Legal Proceedings

      In August 2005, Elizabeth Sandor, an individual residing in San Diego, California, filed a complaint against us, Drs. Gottfried Lemperle, Stefan Lemperle and Steven Cohen in the Superior Court of the State of California for the County of San Diego. The complaint, as amended, set forth various causes of action against us, including product liability, fraud, negligence and negligent misrepresentation, and alleged that Dr. Gottfried Lemperle, our co-founder, former Chief Scientific Officer and a former member of our board of directors, treated Ms. Sandor with Artecoll and/or ArteFill in violation of medical licensure laws, that the product was defective and unsafe because it had not received FDA approval at the time it was administered to Ms. Sandor, and that Ms. Sandor suffered adverse reactions as a result of the injections. In addition, the complaint alleged that Dr. Gottfried Lemperle and his son, Dr. Stefan Lemperle, our other co-founder, former Chief Executive Officer and a former director, falsely represented to her that the product had received an approvability letter from the FDA and was safe and without the potential for adverse reactions. The complaint also alleged medical malpractice against Dr. Cohen, the lead investigator in our U.S. clinical trial, for negligence in treating Ms. Sandor for the adverse side effects she experienced. Ms. Sandor sought damages in an unspecified amount for pain and suffering, medical and incidental expenses, loss of earnings and earning capacity, punitive and exemplary damages, reasonable attorneys’ fees and costs of litigation. On June 1, 2006, the parties filed a stipulation to dismiss the case without prejudice and toll the statute of limitations. The case was dismissed on June 5, 2006, and the plaintiff is allowed to refile the case at any time within 18 months from that date.

      During our recent negotiations with the parties involved in the Sandor litigation, Dr. Gottfried Lemperle informed us that his counsel had contacted an investigator in the FDA’s Office of Criminal Investigations to determine whether any investigation of Dr. Gottfried Lemperle was ongoing. In March 2006, Dr. Gottfried Lemperle’s counsel informed us that an investigator at the FDA informed her that the FDA has an open investigation regarding us, Dr. Gottfried Lemperle and Dr. Stefan Lemperle, that the investigation had been ongoing for many months, that the investigation would not be completed within six months, and that at such time the investigation is completed, it could be referred to the U.S. Attorney’s Office for criminal prosecution. In November 2006, we contacted the FDA’s Office of Criminal Investigation. That office confirmed the ongoing investigation, but declined to provide any details of the investigation, including the timing, status, scope or targets of the investigation.

      To our knowledge, prior to, or following this inquiry, neither Dr. Gottfried Lemperle, Dr. Stefan Lemperle nor any of our current officers or directors has been contacted by the FDA in connection with an FDA investigation. As a result, we have no direct information from the FDA regarding the subject matter of this investigation. We believe that the investigation may relate to the facts alleged in the Sandor litigation and the following correspondence from and to the FDA. In July 2004, we received a letter from the FDA’s Office of Compliance indicating that the FDA had received information suggesting that we may have improperly marketed and promoted ArteFill prior to obtaining final FDA approval. In addition, we received a letter from the FDA’s MedWatch program, the FDA’s safety information and adverse event reporting program, on April 21, 2005, which included a Manufacturer and User Facility Device Experience Database, or MAUDE, report. The text of the MAUDE report contained facts similar to those alleged by the plaintiff in the Sandor litigation.

      We responded to the FDA’s correspondence in August 2004 and again in May 2006. In our responses, we informed the FDA that based on our internal investigations, Dr. Gottfried Lemperle had used Artecoll, a predecessor product to ArteFill, on four individuals in the United States. Artecoll has been manufactured and sold by third parties outside the United States under a CE mark since 1996. In 2004, we acquired all worldwide intellectual property rights related to Artecoll. Following this acquisition, we requested these third parties to cease manufacturing their product named Artecoll. We currently do not manufacture, and we have never manufactured, distributed or received any revenues from Artecoll. We initially named the product used in our clinical trials as Artecoll, but later changed the name of our product candidate to ArteFill to reflect refinements that we have made to the PMMA microsphere manufacturing process following our acquisition of the rights to Artecoll.

      We stated in our correspondence to the FDA that we found no evidence that any of the Artecoll used in the U.S. clinical study was used improperly before or after receipt of the approvable letter from the FDA in January 2004. We also informed the FDA that we could not conclusively determine the source of the Artecoll used on these individuals, that Dr. Gottfried Lemperle’s use of Artecoll was not part of a study or any activity sponsored by us and that Dr. Gottfried Lemperle had resigned from his position as Chief Scientific Officer and as a member of our board of directors. In addition to our correspondence to the FDA, we also informed the FDA of these matters during its inspection of our manufacturing facilities in San Diego, California in April 2006. In May 2006, we received the FDA’s EIR for its investigation of our San Diego manufacturing facility. The EIR referenced two anonymous consumer complaints received by the FDA. The first complaint, received by the FDA in December 2003, alleges that Dr. Stefan Lemperle promoted the unapproved use of ArteFill, providing, upon request, a list of local doctors who could perform injections of ArteFill. The second complaint, received by the FDA in June 2004, alleges complications experienced by an individual who had been injected with ArteFill by Dr. Gottfried Lemperle in his home. The second complaint further alleges that Dr. Stefan Lemperle marketed unapproved use of ArteFill. In May 2006, we terminated Dr. Gottfried Lemperle’s consulting relationship with us. Dr. Gottfried Lemperle no longer provides services to us in any capacity. In October 2006, our board of directors removed Dr. Stefan Lemperle from the position of Chief Executive Officer, and in November 2006, Dr. Stefan Lemperle resigned as a director and employee. Dr. Stefan Lemperle no longer provides services to us in any capacity.

      In July 2006, the FDA requested us to submit an amendment to our pre-market approval application for ArteFill containing a periodic update covering the time period between January 16, 2004, the date of our approvable letter, and the date of the amendment. The FDA requested our periodic update to include, among other things, all information available to us regarding individuals who had been treated with Artecoll outside our clinical trials and any adverse events these individuals had experienced. In response to this request, we completed additional inquiries regarding Dr. Gottfried Lemperle’s unauthorized uses of Artecoll outside our clinical trials in contravention of FDA rules and regulations. In August 2006, we filed an amendment to our pre-market approval application that included the periodic update requested by the FDA. In the amendment, we informed the FDA that as a result of our additional inquiries, we had identified nine individuals who had been treated with Artecoll in the United States by Dr. Gottfried Lemperle, four of whom we had disclosed to the FDA in our prior correspondence. We also informed the FDA that 16 individuals had been treated with Artecoll by physicians in Mexico or Canada, where Artecoll is approved for treatment, in connection with physician training sessions conducted in those countries. Further, we informed the FDA that Dr. Stefan M. Lemperle, our then serving Chief Executive Officer and director, had been injected with Artecoll in the United States in 2004 by his father, Dr. Gottfried Lemperle. Prior to the time we conducted the additional inquiries to prepare our periodic update for the FDA, Dr. Stefan M. Lemperle had failed to disclose to us, and to the FDA, that he had been injected with Artecoll in contravention of FDA rules and regulations. In October 2006, our board of directors removed Dr. Stefan Lemperle from the position of Chief Executive Officer, and in November 2006, Dr. Stefan Lemperle resigned as a director and employee. Dr. Stefan Lemperle no longer provides services to us in any capacity. We received FDA approval to market ArteFill on October 27, 2006.

      On November 6, 2006, we filed a demand for arbitration with the American Arbitration Association against Melvin Ehrlich, who from January 15, 2004 through April 5, 2004, was our President and Chief Operating Officer. In the arbitration, we are seeking declaratory relief regarding the number of shares of common stock Mr. Ehrlich is entitled to purchase under a warrant we issued to him in connection with his employment agreement. We believe Mr. Ehrlich vested in and, therefore, is entitled to purchase 26,070 shares of common stock based on the length of time he provided services to our company. These warrant shares have an exercise price of $4.25 per share, and are subject to a 180-day market standoff period in connection with our proposed offering. Mr. Ehrlich contends that he is entitled to purchase up to 470,588 shares of common stock, at an average exercise price of $7.44 per share, contingent upon our satisfaction of certain milestones, including the FDA’s approval of ArteFill, the FDA’s certification of our manufacturing facilities and the completion of this offering. He claims that the language in the warrant allows him to continue to vest in the warrant shares after his employment with us ended, regardless of whether he provided any assistance to the Company to satisfy the milestones set forth in the warrant. We reject this interpretation

of the warrant, and plan to vigorously pursue our request for declaratory relief and to defend against any claims Mr. Ehrlich asserts. The hearing is expected to be held in San Diego, California.

      In October 2006, we made a number of changes in our management team. On October 27, 2006, we terminated the employment of Harald T. Schreiber, our former Chief Creative Officer, and William von Brendel, our former Vice President — Worldwide Sales and International Markets, in accordance with the terms of their written employment agreements with us and in connection with a cost reduction plan and a reorganization of our business operations, including our sales and marketing organization, to focus on the U.S. market and physician-based training and sales programs. On November 2, 2006, we were served with a demand for arbitration with the American Arbitration Association by Mr. Schreiber pursuant to the dispute resolution provisions in his employment agreement. Mr. Schreiber seeks compensatory damages of an unspecified amount and alleges several causes of action, including wrongful termination, fraud, breach of contract and the implied covenant of good faith and fair dealing, and hostile work environment. We believe that many of Mr. Schreiber’s claims contradict the terms of his employment agreement, and we deny his allegations. To avoid the cost of arbitration, we have issued a settlement offer to Mr. Schreiber. There can be no assurance that our offer will be acceptable to Mr. Schreiber, or that we will reach a settlement with Mr. Schreiber. If we do not reach an agreement with Mr. Schreiber, we will continue to defend the case vigorously.

      On November 16, 2006, we were served with a demand for arbitration with the American Arbitration Association by Mr. Von Brendel pursuant to the dispute resolution mechanism provided in his employment agreement. Mr. von Brendel seeks compensatory damages of an unspecified amount and alleges various causes of action, including wrongful termination and breach of contract, fraud and the implied covenant of good faith and fair dealing. We deny Mr. von Brendel’s allegations and believe that many of his claims contradict the terms of his employment agreement. To avoid the costs of arbitration, we have issued a settlement offer to Mr. von Brendel. There can be no assurance that our offer will be acceptable to Mr. von Brendel, or that we will reach an agreement with Mr. von Brendel. If we do not reach an agreement with Mr. von Brendel and he elects to file an action against us, we will defend the case vigorously.

      We maintain employment practices liability insurance in an amount of up to $2.0 million in the aggregate for claims made during any one year insurance period. Our insurance carrier has agreed to provide coverage and defense for these actions, subject to a customary reservation of rights. We cannot assure you that our insurance carrier will provide coverage for all outstanding claims, or any employment related claims asserted in the future based on our recent management changes, or that any coverage will be adequate to cover these claims. In addition, regardless of merit or eventual outcome, our existing actions, and any potential actions resulting from our recent management changes, may result in the expenditure of a significant amount of cash on legal fees, expenses, payment of settlements or damages. Further, these actions may divert our management team’s time and attention from our business and operations.