The Company’s cash and cash equivalent instruments are classified within Level 1 of the fair value hierarchy because they are valued using quoted market prices.

The Company’s warrant derivative liability is valued using the Black-Scholes option pricing model which requires a variety of inputs. Such instruments are typically included in Level 2.

As of September 30, 2016, there were accrued but undeclared dividends on Series B Preferred Stock outstanding in the amount of approximately $8,000.

Warrants

The following table summarizes all warrants outstanding as of the beginning of the fiscal year, all activity related to warrants issued, cancelled, exercised or expired during the period and weighted average prices by category.

The following table summarizes additional information about the Company’s common warrants outstanding as of September 30, 2016:

¹ – Exercise prices have been rounded to the nearest whole cent.

In previous fiscal years the Company engaged the services of APEX Data Systems, Inc. (APEX), owned by Dwight Babcock, former Chairman and Chief Executive Officer, to build and maintain a web interfaced data collection application to aggregate patient data in a controlled environment. An alternative vendor began providing these services beginning January 2016.

The cost recorded during the quarter ended September 30, 2015 from APEX Data Systems, Inc. for the maintenance of the web interfaced data collection applications in combination with the updating of the Company website was approximately $3,000. An additional approximately $3,000 was spent on the maintenance of Customer Relationship Management (CRM) software in the quarter ended September 30, 2015.

During the quarter ended June 30, 2016, the Company engaged GO Intellectual Capital, LLC (GO) for marketing services in support of the Company’sCompany’s rebranding effort. Michael McCormick, a member of the Company Board of Directors, is a 1/3 owner of GO. A statement of work was developed defining the scope of the effort and the deliverables to the Company including a new logo with brand messaging and communication tools including a website, sales presentation tools and a public relations strategy. For the quarter ended September 30, 2016, the Company paid approximately $15,000 to GO for its performance of work related to the agreed upon statement of work. No such services were provided in the quarter ended September 30, 2015.2017.

One group of customers, facilities or physician practices havehas revenues that aggregate to greater than 10% of total Company product sales:

¹ – This group of facilities individually do not aggregate to moreeach comprise less than 10% of total Company product sales. They are serviced by the same physician group, one of whom is our Medical Director.

The Company routinely assesses the financial strength of its customers and provides an allowance for doubtful accounts as necessary.necessary.

Media Advertising Agreement

On October 3, 2017, IsoRay, Inc. (“IsoRay”) entered into a Media Advertising Agreement (the “Agreement”) with Al & J Media Inc., a corporation incorporated in the State of New York (the “Consultant”).

Pursuant to the Agreement, the Consultant will introduce IsoRay to potential sources of media, marketing agreements, and/or strategic alliances, including but not limited to radio and television media advertising, various media publications, and Internet podcasts. The Consultant does not promote IsoRay as part of the Agreement; it is only a media agent for advertising. The services are expected to be complete in 180 days. IsoRay may cancel the Agreement after the first 90 days.

As compensation for the services, IsoRay will pay the Consultant $120,000 of which $20,000 is payable upon execution of the Agreement, and $20,000 is payable 30, 60, 90, 120, and 150 days after execution of the Agreement. Additionally, the Consultant will receive 250,000 warrants upon execution of the Agreement, which vest immediately, entitling the Consultant to purchase shares of IsoRay common stock, exercisable on or before October 3, 2020, at an exercise price of $0.54 per share, and 250,000 at the market warrants 90 days after execution of the Agreement, at a price based on the issuance date.

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

Caution Regarding Forward-Looking Information

In addition to historical information, this Form 10-Q10-Q contains certain “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 (“PSLRA”)(PSLRA). This statement is included for the express purpose of availing IsoRay, Inc. of the protections of the safe harbor provisions of the PSLRA.

All statements contained in this Form 10-Q,10-Q, other than statements of historical facts, that address future activities, events or developments are forward-looking statements, including, but not limited to, statements containing the words "believe," "expect," "anticipate," "intends," "estimate," "forecast," "project,"“believe,” “expect,” “anticipate,” “intends,” “estimate,” “forecast,” “project,” and similar expressions. All statements other than statements of historical fact are statements that could be deemed forward-looking statements, including any statements of the plans, strategies and objectives of management for future operations; any statements concerning proposed new products, services, developments or industry rankings; any statements regarding future revenue, economic conditions or performance; any statements of belief; and any statements of assumptions underlying any of the foregoing. These statements are based on certain assumptions and analyses made by us in light of our experience and our assessment of historical trends, current conditions and expected future developments as well as other factors that we believe are appropriate under the circumstances. However, whether actual results will conform to the expectations and predictions of management is subject to a number of risks and uncertainties described under “Risk Factors” under Part II, Item 1A - Risk Factors beginning on page 23 below and in the “Risk Factors” sections of our Form 10-K for the fiscal year ended June 30, 2016 .that may cause actual results to differ materially.

Consequently, all of the forward-looking statements made in this Form 10-Q10-Q are qualified by these cautionary statements and there can be no assurance that the actual results anticipated by management will be realized or, even if substantially realized, that they will have the expected consequences to or effects on our business operations. Readers are cautioned not to place undue reliance on such forward-looking statements as they speak only of the Company'sCompany’s views as of the date the statement was made. The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

Critical Accounting Policies and Estimates

The discussion and analysis of the Company’sCompany’s financial condition and results of operations are based upon its consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America.GAAP. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent liabilities. On an on-going basis, management evaluates past judgments and estimates, including those related to bad debts, inventories, accrued liabilities, derivative liabilities and contingencies. Management bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The accounting policies and related risks described in the Company’s annual report on Form 10-K as filed with the Securities and Exchange CommissionSEC on September 9, 201628, 2017 are those that depend most heavily on these judgments and estimates. As of September 30, 2016,2017 there had been no material changes to any of the critical accounting policies contained therein.

Overview

IsoRay Inc. is a brachytherapy device manufacturer with FDA clearance and CE marking for a single medical device that can be delivered to the physician in multiple configurations as prescribed for the treatment of cancers in multiple body sites. The Company manufactures and sells this product as the Cesium-131 brachytherapy seed.

The brachytherapy seed utilizes Cesium-131, with a 9.7 day half-life, as its radiation source. The Company believes that it is the unique combination of the short half-life and the energy of the Cesium-131 isotope that are yieldingyielding the beneficial treatment results that have been published in peer reviewed journal articles and presented in various forms at conferences and tradeshows.

The Company has distribution agreements outside of the United States through its subsidiary IsoRayIsoRay International LLC. These distributors are responsible for obtaining regulatory clearance to sell the Company’s products in their territories, with the support of the Company. As of the date of this Report, the Company had distributors in Italy and the Russian Federation, with no reported revenues in the quarter ended September 30, 2016.2017.

Results of Operations

QuarterThree months ended September 30, 20162017 and 20152016 (in thousands):

Product Sales.Sales

Focus on Changes in sales personnel and implementation of a newrevitalized sales and marketing approach and sales training coupled with a summer vacation by some key accountsstrategy in the second quarter of fiscal 2017 has resulted in lowerpositive sales growth in the first quarter of fiscal 2018 when compared to the prior year’syear first quarterquarter. Ongoing training and support of new sales personnel has led to not only new accounts but also reconnecting with and receiving orders from prior accounts.

Three months ended September 30, 2017 and 2016 (in thousands):

(a) Expressed as a percentage of product sales, net

Prostate Brachytherapy.Brachytherapy

Prostate brachytherapy sales decreases were impacted by physician’s reduced summerchanges in sales account managers and by the schedules and the timing of ASTRO, which is typically held during the second quarter of the Company’s fiscal year but was heldsome key accounts in the first quarter of thisthe fiscal year. Relationship development was emphasized following a transitionary period whereDuring the quarter ended September 30, 2017, the Company addedhad a Vice-Presidentfull sales team in place contributing to the increase in sales. Also, website improvements and significant investments in product support literature, social media and public relations are increasing the awareness of Sales and Marketing and a Senior Marketing Consultant as well as two Senior Account Managers bringing approximately 45 years of combined experiencethe Company in the prostate cancerbrachytherapy treatment markets providing the Company opportunities to develop new customers and related markets. reconnect with past customers.

Management believes growth in prostate brachytherapy revenues will be the result of physicians, payors,payers, and patients increasingly considering overall brachytherapy treatment advantages including costs, better treatment outcomes and improvement in the quality of life for patients, when compared with non-brachytherapy treatments.

Management believes increased pressure to deliver effective healthcare in both terms of outcome and cost drove treatment options, and accordingly drove the Company’s prostate revenues, in the quarter ended September 30, 2015, with prostate brachytherapy receiving more consideration than in previous years and believes this trend is continuing in the quarter ended September 30, 2016.2017.

Other Brachytherapy.Brachytherapy

Other brachytherapy includes, but is not limited to, brain, lung, head/neck, and gynecological treatments. Initial applications for these other brachytherapy treatments are primarily used in recurrent cancer treatments or salvage cases that are generally difficult to treat aggressive cancers where other treatment options are either ineffective or unavailable.

These other brachytherapy treatments continue to be subject to the influence of a small pool of innovative physicians who are the early adopters of the technology who also tend to be faculty at teaching hospitals training the next generation ofof physicians. This causes the revenue created by these types of treatment applications to be more volatile and vary significantly from quarter to quarter. This volatility resulted in the increase from the prior year.

Cost of product sales.sales

Cost of product sales consists primarily of the costs of manufacturing and distributing the Company’s products.

Contributing to the quarters ended September 30, 2017 and 2016 comparison were decreases attributed to cost savings initiatives that resulted in lower procurement costs of goods and services. Some costs shifted in the quarter ended September 30, 20162017 to research and 2015 comparisondevelopment from cost of product sales as employees performed research and development work. Also, reduced staffing costs were realized with decreased head count. These decreases attributed to a change in the asset retirement obligation and reduced depreciation expense as several production related assets became fully depreciated.

The Company purchases an excesswere partially offset by increased supply of isotope to meet not only known customer orders but also enough to fill anticipated ordersfrom MURR which may or may not materialize. Excess isotope is utilized in the production of upcoming orders where possible considering the decay rates of Cesuim-131. Loss of isotope to decay is also included as aincreased total cost of production.product sales but resulted in lower supply cost per curie of Cesium-131.

ResearchContributing to the three months ended September 30, 2017 and development.2016 gross profit comparison were increased sales as well as reductions in cost of product sales due to cost savings initiatives and reduced staffing costs including utilization of production personnel on research and development projects.

Research and development

Research and development – proprietary

Proprietary research and development consists primarily of theemployee and third-party costs related to employee and third party research and development activities.

Contributing to the quarters ended September 30, 2017 and 2016 proprietary research and development comparison were increases associated with participation in new protocols, device development activities, as well as a reallocation of employee costs from cost of product sales as those employees performed work on research and development projects. These increases were partially offset by decreased legal fees.

Research and development – collaborative arrangement

Collaboration arrangement related costs are incurred, shared, and separately stated in connection with a collaborative research and development project (see footnote 8 of Notes to unaudited consolidated financial statements contained in this filing). For the quarter ended September 30, 2016 and 2015 comparison were increased legal expenses related to maintenance2017 the collaborative arrangement incurred total costs of intellectual property.approximately $147,000 net of approximately $72,000 in shared cost reimbursements.

Sales and marketing expenses.expenses

Sales and marketing expenses consist primarily of the costs related to the internal and external activitiesactivities of the Company’s sales, marketing and customer service. service functions of the Company. As the Company increasingly focuses on improving sales, the cost associated with marketing and additional staffing continues to increase.

Contributing to the quarters ended September 30, 2017 and 2016 comparison were increased advertising and public relations costs as part of the revitalized marketing plan. Staffing differences are a major factor in the cost comparison as open positions in the quarter ended September 30, 2016 were filled in periods prior to the quarter ended September 30, 2016 and 2015 comparison increase were rebranding efforts and a website redesign that launched during the quarter and2017 with increased costs attributed to filled sales positions, including the position of Vice President of Sales and Marketing, some of which were unfilled in the previous quarter ended September 30, 2015 and others that were added including a Product Manager and a Senior Marketing Consultant. These increases were partially offset by decreased costs associated with attending trade shows.salaries.

General and administrative expenses.expenses

General and administrative expenses consist primarily of the costs related to the executive, human resources/training quality assurance/regulatory affairs, departments, finance, and information technology functions of the Company.

Contributing to the quarters ended September 30, 2017 and 2016 comparison were cost decreases from the prior year. Those include decreases to payroll as a result of the re-organization of the finance department with reduced head count, decreased legal expenses, audit fees, and public company related fees. These cost decreases were partially offset in the quarter ended September 30, 20162017 by increases associated with share-based compensation, and 2015 comparison were increased salary, benefits, and share-based compensationemployment hiring expenses related to the hiring of the Director of Quality Assurance and Regulatory Affairs and the Senior Accountant in June 2016, and the Vice President of Human Resources and Training in July 2016. There were also increased public company expenses related to the executive compensation review by an independent consultant and the attendance of the Company’s Chief Executive, Financial and Operating/Scientific Officers to the Rodman & Renshaw investor conference.Controller.

Non-operating income (expense).

Interest income consists primarily of interest earned on certificates of deposit in the CDARS system which are FDIC insured.

The warrant derivative liability requires periodic evaluation for changes in fair value. For the quarter ended September 30, 2016 and 2015, the Company evaluated the fair value of the warrant derivative liability using the Black-Scholes option pricing model and applied updated inputs as of those dates. The resulting change in fair value was recorded during the quarters ended September 30, 2016 and 2015.

Other income consists primarily of gains on asset disposals and other revenues not attributed to the Company’s core business products. In the quarter ended September 30, 2016 the Company recorded a gain of approximately $5,000 on asset disposals and approximately $16,000 of refunds resulting from an audit performed on one of our vendors.

Liquidity and capital resourcesresources.

The Company assesses its liquidity in terms of its ability to generate cash to fund its operating, investing and financing activities. The Company has historically financed its operations through selling equity to investors. During the quarterquarters ended SeptemberSeptember 30, 20162017 and 2015,2016, the Company used existing cash reserves to fund its operations and capital expenditures (in thousands except current ratio).:

Cash flows from operating activities

Net cash used by operating activities in the quarterthree months ended September 30, 20162017 was primarily due to a net loss of approximately $1.5$1.55 million, net of approximately $81,000$128,000 in adjustments for non-cash activity such as depreciation and amortization expense, the change in fair value of the warrant derivative liability and share-based compensation. Changes in operating assets and liabilities contributedused approximately $64,000$243,000 to the cash providedfund operating activities; increases to prepaid expenses and other current assets, along with decreases to accrued radioactive waste disposal and accrued payroll and related taxes, were partially offset by operating activities, such as improved effectiveness fromdecreases in accounts receivable collection efforts which was offset by the timing ofresulting from improved collections as well as an increase in accounts payable and accrued expenses.expenses resulting from better cash management procedures to more effectively utilize payment terms.

Cash flows from investing activities

Investing activities consisted of transactions related to the purchase of fixed assets, including automation of production processes and advance planning and design work on the Company’s new production facility, as well as the purchase and subsequent maturity of certificates of deposit. Management will continue to invest in technology and machinery that improves and streamlines production processes and to invest and reinvest maturing certificates of deposit in low-risk investment opportunities that safeguard assets and provide greater assurance those resources will be liquid and available for business needs as they arise.

Cash flows from financing activities

Financing activities in the quarter ended September 30, 2015 were due to sales of common stock through option exercises.

Projected 2017 LiquidityProjected 2018 liquidity and Capital Resourcescapital resources

Operating activities

Management forecasts that fiscal 2017 cash requirements will be similar to previous years and that current cash and cash equivalents along with certificates of deposit (current and non-current) will be sufficient to meet projected operating cash needs for the coming year.remainder of fiscal 2018. Assuming no extraordinary expenses occur (whether operating or capital), if management is successful at implementing its strategy to focus onof renewed emphasis to driveon driving the consumer to the prostate market, and meets or exceeds its annual growth targets of twenty percent increase in revenue in fiscal 20172018 and this annual growth continues, the Company anticipates reaching cashflow break-even in three to five years. Although the Company did not reach that target of twenty percent increased revenue in the first quarter of fiscal 2018, the Company is continuing to project revenue growth in fiscal 2018 of at least twenty percent over fiscal 2017. There is no assurance that the targeted sales growth will materialize butover the next three to five years. However, management is encouraged by the results for the quarter ended September 30, 2017 and with the depth and experience of its restructured sales team.

Capital expenditures

Management is inhas completed the design process of a future productionproduction and administration facility. If financing is obtained and the facility constructed, it is believed that the new facility will have non-cash depreciation cost equal to or greater than the monthly rental cost of the current facility.

Management is reviewingreviewing and implementing changes in all aspects of production operations (including process automation), research and development, sales and marketing, and general and administrative functions to evaluate the most efficient deployment of capital to ensure that the appropriate materials, systems, and personnel are available to support and drive product sales. Through

During the quarter ended September 30, 2016,2017, the Company has invested approximately $110,000 towards$44,000 in the automation of thirteen production processes, three of which have been received, are being tested and evaluated, and are expected to bewere placed in service in the coming quarter. ManagementOne additional machine has been received and is currently being tested. Beginning in fiscal 2017 and continuing through September 30, 2017, the Company has invested approximately $349,000 in these automation projects and management is expecting to invest approximately $390,000$260,000 more during fiscal 2017over the next 11 months on the remaining production process automation projects. This investment is designed to allow the Company to significantly increase the output of Cs-131 brachytherapy seeds, while allowing the Company to controldecrease the highest cost inputslabor costs related to seed production whileand also improving the overall safety of our operations.

Financing activities

There was no material change in the use of proceeds from our public offering as described in our final prospectus supplement filed with the SEC pursuant to Rule 424(b) on March 24, 2014. Through JuneSeptember 30, 2016,2017, the Company had used the net proceeds raised through the March 2014 offering as described in the public offering. No offering expenses were paid directly or indirectly to any of our directors or officers (or their associates) or persons owning ten percent or more of any class of our equity securities or to any other affiliates.

On August 25, 2015, the Company filed a registration statement on Form S-3 to registerregister securities up to $20 million in value for future issuance in our capital raising activities. The registration statement became effective on November 19, 2015, and the SEC file number assigned to the registration statement is 333-206559.

The CompanyCompany expects to finance its future cash needs through sales of equity, possible strategic collaborations, debt financing or through other sources that may be dilutive to existing shareholders,shareholders. Management anticipates that if it raises additional financing that it will be at a discount to the market price and it will be dilutive to shareholders.

The Company’s common stock is currently listed on the NYSE American stock exchange, which will consider delisting a company’s securities if, among other things, a company fails to maintain minimum stockholder's equity.  With the Company’s existing cash reserves we believe we will not be able to maintain our listing on the NYSE American unless we raise capital in the next six to nine months assuming we maintain our projected budgeted expenses and contemplated level of revenues. 

Other Commitmentscommitments and Contingenciescontingencies

The Company presented its other commitments and contingencies in our Annual Report on Form 10-K for the fiscal year ended June 30, 2016.30, 2017. There have been no material changes outside of the ordinary course of business in those obligations during the quarter ended September 30, 20162017 other than those previously disclosed in Notefootnotes 8 and 12 of Notes to the interimunaudited consolidated financial statements contained in this Form 10-Q.filing.

Off-Balance Sheet ArrangementsOff-balance sheet arrangements

The Company has no off-balance sheet arrangements.

Critical Accounting Policiesaccounting policies and Estimatesestimates

The discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP).GAAP. The preparation of these consolidated financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements, as well as revenue and expenses during the reporting periods. The Company evaluates its estimates and judgments on an ongoing basis. The Company bases its estimates on historical experience and on various other factors the Company believes are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities. Actual results could therefore differ materially from those estimates if actual conditions differ from our assumptions.

During the quarter ended September 30, 2016,2017, there have been no changes to the critical accounting policies and estimates as discussed in Part II, Item 7 of our Form 10-K for the year ended June 30, 2016.2017.

ITEM 3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

There have been no material changes to the disclosure in the “Quantitative“Quantitative and Qualitative Disclosures about Market Risk Factors” section of our Annual Reportannual report on Form 10-K for the year ended June 30, 2016.2017.

ITEM 4 – CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of the design and operation of our disclosure controls and procedures, as such term is defined under Rules 13a-14(c) and 15d-14(c) promulgated under the Securities Exchange Act of 1934, as amended (the Exchange Act), as of September 30, 2016.2017. Based on that evaluation, our principal executive officer and our principal financial officer concluded that the design and operation of our disclosure controls and procedures were effective. The design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote. However, management believes that our system of disclosure controls and procedures are designed to provide a reasonable level of assurance that the objectives of the system will be met.

Changes in Internal Control over Financial ReportingReporting

There have not been any changes in our internal control over financial reporting (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II - OTHER INFORMATION