |       | (162,556             | )          |
| Effect of anti-dilution  and price-protection provisions of warrants issued to loan guarantors in  2003, triggered by April 5, 2004 closing of private placement; shares subject  to warrants increased by 375,012; exercise price reduced from $2.00 to $1.67  per share (see note 10) |       | —           |       | —      |       | 320,974         |       | —                 |       | 320,974              |       |
| Issuance of  common stock for cash at $2.00 per share on April 27, 2004, net of costs of  $1,582                                                                                                                                                                                        |       | 25,000           |       | —      |       | 48,418          |       | —                 |       | 48,418               |       |
| Issuance of  common stock valued at $2.00 per share for accrued expenses in lieu of cash,  May 21, 2004                                                                                                                                                                                 |       | 38,613           |       | —      |       | 77,225          |       | —                 |       | 77,225               |       |
| Issuance of  common stock for cash at $2.00 per share on June 1, 2004, net of costs of  $3,796                                                                                                                                                                                          |       | 60,000           |       | 1           |       | 116,203         |       | —                 |       | 116,204              |       |
| Issuance of  common stock for cash at $2.00 per share on July 13, 2004, net of costs of  $6,326                                                                                                                                                                                         |       | 100,000          |       | 1           |       | 193,673         |       | —                 |       | 193,674              |       |
| Warrants for  100,000 shares issued for services rendered valued at $1.15 per share on July  19, 2004                                                                                                                                                                                   |       | —           |       | —      |       | 114,914         |       | —                 |       | 114,914              |       |
| Options to  purchase 200,000 shares issued to officer valued at $1.50 per share, granted  July 21, 2004; portion vested in 2004                                                                                                                                                         |       | —           |       | —      |       | 41,670          |       | —                 |       | 41,670               |       |
| Issuance of common  stock for cash at $2.00 per share on July 30, 2004, net of costs of $2,530                                                                                                                                                                                          |       | 40,000           |       | —      |       | 77,470          |       | —                 |       | 77,470               |       |
| Issuance of  common stock valued at $2.00 per share for accrued interest in lieu of cash,  October 12, 2004                                                                                                                                                                             |       | 44,441           |       | 1           |       | 88,881          |       | —                 |       | 88,882               |       |
| Warrants for  200,000 shares issued for services rendered valued at $0.83 per share on  December 2, 2004                                                                                                                                                                                |       | —           |       | —      |       | 166,172         |       | —                 |       | 166,172              |       |
| Options to  purchase 900,000 shares issued to officers and directors, valued at $0.46 per  share, granted March 19, 2002; portion vested in 2004                                                                                                                                        |       | —           |       | —      |       | 82,452          |       | —                 |       | 82,452               |       |
| Warrant for  30,000 shares valued at $0.46 per share, issued to a director on April 19,  2002; portion vested in 2004                                                                                                                                                                   |       | —           |       | —      |       | 1,150           |       | —                 |       | 1,150                |       |
| Net loss for the  year ended December 31, 2004                                                                                                                                                                                                                                          |       | —           |       | —      |       | —          |       | (2,318,896             | )          | (2,318,896           | )          |
| **Balance,  December 31, 2004**                                                                                                                                                                                                                                                         | ** ** | **13,988,057**   | ** ** | **140**     | ** ** | **8,212,283**   | ** ** | **(8,176,889**         | **)**      | **35,534**           | ** ** |
| Options to  purchase 900,000 shares issued to officers and directors, valued at $0.46 per  share, granted March 19, 2002; portion vested in 2004                                                                                                                                        |       | —           |       | —      |       | 5,734           |       | —                 |       | 5,734                |       |
| Options to  purchase 450,000 shares issued to officer valued at $0.67 per share, granted  February 1, 2004; portion vested in 2005                                                                                                                                                      |       | —           |       | —      |       | 111,108         |       | —                 |       | 111,108              |       |
| Options to  purchase 200,000 shares issued to officer valued at $1.50 per share, granted  July 21, 2004; portion vested in 2005                                                                                                                                                         |       | —           |       | —      |       | 100,008         |       | —                 |       | 100,008              |       |

 

38

----

 
| ** **                                                                                                                           | ** ** | ** **       | ** ** | ** **  | ** ** | ** **      | ** ** | **Deficit**            | ** ** | ** **           | ** **      |
|--------------------------------------------------------------------------------------------------------------------------------------|------------|------------------|------------|-------------|------------|-----------------|------------|------------------------|------------|----------------------|-----------------|
| ** **                                                                                                                           | ** ** | ** **       | ** ** | ** **  | ** ** | ** **      | ** ** | **accumulated**        | ** ** | ** **           | ** **      |
| ** **                                                                                                                           | ** ** | ** **       | ** ** | ** **  | ** ** | **Additional**  | ** ** | **during the**         | ** ** | **Total**            | ** **      |
| ** **                                                                                                                           | ** ** | **Common stock** | ** ** | **paid-in** | ** ** | **development** | ** ** | **shareholders’** | ** ** |
| ** **                                                                                                                           | ** ** | **Shares**       | ** ** | **Amount**  | ** ** | **capital**     | ** ** | **stage**              | ** ** | **equity (deficit)** | ** **      |
| Options to  purchase 150,000 shares issued to employee valued at $0.67 per share, granted  January 3, 2005; portion vested in 2005   |       | —           |       | —      |       | 74,256          |       | —                 |       | 74,256               |            |
| Options to  purchase 150,000 shares issued to employee valued at $0.67 per share, granted  September 6, 2005; portion vested in 2005 |       | —           |       | —      |       | 6,625           |       | —                 |       | 6,625                |            |
| Issuance of  common stock for cash at $0.76 per share on June 15, 2005                                                               |       | 65,790           |       | 1           |       | 50,000          |       | —                 |       | 50,001               |            |
| Issuance of  common stock for services rendered at $1.02 per share on June 30, 2005                                                  |       | 50,000           |       | 1           |       | 50,999          |       | —                 |       | 51,000               |            |
| Issuance of  common stock for deferred offering costs at $0.71 per share on September 1,  2005                                       |       | 25,000           |       | —      |       | 17,750          |       | —                 |       | 17,750               |            |
| Issuance of  common stock for in lieu of cash for accrued expenses at $0.89 per share on  December 31, 2005                          |       | 45,413           |       | —      |       | 40,418          |       | —                 |       | 40,418               |            |
| Warrants for  25,000 shares valued at $0.63 per share, issued to bank loan guarantor,  September 14, 2005                            |       | —           |       | —      |       | 15,750          |       | —                 |       | 15,750               |            |
| Warrants for  25,000 shares valued at $0.53 per share, issued in connection with notes  payable on September 21, 2005                |       | —           |       | —      |       | 13,250          |       | —                 |       | 13,250               |            |
| Warrants for  200,000 shares valued at $0.48 per share, issued to bank loan guarantors, October  19, 2005                            |       | —           |       | —      |       | 106,000         |       | —                 |       | 106,000              |            |
|                                                                                                                                 |       |             |       |        |       |            |       |                   |       |                 |            |
| Net loss for the  year ended December 31, 2005                                                                                       |       | —           |       | —      |       | —          |       | (2,028,056             | )          | (2,028,056           | )               |
| **Balance,  December 31, 2005**                                                                                                      | ** ** | **14,174,260**   | ** ** | **$**       | **142**    | ** **      | **$**      | **8,804,181**          | ** ** | **$**                | **(10,204,945** | **)** | **$** | **(1,400,622** | **)** |
|                                                                                                                                      |            |                  |            |             |            |                 |            |                        |            |                      |                 |  |  |  |  |

 

See accompanyingnotes to consolidated financial statements.

 

39

----

** **

**ProUroCareMedical Inc.**

(A DevelopmentStage Company)

 

ConsolidatedStatements of Cash Flows

 
| ** **                                                                                                              | ** ** | ** **       | ** ** | ** **       | ** ** | **Cumulative**       | ** ** |
|-------------------------------------------------------------------------------------------------------------------------|------------|------------------|------------|------------------|------------|----------------------|------------|
| ** **                                                                                                              | ** ** | ** **       | ** ** | ** **       | ** ** | **period from**      | ** ** |
| ** **                                                                                                              | ** ** | ** **       | ** ** | ** **       | ** ** | **August 17,**       | ** ** |
| ** **                                                                                                              | ** ** | **Year ended**   | ** ** | **Year ended**   | ** ** | **1999 (inception)** | ** ** |
| ** **                                                                                                              | ** ** | **December 31,** | ** ** | **December 31,** | ** ** | **to December 31,**  | ** ** |
| ** **                                                                                                              | ** ** | **2005**         | ** ** | **2004**         | ** ** | **2005**             | ** ** |
| Cash flows from operating activities:                                                                                   |       |             |       |             |       |                 |       |
| Net loss                                                                                                                |       | $                | (2,028,056 | )                | $          | (2,318,896           | )          | $ | (10,204,945 | ) |
| Adjustments to  reconcile net loss to net cash used in operating activities:                                            |       |             |       |             |       |                 |       |
| Depreciation and  amortization                                                                                          |       | 4,951            |       | 3,462            |       | 13,161               |       |
| Stock-based  compensation                                                                                               |       | 297,731          |       | 219,545          |       | 811,484              |       |
| Issuance of  common stock for services rendered                                                                         |       | —           |       | —           |       | 103,166              |       |
| Warrants issued  for services                                                                                           |       | —           |       | 281,086          |       | 468,636              |       |
| Warrant issued  for debt guarantees                                                                                     |       | —           |       | 320,974          |       | 320,974              |       |
| Amortization of  note payable original issue discount                                                                   |       | 14,316           |       | —           |       | 14,316               |       |
| Amortization of  debt issuance costs                                                                                    |       | 55,773           |       | 72,594           |       | 271,885              |       |
| Write-off of  deferred offering cost                                                                                    |       | 59,696           |       | —           |       | 59,696               |       |
| License rights  expensed as research and development, paid by issuance of common stock to CS  Medical Technologies, LLC |       | —           |       | —           |       | 475,000              |       |
| License rights  expensed as research and development, paid by issuance of common stock to  Profile, LLC                 |       | —           |       | —           |       | 1,713,600            |       |
| Changes in  operating assets and liabilities:                                                                           |       |             |       |             |       |                 |       |
| Deposits                                                                                                                |       | 9,899            |       | (170,000         | )          | (190,101             | )          |
| Other current  assets                                                                                                   |       | 37,978           |       | (12,457          | )          | 18,642               |       |
| Other assets                                                                                                            |       | —           |       | 7,590            |       | —               |       |
| Accounts payable                                                                                                        |       | 320,482          |       | (331,339         | )          | 776,284              |       |
| Accrued expenses                                                                                                        |       | 495,342          |       | (153,529         | )          | 746,592              |       |
| License  obligation                                                                                                     |       | —           |       | (25,000          | )          | —               |       |
| Net cash used in  operating activities                                                                                  |       | (731,888         | )          | (2,105,970       | )          | (4,601,610           | )          |
| Cash flows from investing activities:                                                                                   |       |             |       |             |       |                 |       |
| Purchases of  equipment and furniture                                                                                   |       | —           |       | (9,854           | )          | (20,797              | )          |
| Net cash used in  investing activities                                                                                  |       | —           |       | (9,854           | )          | (20,797              | )          |
| Cash flows from financing activities:                                                                                   |       |             |       |             |       |                 |       |
| Net advances  from (payments to) line of credit, bank                                                                   |       | —           |       | (860,000         | )          | —               |       |
| Proceeds of note  payable, bank                                                                                         |       | 500,000          |       | —           |       | 500,000              |       |
| Payment of note  payable, bank                                                                                          |       | (100,000         | )          | —           |       | (100,000             | )          |
| Proceeds of  notes payable                                                                                              |       | 100,000          |       | —           |       | 100,000              |       |
| Payment of notes  payable                                                                                               |       | (90,770          | )          | (689,272         | )          | (780,042             | )          |
| Payment for  rescission of common stock                                                                                 |       | —           |       | (100,000         | )          | (100,000             | )          |
| Net advances  from (payments to) Clinical Network, Inc.                                                                 |       | —           |       | (24,301          | )          | 8,943                |       |
| Net advances  from (payments to) CS Medical Technologies, LLC                                                           |       | —           |       | (26,000          | )          | —               |       |
| Payments for  deferred offering expenses                                                                                |       | (28,827          | )          | —           |       | (28,827              | )          |
| Cost of reverse  merger                                                                                                 |       | —           |       | (162,556         | )          | (162,556             | )          |
| Net proceeds  from issuance of common stock                                                                             |       | 50,000           |       | 4,270,507        |       | 5,184,926            |       |
| Net cash  provided by financing activities                                                                              |       | 430,403          |       | 2,408,378        |       | 4,622,444            |       |
| Net increase  (decrease) in cash                                                                                        |       | (301,485         | )          | 292,554          |       | 37                   |       |
| Cash, beginning of the period                                                                                           |       | 301,522          |       | 8,968            |       | —               |       |
| Cash, end of the period                                                                                                 |       | $                | 37         |             | $          | 301,522              |       | $ | 37 |   |
| Supplemental cash flow information:                                                                                     |       |             |       |             |       |                 |       |
| Cash paid for  interest                                                                                                 |       | $                | 16,196     |             | $          | 87,691               |       | $ | 143,472 |   |
| Non-cash  investing and financing activities:                                                                           |       |             |       |             |       |                 |       |
| Assumption of  liabilities in the Profile, LLC transaction                                                              |       | $                | —     |             | $          | —               |       | $ | 25,000 |   |
| Warrants issued  for debt issuance costs                                                                                |       | 26,500           |       | —           |       | 242,612              |       |
| Warrants issued  pursuant to note payable                                                                               |       | 108,500          |       | —           |       | 108,500              |       |
| Issuance of note  payable for redemption of common stock                                                                |       | —           |       | 650,000          |       | 650,000              |       |
| Other current  assets financed by note payable                                                                          |       | 31,125           |       | —           |       | 31,125               |       |
| Common stock  issued in lieu of cash for accounts payable                                                               |       | —           |       | 88,882           |       | 101,587              |       |
| Common stock  issued in lieu of cash for accrued expenses                                                               |       | 40,418           |       | 77,225           |       | 117,643              |       |
| Conversion of  accounts payable to note payable                                                                         |       | —           |       | 241,613          |       | 241,613              |       |
| Common stock  issued for deferred offering expenses                                                                     |       | 68,751           |       | —           |       | 68,751               |       |
| Deposits applied  to note payable and accrued interest                                                                  |       | 142,696          |       | —           |       | 142,696              |       |
| Deposits applied  to accounts payable                                                                                   |       | 45,782           |       | —           |       | 45,782               |       |
| Deposits applied  to accrued expenses                                                                                   |       | 1,076            |       | —           |       | 1,076                |       |

 

See accompanyingnotes to consolidated financial statements.

 

40

----

 

**ProUroCare Medical Inc.**

 

**A DevelopmentStage Company**

 

**Notes to Consolidated Financial Statements**

 

**December 31, 2005 and 2004 and the period from**

**August 17, 1999 (inception) to December 31, 2005**

 

**(1)  Description of Business and Summary ofSignificant Accounting Policies**

** **

***(a)***       Descriptionof Business, Development Stage Activities, and Basis of Presentation

*** ***

ProUroCare Medical Inc. (“ProUroCare” or the “Company”)is a development stage company that is developing diagnostic equipment andtreatments for enlarged prostates and other male urological conditions.  The Company’s developmental activities haveincluded the acquisition of several technology licenses, the development of astrategic business plan and a senior management team, product development, andfund raising activities.

 

The Company had no activities from its incorporationin August 1999 until July 2001, when the Company issued 3,000,000 shares ofcommon stock to Clinical Network, Inc. (CNI) and Clinical Network LLC (CN LLC),a related party to CNI.  Moreover, inJuly 2001, the Company acquired a license to certain microwave technology byissuing 3,000,000 shares of common stock to CS Medical Technologies, LLC(CSM).  In January 2002, the Companyacquired a license to certain imaging technology through the issuance of3,999,999 shares to Profile LLC (Profile).

 

Pursuant to a merger agreement effective April 5, 2004among ProUroCare Inc., Global Internet Communications, Inc. (“Global”), and GICAcquisition Corp., a wholly owned subsidiary of Global, GIC Acquisition Corp.merged with and into ProUroCare Inc., which remained as the surviving companyand a wholly owned operating subsidiary of Global (the “Merger”).  On April 26, 2004, Global changed its name toProUroCare Medical Inc. In connection with the Merger, Global completed aprivate placement of 2,205,000 shares of common stock pursuant to Rule 506promulgated under the Securities Act of 1933, as amended.

 

The accompanying consolidated financial statementsinclude the accounts of the Company and its wholly owned subsidiary, ProUroCareInc.  Significant inter-company accountsand transactions have been eliminated in consolidation.

 

***(b)***       Restatementof Share Data

*** ***

At the effective time of the Merger, the legalexistence of GIC Acquisition Corp. ceased, and all 3,501,001 shares of commonstock of ProUroCare Inc. that were outstanding immediately prior to the Mergerand held by ProUroCare Inc. shareholders were cancelled, with one share ofProUroCare common stock issued to Global. Simultaneously, the non-dissenting shareholders of ProUroCare Inc.received an aggregate of 9,603,003 shares of common stock of Global in exchangefor their aggregate of 3,201,001 shares of ProUroCare Inc.

 

All share data has been restated to give effect to theretroactive application merger under which each ProUroCare Inc. share wasconverted into three shares of Global.

 

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***(c)***       AccountingEstimates

*** ***

The preparation of financial statements in conformitywith accounting principles generally accepted in the United States of Americarequires management to make estimates and assumptions that affect the reportedamounts of assets and liabilities and disclosure of contingent assets andliabilities at the date of the financial statements and the reported amounts ofexpenses during the reporting periods. The Company’s significant estimatesinclude the determination of the fair value of its common stock and contingentliability expense. Actual results could differ from those estimates.

 

***(d)***       NetLoss Per Common Share

*** ***

Basic and diluted loss per common share is computed bydividing net loss by the weighted-average number of common shares outstandingfor the reporting period.  Dilutivecommon-equivalent shares have not been included in the computation of dilutednet loss per share because their inclusion would be antidilutive.  Antidilutive common equivalent sharesissuable based on future exercise of stock options or warrants couldpotentially dilute basic loss per common share in subsequent years.  All options and warrants outstanding wereantidilutive for the years ended December 31, 2005 and 2004 and the period fromAugust 17, 1999 (inception) to December 31, 2005.

 

***(e)***       ComparativeFigures

*** ***

Certain comparative figures have been reclassified toconform to the financial statement presentation adopted in the current year.

 

***(f)***        Cash

*** ***

The Company maintains its cash in high qualityfinancial institutions.  The balances, attimes, may exceed federally insured limits.

 

***(g)***       Equipmentand Furniture

*** ***

Equipment and furniture are stated at cost anddepreciated using the straight-line method over the estimated useful livesranging from three to seven years. Maintenance, repairs, and minor renewals areexpensed as incurred.

 

***(h)***       LicenseAgreements

*** ***

The costs associated with acquisition of licenses fortechnology are recognized at the fair value of stock and cash used asconsideration. Fair value of stock for such transactions is determined by anindependent valuation firm using forecasts of discounted cash flows provided bythe Company. The annual discount rates used in these calculations reflect thehigh commercial risk of a development stage business and are typically withinthe range of 40–60%.

 

Costs of acquiring technology which has no alternativefuture uses are expensed immediately as research and development expense.

 

***(i)***        Impairmentof Long-lived Assets and Long-lived Assets to be Disposed Of

*** ***

The Company reviews long-lived assets and certainidentifiable intangibles for impairment whenever events or changes incircumstances indicate that the carrying amount of an asset may not berecoverable. Recoverability of assets to be held and used is measured by acomparison of the carrying amount of an asset to future undiscounted net cashflows expected to be generated by the asset. If such assets are considered tobe impaired, the impairment to be recognized is measured by the amount by whichthe 

 

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carrying amount of the assets exceeds the fair valueof the assets. Assets to be disposed of are reported at the lower of thecarrying amount or fair value less costs to sell.

 

During the years ended December 31, 2005 and 2004, andthe period from August 17, 1999 (inception) to December 31, 2005, the Companydid not record any impairment charge.

 

***(j)***        Stock-BasedCompensation

*** ***

Effective August 17, 1999, the Company adopted thefair value recognition provisions of FASB Statement of Financial AccountingStandards No. 123 (“SFAS 123”), “Accounting for Stock-Based Compensation,” torecord option and warrant issuances, including stock-based employeecompensation.  The Company’s policy is togrant stock options at fair value at the date of grant, and to record theexpense at fair value as required by SFAS 123, using the Black-Scholes pricingmodel.

 

Pursuant to SFAS 123, which was amended by SFAS 148,the stock-based employee and non-employee compensation cost related to stockoptions was $297,731, $218,395, and $784,460 for the years ended December 312005, 2004, and the period from August 17, 1999 (inception) to December 31,2005, respectively.  Stock-basedcompensation cost related to warrants issued to a directors (in lieu of stockoptions) was $0, $1,150, and $12,075 for the years ended December 31, 2005,2004, and the period from August 17, 1999 (inception) to December 31, 2005,respectively.

 

In determining the compensation cost of the optionsgranted during the years ended December 31, 2005 and 2004, as specified by SFAS123, the fair value of each option grant has been estimated on the date of grantusing the Black Scholes pricing model and the weighted average assumptions usedin these calculations are summarized as follows: 

 
| ** **                       | ** ** | **For the years ended  December 31,** | ** ** |
|----------------------------------|------------|---------------------------------------|------------|
| ** **                       | ** ** | **2005**                              | ** ** | **2004** | ** ** |
| Risk-free Interest Rate          |       | 3.84                                  | %          | 4.19 | % |
| Expected Life of Options Granted |       | 5.8 years                             | (1)        | 10 years | (2) |
| Expected Volatility              |       | 104.1                                 | %          | 42.06 | % |
| Expected Dividend Yield          |       | 0                                     |       | 0 |   |

 

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(1)Calculatedas the average of the vesting periods and the contractual term of the options.

(2) The contractual termof the options.

 

***(k)***       Warrants

*** ***

In accordance with Emerging Issues Task Force (“EITF”)No. 96-18, “Accounting for Equity Instruments that are Issued to Other thanEmployees for Acquiring, or in Conjunction with Selling, Goods and Services”and EITF 98-5, “Accounting for Convertible Securities with BeneficialConversion Features or Contingently Adjustable Conversion Ratios”, the Companyhas elected to utilize the fair-value method of accounting for warrants issuedto non-employees as consideration for goods or services received, including warrantsissued to lenders and guarantors of Company debt (see Notes 8, 9, and 10).  The weighted-average fair value of thewarrants granted during the years ended December 31, 2005 and 2004 was $0.54 inboth years, and such warrants are immediately vested and exercisable on thedate of grant.

 

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The fair value of stock warrants is the estimatedpresent value at grant date using the Black-Scholes pricing model with thefollowing weighted average assumptions:

 
| ** **                          | ** ** | **For the years ended  December 31,** | ** ** |
|-------------------------------------|------------|---------------------------------------|------------|
| ** **                          | ** ** | **2005**                              | ** ** | **2004** | ** ** |
| Risk-free Interest Rate             |       | 4.25                                  | %          | 2.99 | % |
| Expected Life of Warrants Issued(1) |       | 5 years                               |       | 3-5 years |   |
| Expected Volatility                 |       | 129.8                                 | %          | 41.7 | % |
| Expected Dividend Yield             |       | 0                                     |       | 0.0 | % |

 

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(1)Thecontractual term of the warrants.

 

***(l)***        FinancialInstruments

*** ***

The carrying amounts for all financial instrumentsapproximates fair value. The carrying amounts for cash, accounts payable andaccrued liabilities approximate fair value because of the short maturity ofthese instruments. The fair value of line of credit approximated the carryingamount based upon the Company’s expected borrowing rate for debt with similarremaining maturities and comparable risk.

 

***(m)***      Researchand Development

*** ***

Expenditures for research and product developmentcosts are expensed as incurred.

 

***(n)***       DebtIssuance Costs

*** ***

Debt issuance costs are amortized over the life of theloan using the straight-line method, which approximates the interest method.

 

***(o)***       DeferredOffering Costs

*** ***

The costs of the Company’s efforts to raise additionalcapital through establishing a credit facility are deferred and will beamortized over the life of the credit facility as interest expense (see Note16).

 

***(p)***       IncomeTaxes

*** ***

The Company utilizes the liability method of accountingfor income taxes. Under this method, deferred tax assets and liabilities arerecognized for the expected future tax consequences attributable to temporarydifferences between the financial statement and income tax reporting bases ofassets and liabilities. Deferred tax assets are reduced by a valuationallowance to the extent that realization is not assured.

 

***(q)***       RecentlyIssued Accounting Pronouncements

*** ***

In December 2004, theFinancial Accounting Standards Board (“FASB”) issued a revision to SFAS 123 (“SFAS123R”), “Share-Based Payment”, that focuses primarily on accounting fortransactions in which an entity obtains employee services in share-basedpayment transactions.  This statementreplaces SFAS 123, “Accounting for Stock-Based Compensation”, and supersedesAPB Opinion No. 25, “Accounting for Stock Issued to Employees.”  SFAS 123R requires publicly held companies toexpense the fair value of employee stock options and similar awards, which hasbeen the Company’s policy to date.  TheCompany does not expect the adoption of SFAS 123R to have a material effect onits consolidated financial statements, since the Company has previously adoptedSFAS 123.

 

In June 2005, FASB issued SFAS No. 154, “AccountingChanges and Error Corrections”, a replacement of APB Opinion No. 20 and FASBStatement No. 3.  The statement applies to all voluntary changes in 

 

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accounting principle, and changes the requirements foraccounting for and reporting of a change in accounting principle.  SFASNo. 154 requires retrospective application to prior periods’ consolidatedfinancial statements of a voluntary change in accounting principle unless it isimpracticable.  SFAS No. 154 is effective for accounting changes andcorrections of errors made in fiscal years beginning after December 15,2005.  Earlier application is permitted for accounting changes andcorrections of errors made occurring in fiscal years beginning after June 1,2005.  The statement does not change the transition provisions of anyexisting accounting pronouncements, including those that are in a transitionphase as of the effective date of this statement.  The Company does notexpect the adoption of SFAS No. 154 to have a material effect on itsconsolidated financial statements.

 

**(2)**       GoingConcern; Management’s Plan to Fund Working Capital Needs; Pending DebtFinancing

** **

The Company incurred a net loss of $2,028,056,$2,318,896, and $10,204,945 and negative cash flow from operating activities of$761,888, $2,105,970, and $4,601,610 for the years ended December 31, 2005 and2004 and for the cumulative period from August 17, 1999 (inception) to December31, 2005, respectively. From July 2001 through January 2002, the Companyentered into several license arrangements to develop the licensed technologiesinto diagnostic equipment and treatments for enlarged prostates and other maleurological conditions. The Company anticipates materially increasing itsexpenditures for technology development activities and building the Company’sinfrastructure over the near term. Implementation of the Company’s businessplan is dependent upon the successful transition of its product developmentprogram into a viable product with market penetration and profitability andobtaining sufficient capital to fund these developmental activities.

 

InNovember 2005, the Company commenced an aggressive plan to meet its 2006working capital needs, complete the development of its products and obtaininitial FDA market clearance through the establishment of a $6 million banksenior secured credit facility (see Note 16). The senior credit facility issecured by individual personal guarantees and a pledge of all the Company’sassets, and should be, on final closing, adequate to meet the Company’s 2006working capital needs.  As of the date ofthis report, the Company had already conducted two closings totaling $2.2million of this facility and has received additional subscriptions and verbalcommitments from additional guarantors for a majority of the remaining $3.8million needed to complete this credit facility.  Nevertheless, the Company cannot be certainthat these additional commitments will be honored, nor that the remaining $3.8million will be secured on a timely basis in the first half of 2006 or atall.  In addition, the Company may raiseadditional debt or equity capital in calendar 2006 if the proceeds of theforegoing $6 million senior debt facility is not adequate to meet the Company’s2006 milestones and objectives.

 

Asconsideration to the guarantors to provide their guarantees for this $6 millionbank credit facility, the Company intends to issue up to $2 million ofunsecured convertible 10% debentures that are due in 36 months.  The debentures are convertible at the holders’option into an aggregate of 4,000,000 shares of common stock (up to 6,666,667shares if the underlying senior credit facility is not retired by October 31,2007 - see Note 16).  As of the date ofthis report, pursuant to the $2.2 million of borrowings already closed, the Companyhad issued $733,334 of these debentures that are convertible into 1,466,668 sharesof common stock (up to 2,444,447 shares if the underlying senior creditfacility is not retired by October 31, 2007). If additional funds are raised by the issuance of equity securities,such as through the issuance of stock or the issuance and exercise of warrants,then existing shareholders will experience dilution of their ownershipinterest.  If additional funds are raisedby the issuance of debt or other equity instruments, the Company may becomesubject to certain operational limitations, and such securities may have rightssenior to those of existing holders of common stock.

 

If theremainder of the pending debt facility is not closed, or closed on a timelybasis, and debt or equity capital is not otherwise available or not availableon acceptable terms and conditions, the Company may be unable to fundexpansion, develop or enhance products. If this occurred, the Company could be forced to slow its development programs,or put them on hold, and thus, could delay market entry. Ultimately, if thepending 

 

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financing,or necessary additional future debt or equity financing is not obtained, wecould be forced to cease operations.

 

**(3)**       Equipmentand Furniture

** **

Equipment and furniture consisted of the following atDecember 31:

 
| ** **                    | ** ** | **2005** | ** ** | **2004** | ** ** |
|-------------------------------|------------|----------|------------|----------|------------|
| Computer equipment            |       | $        | 16,518     |     | $          | 16,518 |   |
| Furniture                     |       | 4,279    |       | 4,279    |       |
|                          |       | 20,797   |       | 20,797   |       |
| Less accumulated depreciation |       | (13,161  | )          | (8,210   | )          |
|                          |       | $        | 7,636      |     | $          | 12,587 |   |

 

Depreciation expense was $4,951, $3,462, and $13,161for the years ended December 31, 2005 and 2004 and the period from August 17,1999 (inception) to December 31, 2005, respectively.

 

**(4)**       AccruedExpenses

 

Accrued expenses consisted of the following atDecember 31:

 
| ** **                | ** ** | **2005** | ** ** | **2004** | ** ** |
|---------------------------|------------|----------|------------|----------|------------|
| Payroll and related taxes |       | $        | 347,194    |     | $          | 2,936 |   |
| Contingent liability      |       | 178,924  |       | 75,000   |       |
| Directors’ fees      |       | 40,416   |       | 65,834   |       |
| Audit fees                |       | 31,000   |       | 19,000   |       |
| Consulting fees           |       | 15,000   |       | —   |       |
| Accrued interest          |       | 10,918   |       | 1,324    |       |
| Other                     |       | 4,420    |       | 9,931    |       |
|                      |       | $        | 627,872    |     | $          | 174,025 |   |

 

As of the date of this report, the Company had alreadypaid $589,165 of the foregoing accrued liabilities outstanding at December 31,2005 from the first two closings of its pending $6 million senior debtfinancing (see Note 16).

 

**(5)**       LicenseAgreements

** **

***CS Medical***

*** ***

In July 2001, the Company licensed certain microwavetechnology from CS Medical Technologies, LLC (CSM).  The worldwide, exclusive license is limitedto the field of use of the treatment of enlarged prostates, prostate cancer,and other urological disorders, and terminates with the expiration of the lastto expire patents that are the subject of the license and requires definedroyalty payments.

 

As consideration for the license, the Companyexchanged 3,000,000 shares of its common stock valued at $475,000. Thisconsideration was expensed as research and development.

 

Under the terms of the license agreement, royaltypayments are to be made quarterly in an amount equal to one-half percent (0.5%)of the amount that net sales of the Company’s products that incorporate thelicensed technology exceed $500,000 in that quarter.  In the absence of revenues, we are notobligated to make any royalty payments to CSM.

 

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***Profile LLC***

 

In January 2002, Profile LLC (Profile) granted theCompany an exclusive license for prostate imaging systems in exchange for3,230,769 shares of the Company’s common stock and the assumption of $25,000 ofProfile net liabilities. The license requires royalties ranging from 1.05% to3.05% of defined revenues. The Profile license required the Company to meetcertain financial covenants. If these covenants were not met by December 31,2002, either party had the right to terminate the license. In the event oftermination by Profile, all the Company shares issued would be returned to theCompany. If the Company terminated the license, then only 50% of the sharesissued would have to be returned. On March 22, 2002, in exchange foreliminating these covenants, the Company issued Profile an additional 769,230shares of its common stock.  The field ofuse for the exclusive license is limited to the diagnosis and treatment ofenlarged prostate, prostate cancer, or other conditions of or disorders of theprostate which may be diagnosed, imaged, or treated using any diagnostic orimaging process.  The license willterminate upon the later of the date of expiration of the last to expire patentincluded in the licensed technology or the date that the Company permanentlyceases the sale of devices using the technology.

 

The 3,999,999 shares of common stock were valued at$1,713,600.  The aggregated stock andcash consideration for the Profile license was $1,738,600, which was expensedas research and development.

 

***RPI Agreement***

*** ***

In July 2001, the Company entered into a licenseagreement with Rensselaer Polytechnic Institute (RPI) to allow the Company touse Electrical Impedance Tomography technology developed and patented by RPI,on a worldwide, exclusive basis for the diagnosis and/or treatment ofurological conditions. The license period continues until expiring of RPIpatents, or on the fifth anniversary of the agreement if the Company has failedto develop a marketable product or process by that point.

 

Consideration for the license was $50,000, paid in two$25,000 installments, which were expensed as research and development in fiscal2001.  Royalties are payable to RPI onthe basis of 3% of the net sales of the therapeutic product if the primaryfunction of the device is tomography or 1% of net sales if the primary functionof the final system is not tomography. Beginning in 2005, RPI is entitled to receive a minimum annual royaltypayment of $20,000 to maintain the license.

 

On July 27, 2005, theCompany granted to Urologix Inc. a sublicense to the technology under the RPIagreement.  Under the terms of thesublicense, Urologix will have the right to exploit the licensed products underand on the same terms as the Company has under the RPI License, as amended,including without limitation, restrictions as to field of use, exclusivity,term and other conditions. Simultaneously, ProUroCare and RPI entered into Amendment No. 1 to theRPI License whereby (i) ProUroCare received the right to sublicense thetechnology, (ii) a milestone requiring the initiation of an FDA approvalprocess on an EIT device was extended to July 13, 2008, (iii) certaintermination provisions were extended to July 13, 2009, and (iv) royalties dueto RPI under the Urologix Sublicense were defined as 3% of the Company’s netsales of rectal sheaths and abdominal belts to Urologix, plus 1% of Urologix’sales of standalone EIT modules providing such sales are above Urologix’ costto manufacture.

 

**(6)**       Commitmentsand Contingencies

** **

***(a)***       Lease

*** ***

The Company sublets office space serving as theCompany’s executive offices, on a month to month basis, from a companymajority-owned and controlled by the Company’s CEO, Mr. Taylor. The Companybelieves the monthly rent being incurred is at or below market rate for suchexecutive office space in Minneapolis, Minnesota.

 

Rent expense for the years ended December 31, 2005,and 2004 and the period from August 17, 1999 (inception) to December 31, 2005was $ 47,354, $43,538, and $158,339, respectively.

 

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***(b)***       EmploymentAgreements

*** ***

**The Company (including the Company’s wholly ownedsubsidiary ProUroCare Inc.) is a party to employment agreements with its CEO,its President and COO, and its CFO.**

** **

Eachof these agreements provides for a minimum annual salary, potential cash bonuspayments and options to purchase shares of common stock that vest over threeyears, and a non-compete clause applicable for the period ending one year fromtermination. The agreement with the Chairman and CEO provides for an annualsalary of $190,000 and maximum bonus potential of 75% of his base pay, with aterm that continues through December 31, 2006. The President and COO’s agreement provides for an annual salary of$175,000 with a maximum bonus potential of 50% of his base pay, with a termthat continues through January 31, 2007. The CFO’s agreement calls for an annual salary of $140,000, with theannual bonus potential to be set each year by the Compensation Committee, and aterm that continues through July 21, 2007. At December 31, 2005 approximately $253,000 of our senior management’ssalaries and bonuses had not been paid, and were recorded as an accruedexpense. As of the date of this report, the accrued salaries and bonuses hadbeen paid from the net proceeds of the first two closings on the pending $6million senior debt financing (see Note 16).

 

Theseagreements also provide that, upon termination without cause (or a change ofemployment that the employee elects to treat as a termination of employment),the employee will receive as severance six months of base salary plus fourmonths of base salary for each year of prior service to the Company (up to amaximum of 24 months of base salary), plus the prorated average of any bonus orincentive compensation paid over the previous two years.  Additionally, all unvested stock options thenheld by the employee will immediately vest and be exercisable up to one-yearfrom the date of termination.

 

Undereach of the above-referenced employment agreements, in the event of a change incontrol resulting in a termination of employment, change of location, ordecrease in the level of responsibility of the executive (any of which occurringwithin two years of the change in control), the Company shall compensate theexecutive as if he were terminated without cause, as described above.

 

Inaddition, ProUroCare Inc. is a party to an employment agreement with itsVice-President of Engineering. This agreement provides for a minimum annualsalary of $135,000 per year, potential cash bonus payments, and options topurchase shares of common stock that vest over three years.  The agreement also provides that in the eventof voluntary or involuntary separation (without cause) from the Company withinthe first six months of employment, the executive will receive 25,000immediately vested options, exercisable for one-year after suchseparation.  In addition, if suchseparation occurs within the first year of employment, the executive willreceive 10,000 shares of Company stock for each month of employment.  After the first year of employment, theexecutive will receive 60,000 shares of stock in the event of such separation.

 

***(c)******      ******Legal proceedings***

 

The Company is involved in routine legal proceedingsin the conduct of the ordinary course of its business.

 

**On April 2, 2004, a former officer and employee ofProUroCare Inc. filed a lawsuit against ProUroCare Inc. and the Companyrelating to his separation of employment with ProUroCare Inc. prior to theMerger. On August 1, 2005, ProUroCare Inc. and the Company agreed to settle alawsuit with a former officer and employee of the Company to limit furthercosts of litigation, and the lawsuit was dismissed with prejudice. Under thesettlement agreement, the Company did not admit any wrong-doing, but agreed topay $160,000 plus applicable employment taxes in complete settlement of allclaims. Subsequently, the Company failed to pay this settlement due to lack offunds, and a new action was brought against the Company to enforce the terms ofsettlement, which was denied by the court. In response, and pursuant to a**

** **

**48**

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** **

**new action, a Complaint was filed and served on the Companyalleging breach of contract and seeking damages of $160,000, unspecifiedconsequential damages, attorneys’ fees, costs and pre- and post-award intereston all damages arising from the settlement noted above.**

** **

**On March 3, 2006 the Company and ProUroCare Inc. settledthe lawsuit.  Under the settlementagreement, the Company paid $177,000 plus $1,924 of payroll taxes in completesettlement of all claims and a dismissal of the former employee’s claim (seeNote 16).  Accordingly, the Companyrecorded a reserve of $178,924 for the settlement in the year ended December31, 2005.**

** **

***(d)***       ArtannWarrants

*** ***

Underthe terms of a Research and Development Agreement with Artann Laboratories,Inc. (“Artann”) (see Note 14), Artann will receive additional compensation inthe form of five-year warrants to purchase up to 500,000 shares of Companycommon stock, issuable upon certain milestone events.  Warrants for the purchase of 100,000 sharesat a per-share price of $2.00 were issued upon the execution of theagreement.  Warrants for the purchase of200,000 shares at a per share price of $2.00 per share were issued in December2004 following the shipment of the ProUroScan systems under the DevelopmentAgreement.  The final 200,000 warrantswere to be issued in two equal 100,000-share installments on July 19, 2005 andJuly 19, 2006.  The issuance of thesewarrants is dependent upon delivery of two ProUroScan systems that are ready tobe used to perform clinical tests.  Todate, we believe the systems we have received do not meet this criterion, andare in the process of working with Artann to confirm this assessment;accordingly, we have not issued the warrants.

 

**(7)**       IncomeTaxes

** **

The Company has generated net operating losscarryforwards of approximately $2.0 million which, if not used, will begin toexpire in 2021.  Federal and state taxlaws impose significant restrictions on the utilization of net operating losscarryforwards in the event of a change in ownership of the Company thatconstitutes an “ownership change,” as defined by the Internal Revenue Code,Section 382.  The Company has analyzedthe Merger and Private Placement transactions that occurred in April, 2004, andbelieves that they do not constitute such an ownership change.  However, those transactions, together withpossible future changes during the subsequent 36-month period may constitute achange in ownership that could subject the Company’s use of its net operatingloss carryforward to the above limitations. Specifically, under certain conditions, the convertible debentures beingissued and proposed to be issued pursuant to the Company’s current debtfinancing (see Note 16) may be converted into enough common shares to triggersuch a change in ownership.  Based on theCompany’s estimates, the limitation would apply to approximately $1.2 millionof the $2.0 million net operating loss carryforward.

 

The Company has recorded a full valuation allowanceagainst its deferred tax asset due to the uncertainty of realizing the relatedbenefits as follows:

 
| ** **                              | ** ** | **2005**   | ** ** | **2004**   | ** ** |
|-----------------------------------------|------------|------------|------------|------------|------------|
| Net operating loss carryforwards        |       | $          | 773,000    |       | $          | 668,000 |   |
| Capitalized start up costs              |       | 1,645,000  |       | 1,132,000  |       |
| Expenses paid with options and warrants |       | 546,000    |       | 405,000    |       |
| Other                                   |       | 213,000    |       | 133,000    |       |
| Less: valuation allowance               |       | (3,177,000 | )          | (2,338,000 | )          |
| Net deferred tax assets                 |       | $          | 0          |       | $          | 0 |   |

 

The change in the valuation allowance was $839,000,$852,000, and $3,177,000 for the years ended December 31, 2005 and 2004 and theperiod from August 17, 1999 (inception) to December 31, 2005, respectively.

 

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Reconciliation between the federal statutory rate andthe effective tax rated for the years ended December 31, 2005 and 2004 and theperiod from August 17, 1999 (inception) to December 31, 2005 is as follows:

 
| ** **                          | ** ** | **2005** | ** ** | **2004** | ** ** | **Period from   August 17,   1999   (inception) to   December 31,   2005** | ** ** |
|-------------------------------------|------------|----------|------------|----------|------------|----------------------------------------------------------------------------|------------|
| Federal statutory tax rate          |       | (34.0    | )%         | (34.0    | )%         | (34.0                                                                      | )%         |
| State taxes, net of federal benefit |       | (4.5     | )          | (4.5     | )          | (4.5                                                                       | )          |
| Change in valuation allowance       |       | 38.5     |       | 38.5     |       | 38.5                                                                       |       |
| Effective tax rate                  |       | 0.0      | %          | 0.0      | %          | 0.0                                                                        | %          |

 

**(8)**       Lineof Credit

** **

On April 5, 2004, the Company repaid and terminated a$1,000,000 line of credit with a financial institution.  The line of credit was created in 2003, andwas severally guaranteed by nine individuals. In exchange for the personal guarantees, the Company issued to eachguarantor a warrant to purchase one share of the Company’s Common Stock at$2.33 per share for every $2.33 guaranteed. A total of 428,580 shares are subject to these warrants.  The warrants were valued using theBlack-Scholes pricing model at $151,825, which was amortized over the life ofthe bank line of credit. Amortization of $0 and $72,594 was recorded asinterest expense in 2005 and 2004, respectively, and $151,825 for the periodfrom August 17, 1999 (inception) to December 31, 2005.

 

**(9)**       Notes Payable – Bank

** **

On March 31, 2005,ProUroCare Inc., the Company’s wholly owned subsidiary, borrowed $100,000 froma financial institution and issued a promissory note collateralized bysubstantially all Company assets and a guaranty provided by the Company’sChairman and Chief Executive Officer, Maurice R. Taylor.  The promissory note bears interest at anannual rate of 7.0%.  On October 20, 2005the note was amended and restated pursuant to an increase in the amount of thenote (see below).

 

On September 14, 2005,ProUroCare Inc. borrowed $100,000 from a financial institution and issued asecured promissory note to such institution. The promissory note was collateralized by the assets of the business underan existing Commercial Security Agreement with the financial institution and acommercial guaranty from an individual investor.  The promissory note bore interest at anannual rate of 8.0% and was to mature on March 14, 2006.  In connection with the commercial guaranty,the Company issued two five-year warrants (immediately exercisable) to theinvestor to acquire a total of 50,000 shares of the Company’s common stock at$0.50 per share.  The warrants, valued at$27,750 using the Black Scholes pricing model (see Note 1), were recorded asdebt issuance costs and are being expensed over the term of the promissory noteas interest expense.

 

**On October 20, 2005, ProUroCare Inc. borrowed $300,000 froma financial institution.  The loan wasevidenced by a promissory note and collateralized**by two $150,000 CommercialGuaranties provided by two accredited investors.  The promissory note bore interest at anannual rate of 8.75% and was to mature on March 14, 2006.  In connection with the Commercial Guaranties,on October 19, 2005, the Company issued five-year warrants to the twoguarantors to acquire up to 150,000 shares of the Company’s common stock at$0.50 per share. The warrants issued are immediately exercisable.  The warrants, valued at $72,000 using theBlack Scholes pricing model, were recorded as debt issuance costs and are beingexpensed over the term of the promissory note as interest expense.  The new promissory note amended and restatedthe existing $100,000 promissory note first issued on March 31, 2005.  Under the amended promissory note, a personalguaranty of the previous promissory note by the Company’s Chairman and CEO,Maurice R. Taylor, was released and is no longer in effect.  The 

** **

**50**

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** **

**amended promissory note was also collateralized**by the assets of the businessunder the existing Commercial Security Agreement.

** **

**For the year ended December 31, 2005 the Company expensed$55,773 related to the debt issuance costs for the bank notes payable, which isincluded in interest expense.  All of theforegoing outstanding bank promissory notes were repaid on February 16, 2006from the net proceeds of the Company’s pending senior debt financing (see Note16).**

** **

**(10)**     NotesPayable

** **

InOctober 2004, the Company reached an agreement with one of its research anddevelopment contractors, Minnetronix Inc., regarding payment of amounts due toMinnetronix for past and future work.  Aspart of this agreement, the Company issued an unsecured promissory note for theremaining balance of $241,613.  Thepromissory note was payable in 12 monthly installments beginning November 1,2004, and carried a 6% annual interest rate. At the same time, the Company paid $200,000 to Minnetronix as a depositon future development work, to be applied to the last mutually agreed uponproject expenses.  In April, 2005, theCompany applied a portion of amounts on deposit to pay the remaining balance(approximately $122,000) and certain open invoices from Minnetronix.  The remaining balance of the deposit atDecember 31, 2005 totals approximately $550, which is being held as a securitydeposit by Minnetronix against future contracted work.  Interest expense during the years endedDecember 31, 2005 and 2004 was $2,800 and $3,330, respectively.

 

On April 19, 2005 theCompany borrowed $31,125 from a commercial lender pursuant to an insurancepolicy financing agreement. The financing agreement called for eight monthlyinstallment payments of $4,098 beginning May 1, 2005, with an imputed annualinterest rate of 14%.  The proceeds werepaid directly to an insurance company as a prepayment on an insurancepolicy.  In December 2005, the financingagreement was paid in full.  Interestexpense during the year ended December 31, 2005 was $2,066.

 

**On September 21, 2005 ProUroCare Inc., borrowed $100,000from an unrelated individual lender, and in connection therewith issued to thelender a promissory note.  The promissorynote bore an annual interest rate of Prime less one-half percent and was tomature on March 20, 2006.  In connectionwith the promissory note, the Company issued two five-year warrants(immediately exercisable) to the lender to acquire a total of 50,000 shares ofthe Company’s common stock at $0.50 per share. The gross proceeds of $100,000 were allocated between the promissorynote and the common stock warrants based on the relative fair values of thesecurities at the time of issuance. The warrants, valued at $26,500 using theBlack Scholes pricing model (see Note 1), were recorded as original issue discountas defined in EITF 98-5 “Accounting for Convertible Securities with BeneficialConversion Features or Contingently Adjustable Conversion Ratios” and are beingexpensed on a straight-line basis over the term of the promissory note, whichapproximates the interest method.  Forthe year ended December 31, 2005 the Company expensed $14,316 related to thedebt issuance cost of the note as interest expense.  This promissory note was repaid on February16, 2006 from the net proceeds of the Company’s pending senior debt financing(see Note 16).**

** **

**51**

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** **

**(11)**     Shareholders’ Equity

** **

***(a)****      **Common Stock and Warrants issuedrelated to 2002 Private Placement*

** **

The Company issued 3,000,000 shares to CNI and CNI LLCin July 2001. In connection with the Company’s license agreements with CSM andProfile, the Company issued 3,000,000 and 3,999,999 shares of common stock in2001 and 2002, respectively.

 

In connection with a private placement to accreditedinvestors, the Company issued 453,345 shares of common stock in 2002.  In addition, the Company issued warrants topurchase 45,348 shares of common stock to three individuals related to servicesrendered in connection with the private placement.  These warrants are exercisable throughNovember 2006 at $2.33 per share.

 

***(b)***       CommonStock and Warrants issued related to Merger and 2004 Private Placement

*** ***

MergerAgreement

 

Pursuantto an Agreement and Plan of Merger and Reorganization dated as of April 2, 2004(the “Merger Agreement”), by and among ProUroCare Inc., Global InternetCommunications Inc. (“Global”), and GIC Acquisition Corp., a Minnesotacorporation and wholly owned subsidiary of Global (“Acquisition Co.”),Acquisition Co. merged with and into the ProUroCare Inc., with ProUroCare Inc.remaining as the surviving company and a wholly owned operating subsidiary ofGlobal (such transaction is hereinafter referred to as the “Merger”).  The Merger was effective as of April 5, 2004,when articles of merger were filed with the Minnesota Secretary of State.  On April 5, 2004, Global announced theeffectiveness of the Merger through a press release and subsequent CurrentReport on Form 8-K, filed on April 20, 2004.

 

Priorto the Merger, one ProUroCare Inc. shareholder, Profile, L.L.C. (“Profile”) haddissented from the Merger proposal as the registered holder of securitiesbeneficially owned by certain shareholders holding, in the aggregate, 308,465(pre-merger) shares of ProUroCare Inc.’s common stock.  As described below, Profile and ProUroCareInc. entered into an agreement relative to these dissenting shareholders.

 

Concurrentwith the consummation of the Merger, ProUroCare Inc. delivered definitivedocuments related, among other things, to the purchase of 300,000(pre-conversion) shares of ProUroCare Inc. common stock from the dissentingshareholders for $750,000; and shareholders beneficially holding the remaining8,465 (pre-conversion) shares of ProUroCare common stock withdrew theirdissents from the Merger.  Theseredemption transactions had the result of decreasing the aggregate number ofshares of ProUroCare Inc. common stock outstanding immediately prior to theMerger, and thereby reduced the anticipated total number of shares of commonstock of Global issued and outstanding immediately after the Merger.

 

At theeffective time of the Merger, the legal existence of Acquisition Co. ceased,and all 3,501,001 (pre-conversion) shares of common stock of ProUroCare Inc.that were outstanding immediately prior to the Merger and held by ProUroCareshareholders were cancelled, with one share of ProUroCare Inc. common stockissued to Global.  Simultaneously, theformer shareholders of ProUroCare Inc. common stock received an aggregate of9,603,003 shares of common stock of Global, representing approximately 82.1% ofGlobal’s common stock outstanding immediately after the Merger.  At the same time, Global purchased 300,000 ofthe 308,465 (pre-conversion) shares with respect to which dissenters’ rightswere exercised, for an aggregate purchase price of $750,000.

 

Globalwas a non-operating public shell company at the time of the Merger.  Accordingly, the Merger transaction wasrecorded as a recapitalization rather than a business combination.  The assets and liabilities resulting from thereverse acquisition were the former ProUroCare Inc. assets and liabilities (at 

 

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historicalcost) plus a $13,500 accrued Global liability (assumed at historicalcost).  There were no other assets orliabilities on Global’s books at the time of the Merger.

 

TheCompany recorded costs associated with the Merger totaling $162,556 during2004.

 

Settlementof Dispute with Profile L.L.C.

 

OnJuly 31, 2003, the Company received a notice from Profile, the licensor under alicense agreement (the “Profile License Agreement”) pursuant to which Profilelicenses to the Company certain essential intellectual property needed todevelop, manufacture and sell its ProUroScan product, that it believed theCompany had breached material provisions of the license agreement.  The Company believed that it was incompliance with the Profile License Agreement. The closing of the Private Placement was contingent upon the Company’sresolving such dispute with Profile, and the closing of the Private Placementwas a condition to the closing of the Merger.

 

OnMarch 23, 2004, the Company and Profile entered into a Letter of Understandingpursuant to which, effective upon April 5, 2004:

 

i.      Profile withdrew its default letters andwaived any existing defaults under the Profile License Agreement.

 

ii.     ProUroCare committed to spend at least$1.2 million of the proceeds from the Private Placement on the development andcommercialization of the ProUroScan.  Theterms of the settlement with Profile included no specific time limit withinwhich such requirement must be met.

 

iii.    The Company agreed to purchase 300,000 ofthe 308,465 (pre-conversion) shares with respect to which dissenters’ rightswere exercised, for an aggregate purchase of $750,000 of which $100,000 waspaid upon the initial closing of the Private Placement and the balance of$650,000 was paid pursuant to the delivery of a promissory note, payable in twoequal quarterly installments of $325,000 commencing on July 6, 2004.  This promissory note was collateralized byall of the assets of the Company.  Theremaining 8,465 (pre-conversion) shares with respect to which dissenters’rights were originally exercised withdrew their dissents and participated inthe Merger.  The note was paid in full inOctober 2004.

 

iv.    Maurice Taylor, Chairman and ChiefExecutive Officer of the Company, agreed to certain restrictions on the sale ofthe shares of the Company owned by him until the promissory note to Profile waspaid in full.  On October 4, 2004, thepromissory note was paid in full and the restrictions on the sale of Mr. Taylor’ssecurities expired.

 

v.     The Company committed to provide Profile(the owner of 3,084,999 shares of the Company’s common stock following theMerger) limited piggyback registration rights in connection with anyunderwritten public offering.

 

vi.    The Company’s officers and directors(except for the Company’s Chief Financial Officer) agreed to not dispose oftheir shares of Company common stock for a period of 90 days following theeffective date of the Company’s SB-2 registration statement.

 

PrivatePlacement of the Global’s Common Stock.

 

Inconnection with the Merger Agreement, Global completed a private placementoffering of 2,205,000 shares of common stock pursuant to Rule 506 promulgatedunder the Securities Act of 1933, as amended. 

 

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Theinitial closing occurred on April 5, 2004, at which time Global issued1,980,000 shares at $2.00 per share, aggregating to gross proceeds of $3.96million.  Subsequent to April 5, Globalissued an additional 225,000 shares at $2.00 per share, aggregating to grossproceeds of $450,000.  Costs associatedwith the private placement (including the subsequent registration costs) were$139,493.

 

Aspart of the Private Placement, the Company agreed to prepare and file aregistration statement covering the resale of all of the shares of common stockpurchased and sold in the Private Placement with the United States Securitiesand Exchange Commission (the “SEC”) within 120 days of the initial closing ofthe Private Placement and the closing of the Merger.  The registration statement was first filed onAugust 3, 2004 and was declared effective on January 24, 2005.

 

Alsoas part of the Private Placement, a consultant was engaged by Global to providefinancial-advisory services.  Under termsof the arrangement, the consultant was paid $52,000, and issued a warrant for300,000 shares of common stock upon the first closing of the privateplacement.  The warrant has a three-yearterm and is exercisable at $2.00 per share.

 

***(c)***        Privatesale of Common Stock

*** ***

On June 15, 2005 the Company sold 65,790 shares of itscommon stock to one accredited investor in a non-public offering under Section4(2) of the Securities Act of 1933, as amended. Net proceeds received from thisplacement were $50,000.

 

***(d)***       CommonStock and Warrants issued for services and liabilities

*** ***

In March 2002, the Company granted a warrant topurchase 30,000 shares of common stock to a director that is exercisable at$1.13 per share. This warrant vested ratably over a 24-month period endingApril 2004 until the resignation of the director on February 9, 2004, andexpired on February 9, 2005.  Anaggregate of $1,150, and $12,075 of stock-based compensation related to thiswarrant was recognized in the years ended December 31, 2004 and the period fromAugust 17, 1999 (inception) to December 31, 2005, respectively.

 

In November 2002, the Company granted a warrant topurchase 1,500 shares of common stock to a consultant for servicesrendered.  This warrant is exercisablethrough November 2007 at $2.33 per share. An aggregate of $490 of stock-based compensation related to this warrantwas recognized in the year ended December 31, 2002.

 

InFebruary, 2003 the Company issued 5,445 common shares to a consultant in lieuof $12,705 cash for accounts payable.

 

In June 2003, under the terms of an agreement with asupplier, the Company issued a warrant to purchase 92,148 shares of commonstock.  This warrant is exercisablethrough June 2007 at $0.33 per share. The value of $187,060 related to this warrant was recognized in the yearended December 31, 2003.

 

InMay, 2004, a vendor was issued 38,613 shares of the Company’s common stock aspayment for product development work valued at $77,225.

 

InOctober, 2004 another vendor was issued 44,441 shares of ProUroCare commonstock in lieu of $88,882 cash for accounts payable.

 

Underthe terms of a Research and Development Agreement with Artann Laboratories,Inc. (“Artann”) (see Note 14), Artann will receive additional compensation inthe form of five-year warrants to purchase up to 500,000 shares of Companycommon stock, issuable upon certain milestone events.  Warrants for the purchase of 100,000 sharesat a per-share price of $2.00 were issued upon the execution of the 

 

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agreement.The value of these warrants computed using the Black-Scholes pricing model was$114,914, and was recorded as research expense. Warrants for the purchase of 200,000 shares at a per share price of$2.00 per share were issued in December 2004 following the shipment of theProUroScan systems under the Development Agreement.  The value of these warrants computed usingthe Black-Scholes pricing model was $166,172, and was also recorded as researchand development expense.  The final200,000 warrants will be issued in two equal 100,000-share installments on theone-year and two-year anniversaries of the Research and Development Agreement,dependent upon delivery of two clinical systems.

 

Effective September 1, 2005 the Company engaged newoutside Corporate and Securities Law Counsel, Venture Law Resources, PLLC(VLR), of Bloomington, Minnesota. Pursuant to such engagement, VLR agreed torepresent the Company as its General Counsel and to assist with theintroduction of strategic investors to the Company from time to time, includingsuccess based compensation arising from any services as a finder to theCompany. Under this agreement, the Company issued 25,000 shares of common stockto VLR as a retainer in connection with VLR’s engagement.  The shares issued to VLR were valued at$17,750 using the fair market value of the Company’s stock price on the date ofgrant and along with a $2,500 retainer paid, was capitalized as deferredoffering expense during 2005.  OnFebruary 22, 2006 an addition 25,000 common shares were issued to VLR pursuantto their engagement (see Note 16).

 

***(e)***        Warrantsissued for Loans and Loan Guarantees

*** ***

In March 2003, the Company issued warrants to purchase192,861 shares of common stock to four individuals in exchange for theirguaranteeing a bank line of credit.  Atthe same time, the Company issued a warrant to purchase 21,429 shares of commonstock to a director in exchange for guaranteeing the bank line of credit.  These warrants were exercisable throughFebruary 2008 at $2.33 per share.  Anaggregate of $64,287 of debt issuance cost related to these warrants wasrecorded in the year ended December 31, 2003.

 

In August 2003, the Company issued warrants topurchase 225,006 shares of common stock to five individuals in exchange fortheir guaranteeing a new bank line of credit. At the same time, the Company issued a warrant to purchase 21,429 sharesof common stock to a director in exchange for guaranteeing the bank line ofcredit.  These warrants were exercisablethrough August 2008 at $2.33 per share. An aggregate of $88,717 of debt issuance cost related to these warrantswas recorded in the year ended December 31, 2003.

 

In September and December 2003, the Company issuedadditional warrants to purchase 64,287 and 117,858 shares of common stock,respectively, to three individuals in exchange for their guaranteeingadditional amounts under the existing bank line of credit. These warrants wereexercisable through September and December 2008, respectively, at $2.33 pershare.  An aggregate of $63,108 of debtissuance cost related to these warrants was recorded in the year ended December31, 2003.

 

In total, warrants to purchase 642,870 shares ofcommon stock at $2.33 per share were issued in relation to the bank line ofcredit guarantees in 2003, and an aggregate of $216,112 of debt issuance costrelated to these warrants was recorded in the year ended December 31, 2003,which was amortized over the life of the bank line of credit ($72,594 and$143,518 during the years end December 31, 2004 and 2003, respectively). Uponthe closing of the Company’s Private Placement and Merger on April 5, 2004,certain exercise-price protections and anti-dilution provisions of thesewarrants became effective.  Under theterms of these provisions, the holders of these warrants became eligible topurchase a total of 1,017,882 shares at $1.67 per share.  The additional warrants and revaluation ofthe existing warrants were valued at $320,974 using the Black Scholes pricingmodel, and were recorded as interest expense at the time of issuance.

 

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**On September 14, 2005, ProUroCare Inc., our wholly ownedsubsidiary, borrowed $100,000 from a financial institution and issued apromissory note to such institution collateralized by a commercial guarantyfrom an individual investor.  Inconnection with the commercial guaranty, the Company issued a five-year warrant(immediately exercisable) to the investor to acquire 25,000 shares of the Company’scommon stock at $0.50 per share.  OnOctober 19, 2005, the Company issued another immediately exercisable five-yearwarrant to the investor to purchase 25,000 shares of the Company’s common stockat $0.50 per share. The warrants, valued at $29,000 using the Black Scholespricing model (see Note 1), were recorded as debt issuance costs and are beingexpensed over the term of the promissory note as interest expense.**

** **

**On September 21, 2005 ProUroCare Inc., borrowed $100,000from an unrelated individual lender, and in connection therewith issued afive-year warrant (immediately exercisable) to the lender to acquire 25,000shares of the Company’s common stock at $0.50 per share.  On October 19, 2005, the Company issuedanother immediately exercisable five-year warrant to the investor to purchase25,000 shares of the Company’s common stock at $0.50 per share. The grossproceeds of $100,000 were allocated between the promissory note and the commonstock warrants based on the relative fair values of the securities at the timeof issuance. The warrants, valued at $26,500 using the Black Scholes pricingmodel (see Note 1), were recorded as original issue discount as defined in EITF98-5 “Accounting for Convertible Securities with Beneficial Conversion Featuresor Contingently Adjustable Conversion Ratios” and are being expensed on astraight-line basis over the term of the promissory note, which approximatesthe interest method.**

** **

**On October 20, 2005, our wholly-owned subsidiary,ProUroCare Inc., borrowed $300,000 from a financial institution.  The loan is evidenced by a promissory noteand is collateralized by two $150,000 Commercial Guaranties provided by twoindividual investors.  In connection withthe Commercial Guaranties, the Company issued five-year warrants (immediatelyexercisable) to the two guarantors to acquire up to 150,000 shares of theCompany’s common stock at $0.50 per share. The warrants, valued at $79,500 using the Black Scholes pricing model,were recorded as debt issuance costs and are being expensed over the term ofthe promissory note as interest expense.**

** **

***(f)***        Warrantssummary

*** ***

Warrant activity is as follows for the years endedDecember 31:

 
| ** **               | ** ** | **Warrants** | ** ** | **Weighted-Average    Exercise Price** | ** ** |
|--------------------------|------------|--------------|------------|----------------------------------------|------------|
| ** **               | ** ** | **2005**     | ** ** | **2004**                               | ** ** | **2005** | ** ** | **2004** | ** ** |
| Outstanding, January 1   |       | 1,781,877    |       | 811,866                                |       | $ | 1.72 |   | $ | 2.06 |   |
| Granted                  |       | 250,000      |       | 975,012                                |       | 0.50 |   | 1.87 |   |
| Exercised                |       | —       |       | —                                 |       | — |   | — |   |
| Forfeited                |       | (24,999      | )          | (5,001                                 | )          | 1.13 |   | 1.13 |   |
| Outstanding, December 31 |       | 2,006,878    |       | 1,781,877                              |       | $ | 1.58 |   | $ | 1.72 |   |

 

The weighted-average fair value of the warrantsgranted during the years ended December 31, 2005 and 2004 was $0.50 and $0.54,respectively.

 

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The fair value of stock warrants is the estimatedpresent value at grant date using the Black-Scholes pricing model with thefollowing weighted average assumptions:

 
| ** **              | ** ** | **2005**  | ** ** | **2004**  | ** ** |
|-------------------------|------------|-----------|------------|-----------|------------|
| Risk-free interest rate |       | 4.25      | %          | 2.99      | %          |
| Expected life           |       | 3-5 years |       | 3-5 years |       |
| Expected volatility     |       | 129.8     | %          | 41.7      | %          |
| Expected dividend rate  |       | 0.0       | %          | 0.0       | %          |

 

***(g)***       StockOptions

*** ***

In April 2002, the Company adopted a stock option plancovering the granting of options to employees and independent contractors (the “2002Plan”).

 

Under the 2002 Plan, 1,500,000 shares of the Company’scommon stock are available for issuance. It permits the Company to grantincentive and nonqualified options, stock appreciation rights, stock awards,restricted stock awards, performance shares, and cash awards.

 

The exercise price for all options shall be determinedby the board of directors. The term of each stock option and period of exercisabilitywill also be set by the board of directors, but will not exceed a period of tenyears and one day from grant date or on conclusion of an initial publicoffering or merger with a public entity, if earlier. The agreement alsoincludes provisions for anti-dilution of options.

 

In March 2002, the Company granted an aggregate of900,000 employee stock options to officers and directors that are exercisableat $1.13 per share.  The officer’soptions vest ratably over a 36-month period through December 2004, while thedirector’s options vested ratably over a 24-month period through April2004.  In October 2003, an officerresigned from the Company and 150,000 of his unvested options were forfeitedand in October 2004 his remaining 210,000 options expired.  In February 2004 a director resigned from theBoard of Directors, and 3,750 of his unvested options were forfeited, and inOctober 2005 his remaining 26,250 options expired.  An aggregate of $0, $82,452 and $340,435 ofstock-based compensation related to these options was recognized in the yearsended December 31, 2005 and 2004 and the period from August 17, 1999 toDecember 31, 2005, respectively.

 

In April 2002, the Company issued a nonqualified stockoption to a consultant to acquire 30,000 shares of common stock at $1.13 pershare. This option vested over a 6-month period ended October 2002. At the sametime, the Company also issued a nonqualified stock option to a consultant toacquire 30,000 shares of common stock at $1.13 per share. This option vestedratably over a two-year period through April 2004.  An aggregate of $25,300 of stock-basedcompensation related to these options was recognized in the period from August17, 1999 (inception) to December 31, 2005.

 

InFebruary 2004, the Company issued 450,000 employee stock options to anofficer.  These options were valued at$0.67 per share, vest ratably over a three year period, and are exercisable at$2.00 per share through February 2014. The Company expensed $101,008, 84,173, and $185,181 related to these optionsduring the years ended December 31, 2005 and 2004 and the period from August17, 1999 to December 31, 2005, respectively.

 

In February 2004, the Company issued 30,000nonqualified stock options to a consultant in consideration of services rendered.  The options were valued at $0.67 per share,and vested as to 15,000 shares upon issuance and as to the remaining 15,000shares on January 1, 2005.  These optionsare exercisable at $2.00 per share through February 2014.  The Company expensed $10,100, $10,100 and$20,200 related to these

 

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optionsduring the years ended December 31, 2005 and 2004 and the period from August17, 1999 to December 31, 2005, respectively.

 

InJuly, 2004 the Company’s board of directors passed a resolution adopting theProUroCare Medical Inc. 2004 Stock Option Plan (the “2004 Plan”), which wasapproved by the Company’s shareholders in July, 2005.  The Company has reserved 1,500,000 shares ofcommon stock for issuance under the 2004 Plan. The 2004 Plan permits the Company to grant incentive and nonqualifiedoptions, stock appreciation rights, stock awards, restricted stock awards,performance shares, and cash awards.

 

InJuly 2004 the Company issued 200,000 employee stock options to the Company’sChief Financial Officer in connection with his employment agreement.  These options were valued at $1.50 per share,vest ratably over a three year period, and are exercisable at $2.50 per sharethrough July 2014.  The Company expensed$100,008, $41,670, and $141,678 related to these options during the years endedDecember 31, 2005 and 2004 and the period from August 17, 1999 to December 31,2005, respectively.

 

**InJanuary, 2005, the Company issued 150,000 stock options to the Company’s VicePresident of Marketing and Sales.  Theoptions were valued at $1.62 per share, vest ratably over a three-year period,and are exercisable at $2.35 per share through January 2015.  The Company expensed $74,256 during the yearended December 31, 2005 related to these options.**

** **

**InSeptember, 2005, the Company issued 150,000 stock options to the Company’s VicePresident of Engineering.  The optionswere valued at $0.53 per share, vest ratably over a three-year period, and areexercisable at $0.60 per share through September 2015.  The Company expensed $6,626 during the yearended December 31, 2005 related to these options.**

** **

**Theoptions granted above were valued using the Black Scholes pricing model (seeNote 1) and are being expensed over the vesting period as general andadministrative expense.**

** **

The exercise price for all options shall be determinedby the board of directors. The term of each stock option and period ofexercisability will also be set by the board of directors, but will not exceeda period of ten years and one day from grant date. The agreement also includesprovisions for anti-dilution of options.

 

Stock option activity is as follows for the yearsended December 31:

 
| ** **               | ** ** | **Options** | ** ** | **Weighted-Average  Exercise Price** | ** ** |
|--------------------------|------------|-------------|------------|--------------------------------------|------------|
| ** **               | ** ** | **2005**    | ** ** | **2004**                             | ** ** | **2005** | ** ** | **2004** | ** ** |
| Outstanding, January 1   |       | 1,276,250   |       | 810,000                              |       | $ | 1.67 |   | $ | 1.13 |   |
| Granted                  |       | 300,000     |       | 680,000                              |       | 1.48 |   | 2.15 |   |
| Exercised                |       | —      |       | —                               |       | — |   | — |   |
| Forfeited                |       | (26,250     | )          | (3,750                               | )          | 1.13 |   | 1.13 |   |
| Expired                  |       | —      |       | (210,000                             | )          | — |   | 1.13 |   |
| Outstanding, December 31 |       | 1,550,000   |       | 1,276,250                            |       | $ | 1.64 |   | $ | 1.67 |   |
|                     |       |        |       |                                 |       |   |   |   |   |
| Exercisable, December 31 |       | 1,027,812   |       | 751,575                              |       | $ | 1.56 |   | $ | 1.34 |   |

 

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The following table summarizes information about stockoptions outstanding as of December 31, 2005:

 
| ** **                    | ** ** | **Options  Outstanding** | ** ** | **Options  exercisable**                   | ** ** |
|-------------------------------|------------|--------------------------|------------|--------------------------------------------|------------|
| **Range of Exercise  prices** | ** ** | **Number  of   Options** | ** ** | **Weighted    Average   Exercise   Price** | ** ** | **Weighted    Average   Remaining   Contractual   life** | ** ** | **Number  of   Options** | ** ** | **Weighted    Average   Exercise   Price** | ** ** |
| $0.60                         |       | 150,000                  |       | $                                          | 0.60       |   | 9.7 |   | 12,501 |   | $ | 0.60 |   |
| $1.13                         |       | 570,000                  |       | $                                          | 1.13       |   | 6.3 |   | 570,000 |   | $ | 1.13 |   |
| $2.00-2.50                    |       | 830,000                  |       | $                                          | 2.18       |   | 4.4 |   | 445,311 |   | $ | 2.14 |   |
|                          |       | 1,550,000                |       | $                                          | 1.64       |   | 7.2 |   | 1,027,812 |   | $ | 1.56 |   |

 

The Black-Scholes option-pricing model was developedfor use in estimating the fair value of traded options, which have no vestingrestrictions and are fully transferable. In addition, option pricing modelsrequire the input of highly subjective assumptions. Because the Company’semployee and consultant stock options have characteristics significantlydifferent from those of traded options, and because changes in the subjectiveinput assumptions can materially affect the fair value estimate, the existingmodels may not necessarily provide a reliable single measure of the fair valueof the Company’s employee stock options.

 

In determining the compensation cost of the optionsgranted during the years ended December 31, 2005 and 2004, as specified by SFAS123, the fair value of each option grant has been estimated on the date ofgrant using the Black Scholes pricing model and the weighted averageassumptions used in these calculations are summarized as follows:

 
| ** **                       | ** ** | **For the  years ended December 31,** | ** ** |
|----------------------------------|------------|---------------------------------------|------------|
| ** **                       | ** ** | **2005**                              | ** ** | **2004** | ** ** |
| Risk-free Interest Rate          |       | 3.84                                  | %          | 4.19 | % |
| Expected Life of Options Granted |       | 5.8 years                             | (1)        | 10 years | (2) |
| Expected Volatility              |       | 104.1                                 | %          | 42.06 | % |
| Expected Dividend Yield          |       | 0                                     |       | 0 |   |

 

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(1)Calculatedas the average of the vesting periods and the contractual term of the options.

(2) The contractual termof the options.

 

Using the foregoing assumptions, the average fairvalue of each option granted during the years ended December 31, 2005 and 2004,and the period from August 17, 1999 (inception) to December 31, 2005 was $1.08,$0.43, and $0.67, respectively.

 

**(12)**     RelatedParties

** **

A director of the Company is also a director of CSM.In April and May 2002, CSM loaned a total of $51,000 to the Company. In June2002 and June 2004, the Company repaid the loan by making payments to CSM of$25,000 and $28,963, respectively, including interest accrued at a rate of5%.  Interest expense on the loan was $0,$605, and $2,962 for the years ended December 31, 2005 and 2004, and the periodfrom August 17, 1999 (inception) to December 31, 2005, respectively.

 

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The Company’s former President (until October, 2003)was also President of ArMed, LLC, a company related to Profile prior to theJanuary 2002 license transaction. In February 2003, the Company advanced$10,000 to the former President, of which $0 and $9,985 was outstanding atDecember 31, 2005 and 2004.  The Companyhas recorded a reserve against the entire balance, pending resolution of alawsuit filed by the former President against the Company (see Note 6).  Two of the Company’s former directors aremanaging members of Profile.

 

The Company’s Chairman and a Company director are alsodirectors of CNI and CN LLC.  FromOctober 2001 through May 2002, CNI loaned a total of $123,616 to theCompany.  The Company accrues interest onthis debt at an annual rate of 5%. Interest expense on the loan was $447, $818, and $8,807 for the yearsended December 31, 2005 and 2004, and the period from August 17, 1999(inception) to December 31, 2005, respectively. In 2002 the Company repaid $12,950 to CNI.  The Company repaid principal and interesttotaling $0 and $27,021 to CNI in 2005 and 2004, respectively.

 

In July, 2003 the Company borrowed $60,000 from theCompany’s Chairman and a director under the terms of an unsecured promissorynote.  The note bore simple interest at6.5% per annum.  In August and September2003, the Company repaid the note and the accrued interest thereon.

 

**(13)****    ****Private Placement**

 

On April 11, 2005, the Company entered into aPlacement Agency Agreement with a placement agent to raise working capital forthe Company.  Under the terms of theagreement, the placement agent was granted the exclusive right to identifyprospective purchasers of the Company’s debt or equity securities, on a bestefforts basis, with no stated minimum or maximum amount to be raised.  Pursuant to the agreement, the Company paid$5,000 and on May 13, 2005 issued 50,000 shares of the Company’s common stockto the placement agent.  The 50,000shares were valued at $51,001 using the stock price on the date of grant.Subsequently, the placement agent was unable to raise capital on terms thatwere acceptable to the Company and the agreement was terminated.  Costs incurred in this financing totaling$59,696, including the value of the common stock issued to the placement agent,were expensed in the year ended December 31, 2005.

 

Effective September 1, 2005 the Company engaged newoutside Corporate and Securities Counsel, Venture Law Resources, PLLC (“VLR”),of Bloomington, Minnesota. Pursuant to such engagement, VLR agreed to representthe Company as its General Counsel and to assist with the introduction ofstrategic investors to the Company from time to time, including success-basedcompensation arising from any services as a finder to the Company.  Under this agreement, the Company issued25,000 shares of common stock to VLR as a retainer in connection with VLR’sengagement.  The shares issued to VLRwere valued at $17,750 using the fair market value of the Company’s stock priceon the date of grant and along with a $2,500 retainer paid, was capitalized asdeferred offering expense during 2005. On February 22, 2006 an additional 25,000 common shares were issued toVLR pursuant to their engagement (see Note 16).

 

**(14)**     DevelopmentAgreements

** **

***Development Agreement.***

 

InJuly of 2004, the Company entered into a Development Agreement with Artann andArmen Sarvazyan under which Artann and Sarvazyan developed two working,pre-clinical ProUroScan systems.  Thesesystems were delivered to ProUroCare in late November 2004.  ProUroCare paid Artann $180,000 for thisdevelopment work, which was expensed as research and development cost duringthe year ended December 31, 2004.  TheDevelopment Agreement also provides that Artann will provide, at no charge,consulting and advisory services in the development of these systems for use inclinical trials.

 

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***Research and Development Agreement.***

 

InJuly of 2004, the Company entered into a “Research and Development Agreement”with Artann for the further development of the ProUroScan and otherto-be-determined technologies in the urologic field.  Under this agreement Artann is to be aresearch and development partner to the Company, supporting the furtherdevelopment of the ProUroScan and other to-be-determined technologies in theurologic field.  Any intellectualproperty and know-how resulting from the advancement of the ProUroScan underthis agreement will be assigned to ProUroCare. For its role, Artann will receive a total of $250,000 (plus incentivesas explained below) payable upon certain milestone events.  A payment of $50,000 was made to Artann uponthe execution of the agreement.  InDecember, 2004 the Company paid Artann $110,000 following the shipment of theProUroScan prototypes in accordance with the Development Agreement (including a$10,000 bonus for delivery of the systems ahead of schedule).  All of these payments to Artann were expensedas research and development cost during the year ended December 31, 2004.  On May 6 and June 6, 2005, Artann filedadditional patent applications relating to a new probe positioning technology,for which the Company will pay Artann $50,000, with the final $50,000 to bepaid upon issuance of the patent(s) to ProUroCare.  Artann will also receive additionalcompensation in the form of five-year warrants to purchase up to 500,000 sharesof Company common stock, similarly issuable upon certain milestone events.  Fully vested warrants for the purchase of100,000 shares at a per-share price of $2.00 were issued upon the execution ofthe agreement.  The value of thesewarrants computed using the Black-Scholes pricing model was $114,914, and wasrecorded as research and development cost. Fully vested warrants for the purchase of 200,000 shares at a per shareprice of $2.00 were issued in December 2004 following the shipment of theProUroScan systems under the Development Agreement.  The value of these warrants computed usingthe Black-Scholes pricing model was $166,172, and was also recorded as researchand development expense.  The final200,000 warrants are to be issued, contingent on the delivery of a system readyfor clinical trials, in two equal 100,000-share installments on the one-yearand two-year anniversaries of the Research and Development Agreement.  To date, we believe the systems we havereceived do not meet our criterion, and we are working with Artann to confirmthis assessment; accordingly, we have not issued the final 200,000 warrants.

 

***JointDevelopment Agreement.***

 

On July 27, 2005, theCompany entered into a Memorandum of Understanding (the “MOU”) with Urologix,Inc. (“Urologix”) pursuant to which the parties will co-develop new productsutilizing ProUroCare’s electrical impedance tomography (“EIT”) technology. TheEIT technology is expected to be assembled into modules that will be compatiblewith and incorporated into Urologix’ existing thermal therapy systems.  The modules will include a low-frequencypower supply, electrodes, a rectal probe, monitor and software containing theproprietary algorithms.  It is intendedthat thermal therapy systems upgraded with the modules will enable urologiststo observe the real-time migration of heat through the prostate duringtreatment and adjust the amount of energy applied in order to protect theurethral tissue and adjacent organs.  Theupgraded systems will continue to utilize transurethral microwave catheters togenerate the heat necessary to cause necrosis.

 

The parties expect theproject to require several phases of research, testing and development, thefirst three phases of which are projected to cost approximately $550,000.  The Company and Urologix have agreed toequally share in the development costs of these phases.  The MOU will continue in effect for afive-year period following the date on which the Federal Drug Administrationfirst approves a Urologix EIT urology product for sale in the United States. Ifthe development of the modules is successful, the parties contemplate enteringinto definitive agreements pursuant to which Urologix would market the newproducts subject to a license agreement with the Company.

 

In connection with theco-development project, on July 27, 2005, the Company granted to Urologix asublicense (“Urologix Sublicense”) of EIT technology originally licensed toProUroCare by Rensselaer Polytechnic Institute (“RPI”) pursuant to that certainLicense Agreement dated July 13, 2001 by and between the Company and RPI (the “RPILicense”).  Under the terms of thesublicense, Urologix will have the right to exploit the licensed products underand on the same terms as the Company has under the RPI License, as amended,including without limitation, restrictions as to field of use, exclusivity,term and other conditions of the MOU.

 

Simultaneously,ProUroCare and RPI entered into Amendment No. 1 to the RPI License. Under theterms of 

 

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Amendment No. 1,(i) ProUroCare received the right to sublicense the technology, (ii) amilestone requiring the initiation of an FDA approval process on an EIT devicewas extended to July 13, 2008, (iii) certain termination provisions wereextended to July 13, 2009, and (iv) royalties due to RPI under the UrologixSublicense were defined as 3% of the Company’s net sales of rectal sheaths andabdominal belts to Urologix, plus 1% of Urologix’ sales of standalone EITmodules providing such sales are made above Urologix’ cost to manufacture.

 

**(15)**     ProForma Information (Unaudited)

** **

Thefollowing unaudited pro forma condensed results of operations for the yearended December 31, 2004, gives effect to the reverse merger with GlobalInternet Communications, Inc. and the private placement of the Company’s commonstock as if such transactions had occurred on January 1, 2004 (see Note 1).

 

Theunaudited pro forma information does not purport to represent what the Company’sresults of operations would actually have been if such transactions in fact hadoccurred at such date or to project the Company’s results of future operations:

 

**YearEnded December 31, 2004**

 
| ** **                                  | ** ** | **ProUroCare** | ** ** | **Global  Internet  Communications** | ** ** | **Proforma  Adjustments** | ** ** | **Proforma  Results** | ** ** |
|---------------------------------------------|------------|----------------|------------|--------------------------------------|------------|---------------------------|------------|-----------------------|------------|
| Sales, net                                  |       | $              | —     |                                 | $          | —                    |       | $                     | —     |   | $ | — |   |
|                                        |       |           |       |                                 |       |                      |       |                  |       |
| Loss from operations                        |       | $              | (1,849,631 | )                                    | $          | (199,113                  | )          | $                     | 205,028    | (1) | $ | (1,843,716 | ) |
|                                        |       |           |       |                                 |       |                      |       |                  |       |
| Net loss                                    |       | $              | (2,318,896 | )                                    | $          | (199,183                  | )          | $                     | 205,028    | (1) | $ | (2,313,051 | ) |
|                                        |       |           |       |                                 |       |                      |       |                  |       |
| Net loss per share-basic and diluted        |       | $              | (0.18      | )                                    |       |                      |       |                  |       | $ | (0.17 | ) |
|                                        |       |           |       |                                 |       |                      |       |                  |       |
| Shares outstanding – basic and diluted |       | 13,002,276     |       |                                 |       | 936,164                   | (2)        | 13,938,440            |       |

 

----

NOTES TO PRO FORMAADJUSTMENTS

 

(1)   This adjustment is for non-recurring consulting expenses related to theMerger, paid by Global Internet Communications, Inc.

(2)   This adjustment restates the number of weighted average sharesoutstanding as if the Merger and Private Placement had occurred at the beginningof the period.  The adjustment iscomputed as the difference between the weighted average effect of additionalshares issued pursuant to the Merger and Private Placement (2,097,000 shares ofGlobal Internet Communications, Inc. common stock outstanding at the time ofthe Merger, 2,205,000 shares issued pursuant to the Private Placement, less900,000 shares redeemed under dissenters’ rights) and the total of the sametransactions as if they had occurred at the beginning of the period.

 

**(16)**     SubsequentEvents

*** ***

**On January 25, 2006, ProUroCare Inc. borrowed, solely forshort-term working capital needs, a total of $48,000 in three separatetransactions:**

** **

**1.**           $12,500 from Alexander Nazarenko, a Director of theCompany; in consideration, the Company executed and issued to Mr. Nazarenko a$12,500 unsecured demand promissory note (the “Note”).  The Note bore interest at an annual rate ofPrime Plus One Percent;

** **

**2.**           $12,500 from David F. Koenig, a Director of the Company; inconsideration, the Company executed and issued to Mr. Koenig a $12,500unsecured demand promissory note (the “Note”). The Note bore interest at an annual rate of Prime Plus One Percent; and

** **

**3.**           $23,000 from Adron Holdings, LLC (“Adron”), a Minnesotalimited liability company, pursuant to a Loan Agreement between the Company,Adron, the Company’s Chief Executive Officer (Maurice Taylor II)

** **

**62**

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** **

**and David Koenig, a Director of the Company.  In consideration for such $23,000 loan, theCompany issued to Adron a $23,000 unsecured promissory note (the “Note”).  Mr. Taylor and Mr. Koenig each personallyguaranteed one-half of the Company’s obligations under the Note.  This Note was due on March 14, 2006, on whichdate the Company was obligated to pay an administrative fee of $4,000; such feewas reduced on a pro rata basis due to early repayment (see below). Under theterms of this Loan Agreement, the Company issued a five-year warrant to Adronto acquire 50,000 shares of Company common stock at $0.50 per share.  These warrants, valued at $41,500 using theBlack-Scholes pricing model, were recorded as interest expense in 2006.**

** **

**All of these notes were repaid on February 16, 2006 fromthe net proceeds of the first two closings under the Company’s pending seniordebt financing described below.  Also onthat date, the Company repaid $400,000 (plus accrued interest thereon) of banknotes payable and a $100,000 note payable (plus accrued interest thereon) to anindividual.**

** **

**Effective February 16, 2006 and February 28, 2006, theCompany completed its first two closings under its pending $6.0 million seniordebt financing.  These first two closingsaggregated $2.2 million. The senior debt financing is in the form of long-termbank loans (the “Loans”) secured by a security agreement covering all Companyassets, including two technology licenses that were assigned to the bank, andguaranteed by a limited number of accredited individual investors, who receivedunsecured convertible debentures in consideration for their guarantees. A thirdand final closing on such senior debt financing is anticipated in the nearfuture.**

** **

**Pursuant to the first of such two closings, on February 16,2006, the Company issued a promissory note to its lender in the amount of$1,200,000, at an interest rate of the Prime Rate plus 1.0%.  This promissory note matures on January 11,2008.  In connection with this note, twoindividuals each guaranteed $600,000 of the loan, and were each issued a 10%unsecured convertible subordinated debenture in the amount of $200,000.Furthermore, under the second closing held on February 28, 2006, the Companyissued a second promissory note to its lender in the amount of $1,000,000, atan interest rate of the Prime Rate plus 1.0%. This promissory note matures on February 29, 2008.  Two accredited investors guaranteed the$1,000,000 face amount of this promissory note, and in consideration, wereissued 10% unsecured convertible subordinated debentures totaling $333,334.**

** **

**Each of the debentures issued to the guarantors under theCompany’s pending senior debt facility mature three years from the date ofissue and is convertible into Company common stock at a price of $0.50 pershare.  If the guarantees of theunderlying bank indebtedness are not released by August 31, 2007 (orsubsequently October 31, 2007) the conversion price becomes $.40 per share (andsubsequently $0.30 per share), respectively.**

** **

**On February 22, 2006 the Company issued 25,000 commonshares to Venture Law Resources, PLLC, in connection with their engagement asCorporate and Securities Law Counsel. The shares were valued at $22,750 using the fair market value of theCompany’s stock price on the date of grant.**

** **

**On March 2, 2006 the Company issued to five of itsemployees stock options to acquire a total of up to 200,000 shares of commonstock at $0.75 per share.  The five-yearoptions, which vest upon the Company securing FDA approval of its ProUroScansystem, were valued at $0.72 per share.**

** **

**On March 3, 2006 the Company and its wholly-owned subsidiarysettled a lawsuit with a former officer and employee of the Company relating toan August 1, 2005 settlement of a lawsuit relating to the former officer’sseparation of employment with ProUroCare Inc. Under the settlement agreement,the Company paid $178,924 (including applicable employment taxes) in completesettlement of all claims and a dismissal of the former employees claim on March3, 2006.**

 

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| **ITEM 8:** | **CHANGES IN AND  DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE** |
|-------------|-------------------------------------------------------------------------------------------|

 

On April 20, 2004, the Company (formerly GlobalInternet Communications, Inc.) dismissed Manning Elliot as its independentauditors.  The Company thereafter engagedVirchow, Krause & Company, LLP (“Virchow”), as its independent auditors.

 

The decision to dismiss Manning Elliot was made by ourreconstituted board of directors after the effectiveness of the Merger, and wasmade primarily because of the desire to retain the accounting firm which wasfamiliar with our operating business conducted through ProUroCare Inc.  There were not, within the past two years,any disagreements with Manning Elliot that are known to the Company’smanagement and relate to accounting principles or practice, financialdisclosures or auditing scope or procedures. We requested that Manning Elliot furnish us with a letter addressed tothe Securities and Exchange Commission stating whether or not it agrees withthe above statements.  A copy of suchletter was filed as Exhibit 16.1 to a Current Report on Form 8-K/A filed onApril 20, 2004.

 

On April 20, 2004, we engaged Virchow as ourindependent public accountants for the fiscal year ending December 31,2004.  During the subsequent interimperiod preceding the engagement of Virchow, we did not consult Virchow on anymatter requiring disclosure under Item 304(a)(2) of Regulation S-B promulgatedby the SEC.  The selection of Virchow as ourindependent auditor was approved by our board of directors.

 

In our two most recent fiscal years prior to thechange in accountants and any subsequent interim period to the date of suchchange, we have not consulted with Virchow regarding either:  (i) the application of accounting principlesto a specified transaction, either completed or proposed; or the type of auditopinion that might be rendered on the registrant’s financial statements, andneither a written report was provided to the registrant nor oral advice wasprovided that Virchow concluded was an important factor considered by theregistrant in reaching a decision as to the accounting, auditing or financialreporting issue; or (ii) any matter that was either the subject of a “disagreement,”as that term is defined in Item 304(a)(1)(iv) of Regulation S-K and the relatedinstructions to Item 304 of Regulation S-K, or a “reportable event,” as thatterm is defined in Item 304(a)(1)(v) of Regulation S-K

 

We did not have any disagreements with our auditor onany matter of accounting principles or practices, disclosure, or auditing scopeor procedure.

 

**ITEM 8A:****      CONTROLS AND PROCEDURES**

 

The Company’smanagement, with the participation of the Company’s chief executive officer andchief financial officer, also conducted an evaluation of the Company’s internalcontrol over financial reporting, as defined in Exchange Act Rule 13a-15(f), todetermine whether any changes occurred during the quarter ended December 31,2005 that have materially affected, or are reasonably likely to materiallyaffect, the Company’s internal control over financial reporting.  Based on that evaluation, there was no suchchange during the quarter ended December 31, 2005.

 

**ITEM 8B:****      OTHER INFORMATION**

 

None.

 

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**PART III**

 
| **ITEM 9:** | **DIRECTORS,  EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;COMPLIANCE WITH SECTION  16(a) OF THE EXCHANGE ACT** |
|-------------|----------------------------------------------------------------------------------------------------------------------|

 

The followinginformation sets forth the names of our executive officers and directors, theirages and their present positions with the Company as of March 27, 2006.  The directors serve for a term of one year oruntil the next annual meeting of the shareholders.  Each officer serves at the discretion of theBoard of Directors.

 
| **Name**              | ** ** | **Age** | ** ** | **Position**                                  |
|-----------------------|------------|---------|------------|-----------------------------------------------|
| Maurice R. Taylor, II |       | 60      |       | Chief Executive Officer; Chairman             |
| Michael P. Grossman   |       | 52      |       | President,  Chief Operating Officer; Director |
| Richard B. Thon       |       | 50      |       | Chief Financial Officer                       |
| Richard C. Carlson    |       | 54      |       | Vice-President, Marketing and Sales           |
| Alan L. Haggerty      |       | 49      |       | Vice President, Engineering                   |
| David F. Koenig       |       | 65      |       | Director                                      |
| Alexander Nazarenko   |       | 61      |       | Director                                      |

 

**Maurice R. Taylor, II**, is a Minneapolis entrepreneur, and hasserved as the Chairman of the Board of PUC since its inception in 1999 and itsChief Executive Officer until February, 2004. Upon the Merger, Mr. Taylor wasappointed to serve as the Company’s Chairman of the Board.  In March, 2005, he was reappointed as theCompany’s Chief Executive Officer.  Hewas the founder of Chronimed Inc. (“Chronimed”), and has been involved inseveral healthcare and medical-technology companies.  He served as Chairman and Chief ExecutiveOfficer of Chronimed from April 1985 until March 1999, at which point he joinedits diagnostic division in a spin-off venture which became known asMEDgenesis.  Mr. Taylor held suchpositions with Chronimed and MEDgenesis until the sale of MEDgenesis to theBritish company Medisys PLC.  Mr. Tayloris also Chairman of Clinical Network and CHdiagnostics, LLC, a diabetes marketproduct-development company.  He servesas a director and is the former Chairman of the Scripps Whittier Institute forDiabetes which, through collaborations, is believed to be the largest diabetesresearch group in the world.  Mr. Taylorwas the recipient of the Inc. Magazine “Entrepreneur of the Year Awardfor Healthcare” in 1994.

 

**Michael P. Grossman** has served as President and Chief Executive Officerof ProUroCare, Inc., the Company’s wholly-owned subsidiary since February, 2004and became President, Chief Executive Officer and a director of our Companyupon the Merger.  In March, 2005, whenMr. Taylor was appointed Chief Executive Officer, Mr. Grossman was appointed asPresident and Chief Operating Officer. Mr. Grossman has extensive experience in the financial services andadvisory industry, including more than 14 years in the area of new businessstart-ups and economic development.  From1995 to 2003 he served as Vice President of the Minnesota Cooperation Office (“MCO”),a privately funded business-development company created to identify and assistin the formation of high-growth, innovative companies and support their futuregrowth.  In some instances, Mr. Grossmanserved on the board of directors of the client companies and in most all casesprovided ongoing assistance to the companies for a period of three to fiveyears.  Prior to 1995 he held seniorpositions at Tricon Capital Corporation, Ehlers and Associates, Inc., andcorporate and public finance positions at Piper Jaffray & Hopwood, and DainBosworth (now RBC Dain Rauscher).  Mr.Grossman has a B.A. in Economics from Carleton College and an M.B.A. from theUniversity of Minnesota.

 

**Richard B. Thon** became our Chief Financial Officer in July 2004 afterserving in this role in an interim capacity on a consulting basis since2001.  From 2002 to 2004, Mr. Thon wasthe Chief Financial Officer of CHdiagnostics, LLC.  He served as the Chief Financial Officer andVice President of Finance for MEDgenesis from 2000 to 2001, as CorporateController of Instant Web Companies from 1998 to 2000, and as Controller anddirector of Business Systems of Sanofi Diagnostics Pasteur from 1990 to 1998.  Mr. Thon began his career as an auditor with 

 

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KPMG LLP, and since that time has held financial management positionswith both public and privately held firms. Mr. Thon has a B.B.A. in Accounting from the University of Michigan andan M.B.A. in Finance from the University of Wisconsin.

 

**Richard C. Carlson**, Vice President of Marketing and Sales,has extensive experience in the medical device industry.  Mr. Carlson held several positions withSurModics, Inc. from 1998 to 2004, including Vice President of Marketing andSales and Vice President of Strategic Planning. From 1996 to 1998 Mr. Carlson was the European Marketing manager withBoston Scientific, where he developed strategic product plans and identifiednew market opportunities for the European Division.  Mr. Carlson has also held senior levelmanagement positions with C.R. Bard, Advanced Surgical Intervention, ViconSystems, Medtronic and American Medical Systems.  Mr. Carlson has a BA in Business Economicsand an MBA in Marketing from the University of Minnesota.

 

**Alan L. Haggerty,****VicePresident-Engineering,**bringsa broad background in technology R&D and product development for diverseapplications including medical devices to ProUroCare. He has extensiveexperience in electronics, software, advanced algorithms, and systemsdevelopment. He’s led technology strategy planning, intellectual propertymanagement, and government funded R&D programs with organizations includingthe NIH.

 

Mr. Haggerty was CTO and VP of Engineering at AmericanTeleCare from 2003 to 2005, where he led product development of interactivetelehealth remote patient care systems. In 2002, he was Product DevelopmentManager for Agere Systems, where he initiated Agere’s first low-poweredsemiconductor preamplifier development for the mobile disk drive market. From2000 to 2002, Mr. Haggerty was Software Development Manager at OpticalSolutions, where he led software development for an innovative passive fiberoptic telecommunication system. He held several R&D leadership positionswith Honeywell Inc. from 1980 to 2000.  Mr.Haggerty received a Bachelors Degree of Electrical Engineering in 1980 and aMasters Degree in 1987 from the University of Minnesota - Institute ofTechnology.

 

**David F. Koenig** has served as a director of PUC since 1999, andbecame a director of the Company upon the Merger.  From 1996 to 2005, Mr. Koenig was theExecutive Vice President and Chief Operating Officer of Solar Plastics, Inc., amanufacturer of custom rotationally molded plastic parts (“Solar Plastics”).  Solar Plastics has four manufacturingfacilities and services customers in both domestic and internationalmarkets.  Mr. Koenig served as ChiefFinancial Officer and director of Quadion Corporation from 1977 to 1987, amanufacturer of precision-made rubber and plastic components and assemblies forindustrial uses.  In this role, he hadfull responsibility for strategic planning, acquisitions, information services,real estate and legal services, and helped create the plans and implement theprograms that took this company from sales of $22 million from three domesticplants to sales exceeding $100 million from six domestic and three foreignplants.  Prior to this time, Mr. Koenigspent 11 years growing and developing his own consulting business focusing onproviding services to small to medium-sized companies in the areas of strategicplanning and implementation, acquisitions, financing and organizationalrestructuring.  Earlier, Mr. Koenig wasemployed by Dain Rauscher as an investment banker, and by General Mills, Inc.and Kroger Co. with responsibilities in strategic planning, acquisitions andfinance.  Mr. Koenig received hisundergraduate degree in business administration from Indiana University and hisM.B.A. from Harvard Graduate School of Business.  Mr. Koenig is a member of the audit,compensation, and governance committees.

 

**Alexander Nazarenko**has served as a director of PUC since2001, and became a director of the Company upon the Merger.  Since 1992, Mr. Nazarenko has been aco-owner, officer and director of American Phoenix, Inc. of Eau Claire,Wisconsin, a company with approximately $20 million in revenues and 175 employeesengaged in the business of rubber processing for the major tire companies.  Since 1996, he has also been co-owner,officer and director of 2N Company, L.L.C., of Minneapolis, Minnesota, aprivate investment and management company with investments in a broad range ofindustries.  Form 1973 until 1991, Mr.Nazarenko served as Vice President for Equity Securities Trading Company ofMinneapolis. Mr. Nazarenko began his career in the securities industry in 1966.  Mr. Nazarenko is a member of the audit,compensation, and governance committees.

 

There are no family relationships among our executiveofficers or directors.

 

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**Audit Committee**

** **

Our Board of Directors has established a two-memberaudit committee that currently consists of Messrs. Koenig and Nazarenko.  The board of directors has adopted a writtencharter for the audit committee.  Theaudit committee was formed after the effectiveness of the Merger; and prior tothe Merger the Company had no such audit committee.

 

The board of directors has determined that at leastone member of the audit committee, Mr. Koenig, is an “audit committee financialexpert” as that term is defined in Item 401(e)(2) of Regulation S-B promulgatedunder the Securities Exchange Act of 1934, as amended.  Mr. Koenig’s relevant experience includes hisservice as the Chief Financial Officer and director of Quadion Corporation, andhis past consulting experience which involved his oversight and supervision ofthe performance of business enterprises respecting the preparation, audit andevaluation of financial statements.  Bothmembers of the audit committee (i.e., Messrs. Koenig and Nazarenko) currentlyqualify as “independent directors,” as such term is defined in Section4200(a)(15) of National Association of Securities Dealers’ listingstandards.  Moreover, the board ofdirectors has determined that each of the audit committee members is able toread and understand fundamental financial statements and that at least onemember of the audit committee has past employment experience in finance oraccounting.

 

**Code of Ethics DisclosureCompliance**

 

On February 15,2005, our Board of Directors adopted a Code of Ethics for Financial Executives,which include our Company’s principal executive officer, principal financialofficer, principal accounting officer or controller, or persons performingsimilar functions, as required by Sections 406 and 407 of the Sarbanes-OxleyAct of 2002.  Our Code of Ethics is filedas an exhibit to this annual report.

 

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**ITEM 10:  EXECUTIVECOMPENSATION**

 

**Summary CompensationTable**

** **

The following table sets forth, for the last threefiscal years, the compensation earned for services rendered in all capacitiesby our Chief Executive Officer and the other highest-paid executive officersserving as such at the end of fiscal year 2005 whose compensation for thatfiscal year was in excess of $100,000. The individuals named in the table will be hereinafter referred to asthe “Named Officers.”  No other executiveofficer of the Company or it wholly owned subsidiary received compensation inexcess of $100,000 during fiscal year 2005. 

 
| ** **                  | ** ** | ** ** | ** ** | ** **              | ** ** | **Long-Term   Compensation   Awards** | ** ** | ** **       | ** ** |
|-----------------------------|------------|------------|------------|-------------------------|------------|---------------------------------------|------------|------------------|------------|
| ** **                  | ** ** | ** ** | ** ** | **Annual Compensation** | ** ** | **Securities   Underlying**           | ** ** | **All Other**    | ** ** |
| **Name and Position**       | ** ** | **Year**   | ** ** | **Salary  ($)**         | ** ** | **Bonus  ($)**                        | ** ** | **Options  (#)** | ** ** | **Compensation  ($)(5)** | ** ** |
|                        |       |       |       |                    |       |                                  |       |             |       |   |   |
| Maurice R. Taylor, II (1)   |       | 2005       |       | $                       | 190,000    |                                  | $          | 28,500           |       | — |   | $ | 1,838 |   |
| Chief Executive  Officer    |       | 2004       |       | $                       | 190,000    |                                  | $          | 104,738          |       | — |   | $ | 1,838 |   |
| and Chairman of  the Board  |       | 2003       |       | $                       | 190,000    |                                  | $          | —           |       | — |   | $ | 3,225 |   |
|                        |       |       |       |                    |       |                                  |       |             |       |   |   |
| Michael P. Grossman(1)(2)   |       | 2005       |       | $                       | 175,000    |                                  | $          | 17,500           |       | — |   | $ | 1,080 |   |
| President, Chief  Operating |       | 2004       |       | $                       | 164,417    |                                  | $          | —           |       | 450,000 |   | $ | 1,080 |   |
| Officer, and  Director      |       | 2003       |       | $                       | 4,000      |                                  | $          | —           |       | — |   | $ | — |   |
|                        |       |       |       |                    |       |                                  |       |             |       |   |   |
| Richard B. Thon(3)          |       | 2005       |       | $                       | 140,000    |                                  | $          | 8,400            |       | — |   | $ | 1,200 |   |
| Chief Financial  Officer    |       | 2004       |       | $                       | 97,999     |                                  | $          | —           |       | 200,000 |   | $ | 1,000 |   |
|                        |       | 2003       |       | $                       | 51,000     |                                  | $          | —           |       | — |   | $ | — |   |
|                        |       |       |       |                    |       |                                  |       |             |       |   |   |
| Richard C. Carlson(4)       |       | 2005       |       | $                       | 120,000    |                                  | $          | 7,200            |       | 150,000 |   | $ | — |   |
| Vice President,  Marketing  |       |       |       |                    |       |                                  |       |             |       |   |   |

 

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(1)           Mr. Taylor served as Chairman and ChiefExecutive Officer of PUC until January 31, 2004.  On February 1, 2004, Michael P. Grossmanbecame the Chief Executive Officer of PUC, and subsequently became the ChiefExecutive Officer of the Company upon the Merger.  On March 3, 2005, Mr. Taylor was againnamed Chief Executive Officer of the Company, and continues to serve as theChairman of the Company.

 

(2)           Mr. Grossman’s 2003 and 2004 compensationincludes consulting compensation earned between December 1, 2003 and January31, 2004, prior to his appointment to the position of Chief Executive Officeron February 1, 2004.  On March 3, 2005,Mr. Grossman was appointed to the position of Chief Operating Officer.  He continues to serve as President andDirector.

 

(3)           Mr. Thon was employed by the Company onJuly 21, 2004.  Prior to that date, Mr.Thon performed the duties of the Chief Financial Officer on a part-timeconsulting basis.  Earnings shown for2003 and 2004 include payments made for these consulting services.

 

(4)           Mr. Carlson joined the Company on January3, 2005

 

(5)           Other compensation represents insurancepremiums paid by the Company with respect to term life insurance policies forthe benefit of the named executives. There is no cash surrender value associated with any of the policies.

 

68

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**Option Grants in Last Fiscal Year**

 

The following table sets forth the number ofindividual grants of stock options made during fiscal 2005 to the NamedOfficers:

 
| ** **         | ** ** | **Individual Grants**                                    | ** ** |
|--------------------|------------|----------------------------------------------------------|------------|
| **Name**           | ** ** | **Number of   Securities   Underlying   Option Granted** | ** ** | **Percentage of Total   Options Granted   to Employees   In Fiscal Year** | ** ** | **Exercise   or   Base Price   ($/Share)** | ** ** | **Expiration   Date** | ** ** |
| Richard C. Carlson |       | 150,000                                                  |       | 50.0 | % | $ | 2.35 |   | 1/3/2015 |   |
|                    |            |                                                          |            |  |  |  |  |  |  |  |

 

**Aggregated OptionExercises in Last Fiscal Year and Fiscal Year-End Option Values**

** **

No stock options or stock-appreciation rights wereexercised during fiscal year 2005, and no stock-appreciation rights wereoutstanding at the end of such fiscal year. The table below sets forth outstanding but unexercised options of thenamed officers as of the end of fiscal year 2005.

 
| ** **            | ** ** | **Number of   Securities Underlying Unexercised   Options at Fiscal Year End** | ** ** | **Value of Unexercised   In-the-Money Options (1)   $** | ** ** |
|-----------------------|------------|--------------------------------------------------------------------------------|------------|---------------------------------------------------------|------------|
| **Name**              | ** ** | **Exercisable**                                                                | ** ** | **Unexercisable**                                       | ** ** | **Exercisable** | ** ** | **Unexercisable** | ** ** |
| Maurice R. Taylor, II |       | 186,000                                                                        |       | —                                                  |       | $ | — |   | $ | — |   |
| Michael P. Grossman   |       | 230,020                                                                        |       | 174,978                                                 |       | $ | — |   | $ | — |   |
| Richard B. Thon       |       | 124,452                                                                        |       | 105,548                                                 |       | $ | — |   | $ | — |   |
| Richard C. Carlson    |       | 45,837                                                                         |       | 104,163                                                 |       | $ | — |   | $ | — |   |

 

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(1)   These amounts represent the difference between theexercise price of the in-the-money options and the market price of our commonstock on December 30, 2005 (the last trading day prior to December 31,2005).  The last reported sale on the OTCBulletin Board on that date was $0.46. Options are in-the-money if the market value of the shares coveredthereby is greater than the option exercise price.

 

**Director Compensation**

** **

Our Board of Directors has established a policy thateach of our non-employee directors receives an annual cash payment of $5,000for annual services to the Company, and that our chairpersons of ourcompensation, audit, and governance and nominating committees receive anadditional annual payment of $2,500.  Inaddition, we have also agreed to grant to all non-employee directors a one-timenon-qualified stock option upon election or appointment to the board ofdirectors to purchase 30,000 shares of our common stock at fair market value.  These director options vest ratably over twoyears of service and have a ten-year term. All directors shall be reimbursed for travel and other out-of-pocketexpenses incurred in connection with attendance at meetings of the board ofdirectors and its committees.

 

**Employment Agreements**

** **

**TheCompany (including the Company’s wholly owned subsidiary ProUroCare Inc.) is aparty to employment agreements with its Chairman and CEO, its President andCOO, and its CFO.  Each of theseagreements provides for a minimum annual salary, potential cash bonus paymentsand options to purchase shares of common stock that vest over**

** **

**69**

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** **

**three years, and a non-compete clause applicable for theperiod ending one year from termination. The agreement with the Chairman andCEO provides for an annual salary of $190,000 and maximum bonus potential of75% of his base pay, with a term that continues through December 31, 2006.  The President and COO’s agreement providesfor an annual salary of $175,000 with a maximum bonus potential of 50% of hisbase pay, with a term that continues through January 31, 2007.  The CFO’s agreement calls for an annualsalary of $140,000, with the annual bonus potential to be set each year by theCompensation Committee, and a term that continues through July 21, 2007.  These agreements also provide that, upontermination without cause (or a change of employment that the employee electsto treat as a termination of employment), the employee will receive asseverance six months of base salary plus four months of base salary for eachyear of prior service to the Company (up to a maximum of 24 months of basesalary), plus the prorated average of any bonus or incentive compensation paidover the previous two years. Additionally, all unvested stock options then held by the employee willimmediately vest and be exercisable up to one-year from the date oftermination.**

** **

Under each of the above-referenced employmentagreements, in the event of a change in control resulting in a termination of employment,change of location, or decrease in the level of responsibility of the executive(any of which occur within two years of a change in control), the Company shallcompensate the executive as if he were terminated without cause, as describedabove.

 

In addition, ProUroCare Inc. is a party to an employmentagreement with its Vice-President of Engineering. This agreement provides for aminimum annual salary of $135,000 per year, potential cash bonus payments, andoptions to purchase shares of common stock that vest over three years.  The agreement also provides that in the eventof voluntary or involuntary separation (without cause) from the Company withinthe first six months of employment, the executive will receive 25,000immediately vested options, exercisable for one-year after suchseparation.  In addition, if suchseparation occurs within the first year of employment, the executive willreceive 10,000 shares of Company stock for each month of employment.  After the first year of employment, the executivewill receive 60,000 shares of stock in the event of such separation.

 

70

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**ITEM 11:  SECURITY OWNERSHIP OF CERTAIN BENEFICIALOWNERS AND MANAGEMENT**

 

The following table sets forth certain information regardingbeneficial ownership of our common stock as of March 21, 2006, by (i) eachperson known by us to be the beneficial owner of more than five percent of theoutstanding common stock, (ii) each director, (iii) each executive officer, and(iv) all executive officers and directors as a group.  The number of shares beneficially owned isdetermined under rules promulgated by the SEC, and the information is notnecessarily indicative of beneficial ownership for any other purpose.  Under those rules, beneficial ownershipincludes any shares as to which the individual has sole or shared voting poweror investment power and also any shares which the individual has the right toacquire within 60 days of the date hereof, through the exercise or conversionof any stock option, convertible security, warrant or other right.  Including those shares in the tables doesnot, however, constitute an admission that the named stockholder is a direct orindirect beneficial owner of those shares. Unless otherwise indicated, each person or entity named in the table hassole voting power and investment power (or shares that power with that person’sspouse) with respect to all shares of capital stock listed as owned by thatperson or entity.  (Unless otherwiseindicated, the address of each of the following persons is One Carlson Parkway,Suite 124, Plymouth, Minnesota 55447). 

 
| **Name**                                                                                        | ** ** | **Shares  Beneficially Owned** | ** ** | **Percent of Class** | ** ** |
|-------------------------------------------------------------------------------------------------|------------|--------------------------------|------------|----------------------|------------|
| Maurice R.  Taylor II (1)                                                                       |       | 1,704,338                      |       | 11.9                 |       |
| Michael P.  Grossman (2)                                                                        |       | 280,024                        |       | 1.9                  |       |
| Richard Thon (3)                                                                                |       | 142,232                        |       | 1.0                  |       |
| Richard C.  Carlson(4)                                                                          |       | 62,505                         |       | *                    |       |
| Alex  Nazarenko(5)                                                                              |       | 2,183,926                      |       | 15.4                 |       |
| David Koenig(6)                                                                                 |       | 568,969                        |       | 4.0                  |       |
| **All  directors and officers as a group** (7)                                                  | ** ** | **4,687,116**                  | ** ** | **31.2**             | ** ** |
| Clement Nelson(8)   5644 Heather Ridge Court   Shoreview, MN 55126                              |       | 2,127,498                      |       | 15.0                 |       |
| Profile, L.L.C.  (9)   2700 Corporate Drive, Suite 120   Birmingham, Alabama 35242         |       | 2,900,385                      |       | 20.5                 |       |
| CS Medical Technologies, LLC(10)   2277 West Highway 36, Suite 254   Roseville, Minnesota 55113 |       | 1,947,498                      |       | 13.7                 |       |

 

----

*Less than one percent(1%).

 

(1)       Includes 22,500 shares of common stockheld by Clinical Network, LLC, and 265,714 shares held by Clinical Network,Inc., with respect to each of which Mr. Taylor is a managing officer andmajority owner.  Also includes 1,227,624shares of common stock held directly, 2,500 shares held by his spouse, andoptions to purchase 186,000 shares of common stock which are currentlyexercisable or exercisable within 60 days at $1.13 per share.

 

(2)       Includes options to purchase up to 280,024shares of common stock which are currently exercisable or exercisable within 60days, at $2.00 per share.

 

(3)       Includes options to purchase up to 142,232shares of common stock which are currently exercisable or exercisable within 60days.  Of Mr. Thon’s options, 30,000 areexercisable at $1.13 per share, and 112,232 are exercisable at $2.50 per share.

 

71

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(4)       Includes options to purchase up to 62,505shares of common stock which are currently exercisable or exercisable within 60days, at $2.35 per share.

 

(5)       Includes 1,947,498 shares held by CSMedical Technologies, LLC, of which Mr. Nazarenko is a managing officer andmember.  Also includes 206,428 shares ofcommon stock held directly, and options to purchase up to 30,000 shares ofcommon stock which are currently exercisable or exercisable within 60 days at$1.13 per share.

 

(6)       Includes 22,500 shares held by ClinicalNetwork, LLC, and 265,714 shares held by Clinical Network, Inc., with respectto each of which Mr. Koenig is an officer and minority owner.  Also includes 182,895 shares of common stockheld directly, options to purchase up to 30,000 shares of common stock whichare currently exercisable or exercisable within 60 days, exercisable at $1.13per share, and immediately exercisable warrants to purchase 67,860 shares at$1.67 per share.

 

(7)       Includes Messrs. Taylor, Nazarenko,Koenig, Grossman and Thon.

 

(8)       Includes 1,947,498 shares held by CSMedical Technologies, LLC, of which Mr. Nelson is a managing officer and member,and 180,000 shares held directly.

 

(9)       The managers of Profile, LLC are T.Forcht Dagi and Stanley L. Graves, who share voting and investment power overthe securities held by Profile, LLC. Cordova Technology Partners, L.P., aprivate investment fund, by virtue of its 42.4% ownership interest in Profile,LLC, indirectly has a pecuniary interest in 1,149,262 shares of the Company’scommon stock. The management committee of Cordova Technologies, LLC, of whichT. Forcht Dagi is a member, exercises voting and investment power over thesecurities held by Cordova Technology Partners, L.P.

 

(10)     The beneficial owners of CS MedicalTechnologies, LLC are Clement Nelson and Alex Nazarenko (a director of theCompany).

 

**Securities Authorized forIssuance under Equity Compensation Plans as of Last Fiscal Year (December 31, 2005)**

 
| ** **                                                  | ** ** | **Number of Securities to be   Issued Upon Exercise of   Outstanding Options,   Warrants and Rights** | ** ** | **Weighted-Average   Exercise Price of   Outstanding Options,   Warrants and Rights** | ** ** | **Number of Securities   Remaining Available for   Issuance Under Equity   Compensation Plans   (excluding securities   reflected in column (a))** | ** ** |
|-------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------|------------|
| ** **                                                  | ** ** | **(a)**                                                                                               | ** ** | **(b)**                                                                               | ** ** | **(c)**                                                                                                                                            | ** ** |
| Equity  compensation plans approved by stockholders (1)     |       | 1,550,000                                                                                             |       | $                                                                                     | 1.64       |                                                                                                                                               | 1,450,000  |   |
| Equity compensation  plans not approved by stockholders (2) |       | 2,006,878                                                                                             |       | $                                                                                     | 1.58       |                                                                                                                                               | —     |   |
| Total                                                       |       | 3,556,878                                                                                             |       | $                                                                                     | 1.61       |                                                                                                                                               | 1,450,000  |   |

 

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(1)           Includes shares of our common stockissuable under options issued under our 2002 and 2004 Plans (as defined below).

(2)           Consists of warrants issued to vendors,consultants, and loan guarantors.

 

72

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**Option Plans**

 

The board of directors adopted the 2002 and 2004 Plansto provide a means by which our employees, directors, officers and consultantsmay be given an opportunity to purchase our stock, to assist in retaining theservices of such persons, to secure and retain the services of persons capableof filling such positions and to provide incentives for such persons to exertmaximum efforts for our success.  Theofficers’ options vest ratably over a 36-month period from the date ofissuance, while the directors’ and consultants’ options are completelyvested.  In accordance with SFAS No. 123,“Accounting for Stock-Based Compensation,” we have elected to utilize thefair-value method of accounting for these options.  An aggregate of $297,732, $218,395, and $799,410of stock-based compensation related to these options was recognized in theyears ended December 31, 2005, 2004 and the period from August 17, 1999 toDecember 31, 2005, respectively.

 

***2002 Plan.***

** **

In April 2002, PUC adopted the ProUroCare Inc. 2002Stock Plan (the “2002 Plan”), pursuant to which PUC granted options toofficers, directors, employees and independent contractors.  The Company adopted the 2002 Plan as part ofthe Merger, and on February 15, 2005 our board of directors approved anamendment to the 2002 Stock Plan that provides for the cashless exercise ofoptions granted under the plan, at the discretion of a committee of independentdirectors.

 

Under the 2002 Plan, we are able to grant incentiveand nonqualified options, stock appreciation rights, stock awards, restrictedstock awards, performance shares, and cash awards.  As of December 31, 2005 there were options topurchase 1,050,000 shares of our common stock outstanding under the 2002 Planthat are exercisable at prices ranging from $1.13 to $2.00.  All of these options are held by Companyofficers, consultants and directors.

 

***2004 Plan.***

** **

On July 12, 2005 our shareholders approved aresolution adopting the ProUroCare Medical Inc. 2004 Stock Option Plan (the “2004Plan”).  The 2004 Plan provides for thegrant of both incentive and non-statutory stock options.  Incentive stock options granted under the2004 Plan are intended to qualify as “incentive stock options” within themeaning of Section 422 of the Internal Revenue Code of 1986, as amended (the “Code”).  Non-statutory stock options granted under the2004 Plan will not qualify as incentive stock options under the Code.  We have reserved 1,500,000 shares of commonstock for issuance under the 2004 Plan. As of December 31, 2005, 500,000 options have been granted to officersunder the 2004 Plan that are exercisable at prices ranging from $0.60 to $2.50per share. All of these options have been issued to Company officers.

 

73

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**ITEM 12:  CERTAINRELATIONSHIPS AND RELATED TRANSACTIONS**

 

**Company History**

** **

ProUroCare Inc., the Company’s wholly owned subsidiary(“PUC”), was initially founded by shareholders of Clinical Network Inc. (“ClinicalNetwork”) in August 1999.  ClinicalNetwork was originally established in 1990 for the purpose of pursuingtreatments for stress urinary incontinence in women.  In July 2001, Clinical Network begancollaborating with CS Medical Technologies, L.L.C. (“CS Medical”), a developerof microwave treatment technology for prostate and cardiology treatments, forthe development of products for the male urology market.  At that time, PUC acquired from ClinicalNetwork and CS Medical all assets and rights associated with the minimallyinvasive microwave therapy in exchange for an aggregate of 3,000,000 shares ofPUC common stock.  Alex Nazarenko, aCompany director (and former director of PUC), is a principal shareholder andcontrolling person of CS Medical. Currently, CS Medical owns 1,947,498 shares of our common stock.  In addition, Maurice R. Taylor, the Company’sChairman and Chief Executive Officer (and Chairman of PUC), and David Koenig, aCompany director (and a former director of PUC), are principal shareholders andcontrolling persons of Clinical Network and Clinical Network, L.L.C. (a limitedliability company affiliated with Clinical Network) which together beneficiallyown 288,214 shares of our common stock. Prior to the transactions with Clinical Network and CS Medical, neitherof such companies (nor the individual directors named above) were relatedparties or otherwise affiliated with PUC. Accordingly, these transactions were negotiated at arms-length.  The Company believes that the terms of theabove-described transactions were fair to the Company.

 

**Loan Transactions**

** **

From October 2001 through May 2002, Clinical Networkloaned a total of $123,616 to the Company. The Company accrued interest on this debt at an annual rate of 5%.  In 2002, 2003, and 2004 the Company repaid$12,950, $77,419, and $24,301 to Clinical Network, respectively.  As of December 31, 2005, the Companyowed $9,703 to Clinical Network in connection with these loans.  At the time of the loans, Maurice R. Taylor,II, then the Company’s Chief Executive Officer and Chairman, was also adirector of Clinical Network.

 

In April and May 2002, CS Medical loaned a total of$51,000 to the Company.  In June 2002 andJune 2004, the Company repaid $25,000 and $26,000 to CS Medical,respectively.  In addition, the Companypaid interest on this debt in an amount equal to an annual rate of 5%.  At the time of the loan, Alexander Nazarenko,a Company director, was also a director of CS Medical.

 

**OnMarch 31, 2005 the Company borrowed $100,000 pursuant to the issuing of apromissory note to a financial institution. The promissory note was secured by the assets of the business and aguaranty by the Company’s Chairman and Chief Executive Officer, Maurice R.Taylor.  On October 20, 2005 the note wasamended and restated pursuant to an increase in the amount of the note.  Under the amended promissory note, Mr. Taylor’spersonal guaranty was released and is no longer in effect.  The amended promissory note was satisfied onFebruary 16, 2006.**

** **

**OnJanuary 25, 2006, ProUroCare Inc. borrowed, for short-term working capitalneeds, $12,500 from each of Alexander Nazarenko and David F. Koenig, Companydirectors. In consideration, we executed and issued to each of Mr. Nazarenkoand Mr. Koenig a $12,500 unsecured demand promissory note (the “Notes”) bearinginterest at an annual rate of Prime Plus One Percent.  These notes were satisfied on February 16,2006.**

** **

**74**

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** **

**ITEM13:  EXHIBITS**

 
| **Exhibit No.** | ** ** | **Description**                                                                                                                                                                                                                                                                                                                    |
|-----------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 2.1             |       | Agreement of Merger and Reorganization by and among  Global Internet Communications, Inc., GIC Acquisition Co., and ProUroCare  Inc. dated April 5, 2004 (incorporated by reference to Exhibit 2.1 to Current  Report on Form 8-K filed April 20, 2004).                                                                           |
|            |       |                                                                                                                                                                                                                                                                                                                               |
| 2.2             |       | Articles of Merger relating to the merger of GIC  Acquisition Co., then a wholly owned subsidiary of the registrant with and  into ProUroCare Inc., as filed with the Minnesota Secretary of State on April  5, 2004 (incorporated by reference to Exhibit 2.2 to Current Report on Form 8-K  filed April 20, 2004).               |
|            |       |                                                                                                                                                                                                                                                                                                                               |
| 3.1             |       | Articles of Incorporation of ProUroCare Medical Inc.  (incorporated by reference to Exhibit 3.1 to registration statement on Form  SB-2 filed August 3, 2004).                                                                                                                                                                     |
|            |       |                                                                                                                                                                                                                                                                                                                               |
| 3.2             |       | Amended and Restated Bylaws of ProUroCare Medical  Inc. (incorporated by reference to Exhibit 3.2 to annual report on Form 10KSB  filed March 31, 2005).                                                                                                                                                                           |
|            |       |                                                                                                                                                                                                                                                                                                                               |
| 4.1             |       | Warrant to acquire 300,000 shares of common stock of  ProUroCare Medical Inc., issued in favor of BINA Enterprises on April 5, 2004  (incorporated by reference to Exhibit 4.2 to registration statement on Form  SB-2 filed August 3, 2004).                                                                                      |
|            |       |                                                                                                                                                                                                                                                                                                                               |
| 4.2             |       | Warrant to acquire 90,000 shares of common stock of  ProUroCare Medical Inc., issued in favor of Artann Laboratories, Inc. on July  19, 2004 (incorporated by reference to Exhibit 4.3 to registration statement  on Form SB-2 filed August 3, 2004).                                                                              |
|            |       |                                                                                                                                                                                                                                                                                                                               |
| 4.3             |       | Warrant to acquire 10,000 shares of common stock of  ProUroCare Medical Inc., issued in favor of Vladimir Drits on July 19, 2004  (incorporated by reference to Exhibit 4.4 to registration statement on Form  SB-2 filed August 3, 2004).                                                                                         |
|            |       |                                                                                                                                                                                                                                                                                                                               |
| 4.4             |       | Form of warrants issued to ProUroCare Inc.  guarantors of lines of credit, issued between March 1 and December 22, 2003  (incorporated by reference to Exhibit 4.5 to registration statement on Form  SB-2 filed August 3, 2004).                                                                                                  |
|            |       |                                                                                                                                                                                                                                                                                                                               |
| 4.5             |       | Warrant to acquire 90,000 shares of common stock of  ProUroCare Medical Inc., issued in favor of Artann Laboratories, Inc. effective  as of July 19, 2004, in exchange for the warrant referenced as Exhibit Item  4.3 (incorporated by reference to Exhibit 4.6 to registration statement on  Form SB-2/A filed October 1, 2004). |
|            |       |                                                                                                                                                                                                                                                                                                                               |
| 4.6             |       | Warrant to acquire 10,000 shares of common stock of  ProUroCare Medical Inc., issued in favor of Vladimir Drits effective as of  July 19, 2004, in exchange for the warrant referenced as Exhibit Item 4.4  (incorporated by reference to Exhibit 4.7 to registration statement on Form  SB-2/A filed October 1, 2004).            |
|            |       |                                                                                                                                                                                                                                                                                                                               |
| 4.7             |       | Warrant to acquire 180,000 shares of common stock of  ProUroCare Medical Inc., in favor of Artann Laboratories, Inc. effective as  of December 2, 2004 (incorporated by reference to Exhibit 4.8 to registration  statement on Form SB-2 filed December 17, 2004).                                                                 |
|            |       |                                                                                                                                                                                                                                                                                                                               |
| 4.8             |       | Warrant to acquire 20,000 shares of common stock of  ProUroCare Medical Inc., in favor of Vladimir Drits effective as of December  2, 2004 (incorporated by reference to Exhibit 4.9 to registration statement  on Form SB-2 filed December 17, 2004).                                                                             |

 

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| 4.9    |   | Form of warrants issued to a promissory note  guarantors and a lender between September 14 and October 19, 2005 (filed  herewith).                                                                                                                  |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                |
| 4.10   |   | Convertible Subordinated Debenture dated February  17, 2006 issued by ProUroCare Medical Inc. in favor of guarantor  (incorporated by reference to Exhibit 4.6 to Current Report on Form 8-K filed  February 23, 2006).                             |
|   |   |                                                                                                                                                                                                                                                |
| 4.111  |   | Convertible Subordinated Debenture dated February  17, 2006 issued by ProUroCare Medical Inc. in favor of guarantor  (incorporated by reference to Exhibit 4.7 to Current Report on Form 8-K filed  February 23, 2006).                             |
|   |   |                                                                                                                                                                                                                                                |
| 4.12   |   | Convertible Subordinated Debenture dated February  28, 2006 issued by ProUroCare Medical Inc. in favor of guarantor  (incorporated by reference to exhibit 4.7 to Form 8-K filed March 3, 2006).                                                    |
|   |   |                                                                                                                                                                                                                                                |
| 4.13   |   | Convertible Subordinated Debenture dated February  28, 2006 issued by ProUroCare Medical Inc. in favor of guarantor  (incorporated by reference to exhibit 4.8 to Form 8-K filed March 3, 2006).                                                    |
|   |   |                                                                                                                                                                                                                                                |
| 10.1   |   | License Agreement with Profile, L.L.C, dated January  14, 2002, as amended on March 22, 2002 (incorporated by reference to Exhibit  10.1 to Current Report on Form 8-K filed April 20, 2004).                                                       |
|   |   |                                                                                                                                                                                                                                                |
| 10.2   |   | Research and Development Agreement by and among  ProUroCare Medical Inc., Artann Laboratories, Inc. and Armen Sarvazyan, dated  July 15, 2004 (incorporated by reference to Exhibit 10.1 to Quarterly Report  on Form 10-QSB filed August 3, 2004). |
|   |   |                                                                                                                                                                                                                                                |
| 10.3   |   | Development Agreement by and among ProUroCare  Medical Inc., Artann Laboratories, Inc. and Armen Sarvazyan, dated July 15,  2004 (incorporated by reference to Exhibit 10.2 to Quarterly Report on  Form 10-QSB filed August 3, 2004).              |
|   |   |                                                                                                                                                                                                                                                |
| 10.4   |   | Letter of Understanding by and between Profile LLC  and ProUroCare Inc., dated March 23, 2004 (incorporated by reference to  Exhibit 10.4 to registration statement on Form SB-2 filed August 3, 2004).                                             |
|   |   |                                                                                                                                                                                                                                                |
| 10.5   |   | Employment Agreement by and between ProUroCare  Medical Inc. and Maurice R. Taylor, II, dated January 1, 2005 (incorporated  by reference to Exhibit 10.1 to current report on Form 8-K filed March 9,  2005).                                      |
|   |   |                                                                                                                                                                                                                                                |
| 10.6   |   | Employment Agreement by and between ProUroCare  Medical Inc. and Michael P. Grossman dated March 4, 2005 (incorporated by  reference to Exhibit 10.2 to current report on Form 8-K filed March 9, 2005).                                            |
|   |   |                                                                                                                                                                                                                                                |
| 10.7   |   | ProUroCare Medical Inc. 2002 Stock Option Plan  (incorporated by reference to Exhibit 10.7 to registration statement on Form  SB-2 filed August 3, 2004).                                                                                           |
|   |   |                                                                                                                                                                                                                                                |
| 10.8   |   | Amendment to ProUroCare Medical Inc. 2002 Stock  Option Plan (incorporated by reference to Exhibit 10.8 to annual report on  Form 10KSB filed March 31, 2005).                                                                                      |
|   |   |                                                                                                                                                                                                                                                |
| 10.9   |   | ProUroCare Medical Inc. 2004 Stock Option Plan, as  amended (incorporated by reference to Exhibit 10.9 to annual report on Form  10KSB filed March 31, 2005).                                                                                       |

 

76

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| 10.10  |   | Employment Agreement by and between ProUroCare Inc.  and Richard B. Thon, dated July 21, 2004 (incorporated by reference to  Exhibit 10.9 to registration statement on Form SB-2 filed August 3, 2004).                                                               |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                  |
| 10.11  |   | License Agreement by and between CS Medical  Technologies, LLC and ProUroCare Inc., dated July 6, 2001 (incorporated by  reference to Exhibit 10.10 to registration statement on Form SB-2/A filed  October 1, 2004).                                                 |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.12  |   | License Agreement by and between Rensselaer  Polytechnic Institute and ProUroCare Inc., dated July 13, 2001 (incorporated  by reference to Exhibit 10.11 to registration statement on Form SB-2/A filed  October 1, 2004).                                            |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.13  |   | License Agreement by and between Profile, LLC and  ProUroCare Inc., dated January 14, 2002 (incorporated by reference to Exhibit  10.12 to registration statement on Form SB-2/A filed October 1, 2004).                                                              |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.14  |   | First Amendment to License Agreement by and between  Profile, LLC and ProUroCare Inc., dated March 22, 2002 (incorporated by  reference to Exhibit 10.13 to registration statement on Form SB-2/A filed  October 1, 2004).                                            |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.15  |   | Consulting Agreement by and between Dr. Neal Shore  and ProUroCare Inc., dated January 1, 2003 (with compensation amendment  effective January 1, 2004) (incorporated by reference to Exhibit 10.14 to  registration statement on Form SB-2/A filed October 1, 2004). |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.16  |   | Letter of Understanding by and between Profile, LLC  and ProUroCare Inc., dated March 23, 2004 (incorporated by reference to  Exhibit 10.15 to registration statement on Form SB-2/A filed October 1,  2004).                                                         |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.17  |   | Minnetronix Agreement and Promissory Note dated  October 12, 2004 (incorporated by reference to Exhibit 10.1 to Quarterly  Report on Form 10-QSB filed November 16, 2004).                                                                                            |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.18  |   | Promissory Note between Venture Bank and ProUroCare  Inc. dated March 31, 2005 (incorporated by reference to Exhibit 10.18 to  registration statement on Form SB-2/A filed April 4, 2005).                                                                            |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.19  |   | Commercial Security Agreement between Venture Bank  and ProUroCare Inc. dated March 31, 2005 (incorporated by reference to  Exhibit 10.19 to registration statement on Form SB-2/A filed April 4, 2005).                                                              |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.20  |   | Placement Agency Agreement between Stonegate  Securities, Inc. and ProUroCare Medical Inc., dated April 11, 2005  (incorporated by reference to Exhibit 10.3 to quarterly report on Form 10QSB  filed August 22, 2005).                                               |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.21  |   | Change in Terms Agreement between Venture Bank and  ProUroCare Inc., dated July 2, 2005 (incorporated by reference to Exhibit  10.4 to quarterly report on Form 10QSB filed August 22, 2005).                                                                         |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.22  |   | Memorandum of Understanding between ProUroCare Inc.  and Urologix, Inc. dated July 27, 2005 (incorporated by reference to Exhibit  10.1 to current report on Form 8-K filed August 2, 2005).                                                                          |
|   |   |                                                                                                                                                                                                                                                                  |
| 10.23  |   | Sublicense agreement between ProUroCare Inc. and  Urologix, Inc. dated July 27, 2005 (incorporated by reference to Exhibit 10.2  to current report on Form 8-K filed August 2, 2005).                                                                                 |

 

77

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| 10.24  |   | Amendment #1 dated July 27, 2005 to License  Agreement by and between ProUroCare Inc. and Rensselaer Polytechnic Institute  dated July 13, 2001 (incorporated by reference to Exhibit 10.3 to current  report on Form 8-K filed August 2, 2005). |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                             |
| 10.25  |   | Final Settlement Agreement and Unconditional Release  between Todd E. Leonard (“Leonard”), and ProUroCare, Inc. dated August 1,  2005 (incorporated by reference to Exhibit 10.5 to current report on Form 8-K  filed August 2, 2005). |
|   |   |                                                                                                                                                                                                                                             |
| 10.26  |   | Employment Offer Agreement by and between ProUroCare  Medical Inc. and Alan L. Haggerty, dated September 6, 2005 (filed herewith).                                                                                                               |
|   |   |                                                                                                                                                                                                                                             |
| 10.27  |   | Promissory Note in the amount of $100,000 issued by  ProUroCare Inc. in favor of Venture Bank, dated September 14, 2005  (incorporated by reference to Exhibit 10.1 to current report on Form 8-K  filed September 20, 2005).                    |
|   |   |                                                                                                                                                                                                                                             |
| 10.28  |   | Promissory Note in the amount of $100,000 issued by  ProUroCare Inc. in favor of Roman Pauly and Maryjo Pauly, dated September 21,  2005 (incorporated by reference to Exhibit 10.1 to current report on Form 8-K  filed September 27, 2005).    |
|   |   |                                                                                                                                                                                                                                             |
| 10.29  |   | Promissory Note in the amount of $300,000 issued by  ProUroCare Inc. in favor of Venture Bank, dated October 20, 2005  (incorporated by reference to Exhibit 10.1 to current report on Form 8-K  filed October 25, 2005).                        |
|   |   |                                                                                                                                                                                                                                             |
| 10.30  |   | $150,000 Commercial Guaranty of Ronald S. Musich,  dated October 20, 2005 (incorporated by reference to Exhibit 10.3 to current  report on Form 8-K filed October 25, 2005).                                                                     |
|   |   |                                                                                                                                                                                                                                             |
| 10.31  |   | $150,000 Commercial Guaranty of Adrian T. Johnson,  dated October 20, 2005 (incorporated by reference to Exhibit 10.4 to current  report on Form 8-K filed October 25, 2005).                                                                    |
|   |   |                                                                                                                                                                                                                                             |
| 10.32  |   | Demand Promissory Note dated January 25, 2006 for  $12,500 issued to Alexander Nazarenko (incorporated by reference to Exhibit  10.1 to Current Report on Form 8-K filed January 31, 2006).                                                      |
|   |   |                                                                                                                                                                                                                                             |
| 10.33  |   | Demand Promissory Note dated January 25, 2006 for  $12,500 issued to David Koenig (incorporated by reference to Exhibit 10.2 to  Current Report on Form 8-K filed January 31, 2006).                                                             |
|   |   |                                                                                                                                                                                                                                             |
| 10.34  |   | Loan Agreement dated January 25 by and among Adron  Holdings, LLC, ProUroCare Inc., Maurice Taylor II and David Koenig (incorporated  by reference to Exhibit 10.3 to Current Report on Form 8-K filed January 31,  2006).                       |
|   |   |                                                                                                                                                                                                                                             |
| 10.35  |   | Promissory Note dated January 25, 2005 for $23,000  issued to Adron Holdings, LLC (incorporated by reference to Exhibit 10.4 to  Current Report on Form 8-K filed January 31, 2006).                                                             |
|   |   |                                                                                                                                                                                                                                             |
| 10.36  |   | Guarantee of Maurice Taylor II dated January 25,  2006 (incorporated by reference to Exhibit 10.5 to Current Report on Form 8-K  filed January 31, 2006).                                                                                        |
|   |   |                                                                                                                                                                                                                                             |
| 10.37  |   | Guarantee of David Koenig dated January 25, 2006  (incorporated by reference to Exhibit 10.6 to Current Report on Form 8-K  filed January 31, 2006).                                                                                             |

 

78

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| 10.38  |   | Warrant for Shares of Common Stock of ProUroCare  Medical, Inc. dated January 25, 2006 issued to Adron Holdings, LLC  (incorporated by reference to Exhibit 10.7 to Current Report on Form 8-K  filed January 31, 2006).                                  |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                      |
| 10.39  |   | Promissory Note dated January 11, 2006 issued by  ProUroCare Medical Inc. in favor of Crown Bank, executed February 16, 2006  (incorporated by reference to Exhibit 4.1 to Current Report on Form 8-K filed  February 23, 2006).                          |
|   |   |                                                                                                                                                                                                                                                      |
| 10.40  |   | Assignment of Profile LLC License Agreement dated  January 11, 2006 between ProUroCare Inc. and Crown Bank, executed February  16, 2006 (incorporated by reference to Exhibit 4.2 to Current Report on Form  8-K filed February 23, 2006).                |
|   |   |                                                                                                                                                                                                                                                      |
| 10.41  |   | Assignment of CS Medical Technologies LLC License  Agreement dated January 11, 2006 between ProUroCare Inc. and Crown Bank,  executed February 16, 2006 (incorporated by reference to Exhibit 4.3 to  Current Report on Form 8-K filed February 23, 2006) |
|   |   |                                                                                                                                                                                                                                                      |
| 10.42  |   | Guaranty provided to Crown Bank on behalf of  ProUroCare Medical Inc. dated January 10, 2006 (incorporated by reference to  Exhibit 4.4 to Current Report on Form 8-K filed February 23, 2006).                                                           |
|   |   |                                                                                                                                                                                                                                                      |
| 10.43  |   | Guaranty provided to Crown Bank on behalf of  ProUroCare Medical Inc. dated January 10, 2006 (incorporated by reference to  Exhibit 4.5 to Current Report on Form 8-K filed February 23, 2006).                                                           |
|   |   |                                                                                                                                                                                                                                                      |
| 10.44  |   | Security Agreement dated January 11, 2006 between  Crown Bank and ProUroCare, Inc., executed February 16, 2006 (incorporated by  reference to Exhibit 4.8 to Current Report on Form 8-K filed February 23,  2006).                                        |
|   |   |                                                                                                                                                                                                                                                      |
| 10.45  |   | Promissory Note dated February 28, 2006 issued by ProUroCare  Medical Inc. in favor of Crown Bank (incorporated by reference to exhibit 4.1  to Form 8-K filed March 3, 2006).                                                                            |
|   |   |                                                                                                                                                                                                                                                      |
| 10.46  |   | Assignment of Profile LLC License Agreement dated  January 11, 2006 between ProUroCare Inc. and Crown Bank, executed February  16, 2006 (incorporated by reference to Exhibit 4.2 of Form 8-K filed February  23, 2006).                                  |
|   |   |                                                                                                                                                                                                                                                      |
| 10.47  |   | Assignment of CS Medical Technologies LLC License  Agreement dated January 11, 2006 between ProUroCare Inc. and Crown Bank,  executed February 16, 2006 (incorporated by reference to Exhibit 4.3 of Form  8-K filed February 23, 2006).                  |
|   |   |                                                                                                                                                                                                                                                      |
| 10.48  |   | Guaranty provided to Crown Bank on behalf of  ProUroCare Medical Inc. dated February 28, 2006 (incorporated by reference to  exhibit 4.4 to Form 8-K filed March 3, 2006).                                                                                |
|   |   |                                                                                                                                                                                                                                                      |
| 10.49  |   | Guaranty provided to Crown Bank on behalf of  ProUroCare Medical Inc. dated February 28, 2006 (incorporated by reference to  exhibit 4.5 to Form 8-K filed March 3, 2006).                                                                                |
|   |   |                                                                                                                                                                                                                                                      |
| 10.50  |   | Guaranty provided to Crown Bank on behalf of  ProUroCare Medical Inc. dated February 28, 2006 (incorporated by reference to  exhibit 4.6 to Form 8-K filed March 3, 2006).                                                                                |

 

79

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| 10.51  |   | Security Agreement dated February 28, 2006 between  Crown Bank and ProUroCare, Inc. (incorporated by reference to exhibit 4.9 X  to Form 8-K filed March 3, 2006).                                                          |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                        |
| 10.52  |   | Security Agreement dated February 28, 2006 between  Crown Bank and ProUroCare Medical, Inc. (incorporated by reference to exhibit  4.10 to Form 8-K filed March 3, 2006).                                                   |
|   |   |                                                                                                                                                                                                                        |
| 10.53  |   | Final Settlement Agreement and Unconditional Release  between Todd E. Leonard (“Leonard”), and ProUroCare, Inc. dated March 3, 2006  (incorporated by reference to exhibit 10.1 to Form 8-K filed March 3, 2006). |
|   |   |                                                                                                                                                                                                                        |
| 14.1   |   | Code of Ethics (incorporated by reference to Exhibit  14.1 to annual report on Form 10KSB filed March 31, 2005).                                                                                                            |
|   |   |                                                                                                                                                                                                                        |
| 16.1   |   | Letter of Manning Elliott regarding change in  certifying accountant (incorporated by reference to Exhibit 16.1 to Current  Report on Form 8-K/A filed on April 26, 2004).                                                  |
|   |   |                                                                                                                                                                                                                        |
| 21.1   |   | List of Subsidiaries of ProUroCare Medical Inc.  (incorporated by reference to Exhibit 21.1 to registration statement on Form  SB-2 filed August 3, 2004).                                                                  |
|   |   |                                                                                                                                                                                                                        |
| 24.1   |   | Power of Attorney (included on signature page  hereof).                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                        |
| 31.1   |   | Certification of Principal Executive Officer  pursuant to Rule 13a-14(a)/15d-14(a) of the Sarbanes-Oxley Act of 2002 (filed  herewith).                                                                                     |
|   |   |                                                                                                                                                                                                                        |
| 31.2   |   | Certification of Chief Financial Officer pursuant to  Rule 13a-14(a)/15d-14(a) of the Sarbanes-Oxley Act of 2002 (filed herewith).                                                                                          |
|   |   |                                                                                                                                                                                                                        |
| 32.1   |   | Certification of Chief Executive Officer and Chief  Financial Officer pursuant to pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed herewith).               |

 

80

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**ITEM 14: PRINCIPAL ACCOUNTANTFEES AND SERVICES**

 

**Principal Accountant Fees and Services**

 

The following is asummary of the fees billed to the Company by Virchow Krause for professionalservices rendered for the calendar years ended December 31, 2005 and 2004: 

 
| **Fee Category**   | ** ** | **Fiscal 2005 Fees** | ** ** | **Fiscal 2004 Fees** | ** ** |
|--------------------|------------|----------------------|------------|----------------------|------------|
| Audit Fees         |       | $                    | 43,825     |                 | $          | 35,050 |   |
| Audit-related Fees |       | 3,335                |       | 11,600               |       |
| Tax Fees           |       | 2,740                |       | —               |       |
| All Other Fees     |       | —               |       | 3,575                |       |
| Total Fees         | ** ** | **$**                | **49,900** | ** **           | **$**      | **50,225** | ** ** |

 

*Audit Fees.* Consist of fees billed by our auditors for professionalservices rendered for the audit of our consolidated financial statements andreview of the interim consolidated financial statements included in quarterlyreports.

 

*Audit-related Fees.* Consist of fees billed by our auditors for professionalservices rendered for the review of theForm SB-2 filing and SEC comment letters

 

*Tax Fees*. Consist of fees billed by our auditors for professional services for taxcompliance, tax advice and tax planning.

 

*All Other Fees.* Consist of fees billed by our auditors for professionalservices related to the privateplacement memorandum and the merger with Global Internet Communications, Inc.

 

**Preapproval Policies**

 

The policy of our auditcommittee is to review and preapprove both audit and non-audit services to beprovided by the independent auditors (other than with de minimis exceptionspermitted by the Sarbanes-Oxley Act of 2002). This duty may be delegated to one or more designated members of theaudit committee with any such approval reported to the committee at its nextregularly scheduled meeting.  Approval ofnon-audit services shall be disclosed to investors in periodic reports requiredbySection 13(a) of the Securities Exchange Act of 1934.  100% of the fees paid to Virchow Krause werepre-approved as aforesaid.

 

No Services in connectionwith appraisal or valuation services, fairness opinions or contribution-in-kindreports were rendered by Virchow Krause. Furthermore, no work of Virchow Krause with respect to its servicesrendered to the Company was performed by anyone other than Virchow Krause.

 

81

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**SIGNATURES**

 

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

 

 

ProUroCare Medical, Inc.

 

 
| By:    |                    |   |
|--------|-------------------------|--------|
|   | Maurice R. Taylor II    |
|   | Chief Executive Officer |
|   | Date: March 30, 2006    |

 

** **

**POWER OF ATTORNEY**

** **

Each person whose signature to this annual reportappears below hereby constitutes and appoints Maurice R. Taylor and RichardThon as his or her true and lawful attorney-in-fact and agent, with full powerof substitution, to sign on his or her behalf individually and in the capacitystated below and to perform any acts necessary to be done in order to file allamendments to this registration statement and any and all instruments ordocuments filed as part of or in connection with this registration statement orthe amendments thereto and each of the undersigned does hereby ratify andconfirm all that said attorney-in-fact and agent, or his substitutes, shall door cause to be done by virtue hereof.

 

Pursuant to the requirements of the Securities Act of1934, this Annual Report has been signed as of the 30th day of March, 2006, bythe following persons in the capacities indicated.

 
| **Name**                   | ** ** | ** ** | **Title**                                              |
|----------------------------|------------|------------|--------------------------------------------------------|
| ** **                 | ** ** | ** ** | ** **                                             |
| ** **                 | ** ** | ** ** | ** **                                             |
| /s/ Maurice R.  Taylor, II | ** ** | ** ** | Chief Executive Officer (Principal Executive  Officer) |
| Maurice R.  Taylor, II     |       |       | and Chairman                                           |
|                       |       |       |                                                   |
| /s/ Richard Thon           |       |       | Chief Financial Officer (Principal Financial and       |
| Richard Thon               |       |       | Accounting Officer)                                    |
|                       |       |       |                                                   |
| /s/ Michael P.  Grossman   |       |       | President, Chief Operating Officer and Director        |
| Michael P.  Grossman       |       |       |                                                   |
|                       |       |       |                                                   |
| /s/ David Koenig           |       |       | Director                                               |
| David Koenig               |       |       |                                                   |
|                       |       |       |                                                   |
| /s/ Alex  Nazarenko        |       |       | Director                                               |
| Alex Nazarenko             |       |       |                                                   |
|                            |            |            |                                                        |  |

 

82

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