UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

(MARK ONE)

x  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended March 31, 2001

OR

o  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM ___________ TO _____________

Commission file number 000-19720

ABAXIS, INC.
(Exact name of Registrant as Specified in its Charter)

 

California	77-0213001
(State or Other Jurisdiction of Incorporation or Organization)	(I.R.S. Employer Identification Number)

3240 Whipple Road
Union City, California    94587
(Address of Principal Executive Offices including Zip Code)

(510) 675-6500
(Registrant's Telephone Number, Including Area Code)

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, No par value
(Title of Class)

The Company offers its point-of-care blood chemistry analyzer system with a total of 22 test methods. The Company's repertoire of test methods includes albumin, amylase, alkaline phosphatease (ALP), alanine aminotransferase (ALT), aspartate aminotransferase (AST), calcium, chloride, creatinine, creatine kinase (CK), glucose, gamma glutamyl transferase (GGT), potassium, total bilirubin, total cholesterol, urea nitrogen (BUN), total protein, uric acid, thyroxine (T4), CO_2,, sodium, magnesium and phosphorous. Seventeen of these tests are marketed for both human and veterinary markets. Tests for uric acid are marketed only in the human market, and tests for T4, phosphorous and magnesium are marketed exclusively in the veterinary market. The Company markets its reagent products by configuring these 22 test methods in panels that are designed to meet a variety of clinical diagnostic needs. The Company currently offers 5 multi-test reagent disc products in the human medical market and 8 multi-test reagent disc products in the veterinary market.

Abaxis' focus in fiscal 2002 will continue to be in markets where the Company believes it can receive immediate economic rewards while at the same time developing new products that will allow the Company to expand into other market segments in the following year. Domestically, the Company expects to continue to focus on growing its presence in the veterinary markets, expand its marketing effort to the US armed forces and will launch into the human diagnostic point- of-care market. Internationally, the Company will continue to focus its sales effort in Europe. Revenues from Asia and Latin America have been difficult to achieve due to unfavorable foreign exchange rates and poor economic conditions. The Company has re-allocated marketing and sales expenses in fiscal 2001and fiscal 2000 from Asia and Latin America to the United States and European markets and will continue to focus its resources to the United States and European markets.

Sales for any future periods are not predictable with a significant degree of certainty. The Company generally operates with limited order backlog because its products typically are shipped shortly after orders are received. As a result, product sales in any quarter are generally dependent on orders booked and shipped in that quarter. The Company currently operates in one segment.

One customer, Vedco Inc., accounted for 51%, 45% and 39% of total revenue for the years ended March 31, 2001, 2000 and 1999, respectively.

The Company's research and development expenses were $3,458,000, $3,534,000 and $2,627,000 in fiscal 2001, 2000 and 1999, respectively.

More than 20 billion blood tests are performed annually worldwide. These blood tests are performed mostly in commercial laboratories, hospitals, urgent care centers or physicians' offices. Sales of in-vitro diagnostic products for use by these facilities to conduct blood testing total approximately $15 billion per year. Although over 1,000 different tests are performed on blood, fewer than 50 different tests account for 70% of all blood testing. These tests are considered the "gatekeepers" of medical care as physicians routinely use them to diagnose and monitor the treatment of disease. A significant portion of the top 50 tests prescribed by physicians fall in the clinical chemistry category. In-vitro diagnostic products sold for the purpose of conducting clinical chemistry tests represent approximately 32% of the total $15 billion market, while diagnostic testing products for immunoassay represent another 33% of the market. With such a large volume of testing, centralized laboratories using automated batch testing equipment have become the norm in providing physicians the diagnostic test results they need to make medical treatment decisions.

The current worldwide focus on reducing medical care costs while maintaining quality of care has encouraged the movement of blood testing out of the central laboratories into the patient care setting. This trend began in the early 1980s with the introduction of handheld devices that could perform one or two tests. In the mid-1980s, small desktop instruments such as the Abbott VISION and the Kodak DT60 (now marketed by Johnson and Johnson) were introduced for use in doctors' offices and hospital satellite laboratories. While these systems allowed testing closer to the patient, they still required skilled technicians and were limited to performing one test at a time. As a result, multiple tests could not be performed economically and turnaround time was not significantly enhanced.

In the United States, there are approximately 40,000 veterinarians who generate annual billings of approximately $600 million in diagnostic testing. In the veterinary market, blood testing has become more important to veterinarians by providing them valuable diagnostic information. Veterinarians have historically relied on the services of the centralized laboratories. The same factors affecting the human diagnostic market, however, also impact veterinary practices. Small desktop instruments such as the Dade Behring Analyst, Kodak DT60, and Idexx VetTest have been marketed to veterinarians to perform in-house blood testing. While these products have made in-house testing possible for veterinarians, they still require skilled technicians to properly use and maintain these products. As a result, based on the Company's market research, 55% of the veterinarians in the United States do not perform in-house testing despite its cost and timing advantages.

Abaxis believes that a key element of the patient-centered, cost-constrained health care system in the year 2002 and beyond will be the availability of blood analysis systems in the patient care setting that are easily and reliably operated by caregivers and provide accurate, real time results for making immediate clinical decisions. The optimal system uses whole blood, has built-in calibration and quality control, provides quick turnaround time, is portable and low cost. In addition, the optimal near-patient system should be easy to use by people with no special training and capable of transmitting test results instantly to patient information management systems.

Abaxis has developed a blood analysis system incorporating all of these criteria into a 6.9 kilogram analyzer and a series of menu-specific, single-use reagent discs. The system is essentially a compact portable laboratory that can be easily carried to the patient. Each reagent disc is pre-configured with multiple analytes and contains all the reagents necessary to perform a fixed menu of tests. Taking the system to the patient care site instead of shipping the sample to a central laboratory makes blood testing and analysis as easy as measuring the patient's blood pressure, temperature, and heart rate and eliminates the necessity of multiple visits to the doctor's office. Additional advantages of near-patient testing include eliminating errors from sample handling, transcription, and transportation, which, studies have shown, may cause up to 85% of reporting errors.

The Company's point-of-care blood chemistry analyzer is a portable spectrophotometer, which is a device that measures the absorption of light at various wavelengths. A variable speed motor is used to spin a reagent disc for sample processing. The chemical reactions in the disc's cuvettes are measured optically by detecting the light absorbance of the solutions in the cuvettes at pre-determined wavelengths. The absorbances are converted to clinically relevant units by a measurement microprocessor. Results are stored by the analyzer's interface microprocessor, sent to an RS232 port and printed on result cards by an internal thermal printer. The features of the analyzer include a small required sample size (100 m L) of whole blood, serum or plasma, an intelligent quality control system that includes many self-test functions to ensure quality results, a built-in instrument self calibration, a built-in printer, a quick turn-around time of less than 15 minutes, minimal operational training and ease of information transmission using a computer port on the analyzer.

In March 1999 the Company signed an OEM and distribution agreement with MELET Schloesing Laboratoires (MELET) under which the Company markets and sells the MELET Hematology instrument and reagents and MELET markets and sells the VetScan DXS and Piccolo products. The Company markets the hematology instrument as the VetScan HMT in the veterinary market. Under the agreement, the Company has the right to market the HMT in the United States, Canada, Mexico, the United Kingdom, Australia and Israel. Initially, the Company launched the VetScan HMT in the United States, Australia, the United Kingdom and Israel in fiscal year 2000. Currently the Company markets the VetScan HMT in all the regions it sells its products.

MELET markets and sells the VetScan DXS and Piccolo products in France, Austria, Belgium, the Netherlands and the Middle East excluding Israel. Melet launched the VetScan DXS in the first quarter of fiscal year 2000.

The VetScan HMT is a hematology analyzer, which provides a complete blood count ("CBC") including three-part white blood cell ("WBC") differential in less than 2 minutes and requires only 12 m L of whole blood. It provides results for eight selectable species, plus two user configurable programs. The Company sells one type of reagent kit with the analyzer.

The reagent discs, used with the blood chemistry analyzers, are designed to handle almost all technical steps of blood chemistry testing automatically. The discs first separate a whole blood sample into plasma and blood cells, meter the required quantity of plasma and diluent, mix the plasma and diluent, and deliver the mixture to the reagent chambers, called cuvettes, along the disc perimeter. The diluted plasma dissolves and mixes with the reagent beads initiating the chemical reactions, which are monitored by the analyzer. The discs are 8-cm diameter; single-use devices constructed from three ultrasonically welded injection-molded plastic parts. The base and the middle piece create the chambers, cuvettes and passageways for processing the whole blood and mixing plasma with diluent and reagents. The top piece, referred to as the bar code ring, is imprinted with bar codes that contain disc-specific calibration information. In the center of the disc is a plastic diluent container sealed with polyethylene-laminated foil. Spherical lyophilized reagent beads are placed in the cuvettes during disc manufacturing. Upon completion of the analysis, used discs may be placed back into their foil pouches to minimize human contact with blood prior to proper disposal.

To perform a panel of tests, the operator collects a blood sample via finger puncture or venipuncture (the latter requiring a trained phlebotomist). The operator then transfers the sample into the reagent disc. The operator places the disc into the analyzer drawer, and enters patient, physician, and operator identification numbers. The analyzer spins the disc to separate cells from plasma, meters and mixes plasma with diluent, distributes diluted plasma to the cuvettes, and monitors chemical reactions. In less than 15 minutes, results are printed out on a result card with an adhesive backing for inclusion in the patient's medical record. A computer port enables transmission of patient results to external computers for patient data management.

The Company introduced its Piccolo system to the human marketplace in November 1995 with two reagent discs, General Health Panel 8 and General Health Panel 11. In November 1996, the Company introduced the Liver Panel Plus 9 disc, which was enabled by the 510(k) clearance of the GGT test received from the U.S. Food and Drug Administration ("FDA") in September 1996. Subsequently, the Company has released four other differently configured reagent disc products to meet different physicians' needs, mostly in the international markets. Strategically, the Company has limited sales in the human marketplace until the completion of the requisite analytes. As of June 2001, a total of five reagent disc products were marketed worldwide for use with the Piccolo system. In April 2001, the Company received 510(k) clearance for chloride. This test will first be introduced in the electrolyte profile, which also includes potassium, sodium and total CO_2. This test's introduction is scheduled for the second quarter of fiscal 2002. This profile will allow the Company to more broadly market the Piccolo in the US to selected market segments.

The VetScan system was introduced in the US veterinary market in July 1994. The Company initially launched the system with the Diagnostic Profile, a nine- test reagent product. Since then, the Company has added new test methods and new reagent disc products targeted to fulfill different veterinary diagnostic needs. The newest additions to the VetScan family of reagent products include Diagnostic Profile II (DPII) introduced to the market in January 2001 and the Large Animal Profile (LAP) introduced in March 2001. The DPII offers phosphorous for the detection of renal disease and the LAP offers phosphorous and magnesium tests primarily used in dairy animals. As of June 2001, the Company offered a total of eight reagent disc products to its veterinary customers.

The Company continues to develop new products that the Company believes will provide further opportunities for growth in the human and veterinary markets. The Company is working on the development of tests for triglycerides and HDL. Clinical trials of these test methods are expected during fiscal 2002. Additional development of test methods for other disc products will be targeted at specific applications based on fulfilling clinical needs. The Company's current focus of test methods development is in clinical chemistry. In addition to clinical chemistry, the Company has demonstrated its ability to perform immunoassay tests in its blood analysis system by successfully developing its Thyroxine (T4) test in the veterinary market. The Company believes other homogeneous immunoassay methods can be performed with its discs to measure a wide assortment of blood analytes, such as therapeutic drugs and drugs of abuse.

There can be no assurance that Abaxis will be able to develop any of these potential products. While the Company believes that its technology and expertise will allow it to develop reagent disc products in the future to provide a variety of additional blood tests, there can be no assurance that such future products will be developed, that such products will receive required regulatory clearance, or that the Company will be able to manufacture or market such products successfully.

Abaxis sells its point-of-care blood analyzer products and reagent discs either directly or through distributors depending on the needs of the customer segment. In the delivery of human or veterinary care there are many kinds of providers and a multitude of sites where Abaxis products could be used as an alternative to relying on a central laboratory for blood test information. The Company believes that its current Piccolo system menu of 19 reagent test methods is suitable for certain niche market segments of the human medical market. These niche market segments include military installations (ships, field hospitals and mobile care units), urgent care and walk-in clinics (free-standing or hospital-connected), home care providers (national, regional or local), nursing homes, acute care hospitals, ambulance companies, dialysis centers, hospital labs and draw stations. The Company believes that its veterinary reagent product offerings meet a substantial part of the clinical diagnostic needs of veterinarians. Potential customers for the VetScan DXS are primarily companion animal hospitals, animal clinics with mixed practices of small animals, birds and reptiles, equine practitioners, veterinary referral hospitals, and private toxicology laboratories and university and government toxicology research laboratories.

Abaxis sells its products directly to those customers who serve large human patient populations with employed caregivers such as the military, hospitals, and managed care organizations. As a result of health care reform, the Company expects a consolidation of providers with more centralized purchasing of medical products based on the standardization of care and the use of patient outcome studies to influence purchase decisions. The Company plans to achieve its direct sales objectives by employing highly skilled sales specialists and eventually sales teams which will work closely with providers in performing studies to show that the use of the Piccolo point-of-care blood chemistry analyzer rather than laboratory alternatives can provide better outcomes at a lower cost.

Abaxis is using distributors for those customers who desire to purchase reagent discs frequently and in small quantities. These distributors also contribute to identifying potential customers and introducing the product, but often need the support of Abaxis personnel in closing the sale. Product distributors are generally of two types: large companies that primarily serve hospitals, clinics and large health maintenance organizations (HMOs) nationwide using multiple warehouses and extensive transportation systems and smaller companies that provide the daily supplies needed by office-based physicians. In the human market, national firms sell thousands of products, including furniture, capital equipment, surgical instruments and a myriad of consumables. The smaller companies generally direct their product offerings to those items a physician uses daily in caring for primarily ambulatory patients. These firms also may sell lower priced equipment such as diagnostic instruments, which are used in conjunction with consumable reagents.

Veterinarians are served typically by local distributors, some with national affiliations. The Company currently has a non-exclusive agreement with Vedco, Inc., a national network of fourteen independent distributors with 23 sales offices in the US. The Company also has eight additional distribution agreements with regional distributors. In addition to selling through distributors, the Company directly supplies its VetScan DXS products to Veterinary Centers of America (VCA), the nation's largest veterinary hospital chain.

The Company intends to enter into arrangements with additional distributors as well as pursue direct sales where appropriate. There can be no assurance that the Company will be successful in securing arrangements with additional distributors or that any of the Company's distributors will devote the necessary resources to be successful in their efforts to commercialize the Company's products.

The Company's international sales and marketing objectives include identifying and defining the market segments in each country by product and then focusing on specific objectives for each segment in each country. These specific objectives include modification and expansion of distribution and distributor training and monitoring to ensure the attainment of sales goals.

The Company currently has distribution agreements in the following countries: Argentina, Austria, France, Germany, Greece, Hong Kong, Israel, Italy, Japan, Korea, Mexico, New Zealand, Norway, Portugal, Spain, Switzerland, the United Kingdom and Venezuela. Each distributor agreement contains a number of requirements that must be met to retain exclusivity, including minimum order quantity commitments, trade show and promotion requirements and a specified number of demonstration analyzer requirements. In most cases, the foreign distributors need to either go through a FDA-equivalent approval process with national regulators or clinical trials/market evaluations with their local opinion leaders in the medical field. Each distributor is responsible for obtaining the required approvals. There can be no assurance that any of the Company's distributors will be successful in obtaining proper approvals for Abaxis products in their respective countries or that these distributors will be successful in marketing Abaxis products. The Company plans to enter into additional distribution agreements to enhance its international distribution base and solidify its international presence. There can be no assurance that the Company will be successful in entering into any additional distributor agreements.

Abaxis' competition includes clinical laboratories, hospitals and independent laboratories and manufacturers of bench top multi-test analyzers and other near- patient test systems. Blood analysis is a well-established field in which there are a number of competitors, which have substantially greater financial resources and larger, more established marketing, sales and service organizations than the Company. No assurance can be given that the Company's products will be competitive with existing or future products or services of such competitors.

Historically, most human medical testing has been performed in the hospital or commercial laboratory setting. Clinical laboratories have traditionally been effective at processing large panels of tests using skilled technicians and complex equipment. The Company's products compete with the clinical laboratories with respect to range of tests offered, the immediacy of results and cost effectiveness. While Abaxis cannot provide the same range of tests, the Company believes that its products will provide a sufficient breadth of test menus to compete successfully with clinical laboratories on the basis of immediacy of results and cost effectiveness. The Company's products compete with other products in the marketplace with respect to ease-of-use, the ability to conduct tests without a skilled technician, the ability to conduct multiple test panels, breadth of tests, built-in calibration and quality control, cost effectiveness and quality of results.

Most of the Company's current and potential competitors have significantly greater financial and other resources than Abaxis, and the Company expects that competition will continue to be intense. In particular, most of these competitors have large sales forces and well-developed channels of distribution. To compete, the Company must develop effective channels of distribution and a focused dedicated sales force. The Company's principal competitor in the vet market is IDEXX Laboratories, Inc. There is no assurance that the Company will be able to continue to compete successfully.

Abaxis began manufacturing its VetScan products for the commercial market during fiscal 1995. The VetScan HMT is manufactured by MELET in France and is purchased by the Company as a completed instrument. There can be no assurance that the Company will not experience an interruption of supply by the manufacturer. The Company began manufacturing Piccolo products for commercial sale in fiscal 1996. To produce and commercially ship Piccolo products, the Company must have a license to manufacture medical products in the State of California, where the Company conducts its principal manufacturing activities, and have approval from the FDA as a medical device manufacturer. In May 1996, the Company received its initial license to manufacture from the State of California. In September 1996, the FDA granted the Company's manufacturing facility "in compliance" status, according to the regulations for current Good Manufacturing Practices ("cGMP") for medical devices. The Company is inspected by the FDA and the State of California on a routine basis, typically once every 24 months. The most recent inspection was by the State of California in April 2001 with licensing for the new Union City facility granted in early May 2001. Although the Company is not required to comply with all of the government regulations applicable to the human market when manufacturing the VetScan DXS products, the Company has established all of its manufacturing operations to be cGMP and Quality System Regulations ("QSR") compliant as this ensures product quality and integrity regardless of end use or patient. There can be no assurance that the Company can successfully pass a re-inspection by the FDA or the State of California or any other future inspections. There can be no assurance that the Company can comply with all current or future government manufacturing requirements and regulations.

In addition to the development of standardized manufacturing processes and quality control programs for the entire manufacturing process, the Company's manufacturing activities are concentrated in the following three primary areas:

The analyzer used in the Piccolo and VetScan system employs a variety of components designed or specified by Abaxis, including a variable speed motor, microprocessors, a liquid crystal display, a result card printer, a spectrophotometer and other electronic components. These components are manufactured by several third party vendors that have been qualified and approved by Abaxis and then assembled by contract manufacturers for Abaxis. The components are assembled at the Abaxis facility into the finished product and completely tested to ensure that the finished product meets product specifications. The analyzer uses technologically advanced components, many of which are available only from single source vendors. During fiscal years 2001, 2000 and 1999, the Company was successful in identifying potential alternate suppliers of some critical components and will continue to work on qualifying additional vendors to protect its source of supply on these crucial items. There can be no assurance that the Company will not experience a material interruption of supply of components from single source vendors.

The molded plastic discs used in the manufacture of the reagent disc are manufactured to the Company's specification by an established injection-molding manufacturer. To achieve the precision required for accurate test results, the discs must be molded to very narrow tolerances. The Company believes only a few manufacturers are capable of manufacturing to such tolerances. To date, the Company has qualified one manufacturer to mold the discs and has eight qualified molds. The Company has qualified a second site by the same manufacturer. The Company is also working with its supplier to improve yields and increase capacity on the existing production molds. While the Company has increased the number of disc molding tools to strengthen and better protect its line of supply, the inability of its injection-molding manufacturer to supply sufficient discs would have a material adverse impact on the Company's results of operations.

The Company assembles the reagent discs by using the molded plastic discs, loading the disc with reagents and then ultrasonically welding together the top and bottom pieces. The Company has continued development of a semi-automated disc assembly line ("semi- autoline") to provide anticipated capacity for future demand and to improve production efficiency. The Company expects to have this semi-autoline fully operational in fiscal year 2002. The semi-autoline is expected to double the Company's capacity. The qualification of the semi-autoline could involve further time and cost and could entail some initial unforeseen production problems. There can be no assurance that the semi-autoline will be fully operational within fiscal 2002, that capacity will be doubled, quality and yield will improve or that the Company will not experience significant time requirements and additional cost associated with qualification of the semi- autoline.

The reagent discs contain diluent and all the dry reagent chemistry beads necessary to perform blood analyses. Abaxis purchases chemicals from third party suppliers and formulates the raw materials, using proprietary processes, into beads at the proper concentration and consistency to facilitate placement in the reagent disc and provide homogeneous dissolution and mixing when contacted by the diluted plasma. The Company is dependent on single source vendors for some of the chemicals and the loss of any one supplier of chemicals would materially adversely affect the results of operations. The Company is currently evaluating additional vendor sources to better protect its lines of supplies in the future. There can be no assurances that the Company can qualify additional vendor sources.

Abaxis' Piccolo products are regulated under the 1976 Medical Device Amendments to the Food, Drug and Cosmetic Act (the "Amendment"). The Company's current products are Class II devices requiring the submission of a 510(k) market notification to substantiate label claims prior to marketing. In its submission, the Company must, among other things, establish that the product to be marketed is "substantially equivalent" to a product that was on the market prior to the Amendment or to a product that has previously been cleared under the 510(k) process. The typical time for clearance of 510(k)'s can be from three months to over a year and the FDA must issue a written order finding substantial equivalence.

To date, Abaxis has received market clearance for its portable blood analyzer and 19 test methods from the FDA. Abaxis is currently and plans to continue developing additional tests that will require clearance through the FDA. The Company most recently received FDA clearance in April 2001 for the chloride test method. There can be no assurance that Abaxis will receive marketing clearance for any of its future products. The Amendment also requires the Company to manufacture its products in accordance with the cGMP and QSR, using facilities registered to manufacture the Company's products. The Company's facility is subject to periodic inspections by the FDA. In addition, the use of the Company's facilities may be regulated by various state agencies like the Food and Drug Branch (FDB). In May 2001, the Company received its new state license from the FDB, for its new location in Union City, California, which will allow the Company to ship human products. There can be no assurance that the Company will be able to maintain facility compliance with applicable requirements or regulations.

The Piccolo system is also affected by the Clinical Laboratory Improvement Amendments of 1988 ("CLIA"), which are intended to ensure the quality and reliability of all medical testing in the United States regardless of where tests are performed. Under CLIA regulations, laboratory tests are divided into three categories: "waived", "moderately complex" and "highly complex." The Company's current products, under these regulations, are classified in the "moderately complex" category, which would require that any location using these products be certified as a laboratory. Initial certification would require the laboratory to obtain a registration certificate from the Health Care Financing Administration ("HCFA") which would be issued if the laboratory (1) agrees to notify HCFA within 30 days of any change in its ownership, name or location, (2) agrees to treat proficiency testing samples in the same manner as patient specimens and (3) remits the registration fee. Within two years of registration certificate issuance, laboratories would be inspected to determine compliance with the CLIA requirements. The CLIA regulations require laboratories to meet specified standards in the areas of personnel qualification, administration, participation in proficiency testing, patient test management, quality control/assurance, laboratory information systems and inspections. There can be no assurance that CLIA regulations will not have a materially adverse impact on the Company and its ability to market and sell its products.

Federal and state regulations regarding the manufacture and sale of health care products and diagnostic devices are subject to future change. The Company cannot predict what material impact, if any, such changes might have on its business. In addition, some foreign markets require obtaining foreign regulatory clearances of the Company's products before they can be distributed in those countries. There can be no assurance that the Company will be able to obtain regulatory clearances for its products in the US or in foreign markets.

Although Abaxis believes that it will be able to comply with all applicable regulations of the FDA and of the State of California, current regulations depend heavily on administrative interpretations. There can be no assurance that future interpretations made by the FDA, the HCFA, the CDC or other regulatory bodies, with possible retroactive effect, will not adversely affect the Company.

Third party payers can indirectly affect the pricing or the relative attractiveness of the Company's products by regulating the maximum amount of reimbursement they will provide for blood testing services. For example, the reimbursement of fees for blood testing services for Medicare beneficiaries is set by the HCFA. If the reimbursement amounts for blood testing services are decreased in the future, it may decrease the amount which physicians and hospitals are able to recover for such services and consequently the price the Company can charge for its products. If government and third party payers do not provide adequate coverage and reimbursement levels for use of the Company's products, the market acceptance of those products would be adversely affected.

The government regulations discussed above generally do not apply to the Company's VetScan DXS products in the US. Internationally, among the countries where the Company currently has established distribution arrangements, to the Company's knowledge, Japan is the only market where VetScan DXS products are subject to government approvals. In Japan, the Ministry of Agriculture, Forestry and Fishery regulates veterinary diagnostic devices, and thus the DXS System must be approved by such Ministry prior to being marketed in Japan. Teramecs, the Company's Japanese distributor, received such approval for the VetScan system in 1997.

In order to maintain high quality standards for all its products, the Company is using the same manufacturing facilities to manufacture all point-of-care blood chemistry analyzers whether they be for the Piccolo or VetScan system products and therefore is following the same manufacturing processes and procedures where practical.

The patent position of any medical device manufacturer, including Abaxis, is uncertain and may involve complex legal and factual issues. Consequently, even though Abaxis is currently executing its patent applications in the US and has filed an international application under the Patent Cooperation Treaty, in addition to actual foreign patents, the Company does not know whether any of its applications will result in the issuance of any further patents, or, for any patents issued, whether they will provide significant proprietary protection or will be circumvented or invalidated. Since patent applications are maintained in the US in secrecy until patents issue, and since publications of discoveries in the scientific or patent literature tend to lag behind actual discoveries by several months, Abaxis cannot be certain that it was the first creator of inventions covered by its issued patent or pending patent applications or that it was the first to file patent applications for such inventions. There can be no assurance that the Company's patent applications will result in further patents being issued or that if issued the patents will offer protection against competitors with similar technology; nor can there be any assurance that others will not gain patents that the Company would need to license or circumvent. Moreover, the Company may have to participate in interference proceedings declared by the US Patent and Trademark Office to determine the priority of inventions, which could result in substantial cost to the Company.

The Company also relies upon copyright, trademarks and unpatented trade secrets, and no assurance can be given that others will not independently develop substantially equivalent proprietary information and techniques or otherwise gain access to the Company's trade secrets or disclose such technology.

Abaxis requires its employees, consultants and advisors to execute confidentiality agreements upon the commencement of an employment or consulting relationship with the Company. Each agreement provides that all confidential information developed or made known to the individual during the course of the relationship will be kept confidential and not disclosed to third parties except in specified circumstances. In the case of employees, the agreements provide that all inventions conceived by an individual shall be the exclusive property of the Company, other than inventions unrelated to the Company's business and developed entirely on the employee's own time. There can be no assurance; however, that these agreements will provide meaningful protection or adequate remedies for the Company's trade secrets in the event of unauthorized use or disclosure of such information.

The Company's success depends upon the continued contribution of its officers and key personnel, many of whom would be difficult to replace. If certain of these people were to leave the Company, the Company's ability to achieve its business objective might be impeded. As of March 31, 2001, the Company had a total of 124 full-time employees. Eleven employees, including two Ph.D's, continued to further the Company's research and development activities while also managing the manufacturing process development. Eighty-one employees worked in manufacturing operations devoting their time to manufacturing the VetScan DXS and Piccolo products as well as supporting development activities as necessary. Twenty-two employees, including one Ph.D, were selling and marketing the VetScan DXS and Piccolo products. The remaining ten employees worked in general administration to support the Company's administrative requirements. The Company also uses temporary help to assist in carrying out certain operational duties. As of March 31, 2001, the Company had 22 temporary employees with most of them assisting in manufacturing operations. None of the employees are covered by collective bargaining agreements and management considers its relations with employees to be good.

The Company occupies approximately 91,124 square feet of office, research and development and manufacturing space in a building in Union City, California. The lease agreement is for ten years commencing January 2001 with an option to extend the lease for five additional years. The Company believes that its current facilities are suitable and adequate to meet its needs for the foreseeable future.

The Company is not currently party to any material legal proceedings. However, the Company is involved in litigation in the normal course of business, which, in the opinion of management, the ultimate resolution will not have a material effect on the Company.

No items were submitted to a vote of security holders.

The Company's initial public offering was completed in January 1992. From that date, the Company's common stock has been traded on the NASDAQ National Market under the symbol "ABAX".

The high and low prices for the Company's common stock during each quarter since April 1, 1999 are exhibited in the table below, as represented by the high and low daily trade closing sales prices as reported by NASDAQ:

As of June 8, 2001, there were 250 shareholders of record and approximately 4,800 beneficial shareholders. The terms of the Company's Series D Convertible Preferred Stock, which it issued in October and November 2000, prohibit Abaxis from paying dividends on or making distributions with respect to its common stock unless at the same time an equivalent dividend with respect to the Series D Convertible Preferred Stock is paid or declared and set apart for payment. Abaxis has never paid dividends on its common stock and does not anticipate paying cash dividends in the foreseeable future. In addition, under the Company's debt agreements, it is restricted from paying dividends on its common stock and from paying dividends of more than $240,000 per annum to its preferred shareholders.

In October 2000 and November 2000, the Company sold 6,578 shares of Series D convertible preferred stock at $1,000 per share, resulting in net cash proceeds of $6,433,000. The Series D convertible preferred stock pays a semiannual cumulative dividend at 7%, is non-voting and automatically converts into 939,714 shares of common stock on October 3, 2006 and may be converted at the option of the holder at any time. The number of converted shares is determined by dividing the gross proceeds of the Series D convertible preferred stock by $7.00, the original conversion price of the Series D preferred stock, subject to adjustment for anti-dilution, stock splits and other certain events. The Company has filed a resale registration statement with the Securities and Exchange Commission covering the underlying common stock.

Each investor received warrants to purchase 50 shares of common stock for each preferred share acquired. The common stock warrants are exercisable at $7.00 per share through October 3, 2006. The portion of proceeds attributable to the value of such warrants of $1,418,000 was allocated to common stock.

The following selected financial data of the Company is qualified by reference to and should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and with the financial statements, related notes and other financial information included elsewhere in this Annual Report on Form 10-K.

In fiscal 2001, the Company's US revenues accounted for 85% of its total revenues versus 82% in fiscal 2000, and international revenues accounted for 15%, in fiscal 2001 versus 18% in fiscal 2000. The increase in US revenues reflects an increase of instrument shipments as well as higher consumption rates of reagent discs. The decrease in the share of the international revenue is due to a decrease in the European market. The European market decreased to 9% of total revenues in fiscal 2001 from 13% in fiscal 2000.

During the year ended March 31, 2001, the Company placed 1,926 point-of-care blood chemistry analyzers worldwide (a 20% increase from fiscal 2000 shipments of 1,602 point-of-care blood chemistry analyzers). The increase in instrument sales reflects higher unit shipments primarily in the United States. Reagent discs shipped during fiscal 2001 were approximately 1,313,000, an increase of 21% compared to fiscal 2000 shipments of approximately 1,084,000 reagent discs. Most (98%) of these reagent disc shipments were for veterinary applications. The increase in reagent disc shipments during fiscal 2001 is consistent with the Company's belief that there will be recurring reagent disc revenue as the Company's product lines mature. This growth is mostly attributable to the expanded installed base of VetScan DXS and higher consumption rates of institutional users. There can be no assurance growth in revenues or unit sales will continue or that the Company will be able to increase production to meet increased product demand.

Sales for any future periods are not predictable with a significant degree of certainty. The Company generally operates with limited order backlog because its products typically are shipped shortly after orders are received. As a result, product sales in any quarter are generally dependent on orders booked and shipped in that quarter. The Company's expense levels, which are to a large extent fixed, are based in part on its expectations of future revenues. Accordingly the Company may be unable to adjust spending in a timely manner to compensate for any unexpected revenue shortfall. As a result, any such shortfall would have an immediate materially adverse impact on operating results and financial condition. Until sales volume of the Company's products, particularly its reagent discs, increases significantly so as to offset associated fixed costs and to realize certain manufacturing economies of scale, the Company may experience further losses. The Company is currently preparing to enter clinical trials for phosphorous and magnesium. There is no assurance that the products will be successfully developed or that the FDA will approve the marketing application. The Company believes that period to period comparisons of its results of operations are not necessarily meaningful. There has been little or no impact on the Company's business due to inflation.

The Company's periodic operating results have in the past varied and in the future may vary significantly depending on, but not limited to, a number of factors, including the level of competition; the size and timing of sales orders; market acceptance of current and new products; new product announcements by the Company or its competitors; changes in pricing by the Company or its competitors; the ability of the Company to develop, introduce and market new products on a timely basis; component costs and supply constraints; manufacturing capacities and ability to scale up production; the mix of product sales between the analyzers and the reagent discs; mix in sales channels; levels of expenditure on research and development; changes in Company strategy; personnel changes; regulatory changes; and general economic trends.

The Company continues to explore the application of its proprietary technology used to produce the dry reagents used in the reagent discs, called the Orbos Discrete Lyophilization Process, to other companies' products. This process allows the production of an accurate, precise amount of active chemical ingredients in the form of a soluble bead. The Company believes that the Orbos process has broad applications in products where delivery of active ingredients in a stable, pre-metered format is desired. The Company has contracts with Becton Dickinson Immunocytometry Systems and Pharmacia Biotech, Inc. to either supply products or license Orbos technology. The Company is currently working with other companies to determine potential suitability of the Orbos technology to these companies' products. As resources permit, the Company will pursue other development, licensing or manufacturing agreement opportunities for its Orbos technology with other companies. To date, revenues related to the Orbos technology have not been significant. There can be no assurances, however, that other applications will be identified or that additional agreements with the Company will result.

During fiscal 2001, the Company reported total revenues of $29,501,000, a $6,271,000 or 27% increase from fiscal 2000 total revenues of $23,230,000. Fiscal 2000 revenues increased $9,883,000 or 74% from fiscal 1999 total revenues of $13,347,000. Revenue increases in fiscal 2001 compared to fiscal 2000 were due to increased unit sales of VetScan DXS and reagent discs in the US. Revenue increases in fiscal 2000 compared to fiscal 1999 were due to increased unit sales of VetScan DXS and reagent discs in the US and Europe.

Total revenue in the US for fiscal 2001 was $25,162,000, a $6,125,000 or 32% increase from fiscal 2000 of $19,037,000. Total revenue in Europe for fiscal 2001 was $2,584,000, a $327,000 or 11% decrease from fiscal 2000 of approximately $2,911,000. Total revenue in Asia and Latin America was $1,755,000, a $473,000 or 37% increase from fiscal 2000 of $1,282,000. Although revenue increased in Asia and Latin America in fiscal 2001, it has not recovered to past levels of sales due to unfavorable currency and economic conditions. The Company does not expect revenues from Asia and Latin America to significantly recover in fiscal year 2002, if ever. The Company has shifted sales and marketing resources from the Asian and Latin American markets to the US and European markets in fiscal year 2001.

Total revenue in the US for fiscal 2000 was $19,037,000, a $7,858,000 or 70% increase from fiscal 1999 of $11,179,000. Total revenue in Europe for fiscal 2000 was $2,911,000, a $1,701,000 or 141% increase from fiscal 1999 of $1,210,000. Total revenue in Asia and Latin America in fiscal 2000 was $1,282,000, a $324,000 or 34% increase from fiscal 1998 of $958,000.

One customer accounted for 51%, 45% and 39% of total revenues for the years ended March 31, 2001, 2000 and 1999, respectively.

During fiscal 2001, the Company reported development and licensing revenue of $237,000, a $97,000 or 69% increase from fiscal 2000. Fiscal 2000 development and licensing revenue decreased $16,000 from fiscal 1999 development and licensing revenue of $156,000. The fluctuations in revenue during fiscal years 2001, 2000 and 1999 is due to changes in our customers' use of the Company's Orbos technology.

Cost of product sales for the year ended March 31, 2001 was $16,288,000 or 56% of product sales, as compared to $12,549,000 or 54% of product sales in fiscal year 2000. In fiscal year 1999 cost of product sales was $9,778,000 or 74% of product sales. The increase in cost of product sales as a percent of revenue for the year ending March 31, 2001 as compared to the year ended March 31, 2000 was primarily due to the Company's manufacturing process being idle for six weeks during the third quarter of fiscal 2001, while the Company relocated to a larger facility with increased manufacturing capacity. This temporary shutdown of manufacturing cost the Company approximately $652,000. The decrease in cost of product sales as a percent of revenue for the year ending March 31, 2000 as compared to the year ended March 31, 1999 was primarily a function of continued increases in sales volume of reagent discs and lower unit costs resulting from improved manufacturing processes and absorption of fixed costs at the Company's old facility. The Company recently completed its construction of its new facility which gives the Company significant additional manufacturing capacity. There can no assurances that the Company will be able to fully utilize the capacity of this new facility.

Selling, general and administrative expenses were $9,641,000 or 33% of total revenues in fiscal 2001 compared to $7,765,000 or 33% of total revenues in fiscal 2000, and $5,104,000 or 38% of total revenues in fiscal 1999. The increase in selling, general and administrative expenses of $1,876,000 or 24% in fiscal 2001, compared to fiscal 2000, is primarily the result of the Company's relocation, launch of new products and an increase in headcount. The Company incurred one time charges of $380,000 associated with the relocation to new facilities. The increase in selling, general and administrative expenses for fiscal 2000 as compared to fiscal 1999 of $2,661,000 or 52% is primarily the result of an increase in headcount.

The Company expects the dollar amount of selling, general and administrative expense to increase in fiscal 2002 from fiscal 2001 but decline as a percent of total revenue, to meet staffing and support demands associated with increased sales.

The Company incurred research and development expenses of $3,458,000 in fiscal 2001 compared with $3,534,000 in fiscal 2000 and $2,627,000 in fiscal 1999. The $76,000 or 2% decrease in research and development expenses in fiscal 2001 compared to fiscal 2000 is the result of a decrease in headcount. The $907,000 or 35% increase in research and development expenses in fiscal 2000 compared to fiscal 1999 is primarily due to an investment in the chemistry development of the Metlyte 7 rotor, the bead sorter and bead dispenser and the development of the semi-autoline.

Research and development activities accounted for 12% of total revenues during fiscal 2001 as compared to 15% of total revenues during fiscal 2000 and 20% during fiscal 1999. The Company expects the dollar amount of research and development expenses to increase in fiscal 2002 from fiscal 2001 but remain the same as a percentage of total revenues, as the Company completes development and clinical trials of new test methods to expand its test menus as well as other development projects. There can be no assurance, however, that the Company will undertake such research and development activities in future periods or, if it does that such activities will be successful.

Interest and other income totaled $140,000 in fiscal 2001 compared to $187,000 for fiscal 2000 and $183,000 in fiscal 1999. Interest and other income, for fiscal 2001, included approximately $54,000 of interest received for the Company's reagent rental program. Interest and other income, for fiscal 2000, also included $38,000 of currency gain, which was not incurred in fiscal 2001. Interest income has decreased over the last three years due to a decrease in average cash and cash equivalents available for investment.

The Company incurred interest expense of $40,000 on equipment and working capital loans during fiscal 2001, net of capitalized interest of $295,000, on the purchase and installation of the new automated disc production line and other manufacturing equipment in construction. The Company also incurred a currency loss of $5,000 during fiscal 2001. The Company incurred interest expense of $170,000 on equipment and working capital loans during fiscal 2000, net of capitalized interest of $236,000 on the purchase and installation of the new automated disc production line and other manufacturing equipment under construction related to its new facility. Included in interest expense, for fiscal 2000, was a cancellation fee of $43,000 related to the Company's termination of its previous line of credit. The Company incurred interest expense of $231,000 on an equipment loan and a working capital loan during fiscal 1999, net of capitalized interest of $67,000 on the purchase and installation of the new automated disk production line. The Company expects interest expense to increase in fiscal 2002 to meet working capital requirements associated with an increase in sales and the increase in borrowings in fiscal 2001 to finance the Company's new facilities capital needs.

As of March 31, 2001, the Company had $2,012,000 in cash and cash equivalents. The Company expects to incur substantial additional costs to support its future operations, including further commercialization of its products and development of new test methods that will allow the Company to further penetrate the human diagnostic market; acquisition of capital equipment for the Company's manufacturing facilities, which includes the ongoing costs related to continuing development of its current and future products; completion of development and implementation of an automated manufacturing line to provide capacity for increased commercial volumes; and additional pre-clinical testing and clinical trials for its current and future products.

Net cash used in operating activities during fiscal 2001 was $2,704,000 compared to $1,653,000 in fiscal 2000 and $4,891,000 during fiscal 1999. The increase in net cash used in operating activities in fiscal 2001 compared to fiscal 2000 was due primarily to decreases in accrued payroll and related expenses, warranty reserve, other accrued liabilities and deferred rent and increases in inventory, trade receivables, prepaid expenses and deposits and other assets. The increase in inventory was mainly due to an increase in Piccolo inventory for orders which did not materialize. In anticipation of expected Piccolo orders from the military and overseas, the Company built a surplus of instruments in the third quarter, with the knowledge that the Company would not be able to build the instruments until the new facility was FDA certified. The increase in trade receivables was due to increased sales. These uses in cash were partially offset by a change from net loss to net income, and an increase in accounts payable and deferred revenue. The decrease in net cash used in operating activities in fiscal 2000 compared to fiscal 1999 was primarily due to a decrease in net loss by $3,633,000.

Net cash used in investing activities for fiscal 2001 was $5,914,000 as compared to net cash used of $2,009,000 for fiscal 2000 and $3,278,000 net cash provided by investing activities for fiscal 1999. The increase in net cash used from fiscal 2000 to fiscal 2001 is due to an increase in purchases of property and equipment in connection with the Company's new facility. The change from net cash provided in fiscal 1999 to net cash used in 2000 was due primarily to an increase in purchases of property and equipment in fiscal 2000 and a reduction in maturities of available-for-sale securities from fiscal 1999.

Net cash provided by financing activities for fiscal 2001 was $8,581,000 as compared to $285,000 for fiscal 2000 and $5,338,000 for fiscal 1999. Cash provided by financing activities for fiscal 2001 is primarily the result of net cash proceeds from the issuance of preferred stock of $6,433,000, proceeds from the exercise of stock options and warrants of $1,077,000, proceeds of borrowings under a line of credit and equipment financing arrangements, net of repayments, of $1,071,000. Cash provided by financing activities for fiscal 2000 is primarily the result of proceeds of borrowings under a line of credit and equipment financing, net of repayments, of $133,000 and net cash proceeds from the issuance of common stock of $152,000. Cash provided by financing activities for fiscal 1999 was primarily the result of net proceeds from the issuance of preferred stock of $3,581,000, proceeds of borrowings under a line-of-credit and equipment financing arrangements, net of repayments, of $1,741,000 and proceeds of $16,000 from the exercise of stock options.

In October 2000 and November 2000, the Company sold 6,578 shares of Series D convertible preferred stock at $1,000 per share, resulting in net cash proceeds of $6,433,000. The Series D convertible preferred stock is non-voting and requires a semiannual cumulative dividend at 7%, payable in cash or shares of common stock at the Company's election. The Series D Convertible Preferred Stock automatically converts into 939,714 shares of common stock on October 3, 2006, subject to adjustment for anti-dilution, stock splits and other certain events, and may be converted at the option of the holder at any time.

Each investor received warrants to purchase 50 shares of common stock for each preferred share acquired. The common stock warrants are exercisable at $7.00 per share through October 3, 2006. The portion of proceeds attributable to the value of such warrants of $1,418,000 was allocated to common stock. The fair value of the warrants was determined using the Black-Scholes option-pricing model with the following assumptions: contractual life of six years, volatility of 84.2%, risk free interest rate of 5.45% and no dividends during the contractual term. In conjunction with this preferred stock transaction, 377,500 fully vested warrants were issued to advisors for services at prices ranging from $6.00-$7.00 per share. The value of these warrants of $1,802,000 was recorded as a stock issuance cost and was determined using the Black-Scholes option pricing model with assumptions substantially consistent with those used for valuing the warrants issued to investors.

In accordance with the provisions of Emerging Issues Task Force (EITF) Issue 00-27, "Application of EITF Issue No. 98-5. "Accounting for Convertible Securities with Beneficial Conversion Features of Contingently Adjustable Conversion Ratios," to Certain Convertible Securities", which became effective in November 2000, the allocated value of the Series D convertible preferred stock contained a beneficial conversion feature calculated based on the difference between the effective conversion price of the proceeds allocated to the Series D convertible preferred stock and the fair market value of the common stock at the date of issuance. As a result, during the quarter ended December 31, 2000, the Company recorded a dividend charge of $1,418,000, representing the value of the beneficial conversion feature.

During fiscal 2001, the Company refinanced its existing line of credit and equipment financing loans. The new line of credit provides for borrowings of up to $5,000,000. Under this new line of credit agreement, $3,750,000 is collateralized by the Company's domestic receivables and $1,250,000 is collateralized by its foreign receivables. Of the $3,750,000 domestic line of credit, $820,000 was committed to secure the letter of credit for the new building lease and another $200,000 was committed to secure other miscellaneous items. The line of credit bears interest at the prime rate (8.0% at March 31, 2001) plus 1.0% and is payable monthly, and expires in September 2001. At March 31, 2001 the amount outstanding under the line of credit was $1,771,000 and $3,229,000 was available for additional borrowings.

The line of credit and equipment financing agreements contain certain financial covenants, which are evaluated on a quarterly basis. Included in these financial covenants, among others, is a requirement that the Company have a minimum net profit of $1.00 for each quarter and liquidity coverage, as defined, of not less than 2.00 to 1.00 along with a minimum of six months net cash losses, as defined. Additionally, the Company is restricted from paying dividends on any of its outstanding stock, except for dividends of up to $240,000 annually to its preferred shareholders. At March 31, 2001, the Company was not in compliance with one of these covenants. However, the Company has received a waiver from the bank related to this event of noncompliance.

Equipment financing loans outstanding at March 31, 2001 and 2000 totaled $1,653,000 and $576,000, respectively. Of the balance at March 31, 2001, $653,000 bears interest at the prime rate plus 1.5% and is payable in monthly installments of principal and interest totaling approximately $38,000 through November 2002. The remaining balance of $1,000,000 bears interest at the prime rate plus 1.6% and is payable in monthly installments of principal and interest totaling approximately $36,000 through March 2004.

The net book value of assets pledged as collateral under the line of credit and equipment financing loans totaled $4,827,000 and $2,447,000 at March 31, 2001 and 2000, respectively.

The Company anticipates that its existing capital resources, debt financing, and anticipated revenue from the sales of its products will be adequate to satisfy its currently planned operating and financial requirements through the next twelve months. The Company's future capital requirements will largely depend upon the increased market acceptance of its point-of-care blood analyzer products. However, the Company's sales are not predictable due to its limited market experience with its products. In the event the sales are significantly below the anticipated level, the Company may need to obtain additional equity or debt financing. There can be no assurance that any such financing will be available on terms acceptable to the Company, if at all, and any additional equity financing may be dilutive to shareholders, while debt financing may involve restrictive covenants.

New Accounting Pronouncements - In June 1998, the Financial Accounting Standards Board, (the "FASB"), issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" (SFAS 133). SFAS 133, as amended, requires that every derivative instrument, including certain derivative instruments embedded in other contracts, be recorded on the balance sheet at its fair value. Changes in the fair value of derivatives are recorded each period in current earnings or other comprehensive income, depending on whether a derivative is designated as part of a hedge transaction and, if it is, the type of hedge transaction. The Company adopted SFAS 133, as amended, effective April 1, 2001. The adoption of SFAS 133, as amended, did not have a significant impact on the financial position, results of operations or cash flows of the Company as the Company had no stand-alone or embedded derivatives at March 31, 2001 and had not historically entered into any derivative transactions to hedge currency or other exposures.

In December 1999, the Securities and Exchange Commission ("SEC") issued Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial Statements." SAB No. 101, as amended, was effective for the Company in the fourth quarter of fiscal 2001 and clarified the staff's views in applying accounting principles generally accepted in the United States of America relating to revenue recognition in financial statements. The requirements of SAB No. 101 did not have a significant impact on the Company's financial position or results of operations.

In September 2000, the FASB issued SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities." SFAS No. 140 replaces SFAS No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities." It revises the standards for accounting for securitizations and other transfers of financial assets and collateral and requires certain disclosures, but carries over most of SFAS No. 125's provisions without reconsideration. The Company has adopted the applicable disclosure requirements of SFAS No. 140 in its consolidated financial statements as of March 31, 2001. The Company is currently evaluating the impact of adopting the remaining provisions of SFAS No. 140, which will be effective for transactions entered into after March 31, 2001.

In November 2000, the Emerging Issues Task Force ("EITF") reached a consensus on Issue No. 00-14, "Accounting for Certain Sales Incentives" which addresses the recognition, measurement, and income statement classification for certain sales incentives offered voluntarily by a vendor without charge to customers. EITF Issue No. 00-14 was effective for the Company in the fourth quarter of 2001. As a result of its application, the Company has reclassified sellling expenses related to products given to customers at no charge from selling, general and administrative expenses to cost of product sales for fiscal years ending March 31, 2001, 2000 and 1999 in the amounts of approximately $430,000, $408,000 and $248,000, respectively.

The future events that we describe in these risk factors involve risks and uncertainties, among them are risks and uncertainties related to:

• the market acceptance of our products;

• our continuing development of our products;

• obtaining required Food and Drug Administration clearance and other federal, state and local government approvals;

• the manufacture and distribution of our products on a commercial scale

• general market conditions; and

When used in these risk factors, the words "anticipates," "believes," "expects," "intends," "plans," "future," and similar expressions identify forward-looking statements. Our actual results could differ materially from those that we project in the forward-looking statements as a result of factors that we have set forth throughout this document as well as factors of which we are currently not aware.

WE ARE NOT CONSISTENTLY PROFITABLE; WE MUST INCREASE SALES OF OUR PICCOLO AND VETSCAN DXS PRODUCTS TO MAINTAIN CONSISTENT PROFITABILITY

Since our formation in 1989 and through March 31, 2001, we have had four profitable quarters before preferred dividends and accretion, not all of which occurred in fiscal 2001. Although we realized net income before dividends in fiscal 2001, there can be no assurance that we will experience profitability in the future. As of March 31, 2001, we have incurred cumulative net losses of approximately $62 million. Our ability to be consistently profitable will depend, in part, on our ability to increase our sales volumes of our VetScan DXS and Piccolo products. Increasing our sales volume of our products will depend upon our ability to:

• continue to develop our products;

• increase our sales and marketing activities;

We cannot assure you that we will be able to successfully increase our sales volumes of our products to achieve sustained profitability.

WE ARE NOT ABLE TO PREDICT SALES IN FUTURE QUARTERS AND A NUMBER OF FACTORS AFFECT OUR PERIODIC RESULTS

We are not able to accurately predict our sales in future quarters. In any quarter, we derive a significant portion of our revenues from sales to a limited number of distributors who resell our products to the ultimate user. While we are better able to predict sales of our reagent discs, as we sell these discs primarily for use with analyzers that we sold in prior periods, we generally are unable to predict with much certainty sales of our analyzers, as we typically sell our analyzers to new users. Accordingly, our sales in any one quarter are not indicative of our sales in any future period. In addition, we generally operate with limited order backlog, because we ship our products shortly after we receive the orders from our customers. As a result, our product sales in any quarter are generally dependent on orders that we receive and ship in that quarter. We base our expense levels, which are to a large extent fixed, in part on our expectations as to future revenues. We may be unable to reduce our spending in a timely manner to compensate for any unexpected revenue shortfall. As a result, any such shortfall would immediately materially and adversely impact our operating results and financial condition. In addition, we have historically experienced a decrease in our sales, especially in Europe, in our second and third quarters. Accordingly, we believe that period to period comparisons of our results of operations are not necessarily meaningful.

Our periodic operating results have varied in the past. In the future, we expect our periodic operating results to vary significantly depending on, but not limited to, a number of factors, including:

• market acceptance of our current and future products;

• new product announcements made by us or our competitors;

• changes in our pricing structures or the pricing structures of our competitors;

• our ability to develop, introduce and market new products on a timely basis;

• the costs, and possible supply constraints, of the components that we use to build our products;

• our manufacturing capacities and our ability to increase the scale of these capacities;

• the mix of product sales between our analyzer and our reagent disc products;

• the limited size of our sales force;

• the amount we spend on research and development;

• changes in our key personnel;

• changes in regulatory matters; and

• general economic trends in the economy.

WE MAY NEED ADDITIONAL FUNDING IN THE FUTURE AND THESE FUNDS MAY NOT BE AVAILABLE TO