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SECURITIES AND EXCHANGE COMMISSION


WASHINGTON, D.C. 20549




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FORM 10-K

|           |  |                                                                                                 
|---------- |  | ------------------------------------------------------------------------------------------------
|(Mark One) |  |                                                                                                 
|[X]        |  | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
    OF
    THE SECURITIES EXCHANGE ACT OF 1934    
|           |  | For the fiscal year ended December 31, 2002                                                     
|           |  | OR                                                                                              
|[  ]       |  | TRANSITION REPORT PURSUANT TO SECTION 13 OR
    15(d) OF
    THE SECURITIES EXCHANGE ACT OF 1934
|           |  | For the transition period
    from                to                                            

Commission File Number: 0-22885



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TRIPATH IMAGING, INC.

(exact name of registrant as specified in its
charter)


|                                                           |  |                                                    
|---------------------------------------------------------- |  | ---------------------------------------------------
|Delaware                                                   |  | 56-1995728                                         
|(State or other jurisdiction of
    Identification Number) |  | (I.R.S. Employer
    incorporation or organization)

780 Plantation Drive, Burlington, North
Carolina 27215

(Address of principal executive offices including
zip code)


Registrants telephone number, including
area code: (336) 222-9707

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

None

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

Common Stock, $0.01 Par Value

(Title of each class)


Indicate by check mark whether the registrant
(1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period
that the registrant was required to file such reports), and
(2) has been subject to such filing requirements for the
past
90 days.  YES x  NO o

Indicate by check mark if disclosure of
delinquent filers pursuant to Item 405 of Regulation S-K is
not contained herein, and will not be contained, to the best of
registrants knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this
Form 10-K or any amendment to this
Form 10-K.  o

Indicate by check mark whether the registrant is
an accelerated filer (as defined in Rule 12b-2 of the
Exchange
Act).  YES x  NO o

The aggregate market value of voting stock held
by non-affiliates of the registrant as of June 28, 2002
was: $98,992,264.

There were 37,537,940 shares of the
registrants Common Stock outstanding as of March 19,
2003.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the definitive proxy statement of the
Registrant for the Registrants 2003 Annual Meeting of
Shareholders to be held on May 22, 2003, which definitive
proxy statement will be filed with the Securities and Exchange
Commission not later than 120 days after the
registrants fiscal year of December 31, 2002, are
incorporated by reference into Part III of this Form 10-K.









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TriPath Imaging, Inc.

Table of Contents

|               |  |                                                                                                    |    |  |    | 
|-------------- |  | -------------------------------------------------------------------------------------------------- | -- |  | -- | 
|               |  |                                                                                                    |    | 
|Part I.        |  |                                                                                                    |    |  |    | 
|Item 1.        |  | Business                                                                                           |    |  | 2  | 
|Item 1A.       |  | Executive Officers of the Registrant                                                               |    |  | 36 | 
|Item 2.        |  | Properties                                                                                         |    |  | 37 | 
|Item 3.        |  | Legal Proceedings                                                                                  |    |  | 38 | 
|Item 4.        |  | Submission of Matters to a Vote of Security
    Holders                                            |    |  | 38 | 
|              
|Part II.       |  |                                                                                                    |    |  |    | 
|Item 5.        |  | Market for the Registrants Common Equity
    and Related Stockholder Matters                      |    |  | 38 | 
|Item 6.        |  | Selected Financial Data                                                                            |    |  | 39 | 
|Item 7.        |  | Managements Discussion and Analysis of
    Financial Condition and Results of Operations          |    |  | 39 | 
|Item 7A.       |  | Quantitative and Qualitative Disclosures About
    Market Risks                                    |    |  | 52 | 
|Item 8.        |  | Financial Statements and Supplementary Data                                                        |    |  | 52 | 
|Item 9.        |  | Changes in and Disagreements with Accountants on
    Accounting and Financial Disclosure           |    |  | 52 | 
|              
|Part III.      |  |                                                                                                    |    |  |    | 
|Item 10.       |  | Directors and Executive Officers of the Registrant                                                 |    |  | 52 | 
|Item 11.       |  | Executive Compensation                                                                             |    |  | 52 | 
|Item 12.       |  | Security Ownership of Certain Beneficial Owners
    and Management and Related Stockholder Matters |    |  | 53 | 
|Item 13.       |  | Certain Relationships and Related Transactions                                                     |    |  | 53 | 
|Item 14.       |  | Controls and Procedures                                                                            |    |  | 53 | 
|              
|Part IV.       |  |                                                                                                    |    |  |    | 
|Item 15.       |  | Exhibits, Consolidated Financial Statement
    Schedules, and Reports on Form 8-K                  |    |  | 54 | 
|Signatures     |  |                                                                                                    | 57 | 
|Certifications |  |                                                                                                    | 58 | 

As used in this report, the terms we,
us, our, TriPath Imaging and
the Company mean TriPath Imaging, Inc. and its
subsidiaries, unless the context indicates another meaning.

Note Regarding Trademarks

AutoCyte®, AutoCyte Quic®,
AutoPap®, CytoRich®, ImageTiter®, PapMap®,
PrepMate®, SlideWizard®, and TriPath Imaging® are
registered trademarks of TriPath Imaging®, Inc. TriPath
Care Technologies, i3 Series,
FocalPoint, PrepStain, SurePath, and TriPath
Oncology, are trademarks of TriPath Imaging, Inc. All
other products and company names are trademarks of their
respective holders.





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PART I

Item 1.     Business

This Annual Report on Form 10-K contains
forward-looking statements, including statements regarding our
results of operations, research and development programs,
clinical trials and collaborations. Statements that are not
historical facts are based on our managements current
expectations, beliefs, assumptions, estimates, forecasts and
projections. These forward-looking statements are not guarantees
of future performance and involve certain risks, uncertainties
and assumptions that could cause actual results to differ
significantly from those discussed in these forward-looking
statements. Important factors that could cause or contribute to
these differences include those described in the section
entitled Managements Discussion and Analysis of
Financial Condition and Results of OperationsCritical
Accounting Policies and in Factors Affecting Future
Operating Results attached hereto as Exhibit 99.1 and
incorporated by reference into this Form 10-K. You should
not place undue reliance on the forward-looking statements,
which speak only as the date of this report. We undertake no
obligation to update these statements to reflect events or
circumstances occurring after the date of this report or to
reflect the occurrence of unanticipated events, except as
required by law.

The Companys Internet website is
www.tripathimaging.com.Information on the Companys
website is not a part of this Form 10-K. The Company makes
available free of charge on its website, or provides a link to,
all of the Companys Forms 10-K, 10-Q and 8-K, and any
amendments to these, that are filed with the SEC. To access
these filings, go to the Companys website and click on
Investor Resources, then click on SEC
Filings.

The Company

We create solutions that redefine the early
detection and clinical management of cancer. Specifically, we
develop, manufacture, market, and sell proprietary products for
cancer detection, diagnosis, staging, and treatment selection.
We are using our proprietary technologies, and know-how to
create an array of products designed to improve the clinical
management of cancer. We were incorporated in October 1996
as AutoCyte, Inc. and changed our name to TriPath Imaging, Inc.
in September 1999 in connection with the merger of
AutoCyte, Inc. and NeoPath, Inc. and acquisition of the
technology and intellectual property of Neuromedical Systems,
Inc. We were created to leverage the complementary nature of the
products, technologies, and intellectual property developed by
our predecessor companies, all of whom were early pioneers in
the application of computerized image processing and analysis to
detect the often subtle cellular abnormalities associated with
cancer and its precursors. To date, we have developed and
marketed an integrated solution for cervical cancer screening
and other products that deliver image management, data handling,
and prognostic tools for cell diagnosis, cytopathology and
histopathology. We have created new opportunities and
applications for our proprietary technology by applying recent
advances in genomics, biology, and informatics to develop new
molecular diagnostic and pharmacogenomic products and services
for malignant melanoma and cancers of the cervix, breast, ovary,
and colon.

We are organized into two operating units:



| |   |                                                                                                                                                                             
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Commercial Operations, through which we manage
    the market introduction, sales, service, manufacturing and
    ongoing development of our products; and                  
|
| |  | TriPath Oncology, our wholly-owned subsidiary,
    through which we manage the development of molecular diagnostic
    and pharmacogenomic products and services for cancer.

We provide financial information by segment and
geographic area in Note 8 to our Consolidated Financial
Statements. We are incorporating that information into this
section by reference.

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Commercial Operations

During 2002, we adopted the trademark
TriPath Care Technologies to describe our commercial
product offerings and to communicate the broad nature of our
corporate vision and the value created by our growing product
portfolio, including the i3 Series
and SlideWizard product lines.

To further refine our market positioning and to
enhance brand awareness among our customers, we have re-branded
our cervical cancer screening products under the
i3 Series product line. Our
i3 Series product line for
cervical cancer screening is the first integrated system for the
collection, preparation, staining and computerized analysis of
conventional Pap smears and liquid-based, thin-layer slide
preparations. Our i3 Series 
product line includes the following:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | SurePath Test Packis a proprietary, liquid-based
    cytology sample collection, preservation and transport system.
    The SurePath Test Pack addresses errors in cell sample
    collection and slide preparation while providing a liquid medium
    for performing additional laboratory tests. The SurePath Test
    Pack was approved by the United States Food and Drug
    Administration (FDA) for slides prepared using the
    PrepStain Slide Processor in June 1999. In 2001, SurePath
    was approved by the FDA for manual slide processing in which the
    cell suspension is layered onto the slide and stained by a
    cytotechnician.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|
| |  | PrepStain Slide Processoris an automated slide preparation
    system that produces slides with a standardized, thin layer of
    stained cervical cells. The PrepStain Slide Processor reduces
    the complexity of interpretation by providing a homogeneous,
    more representative and standardized thin layer of stained cells
    and a liquid medium for adjunctive laboratory testing of
    specimens. The FDA approved PrepStain in June 1999. In
    early 2003, we introduced a minor modification to the PrepStain
    slide processor that enables the system to be used either for
    cell transfer, slide preparation and staining, or for the cell
    transfer and preparation of slides that may be further processed
    using a laboratorys free standing automated slide staining
    system. This minor modification should provide more flexibility
    and facilitate the integration of the PrepStain system into
    laboratories whose workflow is organized around a free standing
    automated slide staining system. The PrepMate system, an
    accessory to PrepStain, is designed to automate several steps in
    the preparation of SurePath thin-layer slides. PrepMate
    automatically mixes and removes the specimen from the SurePath
    preservative fluid vials, and layers the specimen onto the
    SurePath density reagent in a test tube for automated slide
    preparation and staining. The FDA approved the PrepMate
    accessory in May 2001.
|
| |  | FocalPoint SlideProfileris a computerized imaging system that
    uses proprietary technology to automatically screen SurePath or
    conventionally prepared Pap smear slides. The FocalPoint Slide
    Profiler can identify those slides that have the highest
    likelihood of abnormality. Formerly known as the AutoPap Primary
    Screening System, FocalPoint was approved by the FDA as the
    first and only automated device for primary screening of
    conventional Pap smear slides for cancer of the cervix and its
    precursors in May 1998. In October 2001, FocalPoint
    was approved by the FDA to screen SurePath thin-layer slides.
    FocalPoint with Location Guided Screening (FocalPoint GS), the
    next generation FocalPoint system, was introduced outside of the
    U.S. in the fourth quarter of 2000. FocalPoint GS integrates our
    proprietary Slide Wizard technology into the FocalPoint
    screening process and automates the microscopic analysis of
    cervical smears designated for further review by the FocalPoint
    slide profiler. In early 2003, we initiated a multi-center
    clinical trial to collect data to support a Pre- market Approval
    (PMA) supplement application for the FocalPoint GS
    employing an investigation plan that is the subject of a binding
    agreement with the FDA.                                                                                                                               

Our SlideWizard product line includes the Image
Titer, an FDA cleared method for automating the measurement of
antinuclear antibody, research applications for DNA,
immunohistochemical quantification, cellular analysis, and
expression quantification, a system for the transmission and
interpretation of tissue specimens via remote
telecommunications, or telepathology, and a software
based storage and retrieval system for microscopic images.

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TriPath Oncology

Our TriPath Oncology business focuses on
developing and commercializing molecular diagnostic and
pharmacogenomic tests for a variety of cancers. On July 31,
2001, we entered into a series of agreements with Becton,
Dickinson and Company (BD) to develop and
commercialize molecular diagnostics and pharmacogenomic tests
for malignant melanoma and cancers of the cervix, breast, ovary,
colon and prostate as part of the ongoing strategic alliance
between BD and Millennium Pharmaceuticals, Inc.
(Millennium).

Historically, the cancer diagnostics market has
relied on tests or methods that identify surrogate markers or
cellular abnormalities that are correlated with the presence or
stage of disease, but provide limited information specific to
the disease or patient outcome. In recent years, however,
significant advances have occurred in the analysis and
characterization of cancer from a molecular mechanistic
perspective. Information derived from the analysis of gene and
protein expression differences is providing new insights into
the biology of cancer and is driving the discovery of novel
molecular markers which correlate to the presence and stage of
cancer and to patient outcome. The goal of our molecular
oncology program is to utilize these new discoveries in genomics
and proteomics research to develop and commercialize diagnostic
and pharmacogenomic tests to improve the early detection and
clinical management of cancer. Specifically, we have active
programs in development designed to identify individuals with
cancer at the earliest possible stage of the disease, provide
individualized predictive and prognostic information, guide
treatment selection for patients with cancer, and predict
disease recurrence. The core products and services we are
developing through our collaboration with BD will be based upon
genomic and proteomic markers identified through discovery
research, conducted at Millennium, under its existing research
and development agreement with BD. TriPath Oncology will
clinically validate and develop these proprietary cancer markers
into commercial diagnostic and pharmacogenomic oncology products
and services. Commercial responsibilities for any resulting
products will be shared between BD and TriPath Oncology. BD will
continue to fund additional discovery research activities at
Millennium at least through the end of their agreement in early
2004.

The key components of our product development
strategy are as follows:

1. Identify and validate novel molecular marker
panels based upon predetermined clinical specifications. The
core products and services we are developing through our
collaboration with BD will be based upon genomic and proteomic
markers identified through discovery research, conducted at
Millennium, under its existing research and development
agreement with BD. Utilizing its proprietary technology and
know-how in genomics and bioinformatics, Millennium has
correlated the presence of specific genetic sequences (i.e.,
molecular markers) with a series of clinical specifications for
each of our targeted cancers. These clinical specifications are
based upon current unmet clinical needs and what we perceive to
be a significant commercial opportunity. Since it is generally
accepted that cancer onset and progression are driven by
multiple inter-related genetic changes, our molecular assays
will consist of panels of molecular markers which will yield
molecular profiles, known as signatures descriptive of clinical
phenotype and patient outcome.

2. Format our molecular assay technology into
universally accepted laboratory assays. Our goal is to change
clinical practice, not laboratory practice. Therefore, all of
our assay technologies will be developed in commercially
accepted formats to facilitate rapid laboratory adoption. The
technology format selection is dependent upon sample type. For
early detection assays, we have chosen an immunoassay format
that is capable of detecting and quantifying multiple secreted
proteins in blood. Staging and prognostic assays will require
the quantification of molecular markers (proteins) within
the context of cellular morphology, and as such, these assays
will be formatted in a standard immunohistochemistry
(IHC) assay with colorimetric bright-field
detection. Both formats are based on the detection and
quantification of specific proteins and will thus require us to
generate monoclonal antibodies targeted to each unique protein.
We do this by first translating the unique gene sequences
identified by Millennium into proteins using a number of protein
expression systems, then developing monoclonal antibodies
specific to each protein through standard hybridoma technology.
After each monoclonal antibody marker is independently validated
using clinical samples with known patient outcome, a marker
panel will be assembled to achieve the desired assay sensitivity
and specificity.

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3. Link the staging and prognostic assays to our
proprietary image analysis technology. We believe that in many
cases clinical outcomes are determined by subtle differences in
gene or protein expression, and that these subtle differences in
gene and protein levels will require advanced imaging capability
for quantification and interpretation. Furthermore, we believe
that tissue architecture, cell morphology, and precise
sub-cellular localization of molecular markers will be an
important tool for accurate cancer staging and prognosis.
Therefore, we intend to adapt our proprietary image analysis
platform to our molecular assays to allow analysis and
quantification of multiple, discrete molecular markers within
the context of tissue distribution and cellular location.

We introduced our first analyte specific reagent
(ASR) which was used in a laboratory developed assay
for malignant melanoma in the fourth quarter of 2002 through our
collaborative agreement with AmeriPath, Inc., a leading national
provider of cancer diagnostics, genomics and related
information. In the third quarter of 2002, we completed marker
discovery and initiated development work for molecular assays
for cervical and breast cancer. We are actively translating
unique gene expression patterns or markers provided by
Millennium into proteins and monoclonal antibody reagents for
adaptation into universally accepted commercial testing formats
and have initiated pre-clinical validation studies. We
anticipate introduction of ASRs for laboratory developed tissue
and cell based assays for staging of cancer of the cervix and
breast in late 2004.

We have completed development of a prototype
version of our imaging platform to facilitate assay development.
The proprietary imaging platform consists of four major
components. The Asset Trackingcomponent is used to
register and track all clinical samples used in the development
of our molecular assays, and to manage the slide images and data
created from the samples. The Automated Slide Scannercomponent provides high throughput slide handling and
scanning capability, and produces high-resolution digital images
of cells and tissue stained with our molecular markers. These
images can then be evaluated interactively by cytotechnologists
and pathologists via the Viewercomponent of the
platform. The Quantificationcomponent uses innovative,
proprietary algorithms to analyze the digital slides, providing
quantitative measurements for each different molecular marker on
the slide. While the primary utility of this imaging platform
today is to support our product development activities, we have
already begun the process of adapting this technology to a
commercial product which will ultimately be linked to our
molecular assays.

We are also leveraging our proprietary imaging
technology to develop new collaborations to expand our
commercial opportunities. In early 2003, we entered into an
agreement with Bristol-Myers Squibb Company (BMS) to
provide quantitative tissue based image analysis in support of
their oncology therapeutics programs targeted at treating
epithelial cancers, including cancer of the cervix, breast and
colon. We are utilizing our SlideWizard image analysis platform
and proprietary software applications to provide a quantitative
assessment of tumor marker expression levels from tissue samples
provided by BMS for patients enrolled in a Phase I clinical
trial. The data generated by our work will be used to evaluate
patient response across varied dosing levels based on changes in
tumor marker expression levels, both before and after treatment.

We believe that our proprietary assets and
technologies in imaging analysis, our broad access to novel
molecular markers offered by our relationship with BD and
Millennium, and our in-house expertise and capability in rare
reagent and assay development will provide us with the necessary
technology and expertise to successfully develop improved
diagnostic oncology products. We further believe that the
management of TriPath Oncology as a separate business unit
provides a focused organization and dedicated management team
with top-notch skills and expertise in assay formatting and
development to deliver new oncology products to our commercial
team which will dramatically improve the early detection and
clinical management of cancer.

The Cancer Market

Cancer is a chronic and complex disease
characterized by uncontrolled growth and spread of abnormal
cells. According to the World Health Organization
(WHO), the worldwide incidence of cancer in the year
2000 exceeded 10 million cases, excluding basal and
squamous cell cancers of the skin. The WHO further estimates
that approximately 6.2 million deaths worldwide were
attributable to cancer in 2000. In the United

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States, the American Cancer Society
(ACS) estimates that roughly 1.3 million cases
of non-skin cancers were diagnosed in 2002, roughly half of
which occurred in women. In the United States, women have about
a 1-in-3 lifetime risk of developing invasive cancer. It is
estimated that in 2003 approximately 658,800 women will be newly
diagnosed with cancer and an estimated 270,600 women will
succumb to the disease. It is anticipated that melanoma and
cancers of the breast, cervix, ovary, colon and rectum will
account for over one half of all cancers diagnosed in women in
2003.


Womens Cancers

2003 Cancer Estimates (U.S.)


|                                  |                    |                          |         |                          |  |  |         |        | 
|--------------------------------- | ------------------ | ------------------------ | ------- | ------------------------ |  |  | ------- | ------ | 
|                                  |                    | Estimated 2003 Incidence |         | Estimated 2003 Mortality
|                                  |                    |                          |         |                         
|All Cancers                       |                    |                          | 658,800 |                          |  |  | 270,600 |       
|TriPath Imaging Targeted Cancers: |                    |                          |         |                          |  |  |         |       
|                                  | Breast             |                          |         | 211,300                  |  |  |         | 39,800 | 
|                                  | Colorectal         |                          |         | 74,700                   |  |  |         | 28,800 | 
|                                  | Ovarian            |                          |         | 25,400                   |  |  |         | 14,300 | 
|                                  | Malignant Melanoma |                          |         | 24,300                   |  |  |         | 2,900  | 
|                                  | Cervical           |                          |         | 12,200                   |  |  |         | 4,100  | 






| |                                
| | -------------------------------
| | Source: American Cancer Society

Treatments for cancer are expensive and
oftentimes ineffective. Current treatments for cancer include
surgery, radiation, and chemotherapy. Surgery is limited in its
effectiveness because it treats the tumor at a specific site and
may not remove all the cancer cells, particularly if the cancer
has spread. Radiation and chemotherapy can treat the cancer at
multiple sites but can cause serious adverse side effects
because they destroy healthy cells and tissues as well as cancer
cells. The ACS projected that in 2002 over 250,000 women died of
cancer-related illness. Detecting cancer at the earliest
possible stage of disease is critical to patient survival and
outcome as reflected in the following five-year relative
survival rates:

Five Year DiseaseFree Survival

by Stage at Diagnosis


|                                  |  |           |    |              |  |             |    |  |  |  |    | 
|--------------------------------- |  | --------- | -- | ------------ |  | ----------- | -- |  |  |  | -- | 
|TriPath Imaging Targeted Cancers: |  | Local (%) |    | Regional (%) |  | Distant (%)
|                                  |  |           |    |              |  |            
|Breast                            |  |           | 97 |              |  |             | 78 |  |  |  | 23 | 
|Colorectal                        |  |           | 90 |              |  |             | 65 |  |  |  | 9  | 
|Ovarian                           |  |           | 95 |              |  |             | 81 |  |  |  | 31 | 
|Malignant Melanoma                |  |           | 96 |              |  |             | 60 |  |  |  | 14 | 
|Cervical                          |  |           | 92 |              |  |             | 51 |  |  |  | 15 | 






| |                                
| | -------------------------------
| | Source: American Cancer Society

Development and utilization of modalities for
routine cancer screening is critical to early detection.
According to the ACS, whereas the five-year relative survival
rate for all cancers is approximately 62%, the relative survival
rate for currently screened cancers (i.e. including cancers of
the cervix, breast, colon, rectum and skin) is approximately
82%. ACS estimates that the relative survival rates of these
screened cancers could be further increased to 95% if all
Americans were regularly screened for these cancers. In 2002,
the National Institutes of Health (NIH) estimated
the overall costs for cancer-related illness in the U.S. to be
$171.6 billion.

The market for cancer diagnostics is expected to
grow substantially due to the increased incidence of cancer, an
aging population, early cancer awareness, pressure to reduce
cancer mortality rates and improvements in healthcare screening
systems. The existing cancer diagnostics market is characterized
predominantly

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by tests or methods that identify the presence of
surrogate markers of disease, cellular abnormalities or imaging
anomalies that are correlated with the presence or stage of
disease but, for the most part, do little to provide information
specific to the biology of the disease or the outcome of the
patient. The current technologies used in cancer diagnostics
consist primarily of tumor marker immunoassays, cytology
evaluation and imaging techniques such as mammography.


While some of the underlying causes of specific
cancers can be traced to a single genetic alteration, it is now
believed that multiple complex genetic changes underlie the
development of the vast majority of cancers. However, the
identification of genetic anomalies alone is unlikely to prove
clinically significant as many genetic events may have minimal
or no impact on a patients health, whereas others may pose
life-threatening health risks. Determining the interrelationship
of genes and proteins, and their interaction with one another
will be as important as understanding the underlying cause of
the genetic change itself. The scientific communitys
knowledge of these underlying genetic factors has only recently
come about through the development of more sophisticated
research and discovery tools, investment in mapping of the human
genome, and development of bioinformatics capabilities to assess
the clinical relevance of these genetic abnormalities.

In recent years, novel molecular oncology tests
have been introduced to provide additional clinical information
previously unavailable to assess an individuals
predisposition or lifetime risk of developing certain cancers.
Molecular tests are also used to screen and assist in the
diagnosis of the presence of disease, to assess patient
prognosis and outcome more accurately, to guide therapeutic
selection in the management of certain cancers and to monitor
for disease recurrence. Molecular tests offer the promise of
providing a more accurate, disease-specific understanding of
cancer to best address the needs of medical practitioners.

Cervical Cancer

Cancer of the uterine cervix, or cervical cancer,
is second only to breast cancer as the most common form of
malignancy in both incidence and mortality worldwide. According
to World Health Organization (WHO) the worldwide
incidence of cervical cancer in 2000 were 470,606 with a
mortality rate of 233,372. In parts of the developing world,
cervical cancer is the major cause of death in women of
reproductive age. The American Cancer Society estimates that in
2003 approximately 12,200 cases of invasive cervical cancer will
be diagnosed in the United States with an estimated 4,100 deaths.

Invasive cervical cancer spreads from the surface
of the cervix to tissue deeper in the cervix or to other parts
of the body. Cervical cancer develops in stages over a period of
time beginning with pre-invasive changes that eventually
progress to invasion. Because of the progression to invasion,
most deaths due to invasive cervical cancer can be prevented
with early-stage detection and treatment. Early detection is
critical in promoting patient wellness. The more advanced the
cancer, the lower the chances are of managing and/or curing the
patient. Thus, regular cervical screening examinations are
recommended in the United States and many foreign countries.

The Conventional Pap Smear

The conventional Pap smear is currently the most
widely used screening test for cervical cancer. This test was
developed by Dr. George N. Papanicolaou in the 1940s
and has essentially remained unchanged until the advent of
liquid-based cytology and automated computer primary screening.
The Pap smear detects pre-cancerous lesions before they invade
the cervix while they are 100% curable. It is estimated that
clinical laboratories in the United States perform over
50 million Pap smears annually. We believe that annual test
volume outside of the United States is in excess of
80 million. Of the 50 million annual Pap smear tests
performed in the United States, industry sources estimate that
approximately 2.5 million, or five percent, are diagnosed
at the pre-cancerous or cancerous stage.

In the United States, although widespread and
regular use of the conventional Pap smear has contributed to a
greater than 70% decrease in deaths resulting from cervical
cancer, the death rate from the disease has declined at a rate
of only approximately 1.6% per year. We believe that despite the
success of the conventional Pap smear as a diagnostic tool,
there are practical limitations to this test which contribute to
in excess of $5.0 billion in annual costs. These costs are
associated with the treatment of advanced pre-cancerous and

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cancerous cervical disease. Additional costs are
also incurred by third-party payers due to repeat testing for
poor quality smears and by clinical laboratories due to
litigation associated with inaccurate diagnoses. The
introduction of liquid-based cytology has improved specimen
adequacy and automated computer screening has improved
diagnostic accuracy.


The evaluation of conventional Pap smears
involves the science of cytology, which includes the microscopic
evaluation and interpretation of pre-cancerous and malignant
morphological changes in cells. The process begins with the
collection of cervical cells during a gynecologic pelvic
examination. To obtain a Pap smear, a clinician uses a sampling
device to scrape the surface of a womans uterine cervix to
collect a sample of cervical cells. If the conventional Pap
smear method is used, this sample is smeared onto a microscope
slide and the sampling device is discarded. If our SurePath
liquid-based method is used, the collection device itself is
placed into a vial containing our transport and preservative
solution and the cells are suspended in this liquid medium.

After the cervical sample is taken, the sample
and patient information are sent to a clinical laboratory for
further processing, screening and diagnosis. A cytotechnologist
who is specially trained to evaluate cell changes screens and
interprets the slide using a microscope. Any abnormality is
further reviewed by a medical doctor or pathologist.

Typically, about 90% to 95% of all Pap smears are
classified as normal. Pap smears classified as other than normal
specify the degree of abnormal change. For example, atypical
cells, commonly referred to as atypia, represent the
least significant change with a very low likelihood to progress
to cancer if left untreated. They are generally classified as
ASCUS-US, which refers to atypical squamous cells of
undetermined significance; or ASC-H, which refers to
atypical squamous cells-cannot exclude a high-grade lesion. The
next classification is LSIL, which is defined as
low-grade squamous intraepithelial lesions, encompassing
HPV/mild dysplasia/ CIN 1 which has a slightly higher likelihood
of progressing to cancer if left untreated but overall is still
relatively low. CIN refers to cervical
intraepithelial neoplasia, and is categorized as CIN 1, CIN 2,
and CIN 3. HSIL, defined as high-grade squamous
intraepithelial lesions, encompassing moderate and severe
dysplasia, CIN 2 and CIN 3, represents changes that biologically
have the highest likelihood of progressing to cancer if left
untreated. The most serious classification is the diagnosis of
cancer itself. Optimally, the Pap tests objective is to
detect the atypical to HSIL lesions as well as early invasive
cancer so the lesion can be treated and the patient cured.

Limitations of the Conventional Pap Smear Test
Process

Each Pap smear slide sample typically contains
50,000 to 300,000 cervical cells. The process of manually
screening and interpreting a conventional Pap smear requires
intense visual examination of the slide sample through a
microscope. Because abnormal cells are not always visible,
errors may occur and abnormal cells may not be seen by the
cytotechnologist during the microscopic review process. Abnormal
cells can be obscured by blood, mucus or white blood cells
making them difficult to find and interpret. Other factors such
as air-drying distorts the cells, resulting in normal cells
being misinterpreted as abnormal, or abnormal cells being
misinterpreted as normal. Most of these limitations are a result
of poor specimen quality and have been shown to be minimized by
using a liquid-based collection method.

Pap smears also have a highly variable
false-negative rate. A false-negative results when the patient
actually has evidence of disease but the Pap smear is reported
as negative. False-negative rates of the conventional Pap smear
vary widely among laboratories and have been reported to range
from 2% to 28% according to studies at both Mercy Hospital in
Janesville, Wisconsin and at Newport Hospital in Rhode Island.
Factors that contribute to false-negative results vary but have
been shown to depend on the skill and experience of the
practitioner who collects the sample and prepares the slide.
Studies actually suggest that the highest percentage of
false-negative diagnoses are the result of inadequacies in
sample collection and slide preparation. In this situation, the
abnormal cells are either not collected properly on the sampling
device or are collected properly on the sampling device but are
not transferred properly to the microscopic glass slide. Other
causes of false-negatives are attributable to detection and
interpretation errors where abnormal cells are present on the
Pap smear but they are either not seen at all, or are seen but
interpreted as negative.

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A study published in 1992 in the Acta Cytologica
reported that, with a conventional Pap smear, as much as 80% of
the sample taken from a patient may not be transferred to the
slide and remains on the discarded collection device (Hutchinson
M Patten FW, Stetzer GT, et.al.). In addition to inadequate cell
transfer, the conventional Pap smear slide preparation process
may produce inconsistent and non-uniform slides with extreme
variability in quality, often making examination difficult. If a
Pap smear is interpreted as unsatisfactory or less-than-optimal
because of poor quality sampling or because of obscuring
factors, the clinician may be prompted to call the patient back
for a repeat test.

When using the conventional Pap smear process, a
physician is unable to perform additional testing using the
original patient sample. If additional testing is required, the
patient must return to the physicians office to provide a
second sample. This can cause a great deal of stress to the
patient, thereby reducing the accuracy of the second sample. The
SurePath liquid collection method allows the laboratory access
to the remaining cellular material from the original patient
sample. Repeat and ancillary testing from the residual cell
solution may provide a more cost effective patient management
program for inconclusive Pap smear tests, and may reduce a
patients stress and anxiety associated with repeat testing.

Due to the inherent limitations of the Pap smear
screening process, a number of notable lawsuits were filed in
the 1980s on behalf of women who died of cervical cancer and
whose Pap smears, initially classified as normal, were
subsequently determined to contain abnormal cells and, if
classified differently, may have led to treatment that would
have prevented death. These actions raised medicolegal concerns
related to the inherent false-negative rate of Pap smears
(reported in the range of 10%-45% by the Clinical Preventive
Services, U.S.) resulting in a significant increase in the
number of Pap smears categorized as either ASCUS, AGUS or LSIL.
Consequently, the number of colposcopy procedures increased
dramatically leading to increased health care costs as up to 80%
of the procedures performed do not uncover underlying HSIL or
cancer. To respond to address this need, tests for the detection
of human papilloma virus have become increasingly utilized for
women with ASCUS pap results.

Human Papilloma Virus

HPVs comprise a group of more than 70 types of
viruses. Certain (non-cancerous) HPV types cause the common
warts that grow on hands and feet and those that develop in the
mouth and genital areas. Genital HPVs can be passed from one
person to another through sexual intercourse and oral or anal
sex. Certain genital HPV types, called high risk HPV
types and include HPV-16, HPV-18, HPV-31, HPV-45, as well as
some others, can cause the growth of abnormal cells in the
cervix that could potentially lead to the development of
invasive cervical cancer. In fact, it has been documented that
nearly all cervical cancers (99.7%) are directly linked to
previous infection with one or more of the oncogenic
(cancer-inducing) types of HPV (Judson 1992; Walboomers et. al.
1999).

Whereas the vast majority of cervical disease can
be traced to an underlying HPV infection, identification of
infection, even with a high-risk type, is not in and of itself
predictive. HPV is the most prevalent sexually transmitted
infection in the world, occurring at some point in up to 75% of
sexually active women (Groopman 1999). Although HPV infection is
widespread, few people even know they are infected because they
seldom have noticeable symptoms. While women usually are
infected shortly after they become sexually active in their
teens, 20s or 30s, progression to cervical cancer generally
takes place over a period of 10 to 20 years. In rare
instances, some early lesions can become cancerous over a
shorter time interval such as a year or two.

It is estimated that for every 1 million
women infected, about 10% will develop pre-cancerous changes in
their cervical tissue (dysplasia). Of these, about 8% will
develop early cancer limited to the outer layers of the cervical
cells (carcinoma in situor CIS) and roughly
1,600 will develop invasive cancer unless the pre-cancerous
lesions and CIS are detected and treated. Finally, women with
active infection can transfer the virus to their newborn
(vertical transmission) during delivery, which can result in
papilloma virus infection in the neonate and possible subsequent
laryngeal papillomatosis (Cason, Rice and Best 1998).

In most cases an active infection is controlled
by the immune system and with time becomes dormant; however, it
is not possible to predict whether or when the virus will become
active again. For example, one recent study followed more than
600 female university students who were tested every
6 months (Groopman

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1999). Over the course of 3 years, new HPV
infections occurred in more than 40% of the women. Most
infections lasted about 8 months and then subsided. After
2 years, however, about 10% of the women still carried
active virus in the vagina and cervix. In this study, the
persistent infections were most commonly with the virulent,
cancer-linked types of viruses.


Limitations of HPV Testing

Over the past three years, HPV testing has gained
clinical acceptance in the U.S. for supplemental testing of
women for whom the results of primary cervical cytologic
screening are atypical (ASCUS-US) but of uncertain significance
and not clearly diagnostic of pre-malignant or malignant
disease. Supplemental testing with HPV provides guidance as to
how these patients should be managed. A negative HPV test is
highly predictive of the absence of pre-malignant or malignant
cervical disease and, therefore, is said to warrant no further
action. A positive HPV test is said to warrant further
examination including colposcopy. HPV infection rates in young
women, i.e. less than 30 years of age, have been shown to be as
high as 80% in certain populations thereby limiting the utility
of the test for women of all ages. In addition, the high
positive rate in women with a cytology diagnosis of LSIL limits
the value of the test in this subset of patients, as well.

Attempts have been made to promote HPV testing
without concurrent examination of cervical cytology as a primary
screening tool for cervical cancer in some countries outside the
U.S. where the infrastructure to interpret cervical cytology
slides is lacking. This approach is unlikely to be utilized in
the U.S. and other markets where cytology screening capability
exists, particularly given the high prevalence of HPV in women
less than 30 years of age.

In the U.S., the FDA is currently reviewing a
submission by Digene® Corporation, the manufacturer of the
only currently FDA approved test for HPV, called the Digene
Hybrid Capture® HPV Test, for expanded claims to include an
indication to use HPV testing in conjunction with cervical
cytology for primary screening for cervical cancer in women over
the age of 30. Recent prospective trials conducted by the
National Cancer Institute suggest that routine screening of HPV
DNA combined with cytology would result in the greatest
detection of cervical dysplasia. However, while a negative HPV
test result is highly predictive of the absence of pre-malignant
or malignant cervical disease, the predictive value of a
positive HPV test result may be limited because HPV testing
cannot distinguish non-progressive infection from infections
that would benefit from therapy.

Breast Cancer

With an estimated incidence of over one million
new cases per year, cancer of the breast is the most common
womens cancer in the world accounting for 22% of all new
cases diagnosed. On a worldwide basis, breast cancer is the
leading cause of cancer mortality in women representing an
estimated 14% of all cancer-related deaths in females.

The American Cancer Society estimates that in
2003, approximately 211,300 new cases of invasive breast cancer
will be diagnosed among women in the United States, with an
estimated 40,200 women dying of the disease. Breast cancer
incidence increases with age, and although significant progress
has been made in identifying women considered to be at high risk
of developing the disease, more than 50% of breast cancer occurs
sporadically in women with no known risk factors. According to
the National Cancer Institute (NCI), the overall
five-year survival rate for women diagnosed with breast cancer
is 86%. Early detection is paramount as the relative survival
rates vary significantly among localized disease (96.8%),
regional spread (78.4%) and distant metastases (22.5%).

Breast Cancer Screening

Breast cancer screening is currently defined as a
combination of patient self-exam, clinical breast exam and
mammography. These methods are complementary and are not used as
stand-alone techniques. Film imaging mammography is the gold
standard for breast cancer screening and currently represents
the most effective means of early detection of breast cancer
with a sensitivity ranging from 54.0% to 94.0% and a specificity
ranging from 83.0% to 98.5%. More specifically, studies show
that mammography sensitivity ranges

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from 54.0% to 58.0% in women under age 40 and
from 81.0% to 94.0% in women over 65. The primary purpose of
mammography screening is the detection of an abnormality.
Numerous studies have shown that early detection saves lives and
provides more treatment options. For this reason, annual
screening by mammography is recommended for women over age 40 in
the U.S. and many foreign countries.


According to data from the 2000 Behavioral Risk
Factor Surveillance System (BRFSS), the percentage
of U.S. women aged 40 and older who had a recent mammogram was
62.6%. Of the 32.5 million screening mammograms currently
performed in the U.S., approximately 4 million indicate
some form of abnormality requiring further follow-up. Once an
abnormality is detected on initial screening, the need for a
very sensitive and specific assay to detect early breast cancer
becomes critical. Although follow-up diagnostic imaging and
ultrasound may provide greater image clarity, neither is able to
distinguish between a benign condition and a malignancy. Of the
estimated 1.2 million breast biopsies performed in the U.S.,
roughly 80% yield no form of malignancy resulting in an
estimated cost of $3.3 billion related to unnecessary
biopsies.

Breast Cancer Staging and Treatment

Once breast cancer is diagnosed, it is staged,
(i.e. I, II, III or IV) based on a number of factors including
tumor pathology (T), nodal involvement
(N) and distant metastasis (M). In the
U. S., approximately 55% to 60% of newly diagnosed invasive
breast cancer is detected at a relatively early stage (i.e.
small tumor size and with no or minimal nodal involvement).

Although the TNM classification
system is useful in staging patients for follow up and
treatment, it is based solely on the morphologic features of the
tumor and its degree of spread and, thus does not take into
consideration the biologic make up of the cancer. The clinical
course of primary breast cancer varies from patient to patient.
Predicting which individuals are cured and which are not remains
difficult for both lymph node negative and lymph node positive
breast cancer patients. Clinicians are well aware that some
patients who have poor TNM scores have long disease-free
survival times, whereas others with good TNM scores experience a
rapid deterioration with early recurrence of breast cancer
followed by death. At best, current prognostic indicators serve
as guides for clinical decisions that require considerable
judgment.

Once the cancer is staged, treatment decisions
are typically made by an oncologist in consultation with the
patient and will take into consideration the patients age
and preferences, as well as the risks and benefits associated
with each treatment protocol. Nearly all women with breast
cancer will have some form of surgery combined with other
treatments such as radiotherapy, chemotherapy, hormone therapy
and/or monoclonal antibody therapy. Prognostic tests for the
determination of estrogen receptor (ER),
progesterone receptor (PR) and her2/neu status have
become standard of care for selecting subsets of patients most
likely to benefit from certain hormone and monoclonal antibody
therapies.

Post-Therapy Recurrence

In general, it has been widely assumed that early
detection of any cancer, whether as a new primary malignancy or
as a recurrence, leads to more effective therapy. As with
screening, the ability to detect small tumors and early
progression in asymptomatic situations is paramount to positive
outcomes. However, the recurrence rate can be as high as 25% to
30% within the first five years after diagnosis, even in
patients with good TNM scores.

Presently, a large number of markers exist for
the monitoring of breast cancer. These include MUC-1 (CA15-3),
carcinoembryonic antigen (CEA), oncoproteins, milk
proteins and cytokeratins. Of these, CA15-3, CA27.29 and CEA are
the most commonly used. According to the American Society of
Clinical Oncologists, (ASCO) Tumor Marker
Guidelines, the performance of these markers range in
sensitivity for Stage I disease of 9% to 10%, Stage II of 19% to
54%, Stage III of 31% to 54% and Stage IV of 64% to 75%.
Additionally, ASCO notes that CA15-3 exhibits a limited
sensitivity for detecting low tumor burden, when treatments are
most likely to be beneficial. Currently, only 20% to 30% of
recurrences are detected before the onset of symptoms.

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Ovarian Cancer

Ovarian cancer is only the seventh most common
cancer in women with an estimated 192,379 cases diagnosed
worldwide in 2000, but it is among the most deadly. In the U.S.,
the five-year relative survival rate is only 53% for all women
diagnosed with ovarian cancer. According to the NCI, the five
year relative survival rate for localized ovarian cancer is
94.9%, but only 81.4% if the cancer has spread regionally, and
only 30.9% for women with distant metastases.

Ovarian cancer has been shown to be a clonal
disease in approximately 90% of cases suggesting that most
cancers could, in fact, be detected before they have
metastasized. Due to the lack of an adequate screening test, and
to the fact ovarian cancer is asymptomatic until the cancer has
progressed to a late stage, approximately 75% of newly diagnosed
patients are in advanced to late stages III and IV.

Ovarian Cancer Screening

The effectiveness of routine screening of
asymptomatic women using pelvic examination, abdominal or
vaginal ultrasound or serum carcinoembryonic antigen (CEA-125)
has not been established. The ACS recommends annual pelvic
examinations for women starting at age 18 or at the onset of
sexual activity. In 1994, a National Institutes of Health
Consensus Conference on Ovarian Cancer concluded that there is
no evidence that screening with current available modalities,
including CEA-125 and/or transvaginal ultrasound can be used
effectively to decrease ovarian cancer mortality or morbidity.

Currently, screening for ovarian cancer typically
occurs in one of the following settings:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Women considered at high risk for
    developing ovarian cancer.The ACS states that women who are at
    high risk of epithelial ovarian cancer, such as those with a
    very strong family history of the disease, may be screened
    annually using transvaginal ultrasound and/or CEA-125.                                                                                                                                                                             
|
| |  | Presence of adnexal (ovarian) or
    pelvic mass.In the United States the
    hospitalization rate for ovarian neoplasms is reported to be as
    high as 289,000 women annually. Roughly 80% to 90% of these
    women will have a surgical procedure to rule out and/or diagnose
    ovarian cancer. An even greater number of women are found to
    have an adnexal or pelvic mass during a routine physical
    examination or during evaluation for another complaint.

A successful screening program aimed at the early
detection of ovarian cancer would require that major abdominal
surgery (laparoscopy and/or laparotomy) be performed, as this is
the only means of a definitive diagnosis. Because of the low
incidence of ovarian cancer and the necessity of major abdominal
surgery, a screening program requires high accuracy with a high
specificity to minimize morbidity associated with major
abdominal surgery.

Colorectal Cancer

In 2000, there were an estimated 445,963 cancers
of the colon and/or rectum diagnosed in women, making it the
third most common female malignancy worldwide according to the
WHO. Colorectal cancer also ranks as one of the more deadly
cancers attributable to over 237,000 cancer-related deaths in
women worldwide. In the U.S., the ACS estimates that almost
75,000 women will be diagnosed with colorectal cancer in 2003,
and an estimated 28,000 will die of the disease this year.

Similar to most cancers, survival rates for
colorectal cancers can be very high if detected at an early
stage (i.e. the five-year relative survival rate for localized
disease is 90%). Unfortunately, only 37% of colorectal cancers
are detected before the cancer has spread. Once the cancer has
spread to the regional nodes, the relative survival rate is only
65% and for distant metastases, the survival rate drops to 9%.

Colorectal Cancer Screening

The primary risk factor for developing colorectal
cancer is increasing age with more than 90% of cases diagnosed
in individuals over the age of 50. Screening can prevent the
occurrence of colorectal cancer by

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detecting and removing pre-cancerous polyps or it
can diagnose early disease at a stage when it can be effectively
cured. The ACS guidelines recommend screening individuals
starting at age 50 by one of the following five screening
strategies:




| |   |                                                                                
| | - | -------------------------------------------------------------------------------
| |  | Yearly fecal occult blood test plus flexible
    sigmoidoscopy every five years
|
| |  | Flexible sigmoidoscopy every five years                                        
|
| |  | Yearly fecal occult blood test                                                 
|
| |  | Colonoscopy every ten years                                                    
|
| |  | Double contrast barium enema every five years                                  

Although the fecal occult blood test is the least
invasive method and most amenable to widespread screening, it
has significant drawbacks including low sensitivity (ranges from
35% to 40% for detecting of colorectal cancer) and poor patient
compliance.

Malignant Melanoma

Although melanoma accounts for only a fraction of
all skin cancers diagnosed, it is by far the most serious.
Unlike the more common and curable basal cell and squamous cell
skin cancers, melanoma accounts for roughly 75% of all skin
cancer-related deaths. In 2000, the WHO estimated that 67,425
cases of melanoma were diagnosed in women and 17,045 female
deaths were attributable to this deadly disease. In 2003, in the
U.S., an estimated 24,300 women will be diagnosed with melanoma
and 3,600 are expected to die of the disease.

The overall five year relative survival rate of
patients diagnosed with melanoma is 89% according to the ACS.
Because melanoma develops from biological changes in pigmented
lesions such as moles, early signs of melanoma development can
usually be seen through changes in the size, color or texture of
the lesion. As a result, about 82% of melanomas are diagnosed at
an early or localized stage where the five-year relative
survival rate approximates 96%. Survival rates drop considerably
to 60% and 14% for melanomas that have spread to regional nodes
or to distant organs, respectively.

Melanoma Staging and Treatment

Once melanoma is suspected, the lesion and
surrounding tissue are excised. Once diagnosed, biopsy of the
surrounding (sentinel) lymph nodes is common to determine
the degree of spread of disease. Like most cancers, melanomas
are staged, i.e. I, II, III or IV, based on a number of factors
including tumor pathology (T), nodal involvement
(N) and distant metastasis (M).
Prognostic factors such as tumor thickness (Clark Score),
mitoses and ulceration are among the criteria used in tumor
grading. Although the TNM classification system is useful in
staging patients for follow up and treatment, it is based solely
on the morphologic features of the tumor and its degree of
spread and, thus does not take into consideration the biologic
make up of the cancer.

Predicting which individuals are cured and which
are not remains difficult, as up to 20% of individuals with thin
lesions may relapse within 5 years. Clinicians are well aware
that some patients who have poor TNM scores have long
disease-free survival times, whereas others with good TNM scores
experience a rapid deterioration with early recurrence of
melanoma followed by death. At best, current prognostic
indicators serve as guides for clinical decisions that require
considerable judgement.

In addition to the standard treatment for
malignant melanoma, which includes adequate excision of the
primary tumor and may require removal of surrounding lymph
nodes, advanced cases are treated with chemotherapy or
immunotherapy. Although a number of markers have been studied to
determine their utility in predicting which patients with early
stage disease have biologically aggressive disease and,
therefore should be treated more aggressively, determination of
melastatin mRNA expression levels appears to be the most
promising.

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Our Products

The i3 Series Product
Line

Our i3 Series product line of
cervical cytology products is intended to address the current
limitations of the conventional Pap smear process and the lack
of automation in the cytopathology laboratory. The products
within our i3Series product line work together
as part of an integrated system for the collection, preparation,
staining and computerized analysis of liquid-based, thin-layer
Pap preparations and the screening of conventional Pap smears.
The silent exponent 3 suggests the expertise
contributed by each of our three predecessor companies,
AutoCyte, NeoPath and NSI, as well as the value of these
component products in providing intelligent identification
through innovation. Within the i3 Series line,
individual products have been renamed to better communicate the
value they provide to the physician, patients and laboratory
professionals. Our i3 Series line of cervical
cytology products includes the SurePath Test Pack, a
proprietary, liquid-based cytology sample collection, cell
preservation and transport system, the PrepStain slide
processor, an automated slide preparation system that produces
slides with a standardized, thin layer of stained cervical
cells, and the FocalPoint Slide Profiler which utilizes
proprietary technology to distinguish normal liquid-based or
conventional Pap smears from smears that have the highest
likelihood of abnormality.

The SurePath Test Pack

Our SurePath Test Pack consists of a sample
collection vial, proprietary preservative solution and sample
collection device. During a clinical exam, a physician or nurse
will collect a sample of endocervical and ectocervical cells,
currently using a cervical broom collection device. Once
collected, the health practitioner detaches the removable head
of the collection device and places it into the vial containing
our proprietary SurePath preservative fluid, thereby retaining
100% of the cells collected. The lid of the vial is then
fastened and the vial is then transported to the clinical
laboratory for follow-on processing on the PrepStain system.

Although SurePath has been FDA-approved for use
with a cervical broom collection device, we initiated clinical
trials in the third quarter of 2002 to evaluate the safety and
efficacy of alternate sample collection devices, including the
cervical spatula and cervical brush. We hope to receive FDA
approval for clinical use of these alternative collection
devices in the second half of 2003. There can be no assurance,
however, that such approval will be obtained during the second
half of 2003, or ever, nor that if approved, there will be
widespread market acceptance of the alternate devices
contemplated by our clinical studies.

In July 2002, Digene Corporation
(Digene) informed us that it had received a
not approvable letter from the FDA for its
Pre-Market Approval Supplement application to use SurePath as a
specimen collection medium for its Hybrid Capture® 2(hc2)
HPV DNA Test. We are working with Digene and the FDA to resolve
the issues identified in the letter. Although we will be
collecting and submitting clinical additional data to the FDA,
we remain hopeful that resolution of the issues identified by
the FDA will not alter our expectations for approval in late
2003. There can be no assurance, however, that we will succeed
in resolving the issues raised by the FDA, nor in gaining
approval for the combined use of our products from the FDA.

The PrepStain System

Our PrepStain system consists of proprietary
reagents, plastic disposables and automated equipment for
preparing a thin-layer of cervical cells on a SurePath
microscope slide. Once received in the laboratory, the sample is
thoroughly mixed, resulting in a randomized cell suspension
which is removed from the vial and layered onto a proprietary
liquid density reagent in a plastic centrifuge tube using our
patented syringe device. Batch centrifugation is then conducted
on the cell suspension to remove excess blood, inflammatory
cells and other debris from the sample.

Once centrifugation is completed, the laboratory
technician places the tube containing the separated diagnostic
cells onto an automated pipetting system. This pipetting system
then distributes the cervical cells in a thin-layer on the
microscope slide. At this stage, discrete staining of the slides
can be carried out by the PrepStain system, or staining can be
performed off-line from the PrepStain using alternative staining
instrumentation. PrepStain is currently capable of preparing
approximately 48 discretely stained or 96

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unstained thin-layer slides in approximately one
hour. A SurePath slide typically contains approximately 50,000
to 100,000 diagnostic cells that are distributed uniformly over
a 13-mm diameter circle.


We have also developed an automated accessory to
the PrepStain system called PrepMate that reduces the number of
manual preparation steps required on the PrepStain system. The
PrepMate accessory is intended to reduce the time required to
prepare samples for processing on the PrepStain instrument. The
FDA approved PrepMate for use in the U.S. in May 2001.

We believe that SurePath and PrepStain offer the
following advantages over the conventional Pap smear process:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | More Complete Sample Collection.Because the clinician places the
    collection device directly into the SurePath vial, the entire
    patient sample is contained in our preservative fluid. In a
    conventional Pap smear process, as much as 80% of the cervical
    sample can be inadvertently discarded with the disposable
    collection device after smearing the sample onto the slide.                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|
| |  | Improved Sample Quality.By eliminating variations in
    preparation techniques and the fixative spraying step from the
    sample collection process, PrepStain virtually eliminates
    air-drying, generates a more complete fixation, and provides a
    more standardized preparation process in a controlled,
    laboratory environment. This more uniform cell sample
    distribution also reduces cell clumping and obscuring from
    debris.                                                                                                                                                                                                                                                                                                                                                                                                    
|
| |  | Automated and Discrete Staining Function.PrepStain includes a discrete, or
    individualized, slide staining function performed by a
    computer-controlled robotic pipetting station. Unlike
    conventional Pap smear slides that are often manually stained in
    a batch process using common reservoirs of staining reagents,
    PrepStains staining reagents are directly applied to
    individual slides. As a result, staining reagents are not shared
    among slides. We believe this reduces the risk of
    cross-contamination among cell samples that can lead to
    inaccurate diagnoses.                                                                                                                                                                                                                                           
|
| |  | Staining Flexibility.In early 2003, we introduced a minor
    modification to the PrepStain system that allows the system to
    be used for cell transfer, slide preparation and staining or for
    the cell transfer and preparation of slides that may be further
    processed using a laboratorys existing free-standing
    automated slide staining system. This provides flexibility and
    facilitates the integration of the system into laboratories
    whose workflow is organized around a free-standing automated
    staining system.                                                                                                                                                                                                                                                                                                    
|
| |  | Multiple Testing Capability.Because our proprietary SurePath
    preservative system enables the patient sample to be preserved
    for four weeks at room temperature and six months if
    refrigerated, it permits, if necessary, preparation of several
    slides from a single sample. We believe that the ability to
    perform adjunctive slide-based tests using a single sample,
    together with the improved quality of the slide itself, will
    reduce re-testing expenses typically associated with
    inconclusive Pap smear tests. We will evaluate use of the
    residual patient sample for other diagnostic protocols such as
    HPV testing, infectious disease testing and application of
    specific tumor markers. Residual sample testing will require FDA
    approval if and when such testing is determined to be viable.

FocalPoint Slide Profiler (formerly AutoPap
Primary Screening System)

The FocalPoint Slide Profiler is an automated,
computerized primary interpretation system designed to
distinguish between normal and abnormal Pap smears. FocalPoint
was approved by the FDA in May 1998 as a primary screening
device for conventional Pap smear slides. In October 2001,
the FDA approved the use of FocalPoint as a primary screening
device for our SurePath thin-layer slides prepared by PrepStain.
FocalPoint uses visual intelligence algorithms to improve
accuracy in the primary screening of conventional Pap smear
slides and our SurePath thin-layer slides. As approved by the
FDA, FocalPoint identifies up to 25% of slides as within
normal limits and requiring no further review (also
referred to as sort rate or no further review
rate). Cytotechnologists then manually screen the
remaining slides with the assistance of FocalPoints ranked
review report. This ranked review report shows the relative
scores of the remaining processed slides. At least 15% of the
highest-ranking slides that are classified normal by manual
review then undergo quality control re-

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screening. Outside the United States, FocalPoint
is used, in some instances, to identify up to 50% of slides as
within normal limits.


FocalPoint works with a range of staining
procedures used on conventionally-prepared Pap smear slides.
FocalPoint analyzes a Pap smear in about five to six minutes,
holds 288 Pap smear slides at once, is easy to load and unload
and can operate continuously with minimal intervention for up to
24 hours per day. We provide each clinical laboratory with
on-site training, system documentation, a comprehensive quality
assurance program and ongoing customer and technical support.

FocalPoint GS

In the fourth quarter of 2000, we launched
FocalPoint GS, the next generation FocalPoint system for use
outside the United States. FocalPoint GS uses Location Guided
Screening to further improve the screening process by automating
the microscopic analysis of SurePath thin-layer slides or
conventional Pap smears designated for further review by the
FocalPoint Slide Profiler. FocalPoint GS integrates our
SlideWizard technology into the FocalPoint screening process.
The FocalPoint instrument is interfaced to our SlideWizard
platform and networked to one or more commercially available
microscopes that have been equipped with computer-controlled
automated stages for fast relocation of fields of
interest on microscopic slides. During the initial
screening process, and for each slide screened, FocalPoint GS
identifies and stores a pre-set number of fields of
interest in which it has calculated a higher probability
of abnormality. As with the FocalPoint Slide Profiler screening
process, FocalPoint GS identifies up to 25% of slides as
within normal limits for which no further review is
required. For each of the remaining slides, FocalPoint GS
communicates the location coordinates of the fields of
interest to the computer controlled microscope stage via
the SlideWizard platform. The fields of interest are
electronically highlighted and located for easy identification.
This facilitates a focused microscopic review and allows the
cytotechnologist to quickly analyze the slide for the presence
of cellular abnormality. Abnormal findings thus identified can
be confirmed by full microscopic review. If no abnormality is
identified during this rapid cytologic assessment, no further
review is required.

We believe the established quality of the
FocalPoint algorithms, coupled with the highly focused nature of
location-guided screening, allow laboratories to improve
quality, increase capacity by up to 200% and alleviate backlogs
and/or labor shortages. To date, the FocalPoint GS has been used
to screen over 2 million slides outside of the U.S.

In early 2003, we initiated U.S. clinical trials
under a binding protocol with the FDA, to obtain data to support
an application for U.S. approval of FocalPoint GS. We anticipate
the FocalPoint GS trial to be completed by the middle of 2003
and a submission will be filed with the FDA shortly thereafter.
There can be no assurance that any of these proposed products
will demonstrate clinical efficacy or receive the required
regulatory approvals.

SlideWizard Product Line

Our SlideWizard product line consists of PC-based
applications focused on the quantification of the nuclear DNA
content of cells and the detection and quantification of
specific molecules in cells or tissue sections
(immunohistochemistry and immunocytochemistry assays), the
management and archiving of images and patient information, the
exchange of data via telepathology and the creation of
comprehensive reports combining color images and patient data.
Our SlideWizard line of products include:



| |   |                                                                                                                                                                                                               
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Telepathology Module: a module for the
    transmission and interpretation of high-resolution images
    captured at remote sites for teaching and research;                                                  
|
| |  | Quantitative Image Cytometry-DNA: performs
    quantitative analysis of DNA by quantifying nuclear texture and
    morphology;                                                                                
|
| |  | Quantitative Image Cytometry-Immuno: offers
    general purpose image analysis that is ideal for recognition and
    quantification of virtually any stain application on a variety
    of biologic materials;

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| |   |                                                                                                                                                                                                                                            
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | A system to quantitatively assess the amount of
    up to three different absorption stains within the same
    microscopic slide, with some of the stains normally being
    related in a quantitative way to specific marker expressions;
|
| |  | ImageTiter, a method to quantitatively measure
    abnormally high levels of antinuclear antibodies through
    titration emulation as indication for a variety of
    immune system problems; and                                       
|
| |  | SlideWizard, an electronic dotting and labeling
    system.                                                                                                                                                                                

In November 1995, we received 510K clearance
by the FDA to market the ImageTiter for automating antinuclear
antibody testing. Our DNA and immuno-quantification applications
are presently offered For Research Only in the
United States. A SlideWizard workstation is also a component of
the FocalPoint GS system that is currently sold only outside the
United States. We expect to develop additional applications or
modules in the field of tissue diagnosis and prognosis to run on
the proprietary SlideWizard platform. We may elect to pursue
regulatory clearance to market in the United States for
additional SlideWizard applications currently under development
or developed by us in the future.

Molecular Diagnostics Products

We are developing oncology products and services
under our collaboration with BD. These products and services
will be based upon genomic and proteomic markers identified
through discovery research conducted at Millennium under its
existing research and development agreement with BD. TriPath
Oncology is clinically validating and will be developing these
proprietary cancer markers into commercial diagnostic and
pharmacogenomic oncology products and services. Commercial
responsibilities for resulting products will be shared between
BD and TriPath Oncology. BD will continue to fund additional
discovery research activities at Millennium, at least through
the end of their agreement in early 2004, aimed at developing
and commercializing molecular diagnostics and pharmacogenomic
products and services for malignant melanoma and cancers of the
cervix, breast, ovary and colon.

We are currently focused on developing molecular
diagnostic and pharmacogenomic products and services for cancers
of the cervix, breast, ovary and colon. Though we will discuss
our expectations for our molecular diagnostic products
throughout this section, there can be no assurance we will be
successful in developing any products or services that will
prove to have any clinical or therapeutic value to the
healthcare system nor that we will be able to develop such tests
in an economically viable way.

Cervical Staging Assay

The focus of the cervical oncology program is to
develop and commercialize highly sensitive and specific novel
gene/protein targets for the direct detection of pre-invasive
high-grade disease (CIN2/3 and CIS) and invasive cervical cancer
independent of age and HPV infection status. We will initially
seek an indication for use to detect the presence of
pre-cancerous disease and cervical cancer in women, regardless
of age, who have tested positive for HPV when the HPV test is
performed as part of a primary screen for cervical cancer and/or
in women who have been diagnosed with ASCUS or LSIL by cytologic
screening. By attaining a high level of clinical performance for
both sensitivity and specificity, we believe that the resulting
assay may improve the predictive value of both HPV and cytologic
screening and, as a result, will reduce false-positive referrals
to colposcopy while maintaining a high level of detection of
high-grade disease and cervical cancer as compared to the
current clinical standards. Addressing this medical decision
point could lead to a substantial cost savings for the health
care system (estimated at up to $2.3 billion per year) as well
as a reduction in morbidity and discomfort associated with
unnecessary medical procedures.

Breast Cancer Screening Assay

We are completing the discovery phase and early
development of reagents for screening of breast cancer. This
test will be a blood based, quantitative immunoassay targeted at
the identification of multiple proteins specific for early stage
breast cancer. We believe that by distinguishing those women who
have an underlying

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malignancy from those who do not will lead to
reduced morbidity associated with the avoidance of unnecessary
biopsies and result in significant savings to the health care
system.


Breast Cancer Staging Assay

We are developing reagents for a slide-based test
to quantify protein expression for multiple cancers for staging
of breast cancer. This test will be formatted as a slide-based
immunohistochemistry test that will utilize our proprietary
SlideWizard system to quantify protein expression for multiple
cancer markers. We believe that our breast cancer staging test
will provide oncologists a more accurate approach to determine
which patients are at highest risk of recurrence and require
more aggressive treatment. Although a high percentage of early
stage breast cancer patients are treated with adjuvant
chemotherapy, a more accurate prediction of direct tumor
behavior may help to guide the oncologists in their choice of
therapies to administer.

Breast Cancer Monitoring Assay

We will utilize cancer markers discovered through
our breast cancer screening program to develop a blood-based
breast cancer monitoring test for the detection of early
recurrence. The goal of our breast cancer monitoring program is
to clinically validate the cancer markers discovered for the
breast screening panel to detect early stage breast cancer
recurrence in asymptomatic patients. The test will be used to
monitor patients for response to treatment and to detect early
recurrence post treatment. We believe that these changes in
patient management will be result in improved health outcomes
and increased patient survival.

Ovarian Cancer Screening Assay

We are completing the discovery phase and
initiating development of a screening test for ovarian cancer.
Our ovarian cancer screening test will be a blood-based
immunoassay comprised of a panel of antibodies which will
measure the expression of target proteins specific from early
stage ovarian cancer. The test will be initially targeted for
patients considered to be at high-risk patient for ovarian
cancer, a market estimated at about 2 million cases per
year in the U.S. Our ultimate goal is to validate the test as a
means of routine screening of women aged 40 and older. By
detecting ovarian cancer at an earlier stage of disease we
believe that use of our test will lead to earlier initiation of
treatment and increased patient survival.

Colorectal Cancer Screening Assay

We are completing the discovery phase and
initiating development of a screening test for colorectal
cancer. The colorectal cancer screening test will be a
blood-based immunoassay comprised of a panel of antibodies which
will measure the expression of target proteins to detect early
stage colorectal cancer. We believe that our test will detect
the pre-cursor adenoma polyps as well as early stage colorectal
cancer. We will target the test for individuals considered at
high risk for developing colorectal cancer. We believe that the
test could ultimately be used as a general screening test for
men and women aged 50 and older. By detecting colorectal cancer
at an earlier stage of disease we believe that use of our test
will lead to earlier initiation of treatment and increased
patient survival.

Melanoma Staging Product

Through our agreements with BD and Millennium, we
received distribution rights to a novel gene expression target
for malignant melanoma shown in limited studies to be predictive
of risk of metastasis in Stage I and Stage II melanomas. In
February 2002, we executed a letter of intent to
collaborate with AmeriPath, Inc., a leading national provider of
cancer diagnostics, genomics, and related information, on the
validation and clinical use of a novel gene expression assay for
malignant melanoma. During 2002, AmeriPath developed and
validated a home brew assay utilizing our novel
Melastatin gene-based detection probe and our SlideWizard
imaging and telepathology platform. We finalized this
arrangement in late 2002 following the successful completion of
a series of key development and validation milestones by the
parties initiated during 2002. According to the terms of the
agreement, we will supply AmeriPath with the novel gene-based
probe

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labeled as an ASR that will be incorporated into
an in situhybridization assay developed at AmeriPath.
AmeriPath will initially offer the melanoma assay at its Center
for Advanced Diagnostics facility located in Orlando, Florida.
AmeriPath will have exclusive rights to the assay for clinical
diagnostic testing services subject to certain milestones. The
agreement further contemplates the initiation of additional
research studies by the parties to more broadly assess the
clinical significance of the novel melanoma gene.


An ASR was used in a laboratory developed assay
for melanoma staging at the end of 2002. The introduction of
ASRs that may be used in laboratory developed assays, including
staging and prognostic assays for cervical and breast cancer, is
expected in 2004. The introduction of ASRs that may be used in
laboratory developed assays for the early detection and
monitoring of ovarian, breast, and colon cancer is expected in
2005. In the interim, we are investigating a number of potential
strategic alliances to complement, accelerate and augment the
activities arising from our collaboration with BD.

We do not expect to generate any significant
revenue from our molecular diagnostic products until 2005.
Consequently, our oncology business unit will incur expenses in
excess of revenues generated. Some of these expenses include the
lease of several laboratories at BDs facility in Research
Triangle Park, North Carolina. This arrangement substantially
ended in July 2002 after we occupied newly equipped
laboratory and office space in Research Triangle Park. We do,
however, maintain several small laboratories at the BD facility.

In January 2003, we entered into an
agreement with BMS to provide quantitative tissue based image
analysis in support of BMS oncology therapeutics programs.
The goal of the initial program will be to assess the
pharmacologic effect of a therapeutic agent targeted at treating
epithelial cancers, including cancers of the cervix, breast and
colon. Under the terms of the agreement, we will utilize our
SlideWizard image analysis platform and proprietary software
applications to provide a quantitative assessment of tumor
marker expression levels for tissue samples taken from patients
enrolled in a Phase I clinical trial. The data we generate will
be used to evaluate patient response across varied dosing levels
based on changes in tumor marker expression levels, both before
and after treatment.

Finally, we believe that our automated visual
intelligence technology can be developed for use for other
diagnostic tests that involve microscopic analysis of biological
specimens on glass slides, such as tissue, blood, urine, sputum
or other samples. To develop our technologies for other
applications, we will need to adapt software algorithms to
analyze each of these other samples.

Marketing and Sales

Marketing Strategy

As the development and commercial engine of one
of the broadest based gene discovery programs in cancer
diagnostics in the world, we have a unique opportunity to change
the clinical practice of medicine by developing and
commercializing novel, molecular oncology tests that provide a
more accurate, disease-specific understanding of cancer, thereby
better addressing the needs of clinician medical practitioners
and our primary customer, the patient. These tests will be used
to screen and assist in the diagnosis of the presence of
disease, to assess patient prognosis and outcome more
accurately, to guide therapeutic selection in the management of
certain cancers, and to monitor for disease recurrence.

Historically, diagnostic companies have focused
on changing the laboratory practice of medicine, primarily
through delivering the benefits of automation to laboratories
worldwide. Today, virtually all sectors of the clinical
diagnostics industry have been automated to a significant
extent. The two exceptions to this pattern of rapidly increasing
automation in in vitrodiagnostics have been the
cytopathology and histopathology laboratories, where the
standard of practice is defined by the visual examination and
analysis of cells and tissues. We believe our integrated
cervical cytology screening solutions offer substantial value to
our laboratory customers worldwide today, and that through
continued focus on leveraging our assets and technologies
towards the delivery of novel molecular oncology tests we will
be well positioned to offer the best possible clinical solution
for the patient.

Our marketing strategy is focused on providing
solutions that address the unmet needs of our three broad market
stakeholders: clinical laboratories, clinician and third-party
payors. We increased our marketing efforts

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during the first half of 2002 by directing
resources toward various marketing-related initiatives designed
to promote brand identification and awareness, increase market
acceptance of our products and services and enhance product
management. We have expanded our presence in the marketplace
through increased advertising and promotion, company-sponsored
seminars and trade shows, and peer selling activities. To
further educate and reinforce the benefits of our products, we
initiated a partnership with a third-party physician/peer
selling organization in 2001 that continued into 2002. An
important element of our marketing strategy is to achieve broad
market acceptance of our integrated product consisting of our
SurePath thin-layer slides for cervical cancer screening by the
FocalPoint system. In implementing this strategy, we will seek
to address the needs of the constituencies described below.


Clinician/ OB-GYN.

In 2002, we initiated a number of key initiatives
targeted at physician education activities including continuing
medical education programs. In 2003, we will expand our
physician educational programs for to access a broader and more
focused segmentation. We will also conduct a number of
clinician-related activities including the establishment of a
Clinical Advisory Board and numerous expert panels as forums to
discuss and receive feedback on unmet medical needs, standards
of care, market trends, product concept review and use, and
clinical trials strategies, etc. Finally, we will work toward
cultivating and developing relationships with leading clinicians
to identify current and future potential product areas with the
goal of expanding peer-to-peer selling and influence.

Clinical Laboratory

The standard of practice in the cytopathology and
histopathology laboratories is defined by the visual examination
and analysis of cells and tissues. Cancer, in one of its many
forms, is the disease most often considered and evaluated in
laboratories. Samples being examined are typically tissue
biopsies or Pap smears. The collection and preparation of these
samples have been resistant to the general wave of automation
because they have required human observation and analysis under
a microscope. The observer is required to identify and interpret
what are often very subtle changes within human tissues. These
are often very complex, time consuming, tedious and exacting
tasks. The practices of cytopathology and histopathology remain
largely manual and labor intensive.

Previously, the complex biologic structural, or
morphologic changes exhibited by cancer were considered too
subtle for identification and interpretation by computer or
other automated apparatus. The conventional wisdom was that cell
and tissue diagnosis is an intrinsically qualitative process
that requires subjective visual judgment. However, as the
science of image processing and analysis has matured, it has
become increasingly accepted that these subjective
signals can be redefined in terms of mathematical algorithms.
These algorithms, in turn, provide the basis for computerization
and an automated solution.

As the last frontier for automation in in
vitrodiagnostics, the cytopathology and histopathology
laboratories present a major opportunity. We believe that
automation of these laboratories through computerized image
analysis will:



| |   |                                                                                                                                                             
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | significantly reduce labor costs;                                                                                                                           
|
| |  | drive improved standardization, reproducibility,
    and quality control;                                                                                   
|
| |  | enhance the efficiency of treatment by increasing
    the accuracy and precision of diagnosis; and,                                                         
|
| |  | provide an opportunity to collect digitized
    information to facilitate the development of highly specific and
    targeted outcome patient care programs.

Automated slide preparation and screening
products were introduced into the cervical cancer screening
market in the mid-1990s. We expect to benefit from the increased
awareness and growing acceptance of these new technologies.

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i3 Series Product
Line

We currently market our cervical cytology
products as part of an integrated system and have combined them
under our i3 Series product line, as discussed
above. Our SurePath, PrepStain and FocalPoint systems, together,
provide the only integrated solution for sample preparation,
processing, staining and computerized analysis of liquid based
thin-layer preparations. We began limited international
commercial sales of our PrepStain system in 1993, and commenced
commercialization in the United States following FDA approval in
1999. We began placements of AutoPap QC systems, a predecessor
to the current FocalPoint system, in 1995 and of the FocalPoint
primary screening system in 1998. FocalPoint is the only fully
automated Pap smear screening device to receive regulatory
clearance for marketing in the United States for both thin-layer
and conventional Pap smear slide preparations.

The principal market for gynecological
applications of PrepStain and FocalPoint are clinical
laboratories worldwide. Clinical laboratories are also the
primary focus for patients, physicians and third party payers in
connection with screening for cervical cancer. In an effort to
facilitate the adoption of our products, we have engaged the
necessary sales professionals to educate and promote our
products to each of these groups. Furthermore, we have
contractual relationships with organizations that provide
physician education and third party payer/reimbursement support.
We view these relationships as a necessary extension of our
business given their potential to fuel our growth.

The principal market for non-gynecological
applications of PrepStain is also clinical laboratories
worldwide, although these applications are performed in
significantly lower quantities than cervical cancer screening
applications. Non-gynecological applications for the detection
of cancer are performed on body fluids, including urine samples,
respiratory specimens and a variety of fine-needle aspirates of
specific organs.

Large clinical laboratories.Conventional Pap smear testing has
become a concentrated market in the United States. We believe
that approximately 50% of cervical cancer test volume is
concentrated among a relatively small number of large
laboratories. We believe the PrepStains high throughput
and cost-effectiveness and FocalPoints ability to show
improved specificity over conventional practice will enable us
to market PrepStain and FocalPoint successfully to this
concentrated market segment. Moreover, the pressures associated
with rising health care costs, rising litigation costs, and the
limited supply of qualified cytotechnologists should further
facilitate adoption of PrepStain and FocalPoint by the large
laboratory market.

On March 5, 2003, we announced that we had
entered into a collaboration agreement with Quest Diagnostics
Incorporated (Quest), the largest provider of
diagnostic laboratory testing in the U.S. Under the terms of the
agreement, Quest will begin offering our i3
Series integrated solution for cervical cancer screening,
including our SurePath test pack, our PrepStain slide processor,
and our FocalPoint slide profiler in selected locations. Quest
will evaluate the i3 series relative to its
immediate and future needs for cervical cancer screening. In
addition, it has installed our Tele-pathology system in
two locations and is currently evaluating various aspects of the
systems utility. There can be no assurance that our
agreement with Quest will generate significant revenue. Nor can
we assure that Quest will find our products and services as
effective and efficient in their network of operations.

Academic Centers of Excellence.We expect to continue to build a
franchise among academic centers of excellence and
to continue to add high profile, opinion leaders to our customer
list. We believe these relationships reflect on the quality of
our products. Further, as early adopters of new diagnostic
technologies, the academic centers of excellence will be key
targets for the early introduction of our molecular diagnostic
products.

Medium and small clinical laboratories.We also intend to continue to devote a
portion of our marketing and sales resources to targeting
medium-sized and small clinical laboratories, including, in
particular, laboratories that serve hospitals and local and
regional integrated health care provider networks. These
laboratories are often well integrated into the local health
care management process and delivery continuum and, therefore,
facilitate an integrated sales process that includes the
ordering clinician, the laboratory, and the payer. This is of
particular significance to our strategy for commercializing
molecular diagnostic and pharmacogenomic products and services
that will require significant interaction between the

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laboratory and the clinician. We expect that the
medium-sized and small clinical laboratory segment of the market
will generally utilize our equipment rental programs.


Third-party payers.We have gained a significant level of
market acceptance for our products by third-party payers by
devoting additional resources to the area of reimbursement. We
plan to continue promoting the clinical and economic benefits of
PrepStain and FocalPoint systems to managed care companies ,
major private insurers and other third-party payers. We have
demonstrated that the overall cost savings to the health care
system, resulting from the early detection of cervical cancer
and the decrease in unnecessary repeat Pap smears, biopsies and
colposcopies resulting from improved specimen adequacy, more
than offset the cost of our products. See also Third-Party
Reimbursement below.

Molecular Diagnostic Products

The marketing strategy for the molecular
diagnostic products we are developing is predicated on several
key principles. First, our marker discovery programs are all
driven by clinical specifications developed from an ongoing
analysis of the current standards of care for cancer of the
cervix, breast, ovary and colon. From these analyses, we have
identified areas of clinical need and, therefore, market
opportunity. Second, our product development strategy
comprehends minimal disruption of laboratory workflow and
current practice. We are designing our products to change the
clinical practice of medicine, not the laboratory practice of
medicine. Third, we employ a strategy for commercialization that
includes stacking clinical claims in which we will initially
target defined clinical problems in defined patient populations
to create specific and clearly defined clinical outcomes. Our
strategy comprehends the fact that the commercial opportunity
associated with our products will depend on the extent to which
they impact decisions made and actions taken in the course of
the early detection and clinical management of cancer, and that
the value generated by these products and the attendant level of
reimbursement derived from third-party payers will reflect the
extent to which the products positively impact patient outcome,
both clinical and economic. Fourth, we will employ a strategy
for early commercialization that includes initial introduction
of analyte specific reagents to be used in laboratory developed
assays. Fifth, we will leverage the recognition, relationships,
and infrastructure developed to market and sell our
i3 Series cervical cytology product line to
commercialize our molecular diagnostic products. In effect, the
infrastructure we have developed for our cervical cytology
product line will serve as a conduit for our molecular
diagnostic products.

Sales Strategy

i3
Series Product Line

We generate PrepStain revenue from either the
sale, rental or lease of PrepStain systems and from the sale of
the related SurePath and PrepStain test kits, comprised of
proprietary reagents and other disposables. Additionally, we
generate revenue from service contracts on the PrepStain
systems. For system sales, customers purchase the PrepStain
instrument and make separate purchases of SurePath and PrepStain
test kits. We recognize revenue on sales of the PrepStain system
at the time the system is installed and accepted at the customer
site. For system rentals, also known as reagent rentals, we
place PrepStain systems at the customers site free of
charge and the customer is obligated to purchase SurePath and
PrepStain test kits for a fixed term, typically three or four
years. Under these transactions, there is no revenue recognized
on the PrepStain system hardware. For system leases, we offer
two alternatives. The first alternative involves a lease
arrangement through which we lease the PrepStain system directly
to the customer. These leases require monthly payments for the
system and are typically for 36 or 48-month terms. The customer
purchases the SurePath and PrepStain reagents and disposables
that run on the system separately from the lease on an as-needed
basis. Under these transactions, there is no up front revenue
recognized on the PrepStain system hardware. The second
alternative is known as our IPO program, under which
PrepStain systems are purchased by a third party financial
institution and are placed at the customers site free of
charge. The customer then purchases the SurePath and PrepStain
reagents at a price that is sufficient to repay the financial
institution for the cost of the PrepStain system and to provide
us with an acceptable profit on the reagents and disposables.
Under the IPO program, we record revenue for the system sale at
the time the system is installed and accepted at the customer
site. Since 2001, our strategy has been to emphasize in-house
reagent rentals in

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an effort to permit us to retain a greater
percentage of the ongoing, higher margin PrepStain reagent
revenue stream. Regardless of whether PrepStain systems are
sold, rented or leased, however, each system placed typically
provides a recurring revenue stream as customers process our
SurePath test packs.


We generate FocalPoint related revenue from the
direct sale of FocalPoint systems and from the placement of
FocalPoint systems under fee-per-use contracts. In the latter
case, fee-per-use revenue commences in the month a system is
initially placed in commercial use at a customer site and
consists of per-slide monthly billings, fixed rental billings,
or certain fee-per-use contracts that require minimum payments.
Domestic customers may also elect to lease the FocalPoint system
under the IPO program. Additionally, we generate revenue from
service contracts on FocalPoint systems. We have and will
continue to consider arrangements that may involve the placement
of FocalPoint systems at customer sites free of instrument
charge for increased commitments to purchase our SurePath and
PrepStain test kits.

We also generate revenue from either the sale or
rental of our SlideWizard line of products and from service
contracts on these products. For system sales, customers
purchase the products through distributors in countries where
such relationships exist. Where distributor arrangements do not
exist, we sell these products directly to the customer.

Marketing and Sales Organizations

We currently utilize in excess of 100 full-time
marketing and sales personnel worldwide to market, sell and
provide post-sale support of our products. In addition to
expanding our existing cervical cytology business, our intention
is to leverage our existing sales and marketing capabilities,
our strong relationships with key influential leaders in the
anatomic pathology laboratory and clinician segments, our
customer base among the academic institutions to pioneer the
acceptance of imaging and to accelerate the adoption of analyte
specific reagents for laboratory developed assays in the second
half of 2004.

In the U.S., we have expanded our efforts to
market our cervical cancer screening products through a direct
sales organization focused both on the physician, primarily
OB-GYN and primary care physicians, and laboratory market
segments to optimize awareness and market penetration of our
products. Through an alliance with Nelson Professional Sales
(NPS) begun in late 2000, we targeted the physician
market directly for the first time by adding clinician sales
representatives on a contract basis, to augment our laboratory
sales efforts. The NPS relationship allowed us to quickly
establish a selling presence external to the laboratory and has
served us well. In April 2002, we terminated the agreement
with NPS, simultaneously extended offers of employment to the
majority of the physician representatives and created a direct
physician sales force as a critical element of our commitment to
better focus on the needs of our clinician customers. Concurrent
to this effort, we consolidated our laboratory and clinician
sales organizations under a single management umbrella to
promote efficiency and effectiveness. We have a team of field
based reimbursement specialists who call on U.S. managed care
organizations and other third-party payers to achieve maximum
reimbursement levels and to further stimulate demand for our
products. Where appropriate, we also seek co-marketing
agreements with major clinical laboratories to leverage their
sales capabilities and more effectively market our products
directly to health care providers.

Outside the U.S., with the exception of Canada
where we sell to and service customers through our own sales and
service organization, we market and sell our products primarily
through a distribution network. To support these efforts, we
employ eight full-time personnel, consisting of a sales
director, sales and marketing professionals, managers and
post-sales support personnel located in Europe. Our
international distribution network is comprised of both large
distribution organizations with products focused on the clinical
diagnostic market and smaller organizations with products
focused specifically on the anatomic pathology market.

We offer post-sale support services, including
customer training, product installation, telephone technical
support and repair service directly to customers in the United
States. Our support personnel are located both at our
headquarters and in select major metropolitan areas.
Internationally, we provide these services through our employees
and distributor organizations.

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Manufacturing

FocalPoint

We currently assemble, integrate and test the
electronic, mechanical and optical components and modules of
FocalPoint at our Redmond, Washington facility. Our operations
have produced sufficient FocalPoint systems to meet customer
demand since we began commercial operations in 1996 and we
believe we have sufficient capacity to meet anticipated
near-term customer needs for our FocalPoint and PrepMate
products.

We purchase all components for the FocalPoint
system from outside vendors. Several components of the
FocalPoint system are supplied by sole-source vendors. If any of
these sole-source suppliers are unable to provide an adequate
and constant supply of components, we will need to modify any
components provided by additional or replacement suppliers. We
may be unable to quickly establish additional or replacement
sources of supply for several FocalPoint components. In
addition, we may need to obtain regulatory approval to
substitute certain components.

PrepStain

We currently assemble, test and package
components of PrepStain at our manufacturing facility in
Burlington, North Carolina. We also manufacture our SurePath
preservative fluid and our PrepStain line of reagents and stains
for PrepStain at the Burlington facility. We manufacture
PrepMate, the front-end accessory to the PrepStain, at our
Redmond, Washington facility. We believe that our existing
manufacturing and assembly processes are adequate to meet the
near-term, full-scale production requirements of our SurePath
and PrepStain systems for cervical cancer screening.

We purchase certain PrepStain instrument
components from a single supplier in Europe. The consumable
items used with PrepStain are purchased from a variety of
third-party vendors, some of which are sole-source suppliers. We
have a multi-year, exclusive contract with the supplier of
manufactured instrument components that are incorporated into
our PrepStain product line, which expires in December 2004.
Pricing for components is fixed, but is subject to adjustment
based upon changes in raw material costs. Our obligation to use
this supplier exclusively for the components is contingent upon
this supplier supplying us at prices competitive with those
offered by third parties on similar terms, and upon this
supplier meeting our quality and production requirements. We
believe that the supplier has sufficient capacity to meet our
present and future requirements for these components through the
end of 2004. To address the time beyond that date, we are
undertaking development activities to ensure uninterrupted
supply of PrepStain component parts.

Lean Manufacturing Strategy

During 2002, we reorganized our operations group,
adding management expertise in Lean Manufacturing. Our Lean
Manufacturing strategy incorporates process improvement
methodologies to eliminate non-value adding activities within
the operations area to reduce costs, improve quality and product
delivery. The Lean Manufacturing process improvement strategy
includes tools such as Value Stream Mapping, Kanban Materials
Management and Flow Velocity®. In July 2002, we
successfully completed our first kaizen event in support of Lean
Manufacturing implementation. Value stream driven kaizen events
now occur regularly, at a rate of at least one per month. We
believe these efforts will continuously remove waste and
inefficiencies from our manufacturing processes resulting in
lower costs, improved quality and delivery to our customers.

SlideWizard Products

We currently manufacture the majority of our
SlideWizard product line at our Burlington, North Carolina
facility. We also manufacture a limited number of our
SlideWizard instruments and integrate them into the FocalPoint
GS at our Redmond, Washington facility. We believe we have
sufficient capacity to meet anticipated near-term customer
demand for our SlideWizard product line.

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Our SlideWizard products consist primarily of
off-the-shelf components and proprietary software. The
components are supplied by a variety of vendors, some of which
are sole-source suppliers. We have been integrating and selling
SlideWizard products since 1993.

Molecular Diagnostics

Reagents for our Melastatin detection probe are
manufactured by BD. We believe BD has adequate capacity and
production capability to satisfy customer demand and technical
product requirements. We will consider in-house or third-party
manufacturing of additional molecular diagnostic reagents that
we develop. Our imaging platform hardware will consist primarily
of standard, off-the-shelf, components available from a number
of different suppliers. Integration of the components, software
loading and final testing will be conducted at our manufacturing
facility in Burlington, North Carolina.

Our Suppliers

Several components of our products are supplied
by sole-source vendors. Subject to any of our exclusive
contractual arrangements, we may seek to establish relationships
with additional suppliers or vendors for components of our
products. If any of our current or future sole-source suppliers
are unable to provide an adequate and constant supply of
components, we will need to modify any components provided by
additional or replacement suppliers for use in our products. We
may be unable to quickly establish additional or replacement
sources of supply for several of these components. The
incorporation of new components, or replacement components from
alternative suppliers into our products may require us to submit
PMA supplements to, and obtain further regulatory approvals
from, the FDA before marketing the products with the new or
replacement components. There can be no assurance that we will
be able to obtain the necessary approvals.

Manufacturing Standards

Our manufacturing process is subject to extensive
regulation by the FDA, including the FDAs Quality System
Regulation (QSR, also known as Good Manufacturing
Practice, or GMP) requirements. As part of the FDA
regulatory process, we face periodic FDA inspections and other
periodic inspections by U.S. and foreign regulatory agencies.
See Governmental Regulation. Both the Burlington,
North Carolina and Redmond, Washington facilities are subject to
periodic FDA inspections. Failure to comply with the FDAs
QSR requirements in the future would materially impair our
ability to achieve or maintain commercial-scale production. In
addition, if we are unable to maintain full-scale production
capability, acceptance by the market of PrepStain, SurePath and
FocalPoint would be impaired, which in turn would have a
material adverse effect on our business.

In addition to QSR requirements, we are required
to meet requirements relating to ISO 9001 certification,
including European regulatory requirements. A European
CE certification is required to successfully sell
PrepStain and FocalPoint in Europe according to certain
directives of the European Union. The addition of other European
directives may require us to further demonstrate compliance with
new or modified requirements in order to apply the CE mark
specific to those directives. The OEM supplier of the PrepStain
instrument components has ISO 9001 certification and has
obtained CE certification for the main PrepStain component. We
obtained CE compliance for the entire PrepStain system. The
FocalPoint System is certified to EN55022:94/ CISPR 22,
Class A, EN 50082-1 92, AS/ NZS2064/ CISPR 11, Class A.

We obtained ISO 9001 certification at our
Burlington, North Carolina facility in 1999. Compliance audits
were conducted on our Burlington, North Carolina facility by a
certified ISO auditor in May 2000, January 2001, June
2001, January 2002, June 2002 and December 2002.
We have no outstanding deficiencies related to these compliance
audits. In addition, the Burlington and Redmond manufacturing
facilities are undergoing additional ISO 13845 and 13488
certification audits in order to comply with Canadian
requirements, which became effective on January 1, 2003.
Under the Canadian requirements, third-party certification of
compliance with ISO 13845 and 13488 and Regulation SOR/980282,
as amended, is required.

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We plan on transferring the manufacture of our
PrepMate accessory to our Burlington, North Carolina facility
after we have received FDA approval to do so. In contemplation
of this transfer, our Burlington facility was inspected by the
FDA in late 2002. We have sufficient capacity in our Redmond,
Washington manufacturing facility to maintain an adequate supply
of PrepMate units until approval is received.

Research and Development

Development of Molecular Diagnostic and
Pharmacogenomic Products and Services

Our research and development programs are
currently focused on four major goals:



| |   |                                                                                                                                                                                                                                                                                                                                     
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | development of molecular diagnostic and
    pharmacogenomic products and services for malignant melanoma and
    cancer of the cervix, breast, ovary, and colon through our
    collaboration with BD.                                                                                                                              
|
| |  | continued improvement and streamlining of the
    FocalPoint and FocalPoint GS products;                                                                                                                                                                                                                                            
|
| |  | additional enhancement of the PrepStain system,
    including adjunctive testing using the SurePath preservative
    solution, improvement of related PrepStain reagents and
    disposables, and further streamlining and automating the
    PrepStain slide processor with regard to the preparation and
    handling process; and
|
| |  | development of additional SlideWizard
    applications with scalable automation capabilities to support
    our molecular diagnostic programs , as well as the needs of
    potential strategic partners.                                                                                                                           

TriPath Oncology is developing molecular
diagnostic and pharmacogenomic products and services for
malignant melanoma and cancer of the cervix, breast, ovary, and
colon through our collaboration with BD. The goal of this
research and development program is to develop products that are
designed to identify cancer at its earliest stage and provide
individualized diagnostic and prognostic information for
patients with cancer. We are also seeking alternative
applications for our technologies through internal research and
development, as well as through strategic partnerships with
other companies.

We completed the relocation of BDs
molecular oncology program to temporary facilities in North
Carolina at the end of December 2001. In January 2002, we
signed a multi-year lease for approximately 22,000 square feet
of laboratory and office space to principally house our TriPath
Oncology operations. This space was occupied by TriPath Oncology
personnel in July 2002. TriPath Oncology has assumed
complete responsibility for both assay and instrument
development-related activities.

We introduced an ASR that was used in a
laboratory developed assay for malignant melanoma in the fourth
quarter of 2002 through our collaborative agreement with
AmeriPath, the largest provider of skin pathology services in
the United States. We completed marker discovery and initiated
the development of molecular assays for cervical and breast
cancer in the third quarter of 2002. We anticipate the
introduction of ASRs that may be used in laboratory developed
tissue and cell based assays for the staging of cancer of the
cervix and breast in 2004.

Our product development process for molecular
assays begins with the identification and validation of genomic
molecular markers specific to predetermined clinical outcomes
and specifications. This discovery process, conducted at
Millennium, is based on gene profiling technology that
identifies genes which are uniquely over or under-expressed in
our targeted patient populations. Multiple genes have now been
identified for each of our oncology programs, and it is the
unique combination of genetic markers that we believe will allow
us to develop tests to improve the early detection of cancer and
provide more individualized prognostic information for patients
diagnosed with cancer.

Following gene discovery and initial pre-clinical
validation at Millennium, this genomic information is
transferred to the TriPath Oncology R&D organization to
begin assay development. Our ultimate goal is to change clinical
practice, not laboratory practice. As such, all of our assays
are being developed in commercially accepted formats to
facilitate rapid laboratory adoption. Our cancer screening
assays are being formatted as immunoassay (IA) tests that are
capable of detecting and quantifying multiple secreted markers
(proteins) in blood. Our staging and prognostic assays will
be slide-based utilizing tissue and cytology

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samples, and will allow for precise
quantification of molecular markers (proteins) within the
context of tissue and cellular morphology. For the tissue-based
assays, we are utilizing a standardized, slide-based
immunohistochemistry (IHC) format with colorimetric
bright-field detection. IHC has been routinely practiced in
histology and cytology labs for many years and most labs are
equipped with fully automated staining platforms. For our
cell-based assays, we have adapted the IHC protocol into a
slide-based immunocytochemistry (ICC) format, also with
colorimetric bright-field detection.


All of our assay technology formats (IA, IHC and
ICC) require monoclonal antibody reagents that will bind
specifically to the proteins (markers) which are uniquely
expressed by the genes identified by Millennium. These antibody
reagents are produced and screened at TriPath Oncology in a high
throughput format using our proprietary technology. We first
translate the unique gene sequences identified by Millennium
into antigens using state-of-the-art protein expression systems.
These antigens are then used to produce specific monoclonal
antibodies using mice immunization and cell culture technology.
Each monoclonal antibody is independently validated using
clinical samples with known patient outcome, and markers which
are selected will be combined into a panel which will be
optimized for assay sensitivity and specificity.

The final step in the development process is to
link the molecular assays to our proprietary image analysis
platform. We believe that clinical outcomes will be determined
by subtle differences in gene or protein expression, and that
these subtle differences in gene and protein levels will require
advanced imaging capability for precise quantification and
interpretation. Furthermore, we believe that tissue
architecture, cell morphology, and precise sub-cellular
localization of molecular markers will be an important tool for
accurate cancer staging and prognosis. Therefore, we will adapt
our proprietary image analysis platform to our molecular assays
to allow analysis and quantification of multiple, discrete
molecular markers within the context of tissue distribution and
cellular location.

We are also leveraging our proprietary imaging
technology to develop new collaborations to expand our
commercial opportunities. In early 2003, we entered into an
agreement with BMS to provide quantitative tissue based image
analysis in support of their oncology therapeutics programs
targeted at treating epithelial cancers including cancer of the
cervix, breast and colon. We are utilizing our SlideWizard image
analysis platform and proprietary software applications to
provide a quantitative assessment of tumor marker expression
levels from tissue samples provided by BMS for patients enrolled
in a Phase I clinical trial. The data generated by our work will
be used to evaluate patient response across varied dosing levels
based on changes in tumor marker expression levels, both before
and after treatment.

Improvement
of FocalPoint, FocalPoint GS and PrepStain Products

Enhancements to both FocalPoint and PrepStain are
specifically designed to increase the instruments
efficiency, ease of use, reliability and cost-effectiveness.
This also includes initiatives directed at extending the shelf
life of the SurePath and PrepStain lines of reagents and
preservatives used with the PrepStain system. We also plan to
explore alternative uses for adjunctive testing using our
SurePath preservative fluid and to seek approval for the use of
alternative collection devices in connection with the specimen
collection process related to the PrepStain system.

Development
of Additional SlideWizard Applications

We are continually enhancing our SlideWizard line
of products. We have expanded this product line to a modular
concept which allows rapid prototyping and product development.
The degree of automation for the resulting applications can be
adjusted to the needs of the corresponding market, from
interaction to complete automation. This technology takes
advantage of our intellectual property portfolio and will be
primarily applied to complement the existing portfolio of
applications with new developments focused on gene or protein
based cancer staging and prognostic testing.

There can be no assurance that any product
enhancement or development project that we undertake, either
currently or in the future, will be successfully completed,
receive regulatory approvals or be successfully commercialized.
The failure of any such enhancement or project to be completed,
approved or commercial-

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ized could prevent us from successfully competing
in our targeted markets and could have a material adverse effect
on our business.


As of December 31, 2002, we had
approximately 70 employees engaged in research and development
activities. Our expenditures for research and development were
approximately $8.8 million, $7.3 million, and
$8.5 million for the years ended December 31, 2000,
2001 and 2002, respectively. See additional discussion in
Managements Discussion and Analysis of Financial
Condition and Results of Operations. (Item 7.)

Third-Party Reimbursement

i3
Series

The vast majority of private third-party medical
insurance providers and governmental agencies offer
reimbursement for laboratory testing associated with routine
medical examinations, including Pap smears as part of a wellness
program. In the United States, the level of reimbursement by
those third-party payers for Pap smears varies considerably. On
average, since many payers benchmark coverage and pricing
determination based on Medicare, there has been a general
increase in reimbursement amounts due to recent minimums
established by the Center for Medicare and Medicaid Services
(CMS) which administers Medicare (formerly known as
Health Care Financing Administration, or HCFA). Third-party
healthcare payers in the United States are increasingly
sensitive to containing healthcare costs and heavily scrutinize
new technology. Third-party payers may also influence the
pricing or perceived attractiveness of our products and services
by regulating the maximum amount of reimbursement they provide.
Successful commercialization of PrepStain and FocalPoint for
cervical cancer screening in the United States and some other
countries will depend on the availability of reimbursement from
such third-party payers. Because the up-front costs of using our
products are typically greater than the cost of the conventional
Pap smear, we have worked to convince third-party payers that
the overall cost savings to the health care system, resulting
from early detection of cervical cancer and its precursors will
more than offset the cost of our products.

We have focused on obtaining coverage and
reimbursement from major national and regional managed care
organizations and insurance carriers throughout the United
States. In early 1998, we established a reimbursement team to
work with third-party insurers and managed care organizations to
establish and improve third-party reimbursement rates for our
products. Most third-party payer organizations independently
evaluate new diagnostic procedures by reviewing the published
literature and the Medicare coverage and reimbursement policies
on the specific diagnostic procedures. To assist third-party
payers in their respective evaluations of PrepStain and
FocalPoint, we provide scientific and clinical data to support
our claims of the safety and efficacy of our products. We focus
on improved disease detection and long-term cost savings
benefits in obtaining reimbursement for PrepStain and FocalPoint
for cervical cancer screening.

To date, the PrepStain thin-layer slide
preparation procedures have achieved almost universal coverage
from third-party payors, as has the FocalPoint procedure for the
primary screening of conventionally-prepared slides. Since the
combined procedures of the PrepStain and FocalPoint, as part of
the i3 Series represent an enhancement over
the individual procedures themselves, we anticipate a similar
acceptance from third-party payers for
i3Series and a general compliance with the CMS
Medicare pricing and coverage determination.

In a Program Memorandum to Regional
Intermediaries/ Carriers dated March 14, 2001, CMS announced it
had established National Limitation Amounts (NLA)
for the CPT reimbursement codes that relate to our products. CMS
set the NLA at $28.31 for the manual screening (CPT code 88142)
and re-screening (CPT code 88143) of each liquid-based,
thin-layer prepared using the PrepStain system.

For conventional Pap smears screened by the
FocalPoint system, the national limitation amount
(NLA) is $15.90 for each sample which falls within
the category of slides classified as within normal
limits and requiring no further review, or up to 25% of
all slides screened (CPT code 88147). The NLA for the remaining
75% or more of the slides screened using the FocalPoint system
and requiring further review (CPT code 88148) is $21.23. We do
not believe these limits will adversely impact our current
pricing strategy or reduce the demand for our products.

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In October 2002, the American Medical
Association (AMA) published its official and most
comprehensive coding resource, CPT Professional
2003. Included in the publication are two new
cytopathology CPT codes, 88174 and 88175. These two new codes
for automated thin layer preparation screened by an automated
system had been announced by the Centers for Medicare &
Medicaid Services (CMS) in September 2002.
These CPT codes are applicable to the combined use of our
SurePath slides screened using our FocalPoint slide profiler. To
our knowledge, we are presently the only company to offer
laboratories an FDA-approved automated screening system that can
be utilized to evaluate both thin-layer slide preparations and
conventional Pap smears on a single computerized platform. The
NLA for the new codes was cross-walked from the
previous pricing structure for conventional smears and was
recommended at up to $29.85 for the No Further
Review category and up to $37.01 for the
Review category; both levels represent a premium to
the current $28.31 national limitation rate for manually
screened thin-layer slides. CMS issued a Program Memorandum
(PM) with instructions on the 2003 Clinical
Laboratory Fee Schedule to its carriers and intermediaries on
November 8, 2002. The PM is available on CMS website.
This PM includes the final payment determinations for the new
tests performed under the new CPT codes. The 2003 Medicare
Clinical Laboratory Fee Schedule became effective for services
delivered from January 1 to December 31, 2003.

Typically, third party reimbursement for
laboratory testing is based upon the level of technical
complexity required to perform the test. When new tests are
introduced, laboratory managers will typically select from the
existing CPT codes that best describe the test procedure. In
those instances where existing CPT do not adequately describe
the test or support the cost of performing the procedure,
manufacturers may apply for new CPT codes that, when granted,
are assigned NLAs as described above. Although we are developing
our novel molecular oncology assays in standard technology assay
formats to accelerate laboratory acceptance, it is likely that
existing CPT codes may not adequately describe our tests or
support the cost of performing the procedures. For each of our
molecular oncology products we are conducting analyses to assess
the appropriateness of multiple CPT coding scenarios based on
existing CPT codes. In addition, we are developing economic
models to measure the cost-benefit to third party payers to
support the implementation and use of our tests. Based on the
results of these analyses we will determine whether we will seek
to apply to CMS for new CPT codes as described above.

Proprietary Technology and Intellectual
Property

We currently hold over 110 issued or allowed
United States patents and have six United States patent
applications pending. We also hold over 100 foreign patents and
have applied for patent protection for certain aspects of our
technology in various foreign countries. We acquired many of
these patents in the merger of AutoCyte and NeoPath and the
acquisition of the intellectual property and technology of
Neuromedical Systems, Inc. We further expanded our patent
portfolio through the acquisition of the intellectual property
of Cell Analysis Systems from BD in September 1999. Our
patents cover system components, such as the disaggregation
syringe, the PrepStain process, and various aspects of our
high-speed image-interpretation technology, as applied to
cytopathology and histopathology. Because of the substantial
length of time and expense required to bring new products
through development and regulatory approval to the marketplace,
we rely on a combination of patents, trade secrets, copyrights
and confidentiality agreements to protect our proprietary
technology, rights and know-how. We intend to continue to pursue
patent protection where it is available and cost-effective, both
in the United States as well as in other countries. Most of our
existing United States and foreign patents will expire between
2012 through 2019. A few of our foreign patents will expire as
early as 2003. There can be no assurance, however, that the
claims allowed in any of our existing or future patents will
provide competitive advantages for our products, or will not be
successfully challenged or circumvented by our competitors.

Our molecular oncology program focuses on
developing and commercializing diagnostic and pharmacogenomic
tests to improve the early detection and clinical management of
cancer. The core products we are developing through our
collaboration with BD will be based upon proprietary genomic and
proteomic markers identified through discovery research,
conducted at Millennium, under its existing research and
development agreement with BD. We have sublicensed certain of
BDs rights to the proprietary markers. We

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will identify and clinically validate novel
molecular marker panels, which will be used in developing
molecular assays which will produce molecular profiles
descriptive of clinical phenotype and patient outcome. Multiple
genes have now been identified for each of our oncology
programs, and it is the unique combination of the genetic
markers that we believe will allow us to develop tests to
improve the early detection of cancer and provide more
individualized prognostic information for patients diagnosed
with cancer. We will seek United States and foreign patent
protection for the molecular marker panels that we discover and
other inventions based on the markers and our product
development process.


Under current law, patent applications in the
United States and in foreign countries are generally maintained
in secrecy for a period after filing. The right to a patent in
the United States is attributable to the first to invent, not
the first to file a patent application. We cannot be sure that
our products or technologies do not infringe patents that may be
granted in the future pursuant to pending patent applications or
that our products do not infringe any patents or proprietary
rights of third parties. There can be no assurance that a court
would rule that our products do not infringe other third-party
patents or would invalidate such third-party patents. We may
incur substantial legal fees in defending against a patent
infringement claim or in asserting claims of invalidity against
third parties.

In the event that we are determined to be
infringing any claims of third-party patents and such claims are
upheld as valid and enforceable, we may be required to pay
damages, prevented from selling our products, required to obtain
a license from the owners of such patents or required to
redesign our products to avoid infringement. There can be no
assurance that such licenses would be available or, if
available, would be on terms acceptable to us or that we would
be successful in any attempt to redesign our products or
processes to avoid infringement. Our failure to obtain these
licenses or to redesign our products would have a material
adverse effect on our business, financial condition and results
of operations.

We have entered into confidentiality agreements
with all of our employees who we believe should sign such
agreements, and several of our consultants and third-party
vendors. These agreements also require employees and consultants
to disclose to us ideas, developments, discoveries or inventions
they conceive during employment or consultation. They also must
assign any proprietary rights in any inventions conceived or
developed while employed by us if such relate to our business
and technology. These agreements may not provide meaningful
protection for our confidential information if there is
unauthorized use or disclosure of our proprietary information.
There can be no assurance that the obligations of our employees
and consultants and third parties with whom we have entered into
confidentiality agreements to maintain the confidentiality of
trade secrets and proprietary information will effectively
prevent disclosure of our confidential information. There also
can be no assurances that our trade secrets or proprietary
information will not be independently developed by our
competitors.

We have registered trademarks in the United
States for AutoCyte®, AutoCyte Quic®, AutoPap®,
CytoRich®, ImageTiter®, PapMap®, PrepMate®,
SlideWizard®, and TriPath Imaging®. We have pending
U.S. trademark registrations for i3
Series, FocalPoint, PrepStain, SurePath,
TriPath Care Technologies, and TriPath Oncology.
International registered trademarks are maintained in Argentina,
Australia, Brazil, Canada, Chile, China, European Union, Hong
Kong, Indonesia, Israel, Japan, Malaysia, Mexico, Russian
Federation, Singapore, South Africa, Switzerland, Taiwan, and
Thailand for several of our trademarks. We are currently
pursuing international trademark registrations for
FocalPoint, PrepStain, SurePath, and TriPath
Care Technologies. In addition to trademark activity, we
issue a copyright notice on all of our documentation and
operating software. There can be no assurance that any
trademarks or copyrights that we own will provide competitive
advantages for our products or will not be challenged or
circumvented by our competitors. Litigation may be necessary to
defend against claims of infringement, to enforce patents,
trademarks and copyrights, or to protect trade secrets and could
result in substantial cost to, and diversion of effort by us.
There can be no assurance that we would prevail in any such
litigation. In addition, the laws of some foreign countries do
not protect our proprietary rights to the same extent, as do the
laws of the United States.

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Competition

Commercial Operations

The cervical cancer screening market is comprised
of the conventional Pap smear process and certain technologies
that have been introduced in recent years, or are currently
under development to provide improvements over the conventional
Pap smear process. Our competitors in the development and
commercialization of alternative cervical cancer screening
technologies include both publicly traded and privately held
companies. Alternative technologies known to us have focused on
improvements in slide sample preparation, the development of
automated, computerized screening systems and adjunctive testing
technologies. Nevertheless, some competitors products have
already received FDA approval and are being marketed in the
United States. In addition, one of our competitors has greater
financial, marketing, sales, distribution and technical
resources than us, and more experience in research and
development, clinical trials, regulatory matters, customer
support, manufacturing and marketing.

We believe that our products compete on the basis
of a number of factors, including slide specimen adequacy,
screening sensitivity, ease of use, efficiency, cost to
customers and performance claims. We believe a fully automated
solution incorporating collection, preparation, staining, and
computerized imaging for liquid based thin-layer preparations is
required for sustaining our competitive advantage. While we
believe that our products will have competitive advantages based
on some of these factors, there can be no assurance that our
competitors products will not have competitive advantages
based on other factors, including earlier market entry, which
may adversely affect market acceptance of our products.
Moreover, there can be no assurance that we will be able to
compete successfully against current or future competitors or
that competition, including the development and
commercialization of new products and technologies, will not
have a material adverse effect on our business. Our products
could be rendered obsolete or uneconomical by technological
advances of our current or potential competitors, the
introduction and market acceptance of competing products, or by
other alternative approaches for cervical cancer screening.

Our primary competitor in thin-layer slide
preparation is Cytyc Corporation. Cytycs systems, the
ThinPrep 2000 and ThinPrep 3000 Processors, are based on a
membrane-filtration separation system rather than the density
gradient and centrifugation approach used in our PrepStain
process. The Cytyc ThinPrep systems are presently the only other
thin-layer sample preparation systems approved by the FDA as a
replacement for the conventional Pap smear. They are also used
for non-gynecological applications. Additionally in Europe there
are a few small thin-layer competitors offering a manual method
liquid based product. Currently these manufacturers have very
little market share and are not actively pursuing FDA approval
for their products. Nonetheless, they are creating competitive
activity in France and in several other countries.

In addition, in October 1996, Cytyc
originally announced a non-exclusive co-marketing agreement
(subsequently made exclusive) with Digene Corporation. In
September 1997, the FDA approved PMA supplements submitted
by Cytyc and Digene enabling testing for HPV directly from
Cytycs ThinPrep process cell suspension. We began working
with Digene on a PMA supplement application for use of our
SurePath cell suspension with Digenes HPV test in the
United States. In July 2002, Digene informed us that it had
received a not approvable letter from the FDA for
its Pre-Market Approval Supplement application to use our
SurePath test pack as a specimen collection medium for its
Hybrid Capture® 2 (hc2) HPV DNA Test. We are working with
Digene and have taken a leadership role in discussions with the
FDA to resolve and respond to the issues identified in the
letter. We remain hopeful that resolution of the issues
identified by the FDA will not significantly alter our
expectations for submission to the FDA in mid-2003. Failure to
obtain this approval, however, will likely impact our ability to
most effectively compete in the liquid-based Pap smear testing
market. In Europe, our SurePath product is already in routine
use with Digenes HPV test.

In January 2000, Cytyc and Quest Diagnostics
announced a multi-year agreement naming ThinPrep as the
exclusive liquid-based cervical cancer screening methodology for
Quest. Exclusivity related to this agreement expired in
December 2002. In October 2000, Cytyc announced an
exclusive U.S. strategic alliance for womens health with
Roche Diagnostics. In 2002, Cytyc announced that exclusivity
related to this agreement had been discontinued. Further, in
January 2001, Cytyc announced an exclusive co-promotion

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agreement with Digene surrounding the use of
Digenes HPV test using the Cytyc preservative solution. It
is our understanding that this agreement expires in
June 2003.


In February 2002, Cytyc and Digene announced
their intention to merge. The proposed transaction was subject
to review by the U.S. Federal Trade Commission (FTC)
under the Hart-Scott-Rodino Antitrust Improvements Act of 1976.
On June 24, 2002 the FTC authorized staff to seek a preliminary
injunction to block the merger. Cytyc subsequently terminated
its merger agreement with Digene on July 1, 2002.

We also face several competitors, or potential
competitors, in the imaging field. To date, the FocalPoint
system is the only FDA-approved device for the automated primary
screening of PrepStain, thin-layer and conventional Pap smear
slides. In December 2002, Cytyc announced that it had
received an Approvable Letter from the FDA for a
computer assisted device for use with slides prepared using its
slide preparation systems. An Approvable Letter usually
represents the final step before a product receives FDA
clearance for marketing in the United States. In the letter, the
FDA stated that the application for Cytycs imaging system
is approvable subject to the FDAs inspection of
Cytycs manufacturing facility. Other competitors include
ChromaVision Medical Systems, Inc., which develops, manufactures
and markets an automated cellular imaging system to assist in
the detection, diagnosis and treatment of cellular diseases such
as cancer and infectious disease, and Applied Imaging
Corporation, which develops and markets automated genetic
testing systems and imaging systems used in cancer pathology and
research which are capable of sending digital images
electronically for remote review and consultation. In 2002,
ChromaVision entered into an agreement with Ventana Medical
Systems, Inc., to co-market their imaging device with
Ventanas test for detection of human papilloma virus in
slides prepared from cervical smears.

TriPath Oncology

Competition in the field of cancer diagnostic
products is concentrated in a few areas and is expected to
further intensify. Aside from mammography screening for breast
cancer, the in vitrocancer diagnostics market consists
primarily of tumor marker immunoassays. The cancer immunoassay
market encompasses a number of blood-based tumor marker tests
that are utilized extensively to assess therapeutic response and
monitor for disease recurrence but have limited applications for
screening due to their lack of sensitivity and specificity.
Currently, prostate specific antigen (PSA) is the only
blood based tumor marker that is universally utilized for cancer
screening. Among the companies competing in the tumor marker
immunoassay market are Abbott Diagnostics, Bayer Diagnostics,
Roche Diagnostics, Ortho Clinical Diagnostics, Beckman-Coulter
and Dade-Behring.

We believe that genomic and proteomic-based
assays will likely provide a more accurate, disease-specific
understanding of cancer to improve the clinical management of
cancer. Although there are a number of companies that are
investing in genomic and proteomic discovery research, few have
invested as broadly in the cancer diagnostics area as we have
through our relationship with BD. We view our primary
competitors in this area to be Abbott Diagnostics, Bayer
Diagnostics, and Roche Diagnostics. Abbott Laboratories, through
its acquisition of Vysis, Inc., develops and markets clinical
laboratory products targeting DNA chromosomal and genomic
abnormalities for cancer and pre- and post-natal genetic
disorders. Bayer Diagnostics and Roche Diagnostics operate in
the immunoassay and tumor marker markets.

In addition to immunoassay based tests, we
believe the staging, prognosis and prediction of outcomes will
also be heavily influenced by the assessment of special stains
utilizing immunohistochemical (IHC) and in situhybridization techniques on tissue specimens. The primary
companies currently competing in this area Dako Corporation and
Ventana Medical Systems. Both companies specialize in automated
IHC staining instrumentation and offer a wide range of validated
IHC tumor markers.

We also have several competitors with competing
technology in the molecular diagnostics field. TriPath Oncology
faces a host of competition from companies such as Roche
Diagnostics, Abbott Laboratories, EXACT Sciences Corporation,
Correlogics Systems, Inc., Celera Diagnostics, and Bayer
Diagnostics, all of which have announced active programs in this
area. There can be no assurance that these or other competitors
will not succeed in developing technologies and products that
are more effective, easier to use or less expensive that those
which we currently offer or are developing, or that would render
our technology and products

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obsolete. In addition, these or other competitors
may succeed in obtaining FDA and other regulatory clearances and
approvals of their products more rapidly than we do.


Government Regulation

The manufacture and sale of our medical
diagnostic devices is subject to extensive governmental
regulation in the United States and in other countries where we
sell our products. In addition, our research and development
activities in the United States are subject to various health
and safety, employment and other laws and regulations.

United States FDA Approval

PrepStain and FocalPoint are regulated for
cervical cytology applications in the United States as medical
devices by the FDA under the Food, Drug and Cosmetic Act
(FDC Act) and require pre-market approval by the FDA
prior to commercial distribution. In addition, certain
modifications to the design, performance, manufacturing process
or labeling of medical devices are subject to FDA review and
approval before marketing. Pursuant to the FDC Act, the FDA
regulates the clinical testing, manufacture, labeling,
distribution, record keeping, reporting, sales, marketing,
advertising and promotion of medical devices in the United
States. Noncompliance with applicable requirements, including
good clinical practice requirements and QSR requirements, can
result in the refusal of the government to grant pre-market
approval for devices, suspension or withdrawal of clearances or
approvals, total or partial suspension of production,
distribution, sales and marketing, fines, injunctions, civil
penalties, recall or seizure of products, and criminal
prosecution of a company, its officers and employees.

Medical devices are classified into one of three
classes, Class I, II or III, on the basis of the controls
deemed by the FDA to be necessary to reasonably ensure their
safety and effectiveness. Class I devices are subject to
general controls (e.g., labeling and adherence to FDA-mandated
quality system requirements, including QSR, and, in some cases,
pre-market notification (510(k)). Class II
devices are subject to general controls including, in most
cases, pre-market notification, and to special controls (e.g.,
performance standards, patient registries and FDA guidelines).
Generally, Class III devices are those that must receive
pre-market approval by the FDA to ensure their safety and
effectiveness (e.g., life-sustaining, life-supporting and
implantable devices) and also include most devices that were not
on the market before May 28, 1976, known as new
medical devices, and for which the FDA has not made a
finding of substantial equivalence based on a
pre-market notification. Class III devices usually require
clinical testing that demonstrates the device is safe and
effective, and must have FDA approval prior to marketing and
distribution. The conduct of clinical studies is subject to FDA
regulations, including requirements for institutional review
board approval, informed consent, record keeping, and reporting.
Our PrepStain and FocalPoint products, when intended for
gynecological use, are regulated as Class III medical
devices. In addition, the FDA has developed special rules for
in vitrodiagnostic devices, including restrictions on
the sale and use of analyte specific reagents
(ASRs). Products that we develop now and in
the future may be subject to these and other applicable FDA
regulations.

Device manufacturers are required to register
their establishments and list their devices with the FDA and to
provide periodic reports containing information on safety and
effectiveness. The FDC Act requires that medical devices be
manufactured in accordance with the FDAs QSR requirements.
PrepStain and FocalPoint and any other products that we
manufacture or distribute pursuant to an approved PMA
application and any supplements, or pursuant to 510(k)
clearances, or as ASRs, are and will be subject to
pervasive and continuing regulation by the FDA, including
record-keeping requirements and reporting of adverse experience
with the use of the device. We have established and maintain a
system for tracking FocalPoint and PrepStain systems through the
chain of distribution and conduct post-market surveillance.
Product labeling and promotional activities are also subject to
scrutiny by the FDA and, in certain instances, by the Federal
Trade Commission. We and our distributors may only promote
products for their approved indications. If the FDA requires us
to make modifications to our product labeling in the future,
these changes may adversely affect our ability to market or sell
PrepStain, FocalPoint or any of our other products.

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To this end, we are subject to both routine and
directed inspections by the FDA for compliance with regulations
with respect to control activities, manufacturing, testing,
distribution, storage, product labeling and promotions
activities. We have been periodically inspected by the FDA at
both our Burlington, North Carolina and Redmond, Washington
facilities. In 2002, we were inspected at our Burlington
facility with respect to our advertising and promotional
activities, our manufacturing activities relative to a
contemplated move of PrepMate manufacture from our Redmond to
our Burlington facility and other aspects of our manufacturing
operations. We have not as yet received a report from the FDA
regarding the results of this inspection and cannot be assured
that the FDA will not raise issues in their report on their
inspection which would have an adverse effect on our selling
and/or manufacturing activities.

In addition, the FDAs Medical Device
Reporting regulations require medical device companies to
provide information to the FDA whenever evidence reasonably
suggests that a device may have caused or contributed to a death
or serious injury. These regulations also apply if the device
malfunctions and the device or a similar device sold by the
company would be likely to cause or contribute to a death or
serious injury if the malfunction were to recur.

If the FDA believes that we have not complied
with the law, it can take one or more of the following actions:



| |   |                                                                                                                                                                       
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | refuse to review or clear applications to market
    our products in the United States;                                                                               
|
| |  | refuse to allow us to enter into government
    supply contracts;                                                                                                     
|
| |  | withdraw approvals already granted;                                                                                                                                   
|
| |  | require that we notify users regarding newly
    found risks;                                                                                                         
|
| |  | request repair, refund or replacement of faulty
    devices;                                                                                                          
|
| |  | request corrective advertisements, recalls or
    temporary marketing suspension; or                                                                                  
|
| |  | initiate legal proceedings to detain or seize
    products, enjoin future violations, or assess civil or criminal
    penalties against us, our officers or employees.

These actions could seriously disrupt our
operations for an indefinite period of time.

In June 1999, as a condition of the approval
of the PrepStain system by the FDA, we were required to report
results of a direct to vial study of PrepStain in our periodic
post-approval reports. We worked in collaboration with the FDA
to design the clinical study protocol and subsequently initiated
the study following FDA approval of the protocol in
August 2000. In October 2002, the FDA approved our request
for early termination of this post-approval study based on the
strength of the data collected. In its approval order, the FDA
stated that it considered the conditions for approval to have
been satisfied.

Environmental, Health, Safety and Other
Regulations

We also are subject to numerous federal, state
and local laws relating to such matters as safe working
conditions, manufacturing practices, environmental protection,
fire hazard control and disposal of hazardous or potentially
hazardous substances. Our manufacturing activities involve the
use, storage, handling and disposal of hazardous materials and
chemicals and, as a result, we are required to comply with
regulations and standards of the Occupational Safety and Health
Act and other safety and environmental laws. Although we believe
that our activities currently comply with all applicable laws
and regulations, the risk of accidental contamination or injury
cannot be completely eliminated. In the event of such an
accident, we could be held liable for any damages that result,
which could have a material adverse effect on our business,
financial condition and results of operations. Further, we can
give no assurance that we will not be required to incur
significant costs to comply with such laws and regulations in
the future, or that such laws or regulations will not have a
material adverse effect upon our business, financial condition
and results of operations.

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Foreign Regulatory Approval

Sales of medical devices outside of the United
States are subject to foreign regulatory requirements that vary
widely from country to country. The time required to obtain
approval by a foreign country may be longer or shorter than that
required for FDA approval, and the requirements may differ. No
assurance can be given that such foreign regulatory approvals
will be granted on a timely basis, or at all. We have been
advised by various parties, including consultants we engaged and
foreign distributors, that no regulatory approvals for a device
analogous to FDA approval of a PMA are currently required by any
country where we currently sell PrepStain. Such approval
requirements may be imposed in the future. In addition to
regulatory approvals in the United States, the FocalPoint system
is approved or accepted for primary screening and quality
control re-screening in Japan, Canada, Australia, Germany,
Belgium, the United Kingdom, Ireland, Switzerland, Denmark,
Italy, Hong Kong, South Korea, and Taiwan. Placements of
FocalPoint are also possible in The Netherlands, France, and
many other countries where cervical screening is performed. In
September 2001, we announced receipt of a Medical Device
License in Canada to market both our PrepStain system and the
PrepMate accessory. We intend to pursue additional product
registrations in other foreign countries. We received an FDA
permit to export PrepStain and FocalPoint to all foreign
countries in which we are currently selling these products and
where such a permit was required. There can be no assurance that
we will meet the FDAs export requirements or receive
additional FDA export approval when such approval is necessary,
or that countries to which the devices are to be exported will
approve the devices for import. Our failure to meet the
FDAs export requirements or obtain FDA export approval
when required to do so, or to obtain approval for import, could
have a material adverse effect on our business, financial
condition and results of operations.

Our products are subject to a variety of
regulations in Europe, including the European Union. In vitromedical devices, including the FocalPoint system, must now
comply with the EUs In-Vitro Diagnostic Medical Devices
Directive (IVDD). In addition, Canadian regulations
have similar, but distinct, requirements as those noted for the
EUs IVDD which also became effective January 1, 2003.
Efforts are underway to ensure our compliance with those
requirements in order to continue to meet the customers
needs in the Canadian market segment as well. The Directive was
published in the Official Journal of European Communities in
December 1998. The EU member states were required to
implement the Directive into national law by December 1999.
A transition period, which began on from the date of publication
of the Directive and ends December 2003, applies to all
devices placed on the market in the EU. During this transition
period, both Directive CE-marked and non-CE-marked devices may
be placed on the market. In other words, companies may choose to
follow either the CE mark or the national legislation, if any.
If no such national legislation exists, the devices can be
freely placed on the market. By the end of this transition
period, our products must comply with the requirements of the
Directive and member-state local language requirements. At such
time, products not bearing the CE mark may not be commercially
distributed in European Union member countries. In addition,
member states may continue to restrict or prohibit the marketing
of CE-marked devices pursuant to the safeguard clause of the
Directive if the member state determines a particular device may
compromise the health and/or safety of patients or users. We
intend to comply with the Directive and other applicable
regulations in accordance with the requirements of the countries
in which we market and sell our products. Complying with the
Directive will encompass, in no small part, providing our
products with instructions for use in multiple languages.

Other European countries may enact national laws
that would conform to the Directive. Member states of the EU and
the European Economic Area may enact requirements in addition to
those imposed by the Directive. Some European countries have
established national regulations relating to in vitrodiagnostic medical devices. EU directives and national laws
impose requirements for electrical safety and electromagnetic
compatibility that apply to the PrepStain system, PrepMate, and
the FocalPoint system. We have performed the requisite testing
procedures and related documentation to apply the European CE
mark to the FocalPoint, PrepStain and PrepMate systems. We
cannot guarantee that the FocalPoint system or any other product
we may develop will receive any required regulatory clearance or
approval on a timely basis, if at all.

Congress has directed the Department of Health
and Human Services to issue regulations designed to improve the
quality of biomedical analytic services, particularly the
examination of Pap smears. These regulations require clinical
laboratories to randomly re-screen at least 10% of the Pap
smears classified on

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initial manual screen as normal. This 10% must
include normal cases selected from the laboratorys total
caseload, and from patients or groups of patients that have a
high probability of developing cervical cancer based on
available patient information. Laboratories that purchase our
PrepStain and FocalPoint products, or our ASRs, are
subject to extensive regulation under the Clinical Laboratory
Improvement Act of 1988, as amended (CLIA), which requires
laboratories to meet specified standards in the areas of
personnel qualifications, administration, participation in
proficiency testing, patient test management, quality control,
quality assurance and inspections. We believe that our PrepStain
and FocalPoint products operate in a manner that will allow
laboratories using our products to comply with CLIA
requirements. However, there can be no assurance that
interpretations of current CLIA regulations or future changes in
CLIA regulations would not make compliance by the laboratory
difficult or impossible and therefore have an adverse effect on
sales of our products.


In addition, laboratories often must comply with
state regulations, inspection, and licensing. In recent years, a
few states, including New York and California, have adopted
regulations that limit the number of slides that may be manually
examined by a cytotechnologist within a given period of time. We
cannot guarantee that states will not directly regulate
FocalPoint in the future, nor can we predict the effect, if any,
new regulations may have on our business or operations.

Product Liability

Commercial use of any of our products may expose
us to product liability claims. We currently maintain general
liability and product liability insurance coverage and believe
that the amount of such coverage is adequate to meet our present
needs. The medical device industry has experienced increasing
difficulty in obtaining and maintaining reasonable product
liability coverage, and substantial increases in insurance
premium costs in many cases have rendered coverage economically
impractical. To date, we have not experienced difficulty
obtaining an amount of insurance coverage commensurate with our
level of sales. As our sales expand, however, there can be no
assurance that our existing product liability insurance will be
adequate or that additional product liability insurance will be
available to us at a reasonable cost, or that any product
liability claim would not have a material adverse effect on our
business, financial condition and results of operations.

Employees

As of December 31, 2002, we employed
approximately 270 people on a full-time basis. We believe that
relations with our employees are good. None of our employees are
party to a collective bargaining agreement.

Item 1A. Executive Officers of the
Registrant

Our current executive officers are as follows:

|                        |  |     |    |          |  |                                                                 
|----------------------- |  | --- | -- | -------- |  | ----------------------------------------------------------------
|Name                    |  | Age |    | Position
|                        |  |     |    |         
|Paul R. Sohmer, M.D.    |  |     | 54 |          |  | President, Chief Executive Officer and Chairman
    of the Board
|Stephen P. Hall         |  |     | 52 |          |  | Senior Vice-President, Chief Financial Officer                  
|Ray W. Swanson          |  |     | 47 |          |  | Senior Vice-President, Commercial Operations                    
|Johnny D. Powers, Ph.D. |  |     | 41 |          |  | Vice-President and General Manager, TriPath
    Oncology        

Paul R. Sohmer, M.D.has served as our Chairman of the
Board of Directors since November 2000, and as our
President and Chief Executive Officer since June 2000.
Prior to joining us, Dr. Sohmer served as the President and
Chief Executive Officer of Neuromedical Systems, Inc. from 1997
through 1999. From 1996 until 1997, Dr. Sohmer served as
President of a consulting firm which he founded. From 1993 to
1996, he served as President and Chief Executive Officer of
Genetrix, Inc., a genetic services company based in Scottsdale,
Arizona. From 1991 through 1993, Dr. Sohmer was the
Corporate Vice-President of Professional Services and President
of the Professional Services Organization for Nichols Institute,
a clinical laboratory

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company, where he was responsible for sales,
marketing, information systems, logistics, and clinical studies.
From 1985 until 1991, Dr. Sohmer served as the President
and Chief Executive Officer of Pathology Institute in Berkeley,
California, during which time he founded and served as Medical
Director of the Chiron Reference Laboratory. Dr. Sohmer received
a B.A. degree from Northwestern University and an M.D. from
Chicago Medical School.


Stephen P. Hallhas
served as our Senior Vice-President and Chief Financial Officer
since September 2001. Prior to joining us, Mr. Hall
served as Chief Financial Officer and President of the Imaging
and Power System Division of Colorado Medtech, Inc., a
Colorado-based medical products and services company, from
September 1999 until August 2001. From
September 1993 to January 1999, he served as Chief
Financial Officer for BioTechnica International, Inc., a
publicly held agricultural products company, as well as
privately held operating companies in the software development,
wireless communication equipment and food processing machinery
industries. Mr. Hall spent nine years in the commercial
banking industry and four years with the accounting firm of
Peat, Marwick, Mitchell & Co. He earned a A.B. degree from
Harvard College and an MBA from the Stanford Graduate School of
Business.

Ray W. Swansonhas
served as our Senior Vice-President of Commercial Operations
since May 2001. Prior to joining us, he served as General
Manager of e-Business for Dade Behring, one of the worlds
largest clinical diagnostics companies. Mr. Swanson held a
number of senior management positions at Dade Behring and its
predecessor companies since 1987. From 1997 to 1999, he was the
general manager responsible for the introduction and market
development of Dades platelet function business. As
President of Dades Japanese subsidiary from 1994 to 1997,
he was a member of the management team that purchased Baxter
Internationals diagnostics businesses and created Dade
International as a privately held, stand-alone company. Prior to
1987, he held positions with Johnson and Johnson, American
Hospital Supply Corporation, Solvay (a global chemical and
pharmaceutical company) and Washington University School of
Medicines Department of Anatomy and Neurobiology.
Mr. Swanson has B.S. and M.S. degrees in zoology from
Eastern Illinois University and an MBA from the University of
Iowa.

Johnny D. Powers, Ph.D.has served as Vice-President and
General Manager of TriPath Oncology since July 2002. From
November 2001 to June 2002, Dr. Powers served as
our Vice-President of Manufacturing Operations and Product
Development in our Commercial Operations segment. Prior to
joining us, he held a number of senior management positions at
Ventana Medical Systems, most recently serving as Vice President
and General Manager of Manufacturing Operations. Prior positions
held at Ventana include Vice President and General Manager of
Worldwide Strategic Marketing and Vice President of the
Molecular Diagnostics Business Unit. Prior to 1996,
Dr. Powers held various management positions at Organon
Teknika Corporation, including Director of BioManufacturing and
Manufacturing Technologies. Dr. Powers has a B.S. degree in
Chemistry from Wake Forest University, a M.S. degree in Chemical
Engineering from Clemson University, a Ph.D. in BioChemical
Engineering from North Carolina State University and an MBA from
Duke University.

Item 2.     Properties

We currently lease a total of 43,000 square feet
of space devoted to manufacturing, warehousing, administrative,
research and development and engineering functions at 780
Plantation Drive, Burlington, North Carolina under a seven-year
lease expiring in July 2005. The lease is renewable for
five additional one-year terms. We lease approximately 72,000
square feet of office and manufacturing space in Redmond,
Washington under operating leases expiring in
December 2004. Of this space in Redmond, we sublease
approximately 30,000 square feet as sub-lessor. We also
currently lease approximately 10,000 square feet to serve as
educational and corporate office space at 1111 Huffman Mill Road
in Burlington, North Carolina under a three-year lease expiring
in June 2004. This facility lease contained an option to expand
the leased space by 4,500 square feet, which we exercised in
June 2001. We also lease office space in Brussels, Belgium,
under an operating lease expiring in August 2007. We lease
approximately 22,000 square feet near the Research Triangle Park
area, in Durham, North Carolina devoted primarily to the
activities of TriPath Oncology. This lease has a seven-year term
expiring in 2009. We believe that our facilities and other
available office space are adequate for our current and future
planned needs.

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Item 3.     Legal
Proceedings

We are involved in various legal proceedings in
the ordinary course of our business. In our opinion, we do not
expect the ultimate outcome of the legal proceedings to have a
material adverse effect on our financial condition or our
results of operations.

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

There were no matters submitted to a vote of
security holders of the Company during the fourth quarter of the
fiscal year ended December 31, 2002.

PART II

Item 5.     Market
for Registrants Common Equity and Related Stockholder
Matters

Our Common Stock, $0.01 par value per share, is
traded on the Nasdaq National Market under the symbol
TPTH. The following table sets forth, for the
calendar periods indicated, the range of high and low bid and
ask prices for our Common Stock on the Nasdaq National Market.
These prices do not include retail mark-up, mark-down or
commissions and may not represent actual transactions.

|                              |  |      |        |     |  |   |       | 
|----------------------------- |  | ---- | ------ | --- |  | - | ----- | 
|                              |  | High |        | Low
|                              |  |      |        |    
|Year ended December 30, 2001: |  |      |        |     |  |   |       | 
|First Quarter                 |  | $    | 13.000 |     |  | $ | 5.000 | 
|Second Quarter                |  | $    | 12.490 |     |  | $ | 2.900 | 
|Third Quarter                 |  | $    | 8.800  |     |  | $ | 3.030 | 
|Fourth Quarter                |  | $    | 8.190  |     |  | $ | 4.000 | 
|                             
|Year ended December 30, 2002: |  |      |        |     |  |   |       | 
|First Quarter                 |  | $    | 8.270  |     |  | $ | 3.840 | 
|Second Quarter                |  | $    | 5.820  |     |  | $ | 3.360 | 
|Third Quarter                 |  | $    | 4.380  |     |  | $ | 1.570 | 
|Fourth Quarter                |  | $    | 3.750  |     |  | $ | 1.500 | 

On March 19, 2003, the last reported sales
price of the Common Stock on the Nasdaq National Market was
$3.86 per share. As of March 19, 2003, there were
37,537,940 shares of our Common Stock outstanding, which were
held by approximately 355 Common Stockholders of record.

Dividend Policy

We have never declared or paid cash dividends on
our capital stock. We currently intend to retain our future
earnings, if any, for use in our business and therefore do not
anticipate paying cash dividends in the foreseeable future.
Payment of future dividends, if any, will be at the discretion
of our Board of Directors after taking into account various
factors, including our financial condition, operating results,
current and anticipated cash needs and plans for expansion.

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Item 6.     Selected
Financial Data

The selected consolidated financial data
presented below should be read in conjunction with
Managements Discussion and Analysis of Financial
Condition and Results of Operations and our consolidated
financial statements and related notes thereto included
elsewhere in this Form 10-K.

|                                           |  |                                       |         |      |  |      |         |      |  |      |         |   |  |   |         |   |  |   |         |  
|------------------------------------------ |  | ------------------------------------- | ------- | ---- |  | ---- | ------- | ---- |  | ---- | ------- | - |  | - | ------- | - |  | - | ------- | -
|                                           |  |                                      
|                                           |  | Year ended December 31,              
|                                           |  |                                      
|                                           |  | 1998                                  |         | 1999 |  | 2000 |         | 2001 |  | 2002
|                                           |  |                                       |         |      |  |      |         |      |  |     
|                                           |  |                                      
|                                           |  | (in thousands, except per share data)
|Statement of Operations Data (3):          |  |                                       |         |      |  |      |         |      |  |      |         |   |  |   |         |   |  |   |         |  
|Revenues                                   |  | $                                     | 16,849  |      |  | $    | 18,466  |      |  | $    | 32,652  |   |  | $ | 27,017  |   |  | $ | 37,485  |  
|Gross profit                               |  |                                       | 7,155   |      |  |      | 8,098   |      |  |      | 16,529  |   |  |   | 13,921  |   |  |   | 22,563  |  
|Research and development (1)               |  |                                       | 15,969  |      |  |      | 12,258  |      |  |      | 9,629   |   |  |   | 9,259   |   |  |   | 11,247  |  
|Selling, general and administrative        |  |                                       | 25,408  |      |  |      | 17,724  |      |  |      | 23,867  |   |  |   | 27,346  |   |  |   | 29,798  |  
|Operating loss                             |  |                                       | (37,307 | )    |  |      | (33,251 | )    |  |      | (16,967 | ) |  |   | (22,684 | ) |  |   | (18,482 | )
|Net loss                                   |  | $                                     | (35,271 | )    |  | $    | (32,557 | )    |  | $    | (17,369 | ) |  | $ | (21,680 | ) |  | $ | (18,064 | )
|                                           |  |                                       |         |      |  |      |         |      |  |      |         |   |  |   |         |   |  |   |         |  
|Net loss per Share (basic and diluted) (2) |  | $                                     | (1.46   | )    |  | $    | (1.17   | )    |  | $    | (0.60   | ) |  | $ | (0.61   | ) |  | $ | (0.48   | )
|                                           |  |                                       |         |      |  |      |         |      |  |      |         |   |  |   |         |   |  |   |         |  
|Weighted-average shares outstanding (3)    |  |                                       | 24,098  |      |  |      | 27,819  |      |  |      | 29,137  |   |  |   | 35,467  |   |  |   | 37,438  |  
|                                           |  |                                       |         |      |  |      |         |      |  |      |         |   |  |   |         |   |  |   |         |  

|                                                  |  |                |        |      |  |      |        |      |  |      |        |  |  |   |        |  |  |   |        | 
|------------------------------------------------- |  | -------------- | ------ | ---- |  | ---- | ------ | ---- |  | ---- | ------ |  |  | - | ------ |  |  | - | ------ | 
|                                                  |  |               
|                                                  |  | December 31,  
|                                                  |  |               
|                                                  |  | 1998           |        | 1999 |  | 2000 |        | 2001 |  | 2002
|                                                  |  |                |        |      |  |      |        |      |  |     
|                                                  |  |               
|                                                  |  | (in thousands)
|Balance Sheet Data (3):                           |  |                |        |      |  |      |        |      |  |      |        |  |  |   |        |  |  |   |        | 
|Cash, cash equivalents and short-term investments |  | $              | 28,941 |      |  | $    | 13,962 |      |  | $    | 54,340 |  |  | $ | 55,976 |  |  | $ | 32,571 | 
|Working capital                                   |  |                | 32,553 |      |  |      | 17,338 |      |  |      | 62,316 |  |  |   | 62,898 |  |  |   | 38,837 | 
|Total assets                                      |  |                | 68,176 |      |  |      | 58,874 |      |  |      | 97,471 |  |  |   | 96,748 |  |  |   | 73,951 | 
|Long term obligations                             |  |                | 2,051  |      |  |      | 1,117  |      |  |      | 3,760  |  |  |   | 5,001  |  |  |   | 220    | 
|Total stockholders equity                        |  | $              | 55,075 |      |  | $    | 47,025 |      |  | $    | 80,774 |  |  | $ | 77,291 |  |  | $ | 59,177 | 






|    |                                                                                                                                                                          
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Includes regulatory expenses.                                                                                                                                            
|   
|(2) | See Note 2 of Notes to our financial statements
    for information concerning the computation of net loss per share
    and shares used in computing net loss per share.
|   
|(3) | The selected consolidated financial data has been
    restated to reflect the pooling transaction that occurred on
    September 30, 1999.                               

Item 7.     Managements
Discussion and Analysis of Financial Condition and Results of
Operations

The following discussion of our financial
condition and results of operations should be read in
conjunction with the Consolidated Financial Statements and Notes
thereto included elsewhere in this Form 10-K.

The discussion included in this section contains
contain forward-looking statements based on current expectations
of our management. Generally, those forward-looking statements
use words like expect, believe,
continue, anticipate,
estimate, may, will,
could, opportunity, future,
project, and similar expressions. Such statements
are subject to risks and uncertainties that could cause actual
results to differ from those projected. The forward-looking
statements include statements about our: projected timetables
for the pre-clinical and clinical development of, regulatory
submissions and approvals for, and market introduction of our
products and services; expected future revenues, operations and
expenditures; and projected cash needs.

Statements that are not historical facts are
based on our current expectations, beliefs, assumptions,
estimates, forecasts and projections for our business and the
industry and markets in which we compete. These

39



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forward-looking statements are not guarantees of
future performance and involve certain risks, uncertainties and
assumptions that are difficult to predict. Therefore, actual
outcomes and results may differ materially from what is
expressed in such forward-looking statements. We caution
investors not to place undue reliance on the forward-looking
statements contained in this report, which speak only as the
date hereof. We undertake no obligation to update these
statements to reflect events or circumstances occurring after
the date of this report or to reflect the occurrence of
unanticipated events, except as required by law.


Certain factors, among others, that could cause
our actual results to differ materially from what is expressed
in those forward looking statements include the following: we
may be unable to successfully commercialize the diagnostic
oncology products and services being developed by TriPath
Oncology; our products may not receive regulatory approval when
we expect, if at all; BD may change its business direction or
priorities or default in its obligations to us; our products may
not be accepted by the market to the extent we expect; we may be
unable to establish and maintain licenses, strategic
collaborations and distribution arrangements; implementation of
the new CPT codes may not have the financial impact we expect;
we may lack the financial resources necessary to further develop
our marketing and sales capabilities domestically and
internationally or to expand our manufacturing capability; we
may be unable to comply with the extensive domestic and
international governmental regulatory approval and review
procedures to which the manufacture and sale of our products are
subject, or lack the financial resources to bear the expense
associated with such compliance; we may be unable to obtain and
maintain adequate patent and other proprietary rights protection
of our products and services; competition and technological
change may make our products or potential products and
technologies less attractive or obsolete; we may incur greater
expenses than we expect with our clinical trials or they may
take longer to complete than we expect; our promotional
discounts, sales and marketing programs and strategies may not
have their expected effect. These factors and others are
discussed in more detail in Exhibit 99.1 Factors
Affecting Future Operating Results to this Form 10-K,
which is incorporated into this item by this reference.

Background

We create solutions that redefine the early
detection and clinical management of cancer. Specifically, we
develop, manufacture, market, and sell proprietary products for
cancer detection, diagnosis, staging, and treatment selection.
We are using our proprietary technologies, and know-how to
create an array of products designed to improve the clinical
management of cancer. We have developed and marketed an
integrated solution for cervical cancer screening and other
products that deliver image management, data handling, and
prognostic tools for cell diagnosis, cytopathology and
histopathology. We have created new opportunities and
applications for our proprietary technology by applying recent
advances in genomics, biology, and informatics to develop new
molecular diagnostic and pharmacogenomic products and services
for cancer of the cervix, breast, ovary, and colon.

We are organized into two operating units:
(1) Commercial Operations, through which we manage the
market introduction, sales, service, manufacturing and ongoing
development of our products; and (2) TriPath Oncology, our
wholly-owned subsidiary through which we manage the development
of molecular diagnostic and pharmacogenomic products and
services for cancer.

Commercial Operations

During 2002, we adopted the trademark
TriPath Care Technologies to describe our commercial
product offerings and to communicate the broad nature of our
corporate vision and the value created by our growing product
portfolio, including the i3 Series
and SlideWizard product lines.

Our i3 Series
product line for cervical cancer screening is the first
integrated system for the collection, preparation, staining and
computerized analysis of conventional Pap smears and
liquid-based, thin-layer slide preparations. Our
i3 Series product line includes
the following: the SurePath Test Pack, a proprietary,
liquid-based cytology sample collection, preservation and
transport system; the PrepStain Slide Processor, an automated
slide preparation system that produces slides with a
standardized, thin layer of stained cervical cells; the
PrepMate, an accessory to the PrepStain designed to automate
several steps in the preparation of

40



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SurePath thin-layer slides; and the FocalPoint
SlideProfiler, a computerized imaging system that uses
proprietary technology to automatically screen SurePath or
conventionally prepared Pap smear slides. The FocalPoint Slide
Profiler with Location Guided Screening (FocalPoint
GS), the next generation FocalPoint system, which has been
introduced outside of the U.S. but has not yet been approved for
use in the U.S., integrates our proprietary SlideWizard
technology into the FocalPoint screening process and automates
the microscopic analysis of cervical smears designated for
further review by the FocalPoint slide profiler.


Our SlideWizard product line includes the Image
Titer, an FDA cleared method for automating the measurement of
antinuclear antibody, research applications for DNA,
immunohistochemical quantification, cellular analysis, and
expression quantification, a system for the transmission and
interpretation of tissue specimens via remote telecommunications
or telepathology, and a software based storage and
retrieval system for microscopic images.

We generate PrepStain revenue from either the
sale, rental or lease of PrepStain systems and from the sale of
the related SurePath and PrepStain test kits, comprised of
proprietary reagents and other disposables. We generate
FocalPoint related revenue from the direct sale of FocalPoint
systems and from the placement of FocalPoint systems under
fee-per-use contracts. Additionally, we generate revenue from
service contracts on PrepStain and FocalPoint systems. We also
generate revenue from either the sale or rental of our
SlideWizard line of products and from service contracts on these
products.

Our marketing strategy is focused on providing
solutions that address the unmet needs of our three broad market
stakeholders, i.e. clinical laboratories, clinician and
third-party payors. We increased our marketing efforts during
the first half of 2002 by directing resources toward various
marketing-related initiatives designed to promote brand
identification and awareness, increase market acceptance of our
products and services and enhance product management. We have
expanded our presence in the marketplace through increased
advertising and promotion, company-sponsored seminars and trade
shows, and peer selling activities. To further educate and
reinforce the benefits of our products, we initiated a
partnership with a third party physician/peer selling
organization that continued into 2002. An important element of
our marketing strategy is to achieve broad market acceptance of
our integrated product consisting of our PrepStain thin-layer
slides for cervical cancer screening by the FocalPoint system.

We are also leveraging our proprietary imaging
technology to develop new collaborations to expand our
commercial opportunities. In early 2003, we entered into an
agreement with BMS to provide quantitative tissue based image
analysis in support of their oncology therapeutics programs
targeted at treating epithelial cancers including cancer of the
cervix, breast and colon. We are utilizing our SlideWizard image
analysis platform and proprietary software applications to
provide a quantitative assessment of tumor marker expression
levels from tissue samples provided by BMS for patients enrolled
in a Phase I clinical trial. The data generated by our work will
be used to evaluate patient response across varied dosing levels
based on changes in tumor marker expression levels, both before
and after treatment.

TriPath Oncology

Our TriPath Oncology business focuses on
developing and commercializing molecular diagnostic and
pharmacogenomic tests for malignant melanoma and cancers of the
cervix, breast, ovary, colon and prostate as part of the ongoing
strategic alliance between Becton, Dickinson and Company
(BD) and Millennium Pharmaceuticals, Inc.
(Millennium).

The goal of our molecular oncology program is to
use new discoveries in genomics and proteomics research to
develop and commercialize diagnostic and pharmacogenomic tests
to improve the early detection and clinical management of
cancer. Specifically, we have active programs in development
designed to identify individuals with cancer at the earliest
possible stage of the disease, provide individualized predictive
and prognostic information, guide treatment selection for
patients with cancer, and predict disease recurrence. The core
products and services we are developing through our
collaboration with BD will be based upon genomic and proteomic
markers identified through discovery research conducted at
Millennium under its existing research and development agreement
with BD.

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TriPath Oncology is not expected to generate any
significant revenue until 2004. Consequently, for 2003, we
expect that it will incur expenses in excess of revenues
generated.

Strategy

In 2001, we implemented a strategy to:
(1) build a franchise among academic centers of
excellence; (2) target regional laboratories and health
care provider networks where increased test volumes provide
greater opportunity for repeat reagent sales; (3) stress
reagent rental and in-house lease arrangements for placement of
new PrepStain instruments; (4) leverage the ability of the
FocalPoint to screen both conventional Pap Smears and SurePath
thin-layer slides to drive reagent growth; (5) ensure
attractive reimbursement for FocalPoint screening of SurePath
thin-layer slides to complement currently paid premiums for
FocalPoint screening of conventional Pap smears; and (6) create
a strong international presence to complement our U.S. business.

In 2001, we implemented a series of management
actions to advance our strategy. First, we expanded our sales
and marketing team to approximately 110 sales and marketing
professionals, including 40 who were contracted through Nelson
Professional Services to provide detail selling to ordering
physicians. Second, we revised our sales incentive programs to
promote reagent sales. Third, we sought to build a
franchise among academic centers of excellence and
successfully added high profile, opinion leaders to our customer
list. Fourth, we actively encouraged the presentation and
publication in respected journals of independent
investigators experience with our SurePath and PrepStain
products. As a result of this initiative, in excess of 40 papers
were published or presented at international and national
meetings regarding the performance of our products. Fifth, we
directed our sales organization to target laboratories whose
increased test volumes provide greater opportunity for repeat
reagent sales. Sixth, we focused on the placement of new
PrepStain instruments under reagent rental arrangements and
in-house lease arrangements rather than IPO third party leasing
programs, which historically had been the financing mechanism
utilized by the majority of our customers. In addition, we
received FDA approval for the PrepMate accessory to our
PrepStain system in May 2001 and for FocalPoint screening of
SurePath thin-layer slides in October 2001, and announced
receipt of a Medical Device License in Canada to market both our
PrepStain System and the PrepMate accessory in
September 2001.

Our results in 2002 reflect our ongoing efforts
to shift our product sales mix from capital equipment to higher
margin reagent and disposable sales, to increase net realized
revenue per test through improved pricing among new customers
and reduced finance charges as we phase-out third party lease
arrangements, to grow our base business through the addition of
new customers, and to accelerate growth in reagent and
disposable sales from pre-existing customers, and reflect the
increased experience gained in selling our reagent and
disposable products by our sales and marketing team as we
continue to execute on the strategy that we implemented in 2001.
As planned, we leveraged the ability of FocalPoint to screen
both conventional Pap smears and SurePath thin-layer slides and
the majority of domestic FocalPoint placements now screen both
conventional Pap smear and SurePath thin-layer slides. In the
fourth quarter of 2002, new CPT codes for automated screening of
thin-layer slide preparations were established and published in
the annual Current Procedural Terminology CPT 2003 of the
American Medical Association. The 2003 Medicare Clinical
Laboratory Fee Schedule became effective on January 1, 2003
and includes payment determinations for the automated screening
of thin-layer slides that are at a premium to payment
determinations for the manual screening of thin-layer slides,
ensuring attractive reimbursement for FocalPoint screening of
SurePath thin-layer slides. We increased our penetration of
certain international target markets such as Canada, Germany,
Switzerland, Belgium and the Netherlands as a complement to our
U.S. business, as evidenced by our 131.4% growth in
international sales of SurePath reagents and disposables.
Finally, while our increased emphasis on reagent rental and
in-house lease arrangements for placement of new PrepStain
instruments has resulted in reduced revenue recorded from up
front capital equipment sales associated with third party
leasing programs, it has added significantly to our net realized
revenue per test from the sale of reagents.

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Results of Operations

Our reported operating results are affected by a
number of critical accounting policies, which are described
below in the section titled Critical Accounting
Polices.

Years ended December 31, 2002 and
2001

Revenues.Total
revenues for the year ended December 31, 2002 were $37.5
million, a 38.7% increase from revenues of $27.0 million
for 2001. Compared with 2001, the net increase in total revenues
was primarily due to an increase in reagent sales of
$13.8 million, or 126.6%, a net decrease in instrument
sales of $3.7 million, or 36.5% and a net increase of
$393,000 in other revenues, consisting primarily of fee-per-use
sales, service on system placements, sales of non-instrument
related SlideWizard products and various international
consumable products, and freight.

In 2002, reagent sales increased
$13.8 million worldwide compared with 2001. Domestic sales
of our SurePath and PrepStain reagents increased $9.9 million,
or 124.8%, while international sales increased
$3.9 million, or 131.4%. As a percent of total revenues,
reagent and disposable sales increased from 40.4% in 2001 to
66.0% in 2002. Net realized revenue per test in 2002 increased
17% from 2001, and we added in excess of 70 new SurePath
consumable customers domestically during the year.

Sales of instruments decreased $3.7 million,
or 36.5%, during 2002 compared to 2001. Sales of PrepStain
instruments worldwide decreased by about $2.2 million, or
57.8%, during 2002, including a domestic decline of $2.8 million
related to our shift away from sales of PrepStain instruments
under our IPO program, partially offset by an increase of
$652,000 internationally compared with 2001. We placed 76
PrepStain instruments domestically and 39 internationally during
2002. This compares with 97 domestic PrepStain units and 14
international units in 2001. There were no PrepStain instrument
placements under third party financed IPO agreements in 2002.
Worldwide sales of FocalPoint systems, including a partially
offsetting increase in revenue from systems placed under rental
agreements, decreased approximately $2.2 million during 2002. In
2002 we placed 11 domestic units and 16 international units.
This compares with 21 domestic units in 2001, 15 of which were
sold replacing fee-per-use contracts to one customer, and 10
international units. Revenues recorded for SlideWizard system
sales increased $634,000 between 2002 and 2001. We placed 19
SlideWizard units in 2002 compared with 7 in 2001.

Other revenues, consisting primarily of
fee-per-use sales, service on system placements, sales of
non-instrument related SlideWizard products and various
international consumable products, and freight, increased
approximately $393,000 during 2002, mostly attributable to
various international consumable product sales. FocalPoint
fee-per-use revenues declined $1.1 million between 2002 and
2001, but we experienced an increase other consumable sales of
$1.1 million, an increase in service revenue of $213,000, and an
increase in freight and royalties of $323,000. We saw a slight
decline in sales of non-system related SlideWizard revenues of
$232,000.

Gross Margin.Gross
margin improved significantly from 51.5% in 2001 to 60.2% in
2002. Gross margin increased as the result of growth in sales,
the continuing shift from capital equipment to higher margin
reagent and disposable sales, higher product prices to new
accounts, the gradual phase out of third party leasing
agreements, and the introduction of new efficiencies in our
manufacturing operations.

Research and Development.Research and development expenses
include salaries and benefits of scientific and engineering
personnel, testing equipment, relevant consulting and
professional services, components for prototypes and certain
facility costs. Consolidated research and development expenses
for 2002 were $8.5 million, a 16.9% increase from
$7.3 million in 2001. Prior to 2001, our research and
development expenses resulted entirely from research and
development activities related to the i3
Series and the Slide Wizard product lines. Incremental expenses
related to the development of our molecular diagnostic markers,
reagents, and assays were first incurred in the second half of
2001 immediately following the announcement of our agreements
with BD and the creation of our TriPath Oncology operating
segment. In 2001 and 2002, the increase in research and
development costs related to the development of our molecular
diagnostic markers, reagents and assays was partially off-set by
a reduction in research expenses related to the PrepStain and

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FocalPoint System as all research and development
activities related to these products were limited to sustaining
engineering and the development of specific customer driven
enhancements. In addition, all new imaging research and product
development activities unrelated to the development of
instrument platforms for our molecular diagnostic products were
eliminated. Since we initiated segment reporting in 2001, our
TriPath Oncology segment incurred research and development
expenses of $1.1 million and $ 6.4 million for 2001
and 2002, respectively, an increase of 491.3%. These
expenditures reflected the redirection of all imaging research
and development activities to the development of instrument
platforms for our molecular diagnostic programs and the
incremental expenses related to the development of our molecular
diagnostic markers, reagents and assays. Our Commercial
Operations segment incurred research and development expenses of
$6.2 million and $2.1 million in 2001 and 2002
respectively, a decrease of 65.5%. These expenditures reflected
reduced new research activity related to the
i3 Series product line and the transfer of
expenses related to our imaging technology group to TriPath
Oncology. In total, the expenses related to TriPath Oncology for
2002 include $2.5 million of amortization, against expense,
of a deferred research and development credit arising out of the
accounting for this transaction with BD. This compares with
$1.0 million of amortization in 2001. We accounted for this
transaction in accordance with Statement of Financial Accounting
Standard No. 68, Research and Development
Arrangements. We began amortizing the credit in
August 2001 and will continue the amortization at $206,600
per month against research and development expenses, fully
amortizing in January 2004.


Regulatory.Regulatory expenses include salaries
and benefits of regulatory and quality personnel, costs related
to clinical studies and submissions to the FDA, and relevant
consulting services. Regulatory expenses for the year ended
December 31, 2002 were $2.7 million, representing a
38.3% increase from almost $2.0 million in 2001. This
change was primarily attributable to the initiation and
continuation of activities surrounding several clinical trials,
particularly the FocalPoint GS and Alternative Collection Device
trials, and to continued efforts surrounding the implementation
of an updated quality management system. These expenses will
likely increase in 2003 as the FocalPoint GS clinical trial
continues, although some variability is possible depending on
exact trial start dates and subsequent progress. From a segment
perspective, regulatory expenses were $2.2 million in the
Commercial Operations segment in 2002, compared with $2.0
million in 2001 while there were $519,000 of regulatory expenses
incurred by the TriPath Oncology segment in 2002 versus none in
2001.

Sales and Marketing.Sales and marketing expenses include
salaries and benefits of sales, marketing, sales support and
service personnel, and their related expenses, as well as
non-personnel-related expenses related to marketing our
products. Sales and marketing expenses for the year ended
December 31, 2002 were $19.9 million, including
$986,000 of expenses related to TriPath Oncology, while our
Commercial Operations incurred $18.9 million in this area.
This represented a 6.2% increase overall from $18.7 million
in 2001, during which $221,000 of sales and marketing expenses
were attributable to TriPath Oncology and $18.5 million
were incurred by our Commercial Operations segment. This
year-over-year increase is modest and reflects our efforts begun
in late 2000 to significantly expand our sales and marketing
capabilities, including the addition of physician sales
representatives in the third quarter of 2001 and the building of
a marketing organization during the last half of 2001. During
the second quarter of 2002, we terminated our agreement with
Nelson Professional Sales and employed the majority of those
physician sales representatives engaged under that arrangement.
Additionally, we reorganized the sales force into six divisions,
as opposed to three, to better divide the country into
manageable territories. Overall, we expect that there will be
some savings attributable to this reorganization and we
anticipate that sales and marketing costs will range from $5.0
to $5.5 million per quarter during 2003.

General and Administrative.General and administrative expenses
include salaries and benefits for administrative personnel,
legal and other professional fees and certain facility costs.
General and administrative expenses were $9.9 million in
2002 compared with $8.7 million in 2001. The net increase
resulted from several sources. First, there was a net increase
of approximately $620,000 during 2002 versus 2001 in amounts
related to a contingent liability (see Note 5 to our
Consolidated Financial Statements). Second, we recorded
increases in personnel-related and corporate insurance costs
between 2002 and 2001 of approximately $551,000. Third, overall
general and administrative expenses included a provision for
doubtful accounts of

44



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$1.1 million in 2002 and $1.8 million
in 2001, a decrease of approximately $760,000. Offsetting this
decrease were reductions of certain other reserves, primarily
warranties, in 2001, of approximately $797,000. Of the total
general and administrative expenses, $4.1 million was
recorded to our TriPath Oncology segment for the year ended
December 31, 2002 with no expenses to the segment in 2001,
while the Commercial Operations segment recorded $5.8 million
and $8.7 million in 2002 and 2001, respectively.


Net Loss from Operations.Net loss from operations during 2002
was $18.1 million, a 16.7% improvement from $21.7 million
in 2001. The improvement in net loss from operations largely
reflects incremental gross profit on new sales of reagents.
Total increases in gross profit contributed $8.6 million to
the net improvement in net loss from operations in 2002 compared
with 2001. The increase in gross margin was partially offset by
an increase in operating expenses of $ 4.4 million or
12.1%, as described above.

Interest Income and Expense.Interest income for 2002 was $969,000,
a 58.3% decrease from $2.3 million earned during 2001,
primarily attributable to lower average cash balances in 2002
and to a continued depressed interest rate environment during
2002. The lower average cash, cash equivalent, and short-term
investment balances reflected our net cash burn during 2002
which averaged almost $2.0 million monthly, though our cash
burn rate during the fourth quarter of 2002 averaged
$1.0 million per month. Interest expense for 2002 was
$551,000 compared to $1.3 million during 2001. This
decrease is due to reduced balances outstanding resulting from
principal repayments under our debt facilities.

Years ended December 31, 2001 and
2000

Revenue.Revenues
for the year ended December 31, 2001 were
$27.0 million, a 17.3% decrease from revenues of
$32.7 million for 2000. Sales related to the SurePath and
PrepStain systems increased $5.3 million, or 56.2%, from
2000 to 2001. Consumable sales contributed largely to this
increase, $5.2 million, or 90.3% from 2000 to 2001.
Revenues related to the FocalPoint declined by $11.1 million, or
54.6%, for the same period. Other revenue, including sales of
our SlideWizard products and revenue recorded under service
agreements increased $99,000, or 3.2% between 2000 and 2001.

Our focus in 2001 on the placement of new
PrepStain instruments under reagent rental arrangements and
in-house lease arrangements rather than IPO third party leasing
programs, which historically had been the financing mechanism
utilized by the majority of our customers, as part of our
strategic plan resulted in reduced revenue recorded from up
front capital equipment sales associated with the IPO program in
2001.

The decline in FocalPoint related revenues from
2000 to 2001 represented a $9.1 million decline in
fee-per-use revenues and a $2.0 million decline in
instrument sales. We believe that this decline in FocalPoint
related revenue was attributable to several factors. First, we
believe that much of the decline resulted from the ongoing U.S.
market shift toward liquid-based Pap testing, since the
FocalPoint system was not FDA approved to screen SurePath
thin-layer slides until the fourth quarter of 2001 and,
therefore, could only be used for the screening of conventional
Pap smears in the U.S. for most of the year. The decline in the
number of tests performed on the FocalPoint corresponded with
the general decline in conventional Pap smear testing in the
U.S. in 2001. Subsequent to receiving FDA approval in October of
2001, we have leveraged the combined product to drive sales of
reagents and disposables. Second, FocalPoint revenues declined
due to completion of an arrangement entered into with Quest
Diagnostics in 2000 subsequent to its signing a three-year
exclusive agreement for liquid based thin-layer testing products
with a competitor. Third, as described above, as we awaited FDA
approval to screen SurePath slides with the FocalPoint, we
shifted our sales focus to drive our higher margin reagent and
disposable business.

Gross Margin.Gross
margin improved slightly from 50.6% in 2000 to 51.5% in 2001.
Contributing to the modest improvement in 2001 was increased
sales of SurePath and PrepStain test kits for gynecological
purposes.

Research and Development.Research and development expenses
include salaries and benefits of scientific and engineering
personnel, testing equipment, relevant consulting and
professional services, components for prototypes and certain
facility costs. Research and development expenses for 2001 were
$7.3 million, a 17.1% decrease from $8.8 million in
2000. This decrease was primarily attributable to reduced
professional

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fees incurred in 2001. Included in research and
development expenses in 2001 were $1.1 million of expenses
related to our subsidiary, TriPath Oncology, which we
established to carry out the research, development and
commercialization efforts stemming from our agreement with BD.
These expenses related to TriPath Oncology also reflect
$1.0 million of amortization, against expense, of a
deferred research and development credit arising out of the
accounting for this transaction. We accounted for this
transaction in accordance with Statement of Financial Accounting
Standard No. 68, Research and Development
Arrangements. We began amortizing the credit in
August 2001 and will continue the amortization over 30
months at $206,600 per month against research and development
expenses.


Regulatory.Regulatory expenses include salaries
and benefits of regulatory and quality personnel, costs related
to clinical studies and submissions to the FDA, and relevant
consulting services. Regulatory expenses for the year ended
December 31, 2001 were $2.0 million, representing a
134.8% increase from $839,000 in 2000. This change was primarily
attributable to the rebuilding and refocusing of our regulatory
efforts, which began in the third quarter ended
September 30, 2000, and to the regulatory efforts
surrounding our FDA submissions, specifically those concerning
FDA approval of the use of FocalPoint to process thin-layer
slides prepared with PrepStain, and upcoming clinical studies.

Sales and Marketing.Sales and marketing expenses include
salaries and benefits of sales, marketing, sales support and
service personnel, and their related expenses, as well as
non-personnel-related expenses related to marketing our
products. Sales and marketing expenses for the year ended
December 31, 2001 were $18.7 million, including
$221,000 of expenses related to TriPath Oncology. This
represented a 226.8% increase from $5.7 million in 2000.
This increase is primarily due to our efforts to significantly
expand our sales and marketing capabilities, including the
addition of various employees and initiatives focused on product
management and brand identification. We dramatically increased
our sales and marketing staff to over 100 people by the end of
2001.

General and Administrative.General and administrative expenses
include salaries and benefits for administrative personnel,
legal and other professional fees and certain facility costs.
General and administrative expenses, including the provision for
doubtful accounts receivable of $1.8 million, for the year ended
December 31, 2001 were $8.7 million, represents a
52.3% decrease from $18.1 million in 2000. This decrease is
primarily due to one-time, non-cash compensation charges of
$2.1 million related to repricing of stock options in 2000
and decreased legal costs, and related charges in 2001.

Net Loss from Operations.Net loss from operations during 2001
was $22.7 million, a 33.7% increase from $17.0 million in
2000. This increase is due to reduced gross profit, of
$2.6 million, resulting from the 17.3% decrease in revenue
coupled with increased operating expenses of $3.1 million,
or 9.3%.

Interest Income and Expense.Interest income for 2001 was
$2.3 million, an 84.8% increase from $1.3 million
during 2000, primarily attributable to increased average cash
balances during 2001 in spite of declining interest rates
throughout 2001. The higher average cash balances resulted from
a cash receipt of $25.0 million from BD for an investment
in our Common Stock during the third quarter of 2001 and
43.0 million from Roche for an investment in our Common
Stock in the fourth quarter of 2000. Interest expense for 2001
was $1.3 million compared to $1.7 million during 2000. This
decrease is due to reduced balances outstanding resulting from
principal repayments under our debt facilities.

Liquidity and Capital Resources

Since our formation, our expenses have
significantly exceeded our revenues, resulting in an accumulated
deficit of $224.5 million as of December 31, 2002. We have
funded our operations primarily through the private placement
and public sale of equity securities, debt facilities and
limited product sales resulting in cumulative net proceeds of
$216.6 million as of December 31, 2002. We had cash
and cash equivalents of $32.6 million at December 31,
2002.

We funded our operations in 2002 from cash and
cash equivalents on hand and revenues from our Commercial
Operations segment. Cash used in our operations was
$18.1 million in 2002, $19.0 million during

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2001 and $8.2 million during 2000. Negative
operating cash flow during 2002, 2001, and 2000 was caused
primarily by operating losses.


Our capital expenditures were $2.2 million
in 2002, $936,000 in 2001, and $217,000 during 2000 with
expenditures primarily attributable to the purchase of machinery
and equipment. We have no material commitments for future
capital expenditures.

We had $2.5 million of short-term
investments at December 31, 2001 that had matured by
December 31, 2002 and were reinvested in accordance with
our practice. The investments were part of managed portfolios of
the excess cash we have to invest. Our short-term investments,
when held, have a maturity of more than three months, but less
than one year when purchased and are stated at cost. Our intent
regarding these investments, when held, is to hold them to
maturity.

We recorded $1.1 million to bad debt expense
in 2002, compared with $1.8 million and $220,000 in 2001 and
2000, respectively. While we experienced a slowing of
collections on several international accounts receivable during
2001 in large part attributable to an overall slowdown in the
world economy, we actually experienced a strong year of
collections of receivables during 2002. During 2002, cash
collected on receivables was $37.9 million compared with
$26.8 million in 2001. We have collected amounts on some of
our older international accounts and continue to monitor them.
We believe that, based on communications with these customers,
additional amounts provided for possible bad debts and partial
payments received during the year, that our accounts receivable
reserve is adequate to cover any losses that may be realized. In
addition, our revenue mix has shifted dramatically over the
latter half of 2001 and throughout 2002 toward a higher
concentration of higher margin consumable sales and away from a
significant dependence on more sporadic sales of
instrumentation. This has contributed to the improvement in our
cash collections and days of sales outstanding we experienced
throughout 2002. This not only has contributed to improved gross
margins on our sales of our products, but it has further
shortened the length of time our customers take to pay their
invoices.

During 2000 and 2001, the declining interest
rates in the U.S. impacted amounts earned on our invested funds.
For the most part, the rate of decline in interest rates
experienced over 2000 and 2001 slowed dramatically during 2002.
Average yields on invested funds fell between 500 and 550 basis
points, on average from 2000 through 2002. This is contrary to
the fixed-rate nature of our borrowings and other term debt. If
this interest rate environment continues, there will be a
continued net negative impact on our cash relative to net
interest income.

We recorded a short-term contingent liability of
$2.4 million in accordance with the provisions of FASB SFAS
No. 5, Accounting for Contingencies, on the
basis that the likelihood of a future event occurring was
probable and reasonably estimable. That contingency related to
our obligation to pay a third party, who received 180,000 shares
of our common stock in January 2001 under a settlement
agreement, an amount in cash equal to the difference between the
average market price of our common stock on the ten trading days
prior to January 8, 2003 and $16.00 per share. In
accordance with the terms of this settlement agreement, we paid
the third party a sum of $2.4 million in cash in
January 2003 in full satisfaction of the outstanding
liability.

Related Party Transaction

In connection with our collaboration with BD
entered into in 2001, we lease several laboratories at BDs
facility in Research Triangle Park, North Carolina. This
arrangement substantially ended in July 2002 after TriPath
Oncology occupied its own, newly equipped laboratory and office
space in Research Triangle Park. However, we have maintained
several small laboratories at the BD facility. Total rent paid
to BD was $5,087 during 2001 and $130,195 during 2002.

Financing Arrangements

On February 8, 2000, we entered into a
$7.0 million subordinated term loan with a syndicate of
lenders to finance operations. We fully drew this facility
during the first quarter of 2000. We have remaining amounts
outstanding under this loan of approximately $758,000 at
December 31, 2002. This loan will be fully repaid in

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April 2003. At the present time, we have no
plans to replace that loan with a similar facility after it is
repaid (see Note 5 to the Consolidated Financial Statements).


During August 2002, we secured a lease line
of credit from Bank of America. This line is secured by a letter
of credit against our line of credit with Silicon Valley Bank
(see Note 5 to the Consolidated Financial Statements and below).
This lease line of credit, which carries three-year lease terms
for items acquired under it, is being used to secure operating
leases for assets, primarily equipment. As of December 31,
2002, there were assets of $1.0 million leased under this
lease line.

In January 2003, we renewed our
$5.0 million working capital facility with Silicon Valley
Bank. This facility will expire on January 31, 2004. The
outstanding balance is limited to an amount equal to 80% of
eligible accounts receivable. The line bears interest at the
banks prime rate plus 1/2% and is collateralized by
substantially all of our assets. The line of credit carries
customary covenants, including the maintenance of a minimum
modified quick ratio, minimum tangible net worth, and other
requirements. We had no outstanding borrowings under this
agreement at December 31, 2002, though the availability
under the line of credit could provide additional funding if
needed.

In March 2003 we obtained a commitment for a
$2.5 million lease line of credit with GE Capital
Corporation. This commitment, which carries three-year lease
terms for items acquired under it, will be used to secure
operating leases for assets, primarily equipment.

Except as described above and in Note 5 to the
Consolidated Financial Statements, we have no other long-term
debt commitments and no off-balance sheet financing vehicles.

Outlook

In the fourth quarter of 2002, the Commercial
Operations segment achieved breakeven operations for the first
time. We believe that the Commercial Operations segment will be
profitable for the entire year of 2003. Regulatory expenses for
2003 will exhibit the greatest quarterly variability due to the
timing and extent of anticipated clinical trials. Given this
variability, the Commercial Operations segment may not exhibit
profitability in all quarters of 2003. The excess cash flow
generated from the Commercial Operations segment will be
utilized, in part, to fund the operations of the TriPath
Oncology segment.

The TriPath Oncology segment is not expected to
generate any significant revenue until 2004 and, consequently,
will continue to incur expenses in excess of revenues generated.
We anticipate that during 2003, the TriPath Oncology segment
will incur approximately $1.2  $1.4 million of
expenses per month up from $1.0 million per month in the
fourth quarter of 2002.

Our total operating expenses in 2002 were
$41.0 million. Our projected 2003 operating expenses should
fall in the range of $42.0 to $46.0 million reflecting our
intention to keep operating expenses in line with our expected
top line growth and the increased expenditure levels at our
TriPath Oncology segment discussed above.

We believe that we can manage our balance sheet
to minimize cash requirements in 2003. We expect that our
capital expenditures for 2003 will be under $1 million. We
have a commitment for a $2.5 million lease line of credit
which will be utilized for equipment placed under operating
leases. The expenses associated with these leases are
anticipated in our operating expense projections for 2003. We
believe that our existing cash and anticipated additional debt
and/or lease financing for internal use assets, rental
placements of PrepStain and fee-per-use placements of
FocalPoint, will be sufficient to enable us to meet our future
cash obligations for at least the next 24 months.

While it is also possible that marketing and
sales expenditures for the continued SurePath commercial rollout
for gynecological uses in the United States, capital
expenditures associated with placements of PrepStain units and
FocalPoint fee-per-use instruments, and expenditures related to
clinical trials, manufacturing, the TriPath Oncology segment and
other administrative costs may increase, we anticipate that our
future sales growth and the cost control measures we have
implemented should preclude us from having to raise additional
funds in the 2003 to 2004 time period. If, however, our existing
resources prove insufficient to

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satisfy our liquidity requirements, we may need
to raise additional funds through bank facilities, the sale of
additional equity or debt securities or other sources of
capital. The sale of any equity or debt securities, if required,
may result in additional dilution to our stockholders, and we
cannot be certain that additional financing will be available in
amounts or on terms acceptable to us, if at all, which would
have a material adverse effect on our liquidity and capital
resources, business, financial condition and results of
operations.


Income Taxes and Tax Loss
Carryforwards

We have not generated any taxable income to date
and, therefore, have not paid any federal income taxes since
inception. Realization of deferred tax assets is dependent on
future earnings, if any, the timing and amount of which are
uncertain. Accordingly, we have established valuation
allowances, in amounts equal to the net deferred tax assets as
of December 31, 2002 and 2001,in each period to
reflect these uncertainties.

At December 31, 2002, we had net tax losses
of approximately $199.9 million that may be carried forward to
offset future taxable income. In addition, we had research
credits available for carryforward of $3.7 million. These
amounts begin to expire in 2003. Utilization of net tax losses
and any tax credit carryforwards are subject to complex
treatment under the Internal Revenue Code of 1986, as amended
(the Code). Pursuant to Section 382 of the
Code, the change in ownership resulting from our initial public
offering in September 1997 and any other future sale of
stock may limit utilization of future losses in any one year. We
believe that the sale of Common Stock in the offering did not
create any immediate limitations on our utilization of net
operating losses.

Critical Accounting Policies

The preparation of the Consolidated Financial
Statements, which have been prepared in accordance with
generally accepted accounting principles, requires us to make
estimates and judgments that affect the reported amounts of
assets, liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities. On an on-going
basis, we evaluate our estimates, including those related to
sales of our products, bad debts, inventories, investments,
intangible assets, warranty obligations, and legal issues. Since
not all of these accounting policies require management to make
difficult, subjective or complex judgments or estimates, they
are not all considered critical accounting policies. We believe
the following critical accounting policies involve our more
significant judgments and estimates used in the preparation of
our consolidated financial statements. We reviewed our policies
and determined that those policies identified below as our
critical accounting policies remain our most critical accounting
policies for the year ended December 31, 2002. We did not
make any changes in those policies during the year.

Revenue Recognition

We record revenue from the sale, rental and/or
lease of our systems and from the sale of related consumables.
Additionally, we record revenue from service contracts on our
systems. In the case of system sales to end users, revenue
recognition on system sales occurs at the time the instrument is
installed and accepted at the customer site. In the case of
instrument sales to distributors, revenue recognition on system
sales occurs based upon the contract governing the transaction,
typically at the time the instrument is shipped from our
facility. This was the predominant vehicle for international
instrument sales in 2002. If, however, we sell an instrument
directly to an international end user, we record the revenue
upon installation and acceptance of the instrument, as we do in
the U.S. For system rentals, systems are placed at the
customers site free of charge and the customer is
obligated either to purchase reagent kits for a fixed term, or
are charged fees based on monthly minimum, or actual, usage.
Under these transactions, there is no capital equipment revenue
recognized. We also offer leasing alternatives. Under these
transactions, we may, or may not, recognize revenue on system
hardware depending on the particular details of the lease. We
consider the accounting policies surrounding revenue recognition
to be critical primarily due to the distributed nature of our
sales network. We sell through a direct sales force in the U.S.,
and the issues related to revenue recognition are essentially
clear-cut domestically. Abroad, however, we sell both through
various distributor networks and directly to end user customers.
This requires us to examine each sales transaction to ensure
that we properly

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and consistently apply the appropriate accounting
guidance covering revenue recognition. Sales of consumable
products are recorded at shipment.


Allowance for Doubtful Accounts and Notes
Receivable

We continuously monitor payments from our
customers and maintain an allowance for doubtful accounts and
notes receivable for estimated losses resulting from the
inability of our customers to make required payments. When we
evaluate the adequacy of our allowance for doubtful accounts and
notes, we take into account various factors including our
accounts and notes receivable aging, customer credit-worthiness,
historical bad debts and current economic trends. We are closely
monitoring several delinquent accounts with past due balances
outstanding, and will continue to do so, to determine the need,
if any, to further increase our allowance for doubtful accounts
and notes receivable. If the financial condition of our
customers were to deteriorate, resulting in an impairment of
their ability to make payments, additional allowances may be
required. In assessing the adequacy of our allowance for
doubtful accounts and notes, management meets weekly with
individuals responsible for collecting outstanding accounts and
notes receivable balances. Management reviews the work
undertaken during the course of the week by those responsible
for collections and guides activities for the following
weeks actions intended toward collections of outstanding
accounts and notes receivable. Accounts are discussed
specifically, and to the extent they show potential for aging
beyond acceptable limits, adjustments to our allowance for
doubtful accounts and notes are discussed and made. At
December 31, 2002 and 2001, our accounts receivable
balance, net of allowance for doubtful accounts and notes
receivable of $3.6 million and $3.3 million,
respectively, was $9.4 million and $9.6 million.

Inventory

Inventory is stated at the lower of cost or net
realizable value on a first-in, first-out basis If we determine
that net realizable value is less than cost, then we write down
the related inventory to market value. We review net realizable
value of inventory in detail on an on-going basis, with
consideration given to deterioration, obsolescence, and other
factors. If actual market conditions are less favorable than
those projected by management, and our estimates prove to be
inaccurate, additional write-downs or adjustments to recognize
additional cost of goods for overstated inventory may be
required. A significant portion, almost 67%, of our inventory is
related to our FocalPoint product. Of that FocalPoint inventory,
much of it is classified as raw material, or component parts. A
significant reason we consider accounting policies around
inventory as critical is due to the relatively slower moving
nature of the FocalPoint instrument. We continue to monitor
actual demand for the product and the economic environment into
which we will be selling it during 2003. After reviewing these
factors, we do not believe that it is necessary to record any
further adjustments to inventory. At December 31, 2002 and
2001, our total inventory balance, net of reserves for
obsolescence of $1.8 million and $2.3 million, respectively
was $11.0 million and $10.7 million.

Valuation of long-lived and intangible
assets

We review the value of our long-lived assets,
including patents and other intangible assets, for impairment
whenever events or changes in business circumstances indicate
that the carrying amount of assets may not be fully recoverable
or that the useful lives of these assets are no longer
appropriate. If we determine that the carrying value of
intangibles and long-lived assets may not be recoverable based
upon one or more indicators of impairment, the asset is written
down to its estimated fair value based on a discounted cash flow
basis. There was no impairment loss recorded in 2002. During
2001, however, we recognized $430,000 of such a loss for the
placement of certain Customer-Use Assets free of charge at a
customer under a two-year contract. We consider long-lived and
intangible assets to warrant the designation of critical for
several reasons. One is tied to the issue mentioned in
Inventory above, the relatively slower moving nature
of the FocalPoint instrument. One of our ways of selling
FocalPoint instruments is under usage based arrangements
(fee-per-use). We have a number of FocalPoint
instruments recorded on the balance sheet in the account
Customer use assets. We continue to monitor actual
demand for the product and the economic environment into which
we will be selling it during 2003. Should these instruments be
returned prior to the term of the agreements, there could be
possible impairment issues surrounding these assets. The second
reason we consider this a critical

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accounting area is due to the nature of our
reliance on our intellectual property. Should competitors
develop and market products that would render ours redundant or
obsolete, then we would face impairment issues surrounding our
intangible assets as well. After reviewing the relevant factors
affecting our assets in these categories, we do not believe that
it is necessary to record any further adjustments to our
long-lived and intangible assets.


Recently Issued Accounting Standards

In August 2001, the FASB issued SFAS
No. 143, Accounting for Asset Retirement
Obligations (SFAS 143). SFAS 143 requires an
entity to record a liability for an obligation associated with
the retirement of an asset at the time that the liability is
incurred by capitalizing the cost as part of the carrying value
of the related asset and depreciating it over the remaining
useful life of that asset. The standard is effective for us
beginning January 1, 2003. We do not expect the adoption of SFAS
143 to have a material impact on our results of operations or
financial position.

In April 2002, the FASB issued SFAS
No. 146, Accounting for Costs Associated with Exit or
Disposal Activities (SFAS 146). SFAS 146
addresses financial accounting and reporting for costs
associated with exit or disposal activities and nullifies
Emerging Issues Task Force (EITF) Issue No. 94-3,
Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring) (Issue 94-3).
SFAS 146 addresses the accounting and reporting for costs
associated with exit or disposal activities resulting from
entities increasingly engaging in exit and disposal activities
where certain costs associated with those activities were
recognized as liabilities at a plan (commitment) date under
Issue 94-3 but did not meet the definition of a liability in
FASB Concepts Statement No. 6, Elements of Financial
Statements. The standard is effective for us beginning
January 1, 2003. The adoption of SFAS 146 would have had no
material impact on our results of operations or financial
position for the twelve months ending, nor as of,
December 31, 2002.

In December 2002, the FASB issued SFAS
No. 148, Accounting for Stock-Based
CompensationTransition and Disclosurean amendment of
FASB Statement No. 123 (SFAS 148). This
Statement amends FASB Statement No. 123, Accounting for
Stock-Based Compensation,to provide alternative methods of
transition for a voluntary change to the fair value based method
of accounting for stock-based employee compensation. In
addition, this Statement amends the disclosure requirements of
Statement 123 to require prominent disclosures in both annual
and interim financial statements about the method of accounting
for stock-based employee compensation and the effect of the
method used on reported results. The standard is presently
effective for us, and we have adopted it accordingly. We adopted
the disclosure requirements of SFAS No. 148 effective
December 31, 2002. There was no impact on our basic
financial statements resulting from its adoption. Rather, the
effects of the statement are reflected in our Notes to
Consolidated Financial Statements by elevating the prominence of
certain disclosures regarding our stock-based compensation plans.

In November 2002, the FASB issued FASB
Interpretation No. 45, Guarantors Accounting
and Disclosure Requirements for Guarantees, Including Guarantees
of Indebtedness of Others (an interpretation of FAS No. 5,
57 and 107 and rescission of FAS Interpretation
No. 34) (FIN 45), which modifies the
accounting and enhances the disclosure of certain types of
guarantees. FIN 45 requires that upon issuance of certain
guarantees, the guarantor must recognize a liability for the
fair value of the obligation it assumes under the guarantee. The
provisions of FIN 45 for the initial recognition and
measurement are to be applied to guarantees issued or modified
after December 31, 2002. The disclosure requirements are
effective for financial statements of annual periods that end
after December 15, 2002. The adoption of FIN 45 had no
material impact on our results of operations or financial
position for the twelve months ending, nor as of,
December 31, 2002.

In January 2003, the FASB issued FASB
Interpretation No. 46, Consolidation of Variable
Interest Entities, an Interpretation of ARB No. 51
(FIN 46), which requires a new approach in
determining if a reporting entity should consolidate certain
legal entities, including partnerships, limited liability
companies, or trusts, among others, collectively defined as
variable interest entities, or VIEs. A legal entity is
considered a

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VIE if it does not have sufficient equity at risk
to finance its own activities without relying on financial
support from other parties. If the legal entity is a VIE, then
the reporting entity that is the primary beneficiary must
consolidate it. Even if a reporting entity is not obligated to
consolidate a VIE, then certain disclosures must be made about
the VIE if the reporting entity has a significant variable
interest. Certain transition disclosures are required for all
financial statements issued after January 31, 2003. The
on-going disclosure and consolidation requirements are effective
for all interim financial periods beginning after June 15,
2003. The adoption of FIN 46 had no material impact on our
results of operations or financial position for the twelve
months ending, nor as of, December 31, 2002.


Item 7A.     Quantitative
and Qualitative Disclosures About Market Risk

We do not participate in derivative financial
instruments, other financial instruments for which the fair
value disclosure would be required under SFAS No. 107, or
derivative commodity instruments. All of our investments are in
short-term, investment-grade commercial paper, corporate bonds
and U.S. Government and agency securities that are carried at
fair value on our books. Accordingly, we have no quantitative
information concerning the market risk of participating in such
investments.

Our primary market risk exposures are in the
areas of interest rate risk and foreign currency exchange rate
risk. Our financial results and cash flows are subject to
fluctuation due to changes in interest rates, primarily from our
investment of available cash balances in highly rated
institutions. Under our current policies, we do not use interest
rate derivative instruments to manage exposure to interest rate
changes. See Item 7. Managements Discussion and
Analysis of Financial Condition and Results of Operationsunder Liquidity and Capital Resourcesfor further
discussion of the impact of interest rates on our financial
results. We operate in several foreign countries and are subject
to fluctuations in foreign currencies to a minor extent. We have
no foreign exchange contracts, option contracts, or other
foreign hedging arrangements. However, the impact of
fluctuations in foreign currencies on our financial results has
not been material and are unlikely to have a material adverse
effect on our business, financial condition or results of
operations in the future.

Item 8.     Financial
Statements and Supplementary Data

The information required by this item may be
found on pages F-1 through F-23 of this Form 10-K.

Item 9.     Changes
In and Disagreements with Accountants on Accounting and
Financial Disclosure

There have been no changes in or disagreements
with accountants on accounting or financial disclosure matters
in the last fiscal year.

PART III

Item 10.     Directors
and Executive Officers of the Registrant

The response to this item is contained in part
under the caption Executive Officers of the
Registrant in Part I, Item 1A hereof and the
remainder is incorporated herein by reference from the
discussion responsive thereto under the captions Election
of Directors and Section 16(a) Beneficial
Reporting Compliance in our Proxy Statement relating to
our Annual Meeting of Stockholders scheduled for May 22,
2003 (the Proxy Statement).

Item 11.     Executive
Compensation

The response to this item is incorporated herein
by reference from the discussion responsive thereto under the
captions Election of Directors, Director
Compensation, Executive Compensation and
Compensation Committee Interlocks, Insider Participation
and Certain Transactions in the Proxy Statement.

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Item 12.     Security
Ownership of Certain Beneficial Owners and Management and
Related Shareholder Matters

The response to this item, other than the
information related to Securities Authorized for Issuance Under
Equity Compensation Plans, which appears below, is incorporated
in part herein by reference from the discussion responsive
thereto under the captions Share Ownership in the
Proxy Statement.

Equity Compensation Plan Information

The following table provides information about
the securities authorized for issuance under the Companys
equity compensation plans as of December 31, 2002:

|                                                                |        |                      |             |                     |   |                           |      |      |  |  |             |             |  
|--------------------------------------------------------------- | ------ | -------------------- | ----------- | ------------------- | - | ------------------------- | ---- | ---- |  |  | ----------- | ----------- | -
|                                                                |        |                      |             |                     |   | Number of securities     
|                                                                |        | Number of securities |             | Weighted-average    |   | remaining available for  
|                                                                |        | to be issued         |             | exercise price of   |   | future issuance under    
|                                                                |        | upon exercise of     |             | outstanding         |   | equity compensation plans
|                                                                |        | outstanding options, |             | options,            |   | (excluding securities    
|Plan Category                                                   |        | warrants and rights  |             | warrants and rights |   | reflected in column (a)) 
|                                                                |        |                      |             |                     |   |                          
|                                                                |        | (a)                  |             | (b)                 |   | (c)                      
|Equity compensation plans approved by security
    holders:     |        |                      | 3,367,510(1 | )                   |   | $                         | 6.00 |      |  |  | 2,364,066(2 | )          
|Equity compensation plans not approved by
    security holders: |        |                      |            |                     |   |                           |     |      |  |  |            |            
|                                                                |        |                      |             |                     |   |                           |      |      |  |  |             |            
|                                                                | Total: |                      |             | 3,367,510(1         | ) |                           | $    | 6.00 |  |  |             | 2,364,066(2 | )
|                                                                |        |                      |             |                     |   |                           |      |      |  |  |             |            






|    |                                                                                                                                                                                                                                                                                       
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | This table excludes an aggregate of 399,473
    shares issuable upon exercise of outstanding options assumed by
    the Company in connection with the acquisition of NeoPath, Inc.
    in September 1999. The weighted-average exercise price of
    the excluded options is $13.02. 
|   
|(2) | Includes 924,701 shares issuable under the
    Companys 2000 Employee Stock Purchase Plan, all of which
    are issuable in connection with the current offering period
    which ends on June 30, 2003, assuming maximum participation
    of all employees to the extent permitted.

Item 13.     Certain
Relationships and Related Transactions

The response to this item is incorporated herein
by reference from the discussion responsive thereto under the
caption Compensation Committee Interlocks, Insider
Participation and Certain Transactions in the Proxy
Statement. See also Note 9 to the Consolidated Financial
Statements included herewith.

Item 14.     Controls
and Procedures

Under the supervision and with the participation
of our management, including our principal executive officer and
principal financial officer, we have evaluated the effectiveness
of the design and operation of our disclosure controls and
procedures within 90 days of the filing date of this annual
report. Based on their evaluation, our principal executive
officer and principal financial officer concluded that these
controls and procedures are effective in timely alerting them to
material information required to be disclosed by us in the
reports that we file with the SEC. There were no significant
changes in our internal controls or in other factors that could
significantly affect these controls subsequent to the date of
their evaluation.

53



---



##### 



PART IV

Item 15.     Exhibits,
Financial Statement Schedules and Reports on
Form 8-K



|        |                     
|------- | --------------------
|(a)  1. | Financial Statements

The consolidated financial statements are listed
under Part II, Item 8 of this report.



| |    |                             
| | -- | ----------------------------
| | 2. | Financial Statement Schedule

Schedules have been omitted because the
information required to be set forth therein is not applicable
or is shown in the accompanying Consolidated Financial
Statements.



| |    |         
| | -- | --------
| | 3. | Exhibits

The exhibits are listed under Part IV,
Item 15(c) of this report.

(b) Reports on Form 8-K

On August 14, 2002, TriPath Imaging, Inc.
filed a current report on Form 8-K with the SEC announcing that
we filed our quarterly report on Form 10-Q for the quarter
ended June 30, 2002 with the Securities & Exchange
Commission and attached as correspondence to that Form 10-Q
the certifications of our Chief Executive Officer and our Chief
Financial Officer, as required by 18 U.S.C. Section 1350.

(c) Exhibits

| |       |  |  |                                                                                                                                                                                                                                                                                                       
| | ----- |  |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |       | 
| | 3.1   |  |  | Restated Certificate of Incorporation of the
    Company. Filed as Exhibit 3.1 to our Form 10-Q for the
    quarter ended June 30, 2002 (File No. 0-22885) and
    incorporated herein by reference.                                                                                                  
| | 3.2   |  |  | Amended and Restated By-laws of the Company.
    Filed as Exhibit 3.2 to our Form 10-Q for the quarter
    ended June 30, 2002 (File No. 0-22885) and
    incorporated herein by reference.                                                                                                           
| | 4.1   |  |  | Specimen of Common Stock Certificate. Filed as
    Exhibit 4.1 to our Registration Statement on Form S-1
    (File No. 333-30227) and incorporated herein by reference.                                                                                                                               
| | 10.1* |  |  | Amended and Restated 1996 Equity Incentive Plan
    (including forms of incentive stock option certificate and
    nonstatutory stock option certificate). Filed as
    Exhibit 10.1 to our Registration Statement on Form S-1
    (File No. 333-30227) and incorporated herein by reference.         
| | 10.2* |  |  | 1997 Director Stock Option Plan (including form
    of director non-statutory stock option certificate). Filed as
    Exhibit 10.2 to our Registration Statement on Form S-1
    (File No. 333-30227) and incorporated herein by reference.                                                           
| | 10.3* |  |  | Form of Indemnification Agreement between the
    Company and its Directors and Executive Officers. Filed as
    Exhibit 10.11 to the Companys Registration Statement
    on Form S-1 (File No. 333-30227) and incorporated
    herein by reference.                                                 
| | 10.4  |  |  | Lease Agreement dated as of July 28, 1997 by
    and between Carolina Hosiery Mills, Inc. and the Company. Filed
    as Exhibit 10.12 to the Companys Registration
    Statement on Form S-1 (File No. 333-30227) and
    incorporated herein by reference.                                          
| | 10.5  |  |  | Lease Agreement dated June 12, 1998 by and
    between Carolina Hosiery Mills, Inc. and AutoCyte, Inc. Filed as
    Exhibit 10.1 to the Companys Form 10-Q for the
    quarter ended June 30, 1998 (File No. 0-22885) and
    incorporated herein by reference.                                      
| | 10.6  |  |  | Amendment dated March 2, 1999 to Lease
    Agreement dated July 28, 1997 by and between Carolina
    Hosiery Mills, Inc. and AutoCyte, Inc. Filed as
    Exhibit 10.1 to the Companys Form 10-Q for the
    quarter ended March 31, 1999 (File No. 0-22885) and
    incorporated herein by reference.
| | 10.7  |  |  | Intellectual Property Purchase Agreement dated as
    of April 24, 1999 by and between NeoPath, Inc. and
    AutoCyte, Inc. Filed as Exhibit 10.21 to the Amendment
    No. 2 to the Companys S-1 (File No. 333-82121)
    and incorporated herein by reference.                                     

54



---



##### 



| |        |  |  |                                                                                                                                                                                                                                                                                                                                                      
| | ------ |  |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |        | 
| | 10.8   |  |  | Loan and Security Agreement dated as of
    January 19, 2000 by and between MMC/ GATX Partnership
    No. I, Transamerica Business Credit Corporation and TriPath
    Imaging, Inc. Filed as Exhibit 10.1 to the Companys
    Form 10-Q for the quarter ended March 31, 2000 (File
    No. 0-22885) and incorporated herein by reference.           
| | 10.9   |  |  | Loan and Security Agreement dated as of
    January 31, 2000 (the Loan and Security
    Agreement) by and between Silicon Valley Bank and TriPath
    Imaging, Inc. Filed as Exhibit 10.2 to the Companys
    Form 10-Q for the quarter ended March 31, 2000 (File
    No. 0-22885) and incorporated herein by reference.                         
| | 10.10  |  |  | Securities Purchase Agreement, dated
    September 26, 2000, by and among TriPath Imaging, Inc.,
    Roche International Ltd. and Certain Stockholders of TriPath
    Imaging. Filed as Exhibit 99.2 to the Companys
    Form 8-K as filed with the commission on October 24,
    2000 (File No. 0-232885) and incorporated herein by
    reference.
| | 10.11  |  |  | Securities Purchase Agreement dated as of
    July 31, 2001 by and between the Company and Becton,
    Dickinson and Company. Filed as Exhibit 10.1 to the
    Companys Form 10-Q for the quarter ended
    June 30, 2001 (File No. 0-22885) and incorporated herein by
    reference.                                                              
| | 10.12  |  |  | Securities Purchase Agreement dated as of
    July 31, 2001 by and among the Company, Millennium
    Pharmaceuticals, Inc. and mHoldings Trust. Filed as
    Exhibit 10.2 to the Companys Form 10-Q for the
    quarter ended June 30, 2001 (File No. 0-22885) and
    incorporated herein by reference.                                            
| | 10.13  |  |  | License and Intellectual Property Access
    Agreement dated as of July 31, 2001 by and between the Company
    and Becton, Dickinson and Company. Filed as Exhibit 10.3 to
    the Companys Form 10-Q for the quarter ended
    June 30, 2001 (File No. 0-22885) and incorporated
    herein by reference.                                         
| | 10.14  |  |  | Development and License Agreement dated as of
    July 31, 2001 by and among the Company, Becton, Dickinson
    and Company and TriPath Oncology, Inc. Filed as
    Exhibit 10.4 to the Companys Form 10-Q for the
    quarter ended June 30, 2001 (File No. 0-22885) and
    incorporated herein by reference.                                     
| | 10.15  |  |  | Sublicense Agreement dated as of July 31,
    2001 by and among the Company, Becton, Dickinson and Company and
    TriPath Oncology, Inc. Filed as Exhibit 10.5 to the
    Companys Form 10-Q for the quarter ended
    June 30, 2001 (File No. 0-22885) and incorporated
    herein by reference.                                                  
| | 10.16  |  |  | Lease Agreement between NeoPath, Inc. and
    Teachers Insurance & Annuity Association dated
    October 1, 1994 (the Lease Agreement) and all
    amendments thereto. Filed as Exhibit 10.25 to the
    Companys Form 10-K for the year ended
    December 31, 2001 (File No. 0-22885) and incorporated
    herein by reference.                 
| | 10.17  |  |  | Sublease Agreement by and between NeoPath, Inc.
    and Antioch Bible Church dated as of August 31, 1999. Filed
    as Exhibit 10.26 to the Companys Form 10-K for
    the year ended December 31, 2001 (File No. 0-22885) and
    incorporated herein by reference.                                                                                
| | 10.18  |  |  | Assignment of the Lease Agreement from NeoPath,
    Inc. to AutoCyte, Inc. dated September 28, 1999. Filed as
    Exhibit 10.27 to the Companys Form 10-K for the year
    ended December 31, 2001 (File No. 0-22885) and
    incorporated herein by reference.                                                                                     
| | 10.19 |  |  | OEM Supply Agreement dated November 1, 2001
    by and between Tecan Schweiz AG and the Company. Filed as
    Exhibit 10.28 to the Companys Form 10-K for the year
    ended December 31, 2001 (File No. 0-22885) and
    incorporated herein by reference.                                                                                         
| | 10.20  |  |  | Amendment dated December 1, 2001 to Lease
    Agreement dated June 12, 1998 by and between Carolina
    Hosiery Mills, Inc. and TriPath Imaging, Inc. Filed as
    Exhibit 10.29 to the Companys Form 10-K for the
    year ended December 31, 2001 (File No. 0-22885) and
    incorporated herein by reference.                                    

55



---



##### 



| |       |  |  |                                                                                                                                                                                                                                                                                                                                        
| | ----- |  |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |       | 
| | 10.21 |  |  | Second Loan Modification Agreement to the Loan
    and Security Agreement effective as of January 31, 2002 by
    and between Silicon Valley Bank and TriPath Imaging, Inc. Filed
    as Exhibit 10.30 to the Companys Form 10-K for
    the year ended December 31, 2001 (File No. 0-22885)
    and incorporated herein by reference.
| | 10.22 |  |  | Lease Agreement dated as of February 6, 2002
    by and between TBC Place Partners II, LLC and TriPath Oncology,
    Inc. Filed as Exhibit 10.31 to the Companys
    Form 10-K for the year ended December 31, 2001 (File
    No. 0-22885) and incorporated herein by reference.                                                      
| | 10.23 |  |  | Third Loan Modification Agreement to the Loan and
    Security Agreement effective as of June 17, 2002 by and
    between Silicon Valley Bank and TriPath Imaging, Inc. Filed
    herewith.                                                                                                                                            
| | 10.24 |  |  | Lease Agreement dated as of July 1, 2002 by
    and between Banc of America Leasing & Capital, LLC and
    TriPath Imaging, Inc. Filed herewith.                                                                                                                                                                                       
| | 10.25 |  |  | Fourth Loan Modification Agreement to the Loan
    and Security Agreement effective as of January 31, 2003 by
    and between Silicon Valley Bank and TriPath Imaging, Inc. Filed
    herewith.                                                                                                                                        
| | 21.1  |  |  | List of all subsidiaries of the Company. Filed
    herewith.                                                                                                                                                                                                                                                                           
| | 23.1  |  |  | Consent of Ernst & Young LLP, independent
    auditors to the Company. Filed herewith.                                                                                                                                                                                                                                                 
| | 99.1  |  |  | Factors Affecting Future Operating Results. Filed
    herewith.                                                                                                                                                                                                                                                                        
| | 99.2  |  |  | Certification pursuant to 18 U.S.C. Section 1350.
    Filed herewith.                                                                                                                                                                                                                                                                  






|  |                                                          
|- | ---------------------------------------------------------
|* | Indicates a management contract or compensatory
    plan.



|  |                                                                                                                                                                                                                                                                                                                                                                                                                      
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Certain confidential material contained in the
    document has been omitted and filed separately with the
    Securities and Exchange Commission pursuant to both
    Rule 406 of the Securities Act of 1933, as amended, and
    Rule 24b-2 of the Securities Exchange Act of 1934, as
    amended, as applicable. Omitted information is identified with
    asterisks in the appropriate places in the agreement.

56



---



##### 



SIGNATURES

Pursuant to the requirements of Section 13
or 15(d) of the Securities Exchange Act of 1934, the registrant
has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of
Burlington, State of North Carolina, on March 24, 2003.



| |                      
| | ---------------------
| | TRIPATH IMAGING, INC.



| |     |                   
| | --- | ------------------
| | By: | /s/ PAUL R. SOHMER

| |                                                
| | -----------------------------------------------
| |                                                
| | Paul R. Sohmer, M.D.                           
| | Chairman, President and Chief Executive Officer



| |                                                                                                                                                                                                                                         
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Pursuant to the requirements of the Securities
    Exchange Act of 1934, this report has been signed below by the
    following persons on behalf of the registrant and in the
    capacities indicated on this 24th day of March, 2003.

|                                                     |  |                                                                                                                     
|---------------------------------------------------- |  | --------------------------------------------------------------------------------------------------------------------
|Signature                                            |  | Title                                                                                                               
|                                                     |  |                                                                                                                     
|                                                    
|/s/ PAUL R. SOHMERPaul R. Sohmer, M. D.              |  | President, Chief Executive Officer and Director
    (Principal Executive Officer)                                   
|                                                    
|/s/ STEPHEN P. HALLStephen P. Hall                   |  | Senior Vice-President and Chief Financial Officer
    (Principal Financial Officer and Principal Accounting Officer)
|/s/ THOMAS A. BONFIGLIOThomas A. Bonfiglio, M.D.     |  | Director                                                                                                            
|/s/ HAYWOOD D. COCHRANE, JR.Haywood D. Cochrane, Jr. |  | Director                                                                                                            
|/s/ ROBERT E. CURRYRobert E. Curry, Ph.D.            |  | Director                                                                                                            
|/s/ ROBERT L. SULLIVANRobert L. Sullivan             |  | Director                                                                                                            

57



---



##### 



Certification Pursuant to §240.13a-14 or
§240.15d-14 of the Securities Exchange Act of 1934

I, Paul R. Sohmer, certify that:

1. I have reviewed this annual report on
Form 10-K of TriPath Imaging, Inc.;

2. Based on my knowledge, this annual report does
not contain any untrue statement of a material fact or omit to
state a material fact necessary to make the statements made, in
light of the circumstances under which such statements were
made, not misleading with respect to the period covered by this
annual report;

3. Based on my knowledge, the financial
statements, and other financial information included in this
annual report, fairly present in all material respects the
financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual
report;

4. The registrants other certifying
officers and I are responsible for establishing and maintaining
disclosure controls and procedures (as defined in Exchange Act
Rules 13a-14 and 15d-14) for the registrant and we have:



| |                                                                                                                                                                                                                                                                                                                
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | a) designed such disclosure controls and
    procedures to ensure that material information relating to the
    registrant, including its consolidated subsidiaries, is made
    known to us by others within those entities, particularly during
    the period in which this annual report is being prepared;
|
| | b) evaluated the effectiveness of the
    registrants disclosure controls and procedures as of a
    date within 90 days prior to the filing date of this annual
    report (the Evaluation Date); and                                                                                                      
|
| | c) presented in this annual report our
    conclusions about the effectiveness of the disclosure controls
    and procedures based on our evaluation as of the Evaluation Date;                                                                                                                                

5. The registrants other certifying
officers and I have disclosed, based on our most recent
evaluation, to the registrants auditors and the audit
committee of registrants board of directors (or persons
performing the equivalent function):



| |                                                                                                                                                                                                                                                                                                                      
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | a) all significant deficiencies in the
    design or operation of internal controls which could adversely
    affect the registrants ability to record, process,
    summarize and report financial data and have identified for the
    registrants auditors any material weaknesses in internal
    controls; and
|
| | b) any fraud, whether or not material, that
    involves management or other employees who have a significant
    role in the registrants internal controls; and                                                                                                                                                    

6. The registrants other certifying
officers and I have indicated in this annual report whether or
not there were significant changes in internal controls or in
other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies
and material weaknesses.

Date: March 24, 2003

| |                         
| | ------------------------
| | /s/ PAUL R. SOHMER, M.D.
| |                         
| | Paul R. Sohmer, M.D.    
| | Chief Executive Officer 

58



---



##### 



Certification Pursuant to §240.13a-14 or
§240.15d-14 of the Securities Exchange Act of
1934

I, Stephen P. Hall , certify that:

1. I have reviewed this annual report on
Form 10-K of TriPath Imaging, Inc.;

2. Based on my knowledge, this annual report does
not contain any untrue statement of a material fact or omit to
state a material fact necessary to make the statements made, in
light of the circumstances under which such statements were
made, not misleading with respect to the period covered by this
annual report;

3. Based on my knowledge, the financial
statements, and other financial information included in this
annual report, fairly present in all material respects the
financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual
report;

4. The registrants other certifying
officers and I are responsible for establishing and maintaining
disclosure controls and procedures (as defined in Exchange Act
Rules 13a-14 and 15d-14) for the registrant and we have:



| |                                                                                                                                                                                                                                                                                                                
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | a) designed such disclosure controls and
    procedures to ensure that material information relating to the
    registrant, including its consolidated subsidiaries, is made
    known to us by others within those entities, particularly during
    the period in which this annual report is being prepared;
|
| | b) evaluated the effectiveness of the
    registrants disclosure controls and procedures as of a
    date within 90 days prior to the filing date of this annual
    report (the Evaluation Date); and                                                                                                      
|
| | c) presented in this annual report our
    conclusions about the effectiveness of the disclosure controls
    and procedures based on our evaluation as of the Evaluation Date;                                                                                                                                

5. The registrants other certifying
officers and I have disclosed, based on our most recent
evaluation, to the registrants auditors and the audit
committee of registrants board of directors (or persons
performing the equivalent function):



| |                                                                                                                                                                                                                                                                                                                      
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | a) all significant deficiencies in the
    design or operation of internal controls which could adversely
    affect the registrants ability to record, process,
    summarize and report financial data and have identified for the
    registrants auditors any material weaknesses in internal
    controls; and
|
| | b) any fraud, whether or not material, that
    involves management or other employees who have a significant
    role in the registrants internal controls; and                                                                                                                                                    

6. The registrants other certifying
officers and I have indicated in this annual report whether or
not there were significant changes in internal controls or in
other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies
and material weaknesses.

Date: March 24, 2003

| |                        
| | -----------------------
| | /s/ STEPHEN P. HALL    
| |                        
| | Stephen P. Hall        
| | Chief Financial Officer

59



---



##### 



TRIPATH IMAGING, INC.

INDEX TO CONSOLIDATED FINANCIAL
STATEMENTS

|                                                                                                          |  |      |     | 
|--------------------------------------------------------------------------------------------------------- |  | ---- | --- | 
|                                                                                                          |  | Page
|                                                                                                          |  |     
|Report of Independent Auditors                                                                            |  |      | F-2 | 
|Consolidated Balance Sheets as of
    December 31, 2002 and 2001                                          |  |      | F-3 | 
|Consolidated Statements of Operations for the
    Years Ended December 31, 2002, 2001, and 2000           |  |      | F-4 | 
|Consolidated Statements of Stockholders
    Equity for the Years Ended December 31, 2002, 2001, and 2000 |  |      | F-5 | 
|Consolidated Statements of Cash Flows for the
    Years Ended December 31, 2002, 2001, and 2000           |  |      | F-6 | 
|Notes to Consolidated Financial Statements                                                                |  |      | F-7 | 

F-1



---



##### 



TRIPATH IMAGING, INC.



REPORT OF INDEPENDENT AUDITORS


The Board of Directors and Stockholders 
 TriPath Imaging, Inc.

We have audited the accompanying consolidated
balance sheets of TriPath Imaging, Inc. and subsidiaries as of
December 31, 2002 and 2001, and the related consolidated
statements of operations, stockholders equity and cash
flows for each of the three years in the period ended
December 31, 2002. These financial statements are the
responsibility of the Companys management. Our
responsibility is to express an opinion on these financial
statements based on our audits.

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

In our opinion, the financial statements referred
to above present fairly, in all material respects, the
consolidated financial position of TriPath Imaging, Inc. and
subsidiaries at December 31, 2002 and 2001, and the
consolidated results of their operations and their cash flows
for each of the three years in the period ended
December 31, 2002 in conformity with accounting principles
generally accepted in the United States.

/s/ Ernst & Young LLP

Raleigh, North Carolina

January 31, 2003


F-2



---



##### 



TRIPATH IMAGING, INC.



CONSOLIDATED BALANCE SHEETS


(In thousands, except share and per share amounts)


|                                                                                                                                                                         |                                                                                                                    |                                            |              |        |        |        |          |        |        |        | 
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | ------------------------------------------------------------------------------------------------------------------ | ------------------------------------------ | ------------ | ------ | ------ | ------ | -------- | ------ | ------ | ------ | 
|                                                                                                                                                                         |                                                                                                                    |                                           
|                                                                                                                                                                         |                                                                                                                    | December 31,                              
|                                                                                                                                                                         |                                                                                                                    |                                           
|                                                                                                                                                                         |                                                                                                                    | 2002                                       |              | 2001  
|                                                                                                                                                                         |                                                                                                                    |                                            |              |       
|ASSETS                                                                                                                                                                   |                                                                                                                    |                                            |              |        |        |        |          |       
|Current assets:                                                                                                                                                          |                                                                                                                    |                                            |              |        |        |        |          |       
|                                                                                                                                                                         | Cash and cash equivalents                                                                                          |                                            | $            | 32,571 |        |        | $        | 53,477 |       
|                                                                                                                                                                         | Short-term investments                                                                                             |                                            |              |       |        |        |          | 2,499  |       
|                                                                                                                                                                         | Accounts receivable, less allowance of $3,554 and
    $3,285 at December 31, 2002 and 2001, respectively           |                                            |              | 9,370  |        |        |          | 9,581  |       
|                                                                                                                                                                         | Inventory, less reserves for obsolescence of
    $1,828 and $2,312 at December 31, 2002 and 2001,
    respectively |                                            |              | 10,973 |        |        |          | 10,718 |       
|                                                                                                                                                                         | Other current assets                                                                                               |                                            |              | 477    |        |        |          | 1,079  |       
|                                                                                                                                                                         |                                                                                                                    |                                            |              |        |        |        |          |       
|                                                                                                                                                                         |                                                                                                                    | Total current assets                       |              |        | 53,391 |        |          |        | 77,354 |       
|Customer use assets, net                                                                                                                                                 |                                                                                                                    |                                            | 6,357        |        |        |        | 6,089    |       
|Property and equipment, net                                                                                                                                              |                                                                                                                    |                                            | 4,063        |        |        |        | 2,362    |       
|Other assets                                                                                                                                                             |                                                                                                                    |                                            | 930          |        |        |        | 916      |       
|Patents, less accumulated amortization of $2,419
    and $1,752 at December 31, 2002 and 2001, respectively                                                              |                                                                                                                    |                                            | 7,126        |        |        |        | 7,793    |       
|Other intangible assets, less accumulated
    amortization of $916 and $766 at December 31, 2002 and
    2001, respectively                                              |                                                                                                                    |                                            | 2,084        |        |        |        | 2,234    |       
|                                                                                                                                                                         |                                                                                                                    |                                            | Total assets |        | $      | 73,951 |          |        | $      | 96,748 | 
|                                                                                                                                                                         |                                                                                                                    |                                            |              |        |        |        |          |       
|                                                                                                                                                                        
|LIABILITIES AND STOCKHOLDERS
    EQUITY                                                                                                                                 |                                                                                                                    |                                            |              |        |        |        |          |       
|Current liabilities:                                                                                                                                                     |                                                                                                                    |                                            |              |        |        |        |          |       
|                                                                                                                                                                         | Accounts payable                                                                                                   |                                            | $            | 2,341  |        |        | $        | 4,411  |       
|                                                                                                                                                                         | Accrued expenses                                                                                                   |                                            |              | 5,436  |        |        |          | 4,116  |       
|                                                                                                                                                                         | Deferred revenue and customer deposits                                                                             |                                            |              | 1,103  |        |        |          | 730    |       
|                                                                                                                                                                         | Deferred research and development funding                                                                          |                                            |              | 2,479  |        |        |          | 2,479  |       
|                                                                                                                                                                         | Current portion of long-term debt                                                                                  |                                            |              | 785    |        |        |          | 2,720  |       
|                                                                                                                                                                         | Other current liabilities                                                                                          |                                            |              | 2,410  |        |        |          |       |       
|                                                                                                                                                                         |                                                                                                                    |                                            |              |        |        |        |          |       
|                                                                                                                                                                         |                                                                                                                    | Total current liabilities                  |              |        | 14,554 |        |          |        | 14,456 |       
|Long-term debt, less current portion                                                                                                                                     |                                                                                                                    |                                            | 13           |        |        |        | 790      |       
|Other long-term liabilities                                                                                                                                              |                                                                                                                    |                                            | 207          |        |        |        | 4,211    |       
|Stockholders equity:                                                                                                                                                    |                                                                                                                    |                                            |              |        |        |        |          |       
|Preferred stock, $0.01 par value; 1,000,000
    shares authorized; none issued and outstanding                                                                           |                                                                                                                    |                                            |             |        |        |        |         |       
|Common stock, $0.01 par value; 98,000,000 shares
    authorized; 37,454,234 and 37,304,738 shares issued and
    outstanding at December 31, 2002 and 2001, respectively |                                                                                                                    |                                            | 375          |        |        |        | 373      |       
|Additional paid-in capital                                                                                                                                               |                                                                                                                    |                                            | 283,396      |        |        |        | 283,395  |       
|Deferred compensation                                                                                                                                                    |                                                                                                                    |                                            | (78          | )      |        |        |         |       
|Accumulated deficit                                                                                                                                                      |                                                                                                                    |                                            | (224,482     | )      |        |        | (206,418 | )     
|Accumulated other comprehensive loss                                                                                                                                     |                                                                                                                    |                                            | (34          | )      |        |        | (59      | )     
|                                                                                                                                                                         |                                                                                                                    | Total stockholders equity                 |              |        | 59,177 |        |          |        | 77,291 |       
|                                                                                                                                                                         |                                                                                                                    | Total liabilities and stockholders equity |              | $      | 73,951 |        |          | $      | 96,748 |       
|                                                                                                                                                                         |                                                                                                                    |                                            |              |        |        |        |          |       

See accompanying notes

F-3



---



##### 



TRIPATH IMAGING, INC.



CONSOLIDATED STATEMENTS OF
OPERATIONS


(In thousands, except share and per share amounts)


|                                                                                                       |                            |                         |         |        |  |      |         |        |  |   |         |        | 
|------------------------------------------------------------------------------------------------------ | -------------------------- | ----------------------- | ------- | ------ |  | ---- | ------- | ------ |  | - | ------- | ------ | 
|                                                                                                       |                            |                        
|                                                                                                       |                            | Year Ended December 31,
|                                                                                                       |                            |                        
|                                                                                                       |                            | 2002                    |         | 2001   |  | 2000
|                                                                                                       |                            |                         |         |        |  |     
|Revenues                                                                                               |                            | $                       | 37,485  |        |  | $    | 27,017  |        |  | $ | 32,652  |       
|Cost of revenues                                                                                       |                            |                         | 14,922  |        |  |      | 13,096  |        |  |   | 16,123  |       
|                                                                                                       |                            |                         |         |        |  |      |         |        |  |   |         |       
|Gross profit                                                                                           |                            |                         | 22,563  |        |  |      | 13,921  |        |  |   | 16,529  |       
|Operating expenses:                                                                                    |                            |                         |         |        |  |      |         |        |  |   |         |       
|                                                                                                       | Research and development   |                         |         | 8,522  |  |      |         | 7,289  |  |   |         | 8,790  | 
|                                                                                                       | Regulatory                 |                         |         | 2,725  |  |      |         | 1,970  |  |   |         | 839    | 
|                                                                                                       | Sales and marketing        |                         |         | 19,850 |  |      |         | 18,685 |  |   |         | 5,718  | 
|                                                                                                       | General and administrative |                         |         | 9,948  |  |      |         | 8,661  |  |   |         | 18,149 | 
|                                                                                                       |                            |                         | 41,045  |        |  |      | 36,605  |        |  |   | 33,496  |       
|                                                                                                       |                            |                         |         |        |  |      |         |        |  |   |         |       
|Operating loss                                                                                         |                            |                         | (18,482 | )      |  |      | (22,684 | )      |  |   | (16,967 | )     
|Interest income                                                                                        |                            |                         | 969     |        |  |      | 2,321   |        |  |   | 1,256   |       
|Interest expense, including amortization of
    non-cash debt issuance costs under term loan agreement |                            |                         | (551    | )      |  |      | (1,317  | )      |  |   | (1,658  | )     
|Net loss                                                                                               |                            | $                       | (18,064 | )      |  | $    | (21,680 | )      |  | $ | (17,369 | )     
|                                                                                                       |                            |                         |         |        |  |      |         |        |  |   |         |       
|Net loss per common share (basic and diluted)                                                          |                            | $                       | (0.48   | )      |  | $    | (0.61   | )      |  | $ | (0.60   | )     
|                                                                                                       |                            |                         |         |        |  |      |         |        |  |   |         |       
|Weighted-average common shares outstanding                                                             |                            |                         | 37,438  |        |  |      | 35,467  |        |  |   | 29,137  |       
|                                                                                                       |                            |                         |         |        |  |      |         |        |  |   |         |       

See accompanying notes

F-4



---



##### 



TRIPATH IMAGING, INC.



CONSOLIDATED STATEMENTS OF STOCKHOLDERS
EQUITY


(In thousands, except share and per share amounts)


|                                 |                                                                              |                    |     |            |  |              |         |             |   |               |      |               |   |   |          |         |   |   |     |    |  |   |        |         |         |  
|-------------------------------- | ---------------------------------------------------------------------------- | ------------------ | --- | ---------- |  | ------------ | ------- | ----------- | - | ------------- | ---- | ------------- | - | - | -------- | ------- | - | - | --- | -- |  | - | ------ | ------- | ------- | -
|                                 |                                                                              |                    |     |            |  |              |         |             |   | Accumulated   |      |              
|                                 |                                                                              |                    |     | Additional |  |              |         |             |   | Other         |      | Total        
|                                 |                                                                              | Common             |     | Paid-in    |  | Deferred     |         | Accumulated |   | Comprehensive |      | Stockholders
|                                 |                                                                              | Stock              |     | Capital    |  | Compensation |         | Deficit     |   | Income(Loss)  |      | Equity       
|                                 |                                                                              |                    |     |            |  |              |         |             |   |               |      |              
|Balance at January 1, 2000       |                                                                              | $                  | 281 |            |  | $            | 214,892 |             |   | $             | (779 | )             |   | $ | (167,369 | )       |   | $ |    |    |  | $ | 47,025 |        
|Exercise of options and warrants |                                                                              |                    | 8   |            |  |              | 1,543   |             |   |               |     |               |   |   |         |         |   |   |    |    |  |   | 1,551  |        
|                                 | Private issuance of common stock and warrants                                |                    |     | 50         |  |              |         | 42,950      |   |               |      |              |   |   |          |        |   |   |     |   |  |   |        | 43,000  |        
|                                 | Issuance of warrants as consideration under term
    loan agreement          |                    |     |           |  |              |         | 1,725       |   |               |      |              |   |   |          |        |   |   |     |   |  |   |        | 1,725   |        
|                                 | Re-pricing of warrants issued as consideration
    under term loan agreement |                    |     |           |  |              |         | 420         |   |               |      |              |   |   |          |        |   |   |     |   |  |   |        | 420     |        
|                                 | Re-pricing of stock options                                                  |                    |     |           |  |              |         | 2,134       |   |               |      |              |   |   |          |        |   |   |     |   |  |   |        | 2,134   |        
|                                 | Issuance of stock based compensation                                         |                    |     | 2          |  |              |         | 1,618       |   |               |      |              |   |   |          |        |   |   |     |   |  |   |        | 1,620   |        
|                                 | Adjustment to deferred compensation                                          |                    |     |           |  |              |         | (22         | ) |               |      | 22            |   |   |          |        |   |   |     |   |  |   |        |        |        
|                                 | Amortization of deferred compensation                                        |                    |     |           |  |              |         |            |   |               |      | 668           |   |   |          |        |   |   |     |   |  |   |        | 668     |        
|                                 | Net loss                                                                     |                    |     |           |  |              |         |            |   |               |      |              |   |   |          | (17,369 | ) |   |     |   |  |   |        | (17,369 | )      
|                                 |                                                                              |                    |     |            |  |              |         |             |   |               |      |               |   |   |          |         |   |   |     |    |  |   |        |        
|                                 |                                                                              | Comprehensive loss |     |            |  |              |         |             |   |               |      |               |   |   |          |         |   |   |     |    |  |   |        |         | (17,369 | )
|                                 |                                                                              |                    |     |            |  |              |         |             |   |               |      |               |   |   |          |         |   |   |     |    |  |   |        |        
|Balance at December 31, 2000     |                                                                              |                    | 341 |            |  |              | 265,260 |             |   |               | (89  | )             |   |   | (184,738 | )       |   |   |    |    |  |   | 80,774 |        
|                                 | Exercise of options and warrants                                             |                    |     | 3          |  |              |         | 934         |   |               |      |              |   |   |          |        |   |   |     |   |  |   |        | 937     |        
|                                 | Private issuance of common stock                                             |                    |     | 29         |  |              |         | 17,777      |   |               |      |              |   |   |          |        |   |   |     |   |  |   |        | 17,806  |        
|                                 | Re-pricing of warrants issued as consideration
    under term loan agreement |                    |     |           |  |              |         | (576        | ) |               |      |              |   |   |          |        |   |   |     |   |  |   |        | (576    | )      
|                                 | Amortization of deferred compensation                                        |                    |     |           |  |              |         |            |   |               |      | 89            |   |   |          |        |   |   |     |   |  |   |        | 89      |        
|Foreign currency translation     |                                                                              |                    |    |            |  |              |        |             |   |               |     |               |   |   |         |         |   |   | (59 | )  |  |   | (59    | )      
|                                 | Net loss                                                                     |                    |     |           |  |              |         |            |   |               |      |              |   |   |          | (21,680 | ) |   |     |   |  |   |        | (21,680 | )      
|                                 |                                                                              |                    |     |            |  |              |         |             |   |               |      |               |   |   |          |         |   |   |     |    |  |   |        |        
|                                 |                                                                              | Comprehensive loss |     |            |  |              |         |             |   |               |      |               |   |   |          |         |   |   |     |    |  |   |        |         | (21,739 | )
|                                 |                                                                              |                    |     |            |  |              |         |             |   |               |      |               |   |   |          |         |   |   |     |    |  |   |        |        
|                                
|Balance at December 31, 2001     |                                                                              |                    | 373 |            |  |              | 283,395 |             |   |               |     |               |   |   | (206,418 | )       |   |   | (59 | )  |  |   | 77,291 |        
|                                 | Exercise of options and warrants                                             |                    |     | 2          |  |              |         | 234         |   |               |      |              |   |   |          |        |   |   |     |   |  |   |        | 236     |        
|                                 | Re-pricing of warrants issued as consideration
    under term loan agreement |                    |     |           |  |              |         | (350        | ) |               |      |              |   |   |          |        |   |   |     |   |  |   |        | (350    | )      
|                                 | Deferred compensation related to grant of stock
    options                  |                    |     |           |  |              |         | 152         |   |               |      | (152          | ) |   |          |        |   |   |     |   |  |   |        |        |        
|                                 | Adjustment to deferred compensation                                          |                    |     |           |  |              |         | (35         | ) |               |      | 35            |   |   |          |        |   |   |     |   |  |   |        |        |        
|                                 | Amortization of deferred compensation                                        |                    |     |           |  |              |         |            |   |               |      | 39            |   |   |          |        |   |   |     |   |  |   |        | 39      |        
|                                 | Foreign currency translation                                                 |                    |     |           |  |              |         |            |   |               |      |              |   |   |          |        |   |   |     | 25 |  |   |        | 25      |        
|                                 | Net loss                                                                     |                    |     |           |  |              |         |            |   |               |      |              |   |   |          | (18,064 | ) |   |     |   |  |   |        | (18,064 | )      
|                                 |                                                                              | Comprehensive loss |     |            |  |              |         |             |   |               |      |               |   |   |          |         |   |   |     |    |  |   |        |         | (18,039 | )
|                                 |                                                                              |                    |     |            |  |              |         |             |   |               |      |               |   |   |          |         |   |   |     |    |  |   |        |        
|                                
|Balance at December 31, 2002     |                                                                              | $                  | 375 |            |  | $            | 283,396 |             |   | $             | (78  | )             |   | $ | (224,482 | )       |   | $ | (34 | )  |  | $ | 59,177 |        
|                                 |                                                                              |                    |     |            |  |              |         |             |   |               |      |               |   |   |          |         |   |   |     |    |  |   |        |        

See accompanying notes.

F-5



---



##### 



TRIPATH IMAGING, INC.



CONSOLIDATED STATEMENTS OF CASH
FLOWS


(In thousands, except share and per share amounts)


|                                               |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |        |        |  
|---------------------------------------------- | ------------------------------------------------------------------------------- | --------------------------------------------------------------------------------------------- | ------- | ------- | ------ | ---- | ------- | ------- | ------ | - | ------- | ------ | ------ | -
|                                               |                                                                                 |                                                                                              
|                                               |                                                                                 | Year Ended December 31,                                                                      
|                                               |                                                                                 |                                                                                              
|                                               |                                                                                 | 2002                                                                                          |         | 2001    |        | 2000
|                                               |                                                                                 |                                                                                               |         |         |        |     
|OPERATING ACTIVITIES                           |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|Net loss                                       |                                                                                 | $                                                                                             | (18,064 | )       |        | $    | (21,680 | )       |        | $ | (17,369 | )     
|                                               | Adjustments to reconcile net loss to net cash
    used in operating activities: |                                                                                               |         |         |        |      |         |         |        |   |         |        |       
|                                               |                                                                                 | Depreciation                                                                                  |         |         | 3,044  |      |         |         | 3,071  |   |         |        | 5,868  |  
|                                               |                                                                                 | Amortization of intangible assets                                                             |         |         | 817    |      |         |         | 817    |   |         |        | 817    |  
|                                               |                                                                                 | Amortization of deferred compensation                                                         |         |         | 39     |      |         |         | 89     |   |         |        | 668    |  
|                                               |                                                                                 | Non-cash equity compensation                                                                  |         |         |       |      |         |         |       |   |         |        | 2,134  |  
|                                               |                                                                                 | Issuance of stock based compensation                                                          |         |         |       |      |         |         |       |   |         |        | 1,620  |  
|                                               |                                                                                 | Amortization of deferred research and development                                             |         |         | (2,479 | )    |         |         | (1,033 | ) |         |        |       |  
|                                               |                                                                                 | Amortization of non-cash debt issuance costs                                                  |         |         | 225    |      |         |         | 487    |   |         |        | 507    |  
|                                               |                                                                                 | (Gain) loss on disposal of fixed assets                                                       |         |         | (3     | )    |         |         | (9     | ) |         |        | 1      |  
|                                               |                                                                                 | Other non-cash items                                                                          |         |         | 885    |      |         |         | 695    |   |         |        | 1,260  |  
|                                               | Changes in operating assets and liabilities:                                    |                                                                                               |         |         |        |      |         |         |        |   |         |        |       
|                                               |                                                                                 | Accounts receivable                                                                           |         |         | 233    |      |         |         | 2,005  |   |         |        | (6,160 | )
|                                               |                                                                                 | Inventory                                                                                     |         |         | (3,005 | )    |         |         | (2,135 | ) |         |        | 1,328  |  
|                                               |                                                                                 | Other current assets                                                                          |         |         | 603    |      |         |         | (218   | ) |         |        | (25    | )
|                                               |                                                                                 | Other long-term assets                                                                        |         |         | (28    | )    |         |         | (809   | ) |         |        | 187    |  
|                                               |                                                                                 | Accounts payable and accrued expenses                                                         |         |         | (767   | )    |         |         | 100    |   |         |        | 1,444  |  
|                                               |                                                                                 | Deferred revenue and customer deposits                                                        |         |         | 373    |      |         |         | (427   | ) |         |        | (520   | )
|                                               |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|                                               | Net cash used in operating activities                                           |                                                                                               |         | (18,127 | )      |      |         | (19,047 | )      |   |         | (8,240 | )     
|INVESTING ACTIVITIES                           |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|                                               | Purchases of property and equipment                                             |                                                                                               |         | (2,251  | )      |      |         | (936    | )      |   |         | (217   | )     
|                                               | Disposals of property and equipment                                             |                                                                                               |         | 5       |        |      |         | 9       |        |   |         |       |       
|                                               | Sales (Purchases) of short-term investments                                     |                                                                                               |         | 2,499   |        |      |         | (2,499  | )      |   |         |       |       
|                                               | Additions to intellectual property                                              |                                                                                               |         |        |        |      |         |        |        |   |         | (18    | )     
|                                               | Other                                                                           |                                                                                               |         |        |        |      |         | 107     |        |   |         |       |       
|                                               |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|                                               | Net cash provided by (used in) investing
    activities                         |                                                                                               |         | 253     |        |      |         | (3,319  | )      |   |         | (235   | )     
|FINANCING ACTIVITIES                           |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|                                               | Net proceeds from issuance of common stock and
    warrants                     |                                                                                               |         |        |        |      |         | 17,806  |        |   |         | 43,000 |       
|                                               | Proceeds from exercise of stock options and
    warrants                        |                                                                                               |         | 236     |        |      |         | 937     |        |   |         | 1,551  |       
|                                               | Other                                                                           |                                                                                               |         |        |        |      |         | (41     | )      |   |         | (79    | )     
|                                               | Proceeds from research and development agreement                                |                                                                                               |         |        |        |      |         | 6,198   |        |   |         |       |       
|                                               | Proceeds from long-term debt                                                    |                                                                                               |         |        |        |      |         |        |        |   |         | 8,500  |       
|                                               | Payments on long-term debt                                                      |                                                                                               |         | (3,286  | )      |      |         | (3,292  | )      |   |         | (4,119 | )     
|                                               |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|                                               | Net cash (used in) provided by financing
    activities                         |                                                                                               |         | (3,050  | )      |      |         | 21,608  |        |   |         | 48,853 |       
|                                               | Effect of exchange rate changes on cash                                         |                                                                                               |         | 18      |        |      |         | (105    | )      |   |         |       |       
|                                               |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|                                               | Net (decrease) increase in cash and cash
    equivalents                        |                                                                                               |         | (20,906 | )      |      |         | (863    | )      |   |         | 40,378 |       
|                                               |                                                                                 | Cash and cash equivalents at beginning of year                                                |         |         | 53,477 |      |         |         | 54,340 |   |         |        | 13,962 |  
|                                               |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|                                               |                                                                                 | Cash and cash equivalents at end of year                                                      |         | $       | 32,571 |      |         | $       | 53,477 |   |         | $      | 54,340 |  
|                                               |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|SUPPLEMENTAL CASH FLOW INFORMATION             |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|                                               |                                                                                 | Cash paid for interest                                                                        |         | $       | 326    |      |         | $       | 830    |   |         | $      | 1,151  |  
|                                               |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|NONCASH INVESTING AND FINANCING
    ACTIVITIES |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       
|                                               |                                                                                 | Issuance of warrants as consideration under term
    loan agreement and subsequent re-pricing |         | $       | (350   | )    |         | $       | (576   | ) |         | $      | 2,145  |  
|                                               |                                                                                 |                                                                                               |         |         |        |      |         |         |        |   |         |       

See accompanying notes.

F-6



---



##### 



TRIPATH IMAGING, INC.



NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS


(In thousands, except share and per share amounts)


1. Background

We create solutions that redefine the early
detection and clinical management of cancer. Specifically, we
develop, manufacture, market, and sell proprietary products for
cancer detection, diagnosis, staging, and treatment selection.
We are using our proprietary technologies, and know-how to
create an array of products designed to improve the clinical
management of cancer. We were formed in September 1999
through the merger of AutoCyte, Inc. and NeoPath, Inc. and
acquisition of the technology and intellectual property of
Neuromedical Systems, Inc. We were created to leverage the
complementary nature of the products, technologies, and
intellectual property developed by our predecessor companies,
all of whom were early pioneers in the application of
computerized image processing and analysis to detect the often
subtle cellular abnormalities associated with cancer and its
precursors. To date, we have developed and market an integrated
solution for cervical cancer screening and other products that
deliver image management, data handling, and prognostic tools
for cell diagnosis, cytopathology and histopathology. We have
created new opportunities and applications for our proprietary
technology by applying recent advances in genomics, biology, and
informatics to develop new molecular tests for cancer of the
cervix, breast, ovary, and colon.

We are organized into two operating units:



| |   |                                                                                                                                                            
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Commercial Operations, through which we manage
    the market introduction, sales, service, manufacturing and
    ongoing development of our products; and 
|
| |  | TriPath Oncology, our wholly-owned subsidiary
    through which we manage the development of molecular diagnostic
    and pharmacogenomic tests for cancer.

Our TriPath Oncology segment was formed on
July 31, 2001 when we entered into a series of agreements
with Becton, Dickinson and Company (BD) to develop
and commercialize molecular diagnostics and pharmacogenomic
tests for cancer as part of the ongoing strategic alliance
between BD and Millennium Pharmaceuticals, Inc.
(Millennium). In connection with our agreements with
BD, we established TriPath Oncology, Inc. (TriPath
Oncology), our wholly-owned subsidiary, to manage the
activities for this development and commercialization effort.
TriPath Oncology will develop molecular diagnostic and
pharmacogenomic tests for malignant melanoma and cancer of the
prostate, breast, ovary, cervix and colon. These products will
be based upon the genomic discovery research, conducted at
Millennium, under its existing research and development
agreement with BD. TriPath Oncology and BD will configure
validated markers provided by Millennium, under its agreement
with BD, into commercial diagnostic and pharmacogenomic products
and services. Commercial responsibilities for resulting products
will be shared between BD and TriPath Oncology.

Information on our operations by segment and
geographic area is included in Note 8.

On March 25, 1999, we entered into a
purchase and sale agreement to acquire the intellectual property
estate of Neuromedical Systems, Inc. (NSI), a
developer of interactive, neural net technology for the computer
screening of conventional Pap smears. The purchase was completed
in May, 1999. This intellectual property estate is held by
AutoCyte North Carolina, LLC, our wholly-owned subsidiary.

Revenues from sales of products have not
generated sufficient cash to fully support our operations. We
have incurred substantial losses since inception. We have funded
our operations primarily through the private placement and
public sale of equity securities, debt and lease financing, and
product sales. We continue to be subject to certain risks and
uncertainties common to early stage medical device companies
including the uncertainty of availability of additional
financing, extensive government regulation, uncertainty of
market acceptance of our products, limited manufacturing,
marketing and sales experience and uncertainty of future
profitability.

F-7



---



##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


2. Significant Accounting Policies

Principles
of Consolidation

The consolidated financial statements include our
accounts and those of our wholly-owned subsidiaries. All
significant intercompany balances and transactions have been
eliminated in consolidation.

Use
of Estimates

The preparation of consolidated financial
statements in conformity with accounting principles generally
accepted in the United States requires management to make
estimates and assumptions that affect the amounts reported in
the consolidated financial statements and accompanying notes.
Actual results could differ from those estimates.

Reclassifications

Certain amounts for the prior years, specifically
those attributable to our TriPath Oncology segment (see note 8)
and to our accounting for health care costs, have been
reclassified to more accurately reflect cost of revenues,
research and development and general and administrative expenses
and to conform to the 2002 presentation. These reclassifications
had no effect on previously reported net earnings or financial
position.

Revenue
Recognition

We record revenue from the sale, rental and/or
lease of our systems and from the sale of related consumables.
Additionally, we record revenue from service contracts on our
systems. In the case of system sales to end users, revenue
recognition occurs at the time the instrument is installed and
accepted at the customer site. In the case of instrument sales
to distributors, revenue recognition occurs based upon the
contract governing the transaction, typically at the time the
instrument is shipped from our facility. This was the
predominant vehicle for international instrument sales for all
years presented. If, however, we sell an instrument directly to
an international end user, we record the revenue upon
installation and acceptance of the instrument, as we do in the
U.S. For system rentals, systems are placed at the
customers site free of charge and the customer is
obligated either to purchase reagent kits for a fixed term, or
are charged fees based on a monthly minimum, or actual, usage.
Under these transactions, there is no capital equipment revenue
recognized. We also offer leasing alternatives. Under these
transactions, we may, or may not, recognize revenue on system
hardware depending on the particular details of the lease. Sales
of consumable products are recorded on shipment. Revenue and
costs related to shipping products to customers are included in
both revenues and cost of revenues, respectively.

Cash
and Cash Equivalents

We consider all highly liquid investments with a
maturity of three months or less when purchased to be cash
equivalents.

Short-term
Investments

Short-term investments had a maturity of more
than three months, but less than one year when purchased and
were stated at cost, which approximated market value.

F-8



---



##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


Inventory

Inventory is stated at the lower of cost or net
realizable value (first-in first-out basis). Net realizable
value of inventory is reviewed in detail on an on-going basis,
with consideration given to deterioration, obsolescence, and
other factors.

Customer-Use
Assets

PrepStain and FocalPoint systems manufactured for
rental or fee-per-use placements are carried in inventory until
the systems are shipped, at which time they are reclassified to
customer-use assets (non-current assets). Reclassifications of
$2,473, $418, and $2,143 occurred between customer-use assets,
property and equipment and inventory during 2002, 2001, and
2000, respectively. Customer-use assets are depreciated on a
straight-line basis over an estimated useful life of four years.
Depreciation expense of customer-use assets amounted to $1,516,
$1,850, and $4,184 during 2002, 2001, and 2000, respectively.

Property
and Equipment

Property and equipment is stated at cost.
Depreciation is computed using the straight-line method over the
estimated useful lives (three to seven years) of the individual
assets. Depreciation expense of property and equipment amounted
to $1,251, $943, and $1,488 during 2002, 2001, and 2000,
respectively.

Patents

Patents consist of patents and core technology
acquired from NSI. Such assets are amortized using the
straight-line method over estimated useful lives ranging from 14
to 20 years (See also Other Intangible Assets
below).

Other
Intangible Assets

As of January 1, 2002, we adopted Financial
Accounting Standards Board (FASB) Statement of
Financial Accounting Standards (SFAS) No. 142
Goodwill and Other Intangible Assets (SFAS
142), which was issued in July 2001. SFAS 142
requires that ratable amortization of goodwill be replaced with
periodic tests of the goodwills impairment and that
intangible assets other than goodwill be amortized over their
useful lives. We completed our evaluation of goodwill under SFAS
142 and the net book value of $2,234 relates to specifically
identifiable intangible assets, namely acquired rights to
certain intellectual property surrounding our pathology
workstation products and our location-guided screening
technology. These intangible assets will be amortized over the
next 14 years. Included in 2002, 2001 and 2000 is $150 of
amortization attributable to the specifically identifiable
intangible assets.

Asset
Impairment

In August 2001, the FASB issued SFAS
No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets (SFAS 144), which superseded
SFAS No. 121, Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of (SFAS 121). SFAS 144 removes goodwill from
its scope, thus eliminating the SFAS 121 requirement to allocate
goodwill to long-lived assets to be tested for impairment. The
accounting for goodwill is now subject to SFAS No. 141,
Business Combinations (SFAS 141) and
SFAS 142. The provisions of SFAS 144 are effective for fiscal
years beginning after December 15, 2001, and have been
adopted by the Company, as required, in fiscal year 2002. There
has been no significant impact from the adoption of SFAS 144 on
our financial statements.

We periodically review the value of our
long-lived assets to determine if an impairment has occurred. In
accordance with SFAS No. 144, if this review indicates that
the assets will not be recoverable, as determined

F-9



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##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


based on an analysis of undiscounted cash flows
over the remaining amortization period, we would reduce the
carrying value of our long-lived assets accordingly. During
2001, we recognized $430 of such a loss for the placement of
certain Customer-Use Assets free of charge at a customer under a
two-year contract. There were no such losses recognized in 2000
or 2002.

Deferred
Revenue

Deferred revenue consists of up-front cash
receipts related to FocalPoint and PrepStain service and
equipment contracts, the revenue portion subject to
contingencies under capitalized leases and a worldwide exclusive
international distributor agreement for our ImageTiter product.
Pursuant to the terms of an agreement related to the

ImageTiter product, we received a $1,000
non-refundable payment for the agreement, services to be
performed, and as a payment for future product shipments.
Revenue related to the worldwide exclusive international
distributor agreement is recognized ratably over four years. The
balance remaining to be recognized as revenue amounted to $51
and $151 at December 31, 2001 and 2000, respectively. There
was no balance at December 31, 2002. The deferred revenue
subject to contingencies under capitalized leases will be
recognized once those contingencies have been met. Revenue
related to service and equipment contracts is recognized as
earned.

Income
Taxes

We account for income taxes using the liability
method in accordance with SFAS No. 109, Accounting
for Income Taxes. Under the liability method, deferred tax
assets and liabilities are determined based on differences
between the financial reporting and tax bases of assets and
liabilities. We have not generated any taxable income to date
and, therefore, have not paid any federal income taxes since our
inception. Realization of deferred tax assets is dependent on
future earnings, if any, the timing and amount of which are
uncertain. Accordingly, we have established valuation
allowances, in amounts equal to the net deferred tax assets as
of December 31, 2002 and 2001,in each period to
reflect these uncertainties (see note 6).

Research
and Development Costs

Research and development costs are charged to
operations as incurred.

Stock
Based Compensation

We account for stock options issued to employees
in accordance with APB Opinion No. 25, Accounting for
Stock Issued to Employees (APB 25). Under APB
25, no compensation expense is recognized for stock or stock
options issued with an exercise price equivalent to the fair
value of our Common Stock. For stock options granted at exercise
prices below the deemed fair value, we record deferred
compensation expense for the difference between the exercise
price of the shares and the deemed fair value. Any resulting
deferred compensation expense is amortized ratably over the
vesting period of the individual options.

Effective July 1, 2000, the FASB issued
Interpretation No. 44, Accounting for Certain
Transactions Involving Stock Compensation (FIN
44). FIN 44 provides guidance on issues regarding the
application of APB 25. We adopted the guidance provided by FIN
44 with effect from July 1, 2000. We recorded non-cash
equity compensation expense of $2,134 for the 2000 year in
accordance with the requirements of APB 25 and FIN44. There were
no such expenses recognized in 2001 or 2002.

In October 1995, the FASB issued SFAS
No. 123, Accounting for Stock Based
Compensation (SFAS 123). For companies that
continue to account for stock based compensation arrangements
under

F-10



---



##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


APB 25, SFAS 123 requires disclosure of the pro
forma effect on net income (loss) and earnings
(loss) per share as if the fair value based method
prescribed by SFAS 123 had been applied.

In December 2002, the FASB issued SFAS
No. 148, Accounting for Stock Based
CompensationTransition and Disclosurean amendment of
FASB Statement No. 123 (SFAS 148). This
Statement amends FASB Statement No. 123, Accounting for
Stock Based Compensation,to provide alternative methods of
transition for a voluntary change to the fair value based method
of accounting for stock based employee compensation. In
addition, this Statement amends the disclosure requirements of
Statement 123 to require prominent disclosures in both annual
and interim financial statements about the method of accounting
for stock based employee compensation and the effect of the
method used on reported results (see below). The standard is
effective for us beginning with these financial statements and
we have adopted its provisions herein.

Had compensation cost for our stock options been
determined based on the fair value at the date of grant
consistent with the provisions of SFAS 123, with respect to our
Equity Incentive Plans and our Employee Stock Purchase Plan (see
Note 7), our pro forma net loss and net loss per share would
have been as follows:

|                                             |             |                         |   |         |   |      |   |         |   |  |   |         |  
|-------------------------------------------- | ----------- | ----------------------- | - | ------- | - | ---- | - | ------- | - |  | - | ------- | -
|                                             |             |                        
|                                             |             | Year Ended December 31,
|                                             |             |                        
|                                             |             | 2002                    |   | 2001    |   | 2000
|                                             |             |                         |   |         |   |     
|Net loss:                                    |             |                         |   |         |   |      |   |         |   |  |   |        
|                                             | As reporte  |                         | $ | (18,064 | ) |      | $ | (21,680 | ) |  | $ | (17,369 | )
|                                             | Pro forma   |                         | $ | (20,994 | ) |      | $ | (24,889 | ) |  | $ | (20,061 | )
|Net loss per common share (basic & diluted): |             |                         |   |         |   |      |   |         |   |  |   |        
|                                             | As reported |                         | $ | (0.48   | ) |      | $ | (0.61   | ) |  | $ | (0.60   | )
|                                             | Pro forma   |                         | $ | (0.56   | ) |      | $ | (0.70   | ) |  | $ | (0.69   | )

Net
Loss Per Common Share

Per share information is based upon the
weighted-average number of shares of common stock outstanding
during the period. We incurred losses during all periods
presented. As a result, options and warrants were not used to
compute diluted loss per share since the effect would be
anti-dilutive. Accordingly, there is no difference between basic
and diluted loss per share in the periods presented.

Advertising
Expense

The cost of advertising is expensed as incurred.
Advertising and marketing expense, including trade show expense,
amounted to $1,044, $1,333, and $314 during 2002, 2001, and
2000, respectively.

Foreign
Currency Translation

The financial statements of foreign subsidiaries
and branches have been translated into U.S. dollars in
accordance with SFAS No. 52, Foreign Currency
Translation. All balance sheet accounts have been
translated using the exchange rates in effect at the balance
sheet date. Income statement amounts have been translated using
the average exchange rate for the year. The gains and losses
resulting from the changes in exchange rates were immaterial in
2000. In 2001 and 2002 the loss has been reported in other
comprehensive loss. The effect on the consolidated statements of
operations of transaction gains and losses is insignificant for
all years presented.

F-11



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##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


Comprehensive
Loss

We adopted SFAS No. 130, Reporting
Comprehensive Income (SFAS 130) effective
January 1, 1998. SFAS 130 requires that we display an
amount representing comprehensive income (loss) for the
year in a financial statement, which is displayed with the same
prominence as other financial statements. We elected to present
this information in the Statement of Stockholders Equity.

Concentration
of Credit Risk

Our principal financial instruments subject to
potential concentration of credit risk are cash, cash
equivalents, short-term investments, accounts receivable and
notes receivable. We invest our funds in highly rated
institutions, and limits our investment in any individual
debtor. We provide an allowance for doubtful accounts equal to
the estimated losses to be incurred in the collection of
accounts and notes receivable.

Derivative
Financial Instruments

As of January 1, 2001, we adopted SFAS
No. 133, Accounting for Derivative Instruments and
Hedging Activities (SFAS 133), which was
issued in June 1998, and its amendments, SFAS No. 137,
Accounting for Derivative Instruments and Hedging
Activities  Deferral of the Effective Date of FASB
Statement No. 133 and SFAS No. 138, Accounting
for Derivative Instruments and Certain Hedging Activities
issued in June 1999 and June 2000, respectively
(collectively referred to as SFAS 133). SFAS 133 establishes a
comprehensive and consistent standard for the recognition and
measurement of derivatives and hedging activities. The
application of the new rules has not had a significant impact on
our consolidated financial position or results from operations.

Recently
Issued Accounting Standards

In August 2001, the FASB issued SFAS
No. 143, Accounting for Asset Retirement
Obligations (SFAS 143). SFAS 143 requires an
entity to record a liability for an obligation associated with
the retirement of an asset at the time that the liability is
incurred by capitalizing the cost as part of the carrying value
of the related asset and depreciating it over the remaining
useful life of that asset. The standard is effective for us
beginning January 1, 2003. We do not expect the adoption of SFAS
143 to have a material impact on our results of operations or
financial position.

In April 2002, the FASB issued SFAS
No. 146, Accounting for Costs Associated with Exit or
Disposal Activities (SFAS 146). SFAS 146
addresses financial accounting and reporting for costs
associated with exit or disposal activities and nullifies
Emerging Issues Task Force (EITF) Issue No. 94-3,
Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring) (Issue 94-3).
SFAS 146 addresses the accounting and reporting for costs
associated with exit or disposal activities resulting from
entities increasingly engaging in exit and disposal activities
where certain costs associated with those activities were
recognized as liabilities at a plan (commitment) date under
Issue 94-3 but did not meet the definition of a liability in
FASB Concepts Statement No. 6, Elements of Financial
Statements. The standard is effective for us beginning
January 1, 2003. We do not expect the adoption of SFAS 146
to have a material impact on our results of operations or
financial position.

In November 2002, the FASB issued FASB
Interpretation No. 45, Guarantors Accounting
and Disclosure Requirements for Guarantees, Including Guarantees
of Indebtedness of Others (an interpretation of FAS No. 5,
57 and 107 and rescission of FAS Interpretation
No. 34) (FIN 45), which modifies the
accounting and enhances the disclosure of certain types of
guarantees. FIN 45 requires that upon issuance of certain
guarantees, the guarantor must recognize a liability for the
fair value of the obligation it assumes under

F-12



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##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


the guarantee. The provisions of FIN 45 for
the initial recognition and measurement are to be applied to
guarantees issued or modified after December 31, 2002. The
disclosure requirements are effective for financial statements
of annual periods that end after December 15, 2002. The
adoption of FIN 45 had no material impact on our results of
operations or financial position for the twelve months ending,
nor as of, December 31, 2002.

In January 2003, the FASB issued FASB
Interpretation No. 46, Consolidation of Variable
Interest Entities, an Interpretation of ARB No. 51
(FIN 46), which requires a new approach in
determining if a reporting entity should consolidate certain
legal entities, including partnerships, limited liability
companies, or trusts, among others, collectively defined as
variable interest entities, or VIEs. A legal entity is
considered a VIE if it does not have sufficient equity at risk
to finance its own activities without relying on financial
support from other parties. If the legal entity is a VIE, then
the reporting entity that is the primary beneficiary must
consolidate it. Even if a reporting entity is not obligated to
consolidate a VIE, then certain disclosures must be made about
the VIE if the reporting entity has a significant variable
interest. Certain transition disclosures are required for all
financial statements issued after January 31, 2003. The
on-going disclosure and consolidation requirements are effective
for all interim financial periods beginning after June 15,
2003. The adoption of FIN 46 had no material impact on our
results of operations or financial position for the twelve
months ending, nor as of, December 31, 2002.

(The rest of this page intentionally left blank.)

F-13



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##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


3. Balance Sheet Information

Select detailed balance sheet information is as
follows:

|                       |                                        |                              |        |        |         |   |        |        |         |  
|---------------------- | -------------------------------------- | ---------------------------- | ------ | ------ | ------- | - | ------ | ------ | ------- | -
|                       |                                        |                             
|                       |                                        | December 31,                
|                       |                                        |                             
|                       |                                        | 2002                         |        | 2001  
|                       |                                        |                              |        |       
|Accounts receivable    |                                        |                              |        |        |         |   |        |       
|                       | Trade accounts receivable              |                              | $      | 6,219  |         |   | $      | 7,462  |        
|                       | Current portion of notes receivable    |                              |        | 2,818  |         |   |        | 1,781  |        
|                       | Other accounts receivable              |                              |        | 333    |         |   |        | 338    |        
|                       |                                        |                              |        |        |         |   |        |       
|                       |                                        | $                            | 9,370  |        |         | $ | 9,581  |       
|                       |                                        |                              |        |        |         |   |        |       
|                      
|Inventory              |                                        |                              |        |        |         |   |        |       
|                       | Raw materials                          |                              | $      | 6,934  |         |   | $      | 7,442  |        
|                       | Work-in-process                        |                              |        | 629    |         |   |        | 275    |        
|                       | Finished goods                         |                              |        | 3,410  |         |   |        | 3,001  |        
|                       |                                        | $                            | 10,973 |        |         | $ | 10,718 |       
|                       |                                        |                              |        |        |         |   |        |       
|                      
|Customer-use assets    |                                        |                              |        |        |         |   |        |       
|                       | Customer-use systems                   |                              | $      | 11,525 |         |   | $      | 11,976 |        
|                       | Accumulated depreciation               |                              |        | (5,168 | )       |   |        | (5,887 | )      
|                       |                                        |                              | $      | 6,357  |         |   | $      | 6,089  |        
|                       |                                        |                              |        |        |         |   |        |       
|                      
|Property and equipment |                                        |                              |        |        |         |   |        |       
|                       | Machinery and equipment                |                              | $      | 3,313  |         |   | $      | 2,708  |        
|                       | Demonstration equipment                |                              |        | 756    |         |   |        | 782    |        
|                       | Furniture, fixtures and improvements   |                              |        | 1,695  |         |   |        | 1,521  |        
|                       | Leasehold improvements                 |                              |        | 1,318  |         |   |        | 1,318  |        
|                       | Vehicles                               |                              |        | 24     |         |   |        | 48     |        
|                       | Computer equipment and software        |                              |        | 9,157  |         |   |        | 7,000  |        
|                       |                                        |                              |        |        |         |   |        |       
|                       |                                        | Total property and equipment |        |        | 16,263  |   |        |        | 13,377  |  
|                       |                                        | Accumulated depreciation     |        |        | (12,200 | ) |        |        | (11,015 | )
|                       |                                        |                              |        |        |         |   |        |       
|                       |                                        | $                            | 4,063  |        |         | $ | 2,362  |       
|                       |                                        |                              |        |        |         |   |        |       
|                      
|Other Assets           |                                        |                              |        |        |         |   |        |       
|                       | Notes receivable, less current portion |                              | $      | 838    |         |   | $      | 852    |        
|                       | Deposits and other assets              |                              |        | 92     |         |   |        | 64     |        
|                       |                                        |                              |        |        |         |   |        |       
|                       |                                        | $                            | 930    |        |         | $ | 916    |       
|                       |                                        |                              |        |        |         |   |        |       
|                      
|Accrued expenses       |                                        |                              |        |        |         |   |        |       
|                       | Accrued payroll and related benefits   |                              | $      | 3,177  |         |   | $      | 1,544  |        
|                       | Accrued warranty costs                 |                              |        | 440    |         |   |        | 514    |        
|                       | Other accrued expenses                 |                              |        | 1,819  |         |   |        | 2,058  |        
|                       |                                        |                              |        |        |         |   |        |       
|                       |                                        | $                            | 5,436  |        |         | $ | 4,116  |       
|                       |                                        |                              |        |        |         |   |        |       

F-14



---



##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


4. Allowance for Doubtful Accounts

A summary of the allowance for doubtful accounts
activity is as follows:

|                           |  |              |       |      |  |      |       |  |  |   |       |  
|-------------------------- |  | ------------ | ----- | ---- |  | ---- | ----- |  |  | - | ----- | -
|                           |  |             
|                           |  | December 31,
|                           |  |             
|                           |  | 2002         |       | 2001 |  | 2000
|                           |  |              |       |      |  |     
|Balance, beginning of year |  | $            | 3,285 |      |  | $    | 1,475 |  |  | $ | 1,347 |  
|Amounts charged to expense |  |              | 1,050 |      |  |      | 1,810 |  |  |   | 220   |  
|Amounts written off        |  |              | (781  | )    |  |      |      |  |  |   | (92   | )
|                           |  |              |       |      |  |      |       |  |  |   |       |  
|Balance, end of year       |  | $            | 3,554 |      |  | $    | 3,285 |  |  | $ | 1,475 |  
|                           |  |              |       |      |  |      |       |  |  |   |       |  

5. Long-Term Obligations and
Commitments

Subordinated
Term Loan

On February 8, 2000, we entered into a
$7,000 subordinated term loan with a syndicate of lenders to
finance operations. We fully drew this facility during the first
quarter of 2000. As of December 31, 2002 and 2001,
respectively, the balance outstanding was $758 and $3,600,
including a current portion of $758 at December 31, 2002
and $2,800 at December 31, 2001 and a long-term portion of
$758 at December 31, 2001. The loan, which is secured by
substantially all of our assets, including intellectual
property, accrues interest at the three-year U.S. Treasury note
rate plus 8% (14.6% and 14.5% at December 31, 2002 and
2001, respectively). Accrued interest was due monthly for the
first six months of each draw, at which time the outstanding
principal balance became payable over thirty-month terms. In
connection with this term loan, we issued to the lenders
warrants to purchase 223,253 shares of our common stock. Using a
Black-Scholes pricing model, the warrants were valued upon
issuance at $675, which represented non-cash debt issuance
costs. These warrants, which expire in 2007, were recorded as
additional paid-in capital, and the resulting debt issuance
costs are being amortized on a straight-line basis to interest
expense over the three-year term of the loan. These warrants
have a weighted-average exercise price of $4.70 and were
exercisable upon issuance. The loan will be fully repaid during
the second quarter of 2003.

Note
Payable to Finance Company

In December 1998, we entered into an
agreement with an equipment financing company to provide us with
a $5,000 line of credit to finance certain of our equipment
purchases. We had outstanding borrowings of $3 and $467 under
the agreement at December 31, 2002 and 2001, respectively.
The agreement has a loan term of 48 months, and the loan is
secured by a security interest in the financed equipment.
Interest is calculated based on the four-year Treasury Bill
Weekly Average rate plus 6.121%.

Working
Capital Facility

In February 2002, we renewed a $5,000
working capital facility with a bank. The outstanding balance is
limited to an amount equal to 80% of eligible accounts
receivable. The line commitment expires on January 31, 2003
and management intends to renew the line for an additional year
until January 31, 2004. The line bears interest at the
banks prime rate plus 1/2% and is collateralized by
substantially all of our assets. The line of credit carries
customary covenants, including the maintenance of a minimum
modified quick ratio and other requirements. We had no
outstanding borrowings under this agreement at December 31,
2002.

At December 31, 2002, maturities of the
outstanding debt are as follows:

|     |  |   |     | 
|---- |  | - | --- | 
|2003 |  | $ | 785 | 
|2004 |  |   | 13  | 
|     |  |   |     | 
|     |  | $ | 798 | 
|     |  |   |     | 

F-15



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##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


The fair value of our long-term debt, which
approximates the carrying value, is estimated using discounted
cash flow analysis based on our current incremental borrowing
rates for similar type borrowing arrangements.

Leases
and Lease Lines of Credit

During August 2002, we obtained a $1,500
lease line of credit (lease line) from Bank of
America. This lease line is secured by a $1,500 letter of credit
against our line of credit with Silicon Valley Bank discussed
above. This lease line carries three-year lease terms for items
acquired under it and financing charges based on three-year
constant Treasury Maturities. The lease line will be used as an
alternative source of capital to secure operating leases for
assets, primarily equipment. As of December 31, 2002, there
were $1,041 of assets leased under this lease line.

We also lease our office and manufacturing
facilities and certain other office equipment under operating
leases, with various renewal options, expiring at various times
through 2010.

At December 31, 2001, future minimum lease
payments under these leases are as follows:

|           |  |   |       | 
|---------- |  | - | ----- | 
|2003       |  | $ | 2,024 | 
|2004       |  |   | 2,031 | 
|2005       |  |   | 775   | 
|2006       |  |   | 273   | 
|2007       |  |   | 280   | 
|Thereafter |  |   | 452   | 
|           |  |   |       | 
|           |  | $ | 5,835 | 
|           |  |   |       | 

Rent expense amounted to $1,656, $1,220 and
$1,341 during 2002, 2001 and 2000, respectively.

Other
Liabilities

We have recorded a short-term contingent
liability of $2,410 in accordance with the provisions of SFAS
No. 5, Accounting for Contingencies, on the
basis that the likelihood of a future event occurring is
probable and reasonably estimable. This contingency related to
our obligation to pay a third party, who received 180,000 shares
of our common stock in January 2001 under a settlement
agreement, an amount in cash equal to the difference between the
market price of our common stock on a specified date in
January 2003 and a predetermined target price. An amount of
$2,410, attributable to this contingent liability, was paid to
the third party in settlement of this liability in
January 2003.

We entered into a series of agreements with
Becton, Dickinson and Company (BD) on July 31,
2001, to develop and commercialize molecular diagnostics and
pharmacogenomic tests for cancer as part of the ongoing
strategic alliance between BD and Millennium Pharmaceuticals,
Inc. (Millennium). We have accounted for the
transaction in accordance with the provisions of SFAS
No. 68, Research and Development Arrangements.
In connection with the transaction, we recorded $6,198 in
deferred research and development (R&D) funding,
which will be amortized against such expenses over thirty months
on a straight line basis. During 2002 and 2001, $2,479 and
$1,033, respectively, of amortization was recorded against
R&D expenses. Included in current and other long-term
liabilities at December 31, 2002 are the unamortized
balances of $2,479 and $207, respectively.

F-16



---



##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


6. Income Taxes

At December 31, 2002, we had net tax loss
carryforwards of approximately $199,866, which begin to expire
in 2003 for federal income tax purposes. We also have
approximately $3,746 in research and development carryforwards
that begin to expire in 2003. Due to the prior issuance and sale
of shares of preferred stock, the prior merger and changes in
ownership, we have incurred ownership changes
pursuant to applicable regulations in effect under the Internal
Revenue Code of 1986, as amended.

Our use of losses incurred through the date of
these ownership changes may limit the ultimate utilization of
these losses. To the extent that any single-year loss is not
utilized to the full amount of the limitation, such unused loss
is carried over to subsequent years until the earlier of its
utilization or the expiration of the relevant carryforward
period.

Approximately $5,535 of the net tax loss
carryforward is attributed to the deduction for stock options,
the tax effect of which will be credited to equity when
recognized.

Deferred income taxes reflect the net tax effects
of temporary differences between the tax basis of assets and
liabilities and the corresponding financial statement amounts.
Significant components of our deferred income tax assets
(liabilities) are as follows:

|                                       |  |              |         |      |  |   |         |  
|-------------------------------------- |  | ------------ | ------- | ---- |  | - | ------- | -
|                                       |  |             
|                                       |  | December 31,
|                                       |  |             
|                                       |  | 2002         |         | 2001
|                                       |  |              |         |     
|Net tax loss carryforwards             |  | $            | 69,953  |      |  | $ | 63,515  |  
|Research and development credits       |  |              | 3,746   |      |  |   | 3,417   |  
|Accrued vacation                       |  |              | 159     |      |  |   | 107     |  
|Accrued warranty costs                 |  |              | 154     |      |  |   | 180     |  
|Allowance for doubtful accounts        |  |              | 1,244   |      |  |   | 1,150   |  
|Charitable contribution carryforwards  |  |              | 15      |      |  |   | 15      |  
|Deferred research and development      |  |              | 940     |      |  |   | 1,808   |  
|Intangible assets, net of amortization |  |              | 2,528   |      |  |   | 1,527   |  
|Inventory                              |  |              | 1,515   |      |  |   | 2,751   |  
|Other                                  |  |              | 1,470   |      |  |   | 713     |  
|Property and equipment                 |  |              | (859    | )    |  |   | 368     |  
|Valuation allowance                    |  |              | (80,865 | )    |  |   | (75,551 | )
|                                       |  |              |         |      |  |   |         |  
|                                       |  | $            |        |      |  | $ |        |  
|                                       |  |              |         |      |  |   |         |  

Due to the uncertainty of our ability to generate
taxable income to realize our deferred tax assets, a valuation
allowance has been established for financial reporting purposes
equal to the amount of the net deferred tax assets. Our
valuation allowance was $80,865 and $75,551 at December 31,
2002 and 2001, respectively.

7. Stockholders Equity

Preferred
Stock

Pursuant to our amended and restated Certificate
of Incorporation, the Board of Directors has the authority,
without further vote or action by the stockholders, to issue up
to 1,000,000 shares of Preferred Stock in one or more series and
to fix the relative rights, preferences, privileges,
qualifications, limitations and restrictions thereof, including
dividend rights, dividend rates, conversion rights, voting
rights, terms of redemption, redemption prices, liquidation
preferences, sinking fund terms and the number of shares

F-17



---



##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


constituting any series or the designation of
such series, any or all of which may be greater than the rights
of Common Stock. At December 31, 2002 there were no shares
of Preferred Stock outstanding.

Private
Equity Transaction

On July 31, 2001, we completed a private
placement of securities under Regulation D of the
Securities Act with BD pursuant to which BD acquired 2,500,000
shares of our common stock for $10.00 per share. We accounted
for a portion of these proceeds in accordance with the
provisions of FASB SFAS No. 68, Research and Development
Arrangements and recorded $6,198 thereof as deferred
research and development funding, which will be amortized
against such expenses over thirty months on a straight line
basis. The transaction with BD provided us with an additional
$25,000 in cash. In a separate agreement, Millennium and we
entered into a research license for our evaluation of certain
patents in the area of colon cancer. In consideration of this
agreement, we issued to Millennium 400,000 shares of our common
stock. We also paid $1,000 in connection with other aspects of
the transaction.

On November 14, 2000, we completed a $43,000
private equity transaction with a subsidiary of Hoffmann-La
Roche (Roche) in terms of which Roche acquired
5,000,000 shares of our common stock for $8.00 per share.
Additionally, Roche simultaneously acquired, for an aggregate
purchase price of $3,000, warrants to purchase an additional
5,000,000 shares at strike prices ranging from $10.00 to $15.00
per share. The proceeds from the sale of these warrants were
recorded as additional paid-in capital. If not exercised, these
warrants will expire in November 2003.

Equity
Incentive Plans

We have stock option plans (the
Plans) under which incentive and non-statutory stock
options, stock appreciation rights and restricted stock may be
granted to our employees, directors or consultants. Generally,
options and restricted stock grants vest ratably over a 48-month
term. Stock options expire ten years from the date of grant.

A summary of activity under the Plans is as
follows:

|                                 |                          |                     |           |                  |   |   |      |      | 
|-------------------------------- | ------------------------ | ------------------- | --------- | ---------------- | - | - | ---- | ---- | 
|                                 |                          |                    
|                                 |                          | Options Outstanding
|                                 |                          |                    
|                                 |                          | Number of           |           | Weighted-Average
|                                 |                          | Shares              |           | Exercise Price  
|                                 |                          |                     |           |                 
|Outstanding at December 31, 2000 |                          |                     | 2,821,042 |                  |   | $ | 6.34 |     
|                                 | Options granted          |                     |           | 1,081,700        |   |   |      | 9.13 | 
|                                 | Options exercised        |                     |           | (279,061         | ) |   |      | 3.36 | 
|                                 | Options canceled/expired |                     |           | (136,219         | ) |   |      | 8.62 | 
|                                 |                          |                     |           |                  |   |   |      |     
|Outstanding at December 31, 2001 |                          |                     | 3,487,462 |                  |   |   | 7.26 |     
|                                 | Options granted          |                     |           | 897,850          |   |   |      | 4.78 | 
|                                 | Options exercised        |                     |           | (127,354         | ) |   |      | 1.19 | 
|                                 | Options canceled/expired |                     |           | (490,975         | ) |   |      | 8.23 | 
|                                 |                          |                     |           |                  |   |   |      |     
|Outstanding at December 31, 2002 |                          |                     | 3,766,983 |                  |   | $ | 6.74 |     
|                                 |                          |                     |           |                  |   |   |      |     

F-18



---



##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


|            |              |                     |  |                       |           |                  |  |                    |     |                  |  |   |       |  |  |  |           |  |  |   |       | 
|----------- | ------------ | ------------------- |  | --------------------- | --------- | ---------------- |  | ------------------ | --- | ---------------- |  | - | ----- |  |  |  | --------- |  |  | - | ----- | 
|            |              |                     |  |                      
|            |              | Options Outstanding |  | Options Exercisable  
|            |              |                     |  |                      
|            |              | Number Outstanding  |  | Weighted-Average      |           |                  |  | Number Exercisable |     |                 
|            |              | At                  |  | Remaining Contractual |           | Weighted-Average |  | At                 |     | Weighted-Average
|Price Range |              | December 31, 2001   |  | Life (Years)          |           | Exercise Price   |  | December 31, 2001  |     | Exercise Price  
|            |              |                     |  |                       |           |                  |  |                    |     |                 
|            | $0.20-0.20   |                     |  |                       | 76,021    |                  |  |                    | 3.9 |                  |  | $ | 0.20  |  |  |  | 76,021    |  |  | $ | 0.20  | 
|            | 1.52-2.28    |                     |  |                       | 61,264    |                  |  |                    | 8.5 |                  |  |   | 2.01  |  |  |  | 11,568    |  |  |   | 1.85  | 
|            | 2.35-3.25    |                     |  |                       | 14,291    |                  |  |                    | 6.9 |                  |  |   | 2.92  |  |  |  | 9,830     |  |  |   | 2.94  | 
|            | 3.67-5.50    |                     |  |                       | 1,998,930 |                  |  |                    | 7.3 |                  |  |   | 4.72  |  |  |  | 1,193,395 |  |  |   | 4.84  | 
|            | 5.52-8.25    |                     |  |                       | 780,085   |                  |  |                    | 6.9 |                  |  |   | 6.36  |  |  |  | 480,653   |  |  |   | 6.28  | 
|            | 8.30-10.94   |                     |  |                       | 590,070   |                  |  |                    | 7.6 |                  |  |   | 10.82 |  |  |  | 324,396   |  |  |   | 10.81 | 
|            | 14.24-20.09  |                     |  |                       | 206,017   |                  |  |                    | 4.1 |                  |  |   | 16.41 |  |  |  | 206,017   |  |  |   | 16.41 | 
|            | 21.51-29.89  |                     |  |                       | 40,305    |                  |  |                    | 3.9 |                  |  |   | 26.44 |  |  |  | 40,305    |  |  |   | 26.44 | 
|            |              |                     |  |                       |           |                  |  |                    |     |                  |  |   |       |  |  |  |           |  |  |   |       | 
|            | $0.20-$29.89 |                     |  |                       | 3,766,983 |                  |  |                    | 7.0 |                  |  | $ | 6.74  |  |  |  | 2,342,185 |  |  | $ | 7.18  | 
|            |              |                     |  |                       |           |                  |  |                    |     |                  |  |   |       |  |  |  |           |  |  |   |       | 

Employee
Stock Purchase Plan

In 2002, we introduced an employee stock purchase
plan with 1,000,000 shares of common stock for authorized
issuance. The plan permits substantially all employees to
purchase a limited number of shares of the Corporations
stock at 85% of market value. We issue shares to employees
semi-annually in June and December of each year. A summary of
shares issued is as follows:



|     |       
|---- | ------
|June | 24,142

|         |       
|-------- | ------
|December | 51,158

SFAS
123

We have adopted the disclosure-only provisions of
SFAS 123. In accordance with SFAS 123, the fair value of each
grant under its plans was determined by using the Black-Scholes
option-pricing model with the following weighted-average
assumptions:

|                                      |  |                         |           |      |  |      |           |  |  |   |           | 
|------------------------------------- |  | ----------------------- | --------- | ---- |  | ---- | --------- |  |  | - | --------- | 
|                                      |  |                        
|                                      |  | Year Ended December 31,
|                                      |  |                        
|                                      |  | 2002                    |           | 2001 |  | 2000
|                                      |  |                         |           |      |  |     
|Risk-free interest rate               |  |                         | 3.86%     |      |  |      | 4.59%     |  |  |   | 6.37%     | 
|Expected dividend yield               |  |                         | 0.00%     |      |  |      | 0.00%     |  |  |   | 0.00%     | 
|Expected lives                        |  |                         | 48 months |      |  |      | 48 months |  |  |   | 48 months | 
|Expected volatility                   |  |                         | 1.02      |      |  |      | 1.02      |  |  |   | 0.90      | 
|Weighted-average fair value of grants |  | $                       | 4.78      |      |  | $    | 9.13      |  |  | $ | 4.51      | 

Warrants

On February 9, 1999, we completed a $14,500
private equity transaction. In connection with the financing, we
issued to a related party five-year warrants to purchase 79,030
shares of common stock at an exercise price of $7.45 per share.

On February 8, 2000, we closed a $7,000
subordinated term loan with a syndicate of lenders to finance
operations (see Note 5). We issued warrants to the lenders to
purchase 223,253 shares of common stock at a weighted-average
exercise price of $4.70 per share. The warrants were exercisable
upon issuance and expire in 2007. None of these warrants had
been exercised as of December 31, 2002.

F-19



---



##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


In connection with our November 14, 2000
private equity transaction with Roche, we issued to Roche, for
an aggregate purchase price of $3,000, warrants to purchase
5 million shares of common stock at a weighted exercise
price of $11.50 per share. The warrants were immediately
exercisable and expire in November 2003. None of these
warrants had been exercised by December 31, 2002.

As of December 31, 2002, there were
5,302,283 warrants outstanding with a weighted-average exercise
price of $11.15. These warrants expire at various dates through
2007.

Common
Stock Reserved for Future Issuance

At December 31, 2002, we have reserved
authorized shares of Common Stock for future issuance as follows:

|                                                                |  |              |            | 
|--------------------------------------------------------------- |  | ------------ | ---------- | 
|                                                                |  | December 31,
|                                                                |  | 2002        
|                                                                |  |             
|Outstanding stock options                                       |  |              | 3,766,983  | 
|Possible future issuance under equity incentive
    plans       |  |              | 1,439,365  | 
|Possible future issuance under Employee Stock
    Purchase Plan |  |              | 924,700    | 
|Common stock warrants                                           |  |              | 5,302,283  | 
|                                                                |  |              |            | 
|Total shares reserved                                           |  |              | 11,433,331 | 
|                                                                |  |              |            | 

Deferred
Compensation

In accordance with APB 25, for stock options and
restricted stock grants granted at exercise prices below the
deemed fair value, we record deferred compensation expense for
the difference between the exercise price of the shares and the
deemed fair value. The amounts are amortized over the vesting
period of the individual options, generally 48 months.
Amortization of deferred compensation amounted to $39, $89 and
$668 during 2002, 2001 and 2000, respectively. We adjusted the
deferred compensation amount by $35 and $22 to reflect the
cancellation, accelerated vesting and non-forfeiture of options
granted to terminated employees in 2002 and 2000, respectively.

8. Operations by Industry Segment and
Geographic Area

Description
of Products and Services by Segment

We currently operate in two business segments:
Commercial Operations and TriPath Oncology (see Note 1).

Measurement
of Segment Profit or Loss and Segment Assets

We evaluate performance and allocate resources
based on operating profit or loss. The accounting policies of
the reportable segments are the same as those described under
the summary of significant accounting policies (see Note 2
above). Inter-segment transfers are recorded at cost.

Factors
Management Used to Identify the Companys Reportable
Segments

Our reportable segments are business units that
offer different products and services. The reportable segments
are each managed separately because they develop and
commercialize distinct products. The segments operate as
separate entities.

F-20



---



##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


Results
by Segment

Results for 2000 as reflected in the Consolidated
Statements of Operations relate to the Commercial Operations
segment only. The results, by segment, for 2002 and 2001 follow:

|                    |                            |            |        |          |  |       |         |       |  |   |         |        | 
|------------------- | -------------------------- | ---------- | ------ | -------- |  | ----- | ------- | ----- |  | - | ------- | ------ | 
|                    |                            |            |        | 2002     |  |      
|                    |                            | Commercial |        | TriPath  |  |      
|                    |                            | Operations |        | Oncology |  | Total
|                    |                            |            |        |          |  |      
|Revenues            |                            | $          | 37,485 |          |  | $     |        |       |  | $ | 37,485  |       
|Cost of revenues    |                            |            | 14,922 |          |  |       |        |       |  |   | 14,922  |       
|                    |                            |            |        |          |  |       |         |       |  |   |         |       
|                    | Gross profit               |            |        | 22,563   |  |       |         |      |  |   |         | 22,563 | 
|Operating expenses: |                            |            |        |          |  |       |         |       |  |   |         |       
|                    | Research and development   |            |        | 2,142    |  |       |         | 6,380 |  |   |         | 8,522  | 
|                    | Regulatory                 |            |        | 2,206    |  |       |         | 519   |  |   |         | 2,725  | 
|                    | Sales and marketing        |            |        | 18,864   |  |       |         | 986   |  |   |         | 19,850 | 
|                    | General and administrative |            |        | 5,867    |  |       |         | 4,081 |  |   |         | 9,948  | 
|                    |                            |            | 29,079 |          |  |       | 11,966  |       |  |   | 41,045  |       
|                    |                            |            |        |          |  |       |         |       |  |   |         |       
|Operating loss      |                            | $          | (6,516 | )        |  | $     | (11,966 | )     |  | $ | (18,482 | )     
|                    |                            |            |        |          |  |       |         |       |  |   |         |       

|                    |                            |              |         |          |        |       |        |       |   |   |         |        |        | 
|------------------- | -------------------------- | ------------ | ------- | -------- | ------ | ----- | ------ | ----- | - | - | ------- | ------ | ------ | 
|                    |                            |              |         | 2001     |        |      
|                    |                            |              |         | TriPath  |        |      
|                    |                            | Commercial   |         | Oncology |        |      
|                    |                            | Operations   |         | July to  |        |      
|                    |                            | Full year    |         | December |        | Total
|                    |                            |              |         |          |        |      
|Revenues            |                            | $            | 27,017  |          |        | $     |       |       |   | $ | 27,017  |       
|Cost of revenues    |                            |              | 13,096  |          |        |       |       |       |   |   | 13,096  |       
|                    |                            |              |         |          |        |       |        |       |   |   |         |       
|                    |                            | Gross profit |         |          | 13,921 |       |        |       |  |   |         |        | 13,921 | 
|Operating expenses: |                            |              |         |          |        |       |        |       |   |   |         |       
|                    | Research and development   |              |         | 6,210    |        |       |        | 1,079 |   |   |         | 7,289  |       
|                    | Regulatory                 |              |         | 1,970    |        |       |        |      |   |   |         | 1,970  |       
|                    | Sales and marketing        |              |         | 18,464   |        |       |        | 221   |   |   |         | 18,685 |       
|                    | General and administrative |              |         | 8,661    |        |       |        |      |   |   |         | 8,661  |       
|                    |                            |              | 35,305  |          |        |       | 1,300  |       |   |   | 36,605  |       
|                    |                            |              |         |          |        |       |        |       |   |   |         |       
|Operating loss      |                            | $            | (21,384 | )        |        | $     | (1,300 | )     |   | $ | (22,684 | )     
|                    |                            |              |         |          |        |       |        |       |   |   |         |       

All revenues were from external
customers.There were no inter-segment
revenues. Sales to external customers of the Commercial
Operations segment includes the following for the years ended
December 31, 2002 and 2001:

|            |                       |                |       |        |        |   |        |        |        | 
|----------- | --------------------- | -------------- | ----- | ------ | ------ | - | ------ | ------ | ------ | 
|            |                       | 2002           |       | 2001  
|            |                       |                |       |       
|Instruments |                       | $              | 6,495 |        |        | $ | 10,236 |       
|            | Reagents              |                |       | 24,730 |        |   |        | 10,914 |       
|            | Fee-per-use and other |                |       | 6,260  |        |   |        | 5,867  |       
|            |                       |                |       |        |        |   |        |       
|            |                       | Total revenues |       | $      | 37,485 |   |        | $      | 27,017 | 
|            |                       |                |       |        |        |   |        |       

At December 31, 2002, we had accounts and
notes receivable of $2,036 from a company which disclosed to us
its intention to exit the cervical cytology business. The
contract we have with this customer was a multi-

F-21



---



##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


year agreement that included commitments for
reagents and disposables. As we were unable to reach a mutually
acceptable settlement under our agreement through negotiations
with that company, we filed suit against that company in
February 2003 in state court in North Carolina to enforce
our rights under the agreement. We believe that company to be
credit-worthy and able to satisfy any judgment we may obtain
against it. We expect no material adverse financial impact on
our results of operations or financial position, although this
litigation will result in additional costs to us that we may be
unable to recover.

The Commercial Operations segment had
depreciation and amortization expense of $3,735 and $3,888 for
the 2002 and 2001 financial years, respectively. The TriPath
Oncology segment only had depreciation expense of $126 in 2002.
The TriPath Oncology segment also received $6,198 in deferred
R&D funding from BD, which is being amortized against such
expenses over thirty months on a straight-line basis. In 2002
and 2001, respectively, $2,479 and $1,033 of amortization was
recorded against R&D expense. Purchases of property and
equipment by the Commercial Operations segment for 2002 and 2001
were $1,430 and $775, respectively. For TriPath Oncology,
purchases of property and equipment for 2002 and 2001 were $821
and 161, respectively. The TriPath Oncology segment had total
assets of $1,912 as of December 31, 2002 and the Commercial
Operations segment total assets of $72,039.

Geographic Area Data

Through September 30, 2000, Commercial
Operations domestic revenues were generated primarily by
direct sales activities. In October 2000, the segment began
a planned expansion of its field sales forces, which included
the building of a physician directed sales force. International
revenues continue to be derived primarily through distributors.
International revenues accounted for 32%, 23% and 32% of total
revenues during 2002, 2001 and 2000, respectively. Our largest
customer accounted for 8% of total revenue in 2002. In 2001 and
2000, the respective largest customers accounted for 11% and 20%
of total revenue.

9. Related Party Transactions

We have a temporary arrangement with BD, a
shareholder, for leasing a portion of BDs facility in
Research Triangle Park, North Carolina (RTP). Total
rent paid to BD amounted to $130 during 2002 and $5 during 2001.
This arrangement continued, primarily for use of BDs
animal laboratory facilities, though on a much-reduced scale
after TriPath Oncology occupied its new space in the RTP area of
North Carolina in July of 2002.

Included in Notes Receivable is a loan of $27
made to an Officer of the Company.

10. Employee Benefits

We maintain qualified 401(k) Retirement Plans
covering substantially all employees that provide for voluntary
salary deferral contributions. Total expense for the plans,
including employer contributions, amounted to $336, $263 and
$249 during 2002, 2001 and 2000, respectively.

Since January 1, 2002, we began offering to
employees a qualified Employee Stock Purchase Plan covering
substantially all employees that provide for voluntary salary
deferral contributions for the purchase of our stock subject to
the provisions of the Plan. There was no expense associated with
this plan recorded in 2002.

11. Contingencies

In the ordinary course of business, we are the
subject of, or party to, various pending or threatened claims
and litigation. In the opinion of management, settlement of such
claims and litigation will not have a material effect on our
operations or financial position.

F-22



---



##### 



TRIPATH IMAGING, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

(In thousands, except share and per share amounts)


12. Quarterly Results of Operations
(Unaudited)

|                                                    |              |          |       |         |   |              |       |             |   |   |       |        |   |   |        |        |  
|--------------------------------------------------- | ------------ | -------- | ----- | ------- | - | ------------ | ----- | ----------- | - | - | ----- | ------ | - | - | ------ | ------ | -
|2002                                                |              | March 31 |       | June 30 |   | September 30 |       | December 31
|                                                    |              |          |       |         |   |              |       |            
|Revenues                                            |              | $        | 7,563 |         |   | $            | 9,132 |             |   | $ | 9,826 |        |   | $ | 10,964 |       
|                                                    | Gross profit |          |       | 4,316   |   |              |       | 5,340       |   |   |       | 5,940  |   |   |        | 6,967  |  
|                                                    | Net loss     |          |       | (5,301  | ) |              |       | (5,418      | ) |   |       | (4,280 | ) |   |        | (3,065 | )
|Net loss per common share (basic & diluted)
    (1) |              | $        | (0.14 | )       |   | $            | (0.14 | )           |   | $ | (0.11 | )      |   | $ | (0.08  | )     
|                                                    |              |          |       |         |   |              |       |             |   |   |       |        |   |   |        |       

|                                                    |              |          |       |         |   |              |       |             |   |   |       |        |   |   |       |        |  
|--------------------------------------------------- | ------------ | -------- | ----- | ------- | - | ------------ | ----- | ----------- | - | - | ----- | ------ | - | - | ----- | ------ | -
|2001                                                |              | March 31 |       | June 30 |   | September 30 |       | December 31
|                                                    |              |          |       |         |   |              |       |            
|Revenues                                            |              | $        | 9,287 |         |   | $            | 6,153 |             |   | $ | 5,250 |        |   | $ | 6,327 |       
|                                                    | Gross profit |          |       | 4,700   |   |              |       | 2988        |   |   |       | 3,002  |   |   |       | 3,231  |  
|                                                    | Net loss     |          |       | (3,203  | ) |              |       | (4,160      | ) |   |       | (7,494 | ) |   |       | (6,823 | )
|Net loss per common share (basic & diluted)
    (1) |              | $        | (0.09 | )       |   | $            | (0.12 | )           |   | $ | (0.21 | )      |   | $ | (0.18 | )     






|    |                                                                                                                                                                                                               
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | The sum of per share earnings by quarter may not
    equal earnings per share for the year due to changes in average
    share calculations. This is in accordance with prescribed
    reporting requirements.

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