North American Scientific Inc - Quarterly Report (10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended July 31, 2008

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 0-26670

NORTH AMERICAN SCIENTIFIC, INC.

(Exact name of registrant as specified in its charter)

Delaware		51-0366422
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

20200 Sunburst Street, Chatsworth, CA 91311

(Address of principal executive offices)

(818) 734-8600

(Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. x Yes o No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer” and “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Securities Exchange Act of 1934. Large Accelerated Filer o Accelerated Filer o Non-Accelerated Filer o Smaller Reporting Company x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act. o Yes x No

The number of shares of Registrant's Common Stock, $.01 par value, outstanding as of September 2, 2008 was 19,112,003 shares.

NORTH AMERICAN SCIENTIFIC, INC.

Index

		Page

Part I – Financial Information

Item 1.	Financial Statements

	Consolidated Balance Sheets as of July 31, 2008 (unaudited) and October 31, 2007	3
	Consolidated Statements of Operations for the three and nine months ended July 31, 2008 and 2007 (unaudited)	4
	Consolidated Statements of Cash Flows for the nine months ended July 31, 2008 and 2007 (unaudited)	5
	Condensed Notes to the Consolidated Financial Statements (unaudited)	7

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	37

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	46

Item 4.	Controls and Procedures	46

Part II – Other Information

Item 1.	Legal Proceedings	47

Item 1A.	Risk Factors	47

Item 6.	Exhibits	59

	Signatures	60

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements

NORTH AMERICAN SCIENTIFIC, INC.

Consolidated Balance Sheets

(in thousands, except share data)

	July 31,			October 31,
	2008			2007
	(Unaudited)
Assets

Current assets
Cash and cash equivalents	$	1,667		$	609
Accounts receivable, net of reserves		2,359			2,296
Inventories, net of reserves		909			984
Prepaid expenses and other current assets		770			724
Assets held for sale		609			636
Total current assets		6,314			5,249
Equipment and leasehold improvements, net		1,507			824
Intangible assets, net		105			103
Total assets	$	7,926		$	6,176
Liabilities and Stockholders’ Equity (Deficit)

Current liabilities
Lines of credit, net of discount	$	—		$	3,241
Short-term portion of long-term debt		417			—
Warrant derivative		—			173
Accounts payable		1,912			2,564
Accrued expenses		3,171			3,110
Total current liabilities		5,500			9,088

Long-term borrowings, net		924			—
Long-term severance liability		662			—

Commitments and contingencies		—			—

Stockholders’ Equity (Deficit)
Preferred stock, $0.01 par value, 2,000,000 shares authorized,
no shares issued		—			—
Common stock, $0.01 par value, 150,000,000 and 100,000,000 shares
authorized, 18,544,868 and 5,920,270 shares issued; and 18,503,644 and 5,879,066 shares outstanding as of July 31, 2008 and October 31, 2007, respectively		185			59
Additional paid-in capital		161,533			145,774
Treasury stock, at cost – 41,204 common shares as of July 31, 2008 and
October 31, 2007		(227	)		(227	)
Accumulated deficit		(160,651	)		(148,518	)
Total stockholders’ equity (deficit)		840			(2,912	)
Total liabilities and stockholders’ equity (deficit)	$	7,926		$	6,176

The accompanying condensed notes are an integral part of the unaudited consolidated financial statements.

NORTH AMERICAN SCIENTIFIC, INC.

Consolidated Statements of Operations

(Unaudited)

(in thousands, except share and per share data)

	Three months ended July 31,						Nine months ended July 31,
	2008			2007			2008			2007

Revenue – net	$	3,418		$	2,702		$	10,589		$	8,156

Cost of revenue		2,244			2,098			7,077			6,128
Gross profit		1,174			604			3,512			2,028
Operating expenses
Selling expenses		1,168			985			3,382			2,713
General and administrative expenses		2,229			2,072			7,634			6,516
Research and development		843			518			3,282			1,282
Severance		1,064			—			1,410			—
Total operating expenses		5,304			3,575			15,708			10,511
Loss from operations		(4,130	)		(2,971	)		(12,196	)		(8,483	)
Interest and other income (expense), net		(10	)		(69	)		(958	)		(98	)
Adjustment to fair value of derivatives		—			—			(311	)		—
Loss before provision for income taxes		(4,140	)		(3,040	)		(13,465	)		(8,581	)
Provision for income taxes		—			—			—			—
Loss from continuing operations		(4,140	)		(3,040	)		(13,465	)		(8,581	)
Income (loss) from discontinued operations, net of income tax effect		162			(7,648	)		741			(8,482	)
Net loss	$	(3,978	)	$	(10,688	)	$	(12,724	)	$	(17,063	)
Basic and diluted loss per share:
Basic and diluted loss per share from continuing operations	$	( 0.22	)	$	(0.52	)	$	( 0.91	)	$	( 1.46	)
Basic and diluted earnings (loss) per share from discontinued operations	$	—		$	( 1.30	)	$	0.05		$	( 1.45	)
Basic and diluted loss per share	$	(0.22	)	$	( 1.82	)	$	( 0.86	)	$	( 2.91	)
Weighted average number of shares outstanding		18,488,827			5,863,411			14,852,304			5,865,412

The accompanying condensed notes are an integral part of the unaudited consolidated financial statements.

NORTH AMERICAN SCIENTIFIC, INC.

Consolidated Statements of Cash Flows

(Unaudited)

(in thousands, except share data)

	Nine months ended July 31,
	2008			2007
Cash flows from operating activities:
Net loss	$	(12,724	)	$	(17,063	)
Net earnings (loss) from discontinued operations		741			(8,482	)
Net loss from continuing operations		(13,465	)		(8,581	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization		364			414
Amortization of warrants		895			238
Change in fair value of warrant derivative liability		311			—
Share-based compensation expense		672			490
Provision for doubtful accounts		78			(213	)
Provision for inventory adjustments		(11	)		88
Loss on sale of equipment		—			4
Changes in assets and liabilities, net of discontinued operation:
Accounts receivable		(141	)		921
Inventories		86			(369	)
Prepaid and other current assets		16			(26	)
Accounts payable		(38	)		8
Accrued expenses		549			40
Long-term severance		662			—
Net cash used in continuing operations		(10,022	)		(6,986	)
Net cash provided by (used in) discontinued operation		218			(1,699	)
Net cash used in operating activities		(9,804	)		(8,685	)
Cash flows from investing activities:
Proceeds from maturity of marketable securities		—			8,419
Proceeds from sale of equipment		—			15
Capital expenditures		(1,026	)		(139	)
Investment in patents		(23	)		—
Net cash (used in) provided by continuing operations		(1,049	)		8,295
Net cash used in discontinued operation		(4	)		(102	)
Net cash (used in) provided by investing activities		(1,053	)		8,193
Cash flow from financing activities:
Net (payment) borrowings on lines of credit		(3,323	)		1,363
Net proceeds from long-term borrowing		1,500			—
Net proceeds from private placement of common stock and warrants		13,768			—
Proceeds from exercise of stock options and stock purchase plan		23			137
Fees paid to effect reverse stock split		(12	)		—
Loan origination fees		(41	)		—
Purchase of stock for treasury		—			(94	)
Net cash provided by financing activities		11,915			1,406
Net increase in cash and cash equivalents		1,058			914

Cash and cash equivalents at beginning of period		609			903
Cash and cash equivalents at end of period	$	1,667		$	1,817

Supplemental disclosure:

Cash paid for interest was $115 and $9 for the nine months ended July 31, 2008 and 2007, respectively. Cash paid for income taxes was $4 and $13 for the nine months ended July 31, 2008 and 2007, respectively.

In the nine months ended July 31, 2008, the Company issued warrants with estimated fair values of $118 to a bank as consideration for entering into and amending Loan Agreements. See Note 8 to the Financial Statements.

In the nine months ended July 31, 2008 and 2007, there was no cash provided by or used in financing activities from discontinued operations.

The accompanying condensed notes are an integral part of the unaudited consolidated financial statements.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

N OTE 1—SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The accompanying consolidated financial statements of the Company are unaudited, other than the consolidated balance sheet at October 31, 2007, and reflect all material adjustments, consisting only of normal recurring adjustments, which management considers necessary for a fair statement of the Company’s financial position, results of operations and cash flows for the interim periods. The results of operations for the current interim periods are not necessarily indicative of the results to be expected for the entire fiscal year.

These consolidated financial statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnotes normally included in financial statements prepared in accordance with generally accepted accounting principles in the United States of America have been condensed or omitted pursuant to these rules and regulations. These consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in the Company’s Form 10-K, as filed with the SEC for the fiscal year ended October 31, 2007.

Certain reclassifications have been made to prior period balances in order to conform to the current period presentation.

On April 29, 2008, the Company’s stockholders approved a one share for five shares reverse split of the Company’s common stock, which became effective on May 1, 2008. The number of shares and the per share amounts as of October 31, 2007 and July 31, 2007 have been retrospectively restated for the effect of the reverse stock split. The reverse stock split had no effect on the par value of the Company’s common stock or the total authorized shares.

Management’s Plans

The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and liquidation of liabilities in the normal course of business. The Company has incurred net losses of $12.7 million in the nine months ended July 31, 2008, and $21.0 million and $17.1 million for the years ended October 31, 2007 and 2006, respectively. In addition, the Company has used cash in operations of $9.8 million in the nine months ended July 31, 2008, and $12.3 million and $15.9 million for the years ended October 31, 2007 and 2006, respectively. As of July 31, 2008, we had an accumulated deficit of $160.7 million; cash and cash equivalents of $1.7 million, and long-term debt of $1.6 million.

Based on the Company’s current operating plans, management believes that the Company’s existing cash resources and cash forecasted by management to be generated by operations, as well as the Company’s short-term and long-term borrowings, lines of credit and its ability to raise capital through the sale of its common stock and /or securities convertible to common stock, will be sufficient to meet working capital and capital requirements through at least the next twelve months. In this regard, the Company raised additional financing in the first quarter of fiscal 2008 to fund our continuing operations, support the further development and launch of ClearPath™, our unique multicatheter breast brachytherapy device for Accelerated Partial Breast Irradiation, and other activities. In addition, subsequent to April 30, 2008, the Company negotiated a $3.0 million term loan, renewed its expired line of credit for $3.0 million with a bank, and most recently, negotiated a sale of certain assets as described in Note 3 -Discontinued Operations. However, there is no assurance that the Company will be successful with its plans. If events and circumstances occur such that the Company does not meet its current operating plans, the Company is unable to raise sufficient additional equity or debt financing, or such financing is insufficient or not available, the Company may be required to further reduce expenses or take other steps which could have a material adverse effect on our future performance, including but not limited to, the premature sale of some or all of our assets or product lines on undesirable terms, merger with or acquisition by another company on unsatisfactory terms, or the cessation of operations.

The Company also expects that in future periods new products and services will provide additional cash flow, although no assurance can be given that such cash flow will be realized, and the Company is presently placing an emphasis on controlling expenses.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

Use of Estimates

In the normal course of preparing the financial statements in conformity with generally accepted accounting principles in the United States of America, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenue and expenses during the reporting period. Actual results could differ from those amounts.

Accounts Receivable and Allowance for Doubtful Accounts

Accounts receivable are recorded at the invoiced amount and do not bear interest. The allowance for doubtful accounts is the Company’s best estimate of the amount of probable credit losses in our existing accounts receivable. The Company determines the allowance based on historical write-off experience and customer economic data. We review our allowance for doubtful accounts monthly. Past due balances over 60 days and over a specified amount are reviewed individually for collectibility. Account balances are charged off against the allowance when the Company believes that it is probable the receivable will not be recovered. The Company does not have any off-balance-sheet credit exposure related to our customers.

Inventories

Inventories are valued at the lower of cost or market as determined under the first-in, first-out method. Costs include materials, labor and manufacturing overhead.

Equipment and Leasehold Improvements

Equipment and leasehold improvements are stated at cost. Maintenance and repair costs are expensed as incurred, while improvements are capitalized. Gains or losses resulting from the disposition of assets are included in income. Depreciation and amortization are computed using the straight-line method over the estimated useful lives as follows:

Furniture, fixtures and equipment	3-7 years
Leasehold improvements	Lesser of the useful life or term of lease

Long-Lived Assets

In accordance with SFAS No. 144, “ Accounting for the Impairment or Disposal of Long-Lived Assets ,” long-lived assets, such as property, plant, and equipment, and purchased intangibles subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to the estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized equal to the amount by which the carrying amount of the asset exceeds the fair value of the asset. Assets to be disposed of are separately presented in the consolidated balance sheet and reported at the lower of the carrying amount or fair value less costs to sell, and are no longer depreciated.

Intangible Assets

License agreements are amortized on a straight-line basis over periods ranging up to fifteen years. The amortization periods of patents are based on the lives of the license agreements to which they are associated or the approximate remaining lives of the patents, whichever is shorter. Purchased intangible assets with finite lives are carried at cost less accumulated amortization and are amortized on a straight-line basis over periods ranging from three to twelve years.

The Company reviews for impairment whenever events and changes in circumstances indicate that such assets might be impaired. If the estimated future cash flows (undiscounted and without interest charges) from the use of an asset are less than the carrying value, a write-down is recorded to reduce the related asset to its estimated fair value.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

Derivative Liabilities

The Company issued warrants in connection with its borrowing activities that included an uncertain purchase price. The Company evaluated the warrants under SFAS No. 133 - Accounting for Derivative Instruments and Hedging Activities and Emerging Issues Task Force Issue 00-19 - Accounting for Derivative Financial Indexed to, and Potentially Settled in, a Company’s Own Stock and determined the warrants should be accounted for as derivative liabilities at estimated fair value, and marked-to-market at subsequent measurement dates. The Company used the Black-Scholes option-pricing model to determine the fair value of the derivative liabilities at each measurement date. Key assumptions of the Black-Scholes option-pricing model include applicable volatility rates, risk-free interest rates and the instruments’ expected remaining life. The fluctuations in estimated fair value are recorded as Adjustments to Fair Value of Derivatives in the Statement of Operations. On December 12, 2007, the uncertain purchase price became certain, and the fair value of the derivatives were reclassed from liabilities to equity. See further discussion in Note 8 - Warrant Derivatives and Note 9 - Borrowings.

Revenue Recognition

The Company sells products for radiation therapy treatment, primarily brachytherapy seeds used in the treatment of cancer. The Company applies the provisions of SEC Staff Accounting Bulletin (“SAB”) No. 104, “ Revenue Recognition ” for the sale of non-software products. SAB No. 104, which supersedes SAB No. 101, “ Revenue Recognition in Financial Statemen t s ”, provides guidance on the recognition, presentation and disclosure of revenue in financial statements. SAB No. 104 outlines the basic criteria that must be met to recognize revenue and provides guidance for the disclosure of revenue recognition policies. In general, the Company recognizes revenue related to product sales when (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred, (iii) the fee is fixed or determinable, and (iv) collectibility is reasonably assured.

Income Taxes

Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The Company has recorded 100% valuation allowance against its deferred tax assets until such time that it becomes more likely than not that the Company will realize the benefits of its deferred tax assets. On November 1, 2007, the Company implemented Financial Accounting Standards Board (“FASB”) Interpretation No. 48, “ Accounting for Uncertainty in Income Taxes — An Interpretation of FASB Statement No. 109 ,” (FIN 48). See Note 2 - Income Taxes.

Share-based Compensation

The Company accounts for its share-based payments under the guidance set forth in Statement of Financial Accounting Standards (“SFAS”) No. 123(R), Share-Based Payment (“SFAS 123(R)”), which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors, including stock options and employee stock purchases related to the Company’s Employee Stock Purchase Plan (the “Employee Stock Purchase Plan”), based on their fair values. The Company also applies the guidance found in SEC Staff Accounting Bulletin No. 107 (“SAB 107”) to with respect to share-based payments and SFAS 123(R).

Under SFAS 123(R), the Company attributes the value of share-based compensation to expense using the straight-line method. The Company uses a 10% forfeiture rate under the straight-line method based on historic and estimated future forfeitures. On March 16, 2006, the Company granted 130,100 stock options that contain certain market conditions (“2006 Premium Price Awards”) The 2006 Premium Price Awards are, to the extent provided by law, incentive stock options that have an exercise price of $16.75 per share, which is equal to 159% of the fair market value of the Company’s common stock on the grant date. The 2006 Premium Price Awards also include a condition that provides that such stock options will only vest if the closing price of the Company's common stock is equal to or greater than $16.75 on each day over any consecutive four month period beginning on any date after the date of grant and ending no later than the third anniversary of the date of grant. If the market condition is not satisfied by the third anniversary of the date of grant, the 2006 Premium Price Awards will not vest. Subject to the attainment of the market condition by the Company, the 2006 Premium Price Awards will vest, if at all, in equal annual installments over a four year period beginning on March 16, 2008, the second anniversary of the grant date. The 2006 Premium Price Awards have a term of 8 years from the date of grant. The 2006 Premium Price Awards, share-based compensation expense has been estimated using a 40% forfeiture rate and is included in share-based compensation expense.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

On February 15, 2008, the Company’s Board of Directors approved, subject to the approval of the Company’s stockholders, a plan to reprice certain existing employee stock options at $2.05 per share, the closing price of the Company’s common stock on February 15, 2008. The 2006 Premium Price Awards were re-priced to $3.25 per share, which is equal to 159% of the re-priced fair value of the Company’s common stock. In addition, the Company’s Board of Directors also approved, subject to the approval of the Company’s stockholders, a plan to exchange options held by directors of the Company for a one-time stock option grant at $2.10 per share, the closing price of the Company’s stock on February 13, 2008. The Company’s stockholders approved both the employee stock option re-pricing plan and the director exchange plan at the annual meeting held on April 29, 2008. (See Note 10 – Stockholders’ Equity for further discussion). The re-pricing exercise of employee stock options generated $332 incremental share-based compensation for un-vested and re-priced stock options, which is being recognized over the vesting period of the new employee stock options. The exchange exercise for the options held by directors of the Company generated $166 incremental share-based compensation for un-vested and exchanged options, which is being recognized over the three-year vesting period of the newly issued director stock options.

Share-based compensation expense related to stock options and employee stock purchases, including the amortized portion of the incremental share-based compensation for the re-priced employee stock options, the exchanged director stock options and the 2006 Premium Price Awards, of $237 and $176 for the three months ended July 31, 2008 and 2007, respectively, and $672 and $490 for the nine months ended July 31, 2008 and 2007, respectively, was recorded in the financial statements as a component of general and administrative expense.

The Company uses the Black-Scholes option-pricing model for estimating the fair value of options granted. The Black-Scholes option-pricing model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price volatility. The Company uses projected volatility rates, which are based upon historical volatility rates, trended into future years. Because the Company’s employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of the Company’s options. For purposes of financial statement presentation and pro forma disclosures, the estimated fair values of the options are amortized over the options’ vesting periods.

Net Loss per Share

Basic loss per share is computed by dividing the loss by the weighted average number of shares outstanding for the period.

Diluted earnings (loss) per share is computed by dividing the net income (loss) by the sum of the weighted average number of common shares outstanding for the period plus the assumed exercise of all dilutive securities by applying the treasury stock method. Stock options for which the exercise price exceeds the average market price over the period have an anti-dilutive effect on earnings per share and, accordingly, are excluded from the calculation. The following table sets forth the computation of basic and diluted loss per share:

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

	Three months ended July 31,						Nine months ended July 31,
	2008			2007			2008			2007

Net loss from continuing operations	$	(4,140	)	$	(3,040	)	$	(13,465	)	$	(8,581	)
Net income (loss) from discontinued operations		162			(7,648	)		741			(8,482	)
Net loss		(3,978	)		(10,688	)		(12,724	)		(17,063	)
Weighted average shares outstanding - basic		18,488,227			5,863,411			14,852,304			5,865,412
Dilutive effect of stock options and warrants		—			—			—			—
Weighted average shares outstanding -diluted		18,488,227			5,863,411			14,852,304			5,865,412
Basic and diluted loss per share from continuing operations	$	(0.22	)	$	(0.52	)	$	(0.91	)	$	(1.46	)
Basic and diluted loss per share from discontinued operations (1)	$	—		$	(1.30	)	$	0.05		$	(1.45	)
Basic and diluted loss per share	$	(0.22	)	$	(1.82	)	$	(0.86	)	$	(2.91	)

(1) 2008 Q3 per share amount less than $(0.01)

Stock options to purchase 2,379,029 common shares and 909,920 common shares, and warrants to purchase 1,876,998 common shares and 118,944 common shares for the three months ended July 31, 2008 and 2007, respectively, and stock options to purchase 1,879,898 common shares and 743,474 common shares, and warrants to purchase 1,876,998 common shares and 118,944 common shares for the nine months ended July 31, 2008 and 2007, respectively, were not included in the computation of diluted loss per share for those periods because their effect would have been anti-dilutive.

Significant Concentrations

As of July 31, 2008, there was one customer that made up more than 10% of revenues and three customers that individually comprised more than 5% of accounts receivable, and two suppliers that made up more than 10% of purchases and four suppliers that individually comprised more than 5% of accounts payable.

Recent Accounting Pronouncements

In September 2006, the FASB issued SFAS No. 157, “ Fair Value Measurements ”, (“SFAS No. 157”). SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles (GAAP), and expands disclosures about fair value measurements. This Statement applies under other accounting pronouncements that require or permit fair value measurements, and does not require any new fair value measurements. The application of SFAS No. 157, however, may change current practice within an organization. SFAS 157 is effective for fiscal years beginning after November 15, 2007. On February 12, 2008, the FASB issued FASB Staff Position FSP 157-2 which defers the effective date of SFAS No. 157 for one year for non-financial assets and non-financial liabilities that are not recognized or disclosed at fair value in the financial statements on a recurring basis. The Company does not believe that SFAS No. 157 will have a material impact on the Company’s financial position, results of operations or cash flows.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities.” SFAS 159 provides companies with an option to report selected financial assets and liabilities at fair value. The standard’s objective is to reduce both complexity in accounting for financial instruments and the volatility in earnings caused by measuring related assets and liabilities differently. The standard requires companies to provide additional information that will help investors and other users of financial statements to more easily understand the effect of the company’s choice to use fair value on its earnings. It also requires companies to display the fair value of those assets and liabilities for which the company has chosen to use fair value on the face of the balance sheet. The new standard does not eliminate disclosure requirements included in other accounting standards, including requirements for disclosures about fair value measurements included in SFAS 157, “Fair Value Measurements,” and SFAS 107, “Disclosures about Fair Value of Financial Instruments.” SFAS 159 is effective as of the start of fiscal years beginning after November 15, 2007. Early adoption is permitted. The Company is evaluating this standard and therefore has not yet determined the impact that the adoption of SFAS 159 will have on our financial position, results of operations or cash flows.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

In December 2007, the FASB issued SFAS No. 141 (revised 2007), " Business Combinations " ("SFAS 141R"). SFAS 141R establishes principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, any noncontrolling interest in the acquiree and the goodwill acquired. SFAS 141R also establishes disclosure requirements to enable the evaluation of the nature and financial effects of the business combination. SFAS 141R is effective for fiscal years beginning after December 15, 2008.The Company is currently evaluating the potential impact, if any, of the adoption of SFAS 141R on its consolidated results of operations and financial condition.

In December 2007, the FASB issued SFAS No. 160, " Noncontrolling Interests in Consolidated Financial Statements—an amendment of Accounting Research Bulletin No. 51 " (“SFAS 160”). SFAS 160 establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, the amount of consolidated net income attributable to the parent and to the noncontrolling interest, changes in a parent's ownership interest, and the valuation of retained noncontrolling equity investments when a subsidiary is deconsolidated SFAS 160 also establishes disclosure requirements that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners SFAS 160 is effective for fiscal years beginning after December 15, 2008.The Company is currently evaluating the potential impact, if any, of the adoption of SFAS 160 on its consolidated results of operations and financial condition.

In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities – an amendment of FASB Statement No. 133 . The new standard is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity’s financial position, financial performance, and cash flows. Entities are required to provide enhanced disclosures about: (a) how and why an entity uses derivative instruments; (b) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and its related interpretations; and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. This standard is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The Company is currently evaluating the impact, if any, SFAS No. 161 will have on its consolidated financial position, results of operations or cash flows.

In March 2007, the FASB ratified Emerging Issues Task Force Issue 06-11, Accounting for Income Tax Benefits of Dividends on Share-Based Payment Awards , (“EITF Issue 06-11” ). Beginning January 1, 2008, the Company adopted EITF Issue 06-11. In accordance with the EITF Issue, the Company records a credit to additional paid-in capital for tax deductions resulting from a dividend payment on non-vested share awards the Company expects to vest. The adoption of EITF Issue 06-11 did not have any impact on the Company’s consolidated financial statement during the quarter ended July 31, 2008.

In May 2008, the FASB issued SFAS No. 162, “ The Hierarchy of Generally Accepted Accounting Principles”, (“SFAS No. 162” ). SFAS No. 162 identifies the sources of accounting principles to be used in the preparation of financial statements of nongovernmental entities that are presented in conformity with generally accepted accounting principles (GAAP) in the United States (the GAAP hierarchy). This Statement is effective 60 days following the SEC’s approval of the Public Company Accounting Oversight Board amendments to AU Section 411, “The Meaning of Present Fairly in Conformity with Generally Accepted Accounting Principles”. The Company currently adheres to the hierarchy of GAAP as presented in SFAS No. 162, and does not expect its adoption will have a material impact on its consolidated results of operations and financial condition.

In June 2008, the FASB issued Financial Accounting Standards Board Staff Position EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities (“FSP EITF 03-6-1”). The FSP provides that unvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are participating securities and shall be included in the computation of earnings per share pursuant to the two-class method in accordance with SFAS 128, Earnings per Share. The FSP is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those years. Upon adoption, the Company is required to retrospectively adjust its earnings per share data to conform with the provisions in this FSP. Early application of this FSP is prohibited. The Company is currently evaluating the impact this FSP will have on its consolidated financial statements.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

NOTE 2 – INCOME TAXES

On November 1, 2007, the Company adopted FIN 48. FIN 48 which clarifies the accounting for uncertainty in income taxes by prescribing the recognition threshold a tax position is required to meet before being recognized in the financial statements and also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. As a result of the adoption of FIN 48, the Company reduced the liability for net unrecognized tax benefits, classified in other assets and accrued liabilities, by $152 and $440, respectively, and accounted for this as a cumulative effect of a change in accounting principle that was recorded as an increase to retained deficit. In implementing FIN 48, the Company has classified $120 as current income taxes payable, and, reduced to zero, both its short-term and long-term income tax receivable and long-term income tax payable.

Upon adoption of FIN 48, the Company recognizes interest expense within Interest and Other Expenses and penalties within General and Administrative expenses accrued on unrecognized tax benefits. As of the date of adoption of FIN 48, the Company had accrued a nominal amount for interest and penalties. There was not a material change to this amount as of July 31, 2008.

As of October 31, 2007, the Company had generated $141.0 million and $116.0 million of Federal and state Net Operating Loss Carry-forwards (“NOL”), respectively and $4.8 million of Federal Research & Development Credits (“R&D Credits”) through its recurring operating losses, and its acquisition of Theseus Corporation in 2000 and NOMOS Corporation in 2004. The tax effect of the Federal and state NOL and R&D Credits have been carried as a component of its deferred tax assets, and completely offset by a valuation allowance. The Federal NOL and R&D Credits are subject to certain statutory limitations, which reduce the value of the Federal NOL and R&D Credits that can be used to offset future income under certain sections of the Internal Revenue Service Code Section 382 and Section 383, collectively the “Code”. The statutory limitations are imposed upon a change of ownership, as defined within the Code. As a result of the Company’s January 2008 PIPE transaction (See Note 10—Stockholders’ Equity) the Company has experienced a change in ownership under the Code. Federal statutory limitations under the sections are generally accepted as limitations by the states in which the Company currently files state returns. The effect of the change of ownership has been to reduce to $10.2 million the statutory limit on each of the Federal and State NOL and to eliminate the R&D Credits available to the Company, as determined under the Code. Based on its effective tax rate 40%, the Company recorded a $59.9 million decrease to its deferred tax assets and its valuation allowance at July 31, 2008 as a result of the limitation.

NOTE 3 – DISCONTINUED OPERATIONS

August 29, 2008, the Company entered into an agreement relating to the sale of the Company’s non-therapeutic product line to Eckert & Ziegler Isotope Products, Inc. (“EZIP”). The sale was completed on September 5, 2008. The Company expects its departure from the non-therapeutic business will allow it to concentrate on its core business of brachytherapy products and to provide necessary working capital. The agreement for the sale will transfer inventory, certain fixed assets and intellectual property with a carrying value of $0.6 million to EZIP. in return for a purchase price of up to $6.0 million, to be paid $3.0 million at closing and $2.0 million in January 2009. An additional $1.0 million may be paid to the Company upon the achievement of certain milestones in September 2009. The carrying value of the assets to be included in the sale are shown as Assets Held for Sale on the Company’s Consolidated Balance Sheet as follows:

Assets held for sale consist of the following:

	July 31, 2008		October 31, 2007

Inventory	$	591	$	561
Fixed Assets, net of accumulated depreciation of $444 and $385 at July 31, 2008 and October 31, 2007, respectively		12		68
Intellectual property, net of accumulated amortization of $6 and $5 at July 31, 2008 and October 31, 2007, respectively		6		7
	$	609	$	636

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

On August 3, 2007, the Company announced its intent to divest its NOMOS Radiation Oncology business (“NOMOS”), which develops and markets IMRT/IGRT products used during external beam radiation therapy for the treatment of cancer. The Company expects that the divestiture of NOMOS will allow it to better utilize financial resources to benefit the marketing and development of innovative brachytherapy products for the treatment of cancer. On September 17, 2007, the Company executed a purchase and sale agreement with Best Medical International, Inc. (“Best”) to purchase, for $0.5 million, certain assets and to assume certain liabilities of NOMOS, with a carrying value of $0.4 million, after giving effect to a $6.7 million impairment write-down in the third quarter of fiscal year 2007. The Company incurred $0.5 million in legal and other closing costs in connection with the sale. The operations of NOMOS are shown as discontinued operations for the nine months ended July 31, 2008 and 2007.

At July 31, 2008 and October 31, 2007, the Company has included in its Accounts Payable and Accrued Liabilities on its Balance Sheet $0.5 million and $1.1 million of retained obligations to its vendors, customers and former employees of the NOMOS operation, respectively, to be paid in accordance with their terms.

Summarized statement of earnings data for discontinued operations for the:

	Three months ended July 31,						Nine months ended July 31,
	2008			2007			2008			2007
Net revenue:
Non-therapeutic Product Line	$	845		$	735		$	2,650		$	2,983
Nomos Operations		—			3,065			—			9,136
Total net revenue		845			3,800			2,650			12,119
Income (loss) from discontinued operations before income tax benefit:
Non-therapeutic Product Line		177			70			869			1,188
Nomos Operations		(15	)		(7,718	)		(128	)		(9,670	)

Income tax benefit (expense)		—			—			—			—
Net income (loss) from discontinued operations		162			(7,648	)		741			(8,482	)
Basic and diluted earnings (loss) from discontinued operations, per share (1)	$	—		$	(1.30	)	$	0.05		$	(1.45	)

(1) 2008 Q3 per share amount less than $(0.01)

NOTE 4—ACCOUNTS RECEIVABLE

Accounts receivable consist of the following:

	July 31, 2008			October 31, 2007
Accounts receivable - trade	$	2,624		$	2,475
Less: allowance for doubtful accounts		(265	)		(179	)
	$	2,359		$	2,296

The provision for doubtful accounts was $21 and $103 expense reduction for the three months ended July 31, 2008 and 2007, respectively, and $79 expense and $213 expense reduction for the nine months ended July 31, 2008 and 2007, respectively.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

NOTE 5—INVENTORIES

Inventories consist of the following:

	July 31, 2008			October 31, 2007
Raw materials	$	866		$	891
Work in process		62			98
Finished goods		175			185
Reserve for excess inventory		(194	)		(190	)
	$	909		$	984

The provision for inventory reserves included in cost of sales was $24 and $10 for the three months and nine months ended July 31, 2008 and $88 for the three months and nine months ended July 31, 2007.

NOTE 6—EQUIPMENT AND LEASEHOLD IMPROVEMENTS

	July 31, 2008			October 31, 2007
Furniture, fixtures and equipment	$	5,040		$	4,461
Leasehold improvements		2,625			2,194
		7,665			6,655
Less: accumulated depreciation		(6,158	)		(5,831	)
	$	1,507		$	824

Depreciation expense was $124 and $114 for the three months ended July 31, 2008 and 2007, respectively, and $347 and $392 for the nine months ended July 31, 2008 and 2007, respectively.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

NOTE 7—INTANGIBLE ASSETS

	July 31, 2008			October 31, 2007
Amortizable intangible assets
Purchased technology	$	158		$	98
Existing customer relationships		11			11
Trademark		19			19
Patents and licenses		108			146
		296			274
Less: accumulated amortization		(191	)		(171	)
	$	105		$	103

Amortization expense was $7 for the three months ended July 31, 2008 and 2007, respectively and $21 for the nine months ended July 31, 2008 and 2007, respectively.

The estimate of aggregate future amortization expense is as follows:

For the Years Ended October 31,

2008 (remaining three months)	$	7
2009		33
2010		33
2011		31
Thereafter		8
	$	112

NOTE 8 – WARRANT DERIVATIVES

There were no warrant derivative liabilities outstanding at July 31, 2008, and warrant derivative liabilities were $173 at October 31, 2007. The warrant derivative liabilities are recorded at estimated fair value and are marked-to-market at each subsequent measurement date. The liabilities were incurred when the Company issued warrants to a lender with an uncertain pricing component in connection with its borrowing activities (see Note 9—Borrowings – Agility Capital LLC). The uncertain pricing component became certain on December 12, 2007, upon the signing of the Securities Purchase Agreements with certain Investors, and the Company reclassed the fair value of the warrant derivatives from liability to equity. See Note 10—Stockholders’ Equity. The Company has accounted for the warrant derivative liabilities in accordance with guidance under SFAS No. 133 and EITF 00-19. Changes in the liability warrants balance for the nine months ended July 31, 2008 are:

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

	Agility Capital, LLC
Balance, October 31, 2007	$	173
Additions:
Fair Value – Warrants issued for Second Amendment to the Loan Agreement		161
Fair Value Adjustments during the period		311
		645
Less: Fair value of warrants transferred to permanent equity		(645	)
Balance, July 31, 2008	$	—

The fair value of the warrant issued in connection with the Second Amendment to the Loan Agreement with Agility Capital, LLC has been recorded as Loan Discount Fees and amortized to Interest and Other Expense over the term of the loan amendment, and the fair value adjustments during the period have been recorded as Adjustments to Fair Value of Derivatives in the Statement of Operations for the nine months ended July 31, 2008. The fair value of the warrants transferred to permanent equity are included in Additional Paid-in Capital on the Balance Sheet at July 31, 2008.

NOTE 9 – BORROWINGS

The borrowings were $1,341, net of discount at July 31, 2008, and $3,241 at October 31, 2007, consisting of a loan and lines of credit with a bank, and subordinated short-term notes with private lenders. Borrowing activities for the nine months ended July 31, 2008 are:

	October 31,									July 31,
	2007			Borrowings			Repayments			2008
Silicon Valley Bank -
Line of credit	$	1,573		$	438		$	(2,011	)	$	—
Bridge loan sub-limit		750			4,189			(4,939	)		—
Short-term portion of long-term debt		—			417			—			417
Subordinated short-term notes -
Agility Capital, LLC		1,000			—			(1,000	)		—
John Friede Note		—			250			(250	)		—
Three Arch Partners, et al		—			1,000			(1,000	)		—
Total borrowings		3,323			6,294			(9,200	)		417
Less Unamortized loan discount fees.		(82	)		(914	)		996			—
Total short-term borrowings	$	3,241		$	5,380		$	(8,204	)	$	417
Long-Term Borrowings:
Growth Capital Loan		—			1,083			—			1,083
Less Unamortized loan discount fees.		—			(159	)		—			(159	)
Total long-term borrowings	$	—		$	924			—			924

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

Interest expense was $7, excluding $41 loan discount fees paid in cash and $118 fair value of warrants issued in connection with lending activities, for the nine months ended July 31, 2008. Interest expense was $246 for the nine months ended July 31, 2007, primarily from the amortization of loan discount fees in connection with lending activities.

Lines of Credit

Silicon Valley Bank

On October 5, 2005, the Company entered into a Loan and Security Agreement (the “Loan Agreement”) with Silicon Valley Bank (the “Bank”), for a secured, revolving line of credit of up to $5,000. The line of credit had an initial term of one year and includes a letter of credit sub-facility. Borrowings under the line of credit are subject to a borrowing base formula. The Company paid interest on the borrowings under the line of credit at the Bank’s prime rate, or, if certain financial tests are not satisfied, at the Bank’s prime rate plus 1.5%. The line of credit was secured by all of the assets of the Company and is subject to customary financial and other covenants, including reporting requirements.

On January 12, 2006, the Company entered into a First Amendment to Loan and Security Agreement (the “First Amendment”) with the Bank. The First Amendment revised certain terms of the Loan Agreement to provide an adjustment to the borrowing base formula and to permit liens in favor of a holder of subordinated debt that are subordinated to the liens of the Bank. In addition, the First Amendment decreased the minimum tangible net worth that must be maintained by the Company under the Asset Based Terms of the Loan Agreement from $5 million to $1.5 million and granted the Bank a warrant to purchase 7,936 shares of the Company’s common stock at an exercise price of $9.45 per share. The warrant will expire in five years unless previously exercised. The Company calculated the fair value of the warrant on the date of grant to be $51 using the Black-Scholes model incorporating the following assumptions:

Dividend yield	0	%
Expected volatility	63	%
Risk-free interest rate	4.9	%
Expected life	5 years

The value of the warrant has been fully amortized over the term of the line of credit at $5 per month, and is included in Interest and Other Expense on the Income Statement for the nine months ended July 31, 2007.

On October 31, 2006, the Company entered into a Second Amendment to the Loan Agreement (the “Second Amendment”) with the Bank. The Second Amendment extended the term of the line of credit to October 3, 2007 and revised certain terms of the Loan Agreement. Specifically, the Second Amendment decreased the amount available under the line of credit from $5.0 million to $4.0 million, and increased the minimum tangible net worth that must be maintained by the Company from $1.5 million to $5.0 million. Borrowings under the line of credit continued to be subject to a borrowing base formula. Borrowings bore interest at the prime rate until such time as the Company’s quick ratio, which is defined as the ratio of unrestricted cash plus the Company’s net accounts receivable to the Company’s current liabilities, fell below 1.00 to 1.00. At such time as the Company’s quick ratio fell below 1.00 to 1.00, borrowings bore interest at the prime rate plus 1.50%, and the Company paid a fee of 0.50% per annum on the unused portion of the line of credit, and a collateral handling fee in an amount equal to $2 per month during 2007. The fees are included in Interest and Other Expenses for the three months ended January 31, 2007.

On August 24, 2007, the Company entered into a Third Amendment to the Loan Agreement (the “Third Amendment”) with the Bank. The Third Amendment added a Bridge Loan Sub-limit to the Loan Agreement of up to $1.5 million at an interest rate of prime plus 4.0%, subject to a borrowing base formula, and decreased the minimum tangible net worth that must be maintained by the Company from $5.0 million to $2.0 million. The maturity date of the Bridge Loan Sub-limit was the earlier of October 3, 2007 or the date the Company closed a private investment public equity transaction. Concurrent with the Third Amendment, the Company issued the Bank a warrant for 60,000 shares of the Company’s common stock at an exercise price of $4.90, the closing price of the Company’s common stock on August 24, 2007. The Company calculated the fair value of the warrant on the date of grant to be $175 using the Black-Scholes model incorporating the following assumptions:

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

Dividend yield	0	%
Expected volatility	67	%
Risk-free interest rate	4.4	%
Expected life	5 years

The value of the warrant has been amortized over the term of the line of credit, and is included in Interest and Other Expense on the Income Statement for the nine months ended July 31, 2008.

On September 14, 2007, the Company entered into a Fourth Amendment to the Loan Agreement (the “Fourth Amendment”) with the Bank. The Fourth Amendment included: (i) a forbearance by the Bank from exercising its rights and remedies against the Company, until such time as the Bank determines in its discretion to cease such forbearance, due to the default under the Loan Agreement resulting from the Company failing to comply with the tangible net worth covenant in the Loan Agreement as of July 31, 2007 and August 31, 2007, and (ii) a consent to a subordinated debt facility of up to $750 with Agility Capital LLC. In connection with the Fourth Amendment, the Bank consented to the divestiture of NOMOS and released its lien on the NOMOS assets.

On October 3, 2007, the Company entered into a Fifth Amendment and Forbearance to the Loan Agreement (the “Fifth Amendment”) with the Bank. The Fifth Amendment includes: (i) an extension of the maturity date of the Loan Agreement to November 9, 2007, and an extension of the maturity date of the Bridge Loan Sub-limit to the earlier of November 9, 2007 or the date the Company closes a private investment public equity transaction, (ii) a forbearance by the Bank from exercising its rights and remedies against the Company, until such time as the Bank determines in its discretion to cease such forbearance, due to the defaults under the Loan Agreement resulting from the Company failing to comply with the tangible net worth covenant in the Loan Agreement as of July 31, 2007, August 31, 2007 and September 30, 2007, and (iii) a consent to an increase in the Company’s subordinated debt facility with Agility Capital LLC from $750 to up to $1.0 million.

On October 29, 2007, the Company entered into a Sixth Amendment and Forbearance to the Loan Agreement (the “Sixth Amendment”) with the Bank. The Sixth Amendment includes: (i) an extension of the maturity date of the Loan Agreement to November 20, 2007, and an extension of the maturity date of the Bridge Loan Sub-limit to the earlier of November 20, 2007 or the date the Company closes a private investment public equity transaction, (ii) a forbearance by the Bank from exercising its rights and remedies against the Company, until such time as the Bank determines in its discretion to cease such forbearance, due to the defaults under the Loan Agreement resulting from the Company failing to comply with the tangible net worth covenant in the Loan Agreement as of July 31, 2007, August 31, 2007 and September 30, 2007, and (iii) a consent to the Company’s issuing up to $500 in unsecured subordinated debt to Mr. John Friede, or an entity owned or controlled by Mr. Friede. At the time, Mr. Friede was a significant stockholder of the Company, and was a director of the Company at the date of the agreement.

On November 20, 2007, the Company entered into a Seventh Amendment and Forbearance to its Loan Agreement (the “Seventh Amendment”) with the Bank. The Seventh Amendment includes: (i) an extension of the maturity date of the Loan Agreement to December 20, 2007, and an extension of the maturity date of the Bridge Loan Sub-limit to the earlier of December 20, 2007 or the date the Company closes a private investment public equity transaction, and (ii) a forbearance by the Bank from exercising its rights and remedies against the Company, until such time as the Bank determines in its discretion to cease such forbearance, due to the defaults under the Loan Agreement resulting from the Company failing to comply with the tangible net worth covenant in the Loan Agreement as of July 31, 2007, August 31, 2007 and September 30, 2007. In connection with the Seventh Amendment, the Company granted a warrant to the Bank to purchase 18,181 shares of the Company’s common stock, at a warrant price of $2.75 per share, which is equal to the closing price of the Company’s common stock on November 20, 2007, the date the Company’s Board of Directors approved the issuance of this warrant. The number of shares are subject to adjustment as provided by the terms of the warrant. The warrant will expire in five years unless previously exercised. The Company calculated the fair value of the warrant on the date of grant to be $31 using the Black-Scholes model incorporating the following assumptions:

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

Dividend yield	0	%
Expected volatility	71	%
Risk-free interest rate	3.5	%
Expected life	5 years

The value of the warrant has been amortized over the term of the line of credit, and is included in Interest and Other Expense on the Income Statement for the nine months ended July 31, 2008.

On December 18, 2007, the Company, entered into an Eighth Amendment and Forbearance to the Loan Agreement (the “Eighth Amendment”) with the Bank. The Eighth Amendment includes: (i) an extension of the maturity date of the Loan Agreement to the earlier of February 1, 2008 or the date the Company completes its private placement, (ii) a forbearance by the Bank from exercising its rights and remedies against the Company, until such time as the Bank determines in its discretion to cease such forbearance, due to the defaults under the Loan Agreement resulting from the Company failing to comply with the tangible net worth covenant in the Loan Agreement as of July 31, 2007, August 31, 2007, September 30, 2007 and October 31, 2007 and (iii) a consent from the Bank to allow the Company to repay its outstanding loan from Mr. John A. Friede in the amount of $250. In connection with the Eighth Amendment, the Company granted a warrant to the Bank to purchase 38,461 shares of the Company’s common stock as determined by dividing the warrant price of $50 by the $1.30 warrant price per share, which is equal to the closing price of the Company’s common stock on December 18, 2007, the date the Company’s Board of Directors approved the issuance of this warrant. The number of shares are subject to adjustment as provided by the terms of the warrant. The warrant will expire in five years unless previously exercised. The Company calculated the fair value of the warrant on the date of grant to be $33 using the Black-Scholes model incorporating the following assumptions:

Dividend yield	0	%
Expected volatility	82	%
Risk-free interest rate	3.5	%
Expected life	5 years

The value of the warrant has been amortized over the term of the line of credit, and is included in Interest and Other Expense on the Income Statement for the nine months ended July 31, 2008.

The Company paid the $1,275 and $755 outstanding balance of the Line of Credit and the Bridge Sub-Limit, including accrued interest on January 23, 2008. The Bridge Sub-Limit agreement was terminated in accordance with its terms upon payment of the outstanding balance.

On May 28, 2008, the Company entered into a Ninth Amendment to the Loan Agreement (the “Ninth Amendment”) with the Bank. The Ninth Amendment renews the revolving credit facility under which the Company may borrow an additional $3.0 million based upon eligible receivables. The revolving credit facility is payable monthly and carries interest at prime plus 0.50%, and is subject to certain financial covenants. The revolving credit facility expires 24 months from the date of execution of the Ninth Amendment.

The Ninth Amendment also includes a $3.0 million Growth Capital Loan which provides for an advance period during which $1.5 million was advanced to the Company on June 7, 2008, and $1.5 million may be advanced to the Company no later than September 30, 2008. The Growth Capital Loan provides for interest only payments through the advance period at prime plus 2.25%, and 36 month repayment including principal and interest. At July 31, 2008, $0.5 million and $0.9 million, net of loan origination fees of $0.1 million is included in the Balance Sheet as short-term and long-term borrowings, respectively. Interest expense on the Growth Capital Loan amounted to $17 through July 31, 2008, and is included in interest and other expenses on the Statement of Operations.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

In connection with the Ninth Amendment, the Company granted a warrant to the Bank to purchase 99,337 shares of the Company’s common stock as determined by dividing the warrant price of $150 by the $1.51 warrant price per share, which is equal to the closing price of the Company’s common stock on May 19, 2008, the date the Company’s Board of Directors approved the issuance of this warrant. The number of shares are subject to adjustment as provided by the terms of the warrant. The warrant will expire in five years unless previously exercised. The Company calculated the fair value of the warrant on the date of grant to be $118 using the Black-Scholes model incorporating the following assumptions:


Dividend yield	0	%
Expected volatility	89	%
Risk-free interest rate	3.3	%
Expected life	5 years

The total debt discount of $118 is recorded as net to the total borrowings in the Ninth Amendment. The debt discount of $59 related to the revolving line of credit facility is amortized over the life of the facility. The remaining debt discount related to the Growth Capital Loan is determined through allocation based on the relative fair value of the loan and the relative fair value of the warrant. The amount allocated to the warrant, accounted for as debt discount, is amortized over the life of the Growth Capital Loan.

At July 31, 2008, the Company was not in compliance with the Tangible Net Worth covenant as defined in the Ninth Amendment. On September 11, 2008, the Company and the Bank executed the Tenth Amendment to the Loan Agreement which provides a waiver to the Company for its non-compliance with the Tangible Net Worth Covenant for an indefinite period.

Subordinated Short-Term Borrowings

Partners for Growth, LLC

On March 28, 2006, the Company entered into a Loan and Security Agreement (the “PFG Loan Agreement”) with Partners for Growth, LLC (“PFG”) for a secured, revolving line of credit of up to $4,000, which supplemented an existing line of credit provided by the Bank. The line of credit had a term of eighteen months, and earned interest at prime rate as quoted in The Wall Street Journal . Borrowings under the line of credit were subject to a borrowing base formula. Amounts owing under the line of credit were secured by all of the assets of the Company and were subordinated to amounts owing under the line of credit with the Bank. The line of credit did not contain financial covenants; however the Company was subject to other customary covenants, including reporting requirements, and events of default. In connection with the PFG Loan Agreement, the Company also granted PFG a warrant to purchase 79,000 shares of the Company’s common stock at an exercise price of $9.45 per share. As a result of the private placement of the Company’s common stock completed on June 7, 2006, and pursuant to the anti-dilution terms of the warrant issued to PFG, the warrant was amended to increase the number of shares of the Company’s common stock that PFG can purchase from 79,000 shares to 111,007 shares, and the exercise price was decreased from $9.45 per share to $6.75 per share. The warrant will expire in five years unless previously exercised. The Company calculated the fair value of the warrant on the date of grant to be $475 using the Black-Scholes model incorporating the following assumptions:


Dividend yield	0	%
Expected volatility	63	%
Risk-free interest rate	4.9	%
Expected life	5 years

The value of the warrant was deferred and amortized over the life of the loan at $27 per month and is included in Interest and Other Expense on the Income Statement. As of October 31, 2007, the value of the warrant was fully amortized. On August 30, 2007 the Company terminated the PFG Loan Agreement with PFG by mutual consent. As a result of the termination, PFG released all liens on the Company’s assets. There were no outstanding borrowings under the PFG Loan Agreement at the date of termination.

Agility Capital, LLC

On September 21, 2007, the Company entered into a Loan Agreement (the “Agility Loan Agreement”) with Agility Capital, LLC (“Agility”). The Agility Loan Agreement provided for advances of up to $750 subject to the achievement of certain milestones. Amounts owing under the Agility Loan Agreement were secured by all of the Company's assets, and were subordinated to amounts owing under the line of credit with the Bank. The Agility Loan Agreement did not contain financial covenants; however, the Company is subject to other customary covenants, including reporting requirements, and events of default. The Company was obligated to pay interest on borrowings under the Agility Loan Agreement at the prime rate, as quoted in The Wall Street Journal , plus 6% . The Agility Loan Agreement term was 60 days, and all amounts outstanding thereunder were due and payable on November 20, 2007. The Company paid an origination fee of $20 to Agility in connection with the Agility Loan Agreement. The origination fee and legal expenses were amortized over the term of the Agility Loan Agreement at $10 per month, and is included in Interest and Other Expense on the Income Statement. The Company further covered $15 of Agility’s legal fees in connection with the Agility Loan Agreement, which were recorded as general and administrative expenses.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

On October 18, 2007, the Company entered into a First Amendment (the “First Amendment”) to the Agility Loan Agreement. The First Amendment provides for advances of up to $1,000. Amounts advanced under the Agility Loan Agreement are subordinated to the existing line of credit provided by the Bank. In addition, within the First Amendment, Agility consented to the Company incurring up to $500 of subordinated unsecured indebtedness to Mr. John A. Friede or an entity owned or controlled by him (“Friede”), provided that Friede executes and delivers to Agility a subordination agreement pursuant to which the debt owed by the Company to Friede will be subordinated to the debt owed to Agility. The Company paid an origination fee of $10 to Agility in connection with the First Amendment.

On November 20, 2007, the Company executed a Second Amendment to the Agility Loan Agreement (the “Second Amendment”) with Agility to extend the maturity date of the Agility Loan Agreement from November 20, 2007 to December 21, 2007.

On December 20, 2007, the Company executed a Third Amendment to the Agility Loan Agreement (the “Third Amendment”) with Agility. The Third Amendment includes (i) an extension of the maturity date of the Loan Agreement to February 1, 2008, (ii) a loan modification and extension fee of $20, paid by the Company upon the execution of the amendment, and (iii) a consent from Agility to allow the Company to repay its outstanding loan from Friede in the amount of $250. The loan modification and extension fee has been amortized over the term of the loan and is included in Interest and Other Expense at July 31, 2008. The Company has repaid the balance on the Agility Loan Agreement, plus accrued interest as of July 31, 2008.

In connection with the Agility Loan Agreement, on September 21, 2007, the Company issued a warrant exercisable into 69,079 shares of the Company’s common stock at an exercise price of $3.80 per share, as determined by the closing price of the Company’s common stock on September 20, 2007, the day immediately preceding the issue date of the warrant (the “Initial Warrant”). The Initial Warrant will expire in seven years unless previously exercised.

The Company calculated the fair value of the Initial Warrant of 69,079 shares on the date of grant to be $149 using the Black-Scholes model incorporating the following assumptions:


Dividend yield	0	%
Expected volatility	69	%
Risk-free interest rate	4.4	%
Expected life	7 years

In connection with the First Amendment, and in exchange for Agility’s returning to the Company the Initial Warrant issued on September 21, 2007, the Company granted Agility a revised $363 warrant to purchase 95,394 shares of the Company’s common stock at an exercise price of $3.80 per share, as determined by the closing price of the Company’s common stock on September 20, 2007, the day immediately preceding the issue date of the Initial Warrant (the “Revised Warrant”). The Revised Warrant will expire in seven years unless previously exercised.

The Company calculated the fair value of the Revised Warrant of 95,394 shares on the date of grant to be $253 using the Black-Scholes model incorporating the following assumptions:

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)


Dividend yield	0	%
Expected volatility	71	%
Risk-free interest rate	4.3	%
Expected life	7 years

The Company calculated the fair value of the Revised Warrant to be $394 and $173 at December 12, 2007 and October 31, 2007, respectively, using the Black-Scholes model incorporating the following assumptions:

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

	December 12, 2007			October 31, 2007

Dividend yield		0	%		0	%
Expected volatility		74	%		71	%
Risk-free interest rate		3.7	%		4.3	%
Expected life		7 years			7 years

The Initial Warrant has been fair valued and classified as a liability at the time of the grant. The fair value of $148,830 for the Initial Warrant was classified as debt discount and has been fully amortized to interest and other expense as of July 31, 2008. The Revised Warrant has been fair valued and the change in the fair value of the Initial Warrant and the Revised Warrant was expensed as of October 31, 2007. The subsequent change in the fair value of the Revised Warrant has been recorded as fair value expense and is included in Interest and Other Expense at July 31, 2008. The $394 fair value of the Revised Warrant at December 12, 2007 has been reclassified to permanent equity as Additional Paid-in Capital as of July 31, 2008 in accordance with the guidance under EITF 00-19.

In connection with the Second Amendment, the Company granted Agility a $231 warrant to purchase 84,091 shares of the Company’s common stock at an exercise price of $2.75 per share, as determined by the closing price of the Company’s common stock on November 19, 2007, the day immediately preceding the issue date of the Warrant (the “Agility Second Warrant”). The Agility Second Warrant will expire in seven years unless previously exercised. Similar to the Revised Warrant, the terms of the Agility Second Warrant provided that the price per share and the number of shares to be issued under the Agility Second Warrant will adjust to the price at which the Company next issued its common stock or other equity-linked securities, provided that any amount is outstanding under the Agility Loan Agreement. As with the Revised Warrant, the Company concluded that the Agility Second Warrant is correctly classified as a liability and has been revalued to fair value each reporting period. At December 12, 2007, the Company entered into a Securities Purchase Agreement to issue shares of its Common Stock at $1.23. Pursuant to the terms of the Agility Second Warrant, the Company increased to 188,008 the number of shares to be issued under the Agility Second Warrant, and revalued the Agility Second Warrant at that date.

The Company calculated the fair value of the Agility Second Warrant to be $251 and $161 at December 12, 2007 and November 20, 2007, respectively, using the Black-Scholes model incorporating the following assumptions:

	December 12, 2007			November 20, 2007

Dividend yield		0	%		0	%
Expected volatility		74	%		71	%
Risk-free interest rate		3.7	%		3.7	%
Expected life		7 years			7 years

The Agility Second Warrant has been fair valued and classified as a liability at the time of the grant. The $161 fair value of the Agility Second Warrant was classified as debt discount and has been fully amortized to interest and other expense as of July 31, 2008. The subsequent change in the fair value of the Agility Second Warrant has been recorded as fair value expense and is included in Interest and Other Expense at July 31, 2008. The $251 fair value of the Agility Second Warrant at December 12, 2007 has been reclassified to permanent equity as Additional Paid-in Capital as of July 31, 2008 in accordance with the guidance under EITF 00-19.

In connection with the Third Amendment, the Company granted Agility a $200 warrant (the “Agility Third Warrant”) to purchase 162,601 shares of the Company’s common stock at an exercise price of $1.23 per share, as determined by the issue price of the Company’s common stock pursuant to the Securities Purchase Agreements dated December 12, 2007. The Agility Third Warrant will expire in seven years unless previously exercised. The Company calculated the fair value of the warrant on the date of grant to be $158 using the Black-Scholes model incorporating the following assumptions:

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

Dividend yield	0	%
Expected volatility	79	%
Risk-free interest rate	3.7	%
Expected life	7 years

The value of the Agility Third Warrant has been amortized over the term of the line of credit, and is included in Interest and Other Expense on the Income Statement for the nine months ended July 31, 2008. The $158 fair value of the Agility Third Warrant at the grant date has been classified as permanent equity in Additional Paid-in Capital as of July 31, 2008 in accordance with the guidance under EITF 00-19.

In addition, in accordance with the terms of the collective outstanding warrants granted to Agility, the Company filed a registration statement on Form S-3 covering the resale of the warrant shares (the “Registration Statement”) with the Securities Exchange Commission (the “SEC”) on July 16, 2008. The Registration Statement was declared effective by the SEC on July 24, 2008

John Friede Note

On October 30, 2007, the Company entered into a Loan Agreement (the “Friede Loan Agreement”) with Friede, at the time a significant stockholder and director of the Company. Subject to the terms of the Friede Loan Agreement, Friede agreed to loan the Company $500 in two installments of $250 each. The loan was unsecured and subordinated to the loan agreements with Silicon Valley Bank and Agility Capital LLC. On November 1, 2007, the Company executed the promissory note underlying the loan, and received the first $250 installment. The Company and Friede amended the Friede Loan Agreement on November 20, 2007, prior to funding of the second $250 installment, to extend the maturity date of the Friede Loan Agreement from November 20, 2007 to December 20, 2007, and to reduce the borrowing capacity to $250 from $500. The loan balance, plus accrued interest were paid in full on December 20, 2007.

In connection with the Friede Loan Agreement, the Company agreed to issue to the Lender a $200 Warrant (the “Friede Warrant”) to purchase 61,538 shares of the Company’s common stock at $3.25 Exercise Price. The Friede Warrant will expire 7 years from the date of issue unless previously exercised. The Company calculated the fair value of the Friede Warrant on the date of grant to be $119 using the Black-Scholes model incorporating the following assumptions:


Dividend yield	0	%
Expected volatility	71	%
Risk-free interest rate	4.2	%
Expected life	7 years

The value of the Friede Warrant has been amortized over the term of the line of credit, and is included in Interest and Other Expense on the Income Statement for the nine months ended July 31, 2008. The $119 fair value of the Friede Warrant at the grant date has been classified as permanent equity in Additional Paid-in Capital as of July 31, 2008 in accordance with the guidance under EITF 00-19.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

Three Arch Capital (et al)

On December 7, 2007, the Company entered into a Loan Agreement (the “Three Arch Loan Agreement”) with Three Arch Capital, L.P., TAC Associates, L.P., Three Arch Partners IV, L.P. and Three Arch Associates IV, L.P. (the “Lenders”). The Lenders are, collectively, the largest stockholder of the Company, and Dr. Wilfred Jaeger and Roderick Young, are directors of the Company and affiliates of the Lenders. The transaction contemplated by the Three Arch Loan Agreement was approved by a committee of the Company’s Board of Directors consisting only of disinterested directors.

Under the Three Arch Loan Agreement, the Lenders loaned $1.0 million to the Company and the Company issued notes to the Lender (the “Notes”). The Notes bear interest at an annual rate equal to the prime rate plus six percent (6%) and are subordinated to the Company’s indebtedness to Silicon Valley Bank and Agility Capital LLC. The Notes became due and payable upon the close of the Company’s private investment public equity financing transaction on January 18, 2008. The Company paid $20 loan fee in connection with the Three Arch Loan Agreement, which has been amortized to Interest and Other Expenses as of July 31, 2008. The balance of the Three Arch Loan Agreement, plus accrued interest, were paid in full as of July 31, 2008.

In connection with the Three Arch Loan Agreement, the Company granted the Lenders warrants (the “Three Arch Warrants”) to purchase, in the aggregate, 205,127 shares of the Company’s common stock at a purchase price of $1.95 per share. The Three Arch Warrants will expire 7 years from the date of issue unless previously exercised. The Company calculated the fair value of the Three Arch Warrants on the date of grant to be $329 using the Black-Scholes model incorporating the following assumptions:


Dividend yield	0	%
Expected volatility	74	%
Risk-free interest rate	3.8	%
Expected life	7 years

The value of the Three Arch Warrants has been amortized over the term of the line of credit, and is included in Interest and Other Expense on the Income Statement for the nine months ended July 31, 2008. The $329 fair value of the Three Arch Warrants at the grant date has been classified as permanent equity in Additional Paid-in Capital as of July 31, 2008 in accordance with the guidance under EITF 00-19.

The following table summarizes the warrant activity and related interest and fair value impact on the Company’s operations for the nine months ended July 31, 2008:

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

			Statement of Operations
Warrant coverage for:	Number of Warrant Shares		Amortization of Interest Expense related to Fair Value of Warrant		Adjustment to Fair Value Expense of the Warrant in Accordance with EITF00-19
Carry forward from October 31, 2007:
Deferred loan discount fees amortized in 2008		—	$	64	$	—
Issued in first quarter of 2008:
Silicon Valley Bank Line of Credit:
Amendment 7		18,181		31		—
Amendment 8		38,461		33		—
Amendment 9		99,337		—		—
John Friede Note		61,538		119		—
Agility Capital, LLC Note:
Fair value change – 2007 warrants		294,715		—		221
Amendment 2		188,008		161		90
Amendment 3		162,601		158		—
Three Arch Partners, et al Note		205,127		329		—
		964,051	$	895	$	311

NOTE 10—STOCKHOLDERS' EQUITY (DEFICIT)

Preferred Stock

The Company has authorized the issuance of 2,000,000 shares of preferred stock; however, no shares have been issued. The designations, rights and preferences of any preferred stock that may be issued will be established by the Board of Directors at or before the time of such issuance.

Sale of Common Stock and Warrants

2007 PIPE

Pursuant to the terms of the Securities Purchase Agreement dated December 12, 2007 (the “2007 Securities Purchase Agreement”), the Company completed a private placement (the “2007 Private Placement”) of 12,601,628 shares of the Company’s common stock on January 18, 2008 with Three Arch Partners IV, L.P. and affiliated funds (“Three Arch Partners”), SF Capital Partners Ltd. (“SF Capital”) and CHL Medical Partners III, L.P. and an affiliated fund (“CHL,” and together with Three Arch Partners and SF Capital, the “Investors”) at a purchase price of $1.23 per share as well as warrants to purchase an additional 630,081 shares of the Company’s common stock (the “Warrants”) at an exercise price of $1.23 per share for an aggregate consideration of approximately $15.5 million (before cash commissions and expenses of approximately $1.5 million). The purchase price represents a 40% discount to the volume weighted average price of the Common Stock on the Nasdaq Global Market, as reported by Bloomberg Financial Markets, for the 20 trading day period ending on the trading day immediately preceding the date of the 2007 Securities Purchase Agreement. The Investors purchased the following amounts of securities in the offering:

Investor	Shares		Warrants (Shares issuable upon exercise)
Three Arch Partners		8,130,084		406,504
SF Capital		2,032,520		101,626
CHL		2,439,024		121,951

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

Prior to the closing of the transaction, Three Arch Partners owned 1,024,327 shares of common stock of the Company. After the transaction was consummated, Three Arch Partners’ percentage ownership of the outstanding common stock increased from approximately 17.3% to 49.5% (and 43.9% of the common stock on a fully diluted basis).

The Warrants are exercisable beginning 180 days after the date of closing until 7 years after the date of closing. The values of the Warrants and common stock in excess of par value have been classified as stockholders’ equity in additional paid-in capital in our Consolidated Balance Sheets. The Warrants were evaluated under SFAS 133 and EITF 00-19, and the Company determined that the Warrants have been correctly classified as equity.

The terms of the 2007 Private Placement were approved by a committee of the Company’s Board of Directors consisting only of disinterested directors. The Company received approval of a majority of the Company’s stockholders on January 17, 2008 of the 2007 Private Placement and amendment of its Certificate of Incorporation to increase the number of shares of common stock it is authorized to issue to 150,000,000 shares.

Holders of the shares of common stock sold to the Investors (the “Shares”) and the shares of common stock issuable upon the exercise of the Warrants (the “Warrant Shares” and collectively, with the Shares, the “Registrable Securities”) are entitled to certain registration rights as set forth in the 2007 Securities Purchase Agreement. In accordance with the 2007 Securities Purchase Agreement, the Company filed a registration statement on Form S-3 to register the resale of the Registrable Securities on July 16, 2008, which was declared effective by the SEC on July 24, 2008.

Under the 2007 Securities Purchase Agreement, Three Arch Partners has the right to name one member to the Board so long as Three Arch Partners beneficially owns greater than 1,000,000 shares of common stock of the Company (including shares of common stock issuable upon exercise of the Warrants, and as appropriately adjusted for stock splits, stock dividends and recapitalizations). Two of the current members of the Board, Dr. Wilfred E. Jaeger and Roderick A. Young, have been designated by Three Arch Partners.

In connection with the issuance of the Warrants and upon closing of the transaction, the Company entered into warrant agreements with its transfer agent relating to the Warrants. The warrant agreement relating to the Warrants issued to SF Capital contains a non-waivable provision that provides that the number of shares issuable upon exercise of the Warrants granted to SF Capital pursuant to the 2007 Private Placement will be limited to the extent necessary to assure that, following such exercise, the total number of shares of common stock of the Company then beneficially owned by such holder and its affiliates does not exceed 14.9% of the total number of issued and outstanding shares of common stock of the Company (including for such purpose the shares of common stock issuable upon such exercise of Warrants). The warrant agreement relating to the Warrants issued to the other Investors does not contain this provision.

Stock Options

The Company's 1996 Stock Option Plan ("1996 Plan"), as amended April 6, 2001, provided for the issuance of incentive stock options to employees of the Company and non-qualified options to employees, directors and consultants of the Company with exercise prices equal to the fair market value of the Company's stock on the date of grant. Options vest in accordance with their terms over periods up to four years and expire ten years from the date of grant. The 1996 Plan expired on April 1, 2006. As of July 31, 2008, options underlying 129,654 shares of common stock were outstanding under the 1996 Plan.

On May 3, 2006, the Company’s stockholders approved the North American Scientific, Inc. 2006 Stock Plan (“2006 Plan”). Under the 2006 Plan, the Company may issue up to 340,000 shares, plus any shares from the 1996 Plan that are subsequently terminated, expire unexercised or forfeited, to employees of the Company through incentive stock options, non-qualified options, stock appreciation rights, restricted stock and restricted stock units. Since its inception, 490,717 shares have been transferred into the 2006 Plan from the 1996 Plan. On April 29, 2008, the Company’s stockholders approved the adoption of Amendment No. 1 to the 2006 Plan (the “Amendment”) to (i) increase by 2,000,000 million share the number of shares available to be issued under the 2006 Plan, (ii) increase by 35,000 the maximum number of shares under the Plan that may be granted in any one fiscal year to an individual participant from 60,000 to 95,000 and (iii) increase by 35,000 the maximum number of shares under the Plan, in connection with a participant’s initial service, such participant may be granted from 60,000 to 95,000 that will not count against the limit set forth in (ii) above. The exercise price of an option is equal to the fair market value of the Company’s stock on the date of the grant. During nine months ended July 31, 2008, 1,115,373 stock options were granted under the 2006 Plan, at an exercise price ranging from $1.35 to $2.10 per share, and for the nine month period ended July 31, 2007, 122,999 stock options were granted under the 2006 Plan, at an exercise price ranging from $4.65 to $5.80 per share As of July 31, 2008, options underlying 1,715,344 shares of common stock were available for grant in the 2006 Plan.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

On April 23, 2007, the Company granted stock options with respect to 360,000 shares of its common stock in connection with the employment by the Company of its new CEO, John B. Rush. Options with respect to 150,000 shares of the Company’s common stock were issued under the 2006 Plan. Options with respect to the remaining 240,000 shares of the Company’s common stock were issued as a stand-alone grant outside the 2006 Plan and approved by the written consent of a majority of stockholders on April 20, 2007. The stock options have an exercise price of $5.80, which is equal to the fair market value per share of the Company’s common stock on the grant date. All of the options have a term of ten years and vest monthly over a four-year period. The options remain exercisable until the earlier of the expiration of the term of the option or (i) three months following Mr. Rush’s date of termination in the case of termination for reasons other than cause, death or disability (as such terms are defined in his employment agreement) or (ii) 12 months following Mr. Rush’s date of termination in the case of termination on account of death or disability. In the event that Mr. Rush is terminated for cause, all outstanding options, whether vested or not, will immediately lapse. Pursuant to his employment agreement, stock options issued to Mr. Rush were subject to an anti-dilution clause, triggered in the event the Company issued additional equity securities within the twenty-four months immediately following March 22, 2007, the date of his employment, such that the number of options granted to Mr. Rush under the employment agreement remains equivalent to 3% of the outstanding common stock of the Company. At its January 15, 2008 meeting, the Board of Directors, agreed to make an additional award to Mr. Rush as part of his employment. As a result of the 2007 Private Placement, the Company issued 190,000 and 376,094 options underlying common stock from the 2006 Plan and outside the 2006 Plan, respectively, to Mr. Rush at an exercise price of $1.40 per share, the closing price of the Company’s common stock on January 15, 2008, the date the option grant was approved by the Board of Directors. The stock options vest 25% upon the first anniversary of the grant date, and then evenly over the remaining (36) thirty-six months, such that all options are vested after four years, and have a term of ten years.

In addition, three members of the executive management team were granted anti-dilution guarantees by the Board of Directors as consideration of their employment. The Company issued 440,369 stock options to these executives from the 2006 Plan, at an exercise price of $1.40 per share, the closing price of the Company’s on January 15, 2008, the date the option grant was approved by the Board of Directors. Also at the January 15, 2008 meeting, the Board of Directors granted, from the 2006 Plan, stock options underlying 156,000 shares of the Company’s common stock to certain management employees, at a $1.40 exercise price. The stock options vest 25% after a one year cliff, and then evenly over the remaining (36) thirty-six months, such that all options are vested after four years, and have a term of ten years.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

On February 15, 2008, the Company’s Board of Directors approved, subject to the approval of the Company’s stockholders, a plan to re-price all existing employee stock options at $2.05 per share, the closing price of the Company’s common stock on February 15, 2008, except for the 2006 Premium Price Awards, which were re-priced to $3.25 per share, which is equal to 159% of the re-priced fair value of the Company’s common stock. The re-pricing applies to all stock options outstanding as of February 15, 2008 held by all persons who are currently employed or actively engaged by us, including our executive officers, and to certain other persons for which the Board determined that re-pricing was appropriate (collectively, the “Eligible Participants”). The number of shares subject to the new stock options was determined based on a Black-Scholes valuation of the existing stock option such that the Black-Scholes value of the new stock option will approximately equal the Black-Scholes value of the existing stock option. All new stock options continue to vest in accordance with the vesting terms of the existing stock options. All new stock options, to the extent such option are vested, will be exercisable for a period of seven years. The Company’s stockholders approved the re-pricing at their annual meeting on April 29, 2008. As a result of the re-pricing exercise, options underlying 691,852 shares of common stock, with an exercise price ranging from $11.15 to $83.75, were replaced by options underlying 535,257 shares of common stock, with and exercise price of $2.05 or $3.25 for the 2006 Premium Awards.

The following table summarizes the re-pricing activity approved by the Board of Directors and stockholders as of July 31, 2008:

	Employee Options Cancelled and Re-priced							Re-priced Options Granted
Plan	Shares		Range of Exercise Price					Shares		Weighted Avg. Exercise Price
1996 Plan		179,060	$	11.15	—	$	83.75		41,595	$	2.05
Premium Price		49,900		16.75	—		16.75		22,658		3.25
2006 Plan		222,892		4.65	—		5.80		231,004		2.05
CEO Options		240,000	$	5.80	—	$	5.80		240,000	$	2.05
		691,852	$	4.65		$	83.75		535,257	$	2.05

On April 29, 2008, the Company’s stockholders approved the 2008 Non-Employee Directors’ Equity Compensation Plan (the “2008 Director Plan”). The 2008 Directors Plan supersedes the 2003 Non-Employee Directors' Equity Compensation Plan. Under the 2008 Director Plan, the Company may issue up to 1,500,000 shares to eligible non-employee directors of the Company through non-qualified options and/or restricted stock. The exercise price of an option is equal to the fair market value of the Company's stock on the date of grant. Options and restricted stock vest in accordance with the terms set forth at the time of the grant, and will become exercisable provided that the holder is a non-employee director of the Company on any such vesting date. The options expire ten years from the date of grant. Pursuant to the terms of the 2008 Director Plan, the Board of Directors and the stockholders approved a one-time non-statutory stock option grant to each non-employee director, to purchase 30,000 shares of the Company’s common stock, and to the Chairman of the Board, a non-statutory stock option grant to purchase 45,000 shares of the Company’s common stock, in exchange for all of such director’s and the Chairman’s outstanding stock options. As a result, the Company cancelled 68,000 stock options, with a range of exercise price between $6.15 and $44.00 from the 2003 Non-Employee Director Equity Compensation Plan, and issued 195,000 stock options, from the 2008 Director Plan, at an exercise price of $2.10 per share, the closing price of the Company’s common stock on the Nasdaq Capital Market on February 13, 2008, which is the date the Company’s Compensation Committee approved the exchange.

In addition, under the terms of the 2008 Director Plan, each non-employee director elected to serve on the Board at the annual meeting is granted a non-statutory stock option to purchase 10,000 shares of the Company’s common stock. On the date of such meeting, the non-employee director elected or appointed Chairman of the Board shall be granted an additional 10,000 stock options. Each individual who is first elected or appointed as a non-employee director shall be granted, on the date of such initial election or appointment, a stock option to purchase 30,000 shares of common stock. Pursuant to these terms, and subsequent to its annual meeting on April 29, 2008, the Company issued 100,000 stock options at a $1.65 exercise price, the closing price of the Company’s common stock on April 29, 2008 to its non-employee Directors appointed at the annual meeting. The options vest one year from the date of grant and have a seven-year term from the date of grant.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

At July 31, 2008, a total of 2,780,004 shares of the Company’s common stock were reserved for issuance. The following table summarizes stock option activity for both plans:

				Options Outstanding
	Options Available for Grant			Number Outstanding			Exercise Price
Balance at October 31, 2005		346,488			482,822		$	0.15 - $122.70
Granted		(290,600	)		290,600		$	9.60 - $16.75
Forfeited and expired		(38,888	)		(85,324	)	$	5.55 - $83.75
Exercised		—			(437	)	$	5.55 - $5.60
Additional shares reserved		340,000			—			—-

Balance at October 31, 2006		357,000			687,661		$	0.15 - $122.70
Granted		(492,894	)		492,894		$	4.65 - $6.15
Forfeited and expired		296,255			(279,132	)	$	3.50 - $122.70
Exercised		—			—			—
Additional shares reserved		240,000			—			—

Balance at October 31, 2007		400,361			901,423		$	0.15 - $117.50
Granted		(1,649,121	)		1,649,121		$	1.05 - $3.35
Forfeited and expired		(54,834	)		(55,766	)	$	11.15 -$117.50
Exercised		—			—			—
Additional shares reserved		3,921,868			—			—
Shares cancelled for re-priced		691,852			(691,852	)	$	4.65 – $83.75
Shares cancelled for exchange		68,000			(68,000	)	$	6.15 – $44.00
Shares issued for re-pricing		(535,257	)		535,257		$	2.05 – $3.25
Shares issued in exchange		(195,000	)		195,000		$	2.10

Balance at July 31, 2008		2,647,869			2,465,183		$	0.15 - $117.50

There were 256,027 options, 333,904 options and 375,733 options exercisable with weighted average exercise prices of $17.37, $34.70 and $42.85 at July 31, 2008, October 31, 2007 and 2006, respectively.

The following table summarizes options outstanding at July 31, 2008 and the related weighted average exercise price and remaining contractual life information:

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

	Employee Options Outstanding						Employee Options Exercisable
Range of Exercise Prices	Shares		Weighted Avg. Remaining Contractual Life (Years)		Weighted Avg. Exercise Price		Shares		Weighted Avg. Exercise Price
$1.05 - $1.35		200,054		7.69	$	1.14		1,400	$	0.15
$1.40 - $1.40		1,132,463		9.46	$	1.40		—	$	—
$1.60 - $1.65		310,000		7.66	$	1.63		6,250	$	1.62
$2.05 - $2.05		503,747		8.55	$	2.05		135,084	$	2.05
$2.10 - $83.75		318,919		3.43	$	14.56		113,293	$	36.50
		2,465,183						256,027

The average fair value for accounting purposes of options granted was $0.92, $3.15 and $5.45 for the nine months ended July 31, 2008 and for the years ended October 31, 2007 and 2006, respectively.

The following table summarizes the weighted average price, weighted average remaining contractual life and intrinsic value for granted and exercisable options outstanding as of July 31, 2008 and October 31, 2007:

	Number of Shares		Weighted Average Exercise Price		Weighted Avg. Remaining Contractual Life (Years)		Intrinsic Value (in whole $)
As of October 31, 2007:
Employee Options Outstanding		901,423	$	17.60		7.54	$	3,710
Employee Options Expected to Vest		567,519	$	2.80		2.82	$	—
Employee Options Exercisable		333,904	$	34.70		5.26	$	3,710

As of July 31, 2008
Employee Options Outstanding		2,465,183	$	3.24		8.12	$	931
Employee Options Expected to Vest		2,209,156	$	3.24		8.12	$	—
Employee Options Exercisable		256,027	$	17.37		6.20	$	931

Fair Value Disclosures

The Company calculated the fair value of each option grant on the respective date of grant using the Black-Scholes option-pricing model as prescribed by SFAS 123(R) using the following assumptions:

	Nine months ended July 31,			Year Ended October 31,
	2008			2007			2006
Dividend yield		0	%		0	%		0	%
Expected volatility		72	%		61	%		63	%
Risk-free interest rate		3.4	%		4.8	%		4.9	%
Expected life		5 years			5 years			5 years

Stockholders' Rights Plan

In October 1998, the Board of Directors of the Company implemented a rights agreement (the “Rights Agreement”) to protect stockholders' rights in the event of a proposed takeover of the Company. In the case of a triggering event, each right entitles the Company's stockholders to buy, for $80, $160 worth of common stock for each share of common stock held. The rights will become exercisable only if a person or group acquires, or commences a tender offer to acquire, 15% or more of the Company's common stock. The rights, which expire in October 2008, are redeemable at the Company's option for $0.005 per right. The Company also has the ability to amend the rights, subject to certain limitations. On May 2, 2007, the Company entered into a Third Amendment to Rights Agreement, which amended the Rights Agreement to provide, among other things, that the Board of Directors of the Company may determine that a person who would otherwise become an Acquiring Person (as defined in the Rights Agreement) has become such inadvertently, and provided certain conditions are satisfied, that such person is not an Acquiring Person for any purposes of the Rights Agreement.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

Employee Stock Purchase Plan

In March 2000, the Board of Directors authorized an Employee Stock Purchase Plan ("the ESPP") under which 60,000 shares of the Company's common stock are reserved for issuance. Eligible employees may authorize payroll deductions of up to 15% of their salary to purchase shares of the Company's common stock at a discount of up to 15% of the market value at certain plan-defined dates. In the nine months ended July 31, 2008 and the years ended October 31, 2007 and 2006, the shares issued under the ESPP were 22,871, 30,816 shares and 19,298 shares, respectively. At July 31, 2008 and October 31, 2007, 21,257 shares and 43,951 shares were available for issuance under the ESPP, respectively.

Common Stock Repurchase Program

In October 2001, the Board of Directors authorized a stock repurchase program to acquire up to $10 million of the Company's common stock in the open market at any time. The number of shares of common stock actually acquired by the Company will depend on subsequent developments and corporate needs, and the repurchase of shares may be interrupted or discontinued at any time. As of July 31, 2008 and October 31, 2007, a cumulative total of 23,399 shares had been repurchased by the Company at a cost of $227, which shares are reflected as Treasury Stock on the Balance Sheet at the respective dates.

NOTE 11—COMMITMENTS AND CONTINGENCIES

NASDAQ Delisting

The Company received a NASDAQ Stock Market (“Nasdaq”) Staff Deficiency Letter dated September 21, 2007 indicating that, based on the Quarterly Report on Form 10-Q for the period ended July 31, 2007, Nasdaq had determined that the Company was not in compliance with the minimum $10 million stockholders’ equity requirement for continued listing on the Nasdaq Global Market set forth in Marketplace Rule 4450(a)(3). On December 11, 2007, the Company received formal notice that a Nasdaq Listing Qualifications Panel (the “Panel”) had granted the Company’s request for a transfer from the Nasdaq Global Market to the Nasdaq Capital Market, and continued listing on the Nasdaq Capital Market, subject to the following exception:

On or before January 17, 2008, the Company was required to inform the Panel that it has received funds sufficient to put it in compliance with the Nasdaq Capital Market shareholders’ equity requirement of $2.5 million. Within four business days of the receipt of the funds, the Company was required to make a public disclosure of receipt of the funds and file a Form 8-K with pro forma financial information indicating that it plans to report proforma shareholders’ equity of $2.5 million or greater for the fiscal year ended October 31, 2007. We informed the Panel of receipt of sufficient funds on January 18, 2008. The Company publicly disclosed receipt of such funds in a press release dated January 22, 2008 and filed a Form 8-K with respect to this matter on January 25, 2008.

On or before January 31, 2008, the Company was required to file its Annual Report on Form 10-K for the fiscal year ended October 31, 2007, which shall demonstrate proforma shareholder’s equity of $2.5 million or greater. The Company filed its Annual Report on Form 10-K on January 29, 2008.

Further, on October 5, 2007, the Company received a notice from Nasdaq, dated October 5, 2007 indicating that for the last 30 consecutive business days, the bid price of the Company’s common stock had closed below the minimum $1.00 per share requirement for continued inclusion under Marketplace Rule 4450(a)(5). Therefore, in accordance with Marketplace Rule 4450(e)(2), the Company had 180 calendar days, or until April 2, 2008, to regain compliance. The Company did not regain compliance with the Rule by April 2, 2008, and on April 4, 2008, Nasdaq notified the Company that its common stock would be delisted on April 15, 2008. On April 10, 2008, The Company appealed the delisting decision pursuant to the procedures set forth in the Nasdaq Marketplace Rule 4800 Series, and was granted a hearing with a Nasdaq Listing Panel on May 22, 2008 The Company’s common stock continued to trade on the Nasdaq Capital Market pending the outcome of such hearing.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

On February 5, 2008, the Company received a letter from The Nasdaq Stock Market (“Nasdaq”) dated February 4, 2008 providing notice that the Company has demonstrated compliance with Nasdaq Marketplace Rules, and that the Nasdaq Listing Qualifications Panel has determined to continue the listing of the Company’s securities on Nasdaq. In addition, the Nasdaq Staff has approved the Company’s application to list its common stock on The Nasdaq Capital Market. The Company’s common stock was transferred from The Nasdaq Global Market to The Nasdaq Capital Market effective February 6, 2008.

On April 29, 2008, the Company’s stockholders approved a 1 share for 5 share reverse split to regain compliance with the Nasdaq minimum bid price rule. The reverse split became effective on May 1, 2008. The Company’s common stock traded at or above the $1.00 minimum bid price for the period May 1, 2008 through May 14, 2008, which marked 10 consecutive trading days in which the closing bid price exceeded the $1.00 minimum. On May 15, 2008, the Company was notified by Nasdaq that it had regained compliance with the minimum bid price requirements and no further action was required. (see Note 12 – Subsequent Events).

Contract Commitments

The Company has entered into purchase commitments of $0.1 million to suppliers under blanket purchase orders. The blanket purchase orders expire when the designated quantities have been purchased.

Lease Commitments

The Company leases facilities and equipment under non-cancelable operating lease agreements which expire at various dates through July 2013, and may be renewed by mutual agreement between the Company and the lessors under such leases. Future minimum lease payments are subject to annual adjustment for increases in the Consumer Price Index.

Future minimum lease payments under all operating leases are as follows:

For the Years Ended October 31,

2008 (remaining three months)	$	201
2009		180
2010		161
2011		161
Thereafter		42
	$	745

Third Party License Agreements

We license some of the technologies used in our SurTRAK products from IdeaMatrix, Inc. Minimum royalty payments under the license agreement are payable annually at $125,000 through 2011.

Outsourcing

On April 20, 2008, the Company entered into an administrative management agreement with third-party administrator (the “Administrator”). Under the terms of the agreement, all of the Company’s employees became employees of the Administrator, and the Administrator assumed the cost all employee-related health benefit costs, workers’ compensation insurance and the payroll and Human Resource functions of the Company. The Company pays a monthly fee to the Administrator equal to the monthly payroll for its former employees, plus a fixed fee as a percentage of the payroll costs, to cover the costs of the employees participation in the Administrator’s benefit plans, net of employee contributions, workers’ compensation costs, and the payroll and Human Resource management costs.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

Agreements

The Company maintains agreements with certain key management. The agreements provide for minimum base salaries, eligibility for stock options and performance bonuses and severance payments.

Litigation

In November 2005, the Company was served with a complaint filed in U.S. District Court in Hartford, Connecticut by World Wide Medical Technologies (WWMT). WWMT’s six count complaint alleges breach of a confidentiality agreement, fraud, patent infringement, wrongful interference with contractual relations, violation of the Connecticut Uniform Trade Secrets Act, and violation of the Connecticut Unfair Practices Act. WWMT alleges that the Company fraudulently obtained WWMT’s confidential information during negotiations to purchase WWMT in 2004 and that once the Company acquired that information, it allegedly learned that Richard Terwilliger, (our former Vice President of New Product Development) owned certain patent rights and that the Company began trying to inappropriately gain property rights by hiring him away from WWMT. The Company was served with this matter at approximately the same time Mr. Terwilliger was served with a lawsuit in state court and with an application seeking a preliminary injunction declaring plaintiffs to be the sole owners of the intellectual property at issue and preventing Mr. Terwilliger from effectively serving as our Vice President of New Product Development. The Company has agreed to defend Mr. Terwilliger. The Company has removed the state court claim against Mr. Terwilliger to federal court and the cases have been consolidated. The defendants have answered both complaints and discovery has commenced in each matter. In April 2006, WWMT had its hearing for a preliminary injunction against Mr. Terwilliger heard in U.S. District Court. Plaintiffs abandoned that portion of their application for preliminary injunction that was based on an alleged misappropriation of trade secrets shortly before the hearing. On August 30, 2006, Magistrate Judge Donna Martinez issued a ruling ordering that what remained of plaintiffs' motion be denied. Specifically, the Magistrate Judge found that plaintiffs do not have a reasonable likelihood of success on the merits of their claim for declaratory judgment that some or all of plaintiffs are the sole owners of the intellectual property at issues, and she further found that there do not exist sufficiently serious questions going to the merits of that claim to make them a fair ground for litigation. On March 12, 2007, the Court administratively dismissed the action. On or about April 30, 2007, the parties filed a Joint Motion to Reopen the Case after Administrative Dismissal, which the court subsequently denied without prejudice. The parties re-filed the Joint Motion to Reopen the Case, and the Court issued an order reopening the case on July 3, 2008. On August 22, 2008, the Court set a scheduling order in this matter. The Company denies liability and intends to vigorously defend itself in this litigation as it progresses.

In October 2s007, the Company was served with a demand for arbitration by AnazaoHealth Corporation (“AnazaoHealth”). AnazaoHealth provides needle loading services for our Prospera brachytherapy products pursuant to a Services Agreement dated as of June 1, 2005, as amended (the “Services Agreement”). In its demand for arbitration, AnazaoHealth is seeking indemnification from the Company under the Services Agreement for damages arising out of a litigation filed against AnazaoHealth in the U.S. District Court for the District of Connecticut (the “Connecticut Litigation”) by Richard Terwilliger, Gary Lamoureux, World Wide Medical Technologies, LLC, IdeaMatrix, Inc., Advanced Care Pharmacy, LLC, Advanced Care Pharmacy, Inc., and Advanced Care Medical, Inc. The plaintiffs in the Connecticut Litigation claim that AnazaoHealth’s provision of services in the brachytherapy field infringes their patent rights, and certain of the plaintiffs claim that our Prospera products infringes their patent rights. The Company denies liability and intends to vigorously defend itself in this arbitration.

In February 2008, an individual plaintiff, Richard Hodge, filed a complaint in the Multnomah County Circuit Court of the State of Oregon against Bay Area Health District, North American Scientific, Inc., NOMOS Corporation and Carl Jenson, M.D., alleging the defendants caused Mr. Hodge to receive excessive radiation during the course of his IMRT treatment, as a result of a manufacturing and/or design defect(s) in the Company’s former CORVUS and BAT products. The plaintiff is seeking a judgement of up to $3 million in economic damages and $3 million of non-economic damages. The Company denies liability and intends to vigorously defend itself in this litigation as it progresses. No trial date has yet been set.

The Company is also subject to other legal proceedings, claims and litigation arising in the ordinary course of business. While the outcome of these matters is currently not determinable, management does not expect that the ultimate costs to resolve these matters will have a material adverse effect on the Company's consolidated financial position, results of operations, or cash flows.

North American Scientific, Inc.

Condensed Notes to Consolidated Financial Statements

(Unaudited)

(in thousands, except share and per share data)

NOTE 12—SUBSEQUENT EVENTS

NASDAQ Delisting

The company received a letter from The NASDAQ Stock Market (“NASDAQ”) dated August 20, 2008 indicating that for the last 30 consecutive business days, the bid price of the Company’s common stock closed below the minimum $1.00 per share requirement for continued inclusion under Marketplace Rule 4450(a)(5) (the “Rule”). Therefore, in accordance with Marketplace Rule 4450(e)(2), the Company has 180 calendar days, or until February 17, 2009, to regain compliance. If, at anytime before February 17, 2009, the bid price of the Company’s common stock closes at $1.00 per share or more for a minimum of 10 consecutive business days, the Company understands that NASDAQ’s Staff will provide written notification that the Company has achieved compliance with the Rule. If the Company does not regain compliance with the Rule by February 17, 2009, the Company understands that NASDAQ’s Staff will provide written notification that the Company’s common stock will be delisted. At that time, the Company may appeal the Staff’s determination to delist its common stock to a NASDAQ Listing Qualifications Panel.

Beyond the risk of delisting arising from the $1.00 minimum closing bid price requirement, the Company is subject to a number of other requirements under Maintenance Standards for continued listing on the Nasdaq Capital Market, including but not limited to, a $2.5 million minimum stockholders’ equity under Maintenance Standard 1, as set forth in Marketplace Rule 4310(c)(3). Currently, the $0.8 million of stockholder’s’ equity at July 31, 2008 is not sufficient to meet the minimum required under Maintenance Standard 1.

Sale of Non-Therapeutic Assets

On August 29, 2008, the Company entered into an agreement relating to the sale of its non-therapeutic product line to EZIP. The sale was completed on September 5, 2008. Under the terms of the definitive agreement, EZIP purchased certain assets of the Company valued up to $6,000. See further discussion in Note 3 – Discontinued Operations.

Loan Amendment

On September 11, 2008, the Company entered into the Tenth Amendment to the Loan Agreement (the “Tenth Amendment”) with the Bank. The Tenth Amendment provides a waiver to the Company for its non-compliance with the Tangible Net Worth Covenant for an indefinite period.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis provides information, which our management believes is relevant to an assessment and understanding of our financial condition and results of operations. The discussion should be read in conjunction with the Consolidated Financial Statements contained herein and the notes thereto. Certain statements contained in this Form 10-Q, including, without limitation, statements containing the words “believes”, “anticipates”, “estimates”, “expects”, “projections”, and words of similar import are forward looking as that term is defined by: (i) the Private Securities Litigation Reform Act of 1995 (the "1995 Act") and (ii) releases issued by the Securities and Exchange Commission (“SEC”). These statements are being made pursuant to the provisions of the 1995 Act and with the intention of obtaining the benefits of the "Safe Harbor" provisions of the 1995 Act. We caution that any forward looking statements made herein are not guarantees of future performance and that actual results may differ materially from those in such forward looking statements as a result of various factors, including, but not limited to, any risks detailed herein or detailed from time to time in our other filings with the SEC including our most recent report on Form 10-K. We are not undertaking any obligation to update publicly any forward-looking statements. Readers should not place undue reliance on these forward-looking statements.

Overview

We manufacture, market and sell products for the radiation oncology community, including Prospera® brachytherapy seeds and SurTRAK™ needles and strands used primarily in the treatment of prostate cancer. We also develop and market brachytherapy accessories used in the treatment of disease and calibration sources used in medical, environmental, research and industrial applications.

In November 2006, we announced the introduction of ClearPath ^TM , our unique multicatheter breast brachytherapy device for Accelerated Partial Breast Irradiation (“APBI”). APBI is a standard radiation treatment appropriate for all women with early stage breast cancer. Typically, patients undergoing radiation treatment for breast cancer are treated with external beam radiation (EBR). The EBR treatments are delivered daily for a period of six weeks. Women who receive APBI instead of EBR can be treated in just 5 days with the same level of efficacy and with better control of radiation dose to surrounding tissue. Management estimates that approximately 250,000 women in the United States are diagnosed with breast cancer each year. With early detection on the rise, we believe the total market for APBI devices in the United States to be as high as $500 million per year.

Our ClearPath systems are designed to place the radiation source directly into the post-lumpectomy site which reduces the treatment time to approximately 5 days compared to six weeks and reduces the risks associated with the external beam radiation treatment. Our ClearPath device is placed through a single incision and is designed to conform to the tumor resection cavity, allowing physicians to deliver a more conformal therapeutic radiation dose distribution following lumpectomy compared to other methods of APBI. Our ClearPath family of devices are designed to deliver either high-dose rate treatment, (ClearPath-HDR™) or low-dose rate continuous treatments (ClearPath-CR™).

We have received 510(k) approval from the United States Food and Drug Administration for both ClearPath-CR™ to enable a low-dose rate, or continuous release treatment utilizing our Prospera® brachytherapy seeds, and for ClearPath-HDR™ to enable a high-dose rate treatment. Throughout 2007 and the first half of 2008, we have been gaining clinical experience with the first generation ClearPath-HDR in 2007, and we intend to launch the second generation devices in 2008, to be followed by the general commercial release of our ClearPath-CR.

On September 17, 2007, we completed the sale of all significant assets, including licenses, trademarks and brand-names, and selected liabilities of NOMOS Corporation to Best Medical, Inc. for $500. We expect that the divestiture of NOMOS will allow us to better utilize financial resources to benefit the marketing and development of innovative brachytherapy products for the treatment of cancer. The financial results of NOMOS are reported as a discontinued operation in accompanying financial statements.

On September 5, 2008 we completed the sale of certain assets, principally our non-therapeutic product line to EZIP for an amount valued up to $6,000. The assets sold are reported as assets held for sale and the revenues and related expenses are reported as a discontinued operation in accompanying financial statements.

We have incurred substantial net losses since fiscal year 2000. We expect the losses to continue for at least the next fiscal year as we continue to develop our ClearPath product, and obtaining adequate financing is an important part of our business strategy. In January 2008, we completed a financing transaction in which we raised a net of $14.0 million through a private placement of our common stock with three of our major shareholders. The inflow of cash has allowed us to meet our operating expenses and continued development of our ClearPath product.

Results of Operations

Three Months Ended July 31, 2008 Compared to Three Months Ended July 31, 2007

Total Revenue	Three Months Ended July 31,
	2008		2007		% Change

Radiation Sources	$	3,418	$	2,702		26	%

Total revenue increased $716 or 26% to $3,418 for the three months ended July 31, 2008 from $2,702 for the three months ended July 31, 2007. The increase in revenue is due to an approximate $700 or 24% increase in sales volume, primarily of our palladium brachytherapy seeds. Average selling prices remained consistent period over period.

Gross profit

	Three Months Ended July 31,
	2008			2007			% Change

Radiation Sources	$	1,174		$	604			94	%
(% of Revenue)
Radiation Sources		34	%		22	%		54	%

Gross profit increased $570, or 94%, to $1,174 for the three months ended July 31, 2008 from $604 for the three months ended July 31, 2007. The increase in gross profit is due to the $700 increase in revenue noted above and, to a lesser extent, an approximate $500 reduction in seed production costs as a result of lower material costs and increased efficiency in material usage. The increases in gross margin were partially offset by an approximate $600 increase in material and labor costs as a result of a shift in our product mix to palladium seeds from iodine seeds and increased volume and costs of packaging for our SurTrak product. Gross profit as a percent of sales increased 54% to 34% in the three months ended July 31, 2008 from 22% in the three months ended July 31, 2007. The increase in our gross profit as a percent of sales is primarily due to the higher volume in revenue and cost controls implemented to reduce our per seed production costs, offset somewhat by a shift in product mix to palladium from iodine seeds and increased packaging costs for our Surtrak product.

Selling and marketing expenses

	Three Months Ended July 31,
	2008			2007			% Change

Selling and marketing expenses	$	1,168		$	985			19	%
As a percent of total revenue		34	%		36	%

Selling and marketing expenses, comprised primarily of salaries, commissions, and marketing costs, increased $183, or 19%, to $1.168 for the three months ended July 31, 2008, from $985 for the three months ended July 31, 2007. The increase in selling and marketing expenses is primarily attributed to $77 increase in sales commissions related to the increased sales of brachytherapy products and a collective $106 increase in printing costs for marketing materials associated with our product re-branding, consulting fees and other marketing expenses.

General and administrative expenses ("G&A")

	Three Months Ended July 31,
	2008			2007			% Change

General and administrative expenses	$	2,229		$	2,072			8	%
As a percent of total revenue		65	%		77	%

G&A increased $157, or 8%, to $2,229 for the three months ended July 31, 2008, from $2,072 for the three months ended July 31, 2007. The increase in G&A is primarily attributed to a $81 increase in the allowance for bad debts, a $60 increase in professional fees and a $99 net increase in other general and administrative expense categories, partially offset by a $83 decrease in compensation and related expenses.

Research and development (“R&D”)

	Three Months Ended July 31,
	2008			2007			% Change

Research and development expenses	$	843		$	518			63	%
As a percent of total revenue		25	%		19	%

R&D increased $325 or 60%, to $843 for the three months ended July 31, 2008, from $518 for the three months ended July 31, 2007. The increase in R&D spending is primarily due to an increase in outside services and spending on product development for our ClearPath™ breast brachytherapy device.

Severance Expense

	Three Months Ended July 31,
	2008			2007			% Change

Severance expenses	$	1,064		$	—			100	%
As a percent of total revenue		31	%		—	%

Severance expense of $1,064 is related to negotiated severance contracts with three employees whose positions with the Company were eliminated.

Interest and other income (expense), net — reflects interest income on our cash balances from overnight sweep activities during the three months ended July 31, 2008, and, for the three months ended July 31, 2007, reflects $162 warrant amortization expense, partially offset by interest income on our cash balances.

Nine months ended July 31, 2008 Compared to Nine months ended July 31, 2007

Total Revenue	Nine months ended July 31,
	2008		2007		% Change

Radiation Sources	$	10,589	$	8,156		30	%

Total revenue increased $2,433 or 30% to $10,589 for the nine months ended July 31, 2008 from $8,156 for the nine months ended July 31, 2007. The increase in our Radiation Sources business primarily reflects both an increase in sales of and shift in product mix to our palladium brachytherapy seeds.

Gross profit

	Nine months ended July 31,
	2008			2007			% Change

Radiation Sources	$	3,512		$	2,028			73	%
(% of Revenue)
Radiation Sources		33	%		25	%		32	%

Gross profit increased $1,484, or 73%, to $3,512 for the nine months ended July 31, 2008 from $2,028 for the nine months ended July 31, 2007. The increase in gross profit is the result of the increases in total revenue as noted above, and to a lesser extent, an approximate $400 reduction in seed production costs as a result of lower material costs and increased efficiency in material usage. The gains in gross profit were somewhat offset by an approximate $1,300 increase in overall costs due to a shift in product mix to palladium seeds sales. Our gross profit as a percent of sales increase 32% to 33% for the nine months ended July 31, 2008 from 25% for the nine months ended July 31, 2007, primarily due to lower average production costs per seed, offset by the change in product mix towards palladium seeds.

Selling and marketing expenses

	Nine months ended July 31,
	2008			2007			% Change

Selling and marketing expenses	$	3,382		$	2,713			25	%
As a percent of total revenue		32	%		33	%

Selling and marketing expenses, comprised primarily of salaries, commissions, and marketing costs, increased $669, or 25%, to $3,382 for the nine months ended July 31, 2008, from $2,713 for the nine months ended July 31, 2007. The increase in selling and marketing expenses is primarily attributed to a $174 increase in research grants provided to qualified organizations, a $202 increase in commissions related to the increased sales of brachytherapy products, a $72 increase in consulting fees, $146 in costs incurred for re-branding and an approximate $75 net increase all other marketing expenses.

General and administrative expenses ("G&A")

	Nine months ended July 31,
	2008			2007			% Change

General and administrative expenses	$	7,634		$	6,516			17	%
As a percent of total revenue		72	%		80	%

G&A increased $1,118, or 17%, to $7,634 for the nine months ended July 31, 2008, from $6,516 for the nine months ended July 31, 2007. The increase in G&A is primarily attributed to a $291 increase in bad debt expense, $88 increase in loan origination fees related to borrowing activities in the first quarter of 2008, a $508 increase in compensation and related expenses, an increase of $80 in travel expenses, $87 increase in share based compensation expense and a $129 net increase in other general and administrative expense categories, partially offset by a $65 decrease in insurance costs as a result of the disposition of the NOMOS operation.

Research and development (“R&D”)

	Nine months ended July 31,
	2008			2007			% Change

Research and development expenses	$	3,282		$	1,282			156	%
As a percent of total revenue		31	%		16	%

R&D increased $2,000 or 156%, to $3,282 for the nine months ended July 31, 2008, from $1,282 for the nine months ended July 31, 2007. The increase in R&D spending is primarily due to a $1,479 increase in spending on product development for our ClearPath™ breast brachytherapy device, a $327 increase in salaries and related employment expenses, a $92 increase in travel expenses and a $102 increase in professional fees relating to new product development.

Severance Expenses

	Nine months ended July 31,
	2008			2007			% Change

Severance expenses	$	1,410		$	—			100	%
As a percent of total revenue		13	%		—	%

Severance expense of $1,410 is related to negotiated severance contracts with three employees whose positions with the Company were eliminated.

Interest and other income (expense), net — increased by $850 to $948 due to an increase in our borrowing activities in the first six months of 2008 and the last half of 2007. Interest expense for the nine months ended July 31, 2008 includes $895 amortization of warrants issued as debt discount in connection with the debt and $53 of cash paid for loan origination and interest on debt.

Adjustment for fair value of derivatives — increased from $0 to $311 as a result of fluctuations recorded in the fair value of warrants issued in connection with our borrowing activities.

Liquidity and Capital Resources

To date, our short-term liquidity needs have generally consisted of working capital to fund our ongoing operations and to finance growth in inventories, trade accounts receivable, new product research and development, capital expenditures, acquisitions and strategic investments in related businesses. We have satisfied these needs primarily through a combination of cash generated by operations, short-term borrowings, public offerings, private placements of our common stock and most recently the sale of certain assets. We expect that we will be able to satisfy our longer term liquidity needs for research and development, capital expenditures, and acquisitions through a combination of cash generated by operations, short-term and long-term borrowings, lines of credit and our ability to raise capital through the sale of our common stock, and/or securities convertible to debt.

To supplement our available cash, on May 28, 2008, we entered into a Ninth Amendment to our previously expired borrowing arrangement with Silicon Valley Bank. The Ninth Amendment provides us with $6,000 available borrowing capacity as follows:

a $3.0 million Growth Capital term loan, to be funded one half in June 2008 and one half no later than September 2008. Interest accrues at the Bank prime rate plus 2.25% and is payable on the outstanding principal balance monthly from the date of the first borrowing. The principal balance of the Growth Capital loan is repayable in equal installments of $83,333 over thirty-six (36) months beginning in the month after the loan is fully funded; and

a $3.0 million revolving credit facility based upon eligible receivables balance as defined by the Ninth Amendment, which is payable monthly. Interest on the revolving credit facility is payable monthly at Bank prime plus 0.50% per annum, and may increase to Bank prime plus 1.5% if we fail to meet the Quick Ratio Test as defined in the Ninth Amendment. The revolving line of credit matures in twenty-four (24) months from the date of signing. The revolving line of credit is subject to certain financial covenants, which cross over to the Growth Capital Loan in the event that both facilities have an outstanding balance on any given month.

The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and liquidation of liabilities in the normal course of business. However, the Company has continued to incur substantial net losses and used substantial amounts of cash. As of July 31, 2008, the Company has an accumulated deficit of $161,533; cash, cash equivalents and marketable securities of $1,667, long-term debt of $1,342 and remaining available financing arrangements of $4,500.

Based on our current operating plans, management believes that the existing cash resources and cash forecasted by management to be generated by operations, as well as our short-term and long-term borrowings, lines of credit and our ability to raise capital through the sale of our common stock and/or securities convertible to debt, will be sufficient to meet working capital and capital requirements through at least the next twelve months. In this regard, we raised additional financing in the first quarter of fiscal 2008 to fund our continuing operations, support the further development and launch of ClearPath™, our unique multicatheter breast brachytherapy device for Accelerated Partial Breast Irradiation, and other activities. In addition, on May 28, 2008, we negotiated a $3,000 term loan and renewed our expired line of credit for $3,000 with a bank and most recently the sale of certain assets. However, there is no assurance that we will be successful with our plans. If events and circumstances occur such that we do not meet our current operating plans, we are unable to raise sufficient additional equity or debt financing, or such financing is insufficient or not available, we may be required to further reduce expenses or take other steps which could have a material adverse effect on our future performance, including but not limited to, the premature sale of some or all of our assets or product lines on undesirable terms, merger with or acquisition by another company on unsatisfactory terms, or the cessation of operations.

We also expect that in future periods new products and services will provide additional cash flow, although no assurance can be given that such cash flow will be realized, and we are presently placing an emphasis on controlling expenses.

As of July 31, 2008, we had cash, and cash equivalents aggregating approximately $1,667, an increase of approximately $1,058 from $609 at October 31, 2007. The increase was primarily attributed to $13,768 net proceeds from the sale of our common stock in January 2008, proceeds of $1,500 from the Growth Capital Loan, partially offset by $3,323 in payment of debt, $9,804 used in operating activities and $1,053 used for capital expenditures.

Cash flows used in operating activities, excluding cash used in discontinued operations, increased $3,036, or 43%, to $10,022 for the nine months ended July 31, 2008 from $6,986 for the nine months ended July 31, 2007, primarily due to

$4,884 million increase in our net loss from continuing operations;

$1,062 decline in collections of accounts receivable due to higher sales volume and extended terms offered to certain customers;

which were partially offset by

$455 reduction in inventory expenditures resulting from lower inventory costs and increased efficiency in inventory usage;

$1,125 increase from accounts payable and accrued liabilities as we attempt to more closely align our expenditures with our collections; and

$1,288 increase generated by non-cash expenses such as the amortization of warrants, the change in fair value of warrant derivative liabilities, share-based compensation expense and the provision for doubtful accounts,

Cash used in discontinued operations during the nine months ended July 31, 2008 reflects the cash generated by the discontinued operations of the non-therapeutic product line, partially offset by payments of legacy accounts payable and accrued liabilities retained by us in accordance with the terms of sale of our NOMOS operation.

Cash used in investing activities decreased $9,246 to $1,053 cash used in investing activities to purchase machinery and equipment relating to research and development activities, from $8,193 cash provided by investing activities from liquidating short-term investments to supply cash to support operations.

Cash provided by financing activities increased $10,509 to $11,915 for the nine months ended July 31, 2008 from $1,406 for the nine months ended July 31, 2007. The increase reflects proceeds from the 2007 Private Placement and proceeds from the Growth Capital Loan, partially offset by the repayment of short-term borrowings from activity prior to closing the 2007 Private Placement.

Critical Accounting Policies

The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States of America requires management to make judgments, assumptions and estimates that affect the amounts reported in the Consolidated Financial Statements included in the Company’s Form 10-K for the year ended October 31, 2007, and accompanying notes. Note 1 to the Consolidated Financial Statements describes the significant accounting policies and methods used in the preparation of the Consolidated Financial Statements. Estimates are used for, but not limited to, the accounting for revenue recognition, allowance for doubtful accounts, goodwill and long-lived asset impairments, loss contingencies, and taxes. Estimates and assumptions about future events and their effects cannot be determined with certainty. We base our estimates on historical experience and on various other assumptions believed to be applicable and reasonable under the circumstances. These estimates may change as new events occur, as additional information is obtained and as our operating environment changes. These changes have historically been minor and have been included in the consolidated financial statements as soon as they became known. The following critical accounting policies are impacted significantly by judgments, assumptions and estimates used in the preparation of the Consolidated Financial Statements and actual results could differ materially from the amounts reported based on these policies.

Accounts Receivable and Allowance for Doubtful Accounts

Accounts receivable are recorded at the invoiced amount and do not bear interest. The allowance for doubtful accounts is our best estimate of the amount of probable credit losses in our existing accounts receivable. We determine the allowance based on historical write-off experience and customer economic data. We review our allowance for doubtful accounts monthly. Past due balances over 60 days and over a specified amount are reviewed individually for collectibility. Account balances are charged off against the allowance when we believe that it is probable the receivable will not be recovered. We do not have any off-balance-sheet credit exposure related to our customers.

Equipment and Leasehold Improvements

Furniture, fixtures and equipment	3-7 years
Leasehold improvements	Lesser of the useful life or term of lease

Long-Lived Assets

Intangible Assets

We review for impairment whenever events and changes in circumstances indicate that such assets might be impaired. If the estimated future cash flows (undiscounted and without interest charges) from the use of an asset are less than the carrying value, a write-down is recorded to reduce the related asset to its estimated fair value.

Derivative Liabilities

The Company issued warrants in connection with its borrowing activities that included an uncertain purchase price. The Company evaluated the warrants under SFAS No. 133 - Accounting for Derivative Instruments and Hedging Activities and Emerging Issues Task Force Issue 00-19 - Accounting for Derivative Financial Indexed to, and Potentially Settled in, a Company’s Own Stock and determined the warrants should be accounted for as derivative liabilities at estimated fair value, and marked-to-market at subsequent measurement dates. The Company used the Black-Scholes option-pricing model to determine the fair value of the derivative liabilities at each measurement date. Key assumptions of the Black-Scholes option-pricing model include applicable volatility rates, risk-free interest rates and the instruments’ expected remaining life. The fluctuations in estimated fair value are recorded as Adjustments to Fair Value of Derivatives in Other Expenses in the Statement of Operations. On December 12, 2007, the uncertain purchase price became certain, and the derivative features were eliminated. See further discussion in Note 8 and Note 9 of the Financial Statements.

Revenue Recognition

We sell products for radiation therapy treatment, primarily brachytherapy seeds used in the treatment of cancer.. We apply the provisions of SEC Staff Accounting Bulletin (“SAB”) No. 104, “ Revenue Recognition ” for the sale of non-software products. SAB No. 104, which supersedes SAB No. 101, “ Revenue Recognition in Financial Statements ”, provides guidance on the recognition, presentation and disclosure of revenue in financial statements. SAB No. 104 outlines the basic criteria that must be met to recognize revenue and provides guidance for the disclosure of revenue recognition policies. In general, we recognize revenue related to product sales when (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred, (iii) the fee is fixed or determinable, and (iv) collectibility is reasonably assured.

Income Taxes

Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The Company has recorded 100% valuation allowance against its deferred tax assets until such time that becomes more likely than not that the Company will realize the benefits of its deferred tax assets. On November 1, 2007, the Company implemented Financial Accounting Standards Board (“FASB”) Interpretation No. 48, “ Accounting for Uncertainty in Income Taxes — An Interpretation of FASB Statement No. 109” .

Stock-based Compensation

We account for our share-based payments under the guidance set forth in SFAS No. 123(R), Share-Based Payment (“SFAS 123(R)”), which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors, including stock options and employee stock purchases related to our Employee Stock Purchase Plan (the “Employee Stock Purchase Plan”), based on their fair values. We also apply the guidance found in SEC Staff Accounting Bulletin No. 107 (“SAB 107”) to with respect to share-based payments and SFAS 123(R).

Under SFAS 123(R), we attribute the value of share-based compensation to expense using the straight-line method. We use a 10% forfeiture rate, and a 40% forfeiture rate for the 2006 Premium Price Awards, under the straight-line method based on historic and estimated future forfeitures.

We use the Black-Scholes option-pricing model for estimating the fair value of options granted. The Black-Scholes option-pricing model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price volatility. We use projected volatility rates, which are based primarily upon historical volatility rates. Because our employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of our options. For purposes of financial statement presentation and pro forma disclosures, the estimated fair values of the options are amortized over the options’ vesting periods.

Recent Accounting Pronouncements

effect of the company’s choice to use fair value on its earnings. It also requires companies to display the fair value of those assets and liabilities for which the company has chosen to use fair value on the face of the balance sheet. The new standard does not eliminate disclosure requirements included in other accounting standards, including requirements for disclosures about fair value measurements included in SFAS 157, “Fair Value Measurements,” and SFAS 107, “Disclosures about Fair Value of Financial Instruments.” SFAS 159 is effective as of the start of fiscal years beginning after November 15, 2007. Early adoption is permitted. The Company is evaluating this standard and therefore has not yet determined the impact that the adoption of SFAS 159 will have on our financial position, results of operations or cash flows.

In March 2007, the FASB ratified Emerging Issues Task Force Issue 06-11, Accounting for Income Tax Benefits of Dividends on Share-Based Payment Awards , (“EITF Issue 06-11” ). Beginning January 1, 2008, the Company adopted EITF Issue 06-11. In accordance with EITF Issue 06-11, the Company records a credit to additional paid-in capital for tax deductions resulting from a dividend payment on non-vested share awards the Company expects to vest. The adoption of EITF Issue 06-11 did not have any impact on the Company’s consolidated financial statement during the quarter ended July 31, 2008.

In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities - an amendment of FASB Statement No. 133 . The new standard is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity’s financial position, financial performance, and cash flows. Entities are required to provide enhanced disclosures about: (a) how and why an entity uses derivative instruments; (b) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and its related interpretations; and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. This standard is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The Company is currently evaluating the impact, if any, SFAS No. 161 will have on its consolidated financial position, results of operations or cash flows.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

Information about market risks for the nine months ended July 31, 2008 does not differ materially from that discussed under Item 7A of the registrant's Annual Report on Form 10-K for the fiscal year ended October 31, 2007.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

As required by Rule 13a-15(b) under the Securities Exchange Act of 1934 (the “Exchange Act”), we have carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer (“CEO”) and, principal financial officer, of the effectiveness, as of the end of the fiscal quarter covered by this report, of the design and operation of our “disclosure controls and procedures” as defined in Rule 13a-15(e) promulgated by the SEC under the Exchange Act. Based upon that evaluation, our CEO concluded that our disclosure controls and procedures, as of the end of such fiscal quarter, were adequate and effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

Changes in Internal Controls

There has been no change in our internal control over financial reporting during the quarter ended July 31, 2008, that has materially affected or is reasonably likely to materially affect our internal control over financial reporting.

PART II – OTHER INFORMATION

The Company was not required to report the information pursuant to Items 1 through 6 of Part II of Form 10-Q except as follows:

Item 1. Legal Proceedings

See Note 11 of Condensed Notes to Consolidated Financial Statements for information regarding legal proceedings.

Item 1A. Risk Factors

We operate in a rapidly changing environment that involves a number of risks, some of which are beyond our control. In addition to other information in this Form 10-Q, you should carefully consider the risks described below before investing in our securities. This discussion highlights some of the risks that may affect future operating results. The risks described below are not the only ones facing us. Additional risks and uncertainties not presently known to us, which we currently deem immaterial or which are similar to those faced by other companies in our industry or business in general, may also impair our business operations. If any of the following risks or uncertainties actually occurs, our business, financial condition and operating results would likely suffer.

We have experienced significant losses and expect to incur losses in the future. As a result, the amount of our cash, cash equivalents, and investments in marketable securities has materially declined. We raised additional equity financing in January 2008 to fund our continuing operations, support the further development and launch of ClearPath and other activities. If we continue to incur significant losses and are unable to access sufficient working capital from our operations or through external financings, we will be unable to fund future operations and operate as a going concern.

We have incurred substantial net losses in each of the last six fiscal years. As reflected in our financial statements, we have experienced net losses of $12.7 million in the nine months ended July 31, 2008, and $21.0 million and $17.1 million in our fiscal years ended October 31, 2007 and 2006, respectively. In addition, we have used cash in operations of $9.8 million in the nine months ended July 31, 2008, and $12.3 million and $15.9 million for our fiscal years ended October 31, 2007 and 2006, respectively. As of July 31, 2008, we had an accumulated deficit of $160.7 million; cash and cash equivalents of $1.7 million, and long-term debt of $1.6 million.

The negative cash flow we have sustained has materially reduced our working capital. Continued negative cash flow could materially and negatively impact our ability to fund future operations and continue to operate as a going concern. Management has taken and continues to take actions intended to improve our results. These actions include sales of certain product lines, reducing cash operating expenses, developing new technologies and products, improving existing technologies and products, and expanding into new geographical markets. The availability of necessary working capital, however, is subject to many factors beyond our control, including our ability to obtain additional financing, our ability to increase revenues and to reduce further our losses from operations, economic cycles, market acceptance of our products, competitors’ responses to our products, the intensity of competition in our markets, and the level of demand for our products.

The amount of working capital that we will need in the future will also depend on our efforts and many factors, including:

Our ability to successfully develop, market and sell our products, including the successful further development and launch of our new ClearPath device for treatment of breast cancer;

Continued scientific progress in our discovery and research programs;

Levels of selling and marketing expenditures that will be required to launch future products and achieve and maintain a competitive position in the marketplace for both existing and new products;

Structuring our businesses in alignment with their revenues to reduce operating losses;

Levels of inventory and accounts receivable that we maintain;

Level of capital expenditures;

Acquisition or development of other businesses, technologies or products;

The time and costs involved in obtaining regulatory approvals;

The costs involved in preparing, filing, prosecuting, maintaining, defending and enforcing patent claims; and

The potential need to develop, acquire or license new technologies and products.

We completed a private placement of $15.5 million of our common stock in January 2008, raising a net $14.0 million; however, we may need to raise additional equity financing, reduce operations and take other steps to achieve positive cash flow.

In September 2008, we sold our non-therapeutic product line, which resulted in immediate cash proceeds of $3.0 million. However, we will no longer generate revenue from the sales of our non-therapeutic products and our revenue will be entirely based on sales of our therapeutic products.

We also may be required to curtail our expenses or to take steps that could hurt our future performance, including but not limited to, the termination of major portions of our research and development activities, the premature sale of some or all of our assets or product lines on undesirable terms, merger with or acquisition by another company on unsatisfactory terms or the cessation of operations. We cannot assure you that we will be successful in these efforts or that any or some of the above factors will not negatively impact us. We believe that we will have or be able to obtain sufficient cash to sustain us at least through the next twelve months.

Future financing transactions will likely have dilutive and other negative effects on our existing stockholders.

In January 2008, we completed a private placement of 12,601,628 shares of our common stock that also included 630,081 shares of common stock issuable upon exercise of warrants. This financing resulted in significant dilution of our current stockholders, such that the three participants in the private placement transaction now control in excess of 70% of our outstanding common stock. If we raise additional equity financing in the future, the percentage ownership held by existing stockholders would be further reduced, and existing stockholders may experience further significant dilution. In addition, new investors may demand rights, preferences or privileges that differ from, or are senior to, those of our existing shareholders, such as warrants in addition to the securities purchased and other protections against future dilutive transactions.

Our stock price currently does not meet the minimum bid price for continued listing on the Nasdaq Capital Market. Our ability to publicly or privately sell equity securities and the liquidity of our common stock could be adversely affected if we are delisted from the Nasdaq Capital Market or if we are unable to transfer our listing to another stock market.

At points during the past 52 weeks, the minimum bid price for our common stock listed on the Nasdaq Capital Market has closed below the $1.00 minimum. On October 5, 2007, we received a notice from Nasdaq, dated October 5, 2007 indicating that for the last 30 consecutive business days, the bid price of our common stock had closed below the minimum $1.00 per share requirement for continued inclusion under Marketplace Rule 4450(a)(5). We were able to regain compliance with the $1 minimum bid requirement by effecting a 1 share for 5 share reverse stock split, which was approved by our stockholders on April 29, 2008 and became effective on May 1, 2008. Our common stock traded at or above the $1.00 minimum bid price for the period May 1, 2008 through May 14, 2008, which marked 10 consecutive trading days in which the closing bid price exceeded the $1.00 minimum. On May 15, 2008, we were notified by Nasdaq that our common stock had regained compliance with the minimum bid price requirements and no further action was required on our part.

On August 20, 2008, we received notice from Nasdaq indicating that for the last 30 consecutive business days, the bid price of the Company’s common stock closed below the minimum $1.00 per share requirement for continued inclusion under Marketplace Rule 4450(a)(5) (the “Rule”). The Company has 180 calendar days, or until February 17, 2009, to regain compliance. If, at anytime before February 17, 2009, the bid price of the Company’s common stock closes at $1.00 per share or more for a minimum of 10 consecutive business days, the Company understands that NASDAQ’s Staff will provide written notification that the Company has achieved compliance with the Rule. If the Company does not regain compliance with the Rule by February 17, 2009, the Company understands that NASDAQ’s Staff will provide written notification that the Company’s common stock will be delisted. At that time, the Company may appeal the Staff’s determination to delist its common stock to a NASDAQ Listing Qualifications Panel.

If our common stock is delisted by Nasdaq, our common stock may be eligible to trade on the American Stock Exchange, the OTC Bulletin Board maintained by Nasdaq, another over-the-counter quotation system, or on the pink sheets where an investor may find it more difficult to dispose of or obtain accurate quotations as to the market value of our common stock, although there can be no assurance that our common stock will be eligible for trading on any alternative exchanges or markets.

In addition, delisting from Nasdaq could adversely affect our ability to raise additional financing through the public or private sale of equity securities. We may need to raise additional financing in fiscal 2008 to fund our continuing operations, support the launch and further development of ClearPath, and other activities. Delisting from Nasdaq also would make trading our common stock more difficult for investors, potentially leading to further declines in our share price. It would also make it more difficult for us to raise additional capital.

Our common stock is subject to continued listing requirements of the Nasdaq Capital Market. Our ability to publicly or privately sell equity securities and the liquidity of our common stock could be adversely affected if we are delisted from the Nasdaq Capital Market.

Beyond the risk of delisting arising from the $1.00 minimum closing bid price requirement, our common stock is subject to a number of other requirements under Maintenance Standards for continued listing on the Nasdaq Capital Market, including but not limited to, a $2.5 million minimum stockholders’ equity under Maintenance Standard 1, as set forth in Marketplace Rule 4310(c)(3). Currently, our $0.8 million of stockholder’s’ equity at July 31, 2008, which balance does not reflect the September 2008 sale of certain assets from our non therapeutic product line, is not sufficient to meet the minimum required under Maintenance Standard 1. However, after including the results of the September 2008 sale of certain assets from our non therapeutic product line, we did have sufficient stockholders' equity to satisfy Maintenance Standard 1.

Delisting from Nasdaq could adversely affect our ability to raise additional financing through the public or private sale of equity securities. We may need to raise additional financing in fiscal 2008 to fund our continuing operations, support the launch and further development of ClearPath, and other activities. Delisting from Nasdaq also would make trading our common stock more difficult for investors, potentially leading to further declines in our share price. It would also make it more difficult for us to raise additional capital.

Success of our ClearPath breast brachytherapy device will be dependent upon a variety of factors.

We previously have announced the introduction of ClearPath, a new brachytherapy device for the treatment of breast cancer. Because we believe that our ClearPath device has certain technical and market advantages, we expect that this device may generate significant revenues in the future. There are a number of factors which could affect our ability to achieve this goal, including:

The successful further development of a commercially marketable device;

The successful launch of a marketing and sales program for this device;

Our ability to protect our intellectual property through patents and licenses and avoid infringement of intellectual property of others;

The successful completion of technical improvements to the device;

Our ability to successfully manufacture production quantities of the device;

The acceptance of the device by physicians and health professionals as an alternative to other approaches to delivering radiation to a cancer patient’s breast tissue or to other products using a similar approach but employing different competitive technologies; and

Our ability to hire and train a direct sales force to sell the device.

We may encounter insurmountable obstacles or incur substantially greater costs and delays than anticipated in the development process.

From time to time, we have experienced setbacks and delays in our research and development efforts and may encounter further obstacles in the course of the development of additional technologies, products and services. We may not be able to overcome these obstacles or may have to expend significant additional funds and time. Technical obstacles and challenges we encounter in our research and development process may result in delays in or abandonment of product commercialization, may substantially increase the costs of development, and may negatively affect our results of operations.

New product developments in the healthcare industry are inherently risky and unpredictable. These risks include:

• failure to prove feasibility;

• time required from proof of feasibility to routine production;

• timing and cost of regulatory approvals and clearances;

• competitors' responses to new product developments;

• manufacturing cost overruns;

• failure to obtain customer acceptance and payment; and

• excess inventory caused by phase-in of new products and phase-out of old products.

The high cost of technological innovation is coupled with rapid and significant change in the regulations governing the products that compete in our market, by industry standards that could change on short notice, and by the introduction of new products and technologies that could render existing products and technologies uncompetitive. We cannot be sure that we will be able to successfully develop new products or enhancements to our existing products. Without successful new product introductions, our revenues likely will continue to suffer, as competition erodes average selling prices. Even if customers accept new or enhanced products, the costs associated with making these products available to customers, as well as our ability to obtain capital to finance such costs, could reduce or prevent us from increasing our operating margins.

All of our product lines are subject to intense competition. Our most significant competitors have greater resources than we do. As a result, we cannot be certain that our competitors will not develop superior technologies, larger more experienced sales forces or otherwise be able to compete against us more effectively. If we fail to maintain our competitive position in key product areas, we may lose or be unable to develop significant sources of revenue.

We believe that our Prospera brachytherapy seeds, our SurTRAK strands and needles and our new ClearPath device can generate substantial revenues in the future. We will need to continue to develop enhancements to these products and improvements on our core technologies in order to compete effectively. Rapid change and technological innovation characterize the marketplace for medical products, and our competitors could develop technologies that are superior to our products or that render such products obsolete. We anticipate that expenditures for research and development will continue to be significant. The domestic and foreign markets for radiation therapy are highly competitive. Many of our competitors and potential competitors have substantial installed bases of products and significantly greater financial, research and development, marketing and other resources than we do. Competition may increase as emerging and established companies enter the field. In addition, the marketplace could conclude that the tasks our products were designed to perform are no longer elements of a generally accepted treatment regimen. This could result in us having to reduce production volumes or discontinue production of one or more of our products.

Our primary competitors in the brachytherapy seed business include: C.R. Bard, Inc. Oncura, and Core Oncology, all of whom manufacture and sell Iodine-125 brachytherapy seeds, as well as distribute Palladium-103 seeds manufactured by a third party (in the case of Oncura and Core Oncology, we currently manufacture a portion of their Palladium-103 seed requirements pursuant to distribution agreements reached with Oncura in July 2005 and with Core Oncology in August 2007); and Theragenics Corporation, which manufacturers Palladium-103 seeds, and sells Palladium-103 and Iodine-125 brachytherapy seeds directly and its Palladium-103 brachytherapy seeds through marketing relationships with third parties. Several additional companies currently sell brachytherapy seeds as well. Our SurTRAK strands and needles are subject to competition from a number of companies, including Worldwide Medical Technologies, Inc.

Our new ClearPath-HDR device for treatment of breast cancer is, like its competitors, designed to connect to a source of high-dose-rate (HDR) radiation, which is administered in a specially shielded room in a hospital. It faces competition from Hologic, Inc., SenoRx, Inc. and Cianna Medical (previously BioLucent, Inc.). The MammoSite RTS device from Hologic, Inc., currently the market leader, uses a balloon and catheter system to place the radiation source directly into the post-lumpectomy cavity. The Contura MLB device developed by SenoRx, Inc. also uses a balloon and catheter system to deliver the radiation dose. The SAVI device manufactured by Cianna Medical does not use a balloon and is comprised of an expandable bundle of 6 catheters.

Our radiation reference source business also is subject to intense competition. Competitors in this industry include AEA Technology PLC and Eckert & Ziegler AG. Eckert & Ziegler purchased our Non-Therapeutic Product Line in September 2008. We believe that these companies have a dominant position in the market for radiation reference source products.

Because we are a relatively small company, there is a risk that potential customers will purchase products from larger manufacturers, even if our products are technically superior, based on the perception that a larger, more established manufacturer may offer greater certainty of continued product improvements, support and service, which could cause our revenues to decline. In addition, many of our competitors are substantially larger and have greater sales, marketing and financial resources than we do. Developments by any of these or other companies or advances by medical researchers at universities, government facilities or private laboratories could render our products obsolete. Moreover, companies with substantially greater financial resources, as well as more extensive experience in research and development, the regulatory approval process, manufacturing and marketing, may be in a better position to seize market opportunities created by technological advances in our industry.

We are highly dependent on our direct sales organization, which is small compared to many of our competitors. Also, we will need to hire and train additional sales representatives to sell our ClearPath device. Any failure to build, manage and maintain our direct sales organization could negatively affect our revenues.

Our current domestic direct sales force is small relative to many of our competitors. There is intense competition for skilled sales and marketing employees, particularly for people who have experience in the radiation oncology market. Accordingly, we could find it difficult to hire or retain skilled individuals to sell our products. Any failure to build our direct sales force could adversely affect our growth and our ability to meet our revenue goals.

As a result of our relatively small sales force the need to hire and train additional sales representatives to sell our ClearPath device, and the intense competition for skilled sales and marketing employees, there can be no assurance that our direct sales and marketing efforts will be successful. If we are not successful in our direct sales and marketing, our sales revenue and results of operations are likely to be materially adversely affected.

We depend partially on our relationships with distributors and other industry participants to market some of our products, and if these relationships are discontinued or if we are unable to develop new relationships, our revenues could decline.

Our 2005 agreement with Oncura, Inc. and our 2007 agreement with Core Oncology, Inc. for distribution of our Palladium-103 brachytherapy seeds are important components of that business. In addition, we do not have a direct sales force for our non-therapeutic radiation source products, and rely entirely on the efforts of agents and distributors for sales of those non-brachytherapy products. We cannot assure you that we will be able to maintain our existing relationships with our agents and distributors for the sale of our Palladium-103 brachytherapy seeds.

We depend partially on our relationships with two large customers that each comprise more than 10% of our revenue. If these relationships are discontinued or if we are unable to develop new relationships, our revenues could decline.

Our sales to Oncura, Inc. comprised more than 10% of our revenue for fiscal 2007. We cannot assure you that we will be able to maintain our existing relationships with our large customers for the sale of our Palladium-103 brachytherapy seeds.

If we are sued for product-related liabilities, the cost could be prohibitive to us.

The testing, marketing and sale of human healthcare products entail an inherent exposure to product liability claims. Third parties may successfully assert product liability claims against us. Although we currently have insurance covering claims against our products, we may not be able to maintain this insurance at acceptable cost in the future, if at all. In addition, our insurance may not be sufficient to cover particularly large claims. Significant product liability claims could result in large and unexpected expenses as well as a costly distraction of management resources and potential negative publicity and reduced demand for our products.

Currently, our revenues are primarily derived from products predominantly used in the treatment of tumors of the prostate. If we do not obtain wider acceptance of our products to treat other types of cancer, our sales could fail to increase and we could fail to achieve our desired growth rate.

Currently, our brachytherapy products are used almost exclusively for the treatment of prostate cancer. Further research, clinical data and years of experience will likely be required before there can be broad acceptance for the use of our brachytherapy products for additional types of cancer. If our products do not become more widely accepted in treating other types of cancer, our sales could fail to increase or could decrease.

We rely on several sole source suppliers and a limited number of other suppliers to provide raw materials and significant components used in our products. A material interruption in supply could prevent or limit our ability to accept and fill orders for our products.

We depend upon a limited number of outside unaffiliated suppliers for our radioisotopes. Our principal suppliers are Nordion International, Inc. and Eckert & Ziegler AG. We also utilize other commercial isotope manufacturers located in the United States and overseas. To date, we have been able to obtain the required radioisotopes for our products without any significant delays or interruptions. Currently, we rely exclusively upon Nordion International for our supply of the Palladium-103 isotope; if Nordion International ceases to supply isotopes in sufficient quantity to meet our needs, there may not be adequate alternative sources of supply. If we lose any of these suppliers (including any single-source supplier), we would be required to find and enter into supply arrangements with one or more replacement suppliers. Obtaining alternative sources of supply could involve significant delays and other costs and these supply sources may not be available to us on reasonable terms or at all. Any disruption of supplies could delay delivery of our products that use radioisotopes, which could adversely affect our business and financial results and could result in lost or deferred sales.

If we are unable to attract and retain qualified employees, we may be unable to meet our growth and revenue needs.

Our success is materially dependent on a limited number of key employees, and, in particular, the continued services of John B. Rush, our president and chief executive officer, Troy A. Barring, our chief operating officer and Brett L. Scott our Senior Vice President and Chief Financial Officer. Our future business and financial results could be adversely affected if the services of Messrs. Rush, Barring, Scott or other key employees cease to be available. To our knowledge, none of our key employees have any plans to retire or leave in the near future.

Our future success and ability to grow our business will depend in part on the continued service of our skilled personnel and our ability to identify, hire and retain additional qualified personnel. Although some employees are bound by a limited non-competition agreement that they sign upon employment, few of our employees are bound by employment contracts, and it is difficult to find qualified personnel, particularly medical physicists and customer service personnel, who are willing to travel extensively. We compete for qualified personnel with medical equipment manufacturers, universities and research institutions. Because the competition for these personnel is intense, costs related to compensation may increase significantly.

Even when we are able to hire a qualified medical physicist, engineer or other technical person, there is a significant training period of up to several months before that person is fully capable of performing the functions we need. This could limit our ability to expand our business.

The medical device industry is characterized by competing intellectual property, and we could be sued for violating the intellectual property rights of others, which may require us to withdraw certain products from the market.

The medical device industry is characterized by a substantial amount of litigation over patent and other intellectual property rights. Our competitors, like companies in many high technology businesses, continually review other companies' products for possible conflicts with their own intellectual property rights. Determining whether a product infringes a patent involves complex legal and factual issues, and the outcome of patent litigation actions is often uncertain. Our competitors could assert that our products and the methods we employ in the use of our products are covered by United States or foreign patent rights held by them. In addition, because patent applications can take many years to issue, there could be applications now pending of which we are unaware, which could later result in issued patents that our products infringe. There could also be existing patents that one or more of our products could inadvertently be infringing of which we are unaware.

While we do not believe that any of our products, services or technologies infringe any valid intellectual property rights of third parties, we may be unaware of third-party intellectual property rights that relate to our products, services or technologies. As the number of competitors in the radiation oncology market grows, and as the number of patents issued in this area grows, the possibility of a patent infringement claim against us going forward increases. We could incur substantial costs and diversion of management resources if we have to assert our patent rights against others. An unfavorable outcome to any litigation could harm us. In addition, we may not be able to detect infringement or may lose competitive position in the market before we do so.

To address patent infringement or other intellectual property claims, we may have to enter into license agreements and technology cross-licenses or agree to pay royalties at a substantial cost to us. We may be unable to obtain necessary licenses. A valid claim against us and our failure to obtain a license for the technology at issue could prevent us from selling our products and materially adversely affect our business, financial results and future prospects.

If we fail to protect our intellectual property rights or if our intellectual property rights do not adequately cover the technologies we employ, or if such rights are declared to be invalid, other companies may take advantage of our technology ideas and more effectively compete directly against us, or we might be forced to discontinue selling certain products.

Our success depends in part on our ability to obtain and enforce patent protections for our products and operate without infringing on the proprietary rights of third parties. We rely on U.S. and foreign patents to protect our intellectual property. We also rely significantly on trade secrets and know-how that we seek to protect. We attempt to protect our intellectual property rights by filing patent applications for new features and products we develop. We enter into confidentiality or license agreements with our employees, consultants, independent contractors and corporate partners, and we seek to control access to our intellectual property and the distribution of our products, documentation and other proprietary information. We plan to continue these methods to protect our intellectual property and our products. These measures may afford only limited protection. In addition, the laws of some foreign countries may not protect our intellectual property rights to the same extent as do the laws of the United States.

If a competitor infringes upon our patent or other intellectual property rights, enforcing those rights could be difficult, expensive and time-consuming, making the outcome uncertain. Competitors could also bring actions or counterclaims attempting to invalidate our patents. Even if we are successful, litigation to enforce our intellectual property rights or to defend our patents against challenge could be costly and could divert our management's attention.

In 2006, we licensed intellectual property which was later the subject of litigation brought by WorldWide Medical Technologies in U.S. District Court against both us and our former employee, Richard Terwilliger, who was previously our Vice-President of New Product Development. This intellectual property relates to our brachytherapy business, specifically, certain needle-loading and stranding technologies. While we do not believe that we have any liability in this matter, and are vigorously defending ourselves in the litigation, we cannot predict what effect an adverse result from this litigation would have on our future sales of the products at issue.

We use radioactive materials which are subject to stringent regulation and which may subject us to liability if accidents occur.

We manufacture and process radioactive materials which are subject to stringent regulation. We operate under licenses issued by the California Department of Health which are renewable every eight years. We received a renewal of our licenses for our North Hollywood and Chatsworth facilities in 2007. California is one of the "Agreement States," which are so named because the Nuclear Regulatory Commission, or NRC, has granted such states regulatory authority over radioactive materials, provided such states have regulatory standards meeting or exceeding the standards imposed by the NRC. Most users of our products must obtain licenses issued by the state in which they reside (if they are Agreement States) or the NRC. Use licenses are also required by some of the foreign jurisdictions in which we may seek to market our products.

Although we believe that our safety procedures for handling and disposing of these radioactive materials comply with the standards prescribed by state and federal regulations, the risk of accidental contamination or injury from these materials cannot be completely eliminated. In the event of such an accident, we could be held liable for any damages that result. We believe we carry reasonably adequate insurance to cover us in the event of any damages resulting from the use of hazardous materials.

As part of the sale of our Non-Therapeutic Product Line in September 2007 , we will be closing our North Hollywood facility and h a ve agreed to decommission the site at our expense . While we believe that our current reserves for decommissioning costs are adequate , the actual costs may exceed such estimate .

Healthcare reforms, changes in health-care policies and unfavorable changes to third-party reimbursements for use of our products could cause declines in the revenues of our products, and could hamper the introduction of new products.

Hospitals and freestanding clinics may be less likely to purchase our products if they cannot be assured of receiving favorable reimbursement for treatments using our products from third-party payors, such as Medicare, Medicaid and private health insurance plans. Generally speaking, Medicare pays hospitals, freestanding clinics and physicians a fixed amount for services using our products, regardless of the costs incurred by those providers in furnishing the services. Such providers may perceive the set reimbursement amounts as inadequate to compensate for the costs incurred and thus may be reluctant to furnish the services for which our products are designed. Moreover, third-party payors are increasingly challenging the pricing of medical procedures or limiting or prohibiting reimbursement for some services or devices, and we cannot be sure that they will reimburse our customers at levels sufficient to enable us to achieve or maintain sales and price levels for our products. There is no uniform policy on reimbursement among third-party payors, and we can provide no assurance that procedures using our products will qualify for reimbursement from third-party payors or that reimbursement rates will not be reduced or eliminated. A reduction in or elimination of third-party payor reimbursement for treatments using our products would likely have a material adverse effect on our revenues.

Furthermore, any federal and state efforts to reform government and private healthcare insurance programs could significantly affect the purchase of healthcare services and products in general and demand for our products in particular. We are unable to predict whether potential reforms will be enacted, whether other healthcare legislation or regulation affecting the business may be proposed or enacted in the future or what effect any such legislation or regulation would have on our business, financial condition or results of operations.

The federal Medicare program currently reimburses hospitals and freestanding clinics for brachytherapy treatments. Medicare reimbursement amounts typically are reviewed and adjusted at least annually. Medicare reimbursement policies are reviewed and revised on an ad hoc basis. Adjustments could be made to these reimbursement policies or amounts, which could result in reduced or no reimbursement for brachytherapy services. Changes in Medicare reimbursement policies or amounts affecting hospitals and freestanding clinics could negatively affect market demand for our products.

Medicare reimbursement amounts for seeding are currently significantly less than for radical prostatectomy, or RP. Although seeding generally requires less physician time than RP, lower reimbursement amounts, when combined with physician familiarity with RP, may create disincentives for urologists to perform seeding.

Private third-party payors often adopt Medicare reimbursement policies and payment amounts. As such, Medicare reimbursement policy and payment amount changes concerning our products also could be extended to private third-party payor reimbursement policies and amounts and could affect demand for our products in those markets as well.

Acceptance of our products in foreign markets could be affected by the availability of adequate reimbursement or funding, as the case may be, within prevailing healthcare payment systems. Reimbursement, funding and healthcare payment systems vary significantly by country and include both government-sponsored healthcare and private insurance. We can provide no assurance that third-party reimbursement will be made available with respect to treatments using our products under any foreign reimbursement system.

Problems with any of these reimbursement systems that adversely affect demand for our products could cause our revenues from our products to decline and our business to suffer.

Also, we, our distributors and healthcare providers performing radiation therapy procedures are subject to state and federal fraud and abuse laws prohibiting kickbacks and, in the case of physicians, patient self-referrals. We may be subjected to civil and criminal penalties if we or our agents violate any of these prohibitions.

We are subject to extensive government regulation applicable to the manufacture and distribution of our products. Complying with the Food And Drug Administration and other domestic and foreign regulatory bodies is an expensive and time-consuming process, whose outcome can be difficult to predict. If we fail or are delayed in obtaining regulatory approvals or fail to comply with applicable regulations, we may be unable to market and distribute our products or may be subject to civil or criminal penalties.

We and some of our suppliers and distributors are subject to extensive and rigorous government regulation of the manufacture and distribution of our products, both in the United States and in foreign countries. Compliance with these laws and regulations is expensive and time-consuming, and changes to or failure to comply with these laws and regulations, or adoption of new laws and regulations, could adversely affect our business.

In the United States, as a manufacturer and seller of medical devices and devices utilizing radioactive by-product material, we and some of our suppliers and distributors are subject to extensive regulation by federal governmental authorities, such as the United States Food and Drug Administration, or FDA, and state and local regulatory agencies, such as the State of California, to ensure such devices are safe and effective. Such regulations, which include the U.S. Food, Drug and Cosmetic Act, or the FDC Act, and regulations promulgated by the FDA, govern the design, development, testing, manufacturing, packaging, labeling, distribution, import/export, possession, marketing, disposal, clinical investigations involving humans, sale and marketing of medical devices, post-market surveillance, repairs, replacements, recalls and other matters relating to medical devices, radiation producing devices and devices utilizing radioactive by-product material. State regulations are extensive and vary from state to state. Our brachytherapy seeds constitute medical devices subject to these regulations. Future products in any of our business segments may constitute medical devices and be subject to regulation as such. These laws require that manufacturers adhere to certain standards designed to ensure that the medical devices are safe and effective. Under the FDC Act, each medical device manufacturer must comply with requirements applicable to manufacturing practices.

In the United States, medical devices are classified into three different categories, over which the FDA applies increasing levels of regulation: Class I, Class II and Class III. The FDA has classified all of our brachytherapy products as Class I devices. Before a new device can be introduced into the United States market, the manufacturer must obtain FDA clearance or approval through either a 510(k) premarket notification or a premarket approval, unless the product is otherwise exempt from the requirements. Class I devices are statutorily exempt from the 510(k) process, unless the device is intended for a use which is of substantial importance in preventing impairment of human health or it presents a potential unreasonable risk of illness or injury.

A 510(k) premarket notification clearance will typically be granted for a device that is substantially equivalent to a legally marketed Class I or Class II medical device or a Class III medical device for which the FDA has not yet required submission of a premarket approval. A 510(k) premarket notification must contain information supporting the claim of substantial equivalence, which may include laboratory results or the results of clinical studies. Following submission of a 510(k) premarket notification, a company may not market the device for clinical use until the FDA finds the product is substantially equivalent for a specific or general intended use. FDA clearance generally takes from four to twelve months, but it may take longer, and there is no assurance that the FDA will ultimately grant a clearance. The FDA may determine that a device is not substantially equivalent and require submission and approval of a premarket approval or require further information before it is able to make a determination regarding substantial equivalence.

Most of the products that we are currently marketing have received clearances from the FDA through the 510(k) premarket notification process. For any devices already cleared through the 510(k) process, modifications or enhancements that could significantly affect safety or effectiveness, or constitute a major change in intended use require a new 510(k) submission and a separate FDA determination of substantial equivalence. We have made minor modifications to our products and, using the guidelines established by the FDA, have determined that these modifications do not require us to file new 510(k) submissions. If the FDA disagrees with our determinations, we may not be able to sell one or more of our products until the FDA has cleared new 510(k) submissions for these modifications, and there is no assurance that the FDA will ultimately grant a clearance. In addition, the FDA may determine that future products require the more costly, lengthy and uncertain premarket approval process under Section 515 of the FDC. The approval process under Section 515 generally takes from one to three years, but in many cases can take even longer, and there can be no assurance that any approval will be granted on a timely basis, if at all. Under the premarket approval process, an applicant must generally conduct at least one clinical investigation and submit extensive supporting data and clinical information establishing the safety and effectiveness of the device, as well as extensive manufacturing information. Clinical investigations themselves are typically lengthy and expensive, closely regulated and frequently require prior FDA clearance. Even if clinical investigations are conducted, there is no assurance that they will support the claims for the product. If the FDA requires us to submit a new pre-market notification under Section 510(k) for modifications to our existing products, or if the FDA requires us to go through the lengthier, more rigorous Section 515 pre-market approval process, our product introductions or modifications could be delayed or cancelled, which could cause our revenues to be below expectations.

In addition to FDA-required market clearances and approvals, our manufacturing operations are required to comply with the FDA's Quality System Regulation, or QSR, which addresses the quality program requirements, such as a company's management responsibility for the company's quality systems, and good manufacturing practices, product design, controls, methods, facilities and quality assurance controls used in manufacturing, assembly, packing, storing and installing medical devices. Compliance with the QSR is necessary to receive FDA clearance or approval to market new products and is necessary for us to be able to continue to market cleared or approved product offerings. There can be no assurance that we will not incur significant costs to comply with these regulations in the future or that the regulations will not have a material adverse effect on our business, financial condition and results of operations. Our compliance and the compliance by some of our suppliers with applicable regulatory requirements are and will continue to be monitored through periodic inspections by the FDA. The FDA makes announced and unannounced inspections to determine compliance with the QSR's and may issue us 483 reports listing instances where we have failed to comply with applicable regulations and/or procedures or Warning Letters which, if not adequately responded to, could lead to enforcement actions against us, including fines, the total shutdown of our production facilities and criminal prosecution.

If we or any of our suppliers fail to comply with FDA requirements, the FDA can institute a wide variety of enforcement actions, ranging from a public warning letter to more severe sanctions such as:

• fines, injunctions and civil penalties;

• the recall or seizure of our products;

• the imposition of operating restrictions, partial suspension or total shutdown of production;

• the refusal of our requests for 510(k) clearance or pre-market approval of new products;

• the withdrawal of 510(k) clearance or pre-market approvals already granted; and

• criminal prosecution.

Similar consequences could arise from our failure, or the failure by any of our suppliers, to comply with applicable foreign laws and regulations. Foreign regulatory requirements vary by country. In general, our products are regulated outside the United States as medical devices by foreign governmental agencies similar to the FDA. However, the time and cost required to obtain regulatory approvals from foreign countries could be longer than that required for FDA clearance and the requirements for licensing a product in another country may differ significantly from the FDA requirements. We rely, in part, on our foreign distributors to assist us in complying with foreign regulatory requirements. We may not be able to obtain these approvals without incurring significant expenses or at all, and the failure to obtain these approvals would prevent us from selling our products in the applicable countries. This could limit our sales and growth.

Our future growth depends, in part, on our ability to penetrate foreign markets, particularly in Asia and Europe. However, we have encountered difficulties in gaining acceptance of our products in foreign markets, where we have limited experience marketing, servicing and distributing our products, and where we will be subject to additional regulatory burdens and other risks.

Our future profitability will depend in part on our ability to establish, grow and ultimately maintain our product sales in foreign markets, particularly in Asia and Europe. However, we have limited experience in marketing, servicing and distributing our products in other countries. In fiscal 2007 and the first nine months of fiscal 2008, less than 5% of our product revenues and less than 5% of our total revenues were derived from sales to customers outside the United States and Canada. Our foreign operations subject us to additional risks and uncertainties, including:

our customers' ability to obtain reimbursement for procedures using our products in foreign markets;

the burden of complying with complex and changing foreign regulatory requirements;

language barriers and other difficulties in providing long-range customer support and service;

longer accounts receivable collection times;

significant currency fluctuations, which could cause our distributors to reduce the number of products they purchase from us because the cost of our products to them could fluctuate relative to the price they can charge their customers;

reduced protection of intellectual property rights in some foreign countries; and

the interpretation of contractual provisions governed by foreign laws in the event of a contract dispute.

Our foreign sales of our products could also be adversely affected by export license requirements, the imposition of governmental controls, political and economic instability, trade restrictions, changes in tariffs and difficulties in staffing and managing foreign operations. In addition, we are subject to the Foreign Corrupt Practices Act, any violation of which could create a substantial liability for us and also cause a loss of reputation in the market.

As part of our business strategy, we intend to pursue transactions that may cause us to experience significant

charges to earnings that may adversely affect our stock price and financial condition.

We regularly review potential transactions related to technologies, product candidates or product rights and businesses complementary to our business. Such transactions could include mergers, acquisitions, strategic alliances, licensing agreements or co-promotion agreements. Our acquisition of Theseus Imaging Corporation in October 2000 and the acquisition of NOMOS, in May 2004, are examples of such transactions. In the future, if we have sufficient available capital, we may choose to enter into such transactions. We may not be able to successfully integrate newly acquired organizations, products or technologies into our business and the process could be expensive and time consuming and may strain our resources. Depending upon the nature of any transaction, we may experience a charge to earnings which could be material.

Operating results for a particular period may fluctuate and are difficult to predict.

The results of operations for any fiscal quarter or fiscal year are not necessarily indicative of results to be expected in future periods. Our operating results have in the past been, and will continue to be, subject to quarterly and annual fluctuations as a result of a number of factors. As a consequence, operating results for a particular future period are difficult to predict. Such factors include the following:

Our net sales may grow at a slower rate than experienced in previous periods and, in particular periods, may decline;

Our future sales growth is highly dependent on the successful introduction of our ClearPath device;

Our brachytherapy product lines may experience some variability in revenue due to seasonality. This is primarily due to three major holidays occurring in our first fiscal quarter and the apparent reduction in the number of procedures performed during summer months, which could affect our third fiscal quarter results;

Estimates with respect to the useful life and ultimate recoverability of our carrying basis of assets, including goodwill and purchased intangible assets, could change as a result of such assessments and decisions;

As a result of our growth in past periods, our fixed costs have increased. With increased levels of spending and the impact of long-term commitments, we may not be able to quickly reduce these fixed expenses in response to short-term business changes;

Acquisitions that result in in-process research and development expenses may be charged fully in an individual quarter;

Changes or anticipated change in third-party reimbursement amounts or policies applicable to treatments using our products;

Timing of the announcement, introduction and delivery of new products or product enhancements by us and by our competitors;

The possibility that unexpected levels of cancellations of orders or backlog may affect certain assumptions upon which we base our forecasts and predictions of future performance;

Changes in the general economic conditions in the regions in which we do business;

Unfavorable outcome of any litigation; and

Accounting adjustments such as those relating to reserves for product recalls, stock option expensing as required under SFAS No. 123R and changes in interpretation of accounting pronouncements

Being a public company significantly increases our administrative costs.

The Sarbanes-Oxley Act of 2002, as well as rules subsequently implemented by the SEC and listing requirements subsequently adopted by NASDAQ in response to Sarbanes-Oxley, have required changes in corporate governance practices, internal control policies and audit committee practices of public companies. These rules, regulations and requirements have significantly increased our legal, financial, compliance and administrative costs, and have made certain other activities more time consuming and costly, as well as requiring substantial time and attention of our senior management. We expect our continued compliance with these and future rules and regulations to continue to require significant resources. These new rules and regulations also may make it more difficult and more expensive for us to obtain director and officer liability insurance in the future, and could make it more difficult for us to attract and retain qualified members for our Board of Directors, particularly to serve on our audit committee.

Our publicly-filed SEC reports are reviewed by the SEC from time to time and any significant changes required as a result of any such review may result in material liability to us and have a material adverse impact on the trading price of our common stock.

The reports of publicly-traded companies are subject to review by the SEC from time to time for the purpose of assisting companies in complying with applicable disclosure requirements and to enhance the overall effectiveness of companies public filings, and comprehensive reviews of such reports are now required at least every three years under the Sarbanes-Oxley Act of 2002. While we believe that our previously-filed SEC reports comply, and while we intend that all future reports will comply in all material respects with the published rules and regulations of the SEC, we could be required to modify or reformulate information contained in prior filings as a result of an SEC review. Any modification or reformulation of information contained in such reports could be significant and result in material liability to us and have a material adverse impact on the trading price of our common stock.

Market volatility and fluctuations in our stock price and trading volume may cause sudden decreases in the value of an investment in our common stock.

The market price of our common stock has historically been, and we expect it to continue to be, volatile. The price of our common stock has ranged between $0.50 and $5.65 per share in the fifty-two week period ended July 31, 2008. The stock market has from time to time experienced extreme price and volume fluctuations, particularly in the medical device sector, which have often been unrelated to the operating performance of particular companies. Factors such as announcements of technological innovations or new products by our competitors or disappointing results by third parties, as well as market conditions in our industry, may significantly influence the market price of our common stock. Our stock price has also been affected by our own public announcements regarding such things as quarterly sales and earnings. Consequently, events both within and beyond our control may cause shares of our stock to lose their value rapidly.

In addition, sales of a substantial number of shares of our common stock by stockholders could adversely affect the market price of our shares. In connection with our January 2008 sale of common stock and accompanying warrants, we intend to file resale registration statements covering an aggregate of up to 12,601,628 shares of common stock and 630,081 shares of common stock issuable upon exercise of warrants for the benefit of the selling security holders. The actual or anticipated resale by such investors under these registration statements may depress the market price of our common stock. Bulk sales of shares of our common stock in a short period of time could also cause the market price for our shares to decline.

Item 6. Exhibits

(a) Exhibits.

Exhibits No.		Title

3.1		Amended and Restated Certificate of Incorporation of the Company, as amended on April 30, 2008 by the Certificate of Amendment of Amended Certificate of Incorporation, incorporated by reference to Exhibit 3.1 to the Company’s Quarterly Report on Form 10-Q, filed on June 16, 2008.
3.2		Bylaws of the Company, (as amended December 5, 2007), incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K, filed on December 11, 2007.
10.1		Ninth Amendment to Loan and Security Agreement, dated as of May 28, 2008, by and among the Company, North American Scientific, Inc., a California corporation and Silicon Valley Bank, incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed on June 16, 2008.
10.2		Form of Warrant to purchase common stock of Company, incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, filed on June 16, 2008.
31.1		Certification of Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2		Certification of Principal Financial Officer pursuant to Rule 13a-14(a)/15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1		Certification of Chief Executive Officer and Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

NORTH AMERICAN SCIENTIFIC, INC.

September 12, 2008	By:	/s/ John B. Rush
		Name:	John B. Rush
		Title:	President,
			Chief Executive Officer and
			Acting Chief Financial Officer
			(Principal Executive Officer) and
			(Principal Financial Officer)

Exhibit Index

Exhibit #
3.1		Amended and Restated Certificate of Incorporation of the Company, as amended on April 30, 2008 by the Certificate of Amendment of Amended Certificate of Incorporation, incorporated by reference to Exhibit 3.1 to the Company’s Quarterly Report on Form 10-Q, filed on June 16, 2008.

3.2		Bylaws of the Company, (as amended December 5, 2007), incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K, filed on December 11, 2007.

10.1		Ninth Amendment to Loan and Security Agreement, dated as of May 28, 2008, by and among the Company, North American Scientific, Inc., a California corporation and Silicon Valley Bank, incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed on June 16, 2008.

10.2		Form of Warrant to purchase common stock of Company, incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, filed on June 16, 2008.

31.1		Certification of Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2		Certification of Principal Financial Officer pursuant to Rule 13a-14(a)/15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1		Certification of Chief Executive Officer and Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.