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TABLE OF CONTENTS

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

FORM 10-Q

COMMISSION FILE NUMBER 001-16789

INVERNESS MEDICAL INNOVATIONS, INC.
(Exact Name Of Registrant As Specified In Its Charter)

51 SAWYER ROAD, SUITE 200
WALTHAM, MASSACHUSETTS 02453
(Address of principal executive offices)

(781) 647-3900
(Registrant's Telephone Number, Including Area Code)

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

Yes ý    No o

        The number of shares outstanding of the registrant's common stock as of November 8, 2002 was 14,886,413.

INVERNESS MEDICAL INNOVATIONS, INC.

FORM 10-Q

For the Quarterly Period Ended September 30, 2002

        This quarterly report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Readers can identify these statements by forward-looking words such as "may," "could," "should," "would," "intend," "will," "expect," "anticipate," "believe," "estimate," "continue" or similar words. There are a number of important factors that could cause actual results of Inverness Medical Innovations, Inc. and its subsidiaries to differ materially from those indicated by such forward-looking statements. These factors include, but are not limited to, the risk factors detailed in this quarterly report on Form 10-Q and other risk factors identified from time to time in our periodic filings with the Securities and Exchange Commission. Readers should carefully review the factors discussed in the section entitled "Management's Discussion and Analysis of Financial Condition and Results of Operations—Certain Factors Affecting Future Results" and "Special Statement Regarding Forward-Looking Statements" beginning on pages 36 and 51, respectively, in this quarterly report on Form 10-Q and should not place undue reliance on our forward-looking statements. These forward-looking statements are based on information, plans and estimates at the date of this report. We undertake no obligation to update any forward-looking statements to reflect changes in underlying assumptions or factors, new information, future events or other changes.

        Unless the context requires otherwise, references in this quarterly report on Form 10-Q to "we," "us," and "our" refer to Inverness Medical Innovations, Inc. and its subsidiaries.

TABLE OF CONTENTS

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PART I—FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

INVERNESS MEDICAL INNOVATIONS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(unaudited)

*

The charge for stock-based compensation for the nine months ended September 30, 2002 was part of general and administrative expenses. There were no charges for stock-based compensation for the three months ended September 30, 2002 and the three and nine months ended September 30, 2001.

The accompanying notes are an integral part of these consolidated financial statements.

3

INVERNESS MEDICAL INNOVATIONS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(unaudited)

The accompanying notes are an integral part of these consolidated financial statements.

4

INVERNESS MEDICAL INNOVATIONS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

The accompanying notes are an integral part of these consolidated financial statements.

5

The accompanying notes are an integral part of these consolidated financial statements.

6

INVERNESS MEDICAL INNOVATIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

(1)  Basis of Presentation of Financial Information

        The accompanying consolidated financial statements of Inverness Medical Innovations, Inc. and its subsidiaries (the "Company" or "Innovations") are unaudited. In the opinion of management, the unaudited consolidated financial statements contain all adjustments considered normal and recurring and necessary for their fair presentation. Interim results are not necessarily indicative of results to be expected for the year. These interim financial statements have been prepared in accordance with the instructions for Form 10-Q and therefore do not include all information and footnotes necessary for a complete presentation of operations, financial position, and cash flows of the Company in conformity with accounting principles generally accepted in the United States. The Company filed audited consolidated financial statements for the year ended December 31, 2001, which included information and footnotes necessary for such presentation and were included in its Annual Report on Form 10-K, as amended, filed with the Securities and Exchange Commission on April 2, 2002. These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended December 31, 2001.

        On November 21, 2001, pursuant to an Agreement and Plan of Split-Off and Merger dated May 23, 2001 (the "Merger Agreement"), Johnson & Johnson acquired Inverness Medical Technology, Inc. ("IMT") in a merger transaction and, simultaneously, Innovations, then a subsidiary of IMT, was split-off from IMT as a separate publicly traded company. Pursuant to the terms of the Merger Agreement and related agreements, immediately prior to the consummation of the transaction, IMT restructured its operations so that all of IMT's non-diabetes businesses (women's health, nutritional supplements and clinical diagnostics) were held by Innovations and Innovations' subsidiaries. At the closing of the transaction, all of the shares of Innovations common stock held by IMT were split-off from IMT in a pro rata distribution to IMT stockholders and IMT (which then consisted primarily of its diabetes care business) merged with and became a wholly-owned subsidiary of Johnson & Johnson.

        Innovations was incorporated on May 11, 2001 for the purpose of receiving IMT's contribution of its women's health, nutritional supplements and clinical diagnostics businesses in connection with the transactions described in the Merger Agreement and related agreements. Innovations' historical consolidated financial statements include IMT subsidiaries and businesses that were contributed to Innovations as if such subsidiaries and businesses were historically organized in a manner consistent with the restructuring set forth in the Merger Agreement and related agreements. The primary subsidiaries and businesses that were contributed to Innovations by IMT are as follows:

•

Inverness Medical, Inc. ("IMI"), a U.S. corporation, and its wholly-owned subsidiary, Can-Am Care Corporation ("Can-Am"), a U.S. corporation



•

Cambridge Diagnostics Ireland Ltd. ("CDIL"), an Irish corporation



•

Orgenics, Ltd. ("Orgenics"), an Israeli corporation



•

The women's health business of Inverness Medical Europe GmbH ("IME"), a German corporation



•

Inverness Medical Benelux Bvba ("IMB"), a Belgian corporation



•

The women's health assets held by IMT, plus allocations to Innovations of IMT common expenditures

7

        Innovations has consolidated the financial statements of the above individual legal entities and the newly acquired entities and businesses, as discussed below, along with the assets, liabilities, revenues and expenses of the businesses. For the period prior to the split-off and merger, the financial statements were combined in a manner consistent with the consolidated financial statements. All material intercompany transactions and balances have been eliminated.

        Pursuant to the Merger Agreement and related agreements, on November 21, 2001, immediately prior to the split-off and merger, Innovations transferred to IMT those entities or businesses that conduct business in the diabetes segment, principally the Can-Am subsidiary of IMI and the diabetes businesses of CDIL and IMB. As a result, Innovations has presented the historical diabetes operations of its subsidiaries as discontinued operations in the accompanying consolidated statements of operations and cash flows for all 2001 periods presented under Accounting Principles Board ("APB") Opinion No. 30, Reporting the Results of Operations—Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions.

        At the closing of the transactions set forth in the Merger Agreement and related agreements, IMT distributed to its stockholders one Innovations share for every five IMT shares held. In order for IMT to do so, Innovations declared a stock split, effected as a dividend. Accordingly, earnings per share information for the three and nine months ended September 30, 2001 represents the actual number of shares of Innovations common stock outstanding as of the date of its incorporation, effected for the fixed exchange ratio set forth in the Merger Agreement and related agreements and the related stock split (Note 10).

        Innovations' consolidated statements of operations and cash flows for all 2001 periods presented also reflect the allocation of IMT's common expenditures. Such allocations have been made in accordance with Staff Accounting Bulletin ("SAB") No. 55, Allocation of Expenses and Related Disclosure in Financial Statements of Subsidiaries, Divisions or Lesser Business Components of Another Entity.

        The accompanying consolidated statements of operations and cash flows for all 2001 periods presented reflect substantially all costs of doing business, including those incurred by IMT on Innovations' behalf. Costs that are clearly identifiable as being applicable to an Innovations subsidiary or business have been allocated to Innovations. The most significant costs included in this category include salary and benefits of certain employees and legal and other professional fees. Costs of centralized departments and corporate operations that serve all operations have been allocated, where such allocations would be material, using relevant allocation measures, such as estimated percentage of time worked for salary and benefits of certain executives and employees and square feet occupied for occupancy costs in shared facilities. Corporate costs that clearly relate to businesses or subsidiaries that were retained by IMT or that do not provide any significant direct or indirect benefit to Innovations have not been allocated to Innovations. For the period prior to the split-off and merger, Innovations accounted for income taxes using the separate return method, pursuant to Statement of Financial Accounting Standard ("SFAS") No. 109, Accounting for Income Taxes. IMT has historically charged interest on loans made to its subsidiaries. Accordingly, Innovations' consolidated statement of operations for the three and nine months ended September 30, 2001 reflect interest expense on amounts due to entities not included in Innovations' consolidated financial statements (primarily to IMT). Interest expense for the three and nine months ended September 30, 2001 also reflects amounts recorded on third-party notes payable when such notes relate specifically to Innovations' operations. Interest expense for the three and nine months ended September 30, 2001 does not include amounts recorded on general corporate borrowings of IMT. Innovations believes that the allocation methods described herein are reasonable and fairly reflect its financial position and results of operations for the period prior to the split-off and merger.

8

        Since the split-off and merger, as described above, on September 20, 2002, the Company acquired the Wampole Division of MedPointe Inc. ("Wampole"), on March 19, 2002, the Company acquired IVC Industries, Inc. ("IVC") and on December 20, 2001, the Company acquired certain entities and businesses of Unilever Plc (the "Unipath business") (Note 5). Wampole develops and distributes point-of-care medical diagnostics products, IVC manufactures and distributes vitamins and nutritional supplements and the Unipath business manufactures and distributes women's health and clinical diagnostics products. The results of Wampole, IVC and the Unipath business are included in the consolidated financial statements of the Company since their respective acquisition dates. The Unipath business is comprised of the following entities and businesses:

•

Unipath Ltd. ("Unipath UK"), a British corporation, and its wholly-owned subsidiary, Unipath Management Ltd. ("UML"), also a British corporation



•

The women's health business of Unipath conducted in the United States ("Unipath US")



•

Unipath Diagnostics GmbH ("Unipath Germany"), a German corporation



•

Unipath Scandinavia AB ("Unipath Scandinavia"), a Swedish corporation



•

Unipath B.V. ("Unipath Netherlands"), a Dutch corporation



•

Unipath assets, primarily intellectual property, held by Unilever Plc, along with the related license revenue

        Certain prior-year account balances have been reclassified to be consistent with the current year's presentation.

(2)  Cash and Cash Equivalents

        The Company considers all highly liquid cash investments with maturities of three months or less at the date of acquisition to be cash equivalents. At September 30, 2002, the Company's cash equivalents consisted of money market funds.

(3)  Inventories

        Inventories are stated at the lower of cost (first in, first out) or market and are comprised of the following:

(4)  Nonrecurring and Noncash Items

        For the three months ended September 30, 2002, the Company recorded noncash interest expense of $42,765 representing the amortization of original issue discount related to a common stock warrant issued in connection with certain debt and a noncash charge of $1,268,927 to mark to market an interest rate swap agreement (Note 12). For the nine months ended September 30, 2002, the Company recorded the following nonrecurring or noncash items: (a) noncash interest expense of $2,802,021 representing the amortization of original issue discount and beneficial conversion feature primarily related to certain of the Company's subordinated promissory notes, (b) a total noncash asset impairment charge of $24,829,786, of which $12,148,205 was recorded as a cumulative effect of a change in accounting principle in the accompanying consolidated statements of operations, representing

9

the value of the impaired goodwill and trademarks relating to certain of the Company's nutritional supplement business (Note 6), (c) noncash stock-based compensation of $10,169,105 (Note 7), (d) an extraordinary gain of $8,505,989 related to the early retirement of certain subordinated promissory notes and the related repurchase of the beneficial conversion feature associated with these subordinated promissory notes (Note 8(c)), (e) a noncash charge of $1,268,927 to mark to market an interest rate swap agreement (Note 12), and (f) a nonrecurring legal settlement of $217,550.

        For the three and nine months ended September 30, 2001, the Company recorded income from discontinued operations of $441,121 and $603,064, respectively, which represented the results of operations of the diabetes related businesses of the entities that were contributed to the Company as part of the split-off from IMT on November 21, 2001. These diabetes related businesses were simultaneously transferred back to IMT on November 21, 2001 (Note 1).

(5)  Business Combinations

(a)

Acquisition of Wampole

        On September 20, 2002, the Company acquired Wampole, a developer and distributor of clinical diagnostics and point-of-care medical diagnostics products primarily in the United States. This acquisition allows the Company to expand its business in the "point-of-care" market in the United States and provides the Company with certain intellectual property. The aggregate purchase price of Wampole was estimated to be $71,500,000, which consisted of $70,000,000 in cash and $1,500,000 in estimated direct acquisition costs. The acquisition was funded by $35,000,000 in subordinated debt (Note 8(a) and (b)) and a portion of the Company's existing cash. The aggregate purchase price for Wampole was preliminarily allocated to the acquired net assets as follows:

        The above allocation of the aggregate purchase price for Wampole to the acquired intangible assets is based upon a preliminary independent appraisal. The results of the final independent appraisal along with changes in estimated direct acquisition costs could impact the aggregate purchase price and its allocation to net assets acquired.

        The acquisition of Wampole is accounted for as a purchase under SFAS No. 141, Business Combinations. Accordingly, the results of Wampole have been included in the accompanying consolidated statements of operations since the date of the acquisition as part of the Company's clinical diagnostics business segment. The Company has assigned indefinite lives to the acquired goodwill and trade name and the value of such goodwill will be fully deductible for tax purposes over 15 years. The values allocated to the acquired patent and supplier relationships are being amortized on a straight-line basis over their estimated useful lives of 13 and 10 years, respectively. The weighted average amortization period for the acquired intangible assets with finite lives is estimated to be 10.5 years.

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(b)

Acquisition of IVC

        On March 19, 2002, the Company acquired IVC, a manufacturer and distributor of vitamins and other nutritional supplements. The Company is in the process of consolidating its vitamin and nutritional supplement manufacturing at IVC and discontinuing most of its outsourced manufacturing arrangements. The aggregate purchase price of IVC was estimated to be $27,207,899, which consisted of $5,619,493 in cash representing $2.50 for each outstanding share of IVC's common stock, fully-vested stock options to purchase an aggregate of 115,744 shares of the Company's common stock, which options had an aggregate fair value of $1,298,674, $1,511,501 in estimated costs to exit certain activities of IVC, primarily severance costs of involuntarily terminated employees in accordance with Emerging Issues Task Force ("EITF") Issue No. 95-3, Recognition of Liabilities in Connection with a Purchase Business Combination, $17,359,035 in assumed debt and $1,419,196 in estimated direct acquisition costs. Of the $1,511,501 estimated severance costs, $390,573 have been paid through September 30, 2002. As of September 30, 2002, the Company has not yet finalized the IVC restructuring plan and certain cost centers remain to be reviewed for restructuring. Upon finalizing such restructuring plan, the Company expects to adjust the aggregate purchase price. The acquisition was funded by the Company's existing cash. The aggregate purchase price for IVC was allocated to the acquired assets and assumed liabilities as follows:

        The above allocation of the aggregate purchase price for IVC is preliminary. Factors that could impact the aggregate purchase price and its related allocation include changes in estimated costs associated with exit plans and estimated direct acquisition costs.

        The acquisition of IVC is accounted for as a purchase under SFAS No. 141 and therefore, the results of IVC have been included in the accompanying consolidated statements of operations since the date of the acquisition. The acquired assets and assumed liabilities of IVC were assigned to the Company's nutritional supplements business reporting unit, which is included in its consumer products business segment.

(c)

Acquisition of the Unipath Business

        On December 20, 2001, the Company acquired the Unipath business (Note 1). As a result of this business combination, the Company reorganized the operations of the Unipath businesses for purposes of improving efficiencies and achieving economies of scale on a company-wide basis. Such reorganization affected all major cost centers at Unipath UK. Additionally, most business activities of Unipath US were merged into the Company's existing U.S. businesses. As of September 30, 2002, the total number of involuntarily terminated employees was 67 of which 2 remain to be terminated. The Company accounted for such reorganization in accordance with EITF Issue No. 95-3. The total estimated amount of restructuring costs of the Unipath business, which consisted primarily of severance costs, was included as part of the Unipath purchase price. As of September 30, 2002, total estimated restructuring costs, including related unfunded pension liability, amounted to $6,703,215, of which $2,654,324 has been paid and $4,048,891 remained in accrued expenses and other liabilities. During the three and nine months ended September 30, 2002, the Company accrued additional severance and related costs of $379,630 and $1,729,167, respectively, as it continued to finalize the restructuring plan. Such additions to accrued severance costs were recorded as adjustments to the Unipath purchase price.

11

As of September 30, 2002, the Company has not yet finalized the Unipath restructuring plan although only a small number of cost centers remain to be reviewed for restructuring. The Company expects to incur additional immaterial amounts of severance upon finalizing the restructuring plan, which will result in adjustments to the Unipath purchase price.

(d)

Pro Forma Interim Financial Information

        The following table presents selected unaudited interim financial information of the Company, including Wampole, IVC and the Unipath business as if the acquisitions had occurred on January 1, 2001. These unaudited pro forma results exclude a charge of $6,980,221 to operations representing the portion of the purchase price allocated to the fair value of certain in-process research and development projects related to the acquisition of the Unipath business. The unaudited pro forma interim results are not necessarily indicative of future results or the results that would have occurred had the acquisitions been consummated on January 1, 2001.

(e)

Pending Merger with Ostex International, Inc.

        On September 6, 2002, the Company entered into an agreement and plan of merger with Ostex International, Inc. ("Ostex"). Ostex develops and commercializes osteoporosis testing products. At the effective time of the merger, each outstanding share of Ostex common stock will be converted into the right to receive a number of shares of the Company's common stock equal to a conversion ratio that will be calculated by dividing 2,300,000 by the sum of (i) the total number of shares of Ostex common stock outstanding immediately prior to the effective time of the merger and (ii) the total number of shares of Ostex common stock subject to outstanding stock options and warrants that the Company will

12

assume in the merger. The transaction is subject to approval by Ostex shareholders, receipt of certain third-party consents and other customary closing conditions. In connection with the merger, the Company has also agreed to loan, or arrange for one of its affiliates to loan, up to $2,000,000 to Ostex. As of November 13, 2002, the Company had made two loans to Ostex for $334,000 and $433,000 at per annum interest rates of 6.2725% and 6.0400%, respectively. These loans will mature on September 30, 2003 at the latest. The Company expects this merger to provide leading-edge intellectual property rights in the field of osteoporosis testing, synergies through Ostex' existing and in-process intellectual property and the elimination of redundancies, the ability to increase sales of Ostex' existing products through the use of the Company's marketing and distribution channels, and the opportunity for significant cost savings.

(6)  Asset Impairment

        On January 1, 2002, the Company adopted SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 142 addresses changes in the financial accounting and reporting for acquired goodwill and other intangible assets with indefinite lives. SFAS No. 142 also provides specific guidance for determining and measuring impairment of such intangible assets. Based upon the results of an independent impairment review, as required by SFAS No. 142, the Company recorded an impairment charge of $12,148,205, representing the remaining goodwill related to its reporting unit that comprises the nutritional supplement lines the Company acquired in 1997. This amount represented the excess of the carrying value over the fair value of such asset. The fair value was determined using a combination of the income approach and the market approach of valuing a business. The income approach valued the business by discounting projected future cash flows and the market approach valued the security underlying the business by comparing it to those of similar businesses. The most significant facts and circumstances that led to the conclusion of this impairment were (a) future cash flows from these nutritional supplement lines are expected to be reduced, (b) selling, general and administrative expenses relating to these nutritional supplement lines are forecasted to increase as a percentage of sales, and (c) this nutritional supplements business is experiencing a larger percentage decline in revenues than most of the comparable businesses of other companies. This impairment charge was recorded in the first quarter of 2002 and classified in accordance with SFAS No. 142 as a cumulative effect of a change in accounting principle in the accompanying statements of operations.

        Because the independent appraisal of the fair value of the reporting unit underlying the Company's nutritional supplements business indicated an impairment of that reporting unit, as discussed above, the Company proceeded to also obtain an independent impairment review of the carrying value assigned to related trademarks and brand names in accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. The results of the impairment review under SFAS No. 144 indicated an impairment of the carrying value of such trademarks and brand names because the full carrying amount of these intangible assets was not expected to be recoverable and exceeded its fair value. The carrying amount of these intangible assets was not recoverable because it exceeded the sum of the undiscounted cash flows expected to result from the use and eventual disposition of these assets. The fair value of these intangible assets was determined using a combination of the discounted cash flow approach and the relief from royalty approach, the latter of which valued the brand names as if they were licensed from a third party. Based on these results, the Company recorded an impairment charge of $12,681,581 during the first quarter of 2002, which was included in operating expenses in the accompanying statements of operations. The remaining carrying value of these intangible assets was $4,123,484 at September 30, 2002, which is being amortized over the average remaining useful life of 20 years.

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(7)  Employee Stock Award

        On August 15, 2001, the Company sold to its chief executive officer ("CEO") 1,168,191 shares of restricted common stock at a price of $9.13 per share. Two-thirds of the restricted stock, or 778,794 shares, vest ratably over 36 months; the remaining one-third, or 389,397 shares, vests ratably over 48 months. Except for the par value of the common stock, which was paid in cash, the CEO purchased the restricted stock with a five-year promissory note which, for accounting purposes, was treated as a non-recourse note. The balance of the promissory note is recorded as a note receivable and is classified in stockholders' equity in the accompanying consolidated balance sheets. The note bears interest at an annual rate of 4.99%. Under the terms of the original restricted stock agreement, the Company could repurchase unvested shares at cost in certain circumstances. The Company accounted for this arrangement under Financial Accounting Standards Board ("FASB") Interpretation ("FIN") No. 44, Accounting for Certain Transactions Involving Stock Compensation, EITF Issue No. 95-16, Accounting for Stock Compensation Arrangements with Employer Loan Features under APB Opinion No. 25, and EITF Issue No. 00-23, Issues Related to Accounting for Stock Compensation under APB Opinion No. 25 and FASB Interpretation No. 44. Accordingly, on November 20, 2001, the date on which this arrangement was approved by the stockholders, the Company measured total compensation expense to be $10,595,492 based on the intrinsic value of the stock on that date. The amount of compensation expense was initially deferred and amortized ratably over the vesting periods of the restricted stock. In February 2002, the terms of the restricted stock agreement were amended, pursuant to which the Company may repurchase unvested shares at the then fair value in certain circumstances. Also, in connection with this amendment, the CEO surrendered 50,000 shares of his nonqualified stock options in the Company. Because the repurchase rights on unvested shares are now at fair value, the Company fully amortized the remaining portion of the deferred compensation expense, or $10,144,939, associated with the restricted stock at the time the repurchase rights were amended. Such amortization of deferred compensation was recorded as stock-based compensation in the accompanying consolidated statements of operations.

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(8)  Long Term Debt

(a)

Subordinated Promissory Notes, Principal Amount $20,000,000

        On September 20, 2002, the Company sold units ("Units") having an aggregate purchase price of $20,000,000 for the purpose of financing part of the Wampole acquisition (Note 5(a)). Each Unit consists of (i) a subordinated promissory note (a "10% Subordinated Note") in the principal amount of $50,000 and (ii) a warrant to acquire 400 shares of the Company's common stock. In the aggregate, the Company issued 10% Subordinated Notes in the principal amount of $20,000,000 and warrants to purchase 160,000 shares of its common stock with an exercise price of $13.54 per share to the note subscribers. Interest accrues at 10% per annum on the outstanding principal amount and is payable quarterly in arrears on the first day of each calendar quarter starting October 1, 2002. The 10% Subordinated Notes mature on September 20, 2008, subject to acceleration in certain circumstances, and the Company may prepay the 10% Subordinated Notes at any time subject to certain prepayment penalties. The Company may, at its option, repay the 10% subordinated notes and pay any prepayment penalty, if applicable, in cash or in shares of its common stock valued at 95% of the average closing price of such stock over the ten consecutive trading days immediately preceding the payment date. The 10% Subordinated Notes are expressly subordinated to up to $150,000,000 of indebtedness for borrowed money incurred or guaranteed by the Company plus any other indebtedness incurred by the Company to finance an acquisition. The warrants are fully vested and may be exercised at any time on or prior to the tenth anniversary of their date of issuance.

        The Company allocated $1,200,000 of the principal amount from the 10% Subordinated Notes to the warrants as original issuance discount, which represents the fair value of the warrants at the date of issuance. In addition, the placement agent for the offering of the 10% Subordinated Notes received cash commissions and an expense allowance totaling $970,421 and a warrant to purchase 37,700 shares of the Company's common stock at the closing, the terms of which are identical to the warrants issued to the subscribers. The value of the warrant issued to the placement agent, $302,008, and the cash commission and expense allowance are recorded as deferred financing costs. The original issuance discount related to the warrants issued to the subscribers and the deferred financing costs are being amortized to interest expense over the six year term of the 10% Subordinated Notes. Total interest expense, including amortization of original issuance discount, for the three and nine months ended September 30, 2002 was $60,357.

        Among the purchasers of the 10% Subordinated Notes are four directors and officers of the Company, including an entity related to the Company's CEO, who purchased an aggregate of 37 Units, or $1,850,000 in principal, and 14,800 warrants to purchase the Company's common stock at $13.54 per share.

(b)

Subordinated Promissory Notes, Principal Amount $9,000,000, and Convertible Subordinated Promissory Notes, Principal Amount $6,000,000

        On September 20, 2002 the Company sold subordinated promissory notes in an aggregate principal amount of $9,000,000 (the "9% Subordinated Notes") and subordinated convertible promissory notes in an aggregate principal amount of $6,000,000 (the "3% Convertible Notes") for the purpose of financing part of the Wampole acquisition (Note 5(a)). The 9% Subordinated Notes and the 3% Convertible Notes bear interest at 9% and 3% per annum, respectively, on the outstanding principal balance and are payable quarterly in arrears on the first day of each calendar quarter starting October 1, 2002. The Company recorded total interest expense on these notes of $29,836 for the three and nine months ended September 30, 2002. Both the 9% Subordinated Notes and the 3% Convertible Notes mature on September 20, 2008. Upon maturity of the 9% Subordinated Notes and 3% Convertible Notes, the Company has the option to repay the principal amount in cash or in shares of its common stock valued at 95% of the average closing price of such stock over the ten consecutive trading days immediately prior to the payment date. The Company may prepay the $9% Subordinated Notes in whole or in part

15

at any time subject to a prepayment premium. The 9% Subordinated Notes and 3% Convertible Notes are expressly subordinated to up to $150,000,000 of indebtedness for borrowed money incurred or guaranteed by the Company plus any other indebtedness incurred by the Company to finance an acquisition, provided that the 9% Subordinated Notes and 3% Convertible Notes rank equally with each other and with the 10% Subordinated Notes. An entity related to the Company's CEO purchased 3% Convertible Notes in the aggregate principal amount of $3,000,000.

        At any time prior to the maturity date, holders of the 3% Convertible Notes have the option to convert all of their outstanding principal amount and unpaid interest into the Company's common stock at a conversion price equal to $17.45 per share, which was 125% of the average closing price of the Company's common stock over the ten consecutive trading days ending two days prior to September 20, 2002. Additionally, the outstanding principal amount and unpaid interest of the 3% Convertible Notes will automatically convert into common stock of the Company at a conversion price equal to $17.45 if, at any time after September 20, 2004, the average closing price of the Company's common stock in any consecutive thirty-day period is greater than $22.67.

(c)

Early Extinguishment of Subordinated Promissory Notes

        On March 6, 2002, the Company prepaid its then outstanding subordinated promissory notes ("Subordinated Bridge Notes") having an aggregate principal amount of $20,000,000 and related accrued interest of $568,383 using the proceeds from the issuance of series A redeemable convertible preferred stock ("Series A Preferred Stock") (Note 9). The original maturity date of the Subordinated Notes was April 1, 2002, with an extension option, and interest accrued at 12% per annum, or 18% if and when maturity date was extended. The Subordinated Bridge Notes were convertible into shares of the Company's Series A Preferred Stock at the option of the holder. Due to this convertible nature, the Company recorded a discount on the notes in the form of a beneficial conversion feature of $3,242,744 in accordance with EITF Issue No. 98-5, Accounting for Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios, and EITF Issue No. 00-27, Application of EITF Issue No. 98-5 to Certain Convertible Instruments. The value assigned to the beneficial conversion feature was being amortized to interest expense over the life of the Subordinated Bridge Notes.

        The Company accounted for the prepayment of the Subordinated Bridge Notes and the reacquisition of the related beneficial conversion feature as an early extinguishment of debt and recorded an extraordinary gain of $8,505,989. In accordance with EITF Issue Nos. 98-5 and 00-27, the extraordinary gain was calculated by first allocating the reacquisition price to the beneficial conversion feature, measured based on its intrinsic value at the date of extinguishment, with the residual amount allocated to the Subordinated Bridge Notes.

        An entity related to the Company's CEO was a holder of a $10,000,000 Subordinated Bridge Note and holds a warrant, issued in connection with such notes, to purchase 27,594 shares of the Company's common stock at $18.12 per share.

(9)  Series A Preferred Stock

        In March 2002, the Company sold to private investors 531,913 shares of Series A Preferred Stock at $39.01 per share for gross proceeds of $20,749,990 for purposes of prepaying the Subordinated Bridge Notes (Note 8(c)). The terms of these shares of Series A Preferred Stock are identical to those shares issued in December 2001. Each share of Series A Preferred Stock accrues dividends on a quarterly basis at $2.10 per annum, but only on those days when the closing price of the Company's common stock is less than $15. The Company's stock price closed below $15 for 14 trading days during the three months ended September 30, 2002, and therefore, the Company accrued dividends of $184,719 during this period. Dividends accrued are payable only if declared by the board of directors. Until December 31, 2003, accrued dividends must be paid in the Company's common stock. The number of shares of common stock to be issued in payment of any accrued dividends is equal to such

16

number as is determined by dividing the aggregate amount of the accrued dividend then payable by the greater of (i) $15 or (ii) the average market price during the 30 trading day period immediately preceding the date such dividend is declared. Thereafter, the Company has the option to pay dividends in cash or common stock. The number of shares of common stock to be issued upon any voluntary conversion of one share of Series A Preferred Stock is equal to such number as is determined by dividing $30 by the conversion price in effect at the time of conversion. As of September 30, 2002, the conversion price was $15, subject to adjustment. The effective purchase price for the shares of common stock underlying the Series A Preferred Stock issued in March 2002 represented a $2.70 (or 12%) discount to the fair value of the Company's common stock on the issuance date. In accordance with EITF Issue No. 98-5 and EITF Issue No. 00-27, the Company recorded a discount in the form of a beneficial conversion feature on this issue of Series A Preferred Stock of $2,867,011, which is being amortized to accumulated deficit over the redemption period (as discussed below). The amortization of this discount reduces earnings available to common stockholders in the computation of earnings per share (Note 10). Upon conversion of the Series A Preferred Stock into the Company's common stock, the amortization of the discount in the form of a beneficial conversion feature is accelerated. The total amount of the discount amortized during the three and nine months ended September 30, 2002 was $7,095,098 and $9,538,107, respectively. Starting on December 20, 2003, the Company may convert any remaining Series A Preferred Stock into common stock in the event that the average closing price of its common stock exceeds $20 for any consecutive 30 trading day period. During the three and nine months ended September 30, 2002, 1,742,347 and 2,203,853 shares were converted into 3,484,694 and 4,407,706 shares of the Company's common stock, respectively.

        Because the Series A Preferred Stock may be redeemed upon a vote by the holders of at least two-thirds of the outstanding Series A Preferred Stock on or after June 30, 2011, the Company has classified the outstanding Series A Preferred Stock outside of stockholders' equity in the accompanying consolidated balance sheets. The redemption price per share of Series A Preferred Stock will be equal to $30 plus a premium calculated at 5% per annum from the date of issuance. The Company recorded a premium of $585,910 and $1,945,222 for the three and nine months ended September 30, 2002, respectively, which reduced earnings available to common stockholders in the computation of earnings per share (Note 10).

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(10) Earnings Per Share

        The following table sets forth the computation of basic and diluted earnings per share:

*

The number of weighted average shares for the three and nine months ended September 30, 2001 represents the weighted average number of Innovations common shares outstanding as of the date of its incorporation, giving effect to the fixed exchange ratio set forth in the Merger Agreement and related agreements and the related stock split (Note 1).

        The Company had the following potential dilutive securities outstanding on September 30, 2002: (a) options and warrants to purchase an aggregate of 3,402,219 shares of the Company's common stock at a weighted average exercise price of $14.87 per share, (b) Series A Preferred Stock convertible into an aggregate of 646,120 shares of the Company's common stock, (c) 3% Convertible Notes convertible into an aggregate of 343,840 shares of the Company's common stock, (d) 1,357,771 shares of unvested restricted common stock issued to certain executive officers, and (e) 15,902 shares of common stock held in escrow. These potential dilutive securities were not included in the computation of diluted loss

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per share because the inclusion thereof would be antidilutive. There were no dilutive securities outstanding during the three and nine months ended September 30, 2001.

(11) Comprehensive Income

        The Company's comprehensive income consists of foreign currency translation adjustments. Comprehensive income for the three months ended September 30, 2002 and 2001 was $1,013,598 and $212,331 more than reported net income (loss), respectively, and for the nine months ended September 30, 2002 and 2001 $3,272,569 and $194,718 more than reported net (loss) income, respectively.

(12) Derivative Instrument

        The Company entered into an interest rate swap agreement with one of its lenders effective February 25, 2002, which applies to certain of its term loans and protects both the Company and the lender against fluctuation in the London Interbank Offered Rate ("LIBOR"). The term loans originally accrue interest at LIBOR plus a range of 1.50% to 3.50%, depending on the type of loan (senior or junior). Under the interest rate swap agreement, the LIBOR rate is set at a minimum of 3.36% and a maximum of 5.00%. The Company accounts for this derivative instrument in accordance with SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, and related amendments. During the three months ended September 30, 2002, the Company determined that the hedge of the interest rate swap agreement against the term loan was ineffective. Accordingly, the Company recorded a charge of $1,268,927 to mark to market this interest rate swap agreement for the three months ended September 30, 2002, which was recorded in other expense, net, in the accompanying statements of operations.

(13) Financial Information by Segment

        Under SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information, operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker, or decision making group, in deciding how to allocate resources and in assessing performance. The Company's chief operating decision making group is composed of the CEO and members of senior management. The Company's reportable operating segments are Consumer Products (comprised of consumer diagnostic products and vitamins and nutritional supplements), Clinical Diagnostics Products, and Corporate and Other.

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        The Company evaluates performance based on earnings, excluding noncash and nonrecurring items, before interest expense, taxes, depreciation and amortization ("EBITDA"). Segment information for the three and nine months ended September 30, 2002 and 2001, respectively, is as follows:

(14) Recently Issued Accounting Standards

        In June 2001, the FASB issued SFAS No. 142, which addresses changes in the financial accounting and reporting for acquired goodwill and other intangible assets with indefinite lives. Effective January 1, 2002, all existing acquired goodwill and other intangible assets with indefinite lives are no longer amortized to expense, with early adoption required for all goodwill and other intangible assets with indefinite lives acquired subsequent to June 30, 2001. The statement also provides specific guidance for determining and measuring impairment of all goodwill and other intangible assets. The Company recorded goodwill amortization of $150,800 and $452,400 for the three and nine months ended September 30, 2001, respectively. Had SFAS No. 142 been effective during 2001, the Company's (loss) income from continuing operations would have been $(137,005) and $1,025,598 for the three and

20

nine months ended September 2001, respectively, and net income would have been $304,116 and $1,628,662 for the three and nine months ended September 2001, respectively. On a per share basis, (loss) income from continuing operations would have been $(0.02) and $0.16 for the three and nine months ended September 2001, respectively, and net income would have been $0.05 and $0.26 for the three and nine months ended September 2001, respectively. At September 30, 2002, the total amount of goodwill and other intangible assets with indefinite lives affected by this statement was $126,500,858, which was all acquired subsequent to June 30, 2001. Also, upon the adoption of SFAS No. 142, the Company recorded a goodwill impairment charge of $12,148,205 during the first quarter of 2002 (Note 6).

        In August 2001, the FASB issued SFAS No. 144, which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. This statement requires that a long-lived asset to be abandoned, exchanged for a similar productive asset, or distributed to owners in a spin-off be considered held and used until it is disposed of. The changes in this statement require that one accounting model be used for long-lived assets to be disposed of by sale, whether previously held and used or newly acquired, and broaden the presentation of discontinued operations to include more disposal transactions. SFAS No. 144 also provides guidance for determining and measuring impairment of long-lived and intangible assets, which do not materially differ from previous guidance. The provisions of this statement are effective for financial statements issued for fiscal years beginning after December 15, 2001 and interim periods within those fiscal years, with early adoption encouraged. The provisions of this statement generally are to be applied prospectively. During the first quarter of 2002, the Company recorded an impairment charge to its carrying value of certain trademarks and brand names of $12,681,581 in accordance with SFAS No. 144 (Note 6).

        In November 2001, the EITF issued EITF Issue No. 01-9, Accounting for Consideration Given by a Vendor to a Customer or a Reseller of the Vendor's Products. EITF Issue No. 01-9 establishes accounting and reporting standards for vendor consideration to any purchasers of the vendor's products at any point along the distribution chain, regardless of whether the purchaser receiving the consideration is a direct customer. The Company offers certain sales incentives that fall within the scope of EITF Issue No. 01-9, such as free goods, slotting fees and cooperative advertising, to some of its customers. The Company adopted the provisions of this consensus in 2002, the effect of which was a net reclassification of $430,443 and $1,382,967 from sales and marketing expenses and cost of sales to net product sales during the three and nine months ended September 30, 2001, respectively, for comparative purposes.

        In April 2002, the FASB issued SFAS No. 145, Rescission of FASB Statements No. 4, 44 and 64 Amendment of FASB Statement No. 13 and Technical Corrections which addresses the reporting of gains and losses resulting from the extinguishment of debt, accounting for sale-leaseback transactions and rescinds or amends other existing authoritative pronouncements. SFAS No. 145 requires that any gain or loss on the extinguishment of debt that does not meet the criteria of APB Opinion No. 30 for classification as an extraordinary item shall not be classified as extraordinary and shall be included in earnings from continuing operations. The provisions of this statement related to the extinguishment of debt are effective for financial statements issued in fiscal years beginning after May 15, 2002 with early application encouraged. Upon adoption of SFAS No. 145, all prior periods presented will be required to be restated. The Company plans to adopt SFAS No. 145 on January 1, 2003. Upon adoption, the Company's after tax extraordinary gain from the early extinguishment of subordinated promissory notes recorded in the first quarter of 2002 will be reclassified to earnings from continuing operations.

(15) Litigation Settlements

(a)

Becton, Dickinson and Company v. Inverness Medical Technology, Inc.

        On January 3, 2000, Becton, Dickinson and Company ("BD") filed suit against Selfcare, Inc., which became IMT, alleging that certain pregnancy and ovulation products sold by IMT (and now by

21

the Company) infringe certain BD patents. In connection with the split-off from IMT, the Company assumed all obligations and liabilities of IMT arising out of this matter. The parties settled this litigation during the third quarter of 2002. In the settlement, neither party admitted any liability and the Company obtained a fully paid-up, royalty-free license from BD for an amount which was not material to it.

(b)

Intervention, Inc v. Selfcare, Inc. and Companion Cases

        In May 1999, Intervention, Inc., a California corporation, filed separate suits, which were subsequently consolidated, against IMT (formerly known as Selfcare, Inc.), four of its private label customers (now the Company's customers) and its major competitors (now the Company's competitors) and their private label customers alleging that, under Section 17200 of the California Business and Professions Code, the defendants' labeling on their home pregnancy tests is misleading as to the level of accuracy under certain conditions. The plaintiff sought restitution of profits on behalf of the general public, injunctive relief and attorneys' fees. Conopco, Inc. ("Conopco"), predecessor to Unipath US, was also a defendant in this litigation. In connection with the split-off from IMT and the acquisition of the Unipath business from Unilever, the Company assumed the defense of IMT and Unipath US and agreed to assume all obligations and liabilities of IMT and Unilever arising out of this matter. More recently the case was split such that Unipath US was a defendant in one case and the Company and its private label customers were defendants in another case. The parties to both cases fully settled all claims as of May 31, 2002 and both cases were subsequently dismissed with prejudice on June 21, 2002. The terms of the settlement require the defendants to make certain disclosures in their packaging and advertising of certain pregnancy test products and the Company and Unipath US paid a total of $260,250 towards the plaintiff's attorney's fees and costs. No other monetary payment is required.

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ITEM 2.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Overview

        On November 21, 2001, pursuant to an agreement and plan of split-off and merger dated May 23, 2001, Johnson & Johnson acquired Inverness Medical Technology, Inc. ("IMT"), our former parent, in a merger transaction and, simultaneously, our company, Inverness Medical Innovations, Inc., was split off from IMT as a separate publicly traded company. Immediately prior to the consummation of these transactions, IMT restructured its operations so that we and our subsidiaries would hold all of IMT's non-diabetes businesses (women's health, nutritional supplements and clinical diagnostics). At the closing of the transactions, all of the shares of our common stock held by IMT were split-off from IMT in a pro rata distribution to IMT's stockholders and IMT (which then consisted primarily of its diabetes business) merged with and became a wholly-owned subsidiary of Johnson & Johnson.

        We develop, manufacture and market consumer healthcare products, including self-test diagnostic products for the women's health market and vitamins and nutritional supplements. We also develop, manufacture and market a wide variety of clinical diagnostic products for use by medical and laboratory professionals.

        Our consumer self-test diagnostic products, which include home pregnancy detection tests and home ovulation prediction tests, allow individuals to obtain accurate information regarding various medical conditions on a confidential, nonprescription basis, without the expense, inconvenience and delay associated with physician visits or laboratory testing. The information gives individuals greater control over their health and their lives, allowing them to make informed decisions and take action to protect their health, alone or in consultation with health care professionals. We also sell a wide variety of vitamins and nutritional supplements that similarly empower health conscious individuals. Our clinical diagnostic products are intended to make disease diagnosis easier and more efficient for medical professionals.

        On December 20, 2001, we acquired Unipath Limited, a global leader in home pregnancy and ovulation testing and natural family planning, and its associated companies and assets (the "Unipath business") from Unilever Plc ("Unilever") and certain entities affiliated with Unilever. The acquisition of the Unipath business provides us with leading brand name consumer diagnostic products that compliment our existing value branded and private label home pregnancy detection and ovulation prediction products. Together with the acquisition of the Unipath business, we also acquired rights to certain antibody clones and other intellectual property rights.

        On March 19, 2002, we acquired IVC Industries, Inc. ("IVC"), a manufacturer and distributor of various vitamin and nutritional supplement products sold under brand names and through private label arrangements with retailers. With the addition of IVC, we are in the process of consolidating our vitamin and nutritional supplement manufacturing at IVC and discontinuing most of our outsourced manufacturing arrangements. The aggregate purchase price of IVC was approximately $27.2 million, which consisted of $5.6 million in cash representing $2.50 for each outstanding share of IVC's common stock, fully-vested stock options to purchase an aggregate of 115,744 shares of our common stock with an aggregate fair value of $1.3 million, approximately $1.5 million in estimated costs to exit certain activities of IVC, primarily severance costs, $17.4 million in assumed debt and approximately $1.4 million in estimated direct acquisition costs. The acquisition was funded by our existing cash.

        On May 22, 2002, we announced the public offering of 1.6 million shares of our common stock which generated proceeds of $34.2 million after deducting underwriter's commissions and other offering costs.

        On September 20, 2002, we acquired the Wampole Division ("Wampole") from MedPointe Inc., a developer and distributor of clinical diagnostics and point-of-care medical diagnostics products in the

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United States. This acquisition allows us to dramatically expand our clinical diagnostics business and we are now a leading U.S. provider of specialized in vitro diagnostic testing products to the medical profession. Wampole's products are sold to hospitals, major reference testing laboratories, physician's offices and clinics through an extensive distribution network. The acquisition of Wampole also provides us with certain intellectual property. The aggregate purchase price of Wampole was approximately $71.5 million, which consisted of $70.0 million in cash and approximately $1.5 million in estimated direct acquisition costs. The acquisition was funded by our existing cash and $35.0 million in subordinated debt, the terms of which are discussed in the section titled "Liquidity and Capital Resources".

Recent Developments

Pending Merger with Ostex International, Inc.

        On September 6, 2002, we entered into an agreement and plan of merger with Ostex International, Inc. ("Ostex"). Ostex develops and commercializes osteoporosis diagnostic products. At the effective time of the merger, each outstanding share of Ostex common stock will be converted into the right to receive a number of shares of our common stock equal to a conversion ratio that will be calculated by dividing 2.3 million by the sum of (i) the total number of shares of Ostex common stock outstanding immediately prior to the effective time of the merger; and (ii) the total number of shares of Ostex common stock subject to outstanding stock options and warrants that we will assume in the merger. The transaction is subject to approval by Ostex shareholders, receipt of certain third-party consents and other customary closing conditions. We expect this merger to provide us with leading-edge intellectual property rights in the field of osteoporosis testing, synergies through Ostex' existing and in-process intellectual property and the elimination of redundancies, the ability to increase sales of Ostex' existing products through the use of our marketing and distribution channels, and the opportunity for significant cost savings.

Results of Operations

        Net Product Sales.    Net product sales for the three months ended September 30, 2002 increased $41.0 million, or 367%, to $52.2 million from $11.2 million for the three months ended September 30, 2001. Net product sales for the nine months ended September 30, 2002 increased $104.8 million, or 306%, to $139.1 million from $34.3 million for the nine months ended September 30, 2001. The significant increase resulted predominantly from our acquisitions of the Unipath business and IVC. The Unipath business, which was acquired in December 2001, generated net product sales of $23.4 million and $67.2 million for the three and nine months ended September 30, 2002, respectively. IVC, which we acquired in March 2002, contributed $13.9 million and $28.9 million to our revenue growth during the three and nine months ended September 30, 2002, respectively. In terms of product revenue growth by reporting segment, net product sales of our consumer products segment, which includes our consumer diagnostic products mostly targeted toward the women's health market and our vitamins and nutritional supplements, were $45.8 million for the three months ended September 30, 2002, an increase of $37.2 million, or 431%, as compared to $8.6 million for the three months ended September 30, 2001. Net product sales of this consumer products segment were $122.2 million for the nine months ended September 30, 2002, an increase of $95.7 million, or 361%, as compared to $26.5 million for the nine months ended September 30, 2001. Net product sales of our clinical diagnostics products segment were $6.4 million for the three months ended September 30, 2002, an increase of $3.8 million, or 152%, from $2.5 million for the three months ended September 30, 2001. Net product sales of this clinical diagnostics products segment were $17.0 million for the nine months ended September 30, 2002, an increase of $9.2 million, or 118%, from $7.8 million for the nine months ended September 30, 2001. The sales growth of our clinical diagnostic products was mostly the result of the addition of the Unipath business.

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        License and Other Revenue.    License and other revenue represent license and royalty fees from intellectual property license agreements with third-parties. Our license and royalty revenue for the three and nine months ended September 30, 2002 was derived almost entirely out of license agreements acquired as part of the Unipath business. We also acquired a few revenue generating license agreements with our acquisition of Wampole. For the three and nine months ended September 30, 2002, license revenue amounted to $1.8 million and $3.8 million, respectively. There was no license and other revenue in 2001.

        Gross Profit from Net Product Sales.    Gross profit from net product sales represents total gross profits less gross profits associated with license and other revenue. Gross profit from net product sales for the three months ended September 30, 2002 increased $18.5 million, or 363%, to $23.6 million from $5.1 million for the three months ended September 30, 2001. Gross profit from net product sales for the nine months ended September 30, 2002 increased $46.9 million, or 285%, to $63.4 million from $16.5 million for the nine months ended September 30, 2001. The general increases in gross profit from net product sales from 2001 to 2002 primarily resulted from the addition of the Unipath business which generated total gross profit of $13.8 million and $39.9 million for the three and nine months ended September 30, 2002, respectively. Additionally, IVC contributed $2.1 million and $3.9 million of the increase in gross profit from net product sales during the three and nine months ended September 30, 2002, respectively. Total gross margin from net product sales was 45% and 46% for the three and nine months ended September 30, 2002, respectively, compared to 46% and 48% for the three and nine months ended September 30, 2001, respectively. The slightly lower gross margin from net product sales in 2002 resulted primarily from lower margins on IVC's products and Unipath's clinical diagnostic products. In terms of gross profit by reporting segment, for the three months ended September 30, 2002, gross profit from our consumer product sales was $20.5 million, an increase of $16.8 million, or 454%, from $3.7 million for the three months ended September 30, 2001. For the nine months ended September 30, 2002, gross profit from our consumer product sales was $55.7 million, an increase of $43.6 million, or 361%, from $12.1 million for the nine months ended September 30, 2001. Gross margin from our consumer product sales was 45% and 46% for the three and nine months ended September 30, 2002, respectively, as compared to 43% and 46% for the three and nine months ended September 30, 2001. For the three months ended September 30, 2002, gross profit from our clinical diagnostics product sales was $3.0 million, an increase of $1.6 million, or 119%, from $1.4 million for the three months ended September 30, 2001. For the nine months ended September 30, 2002, gross profit from our clinical diagnostics product sales was $7.7 million, an increase of $3.3 million, or 76%, from $4.4 million for the nine months ended September 30, 2001. Gross margin from our clinical diagnostic product sales was 48% and 45% for the three and nine months ended September 30, 2002, respectively, as compared to 55% and 56% for the three and nine months ended September 30, 2001, respectively.

        Charge Related to Asset Impairment.    In the first quarter of 2002, we recorded a noncash impairment charge of $12.7 million to write-off a portion of the value that was assigned to trademarks and brand names related to certain of our nutritional supplement lines that we bought in 1997. This charge was recorded in connection with the results of a separate impairment review performed on the carrying value of the goodwill related to such nutritional supplement lines, as discussed below in the caption "Cumulative Effect of a Change in Accounting Principle." See Note 6 of the accompanying "Notes to Consolidated Financial Statements." No impairment charge was recorded during the second or third quarter of 2002 or the comparative periods in 2001.

        Research and Development Expense.    Research and development expense for the three months ended September 30, 2002 increased $3.2 million, or 853%, to $3.6 million from $378,000 for the three months ended September 30, 2001. Research and development expense for the nine months ended September 30, 2002 increased $9.5 million, or 921%, to $10.5 million from $1.0 million for the nine months ended September 30, 2001. The significant increase resulted primarily from the addition of the

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Unipath business, which houses a large research and development center in its facility in Bedford, England. Prior to the acquisition of the Unipath business, our research and development expense was mostly related to clinical diagnostic products incurred by our subsidiary, Orgenics Ltd. ("Orgenics"), in Israel. We currently expect to continue to invest heavily in research and development for the foreseeable future.

        Sales and Marketing Expense.    Sales and marketing expense for the three months ended September 30, 2002 increased $9.3 million, or 557%, to $11.0 million from $1.7 million for the three months ended September 30, 2001. Sales and marketing expense for the nine months ended September 30, 2002 increased $24.9 million, or 446%, to $30.5 million from $5.6 million for the nine months ended September 30, 2001. Of these increases, $7.2 million and $20.2 million for the three and nine months ended September 30, 2002, respectively, resulted from the addition of the Unipath business. IVC also contributed $1.3 million and $3.0 million to the increase in sales and marketing expenses during the three and nine months ended September 30, 2002, respectively. The remaining increase in sales and marketing expenses resulted primarily from our new radio advertising efforts in an attempt to boost our nutritional supplement product sales. Sales and marketing expense as a percentage of net product sales increased to 21% and 22% for the three and nine months ended September 30, 2002, respectively, from 15% and 16% for the three and nine months ended September 30, 2001, respectively.

        General and Administrative Expense.    General and administrative expense for the three months ended September 30, 2002 increased $3.1 million, or 102%, to $6.2 million from $3.1 million for the three months ended September 30, 2001. General and administrative expense for the nine months ended September 30, 2002 increased $13.1 million, or 191%, to $20.0 million from $6.9 million for the nine months ended September 30, 2001. The addition of the Unipath business contributed $2.8 million and $9.8 million to the increases in general and administrative expenses in the three and nine months ended September 30, 2002, respectively. IVC also contributed $650,000 and $1.6 million to the increases in general and administrative expenses in the three and nine months ended September 30, 2002, respectively. During the three and nine months ended September 30, 2002, we also incurred approximately $258,000 and $1.9 million, respectively, in legal fees for our defenses in certain litigations which were inactive during the same periods in 2001. Certain litigations were settled during the nine months ended September 30, 2002 (see Part II. Item 1. "Legal Proceedings". General and administrative expense as a percentage of net product sales decreased to 12% and 14% for the three and nine months ended September 30, 2002, respectively, from 27% and 20% for the three and nine months ended September 30, 2001.

        Stock-Based Compensation.    During the nine months ended September 30, 2002, we recorded noncash compensation expenses of $10.2 million. During the first quarter of 2002, the noncash compensation charge was $10.1 million, which represents the amortization of the remaining deferred compensation recorded in 2001 in connection with the sale of restricted stock to our chief executive officer. We recorded this deferred compensation because the stock was sold below its market value on the measurement date. The deferred compensation was originally set to amortize over the vesting period of the restricted stock. However, due to an amendment in the terms of the restricted stock agreement in February 2002, we fully amortized the deferred compensation at that time. See Note 7 of the accompanying "Notes to Consolidated Financial Statements." There was no charge for stock-based compensation during the three months ended September 30, 2002 and the three and nine months ended September 30, 2001.

        Interest Expense.    Interest expense for the three months ended September 30, 2002 increased $1.2 million, or 567%, to $1.4 million from $204,000 for the three months ended September 30, 2001. Interest expense for the nine months ended September 30, 2002 increased $5.9 million, or 640%, to $6.9 million from $927,000 for the nine months ended September 30, 2001. The significant increase in

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interest expense resulted from various debt financings obtained to fund the acquisition of the Unipath business in December 2001. Also, of the total increase in interest expense for the three and nine months ended September 30, 2002, $43,000 and $2.8 million, respectively, were noncash and represented the amortization of original issue discount and beneficial conversion features related to such debt financings. We expect interest expense to continue to increase as a result of additional debt of $35.0 million obtained to finance part of the acquisition of Wampole on September 20, 2002. See Note 8(a) and 8(b) of the accompanying "Notes to Consolidated Financial Statements."

        Other Expense, Net.    Other expense, net, includes interest income and other income and expenses. Interest income for the three months ended September 30, 2002 increased by $398,000, or 1679%, to $421,000 from $24,000 for the three months ended September 30, 2001. Interest income for the nine months ended September 30, 2002 increased by $1.0 million, or 1049%, to $1.1 million from $98,000 for the nine months ended September 30, 2001. The increase in interest income resulted from higher average cash balances during the three and nine months ended September 30, 2002 due to a follow-on public offering of 1.6 million shares of our common stock at $23 per share in May 2002 and a $41.4 million capitalization by IMT during our split-off from IMT in November 2001. A significant portion of other income and expense generally represents foreign currency exchange gains and losses. For the three months ended September 30, 2002, we recognized $110,000 in foreign exchange transaction gains as compared to $12,000 for the three months ended September 30, 2001. For the nine months ended September 30, 2002, we recognized $1.3 million in foreign exchange transaction losses as compared to $375,000 for the nine months ended September 30, 2001. The significant amount of foreign exchange transaction losses recorded through the nine months ended September 30, 2002 resulted from the weak US Dollar versus the Japanese Yen and Euro as one of our bank loans is denominated in Japanese Yen and certain receivables and payables of our Irish subsidiary are denominated in the US Dollar while its functional currency is the Euro. Also, during the three months ended September 30, 2002, we recorded a noncash charge of $1.3 million in other expenses, net, to mark to market an interest rate swap agreement as its hedge was deemed ineffective at September 30, 2002. See Note 12 of the accompanying "Notes to Consolidated Financial Statements." We did not use derivative financial instruments during 2001.

        Income Taxes.    For the three and nine months ended September 30, 2002, we recorded provisions of $671,000 and 1.8 million, respectively, for income taxes compared to $65,000 and $1.2 million for the three and nine months ended September 30, 2001, respectively. Of the provision recorded for the three and nine months ended September 30, 2002, $611,000 and $1.7 million, respectively, related to the Unipath business. The remaining business recorded a total provision of $60,000 and $153,000 for the three and nine months ended September 30, 2002, respectively, as compared to $65,000 and $1.2 million for the three and nine months ended September 30, 2001, respectively. This decrease resulted from corporate losses available to offset profits in the U.S. businesses.

        Income (Loss) from Continuing Operations.    For the three months ended September 30, 2002, we generated income from continuing operations of $1.1 million while for the nine months ended September 30, 2002, we generated a loss from continuing operations of $29.4 million. After taking into account charges for dividends, redemption premium and amortization of beneficial conversion feature with respect to our series A redeemable convertible preferred stock, we had a loss from continuing operations available to common stockholders of $6.7 million, or $0.65 per basic and diluted share, for the three months ended September 30, 2002 and $41.0 million, or $4.74 per basic and diluted share, for the nine months ended September 30, 2002. The significant loss for the nine months ended September 30, 2002 resulted from various factors as described above. For the three months ended September 30, 2001, we generated a loss from continuing operations of $288,000, or $0.04 per basic and diluted share, while for the nine months ended September 30, 2001, we generated income from continuing operations of $573,000, or $0.09 per basic and diluted share.

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        Income from Discontinued Operations.    During the three and nine months ended September 30, 2001, we recorded income from discontinued operations of $441,000 and $603,000, respectively. The discontinued operations represent the diabetes related segments of the entities contributed to us through the split-off from IMT, that were then immediately transferred back to IMT on November 21, 2001. See Note 1 of the accompanying "Notes to Consolidated Financial Statements."

        Extraordinary Gain.    During the first quarter of 2002, we recorded a net extraordinary gain of $8.5 million related to the early retirement of our subordinated promissory notes and the repurchase of the beneficial conversion feature associated with these subordinated promissory notes. See Note 8(c) of the accompanying "Notes to Consolidated Financial Statements." There were no extraordinary items in the second or third quarter of 2002 or the comparative periods in 2001.

        Cumulative Effect of a Change in Accounting Principle.    On January 1, 2002, we adopted Statement of Financial Accounting Standard ("SFAS") No. 142, Goodwill and Other Intangible Assets. SFAS No. 142 requires annual independent appraisals to be obtained for all reporting units, as defined in the statement, with values recorded for goodwill. Based on the results of an independent appraisal obtained on the nutritional supplements business that we acquired in 1997, we recorded an impairment charge of $12.1 million to write-off the carrying value of the goodwill related to that business during the first quarter of 2002. This impairment charge was recorded as a cumulative effect of a change in accounting principle. See Note 6 of the accompanying "Notes to Consolidated Financial Statements." There were no other charges due to a change in accounting principle in the second or third quarter of 2002 or the comparative periods in 2001.

        Net Income (Loss).    For the three months ended September 30, 2002, we generated a net income of $1.1 million while for the nine months ended September 30, 2002, we generated a net loss of $33.0 million. After taking into account charges for dividends, redemption premium and amortization of beneficial conversion feature with respect to our series A redeemable convertible preferred stock, we had a net loss available to common stockholders of $6.7 million, or $0.65 per basic and diluted share, for the three months ended September 30, 2002 and $44.7 million, or $5.16 per basic and diluted share, for the nine months ended September 30, 2002. The significant loss for the nine months ended September 30, 2002 resulted from various factors as described above. For the three months ended September 30, 2001, we generated a net income of $153,000, or $0.02 per basic and diluted share, and for the nine months ended September 30, 2001, we generated a net income of $1.2 million, or $0.19 per basic and diluted share. See Note 10 of the accompanying "Notes to Consolidated Financial Statements" for the calculation of earnings per share.

Liquidity and Capital Resources

        As of September 30, 2002, we had cash and cash equivalents of $16.8 million, a $35.2 million decrease from December 31, 2001. We have historically funded our business through operating cash flows, proceeds from borrowings and the issuance of equity securities, as well as contributions from IMT and affiliated companies of IMT through November 2001. We generated $3.4 million in cash from our operating activities during the nine months ended September 30, 2002, which was due to an income, adjusted for noncash items, of $5.0 million, an increase in accounts payable of $6.7 million and a decrease in other current assets of $2.3 million, offset by a decrease in accrued expenses of $4.1 million and increases in accounts receivable and inventory totaling $6.4 million. During the nine months ended September 30, 2002, we used cash of $88.8 million for our investing activities, of which $71.5 million and $8.1 million were used for the acquisitions of Wampole and IVC, respectively, $5.5 million was used for restructuring costs and additional acquisition costs related to the Unipath business, and $3.4 million was used for capital expenditure purposes. During the nine months ended September 30, 2002, we generated cash of $47.7 million from financing activities, which primarily resulted from borrowings from private investors totaling $35.0 million in September 2002, our

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May 2002 follow-on public offering which raised $34.2 million, net of underwriter's discounts and commissions and other offering costs, and our issuance of preferred stock for $20.6 million to private investors in March 2002. Partially offsetting the proceeds received from the issuance of these debt and equity securities were principal prepayments and repayments of $20.0 million on subordinated promissory notes in March 2002 and $21.7 million on the term loans with The Royal Bank of Scotland plc. Working capital was $22.6 million as of September 30, 2002 compared to $21.0 million as of December 31, 2001.

        On September 20, 2002, we acquired Wampole, a developer and distributor of clinical diagnostics and point-of-care medical diagnostics products primarily in the United States. This acquisition allows us to dramatically expand our clinical diagnostics business and we are now a leading U.S. provider of specialized in vitro diagnostic testing products to the medical profession. Wampole's products are sold to hospitals, major reference testing laboratories, physician's offices and clinics through an extensive distribution network. The acquisition of Wampole also provides us with significant intellectual property. The aggregate purchase price of Wampole was approximately $71.5 million, which consisted of $70.0 million in cash and approximately $1.5 million in estimated direct acquisition costs. The acquisition was funded with a portion of our existing cash and the proceeds from the issuance of $35.0 million in subordinated debt, the terms of which are discussed below.

        On September 6, 2002, we entered into an agreement and plan of merger with Ostex. Ostex develops and commercializes osteoporosis testing products. At the merger, each outstanding share of Ostex common stock will be converted into the right to receive a number of shares of our common stock equal to a conversion ratio that will be calculated by dividing 2.3 million by the sum of (i) the total number of shares of Ostex common stock outstanding immediately prior to the effective time of the merger; and (ii) the total number of shares of Ostex common stock subject to outstanding stock options and warrants that we will assume in the merger. The transaction is subject to approval by Ostex shareholders, receipt of certain third-party consents and other customary closing conditions. We expect this merger to provide us with leading-edge intellectual property rights in the field of osteoporosis testing, synergies through Ostex' existing and in-process intellectual property and the elimination of redundancies, the ability to increase sales of Ostex' existing products through the use of our marketing and distribution channels and the opportunity for significant cost savings.

        On September 20, 2002, we sold units having an aggregate purchase price of $20.0 million to private investors for the purpose of financing part of the acquisition of Wampole. Each unit consisted of (i) a 10% subordinated promissory note in the principal amount of $50,000 and (ii) a warrant to acquire 400 shares of our common stock. In the aggregate, we issued 10% subordinated notes in the principal amount of $20.0 million and warrants to purchase 160,000 shares of our common stock. In addition, the placement agent for the offering of the units received cash commissions and an expense allowance totaling $970,000 and a warrant to purchase 37,700 shares of our common stock, the terms of which are identical to the warrants sold as a part of the units. The 10% subordinated notes accrue interest on the outstanding principal amount at 10% per annum, which is payable quarterly in arrears on the first day of each calendar quarter starting October 1, 2002. Interest expense for the three and nine months ended September 30, 2002 was $60,000. The 10% subordinated notes mature on September 20, 2008, subject to acceleration in certain circumstances, and we may prepay the 10% subordinated notes at any time, subject to certain prepayment penalties. We may, at our option, repay the 10% subordinated notes and pay any prepayment penalty, if applicable, in cash or in shares of our common stock valued at 95% of the average closing price of such stock over the ten consecutive trading days immediately preceding the payment date. The 10% subordinated notes are expressly subordinated to up to $150.0 million of indebtedness for borrowed money incurred or guaranteed by us plus any other indebtedness that we incur to finance an acquisition. The warrants were fully vested upon issuance and may be exercised at any time on or prior to September 20, 2012 at an exercise price of $13.54 per share. Among the purchasers of the units were four of our directors and officers,

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including an entity related to our chief executive officer, who purchased an aggregate of 37 units consisting of 10% subordinated notes in the aggregate principal amount of $1,850,000 and warrants to purchase an aggregate of 14,800 shares of our common stock.

        On September 20, 2002, we also sold 9% subordinated promissory notes in an aggregate principal amount of $9.0 million and 3% subordinated convertible promissory notes in an aggregate principal amount of $6.0 million to private investors for an aggregate purchase price of $15.0 million for the purpose of financing part of our acquisition of Wampole. The 9% subordinated notes and 3% convertible notes accrue interest on the outstanding principal amount at 9% and 3% per annum, respectively, which is payable quarterly in arrears on the first day of each calendar quarter starting October 1, 2002. We recorded total interest expense on these notes of $30,000 for the three and nine months ended September 30, 2002. Both the 9% subordinated notes and the 3% convertible notes mature on September 20, 2008, subject to acceleration in certain circumstances, and we may prepay the 9% subordinated notes at any time, subject to certain prepayment penalties. We may, at our option, repay the 9% subordinated notes and the 3% convertible notes, in cash or in shares of our common stock valued at 95% of the average closing price of such stock over the ten consecutive trading days immediately preceding the payment date. At any time prior to the maturity date, the holders of the 3% convertible notes have the option to convert all of their outstanding principal amount and unpaid interest into shares of our common stock at a conversion price equal to $17.45 per share. Additionally, the outstanding principal amount and unpaid interest of the 3% convertible notes will automatically convert into common stock at a conversion price equal to $17.45 if, at any time after September 20, 2004, the average closing price of our common stock in any consecutive thirty-day period is greater than $22.67. An entity related to our chief executive officer purchased 3% convertible notes in the aggregate principal amount of $3.0 million.

        On March 19, 2002, we acquired IVC, a manufacturer and distributor of vitamins and other nutritional supplements. With the addition of IVC, we are in the process of consolidating our vitamin and nutritional supplement manufacturing at IVC and discontinuing most of our outsourced manufacturing arrangements. The aggregate purchase price of IVC was approximately $27.2 million, which consisted of $5.6 million in cash representing $2.50 for each outstanding share of IVC's common stock, fully-vested stock options to purchase an aggregate of 115,744 shares of our common stock, which options had an aggregate fair value of $1.3 million, approximately $1.5 million in estimated costs to exit certain activities of IVC, primarily severance costs, $17.4 million in assumed debt, including capital leases, and approximately $1.4 million in estimated direct acquisition costs. The acquisition was funded by our existing cash. As of September 30, 2002, IVC had a total outstanding debt balance of $17.9 million, of which $11.7 million related to a credit agreement with Congress Financial Corporation ("Congress"), a subsidiary of First Union Corporation, and $6.2 million related to various notes payable and capital leases. Under the credit agreement with Congress, as amended, IVC can borrow up to $15.0 million under a revolving credit commitment and $4.2 million under a term loan commitment, subject to borrowing base limitations, as defined in the agreement. The loans with Congress mature on October 16, 2003. Borrowings under the revolving credit commitment and the term loan bear interest at either 1.50% above the bank's prime rate or, at IVC's option, at 3.75% above the Adjusted Eurodollar Rate used by the bank. The notes are collateralized by substantially all of IVC's assets. The credit agreement with Congress requires IVC to maintain minimum tangible net worth and contains various restrictions customary in such financial arrangement, including limitations on the payment of cash dividends. IVC's other notes payable and capital leases mature on various dates through July 2008.

        On March 6, 2002, we prepaid our then outstanding subordinated promissory notes ("Subordinated Bridge Notes") having an aggregate principal amount of $20,000,000 and related accrued interest of $568,000 using the proceeds from the issuance of series A redeemable convertible preferred stock ("Series A Preferred Stock").

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        On December 20, 2001, one of our wholly-owned subsidiaries entered into a series of credit agreements with the Royal Bank of Scotland Plc and related entities (the "RBS Credit Agreements") for credit facilities in the original aggregate amount of $70.0 million, which were subsequently amended. The RBS Credit Agreements consisted of various term loans initially aggregating $62.5 million, of which $10.0 million were denominated in Japanese Yen, and a $2.5 million multicurrency revolving line of credit, as amended. The proceeds of the term loans were used to finance a portion of the cash used to acquire the Unipath business. Through the nine months ended September 30, 2002, we made a total of $20.0 million in principal prepayments on the senior term loans. During the nine months ended September 30, 2002, we also made a scheduled principal repayment of $1.7 million. The total outstanding principal balance under the RBS Credit Agreements as of September 30, 2002 was $41.7 million, including capitalized interest, as discussed below. The revolving line of credit is designated for use to cover certain of our liabilities and future foreign exchange contracts. Although there were no outstanding borrowings against the revolving line of credit as of September 30, 2002, we used $2.2 million of it during October 2002. We and certain of our subsidiaries are the guarantors of all obligations due under the RBS Credit Agreements. Borrowings under the RBS Credit Agreements are secured by the stock of our European subsidiaries, our intellectual property rights and the assets of our business in the United States, excluding those assets of IVC and Wampole. We must make mandatory prepayments on the loans under the RBS Credit Agreements if we meet certain cash flow thresholds, collect insurance proceeds in excess of certain thresholds, receive payments and sell assets not in the ordinary course of our business or upon a sale or change of control of our company. The per annum interest rate on the loans is the London Interbank Offered Rate ("LIBOR") plus a spread from 1.50% to 3.50% (and an additional 2.00% in case of default), depending on the type of loan (senior or junior) and the interest period. On the loans where the spread may vary, the spread depends on the ratio of our total debt to earnings before interest, taxes, depreciation and amortization ("EBITDA"). Interest at 4.00% per annum is capitalized on the junior loan which, including such capitalized interest, had a principal balance of $10.3 million at September 30, 2002. Capitalized interest may be paid upon agreement with the lender of our senior debt. The amount of capitalized interest as of September 30, 2002, was $315,000. In February 2002, we entered into an interest rate swap agreement with the bank, which applies to $34.8 to $41.7 million of the term loans that are denominated in U.S. Dollars, depending upon the interest period, and protects both parties against fluctuations in the LIBOR rate. Under the interest rate swap agreement, the LIBOR rate is set at a minimum of 3.36% and a maximum of 5.00%. Through September 30, 2002, the LIBOR rate under the interest rate swap agreement is set at 3.36%. Under the RBS Credit Agreements, as amended, we must comply with various financial and nonfinancial covenants starting in the third quarter of 2002. The primary financial covenants pertain to, among other things, interest coverage, cash flow coverage, leverage and EBITDA. For the three and nine months ended September 30, 2002, we were in compliance with these covenants, as amended. Failure to comply with these covenants may have a material adverse impact on our financial condition.

        During 1999, our subsidiary CDIL financed the purchase of one of the buildings that houses its manufacturing activities through a mortgage loan (the "CDIL Mortgage") with the seller. The outstanding balance of the CDIL Mortgage was $135,000 as of September 30, 2002. The CDIL Mortgage bears interest at 6% and is payable semiannually through 2003.

        Our subsidiary Orgenics had bank debt balances totaling $143,000 as of September 30, 2002. Orgenics' bank debt is collaterized by certain of Orgenics' assets. The notes bear interest at various rates ranging from 3.43% to 4.25% and are payable on various dates through 2003.

        In May 2002, we sold an aggregate of 1.6 million shares of our common stock in a follow-on public offering (the "Offering"). Total net proceeds from the Offering were approximately $34.2 million after deducting underwriter's commissions and other offering costs totaling $2.6 million.

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        In March 2002, we sold to private investors 531,913 shares of our Series A Preferred Stock at $39.01 per share for gross proceeds of $20.75 million for purposes of prepaying the $20.0 million Subordinated Bridge Notes and related accrued interest. The terms of these shares of Series A Preferred Stock are the same as those shares issued in December 2001. Each share of Series A Preferred Stock accrues dividends on a quarterly basis at $2.10 per annum, but only on those days when the closing price of our company's common stock is less than $15. During the three and nine months ended September 30, 2002, we recorded $185,000 in dividends. Dividends accrued are payable only if declared by the board of directors. Until December 31, 2003, accrued dividends, if any, must be paid in our company's common stock. The number of shares of common stock to be issued in payment of any accrued dividends is equal to such number as is determined by dividing the aggregate amount of the accrued dividend then payable by the greater of (i) $15 or (ii) the average market price during the 30 trading day period immediately preceding the date such dividend is declared. Thereafter, we have the option to pay dividends in cash or common stock. The number of shares of common stock to be issued upon any voluntary conversion of one share of Series A Preferred Stock is equal to such number as is determined by dividing $30 by the conversion price in effect at the time of conversion. As of September 30, 2002, the conversion price was $15, subject to adjustment. Accordingly, each share of Series A Preferred Stock is currently convertible into two shares of common stock. The effective purchase price for the shares of common stock underlying the Series A Preferred Stock issued in March 2002 represented a $2.70 (or 12%) discount to the fair value of our common stock on the issuance date. Starting on December 20, 2003, we may convert the Series A Preferred Stock into common stock in the event that the average closing price of our common stock exceeds $20 for any consecutive 30 trading day period. The Series A Preferred Stock may be redeemed upon a vote by the holders of at least two-thirds of the outstanding Series A Preferred Stock on or after June 30, 2011. The redemption price per share of Series A Preferred Stock will be equal to $30 plus a premium calculated at 5% per annum from the date of issuance. During the three months ended September 30, 2002, 1,742,347 shares were converted into 3,484,694 shares of the Company's common stock. As of September 30, 2002, there were 323,060 shares of Series A Preferred Stock outstanding.

        As of December 31, 2001, we had approximately $24.8 million of foreign net operating loss carryforwards. These losses are available to reduce foreign taxable income, if any, in future years. We have recorded a valuation allowance against the portion of the deferred tax assets related to foreign net operating losses and other foreign deferred tax assets to reflect uncertainties that might affect the realization of the deferred tax assets, as these assets can only be realized via profitable foreign operations.

        Based on outstanding debt and other commitments as of September 30, 2002, we will be required to use approximately $11.0 million in cash over the next 12 months from such date to meet debt maturities (approximately $5.2 million), minimum lease payments (approximately $4.2 million) and capital expenditure commitments (approximately $1.6 million). Based upon our working capital position, current operating plans and business conditions, subject to unforeseen costs associated with integrating Wampole and Ostex (pending the merger), we believe that our existing capital resources and credit facilities will be adequate to fund our operations, including our current outstanding debt and other commitments, for at least the next 12 months. We cannot be certain, however, that our underlying assumed levels of revenues and expenses will be realized. In addition, we intend to expand our research and development efforts related to the substantial intellectual property portfolio which we acquired in our acquisitions of the Unipath business, Wampole and, potentially, Ostex. We may also choose to further expand our research and development of, and may pursue the acquisition of, new products and technologies, whether through licensing arrangements, business acquisitions, or otherwise. If we decide to pursue such activities or if our operating results fail to meet our expectations, we could be required to seek additional funding through public or private financings or other arrangements. In such event, adequate funds may not be available when needed, or, if available, may not be on acceptable terms, which could have a negative effect on our business and results of operations. In

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addition, if we raise additional funds by issuing equity or convertible securities, dilution to then existing stockholders may result.

Critical Accounting Policies

        The consolidated financial statements included in this quarterly report on Form 10-Q are prepared in accordance with accounting principles generally accepted in the United States. The accounting policies discussed below are considered by our management to be critical to an understanding of our financial statements because their application depends on management's judgment, with financial reporting results relying on estimations and assumptions about the effect of matters that are inherently uncertain. Specific risks for these critical accounting policies are described in the following paragraphs. For all of these policies, management cautions that future events rarely develop exactly as forecast and the best estimates routinely require adjustment. In addition, the "Notes to Consolidated Financial Statements" included in our annual report on Form 10-K, as amended, for the year ended December 31, 2001 include a comprehensive summary of the significant accounting policies and methods used in the preparation of our consolidated financial statements.

Revenue Recognition

        We recognize revenue in accordance with Securities and Exchange Commission Staff Accounting Bulletin No. 101 and its related amendments (collectively, "SAB No. 101"). SAB No. 101 requires that four basic criteria be met before revenue can be recognized: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services rendered; (3) the fee is fixed and determinable; and (4) collection is reasonably assured.

        The majority of our revenues are derived from product sales. We recognize revenue upon product shipment to third-party customers, at which time title is transferred, less a reserve for estimated product returns and allowances. Determination of the reserve for estimated product returns and allowances is based on our management's analyses and judgments regarding certain conditions, as discussed below in the critical accounting policy "Use of Estimates for Sales Returns and Other Allowances and Allowance for Doubtful Accounts." Should future changes in conditions prove management's conclusions and judgments on previous analyses to be incorrect, revenue recognized for any reporting period could be adversely affected.

        Since our acquisitions of the Unipath business in December 2001 and Wampole in September 2002, we also receive license and royalty revenue from agreements with third-party licensees. Revenue from fixed fee license and royalty agreements are recognized on a straight-line basis over the obligation period of the related license agreements. License and royalty fees that are calculated based on the licensees' sales are recognized upon receipt of the license or royalty payments because we would not be able to determine such fees until such time.

Use of Estimates for Sales Returns and Other Allowances and Allowance for Doubtful Accounts

        Sales arrangements with customers for our consumer products generally require us to accept product returns. From time to time, we also enter into sales incentive arrangements with our customers, which generally reduce the sale prices of our products. Against product revenue recognized in any reporting period, we must establish allowances for potential future product returns and claims resulting from our sales incentive arrangements. Calculation of these allowances requires significant judgments and estimates. When evaluating the adequacy of the sales returns and other allowances, our management analyzes historical returns, current economic trends, and changes in customer demand and acceptance of our products. Material differences in the amount and timing of our product revenue for any reporting period may result if changes in conditions arise that would require management to make different judgments or utilize different estimates. Our provision for sales returns and other allowances

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related to sales incentive arrangements amounted to approximately $11.0 million and $31.0 million for the three and nine months ended September 30, 2002, respectively.

        Similarly, our management must make estimates of the uncollectibility of our accounts receivable balances. When evaluating the adequacy of the allowance for doubtful accounts, management analyzes specific accounts receivable balances, historical bad debts, customer concentrations, customer credit-worthiness, current economic trends and changes in our customer payment terms. Our accounts receivable balance was $41.1 million, net of an allowance for doubtful accounts of $858,000 as of September 30, 2002.

Valuation of Goodwill and Other Long-Lived and Intangible Assets

        Our long-lived assets include property, plant and equipment, goodwill and other intangible assets. As of September 30, 2002, the balances of property, plant and equipment, goodwill and other intangible assets, net of accumulated depreciation and amortization, were $46.1 million, $97.7 million and $92.9 million, respectively. For purposes of determining whether there are any impairment losses, our management has historically examined the carrying value of our identifiable long-lived tangible and intangible assets and goodwill when indicators of impairment are present. Effective January 1, 2002, SFAS No. 142 requires that independent impairment reviews be obtained on the carrying values of all goodwill on an annual basis. For all long-lived tangible and intangible assets and goodwill, if an impairment loss is identified based on the fair value of the asset, such loss would be charged to expense in the period we identify the impairment.

Valuation of Goodwill

        As of January 1, 2002, we adopted SFAS No. 142 and obtained an independent review on the carrying value of our existing goodwill in accordance with this statement which provides specific guidance for determining and measuring impairment of goodwill. Based upon the results of the review, we recorded an impairment charge of $12.1 million, representing the remaining goodwill related to our reporting unit that comprises the nutritional supplement lines we acquired in 1997. This amount represented the excess of the carrying value over the fair value of such asset. The fair value was determined using a combination of the income approach and the market approach of valuing a business. The income approach valued the business by discounting projected future cash flows and the market approach valued the security underlying the business by comparing it to those of similar businesses. The most significant facts and circumstances that led to the conclusion of this impairment were (a) future cash flows from these nutritional supplement lines are expected to be reduced, (b) selling, general and administrative expenses relating to these nutritional supplement lines are forecasted to increase as a percentage of sales, and (c) this nutritional supplements business is experiencing a larger percentage decline in revenues than most of the comparable businesses of other companies. Because future cash flows and operating results used in the independent review are based on management's projections and assumptions, future events can cause actual results to differ from those projections. In such event, the full impairment charge of $12.1 million taken during the first quarter of 2002 may not be justified.

Valuation of Other Long-Lived Tangible and Intangible Assets

        Factors we generally consider important which could trigger an impairment review on the carrying value of other long-lived tangible and intangible assets include the following: (1) significant underperformance relative to expected historical or projected future operating results; (2) significant changes in the manner of our use of the acquired assets or the strategy for our overall business; (3) underutilization of our tangible assets; (4) discontinuance of product lines by ourselves or our customers; (5) significant negative industry or economic trends; (6) significant decline in our stock price

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for a sustained period; (7) significant decline in our market capitalization relative to net book value; and (8) goodwill impairment identified during an independent review under SFAS No. 142.

        Because the independent appraisal of the fair value of the reporting unit underlying our nutritional supplements business indicated an impairment of goodwill related to that reporting unit, as discussed above, we proceeded to also obtain an independent impairment review of the carrying value assigned to related trademarks and brand names. The results of this review also indicated an impairment of the carrying value of such trademarks and brand names because the full carrying amount of these intangible assets was not expected to be recoverable and exceeded its fair value. The full carrying amount of these intangible assets was not recoverable because it exceeded the sum of the undiscounted cash flows expected to result from the use and eventual disposition of these assets. The fair value of these intangible assets was determined using a combination of the discounted cash flow approach and the relief from royalty approach, the latter of which valued the brand names as if they were licensed from a third party. Based on these results, we recorded another impairment charge of $12.7 million to write-off a portion of the carrying value of these trademarks and brand names during the first quarter of 2002. The remaining carrying value of these intangible assets was $4.1 million at September 30, 2002, which is being amortized over the assets average remaining useful lives of 20 years. The impairment was measured partly based on a projected discounted cash flow method using a discount rate determined by our management to be commensurate with the risk inherent in our current business model. Although we believe that the remaining carrying value of our long-lived tangible and intangible assets were realizable as of September 30, 2002, future events could cause us to conclude otherwise.

Accounting for Income Taxes

        As part of the process of preparing our consolidated financial statements, we are required to estimate our income taxes in each of the jurisdictions in which we operate. This process involves us estimating our actual current tax exposure and assessing temporary differences resulting from differing treatment of items, such as reserves and accruals and lives assigned to long-lived and intangible assets, for tax and accounting purposes. These differences result in deferred tax assets and liabilities. We must then assess the likelihood that our deferred tax assets will be recovered from future taxable income and, to the extent we believe that recovery is not likely, we must establish a valuation allowance. To the extent we establish a valuation allowance or increase this allowance in a period, we must include an expense within our tax provision.

        Significant management judgment is required in determining our provision for income taxes, our deferred tax assets and liabilities and any valuation allowance recorded against our net deferred tax assets. We have recorded a valuation allowance of $12.3 million as of December 31, 2001, due to uncertainties related to the future benefits from our deferred tax assets, primarily consisting of certain foreign net operating losses and tax credits, before these losses and credits expire. The valuation allowance is based on our estimates of taxable income by jurisdiction in which we operate and the period over which our deferred tax assets will be recoverable. In the event that actual results differ from these estimates or we adjust these estimates in future periods, we may need to establish an additional valuation allowance which could materially impact our tax provision.

Legal Contingencies

        Because of the nature of our business, we may from time to time be subject to consumer product claims or various other lawsuits arising in the ordinary course of our business and we expect this will continue to be the case in the future. These lawsuits generally seek damages, sometimes in substantial amounts, for personal injuries or other commercial claims. In addition, we aggressively defend our patent and other intellectual property rights. This often involves bringing infringement or other commercial claims against third parties, which can be expensive and can result in counterclaims against us. We are currently involved in certain legal proceedings, as discussed in "Part II, Item 1. Legal

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Proceedings" in this quarterly report on Form 10-Q. We do not accrue for potential losses on legal proceedings where our company is the defendant when we are not able to quantify our potential liability, if any, due to uncertainty as to the nature, extent and validity of the claims against us, uncertainty as to the nature and extent of the damages or other relief sought by the plaintiff and the complexity of the issues involved. Our potential liability, if any, in a particular case may become quantifiable as the case progresses, which will require us to begin accruing for the expected loss.

        In addition, in Part II, Item 1 of this report, we have reported on certain legal proceedings as to which we do not believe a final ruling against us could have a material adverse impact on our financial position and operations. To the extent that unanticipated facts or circumstances arise that cause us to change this assessment with respect to any matter, our future results of operations and financial position could be materially affected.

Recently Issued Accounting Standards

        In June 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No. 142, which addresses changes in the financial accounting and reporting for acquired goodwill and other intangible assets with indefinite lives. Effective January 1, 2002, all existing acquired goodwill and other intangible assets with indefinite lives are no longer amortized to expense, with early adoption required for all goodwill and other intangible assets with indefinite lives acquired subsequent to June 30, 2001. The statement also provides specific guidance for determining and measuring impairment of all goodwill and other intangible assets. We recorded goodwill amortization of approximately $151,000 and $452,000 for the three and nine months ended September 30, 2001, respectively. Had SFAS No. 142 been effective during 2001, our (loss) income from continuing operations would have been $(137,000) and $1.0 million for the three and nine months ended September 2001, respectively, and net income would have been $304,000 and $1.6 million for the three and nine months ended September 2001, respectively. On a per share basis, (loss) income from continuing operations would have been $(0.02) and $0.16 for the three and nine months ended September 2001, respectively, and net income would have been $0.05 and $0.26 for the three and nine months ended September 2001, respectively. At September 30, 2002, the total amount of goodwill and other intangible assets with indefinite lives affected by this statement was $126.5 million, which were all acquired subsequent to June 30, 2001. Also, upon the adoption of SFAS No. 142, we recorded a goodwill impairment charge of $12.1 million during the first quarter of 2002. See Note 6 of the accompanying "Notes to Consolidated Financial Statements".

        In August 2001, the FASB issued SFAS No. 144, which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. This statement requires that a long-lived asset to be abandoned, exchanged for a similar productive asset, or distributed to owners in a spin-off be considered held and used until it is disposed of. The changes in this statement require that one accounting model be used for long-lived assets to be disposed of by sale, whether previously held and used or newly acquired, and broaden the presentation of discontinued operations to include more disposal transactions. SFAS No. 144 also provides guidance for determining and measuring impairment of long-lived and intangible assets, which do not materially differ from previous guidance. The provisions of this statement are effective for financial statements issued for fiscal years beginning after December 15, 2001 and interim periods within those fiscal years, with early adoption encouraged. The provisions of this statement generally are to be applied prospectively. During the first quarter of 2002, we recorded an impairment charge to our carrying value of certain trademarks and brand names of $12.7 million in accordance with SFAS No. 144. See Note 6 of the accompanying "Notes to Consolidated Financial Statements".

        In November 2001, the Emerging Issues Task Force ("EITF") issued EITF Issue No. 01-9, Accounting for Consideration Given by a Vendor to a Customer or a Reseller of the Vendor's Products. EITF Issue No. 01-9 establishes accounting and reporting standards for vendor consideration to any

35

purchasers of the vendor's products at any point along the distribution chain, regardless of whether the purchaser receiving the consideration is a direct customer. We offer certain sales incentives that fall within the scope of EITF Issue No. 01-9, such as free goods, slotting fees and cooperative advertising, to some of our customers. We adopted the provisions of this consensus in 2002, the effect of which was a net reclassification of $430,000 and $1.4 million from sales and marketing expenses and cost of sales to net product sales during the three and nine months ended September 30, 2001, respectively, for comparative purposes.

        In April 2002, the FASB issued SFAS No. 145, Rescission of FASB Statements No. 4, 44 and 64 Amendment of FASB Statement No. 13 and Technical Corrections which addresses the reporting of gains and losses resulting from the extinguishment of debt, accounting for sale-leaseback transactions and rescinds or amends other existing authoritative pronouncements. SFAS No. 145 requires that any gain or loss on the extinguishment of debt that does not meet the criteria of APB Opinion No. 30 for classification as an extraordinary item shall not be classified as extraordinary and shall be included in earnings from continuing operations. The provisions of this statement related to the extinguishment of debt are effective for financial statements issued in fiscal years beginning after May 15, 2002 with early application encouraged. Upon adoption of SFAS No. 145, all prior periods presented will be required to be restated. We plan to adopt SFAS No. 145 on January 1, 2003. Upon adoption, our after tax extraordinary gain from the early extinguishment of subordinated promissory notes recorded in the first quarter of 2002 will be reclassified to earnings from continuing operations.

Certain Factors Affecting Future Results

        There are various risks, including those described below, which may materially impact your investment in our company or may in the future, and, in some cases already do, materially affect us and our business, financial condition and results of operations. You should consider carefully these factors, as well as the risk factors identified from time to time in our periodic filings with the Securities and Exchange Commission, in connection with your investment in our securities. This section includes or refers to certain forward-looking statements; you should read the explanation of the qualifications and limitations on such forward-looking statements on pages 1 and 51 of this report.

Our business has substantial indebtedness which could result in adverse consequences for us.

        As of September 30, 2002, we had approximately $94.9 million of outstanding indebtedness under our credit facilities and other debt-related instruments. Our substantial level of debt affects our future operations in several important ways, including the following:

•

our ability to obtain additional financing may be impaired;



•

our flexibility to adjust to market conditions is limited, leaving us vulnerable in a downturn in general economic conditions or in our business and less able to plan for, or react to, changes in our business and the industries in which we operate;



•

we may need to use a large portion of our cash flow from operations to pay principal and interest on our indebtedness, which would reduce the amount of cash available to finance our operations and other business activities and may require us, in order to meet our debt service obligations, to delay or reduce capital expenditures or the introduction of new products and/or forego business opportunities including acquisitions, research and development projects or product design enhancements; and



•

we may be at a competitive disadvantage compared to our competitors that have less debt.

        Furthermore, there can be no assurance that our cash flow from operations and capital resources will be sufficient to pay our indebtedness. If our cash flow and capital resources prove inadequate, we

36

could face substantial liquidity problems and might be required to dispose of material assets or operations, restructure or refinance our debt or seek additional equity capital.

        Additionally, the agreements governing our indebtedness subject us to various restrictions on our ability to engage in certain activities, including, among other things, our ability to:

•

incur additional indebtedness;



•

acquire other businesses;



•

make investments;



•

make loans to or extend credit for the benefit of third parties or certain of our subsidiaries;



•

make capital or finance lease expenditures; and



•

dispose of or encumber assets.

        These restrictions may limit our ability to pursue business opportunities or strategies that we would otherwise consider to be in the best interests of our shareholders.

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Our credit facilities contain certain financial covenants and other conditions that we may not satisfy which, if not satisfied, could result in the acceleration of the amounts due under our credit facilities and the limitation of our ability to borrow additional funds in the future.

        As of September 30, 2002, we had approximately $53.4 million of outstanding indebtedness under our various credit facilities, substantially all of which was owed to The Royal Bank of Scotland plc and related entities and Congress Financial Corporation. The agreements governing these various credit facilities subject us to various financial and other covenants with which we must comply on an ongoing or periodic basis. These include covenants pertaining to interest coverage, cash flow coverage, leverage and EBITDA, and tangible net worth. If we violate any of these covenants, there may be a material adverse effect on us. Most notably, our outstanding debt under one or more of our credit facilities could become immediately due and our ability to borrow additional funds in the future may be limited. Additionally, under the terms of our credit facilities with The Royal Bank of Scotland plc and related entities, if either Mr. Ron Zwanziger or Dr. David Scott ceases to be a member of our board of directors, the full amount of our indebtedness under these credit facilities will accelerate. Mr. Zwanziger and Dr. Scott, both of whom are executive officers of our company, are currently serving on our board of directors; however, there is no assurance that they will continue to do so.

Rising interest rates would increase our interest costs and reduce our earnings.

        We currently have, and may incur more, indebtedness that bears interest at variable rates. Accordingly, if interest rates increase, so will our interest costs, which would adversely affect our earnings, cash flow and our ability to service debt.

Non-competition obligations and other restrictions will limit our ability to take full advantage of our management team, the technology we own or license and our research and development capabilities.

        Members of our management team have had significant experience in the diabetes field, technology we own or license may have potential applications to this field, and our research and development capabilities could be applied to this field. However, in conjunction with our split-off from Inverness Medical Technology, Inc., or IMT, we agreed in the post-closing covenants agreement not to compete with IMT and Johnson & Johnson in the field of diabetes. In addition, Mr. Ron Zwanziger, our Chairman, President and Chief Executive Officer, and two of our senior scientists, Dr. David Scott and Dr. Jerry McAleer, have entered into consulting agreements with IMT that impose similar restrictions. Further, our license agreement with IMT prevents us from using any of the licensed technology in the field of diabetes. As a result of these restrictions, we cannot pursue opportunities in the field of diabetes.

Our acquisitions of the Unipath business, IVC and Wampole may not be profitable or successfully integrated and may result in significant charges against earnings.

        On December 20, 2001, we acquired the Unipath business from Unilever and certain affiliated entities. On March 19, 2002, we acquired IVC. On September 20, 2002, we acquired the Wampole Division of MedPointe Inc. The value of the Unipath business, IVC or Wampole to us may not be greater than or equal to their purchase prices. Further, we cannot guarantee that we will realize any of the benefits or strategic objectives we are seeking to obtain by acquiring the Unipath business, IVC or Wampole. In connection with the accounting for the acquisitions of the Unipath business and Wampole, we have recorded a significant amount of intangible assets. Under SFAS No. 142, we must assess, at least annually and potentially more frequently, whether the value of goodwill and other intangible assets has been impaired. Any reduction or impairment of the value of goodwill or other intangible assets will result in a charge against earnings which could materially adversely affect our results of operations in future periods.

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We may not be able to complete our pending acquisition of Ostex, in which case we will have incurred substantial expenses without realizing the expected benefits.

        Our pending acquisition of Ostex is subject to several closing conditions, including approval of the merger agreement governing the acquisition by Ostex's shareholders and our receipt of any necessary consents with respect to the transactions contemplated by the merger agreement required under any of our material loan agreements. There is no assurance that the acquisition will occur. If the acquisition does not occur, we expect to incur approximately $1.25 million to $1.75 million in acquisition related expenses. These expenses may have a material adverse impact on our results of operations and financial condition because we will not have realized the expected benefits of the acquisition of Ostex.

If our pending acquisition of Ostex is completed, integration of operations may be difficult and may lead to adverse effects.

        The success of our pending acquisition of Ostex, if it is completed, will depend, in part, on our ability to realize the anticipated synergies, cost savings and growth opportunities from integrating Ostex's business with our business. Our success in realizing these benefits and the timing of this realization depend upon the successful integration of the operations of Ostex. The integration of two independent companies is a complex, costly and time-consuming process. The difficulties of combining the operations of the companies include among others:

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consolidating manufacturing, research and development operations;



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coordinating sales, distribution and marketing functions;



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preserving the important licensing, research and development, manufacturing and supply, distribution, marketing, customer and other relationships of Ostex;



•

minimizing the diversion of management's attention from ongoing business concerns; and



•

coordinating geographically separate organizations.

        We may not accomplish this integration smoothly or successfully. The diversion of the attention of our management from our current operations to the integration effort and any difficulties encountered in combining operations could prevent us from realizing the full benefits anticipated to result from the acquisition and adversely affect our other businesses.

We expect to record a significant amount of goodwill and other intangible assets in connection with our pending acquisition of Ostex, which may result in significant future charges against earnings if the goodwill and other intangible assets become impaired.

        In connection with the accounting for the pending acquisition of Ostex, we expect to record a significant amount of goodwill and other intangible assets. Under SFAS No. 142, we must assess, at least annually and potentially more frequently, whether the value of goodwill and other intangible assets has been impaired. Any reduction or impairment of the value of goodwill or other intangible assets will result in a charge against earnings which could materially adversely affect our results of operations in future periods.

We could experience significant manufacturing delays, disruptions to our ongoing research and development and increased production costs if Unilever is unable to successfully assign or sublease to us the lease for the primary operating facility of the Unipath business which is located in Bedford, England.

        The primary operating facility of the Unipath business that we acquired from Unilever is located in Bedford, England. The Bedford facility is a multi-purpose facility that is registered with the U.S. Food and Drug Administration, contains state-of-the-art research laboratories and is equipped with

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specialized manufacturing equipment. This facility currently provides the manufacturing for the Unipath business that we acquired last year, serves as our research and development center and serves as the administrative center for our European operations. We are currently using the Bedford facility pursuant to an agreement with Unilever entered into in connection with our acquisition of the Unipath business. Unilever currently leases this facility from a third party landlord. Pursuant to the terms of Unilever's lease, however, Unilever is not permitted to assign the lease or sublet the Bedford facility without obtaining the prior written consent of the landlord (which consent may not be unreasonably withheld). The landlord has indicated that it will not consent to an assignment of the lease to us. We, Unilever and the landlord are currently negotiating the terms of a sublease. The terms of our acquisition of the Unipath business obligate Unilever to use reasonable endeavors to obtain the landlord's consent to assignment or to a sublease of the facility and, if necessary, to pursue the assignment or sublease through the courts. There are no assurances that Unilever will be successful in obtaining the landlord's consent to assignment of the lease to us or to a sublease to us. If Unilever is unable to successfully acquire such consent or otherwise enable us to realize the benefit of its lease of the Bedford facility, we may be forced to renegotiate a lease of the Bedford facility on substantially less favorable terms or seek alternative means of producing our products, conducting our research and housing our European administrative staff. In either case, we may experience manufacturing delays and disruptions to our ongoing research and development while we are resolving these issues and increased production costs in the future. Additionally, there are no assurances that we will be able to renegotiate a lease for the Bedford facility on terms that are acceptable to us or find an acceptable replacement for this facility. Any one or more of these events may have a material adverse effect on us.

If we choose to acquire or invest in new and complementary businesses, products or technologies instead of developing them ourselves, these acquisitions or investments could disrupt our business and, depending on how we finance these acquisitions or investments, could result in significant dilution to our existing shareholders.

        Our success depends in part on our ability to continually enhance and broaden our product offerings in response to changing technologies, customer demands and competitive pressures. Accordingly, from time to time we may seek to acquire or invest in businesses, products or technologies instead of developing them ourselves. Acquisitions and investments involve numerous risks, including:

•

the inability to complete the acquisition or investment;



•

disruption of our ongoing businesses and diversion of management attention;



•

difficulties in integrating the acquired entities, products or technologies;



•

difficulties in operating the acquired business profitably;



•

the inability to achieve anticipated cost savings;



•

potential loss of key employees, particularly those of the acquired business;



•

difficulties in transitioning key customer, distributor and supplier relationships;



•

risks associated with entering markets in which we have no or limited prior experience; and



•

unanticipated costs.

        In addition, any future acquisitions or investments may result in:

•

dilutive issuances of equity securities, which may be sold at a discount to market price;



•

use of significant amounts of cash;



•

the incurrence of debt;

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•

the assumption of liabilities;



•

unfavorable financing terms;



•

large one-time expenses; and



•

the creation of certain intangible assets, including goodwill, the write-down of which may result in significant charges to earnings.

        Any of these factors could materially harm our business or our operating results.

Manufacturing problems or delays could severely affect our business.

        We produce most of our consumer products in our manufacturing facilities located in New Jersey, Bedford, England and Galway, Ireland and our clinical diagnostic tests in our manufacturing facilities located in Bedford, England and Yavne, Israel. Our production processes are complex and require specialized and expensive equipment. Replacement parts for our specialized equipment can be expensive and, in some cases, can require lead times of up to a year to acquire. We also rely on third parties to supply production materials and in some cases there may not be alternative sources immediately available. In addition, we rely on third parties to manufacture most of our recently acquired Wampole lines of products. Any event impacting our manufacturing facilities, our manufacturing systems or equipment, or our contract manufacturers or suppliers could delay or suspend shipments of products, or could result in the delivery of inferior products. Our revenues from the affected products would decline until such time as we were able to restore our production processes or put in place alternative contract manufacturers or suppliers. Even though we carry business interruption insurance policies, we may suffer losses as a result of business interruptions that exceed the coverage available under our insurance policies.

If we fail to meet strict regulatory requirements, we could be required to pay fines or even close our facilities.

        Our facilities and manufacturing techniques generally must conform to standards that are established by government agencies, including those of European and other foreign governments, as well as the FDA and, to a lesser extent, the DEA and local health agencies. These regulatory agencies may conduct periodic inspections of our facilities to monitor our compliance with applicable regulatory standards. If a regulatory agency finds that we fail to comply with the appropriate regulatory standards, it may impose fines on us or if such a regulatory agency determines that our non-compliance is severe, it may close our facilities. Any adverse action by an applicable regulatory agency could impair our ability to produce our products in a cost-effective and timely manner in order to meet our customers' demands. These regulatory agencies may also impose new or enhanced standards that would increase our costs as well as the risks associated with non-compliance. We anticipate that the FDA may soon propose "good manufacturing practice" (GMP) regulations for nutritional supplements. GMP regulations would require supplements to be prepared, packaged and held in compliance with certain rules, and might require quality control provisions similar to those in the GMP regulations for drugs. There can be no assurance that, if the FDA adopts GMP regulations for nutritional supplements, we will be able to comply with the new rules without incurring substantial expenses in order to do so.

If we deliver products with defects, our credibility may be harmed, market acceptance of our products may decrease and we may be exposed to liability in excess of our product liability insurance coverage.

        The manufacturing and marketing of consumer and clinical diagnostic products involve an inherent risk of product liability claims. In addition, our product development and production are extremely complex and could expose our products to defects. Any defects could harm our credibility and decrease market acceptance of our products. In addition, our marketing of vitamins and nutritional supplements

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may cause us to be subjected to various product liability claims, including, among others, claims that the vitamins and nutritional supplements have inadequate warnings concerning side effects and interactions with other substances. Potential product liability claims may exceed the amount of our insurance coverage or may be excluded from coverage under the terms of the policy. In the event that we are held liable for a claim for which we are not indemnified, or for damages exceeding the limits of our insurance coverage, that claim could materially damage our business and our financial condition.

Sales of our branded nutritional supplements have declined each year since 1998 due to the maturity of the market segments they serve and the age of that product line and we may experience further declines in sales of those products.

        Sales of our branded nutritional products have declined each year since 1998. We believe that those products have under-performed because they are, for the most part, aging brands with limited brand retention that face increasing private label competition. The age of this product line means that we are subject to future distribution loss for under-performing brands, while our opportunities for new distribution on the existing product lines are limited.

The vitamin and nutritional supplements market is subject to significant fluctuations based upon media attention and new developments.

        Most growth in the vitamin and nutritional supplement industry is attributed to new products that generate attention in the marketplace. Positive media attention resulting from new scientific studies or announcements can spur rapid growth in individual segments of the market, and also impact individual brands. Conversely, news that challenges individual segments or products can have a negative impact on the industry overall as well as on sales of the challenged segments or products. Most of our vitamin and nutritional supplements products serve well-established market segments and, absent unforeseen new developments or trends, are not expected to benefit from rapid growth. A few of our vitamin and nutritional products are newer products that are more likely to be the subject of new scientific studies or announcements, which could be either positive or negative. News or other developments that challenge the safety or effectiveness of these products could negatively impact the profitability of our vitamin and nutritional supplements business.

We market our Orgenics clinical diagnostic products to small and medium sized customers in more than 90 countries at considerable cost that reduces the operating margins in our Orgenics clinical diagnostics business.

        Because small and medium sized laboratories are the principal customers of our Orgenics clinical diagnostic products, we sell these products worldwide in order to maintain sufficient sales volume. Our Orgenics clinical diagnostic products are marketed in more than 90 countries, including many third world and developing nations where smaller laboratories are the norm, where more expensive technologies are not affordable and where infectious diseases are often more prevalent. This worldwide sales strategy is expensive and results in lower margins than would be possible if we could generate sufficient sales volume by operating in fewer markets.

We could suffer monetary damages, incur substantial costs or be prevented from using technologies important to our products as a result of a number of pending legal proceedings.

        We are involved in various legal proceedings arising out of our consumer diagnostics, nutritional supplements and clinical diagnostics business. The current material legal proceedings are:

•

a lawsuit by Abbott Laboratories against us and Princeton BioMeditech Corporation (referred to as PBM), which manufactured products for our consumer diagnostics business while we were part of IMT, claiming, among other things, that some of our products relating to pregnancy

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detection and ovulation prediction infringe patents to which Abbott asserts it is the exclusive licensee;

•

a counterclaim by PBM against us in a patent infringement suit maintained by our subsidiaries, Inverness Medical Switzerland GmbH and Unipath Diagnostics, Inc., against PBM et. al. in which PBM alleges that we have breached various obligations to PBM arising out of its joint venture with us and have attempted to monopolize the market for home pregnancy tests; and



•

an action brought by 68 consumers in London alleging defects in our Persona contraceptive device leading to unwanted pregnancies. Any liability in this matter is fully covered by separate insurance provided by Unilever in connection with our acquisition of the Unipath business.

        Because the above claims each seek damages and reimbursement for costs and expenses without specific amounts, we are unable to assess the probable outcome of or potential liability arising from the lawsuits.

        In connection with our split-off from IMT, we agreed to assume, to the extent permitted by law, and indemnify IMT for, all liabilities arising out of the women's health, nutritional supplements and clinical diagnostics businesses before or after the split-off to the extent such liabilities are not otherwise retained by IMT. Through our acquisitions of the Unipath business, IVC and Wampole, we also assumed or acquired substantially all of the liabilities of those businesses. We are unable to assess the materiality or costs associated with these lawsuits at this time. We cannot assure you that these lawsuits or any future lawsuits relating to our businesses will not have a material adverse effect on us.

The profitability of our consumer products businesses may suffer if we are unable to establish and maintain close working relationships with our customers.

        Our consumer products businesses rely to a great extent on close working relationships with our customers rather than long-term exclusive contractual arrangements. Customer concentration in these businesses is high, especially in our private label nutritional supplements business. In addition, customers of our branded and private label consumer products businesses purchase products through purchase orders only and are not obligated to make future purchases. For these reasons, the loss of a major customer and the failure to generate new accounts could significantly reduce our revenues or prevent us from achieving projected growth.

Our private label nutritional supplements business is a low margin business susceptible to changes in costs and pricing pressures.

        Our private label nutritional supplements business operates on low profit margins. Changes in raw material cost can drastically cut into or eliminate the profits generated from the sale of a particular product. For the most part, we do not have long-term supply contracts for our required raw materials and, as a result, our costs can increase with little notice. The private label nutritional supplements business is also highly competitive such that our ability to raise prices as a result of increased costs is limited. Customers generally purchase private label products via purchase order, not through long-term contracts, and they often purchase these products from the lowest bidder on a product by product basis. The internet has enhanced price competition among private label manufacturers through the advent of on-line auctions, where mass merchandisers will auction off the right to manufacture a particular product to the lowest, often anonymous bidder.

Retailer consolidation poses a threat to existing retailer relationships and can result in lost revenue.

        Recent years have witnessed rapid consolidation within the mass retail industry. Drug store chains, grocery stores and mass merchandisers, the primary purchasers of our consumer diagnostic products and vitamins and nutritional supplements, have all been subject to this trend. Because these customers

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purchase through purchase orders, consolidation can interfere with existing retailer relationships, especially private label relationships, and result in the loss of major customers and significant revenue streams.

Our financial condition or results of operations may be adversely affected by international business risks.

        A significant number of our employees, including sales, support and research and development personnel, are located outside of the United States. Conducting business outside of the United States is subject to numerous risks, including:

•

decreased liquidity resulting from longer accounts receivable collection cycles typical of foreign countries;



•

lower productivity resulting from difficulties managing our sales, support and research and development operations across many countries;



•

lost revenues resulting from difficulties associated with enforcing agreements and collecting receivables through foreign legal systems;



•

lost revenues resulting from the imposition by foreign governments of trade protection measures; and



•

higher cost of sales resulting from import or export licensing requirements.