UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

For the fiscal year ended December 31, 20052006

OR

For the transition period from                    to                    

Commission File Number 000-30975

TRANSGENOMIC, INC.

(Exact Name of Registrant as Specified in its Charter)

(402) 452-5400

(Registrant’s Telephone Number, Including Area Code)

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

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

Common Stock, par value $.01 per share

(Title of Class)

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

Yes¨    No    X    x

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

Yes¨    No    X    x

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

Yes    X        No  x    No¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form10-K    X     x

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

Large Accelerated Filer ¨            Accelerated Filer ¨            Non-Accelerated Filer x

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

Yes¨    No    X    x

The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant based on the last reported closing price per share of Common Stock as reported on The Nasdaq NationalGlobal Market on the last business day of the registrant’s most recently completed second quarter was approximately $23.28$22.63 million.

At March 30, 2006,2007, the registrant had 49,189,672 shares of Common Stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant Proxy Statement relating to its 20062007 Annual Meeting of Stockholders (the “Proxy Statement”) have been incorporated into Parts II and IIPart III of this Report on Form 10-K.

TRANSGENOMIC, INC.

Index to Form 10-K for the Fiscal Year Ended December 31, 20052006

This Annual Report on Form 10-K references the following registered trademarks which are the property of Transgenomic: DNASEP^® Columns, WAVE^® System, WAVEMAKER^® Software, TRANSFORMING THE WORLD^® for Laboratory Equipment, TRANSGENOMIC^® and the Globe Logo^®; MutationDiscovery.com^® Website, OLIGOSEP^® for Systems and Reagents, OPTIMASE^® Polymerase, RNASEP^® Columns, SURVEYOR^®WAVE OPTIMIZED^® reagents, and WAVE^® MD Systems. Additionally, this Annual reportReport on Form 10-K references the following trademarks which are the property of Transgenomic: MitoScreen™MitoScreen^™ Kits, ProtocolWriter™ProtocolWriter^™ Software, Navigator™Navigator^™ Software, THE POWER OF DISCOVERY™DISCOVERY^™ for Lab Reagents and Educational Programs, and Surveyor™Surveyor^™ Nuclease. All other trademarks or trade names referred to in this Annual Report on Form 10-K are the property of their respective owners.

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PART I

FORWARD-LOOKING STATEMENTS

This Annual Report on Form 10-K contains or incorporates by reference certain forward-looking statements. Many of these forward-looking statements refer to our plans, objectives, expectations and intentions, as well as our future financial results and are subject to risk and uncertainty. You can identify these forward-looking statements by words such as “expects,” “anticipates,” “intends,” “plans,” “may,” “will,” “believes,” “seeks,” “estimates” and similar expressions. Because these forward-looking statements involve risks and uncertainties, there are many factors that could cause our actual results to differ materially from those expressed or implied by these forward-looking statements, including those discussed under “Risks Related to Our Business” and other factors identified by cautionary language used elsewhere in the Annual Report on Form 10-K.

Item 1. Our Business

Transgenomic, Inc. (the “Company”) provides innovative products for the synthesis, purification and analysis of nucleic acids used in the life sciences industry for research focused on molecular genetics and diagnostics. We develop, assemble, manufacture and market versatile products andalso provide genetic variation analytical services to the medical research, clinical and pharmaceutical markets for use in genetic variation analysis. Products and services are sold through a direct sales force in the United States and throughout much of Western Europe. For the rest of the world, products and services are sold through more than 25 dealers and distributors located in those local markets. Net sales are categorized as bioinstruments, bioconsumables and discovery services.

Historically, we operated a segment (the “Nucleic Acids operating segment”) that developed, manufactured and marketed chemical building blocks for nucleic acid synthesis to biotechnology, pharmaceutical and oligonucleotide synthesis companies and research institutions throughout the world.synthesis. In the fourth quarter of 2005, we implemented a plan to exit the Nucleic Acids operating segment and have recently completed the sale of the remaining assets associated with this operating segment. Accordingly, the assets and results of this businessthe Nucleic Acids operating segment are reflected as discontinued operations for all periods presented.presented in this filing.

Business Strategy

Since inception, our business strategy has been to provide products and services to biomedical researchers, medical institutions, diagnostic and pharmaceutical companies that are tied to advancements in the field of genomics. Advances in genomics have fueled efforts to understand individual differences in disease susceptibility, disease progression, and response to therapy. Accordingly, a principal component of our strategy has been to establish our WAVE® systemWAVE System as an industry standard in the biomedical research market and to develop additional markets for the WAVE® systemWAVE System such as clinical research and diagnostics. Through an expanding base of installed systems, we expect to increase the sales of consumable products used with the WAVE® systemWAVE System and create opportunities to market additional products to this customer base.

In addition, through our Discovery Services offerings, we have gained exposure to the translational and clinical research markets, laying the foundation for increasing our participation in the full value chain associated with activities ranging from basic biomedical research to development of diagnostic and therapeutic products.

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Significant 2005 Events

We decided to exit our former Nucleic Acids operating segment.

On December 22, 2005, the Company’s Directors voted to either sell or close and liquidate the Nucleic Acids operating segment, which consists primarily of a manufacturing facility in Glasgow, Scotland. This decision was made after an evaluation of, among other things, short and long-term sales projections for products sold by this operating segment, including estimates of 2006 sales to the operating segment’s largest customer. While opportunities to sell this operating segment as a going concern are being evaluated, we have commenced procedures, including notification of affected employees, which may lead to closure and liquidation of the facility in Glasgow, Scotland. During 2006, we expect to incur costs of approximately $0.72 million related to statutory payments to affected employees and other costs specifically attributable to closure of the facility which have been accrued at December 31, 2005. In addition, the Company expects to incur additional period costs of approximately $0.25 million in each of the first two quarters of 2006 attributable to closure of the facility that will be recorded in discontinued operations in 2006. In conjunction with the decision to exit this operating segment, the Company recorded an impairment charge of $8.02 million consisting of valuation adjustments to reflect the carrying value of the related net assets at estimated fair market value. We now reflect the results of this operating segment as discontinued operations for all periods presented.

We completed a private placement of our common stock in the fourth quarter.

On October 31, 2005, we issued securities to institutional investors in a private placement (the “2005 Private Placement”). The securities issued consisted of: (i) 14,925,743 shares of the Company’s common stock, plus (ii) five-year, non-callable warrants to purchase another 5,970,297 shares of common stock with an exercise price of $1.20 per share. The aggregate purchase price for the securities sold was $1.01 per share of common stock initially being sold or $15.08 million. In conjunction with this transaction, we issued a warrant to Oppenheimer & Co., Inc. to purchase 932,859 shares at $1.20 per share as part of their placement fee.

The net proceeds from the 2005 Private Placement were $13.90 million after transaction costs of $1.18 million. These proceeds were partially used to repay all outstanding principal and accrued interest on our loans to Laurus Master Funds, Ltd. (“Laurus”) including fees paid to Laurus to facilitate the 2005 Private Placement and prepayment penalties to Laurus in the sum of $0.82 million. The remaining proceeds of $5.35 million will be used for future working capital needs.

One of our laboratories was certified under the Clinical Laboratory Improvement Amendment, and we began to offer molecular-based testing to physicians and third-party laboratories.

During the fourth quarter of 2005, our laboratory in Omaha, Nebraska was certified under the Clinical Laboratory Improvement Amendments and we received our first patient samples for molecular-based testing for hematology, oncology and certain inherited diseases for physicians and third-party laboratories. We believe there is a significant opportunity for us to capitalize on the increasing demand for molecular-based personalized medicine by leveraging on our technologies and experience gained from the genomic biomarker analysis that our Discovery Services Group has and will continue to provide to pharmaceutical and biopharmaceutical companies.

Significant Recent Events

We introduced the newest generation ofThere have been key changes to our flagship product, the WAVE^® system 4500.senior management.

On April 3, 2006, Collin J. D’Silva resigned as our President and Chief Executive Officer. Mr. D’Silva served as our Chairman until January 19, 2007, when he also resigned from our Board of Directors and as our Chairman. The Board of Directors appointed Gregory Sloma, a current independent director, to serve as the interim Chairman of the Board.

Craig J. Tuttle joined the Company as the President and Chief Executive Officer on July 12, 2006, Mr. Tuttle, age 54, has over 25 years of general management, sales and marketing, and research and development experience in medical diagnostic and biotechnology companies. During 2004 and 2005, Mr. Tuttle was the President and Chief Operating Officer of Duke Scientific, a Northern California specialty chemistry manufacturer, and led the sale of Duke Scientific to Fisher Healthcare in 2005.

On September 20, 2006, Michael A. Summers, resigned as our Chief Financial Officer in order to pursue another professional opportunity. On December 4, 2006, Debra A. Schneider, age 48, joined the Company as Vice President and Chief Financial Officer. Ms. Schneider also serves as the Secretary and Treasurer of the Company. Ms. Schneider was most recently employed by First Data Corporation, a provider of processing and related services to institutions issuing credit and debit cards. Ms Schneider’s tenure at First Data Corporation covered seventeen years during which she served in a number of roles including finance planning, accounting and Chief Financial Officer for various business units. Most recently she served as Senior Vice President of Finance.

The Company has been engaged in a process of exploring strategic alternatives, which it recently terminated.

The Company’s Board of Directors hired an independent financial advisor to assist the Board in its evaluation of potential strategic alternatives available to the Company that included but were not

limited to (i) the sale of all or a portion of the continuing business or related assets; (ii) the acquisition of complementary businesses or assets; (iii) a merger; and (iv) other complementary business partnerships and collaborations. Although the financial advisor contacted a substantial number of companies, both in and outside of the genomics industry, regarding a potential strategic transaction, and management entered into negotiations with a number of these companies, no agreements were reached with any company with respect to such a transaction. The Board of Directors has elected to terminate its contract with the independent financial advisor effective April 25, 2007.

We exited our former Nucleic Acids operating segment.

On December 22, 2005, the Company’s Directors voted to either sell or close and liquidate the Nucleic Acids operating segment, which consisted primarily of a manufacturing facility in Glasgow, Scotland. This decision was made after an evaluation of, among other things, short and long-term sales projections for products sold by this operating segment, including estimates of 2006 sales to the operating segment’s largest customer. While opportunities to sell this operating segment as a going concern were evaluated, we introduceddid not receive any offers to purchase the newest versionNucleic Acids operating segment. Accordingly, we closed the Glasgow facility and began the liquidation of the assets associated with the Nucleic Acids operating segment. All employees of this operating segment were either dismissed or redeployed to our WAVE^® platform,Bioinstruments operating segment. The Glasgow facility was sold on February 28, 2007 for approximately $2.7 million after associated selling costs. Proceeds will be used in the WAVEnormal operations of the Company.

^®We have continued to work to reduce operating costs system 4500. The WAVE^® 4500 includes enhancements that are

On February 20, 2007, we announced a cost reduction plan designed to optimize sensitivity and throughput foralign our customers while reducing our overall product and maintenance cost. In additioncost structure with anticipated revenues. The plan is expected to new product sales, certain enhancedyield annualized savings of approximately $1.5 million once all components of the WAVE^® 4500, includingplan are fully implemented. The closing of the oven and software, will provide modular upgrade opportunities for our existing customers.

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InCompany’s Cramlington, England production facility is the principal component of this plan. We expect to incur aggregate charges estimated at $1.2 to $1.4 million during the first quarter, Laurus converted $2.52 millionand second quarters of its loans into shares2007, relating primarily to severance, benefits and facility closure costs.

Our stock has been delisted from the Nasdaq Capital Market and is now trading on the OTC Bulletin Board (OTCBB)

On February 1, 2007, we received a staff determination letter from Nasdaq’s Listing Qualifications Department indicating that we no longer met the minimum bid price requirement for continued listing on the Nasdaq Capital Market. As a result, the listing of our common stock.

On March 18, 2005, we allowed Laurus to convert $1.87 million ofstock on the outstanding principal balance under our convertible line of credit (the “Credit Line”) into 3,600,000 shares ofNasdaq Capital Market was ended on February 22, 2007. Trading information about our common stock. In addition,stock became available on March 24, 2005 we allowed Laurus to convert $0.65 million of the outstanding principal balance of our convertible term note (the “Term Note”) into 1,250,000 shares of our common stock. The Credit Line and Term Note (collectively, the “Laurus Loans”) were subsequently repaid in September 2005 and are no longer available to us.OTC Bulletin Board beginning on February 26, 2007.

Sales and Marketing

We have sold our products to customers in over 3050 countries. We use a direct sales and support staff for sales in the U.S., U.K. and most countries in Western Europe. For the rest of the world, we sell our products through dealers and distributors located in those local markets. We have over 2535 dealers and distributors. We also maintain regionally-based technical support staffs and applications scientists to support our sales and marketing activities throughout the U.S. and Europe. The nature of our instruments and bioconsumables business does not generally lend itself to tracking and reporting sales backlog.

Customers

Customers include numerous leading academic and medical institutions in the U.S. and abroad. In addition, our customers also include a number of large, established U.S. and foreign pharmaceutical, biotech and commercial companies. No customer accounts for more than 10% of consolidated net sales.

Research and Development

We maintain an active program of research and development primarily directed toward the improvement of the DNA separation media used in our WAVE^® system, System, the refinement of the hardware and software components of the WAVE^® system, System, the creation of unique enzymes and WAVE-Optimized^® enzymes, and the development of assays on the WAVE^® system. System. We have also focused on further refinements and process manufacturing improvements for our Surveyor DNA mismatch cutting enzyme. Most importantly, we completed a large cancer mutation scanning study where we employed our SURVEYOR and WAVE System technology to discover a significant number of cancer linked mutations which we believe may have commercial value in the future. We plan to prepare patent submissions on discovered mutations for up to 40 key cancer regulating and signaling genes.

For the years ended December 31, 2006, 2005 2004 and 2003,2004, our research and development expenses were $2.36 million, $2.20 million $4.50 million and $6.83$4.50 million, respectively. We will need to continue to invest in research and development activities in order to remain competitive and to take advantage of new business opportunities as they arise. During 2006,2007, we expect research and development expense to be approximately equal to the 20052006 levels.

In addition to the amounts reflected above, our discontinued operations incurred no research and development expenses during the years ended December 31, 2006 and 2005 and $2.18 million during the year ended December 31, 2005 and $2.18 million and $2.47 million during the years ended December 31, 2004 and 2003, respectively.2004.

Manufacturing

We manufacture bioconsumable products including our separation columns, liquid reagents, and enzymes. The major components of our WAVE^® systems Systems are manufactured for us by a third party. We integrate our own hardware and software with these third party manufactured components. Our manufacturing facilities for our WAVE^® systems Systems and bioconsumables are located in Omaha, Nebraska, San Jose, California, and Cramlington, England. The nature of our instruments and bioconsumables business does not generally lend itselfEngland (through December 31, 2006). As noted earlier, we plan to tracking and reporting sales backlog.close the Cramlington, England facility in 2007.

Intellectual Property

To establish and protect our proprietary technologies and products, we rely on a combination of patent, copyright, trademark and trade-secret laws, as well as confidentiality provisions in our contracts. We presently own rights to more than 4070 issued patents and 2013 pending applications in both the U.S. and abroad. Our WAVE^® System and related

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consumables are protected by patents and in-licensed technologies that expire in various periods beginning in 2013 through 2022. We will continue to file patent applications and seek new licenses as warranted to protect and develop new technologies of interest to our customer base in the coming years.

Competition

The markets in which we operate are highly competitive and characterized by rapidly changing technological advances. A number of our competitors possess substantial resources and are able to develop and offer a much greater breadth of products and/or services, coupled with significant marketing and distribution capabilities. We compete principally on the basis of uniquely enabling technical advantages in specific but significant market segments.

Competition for our WAVE^® systems Systems arises primarily from DNA sequencing and genotyping technologies. Competitors in these areas include Applied Biosystems, Beckman Coulter, Amersham (now part of GE Healthcare), Affymetrix, Agilent Technologies, Nanogen, Illumina, Sequenom, Pyrosequencing (now part of Biotage AB), Varian, and others. Competition for some of our non-WAVE^® consumable products comes from numerous well-diversified life sciences reagents providers, including, among others, Invitrogen, Qiagen, Roche, Stratagene, and Promega. Our discovery services product line facesface competition from a number of companies offering contract DNA sequencing and other genomic analysis services, including Genaissance Pharmaceuticals, GeneLogic, Agencourt, SeqWright, Gentris, and Perlagen. In addition, several clinical diagnostics service providers, such as Labcorp, Quest, and Specialty Laboratories, also offer related laboratory services in support of clinical trials. Finally, additional competition arises from academic core laboratory facilities.

Employees

As of December 31, 2006, 2005 2004 and 2003,2004, we had employees focused in the following areas of our operation:

Our employees were employed in the following geographical locations.locations:

We supplement our workforce through the use of independent contractors and consultants. At December 31, 2006, 2005 2004 and 2003,2004, we have engaged independent contractors or consultants who provide services to us approximately equivalent to one, fiveone and fourfive full-time employees, respectively.

General Information

We were incorporated in Delaware on March 6, 1997. Our principal office is located at 12325 Emmet Street, Omaha, Nebraska 68164 (telephone: 402-452-5400). We maintain manufacturing facilities in Omaha, Nebraska, San Jose, California, and Cramlington, England. We maintain research and development offices in Gaithersburg, Maryland and Omaha, Nebraska. Additionally, our discontinued operation includes a manufacturingAs noted earlier, we plan to close the Cramlington, England facility in Glasgow, Scotland.2007.

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We make reports filed by us with the SEC available free of charge on our website as soon as reasonably practicable after these reports are filed. The address of our website iswww.transgenomic.com. Information on our website, including any SEC report, is not part of this Annual Report on Form 10-K.

We may not have adequate financial resources to execute our business plan.

We have historically operated at a loss and have not generated sufficient cash from operating activities to cover our operating and other cash expenses. While we have been able to historically finance our operating losses through borrowings or from the issuance of additional equity, we currently have no plans to borrow additional funds or to issue additional equity securities for this purpose. At March 30, 2007 and December 31, 2005,2006, we had cash and cash equivalents of $6.74 million.$7.91 million and $5.87 million, respectively. While we believe that existing sources of liquidity are sufficient to meet expected cash needs through 2006,2007, we have experienced recurring net losses and have an accumulated deficit totaling $122.09 million at December 31, 2005 and have historically relied upon cash flows from investing and financing activitieswill need to offset significant cash outflows fromincrease our revenues or further reduce our operating activities. To the extent necessary, we believe that we can manage costs and expenses at reduced levels to conserve working capital. The need for any such cost and expense reductions would likely delay implementation of our business plan. Ultimately, we must achieve sufficient revenues in order to generate positive net earnings and cash flows from operations.be assured of meeting our liquidity needs on a long-term basis. However, we cannot assure you that we will be able to increase our revenues.revenues or further reduce our expenses and, accordingly, we may not have sufficient sources of liquidity to continue the operations of the Company indefinitely.

We have a history of operating losses and may incur losses in the future.

We have experienced annual losses from continuing operations since inception of our operations. Our losses from continuing operations for the years ended December 31, 2006, 2005 and 2004 and 2003 were $2.96 million, $4.98 million, $13.75 million, and $9.51$13.75 million, respectively. These losses have been due principally to the high levels of research and development expenses and sales and marketing expenses that we have incurred in order to develop and market our products, the fixed nature of our manufacturing costs, restructuring charges and impairment charges. In addition, markets for our products and services have developed more slowly than expected in many cases and may continue to do so. As a result, we may incur operating losses in the future.

Markets for our products and services may continue to develop slowly.

There are many factors that affect the market demand for our products and services that we cannot control. Demand for our WAVE^® system System is affected by the needs and budgetary resources of research institutions, universities, hospitals and others who use the WAVE^® system System for genetic-variation research. The WAVE^® system System represents a significant expenditure by these types of customers and often requires a long sales cycle. If revenues from the sales of our products and services continue at current levels, we may need to take steps to further reduce operating expenses or raise additional working capital. We cannot assure you that sales will increase or that we will be able to reduce operating expenses or raise additional working capital. Similarly, the sales cycle for the OEM products that we sell can also be a long sales cycle.

One customer accounted for a significant portionSales of sales.our Discovery Services have been variable.

No customer accounted for more than 10%Sales of consolidated netdiscovery services have varied significantly due in large part to the fact that approximately 82% and 90% of discovery services sales for any period presented. However, sales toin 2004 and 2005, respectively, were realized from orders from a single large pharmaceutical company totaled $2.19 million, $1.66 million and $0.39 million during the years ended December 31, 2005, 2004 and 2003, respectively, and represented 9%, 7%, and 2% of consolidated net sales.company. Sales to this customer arewere governed by a non-binding master services agreement dated August 22, 2002. Accordingly, the amount of sales to this customer is subject to change. In 2006, we did not sell any discovery services to this customer.

The sale of our products and business operations in international markets subjects us to additional risks.

During the past several years, international sales have represented approximately 55-68%more than half of our total net sales. As a result, a major portion of our revenues and expenses are subject to risks associated with international sales and operations. These risks include:

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Our WAVE^® system System includes hardware components and instrumentation manufactured by a single supplier and if we are no longer able to obtain these components and instrumentation our ability to manufacture our products could be impaired.

We rely on a single supplier, Hitachi High Technologies America, to provide the basic instrument used in our WAVE^® systems. Systems. While other suppliers of instrumentation and computer hardware are available, we believe that our arrangement with Hitachi offers strategic advantages. Hitachi is replacing its current instrument line with a new instrument line. While we presently plan to convert our technology and applications to this new instrument line, such conversion may not be successful and, therefore, we may incur additional costs for the custom manufacturing of the current instrument line. If we were required to seek alternative sources of supply, it could be time consuming or expensive or require significant and costly modification of our WAVE^® system. System. Also, if we were unable to obtain instruments from Hitachi in sufficient quantities or in a timely manner, our ability to manufacture our products could be impaired, which could limit our future revenues.

We may not have adequate personnel to execute our business plan.

In order to reduce our operating costs, we have significantly reduced the number of employees including reductions in our research and development staff and our sales and marketing personnel.all area of the business. In addition, we may lose other key management, scientific, technical, sales and manufacturing personnel from time to time. It may be very difficult to replace personnel if they are needed in the future, and the loss of key personnel could harm our business and operating results. We cannot assure you that our employee reductions will not impair our ability to continue to develop new products and refine existing products in order to remain competitive. In addition, these reductions could prevent us from successfully marketing our products and developing our customer base.

Our markets are very competitive.

Many of our competitors have greater resources than we do and/or may enjoy other competitive advantages. This may allow them to more effectively market their products to our customers or potential customers, to develop products that make our products obsolete or to produce and sell products less expensively than us. As a result of these competitive factors, demand for and pricing of our products and services could be negatively affected.

Our patents may not protect us from others using our technology that could harm our business and competitive position.

Patent law relating to the scope of claims in the technology fields in which we operate is still evolving. The degree of future protection for our proprietary rights is uncertain. Furthermore, we cannot be certain that others will not independently develop similar or alternative products or technology, duplicate any of our products, or, if patents are issued to us, design around the patented products developed by us. Our patents or licenses could be challenged by litigation and, if the outcome of such litigation were adverse to us, our competitors could be free to use our technology. We may not be able to obtain additional patents for our technology, or if we are able to do so, patents may not provide us with substantial protection or be commercially beneficial. In addition, we could incur substantial costs in litigation if we are required to defend ourselves in patent suits brought by third parties or if we initiate such suits.

We cannot be certain that other measures taken to protect our intellectual property will be effective.

We rely upon trade secret protection, copyright and trademark laws, non-disclosure agreements and other contractual provisions for some of our confidential and proprietary information that is not subject matter for which patent protection is being sought. Such measures, however, may not provide adequate protection for our trade secrets or other proprietary information. If such measures do not protect our rights, third parties could use our technology and our ability to compete in the market would be reduced.

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We are dependent upon our licensed technologies and may need to obtain additional licenses in the future to offer our products and remain competitive.

We have licensed key components of our technologies from third parties. If these agreements were to terminate prematurely due to our breach of the terms of these licenses or we otherwise fail to maintain our rights to such technology, we may lose the right to manufacture or sell a substantial portion of our products. In addition, we may need to obtain licenses to additional technologies in the future in order to keep our products competitive. If we fail to license or otherwise acquire necessary technologies, we may not be able to develop new products that we need to remain competitive.

The protection of intellectual property in foreign countries is uncertain.

A significant percentage of our sales are to customers located outside the U.S. The patent and other intellectual property laws of some foreign countries may not protect our intellectual property rights to the same extent as U.S. laws. We may need to bring proceedings to defend our patent rights or to determine the validity of our competitors’ foreign patents. These proceedings could result in substantial cost and diversion of our efforts. Finally, some of our patent protection in the U.S. is not available to us in foreign countries due to the laws of those countries.

Our products could infringe on the intellectual property rights of others.

There are a significant number of U.S. and foreign patents and patent applications submitted for technologies in, or related to, our area of business. As a result, any application or exploitation of our technology could infringe patents or proprietary rights of others and any licenses that we might need as a result of such infringement might not be available to us on commercially reasonable terms, if at all. This may lead others to assert patent infringement or other intellectual property claims against us.

Our failure to comply with any applicable government regulations or otherwise respond to claims relating to improper handling, storage or disposal of hazardous chemicals that we use may adversely affect our results of operations.

Our research and development and manufacturing activities involve the controlled use of hazardous materials and chemicals. We are subject to federal, state, local and international laws and regulations governing the use, storage, handling and disposal of hazardous materials and waste products. If we fail to comply with applicable laws or regulations, we could be required to pay penalties or be held liable for any damages that result and this liability could exceed our financial resources. We cannot assure you that accidental contamination or injury will not occur. Any such accident could damage our research and manufacturing facilities and operations, resulting in delays and increased costs.

The price for our common stock is volatile and may drop.

The trading price for our common stock has fluctuated significantly over recent years. The volatility in the price of our stock is attributable to a number of factors, not all of which relate to our operating results and financial position. Nevertheless, continuedThe delisting of our stock from the NASDAQ may negatively affect the volume of shares traded and the price for our stock. Continued volatility in the market price for our stock should be expected and we cannot assure you that the price of our stock will not decrease in the future. Fluctuations or further declines in the price of our stock may affect our ability to sell shares of our stock and to raise capital through future equity financing.

If we are unable to maintain our Nasdaq listing, your ability to trade shares of ourOur common stock could suffer.is deemed to be “penny stock”, which may make it more difficult for investors to sell their shares due to suitability requirements.

In order for ourOur common stock is classified as a “penny stock” under the rules of the SEC. The Securities and Exchange Commission has adopted Rule 3a51-1 which establishes the definition of a “penny stock”, for the purposes relevant to remain listed on the Nasdaq National Market (“Nasdaq”), we must meet the minimum listing requirements for continued listing, including, among other requirements, minimum bidus, as any equity security that has a market price and market value of public float requirements. On February 15, 2006, we were notified that the bidless than $5.00 per share or with an exercise price for our commonof less than $5.00 per share, subject to certain exceptions. For any transaction involving a penny stock, over a 30-day period was below the $1.00 minimum required for continued listing of our common stock on the Nasdaq. unless exempt, Rule 15g-9 requires:

In order to remain listed,approve a person's account for transactions in penny stocks, the minimum bid price for our common stock must be at least $1.00 per share over ten consecutive business days before August 14, 2006. If we are not able to regain compliance with this listing requirement, we may bebroker or dealer must:

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·

obtain financial information and investment experience objectives of the person; and

delisted fromThe broker or dealer must also deliver, prior to any transaction in a penny stock, a disclosure schedule prescribed by the Nasdaq. If our commonSEC relating to the penny stock is delisted from the Nasdaq,market, which, in highlight form:

Generally, brokers may be less willing to execute transactions in our common stock would likely be conducted only insecurities subject to the over-the counter market, or potentially on regional exchanges, which could negatively impact the trading volume and price"penny stock" rules. This may make it more difficult for investors to dispose of our common stock and investors may find it more difficult to purchase or dispose of, or to obtain accurate quotations as tocause a decline in the market value of our common stock. In addition, if our common

Disclosure also has to be made about the risks of investing in penny stocks in both public offerings and in secondary trading and about the commissions payable to both the broker-dealer and the registered representative, current quotations for the securities and the rights and remedies available to an investor in cases of fraud in penny stock were not listedtransactions. Finally, monthly statements have to be sent disclosing recent price information for the penny stock held in the account and information on the Nasdaq and the trading price of our common stock fell below $1.00 per share, tradinglimited market in our common stock would also be subject to the requirements of certain rules which require additional disclosures by broker-dealers in connection with any trades involving a stock defined as a “penny stock.” In such event, the additional burdens imposed on broker-dealers to effect transactions in our common stock could further limit the market liquidity of our common stock and the ability of investors to trade our common stock.penny stocks.

We may issue a substantial amount of our common stock to holders of options and warrants and this could reduce the market price for our stock.

At December 31, 2005,2006, we had obligations to issue 13,625,67513,530,241 shares of common stock including outstanding stock options representing 5,563,0985,467,664 shares and warrants representing 8,062,577 shares. The issuance of these additional shares of common stock may be dilutive to our current shareholders and could negatively impact the market price of our common stock.

Our common stock is thinly traded and a large percentage of our shares are held by a small group of unrelated, institutional owners.

At March 30, 2006,2007, we had 49,189,672 shares of common stock outstanding. Fewer than ten unrelated, institutional holders own more than 50% to 70% of these shares.shares The sale of significant shares into the public market has potential to cause significant downward pressure on the price of our common stock. This is particularly the case if the shares being placed into the market exceed the market’s ability to absorb the stock. Such an event could place further downward pressure on the price of our common stock. This presents an opportunity for short sellers to contribute to the further decline of our stock price. If there are significant short sales of our stock, the price decline that would result from this activity will cause the share price to decline more so, which, in turn, may cause long holders of the stock to sell their shares thereby contributing to sales of stock in the market.

None.

Item 2. Properties

Properties

We own one facility in Glasgow, Scotlandcurrently lease and lease 10occupy a total of seven facilities throughout the world under non-cancelable leases with various terms. The following table summarizes occupied locations.certain information regarding the leased facilities. Annual rent amounts presented in the table are reflected in thousands.

11

The selected consolidated balance sheet data atas of December 31, 20052006 and 20042005 and the selected consolidated statements of operations data for each year ended December 31, 2006, 2005 2004 and 20032004 have been derived from our audited consolidated financial statements that are included elsewhere in this Annual Report on Form 10-K. The selected consolidated balance sheet data atas of December 31, 2004, 2003 2002 and 20012002 and the selected consolidated statements of operations data for each year ended December 31, 20022003 and 20012002 have been derived from our audited consolidated financial statements that are not included in this Annual Report on Form 10-K. Dollar amounts, except per share data, are presented in thousands.

(4) (3)

Other income (expense) for all years presented primarily includes interest expense and interest income, loss on debt extinguishment of $0.5 million in 2005 related to the repayment of our Laurus Loans of $541,long-term debt and loss on debt extinguishment of $2,859 in 2004$2.9 million resulting from certain modifications to our Laurus Loanslong-term borrowing agreements that were treated as extinguishments for financial reporting purposes. Refer to the NotesNote F to the accompanying consolidated financial statements.

12

The following discussion should be read in conjunction with the Consolidated Financial Statements and applicable Notes to Consolidated Financial Statements and other information in this report, including Risk Factors set forth in Item 1A and Critical Accounting Policies at the end of this Item 7.

The Company hasCompany’s continuing operations consist of the manufacture and sale of its WAVE System and related consumable products and discovery services which make use of the Company’s WAVE System to perform genomic research on a contract basis and disease testing services. These functions are categorized as one reportable operating segment. Although revenue is analyzed by type, the Company’s net financial results are analyzed as onea single segment due to the integrated nature of the products.products and services that we sell. The Consolidated Financial Statements also includereflect the assets and results of our former Nucleic Acids operating segment, which are shown as discontinued operations. Inoperations in all periods as a result of the implementation of a plan to exit this operating segment in the fourth quarter of 2005, the Company implemented a plan to exit the former Nucleic Acids operating segment. Accordingly, results of this operating segment are reflected as discontinued operations for all periods presented.2005.

Executive Summary

20052006 Results

Sales of bioinstruments and associated consumables continued to decline in 2006, due to a number of factors including competition from sequencing and other evolving technologies. Sales from our discovery services group during the year were down substantially from 2005 as we completed a significant engagement for a large pharmaceutical company and were not able to replace these sales in 2006. Although we have taken significant steps to reduce our operating expenses in response to declining revenues, we continued to operate at a loss and to generate a negative cash flow during the year. However, our loss and use of cash were reduced significantly over each of the last three years.

We have experienced recurring net losses and had an accumulated deficit at December 31, 2005 of $122.09 million. Tocontinue to work to respond to changes in the overall business climate for our products and our liquidity position and capital structure, we have instituted significant change that began in the fourth quarter of 2004 with the sale of our specialty oligonucleotide manufacturing facility and a wide-reaching restructuring plan. We continued implementing positive change during 2005 by executing on the following:

We decided to exit our former Nucleic Acids operating segment.

position. On December 22, 2005, we decided to sell or close and liquidate the Nucleic Acids operating segment, which consistsconsisted primarily of a manufacturing facility in Glasgow, Scotland. This decision was made after an evaluation of, among other things, short and long-term sales projections for products sold by this operating segment, including estimates of 2006 sales to the operating segment’s largest customer. While opportunities to sell the operating segment as a going concern are beingwere evaluated, procedures have commenced, including notification to affectedwe ultimately ended up closing the facility and terminating or redeploying all of the employees which is expected to lead to closureof this business segment. In February of 2007, we completed the sale of the facility in Glasgow, Scotland. During 2006, we expect to incur costs of approximately $0.72 million related to statutory payments to affected employees and other costs specifically attributable to closure of the facility which have been accrued at December 31, 2005. In addition, the Company expects to incur additional period costs of approximately $0.25 million in each of the first two quarters of 2006 attributable to closure of the facility that will be recorded in discontinued operations in 2006. In conjunction with the decision to exit this operating segment, the Company recorded an impairment charge of $8.02 million consisting of valuation adjustments to reflect the carrying value of the related net assets at estimated fair market value. We now reflect the results of this operating segment as discontinued operations for all periods presented.

We completed a private placement of our common stock in the fourth quarter.

On October 31, 2005, we issued securities to institutional investors in a private placement (the “2005 Private Placement”). The securities issued consisted of: (i) 14,925,743 shares of the Company’s common stock, plus (ii) five-year, non-callable warrants to purchase another 5,970,297 shares of common stock with an exercise price of $1.20 per share. The aggregate purchase price for the securities sold was $1.01 per share of common stock initially being sold or $15.08 million. In conjunction with this transaction, we issued a warrant to Oppenheimer & Co., Inc. to purchase 932,859 shares at $1.20 per share as part of their placement fee.

The net proceeds from the 2005 Private Placement were $13.90 million after transaction costs of $1.18 million. These proceeds were partially used to repay all outstanding principal and accrued interest on our Laurus Loans including fees paid to Laurus to facilitate the 2005 Private Placement and prepayment penalties to Laurus in the sum of $0.82 million. The remaining proceeds of $5.35 million will be used for future working capital needs.

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In the first quarter, Laurus converted $2.52 million of its loans into shares of our common stock.

On March 18, 2005, we allowed Laurus to convert $1.87 million of the outstanding principal balance under our Credit Line into 3,600,000 shares of our common stock. In addition, on March 24, 2005 we allowed Laurus to convert $0.65 million of the outstanding principal balance of our Term Note into 1,250,000 shares of our common stock. The Credit Line and Term Note (collectively, the “Laurus Loans”) were subsequently repaid in September 2005 and are no longer available to us.

In summary, the 2005 results reflected improvement, but we are not satisfied.

As a result of the actions undertaken since the fourth quarter of 2004, lossincluding the reclassification of the Nucleic Acids operating segment as a discontinued operation, our losses from

continuing operations hashave gone from $9.51$13.75 million and $13.75 million in 2003 and 2004, respectively, to $4.98 million in 2005.2004 and 2005, respectively, to $2.96 million in 2006. Net cash flows used by operating activities have gone from $13.02$12.75 million and $12.75$3.63 million in 2004 and 2005, respectively to $3.63$1.21 million in 2005. Additionally, sales of Geron stock received as payment for goods and services and included in net cash flows from investing activities provided $2.15 million in positive cash flows. Because these shares are considered available-for-sale securities, related sales are recorded as investing activities.2006.

20062007 Outlook

Timing of the demand for our products, particularly our flagship WAVE^® systems, Systems, has been difficult to predict due largely to ongoing changes in the market placemarketplace and the funding arrangements of our customers. Because our net sales are largely dependent upon sales of a limited number of products, including WAVE^® systems, Systems and OEM Instruments, and our cost structure is largely fixed, historical results have been somewhat sporadic. For these reasons, it is not our practice to provide prospective financial guidance related specifically to revenues, costs, net income (loss) or cash flows. However, our financial objectives are to generate income from continuing operations and positive cash flows from continuing operations. To accomplish these goals we must generate sequential growth in net sales, convertleverage manufacturing expenses from fixed to variable costs and continue to better control operating expenses. We will continue to look for opportunities, through consolidation or otherwise, to reduce our operating expenses related to our core business.

Develop sequential growth in net sales.

We will work to continue to leverage on and strengthen our core instrument business. Challenges exist for WAVE^® system System and consumable growth in traditional markets. However, weWe believe emerging markets and novel applications will provide for opportunities for our WAVE System. We intend to continue to diversify into new markets, including the personalized medicine market (particularly in oncology), where the sensitivities of our technologies are essential. In the short-term, we believe that the introduction of the newest generation of our flagship product, the WAVE^® system System 4500 will provide upgrade opportunities to our current installed base. In addition, we are also selling refurbished WAVESystems in order to allow an opportunity for customers that may not be able to afford the cost of a new system. In the intermediate to longer-term, we believe that newly developed “targeted” consumable products will increase usability of our installed base and enhance net sales of consumables. Additionally, we have developed credibility and momentum with several third-party platforms that will allow us to leverage on our direct sales force and distribution network.

On the discovery services front, we will seek to leverage on past customer successes with pharmaceutical customers to diversify our customer base. Challenges also existWhile we have performed discovery services for these service offerings. While oura number of large pharmaceutical customer representation has increased steadily with pilot or “proof of concept” projects,customers, these engagements do not materialize at a constant rate and the lead time to develop major contracts has provenis often lengthy. To mitigate this risk, we believe there is a significant opportunity for us to capitalize on the increasing demand for molecular-based personalized medicine by leveraging on our technologies and experience gained from the genomic biomarker analysis that discovery services has and will continue to provideprovides to pharmaceutical and biopharmaceutical companies. During the fourth quarter of 2005, our laboratory in Omaha, Nebraska was certified under the Clinical Laboratory Improvement Amendments, and we received our first patient samples from physicians and third-party laboratories for molecular-based testing for hematology, oncology and certain inherited diseases. This capability also allows us to offer a vertically-integrated suite of services that can support activities ranging from discovery research to clinical trials to diagnostic testing. As the need for drug/diagnostic combination products increases, we believe this suite of service offerings will prove attractive to various customers.

14 We have recently added some new customers in this area of the business.

Convert manufacturing expenses from fixed to variable costs.

A significant portion of our manufacturing costs relate to fixed overhead associated with personnel and facilities. We continue to evaluate consolidation and outsourcing opportunities designed to convert these costs from fixed to variable costs.

Continue to control operating expenses.

Operating expenses include selling, general and administrative expenses and research and development expenses. We will need to continue to invest in research and development activities in order to remain competitive and to take advantage of new business opportunities as they arise. During 2006,2007, we expect operating expenses, including research and development expense, to be approximately equal to 20052006 levels.

Results of Continuing Operations

Years Ended December 31, 20052006 and 20042005

Net SalesSales..    Net sales for the years ended December 31, 20052006 and 20042005 consisted of the following (dollars in thousands):

Bioinstrument sales consist of sales of our WAVE^® systems System and associated equipment that we manufacture or assemble, revenues from service contracts that we enter into with purchasers of our instruments, as well as sales of instruments we distribute for other manufacturers (“OEM equipment”). We also sell refurbished WAVE Systems in order to access customers that may not be able to afford new systems. We sold totaled 9768 WAVE Systems during the year ended December 31, 20052006 compared to 10797 systems during the same period of 2004. Although2005. This decrease resulted from lower demand in all major geographic markets and among both research and diagnostic users particularly in our largest markets throughout Western Europe. Demand for the number of WAVE^® systems sold declined, overall bioinstrument net has been affected by significant competitive challenges from traditional (i.e. sequencing) and evolving technologies. The decrease in WAVE System sales was largely offset by OEM instrument sales, increased slightly due primarily to net sales increases from product upgrades and service contracts. The selling prices of our instruments vary based on

Bioconsumable net sales decreased during year ended December 31, 2006 compared to 2005. Despite the specific model and optional accessories. We had anincrease in installed base of WAVE instruments from 1,290 units at December 31, 2005 compared to 1,1931,358 units at December 31, 2004. 2006, we do not believe that all of these instruments are being fully utilized. In addition, consumable products are available from other manufacturers which can be used in place of many of our consumable products. Some of these competitive products sell at prices below the prices we charge for our products, which have caused us to have some price compression, principally in Europe.

The increase in the installed base of instruments was primarily responsible for the 2% increase in sales of bioconsumables. The increasedecrease in discovery services revenue during 2005net sales was primarily attributable to the discovery services agreements that we entered intoexpiration of certain research contracts with a large pharmaceutical company to support their clinical developmentin 2005, of oncology therapeutics. We plan to continue to seek opportunities to provide genetic variation discovery$2,188 that was partially offset by increased net sales from research projects from other pharmaceutical companies and analysis services to pharmaceutical and other customers and believe that these services provide us a significant opportunity to expand revenues in the future.provided by our CLIA lab, of $384.

Costs of Goods Sold.Sold    Costs of goods sold include material costs for the products that we sell and substantially all other costs associated with our manufacturing facilities (primarily personnel costs, rent and depreciation). as well as the wholesale price we pay manufacturers of OEM equipment that we distribute. It also includes direct costs (primarily personnel costs, rent, supplies and supplies)depreciation) associated with our discovery services operations. Cost of goods sold for the years ended December 31, 2006 and 2005 consisted of the following (dollars in thousands):

Gross profit equaled $11.37 million or 49% of total net sales during the year ended December 31, 2006 compared to $12.33 million and 48% during the same period of 2005. The increase in gross profit as a percent of revenue is largely attributable to changes in the composition of products sold. Sales of our OEM instruments (third party platforms) provided for higher gross profit in 2006, while gross profit on WAVE sales is down, due to the lower number of instruments sold and the fixed base of costs associated with this area. Sales of specialty consumables (SURVEYOR Nuclease, HPLC separation columns, etc.) were up slightly in 2006 and these products generate higher gross profits than base buffers and enzymes. Gross profit from discovery services is significantly less in 2006 due to the decrease in net sales to a large pharmaceutical customer which produced net sales of $2,188 in 2005 and $8 in 2006, coupled with a much smaller decrease in the cost of goods sold due to the fixed base of cost associated with the discovery services group.

Selling, General and Administrative Expenses.    Selling, general and administrative expenses primarily include personnel costs, marketing, travel and entertainment costs, professional fees, and facility costs. These costs remained essentially flat in 2006 compared to 2005, but increased as a percentage of net sales from 47% to 52% as a result of reduced sales. Foreign currency transaction adjustments increased operating expenses by approximately $.08 million compared to the year ended December 31, 2005

Research and Development Expenses.    Research and development expenses primarily include personnel costs, supplies, and facility costs. These costs totaled $2.36 million during the year ended December 31, 2006 compared to $2.20 million during the same period of 2005, an increase of $0.16 million or 7%. As a percentage of net sales, research and development expenses totaled 10% and 9% of net sales during the year ended December 31, 2006 and 2005 respectively. We expect to continue to invest up to 10% of our net sales in research and development activities. Research and development costs are expensed in the year in which they are incurred.

Impairment Charges.    We did not incur any impairment charges during 2006, but incurred $0.43 million of impairment charges during 2005 consisting of a $0.25 million charge associated with certain international patent pursuits that were no longer consistent with our strategic plan and a charge of $0.18 million related to inventory associated with certain OEM instruments.

Other Income (Expense).    Other income during the year ended December 31, 2006 of $0.20 million consisted of interest income of $0.22 million which was partially offset by interest expense of

$0.01 million, and other expense of $0.01 million. Other expense during the year ended December 31, 2005 consisted of interest expense of $1.98 million and a loss on debt extinguishment of $0.54 million which was partially offset by interest income of $0.03 and other income of $0.04 million. Interest expense consisted of the following for the years ended December 31, 2006 and 2005 (dollars in thousands):

We had previously entered into a $7,500,000 line of credit (the “Credit Line”) and a $2,750,000 convertible note (the “Term Note,” and collectively with the Credit Line the “Laurus Loans”) from Laurus Master Fund, Ltd. (“Laurus”). On March 18, 2005, Laurus converted $1.87 million of the outstanding principal balance under the Credit Line into 3,600,000 shares of our common stock at $0.52 per share. In addition, on March 24, 2005, Laurus converted $0.65 million of the outstanding principal balance of the Term Note into 1,250,000 shares of our common stock at $0.52 per share. In conjunction with these conversions, we accelerated amortization of $0.41 million of related debt premiums and discounts and recorded a charge to interest expense of $1.37 million related to the fair value of incremental shares received by Laurus. Contemporaneously with the closing of a private offering of common stock in November 2005 (the “2005 Private Placement”), we repaid all outstanding principal and accrued interest on the Laurus Loans. In conjunction with this prepayment, we recorded a loss on debt extinguishment of $0.54 million. This loss consisted of prepayment penalties and fees paid to Laurus to facilitate the 2005 Private Placement of $0.84 million offset by the elimination of associated net debt premiums of $0.30 million.

Income Tax Expense.    Income tax expense recorded during the years ended December 31, 2006 and 2005 related to income taxes in states, foreign countries and other local jurisdictions. Due to the our cumulative losses, expected losses in future years and inability to utilize any additional losses as carrybacks, we did not provide for an income tax benefit during the years ended December 31, 2006 or 2005 based on our determination that it was more likely than not that such benefits would not be realized. We will continue to assess the recoverability of deferred tax assets and the related valuation allowance. To the extent we begin to generate taxable income in future periods and determine that such valuation allowance is no longer required, the tax benefit of the remaining deferred tax assets will be recognized at such time. While the Company has significant net operating loss carryforwards, it is likely that Section 382 (Limitation on Net Operating Loss Carryforwards and Certain Built-In Losses following Ownership Change) of the Internal Revenue Code, and the regulations promulgated thereunder, will significantly limit the amount of net operating loss carryforward that the Company could utilize in any tax year. Our federal net operating loss carryforwards from continuing and discontinued operations of $106.23 million will expire at various dates from 2008 through 2026, if not utilized. We also had state income tax loss carryforwards from continuing and discontinued operations of $43.84 million at December 31, 2006. These carryforwards will also expire at various dates beginning in 2007 if not utilized.

Years Ended December 31, 2005 and 2004

Net Sales. Net sales for the years ended December 31, 2005 and 2004 consisted of the following (dollars in thousands):

WAVE Systems sold totaled 97 during the year ended December 31, 2005 compared to 107 during the same period of 2004. We had an installed base of 1,290 units at December 31, 2005 compared to 1,193 units at December 31, 2004. The increase in the installed base of instruments continues to drive increases in sales of bioconsumables used with these instruments. The increase in Discovery Services revenue during 2004 was primarily attributable to the discovery services agreements that we entered into with pharmaceutical companies to support their clinical development of oncology therapeutics.

Costs of Goods Sold.    Cost of goods sold for the years ended December 31, 2005 and 2004 consisted of the following (dollars in thousands):

Overall, our cost of goods sold increased despite an overall decline in net sales due to the fixed-cost burden associated with our manufacturing facilities.

Gross profit wasequaled $12.33 million or 43%48% of total net sales during the year ended December 31, 2005 compared to $13.25 million and 52% during the same period of 2004. The decrease in gross profit as a percent of revenue is largely attributable to changes in the composition of products sold. Generally, sales of WAVE^® systems Systems and ancillary instrumentation generate higher gross profits than sales of third party platforms. Sales of specialty consumables (SURVEYOR Nuclease, HPLC separation columns, etc.) generate higher gross profits than base buffers and enzymes. Gross profits from discovery services have been less than expected due to the continuing build out of capacity and expansion of product offerings.

15

Selling, General and Administrative Expenses.    Selling, general and administrative expenses primarily include personnel costs, marketing, travel and entertainment costs, professional fees, and facility costs. These costs totaled $12.22 million during the year ended December 31,in 2005 compared to $15.96 million during the same period ofin 2004, a decrease of $3.74 million or 23%. As a percentage of revenue, selling, general and administrative expenses totaled 43% and 63% during the year ended December 31, 2005 and 2004, respectively. This decrease resulted primarily from termination of personnel and the elimination of facilities related costs in conjunction with the

2004 Restructuring Plan. Foreign currency transaction adjustments increased operating expenses by approximately $0.33 million during the yearyears ended December 31, 2005 compared to the same period of 2004 when foreign currency transaction adjustments reduced operating expenses by approximately $0.45 million.

Research and Development Expenses.    Research and development expenses primarily include personnel costs, supplies, and facility costs. These costs totaled $2.20 million during the year ended December 31, 2005 compared to $4.50 million during the same period of 2004, a decrease of $2.30 million or 51%. The decrease related primarily to the 2004 Restructuring Plan.

As a percentage of revenue, research and development expenses totaled 8% and 18% of revenue during the year ended December 31, 2005 and 2004, respectively. We expect to continue to invest up to 10% of our revenues in research and development activities. Research and development costs are expensed in the year in which they are incurred.

Impairment Charges.Charges.    Impairment charges totaled $0.43 million during the year ended December 31, 2005 and consisted of $0.25 million associated with certain international patent pursuits that were no longer consistent with our strategic plan and $0.18 million related to certain inventory associated with third party platforms.

Restructuring Charges.    On November 13, 2004, our Board of Directors approved a restructuring plan designed to refocus and to better align the Company’s cost structure with anticipated revenues. The plan included a workforce reduction and the closure of various facilities and field offices. In order to recognize the various costs associated with workforce reduction and facilities closings, we incurred a charge of $1.23 million during the quarter ending December 31, 2004.

Other Income (Expense).    Other expense during the year ended December 31, 2005 of $2.45 million consisted of interest expense of $1.98 million and a loss on debt extinguishment of $0.54 million, net of otherwhich were partially offset by interest income of $0.07$0.03 and other net income of $0.04 million. Other expense during the year ended December 31, 2004 consisted of consisted of interest expense of $2.37 million, loss on debt extinguishment of $2.86 million and other net expense of $0.38 million.

Interest expense consisted of the following for the years ended December 31, 2005 and 2004 (dollars in thousands):

We had previously entered into a $7,500,000 line of credit (the “Credit Line”) and a $2,750,000 convertible note (the “Term Note,” and collectively with the Credit Line the “Laurus Loans”) from Laurus Master Fund, Ltd. (“Laurus”). On March 18, 2005, we allowed Laurus to convertconverted $1.87 million of the outstanding principal balance under ourthe Credit Line into 3,600,000 shares of our common stock at $0.52 per share. In addition, on March 24, 2005, we allowed Laurus to convertconverted $0.65 million of the outstanding principal balance of ourthe Term Note into 1,250,000 shares of our common stock at $0.52 per share. Laurus agreed to apply this Term Note conversion against substantially all remaining 2005 scheduled principal payments on such loan. The closing market price of our common stock the day before each of these conversions was $0.58 per share. No other provisions of our Credit Line or Term Note were modified, including the $1.00 conversion price for remaining debt. In

conjunction with these conversions, we accelerated amortization of $0.41 million of related debt premiums and discounts and recorded a charge to interest expense of $1.37 million related to the fair value of incremental shares received by Laurus.

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Contemporaneously with the closing of the 2005 Private Placement oura private offering of common stock on October 31,in November 2005 (the “2005 Private Placement”), we repaid all outstanding principal and accrued interest on the Laurus Loans which have been cancelled and are no longer available to us.Loans. In conjunction with this prepayment, we recorded a loss on debt extinguishment of $0.54 million. This loss consisted of prepayment penalties and fees paid to Laurus to facilitate the 2005 Private Placement of $0.84 million offset by the elimination of associated net debt premiums of $0.30 million.

Loss on debt extinguishment totaled $2.86 million during the year ended December 31, 2004.2004. As described in the Notes to the accompanying consolidated financial statements, certain August 31, 2004 modifications to our Laurus Loans were treated as extinguishments for financial reporting purposes since the change in present value of expected cash flows between the original and modified agreements was greater than 10%. As such, we recorded a loss on extinguishment of debt of $2.86 million at August 31, 2004 reflecting the difference between (i) the recorded amount of debt, net of related discounts, of $7.43 million and (ii) the fair value of the new debt instrument of $10.29 million plus the fair value of the new warrants of $0.11 million. The difference between the fair value of the new debt of $10.29 million and the face value of the debt of $8.57 million represents a premium, which will be reflected as a reduction of interest expense over the life of the new debt.

Income Tax Expense.Income tax expense recorded during the years ended December 31, 2005 and 2004 related to income taxes in states, foreign countries and other local jurisdictions. Due to the our cumulative losses, expected losses in future years and inability to utilize any additional losses as carrybacks, we did not provide for an income tax benefit during the years ended December 31, 2005 or 2004 based on our determination that it was more likely than not that such benefits would not be realized. We will continue to assess the recoverability of deferred tax assets and the related valuation allowance. To the extent we begin to generate taxable income in future periods and determine that such valuation allowance is no longer required, the tax benefit of the remaining deferred tax assets will be recognized at such time. Our net operating loss carryforwards from continuing and discontinued operations of $99.64 million will expire at various dates from 2008 through 2025, if not utilized. We also had state income tax loss carryforwards from continuing and discontinued operations of $39.00 million at December 31, 2005. These carryforwards will also expire at various dates beginning in 2006 if not utilized.

Years Ended December 31, 2004 and 2003

Net Sales. Net sales for the years ended December 31, 2004 and 2003 consisted of the following (dollars in thousands):

Loss on debt extinguishment totaled $2.86 million during 2004. As described in the NotesNote F to the accompanying consolidated financial statements, certain August 31, 2004 modifications to our Laurus Loans were treated as extinguishments for financial reporting purposes since the change in present value of expected cash flows between the original and modified agreements was greater than 10%. As such, we recorded a loss on extinguishment of debt of $2.86 million at August 31, 2004 reflecting the difference between (i) the recorded amount of debt, net of related discounts, of $7.43 million and (ii) the fair value of the new debt instrument of $10.29 million plus the fair value of the new warrants of $0.11 million. The difference between the fair value of the new debt of $10.29 million and the face value of the debt of $8.57 million represented a premium, which was reflected as a reduction of interest expense over the life of the new debt.

18

Income Tax Expense.    Income tax expense recorded during the years ended December 31, 20042005 and 20032004 related to income taxes in states, foreign countries and other local jurisdictions. Due to our cumulative losses, expected losses in future years and inability to utilize any additional losses as carrybacks, we did not provide for an income tax benefit during the years ended December 31, 20042005 or 20032004 based on our determination that it was more likely than not that such benefits would not be realized. We will continue to assess the recoverability of deferred tax assets and the related valuation allowance. To the extent we begin to generate taxable income in future periods and determine that such valuation allowance is no longer required, the tax benefit of the remaining deferred tax assets will be recognized at such time.

Results of Discontinued Operations

In the fourth quarter of 2005, we implemented a plan to exit our Nucleic Acids operating segment. In conjunction with the decision to exit this operating segment, the Company recorded impairment charges of $0.43 million and $8.02 million in 2006 and 2005, respectively, consisting of valuation adjustments to reflect the carrying value of the related net assets at estimated fair market value. Accordingly, we now reflect the results of these businessesthis segment as discontinued operations for all periods presented. Expenses that are not directly identified to this operating segment or are considered corporate overhead have not been allocated to this segment in arriving at lossdetermining the results from discontinued operations. Summary results of operations of the former Nucleic Acids operating segment were as follows (dollars in thousands):

On December 22, 2005, the Company’s Directors voted to either sell or close and liquidate the Nucleic Acids operating segment, which consists primarily of a manufacturing facility in Glasgow, Scotland. This decision was made after an evaluation of, among other things, short and long-term sales projections for products sold by this operating segment, including estimates of 2006 sales to the operating segment’s largest customer. While opportunities to sell the operating segment as a going concern are being evaluated, procedures have commenced, including notification to affected employees, which may lead to closure of the facility in Glasgow, Scotland. During 2006, we expect to incur costs of approximately $0.72 million related to statutory payments to affected employees and other costs specifically attributable to closure of the facility which have been accrued at December 31, 2005. In addition, the Company expects to incur additional period costs of approximately $0.25 million in each of the first two quarters of 2006 attributable to closure of the facility that will be recorded in discontinued operations in 2006.2007. In conjunction with the decision to exit this operating segment, the Company recorded an impairment charge of $8.02 million$8,022 in 2005 consisting of valuation adjustments to reflect the carrying value of the related net assets at estimated fair market value.

The former Nucleic Acids operating segment accepted common stock from one of its customers, Geron Corporation (“Geron”) as payment for goods and services. These shares were classified as available-for-sale securities. Net realized gains on these securities during 2005 and 2003 of $0.05 million and $0.11 million, respectively, and realized losses on these securities of $0.13 million during 2004 were reflected as other expense on the consolidated statement of operations.

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Proceeds from the sales of these available for sale securities are reflected within net cash flows from investing activities. During 2005 and 2004, sales to Geron totaled $1.95 million and $4.15 million, respectively, representing 50% and 49%, respectively, of net sales within this operating segment.

On November 11, 2004, the former Nucleic Acids operating segment sold the assets associated with its specialty oligonucleotides manufacturing facility in Boulder, Colorado to a subsidiary of Eyetech Pharmaceuticals, Inc. (“Eyetech”). The sale price was $3.00 million in cash plus the assumption of the lease on the Boulder facility and of certain equipment leases with a gross value of $2.38 million. Substantially all of the 27 employees at the Boulder facility became Eyetech employees. Net proceeds from the sale (after transaction expenses and fees paid to our investment advisors) equaled approximately $2.70 million. In conjunction with this transaction, the Nucleic Acids operating segment recorded a gain on sale of $1.47 million in the fourth quarter of 2004.

There was no goodwill associated with the former Nucleic Acids operating segment at December 31, 2005 and 2004. The former Nucleic Acids operating segment recorded charges of $9.87 million and $4.77 million$9,865 during 2004, and 2003, respectively, related to the impairment of goodwill. The 2003 charge resulted from an annual impairment test that was performed in the fourth quarter of 2003. The 2004 charge resulted from an interim period impairment test performed during the second quarter of 2004.

The interim period impairment test became necessary after the Company’s Directors directed management during the second quarter of 2004 to explore strategic alternatives for the former Nucleic Acids operating segment. This process included significant due diligence by management, third-party advisors and prospective independent buyers and other interested parties. Information obtained through this process indicated that it was more likely than not that the assets associated with the Nucleic Acids operating segment were impaired.

The former Nucleic Acids operating segment also recorded a charge of $2.10 million$2,100 during the second quarter of 2004 related to the impairment of property and equipment associated with this operating segment.

On November 13, 2004, the former Nucleic Acids operating segment sold the assets associated with its specialty oligonucleotides manufacturing facility in Boulder, Colorado to a subsidiary of Eyetech Pharmaceuticals, Inc. (“Eyetech”). The sale price was $3,000 in cash plus the assumption of the lease on the Boulder facility and of certain equipment leases with a gross value of $2,377. Substantially all of the 27 employees at the Boulder facility became Eyetech employees. Net proceeds from the sale (after transaction expenses and fees paid to our investment advisors) equaled approximately $2,700. In conjunction with this transaction, the Nucleic Acids operating segment recorded a gain on sale of $1,466 in the fourth quarter of 2004.

The Company implemented restructuring plans in 2004 and 2002 designed to better align its cost structure with anticipated revenues. In conjunction with these plans, the former Nucleic Acids operating segment recorded restructuring charges in 2004 and 2003 of $2,303 and $222, respectively, related primarily to employee severance agreements, office closures, property and equipment and intellectual property. There were accrued expenses associated with these restructuring plans of $191 at December 31, 2005.

The Company accepted common stock from a customer of the former Nucleic Acids operating segment, Geron Corporation (“Geron”) as payment for goods and services. These shares were classified as available-for-sale securities. Net realized gains on these securities during 2005 of $52 and realized losses on these securities of $128 during 2004 were reflected as other expense. Proceeds from the sales of these available for sale securities are reflected within net cash flows from investing activities. During 2005 and 2004, sales to Geron totaled $1,949 and $4,151, respectively, representing 50% and 49%, respectively, of net sales within this operating segment.

Liquidity and Capital Resources

Our working capital positions at December 31, 20052006 and 20042005 were as follows (in thousands):

The improvement inWe have historically operated at a loss and have not generated sufficient cash from operating activities to cover our working capital position was due principallyoperating and other cash expenses. While we have been able to proceeds receivedhistorically finance our operating losses through borrowings or from the 2005 Private Placementissuance of additional equity, we currently have no borrowings and conversions inhave no plans to issue additional equity securities for this purpose. At March 200530, 2007 and December 31, 2006, we had cash and cash equivalents of Laurus Loans to equity.

$7.91 million and $5.87 million, respectively. While we believe that existing sources of liquidity are sufficient to meet expected cash needs through 2006,2007, we have experienced recurring net losses and have historically relied upon cash flows from investing and financing activitieswill need to offset significant cash outflows fromincrease our revenues or further reduce our operating activities. To the extent necessary, we believe that we can manage costs and expenses at reduced levels to conserve working capital. The need for any such cost and expense reductions would likely delay implementation of our business plan. Ultimately, we must achieve sufficient revenues in order to generate positive net earningsbe assured of meeting our liquidity needs on a long-term basis. On February 20, 2007, we announced a cost reduction plan designed to align our cost structure with anticipated revenues. The plan is expected to yield annualized savings of approximately $1.5 million once all components of the plan are fully implemented. The closing of the Company’s Cramlington, England production facility is the principal component of this plan. We expect to incur aggregate charges estimated at $1.2 to $1.4 million during the first and cash flows from operations.second quarters of 2007, relating primarily to severance, benefits and facility closure costs. However, we cannot assure you that we will be able to increase our revenues or further reduce our expenses and, accordingly, we may not have sufficient sources of liquidity to continue the operations of the Company indefinitely.

Analysis of Cash Flows

Years Ended December 31, 20052006 and 20042005

Net Change in Cash and Cash Equivalents.Cash and cash equivalents increased $5.73decreased $0.87 million during the year ended December 31, 20052006 as a result of net cash fromof $1.21 million being used by operating activities and of $0.20 million being used in investing activities, and financing activities of $1.65 million and $7.92 million, respectively,which was partially offset by net cash used in operatingprovided by financing activities of $3.63$0.01 million and changes in foreign currency exchange rates of $0.20$0.54 million.

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Cash Flows fromUsed In Operating Activities.    Cash flows used in operating activities totaled $3.63$1.21 million during the year ended December 31, 20052006 compared to $12.75$3.63 million during the same period of 2004.2005. The use in 2005 related2006 resulted primarily to afrom our net loss of $14.99$3.43 million offset by non-cash charges of $13.66$2.55 million. Non-cash charges consisted primarily of depreciation and amortization, impairment charges and certain financing costs.non-cash stock based compensation. Working capital and other adjustments decreased cash flows from operating activities by $2.29 million.$0.34 million during 2006.

Cash Flows fromUsed In Investing Activities.    Cash flows provided byused in investing activities totaled $1.65$0.20 million during the year ended December 31, 20052006 compared to $6.03$1.65 million of cash flow provided by investing activities during the same period of 2004.2005. The cash used in 2006 was for purchases, offset by

sales, of property and equipment. The principal source of cash flows from investing activities in 2005 werewas sales of available for sale securities (Geron stock) of $2.15 million that were offset by purchases of $0.64 million of property and equipment. The principal source of cash flows from investing activities in 2004 were sales of available for sale securities (Geron Stock) of $4.27 million and the $3.00 million sale of our manufacturing facility in Boulder, Colorado offset by purchases of $1.76 million of property and equipment.

Cash Flows from Financing Activities.    Cash flows from financing activities totaled $7.92$0.01 million during the year ended December 31, 2005 compared to $6.002006 as a result of the sale of common stock, through the Employee Stock Purchase Plan. This compares with $7.92 million during 2004. The principal source of cash flowsflow from financing activities during 2005 resulting from the receipt of approximately $13.8 million in 2005 wasnet proceeds from the 2005 Private Placement offset by repayment of approximately $5.9 million under the Laurus Loans.

Years Ended December 31, 2004 and 2003

Net Change in Cash and Cash Equivalents.Cash and cash equivalents decreased $0.24 million during the year ended December 31, 2004 as net cash used in operating activities of $12.75 million was offset by net cash from investing activities and financing activities of $6.03 million and $6.00 million, respectively and changes in foreign currency exchange rates of $0.48 million.

Cash Flows Used in Operating Activities. Cash flows used in operating activities totaled $12.75 million during 2004 compared to $13.02 million during 2003. The use in 2004 related primarily to a net loss of $34.37 million offset by non-cash charges of $21.80 million. Non-cash charges consisted of depreciation and amortization, certain restructuring charges, impairment charges, certain financing costs and loss on debt extinguishment. Working capital and other adjustments decreased cash flows from operating activities by $0.18 million.

Cash Flows from Investing Activities. Cash flows from investing activities totaled $6.03 million during 2004 compared to cash flows used in investing activities of $2.95 million during 2003. The investing cash flows generated in 2004 were from the sale of Geron stock received for goods and services and the sale of our specialty oligoneucleotide manufacturing facility and reductions in other assets that were offset by purchases of property and equipment.

Cash Flows from Financing Activities. Cash flows from financing activities totaled $6.00 million during 2004 compared to $7.30 million during 2003. The cash from financing activities in 2004 related primarily to net draws on our Credit Line and proceeds from the Term Note that were offset by payments of long-term debt.

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Obligations and Commitments

We lease certain equipment, vehiclesThe following identifies material obligations and operating facilities under non-cancellable operating leases that expire on various dates through 2010. The future minimum lease payments required under these leases are approximately $1.18 million in 2006, $0.54 million in 2007, $0.28 million in 2008, $0.28 million in 2009, and $0.25 million in 2010.

Atcommitments as of December 31, 2005, firm commitments to vendors to purchase components used in WAVE^® systems totaled $0.88 million. We expect to pay the majority of these purchase commitments during 2006.2006:

Off Balance Sheet Arrangements

At December 31, 20052006 and 2004,2005, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.

Critical Accounting Policies

Accounting policies used in the preparation of the consolidated financial statements may involve the use of management judgments and estimates. Certain of our accounting policies are considered critical as they are both important to the portrayal of our financial statements and they require significant or complex judgments on the part of management. Our judgments and estimates are based on experience and assumptions that we believe are reasonable under the circumstances. Further, we evaluate our judgments and estimates from time to time as circumstances change. Actual financial results based on judgment or estimates may vary under different assumptions or circumstances. The following are certain critical accounting policies that may involve the use of judgment or estimates.

Allowance for Doubtful Account.Account.    Accounts receivable are shown net of an allowance for doubtful accounts. In determining an allowance for doubtful accounts, we consider the following.