##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 FORM 10-Q
  þ
    
    Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934:
 For the quarterly period ended September 30, 2007
 OR
 o
    
    Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934:
 For
the transition period from
         to
 Commission file number: 001-12128
 Matritech, Inc.
 (Exact Name of Registrant as Specified in Its Charter)
 Delaware
    
    04-2985132(State or Other Jurisdiction of 
Incorporation or Organization)
    
    (I.R.S. Employer
Identification No.)
 330 Nevada Street, Newton, Massachusetts 02460
 (Address of Principal Executive Offices) (Zip Code)
 (617) 928-0820
 (Registrants Telephone Number, Including Area Code)
 Indicate by check mark whether the registrant: þ o
  o o þ
 o þ




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##### 



MATRITECH, INC.
 INDEX
 PagePART I FINANCIAL INFORMATIONItem 1. Financial Statements (Unaudited)Condensed Consolidated Balance Sheets as of December 31, 2006 and September 30, 2007
    
    
    3Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2006 and 2007
    
    
    4Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2006 and 2007
    
    
    5Notes to Unaudited Condensed Consolidated Financial Statements
    
    
    6Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    22Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
    
    39Item 4T. Controls and Procedures
    
    
    40PART II OTHER INFORMATIONItem 1A. Risk Factors
    
    
    40Item 6. Exhibits
    
    
    57SIGNATURES
    
    
    59EX-31.1 CERTIFICATION OF CEO PURSUANT TO RULE 13a-14(a)EX-31.2 CERTIFICATION OF CFO PURSUANT TO RULE 13a-14(a)EX-32.1 CERTIFICATION OF CEO PURSUANT TO SECTION 906EX-32.2 CERTIFICATION OF CFO PURSUANT TO SECTION 906
  2




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PART I.  FINANCIAL INFORMATION
 
 Item 1.  Financial Statements.
 MATRITECH, INC.
 
 CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
 December 31,
    
    
    September 30,2006
    
    
    2007ASSETSCurrent Assets:Cash and cash equivalents
    
    $
    1,460,403
    
    
    
    $2,795,969Accounts receivable less allowance of $152,043 and $79,505
in 2006 and 2007, respectively
    
    
    1,266,481
    
    
    
    1,504,559Inventories
    
    
    968,737
    
    
    
    1,069,276Prepaid expenses and other current assets
    
    
    140,338
    
    
    
    141,311Total current assets
    
    
    3,835,959
    
    
    
    5,511,115Property and equipment, net of accumulated depreciation of
$2,512,627 and $2,737,387 in 2006 and 2007, respectively
    
    
    768,038
    
    
    
    632,790Goodwill
    
    
    132,615
    
    
    
    132,615Debt issuance costs
    
    
    493,164
    
    
    
    203,457Other assets
    
    
    276,099
    
    
    
    234,793Total assets
    
    $
    5,505,875
    
    
    $
    6,714,770LIABILITIES, CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS DEFICITCurrent Liabilities:Current maturities of notes payable
    
    $
    17,884
    
    
    $
    19,963Current maturities of secured convertible notes
    
    
    3,298,976
    
    
    
    11,706,435Accounts payable
    
    
    1,271,534
    
    
    
    1,612,564Accrued expenses
    
    
    2,373,006
    
    
    
    2,834,695Deferred revenue
    
    
    156,335
    
    
    
    128,442Registration rights liability
    
    
    324,953
    
    
    
    Total current liabilities
    
    
    7,442,688
    
    
    
    16,302,099Notes payable, less current maturities
    
    
    26,740
    
    
    
    11,506Secured convertible notes, less current maturities
    
    
    68,487
    
    
    
    Deferred revenue
    
    
    640,346
    
    
    
    59,659Other long term liabilities
    
    
    123,754
    
    
    
    144,306Total liabilities
    
    
    8,302,015
    
    
    
    16,517,570Commitments and ContingenciesPreferred StockAuthorized  4,000,000 sharesDesignated as Series A Convertible Preferred, $1.00 par value  1,426,124 sharesIssued and outstanding  81,399 shares in 2006 and 2007Liquidation preference of $716,311 for Series A as of December 31, 2006 and September
30, 2007, respectively
    
    
    104,312
    
    
    
    104,312104,312
    
    
    
    104,312Stockholders Deficit:Common stock, $0.01 par valueAuthorized150,000,000 shares in 2006 and 2007Issued and outstanding56,759,061 shares in 2006 and 62,220,237 in 2007
    
    
    567,590
    
    
    
    622,202Additional paid-in capital
    
    
    106,313,122
    
    
    
    112,413,059Accumulated other comprehensive income
    
    
    140,633
    
    
    
    207,634Accumulated deficit
    
    
    (109,921,797
    )
    
    
    (123,150,007
    )Total stockholders deficit
    
    
    (2,900,452
    )
    
    
    (9,907,112
    )Total liabilities, convertible preferred stock and stockholders deficit
    
    $
    5,505,875
    
    
    $
    6,714,770
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MATRITECH, INC.
 
 CONSOLIDATED STATEMENTS OF OPERATIONS
 (UNAUDITED)
 Three Months Ended
    
    
    Nine Months EndedSeptember 30,
    
    
    September 30,2006
    
    
    2007
    
    
    2006
    
    
    2007Revenue:Product sales, net of allowances
    
    $
    2,805,390
    
    
    $
    3,363,393
    
    
    
    $8,483,598
    
    
    $
    10,010,558Alliance and collaboration revenue
    
    
    24,555
    
    
    
    621,035
    
    
    
    78,070
    
    
    
    687,240Total revenue
    
    
    2,829,945
    
    
    
    3,984,428
    
    
    
    8,561,668
    
    
    
    10,697,798Expenses:Cost of product sales
    
    
    741,172
    
    
    
    829,353
    
    
    
    2,280,204
    
    
    
    2,374,066Research & development and clinical & regulatory expense
    
    
    699,536
    
    
    
    506,867
    
    
    
    2,256,884
    
    
    
    1,740,169Selling, general and administrative expense
    
    
    3,529,489
    
    
    
    4,647,277
    
    
    
    10,667,968
    
    
    
    12,838,080Total operating expenses
    
    
    4,970,197
    
    
    
    5,983,497
    
    
    
    15,205,056
    
    
    
    16,952,315Loss from operations
    
    
    (2,140,252
    )
    
    
    (1,999,069
    )
    
    
    (6,643,388
    )
    
    
    (6,254,517
    )Interest income
    
    
    27,928
    
    
    
    9,079
    
    
    
    119,614
    
    
    
    48,893Interest expense
    
    
    (816,451
    )
    
    
    (2,838,693
    )
    
    
    (3,026,817
    )
    
    
    (7,347,538
    )Mark-to-market adjustment from registration rights
    
    
    (10,682
    )
    
    
    
    
    
    
    (48,589
    )
    
    
    Net loss
    
    $
    (2,939,457
    )
    
    $
    (4,828,683
    )
    
    $
    (9,599,180
    )
    
    $
    (13,553,162
    )Basic and diluted net loss per common share
    
    $
    (0.05
    )
    
    $
    (0.08
    )
    
    
    (0.18
    )
    
    $
    (0.22
    )Basic and diluted weighted average number of common shares outstanding
    
    
    56,142,146
    
    
    
    61,782,909
    
    
    
    54,044,348
    
    
    
    60,333,461
  4




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MATRITECH, INC.
 
 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
 (UNAUDITED)
 Nine Months EndedSeptember 30,2006
    
    
    2007Cash Flows from Operating Activities:Net loss
    
    $
    (9,599,180
    )
    
    $
    (13,553,162
    )Adjustments to reconcile net loss to net cash used in operating activities:Depreciation
    
    
    206,615
    
    
    
    204,923Amortization of debt discount
    
    
    1,861,842
    
    
    
    4,509,071Accretion of premium on debt
    
    
    
    
    
    
    694,797Amortization of deferred charges
    
    
    316,475
    
    
    
    684,473Stock option expense
    
    
    107,552
    
    
    
    124,505Restricted stock and restricted stock unit expense
    
    
    41,750
    
    
    
    19,953Issuance of common stock for interest on convertible debentures and secured convertible
notes
    
    
    12,811
    
    
    
    1,197,938Non-cash interest expense
    
    
    829,593
    
    
    
    1,291,776Mark-to-market adjustment on registration rights
    
    
    48,589
    
    
    
    Non-cash expense related to bonus plan
    
    
    27,245
    
    
    
    39,812Provision for bad debts
    
    
    51,772
    
    
    
    (1,556
    )Changes in assets and liabilities:Accounts receivable
    
    
    272,600
    
    
    
    (197,612
    )Inventories
    
    
    (367,287
    )
    
    
    (70,217
    )Prepaid expenses and other assets
    
    
    62,792
    
    
    
    40,331Accounts payable
    
    
    (103,068
    )
    
    
    341,314Accrued expenses and other liabilities
    
    
    245,893
    
    
    
    (387,934
    )Deferred revenue
    
    
    (150,234
    )
    
    
    (608,580
    )Net cash used in operating activities
    
    
    (6,134,240
    )
    
    
    (5,670,168
    )Cash Flows from Investing Activities:Purchases of property and equipment
    
    
    (88,648
    )
    
    
    (62,378
    )Net cash used in investing activities
    
    
    (88,648
    )
    
    
    (62,378
    )Cash Flows from Financing Activities:Payments on notes payable
    
    
    (20,690
    )
    
    
    (13,155
    )Payments on secured convertible notes
    
    
    
    
    
    
    (205,247
    )Payments on warrant buy-back
    
    
    
    
    
    
    (31,373
    )Proceeds from sale of secured promissory note, net of issuance costs
    
    
    
    
    
    
    3,444,100Proceeds from issuance of secured convertible notes and warrants, net of issuance costs
    
    
    6,184,053
    
    
    
    3,845,500Proceeds from exercise of warrants
    
    
    39,896
    
    
    
    Net cash provided by financing activities
    
    
    6,203,259
    
    
    
    7,039,825Effect of foreign exchange on cash and cash equivalents
    
    
    15,622
    
    
    
    28,287Increase in cash and cash equivalents
    
    
    (4,007
    )
    
    
    1,335,566Cash and cash equivalents, beginning of period
    
    
    1,789,792
    
    
    
    1,460,403Cash and cash equivalents, end of period
    
    $
    1,785,785
    
    
    $
    2,795,969Supplemental Cash Flow Information:Cash paid during the period for interest
    
    $
    10,388
    
    
    $
    40,472Supplemental Disclosure of Non-cash Financing and Investing Activities:Beneficial conversion feature on secured convertible notes
    
    $
    2,974,292
    
    
    $
    1,671,466Issuance of common stock as payment of principal on convertible debentures:Number of shares issued
    
    
    1,215,304
    
    
    
    Payment on debt in dollars
    
    $
    769,231
    
    
    $
    Issuance of common stock as payment of interest on convertible debentures:Number of shares issued
    
    
    15,950
    
    
    
    Payment on debt in dollars
    
    $
    12,020
    
    
    $
    Issuance of common stock as payment of principal on the 2006 secured convertible notes:Number of shares issued
    
    
    
    
    
    
    3,081,185Payment on debt in dollars
    
    $
    
    
    
    $
    1,458,988Issuance of common stock as payment of interest on the 2006 secured convertible notes:Number of shares issued
    
    
    
    
    
    
    2,286,070Payment on debt in dollars
    
    $
    
    
    
    $
    1,197,939Conversion of 487,852 and 0 shares of convertible preferred stock to 6,133,000 and 0 shares of common stock in 2006 and 2007, respectively
    
    $
    625,183
    
    
    $
    Registration rights liability recorded as a debt discount
    
    $
    305,829
    
    
    $
    Allocation of $1,285,000 and $542,000 closing cost related to the 2006 and 2007 secured convertible notes:Registration rights liability
    
    $
    35,505
    
    
    $
    2006 and 2007 secured convertible notes (recorded in other assets)
    
    $
    912,403
    
    
    $
    394,765Purchase warrants (recorded in additional paid in capital)
    
    $
    337,712
    
    
    $
    147,356Payment of closing cost related to the 2006 and 2007 secured convertible notes with issuance of warrant to Placement Agent
    
    $
    471,700
    
    
    $
    22,620Warrants issued to stockholders and recorded as debt discount to the 2006 and 2007 secured convertible notes
    
    $
    1,807,876
    
    
    $
    1,186,466Conversion of 2006 secured convertible notes into common stock
    
    $
    785,000
    
    
    $
    Purchase of fixed assets through capital lease
    
    $
    40,783
    
    
    $
    
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MATRITECH, INC.
 
 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 1. Operations and Basis of Presentation
     6




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®
 7




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2. Summary of Significant Accounting Policies
 (a) Principles of Consolidation
  (b) Inventories
  December 31,
    
    
    September 30,2006
    
    
    2007Raw materials
    
    $
    195,724
    
    
    $
    156,920Work-in-process
    
    
    10,647
    
    
    
    20,226Finished goods
    
    
    752,605
    
    
    
    881,566Consignment inventory
    
    
    9,761
    
    
    
    10,564$
    968,737
    
    
    $
    1,069,276
 (c) Revenue Recognition
  December 31,
    
    
    September 30,2006
    
    
    2007Collaboration fees
    
    $
    706,038
    
    
    $
    85,459Deferred product revenue
    
    
    90,643
    
    
    
    102,642$
    796,681
    
    
    $
    188,101
  (d) Comprehensive Loss
  Three Months Ended
    
    
    Nine Months EndedSeptember 30,
    
    
    September 30,2006
    
    
    2007
    
    
    2006
    
    
    2007Net loss
    
    $
    (2,939,457
    )
    
    $
    (4,828,683
    )
    
    $
    (9,599,180
    )
    
    $
    (13,553,162
    )Other comprehensive loss:Foreign currency translation adjustments
    
    
    (20,414
    )
    
    
    40,013
    
    
    
    45,894
    
    
    
    67,001Comprehensive loss
    
    $
    (2,959,871
    )
    
    $
    (4,788,670
    )
    
    $
    (9,553,286
    )
    
    $
    (13,486,161
    )
 8




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(e) Stock-Based Compensation
 Share-Based Payment
 (f) Net Loss per Common Share
 Earnings per Share
 (g) Recent Accounting Pronouncements
 Accounting for Uncertainty in Income Taxesan Interpretation of FASB Statement No.
109
   3.  Stockholders Deficit
  9




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Warrant Repurchase
    4. Convertible Debentures Issued March 2003
  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
    )Additional beneficial conversion feature recorded in the first quarter of 2005 as debt discount
    
    
    (442,000
    )Cumulative principal payments made in stock
    
    
    (5,000,000
    )Add back:Cumulative amortization of debt discount and beneficial conversion features
    
    
    4,558,000Balance, March 31, 2006
    
    $
    
   10




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5. Secured Convertible Notes
 2006 Secured Convertible Notes Issued January 2006
   Allocation of
    
    
    Allocation ofof
    
    
    AssociatedInstrument
    
    Proceeds
    
    
    Costs2006 Secured Convertible Notes
    
    $
    4,884,000
    
    
    $
    912,0002006 Purchaser Warrants
    
    
    1,808,000
    
    
    
    337,000Registration Rights Liability
    
    
    306,000
    
    
    
    36,000$
    6,998,000
    
    
    $
    1,285,000
   Application of Issue No. 98-5 to Certain Convertible Instruments
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Face Value of 2006
Secured
    
    
    
    
    
    Value Allocated to 2006Convertible Notes
    
    $
    6,998,000
    
    
    Secured Convertible Notes
    
    $
    4,884,000Shares Upon Conversion
    
    
    10,766,092
    
    
    Shares Upon Conversion
    
    
    10,766,092Conversion Price
    
    $
    0.65
    
    
    Effective Conversion Price
    
    $
    0.454
  Closing Price January 13, 2006
    
    $
    0.73Effective Conversion Price
    
    $
    0.454Discount to Market per Share
    
    $
    0.276Shares Upon Conversion
    
    
    10,766,092Beneficial Conversion Feature
    
    $
    2,975,000
       12




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Proceeds at closing in January 2006
    
    $
    6,998,000Less:Fair value ascribed to the 2006 Purchaser Warrants
    
    
    (1,808,000
    )Fair value of Registration Rights Liability
    
    
    (306,000
    )Beneficial conversion feature calculated on date of closing and recorded as debt discount
    
    
    (2,975,000
    )Carrying value at closing in January 2006
    
    
    1,909,000Add back:Cumulative principal payments made in stock
    
    
    (2,339,000
    )Cumulative principal payments made in cash
    
    
    (55,000
    )Cumulative amortization of debt discount and beneficial conversion features
    
    
    4,626,000Cumulative accretion of premium
    
    
    174,000Less:Additional beneficial conversion feature calculated and recorded as debt discount
    
    
    (208,000
    )Balance, September 30, 2007
    
    $
    4,107,000
  Total payments
    
    $
    5,752,000Less: Portion related to periodic interest payments
    
    
    (398,000
    )Non-cash interest related to debt discount
    
    
    (671,000
    )Portion related to premium payments
    
    
    (576,000
    )Balance, September 30, 2007
    
    $
    4,107,000Current portion
    
    $
    4,107,000
 Accounting for
Registration Payment Arrangements Accounting for Contingencies Accounting for Derivative Instruments and Hedging Activities Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity Guarantors Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others, to include scope exceptions for registration payment
arrangements.
 13




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2007 Secured Convertible Notes Issued January 2007
        14




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
    
    our failure to make payments as they become due;
    
    our failure to remain listed on any of the Nasdaq Markets, New York Stock Exchange
(NYSE) or AMEX;
    
    our failure under certain circumstances to have an effective registration statement
available (after a valid demand for registration) for resale of the shares upon
conversion of the 2007 Secured Convertible Notes;
    
    failure to timely remove restrictive legends from any stock certificates delivered
upon conversion;
    
    our written notice or public announcement of the intention not to issue shares upon
conversion;
    
    our making an assignment for the benefit of creditors, or applying for or consenting
to the appointment of a receiver or trustee for a substantial portion of our property
or business or that of any subsidiary;
    
    bankruptcy, insolvency or similar proceedings being filed by or against us or any
subsidiary;
    
    a sale or disposition of substantially all our assets;
    
    our default on our existing or future liabilities in excess of $250,000, including
the 2006 Secured Convertible Notes; and
    
    a breach of any material term of any other transaction document we entered into with
the purchasers of the 2007 Secured Convertible Notes.
  15




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Allocation of
    
    
    Allocation ofOf
    
    
    AssociatedInstrument
    
    Proceeds
    
    
    Costs2007 Secured Convertible Notes
    
    $
    3,178,000
    
    
    $
    395,0002007 Purchaser Warrants
    
    
    1,187,000
    
    
    
    147,000$
    4,365,000
    
    
    $
    542,000
    Face Value of 2007 Secured
    
    
    
    
    
    Value Allocated to 2007Convertible Notes
    
    $
    4,365,000
    
    
    Secured Convertible Notes
    
    $
    3,178,000Shares Upon Conversion
    
    
    6,928,571
    
    
    Shares Upon Conversion
    
    
    6,928,571Conversion Price
    
    $
    0.63
    
    
    Effective Conversion Price
    
    $
    0.459
  Closing Price January 22, 2007
    
    $
    0.70Effective Conversion Price
    
    $
    0.459Discount to Market per Share
    
    $
    0.241Shares Upon Conversion
    
    
    6,928,571Beneficial Conversion Feature
    
    $
    1,670,000
  16




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##### Table of Contents



Proceeds at closing in January 2007
    
    $
    4,365,000Less:Fair value ascribed to the 2007 Purchaser Warrants
    
    
    (1,187,000
    )Beneficial conversion feature calculated on date of closing and recorded as debt discount
    
    
    (1,670,000
    )Carrying value at closing in January 2007
    
    
    1,508,000Add back:Cumulative principal payments made in stock
    
    
    Cumulative principal payments made in cash
    
    
    (150,000
    )Cumulative amortization of debt discount and beneficial conversion features
    
    
    2,221,000Cumulative accretion of premium
    
    
    265,000Balance, September 30, 2007
    
    $
    3,844,000
  Total payments
    
    $
    5,954,000Less: Portion related to periodic interest payments
    
    
    (548,000
    )Non-cash interest related to debt discount
    
    
    (636,000
    )Portion related to premium payments
    
    
    (926,000
    )Balance, September 30, 2007
    
    $
    3,844,000Current portion
    
    $
    3,844,000
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6. Notes Payable
   ®
  
    
    our failure to make payments as they become due;
    
    our making an assignment for the benefit of creditors, or applying for or consenting
to the appointment of a receiver or trustee for a substantial portion of our property
or business or that of any subsidiary;
    
    bankruptcy, insolvency or similar proceedings being filed by or against us or any
subsidiary;
    
    our default on our existing or future liabilities in excess of $250,000, including
the Secured Convertible Notes; and
    
    a breach of any material term of any other transaction document we entered into with
the purchasers of the Series C Notes.
 18




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Proceeds at closing in August 2007
    
    $
    3,500,000Add back:Cumulative accretion of premium
    
    
    256,000Balance, September 30, 2007
    
    $
    3,756,000
  Total payments
    
    $
    4,670,000Less: Portion related to interest payments
    
    
    (155,000
    )Portion related to premium payments
    
    
    (759,000
    )Balance, September 30, 2007
    
    $
    3,756,000Current portion
    
    $
    3,756,000
 7. Stock-Based Compensation
   Three Months Ended
    
    
    Nine Months EndedSeptember 30,
    
    
    September 30,2006
    
    
    2007
    
    
    2006
    
    
    2007Cost of product sales
    
    $
    2,646
    
    
    $
    2,836
    
    
    $
    6,751
    
    
    $
    8,401Research & development and clinical & regulatory expense
    
    
    9,225
    
    
    
    10,400
    
    
    
    25,010
    
    
    
    27,135Selling, general and administrative expense
    
    
    55,072
    
    
    
    54,013
    
    
    
    144,786
    
    
    
    148,734Stock-based compensation expense included in net loss
    
    $
    66,943
    
    
    $
    67,249
    
    
    $
    176,547
    
    
    $
    184,270
 19




---



##### Table of Contents



Weighted AverageExercise Price PerNumber of Options
    
    
    ShareOptions outstanding, December 31, 2006
    
    
    2,947,767
    
    
    $
    1.92Granted
    
    
    773,166
    
    
    
    0.49Exercised
    
    
    
    
    
    
    Terminated
    
    
    (257,637
    )
    
    
    1.87Options outstanding, September 30, 2007
    
    
    3,463,296
    
    
    $
    1.60
 Restricted Stock and Restricted Stock Units
  Number ofShares/UnitsUnvested at December 31, 2006
    
    
    474,352Granted
    
    
    142,251Vested
    
    
    (89,857
    )Forfeitures
    
    
    (29,400
    )Unvested at September 30, 2007
    
    
    497,346Weighted average fair value of restricted stock and
restricted stock units granted in 2007
    
    $
    0.56
 8. Contingencies
 Intellectual Property Rights
  20




---



##### Table of Contents



9. Accrued Expenses
  December 31,
    
    
    September 30,2006
    
    
    2007Payroll and related costs
    
    $
    659,809
    
    
    $
    1,152,740Professional fees
    
    
    218,865
    
    
    
    402,381Interest on Secured Convertible Notes
    
    
    889,844
    
    
    
    722,754Royalties
    
    
    203,236
    
    
    
    122,994Deferred offering costs
    
    
    10,402
    
    
    
    51,482Other
    
    
    390,850
    
    
    
    382,344$
    2,373,006
    
    
    $
    2,834,695
 10. Asset Sale
      21




---



##### Table of Contents




    
    the timing of sales of Inverness common stock by us and the proceeds received by us in
connection with such sales;
    
    our operating costs until the closing; and
    
    the costs we will incur and be required to pay on and after the closing such as
transaction fees, obligations to employees, taxes, obligations related to liabilities not
assumed by Inverness, obligations related to funding the Company through dissolution and
any claims that may arise during the dissolution process.
  
 Item 2.  Managements Discussion and Analysis of Financial Condition and Results of Operations.
  Overview
   22




---



##### Table of Contents



®
 ® ®
  Results of Operations
 Quarter Ended September 30, 2006 (Q3 2006) Compared with Quarter Ended September 30, 2007 (Q3
2007)
 Revenues
 Q3 2006
    
    
    Q3 2007
    
    
    $ Change
    
    
    % ChangeProduct Sales (net of allowances):NMP22 BladderChek Test Sales
    
    $
    2,327,000
    
    
    $
    2,935,000
    
    
    $
    608,000
    
    
    
    26
    %NMP22 Lab Test Kit Sales
    
    
    265,000
    
    
    
    196,000
    
    
    
    (69,000
    )
    
    
    (26
    %)Other Product Sales
    
    
    213,000
    
    
    
    232,000
    
    
    
    19,000
    
    
    
    9
    %Total Product Sales
    
    
    2,805,000
    
    
    
    3,363,000
    
    
    
    558,000
    
    
    
    20
    %Alliance and Collaboration Revenue
    
    
    25,000
    
    
    
    621,000
    
    
    
    596,000
    
    
    
    2,384
    %Total Revenue
    
    $
    2,830,000
    
    
    $
    3,984,000
    
    
    $
    1,154,000
    
    
    
    41
    %
 23




---



##### Table of Contents



December 31, 2006
    
    
    September 30, 2007
    
    
    $ Change
    
    
    % ChangeAlliance and Collaboration Revenue
    
    $
    706,000
    
    
    $
    85,000
    
    
    $
    (621,000
    )
    
    
    (88
    %)Deferred Product Revenue
    
    
    91,000
    
    
    
    103,000
    
    
    
    12,000
    
    
    
    13
    %$
    797,000
    
    
    $
    188,000
    
    
    $
    (609,000
    )
    
    
    (76
    %)
   Cost of Product Sales
 Q3 2006
    
    
    Q3 2007
    
    
    $ Change
    
    
    % ChangeProduct Sales
    
    $
    2,805,000
    
    
    $
    3,363,000
    
    
    $
    558,000
    
    
    
    20
    %Cost of Product Sales
    
    
    741,000
    
    
    
    829,000
    
    
    
    88,000
    
    
    
    12
    %Gross Profit on Product Sales
    
    $
    2,064,000
    
    
    $
    2,534,000
    
    
    $
    470,000
    
    
    
    23
    %Gross Profit Margin on
Product Sales
    
    
    74
    %
    
    
    75
    %Cost of Product Sales as a %
of Product Sales
    
    
    26
    %
    
    
    25
    %
 24




---



##### Table of Contents



Research & Development and Clinical & Regulatory Expenses
 Q3 2006
    
    Q3 2007
    
    $ Change
    
    % ChangeResearch &
Development and
Clinical &
Regulatory Expenses
    
    $
    700,000
    
    
    $
    507,000
    
    
    $
    (193,000
    )
    
    
    (28
    %)
  Selling,
General and Administrative Expenses (SG&A)
 Q3 2006
    
    Q3 2007
    
    $ Change
    
    % ChangeSG&A
    
    $
    3,529,000
    
    
    $
    4,647,000
    
    
    $
    1,118,000
    
    
    
    32
    %
  Operating Loss
 Q3 2006
    
    Q3 2007
    
    $ Change
    
    % ChangeOperating Loss
    
    $
    2,140,000
    
    
    $
    1,999,000
    
    
    $
    (141,000
    )
    
    
    (7
    %)
  Interest Income
 Q3 2006
    
    Q3 2007
    
    $ Change
    
    % ChangeInterest Income
    
    $
    28,000
    
    
    $
    9,000
    
    
    $
    (19,000
    )
    
    
    (68
    %)
 25




---



##### Table of Contents



Interest Expense
 Q3 2006
    
    
    Q3 2007
    
    
    $ Change
    
    
    % ChangeInterest Related to Secured Convertible Notes and Secured
Promissory Notes:Interest on Debt
    
    $
    236,000
    
    
    $
    1,078,000
    
    
    $
    842,000
    
    
    
    357
    %Non-Cash Charges to Interest Expense
    
    
    575,000
    
    
    
    1,755,000
    
    
    
    1,180,000
    
    
    
    205
    %Total
    
    $
    811,000
    
    
    $
    2,833,000
    
    
    $
    2,022,000
    
    
    
    249
    %Interest Related to Other Debt:Interest Paid in Cash
    
    $
    5,000
    
    
    $
    6,000
    
    
    $
    1,000
    
    
    
    20
    %Total Interest Expense
    
    $
    816,000
    
    
    $
    2,839,000
    
    
    $
    2,023,000
    
    
    
    248
    %
    Series C Notes
   Value of NotesPrincipal Value Series C Notes
    
    $
    3,500,0002007 Accretion of Premium
    
    
    256,000Payments in Cash
    
    
    Carrying Value of Series C Notes at 9/30/07
    
    $
    3,756,000
 2007 Secured Convertible Notes
  26




---



##### Table of Contents




    
    $102,000 of amortized deferred financing costs, which reduced the original
$395,000 balance of deferred financing costs to $88,000 at September 30, 2007; and
 
    
    $735,000 of amortized debt discount, which reduced the $2,857,000 of debt
discount to $636,000 at September 30, 2007.
  Value of NotesPrincipal Value 2007 Secured Convertible Notes
    
    $
    4,365,000Discounts Recorded in 2007
    
    
    (2,857,000
    )2007 Amortization of Discounts
    
    
    2,221,0002007 Accretion of Premium
    
    
    265,000Payments in Stock
    
    
    Payments in Cash
    
    
    (150,000
    )Carrying Value of 2007 Secured Convertible Notes at 9/30/07
    
    $
    3,844,000
 2006 Secured Convertible Notes
   
    
    $133,000 of amortized deferred financing costs, which contributed to the
reduction of the original $912,000 of deferred financing costs to $116,000 at
September 30, 2007;
 
    
    $774,000 of amortized debt discount, which contributed to the reduction of the
$5,296,000 of debt discount to $670,000 at September 30, 2007; and
 
    
    $10,000 of non-cash charges to record the discount from fair value when making
the principal and interest repayments on the 2006 Secured Convertible Notes in stock
rather than cash.
  Value of NotesPrincipal Value of Debt
    
    $
    6,998,000Discounts Recorded in 2006
    
    
    (5,089,000
    )2006 Amortization of Discounts
    
    
    2,338,000Payments in Stock
    
    
    (880,000
    )Carrying Value of Debt at 12/31/06
    
    $
    3,367,000Discounts Recorded in 2007
    
    
    (208,000
    )2007 Amortization of Discounts
    
    
    2,287,0002007 Accretion of Premium
    
    
    174,000Payment in Stock
    
    
    (1,458,000
    )Payment in Cash
    
    
    (55,000
    )Carrying Value of Debt at 9/30/07
    
    $
    4,107,000
 27




---



##### Table of Contents



Mark-to-Market Adjustment From Registration Rights
 Q3 2006
    
    Q3 2007
    
    $ Change
    
    % ChangeMark-To-Market
Adjustment From
Registration Rights
    
    $
    11,000
    
    
    $
    
    
    
    $
    (11,000
    )
    
    
    (100
    %)
  Net Loss
 Q3 2006
    
    Q3 2007
    
    $ Change
    
    % ChangeNet Loss
    
    $
    2,939,000
    
    
    $
    4,829,000
    
    
    $
    1,890,000
    
    
    
    64
    %
  Nine Months Ended September 30, 2006 Compared with Nine Months Ended September 30, 2007
 Revenues
 Nine Months
    
    
    Nine MonthsEnded September
    
    
    Ended September30, 2006
    
    
    30, 2007
    
    

$ Change
    
    
    % ChangeProduct Sales (net of allowances):NMP22 BladderChek Test Sales
    
    $
    6,944,000
    
    
    $
    8,409,000
    
    
    $
    1,465,000
    
    
    
    21
    %NMP22 Lab Test Kit Sales
    
    
    804,000
    
    
    
    822,000
    
    
    
    18,000
    
    
    
    2
    %Other Product Sales
    
    
    736,000
    
    
    
    780,000
    
    
    
    44,000
    
    
    
    6
    %Total Product Sales
    
    
    8,484,000
    
    
    
    10,011,000
    
    
    
    1,527,000
    
    
    
    18
    %Alliance and Collaboration Revenue
    
    
    78,000
    
    
    
    687,000
    
    
    
    609,000
    
    
    
    781
    %Total Revenue
    
    $
    8,562,000
    
    
    $
    10,698,000
    
    
    $
    2,136,000
    
    
    
    25
    %
   28




---



##### Table of Contents



December 31, 2006
    
    
    September 30, 2007
    
    
    $ Change
    
    
    % ChangeAlliance and Collaboration Revenue
    
    $
    706,000
    
    
    $
    85,000
    
    
    $
    (621,000
    )
    
    
    (88
    %)Deferred Product Revenue
    
    
    91,000
    
    
    
    103,000
    
    
    
    12,000
    
    
    
    13
    %$
    797,000
    
    
    $
    188,000
    
    
    $
    (609,000
    )
    
    
    (76
    %)
   Cost of Product Sales
 Nine Months
    
    
    Nine MonthsEnded September
    
    
    Ended September30, 2006
    
    
    30, 2007
    
    

$ Change
    
    
    % ChangeProduct Sales
    
    $
    8,484,000
    
    
    $
    10,011,000
    
    
    $
    1,527,000
    
    
    
    18
    %Cost of Product Sales
    
    
    2,280,000
    
    
    
    2,374,000
    
    
    
    94,000
    
    
    
    4
    %Gross Profit on Product Sales
    
    $
    6,204,000
    
    
    $
    7,637,000
    
    
    $
    1,433,000
    
    
    
    23
    %Gross Profit
Margin on Product Sales
    
    
    73
    %
    
    
    76
    %Cost of
Product Sales as a % of Product Sales
    
    
    27
    %
    
    
    24
    %
  29




---



##### Table of Contents



Research & Development and Clinical & Regulatory Expenses
 Nine Months
    
    Nine MonthsEnded September
    
    Ended September30, 2006
    
    30, 2007
    
    $ Change
    
    % ChangeResearch &
Development and
Clinical &
Regulatory Expenses
    
    $
    2,257,000
    
    
    $
    1,740,000
    
    
    $
    (517,000
    )
    
    
    (23
    %)
  Selling, General and Administrative Expenses
 Nine Months
    
    Nine MonthsEnded September
    
    Ended September30, 2006
    
    30, 2007
    
    $ Change
    
    % ChangeSG&A
    
    $
    10,688,000
    
    
    $
    12,838,000
    
    
    $
    2,150,000
    
    
    
    20
    %
  Operating Loss
 Nine Months
    
    Nine MonthsEnded September
    
    Ended September30, 2006
    
    30, 2007
    
    $ Change
    
    % ChangeOperating Loss
    
    $
    6,643,000
    
    
    $
    6,255,000
    
    
    $
    (388,000
    )
    
    
    (6
    %)
  Interest Income
 Nine Months
    
    Nine MonthsEnded September
    
    Ended September30, 2006
    
    30, 2007
    
    $ Change
    
    % ChangeInterest Income
    
    $
    120,000
    
    
    $
    49,000
    
    
    $
    (71,000
    )
    
    
    (59
    %)
 30




---



##### Table of Contents



Interest Expense
 Nine Months
    
    
    Nine MonthsEnded September
    
    
    Ended September30, 2006
    
    
    30, 2007
    
    
    $ Change
    
    
    % ChangeInterest Related to Convertible Debentures, Secured
Convertible Notes and Secured Promissory Notes:Interest on Debt
    
    $
    707,000
    
    
    $
    1,754,000
    
    
    $
    1,047,000
    
    
    
    148
    %Non-Cash Charges to Interest Expense
    
    
    2,310,000
    
    
    
    5,581,000
    
    
    
    3,271,000
    
    
    
    142
    %Total
    
    $
    3,017,000
    
    
    $
    7,335,000
    
    
    $
    4,318,000
    
    
    
    143
    %Interest Related to Other Debt:Interest Paid in Cash
    
    $
    10,000
    
    
    $
    13,000
    
    
    $
    3,000
    
    
    
    30
    %Total Interest Expense
    
    $
    3,027,000
    
    
    $
    7,348,000
    
    
    $
    4,321,000
    
    
    
    143
    %
    Series C Notes
   Value of NotesPrincipal Value Series C Notes
    
    $
    3,500,0002007 Accretion of Premium
    
    
    256,000Payments in Cash
    
    
    Carrying Value of Series C Notes at 9/30/07
    
    $
    3,756,000
 2007 Secured Convertible Notes
  31




---



##### Table of Contents




    
    $307,000 of amortized deferred financing costs, which reduced the original
$395,000 balance of deferred financing costs to $88,000 at September 30, 2007; and
    
    $2,221,000 of amortized debt discount, which reduced the $2,857,000 of debt
discount to $636,000 at September 30, 2007.
  Value of NotesPrincipal Value 2007 Secured Convertible Notes
    
    $
    4,365,000Discounts Recorded in 2007
    
    
    (2,857,000
    )2007 Amortization of Discounts
    
    
    2,221,0002007 Accretion of Premium
    
    
    265,000Payments in Stock
    
    
    Payments in Cash
    
    
    (150,000
    )Carrying Value of 2007 Secured Convertible Notes at September 30, 2007
    
    $
    3,844,000
 2006 Secured Convertible Notes
   
    
    $378,000 of amortized deferred financing costs, which contributed to the
reduction of the original $912,000 of deferred financing costs to $116,000 at
September 30, 2007;
    
    $2,287,000 of amortized debt discount, which contributed to the reduction of the
$5,296,000 of debt discount to $670,000 at September 30, 2007; and
    
    $388,000 of non-cash charges to record the discount from fair value when making
the principal and interest repayments on the 2006 Secured Convertible Notes in stock
rather than cash.
  Value of NotesPrincipal Value of Debt
    
    $
    6,998,000Discounts Recorded in 2006
    
    
    (5,089,000
    )2006 Amortization of Discounts
    
    
    2,338,000Interest and Principal Payments in Stock
    
    
    (880,000
    )Carrying Value of Debt at December 31, 2006
    
    $
    3,367,000
 32




---



##### Table of Contents



Value of NotesDiscounts Recorded in 2007
    
    
    (208,000
    )2007 Amortization of Discounts
    
    
    2,287,0002007 Accretion of Premium
    
    
    174,000Payment in Stock
    
    
    (1,458,000
    )Payment in Cash
    
    
    (55,000
    )Carrying Value of Debt at September 30, 2007
    
    $
    4,107,000
 March 2003 Convertible Debentures
   
    
    $7,000 of amortized deferred financing costs, which contributed to the reduction
of the $475,000 deferred financing costs to $0 at March 31, 2006;
    
    $132,000 of non-cash charges to record the discount from fair value when making
the principal and interest repayments on the Convertible Debentures in stock rather
than cash; and
    
    $134,000 of amortized debt discount, which contributed to the reduction of the
$4,558,000 of debt discount on our $5,000,000 Note to $0 at March 31, 2006. This
debt discount comprises the following: the fair value allocated to the warrants
issued in conjunction with the Convertible Debenture, the charge to account for the
beneficial conversion feature recorded at the date the Convertible Debenture was
entered into and additional charges to account for the beneficial conversion feature
recorded in the fourth quarter of 2003, the first quarter of 2004 and the first
quarter of 2005 as a result of the triggering of the anti-dilution protection
provisions.
  Value ofDebenturesPrincipal Value of Debenture
    
    $
    5,000,000Discounts Recorded in 2003
    
    
    (2,777,000
    )2003 Amortization of Discounts
    
    
    644,000Carrying Value of Debenture at December 31, 2003
    
    $
    2,867,000Discounts Recorded in 2004
    
    
    (1,339,000
    )2004 Amortization of Discounts
    
    
    2,150,000Payment in Stock
    
    
    (1,923,000
    )Carrying Value of Debenture at December 31, 2004
    
    $
    1,755,000Discounts Recorded in 2005
    
    
    (442,000
    )2005 Amortization of Discounts
    
    
    1,630,000Payment in Stock
    
    
    (2,308,000
    )Carrying Value of Debenture at December 31, 2005
    
    $
    635,0002006 Amortization of Discounts
    
    
    134,000Payment in Stock
    
    
    (769,000
    )Carrying
Value of Debenture at March 31, 2006
    
    $
    
 33




---



##### Table of Contents



Mark-to-Market Adjustment From Registration Rights
 Nine Months
    
    Nine MonthsEnded September
    
    Ended September30, 2006
    
    30, 2007
    
    $ Change
    
    % ChangeMark-To-Market Adjustment From
Registration Rights
    
    $
    49,000
    
    
    $
    
    
    
    $
    (49,000
    )
    
    
    (100
    %)
  Net Loss
 Nine Months
    
    Nine MonthsEnded September
    
    Ended September30, 2006
    
    30, 2007
    
    $ Change
    
    % ChangeNet Loss
    
    $
    9,599,000
    
    
    $
    13,553,000
    
    
    $
    3,954,000
    
    
    
    41
    %
  Research and Development Programs
  Liquidity and Capital Resources
  Summary Cash Flow
 Nine Months
    
    
    Nine MonthsEnded
    
    
    EndedSeptember 30, 2006
    
    
    September 30, 2007Net Loss
    
    $
    (9,599,000
    )
    
    $
    (13,553,000
    )Non-cash Charges
    
    
    3,504,000
    
    
    
    8,766,000Changes in Assets and Liabilities
    
    
    (39,000
    )
    
    
    (883,000
    )Net Operating Uses
    
    
    (6,134,000
    )
    
    
    (5,670,000
    )Net Investment Uses
    
    
    (89,000
    )
    
    
    (62,000
    )Net Financing Sources
    
    
    6,203,000
    
    
    
    7,040,000Foreign exchange effect
    
    
    16,000
    
    
    
    28,000Change in cash and cash equivalents
    
    $
    (4,000
    )
    
    $
    1,336,000
 34




---



##### Table of Contents



Original
    
    
    Conversions andIssuance
    
    
    Repayments
    
    
    Outstanding2006 Secured Convertible Notes
    
    $
    6,998,000
    
    
    $
    2,394,000
    
    
    $
    4,604,0002007 Secured Convertible Notes
    
    $
    4,365,000
    
    
    
    150,000
    
    
    
    4,215,000Series C Notes
    
    $
    3,500,000
    
    
    
    
    
    
    
    3,500,000Other indebtedness
    
    
    
    
    
    
    
    
    
    
    31,000$
    12,350,000
   35




---



##### Table of Contents



ConversionCommon
    
    or Exercise PriceSecurity
    
    Shares
    
    Low
    
    HighCommon stock outstanding
    
    
    62,220,000
    
    
    
    
    
    
    
    Stock reserved for 2006 Secured Convertible Notes
    
    
    10,883,000
    
    
    $
    .40
    
    
    $
    .63Stock reserved for 2007 Secured Convertible Notes
    
    
    7,497,000
    
    
    
    .63
    
    
    
    .63Stock reserved for warrant exercises
    
    
    20,854,000
    
    
    
    .63
    
    
    
    2.70Stock reserved for potential warrant shares
    
    
    631,000
    
    
    
    .01
    
    
    
    .01Stock
reserved for outstanding stock options and restricted stock units
    
    
    3,542,000
    
    
    
    .39
    
    
    
    6.69Stock available for issuance under stock plans
    
    
    4,232,000
    
    
    
    
    
    
    
    Stock reserved for Series A Preferred Stock
    
    
    1,023,000
    
    
    
    .70
    
    
    
    .70Total
    
    
    110,882,000
 36




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##### Table of Contents



Warrants Repurchases
  Financings
   ®
  37




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##### Table of Contents




    
    our failure to make payments as they become due;
    
    our making an assignment for the benefit of creditors, or applying for or consenting
to the appointment of a receiver or trustee for a substantial portion of our property
or business or that of any subsidiary;
    
    bankruptcy, insolvency or similar proceedings being filed by or against us or any
subsidiary;
    
    our default on our existing or future liabilities in excess of $250,000, including
the Secured Convertible Notes; and
    
    a breach of any material term of any other transaction document we entered into with
the purchasers of the Series C Notes.
     Contractual Obligations
  Payment Due by PeriodLess than
    
    1-3
    
    3-5
    
    More thanTotal
    
    1 year
    
    years
    
    years
    
    5 yearsOperating Lease Arrangements
    
    $
    1,905,000
    
    
    $
    631,000
    
    
    $
    1,127,000
    
    
    $
    147,000
    
    
    $
    Capital Lease Arrangements
    
    
    37,000
    
    
    
    24,000
    
    
    
    13,000
    
    
    
    
    
    
    
    Convertible Note Obligations
    
    
    11,706,000
    
    
    
    11,706,000
    
    
    
    
    
    
    
    
    
    
    
    Series C Note Obligations
    
    
    4,670,000
    
    
    
    4,670,000
    
    
    
    
    
    
    
    
    
    
    
    Purchase Commitments
    
    
    914,000
    
    
    
    914,000
    
    
    
    
    
    
    
    
    
    
    
    Service Agreement Commitments
    
    
    15,000
    
    
    
    11,000
    
    
    
    4,000
    
    
    
    
    
    
    
    Total
    
    $
    19,247,000
    
    
    $
    17,956,000
    
    
    $
    1,144,000
    
    
    $
    147,000
    
    
    $
    
    38




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##### Table of Contents



Off-Balance Sheet Arrangements
  Critical Accounting Policies and Estimates
    Recent Accounting Pronouncements
 Accounting for Uncertainty in Income Taxesan
Interpretation of FASB Statement No. 109
 
 Item 3. Quantitative and Qualitative Disclosures about Market Risk.
 Investment Portfolio.
 39




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##### Table of Contents



Foreign Exchange. Foreign Currency Translation
 
 Item 4T. Controls and Procedures.
 Evaluation of Disclosure Controls and Procedures
 Changes in Internal Control Over Financial Reporting
 
 PART II. OTHER INFORMATION
 
 Item 1A. Risk Factors.
  Risk Factors Relating to the Asset Sale
 Whether or not the Asset Sale is completed, there may be few, if any, assets available for
distribution to our stockholders.
  40




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##### Table of Contents



Failure to complete the Asset Sale would likely result in us discontinuing our business and
operations, negatively affect our stock price and/or reduce the assets available for distribution
to our stockholders.
  
    
    We may be unable to dispose of our assets for values equaling or exceeding our
liabilities and obligations, particularly the assets that are the subject of the Asset
Sale, which may be substantially diminished in value;
    
    We may be unable to secure additional capital or to enter into an alternative
business combination transaction, which would likely force us to resort to bankruptcy
protection since we would be unable to pay our liabilities and obligations when due,
including our liabilities under our outstanding Secured Promissory Notes;
    
    We would still be required to pay expenses incurred in connection with the
consummation of the Asset Sale, including legal and accounting fees;
    
    Our employees may, faced with uncertain futures in light of the proposed Asset Sale,
seek alternative employment, which may have a negative impact on our ability to
continue our operations;
    
    We may be required to pay Inverness a termination fee of $1.08 million; and
    
    Our customers may, in response to the announcement and pendency of the Asset Sale,
delay or defer purchasing decisions, which would have a negative impact on our ongoing
business.
  Even if our stockholders approve the Asset Sale, the Asset Sale may not be completed.
  The Asset Purchase Agreement limits our ability to pursue alternatives to the Asset Sale.
   41




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##### Table of Contents



All of our outstanding Secured Promissory Notes mature no later than December 13, 2007, and if
the Asset Sale does not close by this date, we may default on these notes.
  A portion of the consideration that may become payable to us is contingent upon the revenue
associated with the assets to be acquired by Inverness being in excess of targets specified in the
Asset Purchase Agreement.
  
    
    Inverness ability to leverage our existing customer and distributor relationships;
    
    Inverness ability to operate our business successfully despite the departure of our
management and other key employees;
    
    the resources Inverness allocates to our business;
    
    risks relating to foreign exchange rates; and
    
    risks affecting our industry in general and our business in particular.
  The market price of Inverness common stock has been historically volatile and is subject to
fluctuations in price and liquidity based on business risks, market conditions and other factors.
As a result, the cash proceeds we will realize from the sale of the Inverness common stock received
in the Asset Sale are uncertain.
   42




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##### Table of Contents



We and our stockholders will be exposed to a number of tax-related risks in connection with
the Asset Sale and upon our subsequent dissolution.
    We may have undergone an ownership change for purposes of Section 382 of the Internal
Revenue Code, which could affect our ability to offset gains.
   Certain of our directors and executive officers have interests in the Asset Sale that may be
different from, or in addition to, the interests of our stockholders.
  43




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##### Table of Contents



If our stockholders do not approve the name change, we will be in breach of the Asset Purchase
Agreement.
  Risk Factors Relating to Our Dissolution
 Our stockholders could approve the Asset Sale but vote against the plan of dissolution.
  We cannot determine at this time the amount or timing of any distributions to our stockholders
because there are many factors, some of which are outside of our control, that could affect our
ability to make such distributions.
    
    
    the amount of our liabilities and obligations or the estimated costs and expenses of the
Asset Sale and our operations until the date we are authorized to make a distribution to
our stockholders under the applicable provisions of the Delaware General Corporation Law
and the plan of dissolution, which date is not expected to be less than 210 days from the
date of our filing of a certificate of dissolution with the Secretary of State of the State
of Delaware, could increase;
    
    presently unknown or contingent liabilities for which we may be responsible could later
arise or become fixed in amount and we would be required to satisfy or reserve for these
liabilities as part of the dissolution;
    
    delays in completing the Asset Sale or delays in the timing of our dissolution could
result in additional fees and expenses and result in reduced distributions to our
stockholders;
 44




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##### Table of Contents




    
    the value of Inverness common stock could decline from its value as calculated under the
Asset Purchase Agreement to the cash amount we actually receive when we are able to resell
the shares of Inverness common stock we will receive at the closing of the Asset Sale; and
    
    Inverness could make claims under the indemnity provisions of the Asset Purchase
Agreement.
  We are required to make priority distributions to holders of our Series A Preferred Stock as a
result of the Asset Sale before making liquidating distributions to holders of our common stock.
  Distribution of cash proceeds, if any, to our stockholders could be delayed and our
stockholders could, in some circumstances, be held liable for amounts they received from us in
dissolution.
      We will continue to incur claims, liabilities and expenses that will reduce the amount
available for distribution to our stockholders.
  45




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##### Table of Contents



Our stock transfer books will close on the date we file the certificate of dissolution with
the Delaware Secretary of State, after which it will not be possible for stockholders to trade our
stock.
  We will continue to incur the expenses of complying with public company reporting
requirements.
  If we fail to retain the services of appropriate personnel, the plan of dissolution may not
succeed.
  Risk Factors Relating to Matritech
 We may need to obtain additional capital in order to continue our operations.
  If we do not consummate the Asset Sale before December 13, 2007, we will need to renegotiate
our outstanding debt or face defaulting on our obligations, which could jeopardize our ability to
consummate the Asset Sale.
   46




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##### Table of Contents



If we are unable to close the Asset Sale, we expect that we will need to continue to obtain
additional capital in the future until we become profitable and, if we are unable to obtain such
capital on a timely basis, we likely will not be able to continue our operations.
    We may be unable to comply with provisions of our Secured Promissory Notes and could suffer
significant consequences in the event of non-compliance.
  
    
    failure to make payments as they become due;
    
    failure to remain listed on any of the Nasdaq Stock Market, the New York Stock
Exchange or AMEX;
    
    failure to have an effective registration statement available
for resale of the shares (except in the case of the January 2007 Secured Convertible Notes only if
registration has been demanded);
    
    failure to timely remove restrictive legends from any stock certificates delivered
upon conversion;
    
    written notice or public announcement of our intention not to issue shares upon
conversion;
    
    making an assignment for the benefit of creditors, or applying for or consenting to
the appointment of a receiver or trustee for a substantial portion of our property or
business or that of any subsidiary;
    
    bankruptcy, insolvency or similar proceedings being filed by or against us or any
subsidiary;
    
    the acquisition of our business, whether by merger, a sale or disposition of
substantially all of our assets, or otherwise;
    
    a default on our existing or future liabilities in excess of $250,000; and
 47




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##### Table of Contents




    
    a breach of any material term of any other transaction document we entered into with
the purchasers of these Secured Convertible Notes.
  
    
    failure to make payments as they become due;
    
    making an assignment for the benefit of creditors, or applying for or consenting to
the appointment of a receiver or trustee for a substantial portion of its property or
business or that of any subsidiary;
    
    bankruptcy, insolvency or similar proceedings being filed by or against us or any
subsidiary;
    
    a default on our existing or future liabilities in excess of $250,000; and
    
    a breach by us of any material term of any other transaction document entered into
with the purchasers of these Series C Notes.
  We have incurred substantial indebtedness and may be unable to service our debt.
  
    
    make it difficult for us to make payments on this debt and other obligations;
    
    make it difficult for us to obtain future financing;
    
    require us to redirect 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.
 We have granted a security interest in our NMP22 product line that restricts our operation of,
and could result in the loss of all assets related to, this product line if we default on our
obligations.
  48




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##### Table of Contents



We have a history of operating losses, are continuing to lose money and may never be
profitable.
  ThroughSeptember 30,2004
    
    2005
    
    2006
    
    2007Product Sales, net of all allowances
    
    $
    7,275,000
    
    
    $
    10,290,000
    
    
    $
    12,085,000
    
    
    $
    10,011,000Net Loss
    
    $
    11,123,000
    
    
    $
    7,865,000
    
    
    $
    11,935,000
    
    
    $
    13,553,000
  We may fail to meet the standards for continued listing of shares of our common stock on the
American Stock Exchange or for listing of such shares on another national exchange.
  Market volatility and fluctuations in the price of our common stock, and trading volume may
cause sudden decreases in the value of an investment in our common stock.
   49




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##### Table of Contents



We will not be able to significantly increase revenue or achieve profitability unless we
increase the number of urologists using our NMP22 BladderChek Test, increase the per-urologist
usage of our tests and/or successfully penetrate markets other than urologists.
  If we are unable to manufacture or otherwise obtain the product volumes we need, we may be
unable to meet commitments to our customers and our results of operations would suffer.
  50




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##### Table of Contents




    
    production yields;
    
    quality control and assurance;
    
    component supply; and
    
    shortages of qualified personnel.
  If we lose the services of our suppliers or assemblers, we may be unable to meet commitments
to our customers and our results of operations would suffer.
  We may need to stop selling our NMP22 BladderChek Tests if we cannot obtain necessary licenses
or waivers to use lateral flow technology, and we may need to stop selling other products if third
parties assert infringement claims against us.
  51




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##### Table of Contents



The operations of our German subsidiary involve currency exchange rate variability and other
risks that could negatively affect our results of operations.
   We compete with other methods of diagnosing cancer that already exist or may be successfully
developed by others and our products may not prevail as the method of choice.
  ®
 Low reimbursement rates could limit the per-unit revenues for our products and make it
uneconomical to sell or distribute them, and limitations on the medical circumstances for which
reimbursement is provided could reduce the potential market for our products.
   52




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##### Table of Contents



We and our distributors are subject to extensive government regulation that 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.
   
    
    keeping records and reporting adverse experiences with the use of those devices;
    
    registering our establishments and listing our devices with the FDA and submitting
these manufacturing establishments 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 manufacturing and quality assurance activities.
  53




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##### Table of Contents




    
    fines;
    
    injunctions;
    
    civil penalties;
    
    recall or seizure of products;
    
    total or partial suspension of production;
    
    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.
    Our inability to develop and commercialize additional products may limit the future prospects
for our business, sales and profits.
 ®
 We may encounter insurmountable obstacles or incur substantially greater costs and delays than
anticipated in the development process.
  54




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##### Table of Contents



We often face challenges in replicating the research results we obtain in our laboratories in
clinical trials and, as a result, we may have difficulty commercializing our products.
  
    
    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 include more biologic variability;
    
    preparation methods for the specimens using lower cost, high-throughput procedures,
which might result in performance different from those used in early discovery; and
    
    inability to develop economic and reproducible test methods for the substance to be
measured.
  Successful technical development of our products does not guarantee successful
commercialization.
  
    
    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 clinical value of products from physician to physician.
  If we do not adequately protect our intellectual property, we could lose our ability to
compete in the marketplace.
  55




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##### Table of Contents



If we are unable to recruit and retain key management, scientific and sales personnel, our
business would be negatively affected.
  We may be unable to establish distributor relationships with high revenue potential in
jurisdictions where we do not have a direct sales force.
  If we are sued on the basis of product-related claims, the cost of defending those claims
could be prohibitive.
  If the products we distribute that are made by other companies become unavailable or do not
meet quality standards, we may lose revenues and may face liability claims.
  Our activities involve the use of hazardous materials, and we may be held liable for any
accidental injury from these hazardous materials.
  56




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##### Table of Contents



Item 6. Exhibits.
 Exhibit No:
    
    Description3.1
    
    Amended and Restated By-Laws of the Company (filed as Exhibit
3.1 to our Current Report on Form 8-K on October 12, 2007 and
incorporated herein by reference)4.1
    
    Agreement and Amendment to 15% Secured Convertible Promissory
Notes dated January 13, 2006 and Series B 15% Secured
Convertible Promissory Notes dated January 22, 2007 (filed as
Exhibit 4.1 to our Current Report on Form 8-K on August 2,
2007 and incorporated herein by reference)4.2
    
    Form of Purchase and Sale Agreement dated July 31, 2007 by and
between Matritech, Inc. and holders of warrants originally
issued March 31, 2003 (filed as Exhibit 4.2 to our Current
Report on Form 8-K on August 2, 2007 and incorporated herein
by reference)4.3
    
    Consent of Majority Holders of 15% Secured Convertible
Promissory Notes dated January 13, 2006 and January 22, 2007
(filed as Exhibit 4.1 to our Current Report on Form 8-K on
August 10, 2007 and incorporated herein by reference)4.4
    
    Amendment to Certificate of Designations, Preferences and
Rights of Series A Convertible Preferred Stock of Matritech,
Inc. (filed as Exhibit 4.2 to our Current Report on Form 8-K
on August 10, 2007 and incorporated herein by reference)4.5
    
    Consent of Holders of a Majority of Outstanding Principal
Value of 15% Secured Convertible Promissory Notes dated
January 13, 2006 and dated January 22, 2007 to Defer Payments
(filed as Exhibit 4.3 to our Current Report on Form 8-K on
August 10, 2007 and incorporated herein by reference)4.6
    
    Form of Consent of Holder of 15% Secured Convertible
Promissory Notes dated January 13, 2006 and/or dated January
22, 2007 to Defer Payments (filed as Exhibit 4.2 to our
Current Report on Form 8-K on August 30, 2007 and incorporated
herein by reference)4.7
    
    Securities Purchase Agreement dated August 30, 2007, between
Matritech, Inc. and various purchasers (filed as Exhibit 4.1
to our Current Report on Form 8-K on September 4, 2007 and
incorporated herein by reference)4.8
    
    Form of Note dated August 30, 2007, and issued to various
purchasers of Series C Notes (filed as Exhibit 4.2 to our
Current Report on Form 8-K on September 4, 2007 and
incorporated herein by reference)4.9
    
    Second Amended and Restated Security Agreement dated August
30, 2007, by and between Matritech, Inc. and SDS Capital Group
SPC, Ltd. as Collateral Agent (filed as Exhibit 4.3 to our
Current Report on Form 8-K on September 4, 2007 and
incorporated herein by reference)4.10
    
    Second Amended and Restated Contingent License Agreement dated
August 30, 2007, by and between Matritech, Inc. and SDS
Capital Group SPC, Ltd. as Collateral Agent (filed as Exhibit
4.4 to our Current Report on Form 8-K on September 4, 2007 and
incorporated herein by reference)4.11
    
    Consent of Majority Holders of 15% Secured Convertible
Promissory Notes dated January 13, 2006 and January 22, 2007
(filed as Exhibit 4.5 to our Current Report on Form 8-K on
September 4, 2007 and incorporated herein by reference)4.12
    
    Agreement and Amendment of Certain Secured Convertible
Promissory Notes dated January 13, 2006 and January 22, 2007
(filed as Exhibit 4.6 to our Current Report on Form 8-K on
September 4, 2007 and incorporated herein by reference)10.1
    
    Asset Purchase Agreement, dated August 27, 2007, by and among
Matritech, Inc., Inverness Medical Innovations, Inc. and
Milano Acquisition Corp. (filed as Exhibit 10.1 to our Current
Report on Form 8-K on August 28, 2007 and incorporated herein
by reference)10.2
    
    Termination Agreement by and between Sysmex Corporation and
Matritech, Inc. dated September 28, 2007 (filed as Exhibit
10.1 to our Current Report on Form 8-K on October 2, 2007 and
incorporated herein by reference)10.3 #
    
    Amended and Restated Change of Control Agreement, by and
between the Company and Stephen D. Chubb, dated October 5,
2007 (filed as Exhibit 10.1 to our Current Report on Form 8-K
on October 12, 2007 and incorporated herein by reference)10.4 #
    
    Amended Non-Disclosure and Inventions Agreement, by and
between the Company and Stephen D. Chubb, dated October 5,
2007 (filed as Exhibit 10.2 to our Current Report on Form 8-K
on October 12, 2007 and incorporated herein by reference)
 57




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##### Table of Contents



Exhibit No:
    
    Description31.1
    
    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.
 
 #
    
    Indicates management contract or compensatory plan or
arrangement required to be filed as an exhibit to this
Form 10-Q pursuant to Item 6 of this report. 58




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##### Table of Contents



SIGNATURES
  MATRITECH, INC.Date: November 9, 2007
    By:
    /s/ Stephen D. ChubbStephen D. ChubbDirector, Chairman and Chief Executive Officer
(principal executive officer)Date: November 9, 2007
    By:
    /s/ Richard A. SandbergRichard A. SandbergDirector, Vice President, Chief Financial
Officer and Treasurer(principal accounting and financial officer) 59




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##### Table of Contents



EXHIBIT INDEX
 Exhibit No:
    
    Description3.1
    
    Amended and Restated By-Laws of the Company (filed as Exhibit
3.1 to our Current Report on Form 8-K on October 12, 2007 and
incorporated herein by reference)4.1
    
    Agreement and Amendment to 15% Secured Convertible Promissory
Notes dated January 13, 2006 and Series B 15% Secured
Convertible Promissory Notes dated January 22, 2007 (filed as
Exhibit 4.1 to our Current Report on Form 8-K on August 2,
2007 and incorporated herein by reference)4.2
    
    Form of Purchase and Sale Agreement dated July 31, 2007 by and
between Matritech, Inc. and holders of warrants originally
issued March 31, 2003 (filed as Exhibit 4.2 to our Current
Report on Form 8-K on August 2, 2007 and incorporated herein
by reference)4.3
    
    Consent of Majority Holders of 15% Secured Convertible
Promissory Notes dated January 13, 2006 and January 22, 2007
(filed as Exhibit 4.1 to our Current Report on Form 8-K on
August 10, 2007 and incorporated herein by reference)4.4
    
    Amendment to Certificate of Designations, Preferences and
Rights of Series A Convertible Preferred Stock of Matritech,
Inc. (filed as Exhibit 4.2 to our Current Report on Form 8-K
on August 10, 2007 and incorporated herein by reference)4.5
    
    Consent of Holders of a Majority of Outstanding Principal
Value of 15% Secured Convertible Promissory Notes dated
January 13, 2006 and dated January 22, 2007 to Defer Payments
(filed as Exhibit 4.3 to our Current Report on Form 8-K on
August 10, 2007 and incorporated herein by reference)4.6
    
    Form of Consent of Holder of 15% Secured Convertible
Promissory Notes dated January 13, 2006 and/or dated January
22, 2007 to Defer Payments (filed as Exhibit 4.2 to our
Current Report on Form 8-K on August 30, 2007 and incorporated
herein by reference)4.7
    
    Securities Purchase Agreement dated August 30, 2007, between
Matritech, Inc. and various purchasers (filed as Exhibit 4.1
to our Current Report on Form 8-K on September 4, 2007 and
incorporated herein by reference)4.8
    
    Form of Note dated August 30, 2007, and issued to various
purchasers of Series C Notes (filed as Exhibit 4.2 to our
Current Report on Form 8-K on September 4, 2007 and
incorporated herein by reference)4.9
    
    Second Amended and Restated Security Agreement dated August
30, 2007, by and between Matritech, Inc. and SDS Capital Group
SPC, Ltd. as Collateral Agent (filed as Exhibit 4.3 to our
Current Report on Form 8-K on September 4, 2007 and
incorporated herein by reference)4.10
    
    Second Amended and Restated Contingent License Agreement dated
August 30, 2007, by and between Matritech, Inc. and SDS
Capital Group SPC, Ltd. as Collateral Agent (filed as Exhibit
4.4 to our Current Report on Form 8-K on September 4, 2007 and
incorporated herein by reference)4.11
    
    Consent of Majority Holders of 15% Secured Convertible
Promissory Notes dated January 13, 2006 and January 22, 2007
(filed as Exhibit 4.5 to our Current Report on Form 8-K on
September 4, 2007 and incorporated herein by reference)4.12
    
    Agreement and Amendment of Certain Secured Convertible
Promissory Notes dated January 13, 2006 and January 22, 2007
(filed as Exhibit 4.6 to our Current Report on Form 8-K on
September 4, 2007 and incorporated herein by reference)10.1
    
    Asset Purchase Agreement, dated August 27, 2007, by and among
Matritech, Inc., Inverness Medical Innovations, Inc. and
Milano Acquisition Corp. (filed as Exhibit 10.1 to our Current
Report on Form 8-K on August 28, 2007 and incorporated herein
by reference)10.2
    
    Termination Agreement by and between Sysmex Corporation and
Matritech, Inc. dated September 28, 2007 (filed as Exhibit
10.1 to our Current Report on Form 8-K on October 2, 2007 and
incorporated herein by reference)10.3 #
    
    Amended and Restated Change of Control Agreement, by and
between the Company and Stephen D. Chubb, dated October 5,
2007 (filed as Exhibit 10.1 to our Current Report on Form 8-K
on October 12, 2007 and incorporated herein by reference)10.4 #
    
    Amended Non-Disclosure and Inventions Agreement, by and
between the Company and Stephen D. Chubb, dated October 5,
2007 (filed as Exhibit 10.2 to our Current Report on Form 8-K
on October 12, 2007 and incorporated herein by reference)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.
 60




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##### Table of Contents



Exhibit No:
    
    Description32.1
    
    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.
 
 #
    
    Indicates management contract or compensatory plan or
arrangement required to be filed as an exhibit to this
Form 10-Q pursuant to Item 6 of this report. 61