---

U.S. SECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549  FORM 10-QSB  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OFTHE
SECURITIES EXCHANGE ACT OF 1934   For Quarter Ended
     
     June 30, 2002Commission File Number
     
     1-31070    Derma Sciences, Inc.(Exact name of small business issuer as specified in its charter)   Pennsylvania
     23-2328753(State or other jurisdiction of
     incorporation or organization)
     (I.R.S. Employer Identification
     No.)  214 Carnegie Center, Suite 100Princeton, New Jersey
08540(609) 514-4744(Address including zip code and
telephonenumber, of principal executive offices)


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 [  ]

State the number of shares of each of the issuer's classes of
common equity, as of the latest practicable date.

|Date: June 30, 2002 | Class: Common Stock, par value $.01 per share
|------------------- | ---------------------------------------------
|                    | Shares Outstanding: 4,211,276                

---

DERMA SCIENCES, INC.
                               FORM 10-QSB
                                   INDEX

|Description |  | Page
|----------- |  | ----

Part I - Financial Information

|        |                                                                                                 |   
|------- | ----------------------------------------------------------------------------------------------- | --
|Item 1. | Consolidated Financial Statements                                                               |   
|        |                                                                                                 |   
|        | Consolidated Balance Sheets - June
     30, 2002 and December 31, 2001                          | 2 
|        |                                                                                                 |   
|        | Consolidated Statements of Operations
     - Three months ended June 30, 2002and June 30, 2001  | 3 
|        |                                                                                                 |   
|        | Consolidated Statements of Operations
     - Six months ended June 30, 2002and June 30, 2001    | 4 
|        |                                                                                                 |   
|        | Consolidated Statements of Cash Flows -
     Six months ended June 30, 2002and June 30, 2001    | 5 
|        |                                                                                                 |   
|        | Notes to Consolidated Financial
     Statements                                                 | 6 
|        |                                                                                                 |   
|Item 2. | Management's Discussion and Analysis of
     Financial Condition
     and Results of Operations | 14
|        |                                                                                                 |   

Part II - Other Information

|Item 1. | Legal Proceedings                | 22
|------- | -------------------------------- | --
|        |                                  |   
|Item 6. | Exhibits and Reports on Form 8-K | 22
|        |                                  |   

1

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DERMA SCIENCES, INC.Consolidated Balance Sheets

`=============================================================================================
                                                                   June 30,      December 31,
                                                                     2002            2001
ASSETS                                                           (Unaudited)
---------------------------------------------------------------------------------------------
Current Assets
  Cash and cash equivalents                                     $ 1,139,274     $    524,783
  Restricted cash                                                    60,000            -
  Accounts receivable, net                                          986,277          914,458
  Inventories, net                                                1,776,220        1,787,247
  Prepaid expenses and other current assets                         180,732           54,661
---------------------------------------------------------------------------------------------
Total current assets                                              4,142,503        3,281,149
Property and equipment, net                                         180,878          169,708
Goodwill                                                          1,110,967        1,110,967
Patents and trademarks                                              149,072          157,860
Other assets, net                                                   246,878            -
---------------------------------------------------------------------------------------------
Total Assets                                                    $ 5,830,298     $  4,719,684
---------------------------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
---------------------------------------------------------------------------------------------
Current Liabilities
  Accounts payable                                              $   852,574     $    551,428
  Accrued expenses                                                  219,707          392,649
  Convertible bonds                                                   -              475,000
  Other current liabilities                                          60,000            -
---------------------------------------------------------------------------------------------
Total current liabilities                                         1,132,281        1,419,077
---------------------------------------------------------------------------------------------
Total Liabilities                                                 1,132,281        1,419,077
---------------------------------------------------------------------------------------------
Shareholders' Equity
Common stock, $.01 par value, 30,000,000 shares authorized;
   issued and outstanding: 4,211,276 shares in 2002 and
   2,407,109 shares in 2001                                           42,113           24,071
Convertible preferred stock, $.01 par value; 11,750,000 shares
   authorized; issued and outstanding: 2,526,242 shares in 2002;
   1,960,009 shares in 2001 (liquidation preferences of
   $4,460,237 at June 30, 2002)                                      25,262           19,600
Additional paid-in capital                                       15,288,986       13,987,882
Accumulated deficit                                             (10,658,344)     (10,730,946)
---------------------------------------------------------------------------------------------
Total Shareholders' Equity                                        4,698,017        3,300,607
---------------------------------------------------------------------------------------------
Total Liabilities and Shareholders' Equity                      $ 5,830,298     $  4,719,684
=============================================================================================`

See accompanying notes.

2

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DERMA SCIENCES, INC.Consolidated Statement of Operations (Unaudited)

`===========================================================================================
                                                                   Three months ended
                                                                         June 30,
                                                                   2002            2001
-------------------------------------------------------------------------------------------
Net sales                                                       $2,076,724      $2,381,808

Cost of sales                                                      900,678       1,222,871
-------------------------------------------------------------------------------------------
Gross Profit                                                     1,176,046       1,158,937
-------------------------------------------------------------------------------------------
Operating expenses                                               1,071,692       1,115,501
Interest expense                                                     6,723          44,828
Other (income)/expense, net                                         89,244         (22,396)
-------------------------------------------------------------------------------------------
Total Expenses                                                   1,167,659       1,137,933
-------------------------------------------------------------------------------------------
Income before provision for income taxes                             8,387          21,004
Provision for income taxes                                           -               -
-------------------------------------------------------------------------------------------
Net Income                                                      $    8,387      $   21,004
-------------------------------------------------------------------------------------------
Income per common share - basic                                 $    0.00       $    0.01
-------------------------------------------------------------------------------------------
Income per common share - diluted                               $    0.00       $    0.00
-------------------------------------------------------------------------------------------
Shares used in computing income per common share - basic         3,854,609       2,407,109
-------------------------------------------------------------------------------------------
Shares used in computing income per common share - diluted       7,154,322       4,370,451
===========================================================================================`

See accompanying notes.

3

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DERMA SCIENCES, INC.Consolidated Statement of Operations (Unaudited)

`===========================================================================================
                                                                     Six months ended
                                                                         June 30,
                                                                   2002            2001
-------------------------------------------------------------------------------------------
Net sales                                                       $4,191,215      $4,752,866

Cost of sales                                                    1,850,632       2,504,650
-------------------------------------------------------------------------------------------
Gross Profit                                                     2,340,583       2,248,216
-------------------------------------------------------------------------------------------
Operating expenses                                               2,057,213       2,147,480
Interest expense                                                   131,098          93,850
Other (income)/expense, net                                         79,670         (23,307)
-------------------------------------------------------------------------------------------
Total Expenses                                                   2,267,981       2,218,023
-------------------------------------------------------------------------------------------
Income before provision for income taxes                            72,602          30,193
Provision for income taxes                                           -               -
-------------------------------------------------------------------------------------------
Net Income                                                      $   72,602      $   30,193
-------------------------------------------------------------------------------------------
Income per common share - basic                                 $    0.02       $    0.01
-------------------------------------------------------------------------------------------
Income per common share - diluted                               $    0.01       $    0.01
---------------------------------------------------------------------------- --------------
Shares used in computing income per common share - basic         3,438,970       2,343,490
-------------------------------------------------------------------------------------------
Shares used in computing income per common share - diluted       6,814,264       4,361,185
===========================================================================================`

See accompanying notes.

4

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DERMA SCIENCES, INC.Consolidated Statement of Cash Flows (Unaudited)

`===========================================================================================
                                                                      Six months ended
                                                                           June 30,
                                                                    2002            2001
-------------------------------------------------------------------------------------------
Operating Activities
    Net income                                                  $   72,602      $   30,193
    Adjustments to reconcile net income to
      net cash provided by (used in) operating activities:
       Depreciation                                                 35,311          40,083
       Amortization                                                 28,527          61,836
       Non-cash financing costs                                    120,200          80,000
       Provision for bad debts                                      21,814          56,678
       Provision for rebates                                       (25,000)        (23,644)
       Provision for inventory obsolescence                         19,297          41,899
       Changes in operating assets and liabilities
           Restricted cash                                         (60,000)         59,545
           Accounts receivable                                     (13,633)        405,064
           Inventories                                              (8,270)       (275,290)
           Prepaid expenses and other current assets              (126,071)        (62,624)
           Other assets                                             (3,718)          -
           Accounts payable                                        301,146        (126,237)
           Accrued expenses                                        (52,742)       (123,639)
           Other current liabilities                                60,000           -
-------------------------------------------------------------------------------------------
Net cash provided by operating activities                           369,463        163,864
-------------------------------------------------------------------------------------------
Investing Activities
    Purchases of property and equipment                            (46,481)        (29,029)
    Deferred acquisition costs                                    (132,602)          -
-------------------------------------------------------------------------------------------
Net cash used in investing activities                              (179,083)       (29,029)
-------------------------------------------------------------------------------------------
Financing Activities
    Net change in bank line of credit                                -             (59,545)
    Deferred financing costs                                       (85,297)          -
    Proceeds from issuance of stock, net of issuance costs         509,408           -
-------------------------------------------------------------------------------------------
Net cash provided by (used in) financing activities                 424,111        (59,545)
-------------------------------------------------------------------------------------------
Net increase in cash and cash equivalents                           614,491         75,290

Cash and cash equivalents
  Beginning of period                                              524,783         424,165
-------------------------------------------------------------------------------------------
  End of period                                                 $1,139,274      $  499,455
-------------------------------------------------------------------------------------------

Supplemental cash flow information
  Conversion of bonds payable and accrued interest to
     preferred stock                                              $595,200           -
  Common stock and warrants issued for debt
     conversion/extension                                         $120,200        $160,000
  Bond conversion reset provision charge to paid-in capital        $45,000           -
  Stock subscriptions receivable                                   $55,000           -
===========================================================================================`

See accompanying notes.

5

---

DERMA SCIENCES, INC.
Notes To Consolidated Financial Statements

---

1.      Organization and Summary of
Significant Accounting Policies

Derma
Sciences, Inc. and its subsidiary (the Company) is a full line
provider of advanced wound care, wound closure-fasteners and skin care products.
The Company markets its products principally through independent distributors
servicing the long-term care, home health and acute care markets in the United
States and select international markets.

Basis of
Presentation

Certain amounts
in the prior years' financial statements have been reclassified to conform to
the current year presentation.

The
accompanying unaudited consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States
for interim financial information and with the instructions to Form 10-QSB and
Item 310(b) of Regulation S-B. Accordingly, they do not include all of the
information and footnotes required by accounting principles generally accepted
in the United States for complete financial statements. In the opinion of
management, all adjustments (consisting of normal recurring accruals) considered
necessary for a fair presentation have been included. Operating results for the
three and six month periods ended June 30, 2002, are not necessarily indicative
of the results that may be expected for the year ending December 31, 2002. For
further information, refer to the financial statements and footnotes thereto for
the year ended December 31, 2001, included in Form 10-KSB filed with the
Securities and Exchange Commission.

Summary of
Significant Accounting Policies

Principles
of Consolidation  The consolidated financial statements include the
accounts of Derma Sciences, Inc. and its wholly owned subsidiary Sunshine
Products, Inc. All significant intercompany accounts and transactions have been
eliminated.

Use of
Estimates  In conformity with accounting principles generally
accepted in the United States, the preparation of financial statements requires
management to make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes. Although these estimates are
based on knowledge of current events and actions which may be undertaken in the
future, actual results may ultimately differ from these estimates.

Cash and
Cash Equivalents The Company considers cash and cash equivalents as
amounts on hand, on deposit in financial institutions and highly liquid
investments purchased with an original maturity of three months or less.

Net Income
per Share Net income per common share  basic is computed
by dividing net income by the weighted average number of common shares
outstanding for the period. Net income per common share  diluted reflects
the potential dilution of earnings by including other common stock equivalents,
including stock options, warrants, convertible preferred stock and convertible
bonds in the weighted average number of common shares outstanding for a period,
if dilutive.

Inventories  Inventories consist primarily of raw materials,
packaging materials and finished goods valued at the lower of cost or market.
Cost is determined on the basis of the first-in, first-out method.

Property and
Equipment  Property and equipment are stated at cost and are
depreciated principally by the straight-line method over the estimated useful
lives of the assets ranging from three to ten years.

Patents and
Trademarks  Patents and trademarks are stated on the basis of cost and
are amortized over 12 to 17 years on a straight-line basis.

6

---

DERMA SCIENCES, INC.
Notes To Consolidated Financial Statements

---

Goodwill and
Other Intangible Assets  On January 1, 2002, the Company adopted
Statement of Financial Accounting Standards No. 142 ("SFAS No. 142"), "Goodwill
and Other Intangible Assets." SFAS No. 142 requires that goodwill and intangible
assets deemed to have indefinite lives no longer be amortized but be subject to
an annual impairment test. Other intangible assets will continue to be amortized
over their useful lives.

Revenue
Recognition  The Company operates in three segments, wound care, wound
closure-fasteners and skin care. Sales are recorded when product is shipped and
title passes to customers. Gross sales are adjusted for cash discounts, Medicaid
rebates and trade rebates to derive net sales. Freight costs to ship product to
customers are recorded as a component of cost of sales.

Advertising
and Promotion Costs  Advertising and promotion costs are expensed in
the year incurred.

2.      Accounts
Receivable

Accounts
Receivable comprise the following:

`June 30,      December 31,
                                                        2002             2001
                                                    -----------      -----------

        Trade accounts receivable                   $1,029,712       $1,051,283
        Less:  Allowance for doubtful accounts         (40,000)         (50,000)
               Allowance for trade rebates             (75,000)        (100,000)
                                                       --------        ---------
           Net trade receivables                       914,712          901,283
        Equity subscriptions receivable                 55,000              -
        Other receivables                               16,565           13,175
                                                    -----------      ----------
           Total receivables                        $  986,277       $  914,458
                                                    ===========      ===========`

3.      Inventories

Inventories
comprise the following:

`June 30,      December 31,
                                                        2002            2001
                                                    -----------     ------------

        Finished goods                              $1,547,355       $1,617,449
        Packaging materials                            257,322          268,001
        Raw materials                                   86,543           96,797
                                                    ----------       ----------
             Gross inventory                         1,891,220        1,982,247
        Reserve for obsolescence                      (115,000)        (195,000)
                                                    -----------     ------------

             Net inventory                          $1,776,220       $1,787,247
                                                    ==========       ===========`

7

---

DERMA SCIENCES, INC.
Notes To Consolidated Financial Statements

---

4.      Property and
Equipment

Property and
equipment comprise the following:

`June 30,      December 31,
                                                        2002            2001
                                                    -----------     ------------

        Machinery and equipment                     $  390,245       $  360,188
        Furniture and fixtures                         684,760          668,336
                                                    -----------      -----------
             Gross property and equipment            1,075,005        1,028,524
        Less:  Accumulated depreciation               (894,127)        (858,816)
                                                    -----------      -----------

             Net property and equipment             $  180,878       $  169,708
                                                    ===========      ===========`

5.      Goodwill

Goodwill relates
to the acquisition of Sunshine Products, Inc. in 1998. Effective January 1,
2002, in accordance with SFAS No. 142, the Company discontinued the amortization
of goodwill and conducted the first of the required annual tests of goodwill
impairment. An impairment charge would be recognized if the fair value of
Sunshine Products, Inc.s goodwill is less than its carrying value.

The results of
the initial test indicates that the goodwill carrying value is not impaired.
Application of the non-amortization provisions of SFAS No. 142 for the three
months and six months ended June 30, 2001 would have resulted in an increase in
net income of $26,500 and $53,000, respectively.

6.      Patents and
Trademarks

Patents and
trademarks comprise the following:

`June 30,       December 31,
                                                       2002             2001
                                                    ----------      ------------

        Patents and trademarks                      $ 451,417        $ 451,417
        Less:   Accumulated amortization             (302,345)        (293,557)
                                                    ----------       ----------

             Net patents and trademarks             $ 149,072        $ 157,860
                                                     ========        ==========`

7.      Other Assets

Other assets
comprise the following:

`June 30,
                                                       2002
                                                    ---------

        Deferred financing costs                     $110,558
        Deferred acquisition costs                    132,602
        Other                                           3,718
                                                     --------

             Total other assets                      $246,878
                                                     ========`

Deferred
financing costs consists of $30,000 related to the imputed value of the eighteen
months reset provision granted to bondholders in connection with the conversion
of the Series C and D convertible bonds in January 2002 and $80,558 related to
deferred lender and legal costs associated with the thirty-six month revolving
credit facility agreement entered into in April 2002. Both amounts are being
amortized monthly to interest expense

8

---

DERMA SCIENCES, INC.
Notes To Consolidated Financial Statements

---

over the foregoing eighteen month and thirty-six month terms.
Deferred acquisition costs relate to a potential acquisition in progress (see
Note 13). These costs will be expensed if the acquisition is not completed.

In the second
quarter 2002, $94,928 of deferred acquisition costs related to a discontinued
initiative were expensed.

8.      Bank Line of
Credit

On April 30,
2002, the Company entered into a three-year revolving credit facility agreement
(the Agreement) for a maximum principal amount of $2,500,000.
Through June 30, 2002, no advances had been drawn against the facility. At June
30, 2002, maximum potential advances under the Agreement were $1,450,000.
Advances will be utilized to fund strategic initiatives and general working
capital requirements. Lender and legal fees of $85,297 incident to the revolving
credit facility were deferred and are being amortized to interest expense over
the three-year term of the Agreement.

The Company may
request advances under the Agreement up to the value of eighty-five percent
(85%) of eligible receivables (as defined) and fifty percent (50%) of eligible
finished goods inventory (as defined). Interest on outstanding advances is
payable monthly in arrears at the rate of prime plus 2.5% per annum, but not
less than 7.5% per annum. The Company will pay a monthly collateral management
fee at the rate of 1.5% per annum upon the daily average amount of advances
outstanding each month. In addition, the Company will pay a monthly unused line
fee at the rate of 0.6% per annum upon the difference between the daily average
amount of advances outstanding and $2,500,000. Outstanding advances are secured
by all existing and after-acquired tangible and intangible assets of the
Company.

Over the term
of the Agreement, the Company has agreed to comply with the following covenants
as measured at the end of each month for the average of the three most recent
calendar months: (a) the Company will maintain a positive EBITDA (earnings
before interest, taxes, depreciation and amortization), and (b) the fixed charge
ratio (EBITDA divided by the sum of debt service, capital expenditures, income
taxes and dividends) may not be less that 1.2:1.0. Additional covenants
governing permitted indebtedness, liens, payments of dividends and protection of
collateral are included in the Agreement.

The Company may
terminate the Agreement at any time by paying off all outstanding indebtedness
and any other payments due to the lender. Early termination fees of $50,000 or
$25,000 are payable if termination occurs before April 30, 2003 or April 30,
2004, respectively. There is no fee for termination of the Agreement after April
30, 2004.

The Company
previously had a $1,000,000 bank line of credit facility fully secured with cash
deposited with the bank. On November 5, 2001, the Company paid off its
outstanding loan balance and did not renew the line of credit facility. At June
30, 2001, $580,455 of the line of credit facility was outstanding.

9.      Convertible
Bonds

Effective
January 7, 2002, bondholders of all the Companys issued and outstanding
Series C and D convertible bonds converted the entirety of the $475,000
principal and $120,200 accrued interest into units at a rate of one unit for
each $0.50 of principal and interest converted. Each unit consists of one share
of Series C or Series D Preferred Stock and one and one tenth warrants to
purchase one share of common stock at a per share exercise price of $0.57
(Series F Warrants). Each share of preferred stock is convertible
into common stock on a one-for-one basis. Principal and accrued interest under
the bonds totaling $595,200 were converted into 1,190,400 shares of convertible
preferred stock and 1,309,441 warrants.

If prior to
July, 2003, the Company offers for sale its common stock at a price per share
below $0.50 or its warrants at a per share exercise price of less than $0.57,
then the Company has agreed to: (1) issue to the bondholders such additional
shares of preferred stock and warrants as, when added to the preferred stock and

9

---

DERMA SCIENCES, INC.
Notes To Consolidated Financial Statements

---

warrants previously issued, equal the shares of preferred stock
and warrants that would have been issued using the lower common stock price as
the conversion rate, and (2) lower the per share exercise price of the Series F
Warrants to the lower per share exercise price.

In
connection with the conversion, the Company recognized an imputed non-cash
interest charge of $165,200. A charge of $45,000 was taken to account for the
value of the reset concession granted to the bondholders. This charge is being
amortized over the eighteen-month term of the reset concession. A charge of
$120,200 was taken immediately to account for the conversion terms associated
with the accrued interest.

As
of January 5, 2001, bondholders owning an aggregate of $475,000 of the
Companys Series C and Series D Convertible Bonds extended the maturity
date of their bonds from January 7, 2001 to January 7, 2002. In consideration
for this maturity postponement, the Company accorded the bondholders the
following: (1) 57,000 shares of the Companys Common Stock with
registration rights, (2) reduction in the per unit conversion rate
of the Series C and Series D Convertible Bonds remaining outstanding from $0.75
to $0.50, (3) increase in the ratio of preferred stock to warrants comprising
the units from one share of preferred stock and one warrant to one share of
preferred stock and one and one tenth warrants, and (4) reduction of the
exercise price of the warrants from $0.85 per share to $0.57 per share. The
$160,000 value of the foregoing was recorded as bond discount and amortized to
interest expense over the one-year bond maturity extension.

10.      Shareholders
Equity

Preferred
Stock

There are
150,003 shares of Series A Convertible Preferred Stock (Series A
Preferred) outstanding. The Series A Preferred is convertible into Common
Stock on a one-for-one basis, bears no dividend, maintains a liquidation
preference of $4.00 per share, votes as a class on matters affecting the Series
A Preferred and maintains voting rights identical to the Common Stock on all
other matters.

There are
452,504 shares of Series B Convertible Preferred Stock (Series B
Preferred) outstanding. The Series B Preferred is convertible into Common
Stock on a one-for-one basis, bears no dividend, maintains a liquidation
preference of $6.00 per share, votes as a class on matters affecting the Series
B Preferred and maintains voting rights identical to the Common Stock on all
other matters.

There are
719,055 shares of Series C Convertible Preferred Stock (Series C
Preferred) outstanding. The Series C Preferred is convertible into Common
Stock on a one-for-one basis, bears no dividend, maintains a liquidation
preference averaging $0.72 per share, votes as a class on matters affecting the
Series C Preferred and maintains voting rights identical to the Common Stock on
all other matters.

There are
1,204,680 shares of Series D Convertible Preferred Stock (Series D
Preferred) outstanding. The Series D Preferred is convertible into Common
Stock on a one-for-one basis, bears no dividend, maintains a liquidation
preference averaging $0.53 per share, votes as a class on matters affecting the
Series D Preferred and maintains voting rights identical to the Common Stock on
all other matters.

Stock
Purchase Warrants

At June 30,
2002, the Company had warrants outstanding to purchase the Company's common
stock as outlined below:

`Series     Number of Warrants     Exercise Price    Expiration Date
           ------     ------------------     --------------    ---------------

              E             2,200,009              $0.85       July 18, 2005
              F             1,309,441              $0.57       January 6, 2007`

10

---

DERMA SCIENCES, INC.
Notes To Consolidated Financial Statements

---

Other Equity
Transactions

The Company
initiated in January 2002 a private offering of 2,000,000 shares of its common
stock at a price of $0.50 per share (the Offering). Offering
proceeds will be used to fund an acquisition or other strategic initiatives of
the Company approved by the purchasers. In the event the proceeds are not so
utilized by July 31, 2002, each purchaser has the option to rescind his/its
purchase of common stock and receive all consideration paid therefor. This right
of rescission must be exercised, if at all, prior to August 1, 2002.

As of June 30,
2002 the Company had concluded subscription agreements with its president,
together with 15 other individual and institutional investors, for the sale of
1,300,000 shares of common stock for a total investment of $650,000 under the
Offering. At June 30, 2002, subscriptions totaling $595,000 had been funded. The
balance of $55,000 has been recorded as Subscriptions Receivable on the balance
sheet as of June 30, 2002. Proceeds totaling $650,000 have been received as
of August 14, 2002. With the exception of subscriptions totaling $60,000, with
respect to which rescission rights were temporarily extended, the rescission
rights discussed above have expired or been waived. Accordingly, at June 30,
2002, $590,000 of the Offering proceeds and related 1,180,000 shares of Common
Stock have been recorded as equity and shares outstanding. The balance of the
Offering proceeds of $60,000 has been recorded as Restricted Cash and Other
Current Liabilities on the balance sheet as of June 30, 2002 and will be so
recorded until the rescission rights relative to investment are exercised or
waived. The corresponding 120,000 shares of Common Stock issued subject to the
right of rescission have not been reported as outstanding or considered in the
earnings per share calculation as they are deemed to be temporary equity.

As of March 31,
2002, Offering subscriptions totaling $565,000 had been funded. This $565,000
was recorded as Restricted Cash and Other Current Liabilities on the balance
sheet given the above discussed rights of rescission. As of March 31, 2002
shares subject to the rights of rescission were considered to be temporary
equity and were not reported as outstanding or considered in the earnings per
share calculation.

In May 2002, a
total of 624,167 shares of Series A, B and C Preferred Stock were converted into
624,167 shares of Common Stock. In February 2001, a total of 229,169 shares of
Series B, C and D Preferred Stock were converted into 229,169 shares of Common
Stock. In January 2001, 57,000 shares of Common Stock were issued as
consideration for extending the maturity date of the Series C and D convertible
bonds.

11.      Income Taxes

No provision
for income taxes has been made in the second quarter or the six months ended
June 30, 2002, given the Companys available net operating loss carry
forwards.

At December 31,
2001, the Company has net operating loss carryforwards of approximately
$6,800,000 for federal income tax purposes that begin to expire in years 2012
through 2020. For state income tax purposes, the Company has net operating loss
carryforwards of $6,800,000 that expire in years 2004 through 2010. During 1998
the Company had a change in control as defined by the Internal Revenue Code
Section 382. Consequently, certain limitations may apply to the timing and
amount of the utilization of such net operating loss carryforwards.

12.      Operating
Segments

The Company
consists of three operating segments, wound care, wound closure-fasteners and
skin care. Products in the wound care segment consist of dressings, ointments
and sprays designed to treat chronic wounds. Wound closure-fasteners products
include wound closure strips, nasal tube fasteners, a variety of catheter
fasteners and net dressings. The skin care segment consists of bath sponges,
antibacterial skin cleansers, hair and body soaps, lotions and moisturizers
designed to enable customers to implement and maintain successful skin care /
hygiene programs.

11

---

DERMA SCIENCES, INC.
Notes To Consolidated Financial Statements

---

Products in all
three operating segments are marketed to long-term care facilities, hospitals,
physicians, clinics, home health care agencies and other healthcare
institutions. The manufacture of wound care and wound closure-fastener products
is primarily outsourced. Skin care products are manufactured in-house with the
exception of the bath sponge line. Internally, the segments are managed at the
gross profit level. The aggregation or allocation of other costs by segment is
not practical.

Segment sales
and gross profit for the six months ended June 30, 2002 and 2001 are as follows:

`Six Months Ended June 30, 2002
                              ------------------------------

                                Wound Closure-                                  Total
                Wound Care        Fasteners      Skin Care     Other Costs     Company
                ----------        ---------      ---------     -----------     -------

Net sales       $1,534,324       $1,424,997     $1,231,894             ---    $4,191,215
                 ---------        ---------      ---------        ---------    ---------

Gross profit     1,188,292          717,567        434,724             ---     2,340,583
Total expenses        ---              ---            ---       ($2,267,981)  (2,267,981)
                                                                               ---------

Net income                                                                    $   72,602
                                                                              ==========




                              Six Months Ended June 30, 2001
                              ------------------------------

                                Wound Closure-                                  Total
                Wound Care        Fasteners      Skin Care     Other Costs     Company
                ----------        ---------      ---------     -----------     -------

Net sales       $1,411,439       $1,605,952     $1,735,475             ---    $4,752,866
                 ---------        ---------       ---------       ---------    ---------

Gross profit     1,088,272          798,369        361,575             ---     2,248,216
Total expenses        ---              ---            ---       ($2,218,023)  (2,218,023)
                                                                              -----------

Net income                                                                    $   30,193
                                                                              ==========`

With the
exception of goodwill associated with the acquisition of Sunshine Products, Inc.
(attributable to the skin care operations segment), the Companys property,
equipment and intangible assets support each of the Companys operating
segments in approximately equal measure. Accordingly, the Company does not
classify its assets by operating segments.

International
sales were $328,500 in 2002 and $322,500 in 2001. Wound closure-fastener sales
represent the majority of international sales.

13.      Subsequent
Events

On July 19,
2002 the Companys offer to purchase the assets and business operations of
privately held Dumex Medical Inc., Toronto, Ontario, Canada was approved by the
Ontario Superior Court of Justice  Commercial List in accordance the
Bankruptcy and Insolvency Act of Canada. Dumex is a leading manufacturer and
distributor of wound care products and medical devices primarily to the Canadian
market. Dumexs 2001 sales were $9.1 million of which 76% and 24% were to
Canadian and United States customers, respectively. Synergies

12

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DERMA SCIENCES, INC.
Notes To Consolidated Financial Statements

---

expected to be realized from this acquisition include growth of
Dumexs product line in the United States and utilization of Dumexs
manufacturing capabilities by the Company. On or about August 19, 2002
Dumexs assets are expected to be transferred to a new wholly owned
subsidiary of the Company free of claims and entitlements of Dumexs
unsecured creditors and shareholders.

The assets to
be transferred to the Companys wholly owned subsidiary consist primarily
of accounts receivable, inventory and fixed assets. The fair market value of
these assets at closing is expected to approximate the purchase price of $3.76
million. The purchase price will be financed by assumption of Dumex
indebtedness, cash-on-hand and draws from the Companys credit line. Upon
closing of the acquisition, the Company will contribute approximately $450,000
to its Canadian subsidiary to provide working capital. The Company has entered
into an employment agreement with the founder of Dumex who will serve as the
Canadian subsidiarys Chief Executive Officer. The Company also plans to
employ certain other of Dumexs key employees.

13

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DERMA SCIENCES, INC.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

QUARTER ENDED JUNE 30, 2002 COMPARED TO QUARTER ENDED JUNE
30, 2001.

Results of Operations

Net sales
decreased $305,084, or 12.8%, to $2,076,724 in the second quarter 2002 from
$2,381,808 in the second quarter 2001. Gross profit increased $17,109, or 1.5%,
to $1,176,046 in the second quarter 2002 from $1,158,937 in the second quarter
2001. Gross Profit margins increased to 56.6% in the second quarter 2002 from
48.7% in the second quarter 2001. Operating expenses decreased $43,809, or 3.9%,
in the second quarter 2002 to $1,071,692 from $1,115,501 in the second quarter
2001. Interest expense decreased $38,105 in the second quarter 2002 to $6,723
from $44,828 in the second quarter 2001. Other expense increased $111,640 to
expense of $89,244 in the second quarter 2002 versus income of $22,396 in the
second quarter 2001. Net income of $8,387 was generated in the second quarter of
2002 versus net income of $21,004 in the second quarter of 2001.

Sales Overview

The
Companys sales are derived from its wound care, wound closure-fasteners
and skin care product lines. Wound care sales consist mainly of Dermagran
ointment and spray and hydrophilic wound dressings. Wound closure-fasteners
sales consist primarily of wound closure strips and catheter fasteners. Skin
care sales consist of bath sponges, body washes, shampoos, incontinent care
products, skin conditioners, disinfectants and deodorizers.

Gross sales are
adjusted for trade rebates, cash discounts and Medicaid rebates to derive net
sales. Gross to net sales adjustments comprise the following:

`Quarter Ended June 30,
                                    ----------------------
                                   2002                 2001
                                   ----                 ----

Gross Sales                      $2,328,700          $2,674,250

Trade rebates                      (188,540)           (222,345)
Cash discounts                      (44,686)            (51,347)
Medicaid rebates                    (18,750)            (18,750)
                                    --------            --------

Net Sales                        $2,076,724          $2,381,808
                                 ==========          ==========`

Gross sales
were down $345,550, or 12.9%, quarter to quarter reflecting lower skin care
sales associated with the loss of the Beverly supply agreement and lower wound
closure fasteners sales due to softening demand for Suture Strips and fasteners
and Percu-Stay backorders. Trade rebates are down due to the reduction in rebate
intensive Beverly skin care sales and discontinuation of a wound care related
incentive rebate agreement in November 2001. Cash discounts are down due to the
lower sales base and efforts undertaken to improve adherence to terms.

14

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The
following table presents net sales by product line expressed in dollars and
percentage change:

`Quarter Ended June 30,
                                 ----------------------
                                2002              2001                 Variance
                                ----              ----                 --------

Product Line

Wound care                  $   784,245      $   735,653         $  48,592       6.6%
Wound closure-fasteners         657,227          839,627          (182,400)    (21.7%)
Skin care                       635,252          806,528          (171,276)    (21.2%)
                             ----------       ----------          ---------

Total                        $2,076,724       $2,381,808         ($305,084)    (12.8%)
                             ==========       ==========         ==========`

Skin care sales
decreased principally due to the loss of the Beverly supply agreement effective
May 31, 2001. Competitive market pressure also contributed. Sales of the
Companys new bath sponge included in this product line were $24,924. Wound
closure fasteners sales were adversely affected by continued Percu-Stay supply
interruptions resulting in significant customer backorders at quarter end.
Suture Strip and catheter fasteners sales were down significantly due to
competitive pressure despite continued growth from the Suture Strip private
label agreement entered into in late 2001. Wound care sales increased slightly
due to continued growth of the lines mainstay ointment and cream products
partially offset by increasing competitive price pressure. In addition, second
quarter wound care sales benefited from discontinuation of an incentive rebate
agreement with a major customer in November 2001.

Net Sales, Cost of Sales and Gross Profit

The
Companys net sales, cost of sales, gross profit and gross profit margins
for the second quarter of 2002 and 2001 are outlined in the table below:

`Quarter Ended June 30,
                              ----------------------
                         2002                      2001                     Variance
                ---------------------     ---------------------     -----------------------

Net sales       $2,076,724     100.0%     $2,381,808     100.0%      ($305,084)     (12.8%)
Cost of sales      900,678      43.4%      1,222,871      51.3%       (322,193)     (26.3%)
                ----------    -------      ---------    -------     -----------

Gross profit    $1,176,046      56.6%     $1,158,937      48.7%      $  17,109        1.5%
                ==========    =======     ==========    =======      =========`

Gross profit
and profit margins increased in the second quarter 2002 versus the second
quarter 2001 due principally to favorable sales mix. Higher margined wound care
sales increased to 38% of quarterly sales in 2002 versus 31% in 2001.
Conversely, lower margined skin care sales decreased to 31% of quarterly sales
in 2002 from 34% in 2001. Skin care line margins have improved in 2002 due to
cost reduction initiatives implemented in response to the loss of the Beverly
business in 2001 and the reclassification to operating expense in 2002 of
certain overhead costs previously charged to cost of sales. Holding contract
manufactured costs essentially flat in 2002 versus 2001 also contributed.

15

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Operating Expenses

A summary of
selling, marketing and general administrative expenses for the second quarter
2002 and 2001 are outlined in the table below.

`Quarter Ended June 30,
                                ----------------------
                                 2002             2001                 Variance
                                 ----             ----           -------------------

Selling                     $  314,426       $  363,949         ($49,523)     (13.6%)
Marketing                      157,351          131,166           26,185       20.0%
General administrative         599,915          620,386         ( 20,471)      (3.3%)
                               -------       ----------         ---------

         Total              $1,071,692       $1,115,501         ($43,809)      (3.9%)
                            ==========       ==========         =========`

Selling
expenses are down quarter to quarter due to lower commission expense associated
with a reduction of the independent manufacturers representatives network
in January 2002 and again in June 2002 in response to an ongoing evaluation of
the cost-benefit of employing this method of sales representation. Lower travel
and entertainment and administrative costs associated with the Companys
ongoing cost reduction efforts also contributed. The increase in marketing
expense reflects the costs of several market studies conducted by outside
consultants in the second quarter 2002 and increased compensation and operating
expenses associated with a marketing support associate hired in May 2001.
Promotion efforts were comparable quarter to quarter while clinical support
activities were significantly reduced. The reduction in General Administrative
expense reflects the discontinuation of goodwill amortization of $26,500 coupled
with lower other general administrative spending due to cost containment
initiatives which were partially offset by higher compensation and benefit costs
for existing personnel.

Interest Expense, net

Interest
expense, net decreased $38,105 to $6,723 in the second quarter 2002 from $44,828
in the second quarter 2001. The decrease is attributable to the non-recurrence
of $40,000 of non-cash interest expense associated with amortizing the
consideration granted in January 2001 to extend the maturity date of the Series
C and D convertible bonds and elimination of convertible bond interest due to
the conversion of the bonds in January 2002, partially offset by incremental
2002 expense associated with amortization of deferred financing costs associated
with the Series C and D bond conversion reset provision, and deferred lender and
legal costs associated with securing a new line of credit agreement.

Other Income and Expense

Other expense
increased $111,640 to $89,244 expense in the second quarter 2002 from $22,396
income in the second quarter 2001. The increase is primarily attributable to a
$94,928 write-off of acquisition costs associated with a cancelled initiative
together with the non-recurrence of a $12,500 Medicaid adjustment received in
2001.

Provision for Income Taxes

No provision
for income taxes has been provided in the second quarter of 2002 and 2001 given
available net operating loss carry forwards.

Net Income

The Company
generated net income of $8,387 in the second quarter 2002 compared to net income
of $21,004 in the second quarter 2001. Second quarter 2002 net income includes a
$94,928 charge to Other Expense relating to a cancelled acquisition initiative.
Non-cash imputed interest costs of $7,500 and $40,000 were included in second
quarter 2002 and 2001 net income, respectively. In addition, second quarter 2001
net income includes

16

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$26,500 of goodwill amortization expense. Adjusting for these
items, net income would have been $110,815 and $87,504 in the second quarter
2002 and 2001, respectively.

SIX MONTHS ENDED JUNE 30, 2002 COMPARED TO SIX MONTHS ENDED
JUNE 30, 2001.

Results of Operations

Net sales
decreased $561,651, or 11.8%, to $4,191,215 in the six months ended June 2002
from $4,752,866 in the six months ended June 2001. Gross profit increased
$92,367, or 4.1%, to $2,340,583 from $2,248,216. Gross profit margins increased
to 55.8% from 47.3%. Operating expenses decreased $90,267, or 4.2%, to
$2,057,213 from $2,147,480. Interest expense increased $37,248 to $131,098 from
$93,850. Other expense increased $102,977 to $79,670 expense from $23,307
income. Net income of $72,602 was generated in the six months ended June 2002
versus net income of $30,193 in 2001.

Sales Overview

Gross sales are
adjusted for trade rebates, cash discounts and Medicaid rebates to derive net
sales. Gross to net sales adjustments comprise the following:

`Six Months Ended June 30,
                                             -------------------------
                                             2002                 2001
                                             ----                 ----

         Gross Sales                      $4,629,601          $5,357,897

         Trade rebates                      (312,912)           (462,256)
         Cash discounts                      (88,099)           (105,275)
         Medicaid rebates                    (37,375)            (37,500)
                                             --------            --------

         Net Sales                        $4,191,215          $4,752,866
                                          ==========          ==========`

Gross sales
were down $728,296, or 13.6%, period to period principally reflecting lower skin
care sales associated with the loss of the Beverly supply agreement. Lower
Percu-Stay sales due to backorders from the supplier also contributed. Trade
rebates were down due to the reduction in rebate intensive Beverly skin care
sales and discontinuation of a wound care related incentive rebate agreement in
November 2001. Cash discounts were down due to the lower sales base and efforts
undertaken to improve adherence to terms.

The following
table presents net sales by product line expressed in dollars and percentage
change:

`Six Months Ended June 30,
                                 -------------------------
                                  2002            2001               Variance
                                  ----            ----               --------
Product Line

Wound care                     $1,534,324     $1,411,439       $ 122,885       8.7%
Wound closure-fasteners         1,424,997      1,605,952        (180,955)    (11.3%)
Skin care                       1,231,894      1,735,475        (503,581)    (29.0%)
                                ---------      ---------        ---------

Total                          $4,191,215     $4,752,866       ($561,651)    (11.8%)
                               ==========     ==========       ==========`

Skin care sales
decreased principally due to the loss of the Beverly supply agreement effective
May 31, 2001. Competitive market pressure also contributed. As expected, the
sales loss in the second quarter 2002 was significantly less than in the first
quarter 2002. Sales of the Companys new bath sponge included in this
product line were $38,247. Wound closure fastener sales were adversely impacted
by Percu-Stay backorders. After a strong first quarter, Suture Strip and
catheter fastener sales were down due to softening demand despite continued
growth from the private label Suture Strip agreement initiated in late 2001.
Wound care sales increased slightly due to

17

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continued growth of the lines mainstay ointment and cream
products in an increasing price-competitive market place. In addition, wound
care sales benefited from discontinuation of an incentive rebate agreement with
a major customer in November 2001.

Net Sales, Cost of Sales and Gross Profit

The Company's
net sales, cost of sales, gross profit and gross profit margins for the six
months ended 2002 and 2001 are outlined in the table below:

`Six Months Ended June 30,
                                -------------------------
                            2002                      2001                     Variance
                  ----------------------     ---------------------     ----------------------

Net sales          $4,191,215     100.0%     $4,752,866     100.0%     ($561,651)     (11.8%)
Cost of sales       1,850,632      44.2%      2,504,650      52.7%      (654,018)     (26.1%)
                   ----------    -------      ---------    -------      ---------

Gross profit       $2,340,583      55.8%     $2,248,216      47.3%     $  92,367        4.1%
                   ==========    =======     ==========    =======     =========`

Gross profit
and profit margins increased in the first six months of 2002 versus 2001 due
principally to favorable sales mix. Higher margined wound care sales increased
to 37% of sales in the first six months of 2002 versus 30% in 2001. Conversely,
lower margined skin care sales decreased to 29% of sales in 2002 verses 36% in
2001. Significantly lower sales of lower margined Percu-Stay in 2002 versus 2001
also contributed. Skin care line margins have improved in 2002 versus 2001 due
to cost reduction initiatives implemented in response to the loss of the Beverly
business in 2001 and the reclassification to operating expense in 2002 of
certain overhead costs previously charged to cost of sales. The company has also
been successful in holding the line on contract manufactured product cost
increases in 2002.

Operating Expenses

A summary of
selling, marketing and general administrative expenses for the first six months
of 2002 and 2001 are outlined in the table below:

`Six Months Ended June 30,
                               -------------------------
                                 2002          2001             Variance
                                 ----          ----       ---------------------

Selling                     $  663,129     $  744,594     ($81,465)     (10.9%)
Marketing                      221,925        194,960       26,965       13.8%
General administrative       1,172,159      1,207,926     ( 35,767)      (3.0%)
                             ---------     ----------     ---------

         Total              $2,057,213     $2,147,480     ($90,267)      (4.2%)
                            ==========     ==========     =========`

Selling
expenses were down in the first six months of 2002 versus 2001 principally due
to lower commission expense associated with a restructuring of the
Companys independent manufacturers representatives network. Lower
travel and entertainment and administrative costs associated with the
Companys ongoing cost reduction initiative also contributed. The increase
in marketing expense is attributable to several marketing studies conducted by
outside consultants in the second quarter 2002, a higher level of promotion
activity and increased operating costs associated with a marketing support
associate hired in May 2001. These cost increases were partially mitigated by a
significant reduction in clinical support activity in 2002 verses 2001. The
reduction in General Administrative expense reflects the discontinuation of
goodwill amortization of $53,000 coupled with other general administrative
spending which were partially offset by higher compensation and benefit costs
for existing employees.

18

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Interest Expense, net

Interest
expense, net increased $37,248 to $131,098 in the first six months of 2002 from
$93,850 in 2001. The increase is attributable to an imputed non-cash interest
charge of $135,200 associated with the conversion of the Companys Series C
and D bonds in January 2002, together with an interest charge commencing in May
2002 relative to the amortization of deferred lender and legal costs associated
with securing a new line of credit agreement. This increase was partially offset
by the non-recurrence of $80,000 of non-cash interest expense associated with
amortizing the consideration granted in January 2001 to extend the maturity date
of the outstanding Series C and D convertible bonds and elimination of
convertible bond interest coincident with the conversion of all outstanding
bonds in January 2002.

Other Income and Expense

Other expense
increased $102,977 to $79,670 expense in the first six months of 2002 from
$23,307 income in 2001. The increase is primarily attributable to a $94,928
write-off of acquisition costs associated with a cancelled initiative together
with the non-recurrence of a $12,500 Medicaid adjustment received in 2001.

Provision for Income Taxes

No provision
for income taxes has been provided in the first six months of 2002 and 2001
given available net operating loss carry forwards.

Net Income

The Company
generated net income of $72,602, or $0.02 per share (basic) and $0.01 per share
(diluted), in the first six months of 2002 compared to net income of $30,193, or
$0.01 per share (basic) or $0.01 per share (diluted) in 2001. Six months 2002
net income includes a $94,928 charge for expenses associated with a cancelled
acquisition initiative. Non-cash imputed interest costs of $135,200 and $80,000
were included 2002 and 2001 net income, respectively. In addition, six months
2001 net income includes $53,000 of goodwill amortization expense. Adjusting for
these items, net income would have been $302,730 and $163,193 in the first half
of 2002 and 2001, respectively.

Liquidity and Capital Resources

Operating
results for the second quarter and six months ended June 2002 versus the
corresponding periods last year are positive. Sales, while softer than expected,
are comparable with the last three quarters. Operating expenses remain in line
with revenues and cash flow continues to be positive.

At June 30,
2002 and December 31, 2001, the Company had unrestricted cash and cash
equivalents of $1,139,274 and $524,783, respectively. The $614,491 increase in
cash was provided by $509,408 raised from the issuance of stock and $369,463 of
positive cash flow from operations, less capital expenditures of $46,481,
deferred financing costs of $85,297 and deferred acquisition costs of $132,602.
Working capital improved $1,148,150 at June 30, 2002 to $3,010,222 from
$1,862,072 at December 31, 2001. The improvement in working capital is
principally attributable to the $595,200 conversion of the Companys Series
C and D bonds inclusive of accrued interest, together with the net increase in
cash.

During the
three months ended June 30, 2002, the Company deferred charges of $132,602
relating to a potential acquisition. These costs are included in Other Assets on
the balance sheet. These deferred costs will be expensed if the transaction is
not completed as planned.

On April 30,
2002, the Company entered into a three-year revolving credit facility agreement
(the Agreement) for a maximum principal amount of $2,500,000.
Through June 30, 2002, no advances had been drawn against the facility. At June
30, 2002, maximum potential advances under the Agreement were $1,450,000. Fees
of $85,297 incident to the revolving credit facility were deferred and are being
amortized to interest expense over the three-year term of the Agreement.

19

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The Company
initiated in January 2002 a private offering of 2,000,000 shares of its common
stock at a price of $0.50 per share (the Offering). Offering
proceeds will be used to fund an acquisition or other strategic initiatives of
the Company approved by the purchasers. In the event the proceeds are not so
utilized by July 31, 2002, each purchaser has the option to rescind his/its
purchase of common stock and receive all consideration paid therefor. This right
of rescission must be exercised, if at all, prior to August 1, 2002.

As of June 30,
2002 the Company had concluded subscription agreements with its president,
together with 15 other individuals and institutional investors, for the sale of
1,300,000 shares of common stock for a total investment of $650,000 under the
Offering. At June 30, 2002, subscriptions totaling $595,000 had been funded. The
balance of $55,000 has been recorded as Subscriptions Receivable on the balance
sheet as of June 30, 2002. Proceeds totaling $650,000 have been received as
of August 14, 2002. With the exception of subscriptions totaling $60,000, with
respect to which rescission rights were temporarily extended, the rescission
rights discussed above have expired or been waived. Accordingly, at June 30,
2002, $590,000 of the Offering proceeds and related 1,180,000 shares of Common
Stock have been recorded as equity and shares outstanding. The balance of the
Offering proceeds of $60,000 has been recorded as Restricted Cash and Other
Current Liabilities on the balance sheet as of June 30, 2002 and will be so
recorded until the rescission rights relative to investment are exercised or
waived. The corresponding 120,000 shares of Common Stock issued subject to the
right of rescission have not been reported as outstanding or considered in the
earnings per share calculation as they are deemed to be temporary equity.

Effective
January 7, 2002, bondholders of all the Companys issued and outstanding
Series C and D convertible bonds converted the entirety of the $475,000
principal and $120,200 accrued interest into units at a rate of one unit for
each $0.50 of principal and interest converted. Each unit consists of one share
of Series C or Series D Preferred Stock and one and one tenth warrants to
purchase one share of common stock at a per share exercise price of $0.57
(Series F Warrants). Each share of preferred stock is convertible
into common stock on a one-for-one basis. Principal and accrued interest under
the bonds totaling $595,200 were converted into 1,190,400 shares of convertible
preferred stock and 1,309,441 warrants.

If prior to
July, 2003 the Company offers for sale its common stock at a price per share
below $0.50 or its warrants with a per share exercise price of less than $0.57,
then the Company has agreed to: (1) issue to the bondholders such additional
shares of preferred stock and warrants as, when added to the preferred stock and
warrants previously issued, equal the shares of preferred stock and warrants
that would have been issued using the lower common stock price as the conversion
rate, and (2) lower the per share exercise price of the Series F Warrants to the
lower per share exercise price.

In connection
with the conversion, the Company recognized imputed non-cash interest charges of
$165,200. A charge of $45,000 was taken to account for the value of the reset
concession granted the bondholders. This charge is being amortized over the
eighteen-month term of the reset provision. A charge of $120,200 was taken
immediately to account for the beneficial reduction in conversion terms
associated with the accrued interest.

On July 19,
2002 the Companys offer to purchase the assets and business operations of
privately held Dumex Medical Inc., Toronto, Ontario, Canada was approved by the
Ontario Superior Court of Justice  Commercial List in accordance the
Bankruptcy and Insolvency Act of Canada. Dumex is a leading manufacturer and
distributor of wound care products and medical devices primarily to the Canadian
market. Dumexs 2001 sales were $9.1 million of which 76% and 24% were to
Canadian and United States customers, respectively. Synergies expected to be
realized from this acquisition include growth of Dumexs product line in
the United States and utilization of Dumexs manufacturing capabilities by
the Company. On or about August 19, 2002 Dumexs assets are expected to be
transferred to a new wholly owned subsidiary of the Company free of claims and
entitlements of Dumexs unsecured creditors and shareholders.

The
assets to be transferred to the Companys wholly owned subsidiary consist
primarily of accounts receivable, inventory and fixed assets. The fair market
value of these assets at closing is expected to approximate the purchase price
of $3.76 million. The purchase price will be financed by assumption of Dumex
indebtedness, cash-on-hand and draws from the Companys credit line. Upon
closing of the acquisition, the Company will

20

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contribute approximately $450,000 to its Canadian subsidiary to
provide working capital. The Company has entered into an employment agreement
with the founder of Dumex who will serve as the Canadian subsidiarys Chief
Executive Officer. The Company also plans to employ certain other of
Dumexs key employees.

The Common
Stock of the Company is traded on the OTC Bulletin Board under the symbol
DSCI.OB. The Common Stock is also traded on the Boston and Pacific
Stock Exchanges under the symbol DMS. The Company has paid no cash
dividends in respect of its Common Stock and does not intend to pay cash
dividends in the near future.

Prospectively,
the Company expects to build on the momentum created in 2001 in a competitive
market place. Modest sales and profitability growth are projected in 2002. Sales
are projected to grow based upon identified new customers, new products and
expanded sales and marketing efforts. Steps are planned to better control
product costs and minimize year-to-year cost increases. Operating expenses will
continue to be properly balanced with revenues. Cash flow is projected to
improve in concert with the Companys operating performance.

Strategically,
the Companys plan is to stay focused on its base business while
considering external opportunities to leverage its core capabilities and grow
the business.

Forward Looking Statements

Statements that
are not historical facts, including statements about the Companys
confidence, strategies, expectations about new or existing products,
technologies, opportunities, market demand or acceptance of new or existing
products are forward-looking statements that involve risks and uncertainties.
These uncertainties include, but are not limited to, product demand and market
acceptance risk, impact of competitive products and prices, product development,
commercialization or technological delays or difficulties, and trade, legal,
social, financial and economic risks.

Critical Accounting Policies

The preparation
of the financial statements in accordance with accounting principles generally
accepted in the United States requires management to make estimates and
assumptions that affect the amounts in the financial statements and the
accompanying notes. Actual results could differ from those estimates. We believe
the following accounting policies are the most critical to the Company.

Revenue Recognition and Allowance for Trade
Rebates

Revenue is
recognized when product is shipped and title passes to the customer. Sales are
adjusted for cash discounts, Medicaid rebates and trade rebates to derive net
sales. The Company establishes an allowance for trade and Medicaid rebates based
on past experience. If the estimate of trade and Medicaid rebates is not
sufficient to cover actual rebates, additional allowances may be required.

Reserve for Obsolete Inventory

The
Company establishes a reserve for obsolete inventory based on quantities of the
inventory on hand, expected future sales and inventory expiration dates. If the
estimated reserve for obsolete inventory is not sufficient to cover actual
obsolete inventory, additions to the reserve may be required.

21

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Part II - Other Information

Item 1. Legal Proceedings

None

Item 6. Exhibits and Reports on Form
8-K

(a)
Exhibits.All exhibits required by Item 601 of Regulation S-B and required
hereunder, as filed with the Securities and Exchange Commission in Form 10-KSB
on April 1, 2002, are incorporated herein by reference.

Pursuant to
Section 1350, Chapter 63 of Title 18, United States Code, the Registrant
furnishes herewith the following certifications of its Principal Executive
Officer and Principal Financial Officer:

| | Exhibit | Description                                                                                                                                     
| | ------- | ------------------------------------------------------------------------------------------------------------------------------------------------
| |         |                                                                                                                                                 
| | 99.1    | Certification of Principal Executive Officer
     pursuant to U.S.C. Section 1350 regarding Form 10-QSB for the quarter ended
     June 30, 2002
| |         |                                                                                                                                                 
| | 99.2    | Certification of Principal Financial Officer
     pursuant to U.S.C. Section 1350 regarding Form 10-QSB for the quarter ended
     June, 2002   

(b) Reports
on Form 8-K.Form 8-K was filed on May 22, 2002 relative to the
Registrants securing a revolving credit facility. Form 8-K/A-1 was filed
on June 6, 2002 relative to the Registrants private placement of common
stock.

Pursuant to the
requirements of the Securities Exchange Act of 1934, the registrant has caused
this report to be signed on its behalf by the undersigned thereunto duly
authorized.

|                       |  | DERMA SCIENCES, INC.                                                                         
|---------------------- |  | ---------------------------------------------------------------------------------------------
|                       |  |                                                                                              
|                       |  |                                                                                              
|                       |  |                                                                                              
|Dated: August 14, 2002 |  | By:/s/ John E.
     Yetter
         John E. Yetter, CPA
         Chief Financial
     Officer

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