**SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

**FORM 10-K**

 
| **ý** | **Annual  Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934** |
|------------|-------------------------------------------------------------------------------------------|

** **

**For thefiscal year ended December 31, 2001**

**— or —**

 
| **o** | **Transition  Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934** |
|-------|-----------------------------------------------------------------------------------------------|

 

**For thetransition period from               to                .**

 

**0-25250**

*Commission File Number*

 

**OSTEXINTERNATIONAL, INC.**

*Exact Name of Registrant asSpecified in Its Charter*

 

| **State of Washington**                                           |   | **91-1450247**                           |
|-------------------------------------------------------------------|--------|------------------------------------------|
| *State or Other Jurisdiction of  Incorporation or Organization*   |   | *I.R.S. Employer Identification  Number* |
|                                                              |   |                                     |
| **2203 Airport Way South, Suite 400,  Seattle, Washington 98134** |
| **206-292-8082**                                                  |
| *Address and Telephone Number of  Principal Executive Offices*    |

 

| Securities registered  pursuant to Section 12(b) of the Act: |                           | Securities registered  pursuant to Section 12(g) of the Act: |
|--------------------------------------------------------------|--------------------------------|--------------------------------------------------------------|
| (none)                                                       | (none)                         |                                                         |   |
| *Title of Class Each*                                        | *Exchange on Which Registered* |                                                         | **Common Stock, $.01 par value** |
|                                                         |                           | *Title of Class*                                             |

 
| Indicate by check mark  whether the registrant (1) has filed all reports required to be filed by  Section 13 or 15(d) of the Securities Exchange Act of 1934 during the  preceding 12 months (or for such shorter period that the registrant was  required to file such reports), and (2) has been subject to such filing  requirements for the past 90 days. |   | Yes ý No o |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|----------------------|
|                                                                                                                                                                                                                                                                                                                                                          |   |                 |
| Indicate by check mark  if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is  not contained herein, and will not 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-K or any amendment to this Form 10-K.                |   | o                    |

 

The aggregate market value of the voting andnon-voting stock held by non-affiliates of the registrant was approximately$25,761,352 on March 14, 2002, based on the per-share closing price of $2.58 onthe Nasdaq National Market.

 

The number ofshares of Common Stock outstanding as of March 14, 2002 was 12,558,174.

 

**DOCUMENTS INCORPORATED BY REFERENCE**

 

Portions of the Registrant’s Proxy Statement for theRegistrant’s Annual Shareholders Meeting to be held Wednesday, May 22, 2002, tobe filed pursuant to Regulation 14A, is incorporated by reference into Part IIIof this Form 10-K.

 

 

**OSTEXINTERNATIONAL, INC.**

 

**INDEX TO FORM 10-K**

 

 
|       | **PART I**                                                                                  |
|------------|---------------------------------------------------------------------------------------------|
|       |                                                                                        |
| ITEM  1    | BUSINESS                                                                                    |
|       |                                                                                        |
| ITEM  1A   | RISK FACTORS                                                                                |
|       |                                                                                        |
| ITEM  1B   | EXECUTIVE OFFICERS  OF THE REGISTRANT                                                       |
|       |                                                                                        |
| ITEM  2    | PROPERTIES                                                                                  |
|       |                                                                                        |
| ITEM  3    | LEGAL PROCEEDINGS                                                                           |
|       |                                                                                        |
| ITEM  4    | SUBMISSION  OF MATTERS TO A VOTE OF SECURITY HOLDERS                                        |
|       |                                                                                        |
|       | **PART II**                                                                                 |
|       |                                                                                        |
| ITEM  5    | MARKET  FOR REGISTRANT’S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS                 |
|       |                                                                                        |
| ITEM  6    | SELECTED FINANCIAL DATA                                                                     |
|       |                                                                                        |
| ITEM 7     | MANAGEMENT’S  DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
|       |                                                                                        |
| ITEM  7A   | QUANTITATIVE  AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                                 |
|       |                                                                                        |
| ITEM  8    | FINANCIAL  STATEMENTS AND SUPPLEMENTARY DATA                                                |
|       |                                                                                        |
| ITEM  9    | CHANGES  IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE       |
|       |                                                                                        |
|       | **PART III**                                                                                |
|       |                                                                                        |
| ITEM  10   | DIRECTORS  AND EXECUTIVE OFFICERS OF THE REGISTRANT                                         |
|       |                                                                                        |
| ITEM  11   | EXECUTIVE COMPENSATION                                                                      |
|       |                                                                                        |
| ITEM 12    | SECURITY  OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT                             |
|       |                                                                                        |
| ITEM  13   | CERTAIN  RELATIONSHIPS AND RELATED TRANSACTIONS                                             |
|       |                                                                                        |
|       | **PART IV**                                                                                 |
|       |                                                                                        |
| ITEM  14   | EXHIBITS,  FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K                           |
|       |                                                                                        |
| SIGNATURES |

 

For the purpose of thisForm 10-K, the following capitalized terms shall have the following meanings:

 

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“Company” or “Ostex” shall mean Ostex International,Inc., a Washington corporation;

 

“Annual Report to Shareholders” shall mean the annualreport to shareholders of Ostex International, Inc. for the year ended December31, 2001; and

 

“Proxy Statement” shall mean the proxy statement forthe 2002 shareholders meeting of Ostex International, Inc. to be heldWednesday, May 22, 2002, to be filed with the Securities and ExchangeCommission (the “Commission”) pursuant to Regulation 14A.

 

**PART I**

 

When used in this report and in the Company’s AnnualReport to Shareholders , the words “believes,” “intends”, “anticipates,” “plansto” and “expects” and similar expressions are intended to qualify asforward-looking statements.  Suchstatements are subject to certain risks and uncertainties and there are anumber of important factors that could cause actual results to differmaterially from those projected.  Thesefactors include, among others, the factors described under the section entitled“Risk Factors” below and under Part II, Item 7 entitled “Management’sDiscussion and Analysis of Financial Condition and Results of Operations—OtherFactors that May Affect Operating Results.”  Readers are cautioned not to place undue reliance on suchforward-looking statements, which speak only as of the date hereof.  The Company undertakes no obligation toupdate publicly any forward-looking statements to reflect new information,events or circumstances after the date of this Report, or to reflect theoccurrence of unanticipated events.

 

**Item 1.****        Business**

 

Ostex develops and commercializes products to make“disease management a reality” with osteoporosis being the first area offocus.  The Company’s lead product, theOSTEOMARKâ NTx test, nowavailable in multiple test formats, incorporates breakthrough and patentedtechnology for the management and prevention of osteoporosis.  The Company has formed collaborativerelationships with leading reference laboratories and pharmaceutical companies toaid in the commercialization of its Osteomark technology. Ostex wasincorporated in the State of Washington in 1989 and, as of December 31, 2001,the Company had 46 employees.

 

Osteoporosis is a significant health problem.  According to the National OsteoporosisFoundation (the “NOF”), osteoporosis afflicts over 28 million people in theUnited States alone.   Additionally,millions of people are at risk of skeletal degradation associated with Paget’sdisease of bone, cancer that metastasizes to bone, hyperparathyroidism(overactivity of the parathyroid gland, characterized by a reduction of bonemass) and renal osteodystrophy.  Inspite of the serious human and economic consequences of these diseases(according to the NOF, the national direct expenditures for osteoporosis andassociated fractures exceed $14 billion annually in the U.S. alone), medicalintervention usually commences only after pain, immobility, fractures, or othersymptoms have appeared.  The Companyexpects the osteoporosis therapeutic market will continue to grow as thepopulation ages.

 

The Company is the exclusive licensee of the Osteomarktechnology, known clinically as the NTx test, which is available in multipleformats that can aid in healthcare decision-making at early menopause andbeyond. The Osteomark test is a non-invasive test that quantitatively indicatesthe level of bone resorption. Individuals who are losing bone collagen at accelerated rates mayprogress to low bone mass, a major cause of osteoporosis. Identification of highlevels of bone resorption provides the opportunity to predict skeletal response(bone mineral density) to hormonal antiresorptive therapy, such as AmericanHome Products Corp.’s Premarin®, in postmenopausal women, which is intended toprevent the onset of osteoporosis.  Inaddition, the Company’s Osteomark test aids clinicians in monitoring theeffects of antiresorptive therapies, such as Merck & Co., Inc.’s Fosamax®,Eli Lilly and Company’s Evista®, and Proctor & Gamble Pharmaceuticals,Inc.’s and Aventis Pharmaceuticals, Inc.’s Actonel®, in postmenopausal womenand those diagnosed with osteoporosis, in a matter of three months versus oneto two years with conventional technology.

 

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The Company’s first Osteomark test became commerciallyavailable in May 1995 as a urinary test that provides a quantitative measure ofthe excretion of cross-linked N-telopeptides of Type I collagen (“NTx”) as anindicator of human bone resorption. In July 1996, the Company received expandedclaims for the test which allow that an Osteomark test measurement, if takenprior to the initiation of hormonal antiresorptive therapy, can be utilized topredict a patient’s response to that therapy, in terms of its effect on bonemineral density. Additionally, the claims allow that the test can be used tomeasure the effect of antiresorptive therapies in postmenopausal women, as wellas in individuals diagnosed with osteoporosis and Paget’s disease.  In March 1998, the claims were furtherexpanded by allowing that, in addition to the 1996 claims, an Osteomark testmeasurement can identify the probability for a decrease in bone mineral densityin postmenopausal women taking calcium supplements relative to those treatedwith hormonal antiresorptive therapy.

 

The Company’s second Osteomark test is a serum testthat became commercially available in February 1999. This was the firstcommercially available serum test in the United States that measures specificbone breakdown by osteoclasts using a blood sample. The Company believes thatthe use of a serum NTx test provides a number of advantages to centralizedtesting laboratories, including the elimination of the requirement to normalizeNTx values to creatinine concentration. The Company is manufacturing andmarketing the Osteomark test in an Enzyme-linked Immunosorbent Assay (“ELISA”)format for testing urine or serum samples.

 

The Osteomark NTx Point-of-Care device (the “NTxPoint-of-Care”) became commercially available in October 1999 for use in thephysician’s office. The Company and Metrika, Inc. (“Metrika”) developed aphysician’s office “Point-of-Care” Osteomark test device that is a fullydisposable point-of-care NTx test for urine as an indicator of bone resorptionthat computes an NTx value and displays it digitally. In May 2000, the Companyannounced it had acquired the exclusive right from Metrika to manufacture theOsteomark NTx Point-of-Care device as well as the exclusive worldwide licenseto manufacture, market and sell this device for the measurement of otherconnective tissue markers, including those associated with osteoarthritis.Under the agreement, Metrika receives a royalty based on the sales of the NTxPoint-of-Care device.  The Companystarted to work with Procter & Gamble in 2000 to launch a test program inGermany to use with the NTx Point-of-Care device with its osteoporosis drug,Actonel, for the management of osteoporosis. This program has since beenexpanded by Procter & Gamble and Aventis Pharmaceuticals and is beingtested in a number of countries including the United States in September of2001. In August 2001, the Company announced that it received Rx Home-Useclearance and CLIA Waiver status for its NTx Point-of-Care device from the Foodand Drug Administration (“FDA”).  Thisallows the device to be used in essentially all physician offices, andphysicians can write a prescription for the device so that patients may use itin their own homes under the direction of their physician.

 

The Company manufactures its Osteomark NTx Urine andSerum kits in the ELISA format at its manufacturing facility in Seattle,Washington.  During 2000, the Companyleased additional space in Seattle, Washington, and began improvements to thefacility in preparation for the manufacturing transfer of the Osteomark NTxPoint-of-Care device from Metrika.  TheCompany started shipping product that was assembled at its new facility in thefourth quarter of 2001 and, in the first quarter of 2002, the Companyanticipates shipping devices with highly specialized subcomponents that are alsomanufactured in its facility.

 

The Company and Mochida Pharmaceutical Co., Ltd.(“Mochida”), a Japanese pharmaceutical company, entered into a research anddevelopment agreement and a license agreement in 1992 for the commercializationof the Osteomark NTx urine test in Japan. Under the research and development agreement, Mochida has an option tolicense the NTx serum test and has paid the Company $3,350,000 in developmentfees to date.  Future payments of$750,000 under the agreement are contingent upon Mochida’s decision to exerciseits option. Under the license agreement, the Company granted Mochida exclusivemarketing and distribution rights to certain products in Japan.  Since 1992, Mochida has paid the Company$2,500,000 in licensing fees for the Osteomark test.  In January 1998, Mochida launched the Osteomark test in Japan forthe management of patients with hyperparathyroidism and for patients withmetastatic bone tumors.  In December1999, Mochida received an additional regulatory indication from the JapaneseMinistry of Health and Welfare for the Osteomark test for selecting suitabledrugs for the treatment of osteoporosis and monitoring efficacy of drug therapyfor osteoporosis.

 

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Worldwide promotion of the Osteomark urine test kitsis also supported by Johnson & Johnson Clinical Diagnostics, Inc. (“Johnson& Johnson”).  In 1995, the Companyentered into research, development, license and supply agreements with Johnson& Johnson.  These agreements grantJohnson & Johnson a license to manufacture, sell and distribute certainproducts using the Company’s bone resorption technology.  Currently, Johnson & Johnson distributesin the United States and certain foreign countries the Osteomark test in the existingmicrotiter plate format and, beginning in March 1999, it offered the NTx urinetest on its Vitros® automated analyzer. The Company receives payments for materials supplied by the Company androyalties on Johnson & Johnson’s sales of products incorporating theCompany’s technology.  Under the Johnson& Johnson license agreement, the Company has the right to license itstechnology for use on automated instruments to one other company in addition toJohnson & Johnson.

 

The Company has technology for measuring Type II andType III collagen degradation.  Type IIcollagen is a primary constituent of joint cartilage.  Osteoarthritis, a degenerative disease of joint cartilage, affectsover 15 million people in the United States alone. The first symptom, jointpain, occurs after substantial cartilage damage has taken place. The Company’sType II collagen degradation test will be further developed to allow reliablemonitoring of joint cartilage changes for validating the effectiveness of drugsunder development and for identifying patients with early-stage disease.  Similar to the Osteomark NTx test used inconnection with osteoporosis, the Company believes that the Type II collagendegradation test will aid in the clinical management of osteoarthritis patients.Type III collagen is a significant constituent of blood vessels such ascoronary arteries.  Measuringdegradation of this type of collagen may be useful in identifyingcardiovascular disease. The Company has no immediate plans to commercializetests for Type II or Type III collagen degradation, but has patents in theseareas if it decides to commercialize tests for Type II and III in the future.

 

The Company also has technology to enhance artificialjoint recovery.   The Company is theexclusive licensee of U.S. Patent No. 6,190,412, directed to prosthetic deviceshaving hydroxyapatite-coated bone attachment surfaces to whichtartrate-resistant acid phosphatase (TRAP) is absorbed.  Research supported by the Companyestablished that the human TRAP enzyme has a direct role as a local factor inthe recruitment of osteoclasts from hematopoietic cells.  Also that recombinantly produced TRAPabsorbs readily to hydroxyapatite, a bone-like mineral used to coat medical anddental implants.  The Company may seekcollaborations to confirm that such TRAP-induced stimulation of osteoclastrecruitment results in osteointegration and enhanced bonding of the graft orprosthesis to the patient’s bone.

 

OSTEOMARK and OSTEX are registered United Statestrademarks of the Company.  The Companyhas also registered its OSTEOMARK trademark in 45 other countries.  The Company’s collagen breakdown testtechnology is covered by 36 U.S. patents, 3 European patents, 5 Japanesepatents, and patents in Australia, Canada, Ireland, Korea, Russia, Spain,Norway, Hong Kong, and Singapore.  Twoof the European patents are in opposition proceedings.  Additional patent applications are pending.The Company’s patents are variously directed to Type I collagen breakdownproducts, including NTx, CTx, and deoxypyridinoline, as well as relatedbreakdown products of Type II and Type III collagen.  The Company’s patents will expire in 2007 or later.

 

**Item 1A.****   Risk Factors**

 

**History of Losses and Limited Operating History**

 

The Company has not been profitable for any year sinceits formation in 1989. The Company has a limited operating history and had aretained deficit through December 31, 2001 of $38,909,000. For the year-endDecember 31, 2001, the Company had a net loss of $3,099,000.  The Company expects to incur additionalcosts as it continues with its existing operations, the startup of its newmanufacturing facility for the NTx Point-of-Care device, marketing efforts, andresearch and development activities. The Company’s lead product, the Osteomark test,became commercially available in May 1995 in the U.S., but sales to date havenot been significant enough to generate net income. The ability to achievelong-term profitability is dependent upon obtaining further regulatoryapprovals for proposed products and successfully manufacturing, marketing andcommercializing existing and future products. The Company expects to continueto incur

 

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additional losses in the future and the Company isunable to predict when, if at all, it will achieve profitability.

 

**Future Capital Needs and Uncertainty of Additional Financing**

 

The Company’s future capital requirements depend uponmany factors, including the effectiveness of Osteomark NTx Serum, Urine, andPoint-of-Care commercialization activities and arrangements; continuedscientific progress in its research and development programs; the costsinvolved in preparing, filing, prosecuting, maintaining, and enforcing patentclaims; the time and costs involved in developing manufacturing and marketingoperations; changes in or terminations of the Company’s existing collaborationsand licensing arrangements; the emergence of competing technologies and otheradverse market developments; its degree of success in commercializing itsproducts, and the time and costs involved in obtaining additional regulatoryapprovals.  Additional funds from equityor debt financing may be required, especially as it relates to themanufacturing scale up of the NTx Point-of-Care device and uncertainty relatedto the timing of final production validation, market acceptance, and demand forthe product.  There can be no assurancethat such additional funds will be available on favorable terms, if at all.  If the Company is unable to raise additionalfunds when it needs them, it may be required to delay, reduce or eliminate someor all of its research and development programs or products. The Company alsomay be forced to partner with third parties to develop or commercializeproducts and technologies that it otherwise would have sought to developindependently.   Because of theCompany’s significant long-term cash requirements, it may seek to raiseadditional capital if conditions in the public equity markets are favorable orthrough private placements.  If theCompany raises additional funds by issuing equity securities, further dilutionto shareholders may result, and new investors could have rights superior tocurrent security holders.  If additionalfinancing is not available, the Company believes that its existing availablecash, its future license and research revenues from existing collaborationagreements, its current level of product sales and interest income fromshort-term investments will be adequate to fund operations through at least thefirst quarter of 2003.

 

**Lengthy Regulatory Processes and Uncertainty of RegulatoryApprovals**

 

The manufacture and marketing of the Company’sproducts and research and development activities are subject to regulation forsafety, efficacy, and quality by the FDA in the United States and comparableauthorities in other countries.

 

The process of obtaining FDA and other requiredregulatory approvals can be lengthy and expensive.  The time required for approvals is uncertain, and often dependson the type, complexity and novelty of the product.  There can be no assurance that regulatory agencies will actfavorably or quickly in their review of any submission by the Company.Significant difficulties or costs may be encountered by the Company in itsefforts to obtain approvals that could delay or preclude the Company frommarketing its products.  Furthermore,there can be no assurance that the agency will not request the development ofadditional data following original submissions, causing the Company to incur furthercost and delay.  Nor can there be anyassurance that the FDA will not restrict the intended use of a submittedproduct as a condition for clearance.

 

The requirements governing the conduct of clinicalstudies, manufacturing and marketing of proposed products outside the UnitedStates can vary widely from country to country.  Foreign approvals may take longer than FDA approvals and caninvolve additional testing.  Foreign regulatoryapproval processes include all of the risks associated with the FDA approvalprocesses.  Also, approval of a productby the FDA does not ensure approval of the same product by health authoritiesof other countries.

 

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**Extensive Continuing Government Regulation**

 

The research, development, manufacturing and marketingof the Company’s products are subject to extensive continuing regulation bynumerous governmental authorities in the U.S. and certain other countries, andthe Company, its products, and its manufacturing facilities are subject tocontinual review and periodic inspection. The regulatory standards for manufacturing are applied stringently bythe FDA.  Discovery of previouslyunknown problems with a product, manufacturer, or facility may result inrestrictions on such product or manufacturer or facility, including warningletters, fines, suspensions of regulatory approvals, product recalls, operatingrestrictions, delays in obtaining new product approvals, withdrawal of theproduct from the market, and criminal prosecution.  Other violations of FDA requirements can result in similarpenalties.  The Company is also subjectto numerous environmental, health and workplace safety laws and regulations,including those governing laboratory procedures, exposure to blood-borne pathogens,and the handling of biohazardous materials. Any violation of, and the cost of compliance with, these laws andregulations could adversely impact the Company’s operations.  The Company is unable to predict the extentor likelihood of adverse government regulation that might arise from futureU.S. or foreign government action.

 

**Intense Competitive Environment**

 

Competition from biotechnology companies, diagnosticcompanies, pharmaceutical companies, and research and academic institutions isintense and is based on price as well as product performance.  The Company’s main competitors areOsteometer Biotech A/S (aka Nordic Bioscience A/S) (“Osteometer”) and QuidelCorporation (“Quidel”) and licensees and distributors of their technologies andproducts. A number of diagnostic tests and procedures, and other non-invasivetests for osteoporosis and other bone disorders currently exist and others arein development, and the manufacturers of these tests will continue to improvethem.  In addition, the diagnosticindustry is subject to rapid technological change.  There can be no assurance that the Company’s competitors will notsucceed in developing products that are more effective or less expensive thanthose which have been or are being developed by the Company or which wouldrender the Company’s core technology obsolete, unecomonical ornon-competitive.  Many of the Company’scompetitors have, or have access to substantially greater financial, technicaland human resources than the Company. In addition, many of these competitors have significantly greaterexperience and resources than the Company in undertaking clinical trials andother regulatory approval procedures, as well as in marketing and achievingmanufacturing efficiencies.  There arealso small companies, academic institutions, governmental agencies and otherresearch organizations that are conducting research in the area of osteoporosisand other collagen-related diseases. These entities are becoming increasinglyaware of the commercial value of their findings and more active in seekingpatent and other proprietary rights, as well as licensing revenues. TheCompany’s competitors may develop technologies and products that are availablefor sale prior to the Company’s products or at a lower cost or with bettertechnical characteristics rendering the Company’s products less competitive.

 

**Dependence on Therapeutics Developed by Others**

 

Acceptance of and demand for the Company’s diagnosticproducts will be affected by the need perceived by physicians to diagnose bone,cartilage and connective tissue disorders for the purposes of treatment.  There are currently a limited number oftherapies that are effective in preventing osteoporosis or other bone,cartilage or connective tissue disorders, or in treating these disorders oncediagnosed.  In the event new therapiesdo or do not receive regulatory approval or experience delayed marketacceptance, the Company could be adversely affected.  Unfavorable publicity concerning a product of the Company ortherapeutic products for osteoporosis could also have an adverse effect on theCompany’s ability to obtain regulatory approvals or to achieve marketacceptance.

 

**Uncertainty of Market Acceptance**

 

The Company’s lead product, the Osteomark test, becamecommercially available in May 1995 in the U.S., but sales have not beensignificant enough to generate net income. There can be no assurance that the Company’s Osteomark test or any ofits other products will gain widespread acceptance from the medical community,clinical or hospital laboratories, pharmaceutical companies, physicians orpatients as readily as

 

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other forms of diagnosis or any newly developeddiagnostic.  There can be no assurancethat the Company will be able to develop significant market share for itsproducts or maintain or increase its market share. The inability of the Companyto achieve further market acceptance for its products would have a materialadverse effect on the Company’s business, financial condition and results ofoperation.

 

**Dependence on Core Technology; Uncertainty of Adaptation toDifferent Formats**

 

The Company currently relies exclusively upon its coretechnology for the development of diagnostic products associated withosteoporosis and other collagen-related diseases.  There can be no assurance that competitors of the Company willnot be successful in developing new or more efficient or cost-effectivediagnostics that are more readily accepted than the Company’s products.  The Company has ongoing, additionaldevelopment to adapt its core technology to different formats, instruments andother delivery platforms that currently exist or may be developed.  In particular, additional research and developmentwill be required to adapt its core technology to high-speed, high-volumeautomated instruments typically used in large clinical laboratories orcompanies through which the Company may seek to expand the market for itsproducts.  There can be no assurancethat the Company will be successful in adapting and further developing its coretechnology to meet such needs.  Inaddition, technological changes or medical advancements could diminish oreliminate the commercial viability of the Osteomark test or future productsbased upon the Company’s core technology. The failure to adapt the Company’s core technology to different formats,instruments, and other delivery platforms, or otherwise to commercialize suchcore technology, would have a material adverse effect on the Company’sbusiness, financial condition, and results of operation.

 

**Reliance on Collaborative Agreements and CertainRelationships**

 

The Company has entered into collaborative,distribution or co-promotional agreements, arrangements, or programs withseveral partners, including, among others, Johnson & Johnson, Mochida,Procter & Gamble, Aventis Pharmaceuticals and Quest DiagnosticsIncorporated.  The level of eachpartner’s involvement and support and the amount and timing of resources theywill give or the amount of product they will purchase from the Company underthese agreements, arrangements, or programs are not within the control of theCompany and can significantly impact the Company’s ability to achieve itsobjectives.  There can be no assurancethat these collaborators will perform their contractual or otherwiseobligations as expected or that the Company will derive revenue from sucharrangements.  Moreover, the agreementsor business could be terminated. The Company expects to rely on these andadditional agreements, arrangements, or programs to develop and commercializeand sell its present and future products. There can be no assurance that theCompany will be able to negotiate acceptable agreements in the future or thatsuch new agreements or existing agreements will be successful. If anycollaborator breaches or terminates its agreement, or fails to conduct itscollaborative activities in a timely manner, the commercialization of existingand future products could be slowed down or blocked completely.  Disputes may arise between the Company andits collaborators on a variety of matters, including financial or otherobligations under the business relationships between the companies.  These disputes may be both expensive andtime consuming and may result in delays in the development andcommercialization of the Company’s products.

 

**LimitedMarketing and Distribution Experience**

 

The Company has limited marketing and distributionexperience.  To market any of itsproducts directly, the Company must develop and implement a substantialmarketing and sales effort with technical expertise and supporting distributioncapability. The Company intends to continue to market and sell its products inthe U.S. through research and clinical laboratories, distributors, and businessarrangements and sell its products in other markets through distributors andpharmaceutical companies.  There can beno assurance that the Company will be able to establish effective marketing anddistribution capabilities or that its collaborators will be successful ingaining market acceptance for the Company’s products or that the Company willachieve or maintain significant market share for its products.

 

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**Limited Manufacturing Experience**

 

The Company has, through an agreement with Metrika,developed an adaptation of its core technology for use in physicians’ offices,called the Osteomark NTx Point-of-Care device. Through December 2001, the Company has depended upon the efforts ofMetrika for the production of the Osteomark NTx Point-of-Care device.  In 2002, the Company expects to beginmanufacturing the Osteomark NTx Point-of-Care device for sale itself, but willcontinue to rely on Metrika for supply of certain components.  The Company has limited manufacturingexperience with a product like the Osteomark NTx Point-of-Care device.  Although the Company believes that itsmanufacturing facility will be capable of producing commercial-scale quantitiesof the Osteomark product, if the Company is unable to manufacture this andother products in a cost-effective manner, it will not become profitable. TheCompany is currently producing and testing certain critical components for theNTx Point-of-Care device. The NTx Point-of-Care device will not be availablefor sale from the Company’s new facility until these critical components can beproduced in significant quantities with consistent quality. The Companycurrently has purchase orders for the NTx Point-of-Care device from customersthat had bought the device in the past when Metrika was manufacturing andsupplying the NTx Point-of-Care device to Ostex. These orders are currently onback order until the Company produces NTx Point-of-Care devices that areavailable for sale. There can be no assurances given related to the Company’sability to successfully manufacture certain critical components for the NTxPoint-of-Care device, or the device itself, or that the Company will be able tosupply enough devices to meet the initial and future market demand for thedevice. Interruptions in the manufacturing process or the availability of rawmaterials could delay or prevent the commercial marketing of the Osteomark NTxPoint-of-Care device, which could have a material adverse effect on theCompany’s results of operations.

 

**Dependence on Licensed Patents and Proprietary Rights**

 

The Company’s success depends, in large part, on itscurrent and future patent position relating to its core technology. TheCompany’s patent position involves complex legal and factual questions.  The Company is the exclusive licensee ofcertain patents within and outside of the U.S. relating to the Company’s coretechnology.  Claims made under patentapplications may be denied or significantly narrowed, and issued patents maynot provide significant commercial protection to the Company.  There is no assurance that the Company’spatents will not be successfully challenged or circumvented by others.  The Company could incur substantial costs inproceedings before the U.S. Patent Office, including interference proceedings.  These proceedings could also result inadverse decisions as to the patentability of the Company’s licensed or assignedinventions.  There can be no assurancethat the Company’s products do not or will not infringe on the patent orproprietary rights of others.  TheCompany may be required to obtain additional licenses to the patents or otherproprietary rights of others.  TheCompany may also require licenses from the inventors of certain processes,technologies and assay formats in order to successfully market certainproducts.  There can be no assurancethat any such licenses would be made available on terms acceptable to theCompany, if at all.  If the Company needsand cannot or does not obtain such licenses, it could encounter delays in productintroductions or may have to stop selling existing products while it attemptsto circumvent such patents, assuming that is possible, or the development,manufacture, or sale of products requiring such licenses could be precluded.  The Company believes there will continue tobe significant litigation in the industry regarding patent and otherintellectual property rights.

 

The Company is aware of competitors that aredeveloping and selling products that may be covered by claims made in patentsor patent applications of the Company. Because certain foreign patents are subject to third-party oppositionfollowing the date of grant of such patents, there can be no assurance thatclaims of the Company’s foreign patents, once granted, will survive such oppositionwithout cancellation or significant modification.  Because U.S. applications are confidential until a patent issues,the Company cannot be assured that its patent claims have priority in the U.S.or will be entitled to patent protection.

 

The Company also relies on trade secrets and otherunpatented proprietary technology.  Noassurance can be given that the Company can meaningfully protect its rights insuch unpatented technology or that others will not independently developsubstantially equivalent products and processes or otherwise gain access to theCompany’s technology.  The Company seeksto protect its trade secrets and proprietary know-how, in part, withconfidentiality agreements with its employees and consultants.  There can be no assurance that theseagreements will not be breached, that the Company will have adequate remediesfor any breach, or

 

8

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that the Company’s trade secrets will not otherwisebecome known or be independently developed by competitors.

 

The cost to the Company of any litigation or otherproceedings relating to intellectual property rights, even if resolved in theCompany’s favor, could be substantial. Some of the Company’s competitors may be better able to sustain the costsof complex patent litigation because they have substantially greater resources.

 

**ProductLiability Claims in Excess of the Amount of Insurance Would Adversely AffectFinancial Condition.**

 

The testing, manufacturing, marketing and sale of theCompany’s products may subject us to product liability claims.  The Company maintains coverage againstproduct liability risks up to a $2 million aggregate limit.  However, continuing insurance coverage maynot be available at an acceptable cost, if at all.  The Company may not be able to obtain insurance coverage thatwill be adequate to satisfy any liability that may arise.  Regardless of merit or eventual outcome,product liability claims may result in decreased demand for a product, injuryto its reputation, withdrawal of clinical trial volunteers and loss ofrevenues.  As a result, regardless ofwhether the Company is insured, a product liability claim or product recall mayresult in losses that could be material.

 

**LimitedSuppliers**

 

The majority of the raw materials and purchasedcomponents used to manufacture the Company’s products are readilyavailable.  However, certain of thesematerials, such as solid phase membranes and electronics modules for theCompany’s NTx Point-of-Care device, are from a sole supplier or a limited groupof suppliers.  There can be no assurancethat the Company’s reliance on these suppliers will not result in problems withproduct supply.  Interruptions in theavailability of products could have a material adverse effect on the Company’sresults of operations.

 

**Uncertainty of Healthcare Reimbursement**

 

The Company’s ability to commercialize its productswill depend in part on the extent to which reimbursement for the cost of suchproducts and related treatment will be available from third-party payors, suchas government health administration authorities, private health coverageinsurers and other organizations.  Thestatus of the scope of healthcare programs worldwide is uncertain and there canbe no assurance that adequate third-party coverage will be available for theCompany to maintain price levels sufficient for realization of an appropriatereturn on its investment in product development.  Third-party payors are increasingly challenging the price andcost effectiveness of medical products and services.   There can be no assurance that the Company’s existing or anyfuture products will provide sufficient value or be considered cost effectiveand that reimbursement to the consumer will be available or sufficient to allowthe Company to sell its products on a competitive basis.

 

**Volatility of Stock Price**

 

The volatility of the Company’s stock price has beensignificant since it first became publicly traded in January 1995.  The stock market may experience significantprice and volume fluctuations unrelated to the operating performance ofparticular companies.  Factors such asany loss of key management, the results of the Company’s clinical trials orthose of its competitors, adverse regulatory actions or decisions, evidenceregarding the safety or efficacy of the Company’s products or those of itscompetitors, announcements of technological innovations or new products by theCompany or its competitors, governmental regulation, developments with respectto patents or other proprietary rights, product or patent litigation or publicconcern as to the safety of products developed by the Company may have avolatile effect on the market price of the Company’s stock.  The realization of any of the risks describedin this report, as well as other factors, could have a material adverse

 

9

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impact on the market price of the Company’s CommonStock and may result in loss of some or all of your investment.

 

In the past, securities class action litigation hasoften been brought against companies following periods of volatility in theirstock prices.  The Company may in thefuture be the target of similar litigation. Securities litigation could result in substantial costs and divertmanagement’s time and resources, which could cause the Company’s business tosuffer.

 

**Item 1B****.     ExecutiveOfficers of the Registrant**

 

The executiveofficers of the Company and their ages are as follows:

 
| **Name**                  |   | **Age** |   | **Position**                                    |
|---------------------------|--------|---------|--------|-------------------------------------------------|
| Thomas A. Bologna         |   | 53      |   | Chairman, President and Chief Executive Officer |
|                      |   |    |   |                                            |
| Thomas F. Broderick       |   | 53      |   | Vice President, Patent and General Counsel      |
|                      |   |    |   |                                            |
| J. Daniel Clemens         |   | 45      |   | Vice President, Product Development             |
|                      |   |    |   |                                            |
| Michael C. Perry          |   | 57      |   | Vice President, Sales and Marketing             |
|                      |   |    |   |                                            |
| Reed Simmons              |   | 49      |   | Vice President,  Operations                     |
|                      |   |    |   |                                            |
| Johannes (Hans) van Houte |   | 36      |   | Vice President, Finance                         |

 

There are no family relationships between anyexecutive officers of the Company.

 

**Thomas A. Bologna**joined the Company inJuly 1997 as the President and Chief Executive Officer and as a member of theBoard of Directors and in April 1999, he was appointed Chairman of the Board ofDirectors.  From January 1996 to July1997, Mr. Bologna was a principal in Healthcare Venture Associates, a consultingfirm.  From January 1994 to January1996, Mr. Bologna was President and Chief Executive Officer for ScriptgenPharmaceuticals, Inc., a biotechnology company with proprietary drug screeningtechnology that is developing orally active drugs to regulate gene expression,and from July 1987 to January 1994, Mr. Bologna was Chairman of the Board ofDirectors, President and Chief Executive Officer of Gen-Probe Incorporated, abiotechnology company commercializing genetic-probe-based technology fordiagnostic and therapeutic applications. Prior to Gen-Probe, Mr. Bolognaheld several senior level positions with Becton, Dickinson and Company andWarner-Lambert Company.  At Becton,Dickinson and Company, he served as President of the Diagnostic Instrument SystemsDivision, President of the Johnston Laboratories Division, and Vice Presidentand General Manager of the Hynson, Wescott & Dunning biotechnologyunit.  At Warner-Lambert Company, heserved as a Vice President responsible for the marketing, sales and R&Dfunctions, as well as the Asia/Pacific profit center for the ScientificInstrument Division.  Mr. Bologna serveson the Board of Directors for LeonardoMD Corporation.  Mr. Bologna received an M.B.A. and a B.S. from New YorkUniversity.

 

**Thomas F. Broderick** was named the VicePresident, Patent and General Counsel in November 1997. Mr. Broderick was VicePresident, Intellectual Property from March 1997 to November 1997 and wasPatent Counsel for the Company from April 1996 to March 1997. From 1989 toMarch 1996, Mr. Broderick was a partner at the patent law firm of Christensen,O’Connor, Johnson & Kindness in Seattle, Washington.

 

**J. Daniel Clemens** was named the VicePresident, Product Development in September 1998.  Mr. Clemens was Director of Research & Development for theCompany from May 1992 to September 1998 and Manager of Product Development fromOctober 1990 to May 1992.  Prior tojoining the Company, Mr. Clemens was Senior Research & DevelopmentScientist from February 1987 to October 1990 at Genetic SystemsCorporation/Sanofi.

 

10

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**Michael C. Perry**joined the Company inFebruary 2000 as Vice President, Sales and Marketing. Prior to joining theCompany, Mr. Perry was National Sales Manager for Sarstedt, Inc., amanufacturer of high quality plastic products for the clinical and researchmarkets, from September 1996 to January 2000. Prior to Sarstedt, Mr. Perry waswith Organon Teknika Corporation for over 20 years.

 

**Reed Simmons**joined the Company in 2002 as Vice President, Operations. Mr. Simmons hasover 25 years of biomedical and biotechnology experience includingmanufacturing and operational management positions for divisions ofpharmaceutical companies Smith-Kline Beckman and Bristol-Myers Squibb. From1993 - 1999 Mr. Simmons was Vice President and General Manager of a U.S.operating division of Sanofi-Synthelabo S.A. Prior to that, Mr. Simmons workedfor Genetic Systems Corporation and helped to develop and commercialize thatcompany’s first products.

 

**Hans van Houte** joined the Company in 2001.Mr. van Houte has worked in finance and accounting for biotech and healthcarerelated companies for the past ten years. Prior to joining Ostex, Mr. van Houtewas Director of Finance at HealthTalk Interactive and the former Controller andTreasurer for Vertex Pharmaceuticals Incorporated.

 

**Item 2.****        Properties**

 

The Company’s research laboratories, manufacturingoperations, and administrative offices are located in Seattle, Washington.  The Company leases approximately 46,000square feet of space under three separate lease agreements that expire in 2002,2005, and 2010 respectively.  TheSeattle facilities have adequate capacity for the Company’s present needs.

 

**Item 3.****        LegalProceedings**

 

Information regarding legal proceedings is containedin Item 8 of this Annual Report on Form 10-K in the section entitled “Notes toFinancial Statements,” under Note 9 - Litigation.

 

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

 

Not applicable.

 

**PART II**

 

**Item 5.****        Market for Registrant’s Common Equityand Related Shareholder Matters**

 

**Market Price of Common Stock**

 

The Company’s Common Stock is traded on the NasdaqNational Marketâ under the symbol“OSTX.”   The following table lists thehigh and low trading prices for the Company’s Common Stock as reported on the NasdaqNational Market.

 
| **2001**    |   | **High** |   | **Low** |
|-------------|--------|----------|--------|---------|
| 1st quarter |   | $        | 1.94   |    | $ | 1.03 |
| 2nd quarter |   | 1.95     |   | 1.06    |
| 3rd quarter |   | 3.15     |   | 1.22    |
| 4th quarter |   | $        | 3.35   |    | $ | 1.76 |

** **
| **2000**    |   | **High** |   | **Low** |
|-------------|--------|----------|--------|---------|
| 1st quarter |   | $        | 9.56   |    | $ | 2.75 |
| 2nd quarter |   | 3.63     |   | 1.66    |
| 3rd quarter |   | 3.00     |   | 1.63    |
| 4th quarter |   | $        | 2.38   |    | $ | 1.00 |

 

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The closing price of the Common Stock on December 31,2001 was $2.50.

 

**Holders of Common Stock**

 

As of March 14, 2002, there were 12,558,174 shares ofCommon Stock outstanding held of record by approximately 109 shareholders.  The Company believes there are approximately3,800 additional owners of Common Stock who own shares held in street name.

 

**Dividend Policy**

 

The Company has never paid cash dividends and has nopresent intention of paying dividends in the foreseeable future.

 

**Common Stock Warrant**

 

During the period covered by this report on Form 10-K,the Company issued warrants to one outside consultant for the purchase of14,000 shares of common stock, with exercise prices ranging from $1.46 - $2.85,in exchange for services to be provided to the Company. The warrants vest uponissuance and expire in two years from the date of grant.  These warrants were exempt from registrationunder the Securities Act pursuant to Section 4(2) of the Securities Act on thebasis that the transaction did not involve a public offering.

 

**Transfer Agent and Registrar**

 

The transfer agent and registrar for the Common Stockis Mellon Investor Services, LLC, Ridgefield Park, New Jersey.

 

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**Item 6.****        SelectedFinancial Data**

 
| **FISCAL YEAR ENDED DECEMBER 31,**                                 |   | **2001**                                 |   | **2000** |   | **1999** |   | **1998** |   | **1997** |   |
|--------------------------------------------------------------------|--------|------------------------------------------|--------|----------|--------|----------|--------|----------|--------|----------|--------|
|                                                               |   | **(in thousands, except share amounts)** |   |
| **REVENUES:**                                                      |   |                                     |   |     |   |     |   |     |   |     |   |
| Product sales and research testing services                        |   | $                                        | 5,734  |     | $      | 5,552    |   | $        | 4,732  |     | $      | 3,047 |   | $ | 3,658 |   |
| License fees and research and development payments                 |   | —                                   |   | —   |   | —   |   | —   |   | 450      |   |
| Total revenues                                                     |   | 5,734                                    |   | 5,552    |   | 4,732    |   | 3,047    |   | 4,108    |   |
|                                                               |   |                                     |   |     |   |     |   |     |   |     |   |
| **COST  OF PRODUCTS SOLD**                                         |   | 2,278                                    |   | 1,858    |   | 1,130    |   | 814      |   | 899      |   |
|                                                               |   |                                     |   |     |   |     |   |     |   |     |   |
| **GROSS  MARGIN ON PRODUCT SALES**                                 |   | 3,456                                    |   | 3,694    |   | 3,602    |   | 2,233    |   | 3,209    |   |
| (Percentage of revenue)                                            |   | 60                                       | %      | 67       | %      | 76       | %      | 73       | %      | 78       | %      |
|                                                               |   |                                     |   |     |   |     |   |     |   |     |   |
| **OPERATING  EXPENSES:**                                           |   |                                     |   |     |   |     |   |     |   |     |   |
| POC facility start-up costs                                        |   | 872                                      |   | 80       |   | —   |   | —   |   | —   |   |
| Research and development                                           |   | 1,834                                    |   | 1,611    |   | 1,734    |   | 2,901    |   | 4,470    |   |
| Selling, general and administrative                                |   | 3,932                                    |   | 4,568    |   | 3,831    |   | 8,122    |   | 8,031    |   |
| Total operating expenses                                           |   | 6,638                                    |   | 6,259    |   | 5,565    |   | 11,023   |   | 12,501   |   |
| Loss from operations                                               |   | (3,182                                   | )      | (2,565   | )      | (1,963   | )      | (8,790   | )      | (9,292   | )      |
|                                                               |   |                                     |   |     |   |     |   |     |   |     |   |
| **OTHER  INCOME:**                                                 |   |                                     |   |     |   |     |   |     |   |     |   |
| Proceeds from legal settlement                                     |   | —                                   |   | 152      |   | —   |   | —   |   | 6,200    |   |
| Interest, net                                                      |   | 83                                       |   | 396      |   | 393      |   | 695      |   | 828      |   |
| Net Loss                                                           |   | $                                        | (3,099 | )        | $      | (2,017   | )      | $        | (1,570 | )        | $      | (8,095 | ) | $ | (2,264 | ) |
|                                                               |   |                                     |   |     |   |     |   |     |   |     |   |
| Basic and diluted net loss per common and common  equivalent share |   | $                                        | (0.25  | )        | $      | (0.16    | )      | $        | (0.13  | )        | $      | (0.64 | ) | $ | (0.18 | ) |
|                                                               |   |                                     |   |     |   |     |   |     |   |     |   |
| Weighted average shares used in calculation of net  loss per share |   | 12,516                                   |   | 12,504   |   | 12,522   |   | 12,696   |   | 12,574   |   |

 
| **DECEMBER  31,**                                 |   | **2001**           |   | **2000** |   | **1999** |   | **1998** |   | **1997** |   |
|---------------------------------------------------|--------|--------------------|--------|----------|--------|----------|--------|----------|--------|----------|--------|
|                                              |   | **(in thousands)** |   |
| **BALANCE  SHEET DATA:**                          |   |               |   |     |   |     |   |     |   |     |   |
| Cash, cash equivalents and short-term investments |   | $                  | 3,827  |     | $      | 6,578    |   | $        | 8,400  |     | $      | 10,979 |   | $ | 18,965 |   |
|                                              |   |               |   |     |   |     |   |     |   |     |   |
| Working capital                                   |   | 4,104              |   | 6,600    |   | 9,205    |   | 10,624   |   | 18,368   |   |
|                                              |   |               |   |     |   |     |   |     |   |     |   |
| Total assets                                      |   | 9,635              |   | 12,311   |   | 12,297   |   | 15,065   |   | 24,112   |   |
|                                              |   |               |   |     |   |     |   |     |   |     |   |
| Accumulated deficit                               |   | (38,909            | )      | (35,810  | )      | (33,793  | )      | (32,223  | )      | (24,128  | )      |
|                                              |   |               |   |     |   |     |   |     |   |     |   |
| Total shareholders’ equity                   |   | $                  | 6,932  |     | $      | 9,906    |   | $        | 11,709 |     | $      | 13,488 |   | $ | 21,644 |   |

 

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**Item 7****.        Management’s Discussion and Analysis ofFinancial Condition and Resultsof Operations**

 

**Results Of Operations**

 

*Years Ended December 31, 2001, 2000,1999*.  The Company hadtotal revenues of $5,734,000 for the year ending December 31, 2001, as comparedto $5,552,000 and $4,732,000 for the years ended December 31, 2000 and 1999,respectively.  Revenue is primarilycomprised of sales of the Company’s products which are recognized only uponshipment.  The increase of $182,000 in2001 compared to 2000 revenue is attributable to an increase in sales for theOsteomark NTx Point-of-Care Device. During 2001, the Company sold over 35,000 devices to Procter &Gamble and Aventis Pharmaceuticals, as compared to over 24,000 in 2000, to beused in marketing programs worldwide to test using the device with theirosteoporosis drug, Actonel. The increase in revenue of $820,000 in 2000compared to 1999 is attributable to higher volumes of serum kits, increased shipmentsof urine kits to Mochida, and the introduction of the Osteomark NTxPoint-of-Care device.

 

The Company’s cost ofproducts sold totaled $2,278,000 for the year ended December 31, 2001, ascompared to $1,858,000 and $1,130,000 for the same periods in 2000 and 1999,respectively.  The gross margin rate onproduct sales for the year ended 2001 was 60% as compared to 67% in 2000 and76% for 1999. The decrease in gross margin rate from 2000 to 2001 was due inpart to increased sales of the NTx Point-of-Care device. In addition, therewere certain inventory adjustments made in the first quarter of 2000, whichresulted in a 91% margin in that quarter that affected the annual margin.  The decrease in gross margin rate from 1999to 2000 was primarily due to product mix regarding the launch of the NTxPoint-of-Care device in 2000.

 

The Company’s researchand development expenditures totaled $1,834,000, $1,611,000, and $1,734,000 in2001, 2000, and 1999, respectively.  The$223,000 increase from 2000 to 2001 was driven by personnel costs andprofessional fees associated with the NTx Point-of-Care device includingclinical trials related to seeking approval for CLIA Waiver and Rx Home-Use.The $123,000 decrease from 1999 to 2000 resulted from the conclusion of one ofthe research grants to the University of Washington.

 

Selling, general andadministrative expenses totaled $3,932,000, $4,568,000, and $3,831,000 in 2001,2000, and 1999, respectively. Expenses decreased by $636,000 in 2001 from 2000primarily due to the reduction of the sales force and marketing relatedexpenditures for the urine and serum kit products. The $737,000 increase in2000 compared to 1999, was due primarily to higher wages, professional servicefees, and marketing related expenditures related to launching the NTxPoint-of-Care device.

 

The Company also incurredstart-up costs for its new Point-of-Care facility that totaled $872,000 in 2001as compared to $80,000 in 2000. In 2000, the Company decided to lease space ona long-term basis and build out its own facility to manufacture the NTxPoint-of-Care device. The transfer of technology from Metrika, its third partyvendor and initial manufacturer of the device, began towards the end of 2000and the Company leased new space at the same time. The expense in 2001 relatesto the facility operating costs, which include higher depreciation expenserelated to the build out of the new facility, labor and material costs tovalidate the facility, and production validation runs or pilot lots of the NTxPoint-of-Care device. The Company expects it will continue to incur these costsin the first quarter of 2002 as production is increased and component parts arealso manufactured at the Company’s Point-of-Care manufacturing facility. Oncethat occurs, devices fully manufactured in the Company’s facility will beavailable for sale and the cost of those devices will be expensed through costof goods sold.

 

Other income totaled$83,000, $548,000, and $393,000 for the years ended December 31, 2001, 2000,and 1999, respectively.  The $465,000decrease in 2001 as compared to 2000 is a result of less interest income due tolower balances of cash and short-term investments, lower interest rates in 2001versus 2000, and higher interest expense related to $2,316,000 in debt drawdowns from Transamerica Business Credit Corporation for the Point-of-Carefacility build-out, and in 2002, the Company recognized $152,000 of theone-time settlement fee by Osteometer Biotech A/S (“Osteometer”) related to thesettlement of the lawsuit between Osteometer and the Company (see Note 9 -Litigation, to the accompanying financial statements). The increase from 1999to 2000 was driven by the same $152,000 of the one-time settlement fee paid.

 

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At December 31, 2001, theCompany had tax net operating loss carryforwards of approximately $42,523,000,which will begin to expire in 2004. Income taxes are provided in the Statements of Operations as required byStatement of Financial Accounting Standards No. 109, “Accounting For IncomeTaxes” (“SFAS No. 109”).  Under SFAS No.109, deferred taxes are determined using an asset and liability approach.  The Company has determined that the taxassets do not satisfy the recognition criteria set forth in SFAS No. 109.  Accordingly, a valuation allowance has beenrecorded against the applicable deferred tax assets, and therefore no taxbenefit has been recorded.

 

Net operating losscarryforwards are subject to review and possible adjustment by the InternalRevenue Service and may be limited, in the event of certain cumulative changesin excess of 50% in ownership interests of significant shareholders over athree-year period.

 

**CriticalAccounting Policies**

 

We have identifiedthe most critical accounting policies used in the preparation of our financialstatements by considering accounting policies that involve the most complex orsubjective decisions or assessments. Our most critical accounting policies relate to revenue recognition,products returns and the carrying value of the investment in Metrika.

 

The Company’srevenue recognition policies are based on the requirements of Staff AccountingBulletin No. 101, “Revenue Recognition in Financial Statements.”  Revenue is recorded when earned and forproduct sales upon shipment.  Anypayments received prior to revenue recognition are deferred.

 

Returns of productto date have been warranty related and insignificant; however, with the ramp upin our new manufacturing facility for the NTx Point-of-Care devices, there is arisk that returns in the future could increase.  Should this occur, the Company’s revenues could be impacted by anincrease in the return provision.

 

The Companyrecords its investment in Metrika at the lower of cost or market.  Should market conditions result in a declinein the value of our investment to below our carrying value, the Company wouldhave to record a loss resulting from the impairment of this investment.

 

**Liquidity And Capital Resources**

 

As of December 31,2001, the Company had $3,827,000 in cash and cash equivalents and short-terminvestments, working capital of $4,104,000 and total shareholders’ equity of$6,932,000.  During 2001, cash and cashequivalents and short-term investments decreased by $2,751,000, working capitaldecreased by $2,496,000, and shareholders’ equity decreased by $2,974,000.  The decreases were primarily the result ofthe net loss incurred during 2001.

 

The Company used$2,995,000 of cash for operating activities in 2001.  The Company used $582,000 in 2001 and $2,031,000 in 2000 for thepurchase of leasehold improvements, manufacturing and office equipment, whichwere purchased primarily for the build out of the Company’s new manufacturingfacility for production of the NTx Point-of-Care device. Inventory increasedfrom $465,000 in 2000 to $994,000 in 2001 primarily due to the purchase in 2001of component parts for the NTx Point-of-Care device.  Inventories are stated at the lower of cost or market.  In 2000, the Company entered into anagreement that provided up to $2,800,000 in debt financing for the newmanufacturing facility and borrowed $1,228,000 during 2001 and $1,088,000during 2000.  As of December 31, 2001,outstanding borrowings under this agreement were $1,773,000.  The Company has no further availabilityunder this financing as of December 31, 2001. Also during 2001, the Companyrepurchased on the open market 14,000 shares of common stock at a total cost of$19,000 and issued 85,000 shares of common stock related to the exercise ofstock options and warrants, receiving $59,000 in proceeds.

 

The following tablesummarizes the Company’s contractual obligations and other commercialcommitments as of December 31, 2001, and the effect such obligations andcommitments are expected to have on liquidity for future periods. Long termdebt payments include interest as well as principle.

 

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| **Contractual  obligations** |   | **Total** |      | **Less than  1 year** |   | **1-3 years** |   | **4-5 years** |      | **After 5  years** |   |
|------------------------------|--------|-----------|-----------|-----------------------|--------|---------------|--------|---------------|-----------|--------------------|--------|
| Long-term debt               |   | $         | 2,125,000 |                  | $      | 849,000       |   | $             | 1,276,000 |               | $      | — |   | $ | — |   |
| Operating leases             |   | 3,020,000 |      | 669,000               |   | 1,855,000     |   | 208,000       |      | 288,000            |   |
| Total cash  obligations      |   | $         | 5,145,000 |                  | $      | 1,518,000     |   | $             | 3,131,000 |               | $      | 208,000 |   | $ | 288,000 |   |

 

The Company’s futurecapital requirements depend upon many factors, including the effectiveness ofthe Osteomark NTx Serum, Urine, and Point-of-Care commercialization, productionand delivery activities and arrangements; continued scientific progress in itsresearch and development programs; the costs involved in filing, prosecuting,and enforcing patent claims; the manufacturing needs for new and existingproducts;  the time and costs involvedin obtaining regulatory approvals, as well as other factors discussed in thesection entitled “Risk Factors” above. Additional funds from equity or debt financing may be requiredespecially as it relates to the manufacturing scale up of the NTx Point-of-Caredevice and uncertainty related to the timing of final production validation,market acceptance and demand for the product. There can be no assurance that such additional funds will be availableon favorable terms, if at all.  TheCompany may seek to raise additional capital if conditions in the public equitymarkets are favorable or through private placements, even if the Company doesnot have an immediate need for additional cash at that time.  If additional financing is not available,the Company believes that its existing available cash, its future license andresearch revenues from existing collaboration agreements, its current level ofproduct sales and interest income from short-term investments will be adequateto fund operations through at least the first quarter of 2003.

 

**OtherFactors That May Affect Operating Results**

 

The Company’s operatingresults may fluctuate due to a number of factors including, but not limited to,cost, volume and timing of product sales, pricing, market acceptance of theCompany’s products, changing economic conditions, actions of competitors,delays and increased costs of product and technology development, manufacturingperformance, the Company’s ability to develop and maintain collaborativearrangements, the outcome of litigation, and the effect of the Company’saccounting policies and other risk factors detailed in this report and other Commissionfilings.  All of the foregoing factorsare difficult for the Company to predict and could materially and adverselyaffect the Company’s business and operating results.

 

**Item 7A.****     Quantitative and QualitativeDisclosures About Market Risk**

 

*Interestrate risk.* The Company’s exposure to market rate risk, as aresult of changes in interest rates, relates primarily to its investmentportfolio. At December 31, 2001, the Company held $1.3 million in cash and cashequivalents and $2.5 million in federal and government agency obligations.  Although the Company holds both fixed andadjustable rate investments and each carry a certain degree of interest raterisk, the Company does not consider this risk to be.  Additionally, at December 31, 2002 the Company had $1,773,000 ofnotes payable. While fluctuations in interest rates may affect the fair valueof this debt, the Company’s debt payments will not be effected due to fixedinterest rates on this debt.

 

*Currencyrisk.* The Companyconducts all financial transactions in U.S. currency.  However, currency fluctuations may impact a foreign customer’sability to meet its payment obligations and/or future product pricing to thatcustomer.  Based upon the Company’scredit authorization policy, current economic conditions in countries in whichthe Company does significant business, and the level of outstanding foreignreceivables, the Company does not consider this risk to be material.

 

16

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**Item 8.****        Financial Statements andSupplementary Data**

 

**Report of Independent PublicAccountants**

 

To the Shareholders ofOstex International, Inc.:

 

We have audited theaccompanying balance sheets of Ostex International, Inc. (a Washingtoncorporation) as of December 31, 2001 and 2000, and the related statements ofoperations, shareholders’ equity and cash flows for each of the three years inthe period ended December 31, 2001. These financial statements are the responsibility of the Company’smanagement.  Our responsibility is toexpress an opinion on these financial statements based on our audits.

 

We conducted our auditsin accordance with auditing standards generally accepted in the UnitedStates.  Those standards require that weplan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements.  An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statementpresentation.  We believe that ouraudits provide a reasonable basis for our opinion.

 

In our opinion, thefinancial statements referred to above present fairly, in all materialrespects, the financial position of Ostex International, Inc. as of December31, 2001 and 2000 and the results of its operations and its cash flows for eachof the three years in the period ended December 31, 2001, in conformity withaccounting principles generally accepted in the United States.

 
|                |   | /s/ ARTHUR ANDERSEN LLP |   |
|---------------------|--------|-------------------------|--------|
|                |   |                    |
| Seattle, Washington |   |                    |
| January 31, 2002    |   |                    |

 

17

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** **

**OSTEX INTERNATIONAL, INC.**

** **

**BALANCESHEETS**

** **
| **December  31,**                                                                             |   | **2001**                                               |   | **2000** | ** ** |
|-----------------------------------------------------------------------------------------------|--------|--------------------------------------------------------|--------|----------|------------|
|                                                                                          |   | **(in thousands, except share and per share amounts)** |   |
| **ASSETS**                                                                                    |   |                                                   |   |     |       |
| **Current  Assets:**                                                                          |   |                                                   |   |     |       |
| Cash and cash equivalents                                                                     |   | $                                                      | 1,284  |     | $          | 1,348 |   |
| Short-term investments                                                                        |   | 2,543                                                  |   | 5,230    |       |
| Trade receivables, net of allowance of $54 in 2001  and $55 in 2000                           |   | 815                                                    |   | 1,072    |       |
| Inventory                                                                                     |   | 994                                                    |   | 465      |       |
| Other current assets                                                                          |   | 33                                                     |   | 122      |       |
| Total current assets                                                                          |   | 5,669                                                  |   | 8,237    |       |
|                                                                                          |   |                                                   |   |     |       |
| Property, plant and equipment, net                                                            |   | 3,272                                                  |   | 3,413    |       |
|                                                                                          |   |                                                   |   |     |       |
| Other assets                                                                                  |   | 694                                                    |   | 661      |       |
|                                                                                          |   |                                                   |   |     |       |
| Total assets                                                                                  |   | $                                                      | 9,635  |     | $          | 12,311 |   |
|                                                                                          |   |                                                   |   |     |       |
| **LIABILITIES  AND SHAREHOLDERS’ EQUITY**                                                |   |                                                   |   |     |       |
| **Current  Liabilities:**                                                                     |   |                                                   |   |     |       |
| Accounts payable                                                                              |   | $                                                      | 279    |     | $          | 988 |   |
| Customer deposits                                                                             |   | 156                                                    |   | —   |       |
| Accrued expenses                                                                              |   | 495                                                    |   | 364      |       |
| Current portion of note payable                                                               |   | 635                                                    |   | 285      |       |
|                                                                                          |   |                                                   |   |     |       |
| Total current liabilities                                                                     |   | 1,565                                                  |   | 1,637    |       |
|                                                                                          |   |                                                   |   |     |       |
| **Noncurrent  Liabilities**                                                                   |   |                                                   |   |     |       |
| Note payable, net of current portion                                                          |   | 1,138                                                  |   | 768      |       |
|                                                                                          |   |                                                   |   |     |       |
| Commitments and Contingencies (see Note 9)                                                    |   |                                                   |   |     |       |
|                                                                                          |   |                                                   |   |     |       |
| **Shareholders’  Equity:**                                                               |   |                                                   |   |     |       |
| Common stock, $.01 par value, 50,000,000 authorized;                                          |   |                                                   |   |     |       |
| 12,558,174 and 12,487,047 issued and outstanding at  December 31, 2001 and 2000, respectively |   | 126                                                    |   | 125      |       |
| Additional paid-in capital                                                                    |   | 45,709                                                 |   | 45,651   |       |
| Accumulated other comprehensive income (loss)                                                 |   | 6                                                      |   | (60      | )          |
| Accumulated deficit                                                                           |   | (38,909                                                | )      | (35,810  | )          |
| Total shareholders’ equity                                                               |   | 6,932                                                  |   | 9,906    |       |
| Total liabilities and shareholders’ equity                                               |   | $                                                      | 9,635  |     | $          | 12,311 |   |

 

The accompanying notes are an integral part of these financialstatements.

 

18

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** **

**OSTEX INTERNATIONAL, INC.**

** **

**STATEMENTSOF OPERATIONS**

** **
| **YEAR ENDED  DECEMBER 31,**                                       |   | **2001**                                      |   | **2000** |   | **1999** |   |
|--------------------------------------------------------------------|--------|-----------------------------------------------|--------|----------|--------|----------|--------|
|                                                               |   | **(in thousands, except per  share amounts)** |   |
| **REVENUE**                                                        |   | $                                             | 5,734  |     | $      | 5,552    |   | $ | 4,732 |   |
|                                                               |   |                                          |   |     |   |     |   |
| Cost of products sold                                              |   | 2,278                                         |   | 1,858    |   | 1,130    |   |
| Gross margin                                                       |   | 3,456                                         |   | 3,694    |   | 3,602    |   |
| (Percentage of revenue)                                            |   | 60                                            | %      | 67       | %      | 76       | %      |
|                                                               |   |                                          |   |     |   |     |   |
| **OPERATING EXPENSES:**                                            |   |                                          |   |     |   |     |   |
| POC facility start-up costs                                        |   | 872                                           |   | 80       |   | —   |   |
| Research and development                                           |   | 1,834                                         |   | 1,611    |   | 1,734    |   |
| Selling, general and administrative                                |   | 3,932                                         |   | 4,568    |   | 3,831    |   |
| Total operating expenses                                           |   | 6,638                                         |   | 6,259    |   | 5,565    |   |
|                                                               |   |                                          |   |     |   |     |   |
| Loss from operations                                               |   | (3,182                                        | )      | (2,565   | )      | (1,963   | )      |
|                                                               |   |                                          |   |     |   |     |   |
| **OTHER INCOME:**                                                  |   |                                          |   |     |   |     |   |
| Proceeds from legal settlement                                     |   | —                                        |   | 152      |   | —   |   |
| Interest, net                                                      |   | 83                                            |   | 396      |   | 393      |   |
| Net loss                                                           |   | $                                             | (3,099 | )        | $      | (2,017   | )      | $ | (1,570 | ) |
|                                                               |   |                                          |   |     |   |     |   |
| Basic and diluted net loss per common and common  equivalent share |   | $                                             | (0.25  | )        | $      | (0.16    | )      | $ | (0.13 | ) |
|                                                               |   |                                          |   |     |   |     |   |
| Weighted average shares used in calculation of net  loss per share |   | 12,516                                        |   | 12,504   |   | 12,522   |   |

 

The accompanying notes are an integral part of these financialstatements.

 

19

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** **

**OSTEX INTERNATIONAL, INC.**

** **

**STATEMENTSOF CASH FLOWS**

 
| **YEAR ENDED  DECEMBER 31,**                                                |   | **2001**           |       | **2000** |   | **1999** |   |
|-----------------------------------------------------------------------------|--------|--------------------|------------|----------|--------|----------|--------|
|                                                                        |   | **(In thousands)** | ** ** |
| **CASH  FLOWS FROM OPERATING ACTIVITIES:**                                  |   |               |       |     |   |     |   |
| Net loss                                                                    |   | $                  | (3,099     | )        | $      | (2,017   | )      | $ | (1,570 | ) |
| Adjustments to reconcile net loss to net cash used  in operating activities |   |               |       |     |   |     |   |
| Depreciation and amortization                                               |   | 721                |       | 496      |   | 553      |   |
| Loss on disposal of property, plant and equipment                           |   | 2                  |       | 27       |   | —   |   |
| Expense from issuance of warrants                                           |   | 19                 |       | 105      |   | 134      |   |
| Changes in current assets and current liabilities                           |   |               |       |     |   |     |   |
| Trade receivables                                                           |   | 257                |       | (114     | )      | (284     | )      |
| Inventory                                                                   |   | (529               | )          | (214     | )      | (4       | )      |
| Other assets                                                                |   | 56                 |       | —   |   | —   |   |
| Accounts payable                                                            |   | (709               | )          | 710      |   | (279     | )      |
| Customer deposits                                                           |   | 156                |       | —   |   | —   |   |
| Accrued expenses                                                            |   | 131                |       | 169      |   | (501     | )      |
| Net cash used in operating activities                                       |   | (2,995             | )          | (838     | )      | (1,951   | )      |
|                                                                        |   |               |       |     |   |     |   |
| **CASH  FLOWS FROM INVESTING ACTIVITIES:**                                  |   |               |       |     |   |     |   |
| Purchases of short-term investments                                         |   | (1,213             | )          | (5,288   | )      | (5,801   | )      |
| Proceeds from sales and maturities of short-term  investments               |   | 3,966              |       | 6,953    |   | 7,139    |   |
| Purchase of property, plant and equipment                                   |   | (582               | )          | (2,031   | )      | (76      | )      |
| Net cash provided by (used in) investing activities                         |   | 2,171              |       | (366     | )      | 1,262    |   |
|                                                                        |   |               |       |     |   |     |   |
| **CASH  FLOWS FROM FINANCING ACTIVITIES:**                                  |   |               |       |     |   |     |   |
| Net proceeds from issuance of common stock and  exercise of stock options   |   | 59                 |       | 126      |   | 2        |   |
| Stock repurchases                                                           |   | (19                | )          | (74      | )      | (286     | )      |
| Proceeds from note payable                                                  |   | 1,228              |       | 1,088    |   | —   |   |
| Payments on note payable                                                    |   | (508               | )          | (150     | )      | (209     | )      |
| Net cash provided by (used in) financing activities                         |   | 760                |       | 990      |   | (493     | )      |
|                                                                        |   |               |       |     |   |     |   |
| **NET  DECREASE IN CASH AND CASH EQUIVALENTS**                              |   | (64                | )          | (214     | )      | (1,182   | )      |
|                                                                        |   |               |       |     |   |     |   |
| **CASH  AND CASH EQUIVALENTS**, beginning of period                         |   | 1,348              |       | 1,562    |   | 2,744    |   |
|                                                                        |   |               |       |     |   |     |   |
| **CASH  AND CASH EQUIVALENTS**, end of period                               |   | $                  | 1,284      |     | $      | 1,348    |   | $ | 1,562 |   |
|                                                                        |   |               |       |     |   |     |   |
| **SUPPLEMENTAL  DISCLOSURE OF CASH FLOW INFORMATION:**                      |   |               |       |     |   |     |   |
| Interest paid on notes payable                                              |   | $                  | 212        |     | $      | 10       |   | $ | 28 |   |
| **SUPPLEMENTAL  DISCLOSURE OF NONCASH FINANCING ACTIVITES:**                |   |               |       |     |   |     |   |
| Warrants issued to lender                                                   |   | $                  | —     |     | $      | 62       |   | $ | — |   |

 

The accompanying notes are an integral part of these financialstatements.

 

20

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** **

**OSTEX INTERNATIONAL, INC.**

** **

**STATEMENTSOF SHAREHOLDERS’ EQUITY**

 
|                                      |   |               |   |                    |   |                                        |   |            |   |              |   |                          |    |
|-------------------------------------------|--------|--------------------|--------|-------------------------|--------|---------------------------------------------|--------|-----------------|--------|-------------------|--------|-------------------------------|---------|
|                                      |   | **Common  Stock**  |   | **Additional  Paid-in** |   | **Accumulated  Other Comprehensive Income** |   | **Accumulated** |   | **Comprehensive** |   | **Total  Shareholders’** |    |
|                                      |   | **Shares**         |   | **Amount**              |   | **Capital**                                 |   | **(Loss)**      |   | **Deficit**       |   | **Loss**                      |    | **Equity** |   |
|                                      |   | **(in thousands)** |   |
| **Balance,  December 31, 1998**           |   | 12,696             |   | $                       | 127    |                                        | $      | 45,642          |   | $                 | (58    | )                             | $       | (32,223 | ) |   |   | $ | 13,488 |   |
|                                      |   |               |   |                    |   |                                        |   |            |   |              |   |                          |    |   |   |
| Warrants issued to outside consultants    |   | —             |   | —                  |   | 134                                         |   | —          |   | —            |   | —                        |    | 134 |   |
| Stock options exercised                   |   | 18                 |   | —                  |   | 2                                           |   | —          |   | —            |   | —                        |    | 2 |   |
| Stock repurchases                         |   | (245               | )      | (2                      | )      | (284                                        | )      | —          |   | —            |   | —                        |    | (286 | ) |
| Comprehensive loss                        |   |               |   |                    |   |                                        |   |            |   |              |   |                          |    |   |   |
| Unrealized loss on short-term investments |   | —             |   | —                  |   | —                                      |   | (59             | )      | —            |   | (59                           | )       | (59 | ) |
| Net loss                                  |   | —             |   | —                  |   | —                                      |   | —          |   | (1,570            | )      | (1,570                        | )       | (1,570 | ) |
| Comprehensive loss                        |   |               |   |                    |   |                                        |   |            |   |              |   | (1,629                        | )  |   |   |
| **Balance,  December 31, 1999**           |   | 12,469             |   | $                       | 125    |                                        | $      | 45,494          |   | $                 | (117   | )                             | $       | (33,793 | ) |   |   | $ | 11,709 |   |
|                                      |   |               |   |                    |   |                                        |   |            |   |              |   |                          |    |   |   |
| Warrants issued to outside consultants    |   | —             |   | —                  |   | 105                                         |   | —          |   | —            |   | —                        |    | 105 |   |
| Stock options exercised                   |   | 61                 |   | 1                       |   | 125                                         |   | —          |   | —            |   | —                        |    | 126 |   |
| Stock repurchases                         |   | (43                | )      | (1                      | )      | (73                                         | )      | —          |   | —            |   | —                        |    | (74 | ) |
| Comprehensive loss                        |   |               |   |                    |   |                                        |   |            |   |              |   |                          |    |   |   |
| Unrealized gain on short-term investments |   | —             |   | —                  |   | —                                      |   | 57              |   | —            |   | 57                            |    | 57 |   |
| Net loss                                  |   | —             |   | —                  |   | —                                      |   | —          |   | (2,017            | )      | (2,017                        | )       | (2,017 | ) |
| Comprehensive loss                        |   |               |   |                    |   |                                        |   |            |   |              |   | (1,960                        | )  |   |   |
| **Balance,  December 31, 2000**           |   | 12,487             |   | $                       | 125    |                                        | $      | 45,651          |   | $                 | (60    | )                             | $       | (35,810 | ) |   |   | $ | 9,906 |   |
|                                      |   |               |   |                    |   |                                        |   |            |   |              |   |                          |    |   |   |
| Warrants issued to outside consultants    |   | —             |   | —                  |   | 19                                          |   | —          |   | —            |   | —                        |    | 19 |   |
| Stock options exercised                   |   | 85                 |   | 1                       |   | 58                                          |   | —          |   | —            |   | —                        |    | 59 |   |
| Stock repurchases                         |   | (14                | )      | —                  |   | (19                                         | )      | —          |   | —            |   | —                        |    | (19 | ) |
| Comprehensive loss                        |   |               |   |                    |   |                                        |   |            |   |              |   |                          |    |   |   |
| Unrealized gain on short-term investments |   | —             |   | —                  |   | —                                      |   | 66              |   | —            |   | 66                            |    | 66 |   |
| Net loss                                  |   | —             |   | —                  |   | —                                      |   | —          |   | (3,099            | )      | (3,099                        | )       | (3,099 | ) |
| Comprehensive loss                        |   |               |   |                    |   |                                        |   |            |   |              |   | (3,033                        | )  |   |   |
| **Balance,  December 31, 2001**           |   | 12,558             |   | $                       | 126    |                                        | $      | 45,709          |   | $                 | 6      |                          | $       | (38,909 | ) |   |   | $ | 6,932 |   |

 

The accompanying notes are an integral part of these financialstatements.

21

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**Notes to Financial Statements**

 

**Note 1 -Organization And Summary Of Significant Accounting Policies**

 

**Organization**

Ostex International, Inc. (the “Company”), a Washington corporationincorporated in May 1989, develops and commercializes products to make “diseasemanagement a reality” with osteoporosis being the first area of focus.  The Company’s products, the Osteomark NTxSerum and Urine kits and the Osteomark NTx Point-of-Care Device (the “NTxPoint-of-Care”), incorporate breakthrough and patented technology for themanagement and prevention of osteoporosis. The Company markets the Osteomark NTx tests through distributors,medical laboratories, pharmaceutical and healthcare companies. The Company hasincurred operating losses since its inception and has funded its operationsprimarily through existing cash and the sale of its urine and serum kits andits NTx Point-of-Care device.  As theCompany ramps up the manufacturing of the NTx Point-of-Care device, there canbe no assurance that it will be able to produce enough devices to meet theinitial demand or as to what the demand for this product will be in 2002 andbeyond. The Company may require additional sources of capital in the future ifthe Company continues to generate operating losses throughout 2002.

 

**Estimates And Uncertainties**

The preparation of financial statements in conformity with accountingprinciples generally accepted in the United States requires management to makeestimates and assumptions that affect the reported amounts of assets andliabilities and disclosure of contingent assets and liabilities at the date ofthe financial statements and the reported amounts of revenue and expensesduring the reporting period.  Actualresults could differ from those estimates.

 

**Revenue Recognition**

Product sales are recognized when pervasive evidence of an arrangementexists, delivery has occurred, the fee if fixed and collectability isprobable.  Research testing fees arerecognized when the services are substantially complete.  License fees and research and developmentpayments are recognized upon attainment of the agreed upon milestones.  Cash payments received in advance of meetingthe revenue recognition criteria are deferred and stated as customer deposits.  Returns of product to date have beenwarranty related and insignificant.

 

**Research And Development Expenses**

Research and development costs are expensed as incurred.

 

**Point-of-Care Facility Start-up Costs**

Point-of-Care facility start-up costs are related to the operation andvalidation of the Company’s new facility, tooling, and production. These costsare expensed as incurred.

 

**Cash And Cash Equivalents**

The Company considers all highly liquid instruments with originalmaturities of three months or less to be cash equivalents.  The carrying amount approximates fair valuedue to the short maturities of these investments.

 

**Short-Term Investments**

The Company considers all of its short-term investments to be“available for sale,” reporting them at fair market value with unrealized gainsand losses included as a component of comprehensive income (loss) inshareholders’ equity.  Realized gainsand losses and declines in value of securities judged to be other thantemporary are included in interest income. Contractual maturities range fromone to 28 years.

 

**Segments**

Management has determined that the Company has one business segment —the manufacturing and distribution of test products used in the treatment ofosteoporosis.

 

22

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**Concentration Of Credit Risk**

Trade receivables potentially subject the Company to credit risk.  The Company extends credit to its customersbased upon an evaluation of the customer’s financial condition and credithistory and generally does not require collateral.  The Company historically has incurred minimal credit losses.  In 2001, domestic product sales accountedfor 65% of total revenue and product sales to foreign countries accounted for35% of total revenue.  Accountsreceivable for the same year is comprised of 63% domestic and 37% foreignreceivables.

 

The following table summarizes the number of customers thatindividually comprise greater than 10% of total revenues in each of the yearslisted and their aggregate percentage of the Company’s total revenues:

 
| **Year ended  December 31,** |   | **Number of  Significant Customers** |   | **Percentage  of Total Revenues** |   |
|------------------------------|--------|--------------------------------------|--------|-----------------------------------|--------|
| **A**                        |   | **B**                                |   | **C**                             |
| 1999                         |   | 2                                    |   | 14                                | %      | 13 | % | — | % |
| 2000                         |   | 3                                    |   | 10                                | %      | 14 | % | 10 | % |
| 2001                         |   | 3                                    |   | 16                                | %      | 11 | % | 11 | % |

 

The following table summarizes the number of customers thatindividually comprise greater than 10% of net receivables and their aggregatepercentage of the Company’s total net receivables:

 
| **December  31,** |   | **Number of  Significant Customers** |   | **Percentage  of Net Receivables** |   |
|-------------------|--------|--------------------------------------|--------|------------------------------------|--------|
| **A**             |   | **B**                                |   | **C**                              |   |
| 1999              |   | 2                                    |   | 18                                 | %      | 11 | % | — | % |
| 2000              |   | 2                                    |   | 19                                 | %      | — | % | 14 | % |
| 2001              |   | 2                                    |   | 30                                 | %      | — | % | 13 | % |

 

**Inventory**

Inventory consists principally of raw materials and finishedgoods.  Inventories are stated at thelower of cost (first-in, first-out) or market. Cost is computed using standard costs which approximate actual cost pluscertain manufacturing overhead amounts.

 

**Property, Plant And Equipment**

Property, plant and equipment are stated at cost and depreciated usingthe straight-line method over the estimated useful lives of the assets.  Leasehold improvements are amortized overthe shorter of their useful lives or the lease term.  Estimated lives range from five to ten years.  Depreciation and amortization expense during2001, 2000, and 1999 was $721,000, $496,000, and $553,000, respectively.  The Company assesses potential impairment ofits long-lived assets when there is evidence that events or changes incircumstances have made recovery of the assets’ carrying value unlikely.

 

**Comprehensive Income**

The Company has adopted Statement of Financial Accounting Standards No.130, “Reporting Comprehensive Income,” which establishes standards forreporting and disclosure of comprehensive income (loss).  Disclosure has been made for all yearspresented in the statements of shareholders’ equity.

 

**Loss PerShare**

Basic and diluted net loss per share is computed using the weightedaverage number of shares outstanding during the period.  Diluted net loss per share excludes theimpact of dilutive, potential common shares outstanding (consisting of stockoptions and warrants) as their effect would be antidilutive in all periodspresented.

 

23

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**Recently Issued AccountingPronouncements**

In July 2001, the Financial Accounting Standards Board (FASB) issuedStatement of Financial Accounting Standards No. 141, “Business  Combinations” (“SFAS No. 141”) and Statementof Financial Accounting Standards No. 142, “Goodwill and Other IntangibleAssets” (“SFAS  No. 142”).  SFAS No. 141 requires business combinationsinitiated after June 30, 2001, to be accounted for using the purchase method ofaccounting and broadens the criteria for recording intangible assets separatefrom goodwill.  SFAS No. 142 requiresthe use of a no amortization approach to account for purchased goodwill andcertain intangibles.  The Company doesnot have any recorded goodwill or other intangibles.

 

In June 2001, theFASB issued Statement of Financial Accounting Standards No. 143, “Accountingfor Asset Retirement Obligations” (“SFAS No. 143”) (effective for the Companyon January 1, 2003).  This statementaddresses financial accounting and reporting for obligations associated withthe retirement of tangible long-lived assets and the associated assetretirement costs. The Company is in the process of evaluating the financialstatement impact of the adoption of SFAS No. 143.

 

In August 2001,the FASB issued Statement of Financial Accounting Standards No. 144,“Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS No.144) (effective for the Company on January 1, 2002).  This statement supersedes Statement of Financial AccountingStandards No. 121, “Accounting for the Impairment of Long-Lived Assets and forLong-Lived Assets to Be Disposed Of” and Accounting Principles Board OpinionNo. 30, “Reporting the Results of Operations? Reporting the Effects of Disposalof a Segment of a Business, and Extraordinary, Unusual and InfrequentlyOccurring Events and Transactions.”  TheCompany is in the process of evaluating the financial statement impact of SFASNo. 144.

 

**Reclassification**

Certainreclassifications have been made to prior year amounts to conform to thecurrent presentation.

 

**Note 2 - Short-Term Investments**

 

The Company’sshort-term investments at December 31, 2001 and 2000 consisted of thefollowing:

 
|                           |   | **2001** |      | **2000**  |   |
|--------------------------------|--------|----------|-----------|-----------|--------|
| Federal agency  obligations    |   | $        | 1,580,000 |      | $      | 3,466,000 |   |
| Government  agency obligations |   | 963,000  |      | 1,764,000 |   |
|                           |   | $        | 2,543,000 |      | $      | 5,230,000 |   |

 

**Note 3 - Property, Plant AndEquipment**

 

Property, plant and equipment at December 31, 2001 and 2000 consistedof the following:

 
|                                       |   | **2001**   |      | **2000**   |   |
|--------------------------------------------|--------|------------|-----------|------------|--------|
| Leasehold improvements                     |   | $          | 4,058,000 |       | $      | 2,405,000 |   |
| Laboratory and  manufacturing equipment    |   | 1,909,000  |      | 1,431,000  |   |
| Computers and office  equipment            |   | 1,370,000  |      | 1,037,000  |   |
| Construction-in-progress                   |   | —     |      | 1,898,000  |   |
|                                       |   | 7,337,000  |      | 6,771,000  |   |
| Accumulated  depreciation and amortization |   | (4,065,000 | )         | (3,358,000 | )      |
| Net property, plant and  equipment         |   | $          | 3,272,000 |       | $      | 3,413,000 |   |

 

**Note 4 -Other Assets**

 

Other assets primarily represent a $599,000 investment in preferredstock of Metrika, Inc. (“Metrika”).  Theinvestment is recorded in the accompanying financial statements at cost andrepresents an ownership interest of less than 5%.  The Company periodically assesses the valuation of this assetbased on historical financial data, valuations made during additionalinvestment rounds, and future projections. Management currently believes that the investment is not impaired.  However, given the nature of the business,there is a risk that the investment may become impaired in the future.

 

24

----

 

**Note 5 -Note Payable**

 

On October 2, 2000, the Company and Transamerica Business CreditCorporation (“Transamerica”) signed a letter of commitment whereby Transamericawill provide up to $2.8 million in debt financing for the Company’smanufacturing expansion plan.  Each drawdown is on a separate note, secured by real property and equipment, payable in36 monthly installments with a balloon payment at the end of the term. Thesenotes have due dates ranging from November 2003 to January 2005.  As of December 31, 2001, the Company hasreceived $2,316,000 in proceeds under six separate note agreements, with abalance due of $1,773,000.  The annualinterest rate under the six notes is fixed at approximately 14.5%.  The Company has no further availabilityunder this financing as of December 31, 2001. The Company believes that thecarrying value of the debt approximates the fair value of this debt.

 

Principal payments under the notes are as follows:

 
| 2002                          |   | $       | 635,000   |
|-------------------------------|--------|---------|-----------|
| 2003                          |   | 837,000 |
| 2004                          |   | 276,000 |
| 2005                          |   | 25,000  |
| Total  principal due on notes |   | $       | 1,773,000 |

 

Interest expense was $212,000 in 2001 and $10,000 in 2000.

 

**Note 6 -Shareholders’ Equity**

 

**Stock Option Plans**

The Company has three stock option plans: the Amended and RestatedStock Option Plan (the “Old Plan”), the 1994 Stock Option Plan (the “1994Plan”), both administered by the Compensation Committee of the Board ofDirectors, and the Directors’ Nonqualified Stock Option Plan (the “Directors’Plan”), (collectively the “Stock Option Plans”).  The Old Plan no longer permits additional stock option grants.

 

Shares of common stock reserved for issuance to the Company’s employeesand directors under the 1994 Plan and the Directors’ Plan are 3,000,000 and600,000, respectively.  Shares availablefor future grants under the 1994 Plan and the Directors’ Plan at December 31,2001 are 598,000 and 230,000, respectively. These options generally vest ratably over three to four years.  All options granted under the Stock OptionPlans expire upon the earlier of 90 days after termination of employment or tenyears from date of grant.  Options aregranted with exercise prices equal to or greater than fair market value atgrant date.

 

Information relating to stock options outstanding and stock optionsexercisable at December 31, 2001 is as follows:

 
|                                                |   | **OPTIONS  OUTSTANDING** |   | **OPTIONS  EXERCISABLE**                      |   |
|-----------------------------------------------------|--------|--------------------------|--------|-----------------------------------------------|--------|
| **RANGE OF EXERCISE PRICES**                        |   | **NUMBER OF  SHARES**    |   | **WEIGHTED  AVERAGE REMAINING LIFE IN YEARS** |   | **WEIGHTED  AVERAGE EXERCISE PRICE** |   | **NUMBER OF  SHARES** |   | **WEIGHTED  AVERAGE EXERCISE PRICE** |   |
| $   0.08 - $     1.90 |   | 1,009,722                |   | 8                                             |   | $ | 1.34 |   | 371,209 |   | $ | 1.18 |   |
| $   2.00 - $     4.75 |   | 1,687,670                |   | 6                                             |   | $ | 2.87 |   | 1,369,158 |   | $ | 2.99 |   |
| $   5.00 - $   17.13            |   | 57,612                   |   | 2                                             |   | $ | 5.66 |   | 57,612 |   | $ | 5.66 |   |
|                                                |   | 2,755,004                |   | 7                                             |   | $ | 2.43 |   | 1,797,979 |   | $ | 2.70 |   |

 

25

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Information relating to stock options activity is as follows:

 
|                                            |   | **2001**   |   | **2000**                         |   | **1999**   |      |
|-------------------------------------------------|--------|------------|--------|----------------------------------|--------|------------|-----------|
|                                            |   | **SHARES** |   | **WEIGHTED AVG. EXERCISE PRICE** |   | **SHARES** |      | **WEIGHTED AVG. EXERCISE PRICE** |   | **SHARES** |   | **WEIGHTED AVG. EXERCISE PRICE** |   |
| Outstanding at  beginning of period             |   | 2,524,910  |   | $                                | 2.58   |       | 1,992,395 |   | $ | 2.68 |   | 1,836,087 |   | $ | 3.04 |   |
| Granted                                         |   | 662,950    |   | 1.62                             |   | 656,780    |      | 2.33 |   | 551,485 |   | 1.10 |   |
| Exercised                                       |   | (84,827    | )      | 0.70                             |   | (10,797    | )         | 2.45 |   | (17,500 | ) | 0.11 |   |
| Canceled                                        |   | (328,029   | )      | 3.00                             |   | (113,468   | )         | 2.91 |   | (377,677 | ) | 2.27 |   |
| Outstanding at  end of period                   |   | 2,775,004  |   | $                                | 2.37   |       | 2,524,910 |   | $ | 2.58 |   | 1,992,395 |   | $ | 2.68 |   |
| Vested at end of  period                        |   | 1,797,979  |   | $                                | 2.70   |       | 1,555,048 |   | $ | 2.83 |   | 1,159,074 |   | $ | 2.92 |   |
| Weighted average  fair value of options granted |   | $ 1.43     |   | $ 2.06                           |   | $ 1.23     |      |

 

Options outstanding have weighted average remaining contractual livesof seven years at December 31, 2001 and 2000.

 

The Company has adopted the disclosure-only provisions of Statement ofFinancial Accounting Standards No. 123, “Accounting for Stock-BasedCompensation” (“SFAS No. 123”). Accordingly, no compensation cost has been recognized for stock optionsissued at market value on the date of grant. Had compensation cost for the Company’s Stock Option Plans beendetermined based on the fair value of the options at the grant date for awardsin 2001, 2000, and 1999 consistent with the provisions of SFAS No. 123, theCompany’s net loss and net loss per common equivalent share would have changedto the pro forma amounts indicated below:

 
|                                                                                  |   | **2001** |       | **2000** |   | **1999**   |   |
|---------------------------------------------------------------------------------------|--------|----------|------------|----------|--------|------------|--------|
| Net loss – as reported                                                           |   | $        | (3,099,000 | )        | $      | (2,017,000 | )      | $ | (1,570,000 | ) |
| Net loss –   pro forma                                                      |   | $        | (3,704,000 | )        | $      | (2,470,000 | )      | $ | (2,171,000 | ) |
| Basic and diluted net loss per common and common  equivalent share – as reported |   | $        | (0.25      | )        | $      | (0.16      | )      | $ | (0.13 | ) |
| Basic and diluted net loss per common and common  equivalent share – pro forma   |   | $        | (0.30      | )        | $      | (0.20      | )      | $ | (0.17 | ) |

 

The fair value of each option grant is established on the date of grantusing the Black-Scholes option-pricing model with the following weighted-averageassumptions used for new grants in 2001: zero dividend yield; expectedvolatility of 135%; average risk-free interest rate of 3.5%****and expected lives of fiveyears.  Assumptions for options grantedin 2000 were: zero dividend yield; expected volatility of 134%; averagerisk-free interest rate of 5.5%****and expected lives of five years.  Assumptions for options granted in 1999were: zero dividend yield; expected volatility of 129%; average risk-freeinterest rate of 6.0%; and expected lives of five years.

 

**Common Stock Warrant**

 

During 2001, the Company issued warrants to one outside consultant forthe purchase of 14,000 shares of common stock, with exercise prices rangingfrom $1.46 - $2.85, in exchange for services to be provided to the Company. Thewarrants vest upon issuance and expire in two years from the date of grant. TheCompany recorded these warrants in accordance with the provisions of SFAS No.123 and Emerging Issues Task Force (“EITF”) Issue 98-16, which require that thefair value of the warrant be recognized as expense.  Total expense recognized in 2001 related to these warrants wasapproximately $19,000.

 

During 2000, the Company issued warrants to two outside consultants forthe purchase of 3,000 and 12,904 shares of common stock, each at an exerciseprice of $1.86, in exchange for services to be provided to the Company.  Both warrants vest upon issuance, and expirefive years and two years, respectively, from the grant date.  The Company recorded these warrants inaccordance with the provisions of SFAS No. 123 and

 

26

----

 

EITF Issue 98-16, which require that the fair value of the warrant berecognized as expense.  Total expenserecognized in 2000 related to these warrant was approximately $20,000.

 

Also during 2000, the Company issued a warrant to Transamerica for thepurchase of 33,600 shares of common stock at an exercise price of $3.00 relatedto the debt financing agreement referenced in Note 5 above.  These warrants are fully vested and expirein October 2005.  The Company hasprovided for this warrant in accordance with the provisions of SFAS No. 123 andhas recorded the fair value of the warrants as an asset to be amortized tointerest expense.

 

During 1999, the Company issued a warrant to an outside consultant forthe purchase of 100,000 shares of common stock at an exercise price of $2.00,in exchange for services to be provided to the Company.  The warrant vests in twelve equal monthlyinstallments beginning one month after the grant date, and expires three yearsfrom the grant date.  The Companyrecorded this warrant in accordance with the provisions of SFAS No. 123 andEITF Issue 96-18, which require that the fair value of the warrant be recognizedas expense, and that the fair value be remeasured at each balance sheet date(variable accounting).  Total expenserecognized in 2000 related to this warrant was approximately $23,000.  Total expense recognized in 1999 wasapproximately $134,000.  Also during2000, 50,000 shares were exercised and issued, resulting in cash proceeds ofapproximately $100,000.

 

**Note 7 -Licensing Agreements**

 

Under the Company’s license agreements with the Washington ResearchFoundation (the “WRF”), the Company has the worldwide exclusive right tocommercialize technology developed from certain research conducted by theUniversity of Washington (the “UW”).  Asconsideration for the licenses acquired and for the attainment of certainmilestones, the Company paid the WRF certain nonrefundable fees and issued commonstock to the WRF and the UW**. **Inaddition, future cash payments and common stock grants may be due uponattainment of certain other milestones.****  All legal costs incurred by the WRF in connection with thefiling, prosecution, and maintenance of certain defined patent rights are paidby the Company.   The Company isobligated to pay the WRF royalties on net sales of any licensed products.

 

**Note 8 -Related Party Transactions**

 

**Research Agreements**

In the past, the Company has entered into research agreements with theUW, one of which was extended through December 31, 2001. Total expense was$150,000 during 2001, 2000, and 1999 and is included in research anddevelopment expense.

 

**Manufacturing Agreement**

The Company, through an agreement with Metrika, developed the NTxPoint-of-Care device.  Along with theagreement, the Company acquired preferred stock of Metrika (see Note 4).  The Company paid approximately $1,276,000and $677,000 in 2001 and 2000, respectively, to Metrika related to thedevelopment and production of NTx Point-of-Care devices.  Metrika has been and continues to be acritical supplier of certain components of the NTx Point-of-Care device to theCompany.

 

On May 10, 2000, the Company announced it had acquired the exclusiveright from Metrika to manufacture the NTx Point-of-Care device.  Under the agreement, Metrika receives aroyalty based on the sales of the NTx Point-of-Care device.  The Company started shipping product thatwas assembled at its new facility in the fourth quarter of 2001 and, in thefirst quarter of 2002, the Company anticipates shipping devices with highlyspecialized subcomponents that are also manufactured in its facility.

 

27

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**Note 9 -Commitments And Contingencies**

 

**Leases**

The Company has entered into noncancelable operating leases for officespace and certain equipment.  Futureminimum payments under these leases are as follows:

 
| 2002       |   | $       | 669,000   |
|------------|--------|---------|-----------|
| 2003       |   | 653,000 |
| 2004       |   | 645,000 |
| 2005       |   | 557,000 |
| 2006       |   | 104,000 |
| Thereafter |   | 392,000 |
| Total      |   | $       | 3,020,000 |

 

Total rent expense was approximately $442,000, $444,000, and $457,000in 2001, 2000, and 1999, respectively.

 

**Litigation**

 

In December 2001, Osteometer Biotech A/S (“Osteometer”) and itslicensee Roche Diagnostics GmbH sent the Company two notification lettersconcerning Osteometer’s European Patent No. 0742902 which issued November 21,2001. The patent claims synthetic NTx peptides in assays for bone resorption.The Company believes that its Osteomark products do not infringe upon the Osteometerpatent and that the patent is invalid in light of prior art that was not takeninto consideration by the issuing European Patent Office.  In January 2002, the Company filed an actionin the Court of Monza, Italy, seeking a pan-European declaration ofnoninfringement.  Said action included arequest to stay any such noninfringement determination pending the outcome ofan opposition proceeding that the Company intends to initiate in the EuropeanPatent Office against this patent.

 

Effective August 1, 2000, the Company, Osteometer, Diagnostics SystemsLaboratories (“DSL”), and the WRF, entered into an agreement settling a lawsuitbrought against Osteometer and DSL for infringements of patents exclusivelylicensed by the WRF to the Company and directed to C-telopeptide markers ofbone resorption.  Under the settlementagreement, Osteometer may sell the CrossLapsTM ELISA urine kits inthe United States until August 2002, paid the Company a lump sum settlement feeof approximately $200,000 for past sales and will pay royalties on futuresales.  Approximately $48,000 of thesettlement fee was considered 2000 activity and was recorded under Revenues.

 

On November 19, 1999, Roche Diagnostics GmbH (“Roche”) filed a lawsuitagainst the Company in Belgium seeking to invalidate the Company’s Europeanpatents as they cover the Belgium territory. The lawsuit also sought a declaration that Roche is not infringing onthe Company’s patents in all the European countries designated under thepatents and where Roche markets or plans to market their Elecsys ß-CrosslapsSerum diagnostic test.  In February2000, this case was stayed indefinitely, pending the outcomes of oppositionproceedings in the European Patent Office. The Company believes that thislawsuit will not lead to an award of damages against the Company.

 

**Note 10- Federal Income Taxes**

 

Deferred taxes are determined using an asset and liabilityapproach.  The Company has incurredoperating losses since inception and accordingly has determined that the netdeferred tax assets do not satisfy recognition criteria.  Therefore, a valuation allowance has beenrecorded against the net deferred tax assets and no tax benefit has beenrecorded in the accompanying statement of operations.  The change in the valuation allowance during 2001, 2000, and 1999was $1,141,000, $665,000, and $478,000, respectively.  The Company’s deferred tax assets (liabilities) are as follows:

 

28

----

 
|                                 |   | **2001**     |       | **2000**     |
|--------------------------------------|--------|--------------|------------|--------------|
| Net operating loss carryforward      |   | $            | 14,458,000 |         | $ | 13,511,000 |
| Research and experimentation credits |   | 806,000      |       | 713,000      |
| Property, plant and equipment        |   | 408,000      |       | 326,000      |
| Other                                |   | 78,000       |       | 59,000       |
| Gross deferred tax asset             |   | 15,750,000   |       | 14,609,000   |
| Valuation allowance                  |   | (15,750,000) |       | (14,609,000) |
| Net deferred tax asset               |   | $            | —     |         | $ | *—* |

 

At December 31, 2001, the Company had tax net operating losscarryforwards of approximately $42,523,000, which expire between 2004 and 2021.

** **

**Note 11 - Unaudited QuarterlyInformation**

 

The following table setsforth certain unaudited quarterly statements of operations dated for the eightquarters ended December 31, 2001.  Inthe opinion of management, this information has been prepared substantially onthe same basis as the audited consolidated financial statements and all necessaryadjustments, consisting only of normal recurring adjustments, have beenincluded in the amounts stated below to present fairly the unaudited quarterlyresults of operations. The quarterly data should be read in conjunction withour audited consolidated financial statements and the notes thereto. Theoperating results for any quarter are not necessarily indicative of theoperating results for any future period.

 
|                                                                  |   | **Three-Month  Periods Ended** |
|-----------------------------------------------------------------------|--------|--------------------------------|
|                                                                  |   | **Dec. 31,  2001**             |   | **Sept. 30,  2001** |   | **June 30,  2001** |   | **March 31,  2001** |   | **Dec. 31,  2000** |   | **Sept. 30,  2000** |   | **June 30,  000** |   | **March 31,  2000** |   |
| Revenue                                                               |   | $                              | 1,426,000 |   | $ | 1,286,000 |   | $ | 1,492,000 |   | $ | 1,529,000 |   | $ | 1,479,000 |   | $ | 1,619,000 |   | $ | 1,568,000 |   | $ | 887,000 |   |
| Cost of products sold                                                 |   | 585,000                        |   | 487,000 |   | 590,000 |   | 614,000 |   | 509,000 |   | 628,000 |   | 619,000 |   | 78,000 |   |
| Gross margin                                                          |   | 841,000                        |   | 799,000 |   | 902,000 |   | 915,000 |   | 970,000 |   | 991,000 |   | 949,000 |   | 809,000 |   |
| (Percentage of revenue)                                               |   | 59                             | % | 62 | % | 60 | % | 60 | % | 66 | % | 61 | % | 61 | % | 91 | % |
|                                                                  |   |                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Operating Expenses:                                                   |   |                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| POC plant start-up costs                                              |   | 354,000                        |   | 268,000 |   | 170,000 |   | 80,000 |   | 80,000 |   | — |   | — |   | — |   |
| Research and development                                              |   | 368,000                        |   | 470,000 |   | 427,000 |   | 569,000 |   | 435,000 |   | 399,000 |   | 404,000 |   | 374,000 |   |
| Selling, general and administrative                                   |   | 1,064,000                      |   | 828,000 |   | 858,000 |   | 1,182,000 |   | 1,100,000 |   | 1,076,000 |   | 1,279,000 |   | 1,137,000 |   |
| Total operating expenses                                              |   | 1,786,000                      |   | 1,566,000 |   | 1,455,000 |   | 1,831,000 |   | 1,615,000 |   | 1,475,000 |   | 1,683,000 |   | 1,511,000 |   |
|                                                                  |   |                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Loss from operations                                                  |   | (945,000                       | ) | (767,000 | ) | (553,000 | ) | (916,000 | ) | (645,000 | ) | (484,000 | ) | (734,000 | ) | (702,000 | ) |
|                                                                  |   |                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Proceeds from legal settlement                                        |   | —                         |   | — |   | — |   | — |   | — |   | 152,000 |   | — |   | — |   |
| Interest, net                                                         |   | (58,000                        | ) | 30,000 |   | 52,000 |   | 58,000 |   | 78,000 |   | 129,000 |   | 99,000 |   | 90,000 |   |
|                                                                  |   |                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net loss                                                              |   | $                              | (1,003,000 | ) | $ | (737,000 | ) | $ | (501,000 | ) | $ | (858,000 | ) | $ | (567,000 | ) | $ | (203,000 | ) | $ | (635,000 | ) | $ | (612,000 | ) |
|                                                                  |   |                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Basic and diluted net loss per common and common equivelent share (1) |   | $                              | (0.08 | ) | $ | (0.06 | )  | $ | (0.04 | )  | $ | (0.07 | )  | $ | (0.05 | )  | $ | (0.02 | )  | $ | (0.05 | ) | $ | (0.05 | ) |
|                                                                  |   |                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Weighted average shares used in calculation of net loss per share     |   | 12,553,000                     |   | 12,540,000 |   | 12,484,000 |   | 12,485,000 |   | 12,508,000 |   | 12,529,000 |   | 12,504,000 |   | 12,472,000 |   |

 

----

(1) Earnings per share is computed independently for each of theperiods presented. Therefore, the sum of the quarterly per share amounts willnot necessarily equal the total amount for the year.

 

29

----

 

**Item 9.****        Changes in and Disagreements WithAccountants on Accounting and Financial Disclosure**

 

None.

**PART III**

 

**Item 10.****     Directorsand Executive Officers of the Registrant**

 

a.    Directors

 

The informationcontained in the section entitled “Election of Directors and DirectorInformation” of the Proxy Statement is incorporated herein by reference inresponse to this item.

 

b.    Executive Officers of the Registrant

 

Informationrequired by this item is contained in Part I of this Annual Report on Form 10-Kin the section entitled “Executive Officers of the Registrant.”

 

c.    Compliance With Section 16(a)

 

Informationcontained in the section entitled “Section 16(a) Beneficial Ownership ReportingCompliance” of the Proxy Statement is incorporated herein by reference inresponse to this item.

 

**Item 11.****     ExecutiveCompensation**

 

The informationcontained in the section entitled “Executive Compensation” of the ProxyStatement is incorporated herein by reference in response to this item.

 

**Item 12.****     Security Ownership of CertainBeneficial Owners and Management**

 

The informationcontained in the section entitled “Security Ownership of Certain BeneficialOwners and Management” of the Proxy Statement is incorporated herein byreference in response to this item.

 

**Item 13.****     Certain Relationships and RelatedTransactions**

 

The informationcontained in the section entitled “Compensation Committee Interlocks andInsider Participation” of the Proxy Statement is incorporated herein byreference in response to this item.

 

30

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**PART IV**

 

**Item 14.****     FinancialStatements, Financial Statement Schedules, Exhibits, and Reports on Form 8-K**

 

**a.    FinancialStatements, Financial Statement Schedules and Exhibits**

 

(1)          FINANCIAL STATEMENTS

 

The followingfinancial statements are included in Item 8:

 

Balance Sheets -December 31, 2001 and 2000

Statements ofOperations - Years ended December 31, 2001, 2000, and 1999

Statements of CashFlows - Years ended December 31, 2001, 2000, and 1999

Statements ofShareholders’ Equity - Years ended December 31, 2001, 2000, and 1999

Notes to FinancialStatements - December 31, 2001

 

(2)          FINANCIAL STATEMENTSCHEDULES

FinancialStatement Schedules have been omitted because of the absence of conditionsunder which they are required or because the required information is includedin the financial statements or notes thereto.

 

(3)          ExhibitIndex (see note (1))

 

**EXHIBIT INDEX**

 
| **Exhibit Number** |   |                                                                                                         | **Description** |   |   | **Notes** |
|--------------------|--------|--------------------------------------------------------------------------------------------------------------|-----------------|--------|--------|-----------|
|               |   |                                                                                                         |            |   |
| 3.1                |   | Articles of  Incorporation, as amended, dated January 1997                                                   |            | (2)    |
|               |   |                                                                                                         |            |   |
| 3.2                |   | Bylaws, as amended                                                                                           |            | (3)    |
|               |   |                                                                                                         |            |   |
| 4.1                |   | Specimen Common Stock  Certificate                                                                           |            | (3)    |
|               |   |                                                                                                         |            |   |
| 10.1A              |   | Amended and Restated  Stock Option Plan*                                                                     |            | (3)    |
| 10.1B              |   | Amended and Restated  1994 Stock Option Plan*                                                                |            | (4)    |
| 10.1C              |   | Amended and Restated  Directors' Nonqualified Stock Option Plan*                                             |            | (5)    |
|               |   |                                                                                                         |            |   |
| 10.5               |   | Form of Indemnification  Agreement with officers and directors*                                              |            | (3)    |
|               |   |                                                                                                         |            |   |
| 10.7               |   | Agreement with Thomas  A. Bologna Executive Employment Agreement dated July 16, 1997*                        |            | (6)    |
|               |   |                                                                                                         |            |   |
|               |   | Agreements with Mochida  Pharmaceutical Co., Ltd.                                                            |            |   |
| 10.12A             |   | Research and  Development Agreement dated August 1992                                                        |            | (3)    |
| 10.12B             |   | Osteomark License  Agreement Dated August 1992                                                               |            | (3)    |
| 10.12D             |   | Second Amendment to  Osteomark License Agreement dated December 24, 1997                                     |            | (7)    |
|               |   |                                                                                                         |            |   |
|               |   | Agreements with the  Washington Research Foundation                                                          |            |   |
| 10.13A             |   | Restated Exclusive  License Agreement effective June 19, 1992 (Urinary Assay for Measuring Bone  Resorption) |            | (3)    |
| 10.13B             |   | Amendment to Restated  Exclusive License Agreement effective January 1, 1993                                 |            | (3)    |
| 10.13C             |   | Second Amendment  effective June 2, 1994                                                                     |            | (3)    |
| 10.14              |   | Exclusive License  Agreement dated February 10, 1994 (O-CSF)                                                 |            | (3)    |

 

 

31

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| **Exhibit Number** |   |                                                                                                                                     | **Description** |   |   | **Notes** |
|--------------------|--------|------------------------------------------------------------------------------------------------------------------------------------------|-----------------|--------|--------|-----------|
|               |   |                                                                                                                                     |            |   |
|               |   | Agreements with the University  of Washington                                                                                            |            |   |
| 10.15A             |   | Research Agreement  dated July 1, 1996 (Molecular Markers of Connective Tissue Degradation)                                              |            | (7)(8) |
| 10.15B             |   | Research Agreement  dated October 1, 1996 (Role of O-CSF in Osteoclast Regulation)                                                       |            | (7)(8) |
|               |   |                                                                                                                                     |            |   |
| 10.16A             |   | Know-How Transfer and  Consulting Agreement dated September 18, 1989 with David R. Eyre, Ph.D.*                                          |            | (3)    |
| 10.16B             |   | Extension and Amendment  dated May 1, 1992*                                                                                              |            | (3)    |
|               |   |                                                                                                                                     |            |   |
|               |   | Lease Agreements                                                                                                                         |            |   |
|               |   |                                                                                                                                     |            |   |
| 10.27A             |   | Lease Agreement dated  October 2, 1995, with David A. Sabey and Sandra L. Sabey                                                          |            | (9)    |
| 10.27B             |   | First Amendment of  Lease dated October 15, 1996, with the City of Seattle, successor-in-interest  to David A. Sabey and Sandra L. Sabey |            | (2)    |
|               |   |                                                                                                                                     |            |   |
|               |   | Agreements with Johnson  & Johnson Clinical Diagnostics, Inc.                                                                        |            |   |
| 10.28A             |   | Distribution Agreement  dated June 7, 1995                                                                                               |            | (10)   |
| 10.28B             |   | Research, Development,  License and Supply Agreement dated June 7, 1995                                                                  |            | (10)   |
|               |   |                                                                                                                                     |            |   |
| 10.29              |   | Clinical Laboratory  Services License and Supply Agreement dated October 25, 1995, with SmithKline  Beecham Clinical Laboratories, Inc.  |            | (9)    |
|               |   |                                                                                                                                     |            |   |
| 10.35              |   | Shareholder Rights  Agreement dated January 21, 1997                                                                                     |            | (11)   |
|               |   |                                                                                                                                     |            |   |
| 10.37              |   | Metrika Manufacturing  and License Agreement dated March 10, 2000                                                                        |            | (12)   |
|               |   |                                                                                                                                     |            |   |
| 10.38              |   | Transamerica Business  Credit Corporation Master Loan and Security Agreement dated October 23, 2000                                      |            | (13)   |
|               |   |                                                                                                                                     |            |   |
| 23.1               |   | Consent of Arthur  Andersen LLP                                                                                                          |            | (14)   |
|               |   |                                                                                                                                     |            |   |
| 99.1               |   | Letter from Arthur  Andersen                                                                                                             |            | (14)   |

** **

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*******                                        **Managementcontract or compensatory plan or agreement.

 

**(1)****                                **Copiesof exhibits may be obtained at prescribed rates from the Public ReferenceSection of the Commission at 450 5th Street NW, Room 1024, Washington, D.C.20549, or through the Commission’s Edgar system located on the internet atwww.sec.gov.

**(2)****                                **Incorporatedherein by reference to exhibit of the same number filed with Form 10-K with theCommission for the year ended December 31, 1996.

**(3)****                                **Incorporatedherein by reference from Item 16(a) of Registrant’s Form S-1 RegistrationStatement as declared effective January 24, 1995 (No. 33-86118).

**(4)****                                **Incorporated herein by reference to AppendixB of the Registrant's Proxy Statement on schedule 14A filed on March 22, 2001.

**(5)****                                **Incorporated herein by reference to AppendixB of the Registrant's Proxy Statement on schedule 14A filed on March 30, 2000.

**(6)****                                **Incorporatedherein by reference to exhibits of the same number filed with Form 10-K withthe Commission for the year ended December 31, 1997.

**(7)****                                **Confidentialtreatment requested.  Exhibit omitsinformation that has been filed separately with the Commission.

**(8)****                                **Incorporatedherein by reference to exhibits of the same number filed with Form 10-K withthe Commission for the year ended December 31, 1996, and as amended with Form10-K/A on October 17, 1997.

**(9)****                                **Incorporatedherein by reference to exhibit of the same number filed with Form 10-K with theCommission for the year ended December 31, 1995.

**(10)****                         **Incorporatedherein by reference to exhibit of the same number filed with Form 10-Q with theCommission for the quarter ended June 30, 1995.

**(11)****                         **Incorporatedherein by reference to exhibit number 4.5 filed with Form 8-A with theCommission in January 1997.

 

32

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**(12)****                         **Incorporatedherein by reference to exhibit of the same number filed with Form 10-Q with theCommission for the quarter ended June 30, 2000.  Confidential treatment has been granted or requested with respectto portions of this exhibit.

**(13)****                         **Incorporated herein by reference to theexhibit of the same number filed with Form 10-K with the Commission for theyear ended December 31, 2000.

**(14)****                         **Includedwith this Form 10-K as exhibit of the same number.

 

**(b)   Reportson Form 8-K**

 

                  None

 

33

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**SIGNATURES**

 

Pursuant to therequirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, theRegistrant has duly caused this report to be signed on its behalf by theundersigned, thereunto duly authorized on March 28, 2002.

 
|   |   | OSTEX INTERNATIONAL, INC.       |
|--------|--------|---------------------------------|
|   |   |                            |
|   | By     | /s/  Thomas  A. Bologna    |   |
|   |   | Thomas  A. Bologna              |
|   |   | Chairman,  President and Chief  |
|   |   | Executive  Officer and Director |

 

Pursuant to therequirements of the Securities Exchange Act of 1934, this report has beensigned below by the following persons on behalf of the Registrant and in thecapacities and on the dates indicated.

 
| **Signature**                |                                                           | **Capacities** |   |   | **Date** |   |
|------------------------------|----------------------------------------------------------------|----------------|--------|--------|----------|--------|
|                         |                                                           |           |
|                         | Chairman,  President and                                       |           |
| /s/  Thomas A. Bologna  | Chief Executive  Officer                                       | March 28, 2002 |
| Thomas A.  Bologna           | (principal  executive officer and principal financial officer) |           |
|                         |                                                           |           |
| /s/  Thomas J. Cable    | Director                                                       | March 28, 2002 |
| Thomas J. Cable              |                                                           |           |
|                         |                                                           |           |
| /s/  Elisabeth L. Evans | Director                                                       | March 28, 2002 |
| Elisabeth L. Evans           |                                                           |           |
|                         |                                                           |           |
| /s/  David R. Eyre      | Director                                                       | March 28, 2002 |
| David R. Eyre                |                                                           |           |
|                         |                                                           |           |
| /s/  Fredric J. Feldman | Director                                                       | March 28, 2002 |
| Fredric J. Feldman           |                                                           |           |
|                         |                                                           |           |
| /s/  John H. Trimmer    | Director                                                       | March 28, 2002 |
| John H. Trimmer              |                                                           |           |

 

34

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