Item 2. Management's Discussion and Analysis of Financial Condition and Result of Operations

Forward Looking Information

This Quarterly Report on Form 10-QSB contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act") and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and the Company, intends that such forward-looking statements be subject to the safe harbors created thereby. These forward-looking statements, which can be identified by the use of words such as "may," "will," "expect," "anticipate," "estimate," or "continue," or variations thereon or comparable terminology, include the plans and objectives of management for future operations, including plans and objectives relating to the products and future economic performance of the Company. In addition, all statements other than statements of historical facts that address activities, events, or developments the Company expects, believes, or anticipates will or may occur in the future, and other such matters, are forward-looking statements.

The forward-looking statements included herein are based on current expectations that involve a number of risks and uncertainties. These forward-looking statements are based on assumptions that the Company will retain key management personnel, the Company will be successful in the development of the BACcel(TM) system, the Company will have sufficient capital to complete the development of the BACcel(TM) system, the Company will be able to protect its intellectual property, the Company's ability to respond to technological change, that the Company will accurately anticipate market demand for the Company's products and that there will be no material adverse change in the Company's operations or business. Assumptions relating to the foregoing involve judgments with respect to, among other things, future economic, competitive and market conditions and future business decisions, all of which are difficult or impossible to predict accurately and many of which are beyond the control of the Company. Although the Company believes that the assumptions underlying the forward-looking statements are reasonable, any of the assumptions could prove inaccurate and, therefore, there can be no assurance that the results contemplated in forward-looking statements will be realized. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

The following discussion should be read in conjunction with the Company's unaudited condensed financial statements and related notes included elsewhere herein. The Company's future operating results may be affected by various trends and factors which are beyond the Company's control. These include, among other factors, general public perception of issues and solutions, and other uncertain business conditions that may affect the Company's business. The Company cautions the reader that a number of important factors discussed herein, and in other reports, filed with the Securities and Exchange Commission including the risks in the section entitled "Risk Factors" its 10-KSB for the year ended July 31, 2007, could affect the Company's actual results and cause actual results to differ materially from those discussed in forward-looking statements.

Overview

Our vision is to develop and commercialize an innovative diagnostic system for use with critically ill patients for rapid identification of bacteria and specific strains based on the presence of major antibiotic resistance mechanisms. Our business strategy is to demonstrate the value of our technology in the broad market for biomedical products with the intent of licensing our proprietary technology to established market leaders.

We are developing the BACcel(TM) system, a rapid bacterial diagnostic platform, by integrating our proprietary technologies into an automated system. Proprietary technologies include OptiChem(R) surface coatings, and various innovative assay processing methods. We have received patents or we have patent applications pending for the major technology components, methods, and systems.

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The BACcel(TM) system development project began with a number of innovative analytical biological concepts that had no direct precedent, but which adapted well-accepted microbiological testing principles for automated analysis. Until now, these testing principles have only been applied to cultures that contain hundreds of millions of bacteria descended from single organisms, hand-selected as cultured colonies grown from a patient specimen.

The BACcel(TM) system is based on simple transformations of standard methods, using advanced automation technology to achieve substantially better performance than is possible with current testing methods. We believed that speed and precision should be possible by analyzing, as individuals, many thousands of cells extracted directly from the patient specimen. This contrasts with standard culturing in which the descendants of fewer than ten cells are presumed to represent the entire infectious bacterial population in a specimen, and with which many hours of repeated growth are required to perform analyses. Typically, initial testing requires 2-3 days, which is too late to help guide the physician to make treatment decisions for critically ill patients who often become infected with drug-resistant bacteria. As a result, initial therapy typically proves inadequate in 20% to 40% of such cases, causing high mortality, serious medical complications, and extended length of stay.

Published studies on ICU patients consistently show that a hospital-acquired infection doubles the risk of mortality and complications. Infection with a multi-resistant organism quadruples risks relative to comparable un-infected patients. The most important reason for elevated risk is inadequate initial therapy, caused by widespread and complex mechanisms of drug resistance.

We intend the BACcel(TM) system to report bacterial quantitation and identification within 2 hours of patient specimen processing. We plan to augment the first reported identification with additional identification of major antibiotic resistance mechanisms. We believe that resistance mechanism identification will require no more than 4 additional hours of testing, with some results becoming available more quickly than others.

The purpose of this strategy is to narrow the drug choices for initial therapy by identifying major resistance mechanisms that are likely to cause drugs to fail. If successful, this approach would help the physician to subtract ineffective drugs from the list of available drugs, leaving those that are most likely to control the infection as initial therapy.

For example, the first report might state that a significant number of common "Staph" is present in a patient specimen, likely causing a patient's infection. The second report might then state that all of the organisms fall into a major antibiotic resistance group known as "MRSA" (methicillin resistant Staphylococcus aureus, often referred to as "superbugs" in news reports because of their multiple drug resistance). This identification eliminates from consideration the most important drugs otherwise preferred for treating Staph infections.

The second report would include the identification of additional important resistance mechanisms that might similarly rule out the next most important drugs. In this way, we believe that the BACcel(TM) system will systematically test for the most significant resistance mechanisms. This would leave the physician with specific drug choices that are most likely to prove effective. From these, the physician would then be able to hold in reserve those drugs considered "salvage" or "last choice" drugs. This approach of reserving drugs helps to delay the emergence of resistance for the few drugs still available to treat highly resistant strains.

Without specific guidance, the physician now has no choice but to use these reserved drugs to assure initial infection control but accelerating their loss of effectiveness over time.

Popular news media have reported widely about MRSA as a multi-resistant "superbug." However, organizations such as the CDC (US Centers for Disease Control and Prevention) and IDSA (Infectious Diseases Society of America) have also identified other multi-drug resistant organisms as presenting even greater threats. They include Pseudomonas, Acinetobacter, E. coli, and Klebsiella. In the hospital ICU, MRSA typically causes no more than about 30% of mortality from acquired infections. The other organisms just listed account for a much higher percentage.

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To the best of management's knowledge, based on outside opinions and direct market research, the Company is the only organization in the world to be developing a rapid diagnostic solution, and one that includes these organisms and strain types.

To date, we have established the functional requirements of the BACcel(TM) platform. We have begun testing the specific analyses required in the BACcel(TM) system and published the results at major scientific and clinical conferences. We have been guided by leading medical experts in our development strategy and product design.

During the next twelve months, the Company intends to expand its experimental data to characterize and validate test performance to be used in future versions of the BACcel(TM) system. In addition, we expect to further define requirements for a commercial research product in advance of clinical product development.

In parallel to the BACcel(TM) system development, we have developed and independently licensed OptiChem(R) surface coatings to other companies for use in microarraying and other molecular detection products. We have granted Schott Jenaer Glas GmbH, a global leader in high-quality glass manufacturing, a non-exclusive license to manufacture and market microarraying slides using OptiChem(R) coatings. We have also licensed NanoString Technologies Inc. to use OptiChem(R) in their innovative molecular bar-coding systems for high-sensitivity gene expression analysis.

During the nine months ended April 30, 2008, we placed two development systems in outside academic research facilities. One system is in the Denver Health Medical Center. The other is in Barnes-Jewish Hospital, St. Louis. The outside investigators are using the systems for technical validation of the analytical methods.

We intend to give three presentations at the American Society for Microbiology meeting to be held in June 2008. The presentations describe the results of studies on rapid antibiotic resistance mechanism identification, rapid testing for Acinetobacter identification, and detection and enumeration of bacteria extracted directly from human respiratory specimens.

During the quarter ended April 30, 2008, we continued the scale-up of our proprietary antibody development methods. The first antibodies were raised against Acinetobacter, for which no commercial antibodies are available. We believe that the scale-up will provide material for BACcel(TM) system development, outside research support, and additional test development. We also advanced the development of antibodies required for additional organisms, and initiated other types of testing used for identification of bacteria.

Effective May 16, 2008, we entered into a Research and Option Agreement with Becton, Dickinson and Company. Pursuant to the Research and Option Agreement, BD will fund certain research work by the Company relating to the Company's BACcel(TM) system. The immediate funding relieves Accelr8 of the need to independently raise funds to support BACcel(TM) technical milestone achievement set forth in the Research and Option Agreement through September 2009. If BD exercises the licensing option, Management believes that the agreement would then further relieve Accelr8 of the need to raise the large amount of funding required for BACcel(TM) product development, protect shareholders from the potentially significant dilution and mitigate the risks associated with BACcel (TM) commercialization.

The agreement also enables Accelr8 to seek additional commercial applications for its proprietary technology. Management believes that this expands the opportunity horizon for shareholders.

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Recently Issued Accounting Pronouncements

In February 2007, the FASB issued FASB SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, to expand the use of fair value measurement by permitting entities to choose to measure many financial instruments and certain other items at fair value that are not currently required to be measured at fair value. SFAS 159 is effective beginning the first fiscal year that begins after November 15, 2007. The Company is currently evaluating the impact of adopting SFAS 159 on its financial statements.

In December 2007, the FASB issued FAS 160 which changes the accounting and reporting for minority interests. Minority interests will be recharacterized as noncontrolling interests and will be reported as a component of equity separate from the parent's equity, and purchases or sales of equity interests that do not result in a change in control will be accounted for as equity transactions.

In addition, net income attributable to the noncontrolling interest will be included in consolidated net income on the face of the income statement and, upon a loss of control, the interest sold, as well as any interest retained, will be recorded at fair value with any gain or loss recognized in earnings. FAS 160 is effective for annual periods beginning on or after December 15, 2008. The Company does not expect the adoption of FAS 160 to have an effect on its financial statements.

In December 2007, the FASB issued SFAS 141(revised 2007), Business Combinations ("SFAS 141R"). SFAS 141R will significantly change the accounting for business combinations in a number of areas including the treatment of contingent consideration, contingencies, acquisition costs, intellectual property, research & development and restructuring costs. In addition, under SFAS 141R, changes in deferred tax asset valuation allowances and acquired income tax uncertainties in a business combination after the measurement period will impact income tax expense. SFAS 141R is effective for fiscal years beginning after December 15, 2008. The Company has not yet determined the impact, if any, of SFAS 141R on its financial statements.

Changes in Results of Operations: three months ended April 30, 2008 compared to three months ended April 30, 2007.

During the three months ended April 30, 2008, OptiChem(R) revenues were $0 as compared to $22,687 during the three month period ended April 30, 2007, a decrease of $22,687 or 100% due to sales of custom coated slides to NanoString now reverting to being reported under royalty income, as a result of the sales of a OptiChem(R) license in October, 2007.

There were option fees of $54,545 during the three months ended April 30, 2008 compared to $0 during the three months ended April 30, 2007. The option fee for the three months ended April 30, 2008 consisted of the earned portion of an option from Becton Dickinson & Company.

Research and development expenses for the three months ended April 30, 2008 were $153,722 as compared to $247,524 during the three months ended April 30, 2007, a decrease of $93,802 or 38%. The decrease was primarily the result of a reduction in the use of outside engineering firms related to the development of the BACcel(TM) system and decreased salaries paid due to attrition.

During the three months ended April 30, 2008, general and administrative expenses were $201,704 as compared to $211,007 during the three months ended April 30, 2007, a decrease of $9,303 or 4.4%. The decrease was primarily due to decreases in salaries, related taxes and benefits of $57,345.

The increase in amortization was negligible for the three months ended April 30, 2008 as compared to the three month period ended April 30, 2007.

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Marketing and sales expenses for the three months ended April 30, 2008 were $1,356 as compared to $2,190 during the three months ended April 30, 2007, a decrease of $834. The decrease was primarily due reduced expenses relating to presentations at scientific conferences.

Depreciation for the three months ended April 30, 2008 was $12,036 as compared to $18,382 during the three months ended April, 2007, a decrease of $6,346 or 34.5%. This decrease resulted from the increased age of assets and related depreciation as well as sale of equipment, in previous quarters, no longer being used.

Costs of goods sold during the three months ended April 30, 2008 were $0 as compared to $4,035 during the three months ended April 30, 2007, a decrease of $4,035 or 100%. The decrease in costs of goods sold was primarily the result of no sales of custom coated slides to NanoString, which now owns a license to OptiChem(R).

As a result of the above factors, loss from operations for the three months ended April 30, 2008 was $368,325 as compared to a loss of $520,497 during the three months ended April 30, 2007, a decrease loss of $152,172 or 29.2%.

Interest and dividend income during the three months ended April 30, 2008 was $16,720 as compared to $26,130 during the three months ended April 30, 2007, a decrease of $9,410 or 36.0%. Interest income decreased as a result of decreased interest rates and reduced amounts of cash held by the Company.

An unrealized holding loss on investments held in the deferred compensation trust for the three months ended April 30, 2008 was $19,163 as compared to an unrealized gain of $15,788 during the three months ended April 30, 2007, a decrease of $34,951. The change was a result of decreased value of the underlying securities.

As a result of these factors, net loss for the three months ended April 30, 2008 was $370,768 as compared to $476,537 during the three months ended April 30, 2007, a decreased loss of $105,769 or 22.2%.

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Changes in Results of Operations: Nine months ended April 30, 2008 compared to nine months ended April 30, 2007.

During the nine months ended April 30, 2008, OptiChem(R) revenues were $53,642 as compared to $77,805 during the nine month period ended April 30, 2007, a decrease of $24,163 or 31.1%. The decrease was a result of licensing of OptiChem(R) to NanoString and receiving royalty income during the nine months ended April 30, 2008 as compared to sales revenue nine months ended April 30, 2007.

Consulting fees during the nine-month period ended April 30, 2008 were $0 as compared to $22,000 during the nine-month period ended April 30, 2007, a decrease of $22,000 or 100%. The $22,000 in consulting fees related to a Feasibility Testing Agreement that was completed during the nine-month period ended April 30, 2007. No technical consulting fees were billed or received during the nine months end April 30, 2008.

Option fees during the nine months ended April 30, 2008 were $100,000 as compared to $14,250 during the nine months ended April 30, 2007, an increase of $85,750. The option fee for the nine months ended April 30, 2008 consisted of an option from Becton Dickinson & Company.

License fees during the nine months ended April 30, 2008 were $100,000 as compared to $50,000 during the nine months ended April 30, 2007, an increase of $50,000 or 100%. The license fees during the nine months ended April 30, 2008 were the result of a License Agreement entered into with Schott Jenaer Glas GmbH to produce and sell the Company's technology on coated OptiChem(R) Slide H and an exclusive license with NanoString.

Research and development expenses for the nine months ended April 30, 2008 were $674,897 as compared to $813,864 during the nine months ended April 30, 2007, a decrease of $138,967 or 17.1%. The decrease was primarily the result of decreased supplies, a reduction in the use of outside engineering firms related to the development of the BACcel(TM) system and decreased salaries.

During the nine months ended April 30, 2008, general and administrative expenses were $609,989 as compared to $730,179 during the nine month period ended April 30, 2007, a decrease of $120,190 or 16.5%. The decrease was primarily due to reductions in salaries and related taxes and benefits.

The increase in amortization was negligible for the nine months ended April 30, 2008 as compared to the nine month period ended April 30, 2007.

Marketing and sales expenses for the nine months ended April 30, 2008 were $10,499 as compared to $5,788 during the nine months ended April 30, 2007, an increase of $4,711 or 81.3%. The increase was primarily due to expenses in connection with scientific conference attendance.

Depreciation for the nine months ended April 30, 2008 was $39,146 as compared to $55,146 during the nine months ended April 30, 2007, a decrease of $16,000 or 29.0%. The decreased depreciation was the result of the increased age of assets and certain disposals of equipment no longer being used.

Cost of goods sold during the nine months ended April 30, 2008 were $9,032 as compared to $14,761 during the nine months ended April 30, 2007, a decrease of $5,729 or 38.8%. The decrease in cost of goods sold was primarily the result of products being produced by others under licensing agreements as compared to the Company producing the products.

As a result of the above factors, loss from operations for the nine months ended April 30, 2008 was $1,265,710 as compared to a loss of $1,635,820 during the nine months ended April 30, 2007, a decrease in losses of $370,110 or 22.6%.

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Investment and dividend income during the nine months ended April 30, 2008 was $52,999 as compared to $89,750 during the nine months ended April 30, 2007 a decrease of $36,751 or 41%. Interest income decreased as a result of decreased interest rates and reduced amounts of cash held by the Company.

An unrealized holding losses on investments held in the deferred compensation trust for the nine months ended April 30, 2008 was $37,181 as compared to a gain of $71,802 for the nine months ended April 30, 2007, a difference of $108,983. The change was a result of decreased value of the underlying securities.

Gain on the sale of equipment was $51,761 during the nine months ended April 30, 2008 as compared to $0 during the nine months ended April 30, 2007. The gain on the sale of equipment was the result of the sale of microarray printers.

As a result of these factors, net loss for the nine months ended April 30, 2008 was $1,198,131 as compared to $1,472,226 during the nine months ended April 30, 2007, a decreased loss of $274,095 or 18.6%.

Capital Resources and Liquidity

During the nine months ended April 30, 2008 and April 30, 2007, we did not generate positive cash flows from operating activities. The Company has historically funded its operations generally through its existing cash balances, cash flow generated from operations and sales of equity securities. Our primary use of capital has been for the research and development of the BACcel(TM) system. Notwithstanding our investments in research and development, there can be no assurance that the BACcel(TM) system or any of our other products will be successful, or even if they are successful, will provide sufficient revenues to continue our current operations. Our working capital requirements are expected to increase in line with the growth of our business. We have no lines of credit or other bank or off balance sheet financing arrangements. We believe our capital requirements will continue to be met with our existing cash balance, additional issuance of equity or debt securities and/or a capital infusion from potential partners in the development of the BACcel(TM) system. If we are unable to realize any revenues from our products, we will require additional funds from other sources to continue operations. Further, if capital requirements vary materially from those currently planned, we may require additional capital sooner than expected.

At April 30, 2008, as compared to July 31, 2007, cash and cash equivalents decreased by $116,909 from $1,393,669 to $ 1,276,760, or approximately 8.4 % and the Company's working capital decreased $188,291 or 13.7% from $1,376,284 to $1,187,993. During the same period, shareholders' equity decreased from $4,880,207 to $4,549,411 as a result of losses incurred, charges related to stock options and the additional $800,000 of equity raised during the year. Our working capital requirements are expected to increase in line with the growth of our business.

The net cash used in operating activities was $830,896 during the nine months ended April 30, 2008 compared to cash used in operating activities of $1,128,087 during the nine months ended April 30, 2007. The principal elements that gave rise to the decrease of cash used in operating activities were a result of lower net losses for the period and lower outside consultant fees.

Cash provided by financing activities during the nine months ended April 30, 2008 was $800,000. The cash provided by financing activities was the result of the sale of shares of our common stock to accredited investors of an aggregate of $800,000. As a result of the cash raised in the Offering, management believes that current cash balances plus cash flow from operations will be sufficient to fund our capital and liquidity needs for the next eighteen months.

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Thereafter, the Company may have to seek capital resources from other sources to meet its obligations in the future. There can be no assurance that such capital will be available in sufficient amounts or on terms acceptable to us, if at all. Additional issuances of equity or convertible debt securities, if any, will result in dilution to our current common stockholders.