**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**WASHINGTON,
      D.C. 20549**


**______________________**




**FORM
      10-KSB**




**S**
            **ANNUAL
                REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
                1934**




**For
      the Fiscal Year Ended December 31, 2005**




Commission
      File Number 000-33211




______________




**VITAL
      LIVING, INC.**


*(Exact
      Name of Small Business Issuer in Its Charter)*




**Nevada**
            **88-0485596***(State
                or Other Jurisdiction of Incorporation or
                Organization)*
            *(I.R.S.
                Employer Identification No.)*




**5080
      North 40** **th** **Street, Suite 105**


**Phoenix,
      Arizona 85018-2147**


**(602)
      389-8600**


*(Address,
      including zip code, and telephone number, including area code, of principal
      executive offices)*




**Securities
      registered under Section 12(b) of the Exchange Act:**




**Title
                of Each Class**
            **Name
                of Each Exchange on Which Registered**None
            Not
                Applicable




**Securities
      registered under Section 12(g) of the Exchange Act:**


Common
      Stock, $0.001 par value


*(Title
      of Class)*




Check
      whether the issuer is not required to file reports pursuant to Section 13 or
      15(d) of the Exchange Act. £




Check
      whether the issuer (1) filed all reports required to be filed by Section 13
      or
      15(d) of the Securities Exchange Act of 1934 during the past 12 months (or
      for
      such shorter period that the registrant was required to file such reports),
      and
      (2) has been subject to such filing requirements for the past 90 days. Yes S No £




Check
      if
      there is no disclosure of delinquent filers in response to Item 405 of
      Regulation S-B contained in this form, and no disclosure will be contained,
      to
      the best of registrant's knowledge, in definitive proxy or information
      statements incorporated by reference in Part III of this Form 10-KSB or any
      amendment to this Form 10-KSB. £




Indicate
      by check mark whether the registrant is a shell company (as defined by Rule
      12b-2 of the Exchange Act). Yes £ No S




State
      issuer's revenue for the most recent fiscal year: $4,858,000.




As
      of
      March 17, 2006, the aggregate market value of the voting and non-voting common
      stock held by non-affiliates of the issuer (based on the closing sales price
      as
      reported by the OTC Bulletin Board) was $3,327,000 assuming all officers and
      directors are deemed affiliates for this purpose).




As
      of
      March 17, 2006, the issuer had 112,261,000 shares of its common stock, $0.001
      par value, outstanding.




**Documents
      Incorporated by Reference.** None.









**VITAL
      LIVING, INC.**




**ANNUAL
      REPORT ON FORM 10-KSB**




**FOR
      THE YEAR ENDED DECEMBER 31, 2005**




**TABLE
      OF CONTENTS**




**PART
                  I**ITEM
                1.
              DESCRIPTION
                OF BUSINESS
              3ITEM
                2.
              DESCRIPTION
                  OF PROPERTY
              15ITEM
                3
              LEGAL
                  PROCEEDINGS
              15ITEM
                4.
              SUBMISSION
                  OF MATTERS TO A VOTE OF SECURITY HOLDER
              16**PART
                  II.**ITEM
                5.
              MARKET
                  FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS, AND SMALL BUSINESS
                  ISSUER
                  PURCHASES OF EQUITY SECURITIES
              16ITEM
                6.
              MANAGEMENT'S
                  DISCUSSION AND ANALYSIS
              24ITEM
                7.
              FINANCIAL
                  STATEMENTS
              24ITEM
                  8.
              CHANGES
                  AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
                  DISCLOSURE
              24ITEM
                  8A
              CONTROLS
                  AND PROCEDURES
              24ITEM
                8B.
              OTHER
                INFORMATION
              24**PART
                  III.**ITEM
                9.
              DIRECTORS,
                  EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH
                  SECTION
                  16(a) OF THE EXCHANGE ACT
              24ITEM
                  10.
              EXECUTIVE
                COMPENSATION
              27ITEM
                  11.
              SECURITY
                  OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
                  STOCKHOLDER MATTERS
              31ITEM
                  12.
              CERTAIN
                  RELATIONSHIPS AND RELATED TRANSACTIONS
              33ITEM
                13.
              EXHIBITS.
              33ITEM
                14.
              PRINCIPAL
                  ACCOUNTANTS FEES AND SERVICES INDEX TO CONSOLIDATED FINANCIAL
                  STATEMENTS
              35INDEX
                TO CONSOLIDATED FINANCIAL STATEMENTS
              F-1SIGNATURES





***Statement
      Regarding Forward-Looking Statements***




*The
      statements contained in this report on Form 10-KSB that are not purely
      historical are forward-looking statements within the meaning of applicable
      securities laws. Forward-looking statements include statements regarding our
      "expectations, " "anticipation, " "intentions, " "beliefs, " or "strategies"
      regarding the future. Forward looking statements also include statements
      regarding revenue, margins, expenses, and earnings analysis for fiscal 2006
      and
      thereafter; future products or product development; our product development
      strategies; potential acquisitions or strategic alliances; the success of
      particular product or marketing programs; the amounts of revenue generated
      as a
      result of sales to significant customers; and liquidity and anticipated cash
      needs and availability. All forward-looking statements included in this report
      are based on information available to us as of the filing date of this report,
      and we assume no obligation to update any such forward-looking statements.
      Our
      actual results could differ materially from the forward-looking statements.
      Among the factors that could cause actual results to differ materially are
      the
      factors discussed in Item 1, "Business - Risk Factors. "*









**PART
      I.**




**Item
      1.** **Description
      of Business**




**Overview**




**Our
      Company**




We
      develop and market nutritional fruit and vegetable supplements, protein
      supplements, and nutraceuticals products. Our principal products currently
      are
      Greensfirst®, Red AlertTM, Dream ProteinTM and Complete EssentialsTM. We distribute
      our products primarily through regional nutritional distributors that market
      our
      proprietary products and patient selling system directly to healthcare
      practitioners who utilize our proprietary selling system to market our products
      directly to consumers.




Nutritional
      supplements represent a convenient and cost-effective way for an individual
      to
      obtain the nutritional benefits of whole foods. Nutritional supplements are
      formulated from whole foods and are intended to provide for improved health,
      reduced risk of diseases, and the delayed onset of age related indicators while
      resulting in little added caloric and fat intake. Nutritional supplements come
      in powder, capsule, cracker, and other forms.




Nutraceuticals,
      consisting of vitamins, minerals, herbs, and supplements, are products that
      are
      isolated or purified from foods and generally sold in medicinal forms not
      usually associated with foods, including tablets, capsules, and drops.
      Nutraceuticals are intended to have physiological benefits or have the ability
      to reduce the risk of chronic disease beyond basic nutritional products. We
      develop and test our nutraceuticals in collaboration with leading medical
      experts in the nutraceuticals field.




We
      have
      designed our products to be incorporated by healthcare practitioners into
      standard patient routines in which healthcare practitioners recommend and sell
      our nutritional supplements and nutraceuticals products to their patients.
      Use
      of vitamins, minerals, herbs, and nutritional supplements continues to rise
      as
      consumers seek nutritional products to improve general health, increase
      longevity, and enhance the overall quality of life.




We
      were
      incorporated in the state of Nevada on January 22, 2001 under the name
      Nutritional Systems, Inc. We acquired substantially all of the assets of Vital
      Living, Inc. effective as of May 7, 2001 and changed our name to Vital Living,
      Inc. on May 20, 2001. On August 16, 2001, we merged with VCM Technology Limited,
      a company reporting under the Securities Exchange Act of 1934. Following the
      merger, we continued as the surviving corporation and commenced reporting under
      the Exchange Act.




Our
      executive offices are located at 5080 North 40th Street, Suite 105, Phoenix,
      Arizona 85018, and our telephone number is (602) 952-9909. Our website is
      located at www.vitalliving.com.




**Strategy**




Our
      goal
      is to become a major participant in the nutritional supplement and nutraceutical
      markets. Key elements of our strategy to achieve this goal include the
      following:




·
            capitalize
                on the growing consumer interest in the use of nutritional supplements
                and
                nutraceuticals to complement traditional health care
                routines,




·
            develop
                products that appeal to health care professionals and
                consumers,




·
            enhance
                our distribution channels and the participants in those channels,
                and




·
            pursue
                strategic acquisitions in the highly fragmented nutritional supplement
                and
                nutraceuticals markets to expand our product offerings, distribution
                channels, and geographic reach.




3




**Products**




Our
      current principal products are GreensFIRST®, Red AlertTM, Dream ProteinTM, and
      Complete EssentialsTM. These products represented nearly all of our revenue
      during fiscal 2005.




*GreensFIRST* ®
is
      a
      highly concentrated formulation of fruits and vegetables with natural, organic,
      whole foods and extracts, produced in a powder for mixing with a variety of
      liquids. GreensFIRST® supplies natural vitamins, minerals, plant enzymes,
      antioxidants, phytonutrients, and symbiotic intestinal flora designed to provide
      for more optimal energy metabolism, fat burning, digestion, detoxification,
      immunity, repair, recovery, rejuvenation, and vital longevity. GreensFIRST® is
      currently distributed through more than 8,000 healthcare practitioners
      throughout the United States.




*Red
      Alert* TM
is
      a
      highly concentrated formulation of fruits and vegetables made with organic
      and
      all natural products. Red Alert is a phytonutrient-antioxident energy drink
      formulated to boost energy with no added stimulants. Red Alert may also help
      improve immune function, help support weight management, alkalize and balance
      pH, and aid in healthy digestion.




*Dream
      Protein* TM
is
      a
      whey protein highly concentrated formula, consisting of proprietary hormone
      free, ultra-lowtempTM whey protein isolate. We start with hormone free whey from
      cows that are "meadow fed" and not given any rBGH or BST hormones. Dream Protein
      is also made with an Ultra-Low TempTM process in which the protein is not
      denatured (damaged) from an extensive heat treatment.




*Complete
      Essentials* TM
is
      a
      ultra pure omega 369 dietary supplement that contains essential fatty acids
      derived from organic flaxseed oil, borage seed oil, and deep sea cold water
      fish
      oil. Because the human body cannot manufacture essential fatty acids on its
      own,
      our unique dietary supplement is a blend of healthy oils designed to satisfy
      an
      individual's need for essential fatty acids.




**Sales
      and Marketing**




We
      market
      our products through the following distribution channels:




·
            healthcare
                practitioners, which includes physicians, condition specialists,
                chiropractors, nutritionists, and trainers, who promote or prescribe
                our
                products; and




·
            regional
                nutritional distributors that market our proprietary products and
                patient
                selling system directly to healthcare practitioners who utilize our
                proprietary selling system to market directly to consumers. We distribute
                a majority of our products, including GreensFIRST®, Red AlertTM, Dream
                ProteinTM, and Complete EssentialsTM, primarily through healthcare
                practitioners. During both 2005 and 2004, our GreensFIRST® product was
                primarily responsible for a significant portion of our
                revenue.




During
      the third quarter of 2004, we entered a joint venture with Wellness Watchers
      Systems providing for the development and marketing of the Healthy Living Kit.
      The Healthy Living Kit creates a Wellness Smoothie, which is a meal replacement
      designed for all types of metabolisms and blood types. It consists of one scoop
      of GreensFIRST® and one scoop of Dream ProteinTM in eight ounces of water along
      with one of our Complete EssentialsTM Ultra Pure Omega 3-6-9 capsules. Each
      Healthy Living Kit Wellness Smoothie meal replacement is a balanced,
      low-calorie, low-glycemic, hypoallergenic, high-antioxidant, nutrient-dense
      food
      source. It is created from a combination of potent organic, hormone and
      pesticide free all-natural foods. The Health Living Kit along with the lifestyle
      program was created to assist healthcare practitioners in dealing with chronic
      diseases, such as cancer, heart disease, and diabetes.




We
      continue to explore other possibilities to distribute our products nationally
      and internationally. We may evaluate the regulatory and distribution structures
      in Europe, Asia, and other international markets to determine the best way
      to
      distribute our products in those markets.




4




**Research
      and Development**




Our
      research and development efforts focus on developing, testing, and
      substantiating the efficacy of new products in response to what we perceive
      is a
      need in the healthcare practitioner distribution channel to complement existing
      product lines currently available to our customers. Additionally, we continually
      reformulate existing products in response to literature and market
      demand.




We
      believe that flexibility and innovation with respect to new products are crucial
      factors in remaining competitive in the nutritional supplements and
      nutraceuticals markets and being able to produce the most effective products,
      which healthcare practitioners will be willing to prescribe for their patients
      for specific conditions. By monitoring market trends and avoiding short-lived
      "fad" products, we attempt to anticipate healthcare practitioners demand for
      certain product categories. Maintaining flexibility is a key to enabling us
      to
      capitalize on emerging sciences relative to nutritional products as well as
      shifts in consumer needs.




Research
      and development costs amounted to $72,000 and $1,180,000 for 2005 and 2004,
      respectively. Research and development costs incurred from our formation until
      December 31, 2005 were $2.2 million.




**Manufacturing**




We
      utilize independent contract manufacturers to produce all of our products.
      During the first quarter of 2005, we entered into a one-year contractual
      arrangement with one of our primary manufacturers. The potential loss of our
      relationships with our manufacturers or their inability to conduct their
      manufacturing services for us as anticipated in terms of cost, quality and
      product delivery could adversely affect our ability to provide cost-effective,
      high-quality, and timely product delivery to our customers. We depend to a
      great
      extent on our manufacturers for the safety, purity, and potency of our
      products.




**Raw
      Materials and Quality Control**




The
      principal raw materials used in the manufacture of our nutritional supplements
      and nutraceuticals are natural ingredients purchased from manufacturers and
      other suppliers in the United States, with certain materials imported from
      other
      countries. We purchase these raw materials directly or through our manufactures
      and other suppliers. Therefore, with our suppliers and manufacturers, we
      maintain the responsibility for documenting all certificates of analysis for
      the
      materials in accordance with good manufacturing practices ("GMP") and
      guidelines. All raw materials are sent directly to our manufacturers for milling
      and other fabrication. We do not have contracts with any of the suppliers of
      raw
      materials used in the production of our products.




Historically,
      we have not experienced difficulties obtaining raw ingredients for our products
      on customary terms. We believe that the materials used in our products are
      readily available from numerous sources and that the loss of any of our current
      suppliers would not adversely affect our operations. There is no assurance,
      however, that suppliers will continue to provide the raw materials needed by
      us
      in the quantities required or on favorable terms. Because we do not control
      the
      source of these raw materials, we also are subject to delays caused by
      interruptions in production of materials based on conditions outside our
      control. Any significant delay in, or disruption of, the supply of raw materials
      could harm our business. If supply shortages were to occur and we were unable
      to
      meet the demands of our customers, even if for only a short time, the result
      could be a long-term decrease in the sales of our products. We cannot assure
      you
      that, on a long-term basis, an adequate supply of ingredients will be available
      to us on commercially reasonable terms in order for us to meet the supply
      obligations to our customers.




Finished
      products are produced by our manufacturers, which maintain quality control
      laboratories and testing facilities. Our manufactured products are packaged
      by
      and protected by a tamper-resistant outer safety seal. All of this is done
      by
      our manufacturers according to current GMP guidelines *.*




**Acquisitions
      and Strategic Initiatives**




We
      have
      completed four acquisitions. We discontinued the operations of two of the
      acquired businesses because the acquisitions did not meet our
      expectations.




5




On
      August
      17, 2004, we consummated a joint venture with Wellness Watchers International,
      Inc., or WWI, and together formed Wellness Watchers Systems, LLC, or WWS. We
      paid WWI $805,000 for its 50% interest in WWS. The purchase price consisted
      of
      3.0 million shares of our common stock along with a $25,000 cash payment. We
      and
      WWI originally owned 50% of WWS. The operating agreement gave us overall
      operating responsibility. WWS manufactures a proprietary brand of dietary
      protein powder called Dream ProteinTM, which is directly marketed to the health
      practitioners together with our GreensFIRST® product. WWS plans to introduce
      complementary products that will be marketed as part of WWS' Healthy Living
      Program®. Part of WWI's contribution to WWS was the exclusive licensing of
      certain products, client lists and marketing strategies, which included Dream
      ProteinTM. WWS has developed a unique marketing strategy that channels products
      directly to health practitioners. Prior to forming WWS, WWI had no prior
      operating history. During 2004, WWS had total revenue of $400,000. During
      February 2005, we acquired 100% interest in WWS by issuing an additional 1.0
      million shares of our stock. In conjunction with our acquisition of the
      remainder of WWS and certain other marketing and operation strategic
      productivity decisions, during the first quarter of 2005, we have consolidated
      the operations of WWS into DFN.




We
      plan
      to continue our acquisition strategy in the future. In particular, we intend
      to
      focus on candidates that have strong relationships with key vendors or have
      established complimentary distribution channels or customers. We believe that
      a
      number of factors will facilitate our acquisition strategy, including the
      following:




·
            the
                highly fragmented composition of the nutritional supplement and
                nutraceuticals markets;




·
            our
                status as a public corporation;




·
            a
                decentralized management strategy, which facilitates the acquired
                company's management remaining involved in operations should they
                desire
                to do so; and




·
            the
                ability of our management to identify acquisition opportunities.
                Trademarks and Patents.






**Trademarks
      and Patents**




We
      own
      numerous trademarks registered with the U.S. Patent and Trademark Office and
      with agencies in certain other major jurisdictions of the world. Our trademarks
      include Vital Living®, Vital Living - The Physician Nutraceutical Company® (plus
      a logo), GreensFIRST®, Dream ProteinTM, and Complete EssentialsTM.




Federally
      registered trademarks have a perpetual life as long as they are renewed on
      a
      timely basis and used properly as trademarks, subject to the rights of third
      parties to seek cancellation of the marks. We believe that our registered and
      unregistered trademarks, patents, and other proprietary rights are valuable
      assets and that they have significant value in the marketing of our products.
      Accordingly, we intend to vigorously protect our intellectual property against
      infringement.




**Competition**




Our
      competitors vary by the nature of the distribution channel. In the healthcare
      practitioner and regional nutritional distributor channels, we compete with
      a
      number of companies selling whole foods and nutritional supplements, including
      Douglas Labs, Integration Therapeutics, Phyto Pharmacia, Metagenics Standard
      Process, Allergy Research, and Enzymatic Therapy.




Many
      of
      our competitors are substantially larger than we are and have significantly
      greater financial, technical, marketing, and other resources. We compete
      primarily based on our ability to be first to market and the desire of
      healthcare practitioners to have a nutritional line of products to supplement
      their practices.




**Governmental
      Regulation**




The
      formulation, manufacturing, packaging, labeling, advertising, distribution,
      and
      sale [hereafter, collectively "sale" or "sold"] of dietary and nutritional
      supplements, such as those sold by us, are subject to regulation by one or
      more
      federal agencies, principally the Food and Drug Administration, or FDA, the
      Federal Trade Commission, or FTC, and to a lesser extent, the Consumer Product
      Safety Commission and the U.S. Department of Agriculture. Our activities are
      also regulated by various governmental agencies for the states and localities
      in
      which our products are sold, as well as by governmental agencies in certain
      countries outside the United States. Among other matters, regulation by the
      FDA
      and FTC covers product safety and claims made with respect to a product's
      ability to provide health-related benefits.




6




Federal
      agencies, primarily the FDA and FTC, have a variety of procedures and
      enforcement remedies available to them, including the following:




·
            initiating
                investigations,




·
            issuing
                warning letters and cease and desist
                orders,




·
            requiring
                corrective labeling or advertising,




·
            requiring
                consumer redress, such as requiring that a company offer to repurchase
                products previously sold to
                consumers,




·
            seeking
                injunctive relief or product
                seizures,




·
            imposing
                civil penalties, or




·
            commencing
                civil procedures or criminal
                prosecution.




In
      addition, certain state agencies have similar authority. These federal and
      state
      agencies have in the past used these remedies in regulating participants in
      the
      dietary supplements industry, including the imposition by federal agencies
      of
      civil penalties in the millions of dollars against industry participants. We
      cannot assure you that the regulatory environment in which we operate will
      not
      change or that such regulatory environment, or any specific action taken against
      us, will not result in a material adverse effect on our operations. In addition,
      increased sales of, and publicity about, dietary supplements may result in
      increased regulatory scrutiny of the dietary supplements industry.




The
      Dietary Supplement Health and Education Act, or DSHEA, was enacted in 1994,
      amending the Federal Food, Drug, and Cosmetic Act, or FFD&CA. We believe the
      DSHEA is generally favorable to consumers and to the dietary supplement
      industry. DSHEA establishes a statutory class of "dietary supplements," which
      includes vitamins, minerals, herbs, amino acids, and other dietary ingredients
      for human use to supplement the diet. Dietary ingredients on the market as
      of
      October 15, 1994 do not require the submission by the manufacturer or
      distributor to the FDA of evidence of a history of use or other evidence of
      safety establishing that the ingredient will reasonably be expected to be safe,
      but a dietary ingredient that was not on the market as of October 15, 1994
      may
      need to be the subject of such a submission to FDA at least 75 days before
      marketing. Among other things, the DSHEA prevents the FDA from regulating
      dietary ingredients in dietary supplements as "food additives" and allows the
      use of statements of nutritional support on product labels. The FDA has issued
      proposed and final regulations in this area and indicates that further guidance
      and regulations are forthcoming. We cannot assure you that the FDA will accept
      the evidence of safety for any new dietary ingredient that we may decide to
      use
      and the FDA's refusal to accept such evidence could result in regulation of
      such
      dietary ingredients as food additives, requiring FDA pre-approval based on
      newly
      conducted, costly safety testing. In addition, while the DSHEA authorizes the
      use of statements of nutritional support or "structure/function claims in the
      labels and labeling of dietary supplements, the FDA is required to be notified
      of such statements. We cannot assure you that the FDA will not consider
      particular labeling statements used by us to be drug claims rather than
      acceptable statements of nutritional support, thereby necessitating approval
      of
      a costly new drug application, or re-labeling to delete such statements. We
      do
      believe, however, that we substantially comply with the regulations promulgated
      under DSHEA with regard to labels and labeling of our dietary
      supplements.




7




In
      November 1998, the FTC announced new advertising guidelines specifically for
      the
      dietary supplement industry, entitled "Dietary Supplements: An Advertising
      Guide
      for Industry." These guidelines reiterate many of the policies the FTC has
      previously announced over the years, including requirements for substantiation
      of claims made in advertising about dietary supplements. We make every effort
      to
      ensure we are in compliance with FTC advertising standards.




The
      FFD&CA also authorizes the FDA to promulgate good manufacturing practices,
      or GMP, standards for dietary supplements, which require special quality
      controls for the manufacture, packaging, storage, and distribution of
      supplements. The final version of FDA's GMP regulation has not been published.
      We believe however, that we will be in substantial compliance with the
      regulations once they are issued. We contractually require that any independent
      third party manufacturers doing business with us comply with all existing,
      or to
      be promulgated, regulations. The FFD&CA further authorizes the FDA to
      promulgate regulations governing the labeling of dietary supplements, including
      claims for supplements pursuant to recommendations made by the Presidential
      Commission on Dietary Supplement Labels. These rules, which were issued on
      or
      after September 23, 1997, entail specific requirements relative to the labeling
      of our dietary supplements. The rules also require additional record keeping
      and
      claim substantiation, reformulation, or discontinuance of certain products,
      which would be a material expense to us.




The
      sale
      of our products in countries outside the United States is regulated by the
      governments of those countries. We are not currently marketing our products
      outside of the United States, except in Canada and Mexico. Our plans to commence
      or sales in those countries may be prevented or delayed by such regulation.
      While compliance with such regulation will generally be undertaken by
      international distributors, we may assist with such compliance and in certain
      cases may be liable if a distributor fails to comply.




We
      cannot
      predict the nature of any future laws, regulations, interpretations, or
      applications, nor can we determine what effect such additional regulation,
      when
      and if it occurs, would have on our business in the future. Such additional
      regulation could require, however, any of the following:




·
            the
                reformulation of certain products to meet new
                standards,




·
            the
                recall or discontinuance of certain
                products,




·
            additional
                record keeping,




·
            expanded
                documentation of the properties of certain
                products,




·
            revised,
                expanded or different labeling, or




·
            additional
                scientific substantiation.




**Employees**




As
      of
      March 17, 2006, we had four full-time employees, all of whom are engaged in
      finance, administration, or management functions. None of our employees is
      subject to any collective bargaining agreements with us, and we believe our
      relationship with our employees is satisfactory. Our future success depends,
      in
      part, on our ability to attract, retain, and motivate highly qualified
      personnel.




**Properties**




We
      lease
      our corporate offices under a three-year lease, which expires in mid
      2007.




**Legal
      Proceedings**




We
      are
      involved in various legal proceedings arising out of our operations in the
      ordinary course of business. We do not believe that any such proceedings will
      have a material adverse effect on our business, operating results, or financial
      condition.




8




**RISK
      FACTORS**




*You
      should consider carefully the following risk factors and all other information
      contained herein in evaluating our company and our business. Our common stock
      involves a high degree of risk. If any of the following risks occur, our
      business, financial condition, and operating results will suffer. Moreover,
      the
      price of our common stock could decline and you could lose all of your
      investment.*




**Our
      significant losses and negative cash flow raise questions about our ability
      to
      continue as a going concern.**




We
      have
      only a limited operating history. Our business must be considered in light
      of
      the risks, expenses, and difficulties frequently encountered in establishing
      a
      business in the nutritional supplement and nutraceuticals industries, which
      are
      characterized by a large number of market participants, intense competition,
      and
      a high failure rate. We incurred net losses of approximately $21.5 million
      and
      $28.2 million in 2005 and 2004, respectively. We cannot assure you that we
      will
      be able to achieve or sustain revenue growth, profitability, or positive cash
      flow on either a quarterly or annual basis or that profitability, if achieved,
      will be sustained. If we are unable to achieve or sustain profitability, we
      may
      not be financially viable in the future and may have to curtail, suspend, or
      cease operations. Because of our recurring operating losses and negative cash
      flow, the audit report of our independent public accountants on our financial
      statements for the fiscal years ended December 31, 2005 and 2004 contains an
      explanatory paragraph stating that the independent auditor has substantial
      doubt
      about our ability to continue as a going concern.




**If
      we are unable to generate cash from operations, we may need to raise additional
      funds in the near future.**




We
      had a
      working capital deficit of $1.6 million at December 31, 2005. Historically,
      we
      have been dependent on equity or debt financings to fund our operations and
      working capital needs. We completed offerings of 510,000 shares of our common
      stock raising gross proceeds of $510,000 in the first quarter of 2004; an
      offering of 3.9 million shares of our common stock and 15.6 million warrants,
      which resulted in gross proceeds of $975,000 in June and July of 2004; and
      a
      warrant offering, which began in November 2004 and concluded in January 2005,
      that resulted in the issuance of 7.1 million shares of our common stock and
      6.4
      million warrants that generated $717,000 in gross proceeds. Our net cash used
      in
      operating activities was $358,000 and $3.6 million during the years ended
      December 31, 2005 and 2004, respectively. We may need to raise additional
      capital in the very near future to fund our operations and are currently
      examining various sources of additional financings. However, because our Senior
      Secured Convertible Notes are secured by substantially all of our assets, we
      may
      have difficulty securing additional debt financing on terms favorable to us
      or
      at all. Any equity financing that we obtain may be highly dilutive to existing
      stockholders. Our inability to generate cash flow from operations or to find
      sources of funding would have an adverse impact on our ability to maintain
      our
      operations.




**We
      have substantial indebtedness and interest obligations that we must satisfy
      when
      due. .**




We
      have
      substantial indebtedness and interest obligations that we must satisfy in
      accordance with their terms. In connection with the MAF acquisition completed
      during 2002, we have a recorded a related provision of $401,000, which is
      included in our current liabilities. During the third quarter of 2004, we
      entered into an agreement to sell all property, rights, and assets related
      to
      our Boulder Bar product line. The purchaser agreed to assume the debt. However,
      the purchaser has not complied with the terms of the agreement, and we are
      currently seeking legal remedies. In addition, we have outstanding $4.2 million
      aggregate principal amount of Senior Secured Convertible Notes, which are
      secured by substantially all of our assets. In October 2004, we obtained
      majority consent of the holders of the notes to pay the 12% annual interest
      requirement in either cash or shares of our common stock. We cannot assure
      you
      that our operations will generate funds sufficient to repay these debt
      obligations as they come due. Our failure to repay any of our indebtedness
      and
      make required interest payments as required by these debt obligations could
      result in an event of default. In this event, the holders of our debt could
      force us to sell our assets in order to repay obligations owing to
      them.




9




**We
      may record future losses because of an impairment of goodwill and other
      intangibles.**




We
      had
      approximately $3.3 million of goodwill and $14,000 of net intangible assets
      at
      December 31, 2005, cumulatively accounting for approximately 69% of our total
      assets at December 31, 2005. We adopted Statement of Financial Accounting
      Standards No. 142, "Goodwill and Other Intangible Assets," and are required
      to
      analyze our goodwill and other intangible assets for impairment issues on an
      annual basis or when events occur that would indicate that an intangible asset
      impairment had occurred. The value of our goodwill and other intangible assets
      is exposed to future impairment if we experience declines in operating results
      or experience significant negative industry or economic trends or if future
      performance is below historical trends. We periodically review goodwill and
      intangible assets for impairment using the guidance of applicable accounting
      literature. We are subject to financial statement risk to the extent that the
      goodwill and other intangible assets become impaired, and any impairment losses
      related to goodwill and other intangible assets may result in a non-cash charge
      to earnings. We may, in the future, determine that certain assets classified
      as
      goodwill or intangible are impaired and record the appropriate non-cash charge
      to earnings.




**We
      may lose our exclusive licensing rights to the GEOMATRIX® technology if
      SkyePharma terminates the Development and License Agreement to which we are
      a
      party.**




We
      are
      party to a Development and License Agreement with SkyePharma PLC under which
      we
      have certain exclusive licensing rights to the GEOMATRIX® technology. We are in
      dispute with SkyePharma over the terms of the agreement and have failed to
      make
      payments, which total $750,000 called for under the agreement. On April 6,
      2004,
      we received a demand letter from SkyePharma related to the past due payments
      under the agreement, which triggered a 30-day negotiation period under the
      agreement. This 30-day period is required before initiating formal collection
      proceedings. We are currently in discussions to modify both the terms and
      payment schedules under the agreement. We cannot assure you that these
      negotiations will be successful and that we will reach a satisfactory resolution
      of this matter. In the event a satisfactory resolution cannot be reached and
      SkyePharma exercises its rights of termination under the agreement, we may
      lose
      substantial and possibly all rights gained under this and related contracts
      with
      SkyePharma.




**Any
      acquisitions that we undertake could be difficult to integrate, disrupt our
      business, dilute our stockholder value, and harm our operating
      results.**




We
      plan
      to continue to review opportunities to buy other businesses that would expand
      our product offerings, enhance our product distribution, expand the geographical
      breadth of our markets, or otherwise offer other growth opportunities. In the
      past two years, we have acquired three businesses, and we may acquire additional
      businesses in the future. If we make any future acquisitions, we may issue
      stock
      that would dilute existing stockholders' percentage ownership, incur substantial
      debt, or assume contingent liabilities. Acquisitions involve numerous risks,
      including the following:




·
            problems
                integrating the purchased products, operations, personnel, distribution
                channels, and systems with our own;




·
            unanticipated
                costs or undisclosed liabilities associated with the
                acquisition;




·
            diversion
                of management's attention from our existing
                businesses;




·
            potential
                compliance issues with regard to acquired companies that did not
                have
                adequate internal controls;




·
            adverse
                effects on existing business relationships with suppliers distributors,
                and customers;




·
            risks
                associated with entering markets in which we have no or limited prior
                experience; and




·
            potential
                loss of key employees and customers of purchased
                organizations.




10




Our
      acquisition strategy entails reviewing and potentially reorganizing acquired
      business operations, corporate infrastructure and systems, and financial
      controls. Unforeseen expenses, difficulties, and delays frequently encountered
      in connection with expansion through acquisitions could inhibit our growth
      and
      negatively impact our profitability. We may be unable to identify suitable
      acquisition candidates or to complete the acquisitions of candidates that we
      identify. Increased competition for acquisition candidates may increase purchase
      prices for acquisitions to levels beyond our financial capability or to levels
      that would not result in the returns required by our acquisition criteria.
      In
      addition, we may encounter difficulties in integrating the operations of
      acquired businesses with our own operations or managing acquired businesses
      profitably without substantial costs, delays, or other operational or financial
      problems.




We
      may
      issue common or preferred stock and incur substantial indebtedness in making
      future acquisitions. The size, timing, and integration of any future
      acquisitions may cause substantial fluctuations in operating results from
      quarter to quarter. Consequently, operating results for any quarter may not
      be
      indicative of the results that may be achieved for any subsequent quarter or
      for
      a full fiscal year. These fluctuations could adversely affect the market price
      of our common stock.




Our
      ability to grow through acquisitions will depend upon various factors, including
      the following:




·
            the
                availability of suitable acquisition candidates at attractive purchase
                prices;




·
            the
                ability to compete effectively for available acquisition opportunities;
                and




·
            the
                availability of funds or common stock with a sufficient market price
                to
                complete the acquisitions.




As
      a part
      of our acquisition strategy, we frequently engage in discussions with various
      companies regarding their potential acquisition by us. In connection with these
      discussions, we and each potential acquisition candidate exchange confidential
      operational and financial information, conduct due diligence inquiries, and
      consider the structure, terms, and conditions of the potential acquisition.
      In
      certain cases, the prospective acquisition candidate may agree not to discuss
      a
      potential acquisition with any other party for a specific period of time, grant
      us an option to purchase the prospective business for a designated price during
      a specific time, and agree to take other actions designed to enhance the
      possibility of the acquisition, such as preparing audited financial information.
      Potential acquisition discussions frequently take place over a long period
      of
      time and involve difficult business integration and other issues, including
      in
      some cases, management succession and related matters. As a result of these
      and
      other factors, a number of potential acquisitions that from time to time appear
      likely to occur do not result in binding legal agreements and are not
      consummated.




**We
      rely on others for our production, and any interruptions of these arrangements
      could disrupt our ability to fill our customers' orders.**




We
      outsource through contract manufacturers for all of our production requirements.
      Competitors that manufacture their own products may have an advantage over
      us
      with respect to pricing, availability of products, and other areas through
      their
      control of the manufacturing processes. Any increase in labor, equipment, or
      other manufacturing costs could adversely affect our cost of sales. Qualifying
      new manufacturers is time-consuming and might result in unforeseen manufacturing
      and operations problems. The loss of our relationships with our manufacturers
      or
      their inability to conduct their manufacturing services for us as anticipated
      in
      terms of cost, quality, and timeliness could adversely affect our ability to
      fill customer orders in accordance with required delivery, quality, and
      performance requirements. If this were to occur, the resulting decline in
      revenue would harm our business.




**We
      depend on third parties to maintain satisfactory manufacturing and delivery
      schedules, and their inability to do so could increase our costs, disrupt our
      supply chain, and result in our inability to deliver our products, which would
      adversely affect our results of operations.**




We
      depend
      on our manufacturers to maintain high levels of productivity and satisfactory
      delivery schedules. Although we a have long-term contract with one of our
      manufacturers, the contract does not guarantee adequate production capacity,
      prices, lead times, or delivery schedules. Our manufacturers serve many other
      customers, a number of which may have greater production requirements than
      we
      do. As a result, our manufacturers could determine to prioritize production
      capacity for other customers or reduce or eliminate deliveries to us on short
      notice. At times, we have experienced lower than anticipated manufacturing
      turnarounds and lengthening of delivery schedules. We may encounter
      manufacturing delays and longer delivery schedules in commencing volume
      production of our new products. Any of these problems could result in our
      inability to deliver our products in a timely manner and adversely affect our
      operating results. We depend to a great extent on our manufacturers for the
      safety, purity, and potency of our products.




11




**We
      depend on a limited number of wholesale distributors to sell a significant
      portion of our products.**




We
      currently market our products on a wholesale basis through our distributors
      operating primarily in the United States. We depend on these distributors to
      sell our products to healthcare practitioners throughout the United States.
      If a
      significant distributor discontinues selling our products, performs poorly,
      does
      not pay for purchased products, reorganizes, or liquidates and is unable to
      continue selling our products, our business, financial condition, and operating
      results could be adversely affected. Our failure or inability to replace poorly
      performing distributors could have a material adverse effect on our
      business.




**Any
      material increase in the cost of the raw materials used to manufacture our
      products could have a material adverse effect on our cost of
      sales.**




We
      do not
      have contracts with all of the suppliers of the raw materials used in the
      production of our products. Historically, we have not experienced any
      difficulties obtaining the raw ingredients for our products on customary terms.
      We are, however, subject to variations in the prices of the raw materials used
      in the manufacture of our products. We may not be able to pass along any cost
      increases to our customers. As a result, any material increase in the cost
      of
      raw materials used in the manufacture of our products could have a material
      adverse effect on our cost of sales.




**If
      we are unable to compete effectively with existing or new competitors, our
      existing business will decline and our anticipated business plan will not be
      successfully implemented.**




We
      believe the market for nutritional supplements and nutraceuticals products
      is
      continually evolving and is highly dependent upon changes in the demographic
      and
      social trends. We compete with numerous competitors, many of which have
      significantly greater financial, technical, marketing, and other resources
      than
      we do. In making decisions regarding the development of new products and the
      enhancement and extension of our current products, we encounter competition
      in
      attempting to anticipate the needs and preferences of healthcare practitioners,
      consumers, and nutritionists. Consumer preferences, particularly in the
      nutritional supplements and nutraceuticals market, are continuously changing
      and
      are difficult to predict. We believe we can compete effectively by reacting
      quickly to expected and perceived customer requirements and desires by
      maintaining relationships with our existing strategic partners, and identifying
      and reaching agreements with new partners. However, we cannot assure you that
      our assessment of the market place is correct, or that our products will be
      accepted now or in the future.




**Our
      failure to comply with current or future governmental regulations could
      adversely affect our business.**




The
      formulation, manufacturing, packaging, labeling, advertising, distribution,
      and
      sale of dietary supplements, such as those sold by us, are subject to regulation
      by a number of federal, state and local agencies, principally, the FDA, and
      the
      FTC, as well as foreign agencies in areas where we may operate. Among other
      matters, this regulation is concerned with product safety and claims made with
      respect to a product's ability to provide health-related benefits. These
      agencies have a variety of procedures and enforcement remedies available to
      them, including the following:




·
            initiating
                investigations;




·
            issuing
                warning letters and cease and desist
                orders;




·
            requiring
                corrective labeling or advertising;




·
            requiring
                consumer redress, such as requiring that a company offer to repurchase
                products previously sold to
                consumers;




·
            seeking
                injunctive relief or product seizures;
                and




·
            imposing
                civil penalties or commencing criminal
                prosecution.




12




Federal
      and state agencies have in the past used these remedies in regulating
      participants in the dietary supplements industry, including the imposition
      by
      federal agencies of civil penalties in the millions of dollars against a few
      industry participants. In addition, publicity related to dietary supplements
      may
      result in increased regulatory scrutiny of the nutritional supplements
      industry.




Our
      failure to comply with applicable laws could subject us to severe legal
      sanctions, which could have a material adverse effect on our business and
      results of operations. The regulatory environment in which we operate could
      change and such regulatory environment, or any specific action taken against
      us,
      could result in a material adverse effect on our business and operations. A
      state could interpret claims presumptively valid under federal law as illegal
      under that state's regulations, and future FDA regulations or FTC decisions
      could restrict the permissible scope of such claims. Any such proceedings or
      investigations or any future proceedings or investigations could have a material
      adverse effect on our business or operations.




**If
      we are deemed to be subject to the federal Medicare Anti-Kickback statutes
      or
      similar state statutes, it could have a material adverse effect on our business
      and operations.**




The
      healthcare industry is subject to extensive federal and state regulation
      relating to licensure, conduct of operations, ownership of facilities, addition
      of facilities and services, and payment for services. As Essentum® is not
      subject to Medicare or Medicaid reimbursement, we do not believe that our
      activities are subject to regulation under the federal Anti-Kickback statutes.
      The Anti-Kickback statutes generally prohibit persons from knowingly and
      willfully soliciting, receiving, offering or providing remuneration, directly
      or
      indirectly, to induce either the referral of an individual, or the furnishing,
      recommending, or arranging for a good or service, for which payment may be
      made
      under a federal healthcare program such as the Medicare and Medicaid programs.
      However, the statute was drafted broadly and it has resulted in many
      arrangements and practices that are lawful in businesses outside of the
      healthcare industry to be deemed unlawful. As a result, there has been a lack
      of
      uniform interpretation of the Anti-Kickback statutes, which make compliance
      even
      more difficult. The penalties for violating these statutes can be severe and
      include criminal penalties and civil sanctions, fines, imprisonment, and
      possible exclusion from the Medicare and Medicaid programs. Many states have
      adopted laws similar to the federal Anti-Kickback statutes. Some of these state
      prohibitions apply to referral of patients for healthcare services reimbursed
      by
      any source, not only the Medicare and Medicaid programs. Although we believe
      that we comply with both federal and state antikickback laws, any finding of
      a
      violation of these laws could subject us to criminal and civil penalties or
      possible exclusion from federal or state healthcare programs. Such penalties
      would adversely affect our financial performance and our ability to operate
      our
      business.




**Our
      insurance may be inadequate to cover us against product liability claims that
      may be brought against us.**




We
      maintain liability insurance with policy limits generally of $1.0 million per
      occurrence and $2.0 million in the aggregate. Our insurance coverage includes
      property, casualty, comprehensive general liability, and products liability
      insurance. We believe that our insurance coverage is adequate. The testing,
      marketing, and sale of health care products, however, entail an inherent risk
      of
      product liability. Product liability claims relating to dietary supplement
      products could be asserted against us, our licensees, or third parties with
      whom
      we operate. Many claims related to dietary supplements have already been brought
      against businesses in our industry. Further, our insurance may not provide
      adequate coverage against any potential claims. A product liability claim or
      product recall could have a material adverse effect on our business, financial
      condition, and results of operations.




13




**We
      depend on key employees and the loss of either of their services could harm
      our
      business.**




We
      are
      heavily dependent upon Stuart A. Benson, our President and Chief Executive
      Officer, and Gregg A. Linn, our Chief Operating Officer and Chief Financial
      Officer. We have entered into employment agreements with both Mr. Benson and
      Mr.
      Linn that provide for them to be employed by us through December 2007. The
      agreements, however, cannot assure us of their continued service. The loss
      of
      either Mr. Benson or Mr. Linn could have a material adverse effect on us. Under
      the terms of Mr. Benson's employment agreement, we obtained "key-man" insurance
      policy for Mr. Benson in the amount of $500,000. We are the beneficiary of
      this
      policy.




**Our
      existing stockholders will experience dilution if we issue additional
      securities.**




As
      of
      December 31, 2005, we had outstanding 112,125,000 shares of common stock,
      1,000,000 shares of Series D preferred stock currently convertible into
      1,000,000 shares of common stock, options to purchase 13,801,000 shares of
      common stock, warrants to purchase 30,580,000 shares of common stock, and Senior
      Secured Convertible Notes convertible into 17,610,000 shares of common stock.
      If
      we issue additional shares, or if our existing stockholders exercise or convert
      their outstanding options, warrants, or notes, our other stockholders may find
      their holdings drastically diluted, which if it occurs, means that they will
      own
      a smaller percentage of our company. Further, any issuance of additional
      securities to various persons or entities in lieu of cash payments will lead
      to
      further dilution. If all convertible instruments were converted and all
      outstanding warrants and options were exercised, we would have 175,110,000
      shares of common stock outstanding.




**We
      do not have a sufficient number of shares of common stock authorized to permit
      all holders of warrants, options, and convertible notes to convert those
      securities to common stock.**




We
      do not
      have sufficient authorized shares of common stock to permit full exercise of
      the
      outstanding warrants, options, and convertible notes. As a result, until such
      time as we have sufficient authorized shares of common stock to permit exercise
      of all such securities, each holder of such securities will only be entitled
      to
      exercise the conversion rights of such securities to the extent that we have
      sufficient authorized common stock. Our Board of Directors intends to approve
      an
      amendment to our articles of incorporation to increase the number of shares
      of
      common stock authorized to an amount sufficient for the full exercise of such
      outstanding securities. The amendment requires the approval of our stockholders.
      We cannot assure you that our stockholders will approve the amendment. The
      inability of our security holders to exercise a only portion of their warrants,
      options, or convertible notes would deprive the holders of the value of such
      securities and could have a material adverse effect on the market price of
      our
      common stock. Moreover, such event could result in litigation against our
      company.




**We
      are party to a voting agreement pursuant to which certain officers, directors
      and stockholders can elect a majority of our Board of
      Directors.**




We
      are
      party to a voting agreement with Stuart A. Benson, our President and Chief
      Executive Officer, Donald C. Hannah, chairman of our Board of Directors, and
      SkyePharma, PLC and Fifth Avenue Capital, Inc., both significant stockholders.
      As a result of voting together under the terms of the agreement, the parties
      have the ability to elect a majority of our Board of Directors and to approve
      most, if not all, of any corporate actions requiring stockholder approval
      without the vote of any other stockholders.




**The
      market price of our common stock is highly volatile and subject to wide
      fluctuations as a result of many factors.**




Our
      common stock has been traded on the OTCBB since March 28, 2002. The market
      price
      of our common stock has been highly volatile and may continue to be volatile
      in
      the future. Many factors could affect the trading price of our common stock,
      including the following:




·
            the
                low price, thin trading volume, and relatively small public float
                of our
                common stock;




·
            variations
                in our quarterly operating results;




·
            introduction
                of new products and customer acceptance of
                products;




·
            general
                trends in the nutritional supplement and nutraceuticals
                markets;




·
            the
                number of holders of our common stock;
                and




·
            the
                interest of securities dealers in maintaining a market for our common
                stock.




14




As
      long
      as there is only a limited public market for our common stock, the sale of
      a
      significant number of shares of our common stock at any particular time could
      be
      difficult to achieve at the market prices prevailing immediately before such
      shares are offered and could cause a severe decline in the price of our common
      stock.




**Because
      our common stock is subject to the SEC's penny stock rules, broker-dealers
      may
      experience difficulty in completing customer transactions and trading activity
      in our securities may be adversely affected.**




Because
      we currently have less than $5,000,000 of net tangible assets and the market
      price of our common stock is less than $5.00 per share, transactions in our
      common stock are subject to the "penny stock" rules promulgated under the
      Securities Exchange Act of 1934. These rules require broker-dealers that
      recommend our securities to persons other than institutional accredited
      investors to do each of the following:




·
            make
                a special written suitability determination for the
                purchaser;




·
            receive
                the purchaser's written agreement to a transaction prior to
                sale;




·
            provide
                the purchaser with risk disclosure documents which identify certain
                risks
                associated with investing in "penny stocks" and which describe the
                market
                for these "penny stocks" as well as a purchaser's legal remedies;
                and




·
            obtain
                a signed and dated acknowledgment from the purchaser demonstrating
                that
                the purchaser has actually received the required risk disclosure
                document
                before a transaction in a "penny stock" can be
                completed.




As
      a
      result, broker-dealers may find it difficult to effectuate customer transactions
      and trading activity in our securities may be adversely affected. Therefore,
      the
      market price of our securities may be depressed, and you may find it more
      difficult to sell our securities.




**We
      have never paid any cash dividends on our common stock.**




We
      have
      never paid any cash dividends on our common stock, and we do not expect to
      pay
      cash dividends on our common stock in the foreseeable future. In addition,
      the
      terms of our outstanding preferred stock and Senior Secured Convertible Notes
      restrict our ability to pay cash dividends.




**Item
      2.** **Description
      of Property**




We
      lease
      our corporate offices under a three-year lease, which expires in mid
      2007.




**Item
      3.** **Legal
      Proceedings**




We
      are
      involved in various legal proceedings arising out of our operations in the
      ordinary course of business. We do not believe that any such proceedings will
      have a material adverse effect on our business, operating results, or financial
      condition.




15




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




Not
      applicable.




**PART
      II.**




**Item
      5.** **Market
      for Common Equity, Related Stockholder Matters, and Small Business Issuer
      Purchases of Equity Securities**




Our
      common stock has been traded in the OTC Bulletin Board under the symbol VTLV.
      OB
      since March 28, 2002. The following table sets forth the high and low sales
      prices of our common stock for each calendar quarter indicated.




**Year
                ended December 31, 2004:**First
                quarter
            
            $
            0.92
            
            $
            0.77Second
                quarter
            
            $
            0.57
            
            $
            0.30Third
                quarter
            
            $
            0.24
            
            $
            0.17Fourth
                quarter
            
            $
            0.20
            
            $
            0.14




**Year
                ended December 31, 2005:**First
                quarter
            
            $
            0.17
            
            $
            0.06Second
                quarter
            
            $
            0.12
            
            $
            0.05Third
                quarter
            
            $
            0.09
            
            $
            0.03Fourth
                quarter
            
            $
            0.06
            
            $
            0.03




**Year
                ended December 31, 2006:**First
                quarter (through March 17, 2006)
            
            $
            0.05
            
            $
            0.03




On
      March
      17, 2006, the closing price of our stock was $0.03 and we had 460 record holders
      of our common stock.




**Item
      6.** **Management's
      Discussion and Analysis**




*Overview*




We
      develop and market fruit and vegetable supplements, protein supplements, and
      nutraceutical products that are marketed for distribution through physicians,
      medical groups, chiropractic offices, and retail outlets. Nutraceuticals are
      products that are isolated or purified from foods and generally sold in
      medicinal forms not usually associated with foods, including tablets, capsules,
      or drops. These nutraceuticals may have physiological benefits or have the
      ability to reduce the risk of chronic disease beyond basic nutritional products.
      We develop and test our nutraceuticals in collaboration with leading medical
      experts in the nutraceuticals field. We have designed them to be incorporated
      by
      healthcare practitioners into a standard patient system where healthcare
      practitioners recommend and sell our whole food and nutraceuticals products
      to
      their patients. Our focus has been with our GreensFIRST®, Red AlertTM, Dream
      ProteinTM, and Complete EssentialsTM products.




Our
      business strategy is to capitalize on the growing complimentary and alternative
      medicine market by creating condition-specific formulations that offer a broad
      range of benefits. Our products focus on general health by utilizing nutritional
      supplements and nutraceuticals as a means to gain the confidence and support
      of
      healthcare practitioners. We plan to focus on certain target conditions,
      providing the market with high quality, relevant products through our healthcare
      practitioner distribution channels.




16




**Results
      of Operations**




The
      following sets forth selected financial data and its percentage of net sales
      for
      the years ended December 31, 2005 and 2004:




**2005**
            
            
            **2004**
            
            
            **Increase**Amount
            
            %
            
            
            Amount
            
            %
            
            
            **(Decrease)**Revenues,
                net
            
            $
            4,858,000
            
            
            100.0
            %
            
            $
            4,161,000
            
            
            100.0
            %
            
            $
            697,000Cost
                of goods sold
            
            
            2,301,000
            
            
            47.0
            %
            
            
            2,801,000
            
            
            67.0
            %
            
            
            (500,000
            )Gross
                profit
            
            
            2,557,000
            
            
            53.0
            %
            
            
            1,360,000
            
            
            33.0
            %
            
            
            1,197,000Administrative
                expensesSalaries
                and benefits
            
            
            201,000
            
            
            4.0
            %
            
            
            992,000
            
            
            24.0
            %
            
            
            (791,000
            )Professional
                and consulting fees
            
            
            723,000
            
            
            15.0
            %
            
            
            1,676,000
            
            
            40.0
            %
            
            
            (953,000
            )Selling,
                general and administrative
            
            
            880,000
            
            
            18.0
            %
            
            
            1,937,000
            
            
            47.0
            %
            
            
            (1,057,000
            )Research
                and development
            
            
            72,000
            
            
            1.0
            %
            
            
            1,180,000
            
            
            28.0
            %
            
            
            (1,108,000
            )Depreciation
                and amortization
            
            
            2,455,000
            
            
            51.0
            %
            
            
            4,560,000
            
            
            110.0
            %
            
            
            (2,105,000
            )Impairment
                of intangibles
            
            
            18,356,000
            
            
            378.0
            %
            
            
            14,976,000
            
            
            360.0
            %
            
            
            3,380,000Total
            
            
            22,687,000
            
            
            467.0
            %
            
            
            25,321,0
            
            
            609.0
            %
            
            
            (2,634,000
            )Net
                loss from continuing operations
            
            
            (20,130,000
            )
            
            -414.0
            %
            
            
            (23,961,000
            )
            
            -576.0
            %
            
            
            (3,381,000
            )Other
                income (expense)Interest
                expense, net
            
            
            (1,034,000
            )
            
            -21.0
            %
            
            
            (1,969,000
            )
            
            -47.0
            %
            
            
            (935,000
            )Gain
                on the resolution of accounts payable, trade
            
            
            445,000
            
            
            9.0
            %
            
            
            —
            
            
            0.0
            %
            
            
            445,000Gain
                on settlement of accounts payable, trade
            
            
            142,000
            
            
            3.0
            %
            
            
            —
            
            
            0.0
            %
            
            
            142,000Loss
                on sale and disposal of marketable securities
            
            
            (1,006,000
            )
            
            -21.0
            %
            
            
            —
            
            
            0.0
            %
            
            
            (1,006,000
            )Other
                income (expense), net
            
            
            46,000
            
            
            1.0
            %
            
            
            (67,000
            )
            
            -2.0
            %
            
            
            113,000Net
                loss from continuing operations
            
            $
            (21,537,000
            )
            
            -443.0
            %
            
            $
            (25,997,000
            )
            
            -625.0
            %
            
            $
            (4,460,000
            )




**Year
      Ended December 31, 2005 Compared With Year Ended December 31,
      2004**




*Revenue*




Total
      revenue for the year ended December 31, 2005 was $4.9 million compared with
      $4.2
      million for the year ended December 31, 2004, an increase of $700,000. This
      increase was primarily attributable to the growth in our GreensFIRST® product
      line, along with increases in the sales of Dream ProteinTM and Red AlertTM, which
      was introduced during June 2005. Our 2005 revenue included the impact of our
      productivity and cost-savings enhancements in our marketing and distribution
      systems which was introduced during the first quarter of 2005.




*Cost
      of goods sold and gross profit*




Cost
      of
      goods sold for the year ended December 31, 2005 was $2.3 million compared with
      $2.8 for the year ended December 31, 2004, a decrease of $500,000. This decrease
      reflected the increase in revenue in our DFN subsidiary along with the 2004
      offset related to the $728,000 inventory reserve for our X-Fat® inventory
      recorded for the year ended December 31, 2004. The comparable increase in cost
      of goods sold, excluding X-Fat®, in our DFN subsidiary was $228,000, or 10%. The
      gross profit percentage for the year ended December 31, 2005 was 53%, compared
      with 50% for the year ended December 31, 2004, excluding the X-Fat® inventory
      reserve. The 3% decrease in cost of goods sold in our DFN subsidiary was the
      result of comparative improvements in manufacturing productivity and managements
      initiatives to source more effectively raw materials.




.




17




*Administrative
        expenses*
  *Salaries
        and
        benefits*
  Salary
        and benefits for the year ended December 31, 2005 was $201,000 compared with
        $992,000 for the year ended December 31, 2004, a decrease of $791,000. The
        decrease was substantially the result of a non-cash re-pricing adjustments
        $647,000 required in accordance with FIN No. 44 related to warrants issued
        to
        one of our officers during 2003. In accordance with Financial Interpretation
        No.
        ("FIN") 44, " *Accounting
        for Certain Transactions Involving Stock Compensation* ,"
        a
        non-cash charge to compensation expense is required if the price of our common
        stock on the last trading day of a reporting period is greater than the exercise
        price of certain stock options and warrants issued to officers or employees.
        The
        requirements of FIN 44 may also result in a credit to compensation expense
        to
        the extent that the trading price declines from the trading price as of the
        end
        of previous reporting period, except that a credit is not recorded to the
        extent
        our common stock trades below the exercise price of the options or warrants.
        In
        accordance with FIN 44, we adjust compensation expense upward or downward
        on a
        monthly basis based on the trading price at the end of each period.
        Additionally, during 2005, a $144,000 savings was achieved from reduced head
        count resulting from enhancing our marketing and distribution
        systems.


*Professional
      and consulting*




Professional
      and consulting fees were $723,000 during the year ended December 31, 2005
      compared with $1,676,000 for the year ended December 31, 2004, a decrease of
      $953,000. This decrease reflects the absence of financing activities during
      2005
      compared with 2004 along with our focus on cost containment and expense
      management. The 2004 amount includes a decrease to expense as a result of
      re-pricing adjustments of $156,000 in accordance with FIN 44 related to options
      previously issued in our agreement with the Arizona Heart Institute, our
      distribution partner for Essentum.




*Selling,
      general, and administrative*




Selling,
      general, and administrative expenses for the year ended December 31, 2005 were
      $880,000 compared with $1.9 million for the year ended December 31, 2004, a
      decrease of $1.1 million. The decrease resulted from the combined effects our
      decision during the second half of 2004 to reduce staff, consolidate operations,
      implement enhanced marketing and distribution systems, outsource certain
      functions, and focus on cost containment and expense management.




*Research
      and development*




Research
      and development is expensed as incurred and totaled $72,000 for the year ended
      December 31, 2005 compared with $1.2 million for the year ended December 31,
      2004, a decrease of $1.1 million. This decrease primarily resulted from charges
      during the prior year of $1.0 million due under our agreement with Skye, along
      with the winding down and elimination of certain other consulting agreements.
      We
      expect to increase expenditures related to research and development during
      2006
      as we intend to introduce new products into our marketing and distribution
      channels.




*Depreciation
      and amortization*




Depreciation
      and amortization for the year ended December 31, 2005 was $2.5 million compared
      with $4.6 million for the year ended December 31, 2004, a decrease of $2.1
      million. The decrease was primarily attributable to the complete amortization
      of
      the intangible balances related to certain marketing agreements acquired or
      recorded as part of previous acquisitions.




*Impairment
      of intangibles*




We
      test
      goodwill and other intangibles created by our acquisitions for impairment at
      least annually, or upon occurrence of such events that may indicate impairment
      exists, in accordance with SFAS No. 142. As a result of lower than expected
      operating results, we revised our expectations and, as a result, recorded an
      intangibles impairment loss of $18.4 million and $15.0 million during 2005
      and
      2004, respectively. The change in fair value of each component of goodwill
      and
      other intangibles was estimated using certain operational results and
      assumptions, as described below.




18




***MAF
      Bionuetritionals, LLC (“MAF”)*** .
      The
      gross value of goodwill related to the MAF acquisition was $5.0 million. On
      September 30, 2004, we entered into an agreement to sell all property, rights,
      and assets related to our Boulder Bar product line. The purchaser agreed to
      assume debt of approximately $401,000. However, the purchaser has not complied
      with the terms of the agreement, and we are currently seeking legal remedies.
      As
      a result of this transaction and MAF's inability to generate positive cash
      flow
      from operations, we have discontinued its operations and recorded impairment
      charges of $104,000 and $38,000 related to intangible assets and other MAF
      assets deemed to be of no remaining value, respectively.




***Natures
      Systems Inc (“NSI”)*** .
      The
      gross value of goodwill related to the COF acquisition was $3.9 million. In
      order to resolve certain disputes between a former employee of the COF
      subsidiary, on July 9, 2004, we settled all matters pursuant to a Settlement
      and
      Release Agreement calling for the settlement of all claims and the sale of
      certain assets and liabilities back to the previous owners of COF. As part
      of
      the agreement, we agreed to pay the previous owners of COF $150,000 in six
      equal
      monthly installments beginning July 2004 in exchange for the return of 2,600,000
      shares of our common stock originally paid as part of the acquisition price.
      In
      addition, we agreed to assign certain assets and the previous owners and COF
      agreed to assume certain liabilities of NSI as of the effective date; the
      previous owners of COF agreed to sublease our leased facilities located in
      Spanish Fork, Utah for a period of one year from the effective date; and both
      parties agreed that executive employment agreements with two former employees,
      which were executed as part of the COF acquisition, would become null and void.
      Should either party fail to perform its obligations under the agreement, certain
      rights and options exist allowing the parties to terminate the agreement. During
      2004, we paid $50,000 of $150,000 required payments under the agreement. The
      remaining $100,000 balance was paid directly to the Internal Revenue Service
      as
      a result of being served with a final demand notice from the IRS related to
      obligations from the previous owners of COF. These amounts were the obligation
      of the previous owners of COF, which was ratified in the agreement. However,
      in
      order to avoid any further claims related to this matter, in November 2004,
      we
      entered into a settlement agreement with the IRS related to this matter and
      paid
      the remaining $100,000 obligation under the agreement directly to the IRS.
      The
      IRS has agreed not pursue us related to this matter.




As
      of
      December 31, 2005, we had not received the 2.6 million shares of common stock
      back from the previous owners of COF. Accordingly, we are currently seeking
      specific remedies. We have not included 1.8 million of these shares in the
      disclosed outstanding shares.




***Doctors
      For Nutrition, Inc.***  ***(“DFN”)*** The
      gross value of goodwill related to the DFN acquisition was $2,113,000. During
      2005 and 2004, we generated operating income of approximately $2,081,000 and
      $751,000 respectively, before depreciation, amortization, and interest charges.
      We expect increasing net cash flows from operations, as we increase the national
      distribution of GreensFIRST® and Red AlertTM along with our Dream ProteinTM and
      Complete EssentialsTM product lines by cross-selling into distribution channels
      currently and expanding sales of GreensFIRST® into new markets. We also
      anticipate launching additional products currently under development. Based
      on
      our analysis, we do not believe the goodwill amount at December 31, 2005 is
      impaired and have not recorded an adjustment to the carrying value.




***Wellness
      Watchers Systems LLC (“WWS”)*** .
      The
      gross value of goodwill related to the WWS acquisition was $875,000. WWS was
      acquired during the second quarter of 2004 and, to date, its products have
      been
      well received by our existing distribution channels and has played a major
      role
      in increasing the number of health practitioners to which we market our
      products. During 2005, we consolidated the operations of WWS into our DFN
      subsidiary. Accordingly, we do not believe the goodwill amount at December
      31,
      2005 is impaired and have not received an adjustment to the carrying
      value.




***E-Nutraceuticals,
      Inc*** ***.
      (“ENI”)*** During
      2005, we determined that the intangible assets were fully impaired, and
      according the remaining assets were completely expensed. Our primary
      intangibles, outside of goodwill discussed above, were obtained in the ENI
      acquisition and consist of several licensing and marketing agreements. The
      GEOMATRIX® system, with an associated net intangible value of $0 and $20.8
      million at December 31, 2005 and 2004, respectively, is our licensed technology.
      We are in dispute with SkyePharma over the terms of the Development and
      Licensing Agreement and failed to make payments of $750,000 called for under
      the
      licensing agreement during 2004. On April 6, 2004, we received a demand letter
      from SkyePharma related to the past due payments under the Development and
      License Agreement, which triggered the 30-day negotiation period under the
      agreement. This 30-day period is required before initiating formal collection
      proceedings. We are currently in discussions to modify both the terms and
      payment schedules under the licensing agreement. Although we believe we will
      reach a settlement of the terms and conditions of the agreement with SkyePharma,
      we cannot assure you that these negotiations will be successful or that we
      will
      reach a satisfactory resolution of this matter. In the event a satisfactory
      resolution can not be reached and SkyePharma exercises its rights of termination
      under the agreement, we may lose substantial and possibly all rights gained
      under this and related contracts with SkyePharma. Accordingly, amounts recorded
      as intangible assets associated with this agreement, which represent
      substantially all of our intangible assets, would be impaired. During 2005
      and
      2004, certain events occurred that caused us to modify the business model
      underlying the original valuation of these intangibles, including the
      anticipated timing of future cash flows and the sources from which revenue
      will
      be derived. As a result, we determined during 2005 that the net book value
      of
      the intangible assets associated with the GEOMATRIX® license and marketing
      agreements was impaired by $18.36 million. During 2004, $11.27 million was
      recorded as impairment expense, $9.55 million relating to GEOMATRIX® and $1.72
      million relating to an associated marketing agreement.




19




X-Fat®,
      our licensed dietary supplement aimed at weight loss and was launched in test
      markets throughout the United States in early March 2004. During 2004, certain
      events occurred that caused us to modify the business model underlying the
      original valuation of this intangible, including the anticipated timing of
      future cash flows and the sources from which revenue will be derived. As a
      result, we determined that the net book value of the intangible assets
      associated with X-Fat® license agreements was impaired by $3.7 million and was
      recorded as impairment expense during 2004.




*Other
      Income (Expense):*




Interest
      expense, net for the year ended December 31, 2005 was $1.04 million compared
      with $1.97 million for the year ended December 31, 2004, a decrease of $930,000.
      The decrease resulted primarily from interest charges of $639,000 during 2004
      related to the issuance of common stock to stockholders as a penalty due to
      our
      failure to timely file and have declared effective a registration statement
      for
      common stock issued during our November 2002 private placement and interest
      charges related to a penalty due to our failure to timely file and have declared
      effective a registration statement to register the shares of common stock issued
      in the December 2003 offering. In addition, the year ended December 31, 2005
      includes credits of $416,000 that eliminates interest accrued for penalties
      on
      the timely issuance of common stock.




Gain
      on
      resolution of accounts payable, trade was $445,000 and $0 for the years ended
      December 31, 2005 and 2004, respectively. This resulted from the resolution
      of
      certain liabilities recorded as part of the ENI acquisition.




Gain
      on
      the settlement of accounts payable, trade was $142,000 and $0 for the years
      ended December 31, 2005 and 2004, respectively. This gain is the result of
      the
      issuance of stock in payment of certain accounts payable .




Loss
      on
      the sale and disposal of marketable equity securities was $1,006,000 and $0
      for
      the years ended December 31, 2005 and 2004, respectively. This charge is the
      result of a loss of $471,000 on sale of 50% of our investment in Langley Park
      and a charge of $535,000 for the disposal of the remaining investment.




Other
      income (expense) was $46,000 and ($67,000) for the years ended December 31,
      2005
      and 2004 respectively. This income resulted from the settlement of certain
      liabilities recorded as a result of the DFN acquisition offset by a charge
      for
      $16,000 relating to the loss on the disposal of fixed assets.




*Net
      loss from continuing operations*




Our
      net
      loss for the year ended December 31, 2005 was $21.54 million compared with
      $26.0
      million for the year ended December 31, 2004, a decrease of $4.46 million.
      This
      decrease resulted from the combination of a $469,000 increase in gross profit
      from our DFN subsidiary (net of a $728,000 increase in cost of goods sold for
      2004 relating to the write down of X-Fat inventory); a gain of $507,000 from
      the
      resolution of certain acquisition liabilities; a reduction of interest expense
      of $936,000; a reduction of $2,101,000 of amortization and depreciation expense;
      a savings of $3,909,000 in salaries, SG&A; professional fees, and R&D
      from cost reduction and expense management programs; and $54,000 of other
      miscellaneous income, offset by a $3,380,000 increase in the impairment of
      intangible assets and a charge for $1,006,000 for the loss on the sale and
      valuation of marketable securities.




20




*Adjusted
      Earning Before Interest, Taxes, Deprecation and Amortization*




We
      have
      calculated our Adjusted Earnings Before Interest, Taxes, Depreciation and
      Amortization, or Adjusted EBITDA, which also excludes the effects of the
      re-pricing of the variable rate warrants. The table set forth below presents
      the
      Adjusted EBITDA, which we believe to be the most directly comparable GAAP
      financial measure. We utilize this financial metric to manage and analyze our
      current operations. This measure gives us a sense of our current operations
      which excludes all material non-cash charges.




Adjusted
      EBITDA is not a measure of performance recognized under GAAP. However, it is
      presented because we believe Adjusted EBITDA is a useful measurement and
      indicator in evaluating our operating performance, as it represents our combined
      results excluding the impact of non-cash expenses and items not directly tied
      to
      our recurring core operations of our business. Adjusted EBITDA is not a
      financial measure determined by generally accepted accounting principles and
      should not be considered as an alternative to net loss from continuing
      operations as a measure of operating results or to cash flows provided by (used
      in) operations as a measure of funds available for discretionary or other
      liquidity purposes. A reconciliation of net loss to Adjusted EBITDA is as
      follows for the years ended December 31, 2005 and 2004.




**2005**
            
            
            **2004**Net
                loss from continuing operations
            
            $
            (21,537,000
            )
            
            $
            (25,997,000
            )Non-cash
                charges and creditsInterest
                and other charges related to debt financing
            
            
            1,032,000
            
            
            
            1,772,000Amortization
                of intangibles
            
            
            2,429,000
            
            
            
            4,521,000Amortization
                of common stock, options, and warrants issued for services
            
            
            155,000
            
            
            
            748,000Depreciation
            
            
            25,000
            
            
            
            37,000Impairment
                of intangible assets
            
            
            18,356,000
            
            
            
            14,976,000Total
                non-cash charges
            
            
            21,997,000
            
            
            
            22,054,000EBITDA
            
            
            460,000
            
            
            
            (3,943,000
            )Option
                re-pricing
            
            
            (647,000
            )
            
            
            (1,624,000
            )Loss
                on sale and valuation of marketable securities
            
            
            1,006,000
            
            
            
            —Adjustments
                from ENI and DFN acquisitions
            
            
            (507,000
            )
            
            
            —Other
                non-cash charges and credits
            
            
            (260,000
            )
            
            
            —Adjusted
                EBITDA
            
            $
            52,000
            
            
            $
            (5,567,000
            )




***Liquidity
      and Capital Resources***




At
      December 31, 2005, we had $192,000 in cash.




Cash
      flows used in continuing operating activities amounted to $360,000 and
      $2,787,000 in 2005 and 2004, respectively. This decrease is a result of our
      decision during 2004 to discontinue the operations of MAF and COF and the
      consolidation of our entire operations in Phoenix as well as certain expense
      containment and efficiency initiatives that began in 2004 and continued into
      2005 along with continued growth in our core revenues. Cash flows from financing
      activities was $20,000 and $2,294,000 in 2005 and 2004, respectively, reflecting
      the financings (as outlined below), partially offset by servicing of
      indebtedness.




To
      date,
      we have funded our operations and acquisition activity primarily from cash
      generated from private placements and with funds from borrowings under various
      debt instruments, as summarized in the table below, generating an aggregate
      in
      net cash proceeds of $8.0 million during the period 2003 through
      2004.




21




The
      following summarizes private placement offerings completed during 2004 and
      2003:




**Date**
            
            **Description**
            
            **Shares
                or**
              **Principal**
            
            **Price**
              **Per
                Share**
            
            **Net
                Cash**
              **Proceeds**
            
            **Options
                and**
              **Warrants**
            
            **Exercise**
              **Price**April,
                2003
            
            
            Series
                B Preferred
            
            
            1,000,000
            
            $
            1.00
            
            $
            875,000
            
            
            1,000,000
                Series E
            
            $
            1.60500,000
              Series D
            
            $
            1.30July,
                2003
            
            
            Series
                C Preferred
            
            
            500,000
            
            $
            1.00
            
            $
            438,000
            
            
            500,000
                Series E
            
            $
            1.60August,
                2003
            
            
            Series
                D Preferred
            
            
            1,000,000
            
            $
            1.00
            
            $
            815,000
            
            
            N/A
            
            
            N/A3,060,000
              No Series
            
            $
            1.00Oct.
                - Dec. 2003
            
            
            Bridge
                Notes
            
            
            1,530,000
            
            $
            1.00
            
            $
            1,316,000
            
            
            1,530,000
                No Series
            
            $
            1.50December,
                2003
            
            
            Senior
                Secured Notes
            
            
            4,587,738
            
            $
            1.00
            
            $
            2,502,000
            
            
            4,587,738
                No Series
            
            $
            1.00March-April,
                2004
            
            
            Common
                Stock
            
            
            510,000
            
            $
            1.00
            
            $
            469,000
            
            
            N/A
            
            
            N/AJune-July,
                2004
            
            
            Common
                Stock
            
            
            3,900,000
            
            $
            0.25
            
            $
            897,000
            
            
            11,700,000
                Series G
            
            $
            0.253,900,000
                Series H
            
            $
            0.25Nov
                2004-Dec 2004
            
            
            Warrant
                Offering
            
            
            7,056,706
            
            $
            0.10
            
            $
            631,000
            
            
            6,560,000
                No Series
            
            $
            0.10$
            7,943,000







**Going
      concern**




The
      accompanying consolidated financial statements have been prepared assuming
      we
      will continue on a going concern basis, which contemplates the realization
      of
      assets and the satisfaction of liabilities in the normal course of business.
      We
      have suffered recurring losses from operations, have a working capital deficit,
      and depend on funding from sources other than operations. Since inception,
      we
      have been required to raise additional capital by the issuance of both equity
      and debt instruments. There are no commitments from any funding sources should
      cash flows be insufficient to fund ongoing operations and other cash commitments
      as they come due. These factors raise substantial doubt about our ability to
      continue as a going concern. We will be required to raise additional capital
      in
      the near term through offerings of securities to fund operations and will
      attempt to continue raising capital resources if we do not begin to generate
      revenue sufficient to maintain our company as a viable entity. No assurance
      can
      be given that such financing will be available or, if available, that it will
      be
      on commercially favorable terms. Moreover, available financing may be dilutive
      to current investors.




We
      are in
      the process of improving, acquiring, or developing products for sale to generate
      revenue to sustain our operations, as well as consolidating our operations
      in
      order to gain cost synergies and efficiencies. If successful, these actions
      will
      serve to mitigate the factors that have raised doubt about our ability to
      continue as a going concern and increase the availability of resources for
      funding of our current operations and future market development. The
      consolidated financial statements do not include any adjustments relating to
      the
      recoverability and classification of recorded assets or liabilities that might
      be necessary should we be unable to continue as a going concern.




***Critical
      Accounting Policies***




**Acquisitions**




We
      account for acquisitions in accordance with Statement of Financial Accounting
      Standards, ("SFAS") No. 141 "Business Combinations" and accordingly apply the
      purchase method of accounting for all business combinations initiated after
      June
      30, 2001 and separately identify recognized intangible assets that meet the
      criteria and amortizes these assets over their determinable useful
      lives.




**Goodwill**




Goodwill
      represents the excess of the aggregate price paid by us over the value of the
      net equity acquired in an acquisition. In accordance with SFAS No. 142,
“Goodwill and Other Intangible Assets,” we are no longer required to amortize
      goodwill, but are required to review goodwill for impairment at least annually
      or whenever events indicate that the carrying amount of the asset may not be
      recoverable in accordance with SFAS No. 144, “Accounting for the Impairment or
      Disposal of Long-Lived Assets.” As of December 31, 2005 and 2004, no events had
      occurred that would indicate goodwill had been impaired.




22




**Intangible
      assets**




Our
      other
      intangible assets include trademarks, patents, formulations, customer lists,
      and
      various marketing and license agreements. We amortize intangible assets on
      a
      straight-line basis over the lesser of the correlating agreements or estimated
      useful lives ranging from two to 14 years. During 2005 and 2004 certain events
      occurred that indicated that the intangible assets of ENI had been impaired
      and
      charges of $18,356,000 and $14,976,000, respectively were recorded




**Long-lived
      assets**




We
      review
      long-lived assets and identifiable other intangible assets to be held and used
      for impairment at least annually or whenever events or changes in circumstances
      indicate that the carrying amount may not be recoverable. We evaluate goodwill
      and other intangible assets arising from various acquisitions for impairment
      on
      at least an annual basis or when events occur that would indicate that
      impairment had occurred. We measure impairment by comparing the carrying value
      of the long-lived assets to the estimated undiscounted future cash flows
      expected to result from use of the assets and their eventual disposition. As
      of
      December 31, 2005, events had occurred that would indicate goodwill or other
      intangibles had been impaired; accordingly, an impairment loss was
      recorded




As
      of
      December 31, 2005 and December 31, 2004, events had occurred that would indicate
      intangible assets had been impaired; accordingly, an impairment loss was
      recorded.




**Stock-based
      compensation**




We
      account for our stock option plans in accordance with the provisions of SFAS
      No.
      123, “Accounting for Stock Based Compensation,” as amended by SFAS No. 148
“Accounting for Stock-Based Compensation-Transition and Disclosure.” SFAS No.
      123 permits entities to recognize as expense over the vesting period the fair
      value of all stock-based awards on the date of grant. Alternatively, SFAS No.
      123 also allows entities to apply the provisions of Accounting Principles Board
      (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” and related
      interpretations and provide pro forma net income or loss and pro forma earnings
      per share disclosures for employee stock option grants as if the
      fair-value-based method defined in SFAS No. 123 had been applied.




We
      are
      subject to reporting requirements of FASB Financial Interpretation No. (“FIN”)
      44, “Accounting for Certain Transactions Involving Stock Compensation,” which
      requires a non-cash charge to compensation expense if the price of our common
      stock on the last trading day of each reporting period is greater than the
      exercise price of certain stock options. After the first such adjustment is
      made, each subsequent period is adjusted upward or downward to the extent that
      the trading price exceeds the exercise price of the options.




We
      account for our incentive plans under the recognition and measurement principles
      of Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock
      issued to Employees,” and related Interpretations. No stock-based employee
      compensation (except that related to re-priced warrants in accordance with
      FIN
      No. 44) is reflected in net loss, as all options and warrants granted had an
      exercise price equal to or below the market value of the underlying common
      stock
      at the date of grant.









**Recent
      accounting pronouncements**




In
      December 2004 the FASB issued a revised Statement 123 (SFAS 123 R), "Accounting
      for Stock-Based Compensation" requiring public entities to measure the cost
      of
      employee services received in exchange for an award of equity instruments based
      on grant date fair value. The cost will be recognized over the period during
      which an employee is required to provide service in exchange for the award
      -
      usually the vesting period. The effective date for this statement is as of
      the
      first interim period that begins after June 15, 2005. The Company is evaluating
      the impact of this new pronouncement and has not yet estimated the effect of
      implementation on the Company's financial statements.




23




**Item
      7.** **Financial
      Statements**




See
      index
      to Financial Statements and Financial Statements Schedules beginning on page
      F-1
      of this Form 10-KSB.




**Item
      8.** **Changes
      and Disagreements with Accountants on Accounting and Financial
      Disclosure**




Not
      applicable.




**Item
      8A.** **Controls
      and Procedures**




We
      have
      evaluated, with the participation of our Chief Executive Officer and Chief
      Financial Officer, the effectiveness of our disclosure controls and procedures
      as of December 31, 2005. Based on this evaluation, our Chief Executive Officer
      and Chief Financial Officer have each concluded that our disclosure controls
      and
      procedures are effective to ensure that we record, process, summarize, and
      report information required to be disclosed by us in our reports filed under
      the
      Exchange Act within the time periods specified by the Securities and Exchange
      Commission’s rules and forms. During the fiscal year covered by this report,
      there have not been any changes in our internal controls over financial
      reporting that have materially affected, or its reasonably likely to materially
      affect, our internal control over financial reporting.




Subsequent
      to the date of their evaluation, there have not been any significant changes
      in
      our internal controls or in other facts that could significantly affect these
      controls, including any corrective action with regard to significant
      deficiencies and material weaknesses.




**Item
      8B.** **Other
      Information**




Not
      applicable.




**PART
      III.**




**Item
      9.** **Directors,
      Executive Officers, Promoters and Control Persons; Compliance with Section
      16(a)
      of the Exchange Act**




The
      following table sets forth certain information regarding our directors and
      executive officers.




**Name**
            
            **Age**
            
            **Position**Donald
                C. Hannah
            
            72
            
            Chairman
                of the BoardStuart
                A. Benson
            
            52
            
            Chief
                Executive Officer, President, and DirectorGregg
                A. Linn
            
            43
            
            Chief
                Operating Officer and Chief Financial OfficerMichael
                Ashton
            
            57
            
            DirectorCarson
                E. Beadle
            
            72
            
            DirectorMichael
                Cardamone
            
            57
            
            Director




*Donald
      C. Hannah* has been
      our Chairman of the Board since January 2004 and has been a member of our Board
      of Directors since June 2002. In 1957, he assumed control of Hannah Marine
      Company and has since helped turn it into a worldwide marine shipping
      organization and the largest tugboat and barge company operating on the Great
      Lakes. In 1986, Mr. Hannah founded US Auction, Inc., which subsequently became
      affiliated with Merrill Lynch Realty in 1988. Mr. Hannah thereafter served
      as
      President and Chief Executive Officer of the Merrill Lynch Realty Auction
      Division until November 1989. In 1989, The Prudential Insurance Company of
      America acquired Merrill Lynch Realty along with the Auction Division. Mr.
      Hannah is Chairman and Chief Executive Officer of US Properties, which he formed
      in 1992 and which presently conducts real estate auctions and often assists
      in
      structuring financing of real estate projects. Mr. Hannah was a finalist for
      Inc. Magazine’s “Entrepreneur of the Year Award” in 1992.




24




*Stuart
      A. Benson* has
      served as our Chief Executive Officer since January 2004 and our President
      since
      March 2002. Mr. Benson also served as our Vice Chairman of the Board of
      Directors from March 2002 through January 2004 and our Executive Vice President
      from June 2001 until March 2002. From March 1997 until June 2001, Mr. Benson
      served as Chairman of the Board and Chief Executive Officer of Custom Food
      Concepts, Inc., a privately held company that operated a chain of restaurants
      in
      southern California. He has also served in both public and private companies
      as
      Chief Executive Officer and Chairman of the Board, including such companies
      as
      The Great Earth Vitamin Store chain and Nathan's Famous Inc., where he served
      as
      their Chairman of the Executive Committee, Chairman of the Board, President,
      and
      Chief Executive Officer. He is a member of UJA and ADL, sponsor of CBA (Caring
      for Babies with Aids), past Chairman of the 5 Towns United Fund Red Feather
      Ball, and has successfully organized numerous functions for the Reno, Nevada
      chapter of the Make A Wish Foundation. In May 2002, Mr. Benson filed for
      personal bankruptcy, primarily as a result of federal tax liens relating to
      certain real estate syndication activities in the 1980's. These liens relate
      to
      approximately $900 million of recaptured phantom income attributable to Mr.
      Benson and his affiliates, as the general partner of various real estate
      syndication programs and partnerships, as well as $900,000 of other claims
      and
      judgments. In 1995, other IRS liens, relating to similar real estate syndication
      activities, were discharged by Mr. Benson in a prior personal filing under
      Chapter 7. The current bankruptcy filing is unrelated to Mr. Benson's activities
      with us, and we do not believe that this filing will impact Mr. Benson's ability
      to perform his duties as an officer and director in any material
      fashion.




*Gregg
      A. Linn* has
      served as our Chief Operating Officer since September 2005 and as our Chief
      Financial Officer since August 2004. Mr. Linn served as the President of Red
      Rock Management, a private consulting firm located in Scottsdale, Arizona from
      July 2001 to August 2004. Mr. Linn served as the Chief Financial Officer of
      DNA
      Model Management, LLC, a New York based private fashion/entertainment company,
      which he founded, from November 1994 to June 2001. From October 1993 to August
      1994, Mr. Linn served as the Chief Financial Officer of Skyline Multimedia
      Entertainment, Inc., a Nasdaq SmallCap company that operates the New York
      Skyride, a simulator attraction located in the Empire State Building in New
      York
      City.




*Michael
      Ashton* has been
      a member of our Board of Directors since January 2004. Mr. Ashton's career
      of
      over 31 years has been dedicated to the pharmaceutical industry. Mr. Ashton
      has
      been chief executive officer of SkyePharma since November 1998 and a member
      of
      its board of directors since March 1997. He is also a director of Transition
      Therapeutics, Inc., a Toronto Stock Exchange-listed biopharmaceutical company
      developing therapeutics for the treatment of multiple sclerosis, diabetes and
      restenosis, and Astralis Limited, a public biotechnology company.




*Carson
      E. Beadle* has been
      a member of our Board of Directors since October 2002. Mr. Beadle has been
      the
      President of Carson E. Beadle, Inc., a strategic-planning consulting firm in
      New
      York, since April 1998. From September 1959 until April 1998, Mr. Beadle was
      affiliated with the Marsh & McLennan Companies where he served as a member
      of the board of directors of William M. Mercer, Inc., a subsidiary of Marsh
      & McLennan. As a senior partner in the Mercer division, he was responsible
      for the consulting practices of New York and Eastern Canada as well as other
      corporate functions, with a focus on employee benefits for large employers
      and
      strategic decision-making. Mr. Beadle originated the “flexible benefits” concept
      in Canada and the “total benefits strategic decision-making” concept in the
      United States. Mr. Beadle has given testimony before Senate Finance, House
      Ways
& Means and other government committees. He is the author of over 100
      articles appearing in The Wall Street Journal, the New England Journal of
      Medicine, Fortune, the New York Times, and many management and health
      publications in the United States and Canada. He is Chairman and Co-founder
      of
      The Health Project, the White House-supported organization that presents the
      annual C. Everett Koop National Health awards. He is also one of the founding
      directors of the Health Enhancement Research Organization of Birmingham. Mr.
      Beadle has been a member of the Board of Directors of Security Mutual Life
      Insurance Company of New York since 1995 and National Security Life and Annuity
      Company since 2001.




*Michael
      Cardamone* has
      served as a member of our Board of Directors since September 2004.
      Mr. Cardamone has served as a private financial advisor since 1974. He has
      also served as a director of Accommodations Plus Inc., a company that provides
      and arranges for hotel reservations, since June 1996. In 1978, Mr. Cardamone
      founded M.J. Originals Dresses, a clothing producer, and served as its Chief
      Financial Officer until 1995.




25




**Information
      Relating to Corporate Governance and the Board of
      Directors**




Our
      Board
      of Directors has determined, after considering all the relevant facts and
      circumstances, that Messrs. Hannah, Beadle, and Cardamone are independent
      directors, as “independence” is defined by NASDAQ, because they have no
      relationship with us that would interfere with their exercise of independent
      judgment.




Our
      bylaws authorize our Board of Directors to appoint among its members one or
      more
      committees, each consisting of one or more directors. Our Board of Directors
      has
      established four standing committees: an Executive Committee, an Audit
      Committee, a Compensation Committee, and a Nominations and Corporate Governance
      Committee. The members of our Audit Committee, Compensation Committee, and
      Nominations and Corporate Governance Committee consist entirely of independent
      directors.




Our
      Board
      of Directors has adopted charters for the Audit, Compensation, and Nominations
      and Corporate Governance Committees describing the authority and
      responsibilities delegated to each committee by the board. Our Board of
      Directors has also adopted Corporate Governance Guidelines, a Code of Conduct,
      and a Code of Ethics for the CEO and Senior Financial Officers. We post on
      our
      website at *wwwvitalliving.com* ,
      the
      charters of our Audit, Compensation, and Nominations and Corporate Governance
      Committees; our Corporate Governance Guidelines, Code of Conduct, and Code
      of
      Ethics for the CEO and Senior Financial Officers, and any amendments or waivers
      thereto; and any other corporate governance materials contemplated by SEC or
      NASDAQ regulations. These documents are also available in print to any
      stockholder requesting a copy in writing from our corporate secretary at our
      executive offices set forth in this prospectus.




We
      regularly schedule executive sessions at which independent directors meet
      without the presence or participation of management. The presiding director
      of
      such executive session generally is chaired by the Chairman of the Board or
      rotates among the Chairs of the Audit Committee, Compensation Committee, and
      the
      Nominations and Corporate Governance Committee.




Interested
      parties may communicate with our Board of Directors or specific members of
      our
      Board of Directors, including our independent directors and the members of
      our
      various board committees, by submitting a letter addressed to the Board of
      Directors of Vital Living, Inc. c/o any specified individual director or
      directors at the address listed herein. Any such letters are sent to the
      indicated directors.




*The
      Audit Committee*




The
      purpose of the Audit Committee is to oversee the financial and reporting
      processes of our company and the audits of the financial statements of our
      company and to provide assistance to our Board of Directors with respect to
      the
      oversight of the integrity of the financial statements of our company, our
      company’s compliance with legal and regulatory matters, the independent
      auditor’s qualifications and independence, and the performance of our company’s
      independent auditor. The primary responsibilities of the Audit Committee are
      set
      forth in its charter and include various matters with respect to the oversight
      of our company’s accounting and financial reporting process and audits of the
      financial statements of our company on behalf of our Board of Directors. The
      Audit Committee also selects the independent auditor to conduct the annual
      audit
      of the financial statements of our company; reviews the proposed scope of such
      audit; reviews accounting and financial controls of our company with the
      independent auditor and our financial accounting staff; and reviews and approves
      transactions between us and our directors, officers, and their affiliates.




The
      Audit
      Committee currently consists of Messrs. Cardamone and Hannah, with Mr. Cardamone
      serving as Chairman, each of whom is deemed an independent director of our
      company under Nasdaq rules as well as under rules adopted by the SEC pursuant
      to
      the Sarbanes-Oxley Act of 2002. The Board of Directors has determined that
      each
      of Messrs. Cardamone and Hannah (whose backgrounds are detailed above) qualifies
      as an “audit committee financial expert” in accordance with applicable rules and
      regulations of the SEC.




*The
      Compensation Committee*




The
      purpose of the Compensation Committee includes determining, or recommending
      to
      our Board of Directors for determination, the compensation of the Chief
      Executive Officer and other executive officers of our company and discharging
      the responsibilities of our Board of Directors relating to compensation programs
      of our company. The Compensation Committee currently consists of Messrs. Beadle,
      Cardamone, and Hannah, with Mr. Beadle serving as Chairman.




26




*The
      Nominations and Corporate Governance Committee*




The
      purposes of the Nominations and Corporate Governance Committee include the
      selection or recommendation to the Board of Directors of nominees to stand
      for
      election as directors at each election of directors, the oversight of the
      selection and composition of committees of the Board of Directors, the oversight
      of the evaluations of the Board of Directors and management, and the development
      and recommendation to the Board of Directors of a set of corporate governance
      principles applicable to our company. The Nominations and Corporate Governance
      Committee currently consists of Messrs. Cardamone, Benson, and Hannah, with
      Mr.
      Benson serving as Chairman.




The
      Nominations and Corporate Governance Committee will consider persons recommended
      by stockholders for inclusion as nominees for election to our Board of Directors
      if the names, biographical data, and qualifications of such persons are
      submitted in writing in a timely manner addressed and delivered to our company’s
      corporate secretary at the address listed herein. The Nominations and Corporate
      Governance Committee identifies and evaluates nominees for our Board of
      Directors, including nominees recommended by stockholders, based on numerous
      factors it considers appropriate, some of which may include strength of
      character, mature judgment, career specialization, relevant technical skills,
      diversity, and the extent to which the nominee would fill a present need on
      our
      Board of Directors. As discussed above, the members of the Nominations and
      Corporate Governance Committee are independent, as that term is defined by
      NASDAQ.




*The
      Executive Committee*




The
      Executive Committee has all powers of the Board of Directors between meetings
      of
      the board, subject to applicable law. The members of the Executive Committee
      are
      Messrs. Hannah, Beadle, Cardamone, and Benson, with Mr. Beadle serving as
      Chairman.




**Director
      Compensation**




In
      addition, for each year of service as a director of our company, we grant to
      each of our directors options to purchase 250,000 shares of common stock. In
      addition to such options, we grant (a) to our Chairman of the Board of
      Directors options to purchase 250,000 shares of common stock annually, and
      (b) to each committee chairman options to purchase 150,000 shares of common
      stock annually. We also pay our non-employee directors $1,400 per day for those
      days that they assist us in activities that are beyond their board-related
      responsibilities. During fiscal 2005, we paid Mr. Hannah approximately $14,100
      for such services.




**Item
      10.** **Executive
      Compensation**




**Summary
      of Cash and Other Compensation**




The
      following table sets forth, for the periods indicated, the total compensation
      earned for services provided to us in all capacities by our Chief Executive
      Officer and our only other executive officer whose aggregate compensation
      exceeded $100,000 during fiscal 2005.




**SUMMARY
      COMPENSATION TABLE**




****
            ****
            ****
            ****
            ****
            ****
            **Long-Term
                     Compensation**
            ****
            ****
            ****
            ********
            ****
            ****
            **Annual
                Compensation (1)**
            ****
            ****
            **Awards**
            ****
            ****
            ****
            ******Name
                and Principal Position**
            ****
            ****
            **Year**
            ****
            ****
            **Salary
                ($)**
            ****
            ****
            **Bonus
                ($)**
            ****
            ****
            **Securities****Underlying
                                Options
                                (#)**
            ****
            ****
            **All
                    Other Compensation ($)**Stuart
                A. Benson
              Chief
                  Executive Officer, President, and Director
            
            
            2005
            
            $
            220,000
            
            $
            —
            
            
            6,000,000
            
            $
            —2004
            
            
            180,469
            
            
            —
            
            
            —
            
            
            10,3362003
            
            
            156,153
            
            
            120,000
            (2)
            
            5,000,000
            (2)
            
            —Gregg
                A. Linn
              Chief
                  Operating Officer and Chief Financial Officer(9)
            
            
            2005
            
            $
            173,333
            
            
            —
            
            
            3,500,000
            
            
            —2004
            
            
            55,692
            
            
            —
            
            
            —
            
            
            —


__________________




(1)
            The
                officers also received certain perquisites, the value of which did
                not
                exceed the lesser of $50,000 or 10% of the officer's compensation
                during
                fiscal 2005.




(2)
            Represents
                bonus paid to Mr. Benson for successful consummation of various
                acquisitions.




(3)
            In
                connection with the execution of Mr. Benson’s original employment
                agreement, we granted Mr. Benson a warrant to purchase 1,340,000
                shares of
                common stock at an exercise price of $1.50 per share. In April 2003,
                we
                amended the warrant to lower the exercise price to $0.01 per share
                and to
                extend the expiration date to March 31, 2008. In August 2003, as
                a
                condition to the consummation of our ENI Acquisition, the warrant
                was
                again amended to increase the total number of shares of common stock
                purchasable under the warrant to 6,340,000 shares, or an additional
                5,000,000 warrants, 30,000 of which were exercised in 2003. Cumulative
                compensation expense of $1,526,461 related to repricing and amendments
                of
                the warrants was recorded in 2003. Compensation expense of $6,800,000
                was
                recorded in August 2003 as a result of the new
                warrants.






27




**Option
      Grants**




The
      following table provides information on stock options granted to the officers
      listed during the fiscal year ended December 31, 2005


**OPTION
        GRANTS IN LAST FISCAL YEAR**




**Individual
                Grants****Name**
            
            
            **Number
                of Securities Underlying Options Granted (#) (1)**
            
            
            **%
                of Total Options Granted to Employees in Fiscal
                Year**
            
            **Exercise
                Price($/sh)**
            
            
            **Expiration
                Date (1)**Stuart
                A. Benson
            
            
            3,000,000
            
            
            22.4
            %
            
            $
            0.08
            
            
            2/10/153,000,000
            
            
            22.4
            %
            
            $
            0.04
            
            
            12/9/15Gregg
                A. Linn
            
            
            2,000,000
            
            
            14.9
            %
            
            $
            0.08
            
            
            2/10/151,500,000
            
            
            11.2
            %
            
            $
            0.04
            
            
            12/9/15


______________


(1)  All
      options were granted at the fair market value of the shares on the date of
      grant
      and were fully vested on the date of grant.






**Option
      Values and Holdings**




The
      following table sets forth, for the officers listed, the exercisable and
      unexercisable options held by them as of December 31, 2005. None of the officers
      exercised options during fiscal 2005.




**FISCAL
      YEAR-END OPTION VALUES**




**Number
                of Securities****Underlying
                Unexercised****Options
                at Fiscal Year-End (#)**
            
            **Value
                of Unexercised****In-The-Money
                Options at****Fiscal
                Year-End ($) (1)****Exercisable**
            
            **Unexercisable**
            
            **Exercisable**
            
            **Unexercisable**Stuart
                A. Benson
            6,000,000
            
            —
            
            —
            
            —Gregg
                A. Linn
            3,500,000
            
            —
            
            —
            
            —


______________


(1)
            None
                of the options had value as of December 31, 2005, as the exercise
                price
                per share of the options were greater than $0.03, which was the closing
                price of our common stock quoted on the OTCBB on December 31,
                2005.




28




**Employment
      Agreements**




On
      February 15, 2005, we entered into an employment agreement dated as of January
      1, 2005 with Stuart Benson providing for the employment of Mr. Benson as the
      President and Chief Executive Officer of our company. On February 15, 2005,
      we
      entered into an employment agreement dated as of January 1, 2005 with Gregg
      A.
      Linn providing for the employment of Mr. Linn as the Chief Financial Officer
      of
      our company. We amended Mr. Linn's agreement during January 2006 in connection
      with his appointment as our Chief Operating Officer and Chief Financial Officer.
      The employment agreements have initial terms of three years each, and both
      are
      subject to automatic renewal for successive one-year periods.




Mr.
      Benson’s employment agreement provides for Mr. Benson to receive an annual base
      salary of $220,000 from January 1, 2005 through December 31, 2005; $250,000
      from
      January 1, 2005 through December 31, 2006; and $280,000 commencing on January
      1,
      2007. Mr. Linn’s employment agreement provides for Mr. Linn to receive an annual
      base salary of $230,000 during 2006 and $260,000 during 2007. Both executives
      will also be eligible to receive annual bonuses pursuant to the employment
      agreements in amounts to be determined by the Board of Directors of our
      company.




As
      part
      of their compensation packages, we granted to Mr. Benson and Mr. Linn, options
      to purchase 3,000,000 shares and 2,000,000 shares, respectively, of our common
      stock at an exercise price equal to the closing price of our common stock on
      the
      date of execution of the agreements. The options were fully vested during
      December 2005.




Under
      the
      employment agreements, we will provide Messrs. Benson and Linn with (1) car
      allowances of $1,200 and $1,000 per month, respectively; (ii) reimbursement
      for
      travel and entertainment expenses incurred in connection with the business
      of
      our company; and (iii) the right to participate in any group insurance,
      hospital, medical, dental, accident, disability pension, retirement, vacation,
      expense reimbursement, and other plans, programs, or benefits as may from time
      to time be provided to other executive employees of our company. Pursuant to
      the
      employment agreements, we will reimburse the executive for premium on disability
      policies providing for coverage at a rate equal to 50% of his base salary in
      effect from time to time under the employment agreement.




In
      addition, during the term of his employment, we will pay premium for two life
      insurance policies of the life of Mr. Benson, one of which policies will have
      a
      face amount of $1,000,000 and will name our company as beneficiary, and one
      will
      have a face amount of $500,000 and will name as beneficiary a person or entity
      designated by Mr. Benson. Under Mr. Linn’s employment agreement, we will pay
      premiums for a life insurance policy on the life of Mr. Linn, which policy
      will
      have a face amount of $400,000 and will name as beneficiary a person or entity
      designated by Mr. Linn. The employment agreements contain provisions that
      prohibit the executives from competing with us or soliciting our personnel
      or
      employees for a period of 18 months following the termination of their
      employment with us.




The
      employment agreements each provide that either we or the executive may terminate
      the agreement at any time. If the executive’s employment is terminated
      unilaterally by us without cause or by us for good reason (as defined in the
      agreement), the executive will receive his base salary for the remainder of
      the
      term of the employment agreement. If the executive is terminated for reason
      of
      death or disability, he or his estate, as the case may be, will receive his
      fixed salary for 90 days after such termination. If the executive’s employment
      is terminated by him voluntarily or by us for cause as a result of certain
      acts
      committed by the executive (as set forth in the agreement), he will receive
      no
      further compensation under the employment agreement.




In
      the
      event of a change of control of our company, the executive may, at his option
      and upon notice to us, terminate his employment. If the executive terminates
      his
      employment due to a change of control, he will receive his base salary for
      the
      longer of the remainder of the employment term or a period of 18 months after
      such termination, as well as any unpaid fringe benefits, and such bonus as
      may
      have been earned prior to the change in control, all within 10 days after the
      termination.




**Voting
      Agreements**




In
      connection with our November 2002 acquisition of MAF BioNutritionals, LLC,
      we
      entered into a stockholders’ agreement with Stuart A. Benson, Donald C. Hannah,
      Bradley D. Edson, Martin Gerst, William Coppel, Phil Maffetone, Kenneth Martin,
      Leslie C. Quick, III, and Thomas C. Quick (the “MAF Voting Agreement”). Pursuant
      to the MAF Voting Agreement:




29


·
              for
                  so long as Messrs. Edson, Benson, Hannah, and Gerst beneficially
                  own an
                  aggregate of at least 65% of the shares of common stock held by
                  them on
                  the date of the agreement, they will be entitled to nominate and
                  have
                  elected four directors; and
  ·
              for
                  so long as Messrs. Coppel, Maffetone, Quick, and Quick beneficially
                  own an
                  aggregate of at least 65% of the shares of common stock held by
                  them on
                  the date of the agreement, they will be entitled to nominate and
                  have
                  elected three directors.




Each
      of
      the parties to the MAF Voting Agreement has agreed to vote the shares of common
      stock beneficially owned by him on the date of the agreement in favor of the
      other group’s nominees. Each of the parties has further agreed that he will not
      take any action, or cause us to take any action, to remove, with or without
      cause, a director nominated by any of the parties. Because Messrs. Coppel,
      Maffetone, Quick, and Quick do not still beneficially own the required 65%,
      they
      no longer have the right to nominate and have elected any directors.




In
      connection with our August 2003 acquisition of E-Nutriceuticals, Inc., we
      entered into a stockholders’ agreement, as amended, with Stuart A. Benson,
      Donald C. Hannah, SkyePharma PLC, Stephen Morris, and Fifth Avenue Capital,
      Inc.
      (the “ENI Voting Agreement”). Pursuant to the ENI Voting Agreement:


·
              for
                  so long as Messrs. Benson and Hannah beneficially own an aggregate
                  of at
                  least 65% of the shares of common stock owned by them on the date
                  of the
                  agreement, they will be entitled to nominate three directors;
  ·
              for
                  so long as Stephen Morris and Fifth Avenue Capital beneficially
                  own an
                  aggregate of at least 65% of the shares of common stock owned by
                  them on
                  the date of the agreement, they will be entitled to nominate one
                  director;
                  and




·
            for
                  so long as SkyePharma beneficially owns an aggregate of at least
                  65% of
                  the shares of common stock owned by it on the date of the agreement,
                  it
                  will be entitled to nominate one
                  director.




Each
      of
      the parties to the ENI Voting Agreement has agreed to vote the shares of common
      stock beneficially owned by him on the date of the agreement in favor of the
      other group’s nominees. Each of the parties have further agreed that he will
      take any action, or cause us to take any action, to remove, with or without
      cause, a director nominated by any of the parties.




**Indemnification
      Under our Certificate of Incorporation and Bylaws**




Our
      certificate of incorporation provides that no director will be personally liable
      to our company or its stockholders for monetary damages for breach of a
      fiduciary duty as a director, except to the extent such exemption or limitation
      of liability is not permitted under the Nevada General Corporation Law. The
      effect of this provision in the certificate of incorporation is to eliminate
      the
      rights of our company and its stockholders, either directly or through
      stockholders' derivative suits brought on behalf of our company, to recover
      monetary damages from a director for breach of the fiduciary duty of care as
      a
      director except in those instances described under the Nevada General
      Corporation Law. In addition, we have adopted provisions in our bylaws and
      entered into indemnification agreements that require us to indemnify our
      directors, officers, and certain other representatives of our company against
      expenses and certain other liabilities arising out of their conduct on behalf
      of
      our company to the maximum extent and under all circumstances permitted by
      law.
      Indemnification may not apply in certain circumstances to actions arising under
      the federal securities laws.




30




**Equity
      Compensation Plan Information**




The
      following table sets forth information with respect to our common stock that
      may
      be issued upon the exercise of stock options under our incentive stock option
      plans as of December 31, 2005.




**Plan
                Category**
            
            **(a)
                Number of**
              **Securities
                to be**
              **Issued
                Upon Exercise**
              **of
                Outstanding**
              **Options,
                Warrants,**
              **and
                Rights**
            
            **(b)
                Weighted-**
              **Average
                Exercise**
              **Price
                of Outstanding**
              **Options,
                Warrants,**
              **and
                Rights**
            
            **(c)
                Number of Securities**
              **Remaining
                Available for**
              **Future
                Issuance Under**
              **Equity
                Compensation**
              **Plans
                (Excluding**
              **Securities
                Reflected in**
              **Column(a))**Equity
                Compensation
              Plans
                Approved by
              Stockholders
            
            13,801,390
            
            
            $0.08
            
            3,162,500Equity
                Compensation
              Plans
                Not Approved
              By
                Stockholders
            
            30,579,859
            
            
            $0.34
            
            ―Total
            
            44,381,249
            
            
            $0.26
            
            3,162,500




**Item
      11.**  **Security
      Ownership of Certain Beneficial Owners and Management and Related Stockholder
      Matters**




The
      following table sets forth certain information regarding the beneficial
      ownership of our common stock as of December 31, 2005 by




·
            each
                of our directors and executive
                officers,




·
            all
                of our directors and executive officers as a group,
                and




·
            each
                person or entity known by us to own more than 5% of our common
                stock.






**Shares
                Beneficially****Owned****Name
                of Beneficial Owner (1)**
            
            **Number
                (2)**
            
            **Percent
                (3)****Directors
                and Executive Officers:**Donald
                C. Hannah
            
            
            2,110,788
            (4)
            
            1.9
            %Stuart
                A. Benson
            
            
            10,980,000
            (5)
            
            8.9
            %Michael
                Ashton
            
            
            750,000
            (6)
            
            *Carson
                E. Beadle
            
            
            1,767,143
            (7)
            
            1.6
            %Michael
                Cardamone
            
            
            265,000
            (8)
            
            *Gregg
                A. Linn
            
            
            3,500,000
            (9)
            
            3.0
            %All
                directors and executive officersas
                a group (six persons)
            
            
            19,372,931
            
            
            14.9
            %**Non-management
                5% stockholders:**Fifth
                Avenue Capital, Inc.
            
            
            8,314,394
            (10)
            
            7.4
            %Stephen
                Morris
            
            
            8,314,394
            (11)
            
            7.4
            %Periscope
                Partners, L.P.
            
            
            13,710,806
            (12
                )
            
            11.4
            %SkyePharma
                PLC
            
            
            21,905,405
            (13)
            
            18.7
            %


___________________


*Less
      than 1%.




31







(1)
            
            Unless
              otherwise noted, the address of each person is care of Vital Living,
              Inc.,
              5080 North 40th Street, Suite 105, Phoenix, Arizona 85018(2)
            
            Includes,
                when applicable, shares owned of record by such person's minor children
                and spouse and by other related individuals and entities over whose
                shares
                of common stock such person has custody, voting control, or power
                of
                disposition. Also includes shares of common stock that the identified
                person had the right to acquire within 60 days of December 31, 2005
                by the
                exercise of vested stock options or warrants or the conversion of
                other
                securities.(3)
            
            The
                percentages shown include the shares of common stock that the person
                will
                have the right to acquire within 60 days of December 31, 2005. In
                calculating the percentage of ownership, all shares of common stock
                which
                the identified person will have the right to acquire within 60 days
                of
                December 31, 2005 upon the exercise of vested stock options or warrants
                or
                the conversion of other securities are deemed to be outstanding for
                the
                purpose of computing the percentage of shares of common stock owned
                by
                such person, but are not deemed to be outstanding for the purpose
                of
                computing the percentage of shares of common stock owned by any other
                person.(4)
            
            Includes
                605,000 shares of common stock, a portion of which is subject to
                divestiture. Does not include (a) 5,788 shares of common stock issuable
                upon exercise of warrants that are not currently exercisable and
                will not
                become exercisable within the next 60 days and (b) 1,500,000 shares
                of
                common stock isssuable upon exercise of stock options.(5)
            
            Includes
                4,950,000 shares of common stock issuable upon exercise of immediately
                exercisable warrants and unvested options to purchase 6,000,000 shares
                of
                common stock.(6)
            
            Includes
                750,000 shares of common stock issuable upon exercise of stock options.
                Mr. Ashton’s business address is care of SkyePharma PLC, 105 Piccadilly,
                London, England W1J 7NJ.(7)
            
            Includes
                1,200,000 shares of common stock issuable upon exercise of stock
                options.(8)
            
            Represents
                shares of restricted stock received upon becoming a director and
                member of
                certain of the committees of our board of directors, which are subject
                to
                vesting. Includes 100,000 shares of common stock issuable upon exercise
                of
                stock options.(9)
            
            Includes
                3,500,000 shares of common stock issuable upon exercise of stock
                options.(10)
            
            Stephen
              Morris, the president and sole director of Fifth Avenue Capital, Inc.,
              exercises voting and dispositive power over these shares. The foregoing
              information was derived from an Amendment to Schedule 13D filed with
              the
              SEC on September 3, 2003. The business address of Fifth Avenue Capital
              is
              Suite 1601-1603, Kinwick Centre, 32 Hollywood Rd., Central Hong
              Kong.(11)
            
            Represents
              8,314,394 shares of common stock held by Fifth Avenue Capital, Inc.,
              of
              which Mr. Morris is the president and sole director. Mr. Morris’s
              principal address is 8 the Meadows, Camps Bay, Cape Town, South
              Africa.(12)
            
            Leon Frenkel, the general partner of
              Periscope Partners, exercises voting and dispositive power over these
              shares. Represents (a) 4,228,113 shares of common stock issuable upon
              exercise of warrants, (b) 4,222,221 shares of common stock issuable
              upon
              conversion of senior secured convertible notes, and (c) 5,260,472 shares
              of common stock. Does not include shares of common stock that may be
              issued if we determine to pay a portion of the interest owed on the
              senior
              secured convertible notes in shares of our common stock. The business
              address of Periscope Partners is 1600 Flatrock Road, Penn Valley, PA
              19072.(13)
            
            Represents (a) 16,686,106 shares of
              common
              stock, (b) 1,000,000 shares of common stock currently issuable upon
              conversion of 1,000,000 shares of Series D Preferred Stock, (c) 4,166,667
              shares of common stock currently issuable upon conversion of senior
              secured convertible notes, and (d) 1,052,632 shares of common stock
              currently issuable upon exercise of warrants issued in connection with
              the
              issuance of the notes. Does not include shares of common stock that
              may be
              issued if we determine to pay a portion of the interest owed on the
              senior
              secured convertible notes in shares of our common stock. The foregoing
              information was derived from an Amendment to Schedule 13D/A filed with
              the
              SEC on December 19, 2003. The business address of SkyePharma is 105
              Piccadilly, London, England W1J 7NJ.






32




**Item
      12.** **Certain
      Relationships and Related Transactions**




Not
      applicable.




**Item
      13.** **Exhibits.**




*(a)* *Financial
      Statements and Financial Statement Schedules*




(1) Financial
      Statements are listed in the Index to Consolidated Financial Statements on
      page
      F-1 of this report.




(2) No
      financial statement schedules are included because such schedules are not
      applicable, are not required, or because required information is included in
      the
      consolidated financial statements or notes thereto.




*(b)* *Exhibits*




**Exhibit****No.**
            **Description**3.1
            Amended
                and Restated Articles of Incorporation for Vital Living, Inc.
                (1)3.2
            Amended
                and Restated Bylaws for Vital Living, Inc. (1)4.1
            Form
                of Series A Warrant (2)4.2
            Form
                of Series B Warrant (3)4.3
            Form
                of Series C Warrant (3)4.4
            Form
                of Series D Warrant (4)4.5
            Form
                of Series E Warrant (5)4.6
            Form
                of Series F Warrant (2)4.10
            Certificate
                of Designation, Preferences and Relative, Participating, Optional
                or Other
                Special Rights of Series D Convertible Preferred Stock
                (5)4.16
            Registration
                Rights Agreement, dated as of November 20, 2002, between Vital Living,
                Inc. and those persons listed on Exhibit A attached thereto
                (3)4.17
            Stockholders’
                Agreement, dated, by and among Vital Living, Inc., Bradley D. Edson,
                Stuart A. Benson, Martin Gerst, Donald Hannah, William Coppel, Kenneth
                Martin, Phil Maffetone, Leslie C. Quick, III, and Thomas C. Quick
                (3)4.18
            Stockholders’
                Agreement, dated August 20, 2003, by and between Vital Living, Inc.,
                Bradley D. Edson, Stuart A. Benson, Donald Hannah, SkyePharma PLC,
                Fifth
                Avenue Capital, Inc. and Stephen Morris (5)4.19
            Registration
                Rights Agreement, dated as of August 20, 2003, by and between Vital
                Living, Inc. and SkyePharma PLC (5)4.22
            Form
                of Securities Purchase Agreement for December 2003 private offering
                (6)4.23
            Form
                of Senior Secured Convertible Note issued in December 2003 private
                offering (6)4.24
            Form
                of Warrant issued in December 2003 private offering (6)4.25
            Form
                of Warrant issued in 2003 offering of senior convertible promissory
                notes
                (6)4.26
            Form
                of Security Agreement for December 2003 private offering
                (6)4.27
            Form
                of Registration Rights Agreement for December 2003 private offering
                (6)4.28
            Form
                of Escrow Agreement for December 2003 private offering
                (6)




33


**Exhibit****No.**
              **Description**


4.29
            Form
                of Purchase Agreement for March 2004 private offering
                (11)4.30
            Form
                of Securities Purchase Agreement for June 2004 private offering
                (11)4.31
            Form
                of Series G Warrant (11)4.32
            Form
                Series H Warrant (11)4.33
            Form
                of Registration Rights Agreement for June 2004 private offering
                (11)4.34
            Asset
                Purchase Agreement, dated September 30, 2004, among Vital Living,
                Inc.,
                MAF BioNutritional, LLC and Radha Krishna Heartly Blessings, Inc.
                (12)10.1
            2001
                Stock Option Plan (1)10.17
            Warrant
                Agreement, dated November 20, 2002, between Vital Living, Inc. and
                Stuart
                A. Benson (7)10.18
            Amendment
                No. 1 to Warrant Agreement between Vital Living, Inc. and Stuart
                A. Benson
                (4)10.19
            Amendment
                No. 2 to Warrant Agreement between Vital Living, Inc. and Stuart
                A. Benson
                (10)10.26
            Warrant
                Agreement, dated April 16, 2003, between Vital Living, Inc. and Stephen
                Songsheng Chen (4)10.33
            Asset
                Purchase Agreement, dated as of June 20, 2003, among Vital Living,
                Inc.,
                Nature’s Systems, Inc., Christopher’s Original Formulas, Inc., Robert C.
                Scott and James R. Jeppson (8)10.34
            Form
                of Escrow Agreement, dated August 20, 2003, between Vital Living,
                Inc.,
                E-Nutraceuticals, Inc., Stephen Morris and Mercantile National Bank
                -
                California, as escrow agent (5)10.35
            Development
                and License Agreement, dated as of December 28, 2001, between
                E-Nutraceuticals, Inc. and SkyePharma PLC (5)10.36
            Amendment
                No. 1, dated as of August 20, 2003, to Development and License Agreement
                by and among Vital Living, Inc., E-Nutraceuticals, Inc., Jagotec
                AG and
                SkyePharma PLC (5)10.37
            Stock
                Purchase Agreement, dated as of October 14, 2003, among Vital Living,
                Inc.
                and the stockholders set forth on the signature page attached thereto
                (9)10.42
            Form
                of Indemnification Agreement between the Company and each of Stuart
                A.
                Benson, Donald C. Hannah, Carson E. Beadle, and Michael Ashton
                (2)10.42.1
            Schedule
                of Indemnification Agreements in the form of Exhibit 10.42, including
                material detail in which such documents differ from Exhibit 10.42
                (2)10.43
            Amendment
                No. 1, dated as of January 13, 2004, to Stockholders’ Agreement, dated as
                of August 14, 2003, between each of the Company, Bradley D. Edson,
                Stuart
                Benson, Donald Hannah, Stephen Morris, SkyePharma PLC and Fifth Avenue
                Capital, Inc. (10)10.44
            Warrant
                Agreement, dated as of April 19, 2004, between the Company and Nest
                Ventures, LLC (13)10.45
            Settlement
                and Release Agreement, dated July 9, 2004, between the Company, Natures
                Systems, Inc., Christopher’s Original Formulas, Inc., Christopher
                Enterprises, Inc., Robert Scott, James Jeppson,, Norman Barala, Ruth
                Christopher and Stuart Benson (11)10.46
            Employment
                Agreement between Vital Living, Inc. and Stuart Benson, dated January
                1,
                2005 effective as of February 15, 2005 (14)10.47
            Employment
                Agreement between Vital Living, Inc. and Gregg Linn, dated January
                1, 2005
                effective as of February 15, 2005 (14)10.48
            2005
                Incentive Compensation Plan (15)10.49
            Warrant
                issued to Howard Wernick (15)10.50
            Amendment
                No. 1 to Employment Agreement, effective January 1, 2006, between
                the
                Company and Gregg A. Linn (15)21
            List
                of Subsidiaries (15)




34




**Exhibit****No.**
            **Description**


23.1
              Consent
                  of Epstein Weber & Conover PLC31.1
              Certification
                  of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
                  Act of 200231.2
              Certification
                  of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley
                  Act of 200232.1
              Certification
                  of Chief Executive Officer pursuant to 18 U.S.C. Section 1350,
                  as adopted
                  pursuant to Section 906 of the Sarbanes-Oxley Act of
                  200232.2
              Certification
                  of Chief Financial Officer pursuant to 18 U.S.C. Section 1350,
                  as adopted
                  pursuant to Section 905 of the Sarbanes-Oxley Act of
                  2002


_____________________________________


(1)
            Incorporated
                by reference to Current Report on Form 8-K dated August 17, 2001
                and filed
                with the SEC on October 1, 2001


(2)
            Incorporated
                by reference to Registration Statement on Form SB-2 (333-111921)
                filed
                with the SEC on January 14, 2004


(3)
            Incorporated
                by reference to Current Report on Form 8-K/A dated November 20, 2002
                and
                filed with the SEC on December 5,
                2002


(4)
            Incorporated
                by reference to Amendment No. 2 to Registration Statement on Form
                SB-2
                (333-102106) filed on April 28,
                2003


(5)
            Incorporated
                by reference to Current Report on Form 8-K dated August 21, 2003
                and filed
                with the SEC on September 8, 2003


(6)
            Incorporated
                by reference to Current Report on Form 8-K dated December 15, 2003
                and
                filed with the SEC on December 19,
                2003


(7)
            Incorporated
                by reference to Current Report on Form 8-K dated April 1, 2002 and
                filed
                with the SEC on April 16, 2002


(8)
            Incorporated
                by reference to Current Report on Form 8-K dated July 2, 2003 and
                filed
                with the SEC on July 16, 2003


(9)
            Incorporated
                by reference to Current Report on Form 8-K/A dated October 14, 2003
                and
                filed with the SEC on December 5,
                2003


(10)
            Incorporated
                by reference to Annual Report on Form 10-KSB for the fiscal year
                ended
                December 31, 2003


(11)
            Incorporated
                by reference to the Registration Statement on Form SB-2 (Reg. No.
                333-102106) filed on August 3, 2004


(12)
            Incorporated
                by reference to Current Report on Form 8-K dated September 30, 2004
                and
                filed with the SEC on October 20,
                2004


(13)
            Amendment
                No. 1 to Registration Statement on Form SB-2 filed on May 12,
                2004


(14)
            Incorporated
                by reference to Current Report on Form 8-K dated February 15, 2005
                and
                filed with the SEC on February 18,
                2005


(15)
            Incorporated
                by reference to the Registrant’s Registration Statement on Form SB-2 (Reg.
                No. 333-131839) filed with the SEC on February 14,
                2006.




**Item
      14.** **Principal
      Accountants Fees and Services**






The
      aggregate fees billed to our company by Epstein, Weber & Conover, PLC and
      PKF for the fiscal years ended December 31, 2005 and 2004 are as follows:




**2005**
            
            **2004**Audit
                Fees (1)
            
            $
            53,000
            
            $
            65,000Audit-Related
                Fees (2)
            
            
            19,000
            
            
            12,500Tax
                Fees (3)
            
            
            —
            
            
            —All
                Other Fees
            
            
            5,000
            
            
            63,607Total
            
            $
            77,000
            
            $
            141,107




35




**Audit
      Committee Pre-Approval Policies**






The
      charter of our Audit Committee provides that the duties and responsibilities
      of
      our Audit Committee include the pre-approval of all audit, audit-related, tax,
      and other services permitted by law or applicable SEC regulations (including
      fee
      and cost ranges) to be performed by our independent auditor. Any pre-approved
      services that will involve fees or costs exceeding pre-approved levels will
      also
      require specific pre-approval by the Audit Committee. Unless otherwise specified
      by the Audit Committee in pre-approving a service, the pre-approval will be
      effective for the 12-month period following pre-approval. The Audit Committee
      will not approve any non-audit services prohibited by applicable SEC regulations
      or any services in connection with a transaction initially recommended by the
      independent auditor, the purpose of which may be tax avoidance and the tax
      treatment of which may not be supported by the Internal Revenue Code and related
      regulations.




To
      the
      extent deemed appropriate, the Audit Committee may delegate pre-approval
      authority to the Chairman of the Audit Committee or any one or more other
      members of the Audit Committee provided that any member of the Audit Committee
      who has exercised any such delegation must report any such pre-approval decision
      to the Audit Committee at its next scheduled meeting. The Audit Committee will
      not delegate to management the pre-approval of services to be performed by
      the
      independent auditor.




Our
      Audit
      Committee requires that our independent auditor, in conjunction with our Chief
      Financial Officer, be responsible for seeking pre-approval for providing
      services to us and that any request for pre-approval must inform the Audit
      Committee about each service to be provided and must provide detail as to the
      particular service to be provided






36





**SIGNATURES**




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




VITAL
              LIVING, INC.Date:
              March 31, 2006
            By:
            /s/
              STUART A. BENSONStuart A. Benson*President
              and
              Chief Executive Officer*








In
      accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused
      this report to be signed by the following persons on behalf of the registrant
      and in the capacities and on the dates indicated.


**Signature**
              **Capacity**
              **Date**/s/
                  Donald C. Hannah
              Chairman
                  of the Board
              March
                  31, 2006Donald
                  C. Hannah/s/
                  Stuart A. Benson
              President,
                  Chief Executive Officer, and Director (Principal Executive
                  Officer)
              March
                  31, 2006Stuart
                  A. Benson/s/
                  Gregg A. Linn
              Chief
                  Operating Officer and Chief Financial Officer (Principal Accounting
                  and
                  Financial Officer)
              March
                  31, 2006Gregg
                  A. Linn/s/
                  Michael Ashton
              Director
              March
                  31, 2006Michael
                  Ashton/s/
                  Carson E. Beadle
              Director
              March
                  31, 2006Carson
                  E. Beadle/s/
                  Michael Cardamone
              Director
              March
                  31, 2006Michael
                  Cardamone











**Report
      of Independent** **Registered
      Public Accounting Firm**





To
      the
      Board of Directors and


Stockholders
      of Vital Living, Inc.





We
      have
      audited the accompanying consolidated balance sheet of Vital Living, Inc. and
      subsidiaries as of December 31, 2005 and the consolidated statements of
      operations, stockholders’ equity (deficit), and cash flows for the two years
      ended December 31, 2005 and 2004. These financial statements are the
      responsibility of the Company’s management. Our responsibility is to express an
      opinion on these financial statements based on our audits.





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





In
      our
      opinion, the financial statements referred to above present fairly, in all
      material respects, the financial position of Vital Living, Inc. and subsidiaries
      as of December 31, 2005 and the results of their operations and their cash
      flows for the two years ended December 31, 2005 and 2004, in conformity with
      accounting principles generally accepted in the United States of
      America.





The
      accompanying financial statements have been prepared assuming that the Company
      will continue as a going concern. As discussed in Note 1 to the financial
      statements, the Company has suffered recurring losses from operations, has
      a
      working capital deficit, and is dependent on funding sources from other than
      operations. Since inception, the Company has been required to raise additional
      capital by the issuance of both equity and debt instruments. There are no
      commitments from funding sources, debt or equity, in the event that cash flows
      are not sufficient to fund ongoing operations or other cash commitments when
      they come due. These factors raise substantial doubt about the Company’s ability
      to continue as a going concern. Management’s plans regarding these matters are
      also described in Note 1. The financial statements do not include any
      adjustments that might result from the outcome of this uncertainty.








/s/ Epstein
      Weber & Conover, PLC





Scottsdale,
      Arizona


February
      3, 2006




F-1




**VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Consolidated
          Balance Sheets** December
                      31, 2005AssetsCurrent
                      assets:Cash
                  
                  $
                  192,000Accounts
                      receivable, trade; net of allowance for doubtful accounts of
                      $53,000
                  
                  
                  488,000Inventory,
                      net of reserve of $360,000
                  
                  
                  111,000Prepaid
                      expenses and other current assets
                  
                  
                  61,000Total
                      current assets
                  
                  
                  852,000Other
                      assets:Deferred
                      debt issuance costs, net of accumulated amortization of
                      $446,000
                  
                  
                  539,000Property
                      and equipment, net
                  
                  
                  27,000Goodwill
                  
                  
                  3,296,000Other
                      intangible assets, net
                  
                  
                  14,000Other
                      non-current assets
                  
                  
                  36,000Total
                      other assets
                  
                  
                  3,912,000Total
                      assets
                  
                  $
                  4,764,000Liabilities
                      and Stockholders’ DeficitCurrent
                      liabilities:Accounts
                      payable, trade
                  
                  $
                  1,103,000Accrued
                      research and development
                  
                  
                  750,000Accrued
                      other
                  
                  
                  221,000Current
                      portion of long-term debt
                  
                  
                  401,000Total
                      current liabilities
                  
                  
                  2,475,000Long-term
                      debt, net of unamortized debt discount of $1,442,000
                  
                  
                  2,784,000Total
                      liabilities
                  
                  
                  5,259,000Commitments
                      and contingenciesStockholders’
                      deficitPreferred
                      stock, $0.001 par value, 50,000,000 shares authorized:Preferred
                      stock - Series C, $0.001 par value, 3,000,000 shares authorized;
                      0 shares
                      issued andoutstandingPreferred
                      stock - Series D, $0.001 par value, 1,000,000 shares authorized;
                      1,000,000
                      shares issued andoutstanding
                  
                  
                  1,000Common
                      stock, $0.001 par value, 150,000,000 shares authorized; 112,549,000
                      shares
                      issued,112,125,000
                      outstanding
                  
                  
                  112,000Additional
                      paid-in capital
                  
                  
                  87,899,000Stock,
                      options, and warrants - unamortized
                  
                  
                  (609,000
                  )Treasury
                      stock, 424,000 shares at cost
                  
                  
                  (72,000
                  )Accumulated
                      other comprehensive loss
                  
                  
                  (49,000
                  )Accumulated
                      deficit
                  
                  
                  (87,777,000
                  )Total
                      stockholders’ deficit
                  
                  
                  (495,000
                  )Total
                      liabilities and stockholders’ deficit
                  
                  $
                  4,764,000
  See
                    accompanying notes to consolidated financial statements.


F-2


**VITAL
                  LIVING, INC. AND SUBSIDARIES****Consolidated
                  Statements of Operations**


**Year
                Ended December 31,****2005**
            
            
            **2004**Revenue,
                net
            
            $
            4,858,000
            
            $
            4,161,000Cost
                of goods sold
            
            
            2,301,000
            
            
            2,801,000Gross
                profit
            
            
            2,557,000
            
            
            1,360,000Administrative
                expensesSalaries
                and benefits
            
            
            201,000
            
            
            992,000Professional
                and consulting fees
            
            
            723,000
            
            
            1,676,000Selling,
                general, and administrative
            
            
            880,000
            
            
            1,937,000Research
                and development
            
            
            72,000
            
            
            1,180,000Depreciation
                and amortization
            
            
            2,455,000
            
            
            4,560,000Impairment
                of intangibles
            
            
            18,356,000
            
            
            14,976,000Total
                administrative expenses
            
            
            22,687,000
            
            
            25,321,000Net
                loss from continuing operations
            
            
            (20,130,000
            )
            
            (23,961,000
            )Other
                income (expense)Interest
                expense, net
            
            
            (1,034,000
            )
            
            (1,969,000
            )Gain
                on resolution of accounts payable, trade
            
            
            445,000
            
            
            -Gain
                on settlement of accounts payable, trade
            
            
            142,000
            
            
            -Loss
                on sale and disposal of marketable securities
            
            
            (1,006,000
            )
            
            -Other
                income/(expense) net
            
            
            46,000
            
            
            (67,000
            )Net
                other expense
            
            
            (1,407,000
            )
            
            (2,036,000
            )Net
                loss before discontinued operations
            
            
            (21,537,000
            )
            
            (25,997,000
            )Discontinued
                operationsLoss
                from operations
            
            
            -
            
            
            (2,772,000
            )Gain
                on disposal
            
            
            -
            
            
            597,000Loss
                from discontinued operations
            
            
            -
            
            
            (2,175,000
            )Net
                loss
            
            
            (21,537,000
            )
            
            (28,172,000
            )Deemed
                dividend associated with beneficial conversion of preferred
                stock
            
            
            -
            
            
            (126,000
            )Preferred
                stock dividend
            
            
            (125,000
            )
            
            (300,000
            )Net
                loss available to common stockholders
            
            $
            (21,662,000
            )
            $
            (28,598,000
            )Basic
                and diluted loss per share before discontinued operations
            
            
            ($0.21
            )
            
            ($0.40
            )Loss
                from discontinued operations
            
            $
            0.00
            
            
            ($0.03
            )Preferred
                stock dividend
            
            $
            0.00
            
            
            ($0.01
            )Basic
                and diluted loss per share available to common
                stockholders
            
            
            ($0.21
            )
            
            ($0.44
            )Weighted
                average basic and diluted common stock outstanding
            
            
            101,426,000
            
            
            64,878,000




See
                accompanying notes to consolidated financial
                statements.





F-3




**VITAL
                LIVING, INC. AND SUBSIDIARIES****Consolidated
                Statements of Cash Flows****Year
                Ended December 31,****2005**
            
            **2004**Cash
                flows from operating activities:Net
                loss
            
            $
            (21,537,000
            )
            $
            (28,172,000
            )Adjustments
                to reconcile net loss to net cash used in operating
                activities:Depreciation
                and amortization
            
            
            2,455,000
            
            
            4,560,000Impairment
                of intangible assets
            
            
            18,356,000
            
            
            14,976,000Interest
                and amortization of costs associated with senior convertible
                notes
            
            
            925,000
            
            
            765,000Issuance
                of common stock for services
            
            
            —
            
            
            754,000Gain
                on settlement of accounts payable, trade
            
            
            (142,000
            )
            
            —Issuance
                of common stock for shareholder penalty interest
            
            
            —
            
            
            287,000Issuance
                of common stock for compensation
            
            
            —
            
            
            581,000Repricing
                of and modifications to warrants
            
            
            (648,000
            )
            
            (1,624,000
            )Amortization
                of restricted common stock, options and warrants issued for
                services
            
            
            155,000
            
            
            941,000Loss
                on discontinued operations
            
            
            —
            
            
            2,772,000Gain
                on disposal of discontiunued operations
            
            
            —
            
            
            (597,000
            )Loss
                on sale of marketable securities
            
            
            471,000
            
            
            —Loss
                on disposal of marketable securities
            
            
            535,000
            
            
            —Gain
                on write off of accounts payable
            
            
            (445,000
            )
            
            —Bad
                debt expense
            
            
            121,000
            
            
            5,000Inventory
                reserve
            
            
            —
            
            
            360,000Loss
                on disposal of property and equipment
            
            
            14,000
            
            
            —Change
                in operating assets and liabilities:Accounts
                receivable, trade
            
            
            (163,000
            )
            
            (197,000
            )Inventory
            
            
            30,000
            
            
            (454,000
            )Prepaid
                expenses and other current assets
            
            
            (12,000
            )
            
            1,113,000Accounts
                payable, trade
            
            
            (233,000
            )
            
            446,000Accrued
                liabilities
            
            
            (242,000
            )
            
            697,000Cash
                used in continuing operations
            
            
            (360,000
            )
            
            (2,787,000
            )Cash
                used by discontinued operations
            
            
            —
            
            
            (763,000
            )Net
                cash used in operating activities
            
            
            (360,000
            )
            
            (3,550,000
            )Cash
                flows from investing activities:Purchases
                of property, equipment and intangibles
            
            
            —
            
            
            (51,000
            )Proceeds
                from sale of property and equipment
            
            
            2,000
            
            
            —Proceeds
                from sale of marketable securities
            
            
            64,000
            
            
            —Proceeds
                from sale of discontinued operations
            
            
            —
            
            
            50,000Cash
                provided by (used in) investing activities
            
            
            66,000
            
            
            (1,000
            )Cash
                flows from financing activities:Payment
                on notes and payables to related parties, net
            
            
            —
            
            
            (31,000
            )Conversion
                of senior secured convertible to common stock
            
            
            —
            
            
            393,000Proceeds
                from sale of common stock, options, and warrants, net of offering
                costs
            
            
            20,000
            
            
            1,932,000Cash
                provided by financing activities
            
            
            20,000
            
            
            2,294,000Effect
                of foreign exchange rates on cash
            
            
            —
            
            
            (6,000
            )Net
                decrease in cash
            
            
            (274,000
            )
            
            (1,263,000
            )Cash
                at beginning of period
            
            
            466,000
            
            
            1,729,000Cash
                at end of period
            
            $
            192,000
            
            $
            466,000See
                accompanying notes to consolidated financial statements.





F-4


**Vital
        Living, Inc.**
 **Consolidated
        Statements of Cash Flows**
 **(continued)**




**Year
                Ended December 31,****2005**
            
            **2004****Supplemental
                cash flow information**Interest
                paid
            
            $
            3,000
            
            $
            218,000**Non
                cash investing activities**Issuance
                of common stock for compensation
            
            $
            —
            
            $
            581,000Issuance
                of common stock for interest
            
            $
            515,000
            
            $
            94,000Issuance
                of common stock for marketable securities
            
            $
            —
            
            $
            1,070,000Issuance
                of common stock for intangibles
            
            $
            70,000
            
            $
            1,642,000Issuance
                of common stock for common stock offering costs
            
            $
            —
            
            $
            80,000Issuance
                of warrants and options for services
            
            $
            —
            
            $
            745,000Issuance
                of warrants for common stock offering
            
            $
            —
            
            $
            625,000Issuance
                of Series A preferred stock dividend
            
            $
            —
            
            $
            250,000Issuance
                of preferred stock for preferred stock dividend in arrears
            
            $
            —
            
            $
            204,000Conversion
                of Series A preferred stock to common stock
            
            $
            —
            
            $
            4,516,000Conversion
                of Series B preferred stock to common stock
            
            $
            —
            
            $
            1,250,000Conversion
                of Series C Preferred to common
            
            $
            500,000
            
            $
            —Conversion
                of senior notes and accrued interest
            
            $
            60,000
            
            $
            301,000Deemed
                dividend associated with beneficial conversion of preferred
                stock
            
            $
            —
            
            $
            127,000See
                accompanying notes to consolidated financial statements.




F-5


**VITAL
                LIVING, INC. AND SUBSIDIARIES**
 **Consolidated
                    Statements of Stockholders’ Equity (Deficit)**
 ——
                        Preferred Stock ——
                    
                    
                    ——
Common
                        Stock ——Shares
                    
                    
                    Par
                        Value
                    
                    
                    Discount
                    
                    
                    Shares
                    
                    
                    Par
                        Value
                    
                    
                    Additional
                        Paid—in—Capital, Common and Preferred
                    
                    
                    Stock,
                        Options and WarrantsUnamortized
                    
                    
                    Treasury
                        Stock
                    
                    
                    Accumulated
                        Other ComprehensiveIncome (Loss)
                    
                    
                    AccumulatedDeficit
                    
                    
                    Total
                        Stockholders Equity (Deficit)Balance
                        December 31, 2003
                    
                    
                    5,910,000
                    
                    $
                    6,000
                    
                    
                    ($127,000
                    )
                    
                    58,269,000
                    
                    $
                    58,000
                    
                    $
                    82,657,000
                    
                    
                    ($597,000
                    )
                    
                    ($72,000
                    )
                    
                    ($43,000
                    )
                    
                    ($37,391,000
                    )
                    $
                    44,491,000Preferred
                        stock conversion
                    
                    
                    (4,615,000
                    )
                    
                    (5,000
                    )
                    
                    —
                    
                    
                    5,068,000
                    
                    
                    5,000
                    
                    
                    
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    —Beneficial
                        conversion of dividend payable
                    
                    
                    205,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    204,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    204,000Amortization
                        of preferred stock beneficial conversion features
                    
                    
                    —
                    
                    
                    —
                    
                    
                    127,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    (127,000
                    )
                    
                    —Common
                        stock issued for services and settlements
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    653,000
                    
                    
                    2,000
                    
                    
                    752,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    754,000Common
                        stock issued for penalty shares
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    357,000
                    
                    
                    
                    
                    
                    287,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    287,000Commons
                        stock issued for marketable securities
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    5,000,000
                    
                    
                    5,000
                    
                    
                    1,065,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    1,070,000Common
                        stock issued for acquisitions of intangibles
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    5,451,000
                    
                    
                    5,000
                    
                    
                    1,637,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    1,642,000Common
                        stock issued for compensation
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    700,000
                    
                    
                    1,000
                    
                    
                    580,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    581,000Common
                        stock returned pursuant to holdback agreement on purchase
                        of
                        ENI
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    (791,000
                    )
                    
                    (1,000
                    )
                    
                    (1,033,000
                    )
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    (1,034,000
                    )Recovery
                        of shares related to COF acquisition
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    (1,850,000
                    )
                    
                    (2,000
                    )
                    
                    (553,000
                    )
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    (555,000
                    )Common
                        stock issued as dividend on Series C Preferred
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    250,000
                    
                    
                    —
                    
                    
                    50,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    (50,000
                    )
                    
                    —Common
                        stock issued as dividend on Series B preferred
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    250,000
                    
                    
                    —
                    
                    
                    250,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    (250,000
                    )
                    
                    —Common
                        stock issued in exchange for Senior Secured Convertible
                        Notes
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    1,205,000
                    
                    
                    1,000
                    
                    
                    300,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    301,000Sale
                        of common stock
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    4,095,000
                    
                    
                    4,000
                    
                    
                    893,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    897,000Options
                        and warrants exercised
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    19,753,000
                    
                    
                    20,000
                    
                    
                    1,015,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    1,035,000Options
                        and warrants issued for services
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    245,000
                    
                    
                    (245,000
                    )
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    —Common
                        stock issued for amortiazble services
                    
                    
                    —
                    
                    
                    
                    
                    
                    
                    
                    
                    606,000
                    
                    
                    1,000
                    
                    
                    302,000
                    
                    
                    (303,000
                    )
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    —Amortization
                        of restricted common stock, options, and warrants issued
                        for
                        services
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    154,000
                    
                    
                    787,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    941,000Re—pricing
                        of options
                    
                    
                    —
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    (1,768,000
                    )
                    
                    144,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    (1,624,000
                    )Net
                        loss
                    
                    
                    —
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    (28,172,000
                    )
                    
                    (28,172,000
                    )Comprehensive
                        loss:
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —Loss
                        on marketable securities
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    (897,000
                    )Change
                        in cumulative translation adjustment
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    (6,000
                    )Comprehensive
                        loss
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    (903,000
                    )
                    
                    
                    
                    
                    (903,000
                    )Balance
                        December 31, 2004
                    
                    
                    1,500,000
                    
                    $
                    1,000
                    
                    $
                    0
                    
                    
                    99,016,000
                    
                    $
                    99,000
                    
                    $
                    87,037,000
                    
                    
                    ($214,000
                    )
                    
                    ($72,000
                    )
                    
                    ($946,000
                    )
                    
                    ($65,990,000
                    )
                    $
                    19,915,000—
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —Common
                        stock issued settlements of accounts payable
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    528,000
                    
                    
                    1,000
                    
                    
                    56,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    57,000Common
                        stock issued for services
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    150,000
                    
                    
                    0
                    
                    
                    6,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    6,000Common
                        stock issued for payment of interest on SR Secured Notes
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    8,972,000
                    
                    
                    9,000
                    
                    
                    506,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    515,000Common
                        stock issued for acquisitions of intangibles
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    1,000,000
                    
                    
                    1,000
                    
                    
                    69,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    70,000Common
                        stock issued as dividend on Series C Preferred
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    250,000
                    
                    
                    —
                    
                    
                    250,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    (250,000
                    )
                    
                    —Conversion
                        of Series C Preferred to common stock
                    
                    
                    (500,000
                    )
                    
                    —
                    
                    
                    —
                    
                    
                    500,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    —Common
                        stock issued in exchange for Senior Secured Convertible
                        Notes
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    250,000
                    
                    
                    1,000
                    
                    
                    60,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    61,000Sale
                        of common stock
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    357,000
                    
                    
                    —
                    
                    
                    20,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    20,000Forfeitable
                        stock awards
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    1,102,000
                    
                    
                    1,000
                    
                    
                    (105,000
                    )
                    
                    104,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    —Amortization
                        of restricted common stock, options, and warrants issued
                        for
                        services
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    149,000
                    
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    149,000Re—pricing
                        of options
                    
                    
                    —
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    (648,000
                    )
                    
                    —
                    
                    
                    —
                    
                    
                    
                    
                    
                    (648,000
                    )Net
                        loss
                    
                    
                    —
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    (21,537,000
                    )
                    
                    (21,537,000
                    )Comprehensive
                        loss:Sale
                        of marketable securities
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    448,000Loss
                        on marketable securities
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    449,000Comprehensive
                        gain/(loss)
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    897,000
                    
                    
                    
                    
                    
                    897,000—
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —Balance
                        December 31, 2005
                    
                    
                    1,000,000
                    
                    $
                    1,000
                    
                    $
                    0
                    
                    
                    112,125,000
                    
                    $
                    112,000
                    
                    $
                    87,899,000
                    
                    
                    ($609,000
                    )
                    
                    ($72,000
                    )
                    
                    ($49,000
                    )
                    
                    ($87,777,000
                    )
                    
                    ($495,000
                    )
 F-6


**VITAL
      LIVING, INC. AND SUBSIDIARIES**


**Notes
      to Consolidated Financial Statements**


**Note
        1 - Organization and Description of Business**
 
 We
        were
        incorporated in the state of Nevada on January 22, 2001 under the name
        Nutritional Systems, Inc. We acquired substantially all of the assets of
        Vital
        Living, Inc. effective May 7, 2001 and changed our name to Vital Living,
        Inc. on
        May 20, 2001. We then merged with VCM Technology Limited, a company reporting
        under the Securities Exchange Act of 1934, on August 16, 2001. As set forth
        in
        the terms of the merger agreement, we acquired all of the outstanding shares
        of
        common stock of VCM from its sole stockholder in exchange for 5,062 shares
        of
        restricted common stock. Following the merger, we continued as the surviving
        corporation and commenced reporting under the Securities Exchange Act of
        1934 by
        assuming the reporting status of VCM, which in turn provided us with the
        ability
        to file for quotation on the Over-the- Counter Bulleting Board under the
        symbol
“VTLV”.
 
 Through
        a
        series of various acquisition and divestiture activities, as described further
        below, we develop and market nutritional supplements and nutraceuticals products
        for distribution primarily through healthcare practitioners. Through a licensing
        agreement, we also have certain rights for the use of a pharmaceutical delivery
        system known as “GEOMATRIX®.” Our principal products currently are GreensFIRST®,
        Dream ProteinTM, Red AlertTM, and Complete EssentialsTM.
  Nutritional
        supplements represent a convenient and cost-effective way for an individual
        to
        obtain the nutritional benefits of whole foods. Nutritional supplements are
        formulated from whole foods and are intended to provide for improved health,
        reduced risk of diseases, and the delay onset of age related indicators while
        resulting in little added caloric and fat intake. Nutritional supplements
        come
        in powder, capsule, cracker, and other forms. Nutraceuticals, consisting
        of
        vitamins, minerals, herbs, and supplements, are products that are isolated
        or
        purified from foods and generally sold in medicinal forms not usually associated
        with foods, including tablets, capsules, and drops. Nutraceuticals are intended
        to have physiological benefits or have the ability to reduce the risk of
        chronic
        disease beyond basic nutritional products. We develop and test our
        nutraceuticals in collaboration with leading medical experts in the
        nutraceuticals field. We have designed our products to be incorporated by
        healthcare practitioners into standard patient routines in which healthcare
        practitioners recommend and sell our nutritional supplements and nutraceuticals
        products to their patients. Use of vitamins, minerals, herbs, and nutritional
        supplements continues to rise as consumers seek nutritional products to improve
        general health, increase longevity, and enhance the overall quality of life.
  In
        November 2002, we acquired MAF BioNutritionals, LLC, or “MAF”. MAF formulates,
        markets, and distributes natural and organic food-based, preventative
        nutraceuticals and therapeutic and functional food products designed to support
        proactive human cell maintenance and rehabilitation, essential in the prevention
        and treatment of disease, as well as overall optimal body performance and
        metabolic function. As further described in Note 9, we sold the primary assets
        of MAF and discontinued its operations in September 2004.
 
 In
        July
        2003, we completed the acquisition of the assets and assumption of certain
        liabilities of Christopher’s Original Formulas, Inc., or “COF”. Through this
        acquisition, we gained the exclusive licensing and marketing rights to
        Christopher’s products, a line of over 300 herbal formulas and products,
        consisting primarily of naturally occurring organic substances, sold to
        professionals and at retail locations throughout the United States. The COF
        operations were accounted for under our Natures’ Systems, Inc., or “NSI”,
        subsidiary. The COF operations comprised NSI’s sole activity. As described in
        Note 9, we sold certain assets and liabilities of NSI back to the previous
        owners of COF and discontinued its operations in July 2004.
 
 In
        August
        2003, we completed the acquisition of E-Nutraceuticals, Inc., or “ENI”. In
        addition, through a collaborative partnership with SkyePharma, PLC, (“Skye”), a
        UK pharmaceuticals company and a major shareholder of ours, we are exploring
        opportunities that utilize Skye’s FDA-approved, proprietary delivery systems.
        Pursuant to an amended Development and License Agreement between the parties,
        we
        acquired exclusive rights to Skye’s drug delivery technology, GEOMATRIX® (see
        note 7), and marketing and royalty rights to pharmaceutical sales using
        GEOMATRIX® in the Peoples Republic of China, Taiwan, and Hong Kong. During 2005
        we recorded a gain from the resolution of $445,000 of accounts payable related
        to the ENI acquisition as a result of the resolution of those
        payables.
 
 In
        October 2003, we completed the acquisition of Doctors For Nutrition, Inc.,
        or
“DFN”. DFN’s product line includes GreensFIRST®, a highly concentrated
        formulation of fruits and vegetables. One serving of the product has the
        antioxidant power of over 10 servings of fruits and vegetables. We currently
        distribute GreensFIRST® through health practitioner offices throughout the
        United States. DFN introduced Red AlertTM, a complementary product in June
        2005.
 
 In
        August
        2004, we consummated a joint venture with Wellness Watchers International,
        Inc.,
        or WWI, and together formed Wellness Watchers Systems, LLC, or WWS. We and
        WWI
        originally each owned 50% of WWS. The operating agreement gave us overall
        operating responsibility. WWS manufactures a proprietary brand of dietary
        protein powder called Dream ProteinTM, which is directly marketed to the health
        practitioners together with our GreensFIRST® product. WWS plans to introduce
        complementary products that will be marketed as part of WWS’ Healthy Living
        Program®. Part of WWI’s contribution to WWS was the exclusive licensing of
        certain products, client lists and marketing strategies, which included Dream
        ProteinTM. WWS has developed a unique marketing strategy that channels products
        directly to health practitioners. Prior to forming WWS, WWI had no prior
        operating history. During February 2005, we purchased WWI’s 50% interest in WWS.
        In conjunction with our acquisition of the remainder of WWS and certain other
        marketing and operation strategic productivity decisions, during the first
        quarter of 2005, we consolidated the operations of WWS into DFN.
  F-7
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 Going
        concern
 
 The
        accompanying consolidated financial statements have been prepared assuming
        we
        will continue on a going concern basis, which contemplates the realization
        of
        assets and the satisfaction of liabilities in the normal course of business.
        We
        have suffered recurring losses from operations, have a working capital deficit,
        and have depended on funding from sources other than operations. Since
        inception, we have been required to raise additional capital by the issuance
        of
        both equity and debt securities. There are no commitments from funding sources,
        debt or equity, in the event that cash flows are not sufficient to fund ongoing
        operations or other cash commitments as they come due. These factors raise
        substantial doubt about our ability to continue as a going concern. We may
        be
        required to raise additional capital in the near term through offerings of
        securities to fund our operations and will attempt to continue raising capital
        resources if we do not begin to generate revenue sufficient to maintain
        ourselves as a viable entity. No assurance can be given that such financing
        will
        be available or, if available, that it will be available on commercially
        favorable terms. Moreover, available financing may be dilutive to current
        investors.
 
 We
        are in
        the process of improving, acquiring, or developing products for sale that
        would
        generate revenue to sustain our operations, as well as consolidating our
        operations in order to gain cost synergies and efficiencies. If successful,
        these actions will serve to mitigate the factors that have raised doubt about
        our ability to continue as a going concern and increase the availability
        of
        resources for funding of our current operations and future market development.
        The consolidated financial statements do not include any adjustments relating
        to
        the recoverability and classification of recorded assets or liabilities that
        might be necessary should we be unable to continue as a going
        concern.
 
 **Note
        2 - Summary of Significant Accounting Policies**
 
 Principles
        of consolidations
 
 The
        consolidated financial statements include Vital Living, Inc. and its wholly
        owned domestic subsidiaries (collectively, “We”,"Vital Living", or the
        "Company"). Consolidated financial statements are financial statements of
        a
        parent company and its subsidiaries presented as if the entities were a single
        economic unit. Although the assets, liabilities, revenues, and expenses of
        all
        entities are combined to provide a single set of financial statements, certain
        eliminations and adjustments are made. These eliminations are necessary to
        ensure that only arm's-length transactions between independent parties are
        reflected in the consolidated statements; transactions between the parent
        and
        its’ subsidiaries are eliminated.
 
 Investments
        in marketable securities
 
 Investments
        in marketable securities consist of corporate equity securities, which are
        stated at market value. We currently classify all investment securities as
        available-for-sale. Unrealized gains and losses on such securities, net of
        the
        related income tax effect, are excluded from earnings and report as a separate
        component of stockholders’ equity until realized. Realized gains and losses are
        included in earnings and are derived using the specific identification method
        for determining the cost of the securities sold.
 
 Investments
        in marketable securities consisted of the following at December
        31:
 2005
                
                2004Gross
                
                
                
                
                
                GrossUnrealized
                
                Market
                
                
                
                Unrealized
                
                MarketCost
                
                Loss
                
                Value
                
                Cost
                
                Loss
                
                ValueLangley
                    Park
                
                $
                -
                
                $
                -
                
                $
                -
                
                $
                1,070,000
                
                $
                (897,000
                )
                $
                173,000
 
 F-8
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 During
        2004, we
        invested in common stock of Langely Park “Langley”, an entity traded on the
        London stock exchange. In December 2005 we sold 50% of the investment for
        net
        proceeds of $64,000 which resulted in a realized loss of $471,000. Under
        the
        terms of the purchase agreement 50% of the shares were held in escrow subject
        to
        return to Langely if the price of Vital Living stock failed to maintain a
        certain floor price. Our remaining interest in Langely at December 31, 2005
        was
        written off with a realized loss of $535,000 per managements’ analysis that the
        shares would ultimately be returned to Langely.
 
 Accounts receivable,
        trade
 
 The
        company extends unsecured credit to its’ customers under normal trade agreements
        which generally require payment within 30-90 days. We determine any required
        allowance by considering numerous factors, including the length of time trade
        accounts receivable are past due and our loss history. Receivables are
        considered past due when they are unpaid greater than 30 days from the due
        date.
        We record an allowance for accounts when they become uncollectible, and payments
        subsequently received on such accounts are reflected as a reduction of that
        allowance. The allowance for doubtful accounts was $53,000 at December 31,
        2005.
        Bad debt expense amounted to $121,000 and $5,000 in 2005 and 2004,
        respectively.
 
 Inventor y
 
 Inventory
        is stated at the lower of cost (first-in, first-out method) or market, and
        consist of products available for sale and raw materials. At December 31,
        2005,
        inventory amounted to $111,000, net of a reserve of $360,000.
 Property
        and equipment
 
 Property
        and equipment consists of office furniture, fixtures, and equipment, including
        computer hardware and software and various leasehold improvements. We record
        Property and equipment at cost. We provide for depreciation and amortization
        on
        a straight-line basis over the estimated useful lives ranging from three
        to
        ten years.
 
 Goodwill
 
 Goodwill
        represents the excess of the aggregate price paid by us over the value of
        the
        net equity acquired in an acquisition. In accordance with SFAS No. 142,
“Goodwill and Other Intangible Assets,” we are no longer required to amortize
        goodwill, but are required to review goodwill for impairment at least annually
        or whenever events indicate that the carrying amount of the asset may not
        be
        recoverable in accordance with SFAS No. 144, “Accounting for the Impairment or
        Disposal of Long-Lived Assets.” As of December 31, 2005 and 2004, no events had
        occurred that would indicate goodwill had been impaired (see Note
        5).
 
 Intangible
        assets
 
 Our
        other
        intangible assets include trademarks, patents, formulations, customer lists,
        and
        various marketing and license agreements. We amortize intangible assets on
        a
        straight-line basis over the lesser of the correlating agreements or estimated
        useful lives ranging from two to 14 years. During 2005 and 2004 certain events
        occurred that indicated that the intangible assets of ENI had been impaired
        and
        charges of $18,356,000 and $14,976,000, respectively were recorded (see Note
        5).
 
 Long-lived
        assets
 
 We
        review
        long-lived assets and identifiable other intangible assets to be held and
        used
        for impairment at least annually or
 whenever
        events or changes in circumstances indicate that the carrying amount may
        not be
        recoverable. We evaluate goodwill and other intangible assets arising from
        various acquisitions for impairment on at least an annual basis or when events
        occur that would indicate that impairment had occurred. We measure impairment
        by
        comparing the carrying value of the long-lived assets to the estimated
        undiscounted future cash flows expected to result from use of the assets
        and
        their eventual disposition. As of December 31, 2005, events had occurred
        that
        would indicate goodwill or other intangibles had been impaired; accordingly,
        an
        impairment loss was recorded (see Note 5).
  F-9
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 Deferred
        charges
 
 We
        capitalize costs associated with the issuance of debt instruments. We amortize
        these costs on a straight-line basis over the term of the debt instruments.
        Amortization expense was $925,000 ($227,000 for deferred debt issue costs
        and
        $698,000 for debt discount) and $765,000 for the years ended for the year
        ended
        December 31, 2005 and 2004, respectively. These amounts are recorded as a
        component of interest expense on the accompanying consolidated statement
        of
        operations.
 
 Financial
        instruments
 
 Our
        financial instruments consist of cash, receivables, payables, and long-term
        debt. The carrying amount of cash, receivables, and payables approximates
        fair
        value because of the short-term nature of these items. The carrying amount
        of
        long-term debt as of December 31, 2005 approximates fair value because interest
        rates and debt discounts are reflective of market rates.
 
 Concentrations
        of credit risk
 
 Financial
        instruments that potentially subject us to concentrations of credit risk
        consist
        principally of cash. At various times during the year, our cash balances
        may be
        in excess of federally insured limits. We maintain our cash, which consists
        primarily of demand deposits, with high-quality financial institutions, which
        we
        believe limits this risk.
 
 Acquisitions
 
 We
        account for acquisitions in accordance with Statement of Financial Accounting
        Standards, (“SFAS”) No. 141 “Business Combinations” and accordingly apply the
        purchase method of accounting for all business combinations initiated after
        June
        30, 2001 and separately identify recognized intangible assets that meet the
        criteria and amortize these assets over their determinable useful lives.
 
 Accounting
        estimates
 
 The
        preparation of financial statements in conformity with generally accepted
        accounting principles in the United States of America requires us to make
        estimates and assumptions that affect the reported amounts of assets and
        liabilities at the date of the financial statements and the reported amounts
        of
        revenues and expenses during the reporting period. Some of the more significant
        estimates required to be made include the valuation of inventory, intangible
        assets, and equity based transactions. Actual results could differ from such
        estimates.
 
 Income
        taxes
 
 We
        account for income taxes in accordance with SFAS No. 109, “Accounting for Income
        Taxes.” Under the asset and liability approach specified by SFAS No. 109, a
        deferred tax asset or liability is determined based on the difference between
        the financial statement and tax basis of assets and liabilities as measured
        by
        the enacted rates that will be in effect when these differences reverse.
        Deferred tax assets are recorded at their likely realizable
        amounts.
 Revenue
        recognition
 
 We
        recognize revenue when products are shipped to customers. Our return policy
        provides for an unconditional guarantee to our customers for a full refund
        of
        any unused product, including product that has exceeded its expiration date.
        All
        returns are subject to quality assurance reviews before acceptance. When
        necessary, we provide an allowance for returned product as a reduction of
        revenue based on estimates and historical experience with individual customers.
        We offer, from time to time, volume and promotional discounts on the products
        we
        sell. We record these discounts as a reduction of revenue.
 
 Comprehensive
        income
 
 SFAS
        No.
        130, "Reporting Comprehensive Income," establishes standards for the reporting
        and display of comprehensive income and its components within the financial
        statements. Other comprehensive income consists of charges to stockholders'
        equity, other than contributions from or distributions to stockholders, excluded
        from the determination of net income. Our other comprehensive income consists
        of
        unrealized gains and losses on available for sale securities and foreign
        currency translations. We do not provide for U.S. income taxes on foreign
        currency translation adjustments since we do not provide for such taxes on
        undistributed earnings of foreign subsidiaries.
  F-10
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 Foreign
        currency translation
 
 Translation
        of foreign currency transactions to U.S. dollars occurs using the current
        exchange rate. Translation gains or losses are recognized in "accumulated
        other
        comprehensive loss” as a component of stockholders' deficit in the accompanying
        consolidated balance sheets. These transactions relate to operations in 2004
        that are no longer occurring in 2005.
 
 Research
        and development
 
 We
        expense research and development costs relating to both present and future
        products when incurred. Research and
 development
        costs amounted to $72,000 and $1,180,000 for the years ended December 31,
        2005 and 2004, respectively.
 
 Net earnings
        per share
 
 We
        account for earnings per share (“EPS”) in accordance with SFAS No. 128,
“Earnings Per Share,” which establishes the requirements for presenting EPS.
        SFAS No. 128 requires the presentation of “basic” and “diluted” EPS on the face
        of the income statement. Basic earnings per share begins with income (loss)
        applicable to common stockholders (net income (loss) less preferred stock
        dividends) and is based on the weighted average number of common shares
        outstanding during each period presented. Diluted EPS assumes the exercise
        of
        all stock options and warrants having exercise prices less than the average
        market price of the common stock using the treasury stock method. For the
        purpose of diluted earnings per common share, and only if such calculation
        results in dilution, preferred stock dividends will not reduce earnings;
        however, the weighted average common shares outstanding would increase
        representing the amount of common shares into which such preferred stock
        is
        currently convertible. During the years ended December 31, 2005 and 2004,
        we
        reported a net loss from operations; thus, the effects of dilutive securities
        were anti-dilutive, rendering basic and diluted loss per share the same.
        Convertible preferred stock, warrants, and options to purchase common stock
        are
        included as common stock equivalents only when dilutive. Potentially dilutive
        securities excluded from the loss per share calculation for the years ended
        December 31, 2005 and 2004 are as follows:
 2005
                
                2004Convertible
                    preferred stock
                
                
                1,000,000
                
                
                1,500,000Convertible
                    debt
                
                
                17,610,000
                
                
                17,860,000Warrants
                
                
                30,580,000
                
                
                30,455,000Employee
                    options
                
                
                13,801,000
                
                
                401,00062,991,000
                
                
                50,216,000
 Stock
        based compensation
 
 We
        account for our stock option plans in accordance with the provisions of SFAS
        No.
        123, “Accounting for Stock Based Compensation,” as amended by SFAS No. 148
“Accounting for Stock-Based Compensation-Transition and Disclosure.” SFAS No.
        123 permits entities to recognize as expense over the vesting period the
        fair
        value of all stock-based awards on the date of grant. Alternatively, SFAS
        No.
        123 also allows entities to apply the provisions of Accounting Principles
        Board
        (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” and related
        interpretations and provide pro forma net income or loss and pro forma earnings
        per share disclosures for employee stock option grants as if the
        fair-value-based method defined in SFAS No. 123 had been applied.
 
 We
        are
        subject to reporting requirements of FASB Financial Interpretation No. (“FIN”)
        44, “Accounting for Certain Transactions Involving Stock Compensation,” which
        requires a non-cash charge to compensation expense if the price of our common
        stock on the last trading day of each reporting period is greater than the
        exercise price of certain stock options. After the first such adjustment
        is
        made, each subsequent period is adjusted upward or downward to the extent
        that
        the trading price exceeds the exercise price of the options.
 
 We
        account for our incentive plans under the recognition and measurement principles
        of Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock
        issued to Employees,” and related Interpretations. No stock-based employee
        compensation (except that related to re-priced warrants in accordance with
        FIN
        No. 44) is reflected in net loss, as all options and warrants granted had
        an
        exercise price equal to or below the market value of the underlying common
        stock
        at the date of grant.
  F-11
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 The
        fair
        value of our stock-based awards to employees was estimated using the
        Black-Scholes option-pricing model. The Black-Scholes model was developed
        for
        use in estimating the fair value of traded options that have no vesting
        restrictions and are fully transferable. In addition, the Black-Scholes model
        requires the input of highly subjective assumptions, including the expected
        stock price volatility. Because our stock-based awards have characteristics
        significantly different from those of traded options and because changes
        in the
        subjective input can materially affect the fair value estimate, in our opinion,
        the existing models do not necessarily provide a reliable single measure
        of the
        fair value of our stock-based awards to employees. The fair value of our
        stock-based awards (including re-priced warrants discussed above) was estimated
        assuming no expected dividends and the following weighted average assumptions
        for the years ended December 31:
 2005
                
                2004Expected
                    life in years
                3.00
                
                4.00Expected
                    stock price volatility
                180%
                
                33.49%Risk-free
                    interest rate
                4.00%
                
                3.14%Average
                    fair value per option/warrant
                $0.05
                
                $0.68
 
 For
        pro
        forma purposes, the estimated fair value of our stock-based awards to employees
        is amortized over the respective vesting periods.
 
 The
        following table illustrates the effect on net loss and net loss per share
        if we
        had applied the fair value recognition provisions of Statement of Accounting
        Standards (“SFAS”) No. 123, “Accounting for Stock-Based Compensation,” to our
        stock-based employee compensation for the years ended December
        31:
 2005
                
                2004Net
                    loss - as reported
                
                $
                (21,537,000
                )
                $
                (28,172,000
                )Add:Stock
                    based compensation included in determination of net loss
                
                
                
                
                
                581,000Re-pricing
                    of warrants
                
                
                (648,000
                )
                
                (1,468,000
                )Deduct:Stock
                    based employee compensation determined under fair value
                    basedmethod
                    for all awards, net of related tax effects
                
                
                (689,000
                )
                
                (54,000
                )Net
                    loss - pro forma
                
                
                (22,874,000
                )
                
                (29,113,000
                )Deemed
                    dividend associated with beneficial conversion of preferred
                    stock
                
                
                -
                
                
                (126,000
                )Series
                    A Preferred stock dividend
                
                
                -
                
                
                (50,000
                )Series
                    C Preferred stock dividend
                
                
                (125,000
                )
                
                (250,000
                )Net
                    loss available to common stockholders - pro forma
                
                $
                (22,999,000
                )
                $
                (29,539,000
                )Basic
                    and diluted loss per shareBasic
                    and diluted loss per share, before discontinued operations -
                    as
                    reported
                
                $
                (0.21
                )
                $
                (0.40
                )Basic
                    and diluted loss per share available to common stockholders -
                    asreported
                
                $
                (0.21
                )
                $
                (0.44
                )Basic
                    and diluted loss per share - pro forma
                
                $
                (0.23
                )
                $
                (0.45
                )Basic
                    and diluted loss per share available to common stockholders -
                    pro
                    forma
                
                $
                (0.23
                )
                $
                (0.46
                )Weighted
                    average basic and diluted common stock outstanding
                
                
                101,426,000
                
                
                64,878,000
 
 We
        granted warrants to our CEO in 2003. These warrants were subsequently re-priced.
        As a result of this re-pricing, the award is now accounted as a variable
        award. Due
        to a
        decline in the trading price of our common stock, there was a reduction in
        salaries and wages of $648,000 and $1,468,000 for the adjustments of the
        variable award for the years ended December 31, 2005 and 2004,
        respectively.
  F-12
  **VITAL
        LIVING, INC. AND SUBSIDIARIES**
 **Notes
        to Consolidated Financial Statements**
  Recent
        accounting pronouncements
 
 In
        December 2004 the FASB issued a revised Statement 123 (SFAS 123R),
“Accounting for Stock-Based Compensation” requiring public entities to measure
        the cost of employee services received in exchange for an award of equity
        instruments based on grant date fair value. The cost will be recognized over
        the
        period during which an employee is required to provide service in exchange
        for
        the award — usually the vesting period. The effective date for this
        statement is as of the first interim period that begins after June 15,
        2005. The Company is evaluating the impact of this new pronouncement and
        has not
        yet estimated the effect of implementation on the Company’s financial
        statements.
 
 **Note
        3 - Mergers and** **acquisitions**
  Wellness
        Watchers Systems, LLC.
  In
        August
        2004, we consummated a joint venture with Wellness Watchers International,
        Inc.,
        or WWI, and together formed Wellness Watchers Systems, LLC, or WWS. We
        originally paid WWI $805,000 for our 50% interest in WWS. The purchase price
        consisted of 3,000,000 shares of our common stock along with a $25,000 cash
        payment made in August 2004. During 2005, we purchased WWI’s 50% interest in WWS
        by issuing an additional 1,000,000 shares of common stock recorded as a $70,000
        increase in goodwill.
  **Note
        4 - Property and equipment**
 ****  ****
 Property
        and equipment consists of the following at December 31:
 2005Computer
                    hardware and software
                
                $
                60,000Office
                    furniture and fixtures
                
                
                24,000Machinery
                    and equipment
                
                
                28,000Leasehold
                    improvements
                
                
                0Gross
                    property and equipment
                
                
                112,000Less
                    accumulated depreciation
                
                
                (85,000
                )Net
                    property and equipment
                
                $
                27,000
 
 Depreciation
        and amortization expense was $25,000 and $37,000 for the years ended December
        31, 2005 and 2004, respectively.
 
 **Note
        5 - Intangible assets**
 ****  ****
 Intangible
        assets consisted of the following at December 31:
  F-13
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 Un-Amortizable
                    intangible assetsGoodwill
                
                $
                3,296,000Amortizable
                    intangible assets
                
                Gross
                
                Accumulated
                
                NetCarrying
                
                Amortization
                
                CarryingAmount
                
                and
                    Impairment
                
                AmountLicense
                    agreement - Geomatrix
                
                $
                34,661,000
                
                $
                (34,661,000
                )
                $
                -License
                    agreement - X-Fat
                
                
                4,093,000
                
                
                (4,093,000
                )
                
                -Marketing
                    agreement
                
                
                4,304,000
                
                
                (4,304,000
                )
                
                -Trademarks
                    and patents
                
                
                20,000
                
                
                (6,000
                )
                
                14,000Total
                    amortizable intangible assets
                
                $
                43,078,000
                
                $
                (43,064,000
                )
                $
                14,000Estimated
                
                AccumulatedAmortization
                
                AmortizationExpense
                
                ExpenseFor
                    the year ended December 31, 2006
                
                $
                2,000
                
                $
                43,066,000For
                    the year ended December 31, 2007
                
                
                1,000
                
                
                43,067,000For
                    the year ended December 31, 2008
                
                
                2,000
                
                
                43,069,000For
                    the year ended December 31, 2009
                
                
                1,000
                
                
                43,070,000For
                    the year ended December 31, 2010
                
                
                1,000
                
                
                43,071,000For
                    the year ended December 31, 2011
                
                
                2,000
                
                
                43,073,000For
                    the year ended December 31, 2012
                
                
                1,000
                
                
                43,074,000For
                    the year ended December 31, 2013
                
                
                1,000
                
                
                43,075,000For
                    the year ended December 31, 2014
                
                
                2,000
                
                
                43,077,000For
                    the year ended December 31, 2015
                
                
                1,000
                
                
                43,078,000Totals
                
                $
                14,000
                
                $
                43,078,000
  Impairment
        Analysis
 
 As
        required by SFAS No. 142, we continually test goodwill or other intangibles
        created by each acquisition for impairment. These assets are tested for
        impairment at least annually, or upon occurrence of such events that may
        indicate impairment exists. We revised the earnings forecast for the next
        five
        years and evaluated the change in fair value of each component of goodwill
        using
        the expected present value of future cash flows. Impairment was due to a
        combination of factors, including acquisition price, increased market
        competition, and operating performance. As a result of this process, during
        2005, we determined that certain intangible assets were impaired. Accordingly,
        during 2005, we recorded an impairment charge of $18,356,000 relating to
        the
        GEOMATRIX® licensing agreement. During 2004, we recorded impairment charges
        totaling $14,976,000, consisting of $9,545,000, $1,727,000 and $3,704,000
        related to the GEOMATRIX® licensing agreement, the ENI China marketing
        agreement, and the X-Fat marketing agreement, respectively.
 
 As
        a
        result of our review, goodwill was deemed to be fairly stated at December
        31,
        2005. The goodwill of $3,296,000 is attributable to previous acquisitions
        as
        follows:
 DFN
                
                $
                2,421,000WWS
                
                
                875,000Total
                
                $
                3,296,000
  F-14
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 
 **Note
        6 - Long-Term Debt**
 
 In
        December 2003, we borrowed an aggregate principal amount of approximately
        $4.58
        million in the form of Senior Secured Convertible Notes (the “Secured Notes”),
        due December 17, 2008, in a private placement, subject to certain registration
        rights, generating cash proceeds of $2.5 million, net of cash debt issue
        costs
        of $538,000. At time of issuance the Secured Notes bore interest at a rate
        of
        12% per annum, 8% of which was payable semi-annually in cash each June and
        December, while 4% per annum could be paid, at our discretion, in cash or
        our
        common stock at a price equal to the ten-day average trading price of our
        common
        stock five business days prior to the relevant interest payment date. In
        October
        2004, we agreed with the holders of the Secured Notes and warrants to reduce
        the
        conversion price and exercise price of those securities to $0.24 per share.
        There was no expense recorded relative to the reduction in the conversion
        price.
        The reduction of the conversion price is permanent and there was no time
        limit
        placed on the reduced conversion price, therefore it was determined not to
        be a
        an inducement to convert as that term is defined in Statement of Financial
        Accounting Standards No. 84 Induced Conversions of Convertible Debt . In
        exchange for this reduction:
 
 We
        agreed
        to include the additional shares of common stock that are now issuable upon
        conversion of the outstanding Secured Notes as a result of the reduction
        in the
        conversion price in the next registration statement we file with the Securities
        and Exchange Commission ("New Registration Statement"). The shares of common
        stock originally convertible under the Secured Notes are registered for resale
        under our Registration Statement on Form SB-2 (SEC File No. 333-111921)
        ("Registration Statement"), which was declared effective by the SEC on August
        13, 2004. We are now entitled to pay all 12% interest due on the Secured
        Notes
        in either cash or shares of our common stock, at our sole option, commencing
        with the interest payment due in December 2004. We were originally required
        to
        pay the 12% interest on the senior convertible promissory notes at the rate
        of
        8% per annum in cash and had the option to pay the remaining interest at
        the
        rate of 4% per annum in cash or shares of common stock. The shares of common
        stock representing the 4% interest payments are registered for resale under
        the
        Registration Statement. We have agreed to include the additional shares of
        common stock representing the 8% interest payments in the New Registration
        Statement; and all penalties that we were required to pay as a result of
        our
        failure to have the Registration Statement declared effective by April 15,
        2004
        will be payable by our in shares of common stock ("Penalty Stock") at a price
        equal to $0.258. Such shares will be included on the New Registration Statement.
 
 In
        2005
        and 2004, certain note holders converted $60,000 and $301,000, respectively,
        of
        their note into common stock.
 
 We
        may
        redeem the Secured Notes commencing December 15, 2004, provided the ten-day
        average trading price of our common stock prior to the redemption is at least
        $3.00 per share. The Secured Notes are collateralized by our assets, have
        priority in right of payment over all our indebtedness, and include certain
        provisions related to change in control, reorganization, recapitalization,
        and
        other adjustments. In addition, the Secured Note holders received 4,588,000
        warrants to purchase shares of common stock at an exercise price of $1.00
        per
        share. The fair value of these warrants of $1,084,000 was recorded and charged
        immediately to interest expense during 2003 as the warrants were fully vested
        and the related notes fully convertible at the date of issuance.
 
 Amounts
        charged to interest expense during the year ended December 31, 2005 and 2004
        totaled $227,000 and $255,000 respectively.
 
 In
        connection with our 2002 MAF acquisition, we began making payments on a
        pre-existing SBA loan. We have made no payments of principal or interest
        against
        this loan since September 2004. We entered into an agreement to sell the
        Boulder
        Bar product line and the purchaser assumed this debt. However, the purchaser
        has
        not complied with the terms of the agreement and we are seeking legal remedies.
        The principal balance of the loan is approximately $398,000 at December 31,
        2005
        and accrues interest at 8.25%. We have $401,000 included in our current
        liabilities related to this obligation.
 
 Long-term
        debt consists of the following at December 31, 2005:
  F-15
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 Secured
                    Notes$4,226,000
                    Secured Notes; maturity December 2008;interest
                    at 12% per annum (may be paid in cash orcommon
                    stock); principal due at December 17, 2008
                
                $
                4,226,000Total
                
                
                4,226,000Less
                    unamortized debt discount
                
                
                (1,442,000
                )Net
                    long-term debt
                
                $
                2,784,000
 
 Aggregate
        maturities of long-term debt for the subsequent five years ending December
        31
        are as follows:
 2005
                
                $
                -2007
                
                
                -2008
                
                
                4,226,0002009
                
                
                -2010
                
                
                -Total
                
                $
                4,226,000
  **Note
        7 - Commitments and contingencies**
 
 From
        time
        to time, we are party to a variety of legal proceedings arising out of the
        normal course of business, including cases in which damages may be sought.
        We
        believe we have a valid defense and are vigorously defending any pending
        litigation. While the results of litigation cannot be predicted with certainty,
        we do not believe that the outcome of these proceedings will have a material
        adverse effect on our consolidated financial position, results of operations,
        or
        cash flows.
 
 As
        discussed in Note 9 we are in legal proceedings with the previous owners
        of COF
        over the re-purchase by them of the COF operations. On May 6 th ,
        2005
        Christophers’ Original Formulas, SFMB, Inc., Robert C Scott, Norman Bacala, and
        Ruth Christopher filed a complaint against Vital Living, Inc., Natures Systems,
        Inc., James R Jeppson, Stuart Benson, and Donald Hannah in the Third Judicial
        District Court for Salt Lake County, State of Utah. The Complaint alleges
        damages in excess of $400,000 relating to alleged breaches of a Settlement
        and a
        Release Agreement dated July 9, 2004. Vital Living and the other defendants
        have
        filed a Motion to Dismiss the action based on a variety of legal theories.
        The
        Company and related defendants also intend to vigorously defend against the
        claims of the plaintiffs. No evaluation presently can be made as to the final
        outcome of this case or the likelihood or range of potential recovery loss,
        if
        any, to the company.
 
 We
        lease
        office space under non-cancelable operating leases that expire through 2007.
        Future minimum lease payments under non-cancelable operating leases for the
        subsequent five years ending December 31 are approximately as
        follows:
 2006
                
                $
                130,0002007
                
                
                75,0002008
                
                
                -2009
                
                
                -2010
                
                
                -Total
                
                $
                205,000
 
 Total
        rent expense was $103,000 and $111,000 for the years ended December 31, 2005
        and
        2004, respectively.
 
 In
        connection with the ENI acquisition, we became party to a Development and
        License Agreement and subsequent Amendment (collectively, the “ENI Agreements”)
        with SkyePharma, PLC (“Skye”). The ENI Agreements provide for certain product
        identification and license exclusivity rights on nutraceutical products
        utilizing Skye’s patented drug-delivery technologies, GEOMATRIX®, in exchange
        for various commitments as follows:
 
 ·
              In
                  consideration for the ENI Agreement and development services through
                  2004
                  and contingent on additional debt or equity financing of $3.0 million,
                  we
                  were obligated to pay Skye $1.0 million in four equal installments
                  beginning January 1, 2004 and each first day of each calendar quarter
                  thereafter.
 
 F-16
 
 **VITAL
            LIVING, INC. AND SUBSIDIARIES**
 **Notes
            to Consolidated Financial Statements**
 ·
              We
                  may retain our right to identify new product candidates and license
                  them
                  exclusively through the later of December 31, 2017 or the expiration
                  of
                  Skye’s corresponding patents, provided at least four such product
                  candidates are identified by us and approved by Skye, or Skye receives
                  $1.0 million in product development fees, per calendar year beginning
                  January 1, 2005. As described below we are in the process of renegotiating
                  the Skye agreement.
 
 ·
              We
                  are obligated to pay Skye royalties equal to 10% of net sales generated
                  from the products, as defined, quarterly in arrears. Through December
                  31,
                  2005 we have generated no sales of any products related to the
                  Skye
                  agreement.
 
 Should
        we
        fail to meet the above commitments, product selection and license exclusivity
        rights will terminate at the end of the respective calendar year without
        effect
        on rights attained in prior years. As of December 31, 2004, we had failed
        to
        make payments to Skye totaling $750,000 related to the ENI Agreement. No
        payments were made during 2005. We are in the process of renegotiating the
        related terms and payments in order to maintain our rights under the ENI
        Agreements despite the default.
 
 The
        ENI
        Agreements also appointed us as Skye’s exclusive marketing partner to
        pharmaceutical companies for licensing of all of Skye’s technology in the
        Chinese Territories, as defined therein. We are eligible to receive 5% of
        all
        gross revenues resulting directly from our marketing efforts. Receipt of
        such
        royalties is contingent, however, on such revenues reaching or exceeding
        $1.0
        million, or in aggregate $2.0 million, by August 2004 and 2005, respectively.
        Should these revenue goals not be achieved, our exclusive marketing rights
        and
        Skye’s royalty obligation on newly established sales will terminate, except,
        that royalties on on-going gross revenues resulting directly from our marketing
        efforts prior to the loss of such rights will continue to be due and
        payable.
  **Note
        8 - Capital Stock**
  In
        December 2003, the board of directors and our stockholders approved an amendment
        to our Articles of Incorporation to increase the number of authorized shares
        of
        common stock from 100,000,000 to 150,000,000, par value $.001 per share.
        We are
        currently authorized to issue up to 50,000,000 shares of preferred stock,
        par
        value $.001 per share. At December 31, 2005, our capital stock consisted
        of the
        following:
 Capital
                    Stock
                
                Par
                    Value
                
                Authorized
                
                Issued
                    & OutstandingCommon
                    Stock
                
                $
                0.001
                
                
                150,000,000
                
                
                112,125,000Preferred
                    Stock
                
                $
                0.001
                
                
                50,000,000
                
                
                1,000,000
 
 Common
        Stock
 
 Each
        holder of common stock is entitled to one vote per share on all matters
        submitted to a vote of our stockholders. Holders of our common stock have
        no
        preemptive rights and have no rights to convert their common stock into any
        other securities. In the event of dissolution or liquidation or the winding-up
        of our company, holders of our common stock will be entitled to share ratably
        in
        all assets remaining after payment of all liabilities, subject to any
        preferential payments to the holders of any Secured Notes and preferred stock
        then outstanding. Although we are restricted from paying cash dividends under
        the terms of the Secured Notes, holders of common stock are entitled to receive
        ratably such dividends as may be declared by our board of directors out of
        funds
        legally available therefore. All of our outstanding common shares are fully
        paid
        and non-assessable.
 
 During
        2004, 791,000 shares were returned to us as required by the terms of the
        ENI
        acquisition agreement. Additionally, during 2004, we received 1,850,000 shares
        valued at $555,000 that were returned in connection with the agreement to
        unwind
        the COF acquisition (see Note 9).
  F-17
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 During
        2005 we negotiated a settlement of a $177,000 accounts payable balance for
        318,750 shares of common stock with a value of $35,000 resulting in a gain
        of
        $142,000.
 
 Common
        Stock Issued to an Employee
 
 During
        2004, we issued 700,000 shares of common stock to a former employee valued
        at
        $581,000 as consideration for early termination of an employment
        contract.
 
 Common
        Stock Issued for Services and
        Settlements
 
 In
        order
        to fund operating activities, we, from time to time, issue common stock in
        lieu
        of cash in exchange for goods or services.
 
 During
        the years ended December 31, 2005 and 2004, we issued 528,000 and 653,000
        shares
        of restricted common stock with a value of $58,000 and $754,000 respectively,
        in
        consideration for consulting, investment banking, or other services rendered,
        compensation, release of debt, and various other claims that parties may
        have
        had against us.
 
 Additionally,
        during 2004, we issued 357,000 shares of our common stock valued at $287,000
        related to penalties for not having an effective registration statement as
        required for the December 2003 private placement.
 During
        the years ended December 31, 2005 and 2004, 250,000 and 160,000 shares of
        common
        stock with a value of $12,000 and $47,000, respectively, were issued to
        directors for director services and to various consultants for various
        consultations and advisory services to be provided over a period ranging
        from 12
        months to two years. These shares were originally capitalized as a component
        of
        equity and amortized to expense over the vesting periods. For the years ended
        December 31, 2005 and 2004, $93,000 and $587,000, respectively was amortized
        to
        expense. The value of unamortized restricted common stock issued for services
        as
        of December 31, 2005 and 2004 was $0 and $93,000, respectively.
 
 Pursuant
        to a registration rights agreement related to a November 2002 private placement
        of 1,368,000 shares of common stock, we were required to file and have declared
        effective a registration statement to register the shares of common stock
        issued
        and shares that might be issued upon exercise of the Series B Warrants and
        Series C Warrants from the private placement prior to March 20, 2003. We
        failed
        to have the registration statement declared effective by the deadline; as
        a
        result, we owed the investors liquidated damages equal to 2% per month of
        the
        purchase price of these securities, calculated on a pro rata basis to the
        date
        on which the registration statement was ultimately declared effective. During
        2003, we reached an agreement with some of the investors to pay such damages
        in
        328,000 shares of our common stock, valued at approximately $367,000. During
        2004, we issued an additional 357,000 shares valued at approximately $287,000
        to
        settle completely all such claims.
 
 Treasury
        Stock
 
 As
        part
        of a resignation agreement executed in July 2003, in which all severance
        payments under a prior employment agreement were waived, 280,000 shares of
        restricted common stock were returned at no cost and 144,000 shares were
        repurchased by us at $0.50 per share from our, former President, for total
        payments of $72,000 during 2003. These shares have been returned to us and
        recorded as treasury stock as of December 31, 2003. The 280,000 shares of
        common
        stock returned were recorded at par value, or $280, with a corresponding
        adjustment to additional paid-in capital.
 
 Preferred
        Stock
 
 Preferred
        stock may be issued in one or more series, the terms of which may be determined
        at the time of issuance by our board of directors, without further action
        by
        stockholders, and may include voting rights (including the right to vote
        as a
        series on particular matters), preferences as to dividends and liquidation,
        conversion rights, redemption rights and sinking fund provisions. The issuance
        of shares of preferred stock could adversely affect the rights of the holders
        of
        common stock and therefore, reduce the value of the common stock.
 
 Series
        C Preferred Stock
 
 On
        July
        9, 2003, we sold to one investor five units, each consisting of 100,000 shares
        of non-voting 50% Series C Preferred Stock, 100,000 Series D Warrants, and
        100,000 Series E Warrants, aggregating 500,000 shares of Series C Preferred
        Stock at $1.00 per share, 500,000 Series D Warrants at an exercise price
        of
        $1.30 per share, and 500,000 Series E Warrants at an exercise price of $1.60
        per
        share, generating cash proceeds of $438,000, net of cash offering cost of
        $63,000. The combined fair value at the date of grant of the Series D and
        Series
        E Warrants using the Black-Scholes option-pricing model was
        $242,000.
  The
        holder of the Series C Preferred Stock is entitled to a two-time dividend
        at the
        rate of 50% per annum, payable in cash or common stock on the first and second
        anniversary of the issuance date with no obligation to pay dividends thereafter.
        Unpaid and/or undeclared dividends are cumulative. The total amount of dividends
        not declared at December 31, 2004 was $370,000. Each share of Series C Preferred
        Stock is convertible into one share of common stock at the option of the
        holder
        at any time after the first anniversary of the date of issuance.
  F-18
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 In
        connection with this offering, 250,000 Series D Warrants with an exercise
        price
        of $1.30 per share (fair value of $72,000), a cash commission equal to 12.5%
        of
        the proceeds (or $63,000), 63,000 shares of common stock (fair value of $74,000,
        or $1.18 per share), and an option to acquire 63,000 shares of common stock
        exercisable at $1.00 per share (fair value of $26,000) were granted, paid,
        or
        issued to a stockholder to facilitate the transaction, thus increasing the
        total
        offering costs to $234,000. The Series C Preferred Stock has no voting rights,
        liquidation preferences, or protective provisions.
 
 The
        market value of our common stock on the date the Series C Preferred Stock
        was
        sold was $1.18 per share. In accordance with EITF 98-5, as amended by EITF
        00-27, because the Series C Preferred Stock was sold at a price less than
        market
        value of the underlying components of the security, a beneficial conversion
        to
        holders of the Series C Preferred Stock occurred. Accordingly, during 2003,
        we
        recorded a discount of $253,000 within stockholders’ equity and a corresponding
        amount to preferred stock additional paid-in-capital. The Series C Preferred
        Stock is convertible into common stock at the option of the holder at any
        time
        after the first anniversary date of its issuance, thus the beneficial conversion
        is amortized over a one-year period. The entire $253,000 balance was amortized
        during 2004 and 2003.
 
 During
        July 2005, 250,000 shares of common stock were issued in payment of the 50%
        dividend due on the second anniversary date. Immediately thereafter all the
        500,000 shares of Series C Preferred Stock were converted into 500,000 shares
        of
        common stock.
 
 Series
        D Preferred Stock
 
 On
        August
        20, 2003, concurrent with the ENI Acquisition, we sold to a single investor
        1,000,000 shares of Series D Preferred Stock at $1.00 per share, generating
        cash
        proceeds of $815,000, net of cash offering costs of $185,000. Each share
        of
        Series D Preferred Stock is convertible into one share of common stock at
        the
        option of the holder at any time.
 
 The
        market value of our common stock on the date the Series D Preferred Stock
        was
        sold was $1.37 per common share. In accordance with EITF 98-5, as amended
        by
        EITF 00-27, because the Series D Preferred Stock was sold at a price less
        than
        market value of the underlying components of the security, a beneficial
        conversion to holders of the Series D Preferred Stock occurred. Accordingly,
        during 2003 we recorded a discount of $370,000 within stockholders’ equity and a
        corresponding amount to preferred stock additional paid-in-capital. The Series
        D
        Preferred Stock is convertible into common stock at the option of the holder
        at
        any time, thus the beneficial conversion was recorded as a dividend upon
        issuance.
 
 The
        holder of the Series D Preferred Stock is entitled to various rights,
        preferences, and restrictions that include the following:
 
 1.
              Voting.
                  The Series D Preferred Stock votes on an as-converted basis with
                  the
                  common stock.
  2.
              Dividends.
                  The holders of the Series D Preferred Stock are entitled to a like
                  dividend or distribution, pro rata, should there be a cash or property
                  dividend or distribution to any class of common stock or preferred
                  stock
                  other than the Series A Preferred Stock, determined on an as converted
                  basis. This does not include any dividends paid in shares of common
                  stock
                  to the holders of Series B Preferred Stock and Series C Preferred
                  Stock
                  outstanding as of the date of
                  issuance.
  3.
              Liquidation
                  Preference.
                  The Series D Preferred Stock is senior to the Series B Preferred
                  Stock and
                  Series C Preferred Stock and the common stock upon liquidation
                  and is
                  entitled to an amount equal to the original $1.00 per share issue
                  price
                  plus any declared and unpaid dividends (as adjusted for stock dividends,
                  combinations, splits, recapitalization, and the like with respect
                  to such
                  shares).
  4.
              Redemption.
                  We have no rights to redeem the Series D Preferred
                  Stock.
  5.
              Conversion.
                  The holders of Series D Preferred Stock have the right to convert
                  into
                  common stock, at any time. Each share of Series D Preferred Stock
                  is
                  convertible into one share of common stock subject to adjustment
                  fordeclaredand unpaid dividends, stock dividends, combinations, splits,
                  recapitalization, and the like with respect to such shares. The
                  conversion
                  price is initially set at $1.00. The conversion price may be decreased
                  at
                  the end of two years if the common stock is trading at a price
                  below the
                  conversion price then in effect. The floor for such adjustment
                  is $0.25
                  per share. The conversion price of the Series D Preferred Stock
                  may also
                  be reduced in certain situations if we issue additional options,
                  warrants,
                  or rights to purchase common stock at a price below the conversion
                  price
                  of the Series D Preferred Stock. In such event, the conversion
                  price will
                  be decreased by multiplying the conversion price then in effect
                  by a
                  fraction of which (i) the numerator will be the number of outstanding
                  shares of common stock on the date of issuance of the rights plus
                  the
                  number of shares of common stock which could be purchased at the
                  then
                  conversion price from the aggregate offering price of the rights
                  and (ii)
                  the denominator will be the shares of common stock outstanding
                  on the date
                  of issuance of the rights plus the number of shares of common stock
                  so
                  offered for subscription or purchase pursuant to such
                  rights.
  F-19
 
  **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 6.
              Protective
                  Provisions.
                  So long as any shares of Series D Preferred Stock are outstanding,
                  we may
                  not, without the prior affirmative consent or vote of the holders
                  of at
                  least two thirds of the outstanding shares of the Series D Preferred
                  Stock:
  a.
              authorize,
                  create, designate, establish, or issue shares of any class or series
                  of
                  capital stock ranking senior to or on parity with the Series D
                  Preferred
                  Stock or reclassify any shares of common stock into shares having
                  any
                  preference or priority as to dividends or assets superior to any
                  such
                  preference or priority of Series D Preferred Stock; or
  b.
              amend,
                  alter, or repeal, whether by merger, consolidation, or otherwise,
                  our
                  amended and restated articles of incorporation or bylaws or the
                  resolutions contained in the certificate of designation of the
                  Series D
                  Preferred Stock and the powers, preferences, privileges, relative,
                  participating, optional and other special rights and qualifications,
                  limitations, and restrictions thereof, which would adversely affect
                  any
                  right, preference, privilege, or voting power of the Series D Preferred
                  Stock, or which would increase the amount of authorized shares
                  of the
                  Series D Preferred Stock or of any other series of preferred stock
                  ranking
                  senior to the Series D Preferred Stock, with respect to the payment
                  of
                  dividends (whether or not such series of preferred stock is cumulative
                  or
                  non-cumulative as to payment of dividends) or
                  liquidation.
  **Note
        9 - Discontinued Operations**
 
 In
        order
        to resolve certain disputes with a former employee of the COF subsidiary,
        on
        July 9, 2004, we settled all matters via an execution of a Settlement and
        Release Agreement (the "Agreement") calling for the settlement of all claims
        and
        the sale of certain assets and liabilities back to the previous owners of
        COF.
        As part of the agreement, we were to pay the previous owners of COF $150,000
        in
        six equal monthly installments beginning July 2004 in exchange for the return
        of
        2,600,000 shares of our common stock originally paid as part of the acquisition
        price. In addition, we assigned certain assets to and the previous owners
        of COF
        assumed certain liabilities of NSI as of the effective date, the previous
        owners
        of COF subleased the Company's facilities located in Spanish Fork, Utah for
        a
        period of one year from the effective date (during 2005 we were released
        as
        quarantors on this lease), and executive employment agreements with Robert
        Scott
        and James Jeppson executed as part of the COF Acquisition became null and
        void.
        If either party were to have failed to perform its obligations under the
        Agreement, certain rights and options exist allowing the parties to terminate
        the Agreement. During 2004, we paid $50,000 of the $150,000 required payments
        under the Agreement. As of November 15, 2004, we had not received the 2.6
        million shares of common stock back from the previous owners of COF, accordingly
        we sought specific legal remedies. In September 2004, we were served with
        a
        final demand notice from the Internal Revenue Service ("IRS") related to
        obligations from the previous owners of COF. These amounts were the obligation
        of the previous owners of COF which was ratified in the Agreement. However,
        in
        order for us to avoid any future claims related to this matter, in November
        2004, we entered into a settlement agreement with the IRS related to this
        matter
        and paid the remaining $100,000 obligation under the Agreement directly to
        the
        IRS. The IRS has agreed not pursue us related to this matter.
 
 On
        September 30, 2004, MAF entered into an agreement to sell all properties,
        rights
        and assets used or useful in connection with its product line, Boulder Bar.
        This
        was the primary asset in MAF. MAF received a $50,000 cash payment, a $50,000
        promissory note and the purchaser has agreed to continue serving the SBA
        debt
        obligation of approximately $398,000 at December 31, 2005, accruing interest
        at
        8.25%, which is secured by the aforementioned asset. As a result of this
        transaction, during 2004, the Company recorded an impairment charge related
        to
        the remaining $104,000 of intangible assets related to the MAF acquisition
        and a
        charge of $38,000 related to other MAF assets deemed to be of no remaining
        value. Additionally, during 2005 we accrued a charge of $50,000 to bad debt
        expense for the balance of the note receivable which remains un-collected.
 
 The
        loss
        from discontinued operations reported at December 31, 2004 was composed of
        the
        following:
  F-20
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
  NSI
                
                MAF
                
                TotalRevenues,
                    net
                
                $
                1,060,000
                
                $
                543,000
                
                $
                1,603,000Cost
                    of goods sold
                
                
                621,000
                
                
                410,000
                
                
                1,031,000Gross
                    profit
                
                
                439,000
                
                
                133,000
                
                
                572,000Salaries
                    and benefits
                
                
                427,000
                
                
                24,000
                
                
                451,000Selling,
                    general, and administrative
                
                
                493,000
                
                
                260,000
                
                
                753,000Interest
                
                
                17,000
                
                
                13,000
                
                
                30,000Impariment
                    of intangible assets
                
                
                1,481,000
                
                
                585,000
                
                
                2,066,000Other
                
                
                28,000
                
                
                16,000
                
                
                44,000Total
                    expenses
                
                
                2,446,000
                
                
                898,000
                
                
                3,344,000Net
                    loss
                
                $
                (2,007,000
                )
                $
                (765,000
                )
                $
                (2,772,000
                )
 
 **Note
        10 - Stock Options and Warrants**
 
 Series
        A Warrants
 
 Series
        A
        Warrants were issued in connection with the June 2002 Series A Preferred
        Stock
        private placement. Upon conversion of every five shares of Series A Preferred
        Stock into common stock, we will grant one Series A Warrant to purchase one
        share of our common stock, exercisable after one year from the date of grant
        at
        an exercise price of $2.00 per share and expiring on the second anniversary
        of
        the date of grant. The exercise price of the warrants is subject to adjustment
        for stock splits, dividends, reclassifications, and other adjustments.
 
 Upon
        conversion of the 3,712,000 shares of Series A Preferred Stock and corresponding
        stock dividends, we will ultimately issue 859,422 Series A Warrants. During
        2004, pursuant to the warrant offering in November and December 2004, one
        holder
        of the Series A warrants exercised 277,831 warrants at $0.10 per warrant
        resulting in gross proceeds of approximately $28,000. As of December 31,
        2005,
        there were 581,591 Series A Warrants outstanding.
 
 Series
        B and Series C Warrants
 
 Series
        B
        and Series C Warrants were issued in connection with the November 2002 common
        stock private placement, concurrent with the MAF Acquisition. The Series
        B and
        Series C Warrants have exercise prices of $0.214 and may be exercised at
        the
        option of the holder at any time for a period of five years from the date
        of
        issuance. The exercise prices are subject to adjustment for stock splits,
        dividends, reclassifications, and other typical corporate actions. If we
        issue
        additional shares of common stock at a price less than $1.00 per share, the
        exercise prices of the warrants upon each such issuance will be adjusted
        and
        reset to such issuance price; however, this reset feature does not apply
        to the
        following:
 
 1.
              any
                  stock splits, dividends, reclassifications, or similar actions,
                  or
 2.
              any
                  issuance of shares of common stock (or shares of common stock issuable
                  upon the exercise of securities convertible into shares of common
                  stock
                  with an exercise price or a conversion price less than $1.00) if
                  such
                  securities were issued to consultants, employees, service providers,
                  or to
                  a third party to satisfy amounts owed; provided that we may not
                  issue to
                  such individuals, in any rolling 12-month period, more than 1,600,000
                  shares of common stock or 10% of the actual number of shares of
                  common
                  stock issued and outstanding (assuming the conversion of the Series
                  A
                  Preferred Stock) and may not issue to any one individual more than
                  500,000
                  shares of common stock.
 
 As
        long
        as a registration statement covering the shares underlying the warrants is
        effective, we may redeem any or all of the warrants, at any time, at $0.05
        per
        warrant if:
 
 1.
              the
                  closing price for our common stock on any 20 trading days within
                  a period
                  of 30 consecutive trading days ending on the date of the notice
                  of the
                  call has been in excess of 150% of the then effective exercise
                  price, and
 2.
              no
                  less than four of such 20 days occur during the last five trading
                  days
                  ending on the date of the notice of the redemption.
 
 As
        of
        December 31, 2005, there were 1,367,500 Series B Warrants and 1,367,500 Series
        C
        Warrants outstanding.
  F-21
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 Series
        D and Series E Warrants
 
 Series
        D
        and Series E Warrants were issued in connection with the April 2003 Series
        B
        Preferred Stock and July 2003 Series C Preferred Stock private placements.
        The
        Series D and Series E Warrants have exercise prices of $1.30 and $1.60,
        respectively, and may be exercised at the option of the holder at any time
        for a
        period of five years from the date of issuance. The exercise prices are subject
        to adjustment for stock splits, dividends, reclassifications, and other typical
        corporate actions. As of December 31, 2005, there were 1,950,000 Series D
        Warrants and 1,500,000 Series E Warrants outstanding.
 
 Series
        F Warrants
 
 Series
        F
        Warrants were issued in connection with the July 2003 amendment of one of
        our
        strategic consulting agreements. The Series F Warrants have an exercise price
        of
        $1.00 per share and may be exercised at the option of the holder at any time
        for
        a period of five years from the date of issuance. The exercise price is subject
        to adjustment for stock splits, dividends, reclassifications, and other typical
        corporate actions. As of December 31, 2005, there were 125,000 Series F Warrants
        outstanding.
 
 Series
        G and H Warrants
 
 Series
        G
        and H Warrants were issued in connection with the sale of
        our common stock in June and July 2004. We sold units, each unit consisting
        of
        one share of common stock, three Series G Warrants, and one Series H Warrant,
        aggregating 3,900,000 shares of common stock at $0.25 per share, 11,700,000
        Series G Warrants at an exercise price of $0.25 per share, and 3,900,000
        Series
        H Warrants at an exercise price of $0.24 per share, generating cash proceeds
        of
        $772,000, net of cash offering costs of $125,000. In addition, during 2004,
        265,000 shares of common stock and 1,950,000 warrants, with a combined fair
        market value at the date of issuance of $549,000 were issued to financial
        advisors to facilitate the transaction, thus increasing the total offering
        costs
        to $599,000.
 
 In
        December 2004, the holders of the G warrants exercised their right to convert
        the warrant in 5.8 million shares of our common stock. As of December 31,
        2004,
        no G warrants and 3.9 million H warrants were outstanding. We received no
        consideration related to the G warrant conversion into our common stock.
        There
        were no transactions involving G or H warrants during 2005.
  Other
        Warrants
 
 In
        connection with the Bridge Notes and Senior Secured Notes (see Note 6) during
        2003, we granted note holders an aggregate of 9,516,000 warrants at original
        exercise prices that ranged from $1.00 to $1.50 per share. The warrants may
        be
        exercised immediately, expire on the fifth anniversary of the date of issuance,
        and the exercise price is subject to adjustment for stock splits, dividends,
        reclassifications, and other typical corporate actions, and as of December
        31,
        2005 is set at $0.24.
 
 Additionally,
        during 2003, we granted 214,000 warrants to financial advisors associated
        with
        the issuance of the Bridge Notes. Financial advisors associated with the
        Secured
        Notes were granted 558,000 warrants.
 
 In
        conjunction with warrant exercises in November and December of 2004, 6,560,000
        of these warrants were exercised at $0.10 per warrant generating gross cash
        proceeds of $695,000. Certain holders of these exercised warrants will receive
        a
        new warrant with an exercise price of $0.10. In conjunction with this offering,
        we paid to financial advisors to help facilitate the transaction $68,000
        in cash
        consideration and will issue 656,000 new warrants with an exercise price
        of
        $0.10. Effectively, we sold common stock for $0.10 per share and extend the
        terms and reduced the price of the warrants.
 
 In
        August
        2004 we issued 125,000 warrants with an exercise price of $0.26 to one of
        our
        employees in connection with our joint venture with Wellness Watchers Systems
        LLC.
 
 In
        aggregate, as of December 31, 2005, there were 19,788,269 of these warrants
        outstanding.
 
 Stock
        Option Plans
 
 On
        August 1, 2001, the Board of Directors adopted our 2001 Stock Option Plan
        pursuant to which incentive stock options or non-statutory stock options
        to
        purchase up to 2,500,000 shares of common stock can be granted to employees,
        officers, directors, consultants, and independent contractors and other service
        providers.
 
 On
        May 3, 2002, the Board of Directors adopted our 2002 Stock Option Plan
        pursuant to which incentive stock options or non-statutory stock options
        to
        purchase up to 2,000,000 shares of common stock can be granted to employees,
        officers, directors, consultants, independent contractors, and other service
        providers.
  F-22
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 On
        July 15, 2005, the Board of Directors adopted our 2005 Stock Option Plan
        pursuant to which incentive stock options or non-statutory stock options
        to
        purchase up 16,819,000 shares of common stock can be granted to employees,
        officers, directors, consultants, independent contractors, and other service
        providers.
  The
        combined plans had 13,801,000 and 437,000 options outstanding at December
        31,
        2005 and 2004, respectively, with exercise prices ranging from $0.04 to $1.00.
        At December 31, 2005, there were an aggregate of 6,180,000 options available
        under the plans for future grant.
 
 Options
        and Warrants Issued for Services
 
 In
        order
        to fund operating activities, we, from time to time, grant options or warrants
        to purchase common stock in lieu of cash in consideration for consulting,
        investment banking, or other services rendered, compensation, release of
        debt,
        and various other claims that parties may have against us. We granted options
        and warrants to purchase common stock during the years ended December 31,
        as
        follows:
 **2005**
                
                **2004**Number
                  Granted
                
                Fair
                    Value
                
                Exercise
                  Price
                
                Number
                  Granted
                
                Fair
                    Value
                
                Exercise
                  PriceOptions
                
                
                3,550,000
                
                $
                142,000
                
                $
                0.04
                
                
                150,000
                
                $
                88,500
                
                $
                0.65Warrants
                
                
                
                
                
                
                
                
                
                
                
                300,000
                
                
                181,000
                
                $
                0.25
                    - 1.29Warrants
                
                
                
                
                
                
                
                
                
                
                
                125,000
                
                
                32,500
                
                $
                0.263,550,000
                
                $
                142,000
                
                
                
                
                
                575,000
                
                $
                302,000
 
 The
        fair
        value of certain of these options and warrants are being amortized over their
        respective vesting periods, which range from zero to 36 months. For the years
        ended December 31, 2005 and 2004, $51,000 and $185,000 was amortized to expense,
        respectively. The fair value of unamortized options and warrants issued for
        services at December 31, 2005 and 2004 was $0 and $122,000,
        respectively.
 
 In
        December 2005, we issued 3,550,000 options to board members with an exercise
        price of $0.04 for services
 
 During
        June and July 2004, in connection with the common stock offering, we granted
        an
        aggregate of 2,000,000 warrants to acquire common stock to investment advisors
        with an exercise price of $1.25 per share. Additionally, during 2004, we
        issued
        300,000 warrants to acquire common stock with exercise prices that ranged
        from
        $0.25 to $1.29 per share to various advisors.
 
 In
        2004,
        we granted 150,000 options to an advisor to purchase common stock at an exercise
        price of $0.65 per share.
 
 Per
        FIN
        No. 44, “Accounting for Certain Transactions Involving Stock Compensation,” a
        non-cash charge to expense is required if the price of our common stock on
        the
        last trading day of a reporting period is greater than the exercise price
        of
        certain stock options and warrants issued. The requirements of FIN No. 44
        may
        also result in a credit to expense to the extent that the trading price declines
        from the trading price as of the end of the previous reporting period, provided
        however that a credit is not recorded to the extent our common stock trades
        below the exercise price of the options or warrants. In accordance with FIN
        No.
        44, we adjust expense upward or downward on a monthly basis based on the
        trading
        price at the end of each period. Due to a decline in the trading price of
        the
        Company’s common stock, there was a reduction in consulting expense of $0 and
        $156,000 for the adjustments of the variable award in the years ended December
        31, 2005 and 2004, respectively.
 
 Options
        and Warrants Issued to Employees
 
 In
        February 2005 and December 2005, we granted to officers and employees 5,100,000
        options with an exercise price of $0.08 and 4,750,000 options with an exercise
        price of $0.04, respectively, as part of our employee stock option plan.
        All of
        these options were fully vested as of December 31, 2005.
 
 During
        2004, we granted 80,000 warrants with an exercise price of $0.54 per share
        to
        several employees.
 
 In
        accordance with FIN No. 44, we adjust expense upward or downward on a monthly
        basis based on the trading price at the end of each period. As a result,
        we
        recorded a net credit to salaries and benefits expense of approximately $648,000
        and $1,468,000 during the year ended December 31, 2005 and 2004,
        respectively.
  F-23
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 In
        January 2002, we issued 125,000 options to an employee under our 2001 Stock
        Option Plan. The options have an exercise price of $1.00 per share, expire
        in
        four years, and vest quarterly, 40,000 in the first year, 45,000 in the second
        year, and 40,000 in the third year. The fair value of the options using the
        Black-Scholes option-pricing model was determined to be zero.
 
 Summary
        of Options and Warrants
 
 A
        summary
        of stock option activity for employees for the years ended December 31 is
        as
        follows:
 **2005**
                
                **2004****Shares**
                
                **Weighted**
                  **Average**
                  **Exercise
                    Price**
                
                **Shares**
                
                **Weighted**
                  **Average**
                  **Exercise
                    Price**Outstanding
                    at beginning of period
                
                
                401,000
                
                $
                0.93
                
                
                3,039,000
                
                $
                0.93Granted
                
                
                13,400,000
                
                $
                0.06
                
                
                375,000
                
                $
                0.59Cancelled
                
                
                -
                
                
                
                
                
                (2,750,000
                )
                $
                0.91Exercised
                
                
                -
                
                
                
                
                
                (263,000
                )
                $
                0.10Outstanding
                    at end of period
                
                
                13,801,000
                
                $
                0.09
                
                
                401,000
                
                $
                0.93Exercisable
                    at end of period
                
                
                13,801,000
                
                $
                0.09
                
                
                339,000
                
                $
                0.77
 Information
        about stock options outstanding at December 31, 2005 is as follows:
 Options
                    Outstanding
                
                Options
                    ExercisableRange
                    of
                  Exercise
                    Prices
                
                Shares
                  Outstanding
                
                Weighted
                  Average
                  Remaining
                  Contractual
                  Life
                
                Weighted
                  Average
                  Exercise
                  Price
                
                Shares
                  Exercisable
                
                Weighted
                  Average
                  Exercise
                  Price$0.65
                    - $1.00
                
                
                401,000
                
                
                2.75
                
                $
                0.87
                
                
                401,000
                
                $
                0.91$0.04
                    - $0.08
                
                
                13,400,000
                
                
                3
                
                $
                0.06
                
                
                13,400,000
                
                $
                0.0613,801,000
                
                
                
                
                
                
                
                
                13,801,000
 
 A
        Summary
        of warrant activity for non-employees for the years ended December 31 is
        as
        follows:
 **2005**
                
                **2004****Shares**
                
                **Weighted**
                  **Average**
                  **Exercise
                    Price**
                
                **Shares**
                
                **Weighted**
                  **Average**
                  **Exercise
                    Price**Outstanding
                    at beginning of period
                
                
                31,815,000
                
                $
                0.46
                
                
                26,475,000
                
                $
                0.91Granted
                
                
                -
                
                
                -
                
                
                25,196,000
                
                $
                0.22Cancelled
                
                
                (1,235,000
                )
                
                -
                
                
                -
                
                
                -Exercised
                
                
                -
                
                
                -
                
                
                (19,856,000
                )
                $
                0.10Outstanding
                    at end of period
                
                
                30,580,000
                
                $
                0.46
                
                
                31,815,000
                
                $
                0.46Exercisable
                    at end of period
                
                
                30,580,000
                
                $
                0.46
                
                
                25,538,000
                
                $
                0.46
 Information
        about warrants outstanding at December 31, 2005is as follows:
  F-24
  **VITAL
        LIVING, INC. AND SUBSIDIARIES**
 **Notes
        to Consolidated Financial Statements**
 Warrants
                    Outstanding& ExercisableWeightedAverage
                
                WeightedRange
                    of
                
                
                
                Remaining
                
                AverageExercise
                
                Shares
                
                Contractual
                
                ExercisePrices
                
                Outstanding
                
                Life
                
                Price$0.01
                    - $0.35
                
                
                26,423,000
                
                3.10
                
                $
                0.13$0.54
                    - $1.00
                
                
                125,000
                
                1.98
                
                $
                -$1.30
                    - $1.65
                
                
                3,450,000
                
                2.52
                
                $
                0.16$2.00
                
                
                582,000
                
                1.42
                
                $
                0.0430,580,000
                
                3.00
                
                $
                0.34
  **Note
        11 - Income Taxes**
 
 Components
        of the deferred tax asset (liabilities) as of December 31 are as
        follows:
 **2005**
                
                **2004**Net
                    operating loss carryforwards
                
                $
                11,715,000
                
                $
                10,140,000Marketable
                    securities
                
                
                214,000
                
                
                359,000Accounts
                    receivable
                
                
                161,000
                
                
                161,000Deferred
                    compensation
                
                
                3,038,000
                
                
                3,297,000Inventories
                
                
                -
                
                
                130,000Amortizable
                    intangibles
                
                
                15,600,000
                
                
                8,024,000Other
                    temporary differences
                
                
                42,000
                
                
                58,00030,770,000
                
                
                22,169,000Less
                    valuation allowance
                
                
                (30,770,000
                )
                
                (22,169,000
                )$
                -
                
                $
                -
 
 Net
        operating loss carry forwards are available to reduce future taxable income.
        However, a change in ownership, as defined by federal income tax regulations,
        could significantly limit our ability to utilize our U.S. net operating loss
        carry forwards. Additionally, because federal tax laws limit the time during
        which the net operating loss carry forwards may be applied against future
        taxes,
        if we fail to generate taxable income prior to the expiration dates, we may
        not
        be able to fully utilize the net operating loss carry forwards to reduce
        future
        income taxes.
 
 As
        we
        have had cumulative losses and there is no assurance of future taxable income,
        valuation allowances have been recorded to fully offset the deferred tax
        asset
        at December 31, 2005 and 2004. During the year ended December 31, 2005 and
        2004,
        a current income tax benefit of $8,601,000 and $3,778,000 respectively was
        offset by an equal deferred income tax provision primarily related to the
        increase in the valuation allowance. The valuation allowance increased
        $8,601,000 during 2005 due to our current period net loss. Due to this increase
        in the valuation allowance, the effective tax rate has been reduced to 0%
        for
        the years ended December 31, 2005 and 2004. As of December 31, 2005, we had
        net operating loss carry forwards for federal income tax reporting purposes
        of
        approximately $32,100,000 which expire at varies periods through 2025. The
        utilization of such operating losses may be limited.
 
 A
        reconciliation of statutory to effective income tax rates is as follows for
        years ended December 31:
 2005
                
                2004Federal
                    statutory rates
                
                
                -34
                %
                $
                (7,323,000
                )
                
                -34
                %
                $
                (9,578,000
                )State
                
                
                -6
                %
                
                (1,292,000
                )
                
                -6
                %
                
                (1,690,000
                )Valuation
                    allowance
                
                
                40
                %
                
                8,600,000
                
                
                40
                %
                
                11,201,000Other
                
                
                -
                
                
                15,000
                
                
                -
                
                
                67,000Effective
                    rate
                
                
                0
                %
                $
                -
                
                
                0
                %
                $
                -
  F-25
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
  **Note
        12 - Related Party Transactions**
 ****
 From
        time
        to time, we engage our directors, shareholders, or other related parties
        for
        consulting services related to investment, acquisition, or other activities
        in
        the normal course of business. We believe that all of these transactions
        are
        conducted at an “arms-length.” Fair market value of securities issued in these
        transactions, including stock, options, and warrants, is listed below where
        applicable and calculated using the Black-Scholes Pricing Model as of the
        date
        of issuance or grant.
 
 Officers
        and Directors
 
 During
        2005 a partnership owned 50% each by Stuart Benson, CEO and Gregg Linn COO/CFO
        acquired a $40,000  Senior
        Secured Note from the original holder.
 
 During
        2005, we issued 100,000 and 150,000 shares of restricted common stock to
        Carson
        Beadle and David Allen, respectively, in exchange for director services for
        a
        combined fair market value of $12,000. During 2004 we issued 165,000 shares
        to
        Michael Cardamone in exchange for director services with a fair market value
        of
        $35,000.
 
 During
        2005 and 2004, $14,000 and $35,000, respectively was either paid directly
        or
        amounts paid on behalf of Mr. Hannah, our Chairman. These amounts were paid
        for
        services requested by management that were deemed outside the scope of his
        role
        as Chairman.
 
 In
        connection with the departure of the former Chairman and Chief Executive
        Officer
        in January 2004, we executed a severance agreement that provided for cash
        payments of $244,000 ($119,000 due within eight days of execution, $20,000
        due
        on each first day of July, August, and September 2004, and $22,000 due on
        each
        first day of October, November, and December 2004) and 600,000 shares of
        the
        Company’s common stock, valued at $498,000, due within eleven days of execution
        and included in a pending Registration Statement initially filed January
        14,
        2004. In addition, we agreed to continue to pay Mr. Edson’s medical benefits
        until the earlier of (i) July 31, 2005, or (ii) the date he becomes eligible
        to
        be covered under another program. However, due to certain differences between
        the parties, in August 2004, the parties agreed that we would issue 100,000
        shares of our common stock in exchange for complete settlement of the severance
        agreement, such shares with a value of $83,000 were issued in September 2004.
        As
        of September 30, 2004, we had no further obligations to Mr. Edson.
 
 In
        March
        and April 2004, we transacted a common stock private placement (see Note
        6) for
        which finder’s fees of 8% in cash and 8% in common stock were authorized to
        various parties to facilitate the transaction. We paid $21,000 in cash and
        issued 20,800 shares of common stock, valued at $17,000, to a company whose
        principal is our former Chief Executive Officer and Chairman for such services.
        In addition, 110,000 of the 510,000 common shares issued to investors in
        this
        private placement, valued at $110,000, were family members of our former
        Chief
        Executive Officer and Chairman.
 
 Shareholders
 
 We
        are
        party to two voting agreements as follows:
 
 MAF
        Voting Agreement .
        In
        connection with our November 2002 MAF Acquisition, we entered into a
        stockholders’ agreement with Stuart A. Benson, Donald C. Hannah, Bradley D.
        Edson, Martin Gerst, William Coppel, Phil Maffetone, Kenneth Martin, Leslie
        C.
        Quick, III, and Thomas C. Quick (the “MAF Voting Agreement”). Pursuant to the
        MAF Voting Agreement:
 
 ·
              for
                  so long as Messrs. Edson, Benson, Hannah and Gerst beneficially
                  own an
                  aggregate of at least 65% of the shares of common stock held by
                  them on
                  the date of the agreement, they will be entitled to nominate and
                  have
                  elected four directors acceptable to them in their sole discretion;
                  and
 ·
              for
                  so long as Messrs. Coppel, Maffetone, Quick and Quick beneficially
                  own an
                  aggregate of at least 65% of the shares of common stock held by
                  them on
                  the date of the agreement, they will be entitled to nominate and
                  have
                  elected three Directors.
 
 Each
        of
        the parties to the MAF Voting Agreement has agreed to vote the shares of
        common
        stock beneficially owned by them on the date of the agreement in favor of
        the
        other group’s nominees. Each of the parties have further agreed that they will
        vote in favor of the other parties’ nominee or nominees, and will not take any
        action, or cause us to take any action, to remove, with or without cause,
        a
        Director nominated by any of the parties. Because Messrs. Coppel, Maffetone,
        Quick, and Quick do not still beneficially own the required 65%, they no
        longer
        have the right to nominate and have elected any Directors.
  F-26
 **VITAL
          LIVING, INC. AND SUBSIDIARIES**
 **Notes
          to Consolidated Financial Statements**
 ENI
        Voting Agreement .
        In
        connection with our August 2003 ENI Acquisition, we entered into a stockholders’
agreement with Stuart A. Benson, Donald C. Hannah, SkyePharma PLC, Stephen
        Morris, and Fifth Avenue Capital, Inc. (the “ENI Voting Agreement”). Pursuant to
        the ENI Voting Agreement, as amended:
 
 ·
              for
                  so long as Messrs. Benson and Hannah (the “Founders”) beneficially own an
                  aggregate of at least 65% of the shares of common stock owned by
                  them on
                  the date of the agreement, they will be entitled to nominate three
                  directors;
 ·
              for
                  so long as Stephen Morris and Fifth Avenue Capital beneficially
                  own an
                  aggregate of at least 65% of the shares of common stock owned by
                  them on
                  the date of the agreement, they will be entitled to nominate one
                  director;
                  and
 ·
              for
                  so long as SkyePharma beneficially owns an aggregate of at least
                  65% of
                  the shares of common stock owned by it on the date of the agreement,
                  it is
                  entitled to nominate one director.
 
 Each
        of
        the parties to the ENI Voting Agreement has agreed to vote the shares of
        common
        stock beneficially owned by them on the date of the agreement in favor of
        the
        other group’s nominees. Each of the parties have further agreed that they will
        vote in favor of the other parties’ nominee or nominees, and will not take any
        action, or cause us to take any action, to remove, with or without cause,
        a
        Director nominated by any of the parties.
 
 We
        have a
        consulting arrangement with Stephen Chen, Chairman and Chief Executive Officer
        of Strong International, Inc., the sole shareholder of the outstanding Series
        C
        Preferred Stock, to assist in creating strategic alliances in China. During
        2004, we paid Mr. Chen $19,000 related to such matters. In 2004, 250,000
        additional shares of Series B Preferred Stock valued at $250,000 were issued
        in
        satisfaction of dividends owed to the holder of the Series B Preferred Stock.
        Simultaneously, all 1,250,000 shares of Series B Preferred Stock converted
        into
        1,250,000 shares of common stock. Additionally, Mr. Chen participated in
        the
        November and December warrant offering and exercised 612,000 warrants to
        purchase our common stock at an exercise price of $0.10 per warrant.
 
 We
        have
        several agreements with HCFP/Brenner Securities, LLC (“Brenner”), a stockholder,
        to provide consulting, investment, or financial services. During 2005 and
        2004,
        the following amounts were paid to Brenner in exchange for such services:
 **Options
                    & Warrants****Year**
                
                **Matter**
                
                **Cash**
                
                **Stock**
                
                **Number**
                
                **Exercise****Price**
                
                **Fair
                    Market**
                  **Value
                    of**
                  **Securities**2005
                
                Consulting
                  Services
                
                $
                75,0002004
                
                Consulting
                  Services
                
                $
                -
                
                
                300,000
                
                
                --
                
                
                N/A
                
                $
                135,0002004
                
                Investment
                  Services
                
                $
                19,000
                
                
                -
                
                
                2,141,000
                
                
                $0.10
                      - $0.25
                
                $
                266,000
 
 We
        have
        several agreements with Sloan Securities Corp (“Sloan”), a less than 1%
        shareholder, to provide consulting, investment, or financial services. During
        2004, the following amounts were paid to Sloan (or its designees) in exchange
        for such services:
 **Options
                    & Warrants****Matter**
                
                **Cash**
                
                **Stock**
                
                **Number**
                
                **Exercise**
                  ****Price****
                
                **Fair
                    Market**
                  **Value
                    of**
                  **Securities**Investment
                    Services
                
                $
                45,338
                
                
                -
                
                
                453,000
                
                $
                0.10
                
                $
                59,000
 .
 **Note
        13 -** **Concentrations**
 
 During
        2005 one customer was responsible for 43% of our sales and accounted for
        69% of
        our trade accounts receivable as of December 31, 2005.
 
 During
        2005 one vendor supplied all of our products for sale. This vendor accounted
        for
        78% of our product purchases.
  F-27