The following discussion and analysis is intended to help you understand our financial condition and results of operations for the three months ended September 30, 2008. You should read the following discussion and analysis together with our unaudited condensed consolidated financial statements and the notes to the condensed consolidated financial statements included under Item 1 in this report, as well as the risk factors and other information included in our 2008 Annual Report and other reports and documents we file with the SEC. Our future financial condition and results of operations will vary from our historical financial condition and results of operations described below based on a variety of factors.

Executive Overview

The following overview does not address all of the matters covered in the other sections of this Item 2 or other items in this report or contain all of the information that may be important to our stockholders or the investing public. This overview should be read in conjunction with the other sections of this Item 2 and this report.

Our primary business activity is providing private label contract manufacturing services to companies that market and distribute vitamins, minerals, herbs and other nutritional supplements, as well as other health care products, to consumers both within and outside the United States. Historically, our revenue has been largely dependent on sales to one or two private label contract manufacturing customers and subject to variations in the timing of such customers' orders, which in turn is impacted by such customers' internal marketing programs, supply chain management, entry into new markets and new product introductions.

A cornerstone of our business strategy is to achieve long-term growth and profitability and to diversify our sales base. We have sought and expect to continue to seek to diversify our sales both by developing relationships with additional, quality-oriented, private label contract manufacturing customers and developing and growing our own line of branded products. In connection with our efforts to develop and grow our own line of branded products, we have determined to refine the types of products on which we will focus our efforts and in doing so have elected to discontinue certain of our branded products initiatives as described below.

During the fourth quarter of fiscal 2008, in an effort to enhance stockholder value, improve working capital and enable us to focus on our core contract manufacturing business, we elected to narrow our branded products focus and developed a plan to sell the legacy RHL business. On August 4, 2008, RHL sold certain assets related to its catalog and internet business conducted under the name "As We Change®" to Miles Kimball Company for a cash purchase price of $2,000,000. The purchase price was subject to certain post-closing adjustments based on a final accounting of the value of the assets sold to and the liabilities assumed by the buyer at the closing. As a result of the post-closing review, the purchase price was increased by $299,000, resulting in an aggregate purchase price of $2,299,000. We recorded a loss, net of tax, of $148,000 as a result of this sale and recognized $221,000 in severance and related payroll costs during the three months ended September 30, 2008. We intend to market for sale legacy RHL's remaining business operations during fiscal 2009, with the exception of our Pathway to Healing ® product line. The financial information presented in this report has been reclassified to reflect the legacy RHL business as discontinued operations.

As a result of our decision to sell the legacy RHL business, we also initiated an operational consolidation program during the first quarter of fiscal 2009 that transitioned the remaining branded products business operations to our corporate offices. This operational consolidation program was substantially complete as of September 30, 2008 and resulted in a charge to discontinued operations of $630,000 in severance and other business related exit costs.

During the first quarter of fiscal 2009, our net sales from continuing operations were 14.7% lower than in the first quarter of fiscal 2008. Private label contract manufacturing sales declined 14.1% due to lower volumes of existing products in existing markets sold to one of our largest customers along with the impact of unfavorable foreign currency fluctuations . This decline was partially offset by an increase in sales to one of our other largest customers and sales to new customers. Net sales from our branded products declined 26.5% in the first quarter of fiscal 2009 as compared to the first quarter of fiscal 2008 due to the continued softening of our Pathway to Healing® product line.

Our revenue concentration risk for our two largest customers remained constant at 78% as a percentage of our total sales from continuing operations for the first quarter of fiscal 2009 and the comparable prior year period. We expect our contract manufacturing revenue concentration percentage for our two largest customers to remain consistent for the remainder of fiscal 2009.

During fiscal 2008 and continuing through the first quarter of fiscal 2009, we invested substantial time and incurred substantial costs associated with hiring and training new quality assurance and other manufacturing support personnel, increased testing activity, and documentation and validation processes related to our Good Manufacturing Practices (GMPs) compliance programs. These additional expenses negatively impacted our operating income from continuing operations during these periods and we expect this trend to contuinue until we increase the volume of our private label business sufficiently to offset our higher fixed overhead structure. Although the cost of GMP compliance is significant, we believe our commitment to quality and our steadfast support of the FDA mandated GMPs makes us well positioned to operate within the higher standards of the Food and Drug Administration's GMPs and differentiates us from our competitors.

Beginning in April 2007, Dr. Cherry ceased airing his weekly television program, which had served as the primary customer acquisition vehicle in marketing the Pathway to Healing® product line. While sales of the product line have been primarily generated by continuity orders from long-standing repeat customers, the loss of the television program has had a negative impact on our ability to acquire new customers. We continue working with Dr. Cherry to evaluate alternative marketing programs and revise marketing plans to support the product line.

During fiscal 2009, we plan to continue to focus on:

• Leveraging our state of the art, certified facilities to increase the value of the goods and services we provide to our highly valued private label contract manufacturing customers, and assist us in developing relationships with additional quality oriented customers;

• Implementing focused initiatives to grow our Pathway to Healing® product line;

• Improving operational efficiencies and managing costs and business risks to improve profitability; and

• Identifying and evaluating additional acquisition opportunities that could increase product lines, expand distribution channels, enhance manufacturing capabilities or reduce risk associated with a variety of factors.

Looking forward, as a result of the uncertain near-term economic conditions including unfavorable currency markets, we expect reduced net sales from our branded products business and higher operating costs related to our GMPs compliance programs in the second quarter of fiscal 2009, as compared to the second quarter in fiscal 2008. The anticipated increased operating expenses, unfavorable foreign currency fluctuations, and additional severance and other exit costs associated with discontinuing our RHL operations are expected to result in a net operating loss from continuing operations during the second quarter of fiscal 2009.

Critical Accounting Policies and Estimates

The preparation of our financial statements requires that we make estimates and assumptions that affect the amounts reported in our financial statements and their accompanying notes. We have identified certain policies that we believe are important to the portrayal of our financial condition and results of operations. These policies require the application of significant judgment by our management. We base our estimates on our historical experience, industry standards, and various other assumptions that we believe are reasonable under the circumstances. Actual results could differ from these estimates under different assumptions or conditions. An adverse effect on our financial condition, changes in financial condition, and results of operations could occur if circumstances change that alter the various assumptions or conditions used in such estimates or assumptions.

Our critical accounting policies are discussed under Item 7 of our 2008 Annual Report. There have been no significant changes to these policies during the three months ended September 30, 2008.

Results of Operations

The results of our operations for the three months ended September 30 were as
follows (dollars in thousands):



                                                       Three Months Ended
                                              September 30,          September 30,
                                                  2008                   2007               Increase (Decrease)
Private label contract manufacturing        $  18,742      96 %    $  21,819      95 %    $     (3,077 )      (14 )%
Branded products                                  784       4 %        1,066       5 %            (282 )      (26 )%

Total net sales                                19,526     100 %       22,885     100 %          (3,359 )      (15 )%
Cost of goods sold                             17,126      88 %       18,945      83 %          (1,819 )      (10 )%

Gross profit                                    2,400      12 %        3,940      17 %          (1,540 )      (39 )%
Selling, general & administrative
expenses                                        2,618      13 %        2,892      13 %            (274 )       (9 )%

Operating (loss) income from continuing
operations                                       (218 )    (1 )%       1,048       4 %          (1,266 )     (121 )%
Other expenses, net                               313       2 %           11       0 %             302      2,745 %

(Loss) income from continuing operations
before income taxes                              (531 )    (3 )%       1,037       4 %          (1,568 )     (151 )%
Income tax (benefit) expense                     (182 )    (1 )%         286       1 %            (468 )     (164 )%

(Loss) income from continuing operations         (349 )    (2 )%         751       3 %          (1,100 )     (146 )%
Loss from discontinued operations, net of
tax                                            (1,048 )    (5 )%        (328 )    (1 )%           (720 )     (220 )%

Net loss                                    $  (1,397 )    (7 )%   $     423       2 %    $     (1,820 )     (430 )%

The percentage decrease in private label contract manufacturing net sales was attributed to the following:

                       Mannatech, Incorporated (1)   (18 )%
                       NSA International, Inc. (2)     5
                       Other customers (3)            (1 )

                       Total                         (14 )%

1 Net sales to Mannatech, Incorporated decreased primarily as a result of lower volumes of established products in existing markets along with a shift in sales mix to lower priced products.

2 The increase in net sales to NSA International, Inc. included an increase in international sales of 51.9% partially offset by a decline in domestic sales of 1.2%.

3 The decrease in net sales to other customers was primarily related to the timing of shipments during the first quarter of fiscal 2009 as compared to the prior year.

Net sales from our branded products segment decreased 26% during the the first quarter of fiscal 2009 due primarily to the continuing impact of the cessation of the Dr. Cherry weekly television program in April 2007, which had served as the primary acquisition vehicle in marketing the Pathway to Healing ® product line.

Gross profit margin decreased 5.0 percentage points primarily due to the following:

                  Contract manufacturing:
                  Shift in sales mix                       0.9 %
                  Incremental overhead expenses           (2.2 )
                  Incremental direct and indirect labor   (4.0 )
                  Branded products operations              0.3

                  Total                                   (5.0 )%

Private label contract manufacturing gross profit margin declined 4.9 percentage points to 10.4% in the first quarter of fiscal 2009 compared to 15.3% in the first quarter of fiscal 2008. The decrease in gross profit as a percentage of sales was primarily due to higher per unit private label manufacturing costs associated with lower production levels, increased manufacturing labor and overhead expenses related to implementing newly required GMPs, increased product testing costs associated with new product offerings and the impact of unfavorable foreign currency exchange rates associated with our international sales. These decreases were partially offset by a favorable sales mix shift to higher margin product sales.

Branded products gross profit margin increased 1.7 percentage points to 58.6% in the first quarter of fiscal 2009 from 56.9% in the

first quarter of fiscal 2008 due to a favorable sales mix and lower sales discounts and returns.

Selling, general and administrative expenses from continuing operations decreased $274,000, or 9%, during the first quarter of fiscal 2009 as compared to the same period in the prior fiscal year primarily due to a reduction in research and development costs, business insurance expense and decreased direct-to-consumer operating costs primarily associated with lower marketing and advertising expenses, employee compensation costs and call center and fulfillment expenses.

Other expenses, net increased $302,000 during the first quarter of fiscal 2009 as compared to the same period in the prior fiscal year primarily due to $401,000 in unfavorable foreign currency exchange losses associated with the weakening of the Euro and the related impact on the translation of Euro denominated cash and receivables partially offset by a $100,000 reduction in interest expense associated with lower borrowings and interest rates during the first quarter of fiscal 2009.

Liquidity and Capital Resources

Our primary sources of liquidity and capital resources are cash flows provided by operating activities and the availability of borrowings under our credit facility. Net cash used by operating activities was $640,000 for the three months ended September 30, 2008 compared to net cash provided by operating activities of $28,000 in the comparable quarter last year.

At September 30, 2008, changes in accounts receivable, consisting primarily of amounts due from our private label contract manufacturing customers, provided $2.5 million in cash during the three months ended September 30, 2008 compared to $1.5 million of cash used in the comparable prior year quarter. Cash provided by accounts receivable during the quarter ended September 30, 2008 was the result of lower sales and increased collections of prior period accounts receivable as compared to the comparable prior year quarter. Days sales outstanding was 24 days during the three months ended September 30, 2008 compared to 23 days in the comparable quarter last year.

Approximately $540,000 of our operating cash flow was generated by NAIE in the three months ended September 30, 2008. As of September 30, 2008, NAIE's undistributed retained earnings were considered indefinitely reinvested.

Cash used in investing activities in the three months ended September 30, 2008 was $84,000 compared to $326,000 in the comparable quarter last year. Capital expenditures were $1.5 million during the three months ended September 30, 2008 compared to $325,000 in the comparable quarter last year. Capital expenditures for both years were primarily for manufacturing equipment in our Vista, California and Manno, Switzerland facilities. Additionally, during the three months ended September 30, 2008, we invested $699,000 in a six month certificate of deposit and we received $2.2 million in proceeds related to the sale of our As We Change business.

Our consolidated debt increased to $3.0 at September 30, 2008 from $2.7 million at June 30, 2008 primarily due to borrowings on our working capital line of credit offset by payments on our term loans.

We have a bank credit facility of $9.9 million, comprised of a $7.5 million working capital line of credit and $2.4 million in outstanding term loans. The working capital line of credit is secured by our accounts receivable and other rights to payment, general intangibles, inventory and equipment, has an interest rate of Prime Rate or LIBOR plus 1.75%, as elected by NAI from time to time, and borrowings are subject to eligibility requirements for current accounts receivable and inventory balances. As of September 30, 2008 the outstanding balances on the term loans consisted of a $300,000, 15 year term loan due June 2011, secured by our San Marcos building, at an interest rate of 8.25%; a $600,000, 10 year term loan with a twenty year amortization, secured by our San Marcos building, at an interest rate of LIBOR plus 2.25%; a $200,000, five year term loan, secured by equipment, at an interest rate of LIBOR plus 2.10%; and a $1.3 million, four year term loan, secured by equipment, at an interest rate of LIBOR plus 2.10%. As of September 30, 2008, we had $595,000 outstanding on the working capital line of credit. Monthly payments on the term loans are approximately $121,000 plus interest.

On January 24, 2007, we amended our credit facility to extend the maturity date for the working capital line of credit from November 1, 2007 to November 1, 2008, and maintain the ratio of total liabilities/tangible net worth covenant at 1.25/1.0 for the remainder of the term of the credit facility.

On December 18, 2007, we further amended our credit facility to (i) extend the maturity date for the working capital line of credit from November 1, 2008 to November 1, 2009; (ii) reduce the maximum principal amount available under the working capital line of credit from $12.0 million to $7.5 million; (iii) reduce the maximum borrowings against inventory from $6.0 million to $3.75 million, provided any such borrowings do not at any time exceed eligible accounts receivable; and (iv) extend the availability of the Foreign Exchange Facility from November 1, 2007 to November 1, 2008 and the allowable contract term thereunder from November 1, 2008 to November 1, 2009. We are currently in discussions with the lender to extend the availability of our Foreign Exchange Facility.

As of September 30, 2008 and June 30, 2008, we were not in compliance with our quarterly net income financial covenant under our credit facility, which requires quarterly net income after taxes of at least $1.00. We were also not in compliance with our quarterly fixed charge coverage ratio as of September 30, 2008, which requires a quarterly fixed charge coverage ratio of no less than 1.25 to

1.0. Additionally, we were not in compliance with our annual net income financial covenant as of June 30, 2008, which required an annual fiscal year net income of at least $750,000. Our lender agreed to waive its default rights as a result of these covenant violations as of September 30, 2008, for a $25,000 waiver fee, and as of June 30, 2008. We anticipate a net after-tax loss during the second quarter of fiscal 2009 related to an expected increase in operating costs, unfavorable foreign currency fluctuations and additional severance and other exit costs associated with discontinuing our RHL operations. As a result, we do not expect to meet our net after-tax income covenant as of December 31, 2008. If we fail to meet this covenant, we intend to request a waiver from our lender but there is no assurance when or if or on what terms a waiver will be provided. Therefore, in accordance with SFAS No. 78, Classification of Obligations that are Callable by the Creditor (SFAS 78), we have reclassified all of our long-term debt to current at September 30, 2008 and June 30, 2008.

On September 22, 2006, NAIE, our wholly owned subsidiary, entered into a credit facility to provide it with a credit line of up to CHF 1,300,000, or approximately $1.2 million, which is the initial maximum aggregate amount that can be outstanding at any one time under the credit facility. This maximum amount was reduced by CHF 160,000, or approximately $146,000, as of December 31, 2007 and will be reduced by an additional CHF 160,000 at the end of each succeeding calendar year. On February 19, 2007, NAIE amended its credit facility to provide that the maximum aggregate amount that may be outstanding under the facility cannot be reduced below CHF 500,000, or approximately $456,000. As of September 30, 2008, there was no outstanding balance under the credit facility.

Under its credit facility, NAIE may draw amounts either as current account loan credits to its current or future bank accounts or as fixed loans with a maximum term of 24 months. Current account loans will bear interest at the rate of 5% per annum. Fixed loans will bear interest at a rate determined by the parties based on current market conditions and must be repaid pursuant to a repayment schedule established by the parties at the time of the loan. If a fixed loan is repaid early at NAIE's election or in connection with the termination of the credit facility, NAIE will be charged a pre-payment penalty equal to 0.1% of the principal amount of the fixed loan or CHF 1,000 (approximately $912), whichever is greater. The bank reserves the right to refuse individual requests for an advance under the credit facility, although its exercise of such right will not have the effect of terminating the credit facility as a whole.

As of September 30, 2008, we had $3.1 million in cash and cash equivalents and $6.6 million available under our working line of credit. We believe our available cash, cash equivalents and potential cash flows from operations will be sufficient to fund our current working capital needs, capital expenditures and debt payments through at least the next 12 months.

Off-Balance Sheet Arrangements

As of September 30, 2008, we did not have any significant off-balance sheet debt nor did we have any transactions, arrangements, obligations (including contingent obligations) or other relationships with any unconsolidated entities or other persons that have or are reasonably likely to have a material current or future effect on our financial condition, changes in financial condition, results of operations, liquidity, capital expenditures, capital resources, or significant components of revenue or expenses material to investors.

Recent Accounting Pronouncements

Recent accounting pronouncements are discussed under Item 7 of our 2008 Annual Report. As of September 30, 2008, other than the pronouncements discussed in our 2008 Annual Report, we are not aware of any other pronouncements that materially affect our financial position or results of operations.