**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D. C. 20549**

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**FORM 10-QSB**

**(MarkOne)**

| **x**                                                                                                                                                                                                                     |   | **QUARTERLY  REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|----------------------------------------------------------------------------------------|
| ** **                                                                                                                                                                                                                |   | ** **                                                                             |
| **For the quarterly period ended June 30, 2007**                                                                                                                                                                          |
| ** **                                                                                                                                                                                                                |   | ** **                                                                             |
| **o**                                                                                                                                                                                                                     |   | **TRANSITION  REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT**                   |
| ** **                                                                                                                                                                                                                |   | ** **                                                                             |
| **For the transition period  from               to               ** |

 

**Commission File Number: 000-50638**

**GRAYMARK PRODUCTIONS, INC.**

(Exact name of small business issuer in its charter)

| **OKLAHOMA**                              |   | **20-0180812**      |
|-------------------------------------------|--------|---------------------|
| (State or other jurisdiction of           |   | (I.R.S. Employer    |
| incorporation or organization)            |   | Identification No.) |
| ** **                                |
| **101 N. Robinson, Suite 920**            |
| **Oklahoma City, Oklahoma 73102**         |
| (Address of principal  executive offices) |
|                                      |
| **(405) 601-5300**                        |
| (Issuer’s telephone number)          |

 

 

(Former name, former address and former fiscal year,if changed since last report)

Check whether theissuer (1) filed all reports required to be filed by Section 13 or 15(d) of theExchange Act during the past 12 months (or for shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days.  Yes x No o

Indicate by checkmark whether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).  Yes o No x

**APPLICABLEONLY TO ISSUERS INVOLVED IN BANKRUPTCY**

**PROCEEDINGS DURING THE PRECEDING FIVEYEARS**

Check whether theregistrant filed all documents and reports required to be filed by Section 12,13 or 15(d) of the Exchange Act after the distribution of securities under aplan confirmed by a court.  Yes o No o

**APPLICABLE ONLY TO CORPORATE ISSUERS**

State the numberof shares outstanding of each of issuer’s classes of common equity, as of thelatest practicable date:  As of August 8,2007, 8,827,001 shares of the issuer’s common stock, $0.0001 par value, wereoutstanding.

Transitional SmallBusiness Disclosure Format (Check One):  Yes o No x

 

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**GRAYMARKPRODUCTIONS, INC**.

FORM 10-QSB

For the QuarterEnded June 30, 2007

TABLE OF CONTENTS
| Part I.    | Financial Information                                           |   |
|------------|-----------------------------------------------------------------|--------|
| Item 1.    | Financial Statements                                            |   |
| Item 2.    | Management’s Discussion and Analysis or Plan of  Operation |   |
| Item 3.    | Controls and  Procedures                                        |   |
|       |                                                            |   |
| Part II.   | Other Information                                               |   |
| Item 1.    | Legal Proceedings                                               |   |
| Item 2.    | Unregistered  Sale of Equity Securities and Use of Proceeds     |   |
| Item 3.    | Defaults Upon  Senior Securities                                |   |
| Item 4.    | Submission of  Matters to a Vote of Security Holders            |   |
| Item 5.    | Other Information                                               |   |
| Item  6.   | Exhibits                                                        |   |
| SIGNATURES |                                                            |

 

Throughout thisreport the first personal plural pronoun in the nominative case form “we” andits objective case form “us”, its possessive and the intensive case forms “our”and “ourselves” and its reflexive form “ourselves”  refer collectively to Graymark Productions,Inc., its predecessor, Graymark Productions, L.L.C., and its executive officersand directors.  The term “independent,”as used in this report, is used to distinguish us from the term “major studios”that is generally regarded in the entertainment industry to mean UniversalPictures, Warner Bros., Twentieth Century Fox, Sony Pictures Entertainment,Paramount Pictures, The Walt Disney Company, Metro Goldwyn Mayer and theirrespective affiliates.  The terms “low-budgetmotion pictures,” “low-budget films” or “low-budget movie” within this report,refer to motion pictures that have a production budget of $250,000 to $3million.

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**PART I. FINANCIAL INFORMATION**

**Item 1.****           Financial Statements**

Our financial statements presented in this report wereprepared and included in this report in accordance with Regulation S-X andRegulation S-B and appear in this report beginning on page F-1.

**Item 2.****           Management’s Discussionand Analysis or Plan of Operation**

You should read the following discussion inconjunction with our financial statements and notes thereto appearing elsewherein this report.

**Overview**

Since commencement of our operations in August 2001,2005 was the first year that we received significant revenue from our motionpicture productions.  During 2006 and2005, we earned revenue of $404,276 and $450,000, respectively, from our motionpicture film projects.  During the sixmonths ending June 30, 2007, we earned revenue of $77,270 from theinternational distribution of *Cloud 9,**The Hunt*and*Surveillance*.  During March 2007, *The Hunt* was released domestically.  We anticipate the domestic release of *Surveillance* and *Soul’s Midnight* later in 2007.  We have completed, but not released ourmotion picture film project, *Fingerprints*.

The following discussion covers our plan of operationsfor the next 12 months.  As with anyplan, there is no assurance that our operations as described will go as plannedor that we will be successful in achieving the anticipated results.

**Proposed Acquisitions**

During May 2007, we entered into a letter of intent toacquire Apothecary RX LLC., and Sleep Holdings, LLC.  The acquisitions involve exchanging ourcommon stock for the ownership interests in the two companies.  The acquisitions are contingent on furtherdue diligence by our management team and execution of a definitive exchangeagreement.

Apothecary RX LLC owns and operates eight independentpharmacies located in Missouri, Minnesota, and Oklahoma.  Sleep Holdings LLC owns and operates sevenstate-of-the-art sleep centers that diagnose and treat a full range of sleepdisorders, including insomnia and obstructive sleep apnea.  The centers are located in Oklahoma andTexas.  Controlling interests in bothcompanies are held by Roy T. Oliver, one of our principal shareholders, andStanton Nelson, one of our directors.

**Movie Development and Production**

The movie industry generallyconsists of two principal activities, production and distribution.  Production encompasses the development,financing and creation of feature-length movies.  Distribution entails the promotion andmarketing of movies in the various media markets, including theatrical, homevideo and television presentation.  Wetypically acquire developed or “packaged” films from third parties, rather thanretain and employ personnel to develop films for our production.  Furthermore, our movies are typicallydistributed pursuant to licensing arrangements with unrelated third-partiesthat are independently engaged in the promotion and distribution ofmovies.  Our approach to acquisition,production, and distribution is to balance our financial risks against theprobability of commercial success of each movie project.

We produce English language motion pictures intendedfor domestic ancillary market release (home video and television, includingpay-per-view, cable, satellite and network broadcast) that have productionbudgets of $250,000 to $3 million (“low-budget motion pictures,” “low budgetmovies” or “low-budget films”).  Thedevelopment and production costs of a low-budget film and each cost categoryvaries from movie-to-movie and this variation may be substantial.

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Eachmovie is unique and the storyline, special effects, production locations,creative personnel involved, etc. affect the budget amount of each costcategory.  Accordingly, we believe thecost categories are somewhat indeterminable until the particular movie isidentified and developed.

Rather than retain and employ personnel to developscreenplays and perform other movie development activities, we typicallyacquire low-budget movie projects for production that are in the developmentphase, generally to the point that the initial screenplay has beenwritten.  In the pre-production andproduction phases of a motion picture, we hire skilled creative and productionpersonnel, including cinematographers, editors, costume designers, setdesigners, sound and lighting technicians and actors on an as needed basis.

We enter into various production cost and revenuesharing arrangements, including joint ventures, partnerships and limitedliability companies, on a movie-by-movie basis. These sharing arrangements are intended to complement or expand ourbusiness to permit the production of a greater number of movies, while sharingthe financial risks of the movie.  We maynot realize the anticipated financial benefits when we enter into thesearrangements.  In addition, thenegotiation of these arrangements, whether successful or not, may require us toincur significant costs and cause diversion of management’s time andresources.  Accordingly, the costs ofobtaining these sharing arrangements increase our invested cost in a moviewithout providing a correlating increase in the movie’s revenues and,consequently, adversely affect the financial performance of the movie.

Following our production of a movie, we intend toarrange for distribution through third parties primarily into the domestic(United States and Canada) and international ancillary market (home video orpay and free television).  Depending uponour ability to obtain favorable distribution arrangements, which depends inmany cases upon the distributor’s assessment of the movie’s revenue potential,a particular movie may be distributed in the domestic and internationaltheatrical markets as well as the ancillary markets. As of the date of thisreport, we have not entered into any arrangements for the theatrical release ofour produced and in-production motion pictures. A substantial amount of time may elapse between our expenditure of fundsin the production of a motion picture and the receipt of revenue from themotion picture we produce.

Our produced movies are distributed domesticallypursuant to licensing arrangements with unrelated third parties that areindependently engaged in the promotion and distribution of movies.  Our foreign market distribution arrangementsare pursuant to sale or license of the international distribution rights to anunrelated third-party distributor for either a single up-front payment (in U.S.currency) without any retained participation in international source revenuesor for the right to receive a percentage of gross receipts received by thedistributor.  As of the date of thisreport, we have entered into domestic (United States and Canada) distributionarrangements covering all of our motion picture projects and have entered intointernational distribution arrangements covering *Cloud 9, The Hunt,**Surveillance*and*Soul’s Midnight*.

Our international market distribution, whether in theancillary market or the theatrical market, will be subject to:

·                                          changesin local regulatory requirements, including restrictions on content,

·                                          changesin the laws and policies affecting trade, investment and taxes (including lawsand policies relating to the repatriation of funds and withholding taxes),

·                                          differingdegrees of protection for intellectual property,

·                                          instabilityof foreign economies and governments,

·                                          culturalbarriers, and

·                                          warsand acts of terrorism.

Any ofthese factors could have a material adverse effect on the internationaldistribution rights of any motion picture.

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**Recent Developments**

***Cloud 9.**** *Inconjunction with the production of *Cloud 9*,with the other producers of *Cloud 9*,we formed Out of the Blue Productions, LLC (the “Production Company”).  The Production Company has entered into threeagreements covering the domestic (United States and Canada) and internationaldistribution of *Cloud 9* in theancillary market (home video market) and the broadcast rights (pay and freetelevision, video on demand and pay-per-view) for *Cloud 9*.  Pursuant tothe agreement covering domestic distribution (“Domestic Agreement”), theProduction Company received in June 2005 a non-refundable advance of $450,000on our share of the net receipts from the domestic distribution of *Cloud 9* that was distributed to us.  This advance was recognized as revenue inJune 2005 upon delivery of the completed film. The Domestic Agreement allows the licensee to receive a distribution feeequal to 20% of gross domestic receipts of *Cloud9*after its recoupment of all manufacturing, distribution andmarketing costs from those receipts.  *Cloud 9* was released in the domestic videomarket during January 2006.  The domesticdistributor of *Cloud 9* is notrequired to report revenue results to us until 60 days after the end of eachcalendar quarter.  We will record revenuefrom the domestic distribution of *Cloud 9*on the date that we receive detailed reporting of the sales results from thedomestic distributor and can accurately determine our revenues from thisdistribution.  In July 2006, we receivedthe first reporting from the domestic distributor and based on the sales datarevised our ultimate revenue estimate. This resulted in an impairment charge to film costs of $1,445,014.

During June 2005, the Production Company entered in toan agreement for the international distribution of *Cloud 9*(“International Agreement”).  Under the International Agreement thelicensee is entitled to receive recoupment of its manufacturing, distributionand marketing costs and thereafter a distribution fee of equal to 15% of grossinternational receipts up to $2,000,000 and 10% of gross international receiptsabove $2,000,000.  During 2006, we earnedapproximately $278,000 of revenue under this agreement.  In December 2006, based on the actualinternational receipts to date and the number of international territoriesremaining to be exploited, we revised our ultimate revenue estimate.  This resulted in an additional impairmentcharge to film costs of $100,000.  Thisbrought the total impairment charge for *Cloud9* to $1,545,014.  During thesix months ended June 30, 2007, we earned approximately $58,000 of revenueunder this agreement.

Furthermore, during June 2005, the Production Companyentered in to a Sales Agency Agreement for the marketing of the broadcastrights (pay and free television, video-on-demand and pay-per-view) of *Cloud 9* (“Broadcast Agreement”).  Pursuant to the Broadcast Agreement, thelicensee is entitled to a fee equal to 20% of the gross receipts from broadcastof *Cloud 9* on pay and freetelevision, video-on-demand and pay-per-view after its recoupment of itsdistribution expenses.

As a result of the agreements with the director,casting company, actors and co-finance providers, our residual net profitsinterest in *Cloud 9* is 30.6%after recoupment and payment of all distribution costs, expenses and fees.  Furthermore, our co-finance providers wereentitled to receive the first $500,000 of proceeds we receive from thelicensing of the distribution rights of *Cloud9* of which we have paid in whole. After giving effect to the recovery of the $500,000 contributions to theproduction costs of *Cloud 9* underthe co-financing agreements and then the recovery of our production costs andother invested costs and interest, our net profits interest in *Cloud 9* is 30.6%.  Our entitlement to distributions from theProduction Company and the profits interest granted to Burt Reynolds provide forinterest at a rate of 2% above the prime rate (limited to 5%) for purposes ofdetermining recovery of the production and other costs of *Cloud 9*.

***The Hunt*.** During March 2005, we commenced andcompleted principal filming of our second motion picture project titled, *The Hunt*. *The Hunt* has been releasedin both the domestic and international markets. We have incurred total production costs for *The Hunt* of approximately $387,000.

In July 2005, we entered into an agreement for thedomestic distribution of *The Hunt*.  The agreement grants the licensee adistribution fee equal to 22.5% of gross receipts and allows for the recoupmentof all manufacturing, distribution and marketing costs.  We have also entered into an agreement forthe international distribution of *The Hunt*.  The agreement grants the licensee adistribution fee equal to 20% of gross receipts and allows for the recoupmentof all manufacturing, distribution and marketing costs.  During the six months ended June 30, 2007, weearned approximately

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$4,000from the international distribution of *TheHunt*.  During 2006, we earnedapproximately $36,000 from the international distribution of *The Hunt*.

In addition, we assigned 35% of the copyright interestin *The Hunt* to the licensee forapproximately $214,000, an amount equal to 50% of the budget of *The Hunt*. The company that developed the story concept for *The Hunt* retained a 25% interest in thenet receipts of *The Hunt*.  Net receipts is defined as receipts after werecoup our production costs, interest and overhead.  In addition, we entered in to netparticipation agreements with the director, casting company and others equal to7% of the net receipts of *The Hunt*.

***Surveillance*. **During August 2005, we commenced andcompleted principal filming of our third motion picture project titled, *Surveillance*.  *Surveillance*has been released in the international market and is expected to bereleased domestically later in 2007.  Wehave incurred total production costs for *Surveillance*of approximately $589,000.

In July 2005, we entered into an agreement for thedomestic distribution of *Surveillance*.  The agreement grants the licensee adistribution fee equal to 25% of gross receipts and allows for the recoupmentof all manufacturing, distribution and marketing costs.  We have also entered into an agreement forthe international distribution of *Surveillance*.  The agreement grants the licensee adistribution fee equal to 20% of gross receipts and allows for the recoupmentof all manufacturing, distribution and marketing costs.  During the six months ended June 30, 2007, weearned approximately $15,000 from the international distribution of *Surveillance*.  During 2006, we earned approximately $31,000from the international distribution of *Surveillance*.

In addition, we assigned 50% of the copyright interestin *Surveillance* to the licenseefor approximately $312,000, an amount equal to 50% of the budget of *Surveillance*.  In addition, we entered in to netparticipation agreements with the director, casting company and others equal to8% of the net receipts of *Surveillance*.

***Soul’s Midnight*. **During November 2005, we commenced andcompleted the filming of our fourth motion picture titled, *Soul’s Midnight*.  We have incurred total production costs for *Soul’s Midnight* of approximately $664,000.

We have entered into an agreement for the domesticdistribution of *Soul’s Midnight*.  The agreement grants the licensee adistribution fee equal to 25% of gross receipts and allows for the recoupmentof all manufacturing, distribution and marketing costs.  We have also entered into an agreement forthe international distribution of *Soul’sMidnight*.  The agreementgrants the licensee a distribution fee equal to 20% of gross receipts andallows for the recoupment of all manufacturing, distribution and marketingcosts.  During 2006, we received anon-refundable advance of $60,000 from the international distribution of *Soul’s Midnight*.

In addition, we assigned 25% of the copyright interestin *Soul’s Midnight* to thelicensee for approximately, $171,000 an amount equal to 25% of the budget of *Soul’s Midnight*.  We also assigned 50% of the copyrightinterest in *Soul’s Midnight* tothe creators of the script for approximately $342,000, an amount equal to 50%of the budget.

***Fingerprints.*** During April 2006, we commenced andcompleted the filming of our fifth motion picture project titled, *Fingerprints*.  We have incurred total production costs for *Fingerprints* of approximately $616,000.

We have entered into an agreement for the domesticdistribution of *Fingerprints*.  The agreement grants the licensee adistribution fee equal to 25% of gross receipts and allows for the recoupmentof all manufacturing, distribution and marketing costs.  In addition, we assigned 42.5% of thecopyright interest in *Fingerprints*to the licensee for approximately $291,000, an amount equal to 42.5% of thebudget of *Fingerprints*.  We also assigned 20% of the copyrightinterest in *Fingerprints* to thecreators of the script for approximately $137,000, an amount equal to 20% ofthe budget.

***Summary MotionPicture Revenue Participation and Net Rights in Distribution.***  The following summarizes the revenueparticipations before and after net profit participations in our films *The Hunt*, *Surveillance,Soul’s Midnight* and *Fingerprints*:

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|                              | ** ** | **Before Payout** | ** ** | **After Payout** | ** ** |
|------------------------------|------------|------------------------|------------|-----------------------|------------|
| ** **                   | ** ** | **Company**            | ** ** | **Other  Members**    | ** ** | **Company** | ** ** | **Other  Members** | ** ** | **Third-  Party   Interest** | ** ** |
|                         |       |                   |       |                  |       |   |   |   |   |   |   |
| The Hunt                     |       |                   |       |                  |       |   |   |   |   |   |   |
| Revenue allocation           |       | 65                     | %          | 35                    | %          | 44 | % | 24 | % | 32 | % |
| Production costs to be paid  |       | 50                     | %          | 50                    | %          |   |   |   |   |   |   |
|                         |       |                   |       |                  |       |   |   |   |   |   |   |
| Surveillance                 |       |                   |       |                  |       |   |   |   |   |   |   |
| Revenue allocation           |       | 50                     | %          | 50                    | %          | 46 | % | 46 | % | 8 | % |
| Production costs to be paid  |       | 50                     | %          | 50                    | %          |   |   |   |   |   |   |
|                         |       |                   |       |                  |       |   |   |   |   |   |   |
| Soul’s Midnight         |       |                   |       |                  |       |   |   |   |   |   |   |
| Revenue allocation           |       | 25                     | %          | 75                    | %          | 24 | % | 72 | % | 4 | % |
| Production costs to be paid  |       | 25                     | %          | 75                    | %          |   |   |   |   |   |   |
|                         |       |                   |       |                  |       |   |   |   |   |   |   |
| Fingerprints                 |       |                   |       |                  |       |   |   |   |   |   |   |
| Revenue allocation           |       | 35                     | %          | 65                    | %          | 34 | % | 62 | % | 4 | % |
| Production costs  to be paid |       | 35                     | %          | 65                    | %          |   |   |   |   |   |   |

 

The table below summarizes the distribution feesnegotiated as of June 30, 2007 on a per movie basis (markets that have no distributionagreements in place are identified as “n/a”):
|                      | ** ** | **Cloud 9** | ** ** | **The  Hunt** | ** ** | **Surveillance** | ** ** | **Soul’s  Midnight** | ** ** | **Finger-  prints** | ** ** |
|----------------------|------------|------------------|------------|---------------|------------|------------------|------------|---------------------------|------------|---------------------|------------|
|                 |       |             |       |          |       |             |       |                      |       |                |       |
| Domestic DVD  market |       | 20               | %          | 22.5          | %          | 25               | %          | 25                        | %          | 25                  | %          |
| Broadcast            |       | 20               | %          | n/a           |       | n/a              |       | n/a                       |       | n/a                 |       |
| International        |       | 15               | %          | 20            | %          | 20               | %          | 20                        | %          | n/a                 |       |

 

***Convertible NoteFinancing.***  InAugust and October 2005, we issued two promissory notes (the “Notes”) in theaggregate principal amount of $1,500,000. The Notes are secured by all of our assets and the assets of our currentand future subsidiaries.  The Notes bearinterest at the rate of 8% per annum that is payable quarterly and can be paidin cash or shares of our common stock. The Notes become due and payable on the first to occur of:

·                                          July27, 2007 for the first note and October 25, 2007 for the second note which wassubsequently extended to January 31, 2008 (the “Maturity Dates”);

·                                          theconsummation of a “Qualified Financing;” or

·                                          thecontinuation of and event of default, as defined in the Notes, for more than 30days following notice of the occurrence of an event of default.

Upon consummation of a Qualified Financing, theoutstanding principal amount of the Notes and all accrued and unpaid interest(collectively the “Note Balance”) will automatically convert into shares of ourcommon stock or other equity securities equal to 120% of the Note Balancedivided by the price per share of our common stock or other equity securitiessold in the Qualified Financing.  Themaximum price or value of our common stock or other equity securities intowhich the Note Balance converts may not exceed the equivalent of $1.10 percommon stock share.  Qualified Financingrefers to any equity financing pursuant to which we receive aggregate gross cashproceeds of $2,000,000 or more on or before the Maturity Date.

In conjunction with issuance of the Notes, we and theholder of the Notes entered into common stock purchase warrant agreements, eachevidencing warrants exercisable on or before August 5, 2010 for the first noteand October 25,

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2010for the second note.  Two agreementsprovide for the purchase of 250,000 (500,000 total) common stock shares at$2.00 and the other two agreements provide for the purchase of 250,000 (500,000total) common stock shares at $3.00.

The fair value of each warrant issued was estimated onthe date of issuance using the Black-Scholes option pricing model.  The fair value of the options were based onthe difference between the present value of the exercise price of the optionand the estimated fair value price of the common share.  The fair value of the warrants was estimatedto be $349,459 and was recorded as paid-in capital and as a discount to thevalue of the notes.  The value of thewarrants will be amortized to interest expense over the respective terms of theNotes.

In March 2007, we executed amendment agreements withthe holder of its convertible notes payable. Under the amendments, the maturity date of both Notes is extended toJanuary 31, 2008.  Interest on the Notesis increased from 8% to 12% per annum from the date of the amendment untilmaturity.  As additional considerationfor executing the amendments, we lowered the strike price of the previouslyissued warrant agreements, which allow for the purchase of 1,000,000 shares ofcommon stock shares, to $0.50 per share from the original strike prices of$2.00 and $3.00 per share.  In addition,we and the holder of the Notes entered into an additional common stock purchasewarrant agreement, evidencing warrants exercisable on or before April 1,2012.  The agreement provides for thepurchase of 500,000 common stock shares at $0.50.

The fair value of the repriced and newly issuedwarrants was estimated on the date of repricing or issuance using theBlack-Scholes option pricing model.  Thefair value of the options were based on the difference between the presentvalue of the exercise price of the option and estimated fair value of thecommon share.  The fair value of thenewly issued warrants was estimated to be $51,614 and was recorded as paid-incapital.  The value of the warrants willincrease interest expense over the new life of the Notes.  We determined that there was no additionalfair value (over the value previously recorded) attributable to the repricingof the previously issued warrants and no additional expense has been recordedfor this modification.

***Output Agreement.***  In June 2005, we entered into an agreementproviding Image Entertainment (“Image”) with the first-look right at the movieswe produce (the “Output Agreement”). Image has a “first look” on all projects up to $2,000,000 that weundertake during the three-year period beginning on the date of delivery of *The Hunt* which was delivered in February2006.  If Image were to choose not tobecome involved in a motion picture project, we have the right to produce anddistribute the motion picture with another person without any furtherobligation to Image.  Image agreed tofund up to 50% of each production budget for mutually agreed upon motionpicture projects.  This funding ispayable in three installments:  20% ofthe approved production budget through pre-production, 60% through the physicalshooting schedule, and 20% through the post-production process.

For a term of 20 years, Image will have domesticdistribution rights of each motion picture we co-produce with Image.  Image is entitled to receive a 25%distribution fee from gross domestic sales and a back-end profit participationfrom all sales after payment of the distribution fee.  In general, the back-end profit participationinterest and ownership interest in each co-produced motion picture will bebased upon Image’s funding of the budgeted share of production costs.  The actual back-end profit participationpercentage is equal to the percentage Image funds of the motion picture projectafter recovery from sales of the mutually approved expenses.  Our joint exploitation of the broadcastrights with Image have been left to future negotiation.

**Accounting Methods**

The application of the following accounting policies,which are important in presenting our financial position and results ofoperations, requires significant judgments and estimates on the part ofmanagement.  For a summary of all of ouraccounting policies, including the accounting policies discussed below, seenote 2 to the unaudited consolidated financial statements appearing elsewherein this report.

In June 2000, the Accounting Standards ExecutiveCommittee of the American Institute of Certified Public Accountants issuedStatement of Position 00-2, Accounting by Producers or Distributors ofFilms (“SoP 00-2”).  SoP 00-2establishes accounting standards for producers or distributors of films,including changes in revenue recognition,

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capitalizationand amortization of costs of acquiring films and television programs andaccounting for exploitation costs, including advertising and marketingexpenses. These accounting standards are as follows:

·                                          advertisingand marketing costs are expensed the first time the advertising takes place;and

·                                          thecapitalization of production costs for episodic television series is limited torevenue that has been contracted for on an episode-by-episode basisuntil the time that the criteria for recognizing secondary market revenues aremet.

We capitalize the costs of production, includingfinancing costs, to investment in motion pictures.  These costs are amortized to direct operatingexpenses in accordance with SoP 00-2. These costs are stated at the lowerof unamortized motion picture costs or fair value (net present value).  Costs for an individual motion picture areamortized in the proportion that current period actual revenues bear tomanagement’s estimates of the total revenue expected to be received from themotion picture over a period not to exceed 10 years from the date ofdelivery.  We are required to regularlyreview and revise when necessary the total revenue estimates of each motionpicture produced.  As a result, ifrevenue estimates change with respect to a motion picture, it may be necessaryto write down all or a portion of the unamortized costs of the motionpicture.  There is no assurance thatrevised revenue estimates will not occur that result in significant write-downsaffecting our results of operations and financial condition.

Revenue from the sale or licensing of motion pictureswill be recognized upon meeting all recognition requirements of SoP 00-2.  Revenue from the theatrical release of motionpictures will be recognized at the time of exhibition based on ourparticipation in box office receipts.  Ifapplicable, revenue from the sale of DVDs in the retail market, net of anallowance for estimated returns, is recognized on the later of shipment to thecustomer or “street date” (when it is available for sale by the customer).  Furthermore, if applicable, under revenuesharing arrangements, rental revenue is recognized when we become entitled toreceipts.  For contracts that provide forrights to exploit a motion picture on multiple media (e.g. theatrical, video,television) with a fee for a single motion picture where the contract specifiesthe permissible timing of release to various media, the fee is allocated to thevarious media based on an assessment of the relative fair value of the rightsto exploit each media and will be recognized as the movie is released to eachmedia.  For multiple-titlecontracts with a fee, the fee is allocated on a title-by-titlebasis, based on an assessment of the relative fair value of each title.  If applicable, revenues from televisionlicensing are recognized when the motion picture becomes available to thelicensee for telecast.  Cash paymentsreceived are recorded as deferred revenue until all the conditions of revenuerecognition have been met.  Ifapplicable, we accrue for video returns and provide for allowances in thefinancial statements based on previous returns and our allowances history on atitle-by-title basis in each of the video businesses. In this case,there may be differences between actual returns and allowances and ourhistorical experience that we currently do not have.  Revenues earned from the sale of DVDs throughdistribution agreements are recognized when sales from these distributors areknown or can be accurately estimated.

We depend on the distributors of any motion picture weproduce to account for and accurately report our share of exhibitionrevenue.  While we expect to have certainaudit rights to verify exhibition revenues received by our North Americandistributors,

·                                          distributorsare often in a position to account for revenues in a manner that understates orfails accurately to account for revenues or

·                                          distributorsmay fail to maintain appropriate accounting records making it difficult todetermine a producer’s actual share of revenues upon audit.

Although we do not have any experience related toauditing distributors’ revenue accounting, we anticipate that the costsassociated with this type of audit may be substantial and may varysignificantly from distributor-to-distributor and even picture-to-picture.  Therefore, there is no assurance that, in allcases, we will be able to obtain an accurate accounting of exhibition revenuesor that audits will result in increases in the revenues that justify theassociated audit costs.

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**Recent Accounting Pronouncements**

*FIN 48* – In June2006, the Financial Accounting Standards Board (“FASB”) issued Interpretation48, *“Accounting for Uncertainty in IncomeTaxes - an Interpretation of FASB Statement No. 109”* (“FIN 48”).  FIN 48 is intended to clarify the accountingfor uncertainty in income taxes recognized in a company’s financial statementsand prescribes the recognition and measurement of a tax position taken orexpected to be taken in a tax return. FIN 48 also provides guidance on de-recognition, classification,interest and penalties, accounting in interim periods, disclosure andtransition.

Under FIN 48, evaluation of a tax position is atwo-step process.  The first step is todetermine whether it is more-likely-than-not that a tax position will besustained upon examination, including the resolution of any related appeals orlitigation based on the technical merits of that position.  The second step is to measure a tax positionthat meets the more-likely-than-not threshold to determine the amount ofbenefit to be recognized in the financial statements.  A tax position is measured at the largestamount of benefit that is greater than 50 percent likely of being realized uponultimate settlement.

Tax positions that previously failed to meet themore-likely-than-not recognition threshold should be recognized in the firstsubsequent period in which the threshold is met.  Previously recognized tax positions that nolonger meet the more-likely-than-not criteria should be de-recognized in thefirst subsequent financial reporting period in which the threshold is no longermet.

The adoption of FIN 48 at January 1, 2007 did not havea material impact on our financial position, results of operations, or cashflows.

*SFAS 157* – InSeptember 2006, the FASB issued Statement No. 157, *“Fair Value Measurements”* (“SFAS 157”).  SFAS 157 addresseshow companies should measure fair value when they are required to use a fairvalue measure for recognition or disclosure purposes under GAAP.   SFAS 157 defines fair value, establishes aframework for measuring fair value and expands disclosures about fair valuemeasurements.  SFAS 157 is effective forfiscal years beginning after November 15, 2007, with earlier adoptionpermitted.  Management is assessing theimpact of the adoption of this SFAS 157.

*SFAS 158* – InSeptember 2006, the FASB issued Statement No. 158, *“Employers’ Accounting for Defined Benefit Pension and OtherPostretirement Plans”* (“SFAS 158”), an amendment of FASB StatementsNo. 87, 88, 106 and 132(R).  SFAS 158requires (a) recognition of the funded status (measured as the differencebetween the fair value of the plan assets and the benefit obligation) of abenefit plan as an asset or liability in the employer’s statement of financialposition, (b) measurement of the funded status as of the employer’s fiscal year-endwith limited exceptions, and (c) recognition of changes in the funded status inthe year in which the changes occur through comprehensive income.  The requirement to recognize the fundedstatus of a benefit plan and the disclosure requirements are effective as ofthe end of the fiscal year ending after December 15, 2006.  The requirement to measure the plan assetsand benefit obligations as of the date of the employer’s fiscal year-endstatement of financial position is effective for fiscal years ending afterDecember 15, 2008.  SFAS 158 has nocurrent applicability to our financial statements.  Management adopted this Statement on December31, 2006 and the initial adoption did not have a material impact to ourfinancial position, results of operations, or cash flows.

*SFAS 159* – InFebruary 2007, the FASB issued Statement No. 159, *“The Fair Value Option for Financial Assets and Liabilities”*(“SFAS 159”).  SFAS 159 permits companiesto choose to measure many financial assets and liabilities at fair value.  Unrealized gains and losses on items forwhich the fair value option has been elected are reported in earnings.  SFAS 159 is effective for fiscal yearsbeginning after November 15, 2007. Management is currently assessing the impact of SFAS 159 on ourconsolidated financial statements.

*SAB 108* – InSeptember 2006, the Securities Exchange Commission issued Staff AccountingBulletin No. 108 (“SAB 108”).  SAB 108addresses how the effects of prior year uncorrected misstatements should beconsidered when quantifying misstatements in current year financialstatements.  SAB 108 requires companiesto quantify misstatements

8

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usinga balance sheet and income statement approach and to evaluate whether eitherapproach results in quantifying an error that is material in light of relevantquantitative and qualitative factors. When the effect of initial adoption is material, companies will recordthe effect as a cumulative effect adjustment to beginning of year retainedearnings and disclose the nature and amount of each individual error beingcorrected in the cumulative adjustment. SAB 108 was effective beginning January 1, 2007 and the initial adoptionof SAB 108 did not have a material impact on our financial position, results ofoperations, or cash flows.

**Results of Operations**

The following table sets forth selected results of ouroperations for the three months and six months ended June 30, 2007 and2006.  The following information wasderived and taken from our unaudited financial statements appearing elsewherein this report.
| ** **                                           | ** ** | **For the Three Months Ended  June 30,** | ** ** | **For the Six Months Ended   June 30,** | ** ** |
|------------------------------------------------------|------------|-------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                                           | ** ** | **2007**                                                          | ** ** | **2006**                                                              | ** ** | **2007** | ** ** | **2006** | ** ** |
| Revenue                                              |       | $                                                                 | 52,324     |                                                                  | $          | 47,580 |   | $ | 77,270 |   | $ | 236,866 |   |
| Expenses:                                            |       |                                                              |       |                                                                  |       |   |   |   |   |
| Direct operating                                     |       | 49,353                                                            |       | 31,440                                                                |       | 70,305 |   | 191,451 |   |
| Impairment of investment in films                    |       | —                                                            |       | 1,445,014                                                             |       | — |   | 1,445,014 |   |
| General and administrative                           |       | 71,714                                                            |       | 95,462                                                                |       | 165,376 |   | 201,130 |   |
| Depreciation                                         |       | 764                                                               |       | 1,216                                                                 |       | 1,527 |   | 2,431 |   |
|                                                 |       |                                                              |       |                                                                  |       |   |   |   |   |
| Total expenses                                       |       | 121,831                                                           |       | 1,573,132                                                             |       | 237,208 |   | 1,840,026 |   |
|                                                 |       |                                                              |       |                                                                  |       |   |   |   |   |
| Operating loss                                       |       | (69,507                                                           | )          | (1,525,552                                                            | )          | (159,938 | ) | (1,603,160 | ) |
|                                                 |       |                                                              |       |                                                                  |       |   |   |   |   |
| Other income  (expense):                             |       |                                                              |       |                                                                  |       |   |   |   |   |
| Interest and other income                            |       | 7,254                                                             |       | 7,514                                                                 |       | 15,250 |   | 16,646 |   |
| Interest expense                                     |       | (124,413                                                          | )          | (92,262                                                               | )          | (220,555 | ) | (183,839 | ) |
|                                                 |       |                                                              |       |                                                                  |       |   |   |   |   |
| Net other income (expense)                           |       | (117,159                                                          | )          | (84,748                                                               | )          | (205,305 | ) | (167,193 | ) |
|                                                 |       |                                                              |       |                                                                  |       |   |   |   |   |
| Net loss before  minority interests and income taxes |       | (186,666                                                          | )          | (1,610,300                                                            | )          | (365,243 | ) | (1,770,353 | ) |
| Minority  interests                                  |       | 96                                                                |       | (4,458                                                                | )          | (2,681 | ) | (4,839 | ) |
| Provision for  income taxes                          |       | —                                                            |       | —                                                                |       | — |   | — |   |
|                                                 |       |                                                              |       |                                                                  |       |   |   |   |   |
| Net loss                                             |       | $                                                                 | (186,570   | )                                                                     | $          | (1,614,758 | ) | $ | (367,924 | ) | $ | (1,775,192 | ) |

 

**Comparison of the Three-Month Periods Ended June 30, 2007 and2006**

Our consolidated revenues for the three months endedJune 30, 2007 (the “2007 2nd Quarter”) were $52,324 and were attributable tothe international distribution of *Cloud 9*and*The Hunt*.  We generated revenue in the prior year’ssecond quarter of $47,580 from the international distribution of *Cloud 9*, *TheHunt*and*Surveillance*.

Direct operating expenses primarily includeamortization of film costs and participation costs.  Our direct operating expenses of $49,353 forthe 2007 2nd Quarter were 94% of revenues. The ratio of direct operating expenses to revenue is dependent on ourestimate of the ultimate revenue of each film. During the second quarter of 2006, we incurred direct operating expensesof $31,440 which represented 66% of revenues.

As of June 30, 2006, our domestic distributor hadreported to us domestic DVD sales of approximately 100,000 units.  Based on the actual results through June 30,2006, we did not feel that we can be reasonably assured of receiving domesticrevenue in excess of the $450,000 non-refundable advance we received in2005.  As a result, we wrote down thecarrying value of *Cloud 9* by$1,445,014 to $393,000 which was equal to the amount that management estimatedwould be collected through continuing international distribution and broadcastdistribution of *Cloud 9*.

9

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General and administration expenses of $71,714 for the2007 2nd Quarter decreased $23,748, or 25%, from $95,462 in the prior year’squarter.  The decrease in general andadministration expenses was primarily due to a decrease in salaries and generalinsurance.

During the 2007 2nd Quarter, we realized interestincome of $7,254, compared to $7,514 in the prior year’s 2nd quarter.  This decrease was attributable to acorresponding decrease in the balance of cash and cash equivalents held ininterest bearing accounts.

We incurred interest expense of $124,413 during the2007 2nd Quarter that was attributable to our convertible notes payable,amortization of prepaid loan fees and amortization of warrants issued with theconvertible notes payable.  We incurredinterest expense of $92,262 during the second quarter of 2006.  The increase in interest expense was due tothe increase in the interest rate paid on the convertible notes from 8% to 12%effective March 2007.

Minority interests in our earnings for the 2007and2006 2nd Quarters were ($96) and $4,458, respectively, and were attributable tominority interests in our movies *The Hunt*,*Surveillance* and *Soul’s Midnight*.

**Comparison of the Six-Month Periods Ended June 30, 2007 and2006**

Our consolidated revenues for the six months endedJune 30, 2007 were $77,270 and were attributable to the internationaldistribution of *Cloud 9,**The Hunt* and*Surveillance*.  Wegenerated revenue in the prior year’s first six months of $236,866 from theinternational distribution of *Cloud 9,**The Hunt* and*Surveillance*.

Direct operating expenses primarily includeamortization of film costs and participation costs.  Our direct operating expenses of $70,305 forthe six months ended June 30, 2007 were 91% of revenues.  The ratio of direct operating expenses torevenue is dependent on our estimate of the ultimate revenue of each film.  During the first six months of 2007, weincurred direct operating expenses of $191,451 which represented 81% ofrevenues.

As of June 30, 2006, our domestic distributor hadreported to us domestic DVD sales of approximately 100,000 units.  Based on the actual results through June 30,2006, we did not believe that we can be reasonably assured of receivingdomestic revenue in excess of the $450,000 non-refundable advance we receivedin 2005.  As a result, we wrote down thecarrying value of *Cloud 9* by$1,445,014 to $393,000 which was equal to the amount that management estimatedwould be collected through continuing international distribution and broadcastdistribution of *Cloud 9*.

General and administration expenses of $165,376 forthe first six months of 2007 decreased $35,754, or 18%, from $201,130 in theprior year’s first six months.  Thedecrease in general and administration expenses was primarily due to a decreasein salaries and general insurance which were offset by an increase in ourmonthly lease expense and travel expenses.

During the first six months of 2007, we realizedinterest income of $15,250, compared to $16,646 in the prior year’s first sixmonths.  This decrease was attributableto a corresponding decrease in the balance of cash and cash equivalents held ininterest bearing accounts.

We incurred interest expense of $220,555 during thefirst six months of 2007 that was attributable to our convertible notespayable, amortization of prepaid loan fees and amortization of warrants issuedwith the convertible notes payable.  Weincurred interest expense of $183,839 during the first six months of 2006.  The increase in interest expense is due tothe increase in the interest rate paid on the convertible notes from 8% to 12%effective March 2007.

Minority interests in our earnings for the first sixmonths of 2007 and 2006 were $2,681 and $4,839, respectively, and wereattributable to minority interests in our movies *The Hunt*, *Surveillance*and *Soul’s Midnight*.

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**Liquidity and Capital Resources**

Our liquidity and capital resources are providedprincipally through cash generated from operations, issuance of convertiblenotes payable and equity offerings.  Ourcash and cash equivalents at June 30, 2007 totaled approximately $832,000.  As of June 30, 2007, we had a working capitaldeficiency of approximately $870,000.

We expect to meet our obligations as they become duethrough available cash and funds generated from our completed motion picturessupplemented as necessary by debt and equity financing.  We expect to generate positive workingcapital through our operations.  However,there are no assurances that we will be able to either (1) achieve a level ofrevenues adequate to generate sufficient cash flow from operations or (2)obtain additional financing through debt and equity financing to support ourworking capital requirements.  Theseconditions raise substantial doubt about our ability to continue as a goingconcern.  The accompanying financialstatements do not include any adjustments that might be necessary should we beunable to continue as a going concern.

In an effort to manage our working capital, duringMarch 2007, we executed amendment agreements with the holder of its convertiblenotes payable.  Under the amendments, thematurity date of both Notes was extended to January 31, 2008.  Interest on the Notes was increased from 8%to 12% per annum from the date of the amendment until maturity.  As additional consideration for executing theamendments, we lowered the exercise price of the previously issued warrantagreements, which allow for the purchase of 1,000,000 shares of common stockshares, to $0.50 per share from the original strike prices of $2.00 and $3.00per share.  In addition, we entered intoan additional common stock purchase warrant agreement with the holder of theNotes, evidencing warrants exercisable on or before April 1, 2012 for thepurchase of 500,000 common stock shares at $0.50 each.

During May 2007, we entered into a letter of intent toacquire ApothecaryRx LLC., and Sleep Holdings, LLC.  The acquisitions involve exchanging ourcommon stock for the ownership interests in the two companies.  The acquisitions are contingent on furtherdue diligence by our management team and execution of a definitive exchangeagreement.

Apothecary RX LLC owns and operates eight independentpharmacies located in Missouri, Minnesota, and Oklahoma.  Sleep Holdings LLC owns and operates sevenstate-of-the-art sleep centers that diagnose and tread a full range of sleepdisorders, including insomnia and obstructive sleep apnea.  The centers are located in Oklahoma andTexas.  Controlling interests in bothcompanies are held by Roy T. Oliver, one of our principal shareholders, andStanton Nelson, one of our directors.

Operating activities for the six months ended June 30,2007, used net cash of $16,578 compared to operating activities for the firstsix months ended June 30, 2006 which used $665,005.  The increase in cash flows from operatingactivities was primarily attributable to a decrease in the amount of fundsinvested in films and unearned revenue received on a film project currently inprogress.

There were no investing activities for the six monthsended June 30, 2007.  Investingactivities for the six months ended June 30, 2006, generated net cash of$450,385 as a result of contributions made by our minority interests on certainfilm projects.

There were no financing activities during the sixmonths ended June 30, 2007.  Financingactivities for the six months ended June 30, 2006, used cash of $50,000 for therepayment of film obligations.

***FinancialCommitments***

***FilmCapital, Inc.Agreement.**** *In March 2002, Messrs. Fredericksonand Stansberry, members of Graymark Productions, L.L.C., entered into anagreement to pay FilmCapital, Inc. $50,000 for services performed.  This liability is only payable in the eventGraymark Productions, L.L.C. or its affiliates obtain funding for film projectsfrom outside investors.  Messrs.Frederickson and Stansberry have each represented that their intent was not tocause Graymark Productions, L.L.C. to be liable for this obligation and eachhas agreed to indemnify us for any liability that may arise

11

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out ofthis agreement.  In December 2003, werecorded a consulting expense and liability of $50,000 related to the agreementwith FilmCapital.  At the time that wepay this recorded liability, Messrs. Frederickson and Stansberry will berequired immediately to reimburse us for the payment.

***RegistrationObligations.***** We agreed, at our expense, to register thecommon stock shares and redeemable warrants offered for sale pursuant to ourprivate placement of 2,995,000 common stock shares and redeemable warrantsexercisable for the purchase of 2,995,000 common stock shares under the 1933Act and to maintain effectiveness of the registration for a seven-year periodending on April 14, 2010.  Registrationof the common stock shares and redeemable warrants became effective July 13,2004.

Furthermore, we also similarly agreed to register (andmaintain effective of the registration under the 1933 Act for the seven-yearperiod) the 443,250 common stock shares underlying the placement agent warrantssold to the underwriter of our private placement offering, Viewtrade Financial,and 383,425 common stock shares issued pursuant to the one-year FinancialAdvisor Agreement to Viewtrade Financial. In accordance with this obligation, we initially included these commonstock shares in the registration statement that registered the privateplacement common stock shares and redeemable warrants; however, on February 27,2004, Viewtrade Financial, on its own behalf as well as the other holders ofthe placement agent warrants and the recipients and holders of the common stockshares assigned to affiliates of Viewtrade Financial, elected to remove thoseshares from the registration statement.

We have been informed by our legal counsel that thecommon stock shares and redeemable warrants, other than those underlying theredeemable warrants and the placement agent warrants, may be sold withoutfurther restriction pursuant to Rule 144 as promulgated by the Securities andExchange Commission.  Because theexercise prices of the redeemable warrants and the placement agent warrants aresubstantially in excess of the market price of our common stock, we do notintend to file a registration statement covering the underlying common stockshares until the market price of our common stock increases to a level abovethe applicable exercise prices.

***Office SpaceArrangement*.** Ourcorporate headquarters and offices are located at 101 North Robinson, Suite920, Oklahoma City, Oklahoma.  Theseoffice facilities consist approximately of 1,500 square feet and are occupiedunder an written month-to-month lease arrangement, requiring monthly rentalpayments of approximately $2,100.  Thecosts of building-out and improving our offices was approximately $15,000 whichwe paid rather than Corporate Tower, LLC, our landlord.  Roy T. Oliver, one of our greater than 5%shareholders and affiliates, controls Corporate Tower, LLC.  Mr. Oliver on behalf of Corporate Tower, LLChas orally indicated that as of the date of this report there is no intent toterminate our occupancy of the office facilities.  Under Oklahoma law, termination of ourmonth-to-month lease arrangement requires at least 30 days prior writtennotice.  In the event of thistermination, we believe there is adequate office space and facilities availablein the Oklahoma City area.

***12-Month OverheadBudget***

Our budgeted overhead expenses for the next 12 monthsare as follows:
| Expenditure                        | ** ** | **Monthly** | ** ** | **12  Months** | ** ** |
|------------------------------------|------------|-------------|------------|----------------|------------|
| Administrative  expenditures:      |       |        |       |           |       |
| Executive officer compensation     |       | $           | 12,000     |           | $          | 144,000 |   |
| Administrative salaries            |       | 3,000       |       | 36,000         |       |
| Payroll taxes                      |       | 1,200       |       | 14,400         |       |
| Telephone                          |       | 600         |       | 7,200          |       |
| Rent                               |       | 2,100       |       | 25,200         |       |
| Legal                              |       | 3,000       |       | 36,000         |       |
| Accounting                         |       | 3,000       |       | 36,000         |       |
| Public relations                   |       | 500         |       | 6,000          |       |
| Insurance                          |       | 500         |       | 6,000          |       |
| Stock transfer                     |       | 800         |       | 9,600          |       |
| Miscellaneous                      |       | 1,000       |       | 12,000         |       |
| Total  Administrative Expenditures |       | $           | 27,700     |           | $          | 332,400 |   |

 

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***AdditionalFinancial Commitments***

Other than our commitments discussed above, we do nothave any capital commitments.  Althoughwe do not have any commitments, we may enter into long-term lendingarrangements during the next 12 months to provide additional working capitaland fund additional movie projects we desire to undertake.  In addition, we may receive additional fundsfrom the exercise of outstanding warrants and stock options, the exercise ofwhich is generally not within our control.

If our production activities are successful (of whichthere is no assurance) or movie production budgets increase, we may be requiredto increase overhead by hiring additional employees and increase our officefacilities.  We anticipate that duringthe next 12 months we will not be required to increase the number of ouremployees or increase our office facilities.

We believe that our operations as a result of ourmotion picture projects will achieve profitability.  We provide no assurance that

·              we will be successfulin implementing our business plan or

·              unanticipatedexpenses or problems or technical difficulties will not occur which wouldresult in significant delays.

Eitherone of these will adversely affect our ability to become profitable or tomaintain profitability.

Future commitments under contractual obligations byexpected maturity date at June 30, 2007 are as follows:
|                            | ** ** | **< 1 year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **> 5 years** | ** ** | **Total** | ** ** |
|----------------------------|------------|---------------------------|------------|--------------------|------------|--------------------|------------|----------------------------|------------|-----------|------------|
|                       |       |                      |       |               |       |               |       |                       |       |      |       |
| Convertible  notes payable |       | $                         | 1,605,000  |               | $          | —             |       | $                          | —     |      | $          | — |   | $ | 1,605,000 |   |
| Operating leases           |       | 25,608                    |       | —             |       | —             |       | —                     |       | 25,608    |       |
|                       |       | $                         | 1,630,608  |               | $          | —             |       | $                          | —     |      | $          | — |   | $ | 1,630,608 |   |

 

**Cautionary Statement Relating to Forward Looking Information**

We have included some forward-looking statements inthis section and other places in this report regarding our expectations.  These forward-looking statementsinvolve known and unknown risks, uncertainties and other factors which maycause our actual results, levels of activity, performance or achievements, orindustry results, to be materially different from any future results, levels ofactivity, performance or achievements expressed or implied by these forward-lookingstatements.  Some of these forward-lookingstatements can be identified by the use of forward-looking terminology including“believes,” “expects,” “may,” “will,” “should” or “anticipates” or the negativethereof or other variations thereon or comparable terminology, or bydiscussions of strategies that involve risks and uncertainties.  You should read statements that contain thesewords carefully because they:

·              discuss our futureexpectations;

·              contain projectionsof our future operating results or of our future financial condition; or

·              state other “forward-looking”information.

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We believe it is important to discuss ourexpectations; however, it must be recognized that events may occur in thefuture over which we have no control and which we are not accurately able topredict.  Readers are cautioned toconsider the specific business risk factors described under the caption “AdditionalFactors that May Affect Our Future Results” appearing under “Item 1.Description of Business” of our Annual Report on Form 10-KSB filed with theUnited States Securities and Exchange Commission on March 30, 2007, and not toplace undue reliance on the forward-looking statements contained herein, whichspeak only as of the date of this report. We undertake no obligation to publicly revise forward-looking statementsto reflect events or circumstances that may arise after the date of this report.

**Item 3.  Controls and Procedures**

Our Chief Executive Officer and Chief FinancialOfficer are responsible primarily for establishing and maintaining disclosurecontrols and procedures designed to ensure that information required to bedisclosed in our reports filed or submitted under the Securities Exchange Actof 1934, as amended (the “Exchange Act”) is recorded, processed, summarized andreported within the time periods specified in the rules and forms of the U.S.Securities and Exchange Commission. These controls and procedures are designed to ensure that informationrequired to be disclosed in our reports filed or submitted under the ExchangeAct is accumulated and communicated to our management, including our principalexecutive and principal financial officers, or persons performing similarfunctions, as appropriate to allow timely decisions regarding requireddisclosure.

Furthermore, our Chief Executive Officer and ChiefFinancial Officer are responsible for the design and supervision of our internalcontrols over financial reporting that are then effected by and through ourboard of directors, management and other personnel, to provide reasonableassurance regarding the reliability of our financial reporting and thepreparation of financial statements for external purposes in accordance withgenerally accepted accounting principles. These policies and procedures (i) pertain to the maintenance of recordsthat, in reasonable detail, accurately and fairly reflect the transactions anddispositions of our assets; (ii) provide reasonable assurance that transactionsare recorded as necessary to permit preparation of financial statements inaccordance with generally accepted accounting principles, and that our receiptsand expenditures are being made only in accordance with authorizations of ourmanagement and directors; and (iii) provide reasonable assurance regardingprevention or timely detection of unauthorized acquisition, use or dispositionof our assets that could have a material effect on our financial statements.

Our Chief Executive Officer and Chief FinancialOfficer, based upon their evaluation of the effectiveness of our disclosurecontrols and procedures and the internal controls over financial reporting asof the last day of the period covered by this report, concluded that ourdisclosure controls and procedures and internal controls over financialreporting were fully effective as of the last day of the period covered by thisreport and reported to our auditors and board of directors that no changeoccurred in our disclosure controls and procedures and internal control overfinancial reporting occurred during the period covered by this report thatwould materially affect or is reasonably likely to materially affect ourdisclosure controls and procedures or internal control over financialreporting.  In conducting theirevaluation of our disclosure controls and procedures and internal controls overfinancial reporting, these executive officers did not discover any fraud thatinvolved management or other employees who have a significant role in ourdisclosure controls and procedures and internal controls over financialreporting.  Furthermore, there were nosignificant changes in our disclosure controls and procedures, internalcontrols over financial reporting, or other factors that could significantlyaffect our disclosure controls and procedures or internal controls overfinancial reporting subsequent to the date of their evaluation.  Because no significant deficiencies ormaterial weaknesses were discovered, no corrective actions were necessary ortaken to correct significant deficiencies and material weaknesses in ourinternal controls and disclosure controls and procedures.

14

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**PART II OTHER INFORMATION**

**Item 1.  Legal Proceedings**

None

**Item 2.  Unregistered Sales of Equity Securities andUse of Proceeds**

(a)           Duringthe six months ended June 30, 2007, we issued 183,076 shares of our commonstock to SXJE, LLC, the holder of certain convertible promissory notes, inpayment of the accrued interest of $62,000 (see Item 2. Management’s Discussionand Anaylsis or Plan of Operation – Recent Developments – Convertible NoteFinancing).  These were issued pursuantto registration exemptions under Section 4(6) of the Securities Act and Rule506 of Regulation D.  SXJE, LLC qualifiesas an “accredited investor” within the meaning of Rule 501(a) of RegulationD.  No commissions or other form ofremuneration was paid in connection with the issuance of these shares of commonstock.

(b)           None

(c)           None

**Item 3.  Defaults Upon Senior Securities**

None

**Item 4.  Submission of Matters to a Vote of SecurityHolders**

None

**Item 5.  Other Information**

None

**Item 6.  Exhibits**
| Exhibit No. | ** ** | **Description**                                                                                                                                                                             |
|-------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|        |       |                                                                                                                                                                                        |
| 3.1         |       | Registrant’s Certificate of Incorporation, incorporated  by reference to Registration Statement on Form   SB-2 (No. 333-111819) filed with the Commission on January 9, 2004.     |
|        |       |                                                                                                                                                                                        |
| 3.2         |       | Registrant’s Bylaws, incorporated by reference to  Registration Statement on Form SB-2 (No. 333-111819) filed with the Commission  on January 9, 2004.                                 |
|        |       |                                                                                                                                                                                        |
| 31.1        |       | Certification of John Simonelli, Chief Executive  Officer of Registrant.                                                                                                                    |
|        |       |                                                                                                                                                                                        |
| 31.2        |       | Certification of Mark R. Kidd, Chief Financial  Officer and Controller of Registrant.                                                                                                       |
|        |       |                                                                                                                                                                                        |
| 32.1        |       | Certification Pursuant to 18 U.S.C. Section 1350, as  Adopted Pursuant to Section 906 of Sarbanes-Oxley Act of 2002 of John  Simonelli, Chief Executive Officer of Registrant.              |
|        |       |                                                                                                                                                                                        |
| 32.2        |       | Certification Pursuant to 18 U.S.C. Section 1350, as  Adopted Pursuant to Section 906 of Sarbanes-Oxley Act of 2002 of Mark R.  Kidd, Chief Financial Officer and Controller of Registrant. |

15

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**SIGNATURES**

Inaccordance with the Exchange Act, the Registrant caused this report to besigned on its behalf by the undersigned, thereunto duly authorized.
|                  | GRAYMARK PRODUCTIONS, INC. |
|-----------------------|----------------------------|
|                  | (Registrant)               |
|                  |                       |
|                  | By:                        | /S/ JOHN  SIMONELLI |   |
|                  |                       | John Simonelli |
|                  |                       | Chief Executive  Officer |
| Date: August 9,  2007 |                       |
|                  | By:                        | /S/ MARK R. KIDD |   |
|                  |                       | Mark R. Kidd |
|                  |                       | Chief Financial  Officer and Controller |
| Date: August 9,  2007 |                       |
|                       |                            |  |  |  |  |

 

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**GRAYMARK PRODUCTIONS, INC.**

**INDEX TO CONDENSED CONSOLIDATEDFINANCIAL STATEMENTS**
| Condensed Consolidated  Balance Sheets as of June 30, 2007 and  December 31, 2006                       |   |
|---------------------------------------------------------------------------------------------------------|--------|
|                                                                                                    |   |
| Condensed Consolidated  Statements of Operations for the  Three Months Ended June 30, 2007 and 2006     |   |
|                                                                                                    |   |
| Condensed Consolidated  Statements of Operations for the  Six Months Ended June 30, 2007 and 2006       |   |
|                                                                                                    |   |
| Condensed Consolidated  Statements of Shareholders’ Equity for the  Six Months Ended June 30, 2007 |   |
|                                                                                                    |   |
| Condensed Consolidated  Statements of Cash Flows for the  Six Months Ended June 30, 2007 and 2006       |   |
|                                                                                                    |   |
| Notes to  Condensed Consolidated Financial Statements                                                   |   |

F-1

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**GRAYMARKPRODUCTIONS, INC.**

**CondensedConsolidated Balance Sheets**
| ** **                                                                                                                                                                       | ** ** | **June 30,  2007** | ** ** | **December 31,  2006** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------|------------|------------------------|------------|
| ** **                                                                                                                                                                       | ** ** | **(Unaudited)**    | ** ** | ** **             | ** ** |
| ASSETS                                                                                                                                                                           |       |               |       |                   |       |
| Cash and cash equivalents                                                                                                                                                        |       | $                  | 832,326    |                   | $          | 848,904 |   |
| Accounts receivable                                                                                                                                                              |       | —             |       | 7,456                  |       |
|                                                                                                                                                                             |       |               |       |                   |       |
| Total current assets                                                                                                                                                             |       | 832,326            |       | 856,360                |       |
|                                                                                                                                                                             |       |               |       |                   |       |
| Fixed assets, net                                                                                                                                                                |       | 10,220             |       | 11,747                 |       |
| Prepaid loan fees                                                                                                                                                                |       | 14,794             |       | 51,986                 |       |
| Investment in films                                                                                                                                                              |       | 2,410,368          |       | 2,387,966              |       |
|                                                                                                                                                                             |       |               |       |                   |       |
| Total assets                                                                                                                                                                     |       | $                  | 3,267,708  |                   | $          | 3,308,059 |   |
| ** **                                                                                                                                                                       | ** ** | ** **         | ** ** | ** **             | ** ** |
| LIABILITIES AND  SHAREHOLDERS’ EQUITY                                                                                                                                       |       |               |       |                   |       |
|                                                                                                                                                                             |       |               |       |                   |       |
| Liabilities:                                                                                                                                                                     |       |               |       |                   |       |
| Accounts payable and  accrued liabilities                                                                                                                                        |       | $                  | 135,291    |                   | $          | 104,650 |   |
| Unearned revenue                                                                                                                                                                 |       | 124,790            |       | —                 |       |
| Current portion of  convertible notes payable, net of discounts of $57,729 and $112,478 at June  30, 2007 and December 31, 2006, respectively                                    |       | 1,442,271          |       | 1,387,522              |       |
|                                                                                                                                                                             |       |               |       |                   |       |
| Total current  liabilities                                                                                                                                                       |       | 1,702,352          |       | 1,492,172              |       |
|                                                                                                                                                                             |       |               |       |                   |       |
| Minority interests                                                                                                                                                               |       | 1,449,833          |       | 1,447,152              |       |
|                                                                                                                                                                             |       |               |       |                   |       |
| Shareholders’ Equity:                                                                                                                                                       |       |               |       |                   |       |
| Preferred stock $0.0001  par value, 10,000,000 authorized; no shares issued and outstanding                                                                                      |       | —             |       | —                 |       |
| Common stock $0.0001  par value, 90,000,000 shares authorized; 8,745,183 issued and outstanding at  June 30, 2007 (8,562,107 shares issued and outstanding at December 31, 2006) |       | 874                |       | 856                    |       |
| Paid-in capital                                                                                                                                                                  |       | 4,490,695          |       | 4,376,001              |       |
| Accumulated deficit                                                                                                                                                              |       | (4,376,046         | )          | (4,008,122             | )          |
|                                                                                                                                                                             |       |               |       |                   |       |
| Total shareholders’  equity                                                                                                                                                 |       | 115,523            |       | 368,735                |       |
|                                                                                                                                                                             |       |               |       |                   |       |
| Total liabilities and  shareholders’ equity                                                                                                                                 |       | $                  | 3,267,708  |                   | $          | 3,308,059 |   |

 

See AccompanyingNotes to Condensed Consolidated Financial Statements

F-2

----

**GRAYMARKPRODUCTIONS, INC.**

**CondensedConsolidated Statements of Operations**

**(Unaudited)**
| ** **                                                               | ** ** | **Three Months Ended  June 30,** | ** ** |
|--------------------------------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                                               | ** ** | **2007**                                        | ** ** | **2006** | ** ** |
|                                                                     |       |                                            |       |   |   |
| Revenues                                                                 |       | $                                               | 52,324     |   | $ | 47,580 |   |
|                                                                     |       |                                            |       |   |   |
| Expenses:                                                                |       |                                            |       |   |   |
| Direct operating                                                         |       | 49,353                                          |       | 31,440 |   |
| Impairment of  investment in films                                       |       | —                                          |       | 1,445,014 |   |
| General and  administrative                                              |       | 71,714                                          |       | 95,462 |   |
| Depreciation                                                             |       | 764                                             |       | 1,216 |   |
|                                                                     |       |                                            |       |   |   |
| Total expenses                                                           |       | 121,831                                         |       | 1,573,132 |   |
|                                                                     |       |                                            |       |   |   |
| Operating loss                                                           |       | (69,507                                         | )          | (1,525,552 | ) |
|                                                                     |       |                                            |       |   |   |
| Other Income (Expense):                                                  |       |                                            |       |   |   |
| Interest and  other income                                               |       | 7,254                                           |       | 7,514 |   |
| Interest expense                                                         |       | (124,413                                        | )          | (92,262 | ) |
|                                                                     |       |                                            |       |   |   |
| Net other income  (expense)                                              |       | (117,159                                        | )          | (84,748 | ) |
|                                                                     |       |                                            |       |   |   |
| Net loss before  minority interests and provision for income taxes       |       | (186,666                                        | )          | (1,610,300 | ) |
|                                                                     |       |                                            |       |   |   |
| Minority interests                                                       |       | 96                                              |       | (4,458 | ) |
| Provision for income  taxes                                              |       | —                                          |       | — |   |
|                                                                     |       |                                            |       |   |   |
| Net loss                                                                 |       | $                                               | (186,570   | ) | $ | (1,614,758 | ) |
|                                                                     |       |                                            |       |   |   |
| Net loss per share of  common stock, basic and diluted                   |       | $                                               | (0.02      | ) | $ | (0.19 | ) |
|                                                                     |       |                                            |       |   |   |
| Weighted average number of common shares outstanding, basic and  diluted |       | 8,745,183                                       |       | 8,353,283 |   |

 

See AccompanyingNotes to Condensed Consolidated Financial Statements

F-3

----

**GRAYMARKPRODUCTIONS, INC.**

**CondensedConsolidated Statements of Operations**

**(Unaudited)**
| ** **                                                               | ** ** | **Six Months Ended  June 30,** | ** ** |
|--------------------------------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                               | ** ** | **2007**                                      | ** ** | **2006** | ** ** |
|                                                                     |       |                                          |       |   |   |
| Revenues                                                                 |       | $                                             | 77,270     |   | $ | 236,866 |   |
|                                                                     |       |                                          |       |   |   |
| Expenses:                                                                |       |                                          |       |   |   |
| Direct operating                                                         |       | 70,305                                        |       | 191,451 |   |
| Impairment of  investment in films                                       |       | —                                        |       | 1,445,014 |   |
| General and  administrative                                              |       | 165,376                                       |       | 201,130 |   |
| Depreciation                                                             |       | 1,527                                         |       | 2,431 |   |
|                                                                     |       |                                          |       |   |   |
| Total expenses                                                           |       | 237,208                                       |       | 1,840,026 |   |
|                                                                     |       |                                          |       |   |   |
| Operating loss                                                           |       | (159,938                                      | )          | (1,603,160 | ) |
|                                                                     |       |                                          |       |   |   |
| Other Income (Expense):                                                  |       |                                          |       |   |   |
| Interest and  other income                                               |       | 15,250                                        |       | 16,646 |   |
| Interest expense                                                         |       | (220,555                                      | )          | (183,839 | ) |
|                                                                     |       |                                          |       |   |   |
| Net other income  (expense)                                              |       | (205,305                                      | )          | (167,193 | ) |
|                                                                     |       |                                          |       |   |   |
| Net loss before  minority interests and provision for income taxes       |       | (365,243                                      | )          | (1,770,353 | ) |
|                                                                     |       |                                          |       |   |   |
| Minority interests                                                       |       | (2,681                                        | )          | (4,839 | ) |
| Provision for income  taxes                                              |       | —                                        |       | — |   |
|                                                                     |       |                                          |       |   |   |
| Net loss                                                                 |       | $                                             | (367,924   | ) | $ | (1,775,192 | ) |
|                                                                     |       |                                          |       |   |   |
| Net loss per share of  common stock, basic and diluted                   |       | $                                             | (0.04      | ) | $ | (0.21 | ) |
|                                                                     |       |                                          |       |   |   |
| Weighted average number of common shares outstanding, basic and  diluted |       | 8,683,645                                     |       | 8,331,854 |   |

 

See AccompanyingNotes to Condensed Consolidated Financial Statements

F-4

----

**GRAYMARKPRODUCTIONS, INC.**

**CondensedConsolidated Statements of Shareholders’ Equity**

**(Unaudited)**
| ** **                                        | ** ** | **Common Stock** | ** ** | **Paid-in** | ** ** | **Accumulated** | ** ** |
|---------------------------------------------------|------------|-----------------------|------------|-------------|------------|-----------------|------------|
| ** **                                        | ** ** | **Shares**            | ** ** | **Amount**  | ** ** | **Capital**     | ** ** | **Deficit** | ** ** |
|                                              |       |                  |       |        |       |            |       |   |   |
| Balance, December 31,  2005                       |       | 8,289,151             |       | $           | 829        |            | $          | 4,221,852 |   | $ | (1,793,162 | ) |
|                                              |       |                  |       |        |       |            |       |   |   |
| Issuance of  stock for convertible notes interest |       | 272,956               |       | 27          |       | 116,140         |       | — |   |
| Issuance of  stock options                        |       | —                |       | —      |       | 38,009          |       | — |   |
| Net loss                                          |       | —                |       | —      |       | —          |       | (2,214,960 | ) |
|                                              |       |                  |       |        |       |            |       |   |   |
| Balance, December 31,  2006                       |       | 8,562,107             |       | 856         |       | 4,376,001       |       | (4,008,122 | ) |
|                                              |       |                  |       |        |       |            |       |   |   |
| Issuance of  stock for convertible notes interest |       | 183,076               |       | 18          |       | 61,982          |       | — |   |
| Issuance of  common stock warrants                |       | —                |       | —      |       | 51,614          |       | — |   |
| Issuance of  stock options                        |       | —                |       | —      |       | 1,098           |       | — |   |
| Net loss                                          |       | —                |       | —      |       | —          |       | (367,924 | ) |
|                                              |       |                  |       |        |       |            |       |   |   |
| Balance, June 30, 2007                            |       | 8,745,183             |       | $           | 874        |            | $          | 4,490,695 |   | $ | (4,376,046 | ) |

 

See AccompanyingNotes to Condensed Consolidated Financial Statements

F-5

----

**GRAYMARKPRODUCTIONS, INC.**

**CondensedConsolidated Statements of Cash Flows**

**(Unaudited)**
| ** **                                                                   | ** ** | **Six Months Ended  June 30,** | ** ** |
|------------------------------------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                   | ** ** | **2007**                                      | ** ** | **2006** | ** ** |
|                                                                         |       |                                          |       |   |   |
| Operating activities:                                                        |       |                                          |       |   |   |
| Net loss                                                                     |       | $                                             | (367,924   | ) | $ | (1,775,192 | ) |
| Adjustments to  reconcile net loss to net cash used by operating activities: |       |                                          |       |   |   |
| Depreciation                                                                 |       | 1,527                                         |       | 2,431 |   |
| Amortization of  film costs                                                  |       | 70,305                                        |       | 195,618 |   |
| Impairment of  investment in films                                           |       | —                                        |       | 1,445,014 |   |
| Issuance of  common stock for convertible notes interest                     |       | 62,000                                        |       | 56,167 |   |
| Interest expense  allocated to warrants                                      |       | 106,364                                       |       | 86,647 |   |
| Non-cash stock  option compensation                                          |       | 1,098                                         |       | 5,430 |   |
| Minority  interests                                                          |       | 2,681                                         |       | 4,839 |   |
| Changes in  assets and liabilities –                                    |       |                                          |       |   |   |
| Film deposits                                                                |       | —                                        |       | 12,916 |   |
| Accounts  receivable                                                         |       | 7,456                                         |       | (29,341 | ) |
| Prepaid loan  fees                                                           |       | 37,192                                        |       | 37,192 |   |
| Investment in  films                                                         |       | (92,707                                       | )          | (706,181 | ) |
| Accounts payable  and accrued liabilities                                    |       | 30,640                                        |       | (545 | ) |
| Unearned revenue                                                             |       | 124,790                                       |       | — |   |
|                                                                         |       |                                          |       |   |   |
| Net cash used by  operating activities                                       |       | (16,578                                       | )          | (665,005 | ) |
|                                                                         |       |                                          |       |   |   |
| Investing activities:                                                        |       |                                          |       |   |   |
| Minority  interests - contributions                                          |       | —                                        |       | 450,385 |   |
|                                                                         |       |                                          |       |   |   |
| Net cash  provided by investing activities                                   |       | —                                        |       | 450,385 |   |
|                                                                         |       |                                          |       |   |   |
| Financing activities:                                                        |       |                                          |       |   |   |
| Repayment of  film obligations                                               |       | —                                        |       | (50,000 | ) |
|                                                                         |       |                                          |       |   |   |
| Net cash used in  financing activities                                       |       | —                                        |       | (50,000 | ) |
|                                                                         |       |                                          |       |   |   |
| Net change in cash and  cash equivalents                                     |       | (16,578                                       | )          | (264,620 | ) |
|                                                                         |       |                                          |       |   |   |
| Cash and cash  equivalents at beginning of period                            |       | 848,904                                       |       | 1,153,840 |   |
|                                                                         |       |                                          |       |   |   |
| Cash and cash  equivalents at end of period                                  |       | $                                             | 832,326    |   | $ | 889,220 |   |
|                                                                         |       |                                          |       |   |   |
| Noncash Investing and  Financing Activities:                                 |       |                                          |       |   |   |
| Issuance of stock  for convertible notes interest                            |       | $                                             | 62,000     |   | $ | 56,167 |   |
| Issuance of  common stock warrants                                           |       | $                                             | 51,614     |   | $ | — |   |
|                                                                         |       |                                          |       |   |   |
| Cash Paid for Interest  and Income Taxes:                                    |       |                                          |       |   |   |
| Interest expense                                                             |       | $                                             | —     |   | $ | — |   |
| Income taxes                                                                 |       | $                                             | —     |   | $ | — |   |

 

See AccompanyingNotes to Condensed Consolidated Financial Statements

F-6

----

**GRAYMARKPRODUCTIONS, INC.**

**Notes to Condensed Consolidated Financial Statements**

**(Unaudited)**

**Forthe Periods Ended June 30, 2007 and 2006**

Note 1 — Nature ofBusiness

GraymarkProductions, Inc. (the “Company”) is organized in Oklahoma and is anindependent producer and distributor of film entertainment content.  The Company began operations in 2001 asGraymark Productions, L.L.C. (“Graymark LLC”), all of the assets of which wereacquired by the Company through our incorporation-reorganization, effectiveAugust 18, 2003.

The Companyproduces and distributes films that are completed and marketed using smallerbudgets than those of major studios.  TheCompany has completed the production and released its motion picture projectstitled, *Cloud 9*, *The Hunt, Surveillance* and*Soul’s Midnight*.  The Company has completed, but not releasedits motion picture titled, *Fingerprints*.  The Company has negotiated agreements for themarketing and distribution of all its films. Management believes that producing and distributing low- ormodest-budget, commercially successful films affords the Company access toHollywood talent and scripts and third-party production packages foracquisition, without compromising management’s approach to managing financialrisk.

Note 2 — Summaryof Significant Accounting Policies

*InterimFinancial Information* — The unaudited condensed consolidatedfinancial statements included herein have been prepared in accordance withgenerally accepted accounting principles for interim financial statements and withRegulation S-X.  Accordingly, they do notinclude all of the information and footnotes required by generally acceptedaccounting principles for complete financial statements.  In the opinion of management, all adjustments(consisting of normal recurring adjustments) considered necessary for a fairpresentation have been included. Operating results for the three months ended June 30, 2007 are notnecessarily indicative of results that may be expected for the year endedDecember 31, 2007.  The condensed consolidatedfinancial statements should be read in conjunction with the consolidatedfinancial statements and notes thereto included in the Company’s Form 10-KSBfor the year ended December 31, 2006. The December 31, 2006 condensed consolidated balance sheet was derivedfrom audited financial statements.

*Consolidation*— The accompanying consolidated financial statements include the accounts ofGraymark Productions, Inc. and its majority owned and controlledsubsidiaries.  The Company controls asubsidiary company through a combination of existing voting interests and theability to exercise various rights under certain shareholder or operatingagreements.  The Company’s subsidiariesinclude Graymark Productions, L.L.C. (the “LLC”), Out of the Blue Productions,LLC (“Out of the Blue”), The Hunt, The Motion Picture LLC (“The Hunt”),Surveillance, The Motion Picture LLC (“Surveillance”), Soul’s Midnight LLC (“Soul’sMidnight”) and Fingerprints LLC (“Fingerprints”).  The LLC became a subsidiary of the Company inAugust 2003 as a result of the incorporation-reorganization of theCompany.  Out of the Blue was formed inDecember 2003 as the entity under which the Company’s first motion pictureproject, *Cloud 9*, wasproduced.  The Company has funded 100% ofthe acquisition and production costs of *Cloud9*.  The Company is entitled torecover its capital contributions to Out of the Blue plus interest at 2% abovethe prime rate (defined as “investment recoupment”) from cash distributionsbefore the other interest owners and thereafter 50% of cash distributions andis entitled to receive a majority of the proceeds from rights sales,distribution and any and all exploitation of the Picture.

F-7

----

Under the terms ofthe Out of the Blue operating agreement, the Company has 100% voting control ofOut of the Blue.  The Hunt, Surveillance,Soul’s Midnight and Fingerprints are 100% owned by the Company.

*Useof estimates* — The preparation of financial statements inconformity with generally accepted accounting principles requires management ofthe Company to make estimates and assumptions that affect the amounts reportedin the financial statements and accompanying notes.  Actual results could differ from thoseestimates.

*Goingconcern* — The accompanying financial statements have been preparedassuming the Company will continue as a going concern.  As of June 30, 2007, the Company had aworking capital deficit of approximately $870,000 primarily because the Company’sconvertible notes payable mature on January 31, 2008.  The Company expects to meet its obligationsas they become due through available cash and funds generated from itscompleted motion pictures supplemented as necessary by debt and/or equityfinancing.  The Company expects togenerate positive working capital through its operations.  However, there are no assurances that theCompany will be able to either (1) achieve a level of revenues adequate togenerate sufficient cash flow from operations or (2) obtain additionalfinancing through debt and/or equity financing to support the Company’s workingcapital requirements.  These conditionsraise substantial doubt about the Company’s ability to continue as a goingconcern.  The accompanying financialstatements do not include any adjustments that might be necessary should theCompany be unable to continue as a going concern.

*Revenuerecognition* — Revenues from the sale of the rights to a filmare recognized when the feature film is available to the distributor forexploitation and no conditions for delivery exist, which under most salescontracts requires that full payment has been received from thedistributor.  Revenues from thetheatrical distribution of motion pictures are recognized when motion picturesare exhibited.  Revenues from video salesare recognized on the date that video units are made widely available for saleby retailers.  Revenues from thelicensing of motion picture films are recorded when the material is availablefor telecasting by the licensee and when certain other conditions are met.  Revenues from consulting services arerecognized when earned.

*Investmentin Films* — Investment in films includes capitalized directnegative costs, production overhead, interest and development costs and arestated at the lower of cost, less accumulated amortization, or fair value.  Film production and participation costs areexpensed based on the ratio of the current period’s gross revenues to estimatedremaining total gross revenues from all sources on an individual productionbasis.

Investment infilms is stated at the lower of amortized cost or estimated fair value on anindividual film basis.  The valuation ofinvestment in films is reviewed on a title-by-title basis, when an event orchange in circumstances indicate that the fair value of a film is less than itsunamortized cost.  The fair value of thefilm is determined using management’s future revenue and cost estimates and adiscounted cash flow approach. Additional amortization is recorded in the amount by which theunamortized costs exceed the estimated fair value of the film.  Estimates of future revenue involvemeasurement uncertainty and it is therefore possible that reductions in thecarrying value of investment in films may be required as a consequence ofchanges in management’s future revenue estimates.

*RecentlyIssued Accounting Standards* —

*FIN 48* — In June2006, the Financial Accounting Standards Board (FASB) issued Interpretation 48,*“Accounting for Uncertainty in Income Taxes*—*an Interpretation of FASB Statement No. 109”*(“FIN 48”).  FIN 48 is intended to clarifythe accounting for uncertainty in income taxes recognized in a company’sfinancial statements and prescribes the recognition and measurement of a taxposition taken or expected to be taken in a tax return.  FIN 48 also provides guidance on de-recognition,classification, interest and penalties, accounting in interim periods,disclosure and transition.

Under FIN 48, evaluation of a tax position is atwo-step process.  The first step is todetermine whether it is more-likely-than-not that a tax position will besustained upon examination, including the resolution of any related appeals orlitigation based on the technical merits of that position.  The second step is to measure a tax positionthat meets the more-likely-than-not threshold to determine the amount ofbenefit to be recognized in the financial statements.  A tax position is measured at the largestamount of benefit that is greater than 50 percent likely of being realized uponultimate settlement.

F-8

----

Tax positions that previously failed to meet the more-likely-than-notrecognition threshold should be recognized in the first subsequent period inwhich the threshold is met.  Previouslyrecognized tax positions that no longer meet the more-likely-than-not criteriashould be de-recognized in the first subsequent financial reporting period inwhich the threshold is no longer met.

The adoption of FIN 48 at January 1, 2007 did not havea material impact on the Company’s financial position, results of operations,or cash flows.

*SFAS 157* — InSeptember 2006, the FASB issued Statement No. 157, *“Fair Value Measurements”* (“SFAS No. 157”).  SFAS 157addresses how companies should measure fair value when they are required to usea fair value measure for recognition or disclosure purposes under GAAP.   SFAS 157 defines fair value, establishes aframework for measuring fair value and expands disclosures about fair valuemeasurements.  SFAS 157 is effective forfiscal years beginning after November 15, 2007, with earlier adoptionpermitted.  Management is assessing theimpact of the adoption of this Statement.

*SFAS 158* — InSeptember 2006, the FASB issued Statement No. 158, *“Employers’ Accounting for Defined Benefit Pension and OtherPostretirement Plans”* (“SFAS 158”), an amendment of FASB StatementsNo. 87, 88, 106 and 132(R).  SFAS 158requires (a) recognition of the funded status (measured as the differencebetween the fair value of the plan assets and the benefit obligation) of abenefit plan as an asset or liability in the employer’s statement of financialposition, (b) measurement of the funded status as of the employer’s fiscal year-endwith limited exceptions, and (c) recognition of changes in the funded status inthe year in which the changes occur through comprehensive income.  The requirement to recognize the fundedstatus of a benefit plan and the disclosure requirements are effective as ofthe end of the fiscal year ending after December 15, 2006.  The requirement to measure the plan assetsand benefit obligations as of the date of the employer’s fiscal year-endstatement of financial position is effective for fiscal years ending afterDecember 15, 2008.  This Statement has nocurrent applicability to the Company’s financial statements.  Management adopted this Statement on December31, 2006 and the initial adoption did not have a material impact to the Company’sfinancial position, results of operations, or cash flows.

*SFAS 159* — InFebruary 2007, the FASB issued Statement No. 159, *“The Fair Value Option for Financial Assets and Liabilities”*(“SFAS 159”).  SFAS 159 permits companiesto choose to measure many financial assets and liabilities at fair value.  Unrealized gains and losses on items forwhich the fair value option has been elected are reported in earnings.  SFAS 159 is effective for fiscal years beginningafter November 15, 2007.  The Company iscurrently assessing the impact of SFAS 159 on its consolidated financialstatements.

*SAB 108* — InSeptember 2006, the Securities Exchange Commission issued Staff AccountingBulletin No. 108 (“SAB 108”).  SAB 108addresses how the effects of prior year uncorrected misstatements should beconsidered when quantifying misstatements in current year financialstatements.  SAB 108 requires companiesto quantify misstatements using a balance sheet and income statement approachand to evaluate whether either approach results in quantifying an error that ismaterial in light of relevant quantitative and qualitative factors.  When the effect of initial adoption ismaterial, companies will record the effect as a cumulative effect adjustment tobeginning of year retained earnings and disclose the nature and amount of eachindividual error being corrected in the cumulative adjustment.  SAB 108 became effective on January 1, 2007and the initial adoption of SAB 108 did not have a material impact on theCompany’s financial position, results of operations, or cash flows.

Note 3 —Investment in Films
|                                                           | ** ** | **June 30,  2007** | ** ** | **December 31,  2006** | ** ** |
|-----------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
|                                                      |       |                    |       |                        |       |
| Released, net of  accumulated amortization and impairment |       | $                       | 1,753,432  |                        | $          | 1,767,795 |   |
| Completed and  not released                               |       | 616,458                 |       | 615,171                     |       |
| In progress                                               |       | 40,478                  |       | 5,000                       |       |
| Total                                                     |       | $                       | 2,410,368  |                        | $          | 2,387,966 |   |

 

F-9

----

The Company estimates that 100% of the unamortizedinvestment in films at June 30, 2007 will be amortized within the next threeyears.  Approximately $1,884,000 of filmcosts are expected to be amortized during the next twelve months.  No participation liabilities are expected tobe paid during the next 12 months.

Note 4 —Convertible Note Payable

In August and October 2005, the Company issuedpromissory notes (the “Notes”) in the principal amount of $750,000,respectively, $1,500,000 in total.  TheNotes are secured by all assets of the Company including all purchaseagreements and any options or rights to acquire, all intellectual and realproperty, all assets and properties of the Company and all of its existing andfuture subsidiaries.  The Notes bearinterest at the rate of 8% per annum. Interest due on the Notes is payable quarterly and can be paid in cashor shares of Company stock.

The Notes become due and payable on the first to occurof: (i) July 27, 2007 for the first note and October 25, 2007 for the secondnote (the “Maturity Dates”); (ii) the consummation of a Qualified Financing; or(iii) the continuation of an Event of Default, as defined, for more than 30days following notice of the occurrence of an event of default.  Upon consummation of a Qualified Financing,the outstanding principal amount of the Notes and all accrued and unpaidinterest (collectively the “Note Balances”) will automatically convert intoshares of equity securities of the Company equal to 120% of the Note Balancesdivided by the price per share of the equity securities sold in the QualifiedFinancing.  The maximum price or value ofthe equity securities into which the Note Balances convert may not exceed theequivalent of $1.10 per common stock share. Qualified Financing refers to any equity financing pursuant to which theCompany receives aggregate gross cash proceeds of $2,000,000 or more on orbefore the Maturity Dates.

In conjunction with issuance of the Notes, the Companyand the holder of the Notes entered into common stock purchase warrantagreements, each evidencing warrants exercisable on or before August 5, 2010for the first note and October 25, 2010 for the second note.  The two agreements provide for the purchaseof 250,000 (500,000 total) common stock shares at $2.00 and the other twoagreements provide for the purchase of 250,000 (500,000 total) common stockshares at $3.00.

The fair value of each warrant issued was estimated onthe date of issuance using the Black-Scholes option pricing model.  The fair value of the options were based onthe difference between the present value of the exercise price of the optionand the estimated fair value price of the common share.  The fair value of the warrants was estimatedto be $349,459 and was recorded as paid-in capital.  The value of the warrants will increase interestexpense over the life of the Notes.

In addition, the Company’s financial advisor was paidfees of $150,000 for services rendered in conjunction with execution of theNotes.  The fees were recorded as prepaidloan fees and will be amortized over the life of the Notes.

In March 2007, the Company executed amendmentagreements with the holder of its convertible notes payable.  Under the amendments, the maturity date ofboth Notes is extended to January 31, 2008. Interest on the Notes is increased from 8% to 12% per annum from thedate of the amendment until maturity.  Asadditional consideration for executing the amendments, the Company lowered thestrike price of the previously issued warrant agreements, which allow for thepurchase of 1,000,000 shares of common stock shares, to $0.50 per share fromthe original strike prices of $2.00 and $3.00 per share.  In addition, the Company and the holder ofthe Notes entered into an additional common stock purchase warrant agreement,evidencing warrants exercisable on or before April 1, 2012.  The agreement provides for the purchase of500,000 common stock shares at $0.50.

The fair value of the repriced and newly issuedwarrants was estimated on the date of repricing or issuance using theBlack-Scholes option pricing model.  Thefair value of the options were based on the difference between the presentvalue of the exercise price of the option and estimated fair value of thecommon share.  The fair value of the

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newlyissued warrants was estimated to be $51,614 and was recorded as paid-incapital.  The value of the warrants willincrease interest expense over the new life of the Notes.  The Company determined that there was noadditional fair value (over the value previously recorded) attributable to therepricing of the previously issued warrants and no additional expense has beenrecorded for this modification.

Note 5 —Film Profit Participation and Contingent Compensation

Pursuant to an investor agreement between the Companyand the developers of the screenplay for *Cloud9*(the “Picture”), the Company shares the development andproductions costs and revenue of *Cloud 9*.  For its financial contribution to the costsof making *Cloud 9*, the Company isentitled to receive the following:

·                                          100%of revenue and proceeds from the rights sales, distribution and/or any and allexploitation of *Cloud 9* until theCompany recovers its investment in the Picture, plus interest at the prime rateplus 2% per annum from the date of the contribution until the Company is repaidits investment in the Picture.

·                                          50%of “net profits” received from the rights sales, distribution and/or any andall exploitation of the Picture.  “NetProfits” is defined as the sum remaining after deduction of third partydistribution fees; cash deferments to cast, equipment suppliers, rights holdersor any other approved party.

The Company’s subsidiary, Out of the Blue Productions,LLC (the “Production Company”), entered into contingent compensation agreementswith the director and certain cast members of *Cloud9* in the form of “net and gross profit participations” that arecustomary in the film industry.  Theseparticipations are typically based on the profit of a film after all productionand distribution costs have been recouped (“gross participation”) or allproduction and distribution costs and overhead have been recouped (“netparticipations”).  A percentage of these “grossand net profits”, as negotiated between the participants, are paid out ascontingent compensation for creative participants in a motion picturefilm.  The participations negotiated bythe Production Company for *Cloud 9*total 23.5% of which the Company’s interest in *Cloud9* is burdened by one-half of these net profit participations.  The Company’s residual profits interest in *Cloud 9* is 30.6% after giving effect tothe gross and net profits participations given pursuant to contingentcompensation arrangements and the co-finance agreements.

The Production Company also agreed to pay additionalcontingent bonuses to certain cast members when aggregate United States andCanada box office receipts as reported in Daily Variety reach various levelsbetween $8,500,000 and $20,000,000.  Thetotal contingent amounts that would be paid if box office receipts reach$20,000,000 is $300,000.

Pursuant to an output agreement between the Companyand a third-party distribution company (“Distributor”), the Distributor has afirst-look right at the movies produced by the Company.  Pursuant to the agreement, the Distributorhas agreed to fund up to 50% of each production budget on mutually agreed uponmotion picture projects.  The Distributorwill be entitled to a respective percentage of all gross receipts on thoseprojects.

The following summarizes the revenue participationsbefore and after net profit participations on the Company’s films *The Hunt*, *Surveillance,Soul’s Midnight* and *Fingerprints*:

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|                              | ** ** | **Before Payout** | ** ** | **After Payout** | ** ** |
|------------------------------|------------|------------------------|------------|-----------------------|------------|
| ** **                   | ** ** | **Company**            | ** ** | **Other  Members**    | ** ** | **Company** | ** ** | **Other  Members** | ** ** | **Third-  Party   Interest** | ** ** |
|                         |       |                   |       |                  |       |   |   |   |   |   |   |
| The Hunt                     |       |                   |       |                  |       |   |   |   |   |   |   |
| Revenue allocation           |       | 65                     | %          | 35                    | %          | 44 | % | 24 | % | 32 | % |
| Production costs to be paid  |       | 50                     | %          | 50                    | %          |   |   |   |   |   |   |
| Surveillance                 |       |                   |       |                  |       |   |   |   |   |   |   |
| Revenue allocation           |       | 50                     | %          | 50                    | %          | 46 | % | 46 | % | 8 | % |
| Production costs to be paid  |       | 50                     | %          | 50                    | %          |   |   |   |   |   |   |
|                         |       |                   |       |                  |       |   |   |   |   |   |   |
| Soul’s Midnight         |       |                   |       |                  |       |   |   |   |   |   |   |
| Revenue allocation           |       | 25                     | %          | 75                    | %          | 24 | % | 72 | % | 4 | % |
| Production costs to be paid  |       | 25                     | %          | 75                    | %          |   |   |   |   |   |   |
|                         |       |                   |       |                  |       |   |   |   |   |   |   |
| Fingerprints                 |       |                   |       |                  |       |   |   |   |   |   |   |
| Revenue allocation           |       | 35                     | %          | 65                    | %          | 34 | % | 62 | % | 4 | % |
| Production costs  to be paid |       | 35                     | %          | 65                    | %          |   |   |   |   |   |   |

 

Note 6 —Distribution Agreements

The Company has entered into various distributionagreements for the marketing and distribution of its films in the domestic,broadcast and international markets. These agreements provide for the distributor to earn a distribution feefrom the gross proceeds generated by each picture in the applicablemarket.  The table below summarizes thedistribution fees negotiated as of June 30, 2007 (markets that have nodistribution agreements in place are identified as “n/a”):

|                     | ** ** | **Cloud 9** | ** ** | **The  Hunt** | ** ** | **Surv-  eillance** | ** ** | **Soul’s  Midnight** | ** ** | **Finger-  prints** | ** ** |
|---------------------|------------|------------------|------------|---------------|------------|---------------------|------------|---------------------------|------------|---------------------|------------|
|                |       |             |       |          |       |                |       |                      |       |                |       |
| Domestic DVD market |       | 20               | %          | 22.5          | %          | 25                  | %          | 25                        | %          | 25                  | %          |
| Broadcast           |       | 20               | %          | n/a           |       | n/a                 |       | n/a                       |       | n/a                 |       |
| International       |       | 15               | %          | 20            | %          | 20                  | %          | 20                        | %          | n/a                 |       |

 

Note 7 —Capital Structure

During the six months ended June 30, 2007, the Companyissued 183,076 shares of common stock to pay accrued interest due on theCompany’s convertible notes payable.

Note 8 —Related Party Transactions

The Company’s corporate offices are located in abuilding owned by an entity controlled by one of our greater than 5%shareholders.  The office space isoccupied under a month to month lease. Rent expense applicable to the corporate offices for the six monthsended June 30, 2007 and 2006 was $13,565 and $8,168, respectively.

Note 9 —Subsequent Events

In July 2007, the Company issued 81,818 shares ofcommon stock to pay accrued interest of $32,000 due, as of June 30, 2007, onthe Company’s convertible notes payable.

Note 10— Proposed Acquisitions

During May 2007, the Company entered into a letter ofintent to acquire ApothecaryRx, LLC., and Sleep Holdings, LLC.  The acquisitions involve exchanging ourcommon stock for the ownership interests in the two companies.  The acquisitions are contingent on furtherdue diligence by our management team and the signing of a definitive exchangeagreement.

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ApothecaryRx, LLC owns and operates eight independentpharmacies located in Missouri, Minnesota, and Oklahoma.  Sleep Holdings LLC owns and operates sevenstate-of-the-art sleep centers that diagnose and tread a full range of sleepdisorders including insomnia and obstructive sleep apnea.  The centers are located in Oklahoma andTexas.  Controlling interests in bothcompanies are held by Roy T. Oliver, one of the Company’s principalshareholders, and Stanton Nelson, one of its directors.

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