##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
 FORM 10-Q (Mark One) x
    
    Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934:For the quarterly period ended September 30, 2004ORo
    
    Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934:For the transition period from    toCommission file number: 001-12128
 Matritech, Inc.    Delaware
(State or Other Jurisdiction of
    
    04-2985132
(I.R.S. EmployerIncorporation or Organization)
    
    Identification No.)
 330 Nevada Street, Newton, Massachusetts 02460    (617) 928-0820    Indicate by check mark whether the registrant:(1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes   x      No   o Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). o Yes  þ No As of October 29, 2004, there were 42,589,373 shares of the Registrants
Common Stock outstanding. 1




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MATRITECH, INC. INDEX PagePART I FINANCIAL INFORMATIONItem 1. Financial StatementsConsolidated Balance Sheets as of December 31, 2003
and September 30, 2004
    
    
    3Consolidated Statements of Operations for the three and nine
months ended September 30, 2003 and 2004
    
    
    5Consolidated Statements of Cash Flows for the nine
months ended September 30, 2003 and 2004
    
    
    6Notes to Unaudited Consolidated Financial Statements
    
    
    7Item 2. Managements Discussion and Analysis of
Financial Condition and Results of Operations
    
    
    10Item 3. Quantitative and Qualitative Disclosures About
Market Risk
    
    
    30Item 4. Controls and Procedures
    
    
    30PART II OTHER INFORMATIONItem 6. Exhibits
    
    
    31SIGNATURES
    
    
    32EX-10.1 SUBLICENSE AGREEMENTEX-10.2 LETTER AGREEMENTEX-31.1 SECTION 302 CERTIFICATION OF CEOEX-31.2 SECTION 302 CERTIFICATION OF CFOEX-32.1 SECTION 906 CERTIFICATION OF CEOEX-32.2 SECTION 906 CERTIFICATION OF CFO
 2




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PART I. FINANCIAL INFORMATION 
 Item 1. Financial Statements. MATRITECH, INC. 
 CONSOLIDATED BALANCE SHEETS (UNAUDITED)
 December 31,
    
    September 30,2003
    
    2004ASSETSCurrent Assets:Cash and cash equivalents
    
    $
    7,518,124
    
    
    $
    7,036,057Accounts receivable less allowance for bad debt of $23,591 in 2003 and 2004
    
    
    556,624
    
    
    
    782,113Inventories, net
    
    
    609,211
    
    
    
    831,953Prepaid expenses and other current assets
    
    
    390,090
    
    
    
    386,470Total current assets
    
    
    9,074,049
    
    
    
    9,036,593Property and equipment, at cost:Laboratory equipment
    
    
    2,437,430
    
    
    
    2,435,724Office equipment
    
    
    408,153
    
    
    
    483,583Laboratory furniture
    
    
    62,739
    
    
    
    62,739Leasehold improvements
    
    
    88,865
    
    
    
    141,267Automobiles
    
    
    47,053
    
    
    
    44,8963,044,240
    
    
    
    3,168,209Less  Accumulated depreciation and amortization
    
    
    2,107,544
    
    
    
    2,252,405936,696
    
    
    
    915,804Goodwill
    
    
    132,615
    
    
    
    132,615Other assets
    
    
    246,706
    
    
    
    174,418Receivable from related party
    
    
    28,254
    
    
    
    16,104Total assets
    
    $
    10,418,320
    
    
    $
    10,275,534LIABILITIES AND STOCKHOLDERS EQUITYCurrent Liabilities:Current maturities of notes payable
    
    $
    301,647
    
    
    $
    12,417Current maturities of convertible debt
    
    
    1,554,067
    
    
    
    1,285,726Accounts payable
    
    
    281,697
    
    
    
    545,227Accrued expenses
    
    
    976,242
    
    
    
    1,574,841Deferred revenue
    
    
    525,940
    
    
    
    473,905Total current liabilities
    
    
    3,639,593
    
    
    
    3,892,116Notes payable, less current maturities
    
    
    25,202
    
    
    
    18,626Convertible debt, less current maturities
    
    
    1,312,860
    
    
    
    546,083Deferred revenue
    
    
    642,435
    
    
    
    636,094Total liabilities
    
    
    5,620,090
    
    
    
    5,092,919Commitments and ContingenciesStockholders Equity:Preferred stock, $1.00 par valueAuthorized4,000,000 sharesIssued and outstandingno shares
    
    
    
    
    
    
    Common stock, $0.01 par valueAuthorized60,000,000 shares in 2003 and 90,000,000 in 2004Issued and outstanding36,121,934 shares in 2003 and 42,405,837 shares in 2004
    
    
    361,219
    
    
    
    424,058Additional paid-in capital
    
    
    83,316,769
    
    
    
    92,279,447Accumulated other comprehensive income
    
    
    119,119
    
    
    
    111,331Accumulated deficit
    
    
    (78,998,877
    )
    
    
    (87,632,221
    )
 3




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December 31,
    
    September 30,2003
    
    2004Total stockholders equity
    
    
    4,798,230
    
    
    
    5,182,615Total liabilities and stockholders equity
    
    $
    10,418,320
    
    
    $
    10,275,534
 The accompanying notes are an integral part of these consolidated financial statements. 4




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MATRITECH, INC. 
 CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2003
    
    2004
    
    2003
    
    2004Revenue:Product sales, net of allowances
    
    $
    1,051,477
    
    
    $
    1,874,988
    
    
    $
    2,955,274
    
    
    $
    4,892,739Alliance and collaboration revenue
    
    
    119,833
    
    
    
    60,417
    
    
    
    269,529
    
    
    
    158,322Total revenue
    
    
    1,171,310
    
    
    
    1,935,405
    
    
    
    3,224,803
    
    
    
    5,051,061Expenses:Cost of product sales
    
    
    476,862
    
    
    
    596,501
    
    
    
    1,548,577
    
    
    
    1,781,667Research, development and clinical expense
    
    
    636,242
    
    
    
    661,978
    
    
    
    2,034,130
    
    
    
    2,067,757Selling, general and administrative expense
    
    
    1,659,813
    
    
    
    2,664,668
    
    
    
    4,908,487
    
    
    
    7,716,691Total operating expenses
    
    
    2,772,917
    
    
    
    3,923,147
    
    
    
    8,491,194
    
    
    
    11,566,115Loss from operations
    
    
    (1,601,607
    )
    
    
    (1,987,742
    )
    
    
    (5,266,391
    )
    
    
    (6,515,054
    )Interest income
    
    
    12,624
    
    
    
    24,313
    
    
    
    56,572
    
    
    
    73,339Interest expense
    
    
    193,585
    
    
    
    756,410
    
    
    
    393,788
    
    
    
    2,191,629Net loss
    
    $
    (1,782,568
    )
    
    $
    (2,719,839
    )
    
    $
    (5,603,607
    )
    
    $
    (8,633,344
    )Basic and diluted net loss per common share
    
    $
    (0.06
    )
    
    $
    (0.06
    )
    
    $
    (0.17
    )
    
    $
    (0.22
    )Basic and diluted weighted average number of common shares outstanding
    
    
    32,150,176
    
    
    
    42,116,886
    
    
    
    32,130,292
    
    
    
    40,109,535
 The accompanying notes are an integral part of these consolidated financial statements. 5




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MATRITECH, INC. 
 CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) Nine Months EndedSeptember 30,2003
    
    2004Cash Flows from Operating Activities:Net loss
    
    $
    (5,603,607
    )
    
    $
    (8,633,344
    )Adjustments to reconcile net loss to net cash used in operating activities:Depreciation and amortization
    
    
    191,510
    
    
    
    177,713Amortization of deferred compensation
    
    
    35,710
    
    
    
    Amortization of debt discount
    
    
    187,929
    
    
    
    1,649,705Amortization of deferred charges
    
    
    
    
    
    
    165,617Issuance of common stock for interest on debt
    
    
    93,750
    
    
    
    289,275Noncash interest expense
    
    
    
    
    
    
    116,546Changes in assets and liabilities:Accounts receivable
    
    
    249,661
    
    
    
    (225,489
    )Inventories
    
    
    (87,172
    )
    
    
    (222,742
    )Prepaid expenses and other assets
    
    
    9,929
    
    
    
    (77,559
    )Accounts payable
    
    
    (104,501
    )
    
    
    263,530Accrued expenses
    
    
    25,779
    
    
    
    598,599Deferred revenue
    
    
    (139,788
    )
    
    
    (58,376
    )Net cash used in operating activities
    
    
    (5,140,800
    )
    
    
    (5,956,525
    )Cash Flows from Investing Activities:Purchases of property and equipment
    
    
    (158,066
    )
    
    
    (163,305
    )Net cash used in investing activities
    
    
    (158,066
    )
    
    
    (163,305
    )Cash Flows from Financing Activities:Payments on notes payable
    
    
    (115,959
    )
    
    
    (288,956
    )Proceeds from convertible debentures and warrants, net
    
    
    4,556,083
    
    
    
    Proceeds from sale of common stock and warrants
    
    
    
    
    
    
    5,846,969Proceeds from exercise of common stock options
    
    
    335
    
    
    
    84,000Proceeds from issuance of common stock under employee stock purchase plan
    
    
    12,250
    
    
    
    9,000Net cash provided by financing activities
    
    
    4,452,709
    
    
    
    5,651,013Effect of foreign exchange on cash and cash equivalents
    
    
    87,887
    
    
    
    (13,250
    )Decrease in cash and cash equivalents
    
    
    (758,270
    )
    
    
    (482,067
    )Cash and cash equivalents, beginning of period
    
    
    4,172,013
    
    
    
    7,518,124Cash and cash equivalents, end of period
    
    $
    3,413,743
    
    
    $
    7,036,057Supplemental Cash Flow Information:Cash paid during the year for interest
    
    $
    79,859
    
    
    $
    7,985Stock issued for debt payments
    
    
    
    
    
    
    1,457,606Stock issued for interest payments
    
    
    93,750
    
    
    
    289,275
 The accompanying notes are an integral part of these consolidated financial statements. 6




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MATRITECH, INC. 
 NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 1. Operations and Basis of Presentation The quarterly financial statements included herein have been prepared by
the Company, without audit, pursuant to the rules and regulations of the
Securities and Exchange Commission (SEC) and include, in the opinion of
management, all adjustments, consisting of normal, recurring adjustments
necessary for a fair presentation of interim period results. Certain
information and footnote disclosures normally included in financial statements
prepared in accordance with accounting principles generally accepted in the
United States have been condensed or omitted pursuant to such rules and
regulations. The results for the interim periods presented are not necessarily
indicative of results to be expected for any future period. These consolidated
financial statements should be read in conjunction with the audited financial
statements and notes thereto included in the Companys Annual Report on Form
10-K for the year ended December 31, 2003 filed with the SEC (File No.
001-12128). We have incurred losses from operations since our inception. We have an
accumulated deficit of approximately $88 million at September 30, 2004. Based
on our current rate of cash utilization, our cash at September 30, 2004 is
expected to fund operations through at least June 2005 provided we pay
interest and principal on our convertible debentures in stock. Our financing
plans include continuing to seek to raise additional capital and we will
consider various financing alternatives, including equity or debt financings
and corporate partnering arrangements. The primary sources of the additional
capital we raised in 2002, 2003 and 2004 have been equity and convertible debt,
and we expect equity-related instruments will continue to be our principal
source of additional capital. After 2004, we will likely need to raise
additional capital through third party financing of debt or equity in order to
fund our operations. We may not be able to raise needed capital on terms that
are acceptable to us, or at all. If we raise funds on unfavorable terms, we
may provide rights and preferences to new investors which are not available to
current shareholders. In addition, our existing financing arrangements contain
anti-dilutive provisions which may require us to issue additional securities if
certain conditions are met. If we do not receive additional financing or do
not receive an adequate amount of additional financing, we will be required to
curtail our expenses by reducing research and/or marketing or by taking other
steps that could hurt our future performance, including but not limited to, the
premature sale of some or all of our assets or product lines on undesirable
terms, merger with or acquisition by another company on unsatisfactory terms or
the cessation of operations. Any future equity financings will dilute the
ownership interest of our existing investors and may have an adverse impact on
the price of our common stock. Any of the foregoing steps will have a material
adverse effect on our business, financial condition and results of operations.
There can be no assurance that capital will be available on terms acceptable to
us, if at all. 2. Summary of Significant Accounting Policies (a) Principles of Consolidation The consolidated financial statements include the accounts of Matritech,
Inc., a Delaware corporation and our wholly-owned subsidiary Matritech GmbH
based in Freiburg, Germany. All significant intercompany balances and
transactions have been eliminated at consolidation level. (b) Inventories Inventories are stated at the lower of cost (determined on a first-in
first-out basis) or market and consist of the following: December 31,
    
    September 30,2003
    
    2004Raw materials
    
    $
    147,192
    
    
    $
    216,761Work-in-process
    
    
    4,327
    
    
    
    15,473Finished goods
    
    
    400,735
    
    
    
    539,843Consignment inventory
    
    
    56,957
    
    
    
    59,876$
    609,211
    
    
    $
    831,953
 7




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(c) Revenue Recognition Deferred revenue consists of the following: December 31,
    
    September 30,2003
    
    2004Collaboration fees
    
    $
    828,048
    
    
    $
    744,721Deferred product revenue
    
    
    340,327
    
    
    
    365,278$
    1,168,375
    
    
    $
    1,109,999
 (d) Comprehensive Loss Comprehensive loss is comprised of net loss and certain changes in
stockholders equity that are excluded from net loss. The Company includes in
other comprehensive income (loss) those foreign currency adjustments related to
the translation of the assets and liabilities of Matritech GmbH into US Dollars
as the functional currency of Matritech GmbH is the Euro. The composition of
accumulated other comprehensive income (loss) is as follows: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2003
    
    2004
    
    2003
    
    2004Reported net loss
    
    $
    (1,782,568
    )
    
    $
    (2,719,839
    )
    
    $
    (5,603,607
    )
    
    $
    (8,633,344
    )Other comprehensive income (loss)Foreign currency translation
adjustments
    
    
    8,918
    
    
    
    4,202
    
    
    
    91,604
    
    
    
    (7,788
    )Comprehensive loss
    
    $
    (1,773,650
    )
    
    $
    (2,715,637
    )
    
    $
    (5,512,003
    )
    
    $
    (8,641,132
    )
 (e) Stock-Based Compensation We have elected to follow Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees(APB 25) and related
interpretations, in accounting for our stock-based compensation plans, rather
than the alternative fair value accounting method provided for under Statement
of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based
Compensation,(SFAS No. 123). In accordance with Emerging Issues Task Force
(EITF) Issue No. 96-18, we record compensation expense equal to the fair
value of options granted to non-employees over the vesting period, which is
generally the period of service. The following table illustrates the effect on net loss and loss per share
if the Company had applied the fair value recognition provisions of SFAS No.
123 to stock-based employee compensation: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2003
    
    2004
    
    2003
    
    2004Net loss
    
    $
    (1,782,568
    )
    
    $
    (2,719,839
    )
    
    $
    (5,603,607
    )
    
    $
    (8,633,344
    )Deduct: Total stock-based
employee compensation expense
determined under fair value
based method for all awards
    
    
    (249,003
    )
    
    
    (291,716
    )
    
    
    (775,722
    )
    
    
    (833,162
    )Pro forma net loss
    
    $
    (2,031,571
    )
    
    $
    (3,011,555
    )
    
    $
    (6,379,329
    )
    
    $
    (9,466,506
    )Net loss per common share:Basic and diluted  as reported
    
    $
    (0.06
    )
    
    $
    (0.06
    )
    
    $
    (0.17
    )
    
    $
    (0.22
    )Basic and diluted  pro forma
    
    $
    (0.06
    )
    
    $
    (0.07
    )
    
    $
    (0.20
    )
    
    $
    (0.24
    )
 8




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The fair value of stock options and common shares issued pursuant to the
stock option and stock purchase plans at the date of grant were estimated using
the Black-Scholes model with the following weighted-average assumptions: 2003
    
    2004Risk-free interest rate
    
    
    2.70 - 3.58
    %
    
    
    3.74 - 4.69
    %Expected dividend yield
    
    
    
    
    
    
    Expected life
    
    7
years
    
    7
yearsExpected volatility
    
    
    110
    %
    
    
    144
    %
 (f) Net Loss per Common Share We compute earnings per share in accordance with SFAS No. 128, Earnings
per Share. Basic net loss per common share is computed by dividing net loss by
the weighted average number of common shares outstanding during the year.
Diluted loss per share is the same as basic loss per share as the effects of
our potential common stock equivalents are anti-dilutive. At September 30,
2003 and 2004, potential common stock equivalents consisted of stock options,
warrants, and convertible debentures. The number of anti-dilutive securities
excluded from the computation of diluted loss per share were 5,738,391 and
9,598,418 for the periods ended September 30, 2003 and 2004, respectively. 3. Stockholders Equity On March 19, 2004 we completed a private placement of 4,858,887 shares of
our common stock at a price of $1.35 per share and warrants to purchase
1,214,725 shares of our common stock at a price of $2.00 per share for an
aggregate consideration of $6,559,500 (before cash commissions and expenses of
approximately $713,000). In addition we issued warrants to various placement
agents for a total of 434,475 shares at an exercise price of $2.00 per share.
These warrants are valued at approximately $560,000. The warrants issued as
part of this private placement are exercisable until March 19, 2009. This transaction has also been deemed to be a dilutive issuance under the
terms of the Convertible Debentures we issued in March 2003 (the Convertible
Debentures) and our warrants issued in connection with the Convertible
Debenture financing (the March 2003 Warrants). As a result, the Convertible
Debentures became convertible into 3,183,902 shares of our common stock at a
price of $1.51 per share, representing an increase of 612,944 shares from the
conversion terms of the debenture immediately prior to the transaction. The
Convertible Debentures were convertible on September 30, 2004 into 2,419,764
shares of our common stock at a price of $1.51 per share. The March 2003 Warrants are exercisable to purchase shares
of our common stock at a price of $1.35 per share representing a decrease in
purchase price of $0.32 per share. We calculated an additional beneficial
conversion charge totaling approximately $1,339,000 (see table below in Note 4)
which was recorded as a debt discount in the first quarter of 2004 and is being
amortized over the remaining life of the debt. 4. Convertible Debt A summary of the Convertible Debt accounting is as follows: Proceeds at closing in March 2003
    
    $
    5,000,000Less:Fair value ascribed to the warrants and recorded as debt discount
    
    
    (950,000
    )Fair value ascribed to placement agent warrant and recorded as debt discount
    
    
    (131,000
    )Beneficial conversion feature calculated on date of closing and recorded as
debt discount
    
    
    (199,000
    )Additional beneficial conversion feature recorded in the fourth quarter of
2003 as debt discount
    
    
    (1,497,000
    )Additional beneficial conversion feature recorded in the first quarter of
2004 as debt discount
    
    
    (1,339,000
    )Cumulative principal payments made in stock
    
    
    (1,346,000
    )Add back:Cumulative amortization of debt discount and beneficial conversion features
    
    
    2,294,000Balance, September 30, 2004
    
    $
    1,832,000
 9




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The debt discount is being amortized to interest expense using the
effective interest method over the term of the debt. For the three and nine
month periods ended September 30, 2004, $569,000 and $1,650,000, respectively,
representing amortization of these costs is included in interest expense. Debt issuance costs attributable to the Convertible Debentures, which
totaled approximately $475,000, have been capitalized as other assets and other
current assets on the consolidated balance sheet and will be amortized based on
the effective interest method over the term of the debt. For the three and
nine month periods ended September 30, 2004, $51,000 and $166,000, respectively
representing amortization of these costs is included in interest expense. As
of September 30, 2004, unamortized debt issuance costs totaled $164,000, of
which $141,000 is included in other current assets. Minimum future payments on the debt are as follows: 2004
    
    $
    638,0002005
    
    
    2,445,0002006
    
    
    776,000Total payments
    
    
    3,859,000Less: Portion related to periodic interest payments
    
    
    (205,000
    )Non-cash interest related to debt discount
    
    
    (1,822,000
    )Balance, September 30, 2004
    
    
    1,832,000Less current portion
    
    
    1,286,000Long-term portion
    
    $
    546,000
 The fair value of the Convertible Debt at September 30, 2004 as estimated by
management is approximately $3.3 million. The carrying value of the Convertible
Debt in the Companys financial statements reflects discounts related to
beneficial conversion charges calculated in accordance with EITF Issue No.
00-27. The Convertible Debentures allow the interest and principal to be paid in
common stock at a discount to value, but only if (i) we are not in default
under the terms of the Convertible Debentures, (ii) there is an effective
registration statement covering such shares, (iii) our common stock is listed
on one of American Stock Exchange, New York Stock Exchange, Nasdaq National
Market or Nasdaq SmallCap Market, (iv) we have provided proper notice of our
election to make payments in stock and have made payment of all other amounts
then due under the Convertible Debentures, (v) the issuance of such shares
would not cause the holders to own more than 9.999% of the outstanding shares
of our common stock, (vi) no public announcement of a change of control or
other reclassification transaction has been made and (vii) we have sufficient
authorized but unissued and unreserved shares to satisfy all share issuance
obligations under the March 2003 financing. The first, second and third
quarter of 2004s interest payments ($98,000, $89,000 and $69,000,
respectively) were made in stock and the monthly principal repayments of
$192,000 each commencing in March 2004 (totaling $1,346,000 at September 30,
2004) were made in stock and unless a default occurs, the remaining payments
scheduled for both interest and principal are expected to be made in stock. 
 Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations. This Quarterly Report on Form 10-Q, our other reports and communications
to our securityholders, as well as oral statements made by our officers or
agents may contain forward-looking statements made pursuant to the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995. These
statements may relate to, among other things, our future revenue, operating
income and the plans and objectives of management. In particular, certain
statements contained in the Managements Discussion and Analysis of Financial
Condition and Results of Operations, including Factors That May Affect Future
Results constitute forward-looking statements. Actual events or results may
differ materially from those stated in any forward-looking statement. Factors
that may cause such differences are discussed below and in our other reports
filed with the SEC. 10




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Overview Matritech, Inc. is a biotechnology company principally engaged in the
development, manufacture, marketing, distribution and licensing of cancer
diagnostic technologies, products and services. We are focused primarily on the
early detection of various types of cancer because treatment options may be
greater and/or more successful and treatment costs may be lower when tumors are
detected in their early stages. Our revenues are derived from product sales,
milestone payments for development work, and payments relating to licensing
activities and other grants of rights. The products we have developed are based on our proprietary nuclear matrix
protein (NMP) technology. The nuclear matrix, a three-dimensional protein
framework within the nucleus of cells, plays a fundamental role in determining
cell type by physically organizing the contents of the nucleus, including DNA.
We focus our research on finding differences in the types and amounts of
proteins found in the tissue, blood and urine of patients with and without
cancer. We design our products to detect these differences and to generate
medically useful information in order to assist physicians in their diagnosis
and treatment of patients. Products developed by our scientists and based upon our proprietary NMP
technology became our most important source of revenue and revenue growth in
2003. NMP22® product sales exceeded sales from other products for the first
time in 2003, and we expect them to be our largest and most important source of
revenue for the foreseeable future. We continue to distribute allergy and
other diagnostic products for a third party in Germany, but revenues from these
products declined in 2003. Each of these trends continued in the first nine
months of 2004. Prior to 2003, our revenues were derived primarily from
selling products made by others and through licensing activities and other
payments from strategic partnerships or alliances. NMP22 product sales exceeded sales from other products for the first time
in 2003, and we expect them to be our largest and most important source of
revenue for the foreseeable future. We continue to distribute allergy and
other diagnostic products for third parties in Germany, but revenues from these
products declined in 2003 and have continued to decline in the first nine
months of 2004. Prior to 2003, our revenues were derived primarily from
selling products made by others and through licensing activities and other
payments from strategic partnerships or alliances. Effective November 2003, we changed our U.S. distributor arrangement with
Cytogen Corporation for our most important product, our BladderChek Test, to
permit us to sell directly to urologists as we have done in Germany since 2001.
This change has resulted in increased sales, increased revenue per test,
improvement in our gross profit margin and increased selling, general and
administrative (SG&A) expenses in 2004 compared to 2003. SG&A expenses substantially increased in the third quarter of 2004 from
the third quarter of 2003. This increase was caused primarily by the higher
costs needed to support the direct distribution of the BladderChek Tests. The
increased selling expenditures will likely increase our losses in the short
term (See Results of Operations below), but our goal is to generate
sufficient additional gross profit from sales growth to cover our increased
selling expenses and achieve our goal of profitability. In addition, because
the financial future of Matritech is so closely related to increasing the sales
of BladderChek Tests, we are taking steps to ensure we can meet anticipated
demand for these devices in the future. We are continuing our collaboration with Sysmex Corporation, a leading
manufacturer of automated laboratory instruments based in Kobe, Japan, in the
field of cervical sample testing. We are also continuing the development of
our core diagnostic technology in breast cancer. We measure our progress in
such programs by achievements such as entering into new strategic partnerships
or alliances, obtaining positive clinical trial results, and ultimately
securing regulatory approvals such as our four FDA approvals for NMP22
products. If we can successfully leverage our strategic partnerships, we
expect to meet our goal of limiting the increase in our own annual research and
development expenditures to less than 20% per year over the next few years. In
the third quarter of 2004 research and development expenditures were 4% higher
than comparable expenses in the third quarter of 2003. In the first nine
months of 2004 research and development expenditures were 2% higher than
comparable expenses in the first nine months of 2003. We have been unprofitable since inception and expect to incur significant
additional operating losses for at least the next several years. For the
period from inception to September 30, 2004, we incurred a cumulative net loss
of approximately $88 million. To provide funds to support our new distribution
arrangements and our ongoing research and development efforts, we raised
additional capital in the first quarter of 2004 and may raise additional
capital later this year. A failure to adequately finance the Company could
have a material adverse impact on our ability to achieve our objectives.
Success in raising equity to fund the cost of these product distribution and
development programs is an important element of our strategy. 11




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##### Table of Contents



Results of Operations Quarter Ended September 30, 2003 (Q3 2003) Compared with Quarter Ended September 30, 2004 (Q3 2004) Revenues Q3 2003
    
    Q3 2004
    
    $ Change
    
    % ChangeProduct Sales (net of allowances):NMP22 BladderChek Test Sales
    
    $
    370,000
    
    
    $
    1,197,000
    
    
    $
    827,000
    
    
    
    224
    %NMP22 Lab Test Kit Sales
    
    
    240,000
    
    
    
    249,000
    
    
    
    9,000
    
    
    
    4
    %Other Product Sales
    
    
    441,000
    
    
    
    429,000
    
    
    
    (12,000
    )
    
    
    (3
    %)Total Product Sales
    
    
    1,051,000
    
    
    
    1,875,000
    
    
    
    824,000
    
    
    
    78
    %Alliance & Collaboration Revenue
    
    
    120,000
    
    
    
    60,000
    
    
    
    (60,000
    )
    
    
    (50
    %)Total Revenue
    
    $
    1,171,000
    
    
    $
    1,935,000
    
    
    $
    764,000
    
    
    
    65
    %
 The increase in revenue from our NMP22 product line is due to a $777,000
sales increase, primarily in the U.S. and Europe, and a $59,000 favorable
exchange rate impact. BladderChek Test sales accounted for approximately 83%
of sales in the NMP22 product line in the third quarter of 2004, compared to
61% in the third quarter of 2003. The BladderChek Test sales growth is the result of increased selling
efforts applied to the test, principally through initiating a
direct-to-the-doctor selling effort in the United States in the fourth quarter
of 2003, continuing our direct-to-the-doctor selling activity in Germany and
obtaining additional reimbursement coverage by Medicare and other health plan
insurance payors throughout the United States. We announced in April 2004 that
Medicare reimbursement programs in 49 states cover the BladderChek Test for
both monitoring and diagnosis of bladder cancer, giving our customers
reimbursement coverage for nearly all 39 million Medicare-eligible lives in the
United States. Since most people who suffer from bladder cancer are over the
age of 65, the majority of those in the U.S. being treated or at risk for
bladder cancer are Medicare insured. We include in the category of
Lab Test Kit sales the sale by Diagnostic Products Corporation
(DPC) of a fully automated laboratory test incorporating
our NMP22 technology that DPC manufactures for use on its automated
laboratory analyzers. The increase in the Lab Test Kit sales is
due primarily to increased sales in Germany of this automated
laboratory test by DPC offset by a decline in
distributor sales in markets other than Germany and the US. Revenue from sales of non-NMP22 products decreased by $49,000 due to the
implementation by regulatory authorities of a new patient fee structure in
Germany in the first quarter of 2004 and due to decreased customer demand for
the allergy products we distribute and research-use products we manufacture.
This decrease was offset by a $37,000 favorable exchange rate impact. Alliance and collaboration revenue decreased by $60,000 as the 2003 period
included alliance revenue related to special projects undertaken on behalf of
Sysmex and reimbursed by them. Those projects were essentially completed
during 2003. During the third quarter of 2004 we sold approximately $62,000 of the
BladderChek Test to distributors for which we did not have sufficient history
to estimate returns. Accordingly, this amount is recorded as deferred revenue
and is included in the balance at September 30, 2004, and will be recognized as
revenue when the distributor reports to us that it has either shipped or
disposed of the devices (indicating that the possibility of return is remote). Deferred revenue consists of the following: Sept 30, 2003
    
    Sept 30, 2004
    
    $ Change
    
    % ChangeCollaboration fees
    
    $
    842,000
    
    
    $
    745,000
    
    
    $
    (97,000
    )
    
    
    (12
    %)Deferred product revenue
    
    
    245,000
    
    
    
    365,000
    
    
    
    120,000
    
    
    
    49
    %$
    1,087,000
    
    
    $
    1,110,000
    
    
    $
    23,000
    
    
    
    2
    %
 Cost of Product Sales Q3 2003
    
    Q3 2004
    
    $ Change
    
    % ChangeProduct Sales
    
    $
    1,051,000
    
    
    $
    1,875,000
    
    
    $
    824,000
    
    
    
    78
    %Cost of Product Sales
    
    
    477,000
    
    
    
    597,000
    
    
    
    120,000
    
    
    
    25
    %Gross Profit
    
    $
    574,000
    
    
    $
    1,278,000
    
    
    $
    704,000
    
    
    
    123
    %Gross Profit Margin
    
    
    55
    %
    
    
    68
    %
 12




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##### Table of Contents



The decrease in cost of product sales on a percentage basis and the
increase in our gross profit margin is largely the result of (i) higher price
per unit in the United States we receive because we are now selling NMP22
products directly rather than through a distributor and (ii) increased sales of
higher margin NMP22 products worldwide as a percentage of total sales. Research and Development and Clinical Expenses Q3 2003
    
    Q3 2004
    
    $ Change
    
    % ChangeResearch and
Development,
Clinical and
Regulatory Expenses
    
    $
    636,000
    
    
    $
    662,000
    
    
    $
    26,000
    
    
    
    4
    %
 Research and development, clinical and regulatory expenses increased
slightly over the third quarter of 2003. See discussion under Research and
Development. Selling, General and Administrative Expenses Q3 2003
    
    Q3 2004
    
    $ Change
    
    % ChangeGross Profit
    
    $
    574,000
    
    
    $
    1,278,000
    
    
    $
    704,000
    
    
    
    123
    %Selling, General and
Administrative Expenses
    
    
    1,660,000
    
    
    
    2,665,000
    
    
    
    1,005,000
    
    
    
    61
    %SG&A as % of Gross Profit
    
    
    289
    %
    
    
    209
    %
 Selling, general and administrative expenses increased primarily due to a
$617,000 increase in payroll costs resulting from increased headcount, mainly
to support direct sales efforts described above, and a $142,000 increase in
sales-related marketing expenses. In addition, an increase of $75,000 was
incurred for the launch of a new website as well as other corporate
communications costs, and there was an unfavorable foreign currency exchange
rate impact of $51,000 on non-US selling, general and administrative expenses. We believe that a decrease in our SG&A expenses as a percentage of our
gross profit from 289% in the third quarter of 2003 to 209% in the third
quarter of 2004 is a useful measure of our performance. During the remainder
of the year, we expect gross profits to increase more rapidly than sales as our
higher margin NMP22 products, including our Lab Test Kit and our BladderChek
Test, become a larger percentage of our sales and the lower margin non-NMP22
products decrease as a percentage of sales. We also expect the growth in gross
profits to exceed the growth in SG&A expenses, and that SG&A expenses as a
percent of our gross profit should continue to decline. Operating Loss Q3 2003
    
    Q3 2004
    
    $ Change
    
    % ChangeOperating Loss
    
    $
    1,602,000
    
    
    $
    1,988,000
    
    
    $
    386,000
    
    
    
    24
    %
 The operating loss increased primarily due to increased selling, general
and administrative expenses discussed above offset by higher gross profit. Interest Income Q3 2003
    
    Q3 2004
    
    $ Change
    
    % ChangeInterest Income
    
    $
    13,000
    
    
    $
    24,000
    
    
    $
    11,000
    
    
    
    85
    %
 Interest income increased slightly over the third quarter of 2003 due to a
higher average cash balance offset by lower interest rates. Interest Expense Q3 2003
    
    Q3 2004
    
    $ Change
    
    % ChangeInterest Related to Convertible Debt:Interest Paid (or to be Paid) in Stock
    
    $
    94,000
    
    
    $
    69,000
    
    
    $
    25,000
    
    
    
    27
    %Non-Cash Charges to Interest Expense
    
    
    96,000
    
    
    
    685,000
    
    
    
    589,000
    
    
    
    614
    %Total
    
    
    190,000
    
    
    
    754,000
    
    
    
    564,000
    
    
    
    297
    %Interest Related to Other Debt:Interest Paid in Cash
    
    
    4,000
    
    
    
    2,000
    
    
    
    (2,000
    )
    
    
    (50
    %)Total Interest
    
    $
    194,000
    
    
    $
    756,000
    
    
    $
    562,000
    
    
    
    290
    %
 13




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Interest expense increased substantially in 2004 because we completed a $5
million private placement of Convertible Debentures in March of 2003 and,
subsequent to issuance, have recorded an additional $2.4 million of non-cash
charges related to the Convertible Debentures which are being charged to our
income statement through March 2006. As of September 30, 2004, approximately
$2.6 million of the $4.6 million non-cash charges and deferred financing costs
have been amortized and charged as interest expense and the remaining $2.0
million will be amortized using the effective interest rate method over the
remaining quarters through March 2006. The Convertible Debentures allow the interest and principal to be paid in
common stock at a discount to valuation, but only if (i) we are not in default
under the terms of the Convertible Debentures, (ii) there is an effective
registration statement covering such shares, (iii) our common stock is listed
on one of American Stock Exchange, New York Stock Exchange, Nasdaq National
Market or Nasdaq SmallCap Market, (iv) we have provided proper notice of our
election to make payments in stock and have made payment of all other amounts
then due under the Convertible Debentures, (v) the issuance of such shares
would not cause the holders to own more than 9.999% of the outstanding shares
of our common stock, (vi) no public announcement of a change of control or
other reclassification transaction has been made and (vii) we have sufficient
authorized but unissued and unreserved shares to satisfy all share issuance
obligations under the March 2003 financing. The first, second and third
quarter of 2004s interest payments ($98,000, $89,000 and $69,000,
respectively) were made in stock and the monthly principal repayments of
$192,000 each commencing in March 2004 (totaling $1,346,000) were made in stock
and, unless a default occurs, the remaining payments scheduled for both
interest and principal are expected to be made in stock. Non-Cash Charges to Interest Expense consisted of:  
    
    $51,000 of amortized deferred financing costs, which
contributed to reducing the original $475,000 balance of deferred
financing costs to $164,000 at September 30, 2004;
    
    $65,000 of non-cash charges to record the discount to
valuation incurred when making the principal and interest
repayments in stock rather than cash;
    
    $569,000 of amortized debt discount, which contributed to
reducing the $4,116,000 of debt discount on our $5,000,000 note to
$1,822,000 at September 30, 2004. This debt discount is comprised
of the following: the fair value allocated to the warrants issued
in conjunction with the convertible debt, the charge to account
for the beneficial conversion feature recorded at the date the
debt was entered into, and additional charges to account for the
beneficial conversion feature recorded in the fourth quarter of
2003 and the first quarter of 2004 as a result of the triggering
of the anti-dilution provisions. The following table demonstrates the accounting for the Convertible
Debentures and related discounts during 2003 and 2004 and the resulting balance
at September 30, 2004. Value of DebenturesOriginal Value of Debt
    
    $
    5,000,000Discounts Recorded in 2003
    
    
    (2,777,000
    )2003 Amortization of Discounts
    
    
    644,000Carrying Value of Debt at 12/31/2003
    
    $
    2,867,000Discounts Recorded in 2004
    
    
    (1,339,000
    )2004 Amortization of Discounts
    
    
    1,650,000Payment in Stock
    
    
    (1,346,000
    )Carrying Value of Debt at 9/30/2004
    
    $
    1,832,000
 None of the types of activities listed in the above table is expected to
affect our cash balances unless we are unable to use our common stock to make
principal and interest payments. Using our common stock for the above
activities will result in additional dilution. See Factors That May Affect
Future Results  We have substantially increased our indebtedness and may not
be able to meet our payment obligation. 14




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##### Table of Contents



Net Loss Q3 2003
    
    Q3 2004
    
    $ Change
    
    % ChangeNet Loss
    
    $
    1,783,000
    
    
    $
    2,720,000
    
    
    $
    937,000
    
    
    
    53
    %
 The net loss increased primarily due to increased selling, general and
administrative expenses and increased interest expense discussed above, offset
by the increase in revenues. Nine Months Ended September 30, 2003 Compared with Nine Months Ended September 30, 2004 Revenues Nine Months Ended
    
    Nine Months EndedSept 30, 2003
    
    Sept 30, 2004
    
    $ Change
    
    % ChangeProduct Sales (net of allowances):NMP22 BladderChek Test Sales
    
    $
    879,000
    
    
    $
    2,834,000
    
    
    $
    1,955,000
    
    
    
    222
    %NMP22 Lab Test Kit Sales
    
    
    656,000
    
    
    
    679,000
    
    
    
    23,000
    
    
    
    4
    %Other Product Sales
    
    
    1,420,000
    
    
    
    1,380,000
    
    
    
    (40,000
    )
    
    
    (3
    %)Total Product Sales
    
    
    2,955,000
    
    
    
    4,893,000
    
    
    
    1,938,000
    
    
    
    66
    %Alliance & Collaboration Revenue
    
    
    270,000
    
    
    
    158,000
    
    
    
    (112,000
    )
    
    
    (41
    %)Total Revenue
    
    $
    3,225,000
    
    
    $
    5,051,000
    
    
    $
    1,826,000
    
    
    
    57
    %
 The increase in revenues from our NMP22 product line is due to a
$1,810,000 sales increase, primarily in the U.S. and Europe, and a $168,000
favorable exchange rate impact. BladderChek Test sales accounted for
approximately 81% of sales in the NMP22 product line in the first nine months
of 2004, compared to 57% for the first nine months of 2003. The BladderChek
Test sales growth is the result of the factors described in the three month
period above. The increase in Lab Test Kit sales is due to continued sales
growth in the US partially offset by a decline in distributor sales in markets
other than Germany and the US. Revenue from sales of non-NMP22 products decreased by $172,000 due to the
factors described in the three month period above. This decrease was offset by
a $132,000 favorable exchange rate impact. Alliance and collaboration revenue decreased by $112,000 due to the
factors described in the three month period above. Those projects were
essentially completed during 2003. During the first nine months of 2004 we sold approximately $160,000 of the
BladderChek Test to distributors for which we did not have sufficient history
to estimate returns. Accordingly, this amount is recorded as deferred revenue
and is included in the balance at September 30, 2004, and will be recognized as
revenue when the distributor reports to us that it has either shipped or
disposed of the devices (indicating that the possibility of return is remote).
See the deferred revenue chart in the three month period above. Cost of Product Sales Nine Months Ended
    
    Nine Months EndedSept 30, 2003
    
    Sept 30, 2004
    
    $ Change
    
    % ChangeProduct Sales
    
    $
    2,955,000
    
    
    $
    4,893,000
    
    
    $
    1,938,000
    
    
    
    66
    %Cost of Product Sales
    
    
    1,549,000
    
    
    
    1,782,000
    
    
    
    233,000
    
    
    
    15
    %Gross Profit
    
    $
    1,406,000
    
    
    $
    3,111,000
    
    
    $
    1,705,000
    
    
    
    121
    %Gross Profit Margin
    
    
    48
    %
    
    
    64
    %
 The decrease in cost of product sales on a percentage basis and the
increase in our gross profit margin is largely the result of (i) higher price
per unit in the United States we receive because we are now selling NMP22
products directly rather than through a distributor and (ii) increased sales of
higher margin NMP22 products worldwide as a percentage of total sales. 15




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##### Table of Contents



Research and Development and Clinical Expenses Nine Months Ended
    
    Nine Months EndedSept 30, 2003
    
    Sept 30, 2004
    
    $ Change
    
    % ChangeResearch and
Development,
Clinical and
Regulatory Expenses
    
    $
    2,034,000
    
    
    $
    2,068,000
    
    
    $
    34,000
    
    
    
    2
    %
 Research and development, clinical and regulatory expenses remained
essentially constant from the first nine months of 2003. See discussion under
Research and Development. Selling, General and Administrative Expenses Nine Months Ended
    
    Nine Months EndedSept 30, 2003
    
    Sept 30, 2004
    
    $ Change
    
    % ChangeGross Profit
    
    $
    1,406,000
    
    
    $
    3,111,000
    
    
    $
    1,705,000
    
    
    
    121
    %Selling, General and
Administrative Expenses
    
    $
    4,908,000
    
    
    $
    7,717,000
    
    
    $
    2,809,000
    
    
    
    57
    %SG&A as % of Gross Profit
    
    
    349
    %
    
    
    248
    %
 Selling, general and administrative expenses increased primarily due to a
$1,603,000 increase in payroll costs resulting from increased headcount, mainly
to support direct sales efforts described above, and a $698,000 increase in
sales-related marketing expenses. In addition, there was a $179,000 increase in
recruiting costs, a $157,000 increase in costs incurred to comply with the
Sarbanes-Oxley legislation, and an unfavorable foreign currency exchange rate
impact of $33,000 on non-US selling, general and administrative expenses.
These increases were partially offset by a decrease in outside legal expense of
$111,000. We believe that a decrease in our SG&A expenses as a percentage of our
gross profit from 349% in the first nine months of 2003 to 248% in the first
nine months of 2004 is a useful measure of our performance. During the
remainder of the year, we expect gross profits to increase more rapidly than
sales as our higher margin NMP22 products, including our Lab Test Kit and our
BladderChek Test, become a larger percentage of our sales and the lower margin
non-NMP22 products decrease as a percentage of sales. We also expect the
growth in gross profits to exceed the growth in SG&A expenses, and that SG&A
expenses as a percent of our gross profit should continue to decline. Operating Loss Nine Months Ended
    
    Nine Months EndedSept 30, 2003
    
    Sept 30, 2004
    
    $ Change
    
    % ChangeOperating Loss
    
    $
    5,266,000
    
    
    $
    6,515,000
    
    
    $
    1,249,000
    
    
    
    24
    %
 The operating loss increased primarily due to increased selling, general
and administrative expenses discussed above offset by higher gross profit. Interest Income Nine Months Ended
    
    Nine Months EndedSept 30, 2003
    
    Sept 30, 2004
    
    $ Change
    
    % ChangeInterest Income
    
    $
    56,000
    
    
    $
    73,000
    
    
    $
    17,000
    
    
    
    30
    %
 Interest income increased slightly over the first nine months of 2003 due
to a higher average cash balance offset by lower interest rates. 16




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##### Table of Contents



Interest Expense Nine Months Ended
    
    Nine Months EndedSept 30, 2003
    
    Sept 30, 2004
    
    $ Change
    
    % ChangeInterest Related to Convertible Debt:Interest Paid (or to be Paid) in Stock
    
    $
    125,000
    
    
    $
    256,000
    
    
    $
    131,000
    
    
    
    105
    %Non-Cash Charges to Interest Expense
    
    
    189,000
    
    
    
    1,927,000
    
    
    
    1,738,000
    
    
    
    920
    %Interest Paid in Cash
    
    
    63,000
    
    
    
    
    
    
    
    (63,000
    )
    
    
    (100
    %)Total
    
    
    377,000
    
    
    
    2,183,000
    
    
    
    1,806,000
    
    
    
    479
    %Interest Related to Other Debt:Interest Paid in Cash
    
    
    17,000
    
    
    
    8,000
    
    
    
    (9,000
    )
    
    
    (53
    %)Total Interest
    
    $
    394,000
    
    
    $
    2,191,000
    
    
    $
    1,797,000
    
    
    
    456
    %
 Interest expense increased substantially in 2004 due to the factors
described in the three month period above. Non-Cash Charges to Interest Expense consisted of:  
    
    $166,000 of amortized deferred financing costs, which
contributed to reducing the original $475,000 balance of deferred
financing costs to $164,000 at September 30, 2004;
    
    $111,000 of non-cash charges to record the discount to
valuation incurred when making the principal and interest
repayment in stock rather than cash;
    
    $1,650,000 of amortized debt discount, which contributed
to reducing the $4,116,000 of debt discount on our $5,000,000 note
to $1,822,000 at September 30, 2004. This debt discount is
comprised of the items listed in the three month period above. Net Loss Nine Months Ended
    
    Nine Months EndedSept 30, 2003
    
    Sept 30, 2004
    
    $ Change
    
    % ChangeNet Loss
    
    $
    5,604,000
    
    
    $
    8,633,000
    
    
    $
    3,029,000
    
    
    
    54
    %
 The net loss increased primarily due to increased selling, general and
administrative expenses and increased interest expense discussed above, offset
by the increase in revenues. Liquidity and Capital Resources Our
operating activities used cash in the first nine months of 2003 and
2004 primarily to fund our Net Losses excluding non-cash charges. The non-cash
charges are due to amortization of debt discount and deferred charges related
to our convertible debt. Summary Cash Flow Nine Months Ended
    
    Nine Months EndedSept 30, 2003
    
    Sept 30, 2004Net Loss
    
    $
    (5,604,000
    )
    
    $
    (8,633,000
    )Non-cash Charges
    
    
    509,000
    
    
    
    2,398,000Changes in Assets and Liabilities
    
    
    (46,000
    )
    
    
    278,000Net Operating Uses
    
    
    (5,141,000
    )
    
    
    (5,957,000
    )Net Investment Uses
    
    
    (158,000
    )
    
    
    (163,000
    )Net Financing Sources
    
    
    4,453,000
    
    
    
    5,651,000Foreign exchange effect
    
    
    88,000
    
    
    
    (13,000
    )Change in cash and cash equivalents
    
    $
    (758,000
    )
    
    $
    (482,000
    )
 17




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To the extent our direct sales represent a larger percentage of total
sales, U.S. accounts receivable will have different characteristics in the
future because they will represent receivables from physicians rather than from
distributors. While we do not have enough data to be certain, we expect that
the Days Sales Outstanding (DSO) may increase due to this trend. As of the
quarter ended September 30, 2004, DSO was approximately 39 days versus
approximately 43 days for the comparable period of 2003. With more regular and
smaller shipments to individual physicians, we will be exposed to a greater
volume of transactions in the future which we expect to improve our
concentration of credit risk but this benefit may be offset by an extended
collection cycle. We have incurred losses from operations since our inception. We have
financed our operations primarily through private and public offerings of our
equity securities, through funded development and marketing agreements and
through product sales. Of our $88 million accumulated deficit, essentially all
was financed with various equity-related securities. At September 30, 2004, we
had cash and cash equivalents of $7,036,000 and working capital of $5,144,000.
Based on our current rate of cash utilization, our cash at September 30, 2004
is expected to fund operations through at least June 2005 provided we pay
interest and principal on our Convertible Debenture in stock. The primary source of the additional capital we raised in 2002, 2003 and
2004 has been equity and convertible debt, and we expect that equity-related
instruments will continue to be our principal source of additional capital.
After 2004, we will likely need to raise additional capital through third party
financing of debt or equity in order to fund our operations. We will
continue to seek to raise additional capital and will consider various
financing alternatives, including equity or debt financings convertible into
equity and corporate partnering arrangements. We do not expect to raise
significant debt capital over the next two years because our Convertible
Debenture has a prohibition against any debt having a ranking senior to the
Convertible Debenture. Since we are obliged to retire the Convertible
Debenture over the next 18 months and are permitted to do so with common stock
under certain circumstances, this constraint on our financing choices should be
removed by the end of the first quarter of 2006. While we have been successful
in raising adequate equity capital to fund our operations, numerous factors
could adversely affect our ability to do so in the future and could affect the
our operations adversely. See Factors That May Affect Future Results    We
will need to obtain additional capital in the future and if we are unable to
obtain such capital on acceptable terms, or at the appropriate time, we may not
be able to continue our existing operations. Any future equity financings will dilute the ownership interest of our
existing investors and may have an adverse impact on the price of our common
stock. As of September 30, 2004, our fully diluted as if converted capital
structure was as follows: Common stock outstanding
    
    
    42,406,000Stock reserved for converting debentures
    
    
    2,420,000Stock reserved for warrant exercises
    
    
    4,565,000Stock reserved for outstanding stock options
    
    
    2,614,000Stock reserved for employee stock purchase plan issuances
    
    
    212,000Stock reserved for existing stock option and incentive plans
    
    
    1,984,000Total
    
    
    54,201,000
 The above table does not include shares we may use for payment of interest
on our Convertible Debenture or the extra shares which may be required if we
redeem the debenture rather than the holder converting it. We plan to use our
common stock to pay such interest and to redeem the debenture if it is not
converted, and such use of our common stock will result in further dilution,
particularly if our share price declines significantly. The above chart also
does not include any additional shares we may be required to issue if we engage
in a financing transaction which is deemed to be an anti-dilutive issuance
under the terms of our Convertible Debenture or other future financings. In
the event we have an anti-dilutive issuance, we may not be permitted to make
payments of interest or principal on our Convertible Debenture in which case we
will require additional financing. Our authorized common stock is 90 million shares. Our shareholders
authorized 30 million additional shares of stock (from 60 million shares to 90
million shares) at our Annual Meeting of Stockholders held on June 11, 2004.
However, if our shareholders do not authorize additional stock at other times
when we may request such authorization, we may be unable to issue adequate
amounts of additional equity to finance the Company appropriately. If we do
not receive additional financing or do not receive an adequate amount of
additional financing, we will be required to curtail our expenses by reducing
sales staff, research and/or marketing or to take other steps that could hurt
our future performance, including but not limited to, the premature sale of
some or all of our assets or product lines on undesirable terms, merger with or
acquisition by another company on unsatisfactory terms or the cessation of
operations. Any of the foregoing steps will have a material adverse effect on
our business, financial condition and results of operations. There can be no
assurance that capital will be available on terms acceptable to us, if at all. 18




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Financings On March 19, 2004, we completed a private placement of 4,858,887 shares of
our common stock at a price of $1.35 and warrants to purchase 1,214,725 shares
of our common stock at a price of $2.00 per share for an aggregate
consideration of $6,559,500 (before cash commissions and expenses of
approximately $713,000). In addition we issued warrants to various placement
agents for a total of 434,475 shares at an exercise price of $2.00 per share.
The warrants issued as part of this private placement are exercisable until
March 19, 2009. This sale has also been deemed to be a dilutive issuance under
the terms of the Convertible Debentures and our March 2003
Warrants. As a result, the Convertible Debentures became convertible
into 3,183,902 shares of our common stock at a price of $1.51 per
share, representing an increase of 612,944 shares from the conversion
terms of the debenture immediately prior to the transaction. The Convertible Debentures were convertible on September 30, 2004 into
2,419,764 shares of our common stock at a price of $1.51 per share. The March 2003 Warrants are exercisable to
purchase shares of our common stock at a price of $1.35 per share. We calculated an additional beneficial conversion charge totaling approximately
$1,339,000 which was recorded as an additional debt discount in the first
quarter of 2004 and will be amortized over the remaining life of the debt. We have no material capital expenditure commitments. Contractual Obligations In August 2004, we entered into a sublicense agreement with Abbott
Laboratories, effective as of April 1, 2004, to license certain United States
and foreign patent rights covering our BladderChek Test point of care product.
Pursuant to this sublicense agreement, we have made an initial payment and have
committed to making further payments on account of our past and future sales of
point of care products. In April 2001, we entered into a letter agreement with Unotech
Diagnostics, Inc., pursuant to which that company is currently our sole source
supplier for certain components and processes for our BladderChek Test, the
sales of which now account for more than 50% of our revenues. Off Balance Sheet Arrangements Currently, we have no off balance sheet arrangements. Critical Accounting Policies and Estimates These financial statements have been prepared in conformity with
accounting principles generally accepted in the United States. Preparation of
these statements requires management to make judgments and estimates. Some
accounting policies have a significant impact on amounts reported in these
financial statements. A summary of our significant accounting policies and a
description of accounting policies that are considered critical is contained in
our 2003 Annual Report on Form 10-K, filed on March 30, 2004, in the Notes to
Consolidated Financial Statements, Note 1 and the Critical Accounting Policies
section. Research and Development We are engaged in the research, production and marketing of cancer
diagnostic products. All of our research and development expenditures, whether
conducted by our own staff or by external scientists on our behalf and at our
expense, are recorded as expenses as incurred and amounted to approximately
$44.8 million for the period since our inception in October of 1987 through
September 30, 2004. Research and development expenses include the salaries and
related overhead of our research personnel, laboratory supplies, payments to
third parties to help us execute clinical trials, depreciation of research
related equipment, legal expenses related to filing and prosecuting patents,
other direct expenses and an allocation of our occupancy and related expenses
based on the square footage occupied by our research and development staff and
their laboratories. Our research and development scientists typically are assigned to one
project at a time but may also provide support for other projects. In
addition, our various programs share a substantial amount of our common fixed
costs such as facility depreciation, utilities and maintenance. All of our
research and development programs are similar in nature as they are based on
our common protein discovery technology and a significant finding in any one
cancer type may provide a similar benefit across all programs. Accordingly, we
do not track our research and development costs by individual research and
development programs. 19




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Development Programs The table below summarizes our development programs, including stage of
development and current FDA status. ClinicalProgram
    
    Technology Format
    
    Application
    
    Stage of Development
    
    FDA StatusNMP22 Bladder
    
    Lab Test Kit
    
    Monitoring
    
    Commercialized
    
    ApprovedNMP22 Bladder
    
    Lab Test Kit
    
    Diagnosis
    
    Commercialized
    
    ApprovedNMP22 Bladder
    
    Point Of Care Test
    
    Monitoring
    
    Commercialized
    
    ClearedNMP22 Bladder
    
    Point Of Care Test
    
    Diagnosis
    
    Commercialized
    
    ApprovedNMP179 Cervical
    
    Non-Slide-Based Cellular
    
    Screening
    
    Licensee Sysmex is
    
    *Analysis System
    
    
    
    conducting furtherproduct developmentNMP66 Breast
    
    Proprietary Laboratory Procedure
    
    Not Determined
    
    Development Agreement
    
    **with MitsubishiKagaku Iatron, Inc.NMP66 Breast
    
    Lab Test Kit
    
    Not Determined
    
    Research & Development
    
    *NMP66 Breast
    
    Point Of Care Test
    
    Not Determined
    
    Research & Development
    
    *NMP48 Prostate
    
    Proprietary Laboratory Procedure
    
    Not Determined
    
    Research & Development
    
    **NMP48 Prostate
    
    Lab Test Kit
    
    Not Determined
    
    Research & Development
    
    *NMP48 Prostate
    
    Point Of Care Test
    
    Not Determined
    
    Research & Development
    
    *NMP35 Colon
    
    All
    
    Not Determined
    
    Inactive
    
    **  *
  *
    
    If submitted for a screening or diagnosis application, FDA will likely require Premarket Approval (PMA). If submitted as a
monitoring test, FDA may only require Premarket Clearance (510(k)).**
    
    If offered (as intended) as a service, an FDA submission may not be required. If the service includes a reagent such as an antibody provided
by a party other than the laboratory conducting the test, the FDA will likely require an Analyte Specific Reagent notification at a minimum. In May 2004, Sysmex Corporation announced the commencement of preclinical
trials of a non-slide-based cellular analysis system incorporating our NMP179
technology. If Sysmexs preclinical and anticipated clinical trials are
successful, it is Sysmexs goal to make this technology commercially available
in the U.S. in 2006. It is our goal to begin clinical trials in 2004 using our
NMP66 technology. Spending on Research and Development Projects.Total research and
development spending in the third quarter of 2004 was approximately $662,000.
We expect research and development expenditures to be less than $3 million in
2004 and less than $ 4.5 million in 2005 and to be devoted to our various
programs as discussed below. NMP22  Bladder.Except for sponsoring additional clinical trials to
demonstrate different ways to use the information generated by the products, we
do not currently plan to incur any significant additional research spending on
any of these products. We do expect to spend, from time to time, funds for
product support and manufacturing improvement which are not expected to exceed
$750,000 over 2004 and 2005. NMP179  Cervical.Discovery research on this product was completed prior
to 2000 and our expenditures in 2002, 2003 and 2004 have been principally for
technical support of the licensing activity. Substantially all future costs to
support additional research and development of this product are expected to be
paid for by Sysmex. If we incur any additional costs in connection with this
program, we expect such costs to be aimed at licensing this technology to a
company with a slide-based cervical cancer detection system. 20




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Breast and Prostate Cancer.Over the next two years, research and
development funds will be spent principally to develop both products and
services for breast and prostate cancer, to improve the controls,
reproducibility and costs of our mass spectrometry technology and to further
develop our ligand binding based technology for Lab Test Kits and Point Of Care
Tests. Development of NMP66 products and services for breast cancer has
received greater emphasis in 2004 than development of products and services for
our NMP48 technology. Depending on the ongoing results of our programs we will make decisions on
how to proceed and will consider options including, but not limited to,
terminating certain activities, licensing the technology to third parties or
selling the technology to third parties. As a result of these uncertainties
surrounding these projects we cannot reasonably estimate the likelihood of
reaching commercialization goals set forth in the table above. The nature,
timing and costs of the efforts to reach those goals, and the amount or timing
of the net cash inflows of our individual programs are not possible to predict. Factors That May Affect Future Results Our future financial and operational results are subject to a number of
material risks and uncertainties that may affect such results or conditions,
including: We have a history of operating losses, are continuing to lose money and may never be profitable. We have incurred operating losses since we began operations in 1987.
These losses have resulted principally from costs incurred in research and
development and from selling, general and administrative costs associated with
our market development and selling efforts. Our accumulated deficit from
inception through September 30, 2004 is approximately $88 million. Our product
sales and net losses for each of the past three fiscal years and the first nine
months of 2004 have been: Nine Months Ended
    
    Year Ended
    
    Year Ended
    
    Year EndedSept 30, 2004
    
    Dec 31, 2003
    
    Dec 31, 2002
    
    Dec 31, 2001Product Sales
    
    $
    4,893,000
    
    
    $
    4,018,000
    
    
    $
    3,094,000
    
    
    $
    2,341,000Net Losses
    
    $
    8,633,000
    
    
    $
    7,878,000
    
    
    $
    8,278,000
    
    
    $
    8,731,000
 We expect to continue to incur additional operating losses in the future
as we continue to develop new products and seek to commercialize the results of
our research and development efforts. Our ability to achieve long-term
profitability is dependent upon our success in those development and
commercializing efforts. We do not believe we will be profitable in the
foreseeable future. We will need to obtain additional capital in the future and if we are
unable to obtain such capital on acceptable terms, or at the appropriate time,
we may not be able to continue our existing operations. We do not currently generate revenues sufficient to operate our business
and do not believe we will do so in the foreseeable future. In our quarter
ended September 30, 2004, we had a net loss of $2.7 million, and as of
September 30, 2004, we only had $7 million of cash and cash equivalents. As a
result, we must rely on our ability to raise capital from outside sources in
order to continue operations in the short-term and long-term. In March 2003 we
completed a sale of Convertible Debentures and accompanying warrants, in
October and November 2003 we completed a sale of common stock and accompanying
warrants, and in March 2004 we completed a sale of common stock and
accompanying warrants. We will continue to seek to raise additional capital
through various financing alternatives, including equity or debt financings and
corporate partnering arrangements. However, we may not be able to raise needed
capital on terms that are acceptable to us, or at all. The terms of our 2003 sales of Convertible Debentures and common stock
greatly restrict our ability to raise capital. Under the terms of our
Convertible Debenture financing, we are prohibited from entering into
obligations that are senior to the debentures. The purchasers of the common
stock sold in the fall of 2003 also have rights, under the terms of those
financings, to participate in our future financings. These provisions may
severely limit our ability to attract new investors and raise additional
financing on acceptable terms. In addition, in order to attract such new
investors and obtain additional capital, we may be forced to provide rights and
preferences to new investors which are not available to current shareholders. 21




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If we do not receive an adequate amount of additional financing in the
future, we may be unable to meet any cash payment obligations required by the
Convertible Debentures, or we may be required to curtail our expenses or to
take other steps that could hurt our future performance, including but not
limited to, the premature sale of some or all of our assets or product lines on
undesirable terms, merger with or acquisition by another company on
unsatisfactory terms or the cessation of operations. We have substantial indebtedness and may not be able to meet our payment
obligations. As a result of the 2003 sale of Convertible Debentures, we substantially
increased our indebtedness from approximately $475,000 at the end of 2002 to
$1.8 million at September 30, 2004. The fair value of the Convertible
Debentures at September 30, 2004 as estimated by management is approximately
$3.3 million. The $1.8 million carrying value in the Companys financial
statements at September 30, 2004 reflects discounts related to beneficial
conversion charges calculated in accordance with EITF Issue No. 00-27. The Convertible Debentures permit us to make interest and principal
payments in shares of common stock instead of cash, but only if (i) we are not
in default under the terms of the Convertible Debentures, (ii) there is an
effective registration statement covering such shares, (iii) our common stock
is listed on one of American Stock Exchange, New York Stock Exchange, Nasdaq
National Market or Nasdaq SmallCap Market, (iv) we have provided proper notice
of our election to make payments in stock and have made payment of all other
amounts then due under the Convertible Debentures, (v) the issuance of such
shares would not cause the holders to own more than 9.999% of the outstanding
shares of our common stock, (vi) no public announcement of a change of control
or other reclassification transaction has been made and (vii) we have
sufficient authorized but unissued and unreserved shares to satisfy all share
issuance obligations under the March 2003 financing. If we are not able to
make interest and principal payments on the debentures in shares of stock, such
payments must be made in cash and, unless we are able to raise additional
capital from another source, we may not have sufficient funds to make such
payments. If we make such payments in stock, however, it will result in
significant dilution. In addition, the Convertible Debentures require us to pay interest and
liquidated damages and may become immediately due and payable at a premium of
120% of the outstanding principal amount plus accrued interest and damages in
the event we default under their terms. Potential defaults would include,
among other things:  
    
    our inability to make payments as they become due;
    
    failure to remain listed on any of the Nasdaq SmallCap Market,
New York Stock Exchange, American Stock Exchange or the Nasdaq
National Market;
    
    sale or disposition of our assets in excess of 33% of our total assets;
    
    failure to timely deliver stock certificates upon conversion; and
    
    default on our existing or future liabilities in excess of $150,000. If we default under the terms of the Convertible Debentures, we probably
will not be able to meet our payment obligations. In addition, the increased
level of our indebtedness could, among other things:  
    
    make it difficult for us to make payment on this debt and other obligations;
    
    make it difficult for us to obtain future financing;
    
    require redirection of significant amounts of cash flow from operations to service our indebtedness;
    
    require us to take measures such as the reduction in scale of
our operations that might hurt our future performance in order to
satisfy our debt obligations; and
    
    make us more vulnerable to bankruptcy. The operations of our European subsidiary involve currency exchange
variability and other risks. Matritech GmbH, our European subsidiary, accounted for approximately 58%
of our product sales for the third quarter of 2004. Accounts of our European
subsidiary are maintained in Euros and are translated into U.S. Dollars. To
the extent that foreign currency exchange rates fluctuate in the future, we may
be exposed to significant financial variability, both favorable and
unfavorable. During the third quarter of 2004, exchange rate fluctuations were
favorable compared to the same quarter last year as indicated in the
Managements Discussion and Analysis of Financial Condition and Results of
Operations. However, rate changes in the future may lead to unfavorable
results. 22




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In addition, although we have integrated the operations of this subsidiary
since its acquisition in June 2000, we still must coordinate geographically
separate organizations, manage personnel with disparate business backgrounds
and conduct business in a different regulatory and corporate culture. It
remains to be seen whether the use of this subsidiary to spearhead the
marketing effort of our products in Europe will be successful in the long-term. Our cash requirements have significantly increased to support a larger
employee sales force, to pay for order processing, shipping and collection
costs normally borne by distributors, to finance the accounts receivable from
physician practices that likely will be collected over a longer cycle, and
distribution arrangements for sale of our BladderChek Test are not
well-established. Since November, 2003 we have had the responsibility for sales of
BladderChek Tests to urologists in the U.S., including invoicing and collecting
the revenue from sales. We have increased our sales and marketing expenditures
and added order processing, shipping and collection resources to perform
functions which have in the past been performed by our U.S. distributor. We
have limited experience in performing these functions in the United States to
support sales directly to physicians, and the time and cost to develop these
resources combined with the risk that they may not function effectively
increases the risk that the rate of sales growth for our BladderChek Test will
slow. Sales of products directly to physicians may result in larger accounts
receivable and longer collection cycles than sales to distributors and
increases the risk that accounts receivable will not be collected. Carrying
larger accounts receivable balances and assuming greater collection risk may
also increase our financing requirements. We rely primarily on distributors to market BladderChek Tests in
territories other than the U.S. and Germany, but our history with our
distributors is limited and we do not know whether they will achieve
substantial sales levels of our products. The failure of our distributors to
successfully market our products in territories other than the U.S. and Germany
could have significant adverse effects on our future revenues. We compete with other methods of diagnosing cancer that are in existence
or may be successfully developed by others and our technology may not prevail. Although we are not aware of any other company using nuclear matrix
protein technology in commercial diagnostic or therapeutic products,
competition in the development and marketing of cancer diagnostics and
therapeutics, using a variety of technologies, is intense. Many pharmaceutical
companies, biotechnology companies, public and private universities and
research organizations actively engage in the research and development of
cancer diagnostic products. Many of these organizations have greater
financial, manufacturing, marketing and human resources than we do. We expect that our Lab Test Kits and our Point Of Care Tests will compete
with existing FDA-approved tests, such as tests known as BTA and UroVysion
bladder cancer tests, which have been approved for monitoring bladder cancer
and may become approved for diagnosis of bladder cancer; a test known as CEA,
which is used primarily for monitoring colorectal and breast cancers; a test
known as CA19.9, which is used primarily for monitoring colorectal and gastric
cancers; a test known as PSA, which is used primarily for monitoring and
screening prostate cancer; tests known as TRUQUANT® BR RIA, CA15.3 and CA27.29,
which are used for monitoring breast cancer; and cervical specimen collection
and analysis systems known as ThinPrep® (Cytyc) and SurePath (TriPath Imaging).
We are also aware of a number of companies that have announced that they are
engaged in developing cancer diagnostic products based upon oncogene
technology. Our diagnostic products will also compete with more invasive or
expensive procedures such as minimally invasive surgery, bone scans, magnetic
resonance imaging and other in vivo imaging techniques. In addition, other
companies may introduce competing diagnostic products based on alternative
technologies that may adversely affect our competitive position. As a result,
our products may become less competitive, obsolete or non-competitive. Healthcare reform measures, third-party reimbursement policies and
physician or hospital preferences could limit the per-product revenues for our
products in certain territories and make it uneconomical to sell or distribute
them. Our ability to successfully convert market opportunities into significant
sales for our products depends in part on the extent to which adequate
reimbursement for the services based on our products will be available from
government healthcare reimbursement authorities (such as Medicare in the United
States), private health insurers and other third-party payors. In most
countries, no reimbursement of any medical device (or a service based on a
medical device) is typically provided by any insurance carrier, whether public
or private, if the device or service has not received approval for clinical use
from that nations healthcare product regulatory authorities (such as the FDA
in the United States). Even if the use of a device or the performance of a
service has been previously approved for reimbursement, some insurance carriers
and healthcare plans may decide not to continue to reimburse it at all, not to
continue to reimburse it for certain medical applications and/or to decrease
the reimbursement amount. If we develop a Proprietary Laboratory Procedure for
the US market that does not require FDA 23




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approval, we do not expect third-party reimbursement until we obtain FDA
approval for a product which generates similar clinical data. Even if we obtain FDA approval for a product in the US, there is no
assurance that we will receive similar approvals from national healthcare
product regulatory authorities in other countries. If we obtain such approvals
in other countries, reimbursement levels could be so low that it would put
pressure on us to reduce our prices. Such low reimbursement would make our
products much less profitable and, in the extreme, could make it uneconomical
for us and/or our distributor to sell the product at all in those countries.
If such a low reimbursement were to occur in the United States or in Germany,
it could substantially reduce our revenues and increase our losses. On the
other hand, reimbursement approval, if provided in a lower but adequate amount,
could potentially broaden the number of patients who could afford the product
or service. We believe this has occurred in the United States as reimbursement
has been obtained in most states. We expect that reimbursement approval will
be obtained in some other countries where our products are sold, but do not
believe reimbursement rates in all countries will be as favorable as in the US.
Reimbursement approval for the BladderChek Test has not yet occurred in the
principal countries of Asia and Europe, including Germany, where the
BladderChek Tests are being sold or are in the regulatory process to secure
approval from national product regulatory authorities. Healthcare reform is an area of continuing attention and a priority of
many governmental officials. In the United States, Medicare has frozen
reimbursement for clinical laboratory tests at 2003 levels and future changes
could impose limitations on the prices we will be able to charge for our
products or the amount of reimbursement available for our products from
governmental agencies or third-party payors. While we cannot predict whether
any legislative or regulatory proposals will be adopted or the effect that such
proposals could have on our business, the announcement or adoption of such
proposals could reduce the profitability of our business and as a result could
have a negative effect on our stock price because of investor reactions. The preferences of physicians, hospitals, clinics and other customers may
also limit our per-product revenue because their profit expectations when
purchasing our product may influence their use and ordering behavior.
Physicians have developed an expectation for generating profits when they
purchase devices for use at their practice. To the extent that we are unable to
price our products to achieve physician profit expectations, sales of our
devices may suffer. We and our distributors are subject to extensive government regulation
which adds to the cost and complexity of our business, may result in unexpected
delays and difficulties, may impose severe penalties for violations and may
prevent the ultimate sale or distribution of our products in certain countries. The FDA and many foreign governments stringently regulate the medical
devices that we manufacture and that we and our distributors market to
physicians or other customers. The FDA regulates the clinical testing,
manufacture, labeling, distribution and promotion of medical devices in the
United States and agencies in the European Union, Japan and other countries
where we sell our products each have their own regulations. If our products do
not receive appropriate approvals from medical device regulatory authorities in
any country, we can not sell our products in that country, either on our own or
through any distributor. Any products that we or our suppliers manufacture or distribute in
accordance with FDA approvals are subject to stringent regulation by the FDA,
including:  
    
    keeping records and reporting adverse experiences with the use
of the devices we make and distribute;
    
    registering our establishments and listing our devices with the
FDA. Manufacturing establishments are subject to periodic
inspections by the FDA and certain state agencies; and
    
    requiring our products to be manufactured in accordance with
complex regulations known as Quality System Regulations which include
procedural and documentation requirements for our manufacturing and
quality assurance activities. If we fail to comply with any FDA requirement, we may face a number of
costly and/or time consuming enforcement actions, including:  
    
    fines;
    
    injunctions;
    
    civil penalties;
    
    recall or seizure of products;
    
    total or partial suspension of production; 24




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
    
    delay or refusal of the agency to grant premarket clearance or
premarket approval for other devices in our development pipeline;
    
    withdrawal of marketing approvals; and
    
    criminal prosecution. The FDA and foreign governmental agencies have the authority to request
the repair, replacement or refund of the cost of any device that we manufacture
or distribute if it is faulty. Failure to comply with medical device and
quality regulations in countries outside the United States where we sell our
products can result in fines, penalties, seizure or return of products and the
inability to sell the product in those countries either on our own or through
our distributors. Labeling and promotional activities are subject to scrutiny in the United
States by the FDA and, in certain instances, by the Federal Trade Commission,
and by regulatory bodies in most countries outside the United States where we
sell products. For example, our Lab Test Kit has received FDA approval and may
be promoted by us only as an aid in the management of patients with bladder
cancer or as a diagnostic aid for use for previously undiagnosed individuals
who have symptoms of or are at risk for bladder cancer. The FDA actively
enforces regulations prohibiting the promotion of devices for unapproved uses
and the promotion of devices for which premarket approval has not been
obtained. Consequently, for example, we cannot promote the Lab Test Kit or the
BladderChek Test for any unapproved use. In addition to federal regulations regarding manufacture and promotion of
medical devices, we are also subject to a number of state laws and regulations
which may hinder our ability to market our products in those states or
localities. Manufacturers in general are also subject to numerous federal,
state and local laws relating to such matters as safe working conditions,
manufacturing practices, environmental protection, fire hazard control, and
disposal of hazardous or potentially hazardous substances. We may be required
to incur significant costs to comply with these laws and regulations in the
future, which could increase future losses or reduce future profitability. We have no demonstrated success in developing cellular analysis systems
and any future success in this area will be highly dependent upon Sysmex. We believe the future success of our business will also depend, in part,
upon Sysmex Corporation developing a satisfactory Cellular Analysis System to
be used to measure clinically useful cervical disease proteins. Even if Sysmex
completes its product development efforts to its satisfaction, it is expected
to face significant obstacles (including but not limited to those set forth in
Factors That May Affect Future Results  Successful technical development of
our products does not guarantee successful commercialization.) in developing a
system which will be approved by the FDA and selling such systems to cervical
cancer testing laboratories at a satisfactory price. Our success in cervical
disease Cellular Analysis Systems is almost completely dependent on the success
of Sysmex in utilizing our technology and on its ability to educate physicians,
patients, insurers and its distributors about the medical utility of the new
products. Even if Sysmex successfully educates the market, competing products
may prevent Sysmex from gaining wide market acceptance of its products. Our inability to develop and commercialize additional products may
adversely affect our ability to achieve profitability. We believe that our ability to achieve profitability in the future is
greatly dependent on producing additional revenue-generating products. Other
than the NMP22 products and allergy and other diagnostic products distributed
by our European subsidiary, none of our products is close enough to
commercialization to be expected to generate revenue in the foreseeable future,
if at all. If we are unable to successfully develop and commercialize other
products, the future prospects for our business, sales and profits will be
materially impaired. In addition, if we are unable to develop and
commercialize additional products and diversify our revenue streams, greater
pressure will be placed on the performance of existing products and our
business success will be directly related to success or failure of these few
products. We may incur substantially greater costs and timing delays than we
currently expect in the development process. From time to time, we have encountered unexpected technical obstacles and
may encounter additional ones in the course of the development process that we
may not be able to overcome or may only overcome if we expend additional funds
and time. For example, in 1997 we elected to terminate development of a
blood-based Lab Test Kit for PC1, a candidate marker for prostate cancer, due
to unexpected difficulties. Despite encouraging initial results from an
earlier low throughput research testing method, we were unable to develop such
a kit for use in testing prostate cancer patients even when we employed 1997
state-of-the-art detection methods. We have subsequently announced that a
different set of proteins (NMP48), discovered using a different research
method, would be the primary candidates in our prostate cancer program. More
recently, we and others have observed that the testing methodologies of a low
throughput research mass spectrometry instrument are not readily 25




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reproducible or transferable to high throughput mass spectrometry instruments.
This has required us to try a number of changes in our procedures to improve
controls, reproducibility and costs in order to measure these proteins. Such
changes in our technology and procedures may result in products or services
that cannot reproduce our original discovery results or that do not perform at
all or do not perform as well as the results reported using our discovery
research procedure. The research results we obtain in the laboratory frequently cannot be
replicated in clinical trials. Investors should not expect products that we commercialize to perform as
well as preliminary discovery research results in the small numbers of samples
reported by us. In large-scale clinical trials, such as those required by the
FDA, we expect to encounter greater variability and risks including but not
limited to:  
    
    obtaining acceptable specimens from patients and healthy
individuals;
    
    testing a much larger population of individuals than we tested in
early discovery which will be likely to demonstrate the inherent
biologic variability;
    
    preparing the specimens properly for testing using lower cost, high
throughput methods which may be less reliable than those used in early
discovery; and
    
    developing an economic and reproducible test method for the
substance to be measured. We believe that testing the final product in a clinical setting will
result in product performance which may not be as accurate as the results
reported from the discovery phase. Therefore, the best comparative data to be
used in evaluating our product development programs are the results of
physician trials of commercial products such as those reported since 1996 for
products based on NMP22 proteins. We have no demonstrated success in developing Proprietary Laboratory
Procedures as a profitable service business and any future success will be
dependent upon satisfaction and approval of our clinical lab partners. We believe the future success of our business will depend not only on the
successful commercialization of our Lab Test Kits and BladderChek Tests, but
also in part upon developing a service business based on Proprietary Laboratory
Procedures which will be custom designed to the instrumentation and techniques
of a specific clinical laboratory to measure clinically useful proteins. We
are currently working on development of such Proprietary Laboratory Procedures
using our technologies for breast cancer, but we have no demonstrated success
in this area. In addition, because we expect that use of our Proprietary
Laboratory Procedures will likely be confined to a limited number of licensed
clinical laboratories who would be expected to invest in the development and
marketing of a lab testing service specific to their equipment, processes and
personnel, the success of these procedures will be dependent upon acceptance by
the applicable laboratories. Although we may complete our product development
efforts to our satisfaction, we may not obtain the agreement and approval from
our clinical lab partner that the technology works adequately in their
laboratory environment or that it has the medical performance and information
value that they originally expected. Because Proprietary Laboratory Procedures
utilize technologies which are, by their nature, more operator-dependent than
the technologies involved in products such as Lab Test Kits and BladderChek
Tests, the risks regarding successful commercial acceptance are increased in
this area. Successful technical development of our products does not guarantee
successful commercialization. We may successfully complete technical development for one or all of our
product development programs, but still fail to develop a commercially
successful product for a number of other reasons, such as the following:  
    
    failure to obtain the required regulatory approvals for their use;
    
    prohibitive production costs;
    
    clinical trial results might differ from discovery phase data; and
    
    variation of perceived value of products from physician to physician. Our success in the market for the diagnostic products we develop will also
depend greatly on our ability to educate physicians, patients, insurers and our
distributors on the medical utility of our new products. Even if we
successfully educate the market, competing products may prevent us from gaining
wide market acceptance of our products. If we are unable to manufacture the product volumes we need, we will be
unable to achieve profitability. 26




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We have been manufacturing and assembling our Lab Test Kits for commercial
sales since 1995 but have not yet manufactured these products in the large
volumes which will eventually be necessary for us to achieve profitability. We
may encounter difficulties in scaling up production of new products, including
problems involving:  
    
    production yields;
    
    quality control and assurance;
    
    component supply; and
    
    shortages of qualified personnel. These problems could make it very difficult to produce sufficient product
to satisfy customer needs and could result in customer dissatisfaction. We may
not be able to achieve reliable, high-volume manufacturing at a commercially
reasonable cost. In addition, numerous governmental authorities extensively
regulate our manufacturing operations. Failure to satisfy our future
manufacturing needs could result in decreased sales, loss of market share and
potential loss of certain distribution rights. If we lose the services of our suppliers or assemblers for any reason it
may be difficult for us to find replacements,
we may be forced to modify or cease production of our products and we may be
unable to meet customer commitments. We currently manufacture our Lab Test Kits and package our BladderChek
Tests in our Newton facility but we rely on subcontractors for certain
components and processes for each of these products. We do not currently have
alternative suppliers for certain key components and processes which are
provided by some subcontractors. If the units or components from these
suppliers or the services of these assemblers should become unavailable for
any reason, including their failure to comply with FDA regulations, we would
need to seek alternative sources of supply or assembly. In order to maintain
the FDA acceptance of our manufacturing process, we would have to demonstrate
to the FDA that these alternative sources of supply are equivalent to our
current sources. Although we attempt to maintain an adequate level of
inventory to provide for these and other contingencies, if our manufacturing
processes are disrupted because key components are unavailable, because new
components must be revalidated or because an assembler fails to meet our
requirements, we may be forced to modify our products to enable another
subcontractor to meet our sales requirements or we may be required to cease
production of such products altogether until we are able to establish an
adequate replacement supplier. Disruptive changes such as these may make us
unable to meet our sales commitments to customers. Our failure or delay in
meeting our sales commitments could cause sales to decrease and market share
to be lost permanently, and could result in significant expenses to obtain
alternative sources of supply or assembly with the necessary facilities and
know-how. If the products we distribute which are made by other companies should
become unavailable or not meet quality standards, we may lose revenues and
market share and may face liability claims. If the products we distribute, but do not manufacture, should become
unavailable for any reason, we would need to seek alternative sources of
supply. If we are unable to find alternative sources of an equivalent product
we may be required to cease distribution of this type of product, which could
cause revenues to decrease and market share to be lost permanently.
Furthermore, if products which we distribute, but do not manufacture, should be
found defective, we could be sued for product liability or other claims. During 2003, we received reports from customers that one of the products
we sell through our German subsidiary failed to perform correctly and provided
false readings on patients conditions. We believe the product performance
problems are being addressed by the manufacturer of the products and that the
manufacturer will accept responsibility for defective products. We have not
sought an alternate source of supply for this product line, but we have seen
decreased customer demand for these products during the first nine months of
2004 compared to the first nine months of 2003. Our revenues, profits and
market share for these products may be further adversely affected, and we may
face product liability and other claims if the manufacturer fails to
satisfactorily address all issues raised by our customers and the patients
affected. If we are sued for product-related liabilities, the cost could be
prohibitive to us. The testing, marketing and sale of human healthcare products entail an
inherent exposure to product liability, and third parties may successfully
assert product liability claims against us. Although we currently have
insurance covering our products, we may not be able to maintain this insurance
at acceptable costs in the future, if at all. In addition, our insurance may
not be sufficient to cover large claims. Significant product liability claims
could result in large and unexpected expenses as well as a costly distraction
of management resources and potential negative publicity and reduced demand for
our product. 27




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Our activities involve the use of hazardous materials, and we may be held
liable for any accidental injury from these hazardous materials. Our research and development and assembly activities involve the
controlled use of hazardous materials, including carcinogenic compounds.
Although we believe that our safety procedures for handling and disposing of
our hazardous materials comply with the standards prescribed by federal, state
and local laws and regulations, the risk of accidental contamination or injury
from these materials cannot be completely eliminated. In the event of an
accident, we could be held liable for damages that result, and significant and
unexpected costs, including costs related to liabilities and clean-up, costs
from increased insurance premiums or inability to obtain adequate insurance at
a reasonable price and costs from loss of operations during clean-up. If our intellectual property is not adequately protected, we could lose
our ability to compete in the marketplace. Protection of our intellectual property is necessary for the success of
our products. Patent protection can be limited and not all intellectual
property is or can be patent protected. We rely on a combination of patent,
trade secret and trademark laws, nondisclosure and other contractual provisions
and technical measures to protect the proprietary rights in our current and
planned products. We have little protection where we must rely on trade
secrets and nondisclosure agreements and our competitors independently develop
technologies that are substantially equivalent or superior to our technology.
If our competitors develop such technology and are able to produce products
similar to or better than ours, our market share could be reduced and our
revenue potential may decrease. While we have obtained patents where advisable, patent law relating to the
scope of certain claims in the biotechnology field is still evolving. In some
instances we have taken an aggressive position in seeking patent protection for
our inventions and in those cases the degree of future protection for our
proprietary rights is uncertain. In addition, the laws of certain countries in
which our products are, or may be, licensed or sold do not protect our products
and intellectual property rights to the same extent as the laws of the United
States. If our intellectual property infringes on the rights of others, we may be
forced to modify or cease production of our products. We believe that the use of the patents for nuclear matrix protein
technology owned by us or licensed to us and the use of our trademarks and
other proprietary rights, do not infringe upon the proprietary rights of third
parties. However, we may not prevail in any challenge of third-party
intellectual property rights, and third parties may successfully assert
infringement claims against us in the future. In addition, we may be unable to
acquire licenses to any of these proprietary rights of third parties on
reasonable terms. If our intellectual property is found to infringe upon other
parties proprietary rights and we are unable to come to terms with such
parties, we may be forced to modify our products to make them non-infringing or
to cease production of such products altogether. We may need to stop selling our BladderChek Tests if we cannot obtain a
license or a waiver to use the test strip technology. Our BladderChek Test uses test strips composed of an absorbent material
that will soak up urine from a small reservoir at one end of the container
housing the test strip and expose the urine to chemicals and antibodies
arranged on the surface of or imbedded in the test strip. After a short period
of time and after a reaction with our proprietary antibodies, a test result
will appear in a window located on the container housing the test strip. The
manufacture, use, sale, or import of point-of-care products which include this
test strip technology in certain jurisdictions will require us to obtain patent
licenses. We are currently selling BladderChek Tests and are attempting to
obtain appropriate licenses or waivers. In August, 2004, we entered into a
license agreement, effective as of April 1, 2004, with one holder of patent
rights, Abbott Laboratories, and we are continuing to explore other licensing
arrangements covering our BladderChek Tests. If we are unable to obtain patent
licenses to permit us to make, use, sell, or import such products in the United
States or in certain other jurisdictions, we will have to stop selling our
BladderChek Tests until the expiration of the relevant patents or until we are
able to arrive at a design solution that uses a different technology. In
addition, we may also be subject to litigation that seeks a percentage of the
revenues we have received from the sale of our BladderChek Tests. We have
accrued estimated royalties on sales of the BladderChek Test based on our
estimates of customary royalty rates but have received no assurances that such
accruals will be adequate to pay any royalties due if and when we complete all
required licensing agreements. If we lose or are unable to recruit and retain key management, scientific
and sales personnel, we may be unable to achieve our objectives in a timely
fashion. We need to attract and retain highly qualified scientific, sales and
management personnel. We have at any given time only about 70 employees. The
loss of multiple members of our key personnel, such as our scientists or our
field sales force, at the 28




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same time or within close proximity of each other, or the failure to
recruit the necessary additional personnel when needed with specific
qualifications and on acceptable terms might harm our research and development
efforts and/or our direct-to-the-urologist marketing strategy. We face intense
competition for qualified personnel from other companies, research and academic
institutions, government entities and other organizations. Our success is also greatly dependent on the efforts and abilities of our
management team. The simultaneous loss of multiple members of senior
management might delay achievement of our business objectives due to the time
that would be needed for their replacements to be recruited and become familiar
with our business. Market volatility and fluctuations in our stock price and trading volume
may cause sudden decreases in the value of an investment in our common stock. The market price of our common stock has historically been, and we expect
it to continue to be, volatile. This price has ranged between $1.00 and $2.48
in the fifty-two week period ended September 30, 2004. The stock market has
from time to time experienced extreme price and volume fluctuations,
particularly in the biotechnology sector, which have often been unrelated to
the operating performance of particular companies. Factors such as
announcements of technological innovations or new products by our competitors
or disappointing results by third parties, as well as market conditions in our
industry, may significantly influence the market price of our common stock.
For example, in the past our stock price has been affected by announcements of
clinical trial results and technical breakthroughs at other biotechnology
companies. Our stock price has also been affected by our own public
announcements regarding such things as quarterly earnings, regulatory agency
actions and corporate partnerships. Consequently, events both within and
beyond our control may cause shares of our stock to lose their value rapidly. In addition, sales of a substantial number of shares of our common stock
by stockholders could adversely affect the market price of our shares. In the
third quarter of 2004, our shares had an average daily trading volume of only
approximately 54,000 shares. In connection with our March 2004 private
placement of common stock and accompanying warrants, we filed a resale
registration statement covering up to 7,121,031 shares for the benefit of our
investors. In 2003, we filed resale registration statements covering up to
5,371,332 shares for the benefit of our investors in connection with the sale
of Convertible Debentures and accompanying warrants and an additional
approximately 5,419,000 shares for the benefit of our investors in a private
placement of common stock and accompanying warrants. We have also filed resale
registration statements in connection with previous private placements. The
actual or anticipated resale by such investors under these registration
statements may depress the market price of our common stock. Bulk sales of
shares of our common stock in a short period of time could also cause the
market price for our shares to decline. Future financings will result in additional dilution of the ownership
interest of our existing investors and may have an adverse impact on the price
of our common stock. We will need to raise additional capital in the future to continue our
operations. The primary source of the additional capital we raised in 2002,
2003 and 2004 has been equity and convertible debt, and we expect that
equity-related instruments will continue to be our principal source of
additional capital. In June 2004, our stockholders approved an increase in our
authorized common stock from 60,000,000 to 90,000,000 shares. This approval
provides us with greater flexibility in undertaking an additional financing
without the expense and delay of obtaining stockholder approval other than as
required by state law or American Stock Exchange requirements for the
particular transaction. Any future equity financings will dilute the ownership
interest of our existing investors and may have an adverse impact on the price
of our common stock. In addition, the terms of the Convertible Debentures provide for
anti-dilution adjustments. On October 15, 2003 and on November 6, 2003 we
completed a sale of 3,893,295 shares of our common stock and warrants to
purchase 1,362,651 shares of our common stock at a price of $2.45 per share for
an aggregate consideration of $6,501,801 (before cash expenses of approximately
$855,000). This sale was deemed to be a dilutive issuance under the terms of
the Convertible Debentures and our March 2003 Warrants. On March 19, 2004 we
completed a sale of 4,858,887 shares of our common stock and warrants to
purchase 1,214,725 shares of our common stock at a price of $2.00 per share for
an aggregate consideration of $6,559,500 (before cash expenses of approximately
$713,000). This sale has also been deemed to be a dilutive issuance under the
terms of the Convertible Debentures and our March 2003 Warrants.
As a result, the Convertible Debentures became convertible into
3,183,902 shares of our common stock at a price of $1.51 per share,
representing an increase of 612,944 shares from the conversion terms
of the debenture immediately prior to the transaction. The Convertible Debentures were convertible on September 30, 2004 into
2,419,764 shares of our common stock at a price of $1.51 per share. The March 2003 Warrants are
exercisable to purchase shares of our common stock at a price of $1.35 per
share. If we do a future financing at a price less than $1.35 per common share
(the New Base Price), the conversion rate of the Convertible Debentures will
be adjusted down to 112% of the New Base Price and additional shares of our
common stock would be issuable upon such conversion. The terms of the March
2003 Warrants also provide for anti-dilution protection, so 29




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that the exercise price for such warrants would be adjusted down to the
New Base Price in the event of a dilutive financing, or on a weighted-average
basis if there are no longer any Convertible Debentures outstanding. The
issuance of additional shares upon conversion of the Convertible Debentures
would result in further dilution of the ownership interest of our other
existing investors, and a decrease in the warrant exercise price may cause a
decline in our stock price. Conviction of our previous auditing firm means that we will not be able to
obtain a consent for inclusion of their auditor report in future SEC filings. Prior to July 17, 2002, Arthur Andersen LLP served as our independent
auditors. On March 14, 2002, Arthur Andersen was indicted on federal
obstruction of justice charges arising from the governments investigation of
Enron Corporation and on June 15, 2002, Arthur Andersen was found guilty and
subsequently has ceased practicing before the SEC. On July 17, 2002, we
dismissed Arthur Andersen and retained PricewaterhouseCoopers LLP as our
independent auditors for our fiscal year ended December 31, 2002. SEC rules
require us to present historical audited financial statements in various SEC
filings, such as registration statements, along with Arthur Andersens consent
to our inclusion of Arthur Andersens audit report in those filings. In light
of the cessation of Arthur Andersens practice, we will not be able to obtain
the consent of Arthur Andersen to the inclusion of Arthur Andersens audit
report in our future filings. The SEC has provided regulatory relief designed
to allow companies that file reports with the SEC to dispense with the
requirement to file a consent of Arthur Andersen in certain circumstances, but
purchasers of securities sold under our registration statements which were not
filed with the consent of Arthur Andersen to the inclusion of Arthur Andersens
audit report will not be able to sue Arthur Andersen pursuant to Section
11(a)(4) of the Securities Act of 1933 and therefore the purchasers right of
recovery under that section may be limited as a result of the lack of our
ability to obtain Arthur Andersens consent. 
 Item 3. Quantitative and Qualitative Disclosures About Market Risk. Investment Portfolio.We own financial instruments that are sensitive to
market and interest rate risks as part of our investment portfolio. The
investment portfolio is used to preserve our capital until it is required to
fund operations including our research and development activities. None of
these market risk sensitive instruments is held for trading purposes. Our
investment policy prohibits investing in derivatives, and we stringently adhere
to this policy. The interest rate on our
Convertible Debentures is fixed and therefore not subject to interest rate
risk. It is suggested that this paragraph be read in conjunction with Note 1
of Notes to the Consolidated Financial Statements  Operations and Significant
Accounting Policies of our Annual Report on Form 10-K for the year ended
December 31, 2003 filed with the SEC (File No. 001-12128). We invest our cash in securities classified as cash and cash equivalents.
At September 30, 2004, these securities totaled $7 million and included money
market accounts. Changes in interest rates affect the investment income we
earn on our investments and, therefore, impact our cash flows and results of
operations. A hypothetical 50 basis point decrease in interest rates would
result in a decrease in annual interest income and a corresponding increase in
net loss of approximately $27,000 for the nine months ended September 30, 2004. Foreign Exchange.The financial statements of Matritech GmbH are
translated in accordance with SFAS No. 52, Foreign Currency Translation. The
functional currency of our foreign subsidiary is the local currency (Euro), and
accordingly, all assets and liabilities of the foreign subsidiary are
translated using the exchange rate at the balance sheet date except for
intercompany receivables which are of long-term-investment nature, and capital
accounts which are translated at historical rates. Revenues and expenses are
translated monthly at the average rate for the month. Adjustments resulting
from the translation from the financial statements of the Matritech GmbH into
U.S. Dollars are excluded from the determination of net income and are
accumulated in a separate component of stockholders equity. Foreign currency
transaction gains and losses are reported in the accompanying consolidated
statements of operations and are immaterial to the results of operations. We
had sales denominated in foreign currency of approximately $1,088,000 and
$3,077,000, respectively, for the three month and nine
month periods ended September 30, 2004 as compared to sales denominated in
foreign currency of approximately $722,000 and $2,212,000, respectively, for
the three month and nine month periods ended September 30, 2003. 
 Item 4. Controls and Procedures. Evaluation of Disclosure Controls and Procedures. Our management, with the
participation of our Chief Executive Officer and Chief Financial Officer, has
evaluated the effectiveness of our disclosure controls and procedures (as
defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of
1934, as amended (the Exchange Act)), as of the end of the period covered by
this Quarterly Report on Form 10-Q. Based on such evaluation, our Chief
Executive Officer and Chief Financial Officer have concluded that as of such
date, our disclosure controls and procedures were designed to ensure that
information required to be disclosed by us in reports that we file or submit
under the Exchange Act is recorded, processed, summarized and reported within
the time periods specified in applicable SEC rules and forms and were
effective. 30




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Changes in Internal Control Over Financial Reporting. There was no change
in our internal control over financial reporting (as defined in Rules 13a-15(f)
and 15d-15(f) under the Exchange Act) that occurred during the period covered
by this Quarterly Report on Form 10-Q that has materially affected, or is
reasonably likely to materially affect, our internal control over financial
reporting. 
 PART II. OTHER INFORMATION 
 Item 6. Exhibits. Exhibits:10.1
    
    Sublicense Agreement executed in August 2004 by and between the Company and Abbott Laboratories.10.2
    
    Letter Agreement regarding Contract Manufacturing Arrangement between the Company and Unotech
Diagnostics, Inc. executed in April 2001.31.1
    
    Certification of Chief Executive Officer Pursuant to Rule 13a-14(a) under the Securities
Exchange Act of 1934.31.2
    
    Certification of Chief Financial Officer Pursuant to Rule 13a-14(a) under the Securities
Exchange Act of 1934.32.1
    
    Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.32.2
    
    Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
    
    Confidential Treatment has been requested as to omitted portions pursuant to Rule 24b-2
promulgated under the Securities Exchange Act of 1934, as amended. A complete copy of this
agreement is being filed separately with the SEC.
 31




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SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized. MATRITECH, INC.Date: November 3, 2004
    By:
    /s/ Stephen D. ChubbStephen D. ChubbDirector, Chairman and Chief Executive Officer
(principal executive officer) Date: November 3, 2004
    By:
    /s/ Richard A. SandbergRichard A. SandbergDirector, Vice President, Chief Financial
Officer and Treasurer
(principal accounting and financial officer) 32




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EXHIBIT INDEX Exhibit No:
    
    Description10.1
    
    Sublicense Agreement executed in August 2004 by and between
the Company and Abbott Laboratories.10.2
    
    Letter Agreement regarding Contract Manufacturing Arrangement
between the Company and Unotech Diagnostics, Inc. executed in
April 2001.31.1
    
    Certification of Chief Executive Officer Pursuant to Rule
13a-14(a) under the Securities Exchange Act of 1934.31.2
    
    Certification of Chief Financial Officer Pursuant to Rule
13a-14(a) under the Securities Exchange Act of 1934.32.1
    
    Certification of Chief Executive Officer Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.32.2
    
    Certification of Chief Financial Officer Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
    
    Confidential Treatment has been requested as to omitted
portions pursuant to Rule 24b-2 promulgated under the
Securities Exchange Act of 1934, as amended. A complete copy
of this agreement is being filed separately with the SEC.
 33