UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                  ------------

                                   Form 10-QSB

(Mark One)

(X)   QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
      OF 1934

For the quarterly period ended September 30, 2005

(_)   TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT

For the transition period from  _________ to __________.

                          Commission File number 0-935

                                  ------------

                           MOLECULAR DIAGNOSTICS, INC.
                           ---------------------------
        (Exact Name of Small Business Issuer as Specified in Its Charter)

         Delaware                                                36-4296006
         --------                                                ----------
(State or Other Jurisdiction of                               (I.R.S. Employer
Incorporation or Organization)                               Identification No.)

                       414 North Orleans Street, Suite 502
                                Chicago, IL 60610
                                -----------------
                    (Address of Principal Executive Offices)

                                 (312) 222-9550
                                -----------------
                (Issuer's Telephone Number, including Area Code)

                                       N/A
                                -----------------
   (Former Name, Former Address and Former Fiscal Year, if Changed Since Last
                                    Report)

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

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

The  number of shares  outstanding  of each of the  issuer's  classes  of common
equity, as of the latest practicable date:

Common Stock, $0.001 par value, at November 14, 2005:                154,354,735
                                                                     -----------


<PAGE>

                           MOLECULAR DIAGNOSTICS, INC.
                         QUARTERLY REPORT ON FORM 10-QSB

                                TABLE OF CONTENTS

                                                                            Page
                                                                            ----
PART I. -- FINANCIAL INFORMATION

Item 1. Financial Statements

      a) Consolidated Balance Sheets -- September 30, 2005 (unaudited)
           and December 31, 2004 .........................................    3

      b) Consolidated Statements of Operations -- Three and nine
           months ended September 30, 2005 and September 30, 2004 (all
           unaudited) ....................................................    4

      c) Consolidated Statements of Cash Flows -- Nine months ended
           September 30, 2005 and September 30, 2004 (all unaudited) .....    5

      d) Notes to Consolidated Financial Statements ......................    6

Item 2. Management's Discussion and Analysis or Plan of Operation ........   19

Item 3. Controls and Procedures ..........................................   24

PART II. -- OTHER INFORMATION

Item 1. Legal Proceedings ................................................   24

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds ......   24

Item 3. Defaults upon Senior Securities ..................................   25

Item 4. Submission of Matters to a Vote of Security Holders ..............   28

Item 5. Other Information ................................................   28

Item 6. Exhibits .........................................................   29

SIGNATURES ...............................................................   29

EXHIBIT INDEX ............................................................   30


                                  2
<PAGE>

PART I. -- FINANCIAL INFORMATION

Item 1. Financial Statements

                      MOLECULAR DIAGNOSTICS, INC.
                      CONSOLIDATED BALANCE SHEETS
                        (Dollars in thousands)

<TABLE>
<CAPTION>
                                                                                                    September 30,    December 31,
                                                                                                         2005            2004
                                                                                                    -------------    ------------
                                                                                                     (Unaudited)
<S>                                                                                                 <C>              <C>
                                     Assets
Current Assets:
  Cash and cash equivalents .....................................................................   $         130    $         11
  Accounts receivable, net of allowance for doubtful accounts of $0 at September 30,
    2005 and December 31, 2004 ..................................................................              16              30
  Inventories ...................................................................................              48              48
  Prepaid financing costs .......................................................................              --              80
  Prepaid expenses and other current assets .....................................................             121              14
                                                                                                    -------------    ------------
      Total current assets ......................................................................             315             183
Fixed Assets, net ...............................................................................             258             326
Other Assets:
  Licenses, patents and technology, net of amortization .........................................              20              20
                                                                                                    -------------    ------------
      Total assets ..............................................................................   $         593    $        529
                                                                                                    =============    ============

                 Liabilities and Stockholders' Equity (Deficit)
Current Liabilities:
  Accounts payable ..............................................................................   $       3,989    $      4,426
  Accrued payroll costs .........................................................................           1,044           1,084
  Accrued expenses ..............................................................................           1,838           1,944
  Deferred revenue ..............................................................................              25              25
  Due to stockholder ............................................................................              36              38
  Lease obligation ..............................................................................             110             110
  Notes payable--related parties ................................................................              70              70
  Notes payable .................................................................................           3,560           4,955
                                                                                                    -------------    ------------
      Total current liabilities .................................................................          10,672          12,652
                                                                                                    -------------    ------------

Stockholders' Equity (Deficit):
Preferred stock, $0.001 par value; 10,000,000 shares authorized; 1,102,192 and 1,119,192 shares
  issued and outstanding at September 30, 2005 and December 31, 2004, respectively (Liquidation
  value of preferred stock $9,459,022) ..........................................................           7,716           7,767
Common stock, $0.001 par value; 300,000,000 shares authorized; 154,546,823 and 99,792,292 shares
  issued and 154,354,735 and 99,600,204 shares outstanding at September 30, 2005 and December 31,
  2004, respectively ............................................................................             155             100
Additional paid-in-capital ......................................................................          50,017          45,961
Treasury stock: 192,088 shares at September 30, 2005 and December 31, 2004 ......................            (327)           (327)
Accumulated deficit .............................................................................         (67,586)        (65,565)
Accumulated comprehensive loss--
    Cumulative translation adjustment ...........................................................             (55)            (59)
                                                                                                    -------------    ------------
      Total stockholders' equity (deficit) ......................................................         (10,080)        (12,123)
                                                                                                    -------------    ------------
      Total liabilities and stockholders' equity (deficit) ......................................   $         593    $        529
                                                                                                    =============    ============
</TABLE>

              The accompanying notes are an integral part of these
                       consolidated financial statements.


                                  3
<PAGE>

                      MOLECULAR DIAGNOSTICS, INC.
                 CONSOLIDATED STATEMENTS OF OPERATIONS
          (In thousands, except share and per share amounts)

<TABLE>
<CAPTION>
                                                                  For the Nine Months              For the Three Months
                                                                  ended September 30,               ended September 30,
                                                             -----------------------------    -----------------------------
                                                                  2005            2004             2005            2004
                                                             -------------    ------------    -------------    ------------
                                                                      (Unaudited)                       (Unaudited)
<S>                                                          <C>              <C>             <C>              <C>
Net revenues .............................................   $          93    $        195    $          24    $         41
Operating expenses
  Cost of revenues .......................................              --              25               --              --
  Research and development ...............................             128             716               31             231
  Selling, general, and administrative ...................           1,047           3,254              (55)          1,116
                                                             -------------    ------------    -------------    ------------
      Total operating expenses ...........................           1,175           3,995              (24)          1,347
                                                             -------------    ------------    -------------    ------------

Operating loss ...........................................          (1,082)         (3,800)              48          (1,306)

Other income (expense):
  Interest expense - related party .......................              (7)            (50)              (2)             (2)
  Interest expense .......................................            (932)         (1,546)            (124)           (409)
  Other, net .............................................              --              10               --              --
                                                             -------------    ------------    -------------    ------------
      Total other income (expense) .......................            (939)         (1,586)            (126)           (411)
                                                             -------------    ------------    -------------    ------------
Loss before income taxes .................................          (2,021)         (5,386)             (78)         (1,717)
Provision for income taxes ...............................              --              --               --              --
                                                             -------------    ------------    -------------    ------------
    Net loss .............................................          (2,021)         (5,386)             (78)         (1,717)

Preferred stock dividend in arrears ......................            (683)           (802)            (230)           (232)
                                                             -------------    ------------    -------------    ------------

Net loss applicable to common stockholders ...............   $      (2,704)   $     (6,188)   $        (308)   $     (1,949)
                                                             =============    ============    =============    ============

Basic and fully diluted net loss per common share ........   $       (0.02)   $      (0.09)   $       (0.00)   $      (0.02)
                                                             =============    ============    =============    ============

Weighted average number of common shares outstanding .....     111,137,400      71,054,095      118,669,134      83,374,666
                                                             =============    ============    =============    ============
</TABLE>

              The accompanying notes are an integral part of these
                       consolidated financial statements.


                                       4
<PAGE>

                           MOLECULAR DIAGNOSTICS, INC.
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                             (Dollars in thousands)

<TABLE>
<CAPTION>
                                                                                          Nine Months Ended
                                                                                            September 30,
                                                                                         ------------------
                                                                                           2005       2004
                                                                                         -------    -------
                                                                                             (Unaudited)
<S>                                                                                      <C>        <C>
Operating Activities:
  Net loss ...........................................................................   $(2,021)   $(5,386)
  Adjustments to reconcile net loss to net cash used for operating activities:
    Amortization of debt discount ....................................................       575        905
    Depreciation and amortization ....................................................        92        514
    Amortization of prepaid consulting fees ..........................................        79        319
    (Gain) loss on sale of fixed assets ..............................................         3        (99)
    Note issued in payment of an expense .............................................        82        103
    Warrants issued in settlement ....................................................       421         --
    Compensation expense related to stock appreciation rights ........................        --        149
    Return of fixed assets in exchange for relief of indebtedness ....................        --      1,158
    Changes in assets and liabilities:
      Accounts receivable, net .......................................................        14         12
      Inventories ....................................................................        --         19
      Due to stockholder .............................................................        (1)       (15)
      Prepaid expenses and other current assets ......................................      (107)      (124)
      Checks issued in excess of amounts on deposit ..................................        --         (5)
      Accounts payable ...............................................................      (229)    (1,100)
      Lease obligation ...............................................................        --       (183)
      Deferred revenue ...............................................................        --        (50)
      Accrued expenses ...............................................................      (135)       343
                                                                                         -------    -------
  Net cash used for operating activities .............................................    (1,227)    (3,440)
                                                                                         -------    -------

Investing Activities:
  Expenditures for licenses, patents and technology ..................................        --        (20)
  Purchases of fixed assets ..........................................................       (27)      (187)
  Proceeds from sale of fixed assets .................................................        --         28
                                                                                         -------    -------
  Net cash used for investing activities .............................................       (27)      (179)
                                                                                         -------    -------

Financing Activities:
  Proceeds from issuance of convertible notes payable ................................        --      4,236
  Net proceeds from issuance of common stock .........................................     1,378        275
  Payment of notes payable ...........................................................        (5)      (890)
  Note issued in payment of an expense ...............................................        --        103
                                                                                         -------    -------
  Net cash provided by financing activities ..........................................     1,373      3,621
                                                                                         -------    -------

Net increase in cash and cash equivalents ............................................       119          2

Cash and cash equivalents at beginning of period .....................................        11         --
                                                                                         -------    -------

Cash and cash equivalents at end of period ...........................................   $   130    $     2
                                                                                         =======    =======

Supplemental disclosure of cash flow information:
Cash paid during the period for:
      Interest .......................................................................   $    28    $   135
      Financing costs ................................................................   $    58    $    --
Non-cash transactions during the period for:
      Financing costs ................................................................   $    93    $ 1,067
      Preferred stock and cumulative dividends converted into common stock ...........   $    71    $ 6,353
      Convertible promissory notes and accrued interest converted into common stock...   $ 6,884    $    --
</TABLE>

                 The accompanying notes are an integral part of
                    these consolidated financial statements.


                                       5
<PAGE>

                           MOLECULAR DIAGNOSTICS, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Organization

      Molecular  Diagnostics,  Inc. ("MDI" or the "Company") was incorporated as
Ampersand  Medical  Corporation in Delaware in December 1998 as the successor to
Bell National  Corporation ("Bell National").  Bell National was incorporated in
California  in  1958,  and  was  the  continuing   legal  entity  following  its
acquisition of InPath,  LLC, a  development-stage  company engaged in the design
and development of medical instruments and related tests, in December 1998. Bell
National  then  merged  into the  Company,  which was then  operating  under the
Ampersand name, in 1999.

      On September  25, 2001,  following the  Company's  acquisition  of AccuMed
International,  Inc.  ("AccuMed")  via the merger of AccuMed into a wholly-owned
subsidiary  of  MDI,  the  Company  changed  its  corporate  name  to  Molecular
Diagnostics,  Inc. in order to better represent its operations and products. The
name  change  was  effected  through  a  merger  with  a  separate  wholly-owned
subsidiary.  MDI retained its Certificate of Incorporation in the merger, except
as amended to reflect its new name, bylaws and capitalization.

      MDI  is  a  bio-molecular  diagnostics  company  focused  on  the  design,
development and commercialization of cost-effective  screening systems to assist
in the early  detection of cancer,  including its InPath(TM)  System and related
image analysis systems. MDI, however, has currently curtailed its operations and
expects to resume such operations only when the Company has obtained  additional
capital.  The InPath  System and related  products are intended to detect cancer
and  cancer-related  diseases,  and  may be  used in a  laboratory,  clinic,  or
doctor's office.

      In addition to AccuMed  and  Oncometrics  Imaging  Corp.,  a  wholly-owned
subsidiary  of  AccuMed,   MDI  had  another  wholly-owned   subsidiary,   Samba
Technologies,  Sarl  ("Samba").  MDI lost all  rights and title to the assets of
Samba upon completion of the former subsidiary's  bankruptcy liquidation sale in
December 2003.

      The Company has incurred significant operating losses since its inception.
Management  expects that significant  on-going  operating  expenditures  will be
necessary to successfully implement MDI's business plan and develop, manufacture
and market its products. These circumstances raise substantial doubt about MDI's
ability to continue as a going concern.  Implementation  of the Company's  plans
and its  ability  to  continue  as a going  concern  depend  upon  its  securing
substantial  additional  financing.  During the first nine  months of 2005,  MDI
raised  net  proceeds  of  $1,377,762  through  the  sale of its  common  stock.
Management's plans for the remainder of fiscal 2005 include  substantial efforts
to obtain  additional  capital.  During the quarter  ended  September  30, 2005,
however,  the  Company  was  unable to obtain  adequate  financing  or  generate
profitable sales revenues, and was forced to curtail its product development and
other  activities.  If the  Company  continues  to be unable to obtain  adequate
financing to fund operations, it will be forced to cease operations and may seek
bankruptcy protection.

Note 2. Basis of Presentation

      The consolidated  financial statements for the periods ended September 30,
2005 and 2004 included herein are unaudited.  Such financial statements reflect,
in the opinion of management,  all  adjustments  necessary to present fairly the
financial position and results of operations as of and for the periods indicated
and in  order  to  make  the  financial  statements  not  misleading.  All  such
adjustments  are of a normal  recurring  nature.  These interim  results are not
necessarily  indicative of the results to be expected for the fiscal year ending
December 31, 2005 or for any other period.

      Certain  information  and  footnote   disclosures   normally  included  in
financial statements prepared in accordance with accounting principles generally
accepted in the United  States have been  condensed  or omitted  pursuant to the
rules and regulations of the Securities and Exchange Commission. These financial
statements should be read in conjunction with the audited  financial  statements
and the notes  thereto  included  in our  Annual  Report on Form  10-KSB for the
fiscal year ended December 31, 2004 as filed with the SEC.


                                       6
<PAGE>

Note 3. Summary of Significant Accounting Principles

      The  accounting  policies  and  principles  management  believes  are most
critical to aid in understanding and evaluating the Company's reported financial
results include the following:

      Principles  of  Consolidation.  The  accompanying  consolidated  financial
statements   include  the   accounts   of  the  Company  and  its   wholly-owned
subsidiaries.  All significant inter-company 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 reported
amounts  of assets and  liabilities  and  disclosure  of  contingent  assets and
liabilities at the date of the financial  statements and the reported amounts of
revenues and expenses during the reporting  period.  Actual results could differ
from those estimates.

      Revenue  Recognition.  MDI  recognizes  revenue in  accordance  with Staff
Accounting Bulletin No. 104, "Revenue  Recognition," when the following criteria
are met:  shipment of a product or license to  customers  has occurred and there
are no remaining Company obligations or contingencies; persuasive evidence of an
arrangement  exists;  sufficient  vendor-specific,  objective evidence exists to
support allocating the total fee to all elements of the arrangement;  the fee is
fixed or determinable; and collection is probable.

      Revenue from ongoing  client  maintenance  is recognized  ratably over the
post-contract support term, which is generally 12 months.  Revenue from training
services and professional  services is recognized when the service is completed.
Revenue from  implementation  and installation  services is recognized using the
percentage of completion method.  Implementation  and installation  services are
generally completed within 120 days.

      Research and Development Costs. Research and development costs are charged
to  operations  as incurred.  MDI conducts a portion of its research  activities
under contractual arrangements with scientists,  researchers,  universities, and
other independent third parties.

      Foreign  Currency  Translation.  The functional  currency of the Company's
foreign  operations  is  the  local  currency.   Accordingly,   all  assets  and
liabilities are translated into U.S.  dollars using  period-end  exchange rates,
and all revenues and expenses are translated using average exchange rates during
the year.

      Net Loss  Per  Share.  Basic  loss per  share is  calculated  based on the
weighted-average  number of outstanding common shares.  Shares issued and shares
reacquired  during the period are  weighted  for the  portion of the period that
they  were  outstanding.  Diluted  loss  per  share is  calculated  based on the
weighted-average number of outstanding common shares plus the effect of dilutive
common  shares.  MDI's  calculation  of diluted  net loss per share as  reported
excludes potential common shares, as the effect would be anti-dilutive.

      Restructuring   Settlements.   Restructuring   settlements   reflect   the
difference  between the actual  settlement  amounts for various  litigation  and
creditor  payment matters and the amounts  originally  recorded on the Company's
financial statement as the amount due. Settlement amounts were less than amounts
originally recorded in recognition of the Company's financial condition.

      Share-Based  Payment. In December 2004, FASB issued Statement of Financial
Accounting  Standards  No.  123(revised),   "Share-Based   Payment"  ("SFAS  No.
123(R)"), which revised SFAS No. 123, "Accounting for Stock-Based  Compensation"
("SFAS  No.  123").  SFAS  No.  123(R)  establishes   accounting  standards  for
transactions  in which a company  exchanges its equity  instruments for goods or
services.  In  particular,  the  statement  will  require  companies  to  record
compensation  expense  for all  share-based  payments,  such as  employee  stock
options, at fair market value. This statement is effective for the Company as of
the  beginning  of the next fiscal year that begins  after  December  15,  2005.
Adoption of this financial  statement is not expected to have a material  impact
on the Company's consolidated financial position or results of operations.


                                       7
<PAGE>

Note 4. Licenses, Patents and Technology

      Licenses,   patents,  and  purchased  technology  are  recorded  at  their
acquisition  cost.  Costs to prepare  patent filings are expensed when incurred.
Costs related to abandoned patents or denied patent applications are written off
at the time of  abandonment or denial.  Amortization  is begun as of the date of
acquisition or upon the grant of the final patent.  Costs are amortized over the
asset's useful life, which ranges from two to 17 years.

      At each  annual  balance  sheet  date or  whenever  events or  changes  in
circumstances  indicate  that  the  carrying  amount  of an  asset  may  not  be
recoverable,  management  of the Company  evaluates the  recoverability  of such
assets.

      Licenses, patents, and technology were as follows:
            (in thousands)

                                                  September 30,    December 31,
                                                       2005            2004
                                                  -------------    ------------
                                                   (unaudited)
Licenses ......................................   $          20    $         20
Patent costs ..................................             133             133
LabCorp Technology Agreement ..................             260             260
                                                  -------------    ------------
Subtotal ......................................             413             413
Less accumulated amortization .................            (393)           (393)
                                                  -------------    ------------
      Total ...................................   $          20    $         20
                                                  =============    ============


      In 2004, MDI was party to a legal settlement with MonoGen,  Inc. involving
technology  owned  by MDI's  subsidiary,  AccuMed.  The  dispute  was  resolved,
resulting in the transfer to MonoGen of all of MDI's rights and title to certain
AccuMed  intellectual  property.  The transferred  technology is not used in the
Company's InPath(TM) cervical screening system. The settlement resulted in a net
$5,919,000  loss reflected in  adjustments  to the MDI Technology  Agreement and
accumulated amortization balances as of December 31, 2004.

      In 2004, MDI was also party to a legal settlement with Invirion,  Inc. and
Dr. Bruce Patterson over the validity of a technology  license.  Pursuant to the
settlement  agreement,  MDI agreed to the  cancellation  of the  license,  which
resulted in a net  $569,000  loss  reflected in  adjustments  to the license and
accumulated amortization balances as of December 31, 2004.

      For the nine  months  ended  September  30,  2005 and  2004,  amortization
expense was $0 and $263,000, respectively.

Note 5. Accrued Expenses

      Accrued expenses included the following:
            (in thousands)

                                                   September 30,   December 31,
                                                        2005           2004
                                                   -------------   ------------
                                                    (unaudited)
Accrued interest ...............................   $         829   $        994
Accrued interest--related party ................              32             25
Accrued settlement costs .......................             438            438
Accrued franchise and other taxes ..............             389            476
Other accrued expenses .........................             150             11
                                                   -------------   ------------
      Total ....................................   $       1,838   $      1,944
                                                   =============   ============


      MDI was  delinquent in paying a portion of its federal and state  employee
and employer  payroll taxes for 2003,  2002, and 2001.  The  delinquent  federal
payroll  taxes  relating to 2003 and 2002 were paid in full in April  2004.  The
delinquent  federal and state payroll  taxes  relating to 2001 were paid in full
during the nine months ended September 30, 2005.


                                       8
<PAGE>

      The Company owed $0 and $97,000 as of September  30, 2005 and December 31,
2004, respectively,  for 2001 federal payroll taxes, and amounts related to 2004
were  included in accrued  payroll costs in the  accompanying  December 31, 2004
balance sheet.

      MDI is also  delinquent  in filing  certain  federal and state  income tax
returns for 2004, 2003 and 2002 and is working to complete and file the returns.
MDI does not expect to owe federal  and state  income  taxes for 2004,  2003 and
2002. The delinquent federal and state income tax returns for 2001 were filed in
March 2005 with zero tax due.

Note 6. Notes Payable--Related Parties

      Notes payable to related parties consisted of:
            (in thousands)

                                                   September 30,   December 31,
                                                        2005           2004
                                                   -------------   ------------
                                                    (unaudited)
Northlea Partners, Ltd., $25,000 Promissory Note
  issued August 6, 2001; interest rate 15% per
  annum ........................................   $          25   $         25
Northlea Partners, Ltd., $15,000 Promissory Note
  issued September 20, 2001; interest rate 9%
  per annum ....................................              15             15
Northlea Partners, Ltd., $15,000 Bridge II
  Convertible Promissory Note issued May 1,
  2003; interest rate 12% per annum (see
  description under Bridge II Notes in Note
  7-Notes Payable for other terms and
  conditions) ..................................              15             15
Robert Shaw, $25,000 Promissory Note issued
  September 20, 2001; interest rate 9% per
  annum ........................................              15             15
                                                   -------------   ------------
                                                   $          70   $         70
                                                   =============   ============


      Peter Gombrich Amounts Due. Peter Gombrich,  the Company's former Chairman
and CEO,  was owed  $36,481 and $37,299 at  September  30, 2005 and December 31,
2004, respectively, for previous advances to the Company. MDI has classified the
amount  due to Mr.  Gombrich  under  the  current  liabilities  heading  "Due to
stockholder" in the accompanying balance sheets.

      Carrying  Amounts.  Management  believes it is not practicable to estimate
the fair  value of the  notes  payable-related  parties  due to the  uncertainty
regarding  repayment,  the possible  conversion of amounts due into stock of the
Company, and the Company's current financial condition.

Note 7. Notes Payable

      Notes payable to unrelated parties consisted of:
            (in thousands)

                                                   September 30,   December 31,
                                                        2005           2004
                                                   -------------   ------------
                                                    (unaudited)
Bridge I Convertible Promissory Notes; due
  December 31, 2002; interest rate 7% per annum;
  convertible into common stock at 75% of the
  market price on date of conversion; beneficial
  conversion feature valued at $1,042,000 at
  June 30, 2002; warrants at an exercise price
  of $0.25 per share; additional warrants at an
  exercise price equal to 150% of note
  conversion price .............................   $         500   $        750
Bridge II Convertible Promissory Notes; due July
  31, 2004; interest rate 12% or 15% per annum;
  convertible into common stock at $0.10 or
  $0.15 per share; beneficial conversion feature
  valued at $1,777,000 and $330,000 at December
  31, 2003 and December 31, 2002, respectively;
  warrants at an exercise price of $0.15 or
  $0.20 per share ..............................           1,285          1,285
Bridge III Convertible Promissory Notes; due
  December 31, 2008; interest rate 10% per
  annum; convertible into common stock at $0.10
  per share; beneficial conversion feature
  valued at $1,604,000 at June 30, 2004;
  warrants at an exercise price of $0.15 per
  share ........................................             116            268


                                       9
<PAGE>

Bridge IV Convertible Promissory Notes; due
  December 31, 2008; interest rate 10% per
  annum; convertible into common stock at $0.10
  per share; beneficial conversion feature
  valued at $1,791,000 at June 30, 2004;
  warrants at an exercise price of $0.15 per
  share; .......................................              --          1,085
Monsun, AS $500,000 Promissory Note issued
  November 1, 2000; interest rate 20% per annum,
  compounded into principal amount; beneficial
  conversion feature valued at $125,000 at
  November 1, 2000 .............................             907            782
MonoGen, Inc. $305,000 Promissory Note issued
  October 14, 2004; interest rate 14% per annum;
  first installment of $25,000 due November 1,
  2004 with monthly principal and interest
  installments of $10,000 thereafter; due
  January 1, 2007 ..............................             305            305
O.P., LLC $29,390 Promissory Note issued May 12,
  2003; interest rate 7% per annum; monthly
  principal payments of $1,316 plus interest
  commencing June 1, 2003; .....................              --              6
Ungaretti and Harris LLP $211,368 Secured
  Promissory Note issued May 8, 2003; interest
  rate 12% per annum; due September 30, 2003 ...             127            149
Ernst & Young LLP $30,800 Promissory Note issued
  July 17, 2003; interest rate 12% per annum
  commencing January 1, 2003; due December 31,
  2003 .........................................              31             31
Ventana Medical Systems, Inc. $62,946 Promissory
  Note issued November 30, 2003; due December
  31, 2003; interest rate 8% per annum payable
  after December 31, 2003 ......................              21             21
Xillix Technologies Corporation $361,000
  Promissory Note issued June 26, 1998; interest
  rate Canadian Prime plus 6% per annum;
  represents a debt of AccuMed .................              34             34
Western Economic Diversification $221,000
  Promissory Note issued June 1989; no interest;
  represents a debt of Oncometrics .............             234            239
                                                   -------------   ------------
                                                   $       3,560   $      4,955
                                                   =============   ============


      Bridge  I. In  2002,  MDI  issued  an  aggregate  $3,185,000  in  Bridge I
Convertible Promissory Notes to accredited investors. The notes bear interest at
the rate of 7% per annum and are  convertible  at any time into the common stock
of MDI at a conversion  price equal to 75% of the market price of the  Company's
common stock on the date of conversion. In addition, MDI issued to each holder a
warrant that  entitled each such holder to purchase one share of common stock at
an  exercise  price  of $0.25  per  share  for each  dollar  of  principal.  MDI
calculated  a fair  value of  $99,950  for these  warrants  using the fair value
interest  rate method and recorded this amount as  additional  interest  expense
during 2002. In addition,  at the time of conversion of the note, each holder is
entitled  to receive a warrant to  purchase  one share of common  stock for each
four shares of common  stock into which the note  converts at an exercise  price
equal to 150% of the  conversion  price of the note.  MDI has not  determined  a
value for these warrants as of September 30, 2005. Since the conversion price of
the note is at a 25%  discount to the market  price of the common  stock of MDI,
the holder is considered to have a beneficial conversion feature. MDI determined
the value of the  beneficial  conversion  feature to be  $1,042,000  at June 30,
2002.

      In  February  2003,  a note  holder,  NeoMed  Innovations  III,  converted
$1,060,000  in  principal  amount of  Bridge I notes  into  Bridge II notes.  In
November 2003, two Bridge I note holders  converted  $50,000 in principal amount
of notes and $5,287 in accrued  interest  into  368,579  shares of  unregistered
common stock.  Management  extended a written offer,  dated October 10, 2003, to
the Bridge I noteholders to convert their notes and accrued interest into common
shares at a  conversion  rate of $0.15 per  share.  In  addition,  the  Bridge I
holders  were  offered  warrants to purchase one new share for every four shares
acquired by the  noteholder  upon  exercise of such holder's  conversion  rights
under the notes. This offer continued to remain  outstanding as of September 30,
2005.

      During the twelve months ended December 31, 2004,  holders of an aggregate
$1,325,000 principal amount of Bridge I Convertible  Promissory Notes elected to
convert their notes and related accrued interest of approximately  $173,000 into
9,985,182  shares  of  unregistered  common  stock.  For the nine  months  ended
September 30, 2005, holders of $250,000 principal amount of Bridge I Convertible
Promissory  Notes  elected to convert their notes and related  accrued  interest
into 2,008,962 of unregistered common stock. The remaining $500,000 in principal
Bridge I notes remained unconverted and outstanding at September 30, 2005.


                                       10
<PAGE>

      Bridge  II.  Beginning  in  October  2002,  MDI  began  an  issue of up to
$4,000,000 in Bridge II Convertible  Promissory  Notes to accredited  investors.
MDI issued  $550,000 in Bridge II notes as of December 31, 2002. From January 1,
2003 through the closing of the offering on December 5, 2003,  MDI issued Bridge
II notes in the principal amount of: $1,980,200 in exchange for cash, $1,060,000
as a conversion of a Bridge I Convertible Promissory Note (see discussion above)
and $305,667 in exchange for a note payable to Peter P. Gombrich,  the Company's
then-Chairman,  for a total issuance during fiscal year 2003 of $3,345,867.  The
notes as  originally  issued  provide  for  interest  at a rate of 12% per annum
payable at the  maturity  date in kind in the form of shares of common  stock of
MDI. The Company  granted the holders a junior  security  position in all of its
assets.  The notes are convertible at any time into the common stock of MDI. The
note  conversion  price and the value of common  shares paid in kind as interest
for the first $1,000,000 in principal amount of cash  subscriptions,  determined
on a "first come - first served basis," is $0.10 per share.  The note conversion
price and the value of common  shares paid in kind as interest for the remaining
$3,000,000  of principal  amount of notes in the series is $0.15 per share.  The
conversion  prices of the notes  issued  during 2002 and 2003 were less than the
market  price of the common  stock when the notes were  issued;  therefore,  the
holders are considered to have a beneficial  conversion feature.  MDI determined
the value of the beneficial  conversion feature to be $1,777,200 and $330,000 at
December 31, 2003 and 2002, respectively.  The value was recorded as a reduction
of the debt and amortized as additional interest over the life of the notes. MDI
recorded additional interest expense of $334,909 to reflect  amortization of the
discount during the twelve months ended December 31, 2004, which represented the
final amortization of the beneficial conversion feature.

      At the  time  MDI  completes  significant  additional  funding  plans,  as
outlined in the subscription  agreement for the Bridge II notes,  each holder of
Bridge II notes is entitled  to receive a warrant to  purchase  one share of the
common  stock of the Company for each four shares of common stock into which the
note is  convertible  at an  exercise  price of $0.15 per share for notes in the
class  pertaining  to the first  $1,000,000 in  subscriptions  and $0.20 for the
remaining  $3,000,000 in note  principal  subscriptions.  In September  2003, an
amendment  to the  Bridge II  Convertible  Promissory  Notes was sent to holders
requesting   an  extension  of  the  notes  to  July  31,  2004.  As  additional
consideration  for the  extension,  holders  were  offered  an  increase  in the
interest rate from 12% to 15%. In addition,  an amendment to the indenture  also
offered an increase in the warrant coverage ratio from 25% to 33%. The Bridge II
offering was closed as of December 5, 2003.

      For the 12  months  ended  December  31,  2004,  holders  of an  aggregate
$2,146,000 in principal amount of Bridge II Convertible Promissory Notes elected
to convert their notes and related accrued  interest of  approximately  $251,000
into 17,619,242 shares of unregistered common stock. Included in such conversion
amounts are amounts due Peter P. Gombrich,  the Company's  former  Chairman,  of
$305,667 in Bridge II principal and $11,431 in accrued interest  thereon,  which
were converted into an aggregate  2,113,987 shares of unregistered common stock.
The remaining  $1,300,000 in principal  Bridge II notes remain  unconverted  and
outstanding at September 30, 2005.

      Bathgate Capital  Partners,  LLC - Bridge III.  Beginning in January 2004,
Bathgate Capital Partners,  LLC began an offering of a maximum of $4,000,000 and
a minimum of $1,500,000 in Bridge III Convertible Promissory Notes to accredited
investors  on behalf of the  Company.  The notes bear  interest at 10% per annum
payable,  on a semi-annual  basis, in kind in the form of shares of common stock
for the first two years and then in cash for the remaining three years until due
December 31, 2008. The note conversion price and the value of common shares paid
in kind as interest is $0.10 per share.  The notes are  convertible  at any time
into the common stock of MDI, although the notes will  automatically  convert if
the last sales price of the stock is $0.30 or higher for 20 consecutive  trading
days,  the daily  average  trading  volume is at least 250,000  shares,  and the
underlying  shares are  registered  for sale.  The holders  were also  granted a
security interest in all of the Company's  assets.  MDI granted each note holder
the right to receive 25% warrant coverage on all money invested;  therefore, for
every $100,000  invested,  an investor will receive  warrants to purchase 25,000
shares of common  stock at an exercise  price of $0.15 per share.  The  warrants
expire on December 31, 2008.

      The Bridge III offering  documents provided that funds raised would not be
released from escrow until the following requirements were met:

      o     A minimum investment of $1,500,000 had been reached;

      o     The $190,000  Convertible  Promissory Note held by Suzanne Gombrich,
            wife of Peter Gombrich, was converted into common shares;

      o     A portion  of the  Bridge II  Convertible  Promissory  Note  holders
            converted their notes into common shares; and

      o     Peter P. Gombrich, MDI's then-current Chairman and CEO, would resign
            his position as CEO of the Company.


                                       11
<PAGE>

With the exception of the conversion of Suzanne Gombrich's  $190,000 note, which
was  converted  following  stockholder  approval of an increase in the number of
authorized   shares  of  common  stock  of  the  Company  in  July  2004,  these
requirements  were satisfied on April 2, 2004 and the Company issued  $1,500,000
in  convertible  promissory  notes in exchange for cash. The funds were used for
repayment of a $1 million convertible note held by Suzanne Gombrich,  payment of
taxes,  and working  capital.  On May 21, 2004, the Company issued an additional
$162,500 in Bridge III notes in exchange for cash. The conversion  prices of the
notes  issued  during 2004 were less than the market  price of the common  stock
when the notes were  issued;  therefore,  the holders are  considered  to have a
beneficial  conversion  feature.  MDI  determined  the  value of the  beneficial
conversion  feature to be $1,604,000 at June 30, 2004. The value was recorded as
a reduction of the debt and will be amortized as  additional  interest  over the
life of the notes.  MDI  recorded  additional  interest  expense of $206,451 and
$208,595 to reflect  amortization  of the discount  during the nine months ended
September 30, 2005 and the 12 months ended December 31, 2004,  respectively.  At
the conclusion of the offering,  the Company had issued an aggregate  $1,662,500
in principal  amount of Bridge III Convertible  Promissory Notes in exchange for
cash. As of September  30, 2005,  holders of Bridge III  Convertible  Promissory
Notes had elected to convert an aggregate  $1,559,518 note principal and accrued
interest into 15,282,236  unregistered  common shares. The remaining $302,500 in
principal  Bridge III notes remain  unconverted and outstanding at September 30,
2005.

      Bridge IV.  Beginning in February 2004,  MDI began a separate  offering of
Bridge IV Convertible  Promissory Notes to accredited investors.  The notes bear
interest at 10% per annum payable,  on a semi-annual  basis, in kind in the form
of  shares  of  common  stock  for the  first two years and then in cash for the
remaining  three  years until the  December  31, 2008  maturity  date.  The note
conversion  price and the value of common  shares  paid in kind as  interest  is
$0.10 per share.  The conversion  prices of the notes during 2004 were less than
the market price of the common stock when the notes were issued;  therefore, the
holders are considered to have a beneficial  conversion feature.  MDI determined
the value of the  beneficial  conversion  feature to be  $1,791,000  at June 30,
2004. The value was recorded as a reduction of the debt and will be amortized as
additional interest over the life of the notes. MDI recorded additional interest
expense of $192,558 and $302,288 to reflect  amortization of the discount during
the nine months ended  September  30, 2005 and the 12 months ended  December 31,
2004, respectively.

      The  notes  are  convertible  at any time  into the  common  stock of MDI,
although  the notes will  automatically  convert if the last sales  price of the
stock is $0.30 or higher for 20  consecutive  trading  days,  the daily  average
trading  volume  is at least  250,000  shares,  and the  underlying  shares  are
registered for sale. The holders were also granted a security interest in all of
the  Company's  assets.  MDI  granted  each note holder the right to receive 25%
warrant coverage on all money invested;  therefore, for every $100,000 invested,
an investor will receive  warrants to purchase  25,000 shares of common stock at
an exercise price of $0.15 per share.  The warrants expire on December 31, 2008.
At the  conclusion  of  the  offering,  the  Company  had  issued  an  aggregate
$2,573,500  in principal  amount of Bridge IV  Convertible  Promissory  Notes in
exchange  for  cash.  As of  September  30,  2005,  all  holders  of  Bridge  IV
Convertible  Promissory  Notes had  elected to convert an  aggregate  $2,573,505
principal amount in exchange for 25,605,000  unregistered  common shares.  As of
September  30,  2005,  the Bridge IV note holders  representing  over 85% of the
total  principal  note amounts also elected to waive $328,477  accrued  interest
resulting in one-time interest forgiveness income for the quarter then ended.

      Monsun.  On November 1, 2000, MDI issued a convertible  promissory note to
Monsun, AS ("Monsun") in exchange for $500,000 in cash. The note originally bore
interest at the rate of 15% per year and was  originally  due 12 months from the
date of issue.  The note is  convertible  into common stock,  any time after the
expiration  of the first 180 days of the loan  term,  at a  conversion  price of
$1.00 per share.

      On October 31, 2001,  Monsun and MDI agreed to the first  extension of the
maturity date of the note until January 31, 2002. As consideration for the first
extension  agreement,  MDI issued a three-year warrant to Monsun,  entitling the
holder to purchase 100,000 shares of common stock of MDI at an exercise price of
$0.60 per  share.  On  January  31,  2002,  Monsun  and MDI agreed to the second
extension  of the maturity  date of the note.  As  consideration  for the second
extension  agreement,  MDI issued a three-year warrant to Monsun,  entitling the
holder to purchase 200,000 shares of common stock of MDI at an exercise price of
$0.30 per share. A fair value of $4,110 for the warrant was calculated using the
fair value interest rate method and was recorded as additional  interest expense
during  2002.  On April 1,  2002,  Monsun  and MDI agreed to the third and final
extension of the maturity  date until July 31, 2002.  As  consideration  for the
third extension agreement,  MDI issued a five-year warrant to Monsun,  entitling
the holder to  purchase  200,000  shares of common  stock of MDI at an  exercise
price of $0.70 per share,  and adjusted the interest rate on unpaid principal to
20% per annum. A fair value of $8,287 for the warrant was  calculated  using the
fair value interest rate method and was recorded as additional  interest expense
during 2002. In November  2002, MDI issued 200,000 shares of its common stock as
a default  penalty  on the note.  A fair  value of  $42,000  for the  shares was
calculated  using the market  price of the  common  stock on the date the shares
were issued and recorded as financing  expenses  during 2002.  MDI made payments
against the  principal of the note  amounting to $117,266 and recorded  interest
expense, in addition to the amounts mentioned above, of $80,200 during 2002.


                                       12
<PAGE>

      In January 2003,  Monsun  initiated a legal action against Peter Gombrich,
MDI's  then-Chairman,  as a  personal  guarantor  on the note,  in an attempt to
collect  the unpaid  principal  balance of the note.  Monsun was  successful  in
obtaining a legal judgment of approximately $675,000 related to the note balance
and accrued  interest against Mr. Gombrich as personal  guarantor.  In addition,
Monsun was  granted  an award of  approximately  $438,000  for  attorneys'  fees
against Peter Gombrich as the personal  guarantor.  The award for legal fees has
been  recorded  as an accrued  expense.  (See Note 5 - Accrued  Expenses)  Those
judgments  remain  unsatisfied.  Monsun has not filed suit directly  against the
Company to recover any amounts due under the note or otherwise.

      MonoGen,  Inc. In October  2004,  MDI entered into a settlement  agreement
with MonoGen, Inc. relating to an arbitration proceeding brought against AccuMed
and  Oncometrics  by MonoGen for alleged  breaches in  connection  with  certain
license and related agreements among the parties. As part of the settlement, MDI
issued a  promissory  note to MonoGen in the amount of  $305,000,  payable in an
initial  installment  of $25,000 on November  1, 2004 and  monthly  installments
thereafter of $10,000 until the note is paid in full,  and agreed to transfer to
MonoGen certain assets. Inasmuch as the assets were not timely transferred,  and
because  the initial  $25,000  payment to be made under the note was not paid by
its due date,  MonoGen  delivered a notice of default to the Company and AccuMed
in November 2004. If the default asserted in the notice is not cured,  there are
a number of remedies  that may be available to MonoGen  under the  provisions of
the settlement  agreement and the note, one of which is the possibility that the
full principal  amount of the note may be accelerated  and declared  immediately
due and  payable.  To date,  neither MDI nor any  related  party to the suit has
received further notice in regard to the asserted  default,  although not all of
the remedies  that may be  available to MonoGen in regard to such default  would
require that further notices be given.

      Ungaretti  & Harris LLP. In March  2005,  MDI  entered  into a  settlement
agreement  related to a judgment  entered  against  the  Company and in favor of
Ungaretti & Harris LLP in the law firm's suit against MDI for unpaid legal fees.
In January 2005, the court had entered summary  judgment in favor of Ungaretti &
Harris in the amount of $195,500,  plus costs of suit. The parties  subsequently
entered into a settlement agreement in satisfaction of the judgment, whereby MDI
promised to pay  $150,000 to the law firm,  payable in  installments  of $25,000
commencing  March 22,  2005,  and with  subsequent  payments  due in ninety  day
increments  until the  balance  is paid in full.  The  Company is  currently  in
default  on the  September  21,  2005  payment  due and is in  discussions  with
Ungaretti & Harris.

      See Note 10 - Legal  Proceedings for more information  regarding the legal
proceedings  regarding or giving rise to the above  Monsun,  Ungaretti & Harris,
and MonoGen notes.

      Defaults.  The  Company  is in breach  of a  significant  majority  of its
outstanding  notes  payable,  including  the Bridge I and Bridge II  Convertible
Promissory  Notes,  primarily  due to the  Company's  failure to make  principal
payments when due. In certain cases, the notes payable require that in order for
certain  types of events of default  to occur,  the  holder  must  notify MDI in
writing of a declaration of default,  at which time a cure period,  as specified
in each individual note, would commence. There is no guarantee that MDI would be
able to cure any  existing or future  event of default  if, or when,  the holder
provides  the  required  written  notice.  Other  than  the  Monsun  convertible
promissory  note, the MonoGen note payable,  and the note payable to Ungaretti &
Harris,  which are the  subject of legal  actions  described  in Note 10 - Legal
Proceedings (certain of which have been settled or are in settlement discussions
as discussed herein),  MDI has not received any written  declarations of default
from holders of its outstanding notes payable, although several of such notes do
not require  written  notice of default.  For a more detailed  discussion of the
terms and conditions of certain of the Company's  notes  payable,  see Item 3 in
Part II of this Quarterly Report on Form 10-QSB.

      Carrying  Amounts.  Management  believes it is not practicable to estimate
the fair value of the notes payable due to the uncertainty  regarding repayment,
the  possible  conversion  of  amounts  due into stock of the  Company,  and the
Company's current financial condition.


                                       13
<PAGE>

Note 8. Stockholders' Equity (Deficit)

      A summary of the Company's preferred stock is as follows:

<TABLE>
<CAPTION>
                                                         September 30,     December 31,
                                                              2005              2004
                                                        ---------------   ---------------
                                                        Shares Issued &   Shares Issued &
Series of Preferred Stock                                 Outstanding       Outstanding
-----------------------------------------------------   ---------------   ---------------
                                                          (unaudited)
<S>                                                     <C>               <C>

Series A convertible ................................            82,655            82,655
Series B convertible, 10% cumulative dividend .......           365,106           365,106
Series C convertible, 10% cumulative dividend .......           245,833           262,833
Series D convertible, 10% cumulative dividend .......           175,000           175,000
Series E convertible, 10% cumulative dividend .......           233,598           233,598
                                                        ---------------   ---------------
      Total Preferred Stock .........................         1,102,192         1,119,192
                                                        ===============   ===============
</TABLE>


      Convertible  Cumulative  Preferred  Stock  Conversions:  During  the third
quarter of fiscal 2005, a holder of Series C  Convertible  Cumulative  Preferred
Stock elected to convert  17,000 shares and  cumulative  dividends  into 118,250
unregistered shares of the Company's common stock.

Summary of Preferred Stock Terms

Series A Convertible Preferred Stock
Liquidation Value:      $4.50 per share
Conversion Price:       $10.3034 per share
Conversion Rate:        0.4367--Liquidation Value divided by Conversion Price
                        ($4.50/$10.3034)
Voting Rights:          None
Dividends:              None
Conversion Period:      Any time

Series B Convertible Preferred Stock
Liquidation Value:      $4.00 per share
Conversion Price:       $1.00 per share
Conversion Rate:        4.00--Liquidation Value divided by Conversion Price
                        ($4.00/$1.00)
Voting Rights:          None
Dividends:              10%--Quarterly--Commencing March 31, 2001
Conversion Period:      Any time
Cumulative dividends in arrears at September 30, 2005 were $682,572

Series C Convertible Preferred Stock
Liquidation Value:      $3.00 per share
Conversion Price:       $0.60 per share
Conversion Rate:        5.00--Liquidation Value divided by Conversion Price
                        ($3.00/$0.60)
Voting Rights:          None
Dividends:              10%--Quarterly--Commencing March 31, 2002
Conversion Period:      Any time
Cumulative dividends in arrears at September 30, 2005 were $288,585

Series D Convertible Preferred Stock
Liquidation Value:      $10.00 per share
Conversion Price:       $1.00 per share
Conversion Rate:        10.00--Liquidation Value divided by Conversion Price
                        ($10.00/$1.00)
Voting Rights:          None
Dividends:              10%--Quarterly--Commencing April 30, 2002
Conversion Period:      Any time
Cumulative dividends in arrears at September 30, 2005 were $728,767


                                       14
<PAGE>

Series E Convertible Preferred Stock
Liquidation Value:      $22.00 per share
Conversion Price:       $0.80 per share
Conversion Rate:        27.50--Liquidation Value divided by Conversion Price
                        ($22.00/$0.80)
Voting Rights:          Equal in all respects to holders of common shares
Dividends:              10%--Quarterly--Commencing May 31, 2002
Conversion Period:      Any time
Cumulative dividends in arrears at September 30, 2005 were $1,933,341

Issuance of Common Shares for Cash

      In the third  quarter of fiscal 2005,  the Company  received net aggregate
proceeds of $733,500 and issued an  aggregate  31,660,000  shares of  restricted
common stock at $0.025 per share and are reflected in Additional Paid In Capital
until such time as such shares are  actually  issued by the  Company's  transfer
agent and will then be reflected in our Common Stock register and account.

Exchange of certain  Bridge I, III, IV Convertible  Promissory  Notes for Common
Shares

      As described in more detail in Note 7, during the third  quarter of fiscal
2005,  noteholders of certain Bridge I, III and IV Convertible  Promissory Notes
elected to exchange an aggregate  $6,884,000  principal and accrued interest for
42,896,198 unregistered shares of the Company's common stock

Note 9. Equity Incentive Plan and Employee Stock Purchase Plan

      On May 25, 1999,  stockholders approved the establishment of the Company's
1999 Equity  Incentive Plan (the "Plan")  effective as of June 1, 1999. The Plan
provides  that the  Board  may  grant  various  forms of  equity  incentives  to
directors,  employees,  and consultants,  including but not limited to incentive
stock options,  non-qualified  stock options,  stock  appreciation  rights,  and
restricted  stock awards.  Awards under the Plan are  exercisable at fair market
value  determined  as of the date of grant in  accordance  with the terms of the
Plan.  Awards vest  immediately or ratably over periods ranging from two to five
years, and expire five to ten years from the date of grant.

      On May 23, 2000,  stockholders approved Amendment No. 1 to the Plan, which
increased  the number of shares of common  stock  allocated  for use in the Plan
from  2,000,000  shares to  3,000,000  shares.  On June 21,  2002,  stockholders
approved a second  amendment to the Plan,  which  increased the number of shares
allocated for use in the Plan from 3,000,000 shares to 5,500,000 shares. On July
29, 2004,  stockholders  approved a third amendment to the Plan, which increased
the number of shares for use in the Plan from 5,500,000 to 20,000,000 shares.

      The Board of  Directors  has also  granted  options to purchase the common
stock of MDI outside of the Plan.

      As permitted by SFAS No. 123, MDI currently applies Accounting  Principles
Board Opinion No. 25,  "Accounting  for Stock Issued to  Employees"  and related
interpretations  in accounting for options  granted to employees under the Plan.
No  compensation  cost was recorded  during the nine months ended  September 30,
2005 or the year ended  December 31, 2004 for options  granted to employees,  as
the  exercise  prices  of  such  options  approximated  the  fair  value  of the
underlying  common  stock on the  date of the  grant.  Had  stock  options  been
accounted  for under the fair value  method  recommended  by SFAS No.  123,  the
Company's net loss allocated to common  shareholders  would have been changed to
the pro forma amounts indicated below:


                                       15
<PAGE>

<TABLE>
<CAPTION>
                                                            For the nine months    For the three months
                                                            ended, September 30,   ended September 30,
                                                               2005       2004       2005       2004
                                                             -------    -------    -------    -------
                                                            (in thousands except for per share amounts)
                                                                            (unaudited)
<S>                                                          <C>        <C>        <C>        <C>
Net loss applicable to common
  stockholders as reported ...............................   $(2,704)   $(6,188)   $  (308)   $(1,949)
Deduct: Total stock-based compensation
  expense determined under the fair value based
  method for all awards and forfeitures,
  net of related taxes ...................................        (9)      (137)        --         34
                                                             -------    -------    -------    -------
Pro forma net loss applicable to
  common stockholders ....................................   $(2,713)   $(6,325)   $  (308)   $(1,915)
                                                             =======    =======    =======    =======

Basic and diluted loss per share applicable to common
  stockholders - as reported .............................   $  (.02)   $  (.09)   $  (.00)   $  (.02)
                                                             =======    =======    =======    =======
Basic and diluted loss per share applicable to common
  stockholders - pro forma ...............................   $  (.02)   $  (.09)   $  (.00)   $  (.02)
                                                             =======    =======    =======    =======
</TABLE>


      The fair value for these  options was  estimated  at the date of the grant
using a Black-Scholes  option pricing model with the following  weighted average
assumptions:  risk-free  interest rates of 4.28% and 5.33% for the September 30,
2005 and 2004 periods,  respectively;  volatility factors of the expected market
price of the Company's common stock of 117% and 173%,  respectively;  and a fair
value of the underlying  common shares equal to the closing market price of such
shares on the date of the  grant.  The  expected  life  equaled  the term of the
options or restricted shares.

      A summary of the Company's stock option  activity and related  information
follows:

                                                                       Weighted
                                                                        Average
                                                                       Exercise
                                                          Options        Price
                                                         ----------    ---------
Outstanding at January 1, 2004 .......................    3,494,648
Granted ..............................................    2,500,000    $  0.1540
Forfeited ............................................   (1,046,921)   $  1.0276
                                                         ----------
Outstanding at December 31, 2004 .....................    4,947,727
Granted ..............................................           --
Expired ..............................................     (438,736)   $  2.6000
Forfeited ............................................     (250,000)   $  0.1400
                                                         ----------
Outstanding at September 30, 2005 ....................    4,258,991
                                                         ==========
Exercisable at September 30, 2005 ....................    3,545,658    $  0.5845
                                                         ==========


      At the Annual Meeting on May 25, 1999, MDI stockholders  also approved the
Company's  Employee Stock Purchase Plan (the "ESPP").  The ESPP offers employees
the  opportunity  to  purchase  shares of common  stock of MDI through a payroll
deduction  plan at 85% of the fair  market  value of such  shares  at  specified
enrollment  measurement  dates.  The  aggregate  number of shares  available for
purchase under the ESPP is 200,000.

      In December 2004, FASB issued Statement of Financial  Accounting Standards
No. 123(revised),  "Share-Based Payment". SFAS No. 123(R) establishes accounting
standards for transactions in which a company  exchanges its equity  instruments
for goods or services.  In particular,  this statement will require companies to
record compensation expense for all share-based payments, such as employee stock
options, at fair market value. This statement is effective for the Company as of
the beginning of the first annual  reporting  period that begins after  December
15, 2005.  Adoption of this statement is not expected to have a material  impact
on the Company's consolidated financial position or results of operations.

Note 10. Legal Proceedings

      Included  below is a summary of legal  proceedings  involving  the Company
that were either  initiated in the fiscal  quarter  ended  September 30, 2005 or
with respect to which a material development occurred during such quarter. For a
more  detailed  discussion  of all legal  proceedings  involving the Company and
other information on previous  developments,  see the Company's Annual Report on
Form  10-KSB,  as  amended,  for the fiscal  year ended  December  31,  2004 and
quarterly reports for the quarters ended March 31, 2005 and June 30, 2005.


                                       16
<PAGE>

      Settled Since June 30, 2005

      The Cleveland Clinic  Foundation.  On March 28, 2003, The Cleveland Clinic
Foundation filed suit against MDI (U.S. District Court for the Northern District
of Ohio, Eastern Division (Case No. 1:03CV056)) seeking  approximately  $315,000
for certain  clinical  trial work  conducted  by the  Foundation  in the Peoples
Republic of China on behalf of MDI. On December 8, 2003,  a default  judgment in
the amount of  $260,000  was  entered  against  MDI.  In June 2005,  the parties
executed a  settlement  agreement  and mutual  release in  satisfaction  of such
judgment,  pursuant  to which MDI  agreed  to pay the  Foundation  an  aggregate
$100,000,  assuming  certain  conditions  were met. Once final payment under the
settlement  agreement had been made, the  Foundation  agreed to release MDI from
any and all claims,  demands,  rights or causes of action.  As of September  30,
2005,  MDI had  made  final  payment  of  $85,000  in full  satisfaction  of the
settlement  agreement and requested that the Foundation take all steps necessary
to file a satisfaction  of judgment.  As of September 30, 2005, MDI had recorded
no liability relating to this case.

      Eric  Gombrich.  On May 19, 2004,  former MDI officer Eric Gombrich  filed
suit against MDI, Denis M. O'Donnell,  M.D., Peter Gombrich,  Dennis  Bergquist,
and Michael  Brodeur  (all of whom are no longer  officers or  directors  of the
Company)  in the  Circuit  Court of Cook  County,  Illinois  (04 L  05661).  Mr.
Gombrich  claimed  that MDI breached a written  employment  contract and that it
owed him $631,258 (plus  interest) and 300,000  shares of MDI stock.  In October
2005,  MDI entered into a settlement  agreement  with Mr.  Gombrich  pursuant to
which MDI agreed to pay Mr.  Gombrich an aggregate  $116,000 in three  scheduled
payments  (one of which has already  been  tendered)  and issue him a warrant to
purchase  300,000  shares of the Company's  common stock at an exercise price of
$.10 per share  exercisable  until July 31,  2009.  The parties also agreed to a
release  and  covenant  not to sue for any and  all  claims  arising  out of Mr.
Gombrich's  employment.  Pursuant to the  settlement,  the case  against MDI was
dismissed  on November 8, 2005.  As of September  30,  2005,  MDI had recorded a
liability in the amount of $148,000 relating to this case.

      Esoterix, Inc. Esoterix, Inc. made a claim against MDI for $19,725 arising
from a laboratory  services  agreement that it maintains MDI breached.  In March
2005, Esoterix filed suit against MDI to collect this claim in the Circuit Court
of Cook County, Illinois (05 M1 116482). MDI entered into a settlement agreement
with  Esoterix  in October  2005  pursuant  to which MDI agreed to pay  Esoterix
$13,000 in full  satisfaction  of its claims.  The case was dismissed  following
payment on October 11, 2005.  The parties also agreed to a mutual release of all
claims.  As of September 30, 2005, MDI had recorded a liability in the amount of
$13,000 relating to this case.

      Kanan,  Corbin,  Schupak & Aronow, Inc. On August 12, 2004, Kanan, Corbin,
Schupak & Aronow, Inc. ("KCSA") filed suit against AccuMed  International,  Inc.
f/d/b/a  Molecular  Diagnostics,  Inc.,  in the  Circuit  Court of Cook  County,
Illinois (04 L 9109),  seeking  $59,678,  plus  interest  and court  costs,  for
services provided. The parties agreed to a settlement in November 2005, although
no formal settlement  agreement has been executed.  Assuming the parties satisfy
all terms of the  settlement,  the case will be  dismissed.  As of September 30,
2005, MDI had recorded $66,000 as a liability for this matter.

      The Lash Group, Inc. On June 10, 2004, The Lash Group,  Inc., a healthcare
consulting  firm,  filed a lawsuit  against the Company in the General  Court of
Justice,  Superior Court Division, in Mecklenburg County, North Carolina (04 CVS
10367). The Lash Group sought  approximately  $94,000,  plus interest,  attorney
fees, and court costs,  for the alleged breach of an agreement,  with respect to
which Peter Gombrich,  our former Chairman and Chief Executive Officer,  and MDI
are sought to be held  primarily  liable.  In October  2005,  MDI entered into a
settlement  agreement  with The Lash Group and a  voluntary  dismissal  has been
filed. Pursuant to the settlement agreement,  MDI must make equal three payments
totaling  $100,000,  beginning December 2005 and following in February and March
2006 until paid in full. If MDI fails to make full payment, it has agreed to the
entry of a judgment  against it in the amount of  $147,866,  less credit for any
payments  made.  As of September  30, 2005,  MDI had recorded a liability in the
amount of $97,000 relating to this case.

      Ungaretti & Harris LLP. On May 31, 2004,  the law firm  Ungaretti & Harris
LLP filed an amended  complaint against MDI in the Circuit Court of Cook County,
Illinois (04 L 1101),  to collect fees for services  rendered  prior to December
31,  2003.  In January  2005,  the court  entered  summary  judgment in favor of
Ungaretti  & Harris and  against  MDI in the amount of  $195,500,  plus costs of
suit. The parties  subsequently  entered into a settlement  agreement to satisfy
the judgment.  Ungaretti & Harris  declared the settlement  agreement in default
for MDI's failure to make the second  payment on June 21, 2005. The parties have
since  modified the  settlement  agreement,  and MDI cured the claimed  default,
although it is now  currently in default on the  September 21, 2005 payment due.
The parties are in discussions regarding this default. As of September 30, 2005,
MDI had recorded a liability in the amount of $148,000 relating to this case.


                                       17
<PAGE>

      Pending as of September 30, 2005

      Medical College of Georgia Research Institute,  Inc. On November 18, 2003,
the Medical College of Georgia Research  Institute,  Inc. filed suit against MDI
in the Superior Court of Richmond County,  Georgia (Case No.  2003-RCCV-1211) to
collect  amounts  allegedly  due  pursuant to an agreement to provide a clinical
study for MDI. Georgia Research  Institute  claimed that the principal amount of
the obligation  due from MDI was  approximately  $86,700,  but sought to collect
approximately  $315,300  pursuant to an interest  provision of 10% per month. On
October  27,  2004,  the court  entered  summary  judgment  in favor of  Georgia
Research Institute and against MDI in the amount of $68,404. As of September 30,
2005,  MDI had recorded a liability  in the amount of $115,000  relating to this
case.

      Peter Gombrich. On April 25, 2005, former MDI officer Peter Gombrich filed
suit against MDI and MDI's former Chief  Executive  Officer Denis M.  O'Donnell,
M.D. in the Circuit  Court of Cook County,  Illinois (05 L 4543).  Mr.  Gombrich
claims that MDI breached a written  employment  contract and that it owes him in
excess of $849,500  (plus  interest and  attorneys'  fees).  Mr.  Gombrich  also
alleged a claim  against  MDI for  contribution  and  indemnification  regarding
agreements  he  signed  as  a  personal   guarantor  for  certain   alleged  MDI
obligations.  MDI filed a motion to compel the case to  arbitration,  consistent
with Mr. Gombrich's employment  agreement.  This motion was granted on August 9,
2005.  At this time,  MDI has filed its answer,  affirmative  defenses,  and has
asserted numerous counterclaims against Mr. Gombrich. The arbitrator set a final
hearing  date in early  February  2006.  MDI intends to  vigorously  defend this
proceeding. Management cannot reasonably estimate the liability, if any, related
to this matter or the likelihood of an unfavorable settlement at this time.

      Diamics LLC. On October 21, 2005,  the Company filed suit against  Diamics
LLC and related  parties in the Federal  District  Court,  Northern  District of
California  (C05-4282).  Diamics  was  formed by Peter  Gombrich,  MDI's  former
Chairman  of the Board  and CEO.  MDI  alleges  that Mr.  Gombrich  and a former
employee  misappropriated  MDI's  proprietary  information,  trade  secrets  and
patented products,  and the suit charges Diamics with  misappropriation of trade
secrets,  unfair  business  practices,  conversion,  and  patent  and  copyright
infringement.  The suit  seeks  injunctive  relief  and  damages  in  excess  of
$30,000,000.  The complaint in MDI's case has been served on Diamics, and MDI is
awaiting the defendants' answer.

      MDI's  suit  against  Diamics  was in part a  response  to a suit filed by
Diamics  against MDI on June 21, 2005 in the Federal  District  Court,  Northern
District of California (C05-02549). The complaint in that suit seeks declaratory
judgment of no  misappropriation,  conversion,  libel or unjust enrichment,  and
requests that the court enter judgment as follows:  declaration that Diamics has
not directly or indirectly misappropriated MDI's trade secrets, confidential and
proprietary  intellectual property,  reputation,  or goodwill;  declaration that
Diamics  has not  converted  MDI's  confidential  and  proprietary  intellectual
property;  declaration that Diamics has not been unjustly  enriched;  and for an
order  enjoining  MDI and its officers,  agents,  servants,  and employees  from
asserting that Diamics or its employees engaged in the above mentioned  conduct.
Although  the  abovementioned  complaint  was filed in June,  it was  amended on
October  12,  2005 and  allegedly  served on October  13,  2005.  MDI has yet to
confirm whether the complaint was served as alleged by Diamics. In the event the
complaint  is properly  served,  MDI intends to  vigorously  defend this action.
Management  cannot  reasonably  estimate the liability,  if any, related to this
matter or the likelihood of an unfavorable settlement. Accordingly, no liability
related to this matter has been accrued or recorded to date.

      Miscellaneous

      Creditors.  Several current or former unsecured creditors have made claims
against MDI to collect past due amounts for goods and services. MDI has recorded
the amounts due in its records and is attempting to settle these claims.

      Ketchum  Public  Relations.  MDI settled a $72,000 claim by Ketchum Public
Relations.  No  litigation  was ever filed by Ketchum.  MDI paid $10,000 in full
payment and satisfaction of the balance due in September 2005, and all claims by
Ketchum against MDI were released as of September 26, 2005.


                                       18
<PAGE>

Item 2. Management's Discussion and Analysis or Plan of Operation

      Forward-Looking Statements

      Certain statements  contained in this discussion and analysis that are not
related  to  historical  results  are  "forward-looking  statements"  within the
meaning of the Private Securities Litigation Reform Act of 1995. Statements that
are  predictive,  that depend upon or refer to future events or  conditions,  or
that  include  words  such  as  "expects,"  "anticipates,"  "intends,"  "plans,"
"believes,"   "estimates,"   "hopes,"   and   similar   expressions   constitute
forward-looking  statements.  In  addition,  any  statements  concerning  future
financial  performance  (including  future revenues,  earnings or growth rates),
business  strategies or  prospects,  or possible  future  actions by us are also
forward-looking statements.

      These forward-looking statements are based on beliefs of our management as
well as current expectations, projections, assumptions and information currently
available to the Company and are subject to certain risks and uncertainties that
could cause actual results to differ materially from historical results or those
anticipated  or  implied by such  forward-looking  statements.  These  risks are
described  more fully in our most  recent  Annual  Report on Form 10-KSB for the
fiscal year ended  December  31, 2004 under the caption  "Risk  Factors"  and in
subsequent reports filed with the Securities and Exchange Commission. Should one
or more of  those  risks  or  uncertainties  materialize  or  should  underlying
expectations,  projections and assumptions  prove incorrect,  actual results may
vary  materially  from  those  described.  Those  events and  uncertainties  are
difficult to predict  accurately  and many are beyond our control.  We assume no
obligation  to update  these  forward-looking  statements  to reflect  events or
circumstances   that  occur  after  the  date  of  these  statements  except  as
specifically required by law. Accordingly, past results and trends should not be
used to anticipate future results or trends.

Overview of Molecular Diagnostics, Inc.

      Molecular Diagnostics,  Inc., formerly Ampersand Medical Corporation, is a
biomolecular  diagnostics  company  focused  on  the  design,   development  and
commercialization  of  cost-effective  screening  systems to assist in the early
detection of cancer.  MDI has currently  curtailed its operations and expects to
resume such  operations  only when  additional  capital has been obtained by the
Company.  The InPath  System and related  products are intended to detect cancer
and cancer-related diseases, and may be used in a laboratory, clinic or doctor's
office.

      MDI's goal is to utilize  recent  research  regarding the human genome and
related proteins,  which form the foundation of cell biology and the human body,
as a base to develop  screening and diagnostic  testing  products for cancer and
cancer-related  diseases.  We believe  that the success of these  products  will
improve  patient care through more  accurate  test  performance,  wider  product
availability and more cost effective service delivery.  We were developing,  and
plan to continue developing upon obtaining additional capital, an initial series
of products to address  these  criteria  including  sample  collection  devices,
chemical and biological tests, and analysis instruments and related software.

      Our  strategy  is  to  develop  products   through  internal   development
processes, strategic partnerships,  licenses and acquisitions of companies. This
strategy has  required and will  continue to require  additional  capital.  As a
result,  we  will  incur  substantial  operating  losses  until  we are  able to
successfully market some, or all, of our products.

      We have designed and manufactured the AcCell(TM)  computer-aided automated
microscopy instrument and the AcCell Savant(TM),  an instrument that includes an
AcCell  instrument  and  software  and  which  collects   quantitative  cellular
information used in support of a diagnostic process. These instruments have been
sold to laboratories and medical diagnostic  companies for use in the customers'
proprietary  applications,  although  based on a  settlement  entered  into with
MonoGen,  Inc. in 2004, we have  transferred  certain  patents and  intellectual
property  rights for the AcCell  instrument to MonoGen.  MDI also entered into a
settlement  agreement  with Dr. Bruce  Patterson  and  Invirion,  Inc.  over the
validity of a certain  technology  license.  MDI agreed to the  termination  and
return of the license to Dr. Patterson and Invirion.

      The  Company  now  is  focused  on   marketing  a  new,   fully-integrated
workstation  - the  Automated  Image  Proteomic  System or "AIPS(TM)" - based on
updated technology. Assuming sufficient funding, we expect that the new platform
will be marketed through a distribution partner and, in certain instances,  will
be placed in a  customer  facility  on a  fee-for-use  basis.  Nearly all of our
reported  revenue to date has been from the sale of AcCell products and services
and from a former subsidiary's discontinued operations.


                                       19
<PAGE>

      The Company has incurred significant operating losses since its inception.
Management  expects that significant  on-going  operating  expenditures  will be
necessary to successfully implement MDI's business plan and develop, manufacture
and market its products. These circumstances raise substantial doubt about MDI's
ability to continue as a going concern.  Implementation  of the Company's  plans
and its  ability  to  continue  as a going  concern  depend  upon  its  securing
substantial  additional  financing.  During the first nine  months of 2005,  MDI
raised net proceeds of $1,377,762 through the sale of common stock. Management's
plans for the  remainder  of fiscal 2005 include  substantial  efforts to obtain
additional capital. During the quarter ended September 30, 2005, the Company was
unable to obtain adequate financing or generate  profitable sales revenues,  and
was forced to curtail  its  product  development  and other  activities.  If the
Company continues to be unable to obtain adequate  financing to fund operations,
it will be forced to cease operations and may seek bankruptcy protection.

Recent Developments

      The Company elected during the third quarter of fiscal 2005 to replace the
former CEO and Chairman with Dr. David  Weissberg and the former CFO with Robert
McCullough.  Both Dr. Weissberg and Mr. McCullough are substantial  shareholders
of the Company's common stock. The Company filed current reports on Form 8-K for
both appointees during the third quarter of fiscal 2005, which can be referenced
and reviewed for further information about these individuals.

Critical Accounting Policies and Changes to Accounting Policies

      The  preparation  of financial  statements in conformity  with  accounting
principles  generally accepted in the United States requires  management to make
estimates  and  assumptions  that  affect  the  reported  amounts  of assets and
liabilities  and disclosure of contingent  assets and liabilities at the date of
the  financial  statements  and the  reported  amounts of revenues  and expenses
during the reporting period. Actual results could differ from those estimates.

      There have been no material changes in our critical accounting policies or
critical  accounting  estimates since December 31, 2004, nor have we adopted any
accounting  policy that has or will have a material  impact on our  consolidated
financial statements. For further discussion of our accounting policies see Note
3 - Summary of Significant  Accounting  Principles in the Notes to  Consolidated
Financial  Statements  included in this Quarterly Report on Form 10-QSB, as well
as our Annual Report on Form 10-KSB for the fiscal year ended December 31, 2004.

Results of Operations

      The following  discussion and analysis should be read in conjunction  with
our unaudited  consolidated  financial statements presented in Part I, Item 1 of
this Quarterly Report,  and our audited  consolidated  financial  statements and
notes thereto,  and our  Management's  Discussion and Analysis  contained in our
Annual Report on Form 10-KSB for the year ended December 31, 2004.

    Three Months Ended September 30, 2005 as compared to Three Months Ended
                               September 30, 2004

Revenue

      Revenues for the three months ended September 30, 2005 decreased  $17,000,
or 41.5%,  to $24,000 from revenues of $41,000 for the same period in 2004. This
decrease  was  the  result  of a  reduction  in  revenue  from  the  sale of our
slide-based installed systems.


                                       20
<PAGE>

Costs and Expenses

      Cost of Goods Sold

      Cost of goods sold  remained at zero for the quarter  ended  September 30,
2005 similar to the same period in 2004,  since no AcCell  instruments were sold
during either period.

      Research and Development

      We have  devoted a  substantial  amount of our  resources  to research and
development  ("R&D")  related  to  new  products,   including  markers,   tests,
instruments  and  software  applications,   as  well  as  modifications  to  and
refinements of our existing products.

      For the quarter ended September 30, 2005, our R&D expenses were $31,000, a
decrease of $200,000,  or 86.6%, over the same period in 2004. This decrease was
the  result  of  reduced  operating   capacity  due  to  capital  and  liquidity
constraints.  This  reduction  has  led to  delays  in the  finalization  of the
development,   completion   of  clinical   trial   validation,   Food  and  Drug
Administration  submissions and approval,  market introduction,  and the sale of
some of our products.

      R&D  expenses  have  typically  consisted  of costs  related  to  specific
development  programs  with  scientists  and  researchers  at  universities  and
hospitals;  full scale  device  development  contracts  begun  during  1999 with
industrial  design and  manufacturing  companies  covering  the  disposable  and
instrument components of the InPath System;  payments to medical and engineering
consultants for advice related to the design and development of our products and
their potential uses in the medical technology marketplace;  and payroll related
costs for in-house engineering, scientific, laboratory, software development and
research management staff.

      Selling, General and Administrative

      For  the  quarter  ended   September  30,  2005,   selling,   general  and
administrative  expenses  ("SG&A")  were  a  positive  $55,000,  a  decrease  of
$1,171,000,  or over 100.0%,  over expenses of $1,116,000 for the same period in
2004. This decrease  included a reduction of $630,000 in legal and  professional
fees,  $103,000 in consulting fees, $106,000 in financing costs, and $252,000 in
other  general and  administrative  costs.  The decrease  also had an additional
period difference of $80,000 in restructured  settlement  income.  Restructuring
settlements  reflect the difference  between the actual  settlement  amounts for
various  litigation  and  creditor  payment  matters and the amounts  originally
recorded on the  Company's  financial  statement  as the amount due.  Settlement
amounts  were  less than  amounts  originally  recorded  in  recognition  of the
Company's financial condition.

      Significant components of SG&A are compensation costs for executive, sales
and administrative  personnel,  professional fees primarily related to legal and
accounting  services,  travel costs,  fees for public and/or investor  relations
services, insurance premiums, facilities and office expenses,  marketing-related
costs, and amortization/depreciation charges (net of restructuring settlement).

Other Income and Expense

      Interest Expense

      Interest expense, including interest expense to related parties, decreased
$285,000 for the quarter  ended  September  30, 2005 to $126,000,  a decrease of
69.3% over the same  period of 2004.  Bridge I, II, III,  IV, and related  party
Convertible  Promissory  Notes  in  principal  amounts  totaled  $6,356,000  and
$6,672,000  for  the  fiscal   quarters  ended  September  30,  2005  and  2004,
respectively. The interest expense decrease results from the decrease cumulative
effect of  compounding  interest on the unpaid  Bridge I, II, III, IV and Monsun
Convertible  Promissory  Notes offset by the $328,000  gain on waived  Bridge IV
Convertible Promissory Notes..

      Other Income

      Other income  remained at zero for the quarter  ended  September  30, 2005
similar to the same period in 2004.


                                       21
<PAGE>

 Net Loss

      The net loss for the  three-month  period ended  September 30, 2005 before
preferred  dividends  totaled  $78,000,  compared with  $1,717,000  for the same
period in 2004, a decrease of  $1,639,000  or 95.5%.  The decrease was primarily
the  result  of  reduced  operating   capacity  due  to  capital  and  liquidity
constraints. The net loss applicable to common stockholders for the three months
ended  September  30,  2005 was  $308,000,  or $0.00 per share,  on  118,669,134
weighted  average  common  shares  outstanding.  This compared with the net loss
applicable to common stockholders for the three-month period ended September 30,
2004 of $1,949,000,  or $0.02 per share, on 83,374,666  weighted  average common
shares outstanding.  Cumulative dividends on the Company's outstanding Series B,
Series C, Series D and Series E convertible preferred stock totaled $230,000 for
the quarter ended September 30, 2005, compared with $232,000 for the same period
in 2004.

      Nine Months Ended September 30, 2005 as compared to Nine Months Ended
                               September 30, 2004

Revenues

      Revenues for the nine months ended September 30, 2005 decreased  $102,000,
or 52.3%, to $93,000 from revenues of $195,000 for the same period in 2004. This
decrease  primarily was the result of decreases in the sales of  AccuMed-related
products and services. A table describing the decrease is provided below:

      Nine months ended        9/30/05   9/30/04    Decrease
      ----------------------   -------   --------   ---------
      Slide-based revenue      $93,000   $146,000   $ (53,000)
      AcCell instrument sale        --     49,000     (49,000)
                               -------   --------   ---------
            Total Revenue      $93,000   $195,000   $(102,000)
                               =======   ========   =========


Costs and Expenses

      Cost of Goods Sold

      Cost of goods sold for the nine months ended September 30, 2005 were zero,
a decrease of $25,000,  or 100%, over the same period in 2004. The cost of goods
sold  amount  reported  in 2004 is  related  to the  shipment  of two  automated
microscopy systems during the nine months ended September 30, 2004.

      Research and Development

      As noted above,  we have devoted a substantial  amount of our resources to
R&D related to new products,  including markers, tests, instruments and software
applications, as well as modifications and refinements of our existing products.

      For the nine months  ended  September  30,  2005,  our R&D  expenses  were
$128,000,  a decrease of $588,000,  or 82.1%, over the same period in 2004. This
decrease  was the  result of  reduced  operating  capacity  due to  capital  and
liquidity  constraints.  This reduction has led to delays in the finalization of
the  development,  completion  of  clinical  trial  validation,  Food  and  Drug
Administration  submissions and approval,  market introduction,  and the sale of
some of our products.

      Selling, General and Administrative

      For  the  nine  months  ended  September  30,  2005,  SG&A  expenses  were
$1,047,000, a decrease of $2,207,000,  or 67.8%, over expenses of $3,254,000 for
the same period in 2004.  This  decrease  included a reduction of  $1,107,000 in
financing costs, $860,000 in legal and professional fees, $231,000 in consulting
fees,  $212,000 in FDA clinical  trials  costs,  $201,000 in investor  relations
expenditures  and  $449,000 in other  general and  administrative  costs.  These
decreases  were  offset by  period  differences  of  $758,000  in  restructuring
settlement income and a $95,000 net gain on sale of fixed assets.  Restructuring
settlements  reflect the difference  between the actual  settlement  amounts for
various  litigation  and  creditor  payment  matters and the amounts  originally
recorded on the  Company's  financial  statement  as the amount due.  Settlement
amounts  were  less than  amounts  originally  recorded  in  recognition  of the
Company's financial condition.


                                       22
<PAGE>

Other Income and Expense

      Interest Expense

      Interest expense, including interest expense to related parties, decreased
$657,000 for the  nine-month  period  ended  September  30, 2005 to $939,000,  a
decrease  of 41.2%  over the same  period of 2004.  Bridge I, II, III and IV and
related  party  convertible   promissory  notes  in  principal  amounts  totaled
$2,665,000  and  $6,224,000  for the periods ended  September 30, 2005 and 2004,
respectively.  The decrease in interest expense was largely due to Bridge I, II,
III and IV note  conversions to the Company's common stock during the nine-month
period ended  September 30, 2005,  offset by a period  difference of $328,000 in
gain on waived interest on Bridge IV Convertible Promissory Notes.

      Other Income/Expense

      Other expense  decreased  $10,000 to zero for the nine-month  period ended
September 30, 2005 over the same period of 2004. The $10,000  decrease  resulted
from residual Samba  operations  foreign  currency  translation  loss, which was
liquidated in bankruptcy in December 2003.

Net Loss

      The net loss for the  nine-month  period ended  September  30, 2005 before
preferred  dividends totaled  $2,021,000,  compared with $5,386,000 for the same
period in 2004, a decrease of  $3,365,000  or 62.5%.  The decrease was primarily
the  result  of  reduced  operating   capacity  due  to  capital  and  liquidity
constraints.  The combined net loss  applicable to common  stockholders  for the
nine months  ended  September  30, 2005 of  $2,704,000,  or $0.02 per share,  on
111,137,400  weighted  average common shares  outstanding  compared with the net
loss and net loss available to common  stockholders  for the  nine-month  period
ended  September  30,  2004 of  $6,188,000,  or $0.09 per share,  on  71,054,095
weighted  average  common  shares  outstanding.   Cumulative  dividends  on  the
outstanding  Series B,  Series C,  Series D and Series E  convertible  preferred
stock  totaled  $683,000 for the  nine-month  period ended  September  30, 2005,
compared with $802,000 for the same period in 2004.

      The  weighted  average  shares  outstanding  during the nine months  ended
September  30, 2005 include the shares  issued or issuable  upon  conversion  of
Series B, Series C, and Series E convertible  preferred stock during the period,
and the conversion of Bridge I, II, III and IV Convertible Promissory Notes. The
Bridge  I,  II,  III and IV note  conversions  resulted  in the  issuance  of an
aggregate  42,896,198  shares of common stock; the Series B, C and E convertible
preferred  stock  conversions  resulted in the issuance of an aggregate  118,260
shares of common stock.

Liquidity and Capital Resources

      Research  and  development,  clinical  trials  and  other  studies  of the
components of our InPath System and AIPS  workstation,  conversions from designs
and prototypes into product manufacturing,  initial sales and marketing efforts,
medical  consultants and advisors,  administrative,  professional  and executive
personnel  fees are and will  continue  to be the  principal  basis for our cash
requirements.  We have  provided  operating  funds  for the  business  since its
inception  through  private  offerings of debt and equity to limited  numbers of
U.S. and foreign  accredited  investors.  We will be required to make additional
offerings in the future to support the  operations of the business until some or
all of our products  are  introduced  into the market.  We used  $1,227,000  and
$3,543,000 for the nine months ended September 30, 2005 and 2004,  respectively,
in operating activities.

      We  experienced  severe  liquidity  problems  during the nine months ended
September  30,  2005.  As a result,  we were  forced to cut staff and reduce our
operations to a minimum level.  Officers  refrained from drawing salaries during
portions  of the  first,  second and third  quarters  of 2005 in order to reduce
demands on our limited cash  position.  We were able to raise funds  through the
sale of common stock during the quarter ended  September 30, 2005,  although the
proceeds of the common stock offerings were used to satisfy certain  obligations
coming due as well as for the payment of a limited amount of current operational
expenses.  The  Company did  generate a limited  amount of  slide-based  revenue
liquidity during the nine months ended September 30, 2005.

      At  September  30,  2005,  we had  $130,000  cash on hand,  an increase of
$119,000  over  cash on hand at  December  31,  2004  of  $11,000.  Although  we
increased  our cash on hand,  our cash  position was offset by a decrease in our
loss from  operations  and our inability to raise  sufficient new capital due to
very unfavorable  conditions in financing markets,  both public and private, for
small life sciences  companies such as ours. We were unable to raise  sufficient
funds  during the nine  months  ended  September  30,  2005 in order to maintain
adequate  cash  reserves  and to  meet  the  ongoing  operational  needs  of the
business.


                                       23
<PAGE>

      We incurred $27,000 in capital  expenditures  during the first nine months
of 2005 versus  capital  expenditures  of $187,000  for the first nine months of
2004, a decrease of 85.6%. Capital expenditures are defined as disbursements for
laboratory equipment,  leasehold improvements,  software, and furniture/fixtures
with a purchase  price in excess of $1,000 per item and useful life in excess of
one year.  MDI is  striving  to keep  capital  expenditures  to a minimum due to
capital and  liquidity  constraints,  and the Company has no plans for  material
commitments for capital expenditures in the near-term.

      Our  operations  have  been,  and  will  continue  to be,  dependent  upon
management's  ability to raise operating  capital in the form of debt or equity.
We have incurred  significant  operating losses since inception of the business.
We expect that significant on-going operating  expenditures will be necessary to
successfully implement our business plan and develop, manufacture and market our
products.  These  circumstances  raise  substantial  doubt  about our ability to
continue as a going  concern.  There can be no assurance that we will be able to
obtain  additional  capital to meet our current  operating  needs or to complete
pending or contemplated  licenses or acquisitions  of  technologies.  During the
nine months ended  September 30, 2005,  the Company was unable to raise adequate
capital or generate  profitable  sales  revenues,  and was forced to curtail its
product development and other activities.  If the Company continues to be unable
to obtain  adequate  financing  to fund  operations,  it will be forced to cease
operations and may seek bankruptcy protection.

Off-Balance Sheet Arrangements

      The Company does not have any off-balance sheet arrangements.

Item 3. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

      Our chief executive  officer and chief financial officer have reviewed and
evaluated the effectiveness of the Company's  disclosure controls and procedures
(as defined in Rules  13a-15(e) and 15d-15(e)  promulgated  under the Securities
Exchange  Act of 1934,  as amended  (the  "Exchange  Act")) as of the end of the
period covered by this quarterly  report.  Based on that review and  evaluation,
our chief executive  officer and chief financial officer have concluded that our
current  disclosure  controls and procedures,  as designed and implemented,  are
effective to ensure that such officers are provided with information relating to
the Company  required to be disclosed  in the reports  filed or submitted by MDI
under  the  Exchange  Act and that  such  information  is  recorded,  processed,
summarized and reported within the time periods specified.

Changes in Internal Control over Financial Reporting

      During the  quarter to which this report  relates,  there was no change in
our internal control over financial reporting that has materially  affected,  or
is reasonably likely to materially  affect,  our internal control over financial
reporting.

Part II. Other Information

Item 1. Legal Proceedings

      See Note 10 - Legal  Proceedings  in the Notes to  Consolidated  Financial
Statements  included herein for a discussion of the most recent events regarding
the Company's legal  proceedings,  which  information is incorporated  herein by
reference.

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

Unregistered Sales of Equity Securities

      Common Stock.  In the third quarter of fiscal 2005,  the Company  received
net  aggregate  proceeds of $733,500 from  accredited  investors in exchange for
31,660,000 unregistered shares of common stock at $0.025 per share.


                                       24
<PAGE>

      MDI issues  securities in reliance on the safe harbor and exemptions  from
registration  provided under Rule 506 of Regulation D and/or Section 4(2) of the
Securities Act of 1933, as amended.  No advertising or general  solicitation was
employed in offering the  securities.  The offerings and sales or issuances were
made to a limited number of persons, all of whom were accredited investors,  and
transfer was restricted by the Company in accordance  with the  requirements  of
applicable law. In addition to representations by the above-referenced  persons,
the Company has made independent  determinations  that all of the investors were
accredited or sophisticated  investors,  that they were capable of analyzing the
merits and risks of their  investment,  and that they understood the speculative
nature of their  investment.  Furthermore,  these  investors  were provided with
access to MDI's SEC filings.

Company Repurchases of Securities

      During the third  quarter of fiscal  2005,  neither  the  Company  nor any
affiliated purchaser of the Company purchased equity securities of MDI.

Item 3. Defaults upon Senior Securities

      As of September 30, 2005,  MDI was in breach of the following of its notes
payable.  For more  discussion  regarding  certain of these notes,  see Note 7 -
Notes  Payable  and Note 10 - Legal  Proceedings  in the  Notes to  Consolidated
Financial  Statements  included in this Quarterly  Report on Form 10-QSB for the
quarter ended September 30, 2005.

      Bridge I. The Bridge I Convertible  Promissory  Notes were  originally due
July 30, 2002, which maturity date was extended until December 31, 2002 by offer
of the  Company.  Each  Bridge I  noteholder  has the  option,  upon an event of
default,  to declare  the unpaid  principal  balance  and all  accrued  interest
immediately  due and payable  upon  written  notice of default  and demand.  The
Company, upon such notice, is given five days to cure such default. The Bridge I
notes define event of default as: (i) the Company's  failure to make any payment
of  principal,  interest  or other  charges on or before the date due;  (ii) the
Company's  breach of any  agreement  or  covenant  contained  in the note or any
document or instrument  relating to the  indebtedness  evidenced by the note; or
(iii) dissolution, liquidation or termination of the Company. The Bridge I notes
provide that upon the  declaration  of a default,  the balance of the  principal
remaining  unpaid,  interest  accrued thereon and all other costs and fees shall
bear interest at the rate of 18% per annum from the date of default. The Company
is  also  obligated  to  pay  all  costs  of  collection,  including  reasonable
attorneys' fees.

      As of September 30, 2005,  MDI had not received a written  declaration  of
default from the holder of any  outstanding  Bridge I note.  As of September 30,
2005, and after note holders elected to convert  $250,000  principal and accrued
interest,  MDI had recorded  principal and interest  outstanding on the Bridge I
notes of $500,000 and $175,070, respectively.

      Bridge II. The Bridge II Convertible  Promissory notes were originally due
July 31, 2003,  which maturity date was extended until July 31, 2004 by offer of
the Company.  The Bridge II notes provide that upon the declaration of a default
under the notes, the balance of the principal  remaining unpaid,  unpaid accrued
interest and all other costs and fees shall bear interest at the rate of 15% per
annum  from the date of  default.  In  addition,  in the event of  default,  the
Company  and all other  parties  liable on the notes  agreed to pay all costs of
collection, including reasonable attorneys' fees.

      The events  constituting an event of default under the Bridge II notes are
those  events of default  specified in the  Security  Agreement  entered into in
connection with the Bridge II notes offering, and Bridge II noteholders have all
of the  rights  granted to them under  such  Security  Agreement  as well as the
Indenture and Collateral Sharing Agreement executed by the parties. The Security
Agreement  provides that the occurrence of any of the following would constitute
an event of default under the Bridge II notes: (i) MDI fails to pay principal or
interest  on the  maturity  date;  (ii) MDI  fails to  perform  any of its other
covenants  under the Security  Agreement,  the notes,  or the Indenture that are
material  to the  debtor or the  rights of any  Bridge  II  noteholder  and such
failure continues for 10 days after receipt of written notice thereof; (iii) MDI
admits in writing its  inability to pay its debts  generally as they become due,
or makes an  assignment  for the benefit of  creditors  or files any petition or
action for relief under any bankruptcy, reorganization, insolvency or moratorium
law or any other  laws for the  relief of or  relating  to  debtors;  or (iv) an
involuntary petition is filed under any bankruptcy or insolvency statute against
MDI or a custodian,  receiver or trustee is appointed to take  possession of any
property or assets of the debtor  (unless the petition or  appointment  has been
set aside or withdrawn or ceases to be in effect within 30 days from the date of
said filing or appointment).


                                       25
<PAGE>

      Upon the occurrence of any event of default arising from a payment default
or  covenant  default,  the  Security  Agreement  provides  that the  Bridge  II
noteholders   may  authorize  the  declaration  of  all  amounts  due  from  MDI
immediately  due and  payable  without  notice or  demand of any kind.  Upon the
occurrence of any default arising from insolvency or bankruptcy, all amounts due
from MDI automatically and immediately become due and payable without any action
on the part of the noteholders or otherwise.

      The covenants of MDI, as debtor, agreed to by the Company and set forth in
the  Security  Agreement  include but are not limited to: (i) not  changing  its
name,  jurisdiction or organization or legal  structure  without  consent;  (ii)
taking reasonable actions to maintain,  preserve and defend the collateral under
the  Security  Agreement  and  executing  such  documents  as may be required to
perfect any security interest in such collateral;  (iii) after the occurrence of
an event of default,  providing  evidence of  ownership of the  collateral  upon
request;  (iv) keeping at its office adequate records concerning the collateral;
(v)  making  entries  upon its  financial  statements  and books and  records to
disclose the  security  interest in the  collateral;  (vi)  providing  financial
statements and information as reasonably requested;  (vii) immediately providing
notice of material loss or  depreciation  in the value of the  collateral or any
event  which is or would  become an event of  default;  and (viii) not  selling,
transferring,  or disposing of, or except in the ordinary  course of business or
as permitted, pledging, mortgaging, granting a security interest in or otherwise
encumbering the collateral or any of MDI's assets.

      The  secured  party/collateral  agent  under the Bridge II notes  offering
documents has the option (but not the duty),  during the continuance of an event
of default,  to perform any agreement of MDI that the Company failed to perform,
and  take  any  action  he  deems  reasonably  necessary  or  desirable  for the
preservation of the collateral and the secured  party's  interest  therein.  The
secured  party's rights upon the continuance of an event of default also include
the taking of any action to realize upon the  collateral  (including any sale or
other  disposition  at any  private  or  public  sale for cash or  credit),  the
discharge of taxes, liens, security interests and other encumbrances levied upon
the collateral, and the discharge or keeping current of any of MDI's obligations
having any effect on the collateral. The noteholders also authorized the secured
party/collateral  agent to demand or sue for all monies due with  respect to the
collateral  and  commence,  file,  prosecute  and defend any claim or proceeding
related to the collateral.

      As of September 30, 2005, MDI was not aware of any noteholders or group of
noteholders having authorized a declaration of default of any outstanding Bridge
II notes.  As of September  30, 2005,  MDI had recorded  principal  and interest
outstanding on the Bridge II notes of $1,300,000 and $545,085, respectively.

      Monsun AS. The Monsun AS note was originally due November 1, 2000, but the
parties agreed to three  extensions of the maturity date,  with July 31, 2002 as
the final  maturity  date.  Pursuant to the third and final  maturity  extension
agreement between the parties, each of the following occurrences  constituted an
event of default  under the Monsun note:  (i) failure to pay when due  specified
interest;  (ii) failure to pay when due all unpaid  principal and other interest
due by July 31,  2002;  (iii) the  material  breach or failure  to  observe  any
provision of the extension agreement;  or (iv) the insolvency or general failure
of MDI to pay its debts as they become due,  MDI's  admission  in writing of its
inability  to pay debts  generally,  MDI's making a general  assignment  for the
benefit of  creditors,  the  institution  of any  proceeding  by or against  MDI
seeking an order for relief or to adjudicate  MDI bankrupt or insolvent,  or the
institution  of any other  proceeding  against  MDI under  any law  relating  to
bankruptcy,  insolvency  or relief of debtors or seeking  the  appointment  of a
receiver,  trustee or similar  official for MDI or any substantial part of MDI's
assets. Upon the occurrence of an event of default,  the entire principal amount
outstanding  under the Monsun note,  including any unpaid and accrued  interest,
becomes at once due and payable  without  presentment,  demand or protest or any
other  requirements  of any kind. The note also provided that at all times after
July 31,  2002,  the note would begin to accrue  interest at the rate of 20% per
annum to the extent there was unpaid principal or accrued and unpaid interest.

      Following  the failure to pay  principal  and  interest  when due,  Monsun
initiated  legal  action  against  Peter  Gombrich,  MDI's  then-Chairman,  as a
personal  guarantor on the Monsun note in January 2003. Monsun was successful in
obtaining a legal judgment of approximately $675,000 related to the note balance
and accrued  interest against Mr. Gombrich as personal  guarantor.  In addition,
Monsun was  granted  an award of  approximately  $438,000  for  attorney's  fees
against  Peter  Gombrich  as the  personal  guarantor.  These  judgments  remain
unsatisfied.


                                       26
<PAGE>

      As of September 30, 2005, MDI had recorded  principal and accrued interest
on the Monsun note and the legal fee award outstanding of $907,000 and $438,000,
respectively.  As of September  30,  2005,  Monsun had not  initiated  any legal
action against MDI directly to collect any amounts due or otherwise.

      MonoGen,  Inc.  The  MonoGen,  Inc.  note was the  result of a  settlement
agreement  reached in October 2004 as discussed in Note 7 - Notes Payable in the
Notes to Consolidated  Financial Statements included in this Quarterly Report on
Form 10-QSB for the quarter ended  September 30, 2005. The MonoGen note provides
that in the event of (i) a failure  by MDI to pay any  amount due under the note
within  10  days  of the  date  due,  (ii)  a  breach  by  MDI of any  covenant,
obligation, representation or warranty made in the note, the parties' Settlement
Agreement,   or  a  License  Agreement  entered  into  in  connection  with  the
settlement,  or (iii) MDI becoming the subject of bankruptcy or other insolvency
proceedings, then, in any such event, in addition to all rights MonoGen may have
under the Settlement  Agreement,  any related  agreement or any applicable  law,
MonoGen  may at its option and  without  notice or demand  declare any or all of
MDI's  obligations and indebtedness  under the note immediately due and payable.
At such time, any unpaid  principal and unpaid accrued interest would become due
and payable,  together with  interest  thereafter at a default rate of 14% until
the note is paid in full.  In  addition,  MDI would be liable  for the costs and
expenses of collection, including reasonable attorneys' fees and legal expenses.

      MDI  covenanted  in the note that it would not,  directly  or  indirectly,
declare or pay any  dividends  or make any loans or advances to, or guarantee or
otherwise become liable upon the obligation of, any person or entity controlling
or affiliated with the Company.

      MDI covenanted in the Settlement  Agreement to assign certain intellectual
property and deliver certain assets to MonoGen.  The Company also agreed that it
would  not amend or  modify  specified  agreements  relating  to the  technology
subject  to the  settlement  and  would not enter  into new  agreements  without
MonoGen's consent.

      As  discussed in Note 7 - Notes  Payable,  inasmuch as the assets were not
timely transferred, and because the initial $25,000 payment to be made under the
MonoGen note was not paid by its due date, MonoGen delivered a notice of default
to the Company and AccuMed in November  2004,  whichMDI has not cured.  To date,
neither MDI nor any related  party to the suit has  received  further  notice in
regard to the asserted  default,  although  not all of the remedies  that may be
available  to MonoGen  in regard to such  default  would  require  that  further
notices be given.

      As of September 30, 2005, MDI had recorded  principal and accrued interest
outstanding of $305,000 and $39,875,  respectively,  with respect to the MonoGen
note.

      Ungaretti & Harris. In March 2005, MDI entered into a settlement agreement
related to a judgment  entered  against the Company and in favor of  Ungaretti &
Harris LLP in the law firm's suit against MDI for unpaid legal fees.  In January
2005, the court had entered  summary  judgment in favor of Ungaretti & Harris in
the amount of $195,500,  plus costs of suit.  The parties  subsequently  entered
into a  settlement  agreement  in  satisfaction  of the  judgment,  whereby  MDI
promised to pay  $150,000 to the law firm,  payable in  installments  of $25,000
commencing  March 22, 2005,  with  subsequent  payments due in 90 day increments
until the balance was paid in full. The settlement  agreement also provided that
should  any  payment  be more than 15 days  late,  Ungaretti  & Harris  would be
entitled to notify the Company of default and declare the  settlement  agreement
terminated;  if the settlement  agreement was terminated because of such payment
default, the entire balance of the judgment, interest and costs would become the
obligation of the Company, less any payments made.

      As discussed in Note 7 - Notes Payable, MDI is currently in default on the
September 21, 2005 payment due and is in discussions with Ungaretti & Harris. In
the event that payment is not made or a resolution is not reached with Ungaretti
& Harris,  the entire  balance of the judgment,  interest and costs would be due
and  payable  as noted  above.  In  addition,  Ungaretti  & Harris has a secured
position  in all  assets of the  Company  as part of the  Bridge  II  collateral
agreement.

      As of September 30, 2005, MDI had recorded  principal and accrued interest
outstanding of $127,000 and $21,376, respectively,  with respect to the $150,000
Ungaretti & Harris note.

      Ernst  & Young  LLP.  The  maturity  date of the  Ernst & Young  note  was
December 31, 2003.  Peter  Gombrich,  MDI's former  officer and  director,  is a
personal  guarantor  on such  note and is  obligated  to make  payment  when the
Company  defaults on the note,  Ernst & Young has given  written  notice of such
default to the  Company,  and the  Company  fails to cure within 30 days of such
notice.


                                       27
<PAGE>

      The note provides  only that in the event the principal  amount of $30,800
is not paid by the maturity date, the Company would be obligated to pay interest
at the rate of 12% per annum, or the maximum legally enforceable rate (whichever
is less), on any overdue principal amount commencing  January 1, 2004 and on the
first day of each month  thereafter  until paid in full.  In  addition,  in such
circumstances, MDI is obligated to pay all reasonable expenses incurred by Ernst
& Young, including attorneys' fees, in enforcing its rights under the note.

      As of September 30, 2005,  MDI had not received a written  declaration  of
default from Ernst & Young.  As of September 30, 2005,  MDI had not paid and had
recorded  principal  and  accrued  interest  outstanding  of $30,800 and $7,158,
respectively, with respect to the Ernst & Young note.

      Ventana Medical Systems, Inc. The note in favor of Ventana Medical Systems
matured on December  31,  2003.  According  to such note,  any of the  following
constitutes an event of default:  (i) failure by MDI to pay the principal of the
note when due and payable on the maturity  date;  (ii) failure of MDI to perform
any of the covenants, conditions, provisions or agreements contained in the note
and such failure  remains  uncured 15 days after  written  notice of default has
been given;  or (iii) the entry of an order for relief under federal  bankruptcy
laws as to MDI or entry  of any  order  appointing  a  receiver  or  trustee  or
approving  a petition  in  reorganization  or other  similar  relief and if such
order, if involuntary,  is not satisfied or withdrawn within 60 days after entry
thereof,  or the filing of a petition  by MDI seeking  any of the  foregoing  or
consenting  thereto,  or the  filing  of a  petition  to take  advantage  of any
debtor's  act,  or the  making  of a  general  assignment  for  the  benefit  of
creditors, or admitting in writing its inability to pay debts as they mature.

      Upon any event of  default,  Ventana has the option to declare all amounts
due under the note immediately due and payable and may take action to accelerate
the note,  provided  that if such event of  default  relates  to  bankruptcy  or
insolvency, all amounts due shall become immediately due and payable without any
action on the part of the noteholder. MDI is also obligated to pay on demand all
costs and expenses of collection, including reasonable attorneys' fees, incurred
or paid by Ventana in enforcing its note on default.

      Under  the  note,  MDI  covenanted  to  maintain  a system  of  accounting
established  and  administered  in accordance  with sound business  practices to
permit the  calculation  of all amounts due under the note, and to promptly give
written notice to Ventana in reasonable detail of the occurrence of any event of
default, or any event,  condition or act, which with the giving of notice or the
passage of time or both, would constitute an event of default.

      As of September 30, 2005,  MDI had not received a written  declaration  of
default  from  Ventana.  As of  September  30,  2005,  MDI had not  paid and had
recorded  principal  and  accrued  interest  outstanding  of $21,000 and $2,013,
respectively, with respect to the Ventana note.

      As  discussed  above,  certain of these  notes  payable do not require the
noteholders  to provide notice upon an event of default while others require the
holder to  notify  MDI in  writing  of a  declaration  of  default.  There is no
guarantee that MDI would be able to cure any existing  event of default,  or any
declared event of default if, or when, the holder provides the required  written
notice. Indeed, given MDI's current financial condition,  receipt of notice from
or the pursuit of any remedy by any  significant  noteholder  demanding  payment
would  likely  have  an  adverse  material  impact  on the  Company's  financial
conditon, results of operations and liquidity. In addition, certain noteholders,
including the Bridge II noteholders  and Ungaretti & Harris LLP, have a security
interest in certain assets of the Company.  This could have severe  implications
for the Company and may impair control over its intellectual  property and other
assets,  assuming  the  Company  was  unable to cure a default  or  negotiate  a
settlement with such lenders,  in the event such lenders attempt to realize upon
the  collateral  securing  their debt. If the Company  continues to be unable to
obtain adequate additional  financing,  any additional financial strain from the
declaration  of defaults or otherwise may cause the Company to cease  operations
and seek bankruptcy protection.

Item 4. Submission of Matters to Vote of Security

      None.

Item 5. Other Information

      Please see disclosure under Item 2 of this Part II regarding  issuances of
common stock during the quarter covered by this report.


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<PAGE>

      Please also see disclosure under Note 10 - Legal  Proceedings in the Notes
to Consolidated  Financial  Statements  herein regarding  settlement  agreements
entered into by the Company.

Item 6. Exhibits

      See Exhibit Index.

                                   SIGNATURES

      In accordance  with the  requirements  of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.

                                    Molecular Diagnostics, Inc.

                                    /s/ David Weissberg, M.D.
                                    -------------------------
                                        David Weissberg, M.D.
                                        Chief Executive Officer and Chairman

                                    /s/ Robert McCullough
                                    ---------------------
                                        Robert McCullough
                                        Chief Financial Officer

Date: November 21, 2005


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<PAGE>

                                  EXHIBIT INDEX

Exhibit
Number                             Description
------                             -----------

4.1       Form of subscription agreement to purchase common stock of the company
          at $0.025 per share.

10.1      Settlement Agreement and Mutual Release effective June 7, 2005, by and
          between the Cleveland Clinic Foundation and the Company

10.2      General Release and Confidentiality Agreement, entered into October
          2005, by and between Eric Gombrich and the Company

10.3      Settlement Agreement and Mutual Release, entered into October 2005, by
          and among the Lash Group Inc., Peter Gombrich and the Company, with
          accompanying draft Confession of Judgment.

31.1      Section 302 certification by principal executive officer.

31.2      Section 302 certification by principal financial officer.

32.1      Section 906 certification by principal executive officer.

32.2      Section 906 certification by principal financial officer.


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