Results of Operations

Overview

From our inception through June 30, 2009, we have incurred ongoing losses from operations and have cumulative losses as of June 30, 2009 totaling $110,358,000. To date, our only revenue from the sale of products has been earned through our joint venture, Colloral LLC. The majority of revenues recorded from inception through June 30, 2009 were earned in connection with license rights, contract research and the granting of certain short-term rights. As a result, inflation has not materially affected our revenues and income from continuing operations.

AutoImmune has granted to BioMS Medical Corp. an exclusive license to its patents pertaining to an injectable therapy for the treatment of multiple sclerosis. Under the license agreement, BioMS makes monthly diligence payments to AutoImmune. In addition, AutoImmune will receive royalties under the license agreement if a product using the licensed technology reaches the market. On July 27, 2009, BioMS and Eli Lilly and Company reported that dirucotide, the lead drug covered by the license agreement, did not meet the primary endpoint of delaying disease progression during the two-year Phase III trial in patients with secondary progressive multiple sclerosis. In addition, there were no statistically significant differences between dirucotide and placebo on the secondary endpoints of the study. Eli Lilly and BioMS also announced that they would discontinue ongoing clinical trials and review available data to develop a future plan. In the event that BioMS and Eli Lilly determine not to continue their development efforts with respect to products that include AutoImmune's technology covered by the license agreement, AutoImmune will not receive any royalties under the license agreement.

In August 2002, we entered into our joint venture with Deseret by forming Colloral LLC to manufacture, market and sell Colloral ® as a dietary supplement. Our interest in Colloral LLC is greater than 50% and we actively participate in its management, but we do not have voting control of Colloral LLC. Therefore, the investment had historically been accounted for using the equity method. In August 2005, we amended the Colloral LLC operating agreement to increase our share of distributions and allocations of profits and losses in return for our commitment to fund 100% of the costs associated with the implementation of a marketing program for The Collagen Solution. As a result of the amendments to the operating agreement, Colloral LLC is now considered a variable interest entity, of which we are the primary beneficiary. We have consolidated Colloral LLC in accordance with FIN 46R, effective since the third quarter of 2005.

In accordance with the amendment to the Colloral LLC operating agreement, we made additional capital contributions of $1,032,000 to Colloral LLC from 2003 through 2007. We satisfied our funding commitment in 2006 and have made no capital contributions during the year ended December 31, 2008 or the six months ended June 30, 2009. We may make additional contributions to Colloral LLC in the future. There can be no assurance that the sales and marketing initiatives that have been or, in the future, may be funded by our capital contributions will be successful. Accordingly, in the future we may again incur substantial losses.

The following table contains selected financial data for Colloral LLC. Shipping and handling costs have been classified as selling expenses. The balance sheet amounts as of December 31, 2008 and June 30, 2009 and Colloral LLC's operating results for the three and six months ended June 30, 2008 and 2009 have been consolidated into our financial statements:

                                                Three months ended       Six months ended
                                                     June 30,                June 30,
                                                 2008        2009        2008       2009
Statement of Operations Data:
Revenue                                       $   56,000   $ 139,000   $ 78,000   $ 198,000
Cost of goods sold                                16,000      50,000     28,000      70,000
Selling, general and administrative expense       11,000      17,000     38,000      41,000
Net income                                    $   29,000   $  72,000   $ 12,000   $  87,000




                                           December 31,    June 30,
                                               2008          2009
                  Balance Sheet Data:
                  Current assets          $      219,000   $ 333,000
                  Long term assets                    -           -
                  Current liabilities              6,000      28,000
                  Long term liabilities               -           -

In 2000, we completed a market analysis of Colloral as a dietary supplement and subsequently filed a "Notice of New Dietary Ingredient" with the FDA that was accepted without comment. On February 18, 2005, we received a letter from the FDA stating that the FDA reconsidered the information contained in our Notice of New Dietary Ingredient and concluded that Colloral is not a dietary supplement but appears to be a drug under the Federal Food, Drug, and Cosmetic Act, and thus subject to the regulatory requirements for drugs. On April 15, 2005, we submitted a response to the FDA's letter and hope to have demonstrated that the product meets the statutory definition of a dietary supplement. We cannot predict whether or not the FDA will agree with our position and what the effect of the FDA's letter will be. It is possible that Colloral LLC and its licensed distributors will be unable to market the product as a dietary supplement and that the products will be subject to the regulatory requirements for drugs. If the FDA makes a final determination that requires us to comply with the regulatory requirements for drugs, Colloral, The Collagen Solution and Vital 3 will be withdrawn from the market, which would eliminate the possibility of future distributions to us from Colloral LLC.

Three and Six Months Ended June 30, 2008 and 2009

Revenue was $101,000 and $168,000 for the three months ended June 30, 2008 and 2009, respectively. Revenue was $184,000 and $288,000 for the six months ended June 30, 2008 and 2009, respectively. The revenue in the three and six months ended June 30, 2008 and 2009 were comprised of monthly license payments from BioMS for their use of our patents pertaining to an injectable therapy for the treatment of multiple sclerosis and option fees and product revenues generated through our joint venture, Colloral LLC, whose results are consolidated with ours. From 2006 through January 2009, Colloral LLC executed a series of agreements with Futurebiotics, LLC and related companies whereby Futurebiotics began marketing Colloral's dietary supplement under the brand name, Vital 3. Futurebiotics is currently selling product through print and e-catalogs through its affiliate, Bronson Laboratories, while it works on both international and domestic selling opportunities. Option payments related to the execution of the Futurebiotics agreement are reflected as option fee revenue and are being amortized over the life of the agreement. Product shipped under these agreements generated revenue of $26,000 and $122,000 during the three months ended June 30, 2008 and 2009, respectively, and $26,000 and $159,000 during the six months ended June 30, 2008 and 2009, respectively. Colloral LLC also contracted with The Shopping Channel of Canada to market Vital 3 through televised segments and through their website. Product shipped under this agreement generated revenue of $5,000 and $11,000 during three months ended June 30, 2008 and 2009, respectively, and $25,000 and $26,000 during six months ended June 30, 2008 and 2009, respectively. The remaining product revenue is generated through direct sales of Colloral and the Collagen Solution to Colloral LLC's customers through its website.

Cost of goods sold was $16,000 and $50,000 for the three months ended June 30, 2008 and 2009, respectively. Cost of goods sold was $28,000 and $70,000 for the six months ended June 30, 2008 and 2009, respectively. Fluctuations in gross margin sold are related to the mix of product revenues to consumers versus distributors.

Research and development expenses were $48,000 and $30,000 for the three months ended June 30, 2008 and 2009, respectively. Research and development expenses were $90,000 and $101,000 for the six months ended June 30, 2008 and 2009, respectively. Fluctuations in research and developments costs are a result of the timing of patent annuities and legal fees to acquire our international patents.

Selling, general and administrative expenses were $181,000 and $180,000 for the three months ended June 30, 2008 and 2009, respectively. Selling, general and administrative expenses were $386,000 and $368,000 for the six months ended June 30, 2008 and 2009, respectively. The decrease is primarily the result of a decrease in the stock compensation costs from $67,000 during the six months ended June 30, 2008 to $43,000 during the six months ended June 30, 2009.

Interest income was $60,000 and $8,000 for the three months ended June 30, 2008 and 2009, respectively. Interest income was $144,000 and $17,000 for the six months ended June 30, 2008 and 2009, respectively. The decreases are due to a lower average return on investment and a lower average balance of cash and marketable securities available for investment.

Net income attributable to noncontrolling interest was $2,000 and $18,000 for the three months ended June 30, 2008 and 2009, respectively. Net income attributable to noncontrolling interest was $1,000 and $22,000 for the six months ended June 30, 2008 and 2009, respectively. The net income attributable to noncontrolling interest reflects Deseret's share of Colloral LLC's profits or losses calculated in accordance with the amended terms of the Colloral LLC operating agreement.

Liquidity and Capital Resources

Our needs for funds have historically fluctuated from period to period as we have increased or decreased the scope of our research and development activities. Since inception, we have funded these needs almost entirely through sales of our equity securities. Our current needs have been significantly reduced as a result of the termination of our direct research and development activities, all full-time employees and other sources of operating expenses in 1999.

We hold an interest in Colloral LLC, which is manufacturing, marketing and selling Colloral, The Collagen Solution and Vital 3 as dietary supplements, and manufacturing Vital 3 for sale by Futurebiotics LLC and related companies. While we are not contractually committed to make additional capital contributions to Colloral LLC, we may elect to do so. Despite any additional investment, there can be no assurance that these efforts will be successful. Accordingly, in the future we may again incur substantial losses.

Our working capital and capital requirements will depend on numerous factors, including the strategic direction that we and our shareholders choose, the level of resources that we devote to the development of our patented products, the extent to which we proceed by means of collaborative relationships with pharmaceutical or nutraceutical companies and our competitive environment. During the six months ended June 30, 2009, our cash and marketable securities decreased $246,000. The most significant uses of cash for the six months ended June 30, 2009 were legal and accounting expenses totaling $214,000. The most significant source of cash for the six months ended June 30, 2009 were product and license revenues of $288,000. We expect to continue to use our current cash and marketable securities on hand to fund our operations and development efforts. Based upon our budget for calendar year 2009 and current expectations for future years, we believe that current cash and marketable securities, and the interest earned from the investment thereof, will be sufficient to meet our operating expenses and capital requirements for at least the next five years. At the appropriate time, we may seek additional funding through public or private equity or debt financing, from collaborative arrangements with pharmaceutical companies or from other sources. If additional funds are necessary but not available, we will have to reduce or not pursue certain activities, which could include areas of research, product development or marketing activity, or otherwise modify our business strategy. Such a reduction would have a material adverse effect on us.

In order to preserve principal and maintain liquidity, our funds are generally invested in U.S. Treasury obligations and money market instruments. As of June 30, 2009, our cash, cash equivalents and marketable securities totaled $8,229,000. Current liabilities at June 30, 2009 were $122,000.

Off-Balance Sheet Arrangements

We have not created, and are not party to, any special-purpose or off-balance sheet entities for the purpose of raising capital, incurring debt or operating parts of our business that are not consolidated into our financial statements. Effective for the third quarter of 2005, we are required to consolidate Colloral LLC, a joint venture for the development and marketing of dietary supplements.

Recent Accounting Pronouncements

In June 2009, the FASB issued the following new accounting standards:

• FAS No. 166, "Accounting for Transfers of Financial Assets, an amendment of FASB Statement No. 140", or SFAS 166; SFAS 166 prescribes the information that a reporting entity must provide in its financial reports about a transfer of financial assets; the effects of a transfer on its financial position, financial performance, and cash flows; and a transferor's continuing involvement in transferred financial assets. Specifically, among other aspects, SFAS 166 amends Statement of Financial Standard No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities", or SFAS 140, by removing the concept of a qualifying special-purpose entity from SFAS 140 and removes the exception from applying FIN 46(R) to variable interest entities that are qualifying special-purpose entities. It also modifies the financial-components approach used in SFAS 140. SFAS 166 is effective for transfer of financial assets occurring on or after January 1, 2010. We do not expect the adoption of this standard to have an impact on our financial position or results of operations.

• SFAS No. 167, "Amendments to FASB Interpretation No. 46(R)", or SFAS 167; SFAS 167 amends FASB Interpretation No. 46, "Consolidation of Variable Interest Entities (revised December 2003) - an interpretation of ARB No. 51", or FIN 46(R), to require an enterprise to determine whether it's variable interest or interests give it a controlling financial interest in a variable interest entity. The primary beneficiary of a variable interest entity is the enterprise that has both (1) the power to direct the activities of a variable interest entity that most significantly impact the entity's economic performance and (2) the obligation to absorb losses of the entity that could potentially be significant to the variable interest entity or the right to receive benefits from the entity that could potentially be significant to the variable interest entity. SFAS 167 also amends FIN 46(R) to require ongoing reassessments of whether an enterprise is the primary beneficiary of a variable interest entity. SFAS 167 is effective for all variable interest entities and relationships with variable interest entities existing as of January 1, 2010. We have not yet determined the effect that the adoption of SFAS 167 will have on our financial position or results of operations.

Forward-Looking Statements

Statements in this Quarterly Report that are not strictly historical are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934. These statements include statements about our future operating results, strategic relationships and product development. You can identify these forward-looking statements because they involve our expectations, beliefs, projections, anticipations or other characterizations of future events or circumstances. These forward-looking statements are not guarantees of future performance and are subject to risks and uncertainties that may cause our actual results to differ significantly from results discussed in the forward-looking statements. These factors include, but are not limited to, our extremely limited operations, the uncertainties of clinical trial results and product development efforts, our dependence on third parties for licensing and other revenue, our dependence on determinations of regulatory authorities and risks of technological change and competition. These factors are more fully discussed in our most recent Annual Report on Form 10-K filed with the Securities and Exchange Commission in the section "Risk Factors." We have no plans, and disclaim any obligation, to update or revise any forward-looking statements whether as a result of new information, future events or other factors, except as required by law.