United States


SECURITIES AND EXCHANGE COMMISSION


WASHINGTON, D.C. 20549





FORM 10-Q








QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)


OF THE SECURITIES EXCHANGE ACT OF 1934





For the Quarterly Period Ended September 30, 2009





Commission File Number 0-20791





AMARILLO BIOSCIENCES, INC.


(Exact name of registrant as specified in its charter)





TEXAS

75-1974352(State or other jurisdiction of incorporation or organization)

(IRS Employer Identification No.)4134 Business Park Drive, Amarillo, Texas 79110(Address of principal executive offices) (Zip Code)(806) 376-1741(Issuer’s telephone number, including area code)







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   [ ] No




Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.





Large accelerated filer [ ]

Accelerated filer [ ]Non-accelerated filer [ ] (do not check if smaller reporting company)

Smaller reporting company [√]







Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act)[ ] Yes   [√] No




As of November 10, 2009 there were 47,853,191 shares of the issuer's common stock and no shares of the issuer’s preferred stock outstanding.





1


AMARILLO BIOSCIENCES, INC.





INDEX


PAGE NO.PART I:
FINANCIAL INFORMATIONITEM 1.
Financial StatementsBalance Sheets– September 30, 2009  (unaudited) and December 31, 2008
3Statements of Operations – Three and Nine Months Ended September 30, 2009 and 2008 (unaudited)
4Condensed Statements of Cash Flows – Nine Months Ended September 30, 2009 and 2008 (unaudited)
5Notes to Financial Statements (unaudited)
6ITEM 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations
10ITEM 3.
Quantitative and Qualitative Disclosures About Market Risk.
18ITEM 4.
Controls and Procedures
21PART II:
OTHER INFORMATIONITEM 1.
Legal Proceedings
22ITEM 2.
Unregistered Sales of Equity Securities and Use of Proceeds
22ITEM 3.
Defaults Upon Senior Securities
25ITEM 4.
Submission of Matters to a Vote of Security Holders
25ITEM 5.
Other Information
25ITEM 6.
Exhibits.....................................................................
25Signatures

26





2


PART I - FINANCIAL INFORMATION





ITEM 1.
Financial Statements





Amarillo Biosciences, Inc.


Balance Sheets


September 30, 2009


December 31,2008Assets

(unaudited)Current assets:Cash and cash equivalents

$
39,975


$
10,853Other current assets


14,271



12,813Total current assets


54,246



23,666Property, equipment, and software, net


5,188



9,575Patents, net


124,586



126,828Total assets

$
184,020


$
160,069Liabilities and Stockholders' DeficitCurrent liabilities:Accounts payable and accrued expenses

$
420,964


$
511,236Accrued interest - related party


639,904



572,773Accrued expenses – related party


78,360



53,971Derivative liabilities


3,424,372



-Notes payable - related party


2,000,000



2,000,000Total current liabilities


6,563,600



3,137,980Total liabilities


6,563,600



3,137,980Commitments and contingenciesStockholders' deficitPreferred stock, $0.01 par value:Authorized shares - 10,000,000Issued and outstanding shares – 0 at September 30, 2009 and 0 at December 31, 2008,


-



-Common stock, $0.01par value:Authorized shares - 100,000,000Issued and outstanding shares – 47,147,196 at September 30, 2009 and 35,953,377 at December 31, 2008


471,472



359,534Additional paid-in capital


29,582,308



28,322,564Accumulated deficit


(36,433,360
)


(31,660,009
)Total stockholders' deficit


(6,379,580
)


(2,977,911
)Total liabilities and stockholders’ deficit

$
184,020


$
160,069





See accompanying notes to financial statements.


3


Amarillo Biosciences, Inc.


Statements of Operations - Unaudited





Three months ended September 30,


Nine months ended September 30,2009


2008


2009


2008Revenues:Dietary supplement sales

$
36


$
234


$
264


$
1,518Sublicense fee revenue


48,000



30,000



48,795



60,000Total revenues


48,036



30,234



49,059



61,518Cost of revenues:Product


21



104



75



540Sublicense fees


24,009



14,991



24,407



29,981Total cost of revenues


24,030



15,095



24,482



30,521Gross Margin


24,006



15,139



24,577



30,997Operating expenses:Research and development


110,032



42,398



389,969



388,014Selling, general and administrative


235,484



281,113



917,572



1,085,098Total operating expenses


345,516



323,511



1,307,541



1,473,112Operating loss


(321,510
)


(308,372
)


(1,282,964
)


(1,442,115
)Other income (expense)Change in fair value of derivative instruments


(744,913
)


-



(2,736,649
)


-Interest expense


(23,697
)


(23,568
)


(69,406
)


(68,524
)Interest and other income


-



-



3,391



2,696Net loss


(1,090,120
)


(331,940
)


(4,085,628
)


(1,507,943
)Deemed dividend for beneficial conversion feature


-



-



-



(562,841
)Dividend on preferred stock


-



(25,000
)


-



(73,056
)Net loss applicable to common shareholders

$
(1,090,120
)

$
(356,940
)

$
(4,085,628
)

$
(2,143,840
)Basic and diluted net loss per share

$
(0.02
)

$
(0.01
)

$
(0.10
)

$
(0.07
)Weighted average shares outstanding


45,689,709



30,301,432



42,508,318



29,877,198





See accompanying notes to financial statements.


4


Amarillo Biosciences, Inc.


Condensed Statements of Cash Flows - Unaudited





Nine months ended September 30,2009


2008Net cash used in operating activities

$
(660,471
)

$
(843,210
)Cash from investing activities:Purchases of equipment and software


-



(980
)Patent expenditures


(10,142
)


(20,089
)Net cash used in investing activities


(10,142
)


(21,069
)Cash from financing activities:Proceeds from sale of convertible preferred stock


-



793,793Proceeds from sale of common stock


699,735



25,000Net cash provided by financing activities


699,735



818,793Net increase (decrease) in cash


29,122



(45,486
)Cash and cash equivalents at beginning of period


10,853



47,184Cash and cash equivalents at end of period

$
39,975


$
1,698Supplemental disclosure of cash flow informationCash paid for interest

$
1,393


$
201,147Cash paid for income taxes

$
-


$
-Non cash transactionsDeemed dividend for beneficial conversion feature of preferred stock

$
-


$
562,841Stock dividend to preferred shareholders

$
-


$
73,056





See accompanying notes to financial statements.


5


Amarillo Biosciences, Inc.





Notes To Financial Statements - Unaudited





1.
Basis of presentation. The accompanying financial statements, which should be read in conjunction with the financial statements and footnotes included in the Company's Form 10-K for the year ended December 31, 2008 filed with the Securities and Exchange Commission, are unaudited, but have been prepared in accordance with accounting principles generally
accepted in the United States for interim financial information. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair presentation have been included.  Operating results for the nine months ended September 30, 2009 are not necessarily indicative of the
results that may be expected for the full year ending December 31, 2009.  The Company has evaluated subsequent events for recognition or disclosure through the date these financials statements were available to be issued, November 10, 2009.





2.
Financial Condition. Our viability as a company is dependent upon successful commercialization of products resulting from its research and product development activities. We plan on working with commercial development partners in the United States and in other parts of the world to provide the necessary sales, marketing and distribution infrastructure
to successfully commercialize the interferon alpha product for both human and animal applications.  Our products will require significant additional development, laboratory and clinical testing and investment prior to obtaining regulatory approval to commercially market our product(s). Accordingly, for at least the next few years, we will continue to incur research and development and general and administrative expenses and may not generate sufficient revenues from product sales or license fees to support
its operations.





The Company continues to pursue a broad range of financing alternatives to improve its financial condition. These alternatives may include the sale or issuance of a substantial amount of common stock, common stock warrants or stock options. These financing alternatives could require an increase in the number of authorized shares of the Company’s common stock and result in significant dilution to existing shareholders
and, possibly, a change of control of the Company.





3.
Common Stock.  The shareholders have authorized 100,000,000 shares of voting common shares for issuance.  On September 30, 2009, a total of 76,144,957 shares of common stock were either outstanding (47,147,196) or reserved for issuance upon exercise of options and warrants (28,997,761).  Common stock issuances in the first,
second and third quarters of 2009 are as follows:





Common Stock Issued in Q1 2009

Shares


Issue Price


Net PricePrivate placements – cash


3,550,000


$
0.10


$
320,000Directors, officers, consultants plan – cash


62,500



0.08



5,000Directors, officers, consultants plan – salaries


1,407,905



0.05-0.08



105,846Directors, officers, consultants plan – services


636,364



0.06



35,000Total Common Stock Issued in Q1 2009


5,656,769


$
0.05-0.10


$
465,846





6





Finders’ fees totaled $35,000 during the first quarter of 2009.  Net price above reflects net proceeds after finders’ fees are deducted.  Private placement stock issued during the first quarter of 2009 included 100% warrant coverage (3,550,000 warrants) with $0.10 – $0.20 exercise price and 3-year
term.





Common Stock Issued in Q2 2009

Shares


Issue Price


Net PricePrivate placements – cash


2,320,290


$
0.10


$
227,029Exercise of cashless warrants


183,375



0.10



-Directors, officers, consultants plan – salaries


419,367



0.10



41,937Total Common Stock Issued in Q2 2009


2,923,032


$
0.10


$
268,966





Finders’ fees totaled $5,000 during the second quarter of 2009.  Net price above reflects net proceeds after finders’ fees are deducted.  2,280,000 shares of the private placement stock issued during the second quarter of 2009 included 100% warrant coverage (2,280,000 warrants) with $0.10 exercise price
and 3-year term.





Common Stock Issued in Q3 2009

Shares


Issue Price


Net PricePrivate placements – cash


1,507,060


$
0.10


$
147,706Exercise of cashless warrants


602,479



0.10



-Directors, officers, consultants plan – salaries


504,479



0.06-0.26



55,512Total Common Stock Issued in Q3 2009


2,614,018


$
0.06-0.26


$
203,218





Finders’ fees totaled $3,000 during the third quarter of 2009.  Net price above reflects net proceeds after finders’ fees are deducted.  1,507,060 shares of private placement stock issued during the third quarter of 2009 included 100% warrant coverage (1,507,060 warrants) with $0.10 exercise price and 3-year
term.





4.
Common Stock Options.  We recognized $243,826 of employee options expense, related to previously issued options during the first nine months ended September 30, 2009.  The remaining cost expected to be recognized if these options vest is $153,919.





The 2009A Officers, Directors, Employees and Consultants Non-Qualified Stock Option Plan was adopted on April 28, 2009 by the Board of Directors.   We recognized $166,558 for  1,600,000 stock options approved by the Plan Committee and granted to officers, directors and employees on April 30, 2009.  The
options vest immediately with three-year term and $0.125 exercise price.





The Plan Committee approved the grant of 400,000 options to Dr. Steve Chen, a Director, on June 4, 2009 for his work with Cyto Biotech and CytoPharm on behalf of the Company.  We recognized $23,268 for 200,000 options that vested immediately with 3 year term.  The remaining 200,000 options vest if the Company receives
$50,000 of royalty payments from South American sales by Cyto Biotech within four years.





5.
Common Stock Warrants.  During the second quarter of 2009 warrant holders exercised 395,156 cashless warrant shares with a $0.10 exercise price.  Warrant holders were issued 183,375 net shares of common stock.  During the third quarter of 2009 warrant holders exercised 1,076,842 cashless warrant shares with a $0.10 exercise
price. Warrant holders were issued  602,479 net shares of common stock, respectively.


7





Warrants issued in connection with a preferred stock financing in the first quarter of 2008 (“Firebird warrants”) have an embedded derivative feature (full-ratchet anti-dilution provision). We are at risk of triggering the warrant anti-dilution
provisions of previously issued warrants if we sell stock below $0.10 per share to any non-exempt parties.  Options and warrants issued prior to January 8, 2008 plus officers, directors and consultants under stock plans approved by outside board of director members are exempt from the anti-dilution provisions.  In accordance with Financial Account Standards Board Accounting Standards Codification (“FASB ASC”) Topic 815, the Company reclassified the warrants to liabilities at fair
value on January 1, 2009 and reported the change in fair value of the warrants at the end of each quarter to date in 2009.





The binomial Black-Scholes pricing model was used to calculate the value of the warrants.  In the binomial model, the most likely price which will trigger the anti-dilution ratchet and the most likely price that will not trigger the anti-dilution ratchet are given estimated probabilities for occurrence.  The probability
of private placement issuances triggering a reset at the closing stock price on January 1 was estimated as 50%.  The probability of not triggering the reset at $0.10 per share was also estimated as 50%.  Valuation consists of 50% of the Black-Scholes value for each probable occurrence. The Black-Scholes option-pricing model was utilized with the following  assumptions: dividend yield 0.0%, expected volatility of 138% ,  risk-free interest rate of 0.76% and expected life
of approximately 2 years.   The valuation for the 13.92 million warrants with embedded features was $687,723 on January 1, 2009.  The $687,723 was reclassified from the retained earnings account to the derivative liabilities account on January 1, 2009 as the cumulative effect of the change in accounting principle.





The binomial Black-Scholes pricing model was used similar to the valuations above to calculate the fair value of the warrants with embedded features on September 30, 2009.  The probability of not triggering the reset at $0.10 per share was estimated as 75% since the stock closing price was $0.26 on September 30, 2009.  The
probability of private placement issuances triggering a reset at the estimated stock price of $0.06 per share was estimated as 25%. The Black-Scholes option-pricing model was utilized with the following assumptions: dividend yield 0.0%, expected volatility 232.97%, risk free interest rate 0.4%, and expected life of  approximately 1.27 years.  The valuation for the remaining 12,447,999 warrants outstanding was $3,424,372 on September 30, 2009.  The derivative loss for the first nine
months of 2009 was $2,736,649.




6.
Notes Payable – Related Party.  Two $1,000,000 notes are payable under an unsecured loan agreement with Hayashibara Biochemical Laboratories, Inc. (“HBL”), a major stockholder, dated July 22, 1999.  Although we are currently in default of the notes, HBL has not demanded payment.





7.
Line of Credit.   We have a line of credit with Wells Fargo for $20,000, with an interest rate of prime rate plus 6.75 percent.  There was an outstanding balance on September 30, 2009 of $1,180 which is included in accounts payable.





8.
License and Sublicense Agreements.  During the third quarter of 2009, a $48,000 license fee was received.  A $23,991 sublicense fee payable was recorded in the third quarter of 2009.





On February 6, 2009, we entered into a 15-year License and Supply agreement with Cyto Biotech, Inc. a Taipei, Taiwan animal health company.   Cyto Biotech purchased common stock, included in the above first quarter 2009 issuances in Amarillo Biosciences; paid an initial license fee; and will pay a royalty on low dose oral
interferon sales.


8








9.
Employment Contract.  On May 31, 2009, Dr. Peter R. Mueller resigned as Chief Operating Officer and Director of Research.  The Company currently has no plan to replace Dr. Mueller.





On September 4, 2009, Dr. Gary W. Coy resigned as Vice President and Chief Financial Officer. The Company executed a 1-year consulting contract with Biotech Financial, Inc., an entity controlled by Dr. Coy.   Consulting services are payable in registered stock at $75 hourly rate.  The 400,000 employment contract
options issued to Dr. Coy shall remain outstanding.   The Board of Directors changed the vesting date for 100,000 of these employment contract options from April 1, 2010 to September 4, 2009.  An additional 350,000 options awarded on April 30, 2009 will remain outstanding contingent on Dr. Coy’s reasonable availability as a consultant.





Bernard Cohen joined the Company as Chief Financial Officer (CFO) and Vice President of Finance on October 1, 2009.  An employment contract was executed on September 29, 2009.  Mr. Cohen will be paid up to $60,000 per year.  Dr. Coy will assist in training Mr. Cohen.





10.
Related Party Transactions.  The Company engaged the law firm of Underwood, Wilson, Berry, Stein and Johnson  P.C. of which Mr. Morris is a shareholder.  Mr. Morris is also the Secretary of the Company.  During the nine months ended September 30, 2009 the Company incurred approximately $40,285 of legal fees from this law firm.  During the first quarter of 2009, Dr.
Steve Chen, Director, referred the Company to Cyto Biotech and collected a $30,000 finder’s fee for the $300,000 stock purchase by Cyto Biotech.





11.
Subsequent Events.  On October 5, 2009, the Company issued 250,000 shares of common stock  in payment for $60,000 of legal services.  If cash receipts from the sale of shares do not generate $60,000, the Company will be required to issue sufficient additional shares.  If less than the sales of 250,000 shares is required, any remaining shares will be returned.





On October 31, 2009, the Company issued 355,995 shares of common stock to three consultants for services valued at $64,079.





On November 9, 2009 the Board of Directors extended a consulting contract and stock option agreement with a consultant.  A total of 650,000 options were extended until September 26, 2010.  Of these, 150,000 options are vested at the modification date, resulting in the recognition of $10,850 of additional compensation
expense.  The remaining options require achievement of milestones before vesting.





Since September 30, 2009, the Company sold 100,000 unregistered shares of common stock for $0.10 per share together with 100,000 warrants with 3-year term and exercisable at $0.10 per share.  Net proceeds totaled $10,000.





The Board approved incentives to induce certain option and warrant holders to exercise options and warrants prior to November 30, 2009.   Option and Warrant holders may exercise up to one third of the options or warrants they hold, at a price of $0.10 per share. For each option or warrant so
exercised, two additional will be converted to cashless options/warrants with an exercise price of $0.10 per share, and will be deemed exercised immediately, on a cashless basis.





9


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





The following discussion should be read in conjunction with our financial statements and the notes thereto which appear elsewhere in this report.  The results shown herein are not necessarily indicative of the results to be expected in any future periods.  This discussion contains forward-looking
statements based on current expectations, which involve uncertainties.  Actual results and the timing of events could differ materially from the forward-looking statements as a result of a number of factors.  Readers should also carefully review factors set forth in other reports or documents that we file from time to time with the Securities and Exchange Commission.





Company Goal – FDA Approval and Commercialization of Oral Interferon.


Amarillo Biosciences, Inc. (OTCBB: AMAR), is the world leader in the development of low-dose interferon for oral delivery and is conducting Phase 2 clinical studies testing oral interferon in animal and human diseases. We have changed our focus from Orphan Diseases (small markets) to treatment of diseases with large markets to attract large
pharma partners.  Our funding strategy is to seek private placement and partner funding  to complete Phase 2 clinical studies for influenza,  chronic cough in COPD patients, and hepatitis C; then seek large pharma partners to fund and help with the regulatory approval process in the US and Europe.  We believe that our technology and the large billion dollar markets for these disease indications will attract global pharma partners sometime next year.





Intellectual Property


Our portfolio consists of patents with claims that encompass method of use or treatment with interferon and composition of matter and manufacturing.  We currently own or license nine patents and four pending patents related to low-dose orally delivered interferon, and one issued patent on our dietary supplement.  We
have completed more than 100 pre-clinical (animal) and human studies of the safety and efficacy of low-dose orally delivered interferon.





Technology - Non-toxic Interferon


Injectable interferon is FDA-approved to treat some neoplastic, viral and autoimmune diseases.  Many patients experience moderate to severe side effects that result in discontinuance of injectable interferon therapy. Our product is a natural human
interferon alpha delivered into the oral cavity as a lozenge in low (nanogram) doses. The lozenge dissolves in the mouth where interferon binds to surface (mucosal) cells in the mouth and throat resulting in stimulation of immune mechanisms.  Orally delivered interferon has been shown to activate hundreds of immune system genes in the peripheral blood.  Human studies have shown that oral interferon is effective against viral and autoimmune diseases. Oral interferon is given in concentrations
10,000 times less than that given by injection resulting in almost no side effects.





Influenza


Influenza (the flu) is a contagious respiratory illness caused by influenza viruses.  It can cause mild to severe illness, and at times can lead to death.  Influenza usually starts suddenly and may include the following symptoms: 1) fever (usually high), 2) headache, 3) tiredness (can be extreme), 4) cough, 5) sore throat,
6) runny or stuffy nose, 7) body aches, and 8) digestive problems such as diarrhea, nausea and vomiting.  Complications of flu can include bacterial pneumonia, ear infections, sinus infections, dehydration, and worsening of chronic medical conditions, such as congestive heart failure, asthma, or diabetes.


10





Flu viruses spread mainly from person to person through coughing or sneezing.   Sometimes people may become infected by touching something with flu viruses on it and then touching their mouth or nose.  Most healthy adults may be able to infect others beginning 1 day before symptoms develop and up to 5 days after
becoming sick.  That means that a person may be able to pass on the flu to someone else before they know they are sick, as well as while they are sick.





Influenza A viruses are divided into subtypes based on 2 proteins on the surface of the virus: the hemagglutinin (H) and the neuraminidase (N).  There are 16 different H subtypes and 9 different N subtypes, all of which have been found among influenza A viruses in wild birds.  Wild birds are the primary natural reservoir
for all subtypes of influenza A viruses and are thought to be the source of influenza A viruses in all other animals.  Most influenza viruses cause asymptomatic or mild infection in birds; however, the range of symptoms in birds varies greatly depending on the strain of virus.  Infection with certain avian influenza A viruses (for example, some strains of H5 and H7 viruses) can cause widespread disease and death among some species of wild and especially domestic birds such as chickens and
turkeys.





Pigs can be infected with both human and avian influenza viruses in addition to swine influenza viruses.  Infected pigs get symptoms similar to humans, such as cough, fever and runny nose.  Because pigs are susceptible to avian, human and swine influenza viruses, they potentially may be infected with influenza viruses
of different species (e.g., ducks and humans) at the same time.  If this happens, it is possible for the genes of these viruses to mix and create a new virus.  For example if a pig were infected with a human influenza virus and an avian influenza virus at the same time, the viruses could mix (reassort) and produce a new virus with most of the genes from the human virus, but a hemagglutinin and/or neuraminidase from the avian virus.  The resulting new virus would likely to be able
to infect humans and spread from person to person, but it would have surface proteins (hemagglutinin and/or neuraminidase) not previously seen in influenza viruses that infect humans.  This type of major change in the influenza A viruses is known as antigenic shift.  Antigenic shift results when a new influenza A subtype to which most people have little or no immune protection infects humans.  If this new virus causes illness in people and can be transmitted easily from person to
person, an influenza pandemic can occur.





Influenza A viruses are found in many different animals, including ducks, chickens, pigs, whales, horses and seals.  Influenza B viruses circulate widely only among humans. While it is unusual for people to get influenza infections directly from animals, sporadic human infections and outbreaks caused by certain avian influenza
A viruses have been reported.





A number of natural outbreak or challenge studies indicate that low doses of IFNα given orally and/or intranasally are safe and effective at treating human flu.  IFNα administered intranasally coats the oropharynx and comes in contact with the same receptors as IFNα administered orally.  Leukocyte interferon
was given in low doses intranasally for 3 consecutive days to 374 subjects “at the height” of an influenza outbreak.  Interferon-treated subjects had less severe illness than 382 subjects given placebo.  When interferon was given to 320 subjects “before” the influenza outbreak, these subjects had less illness than the 317 subjects given placebo.  It was reported that the interferon treatment was free
of adverse events.





In 1969, approximately 14,000 people in Moscow participated in controlled studies of placebo versus interferon treatment during a natural outbreak of Hong Kong influenza.  Interferon (about 128 units)


11


or placebo was dripped into the nose daily for 5 days starting about the time of the first reported influenza cases.  Interferon treatment significantly (P<0.01) reduced the number of influenza cases. Intranasal drops of human interferon alpha (5,000 units daily) given for 4 months reduced the frequency and severity of diseases
due to influenza A(H3N2 and H1N1) and parainfluenza virus.  Data was collected on 83 volunteers in the study.  Fever occurred in 6 of 40 volunteers given interferon and in 15 of 43 volunteers given placebo (P<0.01).  Subjective symptoms such as headache, cough, fatigue, anorexia, myalgia, etc. occurred in 34% of volunteers given interferon and in 67% of volunteers given placebo (P<0.01).





In 1982, it was reported that human leukocyte interferon (10,000 units/day) or placebo was dripped into the nostrils of 27 children daily for 60 days.  The children lived in an orphanage where natural outbreaks of influenza A and influenza B occurred during the treatment period.  Interferon did not prevent illness but
significantly reduced the duration of fever and reduced the main peak fever.  Clinical manifestations of influenza were milder in children given interferon compared to placebo.  Adverse events due to interferon therapy were not observed.





During influenza epidemics in 1983, 1984 and 1985, 140 children were treated with a spray of natural human interferon alpha into the nose and mouth twice daily for 3-4 days.  The total daily dose was reported to be 700-1600 units.  The 53 control children were given traditional Chinese herbs.  Children given
interferon had a significantly (P<0.01) faster normalization of temperature at 24, 36 and 48 hours after the first treatment.  The clinicians reported that pharyngitis and lymphadenosis of the posterior pharynx improved when fever subsided.





Low doses of interferon probably do not have a direct antiviral effect but instead exert an immune modulatory effect through interferon stimulated genes.  Influenza studies conducted in the USA, Australia and Germany have shown that oral interferon protects mice against an otherwise fatal influenza infection.





Influenza/Cold FDA Phase 2 Study (mostly funded by Australian government)


The University of Western Australia has reached full enrollment in a Phase 2 clinical study of oral interferon as prevention/treatment of respiratory illnesses, including influenza.   We provided the study drug, electronic data collection service, and US regulatory support for the study.  A total of 200 healthy
volunteers have been enrolled to take oral interferon or placebo lozenges once daily for 16 weeks, with an additional 4 weeks of untreated observation. Once per week, the study volunteers will submit a report detailing the severity of any cold/flu symptoms experienced, any medications taken, number of days of work missed, etc.  The aim of the study is to determine whether the volunteers who take oral interferon experience fewer respiratory illnesses and/or less severe symptoms during the winter cold/flu
season in Australia (June-September).  Final results of the study are expected to be available before the end of the year.





Two publications in the April issue of the Journal of Virology report that interferon placed in the nose of guinea pigs or ferrets suppresses replication of influenza virus.  These publications reinforce our view that low-dose interferon, in the nose or in the mouth, is protective against influenza in humans.





In the March 20, 2009 issue of Science (page 1560-1561), flu experts stated “Our ability to anticipate pandemic events is poor, and our anti-pandemic armamentarium is weak.  In an ever-shifting landscape of influenza evolution, we need to be farsighted and forceful in optimizing pandemic response capacity.”


12





We believe low-dose oral interferon alpha will help people overcome pandemic influenza.  The present swine flu epidemic threatens to endanger millions of people.  The WHO predicted (May 7, 2009) that 2 billion people could be infected by this new swine flu.





Chronic Cough – COPD – FDA Phase 2 ongoing, funding sought for a second study


COPD affects approximately 10% of the world population over 40, is a growing problem, and is the 4th leading cause of death in the world.  Chronic obstructive pulmonary disease (COPD) is a clinical condition with a progressive airflow limitation that
is poorly reversible and characteristic of chronic bronchitis and emphysema.  The causes of COPD include tobacco smoke, occupational dusts, chemicals, vapors and environmental pollutants.  COPD is estimated to affect more that 600 million people worldwide. There are no effective therapies for emphysema, nor are there efficient clinical management strategies.





Data from a Phase 2 clinical study at Texas Tech University shows that treatment with oral interferon leads to a rapid and significant reduction in the cough associated with idiopathic pulmonary fibrosis (IPF), resulting in improved quality of life.  Blinded, controlled studies in the US and Canada showed that oral interferon
relieves chronic coughing in horses with COPD-like disease. We have 9 patents and 4 patents pending, including a patent pending for oral interferon treatment of chronic cough. Oral interferon treatment of cough is expected to improve quality of life of COPD patients.





A proof-of-concept study of low-dose oral interferon as treatment of chronic cough is ongoing at Texas Tech University. This experimental clinical study is a Phase 2, randomized, double-blind, placebo-controlled, parallel trial in which 40 eligible volunteers with IPF or COPD-associated chronic cough will be randomly assigned to one of
two groups in equal numbers to receive either oral interferon or placebo lozenges. Treatment will be given three times daily for 4 weeks, and patients will be followed for 4 weeks post-treatment to assess durability of response. The study will evaluate the ability of oral interferon to reduce the frequency and severity of chronic cough, compared to placebo.





Hepatitis C FDA Phase 2 (funded by Cytopharm)


CytoPharm, Inc., our licensee for Taiwan and China, has started a Phase 2, placebo-controlled, dose-ranging study of 165 hepatitis C virus-infected patients in Taiwan.  The study is designed to test the ability of oral interferon to reduce the virologic relapse rate of patients who have completed standard therapy with pegylated
interferon plus ribavirin.





Oral Warts in HIV+ Patients – FDA Phase 2 ongoing, funded by AMAR


Oral warts are lesions in the mouth caused by the human papillomavirus. The FDA has granted Orphan Drug Designation to us for interferon in the treatment of oral warts in HIV+ patients. In Phase 1/2 clinical studies of 36 HIV+ patients with multiple oral warts who were receiving highly active antiretroviral therapy (HAART), efficacy of
oral interferon was observed when some subjects achieved a complete or nearly complete regression of their warts.





We have concluded enrollment of a Phase 2 placebo-controlled, 24-weekstudy. A total of 59 oral warts patients were enrolled at 10 clinical sites.  Treatment of ongoing patients and collection of data will be completed  by the end of 2009. If the results of the current study are positive, a partner will be sought to fund
further clinical development, which would include a Phase 3 trial to confirm safety and efficacy.


13





Strategic Alliancewith HBL.Hayashibara Biochemical Laboratories,
Inc. (“HBL”) was established in 1970 to engage in research and development. It is a subsidiary of Hayashibara Company, Ltd., a privately-owned Japanese holding corporation with diversified subsidiaries. For more than 130 years the Hayashibara Company, Ltd. and its predecessors have been applying microbiological technology in the starch industry for the production of maltose and other sugars.





In 1981, HBL established the Fujisaki Institute to accelerate development of industrial methods for the production of biologics and to sponsor clinical trials for such products. In 1985, HBL built the Fujisaki Cell Center to support basic research. In 1987, HBL successfully accomplished the mass production of human cells in an animal host
by producing human cells in hamsters. This made it possible to economically produce a natural form of human interferon alpha and other biologics. HBL also has developed and obtained patents for technology relating to the production of interferon  alpha-containing lozenges by which the stability of the interferon alpha activity can be maintained for up to 24 months at room temperature and up to five years if the product is refrigerated. We believe that the use of such lozenges gives it advantages over
competitive technologies in terms of cost, taste and ease of handling. On March 13, 1992, we entered into a Joint Development and Manufacturing/Supply Agreement with HBL (the “Development Agreement”). Such Development Agreement was subsequently amended on January 17, 1996; May 10, 1996; and September 7, 2001.  The current expiration date of the Development Agreement is March 12, 2011, at which time it will automatically renew for an additional three (3) years, unless the parties agree otherwise.
Among other things, the Development Agreement provides us with a source of natural human interferon alpha for use in the Company’s interferon alpha-containing products.





Strategic Alliance with Nobel.  We signed a licensing and supply agreement in September 2004 with a Turkish pharmaceutical company, NOBEL ILAC SANAYII VE TICARET A.S., providing the rights to oral low-dose interferon-alpha for the treatment of Behcet’s disease in Turkey
and in Azerbaijan, Bosnia & Herzegovina, Bulgaria, Croatia, Georgia, Kazakhstan, Kyrghyzstan, Macedonia, Romania, Russia, Saudi Arabia, Slovenia, Tajikistan, Turkmenistan, Uzbekistan, and Federal Republic of Yugoslavia.





Strategic Alliance with Bumimedic.In January 2006 we entered into a license and distribution agreement with Bumimedic (Malaysia) Sdn. Bhd, a Malaysian pharmaceutical company that is a part of the Antah HealthCare Group, to market our low-dose interferon (natural human
IFN) in Malaysia. Bumimedic will seek registration for our natural human IFN and commence marketing the product after approval. The terms of the agreement call for Bumimedic to manufacture lozenges from our bulk natural human IFN (which is supplied by Hayashibara Biochemical Laboratories); package the lozenges and distribute them to local hospitals, pharmacies and clinics in Malaysia. Pursuant to the agreement, we will receive a series of payments, in three stages: upon formal execution of the distribution agreement,
upon regulatory approval, and upon production. We will also receive a royalty on the sale of the natural human IFN.





Strategic Alliance with CytoPharm.In November 2006, we entered into a License and Supply Agreement with CytoPharm, Inc., a Taipei, Taiwan-based biopharmaceutical company whose parent company is Vita Genomics, Inc., the largest biotech company in Taiwan specializing in
pharmacogenomics and specialty Clinical Research Organization. Under the terms of the Agreement, CytoPharm and its subsidiary will conduct all clinical trials, and seek to obtain regulatory approvals


14


in both China and Taiwan (the “Territory”) to launch our low dose oral interferon in the Territory for influenza and hepatitis B (“HBV”) and hepatitis C (“HCV”) indications.  According to the Agreement, CytoPharm will make payments to us upon reaching certain milestones and will also pay royalties
on low dose oral interferon sales in the Territory.





In March 2008, we entered into a Supply Agreement for Animal Health with CytoPharm, Inc.  Under the terms of the Agreement, CytoPharm will conduct all clinical trials, and seek to obtain regulatory approvals in China and Taiwan (the “Territory”) to launch our low dose oral interferon in the Territory for treatment
of diseases and other healthcare applications of swine, cattle and poultry.  CytoPharm will make payments to us upon reaching certain milestones and will also pay royalties on low dose oral interferon sales in the Territory.Strategic Alliance with Cyto Biotech.On February 6, 2009, we entered into a 15-year License and Supply agreement with Cyto Biotech,
Inc. a Taipei, Taiwan animal health company.  Under the terms of the agreement, Cyto Biotech, will, at its sole expense and cost, conduct all clinical trials and studies and seek to obtain regulatory approvals in China, Taiwan, Thailand, the Philippines, Cambodia, Vietnam and Malaysia (“the Territory”), subject to the existing license and supply agreements with CytoPharm, Inc. and Bumimedic SDN. BHD., required for the commercial launch of our low dose oral interferon in the Territory for
any animal and human health indications.





Cyto Biotech purchased common stock, included in the above issuances in Amarillo Biosciences stock; paid an initial license fee to us; and will pay a net royalty on low dose oral interferon sales.  In addition, the agreement calls for certain minimum royalty payments to be made.





Nutraceutical Product.   We sell anhydrous crystalline maltose (ACM) as Maxisal® to individuals and to pharmacies in the USA and to licensed distributors overseas. We seek to out-license Maxisal®.





Equity Funding.In the first quarter of 2009, the Company sold 3,050,000 unregistered shares of common stock for $0.10 per share plus 3,050,000 3-year warrants with $0.20 exercise price and 500,000 unregistered shares of common stock for $0.10 per share plus 500,000 3-year
warrants with $0.10 exercise price.  Net proceeds from private placement stock sales totaled $320,000 after payment of $35,000 in commissions and finder’s fees.   A consultant purchased 62,500 shares at $0.08 per share for $5,000 cash.  Equity funding net of commissions and finder’s fees totaled $325,000.





In the second quarter of 2009, the Company sold 2,320,290 unregistered shares of common stock for $0.10 per share plus 2,280,000 3-year warrants with $0.10 exercise price.  Net proceeds from private placement stock sales totaled $227,029 after payment of $5,000 in finder’s fees.  An officer was paid 419,367 shares
of common stock in lieu of $41,937 of salary.  Two investment bankers exercised 395,156 cashless warrants at $0.10 per share and received 183,375 shares of common stock.





In the third quarter of 2009, the Company sold 1,507,060 unregistered shares of common stock for $0.10 per share plus 1,507,060 3-year warrants with $0.10 exercise price.  Net proceeds from private placement stock sales totaled $147,706 after payment of $3,000 in finder’s fees.  An officer was paid 50,443 shares
of common stock in lieu of $9,836 of salary.  Two consultants were issued 25,000 and 20,550 shares of registered common stock for $4,875 and $5,343 of services respectively.   An officer was paid 408,486 shares of the Company’s registered common stock, pursuant to the


15


Amended and Restated 2008 directors, Officers, and Consultants Stock Purchase Plan in payment of $35,458 of accrued and unpaid salary due and owing for pay periods running from February 15, 2009, through May 31, 2009, inclusive.  Four investment bankers exercised 1,076,842 cashless warrants at $0.10 per share and received 602,479
shares of common stock.





Results of Operations for Quarter Ended September 30, 2009 and 2008:





Revenues.  During the quarter ended September 30, 2009, $36 from dietary supplement sales was generated compared to $234 for the quarter ended September 30, 2008, a decrease of $198 or 85%.  During the quarter ended September 30, 2009, $48,000 sublicense fee was generated compared to a $30,000  sublicense fee
the quarter ended September 30, 2008, an increase of $18,000 or 60%.





Research and Development Expenses. Research and development expenses of $110,032 were incurred for the quarter ended September 30, 2009, compared to $42,398 for the quarter ended September 30, 2008, an increase of $67,634 (160%).  The increase was mostly from a patient recruitment advertising credit for $75,000 in the third quarter
of 2008.  R&D costs excluding the advertising credit were $117,398.





Selling, General and Administrative Expenses. Selling, general and administrative expenses of $235,484 were incurred for the third quarter in 2009, compared to $281,113 for the third quarter of 2008, a decrease of $45,629 (16%).  The reduction was mostly the result of savings from staff reductions.





Change in Fair Value of Derivative Instruments.  Change in fair value of derivative instruments was realized as a $744,913 operating expense in the third quarter of 2009 compared to zero in the third quarter of 2008.   The change in fair value of derivative instruments was not reported in 2008.





Net Loss.  The Company's net loss for the third quarter of 2009 was $1,090,120 compared to a net loss of $331,940 for the third quarter of 2008, an increase of $758,180 (228%).  This was mostly a result of the $744,913 change in fair value of derivatives recorded for the third quarter of 2009.  Recognition
of the change in fair value for derivatives was not reported in 2008.  A $25,000 preferred stock dividend was recognized during the third quarter of 2008 which increased the net loss applicable to common shareholders to $356,940.





Results of Operations for the Nine Months Ended September 30, 2009 and 2008:





Revenues.  During the nine month period ended September 30, 2009, $264 from dietary supplement sales was generated compared to dietary supplement sales for the nine-month period ended September 30, 2008, of $1,518, a decrease of $1,254 or approximately 83%.  During the nine-month period ended September 30, 2009 a $48,795
of sublicense fees were generated compared to a $60,000 sublicense fees for the nine-month period ended September 30, 2008, a $11,205 decrease or approximately 19%.





Research and Development Expenses. Research and development expenses of $389,969 were incurred for the nine-month period ended September 30, 2009, compared to $388,014 for the nine-month period ended September 30, 2008, an increase of $1,955 (0.5%).   Clinical costs were similar for the nine months ended September 30, 2009
and 2008; except, clinical costs increased  $42,020 for influenza and decreased $41,869 for oral warts in HIV+ patients  during the first nine months of 2009.


16





Selling, General and Administrative Expenses. Selling, general and administrative expenses of $917,572 were incurred for the nine-month period ended September 30, 2009, compared to $1,085,098 for the nine-month period ended September 30, 2008, a decrease of $167,526 (15%). This
was mostly a result of lower payroll ($113,716) and investor relations ($245,030) expenses.  These expense reductions were partially offset by a $205,320 increase in non-cash employee and director options expenses.





Interest and Other Income.   During the nine-month period ended September 30, 2009, $3,391 of interest and other income was generated compare to $2,696 in the nine-month period ended September 30, 2008, an increase of $695 (26%).





Net Loss.  During the nine-month period ended September 30, 2009, the net loss was $4,085,628 compared to a net loss for the nine-month period ended September 30, 2008 of $1,507,943, an increase of $2,577,685 (171%).  The increase in net loss was mostly attributable to a $2,736,649 change in fair value of derivatives
recorded for the nine-month period ended September 30, 2009.  No change in fair value for derivatives was reported in 2008.  A $562,841 deemed dividend for the conversion feature of preferred stock and $73,056 of preferred dividends were recognized during the first nine months of 2008 which increased the net loss applicable to common shareholders to $2,143,840.





Liquidity Needs:  On September 30, 2009, the Company had available $39,975 cash and had a working capital deficit (current assets less current liabilities) of $6,509,354.  This includes $3,424,372 of non-cash derivative liabilities for warrants with embedded derivatives.  Current liabilities include two $1
million notes, $639,904 of accrued interest and $78,360 of accrued expense owed to Hayashibara Biochemical Laboratories, Inc. (HBL), the Company’s largest shareholder.   Accrued payroll and vacation expenses owed mostly to officers are $256,193.





Assuming there is no decrease in current accounts payable, the Company’s negative cash flow for operating activities plus equipment purchases and patent filings, the Company’s cash burn rate was approximately $75,000 per month during the first nine months of 2009.  The Company's continued losses and lack of liquidity
raise substantial doubt about whether the Company is able to continue as a going concern for a reasonable period of time. The Company's ability to continue as a going concern is dependent upon several factors including, but not limited to, the Company's ability to generate sufficient cash flows to meet its obligations on a timely basis, obtain license and milestone fees, obtain additional financing and continue to obtain supplies and services from its vendors. The Company will need to raise additional funds in
order to fully execute its 2009 and 2010 Plan.  The Company is currently pursuing potential investors for funding.  In addition, the Company is also pursuing potential pharmaceutical partners to provide upfront license fee payments and funding for clinical studies.  There can be no assurance that private placement funding or pharmaceutical partner funding will become available.





Forward-Looking Statements: Certain statements made in this Plan of Operations and elsewhere in this report are "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995 (the "Act"). Forward-looking statements include, without limitation, any statement that may predict, forecast, indicate or
imply future results, performance, achievements, costs or expenses and may contain words such as "believe," "anticipate," "expect," "estimate," "project," "budget," or words or phrases of similar meaning. Forward-looking statements involve


17


risks and uncertainties which may cause actual results to differ materially from those projected in the forward-looking statements. Such risks and uncertainties are detailed from time to time in reports filed by the Company with the Securities and Exchange Commission, including Forms 8-K, 10-Q and 10-K and include among others the following:
promulgation and implementation of regulations by the U.S. Food and Drug Administration ("FDA"); promulgation and implementation of regulations by foreign governmental instru­mentalities with functions similar to those of the FDA; costs of research and development and clinical trials, including without limitation, costs of clinical supplies, packaging and inserts, patient recruitment, trial monitoring, trial evaluation and publication; and possible difficulties in enrolling a sufficient number of qualified
patients for certain clinical trials. The Company is also dependent upon a broad range of general economic and financial risks, such as possible increases in the costs of employing and/or retaining qualified personnel and consultants and possible inflation which might affect the Company's ability to remain within its budget forecasts. The principal uncertainties to which the Company is presently subject are its inability to ensure that the results of trials performed by the Company will be sufficiently favorable
to ensure eventual regulatory approval for commercial sales, its inability to accurately budget at this time the possible costs associated with hiring and retaining of additional personnel, uncertainties regarding the terms and timing of one or more commercial partner agreements and its ability to continue as a going concern.





The risks cited here are not exhaustive. Other sections of this report may include additional factors which could adversely impact the Company's business and future prospects. Moreover, the Company is engaged in a very competitive and rapidly changing industry.





New risk factors emerge from time to time and it is not possible for management to predict all such risk factors, nor can it assess the impact of all such risk factors on the Company's business, or the extent to which any factor or combination of factors may cause actual results to differ materially from those projected in any forward-looking
statements. Given these risks and uncertainties, investors should not place undue reliance on forward-looking statements as a prediction of actual future events.





ITEM 3.                      Quantitative and Qualitative Disclosures About Market Risk.





We may not be able to adequately protect and maintain our intellectual property.Our success will depend in part on our ability to protect and maintain our patents, intellectual
property rights and licensing arrangements for our products and technology.  We currently own three patents and license seven  patents.  No assurance can be given that such licenses or rights used by us will not be challenged, infringed or circumvented or that the rights granted thereunder will provide competitive advantages to us. Furthermore, there can be no assurance that we will be able to remain in compliance with our existing or future licensing arrangements. Consequently,
there may be a risk that licensing arrangements are withdrawn with no penalties to the licensee or compensation to us.





We rely on third parties for the supply, manufacture and distribution of our products.  Third parties manufacture and distribute all of our products. We do not currently have manufacturing facilities or personnel to independently manufacture our products. Currently, Marlyn
Nutraceutical manufactures our nutraceutical products. Our licensed distributors, located in the United States and internationally, distribute the products.  Except for any contractual rights and remedies that we may have with our manufacturer and our distributors, we have no control over the availability of our products, their


18


quality or cost or the actual distribution of our products. If for any reason we are unable to obtain or retain third-party manufacturers and distributors on commercially acceptable terms, we may not be able to produce and distribute our products as planned.  If we encounter delays or difficulties with our contract manufacturer
in producing or packaging our products or with our distributor in distributing our products, the production, distribution, marketing and subsequent sales of these products would be adversely affected, and we may have to seek alternative sources of supply or distribution or abandon or sell product lines on unsatisfactory terms. We may not be able to enter into alternative supply, production or distribution arrangements on commercially acceptable terms, if at all. There can be no assurance that the manufacturer
that we have engaged will be able to provide sufficient quantities of these products or that the products supplied will meet with our specifications or that our distributor will be able to distribute our products in accordance with our requirements.





We are dependant on funding from private placements of stock.Our sales revenue, sublicense fees and royalty income are negligible compared to expenses.  Our primary focus is to achieve FDA approval of oral interferon for one or more disease indications.  We
do not expect significant sales or royalty revenue in the near term as Phase 2 and Phase 3 clinical studies must be completed before a NDA (New Drug Application) may be submitted to the FDA.  We operate at a net loss and current liabilities exceed current assets by $6,509,354.  The working capital deficit includes two $1 million notes, $639,904 of accrued interest and $78,360 of accrued expenses owed to our largest shareholder (HBL); $256,193 of accrued payroll and vacation expenses owed mostly
to officers; and $3,424,372 of non-cash derivative liabilities for warrants with embedded derivatives.   The remaining working capital deficit of approximately $111,000 consists of accounts payable and accrued expenses.





The Company is currently pursuing potential investors for funding.  In addition the Company is also pursuing potential pharmaceutical partners to provide upfront license fee payments and funding for clinical studies.  There can be no assurance that private placement funding or pharmaceutical partner funding will become
available.





We are dependent on certain key existing and future personnel.Our success will depend, to a large degree, upon the efforts and abilities of our officers and key management employees such as Dr. Joseph M. Cummins, our President and Chief Executive Officer, Bernard Cohen,
our Chief Financial Officer, and Martin J. Cummins, our Vice President of Clinical and Regulatory Affairs. The loss of the services of one or more of our key employees could have a material adverse effect on our operations. We do currently have employment agreements with our executive officers. We do not currently maintain key man life insurance on any of our key employees.  In addition, as our business plan is implemented, we will need to recruit and retain additional management and key employees in
virtually all phases of our operations. We cannot assure that we will be able to successfully attract and retain key personnel.





If we do not successfully develop, acquire or license new drugs our business may not grow.We must invest substantial time, resources and capital in identifying and developing new drugs, dosage and delivery systems, either on our own or by acquiring and licensing such products
from third parties. Our growth depends, in part, on our success in such process.  If we are unable to either develop new products on our own or acquire licenses for new products from third parties, our ability to grow revenues and market share may be adversely affected. In addition, we may not be able to recover our investment in the development of new drugs, given that projects may be interrupted, unsuccessful, not as profitable as initially contemplated or we may not be able to obtain necessary financing
for such development if we are unable to fund such development from our future revenues. Similarly, there is no assurance that we can successfully secure such rights from third parties on an economically feasible basis.


19








Our competitors are much larger and more experienced than we are and, even if we complete the development of our drugs, we may not be able to successfully compete with them.The pharmaceutical industry is highly competitive.  Our biologics and low-dose oral interferon
alpha applications compete with high dose injectable interferon manufactured by Roche, Schering, InterMune, Serono, Biogen, Berlex and Hemispherx. High dose injectable interferon has been widely accepted by the medical community for many years.  Companies who manufacture injectable interferon alpha applications are more established than we are and have far greater financial, technical, research and development, sales and marketing, administrative and other resources than we do.  Even if we
successfully complete the development of our tests, we may not be able to compete effectively with these much larger companies and their more established products.





We have been the subject of a going concern opinion by our independent auditors who have raised substantial doubt as to our ability to continue as a going concern.Our Independent Registered Public Accounting firm has added an explanatory paragraph to their audit  reports
issued in connection with our financial statements for December 31, 2008 and 2007 which states that our recurring losses from operations and the need to raise additional financing in order to execute our business plan raise substantial doubt about our ability to continue as a going concern. We have experienced net losses of $1,507,943 for the nine months ended September 30, 2008 and $4,085,628 for the nine months ended September 30, 2009.  In addition, as of September 30, 2009 we had an accumulated
deficit of $36,433,360. These factors, among others, raise substantial doubt about our ability to continue as a going concern. Our financial statements do not include any adjustment that might result from the outcome of this uncertainty. Assurances cannot be given that adequate financing can be obtained to meet our capital needs. We have already significantly curtailed operations, and if we are unable to generate profits and if we to continue to be unable to obtain financing to meet our working capital requirements,
we will have to cease operations altogether. Our continuation as a going concern is dependent upon our ability to generate sufficient cash flow to meet our obligations on a timely basis, to retain our current financing, to obtain additional financing, and, ultimately, to attain profitability.





Risk Relating to Our January 2008 Financing Arrangement.There are 12,477,999 shares underlying our warrants related to our January 2008 financing arrangement that may be available for
future sale and the sale of these shares may depress the market price of our common stock.  In addition the warrants have an anti-dilution ratchet feature that could cause the number of warrants to increase and the exercise price to decrease if we should have any non exempt stock, option or warrant issuances less the $0.10 per share.As of September 30, 2009, we had 47,147,196 shares of common stock issued and outstanding
plus 28,997,761 shares reserved for options and warrants which includes the above January 2008 warrants.





Risks Related to our Common Stock.There is only a limited market for our common stock and the price of our common stock may be affected by factors that are unrelated to the performance of our business.  If any of the risks described in these Risk Factors or other
unseen risks are realized, the market price of our common stock could be materially adversely affected.  Additionally, market prices for securities of biotechnology and diagnostic companies have historically been very volatile.  The market for these securities has from time to time experienced significant price and volume fluctuations for reasons that are unrelated to the operating performance of any one company.  In particular, and in addition to the other risks described elsewhere in these Risk
Factors, the following factors can adversely affect the market price of our common stock:


20





·
announcements of technological innovation or improved or new diagnostic products by others;


·
general market conditions;


·
changes in government regulation or patent decisions;


·
changes in insurance reimbursement practices or policies for diagnostic products.





Our common shares have traded on the Over the Counter Bulletin Board at prices below $5.00 for several years. As a result, our shares are characterized as “penny stocks” which could adversely affect the market liquidity of our common stock.  The Securities Enforcement and Penny Stock Reform Act of 1990 requires additional
disclosure relating to the market for penny stocks in connection with trades in any stock defined as a penny stock. Securities and Exchange Commission regulations generally define a penny stock to be an equity security that has a market price of less than $5.00 per share, subject to certain exceptions. Such exceptions include any equity security listed on NASDAQ or a national securities exchange and any equity security issued by an issuer that has:





·
net tangible assets in excess of $2,000,000, if such issuer has been in continuous operation for three years;


·
net tangible assets in excess of $5,000,000, if such issuer has been in continuous operation for less than three years; or


·
average revenue of at least $6,000,000, for the last three years.





Unless an exception is available, the regulations require, prior to any transaction involving a penny stock, that a disclosure schedule explaining the penny stock market and the risks associated therewith is delivered to a prospective purchaser of the penny stock.  We currently do not qualify for an exception, and, therefore, our common
stock is considered to be penny stock and is subject to these requirements.  The penny stock regulations adversely affect the market liquidity of our common shares by limiting the ability of broker/dealers to trade the shares and the ability of purchasers of our common shares to sell in the secondary market.  In addition, certain institutions and investors will not invest in penny stocks.




Future sales of a significant number of shares of our common stock by existing stockholders may lower the price of our common stock, which could result in losses to our stockholders.  We estimate there that are approximately 25,000,000 restricted shares outstanding which, upon becoming freely tradable under Rule 144 or 144(k)
of the Securities Exchange Act of 1934, may lower the price of our common stock.





The Company continues to pursue a broad range of financing alternatives to improve its financial condition. These alternatives may include the sale or issuance of a substantial amount of common stock, common stock warrants or stock options. These financing alternatives could require an increase in the number of authorized shares of the
Company’s common stock and result in significant dilution to existing shareholders and, possibly, a change of control of the Company.





ITEM 4.                      Controls and Procedures




As required by Rule 13a-15 under the Exchange Act, we have carried out an evaluation of the effectiveness of the design and operation of our company’s disclosure controls and procedures as of the end of the period covered by this quarterly report, being September 30, 2009. This evaluation was carried out under the supervision and
with the participation of our company’s management, including




21


our company’s president and chief executive officer. Based upon that evaluation, our company’s president and chief executive officer concluded that our company’s disclosure controls and procedures are effective as at the end of the period covered by this report. There have been no significant changes in our company’s
internal controls or in other factors, which could significantly affect internal controls subsequent to the date we carried out our evaluation.




Disclosure controls and procedures are controls and other procedures that are designed to ensure that information required to be disclosed in our company’s reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s
rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in our company’s reports filed under the Exchange Act is accumulated and communicated to management, including our company’s president and chief executive officer as appropriate, to allow timely decisions regarding required disclosure.




There were no changes in internal controls over financial reporting during the third quarter of 2009.








PART II - OTHER INFORMATION





ITEM 1.                   Legal Proceeding.





From time to time, we may become involved in various lawsuits and legal proceedings which arise in the ordinary course of business. Litigation is subject to inherent uncertainties, and an adverse result in these or other matters may arise from time to time that may harm our business.  As of the date of this report, we were not
aware of any such legal proceedings or claims against us.





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





During the first quarter of 2009, we sold 3,550,000 restricted shares of common stock at $0.10 per share with 3,550,000 three year warrants exercisable at $0.10 - $0.20 per share (private placements) to four investors, generating net proceeds of $320,000 in cash after $35,000 of commissions and finder fees were paid.  Also, a
consultant purchased 62,500 shares of common stock at $0.08 per share (Directors, Officers, Consultants Plan), generating $5,000 in cash.





During the first quarter of 2009, officers were paid 1,407,905 shares of common stock at $0.05 - $0.08 per share in lieu of salaries (Directors, Officers, Consultants Plan).  Also, consultants were paid 636,364 shares of common stock at $0.055 per share in lieu of services (Directors, Officers, Consultants Plan).   Salaries
and services paid in stock totaled $140,846.





During the second quarter of 2009, we sold 2,280,000 restricted shares of common stock at $0.10 per share with 2,280,000 three year warrants exercisable at $0.10 per share (private placements) to five investor, generating $223,000 after $5,000 of commissions and finder’s fees were paid.  We sold 40,290 shares at $0.10 per share
to Bumimedic, a licensee, generating $4,029.





During the second quarter of 2009, an officer was paid 419,367 shares of common stock at $0.10 per share in lieu of salaries (Directors, Officers, Consultants Plan).





In the third quarter of 2009, the Company sold 1,507,060 unregistered shares of common stock for $0.10 per share plus 1,507,060 3-year warrants with $0.10 exercise price.  Net proceeds from private placement stock sales totaled $147,706 after payment of $3,000 in finder’s fees.


22








During the third quarter of 2009, an officer was paid 50,443 shares of common stock in lieu of $9,836 of salary.





The chart below details unregistered issuances of common stock.





Date (2009)
Shares of Common Stock
Purchaser
Discount1Issue Price
Number
Per Share
Total1
January 92
$
.10
50,000
Jo Lynn Carney
$
0
$
02
February 5

.08
62,500
Katsuaki Hayashibara

0

03
February 133

.10
3,000,000
Cyto Biotech

0

04
February 20

.08
134,984
Dr. Joseph Cummins

0

05
February 20

.08
100,510
Dr. Gary Coy

0

06
February 20

.08
969,835
Dr. Peter Mueller

0

07
March 14

.10
250,000
Paul Tibbits

0

08
March 14

.10
250,000
Marian Tibbits

0

09
March 12

.0465
116,116
Dr. Joseph Cummins

0

010
March 12

.0465
86,460
Dr. Gary Coy

0

011
March 25

.055
318,182
Alicia Browner

0

012
March 25

.055
318,182
Richard Tieken

0

013
April 275

.10
150,000
Griffin Family Trust

.045

6,75014
April 296

.10
10,000
Stacy Barnett

.075

75015
April 30

.10
40,290
Bumimedic

.025

1,00716
April 307

.10
500,000
Paul Tibbits

.025

12,50017
May 18

.10
1,000,000
Cheryl Ulie

.03

30,00018
May 59

.10
500,000
Robert Barnett

0

019
May 59

.10
100,000
Noelle Gehm

0

020
May 6

.10
419,367
Dr. Peter Mueller

0

024
June 3010

.10
20,000
Shirley Ritschel

.07

1,40025
July 1711

.10
50,000
David B. Min

.07

3,50026
July 2812

.10
150,000
Marian Tibbits

.05

7,50027
July 2812

.10
150,000
Paul Tibbits

.05

7,50028
August 1313

.10
100,000
Raymond Karlin

.079

7,90029
September 114

.10
500,000
Shailesh Ardhapurkar

.139

69,50030
September 114

.10
75,000
Tyler Jones

.139

1,04331
September 315

.10
100,000
Dipayan Sarkar

.185

18,50032
September 16

.195
50,443
Dr. Joseph Cummins

0

033
September 1816

.10
53,530
Marvin Pflaumer

.16

8,56534
September 1816

.10
53,530
Anne Pflaumer

.16

8,56535
September 2117

.10
125,000
Tyler Jones

.148

18,50036
September 2518

.10
100,000
Don McTaggart

.1249

1,24937
September 3019

.10
50,000
Terrence Oder

.16

8,000





23


1.
Discounts were calculated based on the closing price of the last transaction on each date.


2.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.20 per share.  The stock closing price on January 9, 2009 was $0.07 per share.




3.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.20 per share.  The stock closing price on February 13, 2009 was $0.065 per share.




4.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on March 1, 2009 was $0.07 per share.




5.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on April 27, 2009 was $0.145 per share.




6.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on April 29, 2009 was $0.175 per share.




7.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on April 30, 2009 was $0.125 per share.




8.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on May 1, 2009 was $0.13 per share.




9.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on May 5, 2009 was $0.095 per share.




10.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on May 30, 2009 was $0.17 per share.





11.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on July 17, 2009 was $0.17 per share.





12.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on July 28, 2009 was $0.15 per share.





13.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on August 13, 2009 was $0.179 per share.





14.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on September 1, 2009 was $0.239 per share.





15.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on September 3, 2009 was $0.285 per share.


24





16.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on September 18, 2009 was $0.26 per share.





17.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on September 21, 2009 was $0.248 per share.





18.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on September 25, 2009 was $0.2249 per share.





19.
The price was $0.10 for each share of common stock and one warrant with three year term and exercisable at $0.10 per share.  The stock closing price on September 30, 2009 was $0.26 per share.





ITEM 3.
Defaults Upon Senior Securities.


None, other than set forth in Note 6 to Financial Statements, “Notes Payable”, under Part I, Item 1, above, regarding non-payment of the HBL Notes.





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


None.





ITEM.5.
Other Information


None





ITEM 6.
Exhibits.





10.69
Consulting Agreement dated September 4, 2009, between the Company and Biotech Financial Inc.10.70
Employment Contracted, dated October 1, 2009, between the Company and Bernard Cohen.





25







SIGNATURES




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




AMARILLO BIOSCIENCES, INC.









Date: November 13, 2009
By:/s/ Joseph M. Cummins


Joseph M. Cummins


President and Chief Executive Officer








Date: November 13, 2009
By:/s/ Bernard Cohen


Bernard Cohen


Vice President and Chief Financial Officer








26