10-K 1 ab6097.htm FORM 10-K

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 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, 2006

or

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

Commission File Number 000-19720

ABAXIS, INC.

(Exact name of registrant as specified in its charter)

California		77-0213001
(State of Incorporation)		(I.R.S. Employer Identification No.)

3240 Whipple Road
Union City, CA 94587

(Address of principal executive offices)

(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)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Yes x

No o

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.

Yes o

No x

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes x

No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not 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-K or any amendment to this Form 10-K. o

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

Large accelerated filer o

Accelerated filer x

Non-accelerated filer o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o

No x

The aggregate market value of the voting stock held by non-affiliates of Abaxis, as of September 30, 2005 was $224,828,000 based upon the closing sale price reported for such date on the NASDAQ National Market. For purposes of this disclosure, shares of common stock held by persons who hold more than 5% of the outstanding shares of common stock and shares held by officers and directors of the registrant have been excluded because such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily conclusive for any other purpose.

As of June 7, 2006, there were 20,343,187 shares of the Registrant’s common stock outstanding.

Abaxis, Inc.
Annual Report on Form 10-K
For The Fiscal Year Ended March 31, 2006

TABLE OF CONTENTS

		Page

	PART I
Item 1.	Business	3
Item 1A.	Risk Factors	13
Item 1B.	Unresolved Staff Comments	23
Item 2.	Properties	23
Item 3.	Legal Proceedings	23
Item 4.	Submission of Matters to a Vote of Security Holders	23
	PART II
Item 5.	Market for Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities	23
Item 6.	Selected Financial Data	25
Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	26
Item 7A.	Quantitative and Qualitative Disclosure About Market Risk	40
Item 8.	Financial Statements and Supplementary Data	40
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	58
Item 9A.	Controls and Procedures	58
Item 9B.	Other Information	60
	PART III
Item 10.	Directors and Executive Officers of the Registrant	60
Item 11.	Executive Compensation	62
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters	64
Item 13.	Certain Relationships and Related Transactions	66
Item 14.	Principal Accountant Fees and Services	66
	PART IV
Item 15.	Exhibits and Financial Statement Schedules	67

Exhibits Index		68
Signatures		70

PART I

This report contains forward-looking statements within the meaning of Sections 21E of the Securities Exchange Act of 1934 that reflect Abaxis’ current view with respect to future events and financial performance. In this report, the words “will,” “anticipates,” “believes,” “expects,” “intends,” “plans,” “future,” and similar expressions identify forward-looking statements. These forward-looking statements are subject to certain risks and uncertainties, including but not limited to those discussed below, that could cause actual results to differ materially from historical results or those anticipated. Such risks and uncertainties include the market acceptance of our products and the continuing development of our products, required United States Food and Drug Administration (FDA) clearance and other government approvals, risks associated with manufacturing and distributing our products on a commercial scale, free of defects, risks related to the introduction of new instruments manufactured by third parties, risks associated with entering the human diagnostic market on a larger scale, risks related to the protection of Abaxis’ intellectual property or claims of infringement of intellectual property asserted by third parties, risks involved in carrying of inventory, risks associated with the ability to attract, train and retain competent sales personnel, general market conditions and competition.

Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. Abaxis assumes no obligation to update any forward-looking statements as circumstances change. Readers are advised to read this Annual Report on Form 10-K in its entirety paying careful attention to the risk factors set forth in this and other reports or documents filed by Abaxis from time to time with the Securities and Exchange Commission, particularly the Quarterly Reports on Form 10-Q and any current reports on Form 8-K, copies of which may be obtained from Abaxis or from the Securities and Exchange Commission at its website at www.sec.gov.

Item 1. Business

GENERAL

Our principal offices are located at 3240 Whipple Road, Union City, California 94587 and our telephone number is (510) 675-6500. Our Internet address is www.abaxis.com. We make available free of charge on or through our Internet website our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports as soon as reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission. Our common stock trades on the Nasdaq National Market under the symbol “ABAX.”

Our primary product is a blood analysis system, consisting of a compact, 6.9 kilogram (15 pounds) portable analyzer and a series of single-use plastic discs, called reagent discs, containing all the chemicals required to perform a panel of up to 13 tests on veterinary patients and 14 tests on human patients. The system can be operated with minimal training and performs multiple routine tests on whole blood, serum or plasma samples. The system provides test results in less than 14 minutes with the precision and accuracy equivalent to a clinical laboratory analyzer. We market the system for veterinary use under the name VetScan® and in the human medical market under the name Piccolo®.

In January 2006, we introduced the VetScan VS2™, the next generation in-clinic veterinary diagnostic chemistry, electrolytes, immunoassay and blood gas instrument. The VetScan VS2 features a high-resolution, full color, touch screen and provides the flexibility to test multiple species. The design offers simple menu-driven choices to quickly and easily change instrument settings, select from five different languages, input customized species reference ranges, as well as perform a variety of other tasks. The VetScan VS2 also offers direct compatibility with a range of peripheral devices such as an external keyboard for data entry and printers for output. We manufacture the VetScan VS2 in our manufacturing facilities in Union City, California.

Through April 2004, we marketed a veterinary hematology analyzer under the name VetScan® HMT, which provided a complete blood count including a three-part white blood cell differential in less than 2 minutes and required only 12 µL (microliters) of whole blood. It provided results for eight selectable species, plus two user configurable programs. We marketed one type of reagent kit with this analyzer. We purchased the hematology analyzer and reagent kits from Melet Schloesing Laboratoires of France. We continue to support and service our current population of VetScan HMT hematology customers.

We offer our blood analysis system with a total of 27 diagnostic tests. Our repertoire of tests consists of the following:

Test Methods

Alanine aminotransferase		ALT
Albumin		ALB
Alkaline phosphatase		ALP
Amylase		AMY
Aspartate aminotransferase		AST
Bile acids		BA
Calcium		CA
Creatine kinase		CK
Chloride		CL-
Creatinine		CRE
Direct bilirubin		DBIL
Gamma glutamyl transferase		GGT
Glucose		GLU
High-density lipoprotein cholesterol		HDL
Lactate dehydrogenase		LD
Magnesium		MG
Phosphorous		PHOS
Potassium		K+
Sodium		NA+
Thyroxine		T4
Total bilirubin		TBIL
Total carbon dioxide		TCO2
Total cholesterol		CHOL
Total protein		TP
Triglycerides		TRIG
Urea nitrogen		BUN
Uric acid		UA

Twenty-one of these tests are marketed for both medical and veterinary markets. The tests for BA and T4 are currently marketed exclusively in the veterinary market. The tests for DBIL, HDL, LD and TRIG are marketed exclusively in the medical market. We market our reagent products by configuring these 27 test methods in panels that are designed to meet a variety of clinical diagnostic needs. We currently offer 12 multi-test reagent disc products in the medical market and 8 multi-test reagent disc products in the veterinary market.

OUR INDUSTRY: IN VITRO DIAGNOSTIC TESTING

We believe that a key element of the patient-centered, cost-constrained health care system in the current year 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 enabling rapid 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 caregivers and patient information management systems.

Abaxis has developed a blood analysis system incorporating all of these criteria into a 6.9 kilogram (15 pounds) portable analyzer and a series of menu-specific, multi-test single-use reagent discs. The system is essentially a compact portable laboratory that can be easily located near 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. We have adapted this blood analysis system in both the veterinary and human medical markets in order to bring the same advantages to all healthcare professionals and patients.

ABAXIS PRODUCTS

Point-of-Care Blood Chemistry Analyzers

We manufacture and market our point-of-care blood chemistry analyzers for veterinary use under the names VetScan® and VetScan VS2™ and in the human medical market under the name Piccolo®. The blood analysis system 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 or transmitted to a patient data management system. The features of the analyzer include a small required sample size (100 µL) 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 14 minutes, minimal operational training and ease of information transmission using a computer port on the analyzer.

Hematology

From March 1999 to April 2004, we operated under an original equipment manufacturing (OEM) and distribution agreement with MELET SCHLOESING Laboratoires (MELET) under which we marketed and sold the MELET hematology instrument and reagents and MELET marketed and sold the VetScan and Piccolo products. We marketed the MELET hematology instrument as the VetScan® HMT in the veterinary market. We continue to support and service our current population of VetScan HMT hematology customers.

In May 2004, we introduced the VetScan HMII, a veterinary hematology instrument that offers an 18-parameter CBC (complete blood count) analysis, including a three-part white blood cell differential for the diagnostic assessment of patients by the veterinarian in their clinic. We entered into an original equipment manufacturing (OEM) agreement with Diatron Messtechnik GmbH (DIATRON) of Austria to purchase the DIATRON hematology instruments commencing in the fiscal quarter that the instruments were qualified, which was the first quarter of fiscal 2005. In the veterinary market, we market the combination of the VetScan and the VetScan HMII under the name VetScan DXS.

Reagent Discs

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, then transfers the sample into the reagent disc. The operator places the disc into the analyzer drawer, and enters patient, physician, and operator information. 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 14 minutes, results are printed out on a result card, which can be transmitted to a patient data management system for inclusion in the patient’s medical record. A computer port enables transmission of patient results to external computers for patient data management.

The VetScan system was introduced in the U.S. veterinary market in July 1994 and we introduced the VetScan VS2 in January 2006. The following is a list of the VetScan reagent discs currently offered:

VetScan Profile		Description of the Test Panels

Avian/Reptilian Profile Plus		ALB, AST, BA, CA, CK, GLOB, GLU, K+, NA+, PHOS, TP, UA.

Comprehensive Diagnostic Profile		ALB, ALP, ALT, AMY, BUN, CA, CRE, GLOB, GLU, K+, NA+, PHOS, TBIL, TP.

Critical Care Plus		ALT, BUN, CL-, CRE, GLU, K+, NA+, tCO₂.

Equine Profile Plus		ALB, AST, BUN, CA, CK, CRE, GGT, GLOB, GLU, K+, NA+, tCO₂, TBIL, TP.

Large Animal Profile		ALB, ALP, AST, BUN, CA, CK, GGT, GLOB, MG, PHOS, TP.

Mammalian Liver Profile		ALB, ALP, ALT, BA, BUN, CHOL, GGT, TBIL.

Prep Profile II		ALP, ALT, BUN, CRE, GLU, TP.

Thyroxine(T4)-Cholesterol Profile		CHOL, T4.

We introduced our Piccolo system to the human medical market in November 1995 with two reagent discs, Primary Health Panel, a nine-test reagent disc and a General Health Panel, a 12-test reagent disc. With the 510(k) clearance of the GGT test from the FDA, the Liver Panel Plus disc was introduced in November 1996. Since then, Abaxis has added new tests and reagent discs to fulfill different physicians’ needs. The following is a list of the Piccolo reagent discs currently offered:

Piccolo Panels		Description of the Test Panels

Basic Metabolic Panel		BUN, CA, CL-, CRE, GLU, K+, NA+, tCO₂.

Basic Metabolic Panel Plus		BUN, CA, CL-, CRE, GLU, K+, LD, MG, NA+, tCO₂.

Comprehensive Metabolic		ALB, ALP, ALT, AST, BUN, CA, CL-, CRE, GLU, K+, NA+, TBIL, tCO₂, TP.

Electrolyte Panel		CL- ,K+, NA+, tCO₂.

General Chemistry 6		ALT, AST, BUN, CRE, GGT, GLU.

General Chemistry 13		ALB, ALP, ALT, AMY, AST, BUN, CA, CRE, GGT, GLU, TBIL, TP, UA.

Hepatic Function Panel		ALB, ALP, ALT, AST, DBIL, TBIL, TP.

Lipid Panel		CHOL, CHOL/HDL RATIO, HDL, LDL, TRIG, VLDL.

Lipid Panel Plus		ALT, AST, CHOL, CHOL/HDL RATIO, GLU, HDL, LDL, TRIG, VLDL.

Liver Panel Plus		ALB, ALP, ALT, AMY, AST, GGT, TBIL, TP.

Metlyte 8		BUN, CK , CL-, CRE, GLU, K+, NA+, tCO₂.

Renal Function Panel		ALB, BUN, CA, CL-, CRE, GLU, K+, NA+, PHOS, tCO₂.

Orbos Process

The dry reagents used in our reagent discs are produced using a proprietary technology called the Orbos® Discrete Lyophilization Process. This process allows the production of a precise amount of active chemical ingredient in the form of a soluble bead. The Orbos process involves flash-freezing a drop of liquid reagent to form a solid bead and then freeze-drying the bead to remove water. The Orbos beads are stable in dry form and dissolve rapidly in aqueous solutions. We believe that the Orbos process has broad applications in products where delivery of active ingredients in a stable, pre-metered format is desired. We have licensed the technology underlying the Orbos process to GE Healthcare (formerly Amersham Bioscience Corp.), bioMerieux and Cepheid. Additionally, we have a supply contract with Becton, Dickinson and Company for products using the Orbos process. Revenues from these arrangements, however, are unpredictable. We continue to explore potential applications with other companies, although there can be no assurance that we will be able to develop any new applications for the Orbos process.

Future Products

We continue to develop new products that we believe will provide further opportunities for growth in the human medical and veterinary markets. The VetScan VS2 was released in January 2006 in the veterinary market and we continue our ongoing work on the in-clinic human diagnostic chemistry analyzer, the Piccolo-Xpress, in the human medical market.

During fiscal 2006, we released a second generation Lipid Panel Disc in the human medical market. The Lipid Panel Disc adds liver function and glucose tests to the lipid panel. With the Lipid Panel Plus, medical clinicians can diagnose patients for heart disease, metabolic syndrome and liver enzyme monitoring combined in one point-of-care test. In fiscal 2006, we also received FDA clearance for the lactate dehydrogenase test for a new chemotherapy evaluation panel developed specifically for oncology/hematology clinicians in the human medical market. With the release of the Basic Metabolic Panel Plus, oncologists have the information needed to make immediate decisions for their patients. Development of tests for other disc products will be targeted at specific applications based on fulfilling clinical needs.

CUSTOMERS AND DISTRIBUTION

Customers

Our point-of-care blood analyzer products and reagent discs are sold 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.

We believe that our current Piccolo system menu of 25 reagent test results is suitable for a wide variety of the human medical market segments. These market segments include military installations (ships, field hospitals and mobile care units), physicians office practices across all specialties, urgent care and walk-in clinics (free-standing or hospital-connected), home care providers (national, regional or local), nursing homes, ambulance companies, oncology treatment clinics, hospital labs and draw stations.

We believe that our current 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, private toxicology laboratories and university and government toxicology research laboratories.

Distribution Within North America

Medical Market

We sell our human-oriented 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, we anticipate 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. We plan to achieve our 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.

Distribution alternatives in the human medical market can contribute to identifying potential customers and introducing the product, but often need the support of our personnel in completing the sale. Product distributors are generally of two types: (i) large companies that primarily serve hospitals, clinics and large health maintenance organizations (HMOs) nationwide using multiple warehouses and extensive transportation systems, and (ii) smaller companies that provide the daily supplies needed by office-based physicians. However, several large distributors have acquired local and regional companies to service the office-based physicians market segment as well. In the human medical 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. In the third quarter of fiscal 2006, we entered into a formal distribution agreement with PSS World Medical, Inc. to sell and market our Piccolo systems and the medical reagent discs. We are currently exploring distribution alternatives and intend to enter into arrangements as well as pursue direct medical sales where appropriate.

Veterinary Market

Veterinarians are served typically by local distributors, some with national affiliations. We work with various independent distributors to sell our instruments and consumable products. In the United States, we have both regional and national based distributors, which includes, among others, American Veterinary Supply Corp., DVM Resources, IVESCO, Merritt Veterinary Supply, Miller Veterinary Supply, Nelson Laboratories, TW Medical Veterinary Supply and Western Medical Supply. In addition to selling through distributors, we directly supply our VetScan products to Veterinary Centers of America (VCA), the nation’s largest veterinary hospital chain.

While we continue to enter into arrangements with other veterinary distributors, we have also terminated our distribution relationships with the veterinary division of Henry Schein in May 2006 and Vedco, Inc. in December 2004. From April 2004 through May 2006, we had a distribution partnership with the veterinary division of Henry Schein, Inc. In May 2006, both Abaxis and Henry Schein determined that it was in the best interest of both companies to discontinue the distribution agreement due to Henry Schein’s acquisition of a regional distributor of a competing company in the veterinary market. To support those customers who were previously supplied products by Henry Schein, we plan to have our current distributors supply and service these sites, or depending on the customer’s needs and geographical location, we will support and service these customers on a direct basis as well.

We also sell our veterinary products to distributors located in Canada. While our veterinary reagents are sold to various distributors in Canada such as CDMV, Midwest Veterinary Distribution Cooperative LTD, Veterinary Purchasing Company Limited and Western Drug Distribution Center LTD, we currently sell our VetScan systems to one distributor in Canada, Vet Novations.

We intend to enter into arrangements with additional veterinary distributors within North America as well as pursue direct veterinary sales where appropriate.

Distribution Outside of North America

Our 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.

We currently have distributors for our products in the following countries: Australia, Austria, Bahrain, Belgium, Denmark, France, Germany, Hong Kong, Ireland, Israel, Italy, Japan, Korea, Kuwait, Macao, the Netherlands, New Zealand, Norway, Portugal, Russia, Singapore, South Africa, Spain, Sweden, Switzerland, Turkey, United Arab Emirates and the United Kingdom. Our distributor in each of these countries is responsible for obtaining the necessary approvals to sell our products. These distributors may not be successful in obtaining proper approvals for our products in their respective countries, and they may not be successful in marketing our products. We plan to continue to enter into additional distributor relationships to expand our international distribution base and solidify our international presence.

COMPETITION

Competition in the human and veterinary diagnostic markets is intense. Blood analysis is a well established field in which there are a number of competitors that have substantially greater financial resources and larger, more established marketing, sales and service organizations than we do. We compete with the following organizations: commercial clinical laboratories, hospitals’ clinical laboratories and manufacturers of bench top multi-test blood analyzers and other testing systems that health care providers can use “on-site.”

Historically, hospitals and commercial laboratories perform most of the human medical testing, and veterinary specialized commercial laboratories perform most veterinary medical testing. We have identified five principal factors that customers typically use to evaluate our products and those of our competitors. These factors are as follows: (i) range of tests offered; (ii) the immediacy of results; (iii) cost effectiveness; (iv) ease of use and (v) reliability of results. We believe that we compete effectively on each of these factors except for the range of tests offered. Clinical laboratories are effective at processing both a wide range and high volumes of discrete tests using skilled technicians and complex equipment. While our current offering of reagent discs cannot provide the same broad range of tests, we believe that in our targeted market segments, our products provide a sufficient breadth of test menus to compete successfully with clinical laboratories given the advantages of our products with respect to the other four factors.

Our principal competitors in the human diagnostic market are Alfa Wassermann S.P.A., i-STAT Corporation (which was purchased by Abbott Laboratories), Johnson & Johnson (including its subsidiary, Ortho-Clinical Diagnostics, Inc.) and Polymedco. Our principal competitors in the veterinary diagnostic market are Idexx Laboratories, Inc. and Heska Corporation. Most of our competitors have significantly greater financial and other resources than we do. In particular, many of our competitors have large sales forces and well-established distribution channels. Consequently, we are developing our distribution network and expanding our direct sales force in order to compete in these markets.

MANUFACTURING

We manufacture our Piccolo and VetScan products from our facility located in Union City, California. The VetScan HMII is manufactured by Diatron in Hungary and is purchased by us as a completed instrument.

Our Piccolo products are regulated under the 1976 Medical Device Amendments to the Food, Drug and Cosmetic Act, which is administered by the Food and Drug Administration (FDA). To produce and commercially ship Piccolo products, we must have a license to manufacture medical products in the State of California, where we conduct our principal manufacturing activities, and be registered by the FDA as a medical device manufacturer. Current Good Manufacturing Practice requirements are set forth in the 21 CFR 820 Quality System Regulation. These requirements regulate the methods used in, and the facilities and controls used for the design, manufacture, packaging, storage, installation and servicing of our medical devices intended for human use. Our manufacturing facility is subject to periodic inspections. Although we have obtained a license from the State of California to manufacture our products, various state regulatory agencies may regulate the manufacture of our products. To date, we have complied with the following:

•	In April 2001, the State of California Food and Drug Branch granted our manufacturing facility “in compliance” status, based on the regulations for Good Manufacturing Practices for medical devices.

•	In May 2001, the State of California Food and Drug Branch granted licensing for our manufacturing facility in Union City, California.

•	In May 2002, we received our ISO 9001 certification, expanding our compliance with international quality standards.

•	In December 2003, we received ISO 13485 Quality System certification as required by the 2003 European In Vitro Device Directive. This certified our quality system specifically to medical devices.

•	In both September 2005 and March 2003, the U.S. FDA conducted a facility inspection and verified our compliance with the 21 CFR 820 Regulation.

Although we are not required to comply with all of the government regulations applicable to the human medical market when manufacturing the VetScan DXS products, we have established all of our manufacturing operations to be compliant with the Quality System Regulation as this ensures product quality and integrity regardless of end use or patient.

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

•

Point-of-Care Blood Chemistry Analyzer: The analyzer used in the Piccolo and VetScan systems 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. Currently, the technologically advanced components are purchased from the following single source vendors, Electro-Alliance, Inc., PerkinElmer, Inc., and UDT Sensors. We do not have supply agreements with any of these companies and they are not contractually obligated to continue supplying us with components in the quantities or at the prices that such companies have done historically.

•	Reagent Discs: The molded plastic discs used in the manufacture of the reagent disc are manufactured to our specifications by an established injection-molding manufacturer. To achieve the precision required for accurate test results, the discs must be molded to very narrow tolerances. To date, we have only qualified two manufacturers, C. Brewer & Co. and Nypro Oregon, Inc. to mold the discs. We have also qualified a second manufacturing site with Nypro Oregon, Inc. We do not have supply agreements with any of these companies and they are under no contractual obligation to continue supplying us with discs either in the quantities or at the prices that such companies have done historically. We are also working with our suppliers to improve yields and increase capacity on the existing production molds. While we have increased the number of disc molding tools to strengthen and better protect our line of supply, an inability by our injection-molding manufacturers to supply sufficient discs would have a material adverse impact on our results of operations. We assemble the reagent discs by using the molded plastic discs, loading the disc with reagents and then ultrasonically welding together the top and bottom pieces.

•	Reagent Beads: The reagent discs contain diluent and all the dry reagent chemistry beads necessary to perform blood analyses. We purchase chemicals from third party suppliers and formulate 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. We are dependent on the following companies who are our sole source providers of one or more chemicals that we use in the reagent production process: Amano Enzyme USA Co., Ltd., Genzyme Corporation, Kikkoman Corporation Biochemical Division, Microgenics Corporation, Roche Molecular Biochemicals of Roche Diagnostics Corporation, a division of F. Hoffmann-La Roche, Ltd., Shinko American Inc. and Sigma Aldrich Inc. We do not have supply agreements with any of these companies and they are under no contractual obligation to continue supplying us in the quantities or at the price such companies have done historically. Although we believe all of the chemicals provided by these companies would be readily available elsewhere and we continue to evaluate vendor sources to protect and improve our lines of supply, the loss of any of these companies as a supplier could materially adversely affect our manufacturing activities and results of operations.

MATERIAL RELATIONSHIPS WITH SUPPLIERS AND OTHER THIRD PARTIES

Diatron Messtechnik GmbH

In our November 2003 manufacturing and supply agreement with Diatron Messtechnik GmbH, we acquired the exclusive right to distribute Diatron’s veterinary hematology analyzers in Australia, Canada, Japan, New Zealand and the United States. The agreement has a five year term, but is also subject to certain minimum purchase quantities during the first five years of the contract term.

DVM Resources

DVM Resources, one of our distributors of veterinary products in the United States, accounted for 13% and 17% of our total revenue in fiscal 2006 and 2005, respectively. DVM Resources may at any time cease to purchase our products without any penalty.

Henry Schein

In our April 2004 agreement with the veterinary division of Henry Schein, we entered into a distribution arrangement with Henry Schein to distribute our veterinary products in the United States. Total veterinary and medical sales from Henry Schein accounted for 17% and 6% of our total revenue in fiscal 2006 and 2005, respectively. In May 2006, our distributor relationship with the veterinary division of Henry Schein was discontinued due to Henry Schein’s acquisition of a regional distributor of a competing company in the veterinary market. To support those customers who were previously supplied products by Henry Schein, we plan to have our current distributors supply and service these sites, or depending on the customer’s needs and geographical location, we will support and service these customers on a direct basis as well.

GOVERNMENT REGULATION

Piccolo System

Food and Drug Administration Clearance

Our Piccolo products are regulated under the 1976 Medical Device Amendments to the Food, Drug and Cosmetic Act, which is administered by the Food and Drug Administration (FDA). The FDA has classified our Piccolo products as “Class I” and “Class II” devices. These classifications require us to submit to the FDA a pre-market notification form or 510(k). The FDA uses the 510(k) to substantiate product claims that are made by medical device manufacturers prior to marketing. In our 510(k) notification, we must, among other things, establish that the product we plan to market is “substantially equivalent” to (1) a product that was on the market prior to the adoption of the 1976 Medical Device Amendment or (2) to a product that the FDA has previously cleared under the 510(k) process.

The FDA review process of a 510(k) notification can last anywhere from three to six months, and the FDA must issue a written order finding “substantial equivalence” before a company can market a medical device. As of March 31, 2006, we have received market clearance from the FDA for our Piccolo system and 25 reagent tests that we have on 12 reagent discs. We are currently developing additional tests that the FDA will have to clear through the 510(k) notification procedures. These new test products are crucial for our success in the human medical market. If we do not receive 510(k) clearance for a particular product, we will not be able to sell that product in the United States.

Clinical Laboratory Improvements Act Regulations

Our Piccolo products are affected by the Clinical Laboratory Improvement Amendments (CLIA) of 1988. The Clinical Laboratory Improvement Amendments are intended to insure the quality and reliability of all medical testing in the United States regardless of where tests are performed. The current Clinical Laboratory Improvement Amendments (CLIA) divide laboratory tests into three categories: “simple,” “moderately complex” and “highly complex.” Tests performed using the Piccolo system are in the “moderately complex” category. This category requires that any location in which testing is performed be certified as a laboratory. Hence, we can only sell our Piccolo products to customers who meet the standards of a laboratory. To receive “laboratory” certification, a testing facility must be certified by the Centers for Medicare and Medicaid Services (CMS). After the testing facility receives a “laboratory” certification, it must then meet the Clinical Laboratory Improvement Amendments (CLIA) regulations. Because we can only sell our Piccolo products to testing facilities that are certified “laboratories,” the market for our products is correspondingly constrained.

The tests included on our Lipid Panel and Lipid Panel Plus reagent discs have been granted waived status under CLIA regulations for our total cholesterol, HDL, triglycerides, glucose, ALT and AST tests when used in conjunction with our Piccolo system. Waived status permits untrained personnel to run the Piccolo system using the Lipid Panel and Lipid Panel Plus; thus, extending the sites (doctors’ offices and other point-of-care environments) that can use the Piccolo system.

We cannot assure you that we will successfully receive the waived status from the FDA for other products. Consequently, for the reagent discs that have not received CLIA waived status, the market for our Piccolo products may be confined to those testing facilities that are certified as “laboratories” and our growth can be limited accordingly. However, we are engaged in an active program to test and apply for CLIA waiver for additional analytes.

Other Regulations

We are subject to a variety of federal, state, local and international regulations regarding the manufacture and sale of our products. We have received the following certifications:

•	In December 2003, we received certification from the British Standards Institute to the ISO 13485:1996 quality system standard for medical devices. This quality system certification, along with successful completion of product testing to 2003 European standards and the translation of Piccolo product documentation into the required languages, enabled us to meet the compliance requirements of the CE Mark and the 2003 European In Vitro Device Directive.

•	In September 2005, we received the Canadian Medical Device Conformity Assessment System (CMDCAS) stamp on our ISO 13485 certificate to signify compliance with Health Canada regulations.

•	In March 2006, we received our certification to the 2003 version of the ISO 13485 quality system standard for medical devices.

As we continue to sell in foreign markets, we may have to obtain additional governmental clearances in those markets. We cannot predict what impact, if any, such current or future regulatory changes would have on our business.

VetScan DXS

The government regulations discussed above generally do not apply to our VetScan DXS products in the United States. Internationally, among the countries where we currently have established distribution arrangements, to our 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 VetScan DXS system must be approved by such Ministry prior to being marketed in Japan. In September 2005, our distribution partner in Japan received clearance from the Japanese regulatory agency to import and market our complete line of medical reagent discs, the Piccolo system, as well as all veterinary reagent discs, the VetScan DXS system, with the exception of those products containing the Bile Acid assay.

In order to maintain high quality standards for all products, we are 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.

INTELLECTUAL PROPERTY

We have pursued the development of a patent portfolio to protect our technology. As of March 31, 2006, 35 patent applications have been filed on behalf of Abaxis with the United States Patent and Trademark Office, of which the following 29 have been issued:

Patent No.	Description	Issue Date	Expiration Date

5,061,381	Apparatus and Method for Separating Cells from Biological Fluids	October 29, 1991	June 4, 2010

5,122,284	Apparatus and Method for Optically Analyzing Biological Fluids	June 16, 1992	June 4, 2010

5,173,193	Centrifugal Rotor Having Flow Partition	December 22, 1992	April 1, 2011

5,186,844	Apparatus and Method for Continuous Centrifugal Blood Cell Separation	February 16, 1993	Expired

5,242,606	Sample Metering Port for Analytical Rotor Having Overflow Chamber	September 7, 1993	September 7, 2010

5,275,016	Cryogenic Apparatus	January 4, 1994	April 24, 2012

5,304,348	Reagent Container for Analytical Rotor	April 19, 1994	February 11, 2012

5,384,247	Determination of Sodium Ions in Fluids	January 24, 1995	January 24, 2012

5,403,415	Method and Device for Ultrasonic Welding	April 4, 1995	November 17, 2013

5,409,665	Simultaneous Cuvette Filling with Means to Isolate Cuvettes	April 25, 1995	September 1, 2013

5,409,814	Determination of Ions in Fluids	April 25, 1995	April 25, 2012

5,413,732	Reagent Compositions for Analytical Testing	May 9, 1995	May 9, 2012

5,457,053	Reagent Container for Analytical Rotor	October 10, 1995	October 10, 2012

5,472,603	Analytical Rotor with Dye Mixing Chamber	December 5, 1995	December 5, 2012

5,478,750	Methods for Photometric Analysis	December 26, 1995	March 31, 2013

5,501,958	Determination of Potassium Ions in Fluids	March 26, 1996	March 26, 2013

5,518,930	Simultaneous Cuvette Filling with Means to Isolate Cuvettes	May 21, 1996	September 1, 2013

5,590,052	Error Checking in Blood Analyzer	December 31, 1996	April 14, 2014

5,591,643	Simplified Inlet Channels	January 7, 1997	January 7, 2014

5,599,411	Method and Device for Ultrasonic Welding	February 4, 1997	November 17, 2013

5,624,597	Reagent Compositions for Analytical Testing	April 29, 1997	April 29, 2014

5,693,233	Methods of Transporting Fluids Within An Analytical Rotor	December 2, 1997	April 2, 2012

5,776,563	Dried Chemical Compositions	July 7, 1998	July 7, 2015

5,998,031	Dried Chemical Compositions	December 7, 1999	August 19, 2011

6,068,971	Process for Determination of Ions in Fluids by Masking of Interfering Ions	May 30, 2000	May 30, 2017

6,235,531	Modified Siphons for Improved Metering Precision	May 22, 2001	September 1, 2013

6,251,684	Dried Chemical Compositions	June 26, 2001	August 18, 2011

6,752,961	Modified Siphons for Improved Metering Precision	June 22, 2004	September 1, 2013

6,818,415	Sodium Activation of Amylase	November 16, 2004	June 22, 2021

Our policy is to file patent applications to protect technology, inventions and improvements that are important to the development of our business. We also rely upon trade secrets, know-how, continuing technological innovations and licensing opportunities to develop and maintain competitive position. Fourteen international applications have been filed on behalf of Abaxis under the Patent Cooperation Treaty (PCT) and we are selectively filing patent applications in countries where we anticipate to market our products. Under the fourteen PCT applications, 73 national foreign applications were filed on behalf of Abaxis in various countries and 62 of them have been granted. Of these 62, twenty-eight have been abandoned and one was opposed by bioMerieux, which was settled during fiscal 2006, granting bioMerieux a license under certain of our patents.

EMPLOYEES

As of March 31, 2006, we had 217 full-time employees distributed across the following divisions:

	•	25 in research and development;

	•	96 in manufacturing operations;

	•	84 in sales and marketing (including customer support); and

	•	12 in general and administrative.

We also use temporary help to assist in carrying out certain operational duties. As of March 31, 2006, we had 21 temporary employees with most of them assisting in manufacturing operations. None of our employees are covered by collective bargaining agreements and management considers its relations with employees to be good.

Item 1A. Risk Factors

Our future performance is subject to a number of risks. If any of the following risks actually occur, our business could be harmed and the trading price of our common stock could decline.

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 Have Only Recently Become Consistently Profitable; We Must Increase Sales Of Our Piccolo And VetScan DXS Products To Maintain Profitability

We have not recognized a net loss attributable to common shareholders in the last twelve fiscal quarters ended March 31, 2006. However, as of March 31, 2006, we have cumulative net losses of $25.5 million. Our ability to be consistently profitable will depend, in part, on our ability to increase our sales volumes of our Piccolo and VetScan DXS products. Increasing the sales volume of our products will depend upon our ability to:

•	continue to develop our products;

•	increase our sales and marketing activities;

•	effectively manage our manufacturing activities; and

•	effectively compete against current and future competitors.

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. Our revenue in the veterinary market are derived primarily by selling to 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 blood chemistry analyzers that we sold in prior periods, we generally are unable to predict with much certainty sales of our blood chemistry analyzers, as we typically sell our blood chemistry analyzers to new users. Accordingly, our sales in any one quarter are not indicative of our sales in any future period.

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.

Historically, we have experienced a decrease in our sales, especially in Europe, in our second and third quarters ending in September and December of each year, which we believe is due to seasonal patterns in the decision making processes to acquire our products. 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 anticipate our periodic operating results to vary significantly depending on, but not limited to, a number of factors, including, in addition to those factors discussed elsewhere in this section:

•	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;

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

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

•	the amount we spend on research and development; and

•	changes in our strategy.

We Could Fail to Achieve Anticipated Revenue If The Market Does Not Accept Our Products

Our core compact blood chemistry analyzer product differs substantially from current blood chemistry analyzers on the market. Our primary competition is from centralized laboratories that offer a greater number of tests than our products, but do so at a greater cost and requiring more time. We also compete with other point-of-care analyzers that cost more, require more maintenance and offer a narrower range of tests. However, these point-of-care analyzers are generally marketed by larger companies which have greater resources for sales and marketing, in addition to a recognized brand name and established distribution relationships.

Historically we have marketed our VetScan DXS system through both direct sales and distribution channels to veterinarians. Although we believe that in our targeted markets, our reagent disc products provide a sufficient breadth of test menus, we continue to develop new animal blood tests and we cannot be assured that the tests will be accepted by the veterinary market.

In the human medical market, we have relatively limited experience in large scale sales of our Piccolo analyzer. Although we believe that our blood analyzers offer consumers many advantages, including according to our analyses substantial cost savings, in terms of the actual product and implementation of it procedurally, these advantages involve changes to current standard practices, such as using large clinical laboratories, that will require changes in both the procedures and mindset of care providers. The human medical market in particular is highly regulated, structured, difficult to penetrate and often slow to adopt new product offerings. If we are unable to convince large numbers of medical clinics, hospitals and other point-of-care environments of the benefits of our products, we will suffer lost sales and could fail to achieve anticipated revenue.

We Are Dependent Upon Our Profitability, And If We Cannot Remain Profitable We May Need Additional Funding In The Future And These Funds May Not Be Available To Us

We believe that our existing capital resources, available line of credit and anticipated revenue from the sales of our products will be adequate to satisfy our currently planned operating and financial requirements through March 31, 2007, although no assurances can be given. The terms of our line of credit contain a number of covenants concerning financial tests that we must meet, and these tests are more fully explained herein under the subheading, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

Further, we expect to incur incremental additional costs to support our future operations, including:

•	further commercialization of our products and development of new test methods to allow us to further penetrate the human diagnostic market and the veterinary diagnostic market;

•	our need to acquire capital equipment for our manufacturing facilities, which includes the ongoing costs related to the continuing development of our current and future products;

•	research and design costs related to the continuing development of our current and future products; and

•	additional pre-clinical testing and clinical trials for our current and future products.

To the extent that our existing resources and anticipated revenue from the sale of our products are insufficient to fund our activities or if we are unable to meet the financial covenants of our line of credit, we may have to raise additional funds from the issuance of public or private securities. In the event that we cannot maintain compliance with these financial covenants, we may also be subject to increased interest rate expenses. We may not be able to raise additional funding, or if we are able to, we may not be able to raise funding on acceptable terms. We may also dilute then-existing shareholders if we raise additional funds by issuing new equity securities. Alternately, we may have to relinquish rights to certain of our technologies, products and/or sales territories if we are required to obtain funds through arrangements with collaborative partners. If we are unable to raise needed funds, we may be required to curtail our operations significantly. This would materially adversely affect our operating results and financial condition.

We Rely On Patents And Other Proprietary Information, The Loss Of Any Would Negatively Affect Our Business

As of March 31, 2006, 35 patent applications have been filed on behalf of Abaxis with the United States Patent and Trademark Office, of which 29 have been issued. Additionally, we have filed several international patent applications covering the same subject matter as our domestic applications. The patent position of any medical device manufacturer, including Abaxis, is uncertain and may involve complex legal and factual issues. Consequently, we may not be issued any additional patents, either domestically or internationally. Furthermore, our patents may not provide significant proprietary protection because there is a chance that they will be circumvented or invalidated. We cannot be certain that we were the first creator of the inventions covered by our issued patents or pending patent applications, or that we were the first to file patent applications for these inventions, because (1) the United States Patent and Trademark Office maintains all patent applications that are not filed in any foreign jurisdictions in secrecy until it issues the patents (unless a patent application owner files a request for publication) and (2) publications of discoveries in the scientific or patent literature tend to lag behind actual discoveries by several months. We may have to participate in interference proceedings, which are proceedings in front of the United States Patent and Trademark Office, to determine who will be issued a patent. These proceedings could be costly and could be decided against us.

We also rely upon copyrights, trademarks and unpatented trade secrets. Others may independently develop substantially equivalent proprietary information and techniques that would undermine our proprietary technologies. Further, others may gain access to our trade secrets or disclose such technology. Although we require our employees, consultants and advisors to execute agreements that require that our corporate information be kept confidential and that any inventions by these individuals are property of Abaxis, there can be no assurance that these agreements will provide meaningful protection or adequate remedies for our trade secrets in the event of unauthorized use or disclosure of such information. The unauthorized dissemination of our confidential information would negatively impact our business.

We Continue to Develop Our Marketing And Distribution Experience In the Human Diagnostic Market

Although we have gained experience marketing our VetScan DXS system products in the veterinary diagnostic market, we have limited sales, marketing and distribution experience with our Piccolo systems in the human diagnostic market. Accordingly, we cannot assure you that:

•	we will be able to establish and maintain effective distribution arrangements in the human diagnostic market;

•	any distribution arrangements that we are able to establish will be successful in marketing our products; or

•	the costs associated with marketing and distributing our products will not be excessive.

Should we fail to effectively develop our marketing and distribution efforts, our growth will be limited and our results of operations will be adversely affected.

We May Inadvertently Produce Defective Products, Which May Subject Us to Significant Warranty Liabilities Or Product Liability Claims And We May Have Insufficient Product Liability Insurance

Our business exposes us to potential warranty and product liability risks which are inherent in the testing, manufacturing and marketing of human and veterinary medical products. We strive to apply sophisticated methods to raw materials and produce defect-free medical test equipment. Although we have established procedures for quality control on both the raw materials that we receive from suppliers and our manufactured final products, these procedures may prove inadequate to detect a defect that either occurs in limited quantities or that we have not anticipated. We believe that our Piccolo and VetScan systems detect the vast majority of errors that occur on our reagent discs and automatically reject such tests, prompting the medical provider to retest the patient. However, our Piccolo and VetScan systems may be unable to detect errors which could result in the misdiagnosis of human or veterinary patients.

Should we inadvertently ship defective products, we may be subject to substantial claims under our warranty policy or product liability law. In addition, our policy is to credit medical providers for any defective product that we produce, including those reagent discs that are rejected by our Piccolo and VetScan systems. Therefore, even if a mass defect within a lot or lots of reagent discs were detected by our Piccolo and VetScan systems, our need to replace such reagent discs free of charge would materially harm our financial condition. Further, in the event that a product defect is not detected by our Piccolo system, our relatively recent expansion into the human medical market greatly increases the risk that the amount of damages involved with just one product defect would be material to our operations. We currently maintain limited product liability insurance that we believe is adequate for our needs, taking into account the risks involved and cost of coverage. However, our product liability insurance and cash may be insufficient to cover potential liabilities. In addition, in the future the coverage that we require may be unavailable on commercially reasonable terms, if at all. Even with our current insurance coverage, a mass product defect, product liability claim or recall would materially adversely affect our business or our financial condition.

Many of Our Sales Force Have Been Employed By Us For Less Than One Year And We Must Effectively Train And Integrate Our Sales Team In Order To Achieve Our Anticipated Revenue

At March 31, 2006, we had fifty-two full-time sales personnel involved in our sales and marketing activities, many of whom have been employed by us for a limited period of time. While these individuals work with our distribution partners both domestically and internationally to extend our market reach, the primary selling activities are often done by these individuals. If we are to increase our sales, we will need to train new salespeople and supervise them closely. We also will continue hiring additional sales personnel. If we are unable to retain our existing personnel, or attract and train additional qualified personnel, our growth may be limited due to our lack of resources to market our products.

We Need to Successfully Manufacture And Market Additional Reagent Discs For The Human Diagnostic Market If We Are To Compete In That Market

We have developed a blood analysis system that consists of a portable blood analyzer and single-use reagent discs. Each reagent disc performs a series of standard blood tests. We believe that it is necessary to develop additional series of reagent discs with various tests for use with the Piccolo and VetScan systems. Historically, we primarily developed reagent discs suitable for the veterinary diagnostic market. However, Abaxis has received 510(k) clearances from the FDA for 25 test methods in the human medical market. These tests are included in standard tests for which the medical community receives reimbursements from third party payors such as HMOs and Medicare. We may not be able to successfully manufacture or market these reagent discs. Our failure to meet these challenges will materially adversely affect our operating results and financial condition.

We Rely On Distributors To Sell Our Products; We Rely On Sole Distributor Arrangements In A Number Of Countries

We sell our products primarily through distributors. As a result, we are dependent upon these distributors to sell our products and to assist us in promoting and creating a demand for our products. We operate on a purchase order basis with the distributors and the distributors are under no contractual obligation to continue carrying our products. Further, many of our distributors may carry our competitors’ products, and may promote our competitors’ products over our own products. Two distributors, Henry Schein and DVM Resources accounted for 17% and 13%, respectively, of total revenues for fiscal 2006. Two distributors, DVM Resources and Vedco, Inc., accounted for 17% and 14% of total revenues for fiscal 2005.

We have a number of distributors in the United States who distribute our VetScan products. While we continue to enter into arrangements with veterinary distributors, we have also terminated our distribution relationships with the veterinary division of Henry Schein in May 2006 and Vedco, Inc. in December 2004. While we have in the past, and expect to in the future, support those customers who were previously supplied products by Henry Schein and Vedco, Inc. through our current distributor base and direct service, the loss of these or other distributors may negatively affect our future revenues. Accordingly, if one or more of our distributors were to stop selling our products in the future, we may not be able to replace such lost revenue or experience a delay in our sales revenue.

In the United States medical market, we entered into a formal distribution agreement with PSS World Medical, Inc. in the third quarter of fiscal 2006, to sell and market Piccolo systems and the medical reagent discs. Internationally, we have a few distributors for our products in both the human and veterinary diagnostic markets, which includes one distributor in Japan who received clearance in September 2005 from the Japanese regulatory agency to import and market our complete line of medical reagent discs, the Piccolo system, as well as all veterinary reagent discs and the Vetscan DXS system, with the exception of those products containing the Bile Acid assay in the respective country.

We currently have distributors for our products in the following countries: Australia, Austria, Bahrain, Belgium, Canada, Denmark, France, Germany, Hong Kong, Ireland, Israel, Italy, Japan, Korea, Kuwait, Macao, Mexico, the Netherlands, New Zealand, Norway, Portugal, Russia, Singapore, South Africa, Spain, Sweden, Switzerland, Turkey, United Arab Emirates, the United Kingdom and the United States. Our distributor in each of these countries is responsible for obtaining the necessary approvals to sell our products. These distributors may not be successful in obtaining proper approvals for our products in their respective countries, and they may not be successful in marketing our products. We plan to continue to enter into additional distributor relationships to expand our international distribution base and solidify our international presence. However, we may not be successful in entering into additional distributor relationships. Our distributors may terminate their relationship with us at any time. Historically, we have experienced a turnover among our international distributors. This high degree of turnover makes it difficult for us to establish a steady distribution network overseas. Consequently, we may not be successful in marketing our Piccolo and VetScan DXS products internationally.

We Depend On Sole Suppliers For Several Key Components In Our Products, Many of Whom We Have Not Entered Into Contractual Relationships With

We use several key components that are currently available from limited or sole sources as discussed below:

•

Reagent Discs: Two injection molding manufacturers, C. Brewer & Co. and Nypro Oregon, Inc., currently make the molded plastic discs which, when loaded with reagents and welded together, form our reagent disc products. We believe that only a few manufacturers are capable of producing these discs to the narrow tolerances that we require. To date, we have only qualified these two manufacturers, with Nypro Oregon, Inc. being qualified at two separate facilities, to manufacture the molded plastic discs.

•	Reagent Chemicals: We currently depend on the following single source vendors for some of the chemicals that we use to produce the dry reagent chemistry beads that are either inserted in our reagent discs or sold as a stand-alone product: Amano Enzyme USA Co., Ltd., Genzyme Corporation, Kikkoman Corporation Biochemical Division, Microgenics Corporation, Roche Molecular Biochemicals of Roche Diagnostics Corporation, a division of F. Hoffmann-La Roche, Ltd., Shinko American Inc. and Sigma Aldrich Inc.

•	Blood Analyzer Components: Our analyzer products use several technologically advanced components that we currently purchase from the following single source vendors, Electro Alliance, Inc., PerkinElmer, Inc., and UDT Sensors. Our analyzers use a printer that is only made by Seiko North America Corporation. The loss of the supply of any of these components could force us to redesign our analyzers.

•	Hematology Instruments and Reagents: The VetScan HMII is manufactured by Diatron in Hungary and is purchased by us as a completed instrument. To date, we have qualified two suppliers to produce the reagents for the hematology instruments: Clinical Diagnostic Solutions, Inc. and Mallinckrodt Baker BV.

For our hematology instruments purchased from Diatron, we are subject to minimum purchase requirements through fiscal 2009. We operate on a purchase order basis with all of the suppliers of our molded plastic reagent discs, reagent chemicals and blood analyzer components and thus these suppliers are under no contractual obligation to supply us with their products or to do so at specified prices. Although we believe that there are potential alternate suppliers available for these critical components, to date we have not qualified additional vendors beyond those referenced above.

Because we are dependent on a limited number of suppliers and manufacturers for critical components to our products, we are particularly susceptible to any interruption in the supply of these products or the viability of our assembly arrangements. The loss of any one of these suppliers or a disruption in our manufacturing arrangements could materially adversely affect our business and financial condition.

We Compete With Larger, Better Established Entities Such As Hospitals And Commercial Laboratories

Blood analysis is a well established field in which there are a number of competitors that have substantially greater financial resources and larger, more established marketing, sales and service organizations than we do. We compete with the following organizations:

•	commercial clinical laboratories;

•	hospitals’ clinical laboratories; and

•	manufacturers of bench top multi-test blood analyzers and other testing systems that health care providers can use “on-site.”

We May Not Be Able To Compete With Larger, Better Established Entities Or Their Products Or With Future Organizations Or Future Products

Historically, hospitals and commercial laboratories performed most human diagnostic testing, and commercial laboratories performed the most veterinary medical testing. We have identified five principal factors that customers typically use to evaluate our products and those of our competitors. These factors are:

•	range of tests offered;

•	the immediacy of results;

•	cost effectiveness;

•	ease of use; and

•	reliability of results.

We believe that we compete effectively on each of these factors except for the range of tests offered. Clinical laboratories are effective at processing large panels of tests using skilled technicians and complex equipment. While our current offering of reagent discs cannot provide the same broad range of tests, we believe that in certain markets our products provide a sufficient breadth of test menus to compete successfully with clinical laboratories given the advantages of our products with respect to the other four factors. However, we cannot assure you that we will continue to be able to compete effectively on cost effectiveness, ease of use, immediacy of results or reliability of results. We also cannot assure you that we will ever be able to compete effectively on the basis of range of tests offered.

Competition in the human and veterinary diagnostic markets is intense. Our principal competitors in the human diagnostic market are Alfa Wassermann S.P.A., i-STAT Corporation (which was purchased by Abbott Laboratories), Johnson & Johnson (including its subsidiary, Ortho-Clinical Diagnostics, Inc.) and Polymedco. Our principal competitors in the veterinary diagnostic market are Idexx Laboratories, Inc. and Heska Corporation. Most of our competitors have significantly greater financial and other resources than we do. In particular, many of our competitors have large sales forces and well-established distribution channels. Consequently, we must develop our distribution channels and improve our direct sales force in order to compete in these markets.

Changes In Third Party Payor Reimbursement Regulations Can Negatively Affect Our Business

By regulating the maximum amount of reimbursement they will provide for blood testing services, third party payors, such as HMOs, pay-per-service insurance plans, Medicare and Medicaid, can indirectly affect the pricing or the relative attractiveness of our human testing products. For example, the Centers for Medicare and Medicaid Services (CMS) sets the level of reimbursement of fees for blood testing services for Medicare beneficiaries. If third party payors decrease the reimbursement amounts for blood testing services, it may decrease the amount that physicians and hospitals are able to charge patients for such services. Consequently, we will need to charge less for our products. If the government and third party payors do not provide for adequate coverage and reimbursement levels to allow health care providers to use our products, the demand for our products will decrease.

We Are Subject To Numerous Governmental Regulations

•	*Need for FDA Certification for Our Medical Device Products*

Our Piccolo products are regulated under the 1976 Medical Device Amendments to the Food, Drug and Cosmetic Act, which is administered by the Food and Drug Administration (FDA). The FDA has classified our Piccolo products as “Class I” and “Class II” devices. These classifications require us to submit to the FDA a pre-market notification form or 510(k). The FDA uses the 510(k) to substantiate product claims that are made by medical device manufacturers prior to marketing. In our 510(k) notification, we must, among other things, establish that the product we plan to market is “substantially equivalent” to (1) a product that was on the market prior to the adoption of the 1976 Medical Device Amendment or (2) to a product that the FDA has previously cleared under the 510(k) process.

•	*Need to Comply with Manufacturing Regulations*

The 1976 Medical Device Amendment also requires us to manufacture our Piccolo products in accordance with Good Manufacturing Practices guidelines. Current Good Manufacturing Practice requirements are set forth in the 21 CFR 820 Quality System Regulation. These requirements regulate the methods used in, and the facilities and controls used for the design, manufacture, packaging, storage, installation and servicing of our medical devices intended for human use. Our manufacturing facility is subject to periodic inspections. Although we have obtained a license from the State of California to manufacture our products, various state regulatory agencies may regulate the manufacture of our products. To date, we have complied with the following:

•	In April 2001, the State of California Food and Drug Branch granted our manufacturing facility “in compliance” status, based on the regulations for Good Manufacturing Practices for medical devices.

•	In May 2001, the State of California Food and Drug Branch granted licensing for our manufacturing facility in Union City, California.

•	In May 2002, we received our ISO 9001 certification, expanding our compliance with international quality standards.

•	In December 2003, we received ISO 13485 Quality System certification as required by the 2003 European In Vitro Device Directive. This certified our quality system specifically to medical devices.

•	In both September 2005 and March 2003, the U.S. FDA conducted a facility inspection and verified our compliance with the 21 CFR 820 Regulation.

We cannot assure you that we will successfully pass a re-inspection by the U.S. FDA or the State of California. In addition, we cannot assure you that we can comply with all current or future government manufacturing requirements and regulations. If we are unable to comply with the regulations, or if we do not pass routine inspections, our business and results of operations will be materially adversely affected.

•	*Effects of the Clinical Laboratory Improvement Amendments on Our Products*

Our Piccolo products are affected by the Clinical Laboratory Improvement Amendments (CLIA) of 1988. The Clinical Laboratory Improvement Amendments (CLIA) are intended to insure the quality and reliability of all medical testing in the United States regardless of where tests are performed. The current Clinical Laboratory Improvement Amendments (CLIA) divide laboratory tests into three categories: “simple,” “moderately complex” and “highly complex.” Tests performed using the Piccolo system are in the “moderately complex” category. This category requires that any location in which testing is performed be certified as a laboratory. Hence, we can only sell our Piccolo products to customers who meet the standards of a laboratory. To receive “laboratory” certification, a testing facility must be certified by the Centers for Medicare and Medicaid Services (CMS). After the testing facility receives a “laboratory” certification, it must then meet the Clinical Laboratory Improvement Amendments (CLIA) regulations. Because we can only sell our Piccolo products to testing facilities that are certified “laboratories,” the market for our products is correspondingly constrained.

•	*We Are Subject to Various Federal, State, Local, and International Regulations*

Federal, state, local and international regulations regarding the manufacture and sale of health care products and diagnostic devices may change. In addition, as we continue to sell in foreign markets, we may have to obtain additional governmental clearances in those markets. We have received the following certifications:

•	In December 2003, we received certification from the British Standards Institute to the ISO 13485:1996 quality system standard for medical devices. This quality system certification, along with successful completion of product testing to 2003 European standards and the translation of Piccolo product documentation into the required languages, enabled us to meet the compliance requirements of the CE Mark and the 2003 European In Vitro Device Directive.

•	In September 2005, we received the Canadian Medical Device Conformity Assessment System (CMDCAS) stamp on our ISO 13485 certificate to signify compliance with Health Canada regulations.

•	In March 2006, we received our certification to the 2003 version of the ISO 13485 quality system standard for medical devices.

We cannot predict what impact, if any, such current or future regulatory changes would have on our business. We may not be able to obtain regulatory clearances for our products in the United States or in foreign markets, and the failure to obtain these regulatory clearances will materially adversely affect our business and results of operations.

Although we believe that we will be able to comply with all applicable regulations of the Food and Drug Administration and of the State of California, including the Quality System Regulation, current regulations depend on administrative interpretations. Future interpretations made by the Food and Drug Administration, the Centers for Medicare and Medicaid Services (CMS) or other regulatory bodies may adversely affect our business.

We Depend On Key Members Of Our Management And Scientific Staff, And We Must Retain And Recruit Qualified Individuals If We Are To Be Competitive

We are highly dependent on the principal members of our management and scientific staff. The loss of any of these key personnel, including in particular Clinton H. Severson, our President, Chief Executive Officer and Chairman of our Board of Directors, might impede the achievement of our business objectives. Mr. Severson’s amended and restated employment agreement with us has been filed with the Securities and Exchange Commission as an exhibit. We currently do not maintain key man life insurance on any of our employees. Although historically we have been relatively successful both in retaining our current management and scientific staff, as well as attracting and retaining skilled and experienced marketing, sales and manufacturing personnel, we may not be able to employ such personnel on acceptable terms in the future because numerous medical products and other high technology companies compete for the services of these qualified individuals.

Standards For Compliance With Section 404 Of the Sarbanes-Oxley Act Of 2002 Are Complex, And If We Are Unable To Maintain Effective Internal Control Over Our Financial Reporting, Our Business Could Be Harmed And Our Stock Price Could Decline

Rules adopted by the Securities and Exchange Commission pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 require an annual assessment of internal control over financial reporting by Abaxis’ management and an attestation of its assessment by independent registered public accountants. The standards that must be met for management to assess the internal control over financial reporting as effective are new and complex, require significant documentation, testing and possible remediation to meet the detailed standards.

Abaxis’ management assessed the effectiveness of its internal control over financial reporting as of March 31, 2006 and March 31, 2005. The assessment for fiscal 2005 identified a material weakness in its internal control over financial reporting related to ineffective controls over the determination and reporting of the provision for income taxes. The control deficiency identified in fiscal 2005 could have resulted in a future material misstatement of the Company’s income tax provision (and related balance sheet accounts) that would not have been prevented or detected by management. Although Abaxis received an unqualified opinion on its financial statements for the fiscal year ended March 31, 2006, and on the effectiveness of its internal control over financial reporting, the steps Abaxis has taken to date and the steps Abaxis is still in the process of taking to improve the reliability of its financial statements in the future are subject to continued management review, as well as oversight by the audit committee of its board of directors. Any failure to implement required new or improved controls, or difficulties encountered in implementation could harm operating results or prevent the Company from accurately reporting financial results or cause a failure by Abaxis to meet its reporting obligations in the future. If our management cannot assess Abaxis’ internal control over financial reporting as effective, or our independent registered public accounting firm is unable to provide an unqualified attestation report on such assessment, investor confidence and share value may be negatively impacted.

As a Result of New Requirements Relating to Accounting Treatment For Employee Stock Options, We May Be Forced to Change Our Business Practices

We currently account for the issuance of stock options under APB Opinion No. 25, “Accounting for Stock Issued to Employees.” On December 16, 2004, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment (“SFAS 123R”). The new standard requires us to treat the value of the stock options granted to employees as a compensation expense. In April 2005, the Securities and Exchange Commission amended the compliance dates and, accordingly, we will be required to record an expense for our stock-based compensation plans using the fair value method beginning on April 1, 2006. As a result, we may decide to reduce the number of stock options granted to employees or to grant options to fewer employees. This could affect our ability to retain existing employees and attract qualified candidates and increase the cash compensation we would have to pay to them.

The adoption of SFAS 123R in the first quarter of fiscal 2007 will have a negative effect on our earnings. To minimize future compensation expense that we would recognize in our financial statements, on December 5, 2005, the Board of Directors of Abaxis approved full acceleration of unvested stock options with an exercise price of $19.12 or greater previously granted under the Abaxis, Inc. 1998 Stock Option Plan held by Company officers and employees. The pro forma effects on net income and earnings per share if we had applied the fair value recognition provisions of the original SFAS 123 on stock compensation awards (rather than applying the intrinsic value measurement provisions of Opinion 25) are disclosed in Note 1 to the enclosed financial statements.

In October 2005, our 1998 Stock Option Plan was amended and restated as the Abaxis, Inc. 2005 Equity Incentive Plan, which allows the Company to provide as incentives, stock options, stock appreciation rights, stock awards (stock purchase rights and stock bonuses), restricted stock units, performance shares, performance units, other stock-based awards and cash-based awards. The impact of this new plan on our future earnings depends on the type of equity based incentives the Company grants, the vesting conditions and the number of awards granted.

We Must Comply With Strict And Potentially Costly Environmental Regulations

We are subject to stringent federal, state and local laws, rules, regulations and policies that govern the use, generation, manufacture, storage, air emission, effluent discharge, handling and disposal of certain materials and wastes. In particular, we are subject to laws, rules and regulations governing the handling and disposal of biohazardous materials used in the development and testing of our products. We handle and dispose of human and veterinary blood samples for testing (whole blood, plasma, serum) and we paid approximately $54,000 in fiscal 2006 to comply with applicable environmental regulations. Although we believe that we have complied with applicable laws and regulations in all material respects and have not been required to take any action to correct any noncompliance, we may have to incur significant costs to comply with environmental regulations if our manufacturing to commercial levels continues to increase. In addition, if a government agency determines that we have not complied with these laws, rules and regulations, we may have to pay significant fines and/or take remedial action that would be expensive and we do not carry environmental-related insurance coverage.

Our Facilities And Manufacturing Operations Are Vulnerable To Natural Disasters And Other Unexpected Losses; System Failures Or Delays May Harm Our Business

Our success depends on the efficient and uninterrupted operation of our manufacturing operations, which are co-located with our corporate headquarters in Union City, California. A failure of manufacturing operations, be it in the development and manufacturing of our Piccolo or VetScan analyzers or the reagent discs used in the analyzers, could result in our inability to supply customer demand.

We do not have a backup facility to provide redundant manufacturing capacity in the event of a system failure. Accordingly, if our Union City location experienced a system failure, or regulatory problem that temporarily shut-down our manufacturing facility, our manufacturing ability would become unavailable until we were able to bring an alternative facility online, a process which could take several weeks or even months. These manufacturing operations are also vulnerable to damage from earthquakes, fire, floods, power loss, telecommunications failures, break-ins and similar events. Although we carry property and business interruption insurance, our coverage may not be adequate to compensate us for all losses that may occur. Additionally, our computer servers may be vulnerable to computer viruses, physical or electronic break-ins and similar disruptions.

Fluctuations In Foreign Exchange Rates And The Possible Lack Of Financial Stability In Foreign Countries Could Prevent Overseas Sales Growth

Our international sales are overwhelmingly currently U.S. dollar-denominated. As a result, an increase in the value of the U.S. dollar relative to foreign currencies could make our products less competitive in international markets. For the limited amount of our sales denominated in local currencies, we are subject to fluctuations in exchange rates between the U.S. dollar and the particular local currency. Our operating results could also be adversely affected by the seasonality of international sales and the economic conditions of our overseas markets.

Our Stock Price Is Highly Volatile And Investing In Our Stock Involves A High Degree Of Risk

The market price of our common stock, like the securities of many other medical products companies, fluctuates over a wide range, and will continue to be highly volatile in the future. During the past two years, our stock price closed at a high of $24.65 on March 20, 2006 and a low of $7.62 on April 22, 2005. The following factors may affect the market price of our common stock:

•	fluctuation in our operating results;

•	announcements of technological innovations or new commercial products by us or our competitors;

•	changes in governmental regulation;

•	prospects and proposals for health care reform;

•	governmental or third party payors’ controls on prices that our customers may pay for our products;

•	developments or disputes concerning patent or our other proprietary rights;

•	public concern as to the safety of our devices or similar devices developed by our competitors; and

•	general market conditions.

Because our stock price is so volatile, investing in our common stock is highly risky. A potential investor must be able to withstand the loss of his entire investment in our common stock.

Our Shareholders Rights Plan And Our Ability To Issue Preferred Stock May Delay Or Prevent A Change Of Control Of Abaxis

Our Shareholder Rights Plan, adopted by our Board of Directors on April 22, 2003, may make it more difficult for a third party to acquire, or discourage a third party from attempting to acquire control of Abaxis. The Shareholder Rights Plan could limit the price that investors might be willing to pay in the future for shares of our common stock.

In addition, our Board of Directors has the authority to issue up to 5,000,000 shares of preferred stock and to determine the price, rights, preferences, privileges and restrictions, including voting rights, of those shares without any further vote or action by the shareholders, except to the extent required by NASDAQ rules. The issuance of preferred stock, while providing flexibility in connection with possible financings or acquisitions or other corporate purposes, could have the effect of making it more difficult for a third party to acquire a majority of our outstanding voting stock.

Item 1B. Unresolved Staff Comments

None.

Item 2. Properties

We occupy 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 which commenced in January 2001 with an option to extend the lease for five additional years. Our Germany office consists of approximately 1,500 square feet located in Darmstadt, Germany. The lease agreement for the Germany office is terminable upon three months notice. We believe that our current facilities are suitable and adequate to meet our needs for the foreseeable future.

Item 3. Legal Proceedings

We are from time to time involved in various litigation matters in the normal course of business. While the outcome of these proceedings and claims cannot be predicted with certainty, we believe that the ultimate resolution of these matters will not have a material effect on our financial position or results of operations.

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

No items were submitted to a vote of security holders during the quarter ended March 31, 2006.

PART II

Item 5. Market For Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities

Price Range of Common Stock

Our common stock is traded on the NASDAQ National Market under the symbol “ABAX”. The following table sets forth the quarterly high and low closing bid prices for the common stock from April 1, 2004 through March 31, 2006 as reported by the NASDAQ National Market:

	Prices

	High		Low

Fiscal Year Ended March 31, 2005:
Quarter ended June 30	$	22.25	$	16.51
Quarter ended September 30		18.00		13.00
Quarter ended December 31		15.36		11.30
Quarter ended March 31		14.05		8.03
Fiscal Year Ended March 31, 2006:
Quarter ended June 30	$	11.65	$	7.62
Quarter ended September 30		13.20		10.74
Quarter ended December 31		18.75		13.19
Quarter ended March 31		24.65		16.70

There were 20,343,187 shares of our common stock outstanding, held by 160 shareholders of record, as of June 7, 2006.

We did not repurchase any of our equity securities during the fourth quarter of fiscal 2006.

Dividend Policy

Under our debt agreements, we are restricted from paying aggregate cash dividends on our stock in excess of 50% of our net income on an annual basis. We have not paid dividends on our common stock and do not anticipate paying cash dividends in the foreseeable future.

Stock Purchase Rights

On April 22, 2003, the Board of Directors of the Company approved the adoption of a Shareholder Rights Plan. Under the terms of the plan, shareholders of record on May 8, 2003, received one preferred stock purchase right for each outstanding share of Common Stock held. Each right entitled the registered holder to purchase from the Company one one-thousandth of a share of the Company’s Series RP Preferred Stock, $0.001 par value, at a price of $24.00 per share and becomes exercisable when a person or group acquires 15% or more of the Company’s Common Stock without prior approval by the Board of Directors.

Securities Authorized for Issuance Under Equity Compensation Plans

Abaxis has two equity incentive plans under which our equity securities are or have been authorized for issuance to our employees, directors and consultants: (i) the 2005 Equity Incentive Plan, which amended and restated the 1998 Stock Option Plan and (ii) the 1992 Outside Directors’ Stock Option Plan. Both the 2005 Equity Incentive Plan and the 1992 Outside Directors’ Stock Option Plan have been approved by our shareholders. In June 2002, the time period for granting options under the Directors’ Plan expired in accordance with the terms of the plan.

From time to time we issue warrants to purchase shares of our common stock to non-employees, such as service providers and purchasers of our preferred stock.

The following table provides aggregate information through March 31, 2006 regarding (i) grants under of our equity compensation plans and (ii) outstanding warrants to purchase our common stock.

Equity Compensation Information

Plan Category	Number of securities to be issued upon exercise of outstanding options, warrants and rights		Weighted-average exercise price of outstanding options, warrants and rights		Number of securities remaining available for future issuance under equity compensation plans

Equity compensation plans approved by our shareholders:
2005 Equity Incentive Plan⁽¹⁾		2,462,853	$	6.83		884,481
1992 Outside Directors’ Stock Option Plan		69,000	$	4.56		—

Equity securities not approved by our shareholders:
Warrants to purchase common stock⁽²⁾		210,885	$	7.00		—

Total:		2,742,738	$	6.79		884,481


(1)	The 2005 Equity Incentive Plan amended and restated the 1998 Stock Option Plan in October 2005.

(2)	Consists of warrants expiring through May 2007. Warrants issued to purchase an aggregate of 113,385 shares of common stock were issued to service providers at a per share exercise price of $7.00 and warrants to purchase an aggregate of 97,500 shares of common stock were issued to purchasers of the Company’s Series E convertible preferred stock at a per share exercise price of $7.00.

Item 6. Selected Financial Data

The following selected financial data 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.

	Year Ended March 31,

	2006			2005			2004			2003			2002

Statements of Operations Data:
Revenues:
Product sales, net	$	67,556,000		$	52,464,000		$	46,599,000		$	34,532,000		$	30,418,000
Development and licensing revenue		1,372,000			294,000			275,000			248,000			213,000

Total revenues		68,928,000			52,758,000			46,874,000			34,780,000			30,631,000

Costs and operating expenses:
Cost of product sales		30,075,000			24,811,000			22,966,000			17,755,000			15,966,000
Selling, general and administrative		21,994,000			15,701,000			14,431,000			11,564,000			9,333,000
Research and development		6,127,000			5,150,000			4,757,000			3,888,000			3,834,000

Total costs and operating expenses		58,196,000			45,662,000			42,154,000			33,207,000			29,133,000

Income from operations		10,732,000			7,096,000			4,720,000			1,573,000			1,498,000
Interest and other income		819,000			302,000			173,000			217,000			91,000
Interest and other expense		(32,000	)		(33,000	)		(68,000	)		(149,000	)		(269,000	)

Income before income taxes		11,519,000			7,365,000			4,825,000			1,641,000			1,320,000
Income tax provision (benefit)		4,044,000			2,514,000			(19,208,000	)		5,000			16,000

Net income		7,475,000			4,851,000			24,033,000			1,636,000			1,304,000
Preferred dividends and accretion (a)		—			—			(419,000	)		(1,235,000	)		(1,033,000	)

Net income attributable to common shareholders	$	7,475,000		$	4,851,000		$	23,614,000		$	401,000		$	271,000

Net income per share:
Basic net income per share	$	0.37		$	0.25		$	1.30		$	0.02		$	0.02

Diluted net income per share	$	0.35		$	0.22		$	1.16		$	0.02		$	0.02

Shares used in the calculation of net income per share:
Weighted average common shares outstanding - basic		19,985,000			19,696,000			18,128,000			16,634,000			16,264,000

Weighted average common shares outstanding - diluted		21,492,000			21,662,000			20,387,000			17,014,000			16,811,000

(a)

For fiscal 2006, 2005 and 2004, includes preferred dividends of $0, $0 and $419,000, respectively. For fiscal 2003, includes preferred dividends of $865,000 and a non-cash preferred dividend charge of $370,000 related to the beneficial conversion feature contained in our Series E Preferred Stock issued in April 2002. For fiscal 2002, includes preferred dividends of $446,000 and a non-cash preferred dividend charge of $587,000 related to the beneficial conversion feature contained in our Series E Preferred Stock issued in March 2002.

	March 31,

	2006		2005		2004		2003		2002

Balance Sheet Data:
Cash and cash equivalents	$	10,164,000	$	5,776,000	$	9,324,000	$	10,430,000	$	4,098,000
Short-term investments		20,372,000		16,858,000		7,998,000		—		—
Working capital		49,690,000		38,744,000		25,865,000		17,855,000		13,282,000
Total assets		83,078,000		71,009,000		61,898,000		32,368,000		29,680,000
Long-term liabilities		1,420,000		1,629,000		938,000		1,218,000		1,747,000
Convertible preferred stock		—		—		—		3,176,000		2,561,000
Total shareholders’ equity		71,038,000		61,667,000		54,572,000		22,268,000		18,152,000

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

BUSINESS OVERVIEW

Abaxis, Inc. (“us” or “we”), incorporated in California in 1989, develops, manufactures and markets portable blood analysis systems for use in any veterinary or human patient-care setting to provide clinicians with rapid blood constituent measurements. Our primary product is a system consisting of a compact 6.9 kilogram (15 pounds) portable blood analyzer and a series of single-use plastic discs, called reagent discs, containing all the chemicals required to perform a panel of up to 13 tests on veterinary patients and 14 tests on human patients.

Sales for any future periods are not predictable with a significant degree of certainty. We generally operate with limited order backlog because our products are typically 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. Our expense levels, which are to a large extent fixed, are based in part on our expectations of future revenues. Accordingly, we may be unable to adjust spending in a timely manner to compensate for any unexpected revenue shortfall. As a result, any such shortfall would negatively affect our operating results and financial condition. Our sales may be adversely impacted by pricing pressure from competitors. Our ability to be consistently profitable will depend, in part, on our ability to increase the sales volumes of our VetScan DXS and Piccolo products and to successfully compete with other competitors. We believe that period to period comparisons of our results of operations are not necessarily meaningful indicators of future results.

CRITICAL ACCOUNTING POLICIES

Our financial statements were prepared in accordance with the accounting principles generally accepted in the United States. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and revenues and expenses during the reporting period. On an on-going basis, we evaluate our estimates and the sensitivity of these estimates to deviations in the assumptions used in making them. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. However, there can be no assurance that our actual results will not differ from these estimates.

We have identified the policies below as critical because they are not only important to understanding our financial condition and results of operations, but also because application and interpretation of these policies requires both judgment and estimates of matters that are inherently uncertain and unknown. As a result, actual results may differ materially from our estimates. The impact and any associated risks related to these policies on our business operations are discussed below. For a more detailed discussion on the application of these and other accounting policies, see the Notes to Financial Statements included in this Annual Report on Form 10-K.

Revenue Recognition and Deferred Revenue. Our primary customers are distributors and direct customers in both the veterinary and medical markets. Revenues from product sales, net of estimated sales allowances and rebates, are recognized when (i) evidence of an arrangement exists, (ii) upon shipment of the products to the customer, (iii) the sales price is fixed and determinable and (iv) collection of the resulting receivable is reasonably assured. Rights of return are not provided.

We recognize revenue associated with extended maintenance agreements ratably over the life of the contract. Amounts collected in advance of revenue recognition are recorded as a current or long-term liability based on the time from the balance sheet date to the future date of revenue recognition. We also provide incentives in the form of free goods or extended maintenance agreements to customers in connection with the sale of our instruments. Revenue from such sales is allocated separately to the instruments and free goods based on the relative fair value of each element. Revenue allocated to free goods is deferred until the goods are shipped to the customer, which is then recorded as an increase in revenues. The revenue associated with free goods related to extended maintenance agreements is recognized ratably over the maintenance period. At March 31, 2006, 2005 and 2004, the current portion of deferred revenue balances were $939,000, $907,000 and $264,000, respectively, and the long-term portion of deferred revenue balances were $938,000, $1,146,000 and $474,000, respectively. The fluctuation is due to the types of customer incentives programs offered during the period and also on when the free goods are shipped to the customer and the maintenance period of the maintenance agreements.

We offer trade-in programs from time to time in which we will either provide incentives in the form of free goods to customers for purchasing our instruments or reduce the sales price of the instrument. These incentives in the form of free goods are recorded according to the policies described above.

Distributor and Customer Rebates. We offer distributor pricing rebates and customer incentive offerings from time to time. The distributor pricing rebates are offered to distributors upon meeting the sales volume requirements during the qualifying period. The distributor pricing rebates are recorded as a reduction to gross revenues during the qualifying period. Cash rebates are offered to customers who purchase specific instruments during the promotional period. The cash rebate is recorded as a reduction to gross revenues.

The distributor pricing rebate program started in fiscal 2005 and continued in fiscal 2006. The program is offered to distributors, primarily in the United States veterinary market, upon meeting the sales volume requirements of reagent discs during the qualifying period. Factors used in the rebate calculations include the identification of products sold subject to a rebate during the qualifying period and which rebate percentage applies. Based on these factors and using historical trends, adjusted for current changes, the Company estimates the amount of the rebate that will be paid and records the liability as a reduction of gross revenues when the Company records the sale of the product. Settlement of the rebate accruals from the date of sale ranges from one to six months after sale. At March 31, 2006, 2005 and 2004, the accrual balances related to distributor pricing rebates were $83,000, $177,000 and $0, respectively. The change in the rebate accrual at March 31, 2006, as compared to March 31, 2005, was due to the distributors not meeting the purchase requirements in the fourth quarter of fiscal 2006.

Rebate programs offered to customers vary from period to period. Generally, the customer rebate program relates to the sale of certain products or instruments during a specified promotional period. There were no customer rebate programs offered in fiscal 2005. During fiscal 2006, the customer rebate program was in effect during the quarters ended June 30, 2005 and December 31, 2005. As part of the rebate program, the customer receives a cash rebate upon purchasing certain veterinary instruments in the United States market during the promotional period. Factors used in the rebate calculations include the identification of instruments sold subject to a rebate during the qualifying period and the estimated lag time between the sale and payment of a rebate. The Company estimates the amount of the rebate that will be paid and records the liability as a reduction of gross revenues when the Company records the sale of the product. Settlement of the rebate accruals from the date of sale ranges from one to six months after sale. At March 31, 2006, 2005 and 2004, the accrual balances related to customer rebates were $36,000, $0 and $0, respectively. The increase in the rebate accrual at March 31, 2006, as compared to March 31, 2005, was due to the type of marketing promotions offered during fiscal 2006 and the timing of the rebate obligations to the customers. Prior to fiscal 2006, the customer rebate program was not significant in the determination of operating income.

The following table is an analysis of the roll forward activities for the distributor and customer rebate accruals:

	Balance at Beginning of Year		Provisions			Payments			Balance at End of Year

Year Ended March 31, 2006:
Distributor rebates	$	177,000	$	774,000		$	(868,000	)	$	83,000
Customer rebates		—		578,000			(542,000	)		36,000

Total distributor and customer rebates	$	177,000	$	1,352,000		$	(1,410,000	)	$	119,000

Year Ended March 31, 2005:
Distributor rebates	$	—	$	549,000		$	(372,000	)	$	177,000
Customer rebates		—		—			—			—

Total distributor and customer rebates	$	—	$	549,000		$	(372,000	)	$	177,000

Year Ended March 31, 2004:
Distributor rebates	$	—	$	—		$	—		$	—
Customer rebates		5,000		(5,000	)		—			—

Total distributor and customer rebates	$	5,000	$	(5,000	)	$	—		$	—

Sales and Other Allowances. We maintain sales allowances for defective reagent discs, which include the credit that we issue to customers for defective reagent discs. The balances related to sales allowance for defective reagent discs at March 31, 2006, 2005 and 2004 were $234,000, $278,000 and $82,000, respectively. The fluctuation in the accrual of the sales allowance for defective reagent discs from year to year is based on the failure rate of reagent discs, the increase in the sale of our reagent discs and the timing of the credit issued to customers.

We also establish, upon shipment of our products to distributors, a provision for potentially defective reagent discs, based on historical experience. The Company provides a provision for the potentially defective reagent discs shipped to distributors during the current period using internal data available to estimate both the level of inventory in the distribution channel, the lag time for customers to report defective reagent discs and the historical experience of defective reagent discs. The accrual balances for potentially defective reagent discs at March 31, 2006, 2005 and 2004 were $121,000, $110,000 and $73,000, respectively. Changes in our estimates for accruals related to credits for defective reagent discs have not been material to operating income. Additional provisions and allowances may be required, resulting in decreased revenues, should we experience an increase of defective products. In the future, the actual defective reagent discs may exceed our estimates, which could adversely affect our operating income.

Allowance for Doubtful Accounts. We maintain an allowance for doubtful accounts based on our assessment of the collectibility of amounts owed to us by our customers. In determining the amount of the allowance, we make judgments about the creditworthiness of customers which is mostly determined by the customer’s payment history and the outstanding period of accounts. We specifically identify amounts that we believe to be uncollectible and the allowance for doubtful accounts is adjusted accordingly. An additional allowance is recorded based on certain percentages of our aged receivables, using historical experience to estimate the potential uncollectible and our assessment of the general financial condition of our customer base. If our actual collections experience changes, revisions to our allowances may be required, which could adversely affect our operating income.

Warranty Reserves. We provide provisions at the time the related revenue is recognized for the estimated future costs to be incurred under our standard warranty obligations of one to two years on our instruments. While we engage in product quality programs and processes, including monitoring and evaluating the quality of our suppliers, our warranty obligation is affected by product failure rates, material usage and freight incurred in repairing the instrument after failure. We analyze the adequacy of the ending accrual balance each quarter. We maintain a reserve for the related warranty expenses based on historical experience of similar products. The determination of such allowances requires us to make estimates of the expected costs to repair or replace the instruments under warranty. If actual repair costs differ significantly from our estimates, adjustments to cost of product sales may be required.

Inventories. We state inventories at the lower of cost or market, cost being determined using standard costs which approximates the first-in, first-out (FIFO) method. Inventories include material, labor and overhead. We establish provisions for excess, obsolete and unusable inventories after evaluation of future demand and market conditions. If future demand or actual market conditions are less favorable than those estimated by management or if a significant amount of the material were to become unusable, additional inventory write-downs may be required, which would have a negative effect on our operating income.

Valuation of Long-lived Assets. The carrying value of our long-lived assets is reviewed for impairment whenever events or changes in circumstances indicate that an asset may not be recoverable. We look to current and future profitability, as well as current and future undiscounted cash flows, excluding financing costs, as primary indicators of recoverability. An impairment loss would be recognized when the sum of the undiscounted future net cash flows expected to result from the use of the asset and its eventual disposal is less than the carrying amount. If impairment is determined to exist, any related impairment loss is calculated based on fair value.

Income Taxes. We account for income taxes under the provisions of Statement of Financial Accounting Standards No. 109, “Accounting for Income Taxes.” Under this method, deferred tax assets and liabilities are determined based on the differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amounts to be recovered.

As of March 31, 2006, we had net deferred tax assets of $16,419,000 primarily resulting from net operating loss carryforwards (NOLs), which consist of $33,627,000 of federal NOLs that expire at various dates from fiscal years 2009 through 2023. At March 31, 2006, the Company maintained a valuation allowance of $543,000 relating to federal research and development tax credits which expire in fiscal years 2007 through 2008. In evaluating our ability to recover our deferred tax assets, in full or in part, we consider all available positive and negative evidence including our past operating results and our forecasts of future taxable income and utilization of research and development tax credits. Statutory limitations and short expiration periods represented sufficient negative evidence to require a valuation allowance. We will continue to evaluate our deferred tax assets in the future to determine whether a deferred tax asset valuation allowance is required at some future point.

RESULTS OF OPERATIONS

Total Revenues

Abaxis currently operates in one segment, which develops, manufactures and markets portable blood analysis systems for use in any veterinary or human patient-care setting to clinicians with rapid blood constituent measurement requirements. We summarize revenues by the following three categories: (i) product and services, (ii) customer group and (iii) geographic region based on customer location.

Revenues by Product and Services - Revenues for each group of products and services provided by Abaxis for fiscal 2006, 2005 and 2004 were as follows:

	Year Ended March 31,									Change 2005 to 2006					Change 2004 to 2005

										Increase/ (Decrease)		% Change			Increase/ (Decrease)		% Change
	2006			2005				2004		Increase/ (Decrease)		% Change			Increase/ (Decrease)		% Change

Instruments	$	21,864,000		$	17,203,000		$	16,194,000		$	4,661,000		27	%	$	1,009,000		6	%
Percentage of total revenues		32	%		33	%		35	%
Reagent discs and kits		41,606,000			32,921,000			28,144,000			8,685,000		26	%		4,777,000		17	%
Percentage of total revenues		60	%		62	%		60	%
Other		4,086,000			2,340,000			2,261,000			1,746,000		75	%		79,000		3	%
Percentage of total revenues		6	%		4	%		5	%

Product sales, net		67,556,000			52,464,000			46,599,000			15,092,000		29	%		5,865,000		13	%
Percentage of total revenues		98	%		99	%		100	%
Development and licensing revenue		1,372,000			294,000			275,000			1,078,000		367	%		19,000		7	%
Percentage of total revenues		2	%		1	%		<1	%

Total revenues	$	68,928,000		$	52,758,000		$	46,874,000		$	16,170,000		31	%	$	5,884,000		13	%

Fiscal 2006 Compared with Fiscal 2005

Instruments. In fiscal 2006, total revenues from instrument sales increased 27% or $4,661,000, as compared to fiscal 2005. Of that increase, total VetScan systems sales increased 28% or $2,216,000 with increases in sales of 25% or $1,458,000 in the United States, increases of 34% or $542,000 in Europe and increases of 77% or $216,000 in Asia and Latin America. The increase in the United States market was primarily due to a marketing promotion in the first and third quarters of fiscal 2006 and an increase in sales personnel in the United States to promote our products. The increase in the Europe market was primarily due to an increase in sales to distributors, resulting from an increasing awareness of Abaxis product. The increase in Asia and Latin America was primarily due to an increase in sales to our distribution partner in Japan who received clearance in fiscal 2006 from the Japanese regulatory agency to import and market the Piccolo and VetScan DXS systems.

In fiscal 2006, net Piccolo systems sales increased 37% or $1,311,000, as compared to fiscal 2005. Piccolo systems sold in the United States market (excluding the U.S. Military) increased 139% or $2,012,000, primarily due to sales from two national distributors in fiscal 2006, whereas in fiscal 2005, the sales resulted from selling directly to customers. In the third quarter of fiscal 2006, we entered into a formal distribution agreement with PSS World Medical, Inc. to sell and market Piccolo systems and the medical reagent discs. The net increase in Piccolo systems sold was offset by a decrease of Piccolo systems sold to the U.S. Military of 36% or $526,000, which was due to a decrease in the U.S. Military’s needs for our products. Additionally, Piccolo systems sold in Europe decreased 37% or $204,000 due to slow sales in the medical market.

Reagent Discs and Kits. In fiscal 2006, overall revenues from medical and veterinary reagent discs and veterinary hematology reagent kits increased 26% or $8,685,000, as compared to fiscal 2005. Total reagent discs increased 30% or $9,106,000 primarily due to the expanded installed base of our instruments, offset by a decrease of 14% or $421,000 of veterinary hematology reagent kits due to a decrease in the installed base of our VetScan HMTs.

Other. In fiscal 2006, total revenues from other products increased 75% or $1,746,000, as compared to fiscal 2005. The increase in other products in fiscal 2006 was due to an increase in revenue from our supply contract with Becton, Dickinson and Company for products using the Orbos® Discrete Lyophilization Process, which is based on seasonal demands. Also, the increase in revenue was due to maintenance contracts offered to customers from time to time as part of incentives in the form of free goods in connection with the sale of our products.

Development and Licensing Revenue. In fiscal 2006, total revenues from development and licensing increased 367% or $1,078,000, as compared to fiscal 2005, primarily due to the agreements entered to license a portion of our patent portfolio covering lyophilization technology to bioMerieux and Cepheid in fiscal 2006.

Fiscal 2005 Compared with Fiscal 2004

In fiscal 2005, total revenues increased 13% or $5,884,000, as compared to fiscal 2004. The growth in revenue was due to an increase in instrument sales of 6% or $1,009,000 from fiscal 2004 to fiscal 2005 and an increase in sales of our reagent discs and kits of 17% or $4,777,000 from fiscal 2004 to fiscal 2005. The increase in revenue from instrument sales in fiscal 2005 was primarily in the veterinary market due to higher sales productivity per sales personnel in the United States. The increase in revenue from reagent discs and kits in fiscal 2005 was due to the expanded installed base of our instruments. Product sales in fiscal 2005 were negatively affected by the termination of our relationship with Vedco, Inc. in December 2004. Vedco, Inc., a warehousing cooperative for member distributors who sold Abaxis products to their respective customers, accounted for 14% of total revenues in fiscal 2005, compared to 27% of total revenues in fiscal 2004. The decrease in revenue from Vedco was offset by an increase in revenue from other U.S. based regional and national distributors such as American Veterinary Supply Corp., DVM Resources, Henry Schein, Merritt Veterinary Supply and Miller Veterinary Supply.

Revenues by Customer Group - Revenues by customer group for fiscal 2006, 2005 and 2004 were summarized as follows:

	Year Ended March 31,									Change 2005 to 2006					Change 2004 to 2005

										Increase/ (Decrease)		% Change			Increase/ (Decrease)			% Change
	2006			2005			2004			Increase/ (Decrease)		% Change			Increase/ (Decrease)			% Change

Medical Market	$	10,888,000		$	8,095,000		$	7,119,000		$	2,793,000		35	%	$	976,000			14	%
Percentage of total revenues		16	%		15	%		15	%
Veterinary Market		53,841,000			42,806,000			37,875,000			11,035,000		26	%		4,931,000			13	%
Percentage of total revenues		78	%		81	%		81	%
Other		4,199,000			1,857,000			1,880,000			2,342,000		126	%		(23,000	)		(1	)%
Percentage of total revenues		6	%		4	%		4	%

Total revenues	$	68,928,000		$	52,758,000		$	46,874,000		$	16,170,000		31	%	$	5,884,000			13	%

Fiscal 2006 Compared with Fiscal 2005

Medical Market Results. In fiscal 2006, revenues from the medical market increased 35% or $2,793,000, as compared to fiscal 2005. We sold a total of 391 Piccolo systems during fiscal 2006, as compared to 293 Piccolo systems sold during fiscal 2005. Revenues from Piccolo systems sales increased 37% or $1,311,000 due to an increase of Piccolo systems sold in the United States market (excluding the U.S. Military) of 139% or $2,012,000 offset by a decrease of Piccolo systems sold to the U.S. Military of 36% or $526,000. The increase in the United States market (excluding the U.S. Military) was primarily due to sales from two national distributors in fiscal 2006, whereas in fiscal 2005, the sales resulted from selling directly to customers. In the third quarter of fiscal 2006, we entered into a formal distribution agreement with PSS World Medical, Inc. to sell and market Piccolo systems and the medical reagent discs. The decrease in Piccolo systems sold to the U.S. Military was due to a decrease in the U.S. Military’s needs for our products. Piccolo systems sold in Europe decreased 37% or $204,000 due to slow sales in the medical market.

Revenues from reagent discs sold in the medical market increased 30% or $1,294,000, as we sold 575,000 reagent discs during fiscal 2006, as compared to 404,000 reagent discs sold during fiscal 2005. The net increase in revenue from reagent discs was primarily attributed to an increase in sales of 89% or $1,532,000 in the United States market (excluding the U.S. Military) due to the expanded installed base of our Piccolo systems. The net increase in reagent discs was offset by a decrease of reagent discs sold to the U.S. Military of 13% or $288,000 due to a decrease in the U.S. Military’s needs for our products.

Veterinary Market Results. In fiscal 2006, revenues from the veterinary market increased 26% or $11,035,000, as compared to fiscal 2005. We sold a total of 2,131 VetScan and hematology systems in fiscal 2006, as compared to 1,681 instruments sold in fiscal 2005. Sales of VetScan and hematology systems in the United States increased 17% or $1,937,000 due to marketing promotions during the first and third quarters of fiscal 2006 and an increase in sales personnel in the United States to promote our products. VetScan and hematology systems sold also increased in Asia and Latin America by 146% or $706,000, primarily due to increased sales to one distributor in Japan. In September 2005, our distribution partner in Japan received clearance from the Japanese regulatory agency to import and market our complete line of medical reagent discs, the Piccolo system, as well as all veterinary reagent discs, the VetScan DXS system, with the exception of those products containing the Bile Acid assay. VetScan and hematology systems sold increased in Europe by 40% or $707,000 due to an increase in sales to distributors, resulting from an increasing awareness of Abaxis products.

In fiscal 2006, revenues from reagent discs and kits sold in the veterinary market increased 26% or $7,391,000, as compared to fiscal 2005. We sold 2,819,000 reagent discs during fiscal 2006, as compared to 2,253,000 reagent discs sold during fiscal 2005. The unit increase of reagent discs was due to a higher consumption rate of users and to the expanded installed base of our instruments. Also, we sold 12,000 hematology reagent kits during fiscal 2006, as compared to 14,000 hematology reagent kits sold during fiscal 2005. The unit decrease of hematology reagent kits was due to a decrease in the installed base of our VetScan HMTs.

Other. In fiscal 2006, total revenues from other products increased 126% or $2,342,000, as compared to fiscal 2005. The increase in other products in fiscal 2006 was due to (i) an increase in revenue from our supply contract with Becton, Dickinson and Company for products using the Orbos® Discrete Lyophilization Process, which is based on seasonal demands; (ii) an increase in revenue from the maintenance contracts offered to customers from time to time as part of incentives in the form of free goods in connection with the sale of our products; and (iii) an increase in development and licensing revenue. Development and licensing increased 367% or $1,078,000, as compared to fiscal 2005, primarily due to the agreements entered to license a portion of our patent portfolio covering lyophilization technology to bioMerieux and Cepheid in fiscal 2006.

Fiscal 2005 Compared with Fiscal 2004

Medical Market Results. In fiscal 2005, revenues from the medical market increased 14% or $976,000, as compared to fiscal 2004. We sold a total of 293 Piccolo systems in fiscal 2005, a 19% decrease from the 363 Piccolo systems sold in fiscal 2004. Revenues from the sale of our Piccolo systems decreased 19% or $848,000 from fiscal 2004 to fiscal 2005 primarily due to a decrease in sales of our Piccolo systems to the U.S. Military of 25% or $471,000 and a decrease in sales of our Piccolo systems in the United States market (excluding the U.S. Military) of 24% or $448,000. In Asia and Latin America, revenues from the sale of our Piccolo systems decreased 80% or $203,000 from fiscal 2004 to fiscal 2005 due to an unexpectedly long process by the Japanese regulators to approve the chemistries offered by Abaxis in Japan, which limited the sales of Abaxis products in the respective country. In fiscal 2004, purchases of our Piccolo system by a distributor in Japan were related to initial inventory stocking. In Europe, revenues from the sale of our Piccolo systems increased 98% or $274,000 from fiscal 2004 to fiscal 2005 primarily due to the increasing awareness of our medical instruments.

Revenues from the sale of our reagent discs in the medical market increased 74% or $1,821,000 from fiscal 2004 to fiscal 2005, as we sold 404,000 reagent discs in fiscal 2005, compared to 218,000 reagent discs sold in fiscal 2004. The increase in revenue from reagent discs was attributed to an increase in unit sales of reagent discs sold to the U.S. Military (total increase in absolute dollars of 75% or $921,000) and also to the continued expanded installed base of our Piccolo systems in the United States market.

Veterinary Market Results. In fiscal 2005, revenues from the veterinary market increased 13% or $4,931,000, as compared to fiscal 2005. We sold a total of 1,681 VetScan and hematology systems in fiscal 2005, an 11% increase from the 1,514 instruments sold in fiscal 2004. Revenues from the sale of our VetScan and hematology systems increased 16% or $1,857,000, mainly from higher sales productivity per sales personnel in the United States.

Revenues from the sale of our reagent discs and kits increased 12% or $2,956,000 from fiscal 2004 to fiscal 2005. We sold 2,253,000 reagent discs in fiscal 2005, compared to 2,102,000 reagent discs sold in fiscal 2004 and we sold 14,000 hematology reagent kits in fiscal 2005, compared to 11,000 hematology reagent kits sold in fiscal 2004. Overall unit sales of reagent discs and kits sold during fiscal 2005 increased due to a higher consumption rate of users and to the expanded installed base of our instruments. In December 2004, we terminated our relationship with Vedco, Inc. as part of the realignment of our distribution channel. During the third and fourth quarters of fiscal 2005, we worked with other U.S. based regional and national distributors, which included American Veterinary Supply Corp., DVM Resources, Henry Schein, IVESCO, Merritt Veterinary Supply and Miller Veterinary Supply, TW Medical Supply and Western Medical Supply, to expand their sales and services to support the customers served by other Vedco distributors.

Revenues by Geographical Location - Revenues by geographic region based on customer location for fiscal 2006, 2005 and 2004 were as follows:

	Year Ended March 31,									Change 2005 to 2006					Change 2004 to 2005

										Increase/ (Decrease)		% Change			Increase/ (Decrease)			% Change
	2006			2005			2004			Increase/ (Decrease)		% Change			Increase/ (Decrease)			% Change

United States	$	58,747,000		$	45,059,000		$	40,232,000		$	13,688,000		30	%	$	4,827,000			12	%
Percentage of total revenues		85	%		86	%		86	%
Europe		7,354,000			5,915,000			4,773,000			1,439,000		24	%		1,142,000			24	%
Percentage of total revenues		11	%		11	%		10	%
Asia and Latin America		2,827,000			1,784,000			1,869,000			1,043,000		58	%		(85,000	)		(5	)%
Percentage of total revenues		4	%		3	%		4	%

Total revenues	$	68,928,000		$	52,758,000		$	46,874,000		$	16,170,000		31	%		5,884,000			13	%

Fiscal 2006 Compared with Fiscal 2005

United States. In fiscal 2006, total revenues in the United States increased 30% or $13,688,000, as compared to fiscal 2005. From fiscal 2005 to fiscal 2006, instrument sales in the United States increased 24% or $3,423,000. Sales of our Piccolo systems in the United States market (excluding the U.S. Military) increased 139% or $2,012,000 while sales of our Piccolo systems to the U.S. Military decreased 36% or $526,000. Sales of our VetScan systems increased 25% or $1,458,000 and sales of our hematology systems increased 9% or $479,000 due to marketing promotions in the first and third quarters of fiscal 2006 and an increase in sales personnel in the United States to promote our products.

From fiscal 2005 to fiscal 2006, veterinary reagent discs sales increased 31% or $6,597,000 due to both a higher consumption rate of institutional users and to the expanded installed base of our VetScan systems. Hematology reagent kits decreased 15% or $411,000 due to a decrease in the installed base of our VetScan HMTs. Medical reagent discs sales in the United States market (excluding the U.S. Military) increased 89% or $1,532,000 due to the expanded installed base of our Piccolo systems. The net increase in medical reagent discs was offset by a decrease of 13% or $288,000 in medical reagent discs sold to the U.S. Military due to a decrease in the U.S. Military’s needs for our products.

In fiscal 2006, total revenues from other products increased 77% or $1,757,000, as compared to fiscal 2005. The increase in other products was primarily attributed to (i) an increase in revenue from our supply contract with Becton, Dickinson and Company, which is based on seasonal demands and (ii) an increase in revenue from the maintenance contracts offered to customers from time to time as part of incentives in the form of free goods in connection with the sale of our products.

In fiscal 2006, revenues from development and licensing increased 367% or $1,078,000, as compared to fiscal 2005, primarily due to the agreements entered to license a portion of our patent portfolio covering lyophilization technology to bioMerieux and Cepheid in fiscal 2006.

Two distributors, Henry Schein, Inc. and DVM Resources, accounted for 17% and 13% of total worldwide revenues for fiscal 2006. Two distributors, DVM Resources and Vedco, Inc. accounted for 17% and 14%, respectively, of total worldwide revenues for fiscal 2005. We had a distribution partnership with the veterinary division of Henry Schein, Inc. from April 2004 through May 2006. In May 2006, both Abaxis and Henry Schein determined that it was in the best interest of both companies to discontinue the distribution agreement due to Henry Schein’s acquisition of a regional distributor of a competing company in the veterinary market. To support those customers who were previously supplied products by Henry Schein, we plan to have our current distributors supply and service these sites, or depending on the customer’s needs and geographical location, we will support and service these customers on a direct basis as well.

Europe. In fiscal 2006, total revenues in Europe increased 24% or $1,439,000, as compared to fiscal 2005. Total revenues from instrument sales increased 22% or $503,000. VetScan and hematology systems increased 40% or $707,000, resulting from an increasing awareness of Abaxis products, offset by a decrease of 37% or $204,000 of Piccolo systems due to slow sales in the medical market. Revenues from reagent discs and hematology reagent kits sold increased 26% or $937,000 due to the expanded installed base of our instruments in the veterinary market.

Asia and Latin America. In fiscal 2006, total revenues in Asia and Latin America increased 58% or $1,043,000, as compared to fiscal 2005. Total revenues from instrument sales increased 137% or $735,000, primarily in the veterinary market due to an increase of VetScan and hematology systems sold to our distribution partner in Japan. In September 2005, the distribution partner in Japan received clearance from the Japanese regulatory agency to import and market our complete line of medical reagent discs, the Piccolo system, as well as all veterinary reagent discs, the VetScan DXS system, with the exception of those products containing the Bile Acid assay.

Fiscal 2005 Compared with Fiscal 2004

United States. In fiscal 2005, total revenues in the United States increased 12% or $4,827,000, as compared to fiscal 2004. The total increase was attributed to an increase in revenue from instrument sales of 8% or $1,076,000. Revenues from the sale of our VetScan and hematology systems increased 21% or $1,995,000 due to higher sales productivity of our VetScan and hematology systems per sales personnel in the United States. The net increase in revenue from instrument sales was offset by a decrease of 24% or $919,000 of revenue from the sales of our Piccolo systems, of which sales to the U.S. Military decreased by 25% or $471,000. Revenues from the sale of our reagent discs and hematology reagent kits increased 15% or $3,664,000 primarily due to the expanded installed base of our instruments. In December 2004, we terminated our relationship with Vedco, Inc. as part of the realignment of our distribution channel. During the third and fourth quarters of fiscal 2005, we worked with other U.S. based regional and national distributors, which included American Veterinary Supply Corp., DVM Resources, Henry Schein, IVESCO, Merritt Veterinary Supply and Miller Veterinary Supply, TW Medical Supply and Western Medical Supply, to expand their sales and services to support the customers served by other Vedco distributors.

Europe. In fiscal 2005, total revenues in Europe increased 24% or $1,142,000, as compared to fiscal 2004. Revenues from the sale of our Piccolo systems increased 98% or $274,000 due to the increasing awareness of our medical instruments. Revenues from the sales of our reagent discs and hematology reagent kits increased 34% or $909,000 due to the expanded installed base of our instruments in both the medical and veterinary markets.

Asia and Latin America. In fiscal 2005, total revenues in Asia and Latin America decreased 5% or $85,000, as compared to fiscal 2004. Total revenues from the sale of our instruments decreased 35% or $291,000 mainly due to an unexpectedly long process by the Japanese regulators to approve the chemistries offered by Abaxis in Japan, which limited the sales of Abaxis products in the respective country. In fiscal 2004, purchases of our Piccolo system by a distributor in Japan were related to initial inventory stocking. Revenues from the sale of our reagent discs and hematology reagent kits increased 20% or $204,000 due to a higher consumption rate of institutional users in the veterinary market.

Cost of Product Sales

	Year Ended March 31,									Change 2005 to 2006					Change 2004 to 2005

	2006			2005			2004			Increase/ (Decrease)		% Change			Increase/ (Decrease)		% Change

Cost of product sales	$	30,075,000		$	24,811,000		$	22,966,000		$	5,264,000		21	%	$	1,845,000		8	%
Percentage of total revenues		44	%		47	%		49	%

Cost of product sales includes the costs associated with manufacturing, assembly, package, warranty repairs, test and quality assurance for our instruments, reagent discs and hematology reagents and manufacturing overhead, including costs of personnel and equipment associated with manufacturing support.

Fiscal 2006 Compared with Fiscal 2005

The increase in cost of product sales in absolute dollars in fiscal 2006 from fiscal 2005 was due to an increase in the sales volume of instruments and reagent discs. As a percentage of total revenues, cost of product sales decreased in fiscal 2006 compared to fiscal 2005, due to (i) the lower unit costs of hematology reagents and the lower unit costs of manufacturing reagent discs from improved manufacturing processes and absorption of fixed costs of our facilities; (ii) an increase in revenue from our supply contract with Becton, Dickinson and Company for products using the Orbos® Discrete Lyophilization Process; and (iii) an increase in development and licensing revenue.

Fiscal 2005 Compared with Fiscal 2004

The increase in cost of product sales in absolute dollars from fiscal 2004 to fiscal 2005 was primarily attributed to the increase in instrument sales of 6% or $1,009,000 and to the increase in sales of reagent discs and kits of 17% or $4,777,000. The decrease in cost of product sales as a percentage of revenue from fiscal 2004 to fiscal 2005 was due to the lower unit costs of hematology reagents and the lower unit costs of manufacturing reagent discs resulting from improved manufacturing processes and absorption of fixed costs of our facility.

Selling, General and Administrative Expense

	Year Ended March 31,									Change 2005 to 2006					Change 2004 to 2005

	2006			2005			2004			Increase/ (Decrease)		% Change			Increase/ (Decrease)		% Change

Selling, general and administrative	$	21,994,000		$	15,701,000		$	14,431,000		$	6,293,000		40	%	$	1,270,000		9	%
Percentage of total revenues		32	%		30	%		31	%