Zila Inc - Quarterly Report (10-Q)

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

Form 10-Q

(Mark one)


þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended April 30, 2008


o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission File Number 0-17521

Zila, Inc.

(Exact Name of Registrant as Specified in its Charter)


Delaware		86-0619668
(State or Other Jurisdiction of		(I.R.S. Employer
Incorporation)		Identification No.)

5227 North 7th Street, Phoenix, Arizona, 85014-2800
(Address of Principal Executive Offices) (Zip Code)

(602) 266-6700
(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, and (2) has been subject to such filing requirements for the past 90 days. Yes þ . No o .

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 the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):


Large accelerated filer o	Accelerated filer þ	Non-accelerated filer o	Smaller reporting company o
		(Do not check if a smaller reporting company)

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

As of June 5, 2008, 67,826,861 shares of the registrant’s common stock were outstanding.

TABLE OF CONTENTS


	PAGE
PART I — FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of April 30, 2008 (unaudited) and July 31, 2007		2
Unaudited Condensed Consolidated Statements of Operations for the three and nine Months Ended April 30, 2008 and 2007		3
Unaudited Condensed Consolidated Statement of Shareholders’ Equity for the nine Months Ended April 30, 2008		4
Unaudited Condensed Consolidated Statements of Cash Flows for the nine Months Ended April 30, 2008 and 2007		5
Notes to Unaudited Condensed Consolidated Financial Statements		6
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		20
Item 3. Quantitative and Qualitative Disclosures About Market Risk		31
Item 4. Controls and Procedures		31

PART II — OTHER INFORMATION
Item 1. Legal Proceedings		31
Item 1A. Risk Factors		31
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		32
Item 3. Defaults Upon Senior Securities		32
Item 4. Submission of Matters to a Vote of Security Holders		32
Item 5. Other Information		32
Item 6. Exhibits		32
Signatures		33
EX-31.1
EX-31.2
EX-32.1

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

ZILA, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS


	April 30,			July 31,
	2008			2007
	(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents	$	3,540,591		$	14,859,159
Trade receivables — net of allowances of $185,000 and $173,000		5,483,514			4,273,580
Inventories — net		4,114,440			4,074,733
Prepaid expenses and other current assets		2,191,288			1,646,229


Total current assets		15,329,833			24,853,701

Property and equipment — net		5,721,533			6,219,436
Goodwill		10,171,351			10,171,351
Purchased technology — net		9,116,359			9,884,017
Trademarks and other intangible assets — net		10,449,303			11,555,041
Other assets		910,601			1,197,684


Total assets	$	51,698,980		$	63,881,230


LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	4,562,882		$	3,207,480
Accrued liabilities		4,452,674			5,587,825
Warrant and common stock repurchase liability		—			1,376,393
Current portion of deferred gain on sale leaseback		113,903			152,976
Short-term borrowings and current portion of long-term debt		135,628			77,472
Current liabilities of discontinued operations		128,542			165,368


Total current liabilities		9,393,629			10,567,514

Deferred gain on sale leaseback		—			75,659
Long-term debt — net of current portion		8,541,810			7,258,569


Total liabilities		17,935,439			17,901,742


Shareholders’ equity:
Preferred stock — Series B, $.001 par value - 2,500,000 shares authorized, 100,000 shares issued and outstanding, liquidation preference of $650,000		462,500			462,500
Common stock, $.001 par value - 147,500,000 shares authorized, 63,183,036 and 62,466,338 shares issued and outstanding		63,183			62,466
Additional paid-in capital		124,023,449			123,436,957
Accumulated deficit		(90,119,564	)		(76,054,251	)
Accumulated other comprehensive loss		(114,956	)		(127,118	)
Treasury stock, at cost (218,411 and 1,151,243 common shares)		(551,071	)		(1,801,066	)


Total shareholders’ equity		33,763,541			45,979,488


Total liabilities and shareholders’ equity	$	51,698,980		$	63,881,230

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

ZILA, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS


	Three Months Ended April 30,						Nine Months Ended April 30,
	2008			2007			2008			2007
Net revenues	$	11,244,786		$	10,894,268		$	33,175,880		$	18,382,838
Cost of products sold		4,437,621			4,230,900			13,263,824			7,757,354


Gross profit		6,807,165			6,663,368			19,912,056			10,625,484

Operating costs and expenses:
Marketing and selling		6,046,250			4,470,426			16,563,524			9,483,784
General and administrative		3,281,067			2,682,130			9,883,070			9,566,765
Research and development		246,597			2,388,298			2,237,265			5,740,536
Depreciation and amortization		952,241			909,085			2,810,965			1,997,486


Loss from operations		(3,718,990	)		(3,786,571	)		(11,582,768	)		(16,163,087	)


Other income (expense):
Interest income		26,116			120,067			223,617			396,693
Interest expense		(786,289	)		(877,636	)		(2,353,816	)		(6,479,659	)
Derivative income (expense)		—			—			(23,600	)		1,058,873
Other income (expense)		2,049			(47,412	)		(991	)		(29,150	)


Other expense — net		(758,124	)		(804,981	)		(2,154,790	)		(5,053,243	)


Loss from continuing operations before income taxes		(4,477,114	)		(4,591,552	)		(13,737,558	)		(21,216,330	)
Income tax benefit		33,979			190,809			22,387			4,000,948


Loss from continuing operations		(4,443,135	)		(4,400,743	)		(13,715,171	)		(17,215,382	)


Income (loss) from discontinued operations		(1,858	)		303,257			(320,892	)		(407,620	)
Gain (loss) on disposal of discontinued operations		—			(19,741	)		—			10,973,697
Income tax expense		—			(190,809	)		—			(4,067,809	)


Total income (loss) from discontinued operations		(1,858	)		92,707			(320,892	)		6,498,268


Net loss		(4,444,993	)		(4,308,036	)		(14,036,063	)		(10,717,114	)
Preferred stock dividends		9,750			9,750			29,250			29,250


Net loss attributable to common shareholders	$	(4,454,743	)	$	(4,317,786	)	$	(14,065,313	)	$	(10,746,364	)


Basic and diluted net income (loss) per common share:
Loss from continuing operations	$	(0.07	)	$	(0.07	)	$	(0.22	)	$	(0.32	)
Income (loss) from discontinued operations		—			—			(0.01	)		0.12


Net loss attributable to common shareholders	$	(0.07	)	$	(0.07	)	$	(0.23	)	$	(0.20	)


Weighted average common shares outstanding — basic and diluted		61,872,729			62,117,309			61,563,648			54,411,050

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

ZILA, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

For the Nine Months Ended April 30, 2008


																	Accumulated
											Additional						Other						Total
	Preferred Stock				Common Stock						Paid-in			Accumulated			Comprehensive			Treasury			Shareholders’
	Shares		Amount		Shares			Amount			Capital			Deficit			Loss			Stock			Equity
Balance — July 31, 2007		100,000	$	462,500		62,466,338		$	62,466		$	123,436,957		$	(76,054,251	)	$	(127,118	)	$	(1,801,066	)	$	45,979,488

Preferred stock dividends		—		—		—			—			—			(29,250	)		—			—			(29,250	)
Issuance of common stock under employee stock purchase plan		—		—		63,426			63			82,588			—			—			—			82,651
Exercise of common stock options		—		—		10,000			10			11,190			—			—			—			11,200
Stock-based compensation expense		—		—		215,635			216			1,257,803			—			—			—			1,258,019
Shares issued for payment of interest		—		—		1,360,469			1,361			483,973			—			—			—			485,334
Retirement of treasury stock		—		—		(932,832	)		(933	)		(1,249,062	)		—			—			1,249,995			—
Foreign currency translation		—		—		—			—			—			—			12,162			—			12,162
Net loss		—		—		—			—			—			(14,036,063	)		—			—			(14,036,063	)


Balance — April 30, 2008		100,000	$	462,500		63,183,036		$	63,183		$	124,023,449		$	(90,119,564	)	$	(114,956	)	$	(551,071	)	$	33,763,541

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

ZILA, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS


	Nine Months Ended April 30,
	2008			2007
Cash flows from operating activities:
Net loss	$	(14,036,063	)	$	(10,717,114	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization		3,154,531			2,344,741
Non-cash amortization of financing costs		293,576			2,378,592
Non-cash amortization of debt discounts		1,336,259			3,046,165
Non-cash interest		485,334			201,940
Non-cash derivative (income) expense		23,600			(1,058,873	)
Gain on disposal of discontinued operations		—			(10,972,694	)
Non-cash stock-based compensation expense		1,279,961			1,453,739
Other non-cash items — net		40,386			(35,758	)
Changes in operating assets and liabilities:
Trade receivables		(1,209,934	)		225,490
Inventories		(39,707	)		20,789
Prepaid expenses and other assets		(277,146	)		844,896
Accounts payable and accrued liabilities		187,350			2,494,993

Net cash used in operating activities		(8,761,853	)		(9,773,094	)

Cash flows from investing activities:
Additions to property and equipment		(630,753	)		(440,780	)
Additions to intangible assets		(310,855	)		(463,959	)
Proceeds from sale of assets		11,495			—
Restricted cash returned from collateralized letter of credit		—			3,610,950
Proceeds from disposition of discontinued operations		—			34,705,077
Acquisition of Pro-Dentec		—			(35,554,421	)

Net cash provided by (used in) investing activities		(930,113	)		1,856,867

Cash flows from financing activities:
Short-term borrowings — net		—			61,351
Proceeds from convertible notes payable		—			24,075,000
Proceeds from issuance of common stock		71,909			15,971,481
Financing costs		—			(2,528,004	)
Principal payments on debt		(269,268	)		(23,940,285	)
Payment of obligation to repurchase common stock and warrants		(1,399,993	)		—
Dividends paid to preferred stockholders		(29,250	)		(29,250	)

Net cash provided by (used in) financing activities		(1,626,602	)		13,610,293

Net increase (decrease) in cash and cash equivalents		(11,318,568	)		5,694,066
Cash and cash equivalents — beginning of period		14,859,159			3,958,190

Cash and cash equivalents — end of period	$	3,540,591		$	9,652,256

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

ZILA, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. Description of Business and Basis of Presentation

The accompanying Unaudited Condensed Consolidated Financial Statements include the accounts of Zila, Inc. and its wholly owned subsidiaries (collectively, “Zila,” “we,” “us” or “our”). Zila is an integrated oral diagnostic company dedicated to the prevention, detection and treatment of oral cancer and periodontal disease. During fiscal 2007, we successfully completed a multi-step strategic redirection, which included divesting non-core businesses and acquiring the national dental products company, Professional Dental Technologies, Inc. (“Pro-Dentec”).

We manufacture and market ViziLite ^® Plus with TBlue ^TM (“ViziLite ^® Plus”), our flagship product for the early detection of oral abnormalities that could lead to cancer. ViziLite ^® Plus is an adjunctive medical device cleared by the FDA for use in a population at increased risk for oral cancer. In addition, Zila designs, manufactures and markets a suite of proprietary products sold exclusively and directly to dental professionals for periodontal disease, including the Rotadent ^® Professional Powered Brush, the Pro-Select Platinum ^® ultrasonic scaler and a portfolio of oral pharmaceutical products for both in-office and home-care use. All of our products are marketed and sold in the United States and Canada primarily through our direct field sales force and telemarketing organization. Our national marketing programs reach most of the nation’s dental offices and include continuing education seminars for dentists and their staffs. We are certified by the American Dental Association and the Academy of General Dentistry to provide continuing education seminars. In October 2006, we divested our Nutraceuticals business unit and in May 2007 we divested our Peridex ^® brand of prescription periodontal rinse and as a result, these operations are presented as discontinued for all periods presented. With the integration of the operations of Pro-Dentec with our former Zila Pharmaceuticals business unit and the re-alignment of our Zila Biotechnology business unit to serve as our research and development division, we have organized ourselves as one operating segment in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 131, “ Disclosures about Segments of an Enterprise and Related Information. ”

These unaudited condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). All significant intercompany transactions and accounts have been eliminated. Certain information related to our organization, significant accounting policies and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) have been condensed or omitted. The accounting policies followed in the preparation of these unaudited condensed consolidated financial statements are consistent with those followed in our annual consolidated financial statements for the year ended July 31, 2007, as filed on Form 10-K. In the opinion of management, these unaudited condensed consolidated financial statements contain all material adjustments, consisting only of normal recurring adjustments, necessary to fairly state our financial position, results of operations and cash flows for the periods presented and the presentations and disclosures herein are adequate when read in conjunction with our Form 10-K for the year ended July 31, 2007. The results reported in these interim condensed consolidated financial statements should not be regarded as being necessarily indicative of results that might be expected for the full year. Certain reclassifications have been made to the prior period financial statement amounts to conform to the current presentation.

The preparation of financial statements in conformity with GAAP requires management 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 the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Significant estimates include: (i) useful lives of intangibles; (ii) impairment analyses; (iii) depreciable lives of assets; (iv) income tax valuation allowances; (v) contingency and litigation reserves; (vi) inventory valuation; (vii) allowances for accounts receivable, cash discounts, sales incentives and sales returns; and (viii) valuation assumptions for share-based payments.

Basic net income (loss) per common share is computed by dividing net income (loss) available to common shareholders by the weighted average number of common shares outstanding during the period before giving effect to stock options, stock warrants and convertible securities outstanding, which are considered to be dilutive common stock equivalents. Diluted net income (loss) per common share is calculated based on the weighted average number of common and potentially dilutive shares outstanding during the period after giving effect to convertible preferred stock, convertible debt, stock options and warrants. Contingently issuable shares are included in the computation of basic earnings (loss) per share when issuance of the shares is no longer contingent. Due to the losses from continuing operations for the three and nine months ended April 30, 2008 and 2007, basic and diluted loss per common share were the same, as the effect of potentially dilutive securities would have been anti-dilutive.

ZILA, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

Potentially dilutive securities not included in the diluted loss per share calculation, due to net losses from continuing operations, are as follows (unaudited) (in thousands):


	Three Months Ended April 30,				Nine Months Ended April 30,
	2008		2007		2008		2007
Options and warrants to purchase common shares		—		191		32		400
Common stock awards		6		1		57		16
Convertible preferred stock		100		100		100		100
Convertible secured notes		—		5,454		—		2,737


Total potentially dilutive securities		106		5,746		189		3,253

As of April 30, 2008, we have approximately $12.0 million of Amended and Restated Secured Notes outstanding that are convertible into 5,454,546 shares of our common stock, which have been excluded from the above table for the three and nine months ended April 30, 2008 since the conversion price of these notes is antidilutive.

2. Recently Issued Accounting Pronouncements and Adopted Accounting

In July 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS Interpretation No. 48, “ Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109 ” (“FIN 48”), which we have adopted effective August 1, 2007. FIN 48 applies to all “tax positions” accounted for under SFAS No. 109. FIN 48 refers to “tax positions” as positions taken in a previously filed tax return or positions expected to be taken in a future tax return, which are reflected in measuring current or deferred income tax assets and liabilities reported in the financial statements. FIN 48 further clarifies a tax position to include, but not be limited to, the following:

	•		an allocation or a shift of income between taxing jurisdictions,

	•		the characterization of income or a decision to exclude reporting taxable income in a tax return, or

	•		a decision to classify a transaction, entity or other position in a tax return as tax exempt.

FIN 48 clarifies that a tax benefit may be reflected in the financial statements only if it is “more likely than not” that a company will be able to sustain the tax position, based on its technical merits. If a tax benefit meets this criterion, it should be measured and recognized based on the largest amount of benefit that is cumulatively greater than 50% likely to be realized. This is a change from previous practice, whereby companies may have recognized a tax benefit only if it was probable a tax position would be sustained.

FIN 48 also requires that we make qualitative and quantitative disclosures, including a discussion of reasonably possible changes that might occur in unrecognized tax benefits over the next 12 months, a description of open tax years by major jurisdictions, and a roll-forward of all unrecognized tax benefits, presented as a reconciliation of the beginning and ending balances of the unrecognized tax benefits on an aggregated basis.

We are potentially subject to tax audits in the United States and Canada. Tax audits by their very nature are often complex and can require several years to complete. We are potentially subject to United States federal and state tax examinations for the tax years ended July 31, 1994 through July 31, 2007. All tax loss years through July 31, 2007 remain open for federal, state and foreign operations. Zila’s responsibility for Canadian and Canadian Provincial income taxes arose through the acquisition of Pro-Dentec. As a condition of the acquisition of Pro-Dentec, the merger agreement related thereto required that the selling shareholders of Pro-Dentec indemnify Zila for any identified tax liabilities for periods prior to the acquisition. Zila is not indemnified for Canadian and Canadian Provincial tax examinations that may arise for the tax year ended July 31, 2007 and thereafter.

The adoption of FIN 48 did not have a material impact on our financial statements or disclosures. As of August 1, 2007 and April 30, 2008, we did not recognize any assets or liabilities for unrecognized tax benefits relative to uncertain tax positions nor do we anticipate any significant unrecognized tax benefits will be recorded during the next 12 months. Any interest or penalties resulting from examinations will be recognized as a component of the income tax provision. However, since there are no unrecognized tax benefits as a result of tax positions taken, there are no accrued interest and penalties.

In September 2006, the FASB issued SFAS No. 157, “ Fair Value Measures ” (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value in GAAP, expands disclosures about fair value measurements and applies under other accounting pronouncements that require or permit fair value measurements. SFAS 157 does not require any new fair value

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

measurements. However, the FASB anticipates that for some entities, the application of SFAS 157 will change current practice. SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, which for us will be our fiscal year beginning August 1, 2008. However, in February 2008, the FASB deferred the effective date of SFAS 157 for one year for certain non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (i.e., at least annually). We are currently evaluating the impact of SFAS 157 to determine whether its adoption will have a material effect on our consolidated financial statements.

In February 2007, the FASB issued SFAS No. 159, “ The Fair Value Option for Financial Assets and Financial Liabilities — Including an Amendment of FASB Statement No. 115, Accounting for Certain Investments in Debt and Equity Securities ” (“SFAS 159”). SFAS 159 permits an entity to choose to measure many financial instruments and certain items at fair value. The objective of this standard is to improve financial reporting by providing entities with the opportunity to mitigate volatility in reporting earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. SFAS 159 permits all entities to choose to measure eligible items at fair value at specified election dates. Entities will report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. The fair value option: (i) may be applied instrument by instrument, with a few exceptions, such as investments accounted for by the equity method; (ii) is irrevocable (unless a new election date occurs); and (iii) is applied only to entire instruments and not to portions of instruments. SFAS 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007, which for us would be our fiscal year beginning August 1, 2008. We are currently evaluating whether to adopt SFAS 159.

In December 2007, the FASB issued SFAS No. 141 (revised 2007), “ Business Combinations ” (“SFAS 141(R)”). SFAS 141(R) establishes the principles and requirements for how an acquirer: (i) recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed and any noncontrolling interest in the acquiree; (ii) recognizes and measures goodwill acquired in a business combination or a gain from a bargain purchase; and (iii) determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of a business combination. SFAS 141(R) is to be applied prospectively to business combinations consummated on or after the beginning of the first annual reporting period on or after December 15, 2008, which for us would be our fiscal year beginning August 1, 2009. Early adoption is prohibited. We are currently evaluating the impact SFAS 141(R) will have upon adoption on our accounting for future acquisitions.

In December 2007, the FASB issued SFAS No. 160, “ Noncontrolling Interests in Consolidated Financial Statements — an amendment of ARB No. 51 ” (“SFAS 160”). SFAS 160 establishes accounting and reporting standards that require (i) noncontrolling interests to be reported as a component of equity, (ii) changes in a parent’s ownership interest while the parent retains its controlling interest to be accounted for as equity transactions, and (iii) any retained noncontrolling equity investment upon the deconsolidation of a subsidiary to be initially measured at fair value. SFAS 160 is effective for fiscal years and interim periods within those fiscal years, beginning on or after December 15, 2008, which for us would be our fiscal year beginning August 1, 2009. Early adoption is prohibited. We do not expect the adoption of SFAS 160 to have a material effect on our financial position or results of operations.

In March 2008, the FASB issued SFAS No. 161, “ Disclosures about Derivative Instruments and Hedging Activities, an amendment of FASB Statement No. 133 ” (“SFAS 161”), which establishes, among other things, the disclosure requirements for derivative instruments and hedging activities. SFAS 161 requires qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about fair value amounts of and gains and losses on derivative instruments, and disclosures about credit-risk-related contingent features in derivative agreements. SFAS 161 is effective for fiscal periods and interim periods beginning after November 15, 2008, which for us would be our third fiscal quarter of our fiscal year 2009, which would be the quarterly period ending April 30, 2009. We are currently evaluating the impact SFAS 161 will have on our financial statement disclosures.

3. Acquisition of Pro-Dentec

On November 28, 2006, we completed the acquisition of Pro-Dentec, a privately-held, professional dental products company headquartered in Batesville, Arkansas, for approximately $35.6 million in cash. Through its national sales and marketing organization, Pro-Dentec offers, directly to dental professionals, a small suite of proprietary dental products that complement our oral cancer screening products.

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

The following pro forma unaudited condensed statement of operations data shows the results of our operations for the nine months ended April 30, 2007 as if the Pro-Dentec acquisition had occurred at the beginning of fiscal 2007 (in thousands except share amounts):


Net revenues	$	30,001

Loss from continuing operations	$	(16,282	)

Basic and diluted net loss per common share from continuing operations	$	(0.26	)

Pro forma weighted average common shares outstanding — basic and diluted		61,915

The above pro forma disclosure is provided for the nine months ended April 30, 2007 because the completion of the acquisition of Pro-Dentec did not occur until November 28, 2006. No pro forma disclosure has been presented for the three and nine months ended April 30, 2008 and the three months ended April 30, 2007 as the results of Pro-Dentec have been consolidated for all periods subsequent to November 2006.

4. Dispositions

As part of our strategy to focus our business operations on the development and commercialization of products within our core business and with the highest growth potential, during fiscal 2007 we disposed of Zila Nutraceuticals, Inc. and our Peridex ^® brand of prescription periodontal rinse.

On August 13, 2006, we entered into a stock purchase agreement to sell Zila Nutraceuticals, Inc., our former Nutraceuticals business unit, to NBTY, Inc. (“NBTY”). Following approval of our shareholders, we completed the sale on October 2, 2006 for a price of $37.5 million, subject to a working capital adjustment. The transaction resulted in the receipt of $36.4 million in cash and expenses of $1.5 million. The sale resulted in a pre-tax gain of $11.0 million, which included the disposition of approximately $2.9 million of goodwill previously carried by the Nutraceuticals business unit. Under the stock purchase agreement, we agreed to indemnify NBTY for a number of matters, including the breach of our representations, warranties and covenants contained in the stock purchase agreement, in some cases until the expiration of the statute of limitations applicable to claims related to such breaches. On September 28, 2006, as a requirement of the Nutraceuticals disposition, we redeemed Industrial Development Revenue Bonds in the amount of $2.8 million plus accrued interest. Funds in a restricted cash collateral account were utilized for this repayment. The balance of the restricted cash collateral was returned to Zila. We recognized a $0.2 million charge for unamortized deferred financing costs at the time of the retirement of these bonds.

On May 31, 2007 we sold the inventory and technology related to our Peridex ^® brand of products for $9.5 million, which had previously been a part of our Pharmaceuticals business unit. Expenses of the sale were approximately $0.1 million. This transaction resulted in a pre-tax gain of approximately $5.2 million.

During fiscal 2006 and 2005 we also divested two other business lines that had previously been part of our Pharmaceuticals business unit, including the assets and certain defined liabilities of our IST swab operations and our Zilactin ^® brand of over-the-counter lip and oral care products. Subsequent to the sale of the Zilactin ^® products, we were engaged in an arbitration proceeding regarding the disposition, which was settled on November 3, 2006 and required the payment of approximately $0.7 million, which was included in loss from discontinued operations during the first quarter of fiscal 2007. Separately, we incurred approximately $0.3 million of expense in the first nine months of fiscal 2008 for pending litigation with Dr. James E. Tinnell, which is more fully described in Note 17 “Commitments and Contingencies” below and relates to the previously disposed Zilactin ^® product line.

Each of the disposals discussed above meets the definition of a “component of an entity” and has been accounted for as a discontinued operation under SFAS No. 144, “ Accounting for the Impairment or Disposal of Long-Lived Assets. ” The results of operations for these businesses have accordingly been classified as discontinued operations in all periods presented.

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

The results of these discontinued operations for the three and nine months ended April 30, 2007 are as follows (unaudited) (in thousands):


	Three Months Ended April 30, 2007
	Nutraceuticals			Pharmaceuticals			Total
Net revenues	$	—		$	1,114		$	1,114


Income (loss) from discontinued operations	$	(179	)	$	483		$	304
Gain (loss) on disposal of discontinued operations		3			(23	)		(20	)
Income tax expense		—			(191	)		(191	)


Total income (loss) from discontinued operations	$	(176	)	$	269		$	93


	Nine Months Ended April 30, 2007
	Nutraceuticals			Pharmaceuticals			Total
Net revenues	$	1,629		$	3,540		$	5,169


Income (loss) from discontinued operations	$	(1,216	)	$	808		$	(408	)
Gain (loss) on disposal of discontinued operations		11,025			(51	)		10,974
Income tax expense		(3,877	)		(191	)		(4,068	)


Total income from discontinued operations	$	5,932		$	566		$	6,498

As of April 30, 2008 and July 31, 2007, current liabilities of the divested operations consisted of accounts payable and other accrued expenses related to the previously divested Pharmaceuticals operations.

5. Inventories

Inventories consist of the following (in thousands):


	April 30,			July 31,
	2008			2007
	(Unaudited)
Finished goods	$	986		$	1,413
Work-in-process		324			323
Raw materials		3,074			2,659
Inventory reserves		(270	)		(320	)


Total inventories	$	4,114		$	4,075

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

6. Property and Equipment

Property and equipment consist of the following (in thousands):


	April 30,			July 31,
	2008			2007
	(Unaudited)
Land	$	529		$	529
Building and improvements		2,114			2,181
Furniture and equipment		3,401			2,360
Leasehold improvements and other assets		823			1,360
Production, laboratory and warehouse equipment		4,601			4,423


Total property and equipment		11,468			10,853
Less: Accumulated depreciation and amortization		(5,746	)		(4,634	)


Property and equipment — net	$	5,722		$	6,219

7. Goodwill and Other Intangible Assets

Goodwill and other intangible assets consist of the following (in thousands):


	April 30, 2008 (Unaudited)							July 31, 2007
	Gross					Net		Gross					Net
	Carrying		Accumulated			Carrying		Carrying		Accumulated			Carrying
	Amount		Amortization			Amount		Amount		Amortization			Amount
Amortizable intangible assets:
Purchased technology	$	15,592	$	(6,476	)	$	9,116	$	15,592	$	(5,708	)	$	9,884
Trademarks		163		(14	)		149		132		(11	)		121
Patents		2,615		(448	)		2,167		2,495		(350	)		2,145
Licensing costs		2,674		(1,711	)		963		2,674		(1,514	)		1,160
Covenants not to compete and other		3,556		(1,834	)		1,722		3,556		(876	)		2,680

Total amortizable intangible assets		24,600		(10,483	)		14,117		24,449		(8,459	)		15,990
Unamortizable trademarks		5,449		—			5,449		5,449		—			5,449


Total other intangible assets		30,049		(10,483	)		19,566		29,898		(8,459	)		21,439
Goodwill		10,171		—			10,171		10,171		—			10,171


Total intangible assets	$	40,220	$	(10,483	)	$	29,737	$	40,069	$	(8,459	)	$	31,610

Amortization of amortizable intangible assets is calculated using the following useful lives (in years):


			Weighted Average
	Range of		Remaining Useful Lives
	Useful Lives		April 30, 2008		July 31, 2007
			(Unaudited)
Purchased technology		15		13.7		14.5
Trademarks		7-10		7.0		7.6
Patents		4-17		6.0		6.2
Licensing costs		7-10		3.7		4.4
Covenants not to compete and other		2-15		1.1		1.8

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

8. Accrued Liabilities

Accrued liabilities consist of the following (in thousands):


	April 30,		July 31,
	2008		2007
	(Unaudited)
Accrued research and development	$	1,165	$	1,864
Accrued employee compensation and related taxes		887		1,876
Accrued professional and consulting fees		1,015		569
Accrued fee due Investors for Restructuring (see Note 9)		—		600
Other accrued expenses		1,386		679


Total accrued liabilities	$	4,453	$	5,588

9. Debt

Debt consists of the following (in thousands):


	April 30,			July 31,
	2008			2007
	(Unaudited)
Short-term borrowings and current portion of long-term debt:
Short-term borrowings	$	62		$	—
Capital lease obligations		74			77


Total short-term borrowings and current portion of long-term debt	$	136		$	77


Long-term debt:
Senior secured convertible notes — net of unamortized discount of $4,009 and $5,345	$	7,991		$	6,655
PharmaBio		500			500
Capital lease obligations		125			181


Total long-term debt		8,616			7,336
Less: Current portion of long-term debt		(74	)		(77	)


Long-term debt — net of current portion	$	8,542		$	7,259

Short-term Borrowings

As of April 30, 2008, we had short-term borrowings for installments due on an insurance policy, with an interest rate of 6.4%.

Private Placements

In November 2006, we consummated two private placements (the “Private Placements”) for gross proceeds of approximately $40.0 million.

Pursuant to the first purchase agreement, we issued and sold:

	(i)		9,100,000 shares of Zila’s common stock for $1.75 per share (the “Shares”);

	(ii)		Approximately $12.1 million in aggregate principal amount of 12.0% Unsecured Convertible Notes (the “Unsecured Notes”), which converted into 6,900,000 shares (the “Unsecured Note Shares”) of Zila’s common stock at a conversion price of $1.75 per share on December 14, 2006, the date on which our stockholders approved, among other things, the Private Placements;

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

	(iii)		Warrants to purchase approximately 5,403,000 shares of Zila’s common stock, which became exercisable in May 2007 for five years at an exercise price of $2.21 per share (the “Initial Warrants”);

	(iv)		Warrants to purchase approximately 3,105,000 shares of Zila’s common stock, which became exercisable for five years at an exercise price of $2.21 per share following approval by our stockholders on December 14, 2006 (the “Additional Warrants”).

Pursuant to the second purchase agreement, we issued and sold:

	(i)		Approximately $12.0 million in aggregate principal amount of 6.0% Senior Secured Convertible Notes (the “Secured Notes”), which are due in November 2009 and became convertible into 5,454,546 shares of Zila’s common stock at a conversion price of $2.20 following approval by our stockholders on December 14, 2006; and

	(ii)		Warrants to purchase 1,909,091 shares of Zila’s common stock, which became exercisable for five years at an exercise price of $2.21 per share following approval by our stockholders on December 14, 2006 (the “Secured Note Warrants”).

We granted registration rights for the Shares and shares of common stock issuable upon conversion of the debt instruments and exercise of the warrants. A dispute arose with certain investors (the “Investors”) regarding the extent of the registration rights. On August 13, 2007, we reached an agreement with the Investors to restructure the Investors’ holdings (the “Restructuring”) and to provide us with relief from certain financial and non-financial covenants contained in the Secured Notes (the “Amendment Agreement”). As amended and restated, the “Amended and Restated Secured Notes” are in the same aggregate principal amount as the Secured Notes, or approximately $12.0 million, but are due July 31, 2010. The Amended and Restated Secured Notes bear interest, payable quarterly, at 7.0% per annum, but at our option, interest payments can be made at an 8.0% annual rate in shares of our common stock at a price equal to 90.0% of the average closing bid price of such common stock for the ten trading days immediately prior to the relevant interest payment date. The Amended and Restated Secured Notes remain convertible into shares of common stock at a conversion price of $2.20 per share at the option of the holders of such notes. In addition, the Amended and Restated Secured Notes contain comprehensive covenants that restrict the way in which we can operate, and contain financial covenants that require us to maintain specified cash and defined EBITDA levels.

As part of the Restructuring, we also agreed to:

(i)

Repurchase 932,832 Unsecured Note Shares from the Investors for approximately $1.25 million in cash, at a price based on the average closing bid price of our common stock for the ten trading days prior to August 13, 2007, or $1.34 per Unsecured Note Share;

(ii)

Repurchase 227,270 Secured Note Warrants from the Investors for approximately $0.15 million in cash, at a price based on a Black-Scholes valuation, or $0.66 per Secured Note Warrant; and

(iii)

Pay the Investors a $0.6 million fee.

The Amendment Agreement contained a mutual release of claims. We concluded that the Amended and Restated Secured Notes are not substantially different from the original Secured Notes and accordingly, the Amendment Agreement has not been accounted for as a debt extinguishment. As of July 31, 2007, the $0.6 million fee has been accrued as the resolution of the registration rights dispute with the Investors and the fair value of the shares and warrants has been reclassified from permanent equity to a current liability. No income or loss was recognized as a result of this reclassification. The increase in the fair value of these financial instruments from July 31, 2007 to the date they were repurchased on August 13, 2007 of less than $0.1 million, has been accounted for as a charge to earnings in the first quarter of fiscal 2008.

In connection with the Restructuring and the issuance of the Amended and Restated Secured Notes, we also received waivers from the required majority of the holders of the Initial Warrants, Additional Warrants and Secured Note Warrants waiving any antidilution rights to which any holder of such warrants would otherwise be entitled in connection with the issuance of any shares as payment for interest on the Amended and Restated Secured Notes. On August 13, 2007, we entered into a Registration Rights Agreement (the “Registration Rights Agreement”), which resolved certain claims with the Investors. Separately, a side letter that imposed certain corporate governance obligations on Zila, the most notable of which that had not yet been fulfilled was to appoint two additional directors to our Board of Directors, was terminated.

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

On June 3, 2008 we entered into a second amendment agreement (the “Second Amendment Agreement”) to the Secured Notes (the “Second Amended and Restated Secured Notes”), which resulted in the easing of certain financial covenants as follows:

	(i)		The required cash and cash equivalents balance that is required to be maintained at the end of each fiscal quarter commencing with the fiscal quarter ending July 31, 2007 was reduced from $2.0 million to $1.0 million; and

	(ii)		The required EBITDA level, as defined in the Second Amended and Restated Secured Notes (“Defined EBITDA”), of at least $1.00 must be met for any one fiscal quarter on or prior to our quarter ending July 31, 2009. Prior to the Second Amendment Agreement, we were required to have Defined EBITDA of at least $1.00 for each of the fiscal quarters ending July 31, 2008 and October 31, 2008.

In exchange for the covenant modifications, we issued 4,626,595 common shares with a fair value of $1.2 million based on quoted market prices on the date of the Second Amendment Agreement. Additionally, the creditors returned 3,396,100 warrants that they had been previously issued in connection with the original issuance of the Secured Notes and other financing transactions. The aggregate fair value of these warrants as of the date of this modification, based on the Black Scholes model, was $0.1 million. We concluded that the Second Amended and Restated Secured Notes are not substantially different from the original Secured Notes and accordingly, the Second Amendment Agreement has not been accounted for as a debt extinguishment.

The Second Amended and Restated Secured Notes are secured by certain of our existing and future property, as well as the existing and future property of each of our wholly-owned subsidiaries. In connection with the Second Amendment Agreement, we entered into a registration rights agreement for the registration of the 4,626,595 common shares that were issued to the creditors. The registration rights agreement requires us to, among other things, file a registration statement within thirty days of the date of the Second Amendment Agreement. This registration rights agreement contains cash penalty provisions calculated as 1.0% of the market price of the common shares for every 30 day period a registration requirement is not met. The registration rights agreement does not specify a limit on the maximum amount of penalties that could be incurred under the agreement. We do not believe it is probable that penalty payments will be made for this registration rights agreement and accordingly have not accrued for such penalties at the time the Second Amendment Agreement was entered into.

Failure to satisfy the financial covenants, or to maintain compliance with other covenants, could, at the option of the Second Amended and Restated Secured Note holders, result in an event of default. Upon the occurrence of the first specified event of default, the holders of the Second Amended and Restated Secured Notes could accelerate and demand repayment of one-third of the outstanding principal balance and all accrued but unpaid interest on the Second Amended and Restated Secured Notes. Upon the occurrence of the second specified event of default, the holders of the Second Amended and Restated Secured Notes could accelerate and demand repayment of one-half of the outstanding principal balance and all accrued but unpaid interest on these notes. Upon the occurrence of the third specified event of default, the entire principal balance and all accrued but unpaid interest may become due and payable. Additionally, upon the occurrence and during the continuation of any event of default, all amounts outstanding under the Second Amended and Restated Secured Notes shall bear interest at an annual rate of 15.0% per annum.

PharmaBio Development, Inc.

In December 2002, we entered into an agreement with PharmaBio Development, Inc. (“PharmaBio”), the strategic investment group of Quintiles Transnational Corp., our contract research organization. Under this agreement, PharmaBio invested $0.5 million in us and in return we agreed to pay PharmaBio an amount equal to 5.0% of all net sales of the OraTest ^® product in the European Union and the United States. The aggregated amount of the royalty cannot exceed $1.25 million and the royalty is payable quarterly. The investment was recorded as long-term debt and will be amortized using the effective interest method.

10. Share-Based Payments

We have one active share-based stock award plan that provides for the grant of stock options and stock awards, such as restricted stock and restricted stock units (“RSUs”), to our employees, members of our Board of Directors and non-employee consultants, as approved by our Board of Directors. We typically grant stock option awards to our employees and to members of our Board of Directors at prices equal to the market value of our stock on the date of grant. These awards vest over a period determined at the time of the grant and generally range from one to three years of continuous service, with maximum terms ranging from five to ten years. Certain awards granted to our employees provide for accelerated vesting if there is a “change in control” of Zila (as defined in the plan). During December 2007, our shareholders approved an increase to the authorized shares in our share-based stock award plan by 3,000,000 shares. As of April 30, 2008 there were 1,110,000 shares available for grant under the plan.

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

During the nine months ended April 30, 2008 and 2007, we granted options to purchase 3,128,166 and 1,299,026 shares of our common stock, respectively. No grants were made during the three months ended April 30, 2008. The fair value of options granted is estimated using the Black-Scholes option pricing model using the following assumptions:


	Three Months Ended April 30,					Nine Months Ended April 30,
	2008		2007			2008			2007
Risk-free interest rate		N/A		3.7	%		3.5	%		4.8	%
Expected volatility		N/A		67.0	%		59.6	%		62.0	%
Expected term (in years)		N/A		5.5			5.2			5.8
Dividend yield		N/A		0.0	%		0.0	%		0.0	%

The risk free interest rate is based on U.S. Treasury rates with maturity dates approximating the expected term of the grant. The historic volatility of our stock is used as the primary basis for the expected volatility assumption. Expected term is based on evaluations of historic and expected future employee exercise behavior. Our ability to pay dividends is restricted and therefore we have assumed no dividend yield.

SFAS No. 123 (revised 2004), “Share-Based Payment” requires the estimation of forfeitures when recognizing compensation expense and that this estimate of forfeitures be adjusted over the requisite service period should actual forfeitures differ from such estimates. Changes in estimated forfeitures are recognized through an adjustment, which is recognized in the period of change and which impacts the amount of unamortized compensation expense to be recognized in future periods.

A summary of stock option activity for our stock award plan for the nine months ended April 30, 2008 is as follows (in thousands except exercise price per share and option term amounts) (unaudited):


						Weighted
				Weighted		Average
				Average		Remaining		Aggregate
	Number			Exercise		Contractual		Intrinsic
	of Options			Price		Term (Years)		Value
Options outstanding — beginning of period		2,917		$	3.11		5.8	$	130
Granted		3,128			1.11
Exercised		(10	)		1.12
Expired		(226	)		2.63
Forfeited		(208	)		1.61


Options outstanding — end of period		5,601			2.07		7.3		—


Options vested or expected to vest — end of period		5,054			2.16		7.1		—


Options exercisable — end of period		2,608			2.81		5.3		—

The weighted average grant-date fair value of options granted to our employees and directors during the nine months ended April 30, 2008 was $0.60 per common share. The total intrinsic value of options exercised and cash received from option exercises during the nine months ended April 30, 2008 was less than $0.1 million.

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

A summary of unvested common stock award activity within our share-based compensation plan for the nine months ended April 30, 2008 is as follows (in thousands except grant value per share and recognition period) (unaudited):


						Weighted
				Weighted		Average
				Average		Remaining
	Number			Grant		Recognition
	of Shares			Value		Period (Years)
Unvested balance — beginning of period		133		$	2.42		1.4
Granted		598			1.13
Vested		(309	)		1.50
Forfeited		—			—


Unvested balance — end of period		422			1.27		1.3

Stock-based compensation costs are reflected in the following financial statement captions (in thousands) (unaudited):


	Three Months Ended April 30,				Nine Months Ended April 30,
	2008		2007		2008		2007
Marketing and selling expense	$	48	$	26	$	150	$	118
General and administrative expense		336		337		1,107		1,317
Research and development expense		1		6		3		8
Inventory		12		7		20		16
Discontinued operations		—		—		—		(5	)


Total stock-based compensation	$	397	$	376	$	1,280	$	1,454

The above table includes a benefit of less than $0.1 million for the first nine months of fiscal 2007 for non-employee stock options, which are adjusted to current fair value each quarter during their vesting period as services are rendered, and is included as a component of general and administrative expense. The above table includes expense for our employee stock purchase plan, which is less than $0.1 million for all periods presented.

As of April 30, 2008, total unrecognized compensation cost related to unvested stock options and unvested common stock awards was approximately $2.2 million and $0.4 million, respectively, with a weighted average period over which these costs are expected to be recognized of approximately 2.2 years and 1.3 years, respectively.

11. Warrants

As of April 30, 2008, we had exercisable warrants outstanding for the purchase of 12,608,500 shares of our common stock with a weighted average exercise price of $2.21 and a weighted average contractual term of 3.5 years. We issued these warrants in connection with financing arrangements with the value of these warrants determined by use of the Black-Scholes model. As discussed elsewhere herein, on August 13, 2007, we repurchased 227,270 Secured Note Warrants for approximately $0.15 million in cash. Separately, warrants for the purchase of 88,000 common shares that had been previously issued in connection with services provided by medical and financial advisors expired during the three months ended April 30, 2008.

12. Convertible Preferred Stock

On February 5, 2001, we issued 100,000 shares of Series B Convertible Preferred Stock (“Preferred Stock”) as part of an acquisition. The holders of the Preferred Stock are entitled to receive cumulative quarterly dividends at a rate of $0.0975 per share per fiscal quarter, payable in arrears, which represents an aggregate annual dividend of $39,000. As of April 30, 2008 and July 31, 2007, accumulated accrued dividends were $9,750. The Preferred Stock can be redeemed at our option if our common stock maintains a closing price on each trading day equal to or greater than $9.00 per share for any ten trading day period. The redemption price shall be the average bid closing price of our common stock for the five trading days immediately proceeding the date we give notice. The Preferred Stock is convertible at the option of the holder at any time on or before December 31, 2010 into our common stock at the ratio of one-to-one. On December 31, 2010, all of the remaining Preferred Stock will be converted into our common stock at a ratio of one-to-one. Holders of the preferred stock have no voting rights except as required by applicable law and have a liquidation

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

preference of $0.65 million.

13. Treasury Stock

In connection with the Amendment Agreement described above, on August 13, 2007 we repurchased 932,832 Unsecured Note Shares from certain Investors for approximately $1.25 million in cash, at a price based on the average closing bid price of our common stock for the ten trading days prior to August 13, 2007, or $1.34 per Unsecured Note Share. These shares were treated as treasury stock as of July 31, 2007, and during the first quarter of fiscal 2008 these treasury shares were retired.

During fiscal 2001, we began acquiring shares of our common stock under a stock repurchase program announced in November 1999. The program authorized the repurchase of up to 1.0 million shares of Zila common stock from time to time on the open market depending on market conditions and other factors. Under this repurchase program, we purchased 225,100 shares of common stock at an aggregate cost of approximately $0.6 million, and made the last purchases under this program in fiscal 2003, after which we suspended purchases under the program.

14. Income Taxes

As of April 30, 2008, we have recorded a valuation allowance for our net deferred tax assets of $12.9 million due to our lack of earnings history, and we had federal net operating loss carryforwards of approximately $47.9 million that expire in years 2009 to 2028. Income tax benefit for the three and nine months ended April 30, 2008 was less than $0.1 million and primarily relates to state income taxes. Income tax benefit of $0.2 million and $4.0 million for the three and nine months ended April 30, 2007 resulted from the utilization of net operating loss carryforwards to offset the income tax expense on the taxable gain on the sales of our Nutraceuticals business unit and our Peridex ^® brand of prescription periodontal rinse, which are presented as discontinued operations.

15. Supplemental Cash Flow Information

Supplemental cash flow information is as follows (unaudited) (in thousands):


	Nine Months Ended April 30,
	2008		2007
Interest paid	$	246	$	957
Income taxes paid		45		164
Insurance policy financed with short-term borrowings		275		—
Conversion of Unsecured Notes		—		4,452
Capital lease obligations for new equipment		—		181

16. Comprehensive Loss

Comprehensive loss includes the effects of foreign currency translation and does not reflect an income tax effect due to the recording of valuation allowances. Comprehensive loss is as follows (unaudited) (in thousands):


	Three Months Ended April 30,						Nine Months Ended April 30,
	2008			2007			2008			2007
Net loss	$	(4,445	)	$	(4,308	)	$	(14,036	)	$	(10,717	)
Foreign currency translation adjustment		1			(10	)		12			(37	)


Comprehensive loss	$	(4,444	)	$	(4,318	)	$	(14,024	)	$	(10,754	)

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

17. Commitments and Contingencies

Legal Proceedings

Except as described below, as of April 30, 2008, we were not a party to any pending legal proceedings other than routine claims that arise in the ordinary conduct of our business. While we currently believe that the ultimate outcome of these proceedings discussed below will not have a material adverse effect on our consolidated financial condition or results of operations, litigation is subject to inherent uncertainties. If an unfavorable ruling were to occur, there exists the possibility of a material adverse impact on our net income in the period in which such ruling occurs. Our estimate of the potential impact of the following legal proceedings on our financial position and our results of operation could change in the future.

In connection with the acquisition of patent rights in 1980, we agreed to pay to Dr. James E. Tinnell (“Tinnell”), the inventor of one of our former treatment compositions, a royalty of 5.0% of gross sales of the invention disclosed in his then pending patent application. In September 2000, we notified Tinnell that we would no longer pay such royalties because the obligations ceased in August 1998 when the related product patents expired and we requested reimbursement of royalties paid since August 1998. We then filed suit on November 8, 2000, in the United States District Court for the District of Nevada requesting a declaratory judgment that we had no royalty obligations to Tinnell and judgment for the overpaid royalties. On April 22, 2004, the Court, in part, ruled in our favor, stating that our royalty obligations to Tinnell ceased in August 1998, however, our request for reimbursement of overpaid royalties was dismissed. Tinnell filed a notice of appeal and we have filed a notice of cross-appeal. On September 5, 2007, the Ninth Circuit Court of Appeals reversed the decision of the lower court and remanded the case for a determination of whether or not Tinnell should be credited with inventing the improvement embodied in a 1992 patent. Both parties have filed motions for summary judgment and await the ruling of the court.

Indemnifications

During the normal course of business, we make certain indemnities, commitments and guarantees under which we may be required to make payments in relation to certain transactions. These include: (i) intellectual property indemnities to customers in connection with the use, sales and/or license of products and services; (ii) indemnities to customers in connection with losses incurred while performing services on their premises; (iii) indemnities to vendors and service providers pertaining to claims based on negligence or willful misconduct; and (iv) indemnities involving the representations and warranties in certain contracts. In addition, under our by-laws we are committed to our directors and officers for providing for payments upon the occurrence of certain prescribed events. The majority of these indemnities, commitments and guarantees do not provide for any limitation on the maximum potential for future payments that we could be obligated to make. To help address these risks, we maintain general business liability insurance coverage, including product, commercial, general, fiduciary, employment practices and directors’ and officers’ liability coverages. We have not recorded a liability for these indemnities, commitments and other guarantees.

Data Management Services Agreement

Our national marketing programs reach most of the nation’s dental offices and include continuing education seminars that dentists and their staffs pay to attend. During March 2008 upon completion of our competitive bidding process, we entered into an agreement with Designing Solutions, LLC to assist us in managing continuing education program data and information. Designing Solutions, LLC is an entity managed by a member of our Board of Directors, George J. Vuturo, RPh, PhD. The agreement calls for an initial development fee of approximately $26,000, which was paid during the three months ended April 30, 2008, and future recurring monthly fees that are based in part on the number of continuing education seminars conducted by Zila and the number of participants at these seminars. After the completion of the initial development, this contract is for services as requested by Zila.

Appointment of Chief Executive Officer

On May 9, 2008, David R. Bethune accepted an Employment Letter (the “Employment Letter”) from Zila. The Employment Letter replaces the Offer Letter dated August 14, 2007, which was terminated. Mr. Bethune has been a member of the Board since 2005 and was previously appointed Chairman of the Board on May 21, 2007 and interim Chief Executive Officer on March 31, 2008. Under the Employment Letter, which is effective until the earlier of Mr. Bethune’s departure from Zila’s Board of Directors or October 31, 2009, Mr. Bethune’s base salary increased to $350,000 per year, less applicable withholdings, to be paid in accordance with our regular payroll practices. However, Mr. Bethune has elected to defer receipt of the pay increase at this time. Until paid, such amount will be accrued. In addition, Mr. Bethune will be eligible for a performance bonus of up to fifty percent (50%) of this base salary, based on our financial performance. If there is a subsequent restatement of a reporting period for which an incentive payment is made, which results in the failure to achieve the planned target for that period, the incentive payment must be returned to Zila. Mr. Bethune

ZILA, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

is also entitled to a grant of 300,000 shares of restricted stock, with 150,000 shares vesting on the date of grant and the restrictions on the remainder lapsing monthly over the next 18 months. The Employment Letter also contains other customary provisions, including provisions related to severance payments following a change in control and termination without cause.

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

The following discussion should be read in conjunction with the Unaudited Condensed Consolidated Financial Statements and Notes thereto included elsewhere herein as well as our Annual Report on Form 10-K for the year ended July 31, 2007, as filed with the SEC, including the factors set forth in the section titled “Forward-looking Statements,” as well as our other filings made with the SEC.

Forward-Looking Statements

This Quarterly Report on Form 10-Q, including this Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains forward-looking statements regarding future events and our future results that are subject to the safe harbors created under the Securities Act of 1933 (the “Securities Act”) and the Securities Exchange Act of 1934 (the “Exchange Act”). These statements are based on current expectations, estimates, forecasts and projections about the industries in which we operate and the beliefs and assumptions of our management. Words such as “expects,” “anticipates,” “targets,” “goals,” “projects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “continues,” “may,” “could,” “foresees,” “should,” and variations of such words and similar expressions are intended to identify such forward-looking statements. In addition, any statements that refer to projections of our future financial performance, our anticipated growth and trends in our businesses, and other characterizations of future events or circumstances are forward-looking statements. Readers are cautioned that these forward-looking statements are only predictions and are subject to risks, uncertainties, and assumptions that are difficult to predict, including those identified in our Form 10-K for the year ended July 31, 2007 under Item 1A “Risk Factors,” and in Item 1A, “Risk Factors” under Part II hereof. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements. We undertake no obligation to revise or update any forward-looking statements for any reason.

Company Overview

Zila is an integrated oral diagnostic company dedicated to the prevention, detection and treatment of oral cancer and periodontal disease. During fiscal 2007, we successfully completed a multi-step strategic redirection, which included divesting non-core businesses and acquiring the national dental products company, Professional Dental Technologies, Inc. (“Pro-Dentec”).

We manufacture and market ViziLite ^® Plus with TBlue ^TM (“ViziLite ^® Plus”), our flagship product for the early detection of oral abnormalities that could lead to cancer. ViziLite ^® Plus is an adjunctive medical device cleared by the FDA for use in a population at increased risk for oral cancer. During November 2007, we commenced an international expansion initiative with the launch of ViziLite ^® Plus in Canada and we have furthered that effort with the launch of ViziLite ^® Plus in the United Kingdom in May 2008. In addition, Zila designs, manufactures and markets a suite of proprietary products sold exclusively and directly to dental professionals for periodontal disease, including the Rotadent ^® Professional Powered Brush, the Pro-Select Platinum ^® ultrasonic scaler and a portfolio of oral pharmaceutical products for both in-office and home-care use. All of our products are marketed and sold in the United States and Canada primarily through our direct field sales force and telemarketing organization. Our national marketing programs reach most of the nation’s dental offices and include continuing education seminars for dentists and their staffs. We are certified by the American Dental Association and the Academy of General Dentistry to provide continuing education seminars. In October 2006, we divested our Nutraceuticals business unit and in May 2007 we divested our Peridex ^® brand of prescription periodontal rinse and as a result, these operations are presented as discontinued for all periods presented. With the integration of the operations of Pro-Dentec with our former Zila Pharmaceuticals business unit and the re-alignment of our Zila Biotechnology business unit to serve as our research and development division, we have organized ourselves as one operating segment.

Recent Developments

As is discussed elsewhere herein, on June 3, 2008 we entered into a second amendment agreement (the “Second Amendment Agreement”) to the Secured Notes (the “Second Amended and Restated Secured Notes”) that resulted in the easing of certain financial covenants as follows:

	(i)		The required cash and cash equivalents balance that is required to be maintained at the end of each fiscal quarter commencing with the fiscal quarter ending July 31, 2007 was reduced from $2.0 million to $1.0 million; and

	(ii)		The required EBITDA level, as defined in the Second Amended and Restated Secured Notes (“Defined EBITDA”), of at least $1.00 must be met for any one fiscal quarter on or prior to our quarter ending July 31, 2009. Prior to the Second Amendment Agreement, we were required to have Defined EBITDA of at least $1.00 for each of the fiscal quarters ending July 31, 2008 and October 31, 2008.

As of April 30, 2008, we had approximately $3.5 million of cash and cash equivalents and $5.9 million of working capital. Our Defined EBITDA for the three months ended April 30, 2008 was negative $2.2 million. During the three months ended April 30, 2008, we took strategic actions to promote continued compliance with the financial covenants of our Second Amended and Restated Secured Notes. While there can be no assurances in this regard, our plan is for these actions to improve profitability to achieve our Defined EBITDA requirement in the fourth quarter of fiscal 2008 and to provide the foundation for compliance with these financial covenants in the future. These actions include:

	(i)		Completing the hiring of the targeted level of sales representatives and completing their training across the full-portfolio of our products. This action helped to achieve a 7.2% growth in revenues in the third quarter of fiscal 2008 over the preceding quarter and provides the foundation for future growth.

	(ii)		Improving revenues and gross profit through the implementation of selective price increases effective May 15, 2008 and implementing initiatives to reduce our cost of goods.

	(iii)		Reducing headcount in our non-selling workforce by over 10.0%, temporarily reducing the salaries of our management employees and reducing certain other employee benefits.

	(iv)		Reducing, deferring or eliminating non-critical programs across the organization while maintaining key selling initiatives.

In addition to these profit enhancement initiatives, we have taken actions to improve our working capital position by July 31, 2008 through the reduction of the number of days our sales are outstanding and through the reduction of inventory levels.

In May 2008, we launched ViziLite ^® Plus in the United Kingdom at the British Dental Conference and Exhibition, the British Dental Association’s annual conference. We have selected Panadent Limited, a leading supplier of dental products in the United Kingdom and Ireland, as our exclusive distributor for this product in those markets.

In April 2008, the U.S. Food and Drug Administration (“FDA”) granted us 510(k) clearance to market ViziLite Eyewear. ViziLite Eyewear is reusable filtered eyewear to be worn by a health care professional to eliminate ambient light outside of the wavelength transmission range of the ViziLite chemiluminescent light source while performing an oral exam under chemiluminescence when a darkened room is not available. ViziLite Eyewear, which helps health care professionals administer ViziLite ^® Plus in less than ideal lighting environments, will be marketed by our direct sales force.

In December 2007, the U.S. Department of Veterans Affairs awarded Zila a five-year contract to market ViziLite ^® Plus to 58 Veterans Administration dental clinics and 154 Department of Defense dental clinics.

Major dental insurance carriers have recently added the ViziLite ^® Plus examination to their covered services. Guardian, Humana, United Healthcare and Northeast Delta Dental are now actively covering ViziLite ^® Plus and we continue discussions with other carriers.

Results of Operations

The following tables summarize our results of continuing operations and related statistical information for the three and nine months ended April 30, 2008 and 2007 (dollars in thousands):


	For the Three Months Ended April 30,
				% of						% of			%
	2008			Revenue			2007			Revenue			Change
Net revenues	$	11,245			100.0	%	$	10,894			100.0	%		3.2	%
Cost of products sold		4,438			39.5			4,231			38.8			4.9


Gross profit		6,807			60.5			6,663			61.2			2.2

Operating costs and expenses:
Marketing and selling		6,046			53.7			4,470			41.0			35.3
General and administrative		3,281			29.2			2,683			24.8			22.3
Research and development		247			2.2			2,388			21.9			(89.7	)
Depreciation and amortization		952			8.5			909			8.3			4.7


Loss from operations		(3,719	)		(33.1	)		(3,787	)		(34.8	)		(1.8	)
Other expense — net		(758	)		(6.7	)		(805	)		(7.4	)		(5.8	)


Loss from continuing operations before income taxes		(4,477	)		(39.8	)		(4,592	)		(42.2	)		(2.5	)
Income tax benefit		34			0.3			191			1.8			(82.2	)


Loss from continuing operations	$	(4,443	)		(39.5	)%	$	(4,401	)		(40.4	)%		1.0


	For the Nine Months Ended April 30,
				% of						% of			%
	2008			Revenue			2007			Revenue			Change
Net revenues	$	33,176			100.0	%	$	18,383			100.0	%		80.5	%
Cost of products sold		13,264			40.0			7,758			42.2			71.0


Gross profit		19,912			60.0			10,625			57.8			87.4

Operating costs and expenses:
Marketing and selling		16,564			49.9			9,483			51.6			74.7
General and administrative		9,883			29.8			9,566			52.0			3.3
Research and development		2,237			6.7			5,741			31.2			(61.0	)
Depreciation and amortization		2,811			8.5			1,998			10.9			40.7


Loss from operations		(11,583	)		(34.9	)		(16,163	)		(87.9	)		(28.3	)
Other expense — net		(2,155	)		(6.5	)		(5,053	)		(27.5	)		(57.4	)


Loss from continuing operations before income taxes		(13,738	)		(41.4	)		(21,216	)		(115.4	)		(35.2	)
Income tax benefit		23			0.1			4,001			21.8			(99.4	)


Loss from continuing operations	$	(13,715	)		(41.3	)%	$	(17,215	)		(93.6	)%		(20.3	)

Net Revenues

Net revenues were $11.2 million and $10.9 million for the three months ended April 30, 2008 and 2007, respectively, an increase of $0.3 million or 3.2%. ViziLite ^® Plus net revenues increased to $3.6 million for the three months ended April 30, 2008, an increase of 40.6% from the same period in the previous year, which is primarily a result of selling directly to dental offices through our national sales organization, an increased number of sales representatives and the increase in the number of insurance companies

reimbursing for the ViziLite ^® Plus examination. Offsetting this increase were declines in revenue from our Rotadent ^® Professional Powered Brush and Pro-Select Platinum ^® ultrasonic scaler, which resulted from the addition of new sales representatives who were not fully trained in offering these products. During the quarter ended April 30, 2008, all sales representatives were fully trained on all product offerings and net revenues for the last month of the quarter for these products increased 14.8% over the prior year.

Net revenues were $33.2 million and $18.4 million for the nine months ended April 30, 2008 and 2007, respectively, an increase of $14.8 million or 80.5%. The growth in net revenues for the nine months ended April 30, 2008 is largely driven by our acquisition of Pro-Dentec on November 28, 2006, as well as its effect on ViziLite ^® Plus net revenues. ViziLite ^® Plus net revenues increased to $9.8 million for the nine months ended April 30, 2008, an increase of 148.5%, which is primarily a result of selling directly to dental offices through our national sales organization. ViziLite ^® Plus net revenues were affected by our deliberate reductions in sales to our then existing distribution channel in the first part of fiscal 2007 as we prepared to modify our means of distribution upon the completion of the Pro-Dentec acquisition.

Gross Profit

Gross profit was $6.8 million and $6.7 million for the three months ended April 30, 2008 and 2007, respectively, an increase of $0.1 million or 2.2%. Gross profit as a percentage of net revenues was 60.5% and 61.2% for the three months ended April 30, 2008 and 2007, respectively. The decrease in gross profit as a percentage of net revenues resulted from an increased level of promotional discounts and free product offered in the current quarter. We anticipate that the level of free product will be reduced in the fourth quarter of 2008.

Gross profit was $19.9 million and $10.6 million for the nine months ended April 30, 2008 and 2007, respectively, an increase of $9.3 million or 87.4%. Gross profit as a percentage of net revenues was 60.0% and 57.8% for the nine months ended April 30, 2008 and 2007, respectively. The improved gross profit margin for the first nine months of fiscal 2008 primarily relates to our sales of ViziLite ^® Plus made direct to dental offices through our national sales organization, as well as sales of other products including the Rotadent ^® Professional Powered Brush and the Pro-Select Platinum ^® ultrasonic scaler. Our prior-year’s gross profit reflects our transition from a distributor-only business model and the impact of discounts and incentives offered in support of the launch of ViziLite ^® Plus. The gross profit margin for the first portion of the prior-year was also negatively impacted as a result of providing reserves for ViziLite ^® inventory that was approaching its expiration date.

Marketing and Selling Expense

Marketing and selling expense was $6.0 million and $4.5 million for the three months ended April 30, 2008 and 2007, respectively, an increase of $1.5 million or 35.3%. The expansion of our national sales force, which sells directly to dental offices, and the expansion of our seminar programs represented the majority of the increase in marketing and selling expense. Additionally, the current quarter included training expenses for new sales representatives and $0.5 million for the termination of a marketing contract.

Marketing and selling expense was $16.6 million and $9.5 million for the nine months ended April 30, 2008 and 2007, respectively, an increase of $7.1 million or 74.7%. The expansion and training of our national sales force, which sells directly to dental offices, represented the majority of the increase in marketing and selling expense. Increased ViziLite ^® Plus related marketing and selling expenditures also contributed to the overall increase, which reflects our continued efforts to establish ViziLite ^® Plus as the standard of care for dental offices in the detection of oral abnormalities.

General and Administrative Expense

General and administrative expense was $3.3 million and $2.7 million for the three months ended April 30, 2008 and 2007, respectively, an increase of $0.6 million or 22.3%. The increase in general and administrative expense primarily relates to a reversal of accrued bonuses in the third quarter of the prior-year of $0.4 million that did not recur in the current quarter, $0.3 million of investment banking expenses that were incurred to explore financing alternatives and increased costs relative to Pro-Dentec’s operations of $0.2 million, which in part relates to professional fees incurred for Sarbanes Oxley compliance costs. Offsetting these increases were corporate expense reductions that were implemented in the fourth quarter of fiscal 2007. Separately, non-cash general and administrative stock-based compensation was $0.3 million for the three months ended April 30, 2008 and 2007.

General and administrative expense was $9.9 million and $9.6 million for the nine months ended April 30, 2008 and 2007, respectively, an increase of $0.3 million or 3.3%. The increase in general and administrative expense primarily relates to incremental general and administrative expenses relative to the acquisition of Pro-Dentec, which is inclusive of professional fees incurred for Sarbanes Oxley compliance costs for Pro-Dentec, and investment banking expenses that were incurred to explore financing alternatives. Offsetting these increases were corporate expense reductions that were implemented in the fourth quarter of fiscal 2007

and a decrease in non-cash general and administrative stock-based compensation expense of $0.2 million.

Research and Development Expense

Research and development expense was $0.2 million and $2.4 million for the three months ended April 30, 2008 and 2007, respectively, a decrease of $2.2 million or 89.7%. Research and development expense was $2.2 million and $5.7 million for the nine months ended April 30, 2008 and 2007, respectively, a decrease of $3.5 million or 61.0%. We conducted an extensive review and analysis of our strategic direction, including the OraTest ^® regulatory program, and in the first quarter of fiscal 2008 we closed enrollment in the OraTest ^® clinical trial and ceased expenditures for CMC and non-clinical aspects of the regulatory program. The curtailment of the regulatory program is the primary driver of the overall decrease in research and development expense. While activities continue to preserve the value of the ZTC ^TM asset, we believe that our level of expenditures for research and development in fiscal 2008 will be substantially reduced from historical levels.

Depreciation and Amortization Expense

Depreciation and amortization expense was $1.0 million and $0.9 million for the three months ended April 30, 2008 and 2007, respectively, an increase of $0.1 million or 4.7%. Depreciation and amortization expense was $2.8 million and $2.0 million for the nine months ended April 30, 2008 and 2007, respectively, an increase of $0.8 million or 40.7%. The increased level of depreciation and amortization expense is primarily due to the acquisition of Pro-Dentec and its related property, plant, equipment and amortizable intangible assets.

Other Expense — Net

Other expense, net was $0.8 million for the three months ended April 30, 2008 and 2007 and $2.2 million and $5.1 million for the nine months ended April 30, 2008 and 2007, respectively. Other expense primarily consists of interest expense, which is summarized as follows:


	Three Months Ended April 30,				Nine Months Ended April 30,
	2008		2007		2008		2007
Senior secured convertible notes	$	240	$	178	$	701	$	306
BDCF secured term loan		—		—		—		520
Amortization of financing costs		97		123		293		2,507
Amortization of debt discounts		438		560		1,336		3,046
Capital leases		3		1		12		3
Other		8		16		12		98


Total interest expense	$	786	$	878	$	2,354	$	6,480

Interest expense was $0.8 million and $0.9 million for the three months ended April 30, 2008 and 2007, respectively. We incurred increased interest on the Amended and Restated Secured Notes, which was in part due to interest being paid in kind with shares of our common stock for the third quarter of fiscal 2008. This increase was offset by lower amounts of non-cash amortization charges as a result of the amendment to the Senior Secured Notes which extended the repayment term from November 2009 to July 2010.

Interest expense was $2.4 million and $6.5 million for the nine months ended April 30, 2008 and 2007, respectively. The decrease in interest expense for the first nine months of fiscal 2008 primarily relates to interest incurred on a $20.0 million secured term loan with Black Diamond Commercial Finance, LLC (“BDCF”), which was repaid in the first quarter of fiscal 2007. As a result of this repayment, we expensed $3.6 million of unamortized debt issue costs and discounts during the first quarter of fiscal 2007. Interest expense for the first nine months of fiscal 2008 primarily relates to interest incurred on our Amended and Restated Secured Notes, which was paid in cash in the first quarter of fiscal 2008 and in kind with shares of our common stock in the second and third quarters of fiscal 2008, as well as amortization of the related financing costs and discounts.

During the first quarter of fiscal 2007 we recognized $1.1 million of non-cash derivative income for changes in the fair value of a warrant to purchase 1,200,000 common shares that was issued to BDCF in connection with the term loan discussed above. Prior to our adoption of FASB Staff Position No. EITF 00-19-2, “ Accounting for Registration Payment Arrangements ” on November 1, 2006, we were required to account for this warrant as a freestanding derivative financial instrument, with changes in the fair value of the warrant reported as non-cash charges or credits to earnings. The derivative income recognized was due primarily to a decrease in the

trading price of our common stock during the first quarter of fiscal 2007.

Income Tax Benefit (Expense)

Inflation and Seasonality

We do not believe that inflation has a unique or material effect on the operations or financial condition of our businesses. However, we are sensitive to general economic conditions since our products are somewhat discretionary in nature. Sales for the dental industry are generally affected by holiday and vacation related seasonality, which impacts the number of available selling days in each fiscal quarter. We sell directly to dental professionals and accordingly, our sales are subject to these seasonal trends.

Liquidity and Capital Resources

Historically, our liquidity needs arise from working capital requirements, the funding of our research and development program, the launch of our new products, acquisitions and debt service. We have traditionally met these cash requirements through our cash and cash equivalents, financing transactions, cash from operations, working capital management, the sale of non-core operations and proceeds from the issuance of common stock under our employee stock option and stock purchase programs.

Previously, our research and development program required the commitment of substantial resources to conduct the time-consuming research and development, clinical studies and regulatory activities necessary to bring any potential product to market and to establish production, marketing and sales capabilities. As more fully described above, we recently evaluated the strategic direction of Zila, including an assessment of the OraTest ^® regulatory program, and we believe that in order to maximize shareholder value our resources must be directed to those products and programs with the greatest probability of financial return. We believe that our greatest potential lies within the synergies created with the acquisition of Pro-Dentec, which increases our ability to develop and commercialize our already existing oral cancer screening product, ViziLite ^® Plus. Our analysis concluded that the incremental market potential of OraTest ^® , considering the availability of ViziLite ^® Plus, did not justify the cost, time and uncertain study outcomes associated with continuing the program in its current form. In order to pursue our strategy with our currently available funds, we believe that it is necessary to reduce future research and development expenditures on the OraTest ^® regulatory program. Accordingly, during the first quarter of fiscal 2008, we curtailed activity and spending related to this regulatory program. As a result of this curtailment, regulatory program related expenses declined to less than $0.1 million and $1.6 million for the three and nine months ended April 30, 2008, respectively, compared to $2.1 million and $5.3 million for the three and nine months ended April 30, 2007, respectively. While activities continue to preserve the value of the ZTC ^TM asset, we believe that our level of expenditures for research and development in fiscal 2008 will be substantially reduced from historic levels.

To reduce operating losses, we have taken steps to reduce costs through restructuring overhead and discontinuing research and development projects. We have focused our available resources in support of our selling and marketing efforts in order to grow our revenue base. We have plans for the improvement of gross profit through manufacturing process enhancements and selective product price increases. With the recent authorization to sell ViziLite ^® Plus in Canada, the United Kingdom and the European Union, we have launched our international expansion initiative. Also, on June 3, 2008 we entered into a Second Amendment Agreement to our senior convertible debt that resulted in the easing of certain financial covenants as follows:

	(i)		The required cash and cash equivalents balance that is required to be maintained at the end of each fiscal quarter commencing with the fiscal quarter ending July 31, 2007 was reduced from $2.0 million to $1.0 million; and

	(ii)		The required Defined EBITDA level of at least $1.00 must be met for any one fiscal quarter on or prior to our quarter ending July 31, 2009. Prior to the Second Amendment Agreement, we were required to have Defined EBITDA of at least $1.00 for each of the fiscal quarters ending July 31, 2008 and October 31, 2008.

Second Amended and Restated Secured Notes. While there can be no assurances in this regard, our plan is for these actions to improve profitability to achieve our Defined EBITDA requirements in the fourth quarter of fiscal 2008 and to provide the foundation for compliance with these financial covenants in the future. These actions include:

	(i)		Completing the hiring of the targeted level of sales representatives and completing their training across the full-portfolio of our products. This action helped to achieve a 7.2% growth in revenues in the third quarter of fiscal 2008 over the preceding quarter and provides the foundation for future growth.

	(ii)		Improving revenues and gross profit through the implementation of selective price increases effective May 15, 2008 and implementing initiatives to reduce our cost of goods.

	(iii)		Reducing headcount in our non-selling workforce by over 10.0%, temporarily reducing the salaries of our management employees and reducing certain other employee benefits.

	(iv)		Reducing, deferring or eliminating non-critical programs across the organization while maintaining key selling initiatives.

Selected cash flow and working capital information is summarized as follows (dollars in thousands):


	Nine Months Ended April 30,
	2008			2007
Net cash used in operating activities	$	(8,762	)	$	(9,773	)
Net cash provided by (used in) investing activities		(930	)		1,857
Net cash provided by (used in) financing activities		(1,627	)		13,610


	April 30,		July 31,
	2008		2007
Cash and cash equivalents	$	3,541	$	14,859
Working capital		5,936		14,286
Current ratio		1.6		2.4

As of April 30, 2008, our primary sources of liquidity included cash and cash equivalents of $3.5 million compared to $14.9 million as of July 31, 2007. Our working capital was $5.9 million as of April 30, 2008 compared to $14.3 million as of July 31, 2007. The decrease in working capital primarily relates to our decreased cash balance, offset by increased trade receivables. Trade receivables increased $1.2 million or 28.3%, primarily due to increased sales levels, the extension of credit on our newly introduced Pro-Select Platinum ^® ultrasonic scaler and a reduction in the rate of credit card payments by our customers. Our current ratio has declined to 1.6 as of April 30, 2008 compared to 2.4 as of July 31, 2007, primarily as a result of the net decreases in working capital outlined above.

Cash Flows from Operating Activities

Cash used in operating activities was $8.8 million and $9.8 million for the nine months ended April 30, 2008 and 2007, respectively. The decrease in cash used in operating activities primarily relates to (i) cash flows from our Pro-Dentec operations, which were acquired during the second quarter of fiscal 2007, (ii) synergies created as a result of the Pro-Dentec acquisition, which increases our ability to develop and commercialize our already existing oral cancer screening product, ViziLite ^® Plus, (iii) the elimination of cash flows from our recently disposed Nutraceuticals business unit and Peridex ^® product line and (iv) the curtailment of activity and spending related to the OraTest ^® regulatory program. Offsetting these cash flow improvements were cash provided by (used in) working capital components, which was $(1.3) million and $3.6 million for the nine months ended April 30, 2008 and 2007, respectively, or a $4.9 million change. The working capital decrement for the nine months ended April 30, 2008 primarily relates to

increased accounts receivable balances, which is discussed above. Cash provided by working capital changes in the first nine months of fiscal 2007 primarily relates to increased levels of accounts payable and accrued liabilities.

Cash Flows from Investing Activities

Cash provided by (used in) investing activities was $(0.9) million and $1.9 million for the nine months ended April 30, 2008 and 2007, respectively. During the nine months ended April 30, 2008 we spent $0.9 million for additional property and equipment and development of intangible assets. Cash provided by investing activities during the first nine months of fiscal 2007 relates to net proceeds of $34.7 million from the sale of our Nutraceuticals business unit and $3.6 million for the return of collateral upon the retirement of Industrial Development Revenue Bonds, which related to the disposition of the Nutraceuticals business unit, offset by $35.6 million of cash spent for the acquisition of Pro-Dentec, which was completed in the second quarter of fiscal 2007, and $0.9 million of cash spent for additional property and equipment and the development of intangible assets.

Cash Flows from Financing Activities

Cash provided by (used in) financing activities was $(1.6) million and $13.6 million for the nine months ended April 30, 2008 and 2007, respectively. During the first nine months of fiscal 2008, we paid $1.4 million for the repurchase of common stock and warrants, which is described in more detail elsewhere herein, and made payments towards our debt obligations of $0.3 million. During the first nine months of fiscal 2007, we completed two private placements for gross proceeds of approximately $40.0 million, which are described in more detail elsewhere herein. Offsetting the proceeds from these private placements were $23.9 million of debt repayments, which primarily relates to the repayment of the BDCF credit facility and the Industrial Development Revenue Bonds. During the first nine months of fiscal 2007, we also incurred $2.5 million for financing costs.

Private Placements

In November 2006, we consummated the Private Placements for gross proceeds of approximately $40.0 million.

Pursuant to the first purchase agreement, we issued and sold:

	(i)		9,100,000 shares of Zila’s common stock for $1.75 per share (the “Shares”);

	(ii)		Approximately $12.1 million in aggregate principal amount of 12.0% Unsecured Convertible Notes (the “Unsecured Notes”), which converted into 6,900,000 shares (the “Unsecured Note Shares”) of Zila’s common stock at a conversion price of $1.75 per share on December 14, 2006, the date on which our stockholders approved, among other things, the Private Placements;

	(iii)		Warrants to purchase approximately 5,403,000 shares of Zila’s common stock, which became exercisable in May 2007 for five years at an exercise price of $2.21 per share (the “Initial Warrants”);

	(iv)		Warrants to purchase approximately 3,105,000 shares of Zila’s common stock, which became exercisable for five years at an exercise price of $2.21 per share following approval by our stockholders on December 14, 2006 (the “Additional Warrants”).

Pursuant to the second purchase agreement, we issued and sold:

	(i)		Approximately $12.0 million in aggregate principal amount of 6.0% Secured Notes, which are due in November 2009 and became convertible into approximately 5,454,546 shares of Zila’s common stock at a conversion price of $2.20 following approval by our stockholders on December 14, 2006; and

	(ii)		Warrants to purchase 1,909,091 shares of Zila’s common stock, which became exercisable for five years at an exercise price of $2.21 per share following approval by our stockholders on December 14, 2006 (the “Secured Note Warrants”).

As more fully described in the notes to the accompanying unaudited condensed consolidated financial statements, on August 13, 2007, we reached an agreement with certain Investors in the Private Placements to restructure their holdings and provide relief from certain financial and non-financial covenants contained in the Secured Notes. As more fully described elsewhere in this filing, these Investors, and one other, had also previously disputed the extent of certain registration rights granted in connection with the securities issued in the Private Placements. In an effort to resolve the aforementioned dispute and to obtain covenant relief, Zila and certain of the Investors with whom we had the dispute, agreed to take certain actions and restructure the Investors’ holdings (the

“Restructuring”). As part of the Restructuring, on August 13, 2007, Zila entered into an Amendment Agreement (the “Amendment Agreement”) with Visium Balanced Offshore Fund, Ltd., Visium Balanced Fund, LP, Visium Long Bias Offshore Fund, Ltd., Visium Long Bias Fund, LP and Atlas Master Fund, Ltd., which provides for, among other things, the following:

	(i)		Zila repurchased 932,832 Unsecured Note Shares from the Investors for approximately $1.25 million in cash, at a price based on the average closing bid price of our common stock for the ten trading days prior to August 13, 2007, or $1.34 per Unsecured Note Share;

	(ii)		Zila repurchased 227,270 Secured Note Warrants from the Investors for approximately $0.15 million in cash, at a price based on a Black-Scholes valuation, or $0.66 per Secured Note Warrant;

	(iii)		Zila and the Investors agreed to amend and restate the Secured Notes (the Amended and Restated Secured Notes) on the terms set forth below and elsewhere herein; and

	(iv)		Zila paid the Investors a $0.6 million fee.

In connection with the Restructuring and the issuance of the Amended and Restated Secured Notes, Zila also received waivers from the required majority of the holders of the Initial Warrants, Additional Warrants and Secured Note Warrants waiving any antidilution rights to which any holder of such warrants would otherwise be entitled in connection with the issuance of any shares as payment for interest on the Amended and Restated Secured Notes. Also, on August 13, 2007, Zila and the Investors entered into a Registration Rights Agreement (the “Registration Rights Agreement”), which resolved certain claims with the Investors, as described further in the notes to the accompanying unaudited condensed consolidated financial statements. Separately, a side letter that imposed certain corporate governance obligations on Zila was terminated.

On June 3, 2008 we entered into a Second Amendment Agreement to our senior convertible debt that resulted in the easing of certain financial covenants as follows:

	(i)		The required cash and cash equivalents balance that is required to be maintained at the end of each fiscal quarter commencing with the fiscal quarter ending July 31, 2007 was reduced from $2.0 million to $1.0 million; and

	(ii)		The required Defined EBITDA level of at least $1.00 must be met for any one fiscal quarter on or prior to our quarter ending July 31, 2009. Prior to the Second Amendment Agreement, we were required to have Defined EBITDA of at least $1.00 for each of the fiscal quarters ending July 31, 2008 and October 31, 2008.

In exchange for the covenant modifications, we issued 4,426,595 common shares to the creditors and the creditors returned 3,396,100 warrants that they had been previously issued in connection with the original issuance of the Secured Notes and other financing transactions.

We believe that the above amendments strengthen our cash position by relaxing the minimum cash and EBITDA based covenants and allows future interest to be paid in kind with common stock. The Amended and Restated Secured Notes and Second Amended and Restated Secured Notes are in the same aggregate principal amount as the Secured Notes, or $12.0 million, but are now due July 31, 2010. They bear interest, payable quarterly, at 7.0% per annum, but at our option, interest payments can be made at an 8.0% annual rate in shares of our common stock at a price equal to 90.0% of the average closing bid price of such common stock for the 10 trading days immediately prior to the relevant interest payment date.

Failure to satisfy the financial covenants, or to maintain compliance with other covenants could, at the option of the Second Amended and Restated Secured Note holders, result in an event of default. Upon the occurrence of the first specified event of default, the holders of the Second Amended and Restated Secured Notes could accelerate and demand repayment of one-third of the outstanding principal balance and all accrued but unpaid interest. Upon the occurrence of the second specified event of default, the holders of the Second Amended and Restated Secured Notes could accelerate and demand repayment of one-half of the outstanding principal balance and all accrued but unpaid interest. Upon the occurrence of the third specified event of default, the entire principal balance and all accrued but unpaid interest may become due and payable. Additionally, upon the occurrence and during the continuation of any event of default, all amounts outstanding under the Second Amended and Restated Secured Notes shall bear interest at an annual rate of 15.0% per annum.

PharmaBio Investment

In December 2002, we entered into an agreement with PharmaBio Development, Inc. (“PharmaBio”), the strategic investment

group of Quintiles Transnational Corp., our contract research organization. Under this agreement, PharmaBio invested $0.5 million in us and in return we agreed to pay PharmaBio an amount equal to 5.0% of all net sales of the OraTest ^® product in the European Union and the United States. The aggregated amount of the royalty cannot exceed $1.25 million and the royalty is payable quarterly. The investment was recorded as long-term debt and will be amortized using the effective interest method.

Convertible Preferred Stock

EBITDA and Defined EBITDA

EBITDA (earnings (loss) before interest, taxes, depreciation and amortization) is a key indicator that management uses to evaluate our operating performance and cash flows. In addition, to monitor compliance with the covenants contained in our Second Amended and Restated Secured Notes, we utilize EBITDA, as defined under the Second Amended and Restated Note Agreement (“Defined EBITDA”). Defined EBITDA is calculated as Consolidated Net Income, as defined in the Second Amendment Agreement, plus, without duplication and to the extent reflected as a charge in the statement of Consolidated Net Income for such period, the sum of (a) income tax expense, (b) interest expense, amortization or write-off of debt discount and debt issuance costs and commissions, discounts and other fees and charges associated with indebtedness, (c) depreciation and amortization expense, (d) amortization of intangibles (including, but not limited to, goodwill) and organization costs and (e) other non-cash items reducing Consolidated Net Income and minus, to the extent included in the statement of such Consolidated Net Income for such period, (x) interest income and (y) all other non-cash items increasing Consolidated Net Income, all as determined on a consolidated basis. The Second Amended and Restated Secured Notes are material agreements to us and, therefore, the covenants are material to an investor’s understanding of our financial condition and liquidity. Although we use EBITDA and Defined EBITDA as a financial measure and as a measure to monitor compliance with debt covenants, neither EBITDA nor Defined EBITDA include certain material costs, expenses and other items necessary to operate our business. Because these non-GAAP measures do not include these items, a stockholder, potential investor or other user of our financial information should not consider these non-GAAP financial measures as a substitute for net cash used in operating activities or as the sole indicator of our financial performance since net cash used in operating activities provides a more complete measure of our financial performance. In other words, EBITDA and Defined EBITDA should only be used on a supplemental basis combined with GAAP results when evaluating our financial performance. The calculations we use to determine these non-GAAP measures may differ in method of calculation from similarly titled measures used by other companies.

The following is a reconciliation of EBITDA and Defined EBITDA to the comparable GAAP measure, which is net cash used in operating activities from the accompanying Unaudited Condensed Consolidated Statements of Cash Flows (in thousands):


	Three Months Ended April 30,						Nine Months Ended April 30,
	2008			2007			2008			2007
EBITDA	$	(2,649	)	$	(2,583	)	$	(8,774	)	$	(1,998	)
Non-cash derivative (income) expense		—			—			24			(1,059	)
Gain from disposition of discontinued operations		—			20			—			(10,973	)
Non-cash stock-based compensation expense		397			376			1,280			1,454
Other non-cash items — net		21			19			40			(37	)

Defined EBITDA		(2,231	)		(2,168	)		(7,430	)		(12,613	)
Interest income		26			120			224			426
Interest expense		(786	)		(877	)		(2,354	)		(6,732	)
Income tax expense		34			—			23			(67	)
Amortization of financing costs		97			123			293			2,379
Amortization of debt discounts		438			560			1,336			3,046
Non-cash interest		240			—			485			202
Changes in operating assets and liabilities:
Trade receivables		313			399			(1,210	)		225
Inventories		235			269			(39	)		21
Prepaid expenses and other assets		(342	)		(90	)		(277	)		845
Accounts payable and accrued liabilities		(101	)		(291	)		187			2,495

Net cash used in operating activities	$	(2,077	)	$	(1,955	)	$	(8,762	)	$	(9,773	)

Off-Balance Sheet Financing Arrangements

We do not have any off-balance sheet financing arrangements.

Summary of Critical Accounting Policies and Estimates

The discussion and analysis of our financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared pursuant to the rules and regulations of the SEC. Certain information related to our organization, significant accounting policies and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted. The preparation of the financial statements in accordance with accounting principles generally accepted in the United States requires us to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. On an ongoing basis, we evaluate our estimates related to (i) useful lives of intangibles; (ii) impairment analyses; (iii) depreciable lives of assets; (iv) income tax valuation allowances; (v) contingency and litigation reserves; (vi) inventory valuation; (vii) allowances for accounts receivable, cash discounts, sales incentives and sales returns; and (viii) valuation assumptions for share-based payments. We base our estimates on historic experience and various other factors related to each circumstance. Actual results could differ from those estimates based upon future events, which could include, among other risks, changes in the business environment in which we operate and changes in the regulations governing the manner in which we manufacture and/or sell our products.

There are several accounting policies that we believe are significant to the presentation of our financial statements and require management’s most difficult, complex or subjective judgments about matters that are inherently uncertain. We believe our most critical accounting policies include (i) revenue recognition; (ii) use of estimates, which is described more fully above and (iii) the carrying values of goodwill and other long-lived assets. Our significant accounting policies and critical accounting estimates are disclosed more fully in our Annual Report on Form 10-K for the year ended July 31, 2007. We do not believe there have been significant changes to our critical accounting policies and estimates subsequent to July 31, 2007.

Recently Issued Accounting Pronouncements and Adopted Accounting

The recently issued accounting pronouncements and adopted accounting are discussed in the notes to the unaudited condensed consolidated financial statements included elsewhere herein.

Item 3. Quantitative and Qualitative Disclosures about Market Risk.

Our exposure to market risk for a change in interest rates relates primarily to our investments, which consists of cash and cash equivalents. The primary objective of our investment activities is to preserve principal while maximizing yields without significantly increasing risk. We maintain our portfolio in high credit quality cash deposits and money market funds with carrying values that approximate market value. Because our investments consist of cash and cash equivalents, a hypothetical 100 basis point change in interest rates is not likely to have a material effect on our consolidated financial statements.

We also have market risk arising from changes in foreign currency exchange rates through our subsidiaries that conduct business in Canada and Europe and have functional currencies denominated in Canadian dollars and British pounds. We believe that such exposure does not present a significant risk due to the limited number of transactions and/or accounts denominated in foreign currency.

Item 4. Controls and Procedures.

Evaluation of Disclosure Controls and Procedures.

We maintain disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) that are designed: (i) to ensure that information required to be disclosed 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 and (ii) to ensure that such information is accumulated and communicated to management, including our Principal Executive Officer and Principal Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. Our management, with the participation of our Principal Executive Officer and Principal Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report, and, based on that evaluation, our Principal Executive Officer and Principal Financial Officer have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e)) are effective.

Changes in Internal Control over Financial Reporting .

There were no changes in our internal control over financial reporting (as such term is defined in Rules 13a-15(f) and15d-15(f) of the Exchange Act) during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Part II — OTHER INFORMATION

Item 1. Legal Proceedings.

Information regarding our legal proceedings may be found under the “Legal Proceedings” section of Note 17, “Commitments and Contingencies” to our Unaudited Condensed Consolidated Financial Statements contained elsewhere herein.

Item 1A. Risk Factors.

Other than the risk factor below, there have been no material changes in risk factors previously disclosed in our Form 10-K for the year ended July 31, 2007 and in our Form 10-Q for the quarter ended January 31, 2008.

Failure to maintain NASDAQ Marketplace Rules could materially and adversely affect our business.

On March 20, 2008, the Company received a Nasdaq Staff Deficiency Letter indicating that for the prior 30 consecutive business days, the bid price of its common stock has closed below $1.00 per share. As a result, the Company fails to comply with the minimum bid price requirement for continued listing set forth in Marketplace Rule 4450(a)(5). In accordance with Marketplace Rule 4450(e)(2), the Company has been provided 180 calendar days, or until September 16, 2008, to regain compliance. The Company will achieve compliance, if before September 16, 2008, 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. If the Company does not regain compliance by September 16, 2008, but can demonstrate as of that date that the Company meets the criteria for initial listing set forth in Marketplace Rule 4310(c) (other than the bid price requirement) and its application is approved, the Company will have an additional 180 days to regain compliance while on The Nasdaq Capital Market. In the event that we were delisted from the NASDAQ Global Market, our common stock would become significantly less liquid, which would adversely affect its value. Although our common stock would likely be traded over-the-counter

or on pink sheets, these types of listings involve more risk and trade less frequently and in smaller volumes than securities traded on the NASDAQ Global Market.

In addition, our Audit Committee is currently only comprised of two directors. In accordance with NASDAQ Marketplace Rule 4350(d), we are required to have an audit committee consisting of at least three independent directors in order to remain listed on the NASDAQ Global Market. We have until the earlier of our next annual shareholders meeting or one year from the vacancy that caused the failure to comply with this requirement to regain compliance with NASDAQ’s rule on audit committee composition.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

On April 30, 2008, we issued an aggregate of 1,084,009 shares of its common stock to the holders of its Amended and Restated Secured Notes. We issued such shares to satisfy our obligation under the Amended and Restated Secured Notes to pay the holders an aggregate of $240,000 in interest for the three month period that ended on April 30, 2008. As a private placement of securities, the registrant claimed an exemption from registration pursuant to Section 4(2) of the Securities Act.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Submission of Matters to a Vote of Security Holders .

None.

Item 5. Other Information.

None.

Item 6. Exhibits.


Exhibit
Number		Description

3.1		Amended and Restated Bylaws of Zila, Inc. (A)

4.1		Form of Second Amended and Restated Senior Secured Convertible Note due July 2010 (B)

4.2		Registration Rights Agreement, dated June 3, 2008, by and among Zila, Inc., Visium Balanced Offshore Fund, Ltd., Visium Balanced Fund, LP, Visium Long Bias Offshore Fund, Ltd., Visium Long Bias Fund, LP, and Atlas Master Fund, Ltd. (B)

10.1		Employment Letter, accepted May 9, 2008, by and between Zila, Inc. and David R. Bethune (C)

10.2		Second Amendment Agreement, dated June 3, 2008, by and among Zila, Inc., Visium Balanced Offshore Fund, Ltd., Visium Balanced Fund, LP, Visium Long Bias Offshore Fund, Ltd., Visium Long Bias Fund, LP, and Atlas Master Fund, Ltd. (B)

31.1		Section 302 Certification of the Principal Executive Officer

31.2		Section 302 Certification of the Principal Financial Officer

32.1*		Section 1350 Certification of the Principal Executive Officer and Principal Financial Officer


(A)		Incorporated by reference to the Company’s Current Report on Form 8-K filed April 4, 2008

(B)		Incorporated by reference to the Company’s Current Report on Form 8-K filed June 6, 2008

(C)		Incorporated by reference to the Company’s Current Report on Form 8-K filed May 12, 2008

*		Furnished herewith

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.

Date: June 9, 2008 Zila, Inc.



	By:	/s/ DAVID R. BETHUNE
		David R. Bethune
		Chairman and Interim Chief Executive Officer (Principal Executive Officer)


	By:	/s/ DIANE E. KLEIN
		Diane E. Klein
		Vice President - Finance and Treasurer (Principal Financial Officer)


Exhibit
Number		Description

3.1		Amended and Restated Bylaws of Zila, Inc. (A)

4.1		Form of Second Amended and Restated Senior Secured Convertible Note due July 2010 (B)

4.2		Registration Rights Agreement, dated June 3, 2008, by and among Zila, Inc., Visium Balanced Offshore Fund, Ltd., Visium Balanced Fund, LP, Visium Long Bias Offshore Fund, Ltd., Visium Long Bias Fund, LP, and Atlas Master Fund, Ltd. (B)

10.1		Employment Letter, accepted May 9, 2008, by and between Zila, Inc. and David R. Bethune (C)

10.2		Second Amendment Agreement, dated June 3, 2008, by and among Zila, Inc., Visium Balanced Offshore Fund, Ltd., Visium Balanced Fund, LP, Visium Long Bias Offshore Fund, Ltd., Visium Long Bias Fund, LP, and Atlas Master Fund, Ltd. (B)

31.1		Section 302 Certification of the Principal Executive Officer

31.2		Section 302 Certification of the Principal Financial Officer

32.1*		Section 1350 Certification of the Principal Executive Officer and Principal Financial Officer


(A)		Incorporated by reference to the Company’s Current Report on Form 8-K filed April 4, 2008

(B)		Incorporated by reference to the Company’s Current Report on Form 8-K filed June 6, 2008

(C)		Incorporated by reference to the Company’s Current Report on Form 8-K filed May 12, 2008

*		Furnished herewith