First Quarter Report - Bioniche

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First Quarter Report - Bioniche Powered By Docstoc
					Letter to Shareholders
Dear Fellow Shareholders,
The most significant reportable events for the Company actually occurred subsequent to the end of
the quarter (September 30, 2006); namely, the start of our Phase III clinical trial using Urocidin in
the treatment of bladder cancer patients; and the decision to liquidate further non-core assets to
support our Phase III bladder cancer program.
First Patient Treated with Urocidin in Phase III Trial
We were pleased to announce – on November 8, 2006 – that the first patient has been treated in
our Phase III clinical trial with Urocidin. In this trial, 105 non-muscle invasive bladder cancer
patients who are refractory (unresponsive) to the current standard therapy (BCG) will receive
Urocidin in an open label, North American study. The protocol for this trial has been granted
“Fast Track” status by the U.S. Food and Drug Administration (FDA), meaning that the results
will receive expedited review by the FDA. A total of 25 centres have committed to participate in
this refractory study. The investigators include some of the most published and well-known North
American urologists involved in treating bladder cancer.
The FDA also approved a second Phase III trial with Urocidin in the treatment of patients with
non-muscle invasive bladder cancer who have received no previous treatment. This comparative,
double-blind trial will involve approximately 700 patients in North America and Europe and is
expected to begin in 2007. We expect this study to demonstrate that Urocidin is superior to BCG
in terms of safety and is at least as efficacious.

We continue to spend a significant amount of time in discussions with major pharmaceutical
companies about a potential marketing partnership for Urocidin. A number of companies have
expressed an interest in working with Bioniche to market this technology, and we trust that a
partnership can be successfully struck at the earliest opportunity. Ferghana Partners, an
international provider of high level, independent corporate financial advice to firms in the
biotechnology, pharmaceuticals, diagnostics and specialty chemicals industries, has been retained
as agent in this partnering transaction.

The start of our refractory study is an important milestone for the Company. The level of interest
and enthusiasm shown by our clinical trial sites throughout North America leads us to expect
recruitment to be completed quickly. We are pleased to be progressing toward introducing
Urocidin as a safe and effective treatment for bladder cancer patients, improving their quality of
life.

The study now underway uses the Company’s proprietary Mycobacterial Cell Wall-DNA
Complex (MCC – trademarked Urocidin) for the treatment of non-muscle invasive bladder cancer
in patients who are refractory (unresponsive) to Bacillus Calmette-Guérin (BCG), a live,
attenuated strain of Mycobacterium bovis and the current standard therapy. BCG therapy can result
in treatment-limiting side effects in some patients.

About MCC
Mycobacterial Cell Wall-DNA Complex (MCC) is a composition prepared from Mycobacterium
phlei, a saprophytic mycobacterium. MCC has immune stimulatory as well as apoptosis
(programmed cell death) inducing activity against cancer cells. Urocidin is a formulation of MCC
for the treatment of high-grade non-invasive bladder cancer. Urocidin is produced at the Bioniche
manufacturing facility in Pointe-Claire, Québec.

About Bladder Cancer
Bladder cancer is the seventh most common cancer malignancy worldwide (fourth most common
in men) and is a life-long disease. Non-muscle invasive, the most common form of bladder cancer,


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is frequently treated with local surgery and, depending on the severity of the cancer, with
immunotherapy or chemotherapy (adjuvant treatment) to prevent recurrence.

An estimated 203,000 new cases of bladder cancer are diagnosed each year in the United States
and Europe. Approximately 70% of these (140,000) are diagnosed with non-muscle invasive
bladder cancer and between 50–60% will have a recurrence in their lifetime. More than 13,000
deaths per year (2005) are attributed to bladder cancer in North America alone. The 10- and 20-
year survival rates of patients with aggressive grade 3 tumors are 35% and 28%, respectively. The
risk of bladder cancer increases with age. More than 60% of people with bladder cancer are
between 65 and 85 years old. The average age at diagnosis is between 70 and 75 years.

As a result of long-term survival, continued treatment, and the need for lifelong routine
monitoring, the cost per bladder cancer patient from diagnosis to death is the highest of all
cancers—ranging from $96,000 to $187,000. Overall, bladder cancer is the fifth most expensive
cancer to the healthcare system in terms of total medical expenditures, accounting for almost $3.7
billion (2001 values) in direct costs in the United States.

An unmet need exists for the treatment of high risk non-muscle invasive bladder cancer where
BCG is currently the standard of care. Toxicity associated with the use of BCG frequently limits
the ability of a patient to continue a treatment, and maintenance therapy is discontinued in over
80% of cases. BCG-induced cystitis, which affects more than 45% of treated patients, is one of the
main reasons that patients halt therapy. Although uncommon, treatment with BCG may result in
disseminated sepsis, which requires aggressive treatment with antimicrobial agents and may result
in death.

Bioniche management estimates the market potential for Urocidin to be from $500 million to $1.5
billion USD, dependent upon pricing and market share.

Liquidation of Further Non-Core Assets

The Company has agreed with Bioniche Pharma Holdings Limited and the shareholders of that
company to sell its 10% ownership position in Bioniche Pharma Holdings and its annual royalty
payments for each of the next five years related to sales of Suplasyn® for a total of $6 million
USD. Suplasyn® is a proprietary product for the treatment of osteoarthritis in human joints that
was developed by the Company.

The Board has deemed these two assets as “non-core” in the context of corporate priorities. The
proceeds generated from their sale will be used to support the Company’s strategic research and
development projects, including partial repayment of its outstanding debt facilities.

After the sale of the above two assets, Bioniche will retain its potential earnout payments that
relate to certain Bioniche Pharma Holdings performance targets.

The Company expects the transaction to be completed in December, 2006.

E. coli O157:H7 Cattle Vaccine
The Canadian regulator of the E. coli O157:H7 vaccine, the Canadian Food Inspection Agency
(CFIA), advised the Company on November 3, 2006 that it is proceeding with the ongoing review
and approval of the licensing documentation for this product. CFIA indicated that incoming
documentation will be reviewed on a high priority basis, in collaboration with Health Canada.


Health Canada had raised concerns about potential health risks associated with accidental injection
of the vaccine into the administrator. In order to provide the requested data to the CFIA, Bioniche
agreed to conduct an additional animal safety study. The regulator suggested the best model for
this study would be baboons. However, the Company found published information about a piglet


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model, with which it has conducted a small study. The data from this study were submitted to the
CFIA and Health Canada for review.

In its letter to Bioniche, the CFIA stated, “We will be working closely with Bioniche’s
manufacturing and quality assurance representatives to establish manufacturing and testing
protocols to fulfill the Canadian regulatory requirements, as well as conforming with international
standards where applicable, to facilitate export certification for vaccine manufactured in Canada.”
This vaccine – a Canadian technology – has been in development since 2000. Bioniche has
invested more than $13 million to develop this sophisticated technology to its current stage.
More than 30,000 cattle have been vaccinated with Bioniche’s vaccine over the past four years,
with studies consistently showing a decrease in the number of cattle shedding these deadly
bacteria in their manure and colonizing the bacteria in their rectal junction.
In the U.S., the vaccine is undergoing an efficacy study that is being completed with United States
Food and Drug Administration (USDA) approval of the protocol. Data from this study will be
compiled and submitted to the USDA at the earliest opportunity following the study’s conclusion.

About E. coli O157:H7
Escherichia coli (E. coli) bacteria are normal organisms found in the intestinal track of all animals
and humans. Most E. coli are non-pathogenic (non-disease-causing) to their host, however certain
strains can cause intestinal disease and, occasionally, other significant systemic disease. The E.
coli O157:H7 bacterium, which was first identified in South America and drifted northward,
produces a powerful toxin that can cause severe illness in humans and often result from
consumption of contaminated food or water. Ruminant livestock (e.g. cattle) are considered the
major reservoir of E. coli O157:H7 worldwide. Numerous studies have demonstrated that the
incidence of E. coli O157:H7 in beef and dairy cattle is widespread and that the organism is found
in, on, and around cattle in all parts of the world. Use of manure as fertilizer for crop production
and run-off from beef and dairy cattle operations are a source of contamination for the general
environment, as well as surface and ground water. E. coli O157:H7 contamination of food and
water as a result of fecal shedding by livestock is a well-recognized and documented threat to
human health.

E. coli O157:H7 Outbreaks
The first major foodborne outbreak of E. coli O157:H7 occurred in 1982 and was associated with
ground beef. Since that time, the meat industry and the United States Department of Agriculture
(USDA) have invested hundreds of millions of dollars in equipment, testing, and training in an
effort to eliminate the organism from commercial product. Their efforts have been successful in
significantly reducing the amount of E. coli O157:H7 leaving slaughter facilities. However, meat
packers (slaughter houses) continue to absorb losses due to contamination of the meat that is
contained in the plant, from the occasional recall or foodborne outbreak associated with
commercial product, and from litigation arising out of foodborne disease outbreaks. In addition to
beef-related outbreaks, human exposure to E. coli O157:H7 has been associated with contaminated
fruit, vegetables (e.g., recent outbreak related to spinach in the U.S.), unpasteurized milk and fruit
juice, potable and recreational water, and from direct contact with animals at fairs and petting
zoos.
Domestic ruminants (e.g., cattle, sheep, goats) are considered the primary source of E. coli
O157:H7. Surveys of cattle in U.S. feedyards have shown virtually 100% of feedyards have up to
40% of animals in any given pen that are positive for E. coli O157:H7. Surveys of cattle, sheep
and goats at livestock shows and fairs yielded similar results. Colonization by the organism causes
no overt disease in ruminants. However, ingestion of as few as 10 organisms can result in severe
debilitating life long disease and/or death in humans, particularly the young, the old and the
immunocompromised.

Research Collaborations
The original research in connection with the E. coli O157:H7 vaccine was performed by Dr. Brett
Finlay at the University of British Columbia and Dr. Andrew Potter at Vaccine & Infectious
                                                                                                    3
Disease Organization (VIDO). The Company became involved after the proof of concept had been
established, and in conjunction with Alberta Research Council, performed the development work
on the vaccine. The Company has entered into various agreements with researchers to conduct
studies to be used for regulatory purposes in connection with the E. coli O157:H7 vaccine.
The Company, in partnership with the Vaccine & Infectious Disease Organization (VIDO) at the
University of Saskatchewan and the Natural Science and Engineering Research Canada, has
sponsored two research positions — Natural Science and Engineering Research Canada (NSERC)/
Bioniche Industrial Research Chairs — in vaccines to reduce food and water contamination. Dr.
Andy Potter (Senior Chair) and Dr. Wolfgang Köster (Associate Chair) have been appointed to
these positions. The Research Chairs were established to undertake research leading to the
development of additional food safety vaccines to fight infectious diseases of animals, including
Salmonella enteritidis, Campylobacter jejuni, and Cryptosporidium parvum. These three animal-
to-human-transmitted pathogens cause illnesses that can be serious and, in some cases, fatal.
Salmonella can lead to reactive arthritis and serious infections; and Campylobacter may be the
most common precipitating factor for Guillain-Barré syndrome, according to the Partnership for
Food Safety Education.
Quarterly Financial Statements
You will notice a change in the format of our quarterly financial statement. This has been done as
a cost and time-saving initiative. We welcome your feedback on this new approach.

Outlook for Remainder of 2007
The Company experienced an ongoing challenge in its financial condition and liquidity during
Fiscal 2006 and this challenge has continued in the first quarter of Fiscal 2007. Management
expects operating losses to increase in Fiscal 2007 as we start our Phase III trials with MCC for
bladder cancer.
Management is currently pursuing several financing alternatives with the support of the Board of
Directors. These alternatives include liquidating the non-core Pharma assets as previously
identified; completing a partnership deal to support our Phase III development program for
Urocidin; raising additional debt, preferred or common equity; and finding strategic financing
partners to support the animal health business.
The Company continues to pursue our value creation objectives. Such goals include conducting
our two Phase III clinical trials in bladder cancer, securing corporate partnerships for our MCC
technology platform in bladder and other cancers, and obtaining registrations for our E. coli
O157:H7 cattle vaccine. We will continue to update you on our progress with these matters to the
extent permitted by our regulators and business partners.
We look forward to your continuing support as we progress toward the completion of our priority
projects.
Sincerely,




Graeme McRae
President & CEO




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MANAGEMENT’S DISCUSSION & ANALYSIS OF FINANCIAL CONDITIONS AND
RESULTS FROM OPERATIONS

For the Quarter Ending September 30, 2006

The following discussion and analysis is the responsibility of management and should be read in
conjunction with the accompanying interim consolidated financial statements and associated notes
as at September 30, 2006, as well as the audited consolidated financial statements and
Management’s Discussion and Analysis for the year ended June 30, 2006. The Company’s
unaudited consolidated interim financial statements have been prepared in accordance with
Canadian generally accepted accounting principles (“GAAP”) for interim financial statements.
This review was performed by management with information available as at November 7, 2006.

The discussion in this report contains forward-looking statements that involve risks and
uncertainties, such as statements of the Company’s plans, objectives, expectations, and intentions.
The cautionary statements made in this report should be read as applying to all related forward
looking statements wherever they appear in this report. The Company’s future results could differ
materially from those discussed here. Factors that could cause or contribute to these differences
include those discussed in “Risks and Uncertainties”. All amounts are in Canadian dollars unless
otherwise indicated.

Overview

Bioniche is a research-based, technology-driven Canadian biopharmaceutical company that
discovers, develops, manufactures, and markets proprietary products for human and animal health
markets worldwide. The fully-integrated Company employs approximately 188 people and has
three reporting segments: Human Health, Animal Health, and Food Safety. Corporate headquarters
are located in Belleville, Ontario, Canada with research, manufacturing, marketing/sales and/or
distribution facilities in Belleville, Ontario; Montréal, Québec; Athens, Georgia; Pullman,
Washington; Galway, Ireland; and Armidale, Australia. Bioniche has a presence in the global
marketplace, as well as a portfolio of products and technologies in development that promise to
have a profound impact on the converging worlds of human and animal health. Bioniche has
several areas of strategic focus, including the development of effective therapies for bladder
cancer and potentially other cancers; a cattle vaccine to help prevent E. coli O157:H7
contamination of food, water and the environment; technologies to improve livestock
reproduction; and technologies that could replace the use of antibiotics in livestock.

The Company has a three-fold strategy. First, it takes existing proprietary technologies and
continues, through its research and development program, to enhance their proven therapeutic and
prophylactic value for human and animal use. Second, the Company works to enhance the
intrinsic value of these technologies by commercialization, either alone or with strategic marketing
partners. Third, the Company manufactures as many products emerging from the research program
as it can to enhance profit margins, protect the integrity of its products, and enhance shareholder
value.

Highlights of the Quarter

    •    Total revenues reached $7.7 million for the first quarter of fiscal 2007 as compared to
         $5.8 million reported in the same period last year. This increase of $1.9 million, or 33%,
         resulted from a strong marketing effort in the area of Animal Health reproduction and a
         better than expected response from customers to a sales initiative launched in August.

    •    On November 7, 2006 the shareholders of the Company approved the adoption of a
         Shareholder Rights Plan.

    •    Subsequent to the quarter end on November 7, 2006, the Company has agreed with
         Bioniche Pharma Holdings Limited and the shareholders of that company to sell its 10%
                                                                                             5
          ownership position in Bioniche Pharma Holdings and its annual royalty payments for
          each of the next five years related to sales of Suplasyn® for a total of $6.7 million ($6.0
          million US). As a result, the Company recorded an impairment loss in its Bioniche
          Pharma investment of $175,000 and expects to record a gain of $2.2 million on the sale
          of the Suplasyn® royalty in the next quarter. The transaction is expected to be completed
          in December, subject to normal closing conditions, and the proceeds will be used to
          reimburse $2.6 million (US $2.3 million) of the existing convertible term note and to
          support working capital requirements.

     •    Subsequent to the quarter end, the Company announced on November 8, 2006 the first
          patient was administered UrocidinTM as part of the Phase III refractory bladder cancer
          trial. The study now underway uses the Company’s proprietary Mycobacterial Cell Wall-
          DNA Complex (MCC – trademarked Urocidin) for the treatment of non-muscle invasive
          bladder cancer in patients who are refractory (unresponsive) to Bacillus Calmette-Guérin
          (BCG), a live, attenuated strain of Mycobacterium bovis and the current standard therapy.
          BCG therapy can result in treatment-limiting side effects in some patients.

Going Concern

The Company’s continuing losses, decreases in working capital and cash balances, and current
burn rate* have resulted in a going concern uncertainty disclosure (refer to note 1). This note
highlights that these consolidated financial statements have been prepared in accordance with
Canadian generally accepted accounting principles on a going concern basis, which presumes that
the Company will be able to realize its assets and discharge its liabilities in the normal course of
business for the foreseeable future.

The Company’s committed cash obligations and expected expenditures for the next year exceed
the funds available, including cash and cash equivalents. On September 26, 2006, the Company
announced its Fiscal 2006 year end results. It reported at that time that the Company was pursuing
several financing options to allow it to execute on its corporate objectives and that the current
liquidities would be consumed during the second quarter. The Company is performing according
to the plan. The Company has subsequently entered into an agreement, on November 7, 2006, to
sell its existing investment in Bioniche Pharma Holdings Ltd., along with the royalty on
Suplasyn® for total of $6.7 million (US $6.0 million), subject to normal closing conditions. The
proceeds will be used to reimburse $2.6 million (US $2.3 million) of the existing convertible term
note and to support working capital requirements. Management estimates that the net proceeds of
approximately $4.1 million will provide an additional three to four months of cash. Meanwhile,
the Company continues to pursue other financing alternatives including debt, preferred or common
share issues, and finding strategic partners to support its clinical programs and the animal health
business. There is no assurance that these initiatives will be completed as currently planned.

Results of Operations for the Quarter/Year-to-Date

The Company has three reportable segments, Animal Health, Human Health and Food safety.
They are strategic business units that offer different products and technologies as follows:

Human Health Segment

Bioniche’s Human Health business is operated through the division known as Bioniche
Therapeutics Limited. The Company is engaged in the identification, development, production and
commercialization of proprietary technologies for the human health market, which involves both
pre-clinical and clinical research. The focus of activity is on the research and development of the
Company’s proprietary Mycobacterial Cell Wall-DNA (MCC) technology for the treatment of
bladder cancer, and its oligonucleotides.


*Burn rate means cash flow used in operations. For more information, please refer to the section, “Non-GAAP & Other
Measures” below.
                                                                                                                 6
Revenues recorded in this segment represent royalty income on sales of Suplasyn. Revenues of
$0.3 million recorded this fiscal year to date compare to $0.2 million recorded in the same period
last year.

Gross research and development expenses totaled $2.4 million for the three-month period ending
September 30, 2006 as compared to $1.8 million reported in the same period last year. This
increase of $0.6 million, or 33%, is primarily attributed to the increased staffing and third party
costs incurred to support the Company’s Phase III bladder cancer program.

Government incentives for the three-month period ending September 30, 2006 totaled $0.4
million, as compared to $0.1 million reported in the same period last year. Government incentives
recorded last year were reduced by one-time adjustments to Technology Partnership claims
previously submitted.

Animal Health Segment

The Company’s animal health business is operated through the division known as Bioniche
Animal Health, which is responsible for researching, developing, manufacturing and marketing
animal health biopharmaceutical products worldwide. The Company’s animal health products are
marketed directly in Canada, the United States, Australia and Europe and through selected
distributors in the rest of the world. Bioniche Animal Health operates marketing, production and
research facilities in Belleville, Ontario; marketing and manufacturing units in Athens, Georgia
and in Pullman, Washington in the United States; a manufacturing facility in Armidale, Australia;
and a sales and marketing office in Ireland.

Animal Health sales increased by $1.8 million, or 32%, to $7.4 million for the three-month period
ending September 30, 2006 as compared to $5.6 million recorded in the same period last year.
This increase represents increased sales of Folltropin®-V and Cue-Mate. The positive change
reflects the impact of promotional activities and is not anticipated to continue at this level for the
balance of the fiscal year and sales may decrease in future quarters.

Gross profit for the three months ending September 30, 2006 totalled 57%, which compares to
55% reported in the same period last year. This reflects the impact of increased sales of higher
margin Folltropin-V and Cue-Mate.

Expenses incurred in the three month period ending September 30, 2006 totalled $1.8 million as
compared to $2.0 million recorded in the same period last year. This decrease of 9% reflects
reductions in marketing and administrative expenses.

Gross research and development expenses incurred in the three-month period ending September
30, 2006 totalled $0.5 million as compared to $0.7 recorded in the same period last year. This
decrease reflects the Company’s over all focus on bladder cancer and the E. coli O157:H7 cattle
vaccine.

Food Safety Segment

The Food Safety division of the Company was established in July, 2001. The division is
responsible for researching, developing, manufacturing and marketing veterinary
biopharmaceutical products to improve the safety of food and water supplies worldwide. The
leading initiative for this division is the development and commercialization of a new cattle
vaccine for the prevention of the spread of the deadly E. coli O157:H7 bacteria. This vaccine is
designed to reduce the burden of the pathogenic bacterium E. coli O157:H7 in cattle and their
manure, thereby reducing contamination into the environment, ground water and in cattle
processing plants. The vaccine has also proven to reduce the number of animals in which the
bacteria can colonize. The fewer of the bacteria reproducing in the cow, the fewer bacteria will be
shed in its manure. The Company is also researching other products in the food and water safety
field.

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This segment has no revenues and has incurred gross research and development expenses of $0.7
million for the three-month period ending September 30, 2006. This compares to $0.4 million
reported in the same period last year. This increase represents increased costs associated with
current field trials.

Revenue

Reported revenues now are generated primarily from product sales in the Animal Health segment.
Consolidated revenues for the quarter ending September 30, 2006 totaled $7.7 million, as
compared to $5.8 million reported in the same period last year. This increase of $1.9 million, or
33%, reflects increased sales of two of the Company’s reproductive technologies. This increase in
predominantly attributed to increases in sales of Folltropin®-V and Cue-Mate over the same
period last year, due to a strong marketing effort and promotional program.

This better-than-anticipated response to our program from our customers may not be sustainable
over the next three quarters of Fiscal 2007. Management expects results in the upcoming quarters
to be more in line with the previous year.

Cost of Goods Sold

Overall product cost of goods totaled $3.2 million for the three-month period ending September
30, 2006, as compared to $2.5 million reported in the same period last year.

The overall gross profit margin on product sales during the first quarter of fiscal 2007 increased to
56% from 55% reported in the same period last year.

Expenses

Expenses totaled $3.9 million for the three-month period ending September 30, 2006, as compared
to $4.2 million recorded in the same period last year. This decrease of $0.3 million, or 7%,
includes:

     •     $0.5 million decrease in interest on long-term debt due to the restructuring and repayment
           of the Company’s previous debt.
     •     $0.3 million decrease in foreign exchange loss as global currencies have remained
           somewhat stable during this quarter as compared to the same period last year.
     •     $0.1 million increase in administrative expenses (last year, $0.2 million was recovered
           from a discontinued operation);
     •     $0.1 million increase in imputed interest on convertible term note. The convertible term
           note was not entered into until the second quarter last year.
     •     $0.1 million increase in amortization of deferred financing fees related to the debt
           restructuring during the second quarter.
     •     $0.2 million impairment of the investment in Pharma to reflect the pending sale of this
           investment.

Research and Development

                           GROSS RESEARCH & DEVELOPMENT
                                          (expressed in millions of Canadian dollars)
For the three months ended September 30                                             2006               2005
Key Areas                                                                      $            %     $            %


Animal Health                                                                      0.5     14%        0.7     24%
Food Safety                                                                        0.7     19%        0.4     14%
Human Health                                                                       2.4     63%        1.8     64%
Research and Development, Gross                                                    3.6     100%       2.9     100%
                                                                                                                     8
Gross research and development (R&D) expenses for the three-month period ending September
30, 2006 totaled $3.6 million as compared to $2.9 million reported in the same period last year.
This increase of $0.7 million, or 24%, reflects increased costs of $0.6 million within the human
health segment due to increased staffing within the clinical group and third party costs associated
with the Phase III clinical trial along with increased administrative support.

R&D expenditures increased by $0.3 million in the food safety segment. This reflects increased
expenditures associated with the ongoing field trials of the E. coli O157:H7 cattle vaccine.

As a result of the Company’s focus on the E. coli O157:H7 cattle vaccine and bladder cancer
therapy, the Company reduced R&D expenses by $0.2 million within the animal health segment.

Government incentives for the three-month period ending September 30, 2006 totaled $0.4
million, as compared to $0.1 million reported in the same period last year. Incentives recorded last
year were reduced by one-time adjustments to Technology Partnership claims previously
submitted.

Subsequent to the quarter end, on November 8, 2006, the first patient was administered Urocidin
as part to the Phase III clinical trial to treat patients whose non-muscle invasive bladder cancer is
refractory to BCG.

The Company is focused on its advanced clinical program in bladder cancer and its E. coli
O157:H7 cattle vaccine. Accordingly, quality assurance and administrative resources previously
supporting the discontinued business segments have been re-focused on supporting these priority
research and development programs. This has resulted in $0.6 million.

Income (Loss) from Discontinued Operations

Income (loss) from Discontinued Operations for the three months ending September 30, 2006 was
nil, as compared to an income of $0.3 million recorded in the same period last year. This relates to
the sale of the Bioniche Pharma Group and the sale of the Cystistat® business, both recorded last
fiscal year.

Net Income/ (Loss)


                                                    Calculation of EBITDA
                                                    (expressed in millions of Canadian dollars)
                                                                                                                                  2006                   2005
For the three months ended September 30
                                                                                                                                     $                       $
Income (loss) before Research and Development                                                                                             0.6                    (0.9)
Add (deduct):
 Amortization                                                                                                                             0.7                    0.6
 Interest                                                                                                                                 0.2                    0.6
 Imputed interest                                                                                                                         0.1                    -
 Impairment of Investment                                                                                                                 0.2                    -
 Foreign exchange                                                                                                                         -                      0.2
EBITDA before Research and Development                                                                                                    1.8                    0.5

*EBITDA means earnings before interest, taxes, depreciation, and amortization. For more information, please refer to the section, "Non-GAAP & Other Measures" below.


**Others means debt restructured and foreign exchange loss and impairment of Investment



                                                                                                                                                                       9
The Company recorded net income before research and development of $0.6 million for the three
month period ending September 30, 2006, as compared to a loss of $(0.9) recorded in the same
period last year. This increase of $1.5 million reflects the increased sales level and reduction in
expenses.

The EBITDA before Research and Development for the three months ending September 30, 2006
totaled $1.8 million as compared to $0.5 million recorded in the same period last year as a result
of this better-than-expected performance in animal health sales during the first quarter.

Net loss for the three months ending September 30, 2006 totaled $2.5 million, as compared to $3.3
million recorded in the same period last year. The overall loss was reduced by $0.8 million. The
basic and fully diluted loss per share for the three months ending September 30, 2006 was $.07 per
share, as compared to $(0.9) recorded in the same period last year.

Quarterly Information

The following selected financial information is derived from our unaudited quarterly financial
statements for each of the last eight quarters, all of which cover a period of three months.


                                         LAST EIGHT (8) QUARTERS CONSOLIDATED RESULTS AT A GLANCE
                                                              2007                            2006                                    2005
                                                               $           $           $             $           $            $        $           $


                (expressed in millions of Canadian dollars)   Q1           Q4          Q3            Q2          Q1          Q4       Q3           Q2


Revenues                                                           7.7          7.5         6.9           6.4         5.9      7.6          7.1        5.9
Income (loss) before Research & Development and other items        0.6         (2.3)       (0.4)         (3.2)       (0.9)    -            (0.7)    (0.9)
Loss from continuing operations                                    (2.6)       (5.9)       (3.5)         (6.0)       (3.5)    (3.3)        (3.8)    (3.3)
Income (loss) from discontinued operations                         -            7.9         9.3           0.3         0.3      0.6          0.5     (1.6)
Net Income (loss)                                                  (2.7)        2.0         5.8          (5.7)       (3.2)    (2.7)        (3.3)    (4.9)
Basic and fully diluted net income (loss) per share
       Continuing operations                                    (0.07)     (0.15)       (0.09)        (0.16)      (0.10)     (0.09)    (0.11)      (0.09)
       Discontinued operations                                     -        0.22           0.24          0.01         -      0.01          0.02    (0.05)
Total basic and fully diluted net income (loss) per share       (0.07)      0.07           0.15       (0.15)      (0.10)     (0.08)    (0.09)      (0.14)




Balance Sheet Highlights

Assets

The Company’s current assets at September 30, 2006 were $15.0 million, as compared to $16.7
million reported at June 30, 2006. The net working capital*, excluding deferred government
incentives, was $4.8 million, as compared to $ 6.8 million reported at June 30, 2006.

Long-term assets at September 30, 2006, were $23.9 million, as compared to $24.7 million
reported at June 30, 2006.

Liabilities and Shareholders’ Equity

The Company’s current liabilities at September 30, 2006 were $13.6 million, as compared to
$13.4 million reported at June 30, 2006.

Long-term debt at September 30, 2006, was $4.5 million, as compared to $4.7 million reported at
June 30, 2006.

Total shareholders’ equity at September 30, 2006 was $20.8 million, as compared to $23.4 million
reported at June 30, 2006.

*Working capital is a non-GAAP measure. For more information, please refer to “Non-GAAP &
Other Measures”, below.
                                                                                                                                                       10
Liquidities and Cash Flow Statement Highlights

The Company’s cash flow used in operations decreased to $1.7 million during the three-month
period ending September 30, 2006, as compared to $2.9 million in the same period last year. This
41% decrease in use of funds reflects increased sales and reduced expenses.

The Company has continued to experience a challenge in its financial condition and liquidity to
September 30, 2006 and anticipates this to continue during Fiscal 2007. The Company has
incurred substantial operating losses since its inception, due primarily to its focus on research and
development of proprietary technologies. As at September 30, 2006, the Company had an
accumulated deficit of $56 million. Management expects operating losses to increase through
Fiscal 2007 as the Company starts its Phase III trials with Urocidin for bladder cancer as approved
by the FDA.

The Company’s committed cash obligations and expected expenditures for the upcoming quarters
of Fiscal 2007 exceed the funds available, including cash and cash equivalents. On November 7,
2006, the Company entered into an agreement to sell its existing investment in Bioniche Pharma
Holdings Ltd., along with the royalty on Suplasyn, for a total of $6.7 million (US $6.0 million),
subject to normal closing conditions. The proceeds will be used to reimburse $2.6 million (US$2.3
million) of the existing convertible term note and to support working capital requirements.
Management estimates that the net proceeds of approximately $4.1 million will provide three to
four months of additional cash. Additionally, the Company continues to pursue other financing
alternatives, including debt, preferred or common equity issuances, to support present and future
development activities. The Company is actively seeking collaborations to support the
development of its advanced clinical program in bladder cancer and its E. coli O157:H7 vaccine,
as well as finding strategic financing partners to support its animal health business. There is no
assurance that these initiatives will be completed as currently planned.

These consolidated financial statements have been prepared on a going concern basis, which
presumes the Company will continue to operate and will be able to realize its assets and discharge
its liabilities and commitments in the ordinary course of business for the foreseeable future. These
consolidated financial statements do not include any adjustments to the amounts and
classifications of assets and liabilities which might be necessary should the Company not be
successful in its efforts to: obtain additional financing, reserve significant funds on entering into
research collaborations, sell its remaining investment in Bioniche Pharma Holdings Ltd., or make
significant product sales. Such adjustments could be material.

The Company’s ability to continue as a going concern is dependent upon the continued support of
its lenders, suppliers, employees and customers, receiving funds through product licensing
agreements or collaborative research contracts, borrowing or equity financing, achieving future
profitable operations, or the sale of further non-core business assets.

Subsequent Event

The Shareholder Rights Plan is effective upon the Toronto Stock Exchange’s consent to the
adoption of the Rights Plan and the entering into of a form of shareholder rights plan agreement
between Bioniche and the rights agent. The Rights Plan was submitted for ratification by
shareholders at the Corporation's Annual and Special Meeting of Shareholders on November 7,
2006, at which time, the majority of shareholders voted in favour of its adoption. Bioniche
believes that the Rights Plan preserves the fair treatment of shareholders, is generally consistent
with Canadian corporate practice, and addresses institutional investor guidelines. The Rights Plan
is not intended to prevent take-over bids. Pursuant to the terms of the Rights Plan, Bioniche will
distribute one right for every common share outstanding as at the “Record Time”. The rights
issued under the Rights Plan become exercisable only when a person, including any party related
to it, acquires or announces its intention to acquire 20% or more of Bioniche’s outstanding
common shares without complying with the “Permitted Bid” provisions or without approval of the

                                                                                                  11
Board of Directors. Should such an acquisition occur, each right would entitle a holder, other than
the “Acquiring Person” and persons related to it, to purchase common shares of Bioniche at a
substantial discount to the market value of such shares. A Permitted Bid must be made by way of a
take-over bid circular prepared in compliance with applicable securities laws, remain open for 60
days and satisfy certain other conditions. Bioniche is not aware of any pending or threatened take-
over bid for the Company.

Outstanding Share Data

Common Shares

The Company has total common shares outstanding at November 7, 2006 of
39,842,855 In addition, the Company has 4,270,000 outstanding warrants and 4,158,501
outstanding options, exchangeable for one common share upon exercise. Outstanding conversion
rights on the convertible term note are exchangeable for 5,781,865 common shares and preferred
shares Series II with conversion rights exchangeable for 8,910,000 common shares. The Company
also has a commitment to issue warrants (see “Critical Accounting Estimates”).

Contractual Obligations:

Contractual obligations have not changed significantly from the information reported in the Fiscal
2006 year-end financial statements issued at June 30, 2006 except for the obligation to sell the
investment in Bioniche Pharma Holdings.

Critical Accounting Estimates

The Company’s discussion and analysis of its financial condition and results of operations are
based upon its consolidated financial statements, which have been prepared in accordance with
Canadian Generally Accepted Accounting Principles (GAAP).

The preparation of these financial statements requires the Company to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities. Our critical accounting estimates are the same as
reported in the June 30, 2006 MD&A. On an ongoing basis, the Company evaluates its estimates,
including cash requirements, by assessing research and development activities and general and
administrative requirements, market need for its drug candidates, technological changes, the
regulatory environment, pricing and sales expectations and major business assumptions.

Non-GAAP & Other Measures

The following measures do not have a standardized meaning under Canadian Generally Accepted
Accounting Principles (GAAP) and, therefore, are unlikely to be comparable to similar measures
presented by other companies:

    •    EBITDA: Means “Earnings Before Interest, Taxes, Depreciation, and Amortization”.
         The Company considers EBITDA to be an effective measure of each segment’s
         contribution to the Company on an operational basis. It is management's view that this
         measure is used by analysts and shareholders to evaluate the Company's operations.

    •    Burn Rate: means cash flow used in operations. This information can be found in the
         Consolidated Statements of Cash Flows, under Operating Activities. It shows the cash
         flow used in operations (before change in non-cash working capital balances related to
         operations).

    •    Net Working Capital: means current assets less current liabilities.



                                                                                                  12
Risks and Uncertainties

Before making an investment decision with respect to the Company’s common shares, investors
should carefully consider the following risk factors, in addition to the other information included
or incorporated by reference into this report and the Annual report for the fiscal year ending June
30, 2006. The risks as set in the annual report remain unchanged. The primary risks that may
affect the Company during this fiscal year are summarized below. If any of the risks and
uncertainties occurs, the business, financial condition, prospects, or results of operations for the
Company would likely suffer.

    •    Dependence on Collaborative Partners, Licensors and Others: the Company’s activities
         will require it to enter into various arrangements. There can be no assurance, however,
         that the Company will be able to establish such additional collaborations on favourable
         terms, if at all or that its current or future collaborations will be successful.

    •    Clinical Trial Results: Clinical trials are long, expensive and uncertain processes and
         Health Canada or the U.S. FDA may ultimately not approve any of the Company’s
         product candidates.

    •    Manufacturing Facilities: the Company relies on having properly validated, fully
         functioning, and manufacturing facilities of sufficient size in which to produce its
         products for market. Should systems fail, or a disaster strike, the ability to produce
         products would be negatively affected which, in turn, would affect revenue generation.

    •    Government Regulations: the manufacture and sale of animal and human therapeutic
         products is governed by numerous statutes and regulations in the United States, Canada,
         Europe, and other countries where the Company intends to market its products. There is
         no guarantee the Company will be able to maintain compliance will all regulations as
         changes occur.

    •    Key Personnel: the Company’s success is also dependent upon its ability to attract and
         retain a highly-qualified work force, and to establish and maintain close relations with
         research centers. Competition is intense and the Company’s success will depend, to a
         great extent, on its senior executives, scientific staff, and collaborators. The loss of key
         personnel could compromise the rhythm and success of product development.

    •    Financing Requirements: the Company is dependent upon the future support of its
         lenders, suppliers, employees and customers. The Company believes that it will be able to
         obtain long-term financing to support its corporate objectives but it is impossible to
         guarantee the availability of additional financial resources or that these will be available
         under acceptable conditions. In the event that there is an inability to raise sufficient
         capital, the Company will be required to reduce its spending programs and dispose of
         additional assets.

    •    Currency Risk: the Company is also exposed to currency risks as a result of the export of
         products manufactured in Canada and Europe, the majority of which are denominated in
         U.S. dollars.

    •    Volatility of Share Prices: Absence of Dividends and Fluctuation of Quarterly Results
         and Share prices are subject to change because of numerous different factors related to
         Company activity, including reports of new information, change in the Company’s
         financial situation, the sale of shares in the market, the Company’s failure to obtain
         results in line with the expectations of analysts, an announcement by the Company or any
         of its competitors concerning technological innovation may cause our stock price to fall.

    •    Intellectual Property must be protected to ensure the Company’s success. This will
         depend in part on its ability to obtain, maintain and enforce patent rights, maintain trade
                                                                                                  13
        secrets and operate without infringing the proprietary rights of third parties. There is no
        assurance our patents will protect our technologies.

EFFECTIVENESS OF INTERNAL CONTROLS

The President and Chief Executive Officer and the Chief Financial Officer have reviewed the
Company’s disclosure and internal controls and procedures as at September 30, 2006 and have
concluded that the Company’s controls and procedures provide reasonable assurance that material
information relating to the Company, including its consolidated subsidiaries, was made known to
them and reported as required, particularly during the period in which this report was being
prepared. The Company has previously identified certain areas of required improvement relating
to the Company’s internal controls in the areas of inventory management, financial instruments
and global treasury activities. Upon discovery of these deficiencies, management took immediate
action to remediate them. The Company is also improving its approval procedures with respect to
contractual obligations. On an ongoing basis, management continues to analyze its controls and
procedures for potential areas of improvement.

Recent Accounting Pronouncements

  • Changes in Accounting Policies and Estimates, and Errors
  In July, 2006, the Accounting Standards Board issued a new section, “Changes in Accounting
  Policies and Estimates, and Errors”. This new standard impacts when an accounting policy may
  be changed, how any resulting changes are to be applied, and what disclosures must be made.
  Adoption is for fiscal years beginning on or after January 1, 2007. The Company has not yet
  determined the impact of the adoption of this standard on its consolidated results of operations
  or financial position. Adoption will not be required by Bioniche until Fiscal 2008.

  • Hedges
  In April 2005, the CICA issued Section 3865 of the CICA Handbook, “Hedges”, which takes
  effect in fiscal years beginning on or after October 1, 2006. This section establishes standards
  for when and how hedge accounting may be applied. Hedging is an activity designed to
  modify an entity’s exposure to one or more risks. Hedge accounting modifies the normal basis
  for recognizing the gains, losses, revenues and expenses associated with a hedged item or a
  hedging item in an entity’s statement of operations. It ensures that the counterbalancing gains,
  losses, revenues and expenses are recognized in the same period. The Company has not
  determined the impact of this standard on its consolidated results of operations or financial
  position. Adoption will not be required until Fiscal 2008.

  • Comprehensive Income
  CICA 1530, “Comprehensive Income”, sets the standards for the reporting and display of
  comprehensive income. Comprehensive income is defined as the change in equity (net assets)
  of an enterprise during a period from transactions and other events and circumstances from
  non-owner sources. It includes all changes in equity during a period, except those resulting
  from investments by owners and distributions to owners. A statement of comprehensive income
  would be included in a full set of financial statements for both interim and annual periods. The
  new statement would present net income and each component to be recognized in other
  comprehensive income. These components would include, for example, exchange gains and
  losses arising on translation of the financial statements of self-sustaining foreign operations,
  which are currently included in a separate component of shareholders’ equity. This standard is
  effective for fiscal years beginning on or after October 1, 2006. The Company has not
  determined the impact of this standard on its consolidated results of operations or financial
  position. Adoption will not be required until Fiscal 2008

  • Financial Instruments – Recognition and Measurement
  In January, 2005, the CICA released Handbook Section 3855, “Financial Instruments –
  Recognition and Measurement”, effective for all annual and interim periods beginning on or
  after October 1, 2006. All financial instruments must be classified into prescribed categories
                                                                                                14
  and reclassification is rarely possible. Classification determines how each instrument is
  measured and how gains and losses are recognized. The Company has not yet determined the
  impact of the adoption of this standard on its consolidated results of operations or financial
  position. Entities are permitted a “fresh start” in applying the new standards for classification of
  financial assets and liabilities. Any adjustments to carrying amounts are recognized as
  adjustments to opening retained earnings or, in the case of assets classified as available for sale
  or amounts previously deferred in respect of cash flow hedges which will be redesignated as
  new cash flow hedges, to other comprehensive income.

Forward-Looking Statements

This discussion and analysis contains certain forward-looking statements that are subject to risks
and uncertainties that may cause the results or events predicted in this document to differ
materially from actual results or events. No assurance can be given that results, performance or
achievement expressed in, or implied by, forward-looking statements within this disclosure will
occur or, if they do, that any benefit may be derived from them.

Other Information About the Company

Additional information relating to the Company, including the Annual Information Form (AIF), is
available on SEDAR at www.sedar.com.




Patrick Montpetit, CA
Vice-President, Finance and Chief Financial Officer
November 10, 2006




                                                                                                   15
Bioniche Life Sciences Inc.
Amalgamated under the laws of Ontario


                   CONSOLIDATED BALANCE SHEETS
                        [Unaudited - see note 1]

                                                    As at September 30,    As at June 30,
                                                                  2006              2006
                                                                    $                 $

ASSETS
Current
Cash                                                          1,591,705        4,093,293
Accounts receivable                                           7,018,143        5,644,956
Inventories [note 2]                                          5,573,258        6,171,453
Prepaid expenses and deposits                                   795,978          804,470
                                                             14,979,084       16,714,172
Long-term
Capital assets, net                                           9,950,919       10,138,797
Intangible assets, net                                        9,187,604        9,401,733
Goodwill                                                        456,155          456,155
Deferred financing fees, net                                  1,083,908        1,258,236
Investment [note 8]                                           3,123,279        3,298,279
Other assets                                                    100,000          100,000
                                                             38,880,949       41,367,372

LIABILITIES AND SHAREHOLDERS' EQUITY
Current
Revolving credit facility                                     2,329,724        3,162,097
Accounts payable and accrued liabilities                      6,047,730        5,054,593
Income and other taxes payable                                  555,902          494,881
Deferred government incentives                                3,450,238        3,433,007
Current portion of senior debt and capital leases             1,209,905        1,220,840
                                                             13,593,499       13,365,418
Long-term
Senior debt                                                   3,538,107        3,697,806
Obligations under capital lease [note 6]                        928,802          953,957
                                                             18,060,408       18,017,181
Shareholders' equity
Share capital [note 3]                                       72,883,626       72,686,901
Other paid-in capital [note 3]                                4,570,779        4,556,290
Deficit                                                     (56,610,485)     (53,869,621)
Cumulative translation adjustment                               (23,379)         (23,379)
                                                             20,820,541       23,350,191
                                                             38,880,949       41,367,372

See accompanying notes




                                                                                      16
Bioniche Life Sciences Inc.


           CONSOLIDATED STATEMENTS OF DEFICIT
                    [Unaudited - see note 1]

For the three months ended September 30



                                                2006           2005
                                                  $              $

Deficit, beginning of period              (53,869,621)   (52,726,240)
Net loss for the period                    (2,740,864)    (3,322,463)
Deficit, end of period                    (56,610,485)   (56,048,703)

See accompanying notes




                                                                 17
Bioniche Life Sciences Inc.


                CONSOLIDATED STATEMENTS OF LOSS
                       [Unaudited - see note 1]


For the three months ended September 30


                                                              2006                2005
                                                                $                   $
                                                                    [Restated – see note 5]

REVENUE
Sales                                                    7,744,626           5,838,054
Cost of sales                                            3,190,845           2,529,304
Gross profit                                             4,553,781           3,308,750

EXPENSES
Administration                                           1,130,291           1,006,585
Marketing and selling                                    1,421,464           1,350,276
Quality assurance                                          168,507             248,904
Interest on long-term debt                                 160,509             634,383
Other interest                                              73,204             (23,066)
Imputed interest on convertible term note                  143,138                  —
Share ownership plan and bonus                                  —              133,171
Amortization of capital assets                             295,284             302,297
Amortization of intangible assets                          214,129             214,129
Amortization of deferred financing fees                    174,328              68,339
Impairment of investment [note 8]                          175,000                  —
Foreign exchange loss (gain)                               (12,186)            232,843
                                                         3,943,668           4,167,861
Income (loss) before research and development expenses     610,113            (859,111)

Research and development expenses, gross                  3,589,748          2,858,352
Less: government incentives, net                           (422,627)           (91,199)
Loss from continuing operations before income taxes      (2,557,008)        (3,626,264)
Provision for income tax expense                            183,856             28,611
Loss from continuing operations                          (2,740,864)        (3,654,875)
Income from discontinued operations [note 5]                     —             332,412
Net loss for the period                                  (2,740,864)        (3,322,463)

Basic and diluted net income (loss) per share
 Continuing operations                                        (0.07)             (0.10)
 Discontinued operations                                        —                 0.01
Basic and diluted net loss per share                          (0.07)             (0.09)

See accompanying notes




                                                                                    18
Bioniche Life Sciences Inc.


        CONSOLIDATED STATEMENTS OF CASH FLOWS
                  [Unaudited - see note 1]


For the three months ended September 30


                                                        2006                 2005
                                                           $                   $
                                                               [Restated – see note 5]

OPERATING ACTIVITIES
Loss from continuing operations                     (2,740,864)         (3,654,875)
Add (deduct) non cash items:
  Amortization                                         683,741             584,765
  Non-cash interest expense                            143,138                 
  Foreign exchange gain                                 (6,133)           (26,815)
  Share, option, and warrant compensation               55,780              73,175
  Employee share ownership plan                                           136,354
  Impairment of investment                             175,000                  
                                                    (1,689,338)         (2,887,396)
Net change in non-cash working capital balances        270,577             694,755
Cash used in operating activities                   (1,418,761)         (2,192,641)

INVESTING ACTIVITIES
Payment relating to acquisition of net assets                            (123,120)
Purchase of capital assets                           (107,405)            (123,344)
Cash used in investing activities                    (107,405)            (246,464)

FINANCING ACTIVITIES
Repayment of revolving credit facility               (665,480)                 
Repayment of senior and other long-term debt         (309,941)            (208,104)
Cash used in financing activities                    (975,422)            (208,104)

Net decrease in cash from continuing operations     (2,501,588)         (2,647,209)
Net increase in cash from discontinued operations                         435,444
Net decrease in cash for the year                   (2,501,588)         (2,211,765)
Cash, beginning of period                            4,093,293           3,527,408
Cash, end of period                                  1,591,705           1,315,643

See accompanying notes




                                                                               19
1. NATURE OF THE BUSINESS AND GOING CONCERN
UNCERTAINTY
Bioniche Life Sciences Inc., [“the Company”], is a Canadian biopharmaceutical company engaged
in the research, development, manufacturing and commercializing of human and animal health
products and technologies worldwide. The Company's consolidated financial statements have been
prepared in accordance with Canadian generally accepted accounting principles. The Company’s
common stock is traded on the Toronto Stock Exchange [“TSX” symbol “BNC]”.

At September 30, 2006, the Company has incurred significant losses and has an accumulated
deficit of $56,610,485. The Company’s committed cash obligations and expected level of
expenses for the year exceeds the cash on hand. To date, the Company has financed its cash
requirements primarily through issuances of shares and debt, investment tax credits, sale of
products, royalties, government grants, and a revolving credit facility. The Company has agreed to
sell its remaining investment in Bioniche Pharma Holdings Limited and its future royalties related
to Suplasyn. In addition, the Company continues to pursue an alliance with a strategic partner to
fund the development program for Urocidin, and other financing initiatives including long-term
debt refinancing and further equity issues. The Company’s ability to continue as a going concern
is dependent on the successful conclusion of the above initiatives and its ability to continue to sell
its products at positive margins, to bring new products to market, obtain regulatory approvals,
achieve future profitable operations, to enter into research collaborations and to obtain additional
financing. The outcome of these matters is dependent upon factors outside of the Company’s
control. As a result, there is significant uncertainty as to whether the Company will have the
ability to continue as a going concern.

These consolidated financial statements have been prepared in accordance with Canadian
generally accepted accounting principles on a going concern basis, which presumes the Company
will continue in operations for the foreseeable future and will be able to realize its assets and
discharge its liabilities and commitments in the ordinary course of business for the foreseeable
future. These consolidated financial statements do not include any adjustments to the amounts and
classifications of assets and liabilities which might be necessary should the Company not be
successful in its efforts to obtain additional financing, to receive significant funds on entering into
research collaborations, or conclude the sale of its remaining investment in Bioniche Pharma.
Such adjustments could be material.

These interim financial statements do not contain all disclosures required by Canadian generally
accepted accounting principles for annual financial statements and, accordingly, these financial
statements should be read in conjunction with the most recently prepared annual financial
statements for the year ended June 30, 2006. These unaudited interim consolidated financial
statements follow the same accounting policies and methods of their application as outlined in the
most recent annual consolidated financial statements.

The preparation of the consolidated financial statements requires management to make estimates
and assumptions that affect the reported amount of assets and liabilities, the disclosure of
contingent assets and liabilities at the date of the consolidated financial statements and the
reported amounts of revenues and expenses during the reporting periods. The reported amounts
and note disclosures are determined using management’s best estimates based on assumptions that
reflect the most probable set of economic conditions and planned courses of action. Actual
results, however, may differ from the estimates used in these consolidated financial statements and
such differences may be material.




                                                  20
2. INVENTORIES
                                                          September 30, 2006        June 30, 2006
                                                                            $                   $

Raw materials                                                          893,472          1,153,542
Work in process                                                      1,760,403          2,225,261
Finished goods                                                       2,919,383          2,792,650
                                                                     5,573,258          6,171,453


3. SHARE CAPITAL AND OTHER PAID-IN CAPITAL
Issued share capital consists of the following:
                                                          September 30, 2006        June 30, 2006
                                                                            $                   $

Preferred shares – Series I – 167 [June 30, 2006 – 167]                161,000            161,000
Preferred shares – Series II – 12,000,000
  [June 30, 2006 – 12,000,000]                                      11,731,716         11,731,716
Common shares – 39,519,184 [June 30, 2006 – 39,198,140]             60,990,910         60,794,185
                                                                    72,883,626         72,686,901

During the quarter, the Company has issued 54,332 common shares under the employee share
ownership plan valued at $41,291, all of which are related to the accrued balance at June 30, 2006
which was included in Other paid-in capital. Also, during the quarter, the Company issued
266,712 common shares to Laurus Master Funds, Ltd. in lieu of cash principal repayments of debt,
valued at $155,434 [US $140,319]. The weighted average common shares outstanding at
September 30, 2006 were 39,293,778 [June 30, 2006 – 36,396,501]

Other paid-in capital
Other paid-in capital consists of the following:
                                                          September 30, 2006        June 30, 2006
                                                                            $                   $

Share bonus                                                             19,889             19,889
Employee share ownership plans [i]                                           -             41,291
Conversion option on convertible term note                           1,028,900          1,028,900
Warrants                                                             1,827,562          1,827,562
Accrued warrants                                                     1,200,000          1,200,000
Stock options [ii]                                                     494,428            438,648
                                                                     4,570,779          4,556,290
[i]    Employee share ownership plans
       The shares issued under this plan reached the maximum authorized at June 30, 2006 and the
       granting of shares under the employee share ownership plan has been temporarily
       suspended. In the quarter, $85,859 has been accrued representing approximately 122,000
       shares which will be issued if the shareholders approve the increase in the number of shares
       available under this plan at the annual general meeting.
[ii]   Share options
       No options have been granted during the first quarter. The fair value of options previously
       granted is expensed over the vesting period of the options. The amount recognized as a
       compensation expense during the quarter was $55,780.




                                                   21
4. SEGMENTED FINANCIAL INFORMATION
The Company’s three reportable segments, Animal Health, Human Health and Food Safety are
strategic business units that offer different products and require different technology and
marketing strategies.

The Company accounts for inter-segment sales on a cost plus basis.

                                                              2006
                                Human         Animal         Food
                                Health        Health         Safety      Corpora    Total
                                                                            te
                                    $               $          $            $          $
Sales                           349,231      7,395,395               —       —     7,744,62
                                                                                          6
Cost of sales                           —    3,190,845               —       —     3,190,84
                                                                                          5
Expenses                         11,561      1,846,050               — 862,651     2,720,26
                                                                                          2
EBITDA before
  research and                  337,670      2,358,500               — (862,651) 1,833,51
  development                                                                           9
Research &
  development expenses,         2,445,45     442,987        701,305          —     3,589,74
  gross                                6                                                  8
Less: government                (379,483                —    (43,144)        —
  incentives, net                      )                                           (422,627)
Net research and
  development                   2,065,97     442,987        658,161          —     3,167,12
  expenses                             3                                                  1
Interest expense, net                —         19,079                — 357,772     376,851
Amortization of capital
  assets and intangible         271,253      200,727         17,026       20,407   509,413
  assets
Amortization of deferred
  financing fees                        —               —            — 174,328     174,328
Impairment of                           —               —            — 175,000     175,000
  investment
Foreign exchange loss                   —               —            — (12,186)    (12,186)
Segment income (loss) before
  taxes
                                (1,824,3 1,642,207 (614,134 (1,760,73              (2,557,00
                                     42)                           9)                     8)
Inter-segment sales                  —        —         — 3,882,56                 3,882,56
                                                                   9                      9

4. SEGMENTED FINANCIAL INFORMATION [Cont’d]

                                                        2005 (restated)
                                               22
                         Human      Animal       Food
                         Health     Health       Safety     Corporate      Total
                           $          $            $            $           $
Sales                   209,911     5,628,143        —           —      5,838,054
Cost of sales                —      2,529,304        —           —      2,529,304
Expenses                 82,360     2,026,651        —      629,925     2,738,936
EBITDA before
  research and          127,551     1,072,188        —      (629,925)   569,814
  development
Research &
  development           1,795,063   675,747     387,542          —      2,858,352
  expenses, gross
Less: government        (17,180)                (74,019)         —       (91,199)
  incentives, net
Net research and
  Development           1,777,883   675,747     313,523          —      2,767,153
  expenses
Interest expense,            —       24,696          —      586,621     611,317
  net
Amortization of
  capital assets &      279,913     217,871         373      18,269     516,426
  intangible assets
Amortization of
  deferred                   —           —           —       68,339      68,339
  financing fees
Foreign exchange             —           —           —      232,843     232,843
  loss
Segment income (loss)
  before taxes
                        (1,930,245) 153,874     (313,896)   (1,535,997) (3,626,264)
Inter-segment sales          —           —           —      2,670,075   2,670,075




                                       23
5. DISCONTINUED OPERATIONS
[a]     Sale of Bioniche Pharma Group
The Company’s Board of Directors resolved in May 2005 to dispose of the Bioniche Pharma
segment of its business comprised of manufacturing operations in Galway, Ireland and sales
operations in Canada and the United States. Accordingly, all revenues, expenses, assets and
liabilities related to the Pharma segment were classified as discontinued operations for 2005.

Income from discontinued operations
                                                                                         2005
                                                                                           $

Revenues                                                                            5,497,050
Cost of sales                                                                       2,026,797
Gross profit                                                                        3,470,253
Expenses                                                                            2,161,431
                                                                                    1,308,822
Net research and development expenses                                                (366,517)
Interest, amortization and income taxes                                              (666,315)
Non-controlling interest                                                              (26,980)
Operating income                                                                      249,010

 [b] Sale of Cystistat®
On May 23, 2006, the Company closed the sale of its proprietary sodium hyaluronate product,
Cystistat®, to Bioniche Teoranta of County Galway, Ireland, for $10,000,000. Bioniche Teoranta
is part of the New Bioniche Pharma sold by Bioniche Life Sciences to RoundTable Healthcare
Partners as outlined above. Accordingly, 2005 has been restated to classify of all revenues,
expenses, assets and liabilities related to Cystistat as a discontinued operations.

Income from discontinued operations
                                                                                         2005
                                                                                           $
                                                                                    [Restated]

Revenues                                                                              475,920
Cost of sales                                                                         149,827
Gross profit                                                                          326,093
Expenses                                                                              111,882
                                                                                      214,211
Net research and development expenses                                                (130,809)
Operating income                                                                       83,402




                                             24
Consolidated cash flow provided by (used in) discontinued operations:
                                                                                               2005
                                                                                                  $
                                                                                          [Restated]

Operating activities                                                                      1,831,849
Investing activities                                                                       (665,011)
Financing activities                                                                       (427,003)
Effect of foreign currency translation                                                     (304,391)
Net increase in cash from discontinued operations                                           435,444

6. RELATED PARTY TRANSACTIONS
During the first quarter of fiscal 2007 and 2006, the Company made monthly lease payments of
$16,667 per month to a company controlled by the CEO who is a Director of Bioniche.

7. COMPARATIVE CONSOLIDATED FINANCIAL STATEMENTS
The comparative consolidated financial statements have been reclassified from statements
previously presented to conform to the presentation of the 2006 consolidated financial statements.,

8. SUBSEQUENT EVENTS
On November 7, 2006, the Company reached an agreement to sell its 10% ownership position in
Bioniche Pharma Holdings Limited, and its annual royalty payments for each of the next five
years related to sales of Suplasyn® for a total of US $6.0 million. This sale is expected to close in
December, subject to normal closing conditions. As a result of this offer, the Company has
recorded an impairment of its long-term investment in Bioniche Pharma Holdings Limited of
$175,000 in the current quarter. On closing, this transaction will result in a gain of approximately
$2.2 million in excess of the $1.3 million of Suplasyn royalties recognized to date. The proceeds
from the sale will be used to repay approximately US $2.3 million of senior debt and the
remainder will be used for general working capital purposes.




                                                 25
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          P.O. Box 1570
          Belleville, Ontario   Tél.: 613 966-8058
          Canada, K8N 5J2       Téléc.: 613 966-4177

				
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