UNITED
STATES


SECURITIES AND EXCHANGE
COMMISSION


Washington, D.C.
20549


FORM
10-KSB


þ
            
            ANNUAL
      REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGEACT
      OF 1934


For
the fiscal year ended December 31, 2007


o
            
            TRANSITION
      REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGEACT
      OF 1934


For
the transition period from _________ to _________


Commission File
No. 0-51891


INTERNATIONAL STEM CELL
CORPORATION


(Name
of small business issuer in its charter)


Delaware
            
            20-4494098(State
      of other jurisdiction of
              incorporation
      or organization)
            
            (I.R.S.
      Employer
              Identification
      Number)2595
      Jason CourtOceanside, CA
            
            92056(Address
      of principal executive offices)
            
            (Zip
      Code)


Issuer’s
telephone number: (760) 940-6383


Securities
registered under Section 12(b) of the Exchange Act:


Title
      of each class
            
            Name
      of each exchange on which registeredNone
            
            None





Securities
registered under Section 12(g) of the Exchange Act:





Common Stock, $0.001 par
value per share


(Title of
class)





Check
whether the issuer is not required to file reports pursuant to Section 13
or 15(d) of the Exchange Act. o





Check
whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or
for such shorter period that the registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past
90 days. Yes þ
No o





Check if
there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained in this form, and no disclosure will be contained,
to the best of registrant’s knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB/A or
any amendment to this Form
10-KSB/A. þ





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





State
issuer’s revenues for its most recent fiscal year. $38,764


State the
aggregate market value of the voting and non-voting common equity held by
non-affiliates computed by reference to the price at which the common equity was
sold, or the average bid and asked price of such common equity, as of a
specified date within the past 60 days. (See definition of affiliate in
Rule 12b-2 of the Exchange Act.) $19,806,917,based on the last price at
which the shares were sold on March 7, 2008 of $0.56 per
share.





Number of
shares outstanding of each of the issuer’s classes of common equity, as of
March 1, 2008:


Common
Stock: 35,369,495





Transitional
Small Business Disclosure Format (Check one): Yes o No þ
















TABLE OF CONTENTS


PageCautionary Note About
      Forward-Looking Statements
            
            
            iiPART I
            
            
            1Item 1.
            
            Description of Business.
            
            
            1Item 2.
            
            Description of Property.
            
            
            22Item 3.
            
            Legal Proceedings.
            
            
            23Item 4.
            
            Submission of Matters to a Vote
      of Security Holders.
            
            
            23PART
    II
            
            
            23Item 5.
            
            Market for Common Equity, Related
      Stockholder Matters and Small Business Issuer Purchases of Equity
      Securities.
            
            
            23Item 6.
            
            Management’s Discussion and
      Analysis or Plan of Operation.
            
            
            25Item 7.
            
            Financial Statements.
            
            
            30Item 8.
            
            Changes in and Disagreements With
      Accountants on Accounting and Financial Disclosure.
            
            
            30Item 8A.
            
            Controls and Procedures.
            
            
            30Item 8B.
            
            Other Information.
            
            
            31Item 13.
            
            Exhibits.
            
            
            32Item 14.
            
            Principal Accountant Fees and
      Services.
            
            
            34SIGNATURES
            
            
            35Exhibit 21.1Exhibit 23.1Exhibit 31.1Exhibit 31.2Exhibit 32.1Exhibit
32.2





i








CAUTIONARYNOTE REGARDING FORWARD-LOOKING STATEMENTS





This
Annual Report on Form 10-KSB contains forward-looking statements. For example,
statements regarding our financial position, business strategy and other plans
and objectives for future operations, and assumptions and predictions about
future product demand, marketing, expenses and sales are all forward-looking
statements. These statements may be found in the items of this Annual Report
entitled “Description of Business” and “Management’s Discussion and Analysis or
Results of Operations,” as well as in this Annual Report generally. These
statements are generally accompanied by words such as “intend,” “anticipate,”
“believe,” “estimate,” “potential(ly),” “continue,” “forecast,” “predict,”
“plan,” “may,” “will,” “could,” “would,” “should,” “expect,” or the negative of
such terms or other comparable terminology. We have
based these forward-looking statements on our current expectations and
projections about future events. We believe that the assumptions and
expectations reflected in such forward-looking statements are reasonable, based
on information available to us on the date hereof, but we cannot assure you that
these assumptions and expectations will prove to have been correct or that we
will take any action that we may presently be planning. However, these
forward-looking statements are inherently subject to known and unknown risks and
uncertainties. Actual results or experience may differ materially from those
expected or anticipated in the forward-looking statements. Factors that could
cause or contribute to such differences include, but are not limited to,
regulatory policies, competition from other similar businesses, and market and
general economic factors. This discussion should be read in conjunction with the
consolidated financial statements and notes thereto included in this Annual
Report.





We have
identified some of the important factors that could cause future events to
differ from our current expectations and they are described in this Annual
Report in the section entitled “Risk Factors” which you should review carefully.
Please consider our forward-looking statements in light of those risks as you
read this Annual Report. If one or more of these or other risks or uncertainties
materialize, or if our underlying assumptions prove to be incorrect, actual
results may vary materially from what we project. We do not undertake, and
specifically decline any obligation, to update any forward-looking statements or
to publicly announce the results of any revisions to any statements to reflect
new information or future events or developments.























ii





PARTI






ITEM
1.     DESCRIPTIONOF BUSINESS


Business Overview





We are a
biotechnology company currently focused on developing therapeutic products and
research products. In the area of therapeutic product development, our objective
is to create an unlimited source of human cells for use in the treatment of
several diseases including diabetes, liver disease, corneal disease and retinal
disease through cell transplant therapy. In furtherance of this objective, we
are currently developing (i) stem cells that are comparable in function to,
but distinct in derivation from, embryonic stem cells from which cells for human
transplant can be derived, (ii) techniques to cause those cells to be
“differentiated” into the specific cell types required for transplant, and
(iii) manufacturing protocols to produce these cells without contamination
with animal by-products in compliance with U.S. Food and Drug Administration
requirements. While our cell lines are comparable to embryonic cell lines
because they have the potential to become any cell in the human body through
differentiation, the development of our cell lines does not require the use of
fertilized eggs or the destruction of any embryos created through
fertilization.





Incidental
to the research being conducted in the development of therapeutic products, we
have developed research products (specialized cell systems, media and reagents
for use in stem cell and other medical research) which we have commercialized
and are selling to academic institutions, governmental entities and commercial
research companies. The sale of these research products is expected to provide
us with revenue to support a portion of the development of therapeutic
products.





According
to the National Institutes of Health, research on stem cells is advancing
knowledge about how an organism develops from a single cell and how healthy
cells replace damaged cells in adult organisms. This area of science is also
leading scientists to investigate the possibility of cell-based therapies to
treat disease, which is often referred to as regenerative or reparative
medicine. A potential application of human stem cells is the generation of cells
and tissues that may be used for cell-based therapies. Today, donated organs and
tissues are often used to replace ailing or destroyed tissue, but the need for
transplantable tissues and organs far outweighs the available supply. Stem
cells, directed to differentiate into specific cell types, offer the possibility
of a renewable source of replacement cells and tissues to treat diseases
including diabetes, liver disease, corneal disease and retinal
disease.





Stem
cells are undifferentiated primary cells that have the potential to become any
tissues or organs of the body. However, stem cell therapies have technical,
ethical and legal hurdles to overcome before they will be able to be used to
effect tissue and organ repair. To realize the promise of cell-based therapies
for the treatment of diseases, scientists must be able to manipulate stem cells
so that they possess the necessary characteristics for successful
differentiation, transplantation and engraftment. The following is a list of
some of the major steps in successful cell-based treatments that scientists will
have to learn to precisely control to ready such treatments for clinical use. To
be useful for transplant purposes, stem cells must be reproducibly made
to:





•
            
            proliferate
      extensively and generate sufficient quantities of
  tissue;•
            
            differentiate
      into the desired cell type(s);•
            
            survive
      in the recipient after transplant;•
            
            integrate
      into the surrounding tissue after transplant;•
            
            function
      appropriately;•
            
            avoid
      harming the recipient; and•
            
            avoid
      or reduce the problem of immune
rejection.








We
believe that the market for our products will be substantial given the current
limited supply of human cells required to make transplants possible, the need
for cells that will not be rejected, and the need for cells produced without
contamination by animal by-products. Addressing these core issues will provide
an excellent opportunity for the commercialization of our products.





In
addition to the work we are doing to develop cells for therapeutic cell
transplant, we are engaged in the development, production and sale of specialty
research products. This portion of our business is focused on the needs of stem
cell researchers for specialized cells, media and reagents used in the
development of therapeutic products.





During
2007, we had two peer review papers published.





History





We were
incorporated in Delaware on June 7, 2005 under the name BTHC III, Inc. to
effect the reincorporation of BTHC III, LLC, a Texas limited liability company,
mandated by a plan of reorganization. Pursuant to the plan of reorganization, an
aggregate of 500,000 shares of our common stock were issued to holders of
administrative and tax claims and unsecured debt, of which 350,000 shares were
issued to Halter Financial Group. The plan of reorganization required the
consummation of a merger or acquisition prior to June 20, 2007. Until the
Share Exchange Agreement described below, BTHC III, Inc. conducted no
operations. In October 2006, BTHC III, Inc. affected a 4.42-for-one stock
split with respect to the outstanding shares of common stock. After giving
effect to the stock split and eliminating fractional shares, there were
2,209,993 shares of common stock outstanding.





On
December 28, 2006, pursuant to a Share Exchange Agreement, BTHC III, Inc.
issued 33,156,502 shares of common stock, representing approximately 93.7% of
the common stock outstanding immediately after the transaction, to the
shareholders of International Stem Cell Corporation, a California corporation
(“ISC California”), in exchange for all outstanding stock of ISC California. As
a result of this transaction, ISC California became wholly owned by us. This
transaction is being accounted for as a “reverse merger” for accounting
purposes. Consequently, the assets and liabilities and the historical operations
that are reflected in our financial statements are those of ISC California and
its subsidiary. On January 29, 2007, we changed our name to International
Stem Cell Corporation and in connection therewith our trading symbol changed to
ISCO.OB.





ISC
California was incorporated in California in June 2006 for the purpose of
restructuring the business of Lifeline Cell Technology, LLC, which was organized
in California in August 2001. As a result of the restructuring, Lifeline
became wholly-owned by ISC California. All of our current operations are
conducted by Lifeline. Our principal executive offices are located at 2595 Jason
Court, Oceanside, California 92056, and our telephone number is
(760) 940-6383.





Frequently Asked
Questions





What are Stem
Cells?





Cells are
the basic living units that make up a human being. Stem cells have two important
characteristics that distinguish them from other types of cells. First, they are
unspecialized cells that renew themselves for long periods of time. Second,
under certain physiologic or experimental conditions, they can be induced to
become cells with special functions such as the beating cells of the heart
muscle or the insulin-producing cells of the pancreas. Scientists currently work
with two kinds of stem cells from animals and humans: embryonic stem cellsand
adult stem cells,which
have different functions and characteristics. We are developing a third category
of stem cells that we believe will have the therapeutic advantages of embryonic
stem cells without the difficulties discussed herein.





What are Embryonic Stem
Cells?





Embryonic
stem cells are derived from embryos that develop from eggs that have been
fertilized in vitro—typically in an in vitro fertilization clinic—which are
donated for research purposes with informed consent of the donors. They are not
derived from eggs fertilized in a woman’s body. The embryos from which human
embryonic stem cells are derived are typically four or five days old and are a
hollow microscopic ball of cells called the blastocyst.Embryonic stem
cells are grown in a laboratory through a process known as cell
culture.





2


Human
embryonic stem cells, or hES cells, are isolated by transferring the inner cell
mass into a laboratory culture dish that contains a nutrient broth known as a
culture medium. The cells then divide and spread over the surface of the dish.
Over the course of several days, the cells of the inner cell mass proliferate
and begin to crowd the culture dish. When this occurs, they are removed and
plated into several fresh culture dishes. The process of replating the cells is
repeated many times and for many months. After six months or so, the original
small cluster of cells of the inner cell mass yields millions of embryonic stem
cells. Once cell lines are established, or even before that stage, batches of
them can be frozen and shipped to other laboratories for further culture and
experimentation.





Why are Embryonic Stem Cells
Important?





Embryonic
stem cells are of interest because of their ability to be differentiated, or
develop into virtually any other cell made by the human body. In theory, if stem
cells can be grown and their development directed in culture, it would be
possible to grow cells for the treatment of specific diseases. The first
potential applications of human embryonic stem cell technology may be in the
area of drug discovery. The ability to grow pure populations of specific cell
types offers a proving ground for chemical compounds that may have medical
importance in that it may ultimately permit the rapid screening of chemicals.
Treating specific cell types and measuring their response may offer an expedited
methodology to ascertain test agents such as chemicals that can be used to treat
the diseases that involve those specific cell types.





The study
of human development may also benefit from embryonic stem cell research in that
understanding the events that occur at the first stages of development has
potential clinical significance for preventing or treating birth defects,
infertility and pregnancy loss. The earliest stages of human development have
been difficult or impossible to study. Human embryonic stem cells offer insights
into developmental events that cannot be studied directly in humans in utero or
fully understood through the use of animal models.





What are Adult Stem
Cells?





An adult
stem cell is an undifferentiated cell found among differentiated cells in a
tissue or organ. An adult stem cell can renew itself and can differentiate to
yield the major specialized cell types of the tissue or organ. These cells can
be isolated from many tissues, including the brain. The most common places to
obtain these cells are from the bone marrow that is located in the center of
some bones and from umbilical cord blood obtained at birth.





Why Not Use Stem Cells Derived from
Adults?





There are
several approaches now in human clinical trials that utilize mature stem cells
(such as blood-forming cells, neuron-forming cells and cartilage-forming cells).
However, adult stem cells are limited in their inability to proliferate in
culture. Unlike embryonic stem cells, which have a capacity to reproduce
indefinitely in the laboratory, adult stem cells are difficult to grow in the
lab and their potential to reproduce diminishes with age. Therefore, obtaining
clinically significant amounts of adult stem cells may prove to be
difficult.





What is Therapeutic
Cloning?





Cloning
is simply using the natural process of cell division to make exact copies of a
cell. Cloning to make cells creates many identical cells called a “cell line”
and cloning to make cells for medical use is generally called “therapeutic
cloning.” Therapeutic cloning is not the same thing as cloning an entire animal,
which is called “reproductive cloning.” Therapeutic cloning never creates a
complete human being. We work only in the field of therapeutic
cloning.





Why is Stem Cell Research
Controversial?





The
sources of some types of stem cells cause social and religious controversy. Some
scientists obtain stem cells from aborted fetal tissue, causing opposition from
those opposed to abortion. Another controversial source of stem cells is the
residual frozen human fertilized eggs (embryos) that remain after vitro
fertilization procedures. A final controversial source of stem cells are those
obtained from very early stage embryos created by therapeutic cloning because
this process of obtaining stem cells results in the destruction of these
early-stage embryos.





3


Is Stem Cell Research Banned in the
United States?





Embryonic
stem cell research, in general, is not banned in the United States. Work by
private organizations is not restricted except by the restrictions applicable to
all human research. In addition, Proposition 71 in California, which voters
approved in November 2004, specifically allows state funds to be used for
stem cell research.





Why Not Use the Currently “Approved”
Embryonic Stem Cells Lines?





The human
embryonic stem cell lines approved by President George W. Bush were all produced
using methods that exposed them to animal protein and animal cells. We believe
that this will likely make them unsuitable for human therapeutic purposes and
restrict their utility even for research into human disease. We have developed
technologies to create human embryonic stem cell lines that will be free of
non-human materials.





How Will Stem Cells from
International Stem Cell be Different?





Our
research is based on perfecting proprietary techniques for deriving stem cells
through a technology based on parthenogenesis, which results in the creation of
human “parthenogenetic” stem cells that have the same capacity to become all
cells found in the human body just as do embryonic stem cells. However, the
parthenogenetic process does not use fertilized human eggs or cause the
destruction of such eggs. From the parthenogenetic stem cells we have created,
we will conduct research to develop specialized cells (such as liver, pancreatic
and retinal cells) needed for transplantation. We do not obtain stem cells from
fetal tissue from abortion clinics and our technology does not require the use
of discarded frozen human embryos. We do not anticipate using such sources of
stem cells in the future.





Ethical Issues





The use
of embryonic stem cells derived from fertilized human eggs has created an
ethical debate in the United States and around the world. However, since no
fertilized human eggs are used in creating our cells and no fertilized human
embryo is being created or destroyed, our hope is that our success in perfecting
parthenogenesis will resolve many of the current ethical controversies that
surround traditional embryonic stem cell research.





We also
own the worldwide rights to use in our chosen therapeutic fields, a technology
known as Somatic Cell Nuclear Transfer to create human stem cells. The
President’s Council on Bioethics, as reported in the publication “Reproduction
and Responsibility — The Regulation of New Biotechnologies,” 2004, has agreed on
a series of recommendations for the use of such technology, addressed to both
the government and to the relevant scientific and medical practitioners for
professional self-scrutiny. In addition, countries such as the United Kingdom
have made similar recommendations. Although we have chosen for now to pursue our
own proprietary technology, we have implemented the relevant recommendations
from this study into our research practices and will continue to adhere to
internationally accepted standards regarding the use of this technology in
obtaining and using human embryonic stem cells for our therapeutic
research.





Our Technology





With the
assistance of our Chief Scientific Officer, Dr. Elena Revazova, we are
perfecting a proprietary patent pending process, based on parthenogenesis, for
the creation of new stem cell lines that we believe will have all the beneficial
characteristics of traditional embryonic stem cells. Our technology allows
embryonic-like stem cells, called parthenogenetic stem cells, to be created
without the use of fertilized embryos or fertilized human eggs (called
“oocytes”). Because of their DNA complement, parthenogenetic stem cells have the
potential to become cells that will not be rejected by some patients. These
cells could be used to create stem cell “banks” in which cells could be stored
and matched to a patient’s immune system when needed for transplantation. Though
not currently our primary area of focus, Somatic Cell Nuclear Transfer, a
process to which we also hold a license, can use a patient’s own cells to create
stem cells having the same genetic makeup as the patient, thus avoiding immune
rejection, the most common cause of transplant failure. This technology,
however, is not currently our primary area of focus.








4


Our Products





Specialty Research
Products





A
critical element for any researcher seeking to develop a therapeutic cell from
either a human embryonic stem cell or an adult stem cell is causing the stem
cell to change (“differentiate”) into the specific cell needed for a particular
therapy. The challenge is to discover the proper set of culture conditions
(combinations of proteins, salts, temperatures and hundreds of other
environmental factors) to change stem cells into the specific cell types that
can be used to cure specific diseases; then develop the procedures needed to
produce such cells on demand as needed for human therapy. This process is driven
in large part by the “media” and the other added chemicals (called “reagents”)
used to develop the cells. The type of media and reagents used can dictate what
kind of cells will be produced and is critical to the process of developing cell
transplants from differentiated stem cells.





Our
research products consist of cells, growth media and related cell-based products
essential to the process of creating and differentiating stem cells. The
customers for these products are academic research centers, government research
centers, and corporations engaged in developing cell-based
therapies.





Our
research products include:





•
            
            FibrolifeTM
      human fibroblast medium, available as a serum-free or low serum
      formats.•
            
            Human
      fibroblast cells for use as feeder layers to grow human embryonic stem
      cells (eliminates contamination from mouse cells).•
            
            Two
      types of low serum human endothelial media1.
            
            VascuLifeTM
      VEGF-Microvascular2.
            
            VascuLifeTM
      EnGS.-Microvasular





•
            
            Human
      endothelial cells. (Endothelial cells form blood
  vessels).•
            
            DermaLifeTM
      human serum-free keratinocyte medium for the culture of human
      epidermal.•
            
            Human
      epidermal keratinocyte cells for use as a model to study healing,
      toxicology or basic cell biology.•
            
            Line
      of adult neural stem cells with the ability to produce neurons that can
      survive in low-oxygen and low glucose conditions, a product useful for the
      discovery of drugs for the treatment of strokes.•
            
            Two
      types of media for the culture of the adult neural
cells1.
            
            NeuralLifeTM
      ags NSC expansion medium kit2.
            
            NeuralLifeTM
      ags NSC differentiation medium kit.An
      assortment of cell culture reagents and supplements for the growth of
      human cells.





We
believe products such as these are essential to the development of our own
proprietary therapeutic products and are a natural adjunct to that endeavor. We
also sale of these products to other stem cell-related researchers and
businesses will benefit us in several ways: (1) it provides revenue to help
support our therapeutic research, (2) it may provide us with an opportunity
to preview stem cell work being conducted throughout the world, and (3) if
our products are adopted by a successful producer of therapeutic cells, we have
the potential of becoming a supplier in a much broader market than
research.





Further,
because of the process by which therapeutic products are developed and submitted
to the FDA for approval, the media and reagents used in developing cells for
clinical trials tend to a large degree to become “baked in” to the final
therapeutic product. Because of a reluctance or legal inability to change the
process of creating the therapeutic product once it has been approved, if
another company uses our media and reagents to develop an FDA approved product,
we may become the sole approved supplier of these media and reagents for the
manufacture of that product.





5


Our human
cell culture products also consist of standardized living cells, including fully
functional adult cells and (non-embryonic) stem cell lines. The cells are
provided frozen in vials containing approximately 500,000 cells each, or are
plated into flasks. Each Cell System will be quality tested for the expression
of specific markers (to assure the cells are the correct type) for proliferation
rate, viability, morphology and for the absence of pathogens. Each Cell System
will have associated donor information.





In
addition to our Cell System, pursuant to the terms of a License Agreement with
Advanced Cell Technology, Inc. (“Advanced Cell Technology”), we will manufacture
and sell embryonic stem cell products developed by Advanced Cell Technology. The
first products we expect to release are (i) medium optimized for the growth of
human embryonic stem cells, and (ii) pre-coated tissue culture plates for
the serum-free and feeder-layer-free culture of embryonic stem
cells.





Our long
term plans for additional product offerings based on the technology licensed
from Advanced Cell Technology include:





•
            
            Stem
      cells derived functional human liver cells provided in plates or frozen (a
      byproduct of therapeutic research). These cells must have active and
      inducible enzyme systems, they must have a correct morphology, they must
      express albumin and they must attach to the cell culture
    dish.•
            
            Stem
      cells derived functional islet cells provided in plates or frozen. These
      cells must produce and express insulin in response to
    glucose.•
            
            Reagents
      for the culture and differentiation of embryonic stem
    cells.•
            
            Stem
      cell derived retinal cells provide frozen for the study of retinal
      disease.





Therapeutic
Products





We have
already used human stem cells to create retinal cells known as retinal pigment
epithelial, or RPE. We are currently expanding these cells as part of
pre-clinical trials, targeting 2008 as the year for animal
implantation.





We are in
the process of developing specialized liver cells for use in the treatment of
liver disease and pancreatic “islet” cells to treat diabetes as the third
target.





We made a
discovery during the derivation of retinal cells from stem cells that lead to
the in vitro growth of a tissue sphere that closely resembles a human
cornea.  Studies by an independent pathology laboratory confirmed that
the tissue spheres were consistent with human cornea.  We have
reproduced this work and are continuing to develop methods to perfect the
“corneal construct” and the methods of manufacture.  We have filed
patents to protect our IP.  Further research will be done in 2008 to
confirm that the corneal constructs have a critical “endothelial layer”, to
confirm that they have proper optical properties and to confirm that they can be
reproducibly manufactured.  The goal of this project is to manufacture
human corneas implantation to cure corneal blindness.  Techniques of
implantation have already been developed and can be applied using cultured
corneas.





Our Markets





Therapeutic
Market





Retinal Diseases — Diseases
involving retinal degeneration include age-related macular degeneration (“AMD”)
and retinitis pigmentosa (“RP”). These diseases are characterized by the death
of critical photoreceptor cells called rods and cones. Photoreceptor death is
due to an abnormality and/or to disruption or death of supportive cells called
retinal pigment epithelial (“RPE”) cells. The use of RPE derived from
parthenogenetic stem cells may prove beneficial in the treatment of AMD and RP
as retinal cell transplant therapy has been shown to be clinically feasible for
the treatment of AMD and RP and the differentiation procedures to derive human
retinal cells from parthenogenetic stem cells have been worked out. We are
working toward the manufacture of these cells for therapeutic use.





6


According
to a 2004 study on Blindness
and Blinding Diseases in the U.S.published by the University of
Washington, approximately 13,000,000 Americans have signs of AMD, over
10,000,000 suffer visual loss and over 200,000 are legally blind from the
disease. The occurrence of AMD increases with a patient’s age. According to the
same study, approximately 6,300,000 people are projected to develop AMD in 2030,
compared to 1,700,000 in 1995.





Because
the therapeutic use of retinal cells is one of the more advanced applications in
stem cell therapy and we have already produced human retinal pigment epithelial
cells from human embryonic  and parthenogenetic stem cell lines, we
are focusing on retinal cells as our first therapeutic market target. Our goal
is to manufacture retinal cells derived from hES cells to replace the limited
supply of donor derived cells for therapeutic use. We will collaborate with
academic research and other research institutions to develop FDA-approved
therapeutic methodologies for producing retinal cells for therapeutic
use.





Corneal
Disease — According to
the Eye Bank Association of America’s 2006 Eye Banking Statistical Report, there
are more than 34,000 corneal transplants performed annually in the
US.  An additional 150,000 transplants are performed in the rest of
the world.  There are eight million corneal blind patients in
developing countries  who would benefit from corneal replacement were
it not for the lack of established eye banking operations and religious/ethical
issues.  Concern over donor-to-recipient disease transmission and the
increasing use of LASIK treatment has reduced the availability of donated
corneas and increased costs.  Demand for corneal tissue is growing
based on advances in corneal transplant techniques (Goins et al.,
2007).  Even considering the fact that fees would be less in
developing countries, the existing corneal transplant market is billions of
dollars in size and is growing.





Diabetes —Another area of
focus is on diabetes. According to the American Diabetes Association,
approximately 20,800,000 people, or 7% of the U.S. population, have some form of
diabetes, and the National Institutes of Health estimates that there are as many
as 2,500,000 people suffering from Type 1 Diabetes (Insulin Dependent Diabetes
Mellitus). Normally, certain cells in the pancreas, called the islet ß cells,
produce insulin which promotes the uptake of the sugar glucose by cells in the
human body. Degeneration of pancreatic islet ß cells results in a lack of
insulin in the bloodstream which results in diabetes. Although diabetics can be
treated with daily injections of insulin, these injections enable only
intermittent glucose control.





The
transplantation of insulin producing cells called “islet cells” from one person
to another has been shown to relieve the suffering and serious side effects
caused by current therapies. As the primary source of islet cells today is organ
donations, available supply is extremely limited. Therefore, our objective in
the field of diabetes therapy is to increase the availability of pancreatic
islet cells by inducing stem cells derived from our parthenogenic cell lines to
grow and become islets or the individual cells found in the islets.





Liver Disease —According to
the American Liver Foundation, chronic liver disease (including hepatitis C) is
the third most common cause of death due to chronic diseases in persons 35 to 64
years of age. In the United States diseases such as cirrhosis and hepatitis were
ranked as the 12th leading cause of death in 2000. The only effective treatment
currently available for people with liver failure is full or partial organ
transplantation. Unfortunately, as with islets, the demand for organs far
exceeds the number of organs available. According to the United Network for
Organ Sharing, there are currently more than 17,000 persons on the wait list for
a liver transplant.





Liver
cell transplantation has been used in early stage clinical trials to treat
patients with liver failure caused by acute or chronic disease and in patients
with genetically caused metabolic defects. This therapy has proven to be
especially useful as a “bridge” to keep patients alive until they can receive a
whole liver transplant, as well as an alternative to whole-organ transplantation
in specific cases. The procedure involves supplementing a patient’s liver
function by injecting a donor’s liver cells (obtained from livers donated from
brain dead, heart beating donors) into a patient’s liver or spleen where the
liver cells remain and function. Our objective is to provide an alternate source
of liver cells for the treatment of liver disease through cell transplant
therapy.





7


Research Market





The
research market for cell systems is made up of scientists performing basic
research and applied research in the biological sciences. Basic research
involves the study of cell biology, and the biochemical pathways to human
disease. Applied research involves drug discovery, vaccine development, clinical
research including cell engineering, and cell transplantation.





The
domestic market can be broken into three segments. These include:
(i) academic researchers in universities and privately-funded research
organizations; (ii) government institutions such as the National Institutes
of Health, the U.S. Army, the U.S. Environmental Protection Agency and others;
and (iii) industrial organizations such as pharmaceutical companies and
consumer product companies.





Management
believes that the combined academic and government market comprises
approximately 40% of the total market and that the industrial segment comprises
approximately 60% of the remaining market.


We
believe the following are the main drivers in the research market for commercial
cell systems:





•
            
            The
      need for experimental human cells which are more predictive of human
      biology than non-human cells or genetically modified cell
      lines.•
            
            The
      desire to lower the cost of drug development in the pharmaceutical
      industry. We believe that human cell systems may provide a platform for
      screening toxic drugs early in the development process, thus avoiding late
      stage failures in clinical trials and reducing costs.•
            
            The
      need to eliminate animal products in research reagents that may
      contaminate future therapeutic products.•
            
            The
      need for experimental control. Serum-free defined media provides the
      benefit of experimental control because there are fewer undefined
      components.•
            
            The
      need for consistency in experiments that can be given by quality
      controlled products.•
            
            The
      need to eliminate the necessity to formulate media in-house, obtain tissue
      or perform cell isolations.•
            
            The
      need to reduce animal testing in the consumer products
      industry.





Our
internal projections for the global market for human cell systems for use in
basic research are several hundred million dollars annually with an anticipated
growth rate between 10% and 20%.





Intellectual
Property





Patents





We have
filed patent applications covering our proprietary technology to create stem
cells without the use of fertilized eggs or transferred DNA. In addition, we
have obtained exclusive worldwide licenses to a portfolio of patents and patent
applications from Advanced Cell Technology.





Our
patent portfolio consists of 30 families of patents consisting of over 110
separate patents (including international filings) and patent applications in
the field of stem cell culture. We also have an exclusive license to the only
patent issued by the U.S. Patent & Trademark Office for the creation of
human embryonic stem cells, or hES cells using nuclear transfer technology for
human therapeutic use. Of these, eight are issued patents and a majority of the
patents and applications have been filed in the United States and in foreign
countries through the Patent Corporation Treaty or by direct country filings in
those jurisdictions deemed significant to our operations.





ISC has
several internally-generated patents pending. Two of these pending patents cover
both composition of matter for its parthenogenetic stem cell lines and the
methods of deriving them.  ISC has also filed patents on unique
methods of differentiating parthenogenetic stem cells.





Lifeline
has protected its research products and branding through both patents and
trademarks.  Lifeline has patents pending on its unique packaging for
research products.  Lifeline has registered trademarks on its company
name, logo and various product names to protect its branding
investment.





8


The
patentability of human cells in countries throughout the world reflects widely
differing governmental attitudes. In the United States, hundreds of patents
covering human embryonic stem cells have already been granted, including those
on which we rely. In certain countries in Europe, the European Patent Office
currently appears to take the position that hES cells themselves are not
patentable, while the United Kingdom has decided that some types of hES cells
can be patented. As a result, we plan to file internationally wherever feasible
and focus our research strategy on cells that best fit the United States and
United Kingdom Patent Offices’ definitions of patentable cells.





License
Agreements





In
May 2005, we entered into three exclusive license agreements with Advanced
Cell Technology for the production of therapeutic products in the fields of
diabetes, liver disease, retinal disease, and the creation of research products
in all fields. The license agreements give us access to all aspects of Advanced
Cell Technology’s human cell patent portfolio as it existed on that date, plus a
combination of exclusive and non-exclusive rights to future developments. A
significant feature of the licensed technology is that it allows us to isolate
and differentiate hES stem cells directly from a “blastocyst.” The hES cells can
be immediately differentiated into stem cells capable of expansion and
differentiation into islet cells, liver cells, and retinal cells.





Pursuant
to the terms of our agreements with Advanced Cell Technology, in exchange for
worldwide therapeutic rights to Advanced Cell Technology’s portfolio of patents
and patent applications in the fields of diabetes, liver disease and retinal
disease, we are required to make a payment of $112,500 in May 2008 and
annual payments thereafter of $150,000, plus milestone payments linked to the
launch of therapeutic products (not research products) ranging from $250,000 at
first launch to $1 million upon reaching sales of $10 million, with a
maximum of $1.75 million in the aggregate. The agreements also require us
to pay royalties on sales and meet minimum research and development
requirements. The agreements continue until expiration of the last valid claim
within the licensed patent rights. Advanced Cell Technology is required to
defend any patent infringement claims. Either party may terminate the agreements
for an uncured breach, or we may terminate the agreements at any time with
30 days notice.





The
agreements with Advanced Cell Technology further provide that any technology
either party currently owns, develops or licenses in the future may be licensed
on a non-exclusive basis by the other party for use in specific fields. This
arrangement gives us continuing access to future discoveries made or licensed by
Advanced Cell Technology in our fields of diabetes, liver disease, retinal
disease, plus all research products, and obligates us to provide similar license
rights to Advanced Cell Technology in the fields of blood and cardiovascular
diseases.





Exclusive License Agreement Number
One, as amended, covers patent rights and technology that are relevant
to:





•
            
            the
      research, development, manufacture and sale of human and non-human animal
      cells for commercial research; and•
            
            the
      manufacture and selling of hES cells for therapeutic and diagnostic use in
      the treatment of human diabetes, liver diseases, retinal diseases and
      retinal degenerative diseases.





Exclusive License Agreement Number
Two, as amended, covers patent rights and technology that are relevant
to:





•
            
            the
      research, development, manufacture and sale of human and non-human animal
      cells and defined animal cell lines for commercial
    research;





•
            
            the
      manufacture and selling of human cells for therapeutic and diagnostic use
      in the treatment of human diabetes, liver diseases, retinal diseases and
      retinal degenerative diseases; and•
            
            the
      use of defined animal cell lines in the process of manufacturing and
      selling human cells for therapeutic and diagnostic use in the treatment of
      human diabetes, liver diseases and retinal
  diseases.





9


Exclusive License Agreement Number
Three, as amended, covers patent rights and technology relevant to the
research, development, manufacture and sale of human cells for cell therapy in
the treatment of therapeutic and diagnostic use in the treatment of human
diabetes and liver diseases, and retinal diseases and retinal degenerative
diseases.





Research
Agreements





Dr. Revazova,
our Chief Scientific Officer, currently is conducting basic research at the
Scientific Center for Obstetrics, Gynecology and Perinatology of the Russian
Academy of Medical Sciences in Moscow, Russia. This laboratory contains all of
the necessary equipment and scientific resources to complete our preliminary
research in parthenogenesis and Somatic Cell Nuclear Transfer technology.
Through a research agreement, Dr. Revazova continues to conduct research
into the creation and characterization of embryonic stem cell lines. The
Institute provides Dr. Revazova access to the equipment and technicians
needed to create and fully characterize human parthenogenic and embryonic stem
cells. This includes equipment for immunofluorescence, karyotyping, gene
expression, and equipment for molecular biology and cell biology. Under the
terms of the agreement, we retain all intellectual property rights in the United
States and the Institute retains such rights in Russia. We share equally in any
royalty payments from the rest of the world, but we retain control of all
marketing and distribution anywhere in the world, except Russia. Although the
agreement expired by its terms at the end December 2006, we and the
Institute have continued the terms of the expired agreement while we are
negotiating a new agreement. If negotiations are unsuccessful, we will seek a
similar relationship with another laboratory in Russia. We do not consider the
availability of such a laboratory to be necessary for our current
operations.





During
2007, we entered into sponsored research agreements with the University of
California at Irvine (UCI) and are in negotiations to develop collaborative
research agreements with domestic and international research organizations from
both the public and private sector.  These agreements allow us to team
up with nationally and internationally known research scientists to study stem
cell technologies developed or licensed by ISC for possible use in therapeutic
fields. Dr. Hans Keirstead at UCI will be working with our proprietary stem
cells on the further development of retinal pigment epithelial cells as well as
towards the derivation of photoreceptors to treat macular degeneration and
retinitis pigmentosa.  Other developing collaborative agreements will
focus on the creation of liver cells for the treatment of liver disease, beta
cells for the treatment of diabetes and continuing work on our corneal tissues
for use in transplantation therapy for corneal-caused vision loss.





Competition





The
development of therapeutic and diagnostic agents for human disease is intensely
competitive. Pharmaceutical companies currently offer a number of pharmaceutical
products to treat diabetes, liver diseases, retinal disease, corneal disease and
other diseases for which our technologies may be applicable. Many pharmaceutical
and biotechnology companies are investigating new drugs and therapeutic
approaches for the same purposes, which may achieve new efficacy profiles,
extend the therapeutic window for such products, alter the prognosis of these
diseases, or prevent their onset. We believe that our therapeutic products, when
and if successfully developed, will compete with these products principally on
the basis of improved and extended efficacy and safety and their overall
economic benefit to the health care system. We believe that our most significant
competitors will be fully integrated pharmaceutical companies and more
established biotechnology companies. Smaller companies may also be significant
competitors, particularly through collaborative arrangements with large
pharmaceutical or biotechnology companies. Some of our primary competitors in
the development of stem cell therapies are Geron Corporation, Genzyme
Corporation, StemCell Technologies Inc., Advanced Cell Technology, Aastrom
Biosciences, Inc. and ViaCell, Inc., most of which have substantially greater
resources and experience. In the field of research products, our primary
competitors for stem cells, media and reagents are Lonza, Chemicon, Invitrogen
Corp., StemCell Technologies Inc., Millipore and Specialty Media. These
companies primarily provide standard media that have not been optimized for
human embryonic stem cell growth.





Sales and
Marketing





To date,
sales of our research products have been modest and derived primarily through
word of mouth, but we are developing a sales force and establishing distribution
networks both domestic and international, to market our research and our cell
therapy and diagnostic products in the U.S. Because of the nature of the markets
in which we participate, we believe that a modest size sales force will be
sufficient. We also anticipate partnering with large biotech and pharmaceutical
companies for the marketing and sales of some, but not necessarily all, of our
stem cell based therapeutic products. As of March 11, 2008, we had three
full-time sales and marketing employees.





10


Government
Regulation





Regulation
by governmental authorities in the United States and other countries is a
significant factor in the development, manufacture and marketing of our proposed
therapeutic products and in our ongoing research and product development
activities. The nature and extent to which such regulation applies to us will
vary depending on the nature of any products which may be developed by us. We
anticipate that many, if not all, of our proposed therapeutic products will
require regulatory approval by governmental agencies prior to commercialization.
In particular, human therapeutic products are subject to rigorous preclinical
and clinical testing and other approval procedures of the FDA, and similar
regulatory authorities in European and other countries. Various governmental
statutes and regulations also govern or influence testing, manufacturing,
safety, labeling, storage and recordkeeping related to such products and their
marketing. The process of obtaining these approvals and the subsequent
compliance with appropriate statutes and regulations require the expenditure of
substantial time and money, and there can be no guarantee that approvals will be
granted.





FDA Approval
Process





Prior to
commencement of clinical studies involving humans, preclinical testing of new
pharmaceutical products is generally conducted on animals in the laboratory to
evaluate the potential efficacy and safety of the product candidate. The results
of these studies are submitted to the FDA as a part of an Investigational New
Drug (IND) application, which must become effective before clinical testing
in humans can begin. Typically, human clinical evaluation involves a
time-consuming and costly three-phase process. In Phase 1, clinical trials are
conducted with a small number of people to assess safety and to evaluate the
pattern of drug distribution and metabolism within the body. In Phase 2,
clinical trials are conducted with groups of patients afflicted with a specific
disease in order to determine preliminary efficacy, optimal dosages and expanded
evidence of safety. In some cases, an initial trial is conducted in diseased
patients to assess both preliminary efficacy and preliminary safety and patterns
of drug metabolism and distribution, in which case it is referred to as a Phase
1-2 trial. In Phase 3, large-scale, multi-center, comparative trials are
conducted with patients afflicted with a target disease in order to provide
enough data to demonstrate the efficacy and safety required by the FDA. The FDA
closely monitors the progress of each of the three phases of clinical testing
and may, at its discretion, re-evaluate, alter, suspend, or terminate the
testing based upon the data which have been accumulated to that point and its
assessment of the risk/benefit ratio to the patient. Monitoring of all aspects
of the study to minimize risks is a continuing process. All adverse events must
be reported to the FDA.





The
results of the preclinical and clinical testing on a non-biologic drug and
certain diagnostic drugs are submitted to the FDA in the form of a New Drug
Application (“NDA”) for approval prior to commencement of commercial sales. In
the case of vaccines or gene and cell therapies, the results of clinical trials
are submitted as a Biologics License Application (“BLA”). In responding to a NDA
or BLA, the FDA may grant marketing approval, request additional information or
refuse to approve if the FDA determines that the application does not satisfy
its regulatory approval criteria. There can be no assurance that approvals will
be granted on a timely basis, if at all, for any of our proposed
products.





European and Other Regulatory
Approval





Whether
or not FDA approval has been obtained, approval of a product by comparable
regulatory authorities in Europe and other countries will likely be necessary
prior to commencement of marketing the product in such countries. The regulatory
authorities in each country may impose their own requirements and may refuse to
grant an approval, or may require additional data before granting it, even
though the relevant product has been approved by the FDA or another authority.
As with the FDA, the regulatory authorities in the European Union (“EU”) and
other developed countries have lengthy approval processes for pharmaceutical
products. The process for gaining approval in particular countries varies, but
generally follows a similar sequence to that described for FDA approval. In
Europe, the European Committee for Proprietary Medicinal Products provides a
mechanism for EU-member states to exchange information on all aspects of product
licensing. The EU has established a European agency for the evaluation of
medical products, with both a centralized community procedure and a
decentralized procedure, the latter being based on the principle of licensing
within one member country followed by mutual recognition by the other member
countries.





11


Other
Regulations





We are
also subject to various United States federal, state, local and international
laws, regulations and recommendations relating to safe working conditions,
laboratory and manufacturing practices and the use and disposal of hazardous or
potentially hazardous substances, including radioactive compounds and infectious
disease agents, used in connection with our research work. We cannot accurately
predict the extent of government regulation which might result from future
legislation or administrative action.





Employees





In
addition to our four executive officers, we utilize the services of 18 full-time
and two part-time staff members.





Risks Related to Our
Business





Our business is
at an early stage of development and we may not develop products that can be
commercialized.





Our
business is at an early stage of development. We do not have any products in
late-stage clinical trials. We are still in the early stages of identifying and
conducting research on potential products. Our potential products will require
significant research and development and preclinical and clinical testing prior
to regulatory approval in the United States and other countries. We may not be
able to obtain regulatory approvals, enter clinical trials for any of our
product candidates, or commercialize any products. Our product candidates may
prove to have undesirable and unintended side effects or other characteristics
adversely affecting their safety, efficacy or cost-effectiveness that could
prevent or limit their use. Any product using any of our technology may fail to
provide the intended therapeutic benefits, or achieve therapeutic benefits equal
to or better than the standard of treatment at the time of testing or
production.





We have a history
of operating losses and do not expect to be profitable in the near
future.





We have
not generated any profits since our entry into the biotechnology business and
have incurred significant operating losses. We expect to incur additional
operating losses for the foreseeable future and, as we increase our research and
development activities, we expect our operating losses to increase
significantly. We do not have any sources of significant revenues and may not
have any in the foreseeable future.





We will need
additional capital to conduct our operations and develop our products and our
ability to obtain the necessary funding is uncertain.





We need
to obtain significant additional capital resources from sources including equity
and/or debt financings, license arrangements, grants and/or collaborative
research arrangements in order to develop products. Our current burn rate is
approximately $425,000 per month excluding capital expenditures and the company
has been funding this through private equity financings, as required. Management
is aware that more formal financing in an amount sufficient to fund operations
for a year or more will be required and intends to seek such financing when the
capital markets permit, but if such financing is not available or available only
on terms that are detrimental to the long term survival of the company, it could
have a major adverse effect on the company’s ability to continue to function.
The timing and degree of any future capital requirements will depend on many
factors, including:





•
            
            the
      accuracy of the assumptions underlying our estimates for capital needs in
      2008 and beyond;•
            
            scientific
      progress in our research and development programs;•
            
            the
      magnitude and scope of our research and development programs and our
      ability to establish, enforce and maintain strategic arrangements for
      research, development, clinical testing, manufacturing and
      marketing;


12





•
            
            our
      progress with preclinical development and clinical
  trials;•
            
            the
      time and costs involved in obtaining regulatory
  approvals;•
            
            the
      costs involved in preparing, filing, prosecuting, maintaining, defending
      and enforcing patent claims; and•
            
            the
      number and type of product candidates that we pursue.





Additional
financing through strategic collaborations, public or private equity financings
or other financing sources may not be available on acceptable terms, or at all.
Additional equity financing could result in significant dilution to our
stockholders. Further, if additional funds are obtained through arrangements
with collaborative partners, these arrangements may require us to relinquish
rights to some of our technologies, product candidates or products that we would
otherwise seek to develop and commercialize on our own. If sufficient capital is
not available, we may be required to delay, reduce the scope of or eliminate one
or more of our product lines, any of which could have a material adverse affect
on our financial condition or business prospects.





Clinical trials
are subject to extensive regulatory requirements, very expensive, time-consuming
and difficult to design and implement. Our products may fail to achieve
necessary safety and efficacy endpoints during clinical
trials.





Human
clinical trials can be very expensive and difficult to design and implement, in
part because they are subject to rigorous regulatory requirements. The clinical
trial process is also time consuming. We estimate that clinical trials of our
product candidates will take at least several years to complete. Furthermore,
failure can occur at any stage of the trials, and we could encounter problems
that cause us to abandon or repeat clinical trials. The commencement and
completion of clinical trials may be delayed by several factors,
including:





•
            
            unforeseen
      safety issues;•
            
            determination
      of dosing issues;•
            
            lack
      of effectiveness during clinical trials;•
            
            slower
      than expected rates of patient recruitment;•
            
            inability
      to monitor patients adequately during or after treatment;
    and•
            
            inability
      or unwillingness of medical investigators to follow our clinical
      protocols.





In
addition, we or the FDA may suspend our clinical trials at any time if it
appears that we are exposing participants to unacceptable health risks or if the
FDA finds deficiencies in our IND submissions or the conduct of these
trials.





Patents obtained
by other persons may result in infringement claims against us that are costly to
defend and which may limit our ability to use the disputed technologies and
prevent us from pursuing research and development or commercialization of
potential products.





A number
of pharmaceutical, biotechnology and other companies, universities and research
institutions have filed patent applications or have been issued patents relating
to cell therapy, stem cells, and other technologies potentially relevant to or
required by our expected products. We cannot predict which, if any, of such
applications will issue as patents or the claims that might be allowed. We are
aware that a number of companies have filed applications relating to stem cells.
We are also aware of a number of patent applications and patents claiming use of
stem cells and other modified cells to treat disease, disorder or
injury.





13


If third
party patents or patent applications contain claims infringed by either our
licensed technology or other technology required to make and use our potential
products and such claims are ultimately determined to be valid, there can be no
assurance that we would be able to obtain licenses to these patents at a
reasonable cost, if at all, or be able to develop or obtain alternative
technology. If we are unable to obtain such licenses at a reasonable cost, we
may not be able to develop some products commercially. There can be no assurance
that we will not be obliged to defend ourselves in court against allegations of
infringement of third party patents. Patent litigation is very expensive and
could consume substantial resources and create significant uncertainties. An
adverse outcome in such a suit could subject us to significant liabilities to
third parties, require disputed rights to be licensed from third parties, or
require us to cease using such technology.





We may not be
able to adequately protect against piracy of intellectual property in foreign
jurisdictions.





Considerable
research in the areas of stem cells, cell therapeutics and regenerative medicine
is being performed in countries outside of the United States, and a number of
our competitors are located in those countries. The laws protecting intellectual
property in some of those countries may not provide adequate protection to
prevent our competitors from misappropriating our intellectual
property.





Our competition
includes fully integrated biotechnology and pharmaceutical companies that have
significant advantages over us.





The
market for therapeutic stem cell products is highly competitive. We expect that
our most significant competitors will be fully integrated pharmaceutical
companies and more established biotechnology and stem cell companies. These
companies are developing stem cell-based products and they have significantly
greater capital resources in research and development, manufacturing, testing,
obtaining regulatory approvals, and marketing capabilities. Many of these
potential competitors are further along in the process of product development
and also operate large, company-funded research and development programs. As a
result, our competitors may develop more competitive or affordable products, or
achieve earlier patent protection or product commercialization than we are able
to achieve. Competitive products may render any products or product candidates
that we develop obsolete.





If we fail to
meet our obligations under our license agreements, we may lose our rights to key
technologies on which our business depends.





Our
business depends in part on licenses from third parties. These third party
license agreements impose obligations on us, such as payment obligations and
obligations to diligently pursue development of commercial products under the
licensed patents. If a licensor believes that we have failed to meet our
obligations under a license agreement, the licensor could seek to limit or
terminate our license rights, which could lead to costly and time-consuming
litigation and, potentially, a loss of the licensed rights. During the period of
any such litigation, our ability to carry out the development and
commercialization of potential products could be significantly and negatively
affected. If our license rights were restricted or ultimately lost, our ability
to continue our business based on the affected technology platform could be
severely adversely affected.





Restrictive and
extensive government regulation could slow or hinder our production of a
cellular product.





The
research and development of stem cell therapies is subject to and restricted by
extensive regulation by governmental authorities in the United States and other
countries. The process of obtaining FDA and other necessary regulatory approvals
is lengthy, expensive and uncertain. We may fail to obtain the necessary
approvals to continue our research and development, which would hinder our
ability to manufacture or market any future product.





Research in the
field of nuclear transfer and embryonic stem cells is currently subject to
strict government regulations, and our operations could be restricted or
outlawed by any legislative or administrative efforts impacting the use of
nuclear transfer technology or human embryonic material.





Our
business is focused on human cell therapy, which includes the production of
human differentiated cells from stem cells and involves human oocytes. Although
our focus is on stem cells derived from unfertilized oocytes, certain aspects of
that work may involve the use of nuclear transfer technology or material deemed
to be embryonic material. Nuclear transfer technology, commonly known as
therapeutic cloning, and research utilizing embryonic stem cells is
controversial, and currently subject to intense scrutiny, particularly in the
area of nuclear transfer of human cells and the use of human embryonic material.
Cloning for research purposes is unlawful in many states and this type of
prohibition may expand into other states, including some where we now
operate.





14


Although
current federal law only restricts the use of federal funds for human embryonic
cell research, commonly referred to as hES cell research, there can be no
assurance that our operations will not be restricted by any future legislative
or administrative efforts by politicians or groups opposed to the development of
hES call technology or nuclear transfer technology, or that such efforts might
not be extended to include our parthenogenic technology. Further, there can be
no assurance that legislative or administrative restrictions directly or
indirectly delaying, limiting or preventing the use of hES technology, nuclear
transfer technology, the use of human embryonic material, or the sale,
manufacture or use of products or services derived from nuclear transfer
technology or other hES technology will not be adopted in the future or extend
to include our parthenogenetic processes.





Restrictions on
the use of human stem cells, and the ethical, legal and social implications of
that research, could prevent us from developing or gaining acceptance for
commercially viable products in these areas.





Although
our stem cells are derived from unfertilized human eggs through a process called
“parthenogenesis” that can produce cells suitable for therapy, but are believed
to be incapable of producing a human being, such cells are nevertheless often
referred to as “embryonic” stem cells. Because the use of human embryonic stem
cells gives rise to ethical, legal and social issues regarding the appropriate
use of these cells, our research related to human parthenogenic stem cells could
become the subject of adverse commentary or publicity and some political and
religious groups may still raise opposition to our technology and practices. In
addition, many research institutions, including some of our scientific
collaborators, have adopted policies regarding the ethical use of human
embryonic tissue, which, if applied to our procedures, may have the effect of
limiting the scope of research conducted using our stem cells, thereby impairing
our ability to conduct research in this field. In some states, use of embryos as
a source of stem cells is prohibited.





To the extent we
utilize governmental grants in the future, the governmental entities involved
may retain certain rights in technology that we develop using such grant money
and we may lose the revenues from such technology if we do not commercialize and
utilize the technology pursuant to established government
guidelines.





Certain
of our licensors’ research have been or are being funded in part by government
grants and our research may be so funded in the future. In connection with
certain grants, the governmental entity involved retains rights in the
technology developed with the grant. These rights could restrict our ability to
fully capitalize upon the value of this research by reducing total revenues that
might otherwise be available since such governmental rights may give it the
right to practice the invention without payment of royalties.





We rely on
parthenogenesis, cell differentiation and other stem cell technologies that we
may not be able to successfully develop, which may prevent us from generating
revenues, operating profitably or providing investors any return on their
investment.





We have
concentrated our research on our parthenogenesis, cell differentiation and stem
cell technologies, and our ability to operate profitably will depend on being
able to successfully implement or develop these technologies for human
applications. These are emerging technologies with, as yet, limited human
applications. We cannot guarantee that we will be able to successfully implement
or develop our nuclear transfer, parthenogenesis, cell differentiation and other
stem cell technologies or that these technologies will result in products or
services with any significant commercial utility. We anticipate that the
commercial sale of such products or services, and royalty/licensing fees related
to our technology, would be our primary sources of revenues.





The outcome of
pre-clinical, clinical and product testing of our products is uncertain, and if
we are unable to satisfactorily complete such testing, or if such testing yields
unsatisfactory results, we will be unable to commercially produce our proposed
products.





15


Before
obtaining regulatory approvals for the commercial sale of any potential human
products, our products will be subjected to extensive pre-clinical and clinical
testing to demonstrate their safety and efficacy in humans. We cannot assure you
that the clinical trials of our products, or those of our licensees or
collaborators, will demonstrate the safety and efficacy of such products at all,
or to the extent necessary to obtain appropriate regulatory approvals, or that
the testing of such products will be completed in a timely manner, if at all, or
without significant increases in costs, program delays or both, all of which
could harm our ability to generate revenues. In addition, our prospective
products may not prove to be more effective for treating disease or injury than
current therapies. Accordingly, we may have to delay or abandon efforts to
research, develop or obtain regulatory approval to market our prospective
products. The failure to adequately demonstrate the safety and efficacy of a
therapeutic product under development could delay or prevent regulatory approval
of the product and could harm our ability to generate revenues, operate
profitably or produce any return on an investment in us.





If we are unable
to keep up with rapid technological changes in our field or compete effectively,
we will be unable to operate profitably.





We are
engaged in activities in the biotechnology field, which is characterized by
extensive research efforts and rapid technological progress. If we fail to
anticipate or respond adequately to technological developments, our ability to
operate profitably could suffer. We cannot assure you that research and
discoveries by other biotechnology, agricultural, pharmaceutical or other
companies will not render our technologies or potential products or services
uneconomical or result in products superior to those we develop or that any
technologies, products or services we develop will be preferred to any existing
or newly-developed technologies, products or services.





We may not be
able to protect our proprietary technology, which could harm our ability to
operate profitably.





The
biotechnology and pharmaceutical industries place considerable importance on
obtaining patent and trade secret protection for new technologies, products and
processes. Our success will depend, to a substantial degree, on our ability to
obtain and enforce patent protection for our products, preserve any trade
secrets and operate without infringing the proprietary rights of others. We
cannot assure you that:





•
            
            we
      will succeed in obtaining any patents, obtain them in a timely manner, or
      that the breadth or degree of protection that any such patents will
      protect our interests;•
            
            the
      use of our technology will not infringe on the proprietary rights of
      others;•
            
            patent
      applications relating to our potential products or technologies will
      result in the issuance of any patents or that, if issued, such patents
      will afford adequate protection to us or will not be challenged,
      invalidated or infringed; or•
            
            patents
      will not be issued to other parties, which may be infringed by our
      potential products or technologies.





We are
aware of certain patents that have been granted to others and certain patent
applications that have been filed by others with respect to nuclear transfer and
other stem cell technologies. The fields in which we operate have been
characterized by significant efforts by competitors to establish dominant or
blocking patent rights to gain a competitive advantage, and by considerable
differences of opinion as to the value and legal legitimacy of competitors’
purported patent rights and the technologies they actually utilize in their
businesses.





Our business is
highly dependent upon maintaining licenses with respect to key
technology.





Although
our primary focus relates to intellectual property we have developed internally,
some of the patents we utilize are licensed to us by Advanced Cell Technology,
which has licensed some of these from other parties, including the University of
Massachusetts. These licenses are subject to termination under certain
circumstances (including, for example, our failure to make minimum royalty
payments or to timely achieve development and commercialization benchmarks). The
loss of any of such licenses, or the conversion of such licenses to
non-exclusive licenses, could harm our operations and/or enhance the prospects
of our competitors. Although our licenses with Advanced Cell Technology allow us
to cure any defaults under the underlying licenses to them and to take over the
patents and patents pending in the event of default by Advanced Cell Technology,
the cost of such remedies could be significant and we might be unable to
adequately maintain these patent positions. If so, such inability could have a
material adverse affect on our business.





16


Certain
of such licenses also contain restrictions (e.g., limitations on our
ability to grant sublicenses) that could materially interfere with our ability
to generate revenue through the licensing or sale to third parties of important
and valuable technologies that we have, for strategic reasons, elected not to
pursue directly. The possibility exists that in the future we will require
further licenses to complete and/or commercialize our proposed products. There
can be no assurance that we will be able to acquire any such licenses on a
commercially viable basis.





Patents
pending may not be granted.





Our
business is based in large part on technology which we have developed and on
which we have filed domestic and international patent
applications.  However, although we have researched prior art in the
fields covered by our patents and believe that they will ultimately be granted,
there can be no guarantee that any or all of such patent applications will be
granted or that, if granted, we will have the resources to defend them in the
event of infringement.





Certain of our
technology may not be subject to protection through patents which leaves us
vulnerable to theft of our technology.





Certain
parts of our know-how and technology are not patentable. To protect our
proprietary position in such know-how and technology, we intend to require all
employees, consultants, advisors and collaborators to enter into confidentiality
and invention ownership agreements with us. There can be no assurance, however,
that these agreements will provide meaningful protection for our trade secrets,
know-how or other proprietary information in the event of any unauthorized use
or disclosure. Further, in the absence of patent protection, competitors who
independently develop substantially equivalent technology may harm our
business.





We depend on our
collaborators to help us develop and test our proposed products, and our ability
to develop and commercialize products may be impaired or delayed if
collaborations are unsuccessful.





Our
strategy for the development, clinical testing and commercialization of our
proposed products requires that we enter into collaborations with corporate
partners, licensors, licensees and others. We are dependent upon the subsequent
success of these other parties in performing their respective responsibilities
and the continued cooperation of our partners. Our collaborators may not
cooperate with us or perform their obligations under our agreements with them.
We cannot control the amount and timing of our collaborators’ resources that
will be devoted to our research and development activities related to our
collaborative agreements with them. Our collaborators may choose to pursue
existing or alternative technologies in preference to those being developed in
collaboration with us.





Under
agreements with collaborators, we may rely significantly on such collaborators
to, among other things:





•
            
            design
      and conduct advanced clinical trials in the event that we reach clinical
      trials;•
            
            fund
      research and development activities with us;•
            
            pay
      us fees upon the achievement of milestones; and•
            
            market
      with us any commercial products that result from our
      collaborations.





The
development and commercialization of potential products will be delayed if
collaborators fail to conduct these activities in a timely manner, or at all. In
addition, our collaborators could terminate their agreements with us and we may
not receive any development or milestone payments. If we do not achieve
milestones set forth in the agreements, or if our collaborators breach or
terminate their collaborative agreements with us, our business may be materially
harmed.





17


Our reliance on
the activities of our non-employee consultants, research institutions, and
scientific contractors, whose activities are not wholly within our control, may
lead to delays in development of our proposed products.





We rely
extensively upon and have relationships with scientific consultants at academic
and other institutions, some of whom conduct research at our request, and other
consultants with expertise in clinical development strategy or other matters.
These consultants are not our employees and may have commitments to, or
consulting or advisory contracts with, other entities that may limit their
availability to us. We have limited control over the activities of these
consultants and, except as otherwise required by our collaboration and
consulting agreements to the extent they exist, can expect only limited amounts
of their time to be dedicated to our activities.





These
research facilities may have commitments to other commercial and non-commercial
entities. We have limited control over the operations of these laboratories and
can expect only limited amounts of time to be dedicated to our research
goals.





We may be subject
to litigation that will be costly to defend or pursue and uncertain in its
outcome.





Our
business may bring us into conflict with our licensees, licensors or others with
whom we have contractual or other business relationships, or with our
competitors or others whose interests differ from ours. If we are unable to
resolve those conflicts on terms that are satisfactory to all parties, we may
become involved in litigation brought by or against us. That litigation is
likely to be expensive and may require a significant amount of management’s time
and attention, at the expense of other aspects of our business. The outcome of
litigation is always uncertain, and in some cases could include judgments
against us that require us to pay damages, enjoin us from certain activities, or
otherwise affect our legal or contractual rights, which could have a significant
adverse effect on our business.





We may not be
able to obtain third-party patient reimbursement or favorable product pricing,
which would reduce our ability to operate profitably.





Our
ability to successfully commercialize certain of our proposed products in the
human therapeutic field may depend to a significant degree on patient
reimbursement of the costs of such products and related treatments at acceptable
levels from government authorities, private health insurers and other
organizations, such as health maintenance organizations. We cannot assure you
that reimbursement in the United States or foreign countries will be available
for any products we may develop or, if available, will not be decreased in the
future, or that reimbursement amounts will not reduce the demand for, or the
price of, our products with a consequent harm to our business. We cannot predict
what additional regulation or legislation relating to the health care industry
or third-party coverage and reimbursement may be enacted in the future or what
effect such regulation or legislation may have on our business. If additional
regulations are overly onerous or expensive, or if health care related
legislation makes our business more expensive or burdensome than originally
anticipated, we may be forced to significantly downsize our business plans or
completely abandon our business model.





Our products may
be expensive to manufacture, and they may not be profitable if we are unable to
control the costs to manufacture them.





Our
products may be significantly more expensive to manufacture than other
therapeutic products currently on the market today. We hope to substantially
reduce manufacturing costs through process improvements, development of new
science, increases in manufacturing scale and outsourcing to experienced
manufacturers. If we are not able to make these, or other improvements, and
depending on the pricing of the product, our profit margins may be significantly
less than that of other therapeutic products on the market today. In addition,
we may not be able to charge a high enough price for any cell therapy product we
develop, even if they are safe and effective, to make a profit. If we are unable
to realize significant profits from our potential product candidates, our
business would be materially harmed.





To be successful,
our proposed products must be accepted by the health care community, which can
be very slow to adopt or unreceptive to new technologies and
products.





18


Our
proposed products and those developed by our collaborative partners, if approved
for marketing, may not achieve market acceptance since hospitals, physicians,
patients or the medical community in general may decide not to accept and
utilize these products. The products that we are attempting to develop represent
substantial departures from established treatment methods and will compete with
a number of more conventional therapies manufactured and marketed by major
pharmaceutical companies. The degree of market acceptance of any of our
developed products will depend on a number of factors, including:





•
            
            our
      establishment and demonstration to the medical community of the clinical
      efficacy and safety of our proposed products;•
            
            our
      ability to create products that are superior to alternatives currently on
      the market;•
            
            our
      ability to establish in the medical community the potential advantage of
      our treatments over alternative treatment methods; and•
            
            reimbursement
      policies of government and third-party payors.


If the
healthcare community does not accept our products for any of the foregoing
reasons, or for any other reason, our business would be materially
harmed.





We depend on key
personnel for our continued operations and future success, and a loss of certain
key personnel could significantly hinder our ability to move forward with our
business plan.





Because
of the specialized nature of our business, we are highly dependent on our
ability to identify, hire, train and retain highly qualified scientific and
technical personnel for the research and development activities we conduct or
sponsor. The loss of one or more key executive officers, or scientific officers,
particularly Mr. Janus, Mr. Aldrich, Mr. Adams or Dr. Revazova, would
be significantly detrimental to us. In addition, recruiting and retaining
qualified scientific personnel to perform research and development work is
critical to our success. Our anticipated growth and expansion into areas and
activities requiring additional expertise, such as clinical testing, regulatory
compliance, manufacturing and marketing, will require the addition of new
management personnel and the development of additional expertise by existing
management personnel. There is intense competition for qualified personnel in
the areas of our present and planned activities, and there can be no assurance
that we will be able to continue to attract and retain the qualified personnel
necessary for the development of our business. The failure to attract and retain
such personnel or to develop such expertise would adversely affect our
business.





We may not have
sufficient product liability insurance, which may leave us vulnerable to future
claims we will be unable to satisfy.





The
testing, manufacturing, marketing and sale of human therapeutic products entail
an inherent risk of product liability claims. We currently have $1 million
of product liability insurance. However, such insurance may not be adequate to
meet potential product liability claims. In the event we are forced to expend
significant funds on defending product liability actions, and in the event those
funds come from operating capital, we will be required to reduce our business
activities, which could lead to significant losses. We cannot assure you that
adequate insurance coverage will be available in the future on acceptable terms,
if at all, or that, if available, we will be able to maintain any such insurance
at sufficient levels of coverage or that any such insurance will provide
adequate protection against potential liabilities. Whether or not a product
liability insurance policy is obtained or maintained in the future, any product
liability claim could harm our business or financial condition.





Risks
Related to the Securities Markets and Our Capital Structure





Stock prices for
biotechnology companies have historically tended to be very
volatile.





Stock
prices and trading volumes for many biotechnology companies fluctuate widely for
a number of reasons, including but not limited to the following factors, some of
which may be unrelated to their businesses or results of
operations:


19





•
            
            clinical
      trial results;•
            
            the
      amount of cash resources and such company’s ability to obtain additional
      funding;•
            
            announcements
      of research activities, business developments, technological innovations
      or new products by competitors;•
            
            entering
      into or terminating strategic relationships;•
            
            changes
      in government regulation;•
            
            disputes
      concerning patents or proprietary rights;•
            
            changes
      in our revenues or expense levels;•
            
            public
      concern regarding the safety, efficacy or other aspects of the products or
      methodologies we are developing;•
            
            reports
      by securities analysts;•
            
            activities
      of various interest groups or organizations;•
            
            media
      coverage; and•
            
            status
      of the investment markets.





This
market volatility, as well as general domestic or international economic, market
and political conditions, could materially and adversely affect the market price
of our common stock.





The application
of the “penny stock” rules to our common stock could limit the trading and
liquidity of the our common stock, adversely affect the market price of our
common stock and increase stockholder transaction costs to sell those
shares.





As long
as the trading price of our common stock is below $5.00 per share, the
open-market trading of our common stock will be subject to the “penny stock”
rules, unless we otherwise qualify for an exemption from the “penny stock”
definition. The “penny stock” rules impose additional sales practice
requirements on certain broker-dealers who sell securities to persons other than
established customers and accredited investors (generally those with assets in
excess of $1,000,000 or annual income exceeding $200,000 or $300,000 together
with their spouse). These regulations, if they apply, require the delivery,
prior to any transaction involving a penny stock, of a disclosure schedule
explaining the penny stock market and the associated risks. Under these
regulations, certain brokers who recommend such securities to persons other than
established customers or certain accredited investors must make a special
written suitability determination regarding such a purchaser and receive such
purchaser’s written agreement to a transaction prior to sale. These regulations
may have the effect of limiting the trading activity of our common stock,
reducing the liquidity of an investment in our common stock and increasing the
transaction costs for sales and purchases of our common stock as compared to
other securities.





The market price
for our common stock may be particularly volatile given our status as a
relatively unknown company with a limited operating history and lack of profits,
which could lead to wide fluctuations in our share price. The price at which
stockholders purchase shares of our common stock may not be indicative of the
price of our common stock that will prevail in the trading
market.





The
market for our common stock may be characterized by significant price volatility
when compared to seasoned issuers, and we expect that our stock price could
continue to be more volatile than a seasoned issuer for the indefinite future.
The potential volatility in our share price is attributable to a number of
factors. First, there has been limited trading in our common stock. As a
consequence of this lack of liquidity, any future trading of shares by our
stockholders may disproportionately influence the price of those shares in
either direction. Second, we are a speculative or “risky” investment due to our
limited operating history and lack of profits to date, and uncertainty of future
market acceptance for our potential products. As a consequence of this enhanced
risk, more risk averse investors may, under the fear of losing all or most of
their investment in the event of negative news or lack of progress, be more
inclined to sell their shares on the market more quickly and at greater
discounts than would be the case with the stock of a seasoned issuer. Many of
these factors will be beyond our control and may decrease the market price of
our common stock, regardless of our operating performance. We cannot make any
predictions or projections as to what the prevailing market price for our common
stock will be at any time or as to what effect that the sale of shares or the
availability of shares for sale at any time will have on the prevailing market
price.


20


In
addition, the market price of our common stock could be subject to wide
fluctuations in response to:





•
            
            quarterly
      variations in our revenues and operating expenses;•
            
            announcements
      of new products or services by us;•
            
            fluctuations
      in interest rates;•
            
            significant
      sales of our common stock;•
            
            the
      operating and stock price performance of other companies that investors
      may deem comparable to us; and•
            
            news
      reports relating to trends in our markets or general economic
      conditions.





Shares eligible
for future sale may adversely affect the market.





From time
to time, certain of our stockholders may be eligible to sell all or some of
their shares of common stock by means of ordinary brokerage transactions in the
open market pursuant to Rule 144 promulgated under the Securities Act of
1933, as amended, subject to certain limitations. In general, pursuant to
Rule 144, a stockholder (or stockholders whose shares are aggregated) who
has satisfied a six month holding period may, under certain circumstances, sell
within any three-month period a number of securities which does not exceed the
greater of 1% of the then outstanding shares of common stock or the average
weekly trading volume of the class during the four calendar weeks prior to such
sale. Rule 144 also permits, under certain circumstances, the sale of
securities, without any limitations, by a non-affiliate of our company who has
satisfied a one-year holding period. Any substantial sale of our common stock
pursuant to Rule 144 or pursuant to any resale prospectus may have an
adverse effect on the market price of our securities. Currently, almost all of
our securities are either free trading or subject to the release of trading
restrictions under the six month or one year holding periods of Rule
144.





Certain
provisions of our Certificate of Incorporation and Delaware law may make it more
difficult for a third party to affect a change-in-control.





Our
Certificate of Incorporation authorizes the Board of Directors to issue up to
20,000,000 shares of preferred stock. The preferred stock may be issued in one
or more series, the terms of which may be determined at the time of issuance by
the Board of Directors without further action by the stockholders. These terms
may include voting rights including the right to vote as a series on particular
matters, preferences as to dividends and liquidation, conversion rights,
redemption rights and sinking fund provisions. The issuance of any preferred
stock could diminish the rights of holders of our common stock, and therefore
could reduce the value of such common stock. In addition, specific rights
granted to future holders of preferred stock could be used to restrict our
ability to merge with, or sell assets to, a third party. The ability of the
Board of Directors to issue preferred stock could make it more difficult, delay,
discourage, prevent or make it more costly to acquire the Company or affect a
change-in-control.





The sale or
issuance of a substantial number of shares may adversely affect the market price
for our common stock.





The
future sale of a substantial number of shares of our common stock in the public
market, or the perception that such sales could occur, could significantly and
negatively affect the market price for our common stock. We expect that we will
likely issue a substantial number of shares of our capital stock in financing
transactions in order to fund our operations and the growth of our business.
Under these arrangements, we may agree to register the shares for resale soon
after their issuance. We may also continue to pay for certain goods and services
with equity, which would dilute our current stockholders. Also, sales of the
shares issued in this manner could negatively affect the market price of our
stock.





21


Limitations on
director and officer liability and indemnification of our officers and directors
by us may discourage stockholders from bringing suit against a
director.





Our
certificate of incorporation and bylaws provide, with certain exceptions as
permitted by governing state law, that a director or officer shall not be
personally liable to us or our stockholders for breach of fiduciary duty as a
director, except for acts or omissions which involve intentional misconduct,
fraud or knowing violation of law, or unlawful payments of dividends. These
provisions may discourage stockholders from bringing suit against a director for
breach of fiduciary duty and may reduce the likelihood of derivative litigation
brought by stockholders on our behalf against a director. In addition, our
certificate of incorporation and bylaws may provide for mandatory
indemnification of directors and officers to the fullest extent permitted by
governing state law.





Compliance with
the rules established by the SEC pursuant to Section 404 of the
Sarbanes-Oxley Act of 2002 will be complex. Failure to comply in a timely manner
could adversely affect investor confidence and our stock
price.





Rules
adopted by the SEC pursuant to Section 404 of the Sarbanes-Oxley Act of
2002 require us to perform an annual assessment of our internal controls over
financial reporting, certify the effectiveness of those controls and secure an
attestation of our assessment by our independent registered public accountants.
The standards that must be met for management to assess the internal controls
over financial reporting as now in effect are new and complex, and require
significant documentation, testing and possible remediation to meet the detailed
standards. We may encounter problems or delays in completing activities
necessary to make an assessment of our internal controls over financial
reporting. In addition, the attestation process is new and we may encounter
problems or delays in completing the implementation of any requested
improvements and receiving an attestation of the assessment by our independent
registered public accountants. If we cannot perform the assessment or certify
that our internal controls over financial reporting are effective, or our
independent registered public accountants are unable to provide an unqualified
attestation on such assessment, investor confidence and share value may be
negatively impacted.





We do not expect
to pay cash dividends in the foreseeable future.




We have
not paid cash dividends on our stock and we do not plan to pay cash dividends on
our stock in the foreseeable future.





ITEM
2. DESCRIPTIONOF PROPERTY.


We have
established our primary research facility in 8,215 square feet of leased office
and laboratory space in Oceanside, California. Our lease for this facility
expires in August 2011, with a five-year option to renew at our discretion.
Our current base rent is $6,983 per month. The facility has over $1,000,000 of
improvements which include clean rooms, segregated rooms for biohazard control
and containment of human donor tissue. We are in the process of building and
equipping a cGMP pilot manufacturing laboratory that will be uniquely suited for
the creation, culture and differentiation of parthenogenetic stem
cells.  We believe that this facility is well suited to meet our
research, development and therapeutic production needs.





We have a
3,240 square foot laboratory in Walkersville, Maryland. Our lease for this
facility expires in March 2009, with a three-year renewal option. Our
current base rent is $5,142 per month. This laboratory is being used to develop
and manufacture our research products, as well as for sales and marketing and
general administration. The Walkersville facility contains a 2,000 square foot
manufacturing laboratory space with two clean rooms and is fitted with the
necessary water purification, refrigeration, labeling equipment and standard
manufacturing equipment to manufacture, package, store and distribute media
products. There is a 500 square foot quality control and cell culture laboratory
outfitted with the necessary cell isolation equipment, incubators, microscopes
and standard cell culture equipment necessary to isolate and culture cells and
conduct quality control tests to produce superior cell culture
products.





The
manufacturing and quality control laboratories also serve as product development
laboratories, and 300 square feet are devoted to administration, sales and
marketing. This area contains the computers, communication equipment and the
file systems necessary to establish technical offices, sales and marketing
offices, finance and human resources. Equipment monitoring and security systems
are in place.





22


Commencing
February 1, 2007, we entered into a lease for approximately 1,700 sq. ft.
of commercial space in Walkersville, Maryland. Our lease for this facility
expires on January 31, 2010, subject to a three-year extension at our
option. Our base rent is $1,200 per month. These facilities are close to our
laboratory in Walkersville.










ITEM
3.     LEGALPROCEEDINGS.




None.




ITEM
4.     SUBMISSIONOF MATTERS TO A VOTE OF SECURITY
HOLDERS.


None.


PARTII




ITEM
5.     MARKETFOR COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS.
 Our
common stock is approved for quotation on the OTC Bulletin Board under the
trading symbol “ISCO.OB.” From January 8, 2007 until January 29, 2007,
we traded under the symbol “BTHC.OB.” A trading market for our common stock did
not begin until January 8, 2007. The OTC Bulletin Board is a regulated
quotation service that displays real-time quotes, last-sale prices and volume
information in over-the-counter equity securities. The OTC Bulletin Board
securities are traded by a community of market makers that enter quotes and
trade reports. This market is extremely limited and any prices quoted may not be
a reliable indication of the value of our common stock.





On March
7, 2008, the last reported sales price of our common stock as reported by the
OTC Bulletin Board was $0.56 per share. As of March 11, 2007, we had
35,369,495 shares of stock outstanding, and approximately 836 holders of record
of our common stock.




We
started trading on OTC Bulletin Board in December 2006, as we went public
through a reverse merger at that time. The quotations reflect inter-dealer
prices, without retail mark-up, mark-down or commission and may not reflect
actual transactions. The high and low sales prices of our common stock, as
reported by OTC Bulletin Board for each quarter during our most recent fiscal
year, are reported below:




Market
      PriceHigh
            
            LowFiscal
      Year 2007First
      Quarter
            
            $
            3.50
            
            $
            2.50Second
      Quarter
            
            $
            3.20
            
            $
            2.54Third
      Quarter
            
            $
            3.05
            
            $
            0.86Fourth
      Quarter
            
            $
            1.47
            
            $
            0.54Fiscal
      Year 2006First
      Quarter
            
            $
            —
            
            $
            —Second
      Quarter
            
            $
            —
            
            $
            —Third
      Quarter
            
            $
            —
            
            $
            —Fourth
      Quarter
            
            $
            —
            
            $
            —





Our Board
of Directors determines any payment of dividends. We have never declared or paid
cash dividends on our common stock. We do not expect to authorize the payment of
cash dividends on our shares of common stock in the foreseeable future. Any
future decision with respect to dividends will depend on future earnings,
operations, capital requirements and availability, restrictions in future
financing agreements and other business and financial
considerations.





The
following table provides the information indicated as of December 31, 2007
with respect to compensation plans (including individual compensation
arrangements) under which equity securities of the registrant are authorized for
issuance, aggregated (i) for all compensation plans previously approved by
security holders, and (ii) all compensation plans not previously approved
by security holders.


23





Equity Compensation Plan
Information


Number
      of securitiesremaining
      available forNumber
      of securities to
            
            
            Weighted-average
            
            
            future
      issuance underbe
      issued upon exercise
            
            
            exercise
      price of
            
            
            equity
      compensation plansof
      outstanding options,
            
            
            outstanding
      options,
            
            
            (excluding
      securitiesPlan
      Category
            
            warrants
      and rights
            
            
            warrants
      and rights
            
            
            reflected
      in column (a))(a)
            
            
            (b)
            
            
            (c)Equity
      compensation plans approved by security holders:2006
      Equity Participation Plan
            
            
            3,807,500
            
            
            $
            1.17
            
            
            
            11,192,500Equity
      compensation plans not approved by security holders
            
            
            0
            
            
            $
            0.00
            
            
            (Not
      Applicable)Total
            
            
            3,807,500
            
            
            $
            1.17
            
            
            
            11,192,500



















24







ITEM
6. MANAGEMENT’SDISCUSSION AND ANALYSIS OR PLAN OF
OPERATIONS


The
following discussion of our financial condition and results of operations should
be read in conjunction with our consolidated financial statements and related
notes and other financial information included elsewhere in this Annual Report
on Form 10-KSB. The discussion contains forward-looking statements based upon
current expectations that involve risks and uncertainties, such as our plans,
expectations and intentions. Our actual results may differ significantly from
management’s expectations. This discussion should not be construed to imply that
the results discussed herein will necessarily continue into the future, or that
any conclusion reached herein will necessarily be indicative of actual operating
results in the future. Such discussion represents only the best present
assessment of our management.





Overview





We were
originally incorporated in Delaware on June 7, 2005 as BTHC III, Inc. to
effect the reincorporation of BTHC III, LLC, a Texas limited liability company,
mandated by a plan of reorganization. Pursuant to the plan of reorganization, an
aggregate of 500,000 shares of our common stock were issued to holders of
administrative and tax claims and unsecured debt, of which 350,000 shares were
issued to Halter Financial Group. The plan of reorganization required BTHC III,
Inc. to consummate a merger or acquisition prior to June 20, 2007. Until
the Share Exchange Agreement described below, BTHC III, Inc. conducted no
operations. In October 2006, BTHC III, Inc. affected a 4.42-for-one stock
split with respect to the outstanding shares of common stock.





On
December 28, 2006, pursuant to a Share Exchange Agreement, BTHC III, Inc.
issued 33,156,502 shares of common stock, representing approximately 93.7% of
the common stock outstanding immediately after the transaction, to the
shareholders of International Stem Cell Corporation, a California corporation
(“ISC California”), in exchange for all outstanding stock of ISC California.
This transaction is being accounted for as a “reverse merger” for accounting
purposes. Consequently, the assets and liabilities and the historical operations
that are reflected in our financial statements are those of ISC
California.





ISC
California was incorporated in California in June 2006 for the purpose of
restructuring the business of Lifeline Cell Technology, LLC, which was organized
in California in August 2001. As a result of the restructuring, Lifeline
became wholly-owned by ISC California, which in turn is wholly-owned by us. All
of our current operations are conducted by Lifeline. Our principal executive
offices are located at 2595 Jason Court, Oceanside, California 92056, and our
telephone number is (760) 940-6383.





Results of
Operations





Year
Ended December 31, 2007 Compared to Year Ended December 31, 2006


Revenues





We are a
development stage company and as such have generated nominal revenues. For the
year end December 31, 2007, our product sales have continued to increase. We
recognized $38,764 of product revenue during 2007, compared to $2,828 for the
year ended December 31, 2006. This increase is due to increased marketing
dollars spent in 2007 on advertising and increased efforts by our sales and
marketing team as well as our marketing consultants.





General
and Administrative Expenses





General
and administrative expenses for the year ended December 31, 2007 were $3,089,963
a decrease of $641,378, or 17%, compared to $3,731,341 for the same period in
2006. The decrease primarily relates to reduced expenses of the Private
Placement of securities in 2006. During 2007 our general and administrative
expenses related to the development of a support staff, which included payroll
related expenses of $1,300,296, financial consultants to assist with various
Securities and Exchange Commission filings of $64,250, public relations of
$174,172, audit and accounting $266,910, and general corporate expenses of
$952,606. In addition, we incurred expenses related to a private placement of
securities in 2006, which certain closings occurred in early 2007. In addition
we filed a SB-2 and incurred one time expenses for legal, accounting and
consulting fees during the year until the filing was effective on July 12,
2007.





25


Research and
Development





Research
and development expenses were $2,486,417 for the year ended December 31, 2007,
an increase of $627,959, or 34%, compared to $1,858,458 for the same period in
2006. Research and development expenses increased from the prior year primarily
due to increased salaries as a result of the addition of the lab in Oceanside,
California, resulting in additional scientific staffing, as well as the addition
of scientific staff at our Walkersville Maryland facilities. R&D salary
expense totaled $860,951. Also, contract service expenditures continued to
increase due to increased activity and collaborations with our lab located in
Russia, as well as, contract service expenditures in the form of consulting fees
incurred for scientific projects. These expenses totaled $472,698. Expenditures
for lab supplies and lab facility rental increased primarily as a result of the
addition of the Oceanside facility. Lab supplies and lab facility expenses
totaled $526,563. Depreciation of lab equipment and amortization of licensed
technology both increased as we continue to expand our facilities both in
Oceanside, California and Walkersville Maryland, as well as, additions to our
patent portfolio.





R&D
operations consisted primarily of the development of additional stem cell lines
through parthenogenesis, the development of new techniques of parthenogenesis,
and the development of research products for sale. Expenses related to these
projects have not been separately accounted for on our books as yet since the
research involved often involves multiple projects, including the use of the
same employees and equipment for multiple purposes.





The
development of cells for therapeutic use will be an ongoing endeavor for many
years and it is impossible to make any meaningful estimate of the nature and
timing of costs related thereto. Future R&D related to research cells and
media products will be ongoing as products are developed and offered for sale
and will be accounted for separately at such time as specific allocations can be
meaningfully made based on demand and sales. We have not yet reached that stage
of development. The project at UCI previously described will be the first for
which separate allocation will be feasible.





Other
than with respect to the research agreement described previously, no specific
completion dates have been established for any particular project since most of
our work is experimental. No revenues are expected from any R&D efforts
directed toward cell based therapy for several years and may never develop if
our research is not successful. Some revenues are expected from research cells
and media, but it is too early in our history to make meaningful predictions as
to the amount of such revenues.





Research
and development expenses are expensed as they are incurred, and are not yet
accounted for on a project by project basis since, to date, all of our research
has had potential applicability to each of our projects.





Marketing
Expense





Marketing
expenses for the year ended December 31, 2007 were $495,009, an increase of
$397,085, compared to $97,924 for the same period in 2006. During 2007, we
continued to invest in developing marketing and sales strategies, as well as,
establishing an infrastructure to support our sales team and our sales goals.
Our primary marketing expenses continued to be for the development for our web
site, creation of sales literature, and development and placement of print ads
for trade journals. In previous years these functions did not exist or needed
improvement to support our current sales and marketing needs. Sales and
marketing expense primarily consisted of $181,489 in sales and marketing
salaries, $260,365 in marketing consulting and related expenses and $57,130 in
trade show expenses.





Liquidity and Capital
Resources





At
December 31, 2007, our cash and cash equivalents totaled $165,344. Overall, we
had a decrease in cash of $4,531,350 for the twelve month period ended December
31, 2007, resulting from $5,253,622 cash used in operating activities and
$437,853 used in investment activities, offset by $1,160,125 of cash provided by
our financing activities. The funds generated from financing activities during
2007 were used mainly to support our operating losses.





Operating
Cash Flows





Net cash
used in operating activities of $5,253,622 for the year end December 31, 2007
was primarily attributable to a net loss of $6,071,983. The adjustments to
reconcile the net loss to net cash used in operating activities include
depreciation and amortization expense of $135,729, non-cash stock option expense
of $427,496, an increase in inventory of $155,491, an increase in prepaid assets
of $119,035, an increase in other assets of $9,575, a decrease in deposits of
$2,320, an increase in accounts payable of $171,837, an increase in accrued
expenses of $120,747, an increase of $269,333 of related party payables
attributable to loan by our Chairman Mr. Kenneth Aldrich, and a decrease in loan
payable of $25,000.





26


Investing
Cash Flows





Net cash
used in investing activities of $437,853 for the year ended December 31, 2007
was primarily attributable to purchases of property and equipment of $430,694
consisting primarily of laboratory equipment for use in a variety of research
projects, and building leasehold improvements related to new research labs. In
addition we made payments for patent licenses of $7,159 during
2007.





Financing
Cash Flows





Net cash
provided by financing activities of $1,160,125 for the year ended December 31,
2007 was primarily attributable to the delayed closings during such period for
the sale of 1,373,000 shares of common stock that were part of a private
placement of securities during the second half of 2006. Such shares were sold
for cash at $1.00 per share and we incurred $212,875 in cash expense related to
the subscriptions that closed in 2007.





Management
believes that we will need to obtain significant additional capital resources
from sources including equity and/or debt financings, license arrangements,
grants and/or collaborative research arrangements in order to develop products.
Thereafter, we will need to raise additional working capital. Our current burn
rate is approximately $425,000 per month excluding capital expenditures. The
timing and degree of any future capital requirements will depend on many
factors, including: Based on the above, there is substantial doubt about the
Company’s ability to continue as a going concern.





Year
Ended December 31, 2006 Compared to Year Ended December 31, 2005


Revenues





We are a
development stage company and have generated nominal revenues, $2,828 for the
year ended December 31, 2006 and $158 during the year ended
December 31, 2005. We earned revenue through the sale of research
materials. The Company increased its sales force and was in the process of
introducing new products into the market. The Company recognizes sales when
product is shipped to the customer and title has passed. The Company recognizes
direct cost of sales which were also not material at that time.





General
and Administrative Expenses





General
and administrative expenses were $3,731,341 for the year ended December 31,
2006, as compared to $428,450 for the year ended December 31, 2005. The
increase principally was due to costs of a private placement of securities
during 2006, the costs of certain consulting agreements entered into during the
year and the issuance of common stock and warrants to purchase common stock in
exchange for services during the year. Included in general and administrative
expenses for 2006 in connection with the private placement were $102,237 in
legal fees relating to the private placement. In addition, during 2006 we
entered into three consulting agreements pursuant to which we paid $450,000 cash
and issued common stock valued at $1,350,000. During 2006, we also issued
warrants to various persons as partial consideration for bridge loans or for
guarantees or other services, which warrants required an entry to general and
administrative expense to reflect the non-cash cost of such warrants in the
amount of $222,007.





Research and
Development





Research
and development expenses were $1,858,458 for 2006 as compared to $837,375 for
the year ended December 31, 2005. Contract services in the form of
consulting fees incurred for scientific projects were $684,707 for 2006 compared
to $206,772 for 2005. Payroll and related expenses totaled $379,069 for 2006
compared with $205,864 for 2005. The increase was primarily a result of the
addition of the lab in Oceanside, California, with commensurate scientific
staffing. Additional contract service expenditures related to our collaboration
with the lab in Russia increased slightly in 2006 to $275,008 from $222,532 in
2005. Expenditures for lab supplies and lab facility rental increased to
$142,450 in 2006 from $78,657 in 2005, primarily as a result of the addition of
the Oceanside facility. Depreciation of lab equipment and amortization of
licensed technology increased to $49,776 in 2006 from $33,184, as a result of
the purchase of lab equipment with alternative future uses in a variety of
research projects.





27


R&D
operations consisted primarily of the development of additional stem cell lines
through parthenogenesis, the development of new techniques of parthenogenesis,
and the development of research products for sale. Expenses related to these
projects have not been separately accounted for on our books as yet since the
research involved often involves multiple projects, including the use of the
same employees and equipment for multiple purposes.





Marketing
expense





Marketing
expense increased to $97,924 for 2006, as compared to $36,361 for the year ended
December 31, 2005. During the current year ISC launched eight new products
and is in the process of adding several additional products for
sale.





Liquidity and Capital
Resources





On
February 13, 2007, we completed a private placement commenced by ISC
California whereby we sold an aggregate of 11,250,950 shares of our common stock
to accredited investors at $1.00 per share, resulting in gross proceeds of
$11,250,950. Brookstreet Securities Corporation served as placement agent for
the private placement and, for services rendered, received a sales commission of
$887,076, a marketing allowance of $221,769, and a non-accountable expense
allowance of $332,653.50. For its services, Brookstreet also received a warrant
to purchase up to 2,250,190 shares of common stock at $1.00 per share. Between
August and November 2006, we also sold an aggregate of 555,552 shares of
our common stock to accredited investors, without the use of a placement agent,
at $0.90 per share, resulting in gross proceeds of $500,000. No sales
commission, marketing allowance or expense allowance was paid in connection with
the sale of these shares. The shares and the placement agent warrant described
above were offered and sold to issues’ in reliance upon exemptions from
registration pursuant to Section 4(2) of the Securities Act of 1933, as
amended, and Rule 506 promulgated there under.





In
connection with the sale of the above shares, we agreed to file a registration
statement on form SB-2 with the SEC registering the resale of the shares sold in
the private placements within 60 days after the last closing of the private
placement, and to maintain its effectiveness until 12 months after its
effectiveness. In addition, our executive officers and directors, and our
co-founder, Gregory S. Keller, M.D., are subject to lock-up agreements
prohibiting them from selling or otherwise transferring any shares of common
stock issued in the Share Exchange for a period of 180 days following the
effective date of the registration statement. We are subject to certain share
penalties if we fail to maintain the effectiveness of the registration statement
for 12 months.





Until
November 7, 2008, Brookstreet has the right to designate an independent
person with relevant business experience to serve on our board of directors and
as a member of either our audit or compensation committee, or at Brookstreet’s
option, as a non-voting adviser to the board of directors. As of the date of
this Annual Report on Form 10-KSB/A, Brookstreet has not exercised this
right.





We raised
an aggregate of approximately $10,300,000 in net proceeds from the two offerings
described above. Management believes that we will need to obtain significant
additional capital resources from sources including equity and/or debt
financings, license arrangements, grants and/or collaborative research
arrangements in order to develop products. Thereafter, we will need to raise
additional working capital. Our current burn rate is approximately $425,000 per
month excluding capital expenditures. The timing and degree of any future
capital requirements will depend on many factors, including: Based on the above,
there is substantial doubt about the Company’s ability to continue as a going
concern.





•
            
            the
      accuracy of the assumptions underlying our estimates for capital needs in
      2008 and beyond;•
            
            scientific
      progress in our research and development
  programs;


•
            
            the
      magnitude and scope of our research and development programs and our
      ability to establish, enforce and maintain strategic arrangements for
      research, development, clinical testing, manufacturing and
      marketing;•
            
            our
      progress with preclinical development and clinical
  trials;


•
            
            the
      time and costs involved in obtaining regulatory
  approvals;


•
            the
      costs involved in preparing, filing, prosecuting, maintaining, defending
      and enforcing patent claims; and•
            
            the
      number and type of product candidates that we
  pursue.





28


Additional
financing through strategic collaborations, public or private equity financings
or other financing sources may not be available on acceptable terms, or at all.
Additional equity financing could result in significant dilution to our
stockholders. Further, if additional funds are obtained through arrangements
with collaborative partners, these arrangements may require us to relinquish
rights to some of our technologies, product candidates or products that we would
otherwise seek to develop and commercialize on our own. If sufficient capital is
not available, we may be required to delay, reduce the scope of or eliminate one
or more of our product lines.





Off-Balance Sheet
Arrangements





There
were no off-balance sheet arrangements.





Recently Issued Accounting
Pronouncements




In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements,
which defines fair value, establishes a framework for measuring fair value in
generally accepted accounting principles, and expands disclosures about fair
value measurements. SFAS No. 157 does not require any new fair value
measurements, but provides guidance on how to measure fair value by providing a
fair value hierarchy used to classify the source of the information. This
statement is effective for us beginning January 1, 2008. We are currently
assessing the potential impact that adoption of SFAS No. 157 will have on
our consolidated financial statements.




In
September 2006, the FASB issued Statement No. 158, “Employer’s
Accounting for Defined Benefit Pension and Other Postretirement Plans – an
amendment of FASB Statements No. 87, 88, 106, and 132(R) (“FASB 158”). FASB 158
requires the full recognition, as an asset or liability, of the overfunded or
underfunded status of a company-sponsored postretirement benefit plan. Adoption
of FASB 158 is required effective for the Company’s fiscal year ending December
31, 2007. We assessed the potential impact that adoption of FASB 158 would have
on our consolidated financial statements and have concluded that there is no
material impact as of December 31, 2007.




In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option
for Financial Assets and Financial Liabilities” (SFAS 159). Under the provisions
of SFAS 159, companies may choose to account for eligible financial instruments,
warranties and insurance contracts at fair value on a contract-by-contract
basis. Changes in fair value will be recognized in earnings each reporting
period. SFAS 159 is effective for financial statements issued for fiscal years
beginning after November 15, 2007, and interim periods within those fiscal
years. The Company is required to and plans to adopt the provisions of SFAS 159
beginning in the first quarter of 2008. The Company is currently assessing the
impact of the adoption of SFAS 159 and its impact, if any, on its consolidated
financial statements.




In
December 2007, the FASB issued Statement No. 141 (revised 2007), “Business Combinations.” The
new standard requires the acquiring entity in a business combination to
recognize all (and only) the assets acquired and liabilities assumed in the
transaction; establishes the acquisition-date fair value as the measurement
objective for all assets acquired and liabilities assumed; and requires the
acquirer to disclose to investors and other users all of the information they
need to evaluate and understand the nature and financial effect of the business
combination. We will adopt this new standard for fiscal years beginning
January 1, 2009.




In
December, 2007, the FASB issued Statement No. 160, “Noncontrolling Interests in
Consolidated Financial Statements—an amendment of ARB No. 51.” This
statement establishes accounting and reporting standards for the noncontrolling
interest in a subsidiary and for the deconsolidation of a subsidiary. This
statement is effective prospectively, except for certain retrospective
disclosure requirements, for fiscal years beginning after December 15, 2008. We
are currently analyzing the effects of the new standard and its potential
impact, if any, on our consolidated financial statements.







29


In
December 2007, FASB ratified the consensus reached by EITF on EITF
Issue 07-1, ‘‘Accounting for Collaborative Arrangements ’’ or EITF 07-1.
EITF 07-1 requires collaborators to present the results of activities for
which they act as the principal on a gross basis and report any payments
received from (made to) other collaborators based on other applicable GAAP or,
in the absence of other applicable GAAP, based on analogy to authoritative
accounting literature or a reasonable, rational, and consistently applied
accounting policy election. Further, EITF 07-1 clarified that the determination
of whether transactions within a collaborative arrangement are part of a
vendor-customer (or analogous) relationship subject to EITF 01-9,
‘‘Accounting for Consideration Given by a Vendor to a Customer (Including a
Reseller of the Vendor’s Products).’’ EITF 07-1 will be effective beginning on
January 1, 2008. The Company is still considering the impact of
the adoption of EITF 07-1 will have on its consolidated financial
statements.




ITEM
7. FINANCIALSTATEMENTS


The
information required by this Item is set forth in our Consolidated Financial
Statements and Notes thereto beginning at page F-1 of this Annual Report on Form
10-KSB.




ITEM
8. CHANGESIN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE


None.




ITEM
8A. CONTROLSAND PROCEDURES


Disclosure
Controls and Procedures
  As
required by Rules 13a-15 and 15d-15 of the Securities Exchange Act of 1934,
the Company has evaluated, with the participation of management, including the
Chief Executive Officer and the Chief Financial Officer, the effectiveness of
its disclosure controls and procedures (as defined in such rules) as of the end
of the period covered by this report. Based on such evaluation, the Chief
Executive Officer and Chief Financial Officer concluded that the Company’s such
disclosure controls and procedures are effective to ensure that information
required to be disclosed by the Company in reports prepared in accordance with
the rules and regulations of the Securities and Exchange Commission (“SEC”) is
recorded, processed, summarized and reported within the time periods specified
by the SEC’s rules and forms.
  Our
management, including the Company’s Chief Executive Officer and Chief Financial
Officer, does not expect that the Company’s disclosure controls and procedures
will prevent all errors and all fraud. A control system, no matter how well
conceived and operated, can provide only reasonable, not absolute, assurance
that the objectives of the control system are met. Further, the design of a
control system must reflect the fact that there are resource constraints, and
the benefits of controls must be considered relative to their costs. Because of
the inherent limitations in all control systems, no evaluation of controls can
provide absolute assurance that all control issues and instances of fraud, if
any, within the Company have been detected. These inherent limitations include
the realities that judgments in decision-making can be faulty, and that
breakdowns can occur because of simple error or mistake.
  Additionally,
controls can be circumvented by the individual acts of some persons, by
collusion of two or more people, or by management override of the control. The
design of any system of controls also is based in part upon certain assumptions
about the likelihood of future events, and there can be no assurance that any
design will succeed in achieving its stated goals under all potential future
conditions; over time, controls may become inadequate because of changes in
conditions, or the degree of compliance with the policies or procedures may
deteriorate. Because of the inherent limitations in a cost-effective control
system, misstatements due to error or fraud may occur and not be
detected.
  Changes
in Internal Control Over Financial Reporting
  There
have been no changes in the Company’s internal control over financial reporting
that occurred during the fourth quarter of the year ended December 31, 2007
that have materially affected, or are reasonably likely to materially affect,
the Company’s internal control over financial reporting. The Company continues
to review its disclosure controls and procedures, including its internal
controls over financial reporting, and may from time to time make changes aimed
at enhancing their effectiveness and to ensure that the Company’s systems evolve
with its business.


30




Management
Report on Internal Control Over Financial Reporting
  Our
management is responsible for establishing and maintaining adequate internal
control over financial reporting. Our internal control system is designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles in the United States (“GAAP”) and
includes those policies and procedures that:
  •
              
              pertain
      to the maintenance of records that in reasonable detail accurately and
      fairly reflect the transactions and dispositions of the assets of the
      company;•
              
              provide
      reasonable assurance that transactions are recorded as necessary to permit
      preparation of financial statements in accordance with GAAP, and that
      receipts and expenditures of the company are being made only in accordance
      with authorizations of management and directors of the company;
      and
 •
              
              provide
      reasonable assurance regarding prevention or timely detection of
      unauthorized acquisition, use or disposition of the company’s assets that
      could have a material effect on its financial
  statements.
  Because
of its inherent limitations, a system of internal control over financial
reporting can provide only reasonable assurance and may not prevent or detect
misstatements. Further, because of changes in conditions, effectiveness of
internal controls over financial reporting may vary over time. Our system
contains self-monitoring mechanisms, and actions are taken to correct
deficiencies as they are identified.
  Our
management conducted an evaluation of the effectiveness of the system of
internal control over financial reporting based on the framework in Internal
Control—Integrated Framework issued by the Committee of Sponsoring Organizations
of the Treadway Commission. Based on this evaluation, our management concluded
that our system of internal control over financial reporting was effective as of
December 31, 2007.
  This
report does not include an attestation report of our registered public
accounting firm regarding internal control over financial reporting.
Management’s report was not subject to attestation by our registered public
accounting firm pursuant to temporary rules of the Securities and Exchange
Commission that permit us to provide only management’s report in this annual
report.


ITEM
8B.     OTHERINFORMATION


None


31


ITEMS
13.     EXHIBITS






ExhibitNumber
            
            Description3.1
            
            
            Certificate
      of Incorporation (incorporated by reference to Exhibit 3.4 of the
      issuer’s Form 10-SB filed on April 4, 2006).3.2
            
            
            Certificate
      of Amendment of Certificate of Incorporation (incorporated by reference to
      Exhibit 3.1 of the Issuer’s Preliminary Information Statement on
      Form 14C filed on December 29, 2006).3.3
            
            
            Amended
      and Restated Bylaws of the Registrant (incorporated by reference to
      Exhibit 3.2 of the Issuer’s Preliminary Information Statement on
      Form 14C filed on December 29, 2006).4.1
            
            
            Form
      of Specimen Common Stock Certificate (incorporated by reference to Exhibit
      4.1 of the Registrant's Form 10-KSB filed on July 9,
  2007).4.2
            
            
            Form
      of Lifeline Warrant (incorporated by reference to Exhibit 4.1 of the
      Registrant’s Form 8-K filed on December 29, 2006).4.3
            
            
            Form
      of Lifeline Warrant held by ISC Bridge lenders (incorporated by reference
      to Exhibit 4.2 of the Registrant’s Form 8-K filed on
      December 29, 2006).4.4
            
            
            Placement
      Agents Warrant (incorporated by reference to Exhibit 4.3 of the
      Registrant’s Form 8-K filed on December 29, 2006).4.5
            
            
            Certification
      of Designation of Series A Preferred Stock (incorporated by reference to
      Exhibit 4.1 of the Issuer’s Form 8-K filed on January 17,
      2008).10.1
            
            
            Employment
      Agreement, dated December 1, 2006, by and between International Stem
      Cell and Kenneth C. Aldrich (incorporated by reference to
      Exhibit 10.1 of the Registrant’s Form 8-K filed on
      December 29, 2006).10.2
            
            
            Employment
      Agreement, dated November 1, 2006, by and between International Stem
      Cell and William B. Adams (incorporated by reference to Exhibit 10.2
      of the Registrant’s Form 8-K filed on December 29,
      2006).10.3
            
            
            Employment
      Agreement, dated March 27, 2006, by and between
      International
              Stem
      Cell and Jeff Krstich (incorporated by reference to Exhibit 10.3 of
      the Registrant’s Form 8-K filed on December 29,
      2006).10.4
            
            
            Employment
      Agreement, dated October 31, 2006, by and between International Stem
      Cell and Jeffrey Janus (incorporated by reference to Exhibit 10.4 of
      the Registrant’s Form 8-K filed on December 29,
      2006).10.5
            
            
            Advisory
      Agreement, dated as of October 18, 2006, by and between International
      Stem Cell and Halter Financial Group, L.P. (incorporated by reference to
      Exhibit 10.5 of the Registrant’s Form 8-K filed on
      December 29, 2006).10.6
            
            
            Consulting
      Agreement, effective as of September 1, 2006, by and between
      International Stem Cell and Capital Group Communications, Inc.
      (incorporated by reference to Exhibit 10.6 of the Registrant’s
      Form 8-K filed on December 29, 2006).10.7
            
            
            Lifeline/ASC
      Final Settlement Agreement, effective as of June 30, 2006, by and
      between each of the American Stem Cell Corporation Parties (which include
      American Stem Cell Corporation Kenneth Swaisland, Ken Sorensen, Milton
      Datsopoulos, Michael McClain, Array Capital, Catalytix LDC, Catalytix Life
      Sciences Hedge, Avion Holdings, Inc., jointly and severally) and the
      Lifeline Parties (which include Lifeline Cell Technology, LLC
      (“Lifeline”), Jeffrey Janus, William B. Adams, Kenneth C. Aldrich, jointly
      and severally) (incorporated by reference to Exhibit 10.7 of the
      Registrant’s Form 8-K filed on December 29,
    2006).


32





10.8
            
            
            Promissory
      Note, dated as of June 30, 2006, by Lifeline in favor of American
      Stem Cell Corporation (incorporated by reference to Exhibit 10.8 of
      the Registrant’s Form 8-K filed on December 29,
      2006).10.9
            
            
            First
      Amendment to Exclusive License Agreement (ACT IP), dated as of August 1,
      2005, by and between Advanced Cell, Inc. and Lifeline
      (incorporatedby
      reference to Exhibit 10.9 of the Registrant’s Form 8-K filed on
      December 29,2006).10.10
            
            
            First
      Amendment to Exclusive License Agreement (UMass IP), dated as of
      August 1, 2005, by and between Advanced Cell, Inc. and Lifeline
      (incorporated by reference to Exhibit 10.10 of the Registrant’s Form
      8-K filed on December 29, 2006).10.11
            
            
            First
      Amendment to Exclusive License Agreement (Infigen IP), dated as of
      August 1, 2005, by and between Advanced Cell, Inc. and Lifeline
      (incorporated by reference to Exhibit 10.11 of the Registrant’s
      Form 8-K filed on December 29, 2006).10.12
            
            
            Exclusive
      License Agreement (Infigen IP), dated as of May 14, 2004, by and
      between Advanced Cell Technology, Inc and PacGen Cellco, LLC (predecessor
      company of Lifeline) (incorporated by reference to Exhibit 10.12 of
      the Registrant’s Form 8-K filed on December 29,
      2006).10.13
            
            
            Exclusive
      License Agreement (ACT IP), dated as of May 14, 2004, by and between
      Advanced Cell Technology, Inc. and PacGen Cellco, LLC (predecessor company
      of Lifeline) (incorporated by reference to Exhibit 10.13 of the
      Registrant’s Form 8-K filed on December 29,
    2006).10.14
            
            
            Exclusive
      License Agreement (UMass IP), dated as of May 14, 2004, by and
      between Advanced Cell Technology, Inc. and PacGen Cellco, LLC (predecessor
      company of Lifeline) (incorporated by reference to Exhibit 10.14 of
      the Registrant’s Form 8-K filed on December 29,
      2006).10.15
            
            
            International
      Stem Cell Corporation 2006 Equity Participation Plan (incorporated by
      reference to Exhibit 10.15 of the Registrant’s Form 8-K filed on
      December 29, 2006).14.1
            
            
            Code
      of Ethics (incorporated by reference to Exhibit 14.1 of our
      Form 8-K filed on December 29, 2006).21.1
            
            
            Subsidiaries
      of the Registrant (incorporated by reference to Exhibit 21.1 of the
      Registrant’s Form 8-K filed on December 29,
    2006).23.1
            
            
            Accountant’s
      Consent31.1
            
            
            Rule 13a-14(a)/15d-14a
      (a) Certification of Chief Executive Officer.31.2
            
            
            Rule 13a-14(a)/15d-14a
      (a) Certification of Chief Financial Officer.32.1
            
            
            Section 1350
      Certification of Chief Executive Officer.32.2
            
            
            Section 1350
      Certification of Chief Financial
Officer.










33








ITEM
14.     PRINCIPALACCOUNTANT FEES AND SERVICES




The
information required by this item is incorporated by reference to the
information under the caption “Principal Accountant Fees and Services” contained
in the Proxy Statement.





















34









SIGNATURES




In
accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.





INTERNATIONAL
      STEM CELL CORPORATIONBy:
            /s/
      William B. AdamsName:
            William
      B. AdamsTitle:
            Chief
      Financial OfficerDated:
      March 18, 2008





In
accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.





Signature:
            
            Capacity:
            
            Date:/s/
      Kenneth C. Aldrich
              Kenneth
      C. Aldrich
            
            Chairman
      of the Board and Chief Executive Officer
            
            March
      18, 2008/s/
      Jeffrey D. Janus
              Jeffrey
      D. Janus
            
            President
      and Director
            
            March
      18, 2008/s/
      William B. Adams
              William
      B. Adams
            
            Chief
      Financial Officer and Director (Principal Financial Officer and Principal
      Accounting Officer)
            
            March
      18, 2008/s/
      Donald A. Wright
              Donald
      A. Wright
            
            Director
            
            March
      18, 2008/s/
      Paul V. Maier
              Paul
      V. Maier
            
            Director
            
            March
      18, 2008/s/
      Edward O. Hunter
              Edward
      O. Hunter
            
            Director
            
            March
      18, 2008
















35











Consolidated
Financial Statements






International
Stem Cell Corporation and Subsidiary






(A
Development Stage Company)






Years Ended December 31, 2007
and 2006




REPORT
      OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
            
            F-2Consolidated
      Balance Sheets
            
            F-3Consolidated
      Statements of Operations
            
            F-4Consolidated
      Statements of Members' Deficit and Stockholders’ Equity
            
            F-5Consolidated
      Statements of Cash Flows
            
            F-6Notes
      to Consolidated Financial Statements
            
            F-7






F-1






REPORT OF INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM





To the
Board of Directors and Stockholders of


International
Stem Cell Corporation


(A
Development Stage Company)


Oceanside,
California





We have
audited the accompanying consolidated balance sheets of International Stem Cell
Corporation and subsidiary (a development stage company) (the “Company”) as of
December 31, 2007 and 2006, and the related consolidated statements of
operations, members' deficit and stockholders’ equity and cash flows for each of
the years then ended and for the period from inception (August 17, 2001)
through December 31, 2007. These financial statements are the
responsibility of the Company’s management. Our responsibility is to express an
opinion on these financial statements based on our audits.





We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. The Company is not required to
have, nor were we engaged to perform, an audit of its internal control over
financial reporting. Our audit included consideration of internal control over
financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company’s internal control over financial
reporting. Accordingly, we express no such opinion. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.





In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of International Stem Cell
Corporation and subsidiary as of December 31, 2007 and 2006, and the
results of their operations and their cash flows for the years then ended and
for the period from inception (August 17, 2001) through December 31,
2007, in conformity with accounting principles generally accepted in the United
States of America.





The
accompanying financial statements have been prepared assuming that the Company
will continue as a going concern. As discussed in Note 1 to the financial
statements, the Company expects to incur losses and needs to raise capital,
which raise substantial doubt about its ability to continue as a going concern.
Management’s plans in regard to these matters are also described in Note 1. The
financial statements do not include any adjustments that might result from the
outcome of the uncertainty.











/s/
Vasquez & Company LLP


Los
Angeles, California


March 18,
2008


F-2





INTERNATIONAL STEM CELL CORPORATION
AND SUBSIDIARY


Consolidated
Balance Sheets


December
      31,2007
            
            
            2006AssetsCurrent
      assetsCash
      and cash equivalents
            
            $
            165,344
            
            
            $
            4,696,694Inventory
            
            
            175,636
            
            
            
            20,145Prepaid
      assets
            
            
            119,035
            
            
            
            —Other
      current assets
            
            
            10,189
            
            
            
            614Total
      current assets
            
            
            470,204
            
            
            
            4,717,453Property
      and equipment, net
            
            
            482,786
            
            
            
            137,794Patent
      licenses, net
            
            
            625,148
            
            
            
            668,016Deposits
      and other assets
            
            
            19,643
            
            
            
            21,963Total
      assets
            
            $
            1,597,781
            
            
            $
            5,545,226Liabilities,
      Members' Deficit and Stockholders' EquityCurrent
      liabilitiesAccounts
      payable
            
            $
            493,426
            
            
            $
            321,589Accrued
      expenses
            
            
            142,177
            
            
            
            21,430Loan
      payable
            
            
            —
            
            
            
            25,000Related
      party payable
            
            
            749,778
            
            
            
            480,445Total
      current liabilities
            
            
            1,385,381
            
            
            
            848,464Total
      liabilities
            
            
            1,385,381
            
            
            
            848,464Members'
      Deficit and Stockholders' EquityCapital
      stock, $0.001 par value 200,000,000 shares authorized, 35,369,495 and
      33,996,495 issued for December 31, 2007 and 2006,
      respectively.
            
            
            35,369
            
            
            
            33,996Preferred
      stock, 20,000,000 shares authorized, none issued or
      outstanding
            
            
            —
            
            
            
            —Additional
      paid-in capital
            
            
            16,124,046
            
            
            
            14,537,798Deficit
      accumulated during the development stage
            
            
            (15,947,015
            )
            
            
            (9,875,032
            )Total
      members’ deficit and stockholders’ equity
            
            
            212,400
            
            
            
            4,696,762Total
      liabilities, members’ deficit and stockholders’ equity
            
            $
            1,597,781
            
            
            $
            5,545,226


See
accompanying notes to consolidated financial statements




F-3







INTERNATIONAL STEM CELL CORPORATION
AND SUBSIDIARY


Consolidated
Statements of Operations


Inception(August
      2001)throughYear
      Ended December 31,
            
            
            December
      31,2007
            
            
            2006
            
            
            2007Sales
            
            $
            38,764
            
            
            $
            2,828
            
            
            $
            41,750Development
      expensesCost
      of sales
            
            
            40,997
            
            
            
            30,825
            
            
            
            71,869Research
      and development
            
            
            2,486,417
            
            
            
            1,858,458
            
            
            
            6,375,112Marketing
            
            
            495,009
            
            
            
            97,924
            
            
            
            631,456General
      and administrative
            
            
            3,089,963
            
            
            
            3,731,341
            
            
            
            7,833,767Total
      development expenses
            
            
            6,112,386
            
            
            
            5,718,548
            
            
            
            14,912,204Loss
      from development activities
            
            
            (6,073,622
            )
            
            
            (5,715,720
            )
            
            
            (14,870,454
            )Other
      income (expense)Settlement
      with related company
            
            
            —
            
            
            
            (93,333
            )
            
            
            (93,333
            )Miscellaneous
            
            
            3,164
            
            
            
            435
            
            
            
            8,643Interest
      income
            
            
            31,741
            
            
            
            22,146
            
            
            
            54,331Interest
      expense
            
            
            (41,808
            )
            
            
            (806,155
            )
            
            
            (1,068,131
            )Sublease
      income
            
            
            9,642
            
            
            
            10,400
            
            
            
            28,729Total
      other loss
            
            
            2,739
            
            
            
            (866,507
            )
            
            
            (1,069,761
            )Loss
      before income taxes
            
            
            (6,070,883
            )
            
            
            (6,582,227
            )
            
            
            (15,940,215
            )Provision
      for income taxes
            
            
            1,100
            
            
            
            1,700
            
            
            
            6,800Net
      loss
            
            $
            (6,071,983
            )
            
            $
            (6,583,927
            )
            
            $
            (15,947,015
            )Net
      loss per common share - basic and diluted
            
            $
            (0.17
            )
            
            $
            (0.28
            )
            
            
            n/aWeighted
      average shares - basic and diluted
            
            
            35,362,206
            
            
            
            23,136,695
            
            
            
            n/a




See
accompanying notes to consolidated financial statements


F-4





INTERNATIONAL STEM CELL CORPORATION
AND SUBSIDIARY


Consolidated
Statements of Members’ Deficit and Stockholders’ Equity


From
Inception to December 31, 2007


Additional
            
            
            
            
            
            
            TotalCommon
      Stock
            
            
            Paid-In
            
            
            Accumulated
            
            
            Stockholders’
            
            
            Members’Shares
            
            
            Amount
            
            
            Capital
            
            
            Deficit
            
            
            Equity
            
            
            DeficitBalance
      at August 17, 2001
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —Members
      contributions
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            $
            100,000Net
      loss for the period from inception
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (140,996
            )Balance
      at December 31, 2001
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (40,996
            )Members
      contributions
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            250,000Net
      loss for the year ended
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (390,751
            )Balance
      at December 31, 2002
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (181,747
            )Members
      contributions
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            195,000Net
      loss for the year ended
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (518,895
            )Balance
      at December 31, 2003
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (505,642
            )Members
      contributions
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            1,110,000Net
      loss for the year ended
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (854,718
            )Balance
      at December 31, 2004
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (250,360
            )Members
      contributions
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            780,000Net
      loss for the year ended December 31, 2005
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (1,385,745
            )Balance
      at December 31, 2005
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (856,105
            )Members
      contributions
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            250,000Effect
      of the Reorganization Transactions
            
            
            20,000,000
            
            
            $
            20,000
            
            
            $
            2,665,000
            
            
            $
            (3,291,105
            )
            
            $
            (606,105
            )
            
            
            606,105BTHC
      transactions
            
            
            2,209,993
            
            
            
            2,210
            
            
            
            (2,210
            )
            
            
            —
            
            
            
            —
            
            
            
            —Offering
      costs
            
            
            —
            
            
            
            —
            
            
            
            (2,778,082
            )
            
            
            —
            
            
            
            (2,778,082
            )
            
            
            —Warrants
      issued for equity placement services
            
            
            —
            
            
            
            —
            
            
            
            1,230,649
            
            
            
            —
            
            
            
            1,230,649
            
            
            
            —Warrants
      issued for services
            
            
            —
            
            
            
            —
            
            
            
            222,077
            
            
            
            —
            
            
            
            222,077
            
            
            
            —Warrants
      issued with  promissory note
            
            
            —
            
            
            
            —
            
            
            
            637,828
            
            
            
            —
            
            
            
            637,828
            
            
            
            —Common
      stock issued for services
            
            
            1,350,000
            
            
            
            1,350
            
            
            
            1,348,650
            
            
            
            —
            
            
            
            1,350,000
            
            
            
            —Issuance
      of common stock
            
            
            10,436,502
            
            
            
            10,436
            
            
            
            10,371,512
            
            
            
            —
            
            
            
            10,381,948
            
            
            
            —Stock-based
      compensation
            
            
            —
            
            
            
            —
            
            
            
            842,374
            
            
            
            —
            
            
            
            842,374
            
            
            
            —Net
      loss for the year ended December 31, 2006
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (6,583,927
            )
            
            
            (6,583,927
            )
            
            
            —Balance
      at December 31, 2006
            
            
            33,996,495
            
            
            $
            33,996
            
            
            $
            14,537,798
            
            
            $
            (9,875,032
            )
            
            $
            4,696,762
            
            
            $
            —Issuance
      of common stock
            
            
            1,370,000
            
            
            
            1,370
            
            
            
            1,368,630
            
            
            
            —
            
            
            
            1,370,000
            
            
            
            —Offering costs
            
            
            —
            
            
            
            —
            
            
            
            (382,124
            )
            
            
            —
            
            
            
            (382,124
            )
            
            
            —Warrants
      issued for equity placement services
            
            
            —
            
            
            
            —
            
            
            
            169,249
            
            
            
            —
            
            
            
            169,249
            
            
            
            —Warrants
      exercised
            
            
            3,000
            
            
            
            3
            
            
            
            2,997
            
            
            
            —
            
            
            
            3,000Stock-based
      compensation
            
            
            —
            
            
            
            —
            
            
            
            427,496
            
            
            
            —
            
            
            
            427,496
            
            
            
            —Net
      loss for the year endedDecember 31,
      2007
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (6,071,983
            )
            
            
            (6,071,983
            )
            
            
            —Balance
      at December 31, 2007
            
            
            35,369,495
            
            
            $
            35,369
            
            
            $
            16,124,046
            
            
            $
            (15,947,015
            )
            
            $
            212,400
            
            
            $
            —


See
accompanying notes to consolidated financial statements


F-5





INTERNATIONAL
STEM CELL CORPORATION AND SUBSIDIARY


Consolidated
Statements of Cash Flows


Inception(August2001)throughDecember
      31,
            
            
            December
      31,2007
            
            
            2006
            
            
            2007Cash
      flows from operating activitiesNet
      loss
            
            $
            (6,071,983
            )
            
            $
            (6,583,927
            )
            
            $
            (15,947,015
            )Adjustments
      to reconcile net loss to net cash used in operating
      activities:Depreciation
      and amortization
            
            
            135,729
            
            
            
            81,665
            
            
            
            289,417Accretion
      of discount on notes payable
            
            
            —
            
            
            
            52,632
            
            
            
            103,304Accretion
      of discount on bridge loans
            
            
            —
            
            
            
            637,828
            
            
            
            637,828Non-cash
      warrants for services
            
            
            —
            
            
            
            222,077
            
            
            
            222,077Non-cash
      compensation expense
            
            
            427,496
            
            
            
            842,374
            
            
            
            1,269,871Common
      stock issued for services
            
            
            —
            
            
            
            1,350,000
            
            
            
            1,350,000Changes
      in operating assets and liabilities:Increase
      in inventory
            
            
            (155,491
            )
            
            
            (20,145
            )
            
            
            (155,492
            )Increase
      in prepaid assets
            
            
            (119,035
            )
            
            
            —
            
            
            
            (119,035
            )Increase
      in other current assets
            
            
            (9,575
            )
            
            
            (397
            )
            
            
            (30,333
            )(Increase)
      decreease in deposits
            
            
            2,320
            
            
            
            (19,938
            )
            
            
            (19,643
            )Increase
      in accounts payable
            
            
            171,837
            
            
            
            277,766
            
            
            
            493,425Increase
      (decrease) in accrued expenses
            
            
            120,747
            
            
            
            (23,963
            )
            
            
            142,176Increase
      (decrease) in loan payable
            
            
            (25,000
            )
            
            
            25,000
            
            
            
            —Increase
      (decrease) in related party payables
            
            
            269,333
            
            
            
            (193,352
            )
            
            
            749,777Net
      cash used in operating activities
            
            
            (5,253,622
            )
            
            
            (3,352,380
            )
            
            
            (11,013,643
            )Investing
      activitiesPurchases
      of property and equipment
            
            
            (430,694
            )
            
            
            (68,096
            )
            
            
            (639,215
            )Payments
      for patent licenses
            
            
            (7,159
            )
            
            
            (650
            )
            
            
            (758,135
            )Net
      cash used in investing activities
            
            
            (437,853
            )
            
            
            (68,746
            )
            
            
            (1,397,350
            )Financing
      activitiesProceeds
      from members’ contribution
            
            
            —
            
            
            
            250,000
            
            
            
            2,685,000Issuance
      of common stock
            
            
            1,373,000
            
            
            
            10,381,948
            
            
            
            11,754,949Issuance
      of convertible promissory notes
            
            
            —
            
            
            
            —
            
            
            
            2,099,552Payment
      of promissory notes
            
            
            —
            
            
            
            (1,000,000
            )
            
            
            (2,202,856
            )Payment
      of offering costs
            
            
            (212,875
            )
            
            
            (1,547,433
            )
            
            
            (1,760,308
            )Net
      cash provided by financing activities
            
            
            1,160,125
            
            
            
            8,084,515
            
            
            
            12,576,337Net
      increase in cash and cash equivalents
            
            
            (4,531,350
            )
            
            
            4,663,389
            
            
            
            165,344Cash
      and cash equivalent at beginning of period
            
            
            4,696,694
            
            
            
            33,305
            
            
            
            —Cash
      and cash equivalent at end of period
            
            $
            165,344
            
            
            $
            4,696,694
            
            
            $
            165,344Supplemental
      disclosures of cash flow informationCash
      paid for interest
            
            $
            30,290
            
            
            $
            115,695
            
            
            $
            254,504Cash
      paid for income taxes
            
            $
            1,100
            
            
            $
            1,700
            
            
            $
            5,700Non-cash
      financing activities:Warrants
      issued with promissory notes
            
            $
            —
            
            
            $
            637,828
            
            
            $
            637,828Warrants
      issued for placement agent services
            
            $
            —
            
            
            $
            1,230,649
            
            
            $
            1,230,649


See
accompanying notes to consolidated financial statements


F-6





International
Stem Cell Corporation and Subsidiary


(A Development Stage
Company)


Notes to consolidated Financial
Statements





1. Organization and Significant
Accounting Policies





BUSINESS COMBINATION AND CORPORATE
RESTRUCTURE (Restated)


BTHC III,
Inc. (“BTHC III” or the “Company”) was organized in Delaware in June 2005
as a shell company to effect the reincorporation of BTHC III, LLC, a Texas
limited liability company. On December 28, 2006, we affected a Share
Exchange pursuant to which we acquired all of the stock of International Stem
Cell Corporation, a California corporation (“ISC California”). After giving
effect to the Share Exchange, the stockholders of ISC California owned 93.7% of
our issued and outstanding shares of common stock. As a result of the Share
Exchange, ISC California is now our wholly owned subsidiary, though for
accounting purposes it was deemed to have been the acquirer in a “reverse
merger.” In the reverse merger, BTHC III is considered the legal acquirer and
ISC California is considered the accounting acquirer. On January 29, 2007,
we changed our name from BTHC III, Inc. to International Stem Cell
Corporation.





Lifeline
Cell Technology, LLC (“Lifeline”) was formed in the State of California on
August 17, 2001. Lifeline is in the business of developing and
manufacturing human embryonic stem cells and reagents free from animal protein
contamination. Lifeline’s scientists have used a technology, called basal medium
optimization to systematically eliminate animal proteins from cell culture
systems. Lifeline is unique in the industry in that it has in place scientific
and manufacturing staff with the experience and knowledge to set up systems and
facilities to produce a source of consistent, standardized, animal protein free
ES cell products suitable for FDA approval.





On
July 1, 2006, Lifeline entered into an agreement among Lifeline, ISC
California and the holders of membership units and warrants for the purchase of
membership interests of Lifeline. Pursuant to the terms of the agreement, all
the membership units in Lifeline were exchanged for 20,000,000 shares of ISC
California Common Stock and for ISC California’s assumption of Lifeline’s
obligations under the warrants. Lifeline became a wholly owned subsidiary of ISC
California.





Going
Concern


The
Company continues in the development stage and as such has accumulated losses
from inception and expects to incur additional losses in the near future.
Thereafter, the Company will need to raise additional working capital. The
timing and degree of any future capital requirements will depend on many
factors. There can be no assurance that the Company will be successful in
maintaining its burn rate of approximately $425,000 per month and the timing of
its capital expenditures will result in cash flow sufficient to sustain the
Company’s operations through 2008. Based on the above, there is substantial
doubt about the Company’s ability to continue as a going concern. The financial
statements do not include any adjustments to reflect the possible future effects
on the recoverability and classification of assets or the amounts and
classification of liabilities that may result from the outcome of this
uncertainty. `Management’s plans in regard to these matters are focused on
maintaining its burn rate, the proper timing of its capital expenditures, and
raising additional capital or financing in the future.





Basis
of Presentation


International
Stem Cell Corporation was formed in June 2006. BTHC III, Inc. was a shell
company that had no operations and no net assets. For accounting purposes the
acquisition has been treated as a recapitalization of BTHC III with ISC
California as the accounting acquirer (reverse acquisition). The historical
statements prior to June 2006 are those of Lifeline Cell Technology, the
wholly owned subsidiary of ISC California.





Principles
of Consolidation


The
consolidated financial statements of the Company include the accounts of
International Stem Cell Corporation and its subsidiary after intercompany
balances and transactions have been eliminated.





Cash
Equivalents


The
Company considers all highly liquid investments with a maturity of three months
or less when purchased to be cash equivalents.





F-7


Property
and Equipment


Property
and equipment are stated at cost. The provision for depreciation and
amortization is computed using the straight-line method over the estimated
useful lives of the assets, which generally range from three to five years. The
costs of major remodeling and leasehold improvements are capitalized and
depreciated over the shorter of the remaining term of the lease or the life of
the asset.





Patent
Licenses


Patent
licenses, net, consists of acquired research and development rights used in
research and development, which have alternative future uses. Patent licenses
are recorded at cost of $758,135 and $750,976 at December 31, 2007 and
2006, respectively, and are amortized on a straight-line basis over the shorter
of the lives of the underlying patents or the useful life of the license.
Amortization expense amounted to $50,027 and $49,776 for the years ended
December 31, 2007 and 2006, respectively, and is included in research and
development expense. Accumulated amortization as of December 31, 2007 and 2006
are $132,987and $82,960. Additional information regarding patent licenses is
included in Note 3.





Long-Lived
Asset Impairment


The
Company reviews long-lived assets for impairment when events or changes in
business conditions indicate that their carrying value may not be recovered. The
Company considers assets to be impaired and writes them down to fair value if
expected associated cash flows are less than the carrying amounts. Fair value is
the present value of the associated cash flows. The Company has determined that
no material long-lived assets are impaired at December 31,
2007.





Product
Sales


Revenue
from product sales is recognized at the time of shipment to the customer
provided all other revenue recognition criteria of the Security and Exchange
Commission’s Staff Accounting Bulletin No. 104, Revenue Recognition, have
been met. If the customer has a right of return, in accordance with the
provisions set forth in the Financial Accounting Standards Board’s (FASB)
Statement No. 48, Revenue Recognition When Right of Return Exists
(SFAS 48), the Company recognizes product revenues upon shipment, provided
that future returns can be reasonably estimated. In the case where returns
cannot be reasonably estimated, revenue will be deferred until such estimates
can be made.





Cost
of Sales


Cost of
sales consists primarily of costs and expenses for salaries and benefits
associated with employee efforts expended directly on the production of the
Company’s products and include related direct materials, overhead and occupancy
costs. Certain of the agreements under which the Company has licensed technology
will require the payment of royalties based on the sale of its future products.
Such royalties will be recorded a component of cost of sales. Additionally, the
amortization of license fees or milestone payments related to developed
technologies used in the Company’s products will be classified as a component of
cost of sales to the extent such payments become due in the future.





Research
and Development Costs


Research
and development costs, which are expensed as incurred, are primarily comprised
of costs and expenses for salaries and benefits associated with research and
development personnel; overhead and occupancy; contract services; and
amortization of technology used in research and development with alternative
future uses.





Registration
Payment Arrangements


The
Company adopted FASB Staff Position No. EITF 00-19-2, Accounting for
Registration Payment Arrangements (“FSP EITF 00-19-2”), on January 1, 2007.
FSP EITF 00-19-2 requires that companies separately recognize and measure
registration payment arrangements, whether issued as a separate agreement or
included as a provision of a financial instrument or other agreement. Such
payments include penalties for failure to affect a registration of
securities.





Prior to
the adoption of FSP EITF 00-19-2, the Company accounted for registration rights
as separate arrangements. Accordingly, the adoption of FSP EITF 00-19-2 had no
impact on the consolidated financial position, operations, or cash flows of the
Company.





F-8


Recent
Accounting Pronouncements




In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements,
which defines fair value, establishes a framework for measuring fair value in
generally accepted accounting principles, and expands disclosures about fair
value measurements. SFAS No. 157 does not require any new fair value
measurements, but provides guidance on how to measure fair value by providing a
fair value hierarchy used to classify the source of the information. This
statement is effective for us beginning January 1, 2008. We are currently
assessing the potential impact that adoption of SFAS No. 157 will have on
our consolidated financial statements.




In
September 2006, the FASB issued Statement No. 158, “Employer’s
Accounting for Defined Benefit Pension and Other Postretirement Plans – an
amendment of FASB Statements No. 87, 88, 106, and 132(R) (“FASB 158”). FASB
158 requires the full recognition, as an asset or liability, of the overfunded
or underfunded status of a company-sponsored postretirement benefit plan.
Adoption of FASB 158 is required effective for the Company’s fiscal year ending
December 31, 2007. We assessed the potential impact that adoption of FASB 158
would have on our consolidated financial statements and have concluded that
there is no material impact as of December 31, 2007.




In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option
for Financial Assets and Financial Liabilities” (SFAS 159). Under the provisions
of SFAS 159, companies may choose to account for eligible financial instruments,
warranties and insurance contracts at fair value on a contract-by-contract
basis. Changes in fair value will be recognized in earnings each reporting
period. SFAS 159 is effective for financial statements issued for fiscal years
beginning after November 15, 2007, and interim periods within those fiscal
years. The Company is required to and plans to adopt the provisions of SFAS 159
beginning in the first quarter of 2008. The Company is currently assessing the
impact of the adoption of SFAS 159 and its impact, if any, on its consolidated
financial statements.




In
December 2007, the FASB issued Statement No. 141 (revised 2007), “Business Combinations.” The
new standard requires the acquiring entity in a business combination to
recognize all (and only) the assets acquired and liabilities assumed in the
transaction; establishes the acquisition-date fair value as the measurement
objective for all assets acquired and liabilities assumed; and requires the
acquirer to disclose to investors and other users all of the information they
need to evaluate and understand the nature and financial effect of the business
combination. We will adopt this new standard for fiscal years beginning
January 1, 2009.




In
December, 2007, the FASB issued Statement No. 160, “Noncontrolling Interests in
Consolidated Financial Statements—an amendment of ARB No. 51.” This
statement establishes accounting and reporting standards for the noncontrolling
interest in a subsidiary and for the deconsolidation of a subsidiary. This
statement is effective prospectively, except for certain retrospective
disclosure requirements, for fiscal years beginning after December 15, 2008. We
are currently analyzing the effects of the new standard and its potential
impact, if any, on our consolidated financial statements.




In
December 2007, FASB ratified the consensus reached by EITF on EITF
Issue 07-1, ‘‘ Accounting for Collaborative Arrangements ’’ or EITF
07-1. EITF 07-1 requires collaborators to present the results of activities
for which they act as the principal on a gross basis and report any payments
received from (made to) other collaborators based on other applicable GAAP or,
in the absence of other applicable GAAP, based on analogy to authoritative
accounting literature or a reasonable, rational, and consistently applied
accounting policy election. Further, EITF 07-1 clarified that the determination
of whether transactions within a collaborative arrangement are part of a
vendor-customer (or analogous) relationship subject to EITF 01-9,
‘‘Accounting for Consideration Given by a Vendor to a Customer (Including a
Reseller of the Vendor’s Products).’’ EITF 07-1 will be effective beginning on
January 1, 2008. The Company is still considering the impact of
the adoption of EITF 07-1 will have on its consolidated financial
statements.





Income Taxes


The
Company accounts for income taxes in accordance with Statement of Financial
Accounting Standards No. 109, “Accounting for Income Taxes”. FAS
No. 109 requires the Company to provide a net deferred tax asset/liability
equal to the expected future tax benefit/expense of temporary reporting
differences between book and tax accounting methods and any available operating
loss or tax credit carryforwards. The Company has available at December 31,
2007, operating loss carryforwards of approximately $10,500,000, which may be
applied against future taxable income and will expire in various years through
2025. At December 31, 2006, the company had operating loss carryforwards of
approximately $3,800,000. The increase in carryforwards for the year ended
December 31, 2007 is approximately $6,700,000.







F-9


Use of Estimates


The
preparation of consolidated financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the amounts reported in
the consolidated financial statements. Significant estimates include patent life
(remaining legal life versus remaining useful life) and transactions using the
Black-Scholes option pricing model, e.g., promissory notes, warrants, and stock
options. Actual results could differ from those estimates.





Concentration
of Credit Risk


The
Company maintains its cash and cash equivalents in banks located primarily in
the United States. Bank accounts are guaranteed by the Federal Deposit Insurance
Corporation (FDIC) up to $100,000 per financial institution. At
December 31, 2007 and 2006, the Company’s cash balances on deposit with the
financial institutions in excess of the FDIC insurance limit amounted to $49,425
and $4,596,694, respectively.





Fair
Value of Financial Instruments


The
Company believes that the carrying value of its cash and cash equivalents,
accounts payable and accrued liabilities as of December 31, 2007 and 2006
approximate their fair values because of the short-term nature of those
instruments.





Income
(Loss) Per Common Share


The
computation of net loss per common share is based on the weighted average number
of shares outstanding during each period based on the exchange ratio of shares
issued in the merger. The computation of diluted earnings per common share is
based on the weighted average number of shares outstanding during the period
plus the common stock equivalents, which would arise from the exercise of stock
options and warrants outstanding using the treasury stock method and the average
market price per share during the period. At year end, December 31, 2007,
there were 3,879,813 warrants, 1,767,600 vested stock options and 2,039,900
unvested options outstanding. These options and warrants were not included in
the diluted loss per share calculation because the effect would have been anti
dilutive. At year end December 31, 2005, there were no warrants, and no
vested stock options or unvested options outstanding.





2.
Inventory





Inventories
are stated at the lower of cost or market. Lab supplies used in the research and
development process are expensed as consumed. Inventory is reviewed periodically
for product expiration and obsolete inventory and adjusted accordingly. The
components of inventories are as follows:


December
      31,2007
            
            
            2006Raw
      materials
            
            $
            33,646
            
            
            $
            20,145Work
      in Process
            
            
            3,270
            
            
            
            —Finished
      Goods
            
            
            138,720
            
            
            
            —$
            175,636
            
            
            $
            20,145





3. Property and
Equipment





Property
and equipment consists of the following:


December
      31,2007
            
            
            2006Machinery
      and equipment
            
            $
            301,246
            
            
            $
            138,625Computer
      equipment
            
            
            100,375
            
            
            
            30,179Office
      equipment
            
            
            59,809
            
            
            
            18,849Leasehold
      improvements
            
            
            177,786
            
            
            
            20,869639,216
            
            
            
            208,522Accumulated
      depreciation and amortization
            
            
            (156,430
            )
            
            
            (70,728
            )$
            482,786
            
            
            $
            137,794





F-10


4. Patent
Licenses





On
December 31, 2003, Lifeline entered into an Option to License Intellectual
Propertyagreement with Advanced Cell Technology, Inc. (“ACT”) for patent
rights and paid ACT $340,000 in option and license fees.





On
February 13, 2004, Lifeline and ACT amended the Option agreement and
Lifeline paid ACT additional option fees of $22,500 for fees related to
registering ACT’s patents in selected international countries.





On
May 14, 2004, Lifeline amended the licensing agreement with ACT for the
exclusive worldwide patent rights for the following ACT technologies: UMass IP
and ACT IP, which terms are summarized below. The license fees aggregate a total
of $400,000 and are secured by separate convertible promissory notes. The notes
bear no interest unless they are not repaid at maturity, in which event they
shall thereafter bear interest at an annual rate equal the lesser of 10% or the
maximum non-usurious rate legally allowed.





The notes
could be converted at the option of ACT into the first equity financing of
Lifeline with cash proceeds in excess of $5,000,000 under the following
conditions: i) Upon the consummation of the First Equity Financing; or ii)
Immediately prior to the closing of any merger, sale or other consolidation of
the Company or of any sale of all or substantially all assets of the Company
which occurs prior to the First Equity Financing (an “Acquisition Event”).
Notwithstanding the above, and only in the event that a conversion resulting
from such Acquisition Event would result in a security not traded on a national
stock exchange (including NASDAQ and NASDAQ small cap), upon written notice to
the Company not later than five days after the consummation of the Acquisition
Event and notice of the Acquisition Event to the holder of the note, the holder
may elect to receive payment in cash of the entire outstanding principal of this
Note. On December 21, 2007 ACT elected to receive payment and was paid in
cash in lieu of conversion of the notes.


UMass
      IP
            
            ACT
      IPLicense
      fee
            
            $
            150,000
            
            
            $
            250,000Royalty
      rates
            
            3%
      to 12
            %
            
            3%
      to 10
            %Minimum
      royaltiesAt
      12 months
            
            $
            15,000
            
            
            $
            22,500At
      24 months
            
            $
            30,000
            
            
            $
            45,000At
      36 months
            
            $
            45,000
            
            
            $
            67,500Annually
      thereafter
            
            $
            60,000
            
            
            $
            90,000Milestone
      paymentsFirst
      commercial product
            
            $
            250,000
            
            
            $
            500,000Sales
      reaching $5,000,000
            
            $
            500,000
            
            
            $
            1,000,000Sales
      reaching $10,000,000
            
            $
            1,000,000
            
            
            $
            2,000,000





5. Related Party
Payables





The
Company has incurred obligations to the following related parties:


December
      31,2007
            
            
            2006Management
      fee
            
            $
            749,778
            
            
            $
            467,137Janus
      Biologics, LLC
            
            
            —
            
            
            
            13,308$
            749,778
            
            
            $
            480,445





The
management fee was paid to Mr. Adams and Mr. Aldrich, who acted as
managing members of the Company (and prior to the Share Exchange of ISC
California and Lifeline) for management of the Company since inception of
Lifeline for an aggregate of $10,000 per month plus accrued interest at 10% per
annum on the unpaid balance. Effective June 1, 2006 the management fee was
increased to $20,000 per month. The management fee ceased as on November 1,
2006, at which time Mr. Adams and Mr. Aldrich became employees of
ISC.





F-11


During
2007, in an effort to raise additional working capital, the Company and Mr.
Aldrich signed a convertible note where Mr. Aldrich would loan the company
$500,000 for working capital purposes. Subsequently, the Company decided to
raise additional working capital by offering a Private Placement of preferred
stock and converted this note payable into shares of preferred stock. See Note
11 for details on the Private Placement.





SeaCrest
Capital and SeaCrest Partners are controlled by Mr. Adams and
Mr. Aldrich, YKA Partners is controlled by Mr. Aldrich and the amounts
represent advances to the Company for operating expenses.





6. Promissory
Notes





During
the year ended December 31, 2006, in connection with loans to ISC
California of $1,202,856. ISC California issued warrants granting the holders
the right to acquire 1,202,856 shares of common stock at a price of $0.80 per
share. The loans were repaid during December 2006. The Company recognized
the value attributable to the warrants in the amount of $637,828 and applied it
to additional paid-in capital and a discount against the loan. The Company
valued the warrants in accordance with EITF 00-27 using the Black-Scholes
pricing model and the following assumptions: contractual terms of
3.25 years, an average risk free interest rate of 5.03%, a dividend yield
of 0%, and volatility of 65%. The debt discount attributed to the value of the
warrants was $637,828 and upon repayment of the loans was recorded as interest
expense.





In
addition, a convertible promissory note in the amount of $400,000 issued in
payment for patent licenses (see Note 4.) was reduced by a discount in the
amount of $52,632 to reflect a 10% fair market rate of interest. The note was
repaid before December 31, 2006 and the unamortized discount was recorded
as interest expense.





7.
Capital Stock





As of
December 31, 2006, the Company was authorized to issue 200,000,000 shares
of common stock, $0.001 par value per share, and 20,000,000 shares of preferred
stock, $0.001 par value per share. As of December 31, 2006, the Company has
issued and outstanding 33,996,495 shares of common stock and no shares of
preferred stock.





In
October 2006, the board of directors of BTHC III approved a stock split of
4.42 shares to 1. As a result of the split, the outstanding common stock of BTHC
III increased from 500,000 to 2,209,993 shares. Pursuant to the Share Exchange
Agreement, each share of International Stem Cell Corporation common stock was
exchanged for one share of BTHC III common stock. All numbers in the financial
statements and notes to the financial statements have been adjusted to reflect
the stock split for all periods presented.




On
December 27, 2006, the Company’s Board of Directors and holders of a
majority of the outstanding shares approved a change in the Company’s name to
International Stem Cell Corporation, which change became effective in
January 2007. The accompanying financial statements have been changed to
reflect the change as if it had happened at the beginning of the periods
presented.





On
December 27, 2006, the Company’s Board of Directors and holders of a
majority of the outstanding shares approved an increase in the authorized
capital stock of the Company to 200,000,000 shares of Common Stock, $0.001 par
value per share, and 20,000,000 shares of preferred stock, $0.001 par value per
share. The increase did not become effective until
January 2007.





In
November and December of 2006, ISC California issued 9,880,950 shares of common
stock for cash at $1.00 per share for net proceeds after commissions and
expenses of $8,334,515, net of cash expenses totalling $1,547,433. In addition,
ISC California issued 555,552 shares of common stock for $500,000. The holders
of the shares are entitled to the following registration rights with respect to
the shares: (1) the Company must file a registration statement for the
resale of the shares within 60 days from final closing date of
February 13, 2007; (2) the registration statement must be declared
effective by the SEC no later than 150 days from the final closing date of
February 13, 2007; (3) the Company must reply to SEC staff comments
within 30 days of receipt; and (4) the Company must maintain the
effectiveness of the registration statement for 12 months from the final
closing date of February 13, 2007. The first day after failing to perform
any of the above is known as the first determination date. The Company is
required to deliver penalty shares equal to 1% of the original number of shares
entitled to such registration rights, 30 days after the first determination
date, and additional shares equal to 1% of the original number of shares
entitled to such registration rights each week thereafter, not to exceed 10%
except with respect to replying to SEC staff comments within 30 days, which
shall not exceed 20%. The Company filed its registration statement on Form SB-2
within 60 days from the final closing and believes the effect of the above
penalties are remote. The Company periodically reviews its obligations and
corresponding penalties under FAS 5, Accounting for Contingencies, and FSP EITF
00-19-2. Paragraph B9 of FSP EITF 00-19-2, states that entities should
recognize and measure the contingent obligation to transfer consideration under
a registration payment arrangement using the guidance in Statement 5, instead of
requiring that a liability be recognized and measured at fair value at
inception.





F-12


In
December 2006, the Company issued 1,350,000 shares of common stock, 350,000
of such shares in consideration for legal consulting services relating to the
reverse merger and 1,000,000 shares in consideration for a contract to provide
investor relations services which commenced September 1, 2006 for a period
of one year.





In
January and February 2007, ISC California completed the Brookstreet
financing and issued 1,370,000 shares of common stock that was part of a private
placement of securities by ISC California during the second half of 2006. The
net proceeds from the shares whose sale was finalized in 2007 was $1,157,125 net
of cash fees and expenses. In connection with the final settlement in 2007, the
selling agent for the private placement received 274,000 additional warrants,
which entitle the holder thereof to purchase the number of shares of common
stock for $1.00 each.





8. Income Taxes





The
Company accounts for income taxes in accordance with Statement of Financial
Accounting Standards No. 109, “Accounting for Income Taxes”. FAS
No. 109 requires the Company to provide a net deferred tax asset/liability
equal to the expected future tax benefit/expense of temporary reporting
differences between book and tax accounting methods and any available operating
loss or tax credit carryforwards. The Company has available at December 31,
2007, operating loss carryforwards of approximately $10,500,000, which may be
applied against future taxable income and will expire in various years through
2025. At December 31, 2006, the company had operating loss carryforwards of
approximately $3,800,000. The increase in carryforwards for the year ended
December 31, 2007 is approximately $6,700,000.




The
amount of and ultimate realization of the benefits from the operating loss
carryforwards for income tax purposes is dependent, in part, upon the tax laws
in effect, the future earnings of the Company, and other future events, the
effects of which cannot be determined at this time. Because of the uncertainty
surrounding the realization of the loss carryforwards, the Company has
established a valuation allowance equal to the tax effect of the loss
carryforwards, R&D credits, and accruals; therefore, no net deferred tax
asset has been recognized. A reconciliation of the statutory Federal income tax
rate and the effective income tax rate for the years ended December 31,
2007 and 2006 follows:




December 31,
              2007
            
            December 31,
              2006Statutory
      federal income tax rate
            
            
            (35
            )%
            
            
            (35
            )%State
      income taxes, net of federal taxes
            
            
            (6
            )%
            
            
            (6
            )%Valuation
      allowance
            
            
            41
            %
            
            
            41
            %Effective
      income tax rate
            
            
            0
            %
            
            
            0
            %








The
Company files income tax returns in the U.S. federal jurisdiction, and various
states. With few exceptions, the Company is no longer subject to U.S. federal,
state and local income tax examinations by tax authorities for years before
2005.




The
Company adopted the provisions of FASB Interpretation No. 48, Accounting for Uncertainty in Income
Taxes("FIN 48"), on January 1, 2007, with no material impact to the
financial statements.




The
Company may be subject to IRC code section 382 which could limit the amount of
the net operating loss and tax credit carryovers that can be used in future
years.




F-13


Significant
components of deferred tax assets and liabilities are as follows:




December 31,
              2007
            December 31,
              2006Deferred
      tax assets(liabilities)
            
            9669
            
            
            96856Net
      operating loss carryforwards
            
            $
            4,305,000
            
            
            $
            1,558,000Accrued
      expenses
            
            102,400
            
            
            191,500Research
      and Development tax credit (Fed and St.)
            
            169,500
            
            
            67,000Deferred
      tax assets
            
            4,576,900
            
            
            1,816,500Valuation
      allowance
            
            (4,576,900
            )
            
            (1,816,500
            )Net
      deferred tax assets
            
            $
            —
            
            
            $
            —





The components of the provisions for income
taxes were as follows:





December 31,
              2007
            December 31,
              20069669
            
            
            96856Current
            
            $
            0
            
            
            $
            0Deferred
            
            
            0
            
            
            
            0Total
            
            $
            0
            
            
            $
            0





9.
Stock Options and Warrants





The
Company has adopted the 2006 Equity Participation Plan (the “Plan”). The options
granted under the Plan may be either qualified or non-qualified options. Up to
15,000,000 options may be granted to employees, directors and consultants under
the Plan. Options may be granted with different vesting terms and expire no
later than 10 years from the date of grant. In 2007, the Company had
3,807,500 options outstanding with a weighted average exercise price of $1.17
were granted under the Plan. Stockholders approved the Plan effective
December 1, 2006.





Stock
Options


Transactions
involving stock options issued to employees, directors and consultants under the
Plan are summarized below. Options issued under the plan have a maximum life of
10 years. The following table summarizes the changes in options outstanding
and the related exercise prices for the shares of the Company’s common stock
issued under the Plan as of December 31, 2007:


Options
      Outstanding
            
            Options
      ExercisableWeighted
      Average
            
            Weighed
            
            
            
            
            
            WeightedExercise
            
            Number
            
            Remaining
      Contractual
            
            Average
            
            Number
            
            AveragePrices
            
            Outstanding
            
            Life
      (Years)
            
            Exercise
      Price
            
            Exercisable
            
            Exercise
      Price$1.00
            
            
            3,087,500
            
            
            
            10
            
            
            $
            1.00
            
            
            
            1,596,600
            
            
            $
            1.00$3.20
            
            
            230,000
            
            
            
            10
            
            
            $
            3.20
            
            
            
            32,200
            
            
            $
            3.20$1.45
            
            
            300,000
            
            
            
            10
            
            
            $
            1.45
            
            
            
            27,000
            
            
            $
            1.45$1.00
            
            
            190,000
            
            
            
            10
            
            
            $
            1.00
            
            
            
            190,000
            
            
            $
            1.00





Weighted
      AverageNumber
      of Shares
            
            
            Price
      Per ShareOutstanding
      at December 31, 2005
            
            
            —
            
            
            
            —Granted
            
            
            3,087,500
            
            
            $
            $1.00Exercised
            
            none
            
            
            
            —Canceled
      or expired
            
            none
            
            
            
            —Outstanding
      at December 31, 2006
            
            
            3,087,500
            
            
            $
            $1.00Granted
            
            
            720,000
            
            
            
            $1.89Exercised
            
            
            none
            
            
            
            —Canceled
      or expired
            
            
            none
            
            
            
            —Outstanding
      at December 31, 2007
            
            
            3,807,500
            
            
            $
            $1.17





F-14


The
weighted-average fair value of stock options vested during the year ended
December 31, 2007 and 2006 and the weighted-average significant assumptions
used to determine those fair values, using a Black-Scholes option pricing model
are as follows:


2007
            
            2006Significant
      assumptions (weighted-average):Risk-free
      interest rate at grant date
            
            
            4.20%
            
            
            
            4.43
      %Expected
      stock price volatility
            
            
            68%
            
            
            
            84
      %Expected
      dividend payout
            
            
            0%
            
            
            
            0
      %Expected
      option life-years based on management’s estimate
            
            
            3.75
      yrs
            
            
            
            3.75
      yrs





In
December 2004, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment
(SFAS123R). This Statement requires public entities to measure the cost of
equity awards to employees based on the grant-date value of the award. For the
year ended December 31, 2007, the company recognized $427,500 of Stock-based
compensation, of which approximately $223,000 related to R&D expense,
$111,000 related to Sales and Marketing expense and $93,000 related to General
and administrative expense. During 2006, the Company recognized $842,374 as
expenses, of which $501,159 related to R&D expense and the remainder is
included in General and Administrative expense. Unrecognized compensation cost
related to stock options as of December 31, 2007 was $1,138,912 and the weighted
average life of these outstanding stock options is approximately 9.51
years.





Warrants


As of
December 31, 2006 Brookstreet Securities Corporation (“Brookstreet”) had
earned 1,976,190 warrants as partial compensation for its services as placement
agent for the raising of equity capital. An additional 274,000 warrants were
earned by Brookstreet in the first quarter of 2007, for a total of 2,250,190
warrants related to the Company’s private placement. In addition, 426,767
warrants were granted to a number of individuals as compensation for services
rendered to the Company. Each Warrant entitles the holder thereof to purchase
the number of shares of common stock that could be purchased by the dollar
amount of the Warrant being exercised at $1.00 in the case of the Brookstreet
warrants and $0.80 in the case of the individuals’ warrants. The Company
recognized the value attributable to the individuals’ warrants in the amount of
$222,077 and applied it to general and administrative expense. The Company
recognized the value attributable to the Brookstreet warrants in the amount of
$1,230,649. The Company recognized the Brookstreet warrants as a component of
additional paid-in capital with a corresponding reduction in additional paid-in
capital to reflect this as a non-cash cost of the offering. Proceeds from the
private equity placement totaled $9,881,950 and are offset by cash offering
costs of $1,547,433 as well as the non-cash offering cost of $1,230,649 related
to the fair value of the Brookstreet warrants. The Company valued the
Brookstreet warrants and the warrants issued to the individuals in accordance
with EITF 00-27 using the Black-Scholes pricing model and the following
assumptions: contractual terms of 5 years and 3 years, an average risk
free interest rate of 4.70% and 5.13%, a dividend yield of 0% and 0%, and
volatility of 71% and 63%, respectively.





Additionally,
in 2006, the Company issued warrants to purchase 1,202,856 shares of common
stock in connection with certain financing transactions. See note 6 for
further details.





10.
Commitments and Contingencies





Leases


The
Company leases office space under a noncancelable operating leases. Future
minimum lease payments required under operating leases that have initial or
remaining noncancelable lease terms in excess of one year as of January 1,
2008, are as follows:





Amount2008
            
            $
            168,5582009
            
            
            129,3592010
            
            
            96,1002011
            
            
            64,1342012
            
            
            —Total
            
            $
            458,151





F-15


American Stem Cell Corporation
(“ASC”)


On
June 30, 2006 ASC, the members of Lifeline and Lifeline entered into a
Final Settlement Agreement to resolve certain disputes that had arisen regarding
prior agreements among the parties and to resolve all rights and obligations
between such parties. Pursuant to the Final Settlement Agreement, (i) the
members of Lifeline transferred to ASC all 15.5 million shares of ASC
Common Stock held by them, and (ii) all promissiory notes previously issued
by Lifeline in favor of ASC, and all other debt owed by Lifeline to ASC, were
replaced by a new amended and restated promissory note by Lifeline to ASC in the
amount of $500,000. The terms of the promissory note specified a maturity date
of June 30, 2007 and that early repayments are required when Lifeline
consummates equity financing in excess of $2,000,000 prior to the maturity date,
Lifeline shall make partial early repayment of the note in an amount equal to
10% of such financing up to the amount of $500,000. The note was paid in full
December 21, 2006.





11.
Subsequent Events





On
January 15, 2008, to raise funds, International Stem Cell Corporation (the
“Company”) entered into a subscription agreement (the “Agreement”) with
accredited investors (the “Investor”) for the sale between one million and
five million of Series A Preferred Stock (“Preferred”). Units consists of
one (1) share of Preferred and two (2) Warrants (“Warrants”) to purchase Common
Stock for each $1.00 invested. The Preferred will be convertible into shares of
common stock at market price on the date of the first finance closing, but not
to exceed $1 per share and the warrants will exercisable at $0.50 per share. The
Preferred has an Anti-dilution clause whereby, if the Company issues $1 million
or more of equity securities or securities convertible into equity at a price
below the respective exercise prices of the Preferred or the Warrant shall be
adjusted downward to equal the price of the new securities. The Preferred shall
have priority on any sale or liquidation of the Company equal to the purchase
price of the Units, plus a liquidation premium of 6% per year. If the Company
elects to declare a dividend in any year, it must first pay to the Preferred a
dividend of the greater of 6% of the Unit price or the amount of the dividend
the Preferred holder would receive if converted just prior to the dividend
declaration. Each share of Preferred shall have the same voting rights as the
number of shares of Common Stock into which it would be convertible on the
record date. During this round of financing, we raised approximately $1,100,000,
which includes a $500,000 loan from Mr. Kenneth Aldrich, which was converted
into Preferred Stock in January 2008.  See Note 5 Related Party
Payables for additional details.




In
January 2008, the company learned that it’s CEO, Mr. Jeff Krstich passed away.
The Chairman of the Board, Kenneth C. Aldrich has assumed the position of Chief
Executive Officer. Mr. Aldrich was one of the original founders of the Company
and had been CEO until Mr. Krstich joined the Company as CEO in
2006.