================================================================================

                       SECURITIES AND EXCHANGE COMMISSION

                              Washington, DC 20549

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


                                   FORM 10-QSB


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


           For Quarter Ended                       September 30, 1998
           Commission 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                                (IRS employer
     of Incorporation)                                  identification number)


                         214 Carnegie Center, Suite 100
                               Princeton, NJ 08540
                                 (609) 514-4744
                    (Address including zip code and telephone
                     number, 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 registrant 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 outstanding of each of the issuer's classes of common
equity, as of the latest practicable date.

Date:  September 30, 1998         Class:  Common Stock, par value $.01 per share
                                  Shares Outstanding:  6,261,247


================================================================================

<PAGE>

                              DERMA SCIENCES, INC.

                                   FORM 10-QSB

                                      INDEX

Description                                                                 Page
-----------                                                                 ----

Part I - Financial Information

     Item 1.  Condensed Consolidated Financial Statements

          Consolidated Balance Sheet - September 30, 1998.............         2

          Consolidated Statements of Operations - Three months ended
             September 30, 1998 and September 30, 1997................         3

         Consolidated Statements of Operations - Nine months ended
             September 30, 1998 and September 30, 1997................         4

          Consolidated Statements of Cash Flows - Nine months ended
             September 30, 1998 and September 30, 1997................         5

          Notes to Condensed Consolidated Financial Statements........         6

     Item 2. Management's Discussion and Analysis of Financial 
             Condition and Results of Operations......................        11

Part II - Other Information

     Item 1.  Legal Proceedings.......................................        18

     Item 2.  Changes in Securities and Use of Proceeds...............        18

     Item 4.  Submission of Matters to a Vote of Security Holders.....        19

     Item 6.  Exhibits and Reports on Form 8-K........................        19


<PAGE>

                              DERMA SCIENCES, INC.
                           CONSOLIDATED BALANCE SHEET
                               September 30, 1998
                                   (Unaudited)
<TABLE>
<CAPTION>
                                     ASSETS
<S>                                                                          <C>
CURRENT ASSETS
   Cash and cash equivalents                                                   $  5,465,839
   Accounts receivable, net                                                         952,094
   Inventory                                                                      1,528,595
   Prepaid expenses and other current assets                                        337,131
                                                                               ------------
      Total Current Assets                                                        8,283,659

PROPERTY AND EQUIPMENT, NET                                                         236,996

OTHER ASSETS, NET                                                                   377,853
                                                                               ------------


     Total Assets                                                              $  8,898,508
                                                                               ============

                              LIABILITIES AND SHAREHOLDERS' EQUITY

CURRENT LIABILITIES
   Bank line of credit                                                         $    689,000
   Accounts payable                                                               1,374,208
   Accrued expenses and other current liabilities                                 1,042,244
                                                                               ------------
      Total Current Liabilities                                                   3,105,452


SHAREHOLDERS' EQUITY
   Common stock, $.01 par value, authorized 15,000,000 shares,
      issued and outstanding 6,261,247 shares                                        62,612
   Convertible preferred stock, $.01 par value, authorized 5,083,333
      shares, issued and outstanding 5,070,833                                       50,708
   Additional paid-in capital                                                    10,741,436
   Accumulated deficit                                                           (5,061,700)
                                                                               ------------
      Total Shareholders' Equity                                                  5,793,056
                                                                               ------------

           Total Liabilities and Shareholders' Equity                          $  8,898,508
                                                                               ============
</TABLE>

                            See accompanying notes.

                                       2

<PAGE>

                              DERMA SCIENCES, INC.
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                                   (Unaudited)

                                           Three Months Ended
                                             September 30,
                                      ---------------------------
                                          1998           1997
                                      ------------   ------------    
        
NET SALES                             $ 2,008,047    $ 1,835,508

COST OF SALES                             437,606        500,550
                                      ------------   ------------

GROSS PROFIT                            1,570,441      1,334,958

OPERATING EXPENSES                      1,726,037      1,998,205
                                      ------------   ------------

LOSS FROM OPERATIONS                     (155,596)      (663,247)
                                      ------------   ------------

OTHER  INCOME (EXPENSE)
   Interest income/(expense), net          40,527         17,346
   Merger Costs                          (198,024)             0
   Restructuring Costs                   (550,000)             0
                                      ------------   ------------

       Total Other Income (Expense)      (707,497)        17,346
                                      ------------   ------------

LOSS BEFORE INCOME TAXES                 (863,093)      (645,901)
   Income taxes                                 0         30,000
                                      ------------   ------------

NET LOSS                              ($  863,093)   ($  675,901)
                                      ============   ============

NET LOSS PER COMMON SHARE
   BASIC AND DILUTED                  ($     0.14)   ($     0.12)
                                      ============   ============

WEIGHTED AVERAGE NUMBER OF COMMON
   SHARES OUTSTANDING                   6,253,361      5,749,102
                                      ============   ============

                            See accompanying notes.

                                       3

<PAGE>

                              DERMA SCIENCES, INC.
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                                   (Unaudited)

                                           Nine Months Ended
                                             September 30,
                                      ---------------------------
                                           1998          1997
                                      ------------   ------------
 
NET SALES                             $ 6,512,346    $ 4,787,843

COST OF SALES                           1,450,844      1,409,999
                                      ------------   ------------

GROSS PROFIT                            5,061,502      3,377,844

OPERATING EXPENSES                      5,084,130      5,482,772
                                      ------------   ------------

LOSS FROM OPERATIONS                      (22,628)    (2,104,928)
                                      ------------   ------------

OTHER  INCOME (EXPENSE)
   Interest income/(expense), net          55,363         21,391
   Merger Costs                          (198,024)             0
   Restructuring Costs                   (550,000)             0
   Litigation settlement                 (819,353)             0
                                      ------------   ------------
       Total Other Income (Expense)    (1,512,014)        21,391
                                      ------------   ------------

LOSS BEFORE INCOME TAXES               (1,534,642)    (2,083,537)
   Income taxes                                 0         35,500
                                      ------------   ------------

NET LOSS                              ($1,534,642)   ($2,119,037)
                                      ============   ============

NET  LOSS PER COMMON SHARE
   BASIC AND DILUTED                  ($     0.25)   ($     0.37)
                                      ============   ============

WEIGHTED AVERAGE NUMBER OF COMMON
   SHARES OUTSTANDING                   6,253,181      5,749,102
                                      ============   ============

                            See accompanying notes.

                                       4

<PAGE>

                              DERMA SCIENCES, INC.
                            STATEMENTS OF CASH FLOWS
                                   (Unaudited)
<TABLE>
<CAPTION>
                                                                       Nine Months Ended
                                                                         September 30,
                                                                 ----------------------------
                                                                      1998          1997
                                                                 ------------   ------------
OPERATING ACTIVITIES
<S>                                                              <C>            <C>         
   Net Loss                                                      ($1,534,642)   ($2,116,801)
   Adjustments to Reconcile Net Loss to Net Cash
     Used in Operating Activities
       Depreciation and amortization                                 189,264        193,948
       Medicaid rebate adjustments                                  (795,866)             0
       Provision for bad debts                                         1,658        536,975
       Changes in operating assets and liabilities:
         Accounts receivable                                         (49,883)       244,935
         Inventory                                                  (219,084)       181,509
         Prepaid expenses and other current assets                   (62,142)        26,825
         Other assets                                                 65,959       (123,254)
         Accounts payable                                            500,844        (48,489)
         Accrued expenses and other current liabilities              790,082       (112,164)
                                                                 ------------   ------------
           Net Cash Used in Operating Activities                  (1,113,810)    (1,216,516)
                                                                 ------------   ------------

INVESTING ACTIVITIES
       Decrease in short-term investments                                  0      1,325,728
       Purchases of property and equipment, net                      (39,332)       (99,475)
       Increase inpatents and trademarks                                   0        (37,602)
                                                                 ------------   ------------
           Net Cash Provided by (Used in) Investing Activities       (39,332)     1,188,651
                                                                 ------------   ------------

FINANCING ACTIVITIES
       Net change in bank line of credit                             139,367        (11,000)
       Principal paymnets on long term debt                           (4,504)        (4,112)
       Proceeds from issuance of convertible
          securities, net of issuance costs                        3,955,000              0
       Proceeds from issuance of common stock                         14,558            281
       Collection of officers' notes receivable                            0        182,233
                                                                 ------------   ------------
           Net Cash Provided by Financing Activities               4,104,421        167,402
                                                                 ------------   ------------

NET INCREASE  IN CASH AND
     CASH EQUIVALENTS                                              2,951,279        139,537

CASH AND CASH EQUIVALENTS AT BEGINNING
   OF PERIOD                                                       2,514,560        253,154
                                                                 ------------   ------------

CASH AND CASH EQUIVALENTS AT END OF PERIOD                       $ 5,465,839    $   392,691
                                                                 ============   ============
</TABLE>

                             See accompanying notes.

                                       5

<PAGE>

                              DERMA SCIENCES, INC.
              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)

NOTE 1 - THE COMPANY

Derma Sciences, Inc. (the "Company") is engaged in the development, marketing
and sale of proprietary sprays, ointments and dressings for the management of
certain chronic non-healing skin ulcerations such as pressure and venous ulcers,
surgical incisions and burns. The Company markets its products principally
through independent distributors, mainly to healthcare agencies throughout the
United States. In addition, the Company's products are available in selected
markets throughout the world through strategic alliances with local companies.

On September 9, 1998, the Company acquired Genetic Laboratories Wound Care, Inc.
("GLWC"),  in a business  combination  accounted  for as a pooling of interests.
GLWC markets  proprietary  wound care products;  primarily wound closure strips,
specialty  fasteners,  and net  dressings.  Sales are made  primarily to medical
supply  distributors  throughout  the United  States  and in foreign  countries,
mainly Europe, utilizing independent sales representatives. GLWC became a wholly
owned  subsidiary of the company through the exchange of 1,690,791 shares of the
Company's  common stock for all the outstanding  stock of GLWC. The accompanying
financial  statements  for the nine months and the three months ended  September
30, 1998 are based on the  assumption  that the companies  were combined for the
full period,  and  financial  statements  of prior periods have been restated to
give effect to the combination.

NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation - The consolidated financial statements include the
accounts of Derma Sciences, Inc. and its wholly owned subsidiary Genetic
Laboratories Wound Care, Inc. All significant intercompany accounts and
transactions have been eliminated in consolidation.

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

Cash and Cash Equivalents - For purposes of presenting cash flows, 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.




                                       6

<PAGE>

                             DERMA SCIENCES, INC.
              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)

NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Net loss per common share - Efective December 31, 1997 the Company adopted SFAS
No. 128, "Earnings per Share" ("SFAS 128"), which supersedes Accounting
Principles Board Opinion No. 15, "Earnings per Share." SFAS 128 requires dual
presentation of basic and diluted earnings per share ("EPS") for complex capital
structures on the face of the statement of operations. Basic EPS is computed by
dividing the income (loss) by the weighted average number of common shares
outstanding for the period. Diluted EPS reflects the potential dilution from the
exercise or conversion of securities into common stock, such as stock options.

NOTE 3 - BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles 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 generally accepted accounting principles 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 nine-month period ended September 30,
1998, are not necessarily indicative of the results that may be expected for the
year ending December 31, 1998. For further information, refer to the financial
statements and footnotes thereto for the year ended December 31, 1997, included
in Form 10-KSB filed with the Securities and Exchange Commission.

There were no intercompany transactions or adjustments required to the net
assets or retained earnings of the combined companies due to the business
combination. Summarized results of operations of the separate companies for the
period from January 1 to August 31, 1998, (the date of acquisition is September
9, 1998), are as follows:

                                                      
                                     COMPANY           GLWC           TOTAL
                                   ------------    ------------   ------------
NET SALES                          $ 3,585,853     $ 2,048,992    $ 5,634,845

INCOME (LOSS) FROM OPERATIONS          (67,855)         61,086         (6,769)

OTHER INCOME (EXPENSE), NET           (763,990)            676       (763,314)

NET INCOME (LOSS)                  $  (831,845)    $    61,762    $  (770,083)



                                       7
<PAGE>

                              DERMA SCIENCES, INC.
              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)

NOTE 3 - BASIS OF PRESENTATION (CONTINUED)

RESULTS OF OPERATIONS OF THE INDIVIDUAL COMPANIES FOR THE THREE MONTHS AND NINE
MONTHS ENDED SEPTEMBER 30, 1998 ARE AS FOLLOWS:

FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1998

                                                        
                                       COMPANY          GLWC          TOTAL
                                     ------------   ------------   ------------
NET SALES                            $ 1,162,779    $   845,268    $ 2,008,047

COST OF SALES                            123,983        313,623        437,606

GROSS PROFIT                           1,038,796        531,645      1,570,441

OPERATING EXPENSES                     1,249,421        476,616      1,726,037

INCOME (LOSS) FROM OPERATIONS           (210,625)        55,029       (155,596)

OTHER INCOME (EXPENSE), NET             (643,698)       (63,799)      (707,497)

INCOME (LOSS) BEFORE INCOME TAXES       (854,323)        (8,770)      (863,093)

INCOME TAXES                                --             --             --

NET INCOME (LOSS)                    $  (854,323)   $    (8,770)   $  (863,093)



FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1997

                                                        
                                       COMPANY          GLWC          TOTAL
                                     ------------   ------------   ------------
NET SALES                            $   983,367    $   852,141    $ 1,835,508

COST OF SALES                            183,446        317,104        500,550

GROSS PROFIT                             799,921        535,037      1,334,958

OPERATING EXPENSES                     1,547,279        450,926      1,998,205

INCOME (LOSS) FROM OPERATIONS           (747,358)        84,111       (663,247)

OTHER INCOME (EXPENSE), NET               16,136          1,210         17,346

INCOME (LOSS) BEFORE INCOME TAXES       (731,222)        85,321       (645,901)

INCOME TAXES                                --           30,000         30,000

NET INCOME (LOSS)                    $  (731,222)   $    55,321    $  (675,901)









                                       8

<PAGE>

                              DERMA SCIENCES, INC.
              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)

NOTE 3 - BASIS OF PRESENTATION (CONTINUED)

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998
                                                      
                                       COMPANY          GLWC          TOTAL
                                     ------------   ------------   ------------
NET SALES                            $ 4,121,670    $ 2,390,676    $ 6,512,346

COST OF SALES                            564,584        886,260      1,450,844

GROSS PROFIT                           3,557,086      1,504,416      5,061,502

OPERATING EXPENSES                     3,677,349      1,406,781      5,084,130

INCOME (LOSS) FROM OPERATIONS           (120,263)        97,635        (22,628)

OTHER INCOME (EXPENSE), NET           (1,450,883)       (61,131)    (1,512,014)

INCOME (LOSS) BEFORE INCOME TAXES     (1,571,146)        36,504     (1,534,642)

INCOME TAXES                                --             --             --

NET INCOME (LOSS)                    $(1,571,146)   $    36,504    $(1,534,642)



FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997

                                                      
                                       COMPANY          GLWC         TOTAL
                                     ------------   ------------  ------------
NET SALES                            $ 2,531,346    $ 2,256,497   $ 4,787,843

COST OF SALES                            593,153        816,846     1,409,999

GROSS PROFIT                           1,938,193      1,439,651     3,377,844

OPERATING EXPENSES                     4,173,937      1,308,835     5,482,772

INCOME (LOSS) FROM OPERATIONS         (2,235,744)       130,816    (2,104,928)

OTHER INCOME (EXPENSE), NET               20,130          1,261        21,391

INCOME (LOSS) BEFORE INCOME TAXES     (2,215,614)       132,077    (2,083,537)

INCOME TAXES                                --           35,500        35,500

NET INCOME (LOSS)                    $(2,215,614)   $    96,577   $(2,119,037)









                                       9
<PAGE>

                              DERMA SCIENCES, INC.
              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)

NOTE 4 - INCOME TAXES

The Company accounts for income taxes under the liability method. Under this
method, deferred tax assets and liabilities are determined based on differences
between financial reporting and tax bases of assets and liabilities.

As  of  December  31,  1997  the  Company  had  a  Federal  net  operating  loss
carryforward  of  approximately  $3,240,000  expiring  in years  2011 and  2016.
Accordingly, no provision for income taxes has been included in the accompanying
financial statements.


NOTE 5 - RECLASSIFICATION

Certain  items in prior  periods  have been  reclassified  to conform to current
period  classifications.  The  company  has  reclassified  net sales to  include
certain sales growth and volume  incentive  rebates as a reduction to net sales.
The rebates were  previously  reflected  as a selling  expense  under  operating
expenses in the Statement of Operations. Such reclassifications had no effect on
previously reported net income.


NOTE 6 - RESTRUCTURING

Beginning in September  1998, the Company  instituted a plan to consolidate  its
corporate and operating  facilities,  including support services.  Restructuring
charges represent certain  non-recurring cost and expenses associated therewith,
including  but not limited to moving  expenses,  severance  pay,  lease  penalty
payments and  professional  fees.  Restructuring  is expected to be completed in
nine months.


NOTE 7 - SUBSEQUENT EVENT

On October 29,  1998,  the Company  acquired  all of the issued and  outstanding
stock of Sunshine Products, Inc. (Sunshine), in a business combination accounted
for as a  purchase  for $1.5  million in cash.  Sunshine  is a  manufacturer  of
general purpose and specialized  skincare products for hospitals,  nursing homes
and other  institutional  facilities.  The net assets  acquired  were  comprised
principally  of accounts  receivable,  inventory,  fixed  assets and  intangible
assets.  Based on  unaudited  financial  statements  for the year ended June 30,
1998, Sunshine reported net sales of $2.9 million and net income before taxes of
$120,000.




                                       10

<PAGE>

                              DERMA SCIENCES, INC.

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


QUARTER ENDED SEPTEMBER 30, 1998 COMPARED TO QUARTER ENDED SEPTEMBER 30, 1997

RESULTS OF OPERATIONS

Net Sales and Gross Profit

Net sales for the third quarter,  1998 increased $172,539,  or 9%, to $2,008,047
from  $1,835,508 in the third quarter,  1997.  Components of the increase in the
Company's net sales were a decrease in net product sales of $327,079 or 18%, and
a refund of Medicaid rebates  $499,618.  Medcaid rebates paid by the Company are
reflected as a reduction in sales.  Medicaid  rebate  adjustments  reflect final
settelments with several states regarding prior period filings and payments.

The Company introduced new product lines during the first quarter of 1998
consisting of Alginate Dressings (NutraStat and DermaStat), Hydrocolloid
Dressings (NutraCol and DermaCol) and Film Dressings (DermaFilm and DermaSite).
New product sales were not a material revenue-producing factor in the third
quarter of 1998.

Medicaid rebates incurred by the Company are reflected as a reduction to sales.
The quarter ended September 30, 1998 included Medicaid rebate adjustments, which
resulted in a net increase to sales of $460,866.

Cost of sales, expressed as a percentage of net sales, decreased from 27% in the
third quarter, 1997 to 22% in the third quarter, 1998. This decrease is
primarily attributable to the increase in net sales resulting from the
adjustment of Medicaid rebates as discussed above. Aggregate cost of sales
decreased $62,944, or 13%, to $437,606 in the third quarter, 1998 from $500,550
in the third quarter, 1997. The decrease in aggregate cost of sales is
attributable to the decrease in net product sales discussed above.

Gross profit, expressed as a percentage of net sales, increased from 73% in the
third quarter, 1997 to 78% in the third quarter, 1998. Aggregate gross profit
increased $235,483, or 18%, to $1,570,441 in the third quarter, 1998 from
$1,334,958 in the third quarter, 1997. The increase in the gross profit
percentage is the net result of the Medicaid rebate adjustments and the decrease
in net products sales discussed above. The increase in the aggregate gross
profit is attributable to the same items affecting the gross profit percentage.




                                       11

<PAGE>

Operating Expenses

Operating expenses decreased, from $1,998,205 in the third quarter, 1997 to
$1,726,037 in the third quarter, 1998. The decrease represents the net effect of
a decrease in selling, general and administrative expense and an increase in
product development expense discussed below.

Product development expense for the third quarter, 1998 increased $81,982 to
$169,284 from $87,302 in the third quarter, 1997. This increase is attributable
to licensing fees incurred on new product lines discussed above, expenses
incurred related to clinical studies and increases to salaries, employee
benefits and rent expense.

Selling, general and administrative expense for the third quarter, 1998
decreased $354,150, or 10%, to $1,556,753 in the third quarter, 1998 from
$1,910,903 in the third quarter, 1997. This decrease is attributable to a
decrease in bad debt expense of $370,948 during the third quarter, 1998 compared
to the third quarter, 1997.

Loss from Operations

The Company generated a loss from operations for the third quarter, 1998 in the
amount of $155,596 compared to a loss from operations of $663,247 for the third
quarter, 1997. This decreased loss from operations is attributable to the
increase in net sales and decrease in operating expenses discussed above under
"Net Sales and Gross Profit" and "Operating Expenses."

Merger Costs

The Company incurred merger costs associated with the acquisition of Genetic
Laboratories Wound Care, Inc. in the amount of $198,024. Merger costs consists
primarily of professional fees and printing /filing costs.

Restructuring Costs

In connection with the acquisition of Genetic Laboratories Wound Care, Inc., the
Company recorded restructuring charges of $550,000. Restructuring costs consists
primarily of salaries and benefits for terminated employees and costs incurred
for closing and consolidating certain facilities and service functions.

Net Loss

The Company generated a net loss of $863,093, or $0.14 per share, for the third
quarter, 1998 compared to a loss of $675,901, or $0.12 per share, for the third
quarter, 1997. The net loss for the third quarter, 1998 is attributable to the
factors discussed above under "Income (Loss) from Operations" and the "Merger
Costs" and "Restructuring Costs" charge to operations of $198,024 and $550,000
respectively.


                                       12

<PAGE>

Other Events

On May 12, 1998, the Company announced the execution of a nonbinding letter of
intent to acquire Genetic Laboratories Wound Care, Inc. ("GLWC"). The
acquisition would be accomplished by the merger of a newly formed, wholly owned
subsidiary of the Company into GLWC. GLWC markets proprietary wound care
products; primarily wound closure strips, specialty fastners, and net dressings.
Sales are made primarily to medical supply distributors throughout the United
States and in foreign countries, mainly Europe, utilizing independent sales
representatives. GLWC shareholders would receive 0.7 shares of the Company's
common stock for each share GLWC common stock owned. The Boards of Directors of
the Company and GLWC approved the acquisition on June 26, 1998. Approval of the
acquisition by majority vote of the shareholders of the Company and GLWC
occurred on September 9, 1998.

Further, on July 14, 1998 the Company announced that it closed its private
placement of Convertible Securities effective June 30, 1998 in which an
aggregate of $4 million was raised. Terms of the Securities require that upon
approval of the Company's shareholders of a new class of Series B Convertible
Preferred Shares ("Preferred Stock"), the Securities will automatically convert
into units ("Unit(s)"), as hereafter defined, at the rate of $1.20 per Unit.
Each Unit will consist of one share of Preferred Stock convertible into one
share of Common Stock and one warrant ("Warrant(s)") to purchase one share of
Common Stock exercisable at $1.35 per share.

Subsequent Event

On October 29,  1998,  the Company  acquired  all of the issued and  outstanding
stock of Sunshine  Products,  Inc.  ("Sunshine") for $1,500,000 in a transaction
accounted for as a purchase.  Sunshine is a manufacturer  of general purpose and
specialized   skincare   products  for   hospitals,   nursing  homes  and  other
institutional  facilities.  Based on unaudited  financial  statements,  the year
ended June 30, 1998  reflected  net sales of $2.9 million and net income  before
taxes of $120,000.  For more information  relative to this  transaction,  please
refer to the Company's  Current Report on Form 8-K filed with the Securities and
Exchange Commission on November 13, 1998.



















                                       13

<PAGE>

                              DERMA SCIENCES, INC.

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


NINE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED TO NINE MONTHS ENDED 
SEPTEMBER 30, 1997

RESULTS OF OPERATIONS

Net Sales and Gross Profit

Net sales for the nine months ended September 30, 1998 increased $1,724,503, or
36%, to $6,512,346 from $4,787,843 in the nine months ended September 30, 1997.
The increase in net sales is attributable to a $949,890 increase in net product
sales and an increase in Medicaid rebate adjustments of $774,613.

The Company introduced new product lines during the first quarter of 1998
consisting of Alginate Dressings (NutraStat and DermaStat), Hydrocolloid
Dressings (NutraCol and DermaCol) and Film Dressings (DermaFilm and DermaSite).
New product sales were not a material revenue producing factor in the nine
months ended September 30, 1998.

Medicaid rebates incurred by the Company are reflected as a reduction to sales.
The nine months ended September 30, 1998 included Medicaid rebate adjustments,
which resulted in a net increase to sales of $630,866 compared to a net expense
of $143,747 for the nine months ended September 30, 1997.

Cost of sales, expressed as a percentage of net sales, decreased from 30% in the
nine months ended September 30, 1997 to 22% in the nine months ended September
30, 1998. This decrease is attributable primarily to the adjustment of Medicaid
rebates as discussed above, in addition to a more favorable sales mix of items
with lower cost of sales percentages. Aggregate cost of sales increased $40,845,
to $1,450,844 in the nine months ended September 30, 1998 from $1,409,999 in the
nine months ended September 30, 1997. The increase in aggregate cost of sales is
attributable to the increase in net sales discussed above.

Gross profit, expressed as a percentage of net sales, increased from 70% in the
nine months ended September 30, 1997 to 78% in the nine months ended September
30, 1998. Aggregate gross profit increased $1,683,658, or 50%, to $5,061,502 in
the nine months ended September 30, 1998 from $3,377,844 in the nine months
ended September 30, 1997. The increase in the gross profit percentage is
attributable to the Medicaid rebate adjustments as discussed above. The increase
in the aggregate gross profit is attributable to the Medicaid rebate adjustments
in addition to the sales increases, discussed above.



                                       14

<PAGE>

Operating Expenses

Operating expenses decreased $398,642 or 7%, from $5,482,772 in the nine months
ended September 30, 1997 to $5,084,130 in the nine months ended September 30,
1998. This decrease is attributable to an increase in product development
expense and a decrease in selling, general and administrative expense discussed
below.

Product development expense for the nine months ended September 30, 1998
increased $237,485, or 75% to $554,896 from $317,411 in the nine months ended
September 30, 1997. This increase is attributable to licensing fees incurred on
new product lines discussed above, expenses incurred related to clinical studies
and increases to salaries, employee benefits and rent expense.

Selling, general and administrative expense for the nine months ended September
30, 1998 decreased $636,127, or 12%, to $4,529,234 in the nine months ended
September 30, 1998 from $5,165,361 in the nine months ended September 30, 1997.
The aggregate decrease is primarily attributable to decrease in bad debt expense
of $536,975. Additionally, severance expense of $135,000 was incurred during the
nine months ended September 30, 1997. No comparable costs were incurred during
the nine months ended September 30, 1998.

Loss  from Operations

The Company generated a loss from operations for the nine months ended September
30, 1998 in the amount of $22,628 compared to a loss from operations of
$2,104,928 for the nine months ended September 30, 1997. This decreased loss
from operations is attributable to the increase in net sales and decrease in
operating expenses discussed above under "Net Sales and Gross Profit," and
"Operating Expenses."

Litigation Settlement

On June 8, 1998 the Company and ABS LifeSciences,  Inc. ("ABS"), a subsidiary of
Integra Life Sciences,  Inc. , agreed to a settlement of their respective claims
and counter claims asserted in the civil action ABS LifeSciences,  Inc. v. Derma
Sciences, Inc. (the "Action").  The settlement provided that the Company pay ABS
a total of $550,000 and return all unsold Chronicure  inventory.  The settlement
further  provides for the dismissal of all claims and counter claims asserted in
the action. The settlement resulted in a charge to operations of $819,353 in the
quarter ended June 30, 1998.

Net Loss

The Company generated a net loss of $1,534,642 or $0.25 per share, for the nine
months ended September 30, 1998 compared to a loss of $2,119,037 or $0.37 per
share, for the nine months ended September 30, 1997. The net loss for the nine



                                       15

<PAGE>


months ended September 30, 1998 is attributable to the factors discussed above
under "Loss from Operations" and the "Merger Costs," "Restructuring Costs," and
"Litigation Settlement."

Other Events

Please refer to "Quarter Ended September 30, 1998 Compared to Quarter Ended
September 30, 1997."

LIQUIDITY AND CAPITAL RESOURCES

The Company's cash, cash equivalents and short-term investments at September 30,
1998 increased $5,073,148 to $5,465,839 from $392,691 at September 30, 1997. The
Company's working capital at September 30, 1998 increased $3,953,661, to
$5,178,776 from $1,225,115 at September 30, 1997. The increase is primarily due
to private financings discussed below. The Company utilized its short-term
investments in operations during 1997 to fund the Company's losses and to reduce
the outstanding balance on the bank line of credit by $100,000.

In November, 1997 the Company issued convertible securities and received
$1,571,211 net of issuance costs. Please refer to Form 10-KSB filed by the
Company on March 31, 1998 and "Part II - Other Information, Item 2. Changes in
Securities and Use of Proceeds."

The Company issued convertible securities in June 1998 which resulted in the
Company receiving $3,955,000 net of issuance costs.

Through  September 30, 1998, the Company has a bank  line-of-credit,  secured by
accounts  receivable,  inventory  and the  Company's  United  States  patent and
trademarks,   whose   balance  at  September   30,  1998  was   $689,000.   This
line-of-credit  was paid in full on October 30,  1998.  The  Company  procured a
$1,000,000  line of  credit  facility  with a new  bank in  October  1998.  This
facility expires October 1999.

Statements that are not historical facts, including statements about the
Company's confidence and strategies, and expectations about new or existing
products, technologies and 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 risks, impact of competitive products and prices,
product development, commercialization or technological delays or difficulties,
and trade, legal, social, financial and economic risks.

Year 2000 Compatibility

The year 2000 issue is the result of computer  programs  being written using two
digits  rather  than  four to  define  the  applicable  year.  In  other  words,
date-sensitive  software may recognize a date using "00" as the year 1900 rather
than the year 2000.  This could  result in system  failures  or  miscalculations
causing  disruptions  of  operations,   including,  among  others,  a  temporary
inability to process  transactions  and  information or engage in similar normal
business activities.

The Company is working to resolve the  potential  impact of the year 2000 on the
ability of the Company's computerized  information systems to accurately process


                                       16

<PAGE>


information  that may be  date-sensitive.  The Company believes that it does not
have  significant  year 2000  issues  related  to its  computerized  information
systems and is currently reviewing these systems.  This review is expected to be
completed during 1999.

In  addition,  it is also  possible  that certain  computer  systems or software
products  of the  Company's  suppliers  and  contractors  may not be  year  2000
compatible.  The Company is requesting assurances from all software vendors from
which it has purchased or from which it may purchase software that such software
will  correctly  process all date  information  at all times.  Furthermore,  the
Company is  querying  its  suppliers  and  contractors  as to their  progress in
identifying  and addressing  problems that their  computer  systems will face in
correct  processing date  information as the year 2000  approaches.  The Company
expects this assessment to be completed during 1999 and currently  believes that
costs of addressing  this issue will not have a material  adverse  impact on the
Company's  financial  position.  However,  if the Company and third parties upon
which it relies are unable to address  this issue in a timely  manner,  it could
result in a material financial risk to the Company. In order to assure that this
does not occur,  the Company plans to devote all  resources  required to resolve
any significant year 2000 issues in a timely manner.

To date the Company has not made any  contingency  plans to address  third-party
year 2000 risks. The Company plans to formulate  contingency plans to the extent
necessary in 1999.

                                       17

<PAGE>


                           PART II - OTHER INFORMATION


Item 1.  Legal Proceedings

Information  required by Item 103 of Regulation S-B and required  hereunder,  as
filed with the Securities and Exchange Commission on Form 10-KSB and on Form 8-K
on March 31, 1998 and on June 10, 1998, respectively , is incorporated herein by
reference.

Item 2.  Changes in Securities and Use of Proceeds

On May 13, 1994, the Company  consummated an initial public  offering of 900,000
shares  of its  $.01 par  value  common  stock  and  received  net  proceeds  of
$3,221,273.  On  November  19,  1997  the  Company  closed  on  an  offering  of
convertible  securities  ("November  Securities")  and  received net proceeds of
$1,571,211.  On July 14, 1998 the Company  closed on an offering of  convertible
securities ("July Securities") and received net proceeds of $3,955,000. Offering
proceeds have been used for the following  purposes:  repayment of  indebtedness
($470,000), working capital ($2,208,475),  professional services relative to and
an abandoned  merger  ($498,024),  acquisition  of Morgan Paris,  Inc., a former
master distributor of the Company ($285,000), payments related to the settlement
of litigation with ABS LifeSciences,  Inc. ($400,000) an acquisition of Sunshine
Products,  Inc. ($1,500,000).  For information concerning the Sunshine Products,
Inc. acquisition, please refer to the Company's Current Report on Form 8-K filed
November 13, 1998.  The remainder of the  Debenture  proceeds,  $4,885,985,  are
invested in short-term investment grade commercial paper and Money Market funds.

In September,  1998, the July Securities  converted into units consisting of one
share of Series B Preferred Stock convertible into one share of Common Stock and
one  warrant to  purchase  one share of Common  Stock  exercisable  at $1.35 per
share.

For  additional  information  about  the July  Securities,  please  refer to the
Company's  Current  Report on Form 8-K filed with the  Securities  and  Exchange
Commission on July 10, 1998.

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

At special  meetings of  shareholders  held on September 9, 1998,  the following
matters  were  approved by the  shareholders:  (1)  issuance of up to  1,683,000
shares of common stock in the merger with GLWC;  (2)  amendment of the Company's
Stock  Option Plan (the "Plan") to increase the number of shares of common stock
authorized  to be issued under the Plan from  450,000 to 1,500,000  and to allow
officers,  directors,  employees,  associates,  consultants  and advisors of the
Company's subsidiaries to participate in the Plan; (3) amendment to the Articles
of Incorporation  authorizing  creation of additional shares of preferred stock;
(4) issuance of up to 3,333,400  shares of Series B Convertible  Preferred Stock
in  connection  with the  Company's  private  sale of  $4,000,000  in  aggregate
principal amount of convertible debentures.


                                       18


<PAGE>

<TABLE>
<CAPTION>
                                                    Vote of Holders of Common Stock

                                                                  For                     Against                  Abstentions
<S>                                                           <C>                           <C>                      <C> 
(1) Issue GLWC Merger Shares                                  2,565,922                      43,694                  83,213
(2) Amend Stock Option Plan                                   2,548,347                      60,057                  84,425
(3) Amend Articles of Incorporation                           2,438,542                     135,922                  17,103
(4) Issue Series B Preferred Shares                           2,437,529                     138,922                  15,116

                                              Vote of Holders of Series A Preferred Stock

                                                                  For                     Against                 Abstentions

(1) Issue GLWC Merger Shares                                  1,006,250                       0                          0
(2) Amend Stock Option Plan                                   1,006,250                       0                          0
(3) Amend Articles of Incorporation                           1,081,250                       0                          0
(4) Issue Series B Preferred Shares                           1,081,250                       0                          0
</TABLE>

Item 6.  Exhibits and Reports on Form 8-K

(a) Exhibits. With the exception of the following, all exhibits required by Item
601 of Regulation S-B and required  hereunder,  as filed with the Securities and
Exchange  Commission  on: (1) Form 10-KSB on March 31, 1998,  (2) Form 10-QSB on
August 14, 1998, and (3) Forms 8-K on June 10, 1998, July 10, 1998 and September
23, 1998, are incorporated herein by reference.

              Item        Description
              27          Financial Data Schedule (filed electronically with
                          the U. S. Securities and Exchange Commission only)

(b) Reports on Form 8-K. On July 10, 1998 the Company filed a Current  Report on
Form 8-K with a date of  report  of July 8,  1998,  reporting  on Item 5,  Other
Events,  relative to closing on a private placement of convertible debentures in
which an aggregate of $4 million was raised. On July 13, 1998, the Company filed
a Current  Report on Form 8-K with a date of report of July 8, 1998 reporting on
Item 5,  Other  Events,  announcing  a  non-binding  letter of intent to acquire
Sunshine  Products,  Inc. On  September  23, 1998,  the Company  filed a Current
Report on Form 8-K with a date of report of September 9, 1998  reporting on Item
2, Acquisition or Disposition of Assets,  relating to the acquisition of GLWC by
merger  as a  result  of which  GLWC  became a  wholly-owned  subsidiary  of the
Company.





                                       19

<PAGE>



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:  November 16, 1998                  By:  /s/ Stephen T. Wills
                                              --------------------------
                                              Stephen T. Wills, CPA, MST
                                              Chief Financial Officer





















                                       20