UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549




FORM
10-Q




x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934





For
      the quarterly period ended
                March 31,
2010


 ̈
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934




For
      the transition period from
                      
                      to


Commission
      File Number:
                    000-52018


VirtualScopics, Inc(Exact
      name of registrant as specified in its
charter)




Delaware
                
                04-3007151(State
      or other jurisdiction of incorporation or organization)
                
                (I.R.S.
      Employer Identification
No.)





500 Linden Oaks, Rochester, New
      York
            
            14625(Address
      of principal executive offices)
            
            (Zip
      Code)





(585) 249-6231(Registrant’s
      telephone number, including area code)(Former
      name, former address and former fiscal year, if changed since last
      report)





Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.





x
Yes    ̈
No





Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files). ̈
Yes    ̈
No





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





Large
      accelerated filer  ̈
            Accelerated
      filer  ̈Non-accelerated
      filer  ̈  (Do
      not check if a smaller reporting company)
            Smaller
      reporting company x





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




Yes  ̈ No
x




Indicate
the number of shares outstanding of each of the issuer’s classes of common
stock, as of the latest practicable date.


As of
April 30, 2010, there were 25,956,793 shares of the registrant’s common stock,
$0.001 par value, outstanding.








TABLE OF
CONTENTS





Page NumbersPART
      I
                    FINANCIAL
      INFORMATIONITEM
      1: Financial StatementsCondensed
      Consolidated Balance Sheets as of March 31, 2010 (unaudited) and December
      31, 2009
                    1Unaudited
      Condensed Consolidated Statements of Operations for the three months ended
      March 31, 2010 and 2009
                    2Unaudited
      Condensed Consolidated Statements of Cash Flows for the three months ended
      March 31, 2010 and 2009
                    3Notes
      to Unaudited Condensed Consolidated Financial Statements
                    4-13ITEM
      2: Management's Discussion and Analysis of  Financial Condition
      and Results of Operations
                    14-20ITEM
      4: Controls and Procedures
                    20-21PART
      II
                    OTHER
      INFORMATIONITEM
      1: Legal Proceedings
                    21ITEM
      2: Unregistered Sales of Equity Securities and Use of
    Proceeds
                    21ITEM
      3: Defaults Upon Senior Securities
                    22ITEM
      5: Other Information
                    22ITEM
      6: Exhibits
                    22


i


PART
1:  FINANCIAL INFORMATION





ITEM
1.  Financial Statements





VirtualScopics,
Inc. and Subsidiary


Condensed
Consolidated Balance Sheets





March 31,
                            
                            
                            December 31,2010
                            
                            
                            2009(Unaudited)AssetsCurrent
      assetsCash
                            
                            $
                            4,426,631
                            
                            
                            $
                            4,327,410Accounts
      receivable, net
                            
                            
                            1,375,218
                            
                            
                            
                            1,481,381Prepaid
      expenses and other current assets
                            
                            
                            433,949
                            
                            
                            
                            387,247Total
      current assets
                            
                            
                            6,235,798
                            
                            
                            
                            6,196,038Patents,
      net
                            
                            
                            1,799,785
                            
                            
                            
                            1,832,560Property
      and equipment, net
                            
                            
                            428,749
                            
                            
                            
                            456,169Other
      assets
                            
                            
                            -
                            
                            
                            
                            33,258Total
      assets
                            
                            $
                            8,464,332
                            
                            
                            $
                            8,518,025Current
      liabilitiesAccounts
      payable and accrued expenses
                            
                            $
                            766,362
                            
                            
                            $
                            658,430Accrued
      payroll
                            
                            
                            382,985
                            
                            
                            
                            837,177Unearned
      revenue
                            
                            
                            912,105
                            
                            
                            
                            1,011,498Derivative
      liability
                            
                            
                            1,269,392
                            
                            
                            
                            1,139,953Total
      current liabilities
                            
                            
                            3,330,844
                            
                            
                            
                            3,647,058Commitments
      and Contingencies
                            
                            
                            -
                            
                            
                            
                            -Stockholders'
      EquityConvertible
      preferred stock, $0.001 par value; 15,000,000 shares
      authorized;Series
      A 8,400 shares authorized; issued and outstanding, 3,288 and 3,438 shares
      at March 31, 2010 and December 31, 2009, respectively; liquidation
      preference $1,000 per share
                            
                            
                            3
                            
                            
                            
                            3Series
      B 6,000 shares authorized; issued and outstanding, 2,480 and 2,910 at
      March 31, 2010 and December 31, 2009, respectively; liquidation preference
      $1,000 per share
                            
                            
                            2
                            
                            
                            
                            3Common
      stock, $0.001 par value; 85,000,000 shares authorized;issued
      and outstanding, 25,828,918 and 25,233,255 shares at March 31, and
      December 31, 2009, respectively
                            
                            
                            25,829
                            
                            
                            
                            25,233Additional
      paid-in capital
                            
                            
                            14,608,763
                            
                            
                            
                            14,354,929Accumulated
      deficit
                            
                            
                            (9,501,109
                            )
                            
                            
                            (9,509,201
                            )Total
      stockholders' equity
                            
                            
                            5,133,488
                            
                            
                            
                            4,870,967Total
      liabilities and stockholders' equity
                            
                            $
                            8,464,332
                            
                            
                            $
                            8,518,025





See notes
to condensed consolidated financial statements.


1





VirtualScopics,
Inc. and Subsidiary


Condensed
Consolidated Statements of Operations


(unaudited)





For the Three Months Ended
                  March 31,2010
                
                
                2009Revenues
                
                $
                3,071,007
                
                
                $
                2,134,370Cost
      of services
                
                
                1,465,388
                
                
                
                1,014,584Gross
      profit
                
                
                1,605,619
                
                
                
                1,119,786Operating
      expensesResearch
      and development
                
                
                251,122
                
                
                
                235,555Sales
      and marketing
                
                
                302,515
                
                
                
                282,454General
      and administrative
                
                
                793,581
                
                
                
                844,679Depreciation
      and amortization
                
                
                124,920
                
                
                
                117,510Total
      operating expenses
                
                
                1,472,138
                
                
                
                1,480,198Operating
      income (loss)
                
                
                133,481
                
                
                
                (360,412
                )Other
      income(expense)Interest
      income
                
                
                4,220
                
                
                
                3,193Other
      expense
                
                
                (170
                )
                
                
                (1,485
                )Loss
      on derivative financial instrument
                
                
                (129,439
                )
                
                
                (397,409
                )Total
      other (expense)
                
                
                (125,389
                )
                
                
                (395,701
                )Net
      income (loss)
                
                
                8,092
                
                
                
                (756,113
                )Series
      B preferred stock dividend
                
                
                55,966
                
                
                
                84,520Net
      loss attributable to common  stockholders
                
                $
                (47,874
                )
                
                $
                (840,633
                )Basic
      and diluted net loss per common share
                
                $
                0.00
                
                
                $
                (0.04
                )Weighted
      average number of common shares outstanding – basic and
      diluted
                
                
                25,520,675
                
                
                
                23,533,785





See notes
to condensed consolidated financial statements.


2


VirtualScopics,
Inc. and Subsidiary


Condensed
Consolidated Statements of Cash Flows


(unaudited)





FortheThreeMonthsEndedMarch31,2010
                
                
                2009Cash
      flows from operating activitiesNet
      income (loss)
                
                $
                8,092
                
                
                $
                (756,113
                )Adjustments
      to reconcile net income (loss) to net cash provided by operating
      activities:Depreciation
      and amortization
                
                
                124,920
                
                
                
                117,510Stock-based
      compensation
                
                
                191,280
                
                
                
                285,332Loss
      on derivative financial instrument
                
                
                129,439
                
                
                
                397,409Changes
      in operating assets and liabilitiesAccounts
      receivable
                
                
                106,163
                
                
                
                (168,718
                )Prepaid
      expenses and other assets
                
                
                (44,326
                )
                
                
                (43,495
                )Accounts
      payable and accrued expenses
                
                
                227,047
                
                
                
                118,666Accrued
      payroll
                
                
                (454,192
                )
                
                
                (244,321
                )Unearned
      revenue
                
                
                (99,393
                )
                
                
                448,963Total
      adjustments
                
                
                180,938
                
                
                
                911,346Net
      cash provided by operating activities
                
                
                189,030
                
                
                
                155,233Cash
      flows from investing activitiesPurchase
      of equipment
                
                
                (33,232
                )
                
                
                (66,334
                )Acquisition
      of patents
                
                
                (611
                )
                
                
                (10,878
                )Net
      cash used in investing activities
                
                
                (33,843
                )
                
                
                (77,212
                )Cash
      flows from financing activitiesCash
      dividends on series B preferred stock
                
                
                (55,966
                )
                
                
                (84,520
                )Net
      cash used in financing activities
                
                
                (55,966
                )
                
                
                (84,520
                )Net
      increase (decrease) in cash and cash equivalents
                
                
                99,221
                
                
                
                (6,499
                )Cash
      and cash equivalentsBeginning
      of period
                
                
                4,327,410
                
                
                
                3,143,904End
      of period
                
                $
                4,426,631
                
                
                $
                3,137,405Supplemental
      disclosure of cash flow informationNon-cash
      financing activity:Issuance
      of common stock for partial payment of rent in equity
                
                $
                -
                
                
                $
                105,570Issuance
      of restricted awards in settlement of accrued liability
                
                $
                132,304
                
                
                $
                -





See notes
to condensed consolidated financial statements.


3


VirtualScopics,
Inc. and Subsidiary


Notes
to Condensed Consolidated Financial Statements


(unaudited)





NOTE 1 -
Organization and Basis
of Presentation





Nature of
Business


The
Company’s headquarters are located in Rochester, New York.  The
Company’s business evolved from research first carried out at the University of
Rochester, a related party.  The Company has created a suite of image
analysis software tools and applications which are used in detecting and
measuring specific anatomical structures and metabolic activity using medical
images.  The Company’s developed proprietary software provides
measurement capabilities designed to improve clinical research and
development.





Basis of
Presentation


The
accompanying unaudited condensed consolidated financial statements of the
Company have been condensed in certain respects and should, therefore, be read
in conjunction with the audited consolidated financial statements and notes
related thereto contained in the Company’s Annual Report on Form 10-K as of and
for the year ended December 31, 2009.  In the opinion of management,
these financial statements contain all adjustments necessary for a fair
presentation for the interim period, all of which were normal recurring
adjustments.  The results of operations for the three months ended
March 31, 2010 are not necessarily indicative of the results to be expected for
the full year ending December 31, 2010.





NOTE 2 -
Summary of Certain
Significant Accounting Policies





Principles of
Consolidation


The
accompanying consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiary, VirtualScopics, LLC.  All
significant intercompany balances and transactions have been eliminated in
consolidation.





Certain
prior period amounts have been reclassified to conform to the current year
presentation.





Derivative Financial
Instruments


The
Company does not use derivative instruments to hedge exposures to cash flow,
market or foreign currency risks.  The Company evaluates all of its
financial instruments to determine if such instruments are derivatives or
contain features that qualify as embedded derivatives.  For derivative
financial instruments that are accounted for as liabilities, the derivative
instrument is initially recorded at its fair value and is then re-valued at each
reporting date, with changes in the fair value reported in the consolidated
statements of operations.  For stock-based derivative financial
instruments, the Company uses the Black-Scholes option valuation model to value
the derivative instruments at inception and on subsequent valuation
dates.  The classification of derivative instruments, including
whether such instruments should be recorded as liabilities or as equity, is
evaluated at the end of each reporting period.  Derivative instrument
liabilities are classified in the balance sheet as current or non-current based
on whether or not net-cash settlement of the derivative instrument could be
required within 12 months of the balance sheet date (Note 5).


4


VirtualScopics,
Inc. and Subsidiary


Notes
to Condensed Consolidated Financial Statements


(unaudited)





Revenue
Recognition


The
Company recognizes revenue when it is realized or realizable and
earned.  The Company considers revenue realized or realizable and
earned when an agreement exists, services and products are provided to the
customer, prices are fixed or determinable, and collectability is reasonably
assured.  Revenues are reduced for estimated discounts and other
allowances, if any.





The
Company provides advanced medical image analysis on a per analysis basis, and
recognizes revenue when the image analysis is completed and delivered to the
customer.  Revenue related to project, data and site management
services is recognized as the services are rendered and in accordance with the
terms of the contract.  Consulting revenue is recognized once the
services are rendered and typically charged as an hourly rate.





Occasionally,
the Company provides software development services to its customers, which may
require significant development, modification, and
customization.  Software development revenue is billed on a fixed
price basis and recognized upon delivery of the software and acceptance by the
customer on a completed contract basis.  The Company does not sell
software, software licenses, upgrades or enhancements, or post-contract customer
services.





Reimbursements
received for out-of-pocket expenses incurred are reported as revenue in the
financial statements.





Income
Taxes


Income
taxes are accounted for under the asset and liability
method.  Deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases, and operating loss and tax credit
carryforwards.  Deferred tax assets and liabilities are measured using
enacted tax rates expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered or
settled.  The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in operations in the period that includes the
enactment date.  A valuation allowance is provided when it is more
likely than not that some portion or all of a deferred tax asset will not be
realized.  The ultimate realization of deferred tax assets is
dependent upon the generation of future taxable income and the reversal of
deferred tax liabilities during the period in which related temporary
differences become deductible. The benefit of tax positions taken or expected to
be taken in the Company’s income tax returns are recognized in the consolidated
financial statements if such positions are more likely than not of being
sustained.


5


VirtualScopics,
Inc. and Subsidiary


Notes
to Condensed Consolidated Financial Statements


(unaudited)





Research and
Development


Research
and development expense relates to the development of new products and processes
including significant improvements to existing products. These costs are
expensed as incurred.





Fair Value of Financial
Instruments


Fair
value of financial instruments is defined as an exit price, which is the price
that would be received upon sale of an asset or paid upon transfer of a
liability in an orderly transaction between market participants at the
measurement date.  The degree of judgment utilized in measuring the
fair value of assets and liabilities generally correlates to the level of
pricing observability.  Financial assets and liabilities with readily
available, actively quoted prices or for which fair value can be measured from
actively quoted prices in active markets generally have more pricing
observability and require less judgment in measuring fair
value.  Conversely, financial assets and liabilities that are rarely
traded or not quoted have less price observability and are generally measured at
fair value using valuation models that require more judgment.  These
valuation techniques involve some level of management estimation and judgment,
the degree of which is dependent on the price transparency of the asset,
liability or market and the nature of the asset or liability.  The
Company has categorized its financial assets and liabilities measured at fair
value into a three-level hierarchy.  See Note 5 – Derivative Liability
for a further discussion regarding the Company’s measurement of financial assets
and liabilities at fair value.





Recently Issued and Adopted
Accounting Pronouncements




In October 2009, the Financial Accounting Standards Board
(“FASB”) issued ASU No. 2009-13, “Multiple-Deliverable Revenue
Arrangements.” This ASU establishes the accounting and reporting guidance for
arrangements including multiple revenue-generating activities. This ASU provides
amendments to the criteria for separating deliverables, measuring and allocating
arrangement consideration to one or more units of accounting. The amendments in
this ASU also establish a selling price hierarchy for determining the selling
price of a deliverable. Significantly enhanced disclosures are also required to
provide information about a vendor’s multiple-deliverable revenue arrangements,
including information about the nature and terms, significant deliverables, and
its performance within arrangements. The amendments also require providing
information about the significant judgments made and changes to those judgments
and about how the application of the relative selling-price method affects the
timing or amount of revenue recognition. The amendments in this ASU are
effective prospectively for revenue arrangements entered into or materially
modified in the fiscal years beginning on or after June 15, 2010. Early
application is permitted. The Company is currently evaluating the impact the
adoption of this standard will have on its consolidated financial position and
results of operations.


6


VirtualScopics,
Inc. and Subsidiary


Notes
to Condensed Consolidated Financial Statements


(unaudited)




In
October 2009, the FASB issued ASU No. 2009-14, “Certain Revenue
Arrangements That Include Software Elements.” This ASU changes the accounting
model for revenue arrangements that include both tangible products and software
elements that are “essential to the functionality,” and scopes these products
out of current software revenue guidance. The new guidance will include factors
to help companies determine what software elements are considered “essential to
the functionality.” The amendments will now subject software-enabled products to
other revenue guidance and disclosure requirements, such as guidance surrounding
revenue arrangements with multiple-deliverables. The amendments in this ASU are
effective prospectively for revenue arrangements entered into or materially
modified in the fiscal years beginning on or after June 15, 2010. Early
application is permitted. The Company is currently evaluating the impact the
adoption of this standard will have on its consolidated financial position and
results of operations.





In
January 2010, the FASB issued ASU No. 2010-06, Fair Value Measurements and
Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements.
This ASU requires some new disclosures and clarifies some existing disclosure
requirements about fair value measurement as set forth in Codification Subtopic
820-10. ASU 2010-06 amends Codification Subtopic 820-10 and now requires a
reporting entity to use judgment in determining the appropriate classes of
assets and liabilities and to provide disclosures about the valuation techniques
and inputs used to measure fair value for both recurring and nonrecurring fair
value measurements. ASU 2010-06 is effective for interim and annual reporting
periods beginning after December 15, 2009.  As this standard relates
specifically to disclosures, the adoption did not have an impact on the
Company’s consolidated financial position and results of
operations.





In
February 2010, the FASB issued ASU 2010-09, "Subsequent Events (Topic 855) -
Amendments to Certain Recognition and Disclosure Requirements." ASU 2010-09
requires an entity that is an SEC filer to evaluate subsequent events through
the date that the financial statements are issued and removes the requirement
that an SEC filer disclose the date through which subsequent events have been
evaluated. ASC 2010-09 was effective upon issuance. The adoption of this
standard had no effect on our consolidated financial position or results of
operations.





In March
2010, the FASB issued ASU No. 2010-17, Revenue Recognition— Milestone Method
(Topic 605): Milestone Method of Revenue Recognition. This
standard  provides that the milestone method is a valid application of
the proportional performance model for revenue recognition if the milestones are
substantive and there is substantive uncertainty about whether the milestones
will be achieved. Determining whether a milestone is substantive requires
judgment that should be made at the inception of the arrangement. To meet the
definition of a substantive milestone, the consideration earned by achieving the
milestone (1) would have to be commensurate with either the level of effort
required to achieve the milestone or the enhancement in the value of the item
delivered, (2) would have to relate solely to past performance, and
(3) should be reasonable relative to all deliverables and payment terms in
the arrangement. No bifurcation of an individual milestone is allowed and there
can be more than one milestone in an arrangement. The new standard is effective
for interim and annual periods beginning on or after June 15, 2010. Early
adoption is permitted.  The Company is currently evaluating the impact
the adoption of this standard will have on its consolidated financial position
and results of operations.


7


VirtualScopics,
Inc. and Subsidiary


Notes
to Condensed Consolidated Financial Statements


(unaudited)





NOTE 3 -
Stock-Based
Compensation





For the
three months ended March 31, 2010 and 2009, the Company’s condensed consolidated
statements of operations reflect stock-based compensation expense for stock
options granted under its long-term stock incentive plans amounting to $191,280
and $285,332, respectively.





Stock
options issued under the Company’s long-term incentive plans are granted with an
exercise price equal to no less than the market price of the Company’s stock at
the date of grant and expire up to ten years from the date of
grant.  These options generally vest over a three- or four-year
period.





The fair
value of stock options granted was determined on the grant date using
assumptions for risk free interest rate, the expected term, expected volatility,
and expected dividend yield.  The risk free interest rate is based on
U.S. Treasury zero-coupon yield curve over the expected term of the
option.  The expected term assumption is determined using the weighted
average midpoint between vest and expiration for all individuals within the
grant.  Since the Company has limited historical volatility
information, it bases its expected volatility on the historical volatility of
similar entities whose share prices are publicly available averaged with the
Company’s historical volatility excluding the first ten months due to the
discreet and non-recurring nature of the trading.  In making its
determination as to similarity, the Company considered the industry, stage of
life cycle, size, and financial leverage of such other entities.  The
Company’s model includes a zero dividend yield assumption, as the Company has
not historically paid nor does it anticipate paying dividends on its common
stock.  The Company’s model does not include a discount for
post-vesting restrictions, as the Company has not issued awards with such
restrictions.  The periodic expense is then determined based on the
valuation of the options, and at that time an estimated forfeiture rate is used
to reduce the expense recorded.  The Company’s estimate of pre-vesting
forfeitures is primarily based on the Company’s historical experience and is
adjusted to reflect actual forfeitures as the options vest.  The
following assumptions were used to estimate the fair value of options granted
for the three months ended March 31, 2010 and 2009 using the Black-Scholes
option-pricing model:





March 31,2010
                  
                  
                  2009Risk
      free interest rate
                  
                  
                  2.83
                  %
                  
                  
                  2.80
                  %Expected
      term (years)
                  
                  
                  6.2
                  
                  
                  
                  10.0Expected
      volatility
                  
                  
                  57.9
                  %
                  
                  
                  86.7
                  %Expected
      dividend yield
                  
                  
                  -
                  
                  
                  
                  -


8


VirtualScopics,
Inc. and Subsidiary


Notes
to Condensed Consolidated Financial Statements


(unaudited)





A summary
of the option activity for the three months ended March 31, 2010 is as
follows:





Number
                    of Shares
                  
                  
                  Weighted
                    Average
                    Exercise
                    Price
                  
                  
                  Weighted-
                    Average
                    Remaining
                    Contractual
                    TermOptions
      outstanding at January 1, 2010
                  
                  
                  4,765,802
                  
                  
                  
                  0.74Granted
                  
                  
                  1,171,295
                  
                  
                  
                  1.00Cancelled
                  
                  
                  (5,000
                  )
                  
                  
                  (1.17
                  )Exercised
                  
                  
                  -
                  
                  
                  
                  -Options
      outstanding at March 31, 2010
                  
                  
                  5,932,097
                  
                  
                  
                  1.22
                  
                  
                  
                  6.64Options
      exercisable at March 31, 2010
                  
                  
                  2,718,431
                  
                  
                  
                  1.44
                  
                  
                  
                  4.67





The
weighted-average grant-date fair value of options granted during the three
months ended March 31, 2010 and 2009 was $667,377 and $545,525,
respectively.  There have been no options exercised during the three
months ended March 31, 2010.





NOTE 4 -
Stockholders’
Equity





During
the first quarter ended March 31, 2010, 150 shares of the Company’s series A
convertible preferred stock were converted into 124,554 shares of the Company’s
common stock and 430 shares of series B convertible preferred stock were
converted in 357,055 shares of the Company’s common stock.





Restricted
Stock Awards


A
restricted stock award entitles the recipient to receive shares of unrestricted
common stock upon vesting of the award.  The fair value of each
restricted stock award is determined upon granting of the shares and the related
compensation expense is recognized ratably over the vesting period and charged
to the income statements as non-cash compensation expense.  Restricted
stock awards granted but unvested shares are forfeited upon termination of
employment, unless otherwise agreed.  The fair value of restricted
stock issued under the Plan is determined based on the closing price of the
Company’s common stock on the grant date. During the three months ended March
31, 2010, the Company issued 114,054 shares of its common stock valued at
$132,304 in settlement of accrued stock awards.




The
Company incurred $13,189 and $19,307 in compensation expense in the first
quarter of 2010 and 2009, respectively, related to the restricted stock awards
for services by Board members for those respective periods. As of March 31,
2010, accrued expenses includes $29,746 of accrued stock awards representing
23,147 shares of common stock granted but not yet issued to directors for their
services on the board.


9


VirtualScopics,
Inc. and Subsidiary


Notes
to Condensed Consolidated Financial Statements


(unaudited)


NOTE 5
- Derivative
Liability





Effective
January 1, 2009, the Company adopted a new accounting policy requiring it to
change the manner in which it accounts for certain equity instruments. The
warrants issued with the Company’s series A and series B preferred stock, and to
the placement agent in the series B financing, do not have fixed settlement
provisions because their exercise prices may be lowered if the Company issues
securities at lower prices in the future.  The Company was required to
include the reset provisions in order to protect the warrant holders from the
potential dilution associated with future financings.  Accordingly,
the warrants were recognized as a derivative instrument and have been
re-characterized as derivative liabilities. The change in accounting for
warrants was reported as a cumulative effect of a change in accounting principle
as of January 1, 2009.





The
derivative liabilities were valued using the Black-Scholes option valuation
model and the following assumptions on the following dates:





March 31,
                    2010
                  
                  
                  January 1,
                    2010Series
      B warrants:Risk-free
      interest rate
                  
                  
                  2.28
                  %
                  
                  
                  2.62
                  %Expected
      volatility
                  
                  
                  55.5
                  %
                  
                  
                  67.5
                  %Expected
      life (in years)
                  
                  
                  4.4
                  
                  
                  
                  4.67Expected
      dividend yield
                  
                  
                  -
                  
                  
                  
                  -Number
      of warrants
                  
                  
                  2,234,764
                  
                  
                  
                  2,234,764Fair
      value
                  
                  $
                  1,269,392
                  
                  
                  $
                  1,139,953





The
risk-free interest rate was based on rates established by the Federal
Reserve.  The Company’s expected volatility was based on the
historical volatility of similar entities whose share prices are publicly
available averaged with the historical volatility of the Company’s trading
history excluding the first ten months due to the discreet and non-recurring
nature of the trading.  The expected life of the warrants was
determined by the expiration date of the warrants.  The expected
dividend yield was based upon the fact that the Company has not historically
paid dividends on its common stock, and does not expect to pay dividends on its
common stock in the future.


10




VirtualScopics,
Inc. and Subsidiary


Notes
to Condensed Consolidated Financial Statements


(unaudited)





The fair
value of these warrant liabilities was $1,269,392 at March 31, 2010. The change
in fair value during 2010 of $129,439 is reported in our condensed consolidated
statement of operations as a loss on derivative financial instruments. The fair
value of these liabilities will be re-measured at the end of every reporting
period and the change in fair value will be reported in our consolidated
statement of operations as a gain or loss on derivative financial
instruments.





Fair
Value Measurement





Valuation
Hierarchy


ASC 820,
“Fair Value Measurements and Disclosures,” establishes a valuation hierarchy for
disclosure of the inputs to valuation used to measure fair value. This hierarchy
prioritizes the inputs into three broad levels as follows.  Level 1
inputs are quoted prices (unadjusted) in active markets for identical assets or
liabilities.  Level 2 inputs are quoted prices for similar assets and
liabilities in active markets or inputs that are observable for the asset or
liability, either directly or indirectly through market corroboration, for
substantially the full term of the financial instrument.  Level 3
inputs are unobservable inputs based on the Company’s own assumptions used to
measure assets and liabilities at fair value.  A financial asset or
liability’s classification within the hierarchy is determined based on the
lowest level input that is significant to the fair value
measurement.





The
following table provides the liabilities carried at fair value measured on a
recurring basis as of March 31, 2010:





Fair Value Measurements at March 31, 2010Total Carrying
                    Value at
                    March 31,
                    2010
                  
                  
                  Quoted
                    prices in
                    active
                    markets
                    (Level 1)
                  
                  
                  Significant
                    other
                    observable
                    inputs
                    (Level 2)
                  
                  
                  Significant
                    unobservable
                    inputs (Level
                    3)Derivative
      liabilities
                  
                  $
                  1,269,392
                  
                  
                  $
                  -
                  
                  
                  $
                  -
                  
                  
                  $
                  1,269,392





The
carrying amounts of cash, accounts receivable, accounts payable, and accrued
liabilities approximate their fair value due to their short
maturities.  The derivative liabilities are measured at fair value
using quoted market prices and estimated volatility factors, and are classified
within Level 3 of the valuation hierarchy.


11


VirtualScopics,
Inc. and Subsidiary


Notes
to Condensed Consolidated Financial Statements


(unaudited)





The
following table sets forth a summary of the changes in the fair value of our
Level 3 financial liabilities that are measured at fair value on a recurring
basis:





Quarter Ended March 31,2010
                  
                  
                  2009Beginning
      balance
                  
                  $
                  (1,139,953
                  )
                  
                  $
                  (422,908
                  )Net
      unrealized loss on derivative financial instruments
                  
                  
                  (129,439
                  )
                  
                  
                  (397,409
                  )Ending
      balance
                  
                  $
                  (1,269,392
                  )
                  
                  $
                  (820,317
                  )





NOTE 6 -
Net Loss Per
Share





Basic net
loss per share is computed by dividing the net loss applicable to common shares
by the weighted average number of common shares outstanding during the
period.  Diluted loss attributable to common shares adjusts basic loss
per share for the effects of convertible securities, warrants, stock options and
other potentially dilutive financial instruments, only in the periods in which
such effect is dilutive.  The shares issuable upon the conversion of
preferred stock, the exercise of stock options and warrants are excluded from
the calculation of net loss per share as their effect would be
antidilutive.





Securities
that could potentially dilute earnings per share in the future that were not
included in the computation of diluted loss per share consist of the following
as of March 31:





2010
                  
                  
                  2009Series
      A convertible preferred stock
                  
                  
                  2,730,227
                  
                  
                  
                  3,168,240Series
      B convertible preferred stock
                  
                  
                  2,059,288
                  
                  
                  
                  3,509,092Series
      A warrants to purchase common stock
                  
                  
                  -
                  
                  
                  
                  1,629,402Series
      B warrants to purchase common stock
                  
                  
                  2,234,764
                  
                  
                  
                  2,234,764Other
      warrants to purchase common stock
                  
                  
                  444,888
                  
                  
                  
                  444,888Options
      to purchase common stock
                  
                  
                  6,073,787
                  
                  
                  
                  5,421,308Total
                  
                  
                  13,542,954
                  
                  
                  
                  16,407,694





NOTE 7 -
Income
Taxes





The
Company has significant net operating loss and business credit carryovers which
are subject to a valuation allowance due to the uncertain nature of the
realization of the losses.  The Internal Revenue Code imposes certain
limitations on the utilization of net operating loss carryovers and other tax
attributes after a change in control.  The Company does not believe it
has encountered ownership changes which could significantly limit the possible
utilization of such carryovers.  However, the Company has not
performed a detailed analysis to determine the effect of any such ownership
changes on its ability to use these net operating loss and credit
carryforwards.  It is not anticipated that limitations, if any, would
have a material impact on the condensed consolidated balance sheet as a result
of offsetting changes in the deferred tax valuation allowance.


12


VirtualScopics,
Inc. and Subsidiary


Notes
to Condensed Consolidated Financial Statements


(unaudited)





The
Company will recognize interest and penalties accrued related to unrecognized
tax benefits as components of its income tax provision.  As of March
31, 2010, the Company does not have any interest and penalties accrued related
to unrecognized tax benefits.





NOTE 8 -
Concentration of
Credit Risk





The
Company’s top customer accounted for approximately 49% of its total revenue and
30% of its accounts receivable for the three months ended March 31, 2010. For
the three months ended March 31, 2009, its then top two customers accounted for
27% and 10% of its total revenue and 31% and 12% of its accounts
receivable.





NOTE 9 –
Subsequent
Event





The
Company evaluates events that have occurred after the balance sheet date but
before the financial statements are issued. Based upon the evaluation, the
Company did not identify any recognized or non-recognized subsequent events that
would have required adjustment or disclosure in the consolidated financial
statements.


13


ITEM 2:  Management's Discussion and Analysis
of Financial Condition and Results of Operations





The
following discussion should be read in conjunction with VirtualScopics’
condensed consolidated balance sheets as of March 31, 2010 and December 31, 2009
and the related condensed consolidated statements of operations and cash flows
for the quarters ended March 31, 2010 and 2009, included elsewhere in this
report. This discussion contains forward-looking statements, the accuracy of
which involves risks and uncertainties. Our actual results could differ
materially from those anticipated in the forward-looking statements for many
reasons including, but not limited to, those discussed under the heading
“Forward Looking Statements” below and elsewhere in this report. We disclaim any
obligation to update information contained in any forward-looking
statements.





Overview





VirtualScopics,
Inc. is a leading provider of imaging solutions to accelerate drug and medical
device development.  We have developed a robust software platform for
analysis and modeling of both structural and functional medical
images.  In combination with our industry-leading experience and
expertise in advanced imaging biomarker measurement, this platform provides a
uniquely clear window into the biological activity of drugs and devices in
clinical trial patients, allowing pharmaceutical, biotechnology and medical
device companies to make better decisions faster. Additionally, our technology
helps to curtail trials that are not likely to be beneficial and to avoid
mistaken termination of compounds that are likely to prove efficacious, as well
as allow our customers to expedite compounds that are demonstrating response.
This is done through:





·
            improved
      precision in the measurement of existing imaging-based biomarkers
      resulting in shorter observation periods, with beneficial cost savings
      within a clinical trial;





·
            new
      imaging biomarkers, which are better correlated with disease states, again
      reducing trial length and therefore costs;
and





·
            reduced
      processing time for image data analysis through
  automation.





In
addition, we believe our technology helps reduce aggregate clinical development
costs through:





·
            improved
      precision for existing biomarkers, thus requiring smaller patient
      populations and lower administrative costs;
and





·
            new
      biomarkers that serve as better correlates, leading to better early
      screening and elimination of weak drug candidates in pre-clinical
      trials.





In July
2000, VirtualScopics was formed after being spun out of the University of
Rochester and in June 2002, VirtualScopics purchased the underlying technology
and patents created by VirtualScopics’ founders from the University of
Rochester. VirtualScopics owns all rights to the patents underlying its
technology.


14


Revenues
over the past eight years have been derived primarily from image processing
services in connection with pharmaceutical drug trials.  For these
services, we have been concentrating in the areas of oncology and
osteoarthritis.  We have also derived a portion of revenue from
consulting services and pharmaceutical drug trials in the neurology and
cardiovascular therapeutic areas.  Revenues are recognized as the
services are performed and as images processed are quantified and delivered to
our customers.





The
amount of projects under management has steadily grown over the past several
years, and we continue to submit proposals and bids for new contracts. However,
there can be no assurance that we will secure contracts from these efforts or
that any such contracts or any of our existing contracts will not be cancelled
by a customer.





Additionally,
once we enter into a new contract for participation in a drug trial, there are
several factors that can affect whether we will realize the full benefits under
the contract, and the time over which we will realize that
revenue.  Customers may not continue our services due to performance
reasons with their compounds in development.  Furthermore, the
contracts may contemplate performance over multiple years.  Therefore,
revenue may not be realized in the fiscal year in which the contract is signed
or awarded.  Recognition of revenue under the contract may also be
affected by the timing of patient recruitment and image site identification and
training.





We have
also begun pursuing the application of one of our technologies into the
personalized medicine market. Specifically, we believe there could be further
benefit of our blood flow and vascular permeability software tool in assisting
patients and oncologists in determining whether an anti-angiogenic therapy is
having the desired effect. We believe this application will assist oncologists
with treatment planning for patients undergoing anti-angiogenic cancer
therapies. We have begun the regulatory process for obtaining 510k clearance
from the FDA. We will continue to assess the best mechanism for channeling our
application into the market; however, there can be no assurance that approval
will be granted or we will experience significant demand for our
application.





Results
of Operations





Results
of Operations for Quarter Ended March 31, 2010 Compared to Quarter Ended March
31, 2009





Revenues





We had
revenues of $3,071,000 for the quarter ended March 31, 2010 compared to
$2,134,000 for the comparable period in 2009.  This $937,000, or 44%,
increase in revenues was directly related to the expansion of our penetration
within the pharmaceutical and medical device industries. During the first
quarter, we performed work on 98 different projects, in connection with our
pharmaceutical drug trials in the fields of oncology, osteoarthritis and various
other projects.  This compares to 83 projects during the same period
in 2009. The majority of the demand is seen within our oncology service line;
however, we have recently seen increased interest in our musculoskeletal
applications. During the first quarter of 2010, 77% of our business was in
oncology services and 20% in musculoskeletal, the remaining 3% was in other
therapeutic areas. This compares to 63%, 19% and 18%, respectively, in 2009.
During the first quarter of 2010, 73% of the revenues were derived from Phase II
and III studies compared to 55% during the comparable period in 2009.
Additionally, our margins are impacted by the nature of the service mix during
the reported quarter. Site qualification activities tend to result in higher
margins whereas image analysis activities yield a lower margin. Therefore,
depending on the mix of services in a quarter, our margins may vary from quarter
to quarter.


15


Gross
Profit





We had a
gross profit of $1,605,000 for the first quarter of 2010 compared to $1,120,000
for the comparable period in 2009, an increase of 485,000, or
43%.  Our gross profit margin was 52% during the period ended March
31, 2010 and 2009.   Our margins remained consistent year over
year as we supported the 44% increase in revenues by hiring within our
operations group. The hiring was predominately in project management which is
our direct link to our customers. Additionally, we continue to invest in our
infrastructure to support efficiencies as we scale the business to support our
growth. These investments and the higher revenue volume allow us to be more
effective in the processing of our services. In order to balance the needs of
our customers and our internal capacity, we anticipate margins in the low 50%
range throughout 2010.





Research
and Development





Research
and development costs increased in the quarter ended March 31, 2010 by $15,000,
or 6%, to $251,000, when compared to the quarter ended March 31,
2009.  The increase was a result of general wage and benefit cost
increases as well as the addition of two employees within our software
development group in 2009. Our research and development efforts center around
refining our processes through the use of our software platform in order to
allow for greater reporting capabilities by our customers and to gain
efficiencies which we believe will better allow us to standardize our processes
as we scale the business. Additionally, we continue to invest in the
commercialization of new imaging techniques across many modalities and
therapeutic areas to best serve our customers. As of March 31, 2010, there were
ten employees in our research and development group, which includes the
algorithm and software development groups.





Sales
and Marketing





Sales and
marketing costs increased in the quarter ended March 31, 2010 by $21,000, or 7%,
to $303,000, when compared to the quarter ended March 31, 2009.  The
increase was a result of general wage increases as well as the timing of trade
shows and travel costs during the quarter as compared to prior year. As of March
31, 2010, there were five employees within our sales and marketing group. Their
efforts center around company awareness initiatives and direct sales
efforts.


16


General
and Administrative





General
and administrative expenses for the quarter ended March 31, 2010 were $794,000,
a decrease of $51,000 or 6%, when compared to the quarter ended March 31,
2009.  The decrease was due to the lower  valuation of our
stock options which vested during the period as compared to the first quarter of
2009. Offsetting the decrease were general rate and benefit cost increases for
2010 for our employees within the general and administrative function. General
and administrative personnel include finance, information technology, quality,
human resources and the CEO position. Non-payroll related costs included within
general and administration include stock option expense, audit and legal fees,
regulatory and compliance fees, Nasdaq listing fees, board fees,
non-capitalizable hardware and software costs and licenses and non-sales related
travel costs.





Depreciation
and Amortization





Depreciation
and amortization charges were $125,000 for the quarter ended March 31, 2010
compared to $118,000 during the quarter ended March 31, 2009.  This
$7,000 increase was a result of depreciation charges related to recent capital
purchases, including the purchase and installation cost of an ERP
system.





Other
Income (Expense)





Interest
income for the quarter ended March 31, 2010 was nominal due to the low interest
rates received from our primary banking institution. We continue to assess the
level of risk and related rates within our current banking arrangement as well
as opportunities with other institutions in order to leverage our cash balances
while minimizing our risk. Additionally, we recognized a marked to market
adjustment of $129,000 related to the loss in fair value of certain warrants
that were issued in connection with our 2007 series B offering (see Financial
Statement Note 5).





Net
Income/Loss





Net
income for the quarter ended March 31, 2010 was $8,000 compared to a net loss of
$756,000 for the quarter ended March 31, 2009.  The significant
improvement in our net income over the prior period was primarily related to the
increase in our revenues, growth in our gross profit along with reductions in
the non-cash marked to market adjustment for certain outstanding warrants during
the first quarter of 2010 as compared to 2009.





Liquidity
and Capital Resources





Our
working capital as of March 31, 2010 was approximately $2,905,000 compared to
$2,549,000 as of December 31, 2009.  The increase in working capital
was a result of the generation of operating income in the first quarter of 2010,
offset by timing differences and the recording of a marked to market adjustment
related to the loss in fair value of certain warrants in accordance with ASC
815-40.





Net cash
provided by operating activities totaled $189,000 in the three months ended
March 31, 2010 compared to $155,000 in the comparable 2009
period.  This improvement in the amount of cash provided by operating
activities is a direct result of increases in revenues and gross profit without
increases in spending in research and development and general and administrative
expenses. Also impacting operating cash flow was the timing of receivables and
payment of accounts payable and payroll.


17


We
invested $34,000 in the purchase of equipment and the acquisition of patents in
the first quarter of 2010, compared to $77,000 for the investment in these items
in the first quarter of 2009. The decrease represents investments in our IT
infrastructure in 2009 and the costs associated with implementing an ERP system
in 2009 to support the growing demand for our services.





Cash used
in our financing activities in the three months ended March 31, 2010 was
$56,000, compared to $85,000 provided by financing activities in the three
months ended March 31, 2009. The reduction is a result of lower dividend
payments due to the conversion of series B preferred shares to common stock over
the past year which has reduced the amount of required dividend
payments.





We
currently expect that existing cash and cash equivalents will be sufficient to
fund operations for the next 12 months. If in the next 12 months our plans or
assumptions change or prove to be inaccurate, we may be required to seek
additional capital through public or private debt or equity financings. If we
need to raise additional funds, we may not be able to do so on terms favorable
to us, or at all. If we cannot raise sufficient funds on acceptable terms, we
may have to curtail our level of expenditures and our rate of
expansion.





Off
Balance Sheet Arrangements





We have
no off-balance sheet arrangements (other than the consulting agreements and
operating leases) that have or are reasonably likely to have a current or future
effect on our financial condition, changes in financial condition, revenues or
expenses, results of operations, liquidity, capital resources or capital
expenditures that is material to investors.





Recently
Issued and Adopted Accounting Pronouncements




In
October 2009, the Financial Accounting Standards Board (“FASB”) issued ASU
No. 2009-13, “Multiple-Deliverable Revenue Arrangements.” This ASU
establishes the accounting and reporting guidance for arrangements including
multiple revenue-generating activities. This ASU provides amendments to the
criteria for separating deliverables, measuring and allocating arrangement
consideration to one or more units of accounting. The amendments in this ASU
also establish a selling price hierarchy for determining the selling price of a
deliverable. Significantly enhanced disclosures are also required to provide
information about a vendor’s multiple-deliverable revenue arrangements,
including information about the nature and terms, significant deliverables, and
its performance within arrangements. The amendments also require providing
information about the significant judgments made and changes to those judgments
and about how the application of the relative selling-price method affects the
timing or amount of revenue recognition. The amendments in this ASU are
effective prospectively for revenue arrangements entered into or materially
modified in the fiscal years beginning on or after June 15, 2010. Early
application is permitted. The Company is currently evaluating the impact the
adoption of this standard will have on its consolidated financial position and
results of operations.


18




In
October 2009, the FASB issued ASU No. 2009-14, “Certain Revenue
Arrangements That Include Software Elements.” This ASU changes the accounting
model for revenue arrangements that include both tangible products and software
elements that are “essential to the functionality,” and scopes these products
out of current software revenue guidance. The new guidance will include factors
to help companies determine what software elements are considered “essential to
the functionality.” The amendments will now subject software-enabled products to
other revenue guidance and disclosure requirements, such as guidance surrounding
revenue arrangements with multiple-deliverables. The amendments in this ASU are
effective prospectively for revenue arrangements entered into or materially
modified in the fiscal years beginning on or after June 15, 2010. Early
application is permitted. The Company is currently evaluating the impact the
adoption of this standard will have on its consolidated financial position and
results of operations.





In
January 2010, the FASB issued ASU No. 2010-06, Fair Value Measurements and
Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements.
This ASU requires some new disclosures and clarifies some existing disclosure
requirements about fair value measurement as set forth in Codification Subtopic
820-10. ASU 2010-06 amends Codification Subtopic 820-10 and now requires a
reporting entity to use judgment in determining the appropriate classes of
assets and liabilities and to provide disclosures about the valuation techniques
and inputs used to measure fair value for both recurring and nonrecurring fair
value measurements. ASU 2010-06 is effective for interim and annual reporting
periods beginning after December 15, 2009.  As this standard relates
specifically to disclosures, the adoption did not have an impact on the
Company’s consolidated financial position and results of
operations.





In
February 2010, the FASB issued ASU 2010-09, "Subsequent Events (Topic 855) -
Amendments to Certain Recognition and Disclosure Requirements." ASU 2010-09
requires an entity that is an SEC filer to evaluate subsequent events through
the date that the financial statements are issued and removes the requirement
that an SEC filer disclose the date through which subsequent events have been
evaluated. ASC 2010-09 was effective upon issuance. The adoption of this
standard had no effect on our consolidated financial position or results of
operations.





In March
2010, the FASB issued ASU No. 2010-17, Revenue Recognition— Milestone Method
(Topic 605): Milestone Method of Revenue Recognition. This
standard  provides that the milestone method is a valid application of
the proportional performance model for revenue recognition if the milestones are
substantive and there is substantive uncertainty about whether the milestones
will be achieved. Determining whether a milestone is substantive requires
judgment that should be made at the inception of the arrangement. To meet the
definition of a substantive milestone, the consideration earned by achieving the
milestone (1) would have to be commensurate with either the level of effort
required to achieve the milestone or the enhancement in the value of the item
delivered, (2) would have to relate solely to past performance, and
(3) should be reasonable relative to all deliverables and payment terms in
the arrangement. No bifurcation of an individual milestone is allowed and there
can be more than one milestone in an arrangement. The new standard is effective
for interim and annual periods beginning on or after June 15, 2010. Early
adoption is permitted.  The Company is currently evaluating the impact
the adoption of this standard will have on its consolidated financial position
and results of operations.


19


Forward
Looking Statements





Certain
statements made in this discussion are “forward-looking statements” within the
meaning of the Private Securities Litigation Reform Act of
1995.  These forward-looking statements include statements that
address activities, events or developments that we expect, believe or anticipate
may occur in the future, including the following risk factors:





·
            adverse
      economic conditions;





·
            inability
      to raise sufficient additional capital to operate our
      business;





·
            unexpected
      costs, lower than expected sales and revenues, and operating
      defects;





·
            adverse
      results of any legal proceedings;





·
            the
      volatility of our operating results and financial
    condition;





·
            inability
      to attract or retain qualified senior management personnel, including
      sales and marketing, and scientific personnel;
  and





·
            other
      specific risks that may be referred to in this
  report.





All
statements, other than statements of historical facts, included in this report
including, without limitation, statements regarding our strategy, future
operations, financial position, estimated revenue or losses, projected costs,
prospects and plans and objectives of management are forward-looking
statements.  When used in this report, the words “may,” “believe,”
“anticipate,” “intend,” “estimate,” “expect,” “project,” “plan,” “could,”
“would” and similar expressions are intended to identify forward-looking
statements, although not all forward-looking statements contain such identifying
words.  All forward-looking statements speak only as of the date of
this report.  We do not undertake any obligation to update any
forward-looking statements or other information contained in this
report.  Existing stockholders and potential investors should not
place undue reliance on these forward-looking statements. Although we believe
that our plans, intentions and expectations reflected in or suggested by the
forward-looking statements in this report are reasonable, we cannot assure our
stockholders or potential investors that these plans, intentions or expectations
will be achieved.  We disclose important factors that could cause our
actual results to differ materially from our expectations under the heading
entitled “Risk Factors” in our annual report on Form 10-K for the fiscal year
ended December 31, 2009 filed with the Securities and Exchange Commission
(“SEC”) and elsewhere in this report.  These risk factors qualify all
forward-looking statements attributable to us or persons acting on our
behalf.


20


ITEM
4.  Controls and Procedures




Evaluation
of Disclosure Controls and Procedures




We
maintain a set of disclosure controls and procedures, as defined in Section
13a-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange
Act”), that are designed to ensure that information required to be disclosed by
us in the reports filed by us under the Securities Exchange Act of 1934, as
amended (the “Exchange Act”) is recorded, processed, summarized and reported
within the time periods specified in the SEC’s rules and forms. We carried out
an evaluation, under the supervision and with the participation of our Chief
Executive Officer and our Chief Financial Officer, of the effectiveness of the
design and operation of our disclosure controls and procedures pursuant to Rule
13a-15(b) of the Exchange Act. Based on that evaluation, our Chief Executive
Officer and our Chief Financial Officer concluded that our disclosure controls
and procedures were effective as of the end of the period covered by this
report.





Notwithstanding
the foregoing, there can be no assurance that the Company’s disclosure controls
and procedures will detect or uncover all failures of persons within the Company
to disclose material information otherwise required to be set forth in the
Company’s periodic reports. There are inherent limitations to the effectiveness
of any system of disclosure controls and procedures, including the possibility
of human error and the circumvention or overriding of the controls and
procedures. Accordingly, even effective disclosure controls and procedures can
only provide reasonable, not absolute, assurance of achieving their control
objectives.





Changes
in Internal Controls Over Financial Reporting





An
evaluation was performed under the supervision of the Company’s management,
including the CEO and CFO, as required under Exchange Act Rule 13a-15(d) and
15d-15(d) of whether any change in the Company’s internal control over financial
reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) occurred
during the fiscal quarter ended September 30, 2009.  Based on that
evaluation, the Company’s management, including the CEO and CFO, concluded that
no change in the Company’s internal controls over financial reporting occurred
during the fiscal quarter ended March 31, 2010 that has materially affected or
is reasonably likely to materially affect, the Company’s internal control over
financial reporting.




PART
II. OTHER INFORMATION





Item
1.  Legal Proceedings





None





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





During
the first quarter ended March 31, 2010, 150 shares of the Company’s series A
convertible preferred stock were converted into 124,554 shares of the Company’s
common stock and 430 shares of series B convertible preferred stock were
converted in 357,055 shares of the Company’s common stock. The Company did not
receive any cash or other consideration in connection with the conversions.
Additionally, no commission or other remuneration was paid by the Company in
connection with such conversions.  The issuance of common stock upon
conversions of the series A and B convertible preferred stock was made in
reliance on the exemption provided in Section 3(a)(9) of the Securities Act of
1933, as amended.


21


Item
3.  Defaults upon Senior Securities





Not
applicable.





Item
5.  Other Information





None





Item
6.  Exhibits


Exhibit
31.1      Certification of Chief Executive Officer
as required by Rule 13a-14 or 15d-14 of the Securities Exchange Act of 1934, as
adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.





Exhibit
31.2      Certification of Chief Financial Officer
as required by Rule 13a-14 or 15d-14 of the Securities Exchange Act of 1934, as
adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.





Exhibit
32.1      Certification of Chief Executive Officer
Pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act 0f of 2002.





Exhibit
32.2      Certification of Chief Financial Officer
Pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act 0f of 2002.


22


SIGNATURES





Pursuant
to the requirements of the Securities Exchange Act of 1934, the registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.





Dated:  May
      14, 2010
                  VIRTUALSCOPICS,
      INC./s/  Jeffrey
    MarkinJeffrey
      MarkinPresident
      and Chief Executive Officer/s/  Molly
    HendersonMolly
      HendersonChief
      Business and Financial Officer andSenior
      Vice
President


23


Exhibit Index





Exhibit
31.1    Certification of Chief Executive Officer as required
by Rule 13a-14 or 15d-14 of the Securities Exchange Act of 1934, as adopted
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002





Exhibit  31.2    Certification
of Chief Financial Officer as required by Rule 13a-14 or 15d-14 of the
Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002





Exhibit
32.1   Certification pursuant to 18 U.S.C. Section 1350 by the
Chief Executive Officer, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002





Exhibit
32.2   Certification pursuant to 18 U.S.C. Section 1350 by the
Chief Financial Officer, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002


24