Annual Report 2006

Joint CEO and Chairman’s Report 1

Key Financial Highlights 2

Key Achievements 3

Product Portfolio 4

Market Outlook – Pharmaceutical 5

Market Outlook – Medical 8

Market Outlook – Veterinary 10

Board of Directors 11

Financials 12

Additional Stock Exchange Information 48

Corporate Directory Inside Back Cover

Contents

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Overview

2006 saw further development and expansion of the business base, which now has the potential and size to deliver significantly more sales and in more jurisdictions. We have seen excellent progress on all fronts of the business. We continued to invest in marketing and drug registration and despite these significant expenses were able to grow NPAT by 60.4%. The company is forecasting ongoing growth in revenues and profits from all divisions. Costs are expected to increase in line with new market entries, but will decrease as a proportion of revenue. We outline below the highlights from 2006 and prospects for the next year.

Penthrox

Penthrox® has become Australia’s leading emergency first-line pain relief product, and we remain excited by its huge potential internationally, in human and veterinary medicine.

Local SalesWe continue to supply all Ambulance Services in Australia, as well as the Australian Defence Force and this core market provides stable revenue. Sales of Penthrox are up over 27% primarily due to sales into new therapeutic areas. The most important of these is dentistry, where over 20% of Australia’s dentists have purchased Penthrox and we have recently launched in New Zealand. However, we are also pursuing new opportunities in burns treatment, radiological procedures, aesthetic surgery, oncology and phlebology. These new therapeutic applications will give us a flexible entry strategy for each new country registration we achieve.

International Regulatory ProgressWe are hopeful of a near term registration in the Gulf Co-operation Countries (GCC), (United Arab Emirates, Saudi Arabia, Kuwait, Qatar, Oman and Bahrain). We recently presented additional data to the GCC Committee. Subsequently, further documentation has been requested and supplied and we are hopeful that this will lead to final registration in this large market.

We are also pursuing registrations in numerous other countries including Pakistan, Turkey, Chile, Russia, Romania, Moldova, Kazakhstan and the South East Asian countries of Singapore, Hong Kong, Thailand, Philippines, Vietnam, Malaysia and Indonesia. In a number of these countries we have submitted registration dossiers and are awaiting regulatory feedback. We have also appointed regulatory specialists in Europe in preparation for entering the EU markets.

We made progress toward the filing of our New Drug Application (NDA) in the United States. Initial in-vitro trials have been successfully completed and we are liaising with the FDA on pre-clinical and clinical trial protocols for the remainder of the program. Our award of a $1.4m Commercial Ready grant from AusIndustry should ensure continued momentum in this registration project.

VeterinarySales to the research community in the U.S.A have increased back to the original levels. We are working with the FDA towards broadening access of methoxyflurane in the veterinary market. We plan to have our manufacturing site approved by the FDA for this purpose during FY06/07.

Medical Devices and Machines

In 2006 we focused on consolidating our core markets in Australia and New Zealand for our Asthma management products. This strategy yielded a sales increase for medical devices of over 20%. Our aim for the next financial year is to build significant growth through a comprehensive branding centred on our patented ‘2-valve technology’ Space Chamber®, increased focus on oxygen equipment in the dentistry and general practitioner markets, and sales to international customers. We also finalised an agreement earlier this year with a distributor in Europe, to sell our asthma management products there and have received our first order.

MDI’s medical devices and veterinary machines have unique valuable features, a strong market position in Australia and New Zealand, and there is considerable value still to be extracted from these products here and abroad. We also have product extensions to be launched this year.

Joint CEO and Chairman’s Report

Dr. Simon FisherChief Executive Officer

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2006 2005 Period ending 30 June $’000 $’000 % change

Revenue 6,630 5,449 + 21.7 Gross profit 4,325 3,478 + 24.4 EBITDA (i) 1,554 1,092 + 42.3 Depreciation and Amortisation (244 ) (217 ) EBIT (ii) 1,310 875 + 49.7 Net interest (151 ) (138 ) Taxes (362 ) (240 ) NPAT (iii) 797 497 + 60.4

(i) EBITDA – Earnings before interest, tax, depreciation and amortisation(ii) EBIT – Earnings before interest and tax(iii) NPAT – Net profit after tax

> Revenue up over 21%

> Net profit after tax up 60%

> Continued investment in marketing and registrations

Key Financial Highlights

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Key Achievements

> 21.7% growth in total product revenue

> 27.2% growth in Penthrox sales

> $1.4 million Federal Government Grant to facilitate the registration of Penthrox by the Food and Drug Admininstration (FDA) in the United States of America

> Introduction of Penthrox into new therapeutic areas within Australia: – Radiology – Aesthetic Surgery – Phlebology – Burns

> Establishment of Penthrox sales in dentistry within Australia

> Introduction of Penthrox in dentistry within New Zealand

> Penthrox registration process nearing completion in: – Middle East (Gulf Co-operation Council)

> Penthrox regulatory submission made in: – Chile – Pakistan

> Penthrox regulatory evaluation currently being conducted in: – Hong Kong – Indonesia – Malaysia – Philippines – Thailand – Vietnam – Singapore – Russia – Turkey – Romania – Moldova – Kazakhstan – Guatemala

> Submission of pre-IND package and commencement of pre-clinical work for the registration of Penthrox by the FDA in the United States of America

> Commencement of clinical trial of Penthrox in palliative care at Peter MacCallum Cancer Centre

> Implementation of PAIN program (Penthrox Assessment in the Naturalistic Setting) to collect clinical data regarding the use of Penthrox in new therapeutic areas

PharmaceuticalAnalgesia Penthrox®

MedicalAsthma Space Chamber® aerosol spacer

Breath Alert® peak flow meter

Face Masks EZ-fit silicone and disposable face masks

Oxygen OXI-port™ oxygen therapy device

OXI-sok™ oxygen therapy device

OXI-pro™ oxygen resuscitation device

OXI-life™ oxygen resuscitation device

OXI-saver™ closed circuit oxygen resuscitation device

OXI-dive™ closed circuit oxygen resuscitation device

OXI-vac™ suction system

Regulators KDK™ regulator/flow meter with oxygen flush

Absorbers KAB™ carbon dioxide absorber

Ventilators Clare ventilator

Veterinary

Anaesthesia MK5 closed circuit anaesthetic machine

LANA closed circuit anaesthetic machine

Mini-KOM™ vaporiser

Surgical BioMate® biopsy punch

Product Portfolio

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Continuing to serve current markets

Penthrox has been adopted as the ‘first line’ product for the provision of immediate pain relief by Ambulance Services in all states and territories of Australia. The safety and efficacy of Penthrox, coupled with administration convenience and operational efficiencies, make it an ideal clinical tool to provide immediate pain relief to patients.

Penthrox is also regularly used by the Australian Defence Forces, ski patrols on all major Australian ski fields and life savers operating on Australia’s eastern sea-board.

MDI met with medical officers and paramedics from all major Ambulance Services during October 2005. Discussions have also been held throughout the year with paramedics to gather feedback regarding Penthrox and explore possibilities for improvement. Reports regarding health outcomes and operational matters are overall very positive, and one R&D project has been identified for further investigation in FY06/07.

Particular focus will be spent during FY06/07 to further strengthen the association and collaboration with Ambulance Services throughout Australia as well as the Australia Defence Forces.

Sales to the Ambulance and Emergency Rescue Services and Australian Defence Forces are expected to grow moderately by approximately 5% in FY06/07.

Expanding into new therapeutic areas domestically

MDI successfully commenced the introduction of Penthrox into the Australian dental market in late FY05/06. MDI has partnered with Henry Schein Halas, Australia’s largest dental supply organisation, to distribute Penthrox to dentists throughout Australia.

Educational seminars were held throughout Australia in July, August and September, 2005. Together with promotional materials based on clinical evidence and sales visits by Henry Schein Halas’ national sales team, approximately 20% of Australia’s dentist population have purchased Penthrox for their practice to date (i.e., over 1,350 dental practitioners).

Plans for FY06/07 include the continuation of educational seminars by leading dentists in each State, including a nation-wide live lecture webcast to multiple dental practices focusing on the topic of ‘Pain and Anxiety Control’ in September 2006.

Sales and promotional activities during FY06/07 will focus on generating further awareness, product evaluation and adoption of Penthrox by dentists. Sales to this market are expected to grow approximately 15% during FY06/07.

Several therapeutic areas that are associated with short and painful procedures have been identified during FY05/06 as key areas for the introduction of Penthrox. These include:

> Burns dressings and wound management> Radiological procedures> Aesthetic surgery> Phlebology> Oncology

Market Outlook – Pharmaceutical

Expanding horizons

“Penthrox can assist clinicians to help make their patients feel comfortable prior to and during treatment...”

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These therapeutic areas require either invasive or non-invasive procedures that are often associated with pain and anxiety and are common within Australia:

> Over 6,400 hospitalisations for burns annually> Radiological procedures offered in public and private hospitals nationally> Approximately 500 practising aesthetic clinicians throughout Australia and New Zealand> Approximately 100 practising phlebologists throughout Australia and New Zealand> More than 88,000 new cases of cancer are diagnosed in Australia each year

Product evaluations of Penthrox were successfully completed by leading clinicians in the areas of radiology, aesthetic surgery and phlebology by the end of FY05/06. Results reported improvement of operating conditions for clinical staff as well as effective relief for patients. Penthrox was trialled in a wide range of procedures within each therapeutic area, including biopsies, liposuction and sclerotherapy.

Further evaluations are scheduled for FY06/07. Distribution organisations that specialise in radiology, aesthetic surgery and phlebology have been selected and interviewed. Due diligence on each organisation will be completed by September 2006, with formal distribution agreements and product launch plans to be finalised thereafter.

Peter MacCallum Research Centre commenced one of two clinical trials in FY05/06 to assess the applicability of Penthrox use in oncology.

Sixty percent (60%) of the total number of cancer cases diagnosed in Australia (both male and female populations) are:

> Lung cancer> Breast cancer> Colon cancer> Prostate cancer> Skin cancers (melanoma)

Treatment of these cancers involve painful procedures such as imaging, radio therapy, biopsy procedures, patient movement and general patient positioning. Current medical practice is to anticipate pain ahead of time and provide narcotic analgesic products (e.g., opioid based – such as morphine, pethidine and fentanyl). It is envisaged that Penthrox will act as an ideal bridging agent for the provision of immediate pain relief prior to or instead of the administration of a narcotic product.

It is expected that the clinical trial will be completed by the end of FY06/07. The pilot study showed Penthrox to be a safe and effective analgesic to treat periods of acute pain in cancer patients.

Moving into new international markets

Sales of Penthrox to New Zealand commenced in FY05/06 with purchases by the New Zealand Defence Forces, several hospitals and sporting organisations. Penthrox was also introduced to dentists throughout New Zealand via a series of national educational seminars and continuing sales visits by our distribution partner, Henry Schein Regional. Further educational seminars by local dentists as well as on-going promotional activities and sales efforts are expected to grow sales to New Zealand dentists by 15% during FY06/07.

MDI is in discussion with St. John Ambulance in New Zealand. A comparative trial between Penthrox and nitrous oxide is planned for FY06/07.

MDI commenced sales of Penthrox to ski fields in New Zealand during FY05/06. Initial feedback is positive, with ski patrol officers commenting on the ease of administration and efficacy in relief for the patient. MDI has contacted all remaining ski fields in New Zealand to generate awareness regarding Penthrox, and will follow up during FY06/07. It is envisaged that all major New Zealand ski fields will be using Penthrox for the start of the 2007 ski season.

MDI maintains an aggressive overseas registration programme which will provide the foundations for significant future

growth. Regulatory dossiers have been submitted with the local Ministry of Health in the Middle East (Gulf Co-operation Council, which includes United Arab Emirates, Saudi Arabia, Kuwait, Oman, Bahrain and Qatar), Chile and Pakistan.

MDI’s CEO was requested to attend the GCC Pharmaceutical Committee meeting in late FY05/06 to present additional data regarding Penthrox. Documentation will be presented at the September 2006 meeting to finalise the registration process.

Local partners and distribution networks will be formalised within the GCC by October 2006. Promotional and product launch plans have been designed to maximise awareness generation, product evaluation and clinical adoption. It is expected that sales will commence soon after registration, including product orders from hospitals and the military.

An in-depth market analysis of Chile was conducted during FY05/06, including meetings with key customer segments and distribution partners. As a leading country within the South American continent, Penthrox will be initially introduced into the Chilean market, with other South American countries to follow. The regulatory dossier for Penthrox was submitted to the Chilean Ministry of Health in July 2006, with the registration process expected to take approximately 12 months. Sales of Penthrox to Chile are expected to commence from the start of FY07/08.

In addition, the regulatory dossier for Penthrox is currently being reviewed and translated prior to formal submission in:

> South East Asia (Hong Kong, Indonesia, Malaysia, Philippines, Thailand, Vietnam and Singapore)> Russia> Turkey> Romania> Moldova> Kazakhstan> Guatemala

“MDI maintains an aggressive overseas registration programme which will provide the foundations for significant future growth in international markets...”

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These countries have been selected due to the nature of the regulatory process, size and characteristics of the local healthcare industry, and existence of pro-active regulatory and distribution partners. While the level of interest in Penthrox is high, commercialisation into these markets is prefaced by the successful completion of the regulatory process in each country. Pre-marketing efforts have focused on Ambulance Services and the military given the inherent advantages of Penthrox over alternative forms of pain relief.

Working towards FDA submission

MDI was awarded a grant of AUD$1.4 million from the Australian Federal Government as part of the Commercial Ready Program in May 2006. This grant should assist with the research required to develop Penthrox for launch into the U.S.A for the treatment of pain in cancer patients.

The effective management of pain during the diagnosis and treatment of cancer is a critical healthcare issue. Approximately 1.373 million cases of cancer are diagnosed in the U.S.A each year.

Penthrox (methoxyflurane) directly addresses the critical healthcare issues regarding the effective management of acute pain in cancer patients as it enables patients to manage their own pain without over-dosing.

Research and veterinary market

Sales to research laboratories in the U.S.A have increased following the granting of importation rights on a case-by-case basis by the FDA. A large percentage of MDI’s previous customer base has successfully received Personal Importation Allowances and have placed orders for methoxyflurane.

We are working with the Food and Drug Administration in the U.S.A to review the requirement of the Personal Importation Allowance. This will require our manufacturing facility to be audited and we expect this to take place in FY06/07. We envisage a successful audit outcome and larger sales into this market as a consequence.

Clinical studies are scheduled to ascertain the applicability of methoxyflurane within veterinary surgical procedures during FY06/07. Positive results will assist with the launch of methoxyflurane into the U.S.A veterinary market from FY07/08.

“MDI was awarded a Federal Government grant of $1.4 million to develop Penthrox...”

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“Sales of MDI’s asthma management devices grew approximately 25% during FY05/06 throughout Australia and internationally...”

A year of progress

Market Outlook – Medical

New resources

Additional focus on MDI’s range of innovative medical devices and veterinary products, made possible by new staff, will maximise market opportunities and help to deliver significant growth during FY06/07 and beyond.

Asthma management devices

Sales of MDI’s asthma management devices grew approximately 25% during FY05/06 throughout Australia and internationally, with strong sales being delivered from our Australian (EBOS Group) and New Zealand (Air Flow Products) distributors. These sales results were achieved through promotion and sales visits to hospitals, general practitioners and pharmacies within Australia, and the maintenance of the Space Chamber aerosol spacer’s listing with PHARMAC and sole source contract for the Breath-Alert® peak flow meter in New Zealand.

MDI is focused on further increasing sales for MDI’s range of Space Chamber spacers during FY06/07. This will be achieved through a product differentiation strategy, based on our unique ‘2-valve technology’. No other globally available spacer products have this feature, which affords MDI a unique point of competitive advantage. Dual respiratory valves enable an asthma patient to continuously inhale and exhale their asthma medication with minimal respiratory resistance.

A distribution agreement was finalised with Clement Clarke International during FY05/06 to promote and distribute MDI’s range of Space Chamber products and peak flow meters within the United Kingdom, and with the possibility to expand into other European countries. Clement Clarke International is a UK based organisation that is considered a market leader in the manufacture and distribution of respiratory products. Clement Clarke International has extensive distribution networks throughout Europe and high brand equity within the respiratory market.

Further market analysis is planned regarding commercialisation into the U.S.A respiratory market during FY06/07. Clinical research will be undertaken to quantify the efficacy of the Space Chamber spacer in terms of both asthma medication delivery as well as respiratory resistance. This data will be pivotal in the successful commercialisation of the Space Chamber spacer in international markets.

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“Additional focus on MDI’s range of innovative medical devices and veterinary products will maximise market opportunities and help to deliver significant growth...”

Oxygen and other medical equipment

MDI manufactures a range of oxygen therapy and resuscitation equipment that provides healthcare professionals with the ability to administer oxygen to patients in an emergency situation. These devices range from basic through to advanced means of delivering oxygen therapy or resuscitation.

MDI’s oxygen equipment is currently used by several ambulance services, fire brigades, life saving clubs, hospitals, divers and workplaces throughout Australia. There continues to be scope for incremental sales of MDI’s oxygen equipment to these customer groups domestically.

The OXI-port oxygen therapy device was actively promoted during FY05/06 to dentists and General Practitioners throughout Australia. Both groups of healthcare professionals are required to have oxygen immediately available on their premises.

There are approximately 4,200 dental practices and 7,100 General Practitioners throughout Australia, which provides a significant market opportunity for MDI.

Promotions during FY05/06 focused on creating awareness regarding the need to have oxygen and resuscitative equipment immediately available. Dentists received this information directly through sales visits by Henry Schein Halas, while General Practitioners throughout Australia received direct mail, sales visits from a contract sales force as well as advertising in specific industry journals. A database of over 1,000 General Practitioners who are interested in the OXI-port device has been developed. Sales efforts will continue during FY06/07 through active promotion and selling via multiple distribution channels in both Australia and New Zealand.

Product pipeline

MDI is generating a product pipeline for new and innovative medical devices. It is envisaged that these medical devices will be positioned in therapeutic areas where MDI can capitalise on current relationships, such as in the emergency services. Several products were identified during FY05/06 for further analysis. Feasibility studies, research and development, contract negotiation, and industrial design concept stages will be progressed during FY06/07.

All medical devices sold within Australia need to be listed and approved by October 2007 as part of the TGA’s regulatory framework. MDI continues to work towards the regulatory plan that has been developed to ensure listing and approval for MDI’s range of medical devices prior to the October 2007 deadline.

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Sales into the veterinary market will accelerate in FY2007

Market Outlook – Veterinary

“MDI continues to offer a range of open and closed circuit anaesthetic machines to the veterinary market...”

Connecting with our customers

MDI continues to offer a range of open and closed circuit anaesthetic machines to the veterinary market, which are popularly known as Komesaroff anaesthetic machines. MDI has developed a market leading position regarding the design, manufacture and supply of closed circuit anaesthetic machines.

MDI will be participating at the 2006 Veterinary World Congress in conjunction with our local distributor; Kruuse (one of Europe’s largest veterinary distribution companies). The 2006 Veterinary World Congress will be held in Prague (Czech Republic) from 11th to 14th October, 2006, and is the combination of three separate Congresses:

31st WSAVA Congress (World Small Animal Veterinary Association)

12th FECAVA Congress (Federation of European Companion Animal Veterinary Associations)

14th CSAVA Congress (Czech Small Animal Veterinary Association)

MDI and Kruuse will host a breakfast seminar during the Congress focusing on the topic of closed circuit anaesthesia. Leading veterinarians throughout Europe have been invited to attend this breakfast seminar. Particular focus will be placed on the induction technique, animal safety and operational efficiencies of closed circuit anaesthesia. The breakfast seminar will be hosted by Dr. Simon Fisher (CEO of MDI) and Dr. Soren Nielsen (Advisory Veterinary Surgeon to Kruuse).

Expected outcomes include the re-introduction of closed circuit anaesthesia within Europe, commencement of active education within European educational institutions and possible product improvements. Local marketing and sales efforts within Europe during FY06/07 are planned to capitalise on the momentum gained after the breakfast seminar.

Additional sales and distribution arrangements in other international markets will continue to be investigated during FY06/07, with the first formal arrangement expected to be finalised in Thailand during the first half of FY06/07.

MDI has finalised the development of an updated version of the Breath-Alert breathing monitor. This version incorporates new mechanisms while still maintaining the product’s range of popular features and overall functionality. Production efficiencies deriving from the new electronic mechanisms may enable price discounts to be offered to ensure price competitiveness with customers.

This updated version of the Breath-Alert breathing monitor will be progressively introduced into domestic and international markets during FY06/07.

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Mr David WilliamsB.Ec (Hons), M.Ec, FAICDNon-Executive Chairman

Managing Director of Kidder Williams Ltd, with over 20 years experience in the investment banking sector. He is also a Director of Monash IVF Ltd. Mr Williams is Chairman of the Remuneration Committee.

Mr Allan McCallumDip.Ag.Science, MAICDNon-Executive Director

Chairman of Tassal Group Ltd, Nugrain Pty Ltd and Access Genetics Pty Ltd and Non-Executive Director of Incitec-Pivot Ltd. Mr McCallum has over 30 years experience in the agricultural sector including extensive experience in biotechnology companies. Member of the Remuneration Committee.

Mr Iain KirkwoodMA Hons (Oxon), FCPA, FFTP, CA, MAICDNon-Executive Director

Chartered Accountant, Non-Executive Director of Vision Group Holdings Ltd., has over 25 years financial and operational experience across a range of industries. Chairman of the Audit & Risk Committee.

Dr. Anthony CoulepisB.Sc (Hons), PhD, MASMNon-Executive Director

Dr. Coulepis has significant experience in the biotech, pharmaceutical and diagnostics industries, and was the founding Executive Director of AusBiotech.

Mr Maurice Van RynB.BusNon-Executive Director

Mr Van Ryn is International Business Development Manager at the Bega Co-operative Society Ltd where he has worked for the past 20 years. He is also Non-Executive Director of So Natural Foods Ltd and Tassal Group Ltd. Mr Van Ryn has over 30 years experience in the direct management of food companies and has extensive experience in launching and marketing products in Asia. Member of the Audit & Risk Committee.

Board of Directors

Corporate Governance Statement 13

Directors’ Report 15

Independence Declaration to the Directors of Medical Developments International Ltd 20

Independent Audit Report to the Members of Medical Developments International Ltd 21

Directors’ Declaration 22

Income Statement for the Financial Year Ended 30 June 2006 23

Balance Sheet as at 30 June 2006 24

Statement of Changes in Equity for the Financial Year Ended 30 June 2006 25

Cash Flow Statement for the Financial Year Ended 30 June 2006 26

Notes to the Financial Statements for the Financial Year Ended 30 June 2006 27

Financials

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Corporate Goverance Statement

The Board of Directors is ultimately responsible for all matters relating to the running of the company and is committed to implementing the highest standards of corporate governance.

The Board’s role is to govern the organisation rather than manage it. It is the purpose of senior management to manage the organisation in accordance with the direction of the Board. The Board is responsible for:

> setting the goals of the company, including short-term, medium-term and long-term objectives;> providing the overall strategic direction of the company;> appointing and approving the terms and conditions of the Chief Executive Officer and reviewing his or her ongoing performance;> endorsing the terms and conditions of senior executives through the Remuneration Committee;> establishing and determining the powers and functions of the committees of the Board, including the Audit & Risk Committee and the Remuneration Committee; > reviewing the Board’s structure and performance from time to time and making decisions on new appointments to the Board;> approving the annual budget and long- term budgets;> approving all mergers and acquisitions, and property acquisitions and disposals;> the issue of any shares, options, equity instruments or other securities in MDI or its subsidiaries;> determining the ethos of the company and ensuring that the group adheres to appropriate standards and values and applicable laws;> representing the interests of shareholders.

To assist in the execution of these responsibilities, the Board has two Board Committees being:

> an Audit and Risk Committee (Mr I Kirkwood & Mr M Van Ryn); and> a Remuneration Committee (Mr D Williams & Mr A McCallum).

All other functions of the Board will be dealt with by the Board as a whole. However, from time to time, the Board may determine to establish specific purpose sub-committees to deal with specific issues.

Share trading

The Board has adopted a share trading policy for directors and officers of the company. The Policy regulates dealings by Medical Developments International Ltd (“MDI”) directors, officers and employees in MDI securities.

ASX Corporate Governance Best Practice Recommendations

The standards and conduct adopted by the Board reflect, where applicable, the standards for Corporate Governance as provided in the ASX Corporate Governance Principles established by the ASX Corporate Governance Council.

The following sections summarise MDI’s compliance with these principles. Unless explicitly stated otherwise, the directors believe MDI complies with the Corporate Governance Council’s recommendations.

Principle 1: Lay solid foundations for management and oversight

Duties of the Board and of management are clearly segregated and stated in the company’s corporate governance manual. The Board’s role and responsibilities are also summarised above.

Principle 2: Structure the Board to add value

The directors believe that the composition, size and commitment of the Board will allow it to effectively discharge its responsibilities and duties. To this end, currently four of the five Board members are independent under the definition of the council. Furthermore, while the Chairman, Mr Williams is not considered independent under the Council definition, the Board does not believe that Mr Williams being a substantial shareholder has had or will have any adverse impact on the conduct of MDI’s affairs or the representation of the interests of other shareholders.

To further ensure directors can fulfil their obligations, the Board has adopted a policy, contained in the company’s corporate governance manual, that allows directors to take independent professional advice, at the expense of the company.

The Board does not have a nomination committee and thus does not comply with recommendation 2.4 (or the parts of recommendation 2.5 that require the charter and policies of the nomination committee to be publicly available) but such a committee is considered to be unnecessary given the size of the Board. All potential directors will be carefully considered by the Board as a whole.

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Principle 3: Promote ethical and responsible decision-making

The Board actively promotes ethical and responsible decision-making. It promotes an appropriate code of conduct for directors and key executives but does not believe given the size of the company and the resources available to it, that a formalised policy on the responsibility and accountability of individuals for reporting and investigating reports of unethical practices is necessary.

The Board has implemented and disclosed a share trading policy which limits trading to ‘trading windows’ after the release of half-year and annual results. The directors are aware of their responsibility to communicate any share trading to the company, and the company notifies the ASX of any share transactions within the allowed five business days.

Principle 4: Safeguard integrity in financial reporting

The Board has ensured there is a structure in place to independently verify and safeguard the integrity of the company’s financial reporting.

As identified above, the Board has established an audit committee comprised of two non-executive directors. While this is less than the three required by recommendation 4.3, the Board believes a three member committee is impractical given the overall size of the Board. The Committee’s Charter is contained within the company’s Corporate Governance manual.

The Chief Executive Officer and the Chief Financial Officer are required to state in writing to the Board that the company’s financial reports present a true and fair view.

Principle 5: Make timely and balanced disclosures

The company has put in place mechanisms designed to ensure compliance with the ASX Listing rules and Corporations Law requirements regarding continuous disclosure. The corporate governance manual details the company policy and all management staff are made aware of it. The company is committed to ensuring all market participants have equal access to information and so updates and presentations continue to be provided to the ASX and posted on the company website. If a presentation contains information that is not public and may have a material effect on the share price, the material is sent to the ASX prior to the presentation being made.

Principle 6: Respect the rights of shareholders

The Board of Directors aims to ensure that shareholders are informed of all major developments affecting MDI in a timely manner. Information is communicated in a variety of ways including:

> A half-yearly report containing summarised financial information and a review of operations> An annual report with detailed financial information and review of the operations of the company and future outlook> Updates on operations and developments

In addition, the company intends to carry out a major redesign of its website to provide significantly enhanced investor information, as well as continuing the current policy of posting announcements (except disclosures for compliance purposes only) on the website.

The external auditor is required to attend the annual general meeting and is available to answer questions.

Principle 7: Recognise and manage risk

The management of risk is considered by the Audit & Risk Committee. The Chief Executive Officer and Chief Financial Officer state to the Board in writing that there is a sound system of risk management and internal compliance and control within the company.

Principle 8: Encourage enhanced performance

The directors have continued to focus on issues relating to growth and strategic direction. As such, recommendation 8.1 is not followed; the Board has instead used regular informal assessments to evaluate its performance.

Principle 9: Remunerate fairly and responsibly

The Board has established a remuneration committee to ensure directors and executives are remunerated appropriately. The committee reviews remuneration packages at least annually in the light of market conditions and the performance of the company. This report includes details on the current remuneration of directors and executives including how performance conditions for performance related payments are chosen and assessed.

Principle 10: Recognise the legitimate interests of stakeholders

The Board is of the opinion that without formalising a code of conduct, as required by recommendation 10.1, the company nonetheless complies with its legal and other obligations to legitimate stakeholders. The Board will continue to review this position and may implement such a code in the future.

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Directors’ Report

The directors of Medical Developments International Limited (“MDI”) herewith submit the annual financial report of the company for the financial year ended 30 June 2006.

The names and particulars of the directors of the company during or since the end of the financial year are:

Mr D J WilliamsB.Ec (Hons), M.Ec, FAICD, Non-Executive Chairman

Managing Director of Kidder Williams Ltd, with over 20 years experience in the investment banking sector. Mr Williams is Chairman of the Remuneration Committee.

Mr C J WeaverB.Bus, LLB, MBA, (resigned 15th July 2005)Former Chief Executive Officer and Managing Director

Mr Weaver had over 15 years of experience in the consulting industry and was a partner of Deloitte Consulting prior to his appointment as CEO. He resigned from the company on 15th July 2005.

Mr I M C KirkwoodMA Hons (Oxon) FCPA, FFTP, CA, MAICD, Non-Executive Director

Chartered Accountant, Non-Executive Director of Vision Group Holdings Ltd., has over 25 years financial and operational experience across a range of industries. Chairman of the Audit & Risk Committee.

Mr A D McCallumDip.Ag Science, MAICD, Non-Executive Director

Chairman of Tassal Group Ltd, Nugrain Pty Ltd and Access Genetics Pty Ltd and Non-Executive Director of Incitec-Pivot Ltd. Mr McCallum has over 30 years experience in the agricultural sector including extensive experience in biotechnology companies. Member of the Remuneration Committee.

Mr M Van RynB.Bus, Non-Executive Director

Mr Van Ryn is International Business Development Manager at the Bega Co-operative Society Ltd where he has worked for the past 20 years. He is also Non-Executive Director of So Natural Foods Ltd and Tassal Group Ltd. Mr Van Ryn has over 30 years experience in the direct management of food companies and has extensive experience in launching and marketing products in Asia. Member of the Audit & Risk Committee.

Dr. A CoulepisB.Sc (Hons), PhD, MASM (appointed 14th July 2005)Non-Executive Director

Dr. Coulepis has significant experience in the biotech, pharmaceutical and diagnostics industries, and was the founding Executive Director of AusBiotech.

The above named directors held office during and since the end of the financial year except for:

Dr. A Coulepisappointed 14 July 2005

Mr C J Weaverresigned 15 July 2005

Directorships of other listed companies

Directorships of other listed companies held by the directors in the three years immediately before the end of the financial year are as follows:

Company secretary

Mr J D Payling B.Com (Hons), MBA(Distinction), CA

Chartered Accountant. Mr Payling is also the Chief Operating Officer of the company.

Principal activities

The company’s principal activities during the course of the financial year were the manufacture and distribution of a pharmaceutical drug and medical and veterinary equipment.

Review of operations

A detailed review of the operations of the company during the financial year and the results of these operations is set out in the first section of the annual report.

Changes in state of affairs

During the financial year there was no significant change in the state of affairs of the company other than that referred to in the financial statements or notes thereto.

Subsequent events

There has not been any matter or circumstance that has arisen since the end of the financial year that has significantly affected, or may significantly affect, the operations of the company, the results of those operations, or the state of affairs of the company in future years.

Period of Company directorship

David Williams Tassal Group Ltd 2004 – 2005 Iain Kirkwood Vision Group Holdings Ltd Since 2004 Allan McCallum Tassal Group Ltd Since 2004 Incitec-Pivot Ltd Since 2004 Graincorp Ltd 2004 – 2005 Maurice Van Ryn Tassal Group Ltd Since 2004 So Natural Foods Ltd Since 2004

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Future developments

Disclosure of information regarding likely developments in the operations of the company in future financial years and the expected results of those operations, beyond that disclosed above, is likely to result in unreasonable prejudice to the company. Accordingly, this information has not been disclosed in this report.

Dividends

No interim or final dividend has been declared or is payable in respect of the financial year ended 30 June 2006.

Share options

During and since the end of the financial year, the Chief Executive Officer was granted a contractual right to an aggregate of 1,750,000 share options subject to continuing employment with the company and compliance with ASX listing rules and the Corporations Act 2001.

Details of contractual rights to options are:

Indemnification of officers and auditors

During the financial year, the company paid a premium in respect of a contract insuring the directors of the company (as named above), the company secretary, Mr J.D. Payling, and all executive officers of the company against a liability incurred as such a director, secretary or executive officer to the extent permitted by the Corporations Act 2001. The contract of insurance prohibits disclosure of the nature of the liability and the amount of the premium.

The company has not otherwise, during or since the end of the financial year, indemnified or agreed to indemnify an officer or auditor of the company against a liability incurred as such an officer or auditor.

No. of No. of options Issuing ord. shares Executive granted entity under option

S Fisher 1,750,000 Medical 1,750,000 Developments Int. Ltd

Number Class of shares Exercise price Expiry date Issuing entity Note of shares under option of option of option

Medical Developments Int. Ltd a 250,000 Ordinary $0.85 31 March 2007

Medical Developments Int. Ltd a 250,000 Ordinary $1.00 31 August 2007

Medical Developments Int. Ltd a 250,000 Ordinary $1.50 31 August 2008

Medical Developments Int. Ltd b 500,000 Ordinary $1.75 31 August 2009

Medical Developments Int. Ltd c 500,000 Ordinary $2.00 31 August 2010

Notes:

(a) These options will vest following the issue of this report. (b) These options will vest following the announcement of the FY07 financial report assuming Dr. Fisher is employed by the company on this date. The expiry date is twenty-four months from vesting.(c) These options will vest following the announcement of the FY08 financial report assuming Dr. Fisher is employed by the company on this date. The expiry date is twenty-four months from vesting.

No shares were issued during the financial year as a result of exercise of an option.

Further details concerning share options are disclosed in note 5 of this financial report.

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Directors’ meetings

The following table sets out the number of directors’ meetings (including meetings of committees of directors) held during the financial year and the number of meetings attended by each director (while they were a director or committee member). During the financial year, 10 board meetings, 2 audit committee meetings and 1 remuneration committee meeting were held.

Directors’ shareholdings

The following table sets out each directors’ relevant interest in shares or options in shares as at the date of this report.

Remuneration report

Remuneration policyThe Board continues to set remuneration at a level that will attract directors and executives of high calibre. The two key elements are:

> base salary and fees, which are determined by reference to the market rate based on payments at similar sized companies in the industry; and > performance incentives, which have two components – short term incentives based on achieving key performance indicators during the year and payable in cash, and long-term incentives payable in equity, the value of which depends on the share price of the company.

The remuneration committee, comprised of D J Williams and A D McCallum, determines the salary package of the company’s two senior executives and reviews the compensation of the non-executive directors on an annual basis. Changes are approved by the Board as a whole.

Company performanceThe Board aims to ensure there is a strong link between company performance and remuneration and believes that the use of performance incentives ensures that company performance is reflected in the quantum of payments made to executives. Performance metrics are selected to ensure that the interests of management are aligned with those of shareholders. For short term incentives, key metrics are net profit after tax, used to directly link company earnings and cash bonuses, and other operational measures, the achievement of which provides the basis for future growth and profitability.

In order to explicitly link incentives to long term shareholder wealth, the Board has granted a contractual right to share options to Dr. Fisher under the Chief Executive Share Option Plan, and for all options the exercise price is greater than the share price at financial year end. In addition, the Board intends to extend the issue of options to other senior management under the Senior Manager Share Option Plan, to provide similar incentives to senior managers of the company.

Director and executive detailsThe directors of MDI during the year were:

> D J Williams (Chairman, Non-executive)> C J Weaver (Chief Executive Officer and Managing Director), resigned 15 July 2005> A Coulepis (Non-executive), appointed 14 July 2005> I M C Kirkwood (Non-executive)> A D McCallum (Non-executive)> M Van Ryn (Non-executive)

The company executives during the year were:

> S A Fisher (Chief Executive Officer), appointed 30 September 2005> J D Payling (Chief Operating Officer & Company Secretary)

Name Board of directors Audit & Risk Committee Remuneration Committee Held Attended Held Attended Held Attended

D J Williams 10 10 – – 1 1 A Coulepis 10 10 – – – – I M C Kirkwood 10 10 2 2 – – A D McCallum 10 10 – – 1 1 M Van Ryn 10 9 2 2 – – C J Weaver – – – – – –

Name Fully paid shares

D J Williams 22,939,323 A Coulepis 130,000 I M C Kirkwood 100,000 A D McCallum 440,095 M Van Ryn 694,000

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Elements of director and executive remunerationRemuneration packages contain the following key elements:

1. Primary benefits – salary/fees and cash bonuses2. Post-employment benefits – superannuation3. Equity – share options granted under the Chief Executive Share Option Plan disclosed in note 5 to the financial statements

The following table discloses the remuneration of the directors of the company:

Note: C J Weaver resigned on 15 July 2005

The following table discloses the remuneration of the two highest remunerated executives of the company:

Note: Only two people meet the definition of executive for the purposes of this report

Post Primary Employment Share-based payments Total

Non- Super- Fully paid Salary & fees $ Bonus $ monetary $ annuation $ shares $ Options $ $

D J Williams 36,697 – – 3,303 – – 40,000 C J Weaver 14,954 – – 1,434 – – 16,388 A Coulepis 26,376 – – 2,374 – – 28,750 I M C Kirkwood 18,349 – – 11,651 – – 30,000 A D McCallum 27,522 – – 2,478 – – 30,000 M Van Ryn – – – 30,000 – – 30,000

123,898 – – 51,240 – – 175,138

Post Primary Employment Share-based payments Total

Non- Super- Fully paid Salary & fees $ Bonus $ monetary $ annuation $ shares $ Options $ $

S A Fisher 160,771 – – 14,469 – 147,000 322,240 J D Payling 134,365 – – 12,093 – – 146,458

295,136 – – 26,562 – 147,000 468,698

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Elements of remuneration related to performanceFees paid to non-executive directors are not directly tied to performance. Salaries paid to executives (S A Fisher and J D Payling) are also not directly tied to performance. The short-term and long-term incentive programmes are directly related to performance, and the conditions and assessment methods are explained below.

Short-term incentivesFor the period ended 30 June 2006 Dr. Fisher was eligible for a cash bonus of up to 20% of his base remuneration. The performance conditions were:

> Net Profit after tax equal to or greater than the Board approved budget> Sales of methoxyflurane in countries other than Australia, New Zealand and the countries within the GCC

Performance against these conditions will be assessed by the Board’s remuneration committee, using audited financials and sales reports by geographic region. Based upon a comparison of actual results and the budget, the committee will determine the amount of the bonus. Where actual results do not meet budget, the committee has the discretion to pay part of the bonus.

Mr Payling was eligible for a cash bonus of up to 10% of his base remuneration. The performance conditions related to the fulfilment of role related conditions which were agreed with the Chief Executive Officer. Performance against these conditions will be assessed by the Chief Executive Officer, who will then recommend a bonus amount to the remuneration committee.

The remuneration committee has not met to consider these incentives as at the date of this report, and as such no bonuses have been paid or approved in respect of the financial year ended 30 June 2006.

Long-term incentivesDr. Fisher was granted on 30 September 2005 a contractual right to options for nil consideration subject to continuing employment with the company and the allotment of such options complying with ASX Listing Rules and the Corporations Act 2001. The share options section above details the number of options to which a contractual right was granted, exercise price and expiry date. There are no additional performance hurdles beyond the continued employment requirement. All of the options were out of the money as at 30 June 2006.

The aggregate fair value of options granted is $272,500. The share based payment expense for the financial year ending 30 June 2006 of $147,000, disclosed above, represents approximately 45% of Dr. Fisher’s total remuneration.

Executive share options carry no rights to dividends and no voting rights.

At the beginning of the financial year, there were no options on issue. During the financial year, a contractual right to 1,750,000 options was granted, and no options were exercised or lapsed. Therefore, at the end of the financial year, there was a balance of 1,750,000 options outstanding.

Contracts for servicesDr. Fisher is employed under an open-ended contract with a notice period of three months. Mr Payling is employed under an open-ended contract with a notice period of one month. The contracts do not provide for any termination payments beyond payment for the notice period and any accrued annual leave.

Non-audit services

The directors are satisfied that the provision of non-audit services, during the year, by the auditor (or by another person or firm on the auditor’s behalf) is compatible with the general standard of independence for auditors imposed by the Corporations Act 2001. The non-audit services related to the provision of taxation services. The directors do not believe that the provision of advice of this nature compromises the general principles relating to auditor independence, as set out by the Institute of Chartered Accountants in Australia.

Details of amounts paid or payable to the auditor for non-audit services provided during the year by the auditor are outlined in note 6 to the financial statements.

Auditor’s independence declaration

The auditor’s independence declaration is included on page 20 of the annual report.

Rounding off of amounts

The company is a company of the kind referred to in ASIC Class Order 98/0100, dated 10 July 1998, and in accordance with that Class Order amounts in the directors’ report and the financial report are rounded off to the nearest thousand dollars.

Signed in accordance with a resolution of the directors made pursuant to s.298(2) of the Corporations Act 2001.

On behalf of the directors.

David WilliamsChairman

Melbourne, 1 September, 2006

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Directors’ Declaration

The directors declare that:

a) in the directors’ opinion, there are reasonable grounds to believe that the company will be able to pay its debts as and when they become due and payable; and

b) in the directors’ opinion, the attached financial statements and notes thereto are in accordance with the Corporations Act 2001, including compliance with accounting standards and giving a true and fair view of the financial position and performance of the company; and

c) the directors have been given the declarations required by s.295A of the Corporations Act 2001.

Signed in accordance with a resolution of the directors made pursuant to s.295(5) of the Corporations Act 2001.

On behalf of the directors.

David WilliamsChairman

Melbourne, 1 September, 2006

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Income Statement for the financial year ended 30 June 2006

2006 2005 Note $’000 $’000

Revenue from sale of goods 2(a) 6,560 5,404 Cost of sales (2,235 ) (1,926 )

Gross profit 4,325 3,478 Other income 2(a) 70 45 Distribution expenses (188 ) (144 )Marketing expenses (791 ) (528 )Occupancy expenses (153 ) (125 )Administration expenses (1,137 ) (1,027 )Regulatory and registration expenses (494 ) (555 )Other expenses (304 ) (231 )Finance costs 2(b) (169 ) (176 )

Profit before income tax expense 2(b) 1,159 737 Income tax expense 3(a) (362 ) (240 )

Profit for the period 797 497

Earnings per share: Basic (cents per share) 23 1.4 0.9Diluted (cents per share) 23 1.4 0.9

Notes to the financial statements are included on pages 27-47

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Balance Sheetas at 30 June 2006

30 June 2006 30 June 2005 Note $’000 $’000

Current assets Cash and cash equivalents 29(a) 1,020 542 Trade and other receivables 7 769 678 Inventories 8 1,363 1,439 Other 9 112 176 Total current assets 3,264 2,835

Non-current assets Plant and equipment 10 1,251 1,434 Goodwill 11 7,368 7,368 Other intangible assets 12 438 237 Deferred tax assets 3(d) 178 209 Total non-current assets 9,235 9,248

Total assets 12,499 12,083

Current liabilities Trade and other payables 13 291 336 Provisions 14 67 35 Borrowings 15 44 544 Current tax liabilities 3(c) 87 201 Other 16 12 7 Total current liabilities 501 1,123

Non-current liabilities Provisions 17 40 32 Borrowings 18 2,000 2,000 Other 19 86 – Total non-current liabilities 2,126 2,032

Total liabilities 2,627 3,155

Net assets 9,872 8,928

Equity Issued capital 20 8,092 8,092 Reserves 21 147 – Retained earnings 22 1,633 836 Total equity 9,872 8,928

Notes to the financial statements are included on pages 27-47

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Statement of Changes in Equityfor the financial year ended 30 June 2006

Notes to the financial statements are included on pages xx-xx

Financial year ended 30 June 2006 Financial year ended 30 June 2005

Employee Employee equity equity settled settled Issued Retained benefits Issued Retained benefits capital earnings reserve Total capital earnings reserve Total $’000 $’000 $’000 $’000 $’000 $’000 $’000 $’000

Opening balance 8,092 836 – 8,928 8,092 481 – 8,573 Profit for the period – 797 – 797 – 497 – 497 Income or expenses recognised directly in equity – – – – – – – –

Total recognised income & expense – 797 – 797 – 497 – 497 Share based payment – – 147 147 – – – – Dividends provided for or paid – – – – – (142) – (142)

Closing balance 8,092 1,633 147 9,872 8,092 836 – 8,928

Notes to the financial statements are included on pages 27-47

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Cash Flow Statementfor the financial year ended 30 June 2006

Notes to the financial statements are included on pages xx-xx

2006 2005 $’000 $’000 Inflows Inflows Note (Outflows) (Outflows)

Cash flows from operating activities Receipts from customers 6,507 5,402 Payments to suppliers and employees (4,788 ) (4,412 )Receipts from government grants 44 – Interest received 18 38 Interest and other costs of finance paid (169 ) (216 )Income tax paid (460 ) (243 )Net cash provided by operating activities 1,152 569

Cash flows from investing activities Payments for plant and equipment 10 (59 ) (342 )Payments for other intangible assets 12 (202 ) (237 )Receipts from government grant 86 – Net cash used in investing activities (175 ) (579 )

Cash flows from financing activities Proceeds from borrowings 148 – Repayment of borrowings (648 ) (1,000 )Dividends paid – (142 )Net cash used in financing activities (500 ) (1,142 )

Net increase/(decrease) in cash held 477 (1,152 )

Cash at the beginning of the financial year 542 1,701

Effects of exchange rate changes on the balance of cash held in foreign currencies 1 (7 )

Cash at the end of the financial year 1,020 542

Notes to the financial statements are included on pages 27-47

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Notes to Financial Statementsfor the financial year ended 30 June 2006

1. Summary of accounting policies

Statement of ComplianceThe financial report is a general purpose financial report which has been prepared in accordance with the Corporations Act 2001, Accounting Standards and Urgent Issues Group Interpretations, and complies with other requirements of the law. Accounting standards include Australian equivalents to International Financial Reporting Standards (‘A-IFRS’). Compliance with A-IFRS ensures that the financial statements and notes of the company comply with International Financial Reporting Standards (‘IFRS’).

The financial statements were authorised for issue by the directors on 1 September 2006.

Basis of preparationThe financial report has been prepared on the basis of historical cost and except where stated, does not take into account changing money values or current valuations of non-current assets. Cost is based on the fair values of the consideration given in exchange for assets.

In the application of A-IFRS management is required to make judgments, estimates and assumptions about carrying values of assets and liabilities that are not readily apparent from other sources. The estimates and associated assumptions are based on historical experience and various other factors that are believed to be reasonable under the circumstance, the results of which form the basis of making the judgments. Actual results may differ from these estimates.

The estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are recognised in the period in which the estimate is revised if the revision affects only that period, or in the period of the revision and future periods if the revision affects both current and future periods.

Judgments made by management in the application of A-IFRS that have significant effects on the financial statements and estimates with a significant risk of material adjustments in the next year are disclosed, where applicable, in the relevant notes to the financial statements.

Accounting policies are selected and applied in a manner which ensures that the resulting financial information satisfies the concepts of relevance and reliability, thereby ensuring that the substance of the underlying transactions or other events is reported.

The company changed its accounting policies on 1 July 2005 to comply with A-IFRS. The transition to A-IFRS is accounted for in accordance with Accounting Standard AASB 1 “First-time Adoption of Australian Equivalents to International Financial Reporting Standards”, with 1 July 2004 as the date of transition. An explanation of how the transition from superseded policies to A-IFRS has affected the company’s financial position, financial performance and cash flows is discussed in note 31.

The accounting policies set out below have been applied in preparing the financial statements for the financial year ended 30 June 2006, the comparative information presented in these financial statements, and in the preparation of the opening A-IFRS balance sheet at 1 July 2004, the company’s date of transition, except for the accounting policies in respect of financial instruments. The company has not restated comparative information for financial instruments, including derivatives, as permitted under the first-time adoption transitional provisions. The accounting policies for financial instruments applicable to the comparative information are consistent with those adopted and disclosed in the lodged 2005 annual financial report. The impact of changes in these accounting policies on 1 July 2005, the date of transition for financial instruments, is not significant.

Significant accounting policiesThe following significant accounting policies have been adopted in the preparation and presentation of the financial report:

(a) BorrowingsBorrowings are recorded initially at fair value, net of transaction costs.

Subsequent to initial recognition, borrowings are measured at amortised cost with any difference between the initial recognised amount and the redemption value being recognised in profit and loss over the period of the borrowing using the effective interest rate method.

(b) Cash and cash equivalentsCash and cash equivalents comprise cash on hand, cash in banks and investments in money market instruments, net of outstanding bank overdrafts. Bank overdrafts are shown within borrowings in current liabilities on the balance sheet.

(c) Employee benefitsProvision is made for benefits accruing to employees in respect of wages and salaries, annual leave, long service leave, and sick leave when it is probable that settlement will be required and they are capable of being measured reliably.

Provisions made in respect of wages and salaries, annual leave and sick leave expected to be settled within 12 months, are measured at their nominal values using the remuneration rate expected to apply at the time of settlement.

Provisions made in respect of annual leave and long service leave which are not expected to be settled within 12 months are measured using an estimate of the present value of the future cash outflows to be made by the company in respect of services provided by employees up to reporting date.

Defined contribution plansContributions to defined contribution superannuation plans are expensed when incurred.

(d) Financial assetsLoans and receivablesTrade receivables, loans, and other receivables are recorded at amortised cost less any impairment.

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(e) Financial instruments issued by the companyDebt and equity instrumentsDebt and equity instruments are classified as either liabilities or as equity in accordance with the substance of the contractual arrangement.

Transaction costs on the issue of equity instrumentsTransaction costs arising on the issue of equity instruments are recognised directly in equity as a reduction of the proceeds of the equity instruments to which they relate. Transaction costs are the costs that are incurred directly in connection with the issue of those equity instruments and would not have been incurred had those instruments not been issued.

Interest and dividendsInterest and dividends are classified as expenses or as distributions of profit consistent with the balance sheet classification of the related debt or equity instruments or component parts of compound instruments.

(f) Foreign currencyAll foreign currency transactions during the financial year are brought to account using the exchange rate in effect at the date of the transaction. Foreign currency monetary items at reporting date are translated at the exchange rate existing at that date. Exchange differences are recognised in profit or loss in the period in which they arise.

(g) Goods and services taxRevenues, expenses and assets are recognised net of the amount of goods and services tax (GST), except:

> where the amount of GST incurred is not recoverable from the taxation authority, it is recognised as part of the cost of acquisition of an asset or as part of an item of expense; or> for receivables and payables which are recognised inclusive of GST.

The net amount of GST recoverable from, or payable to, the taxation authority is included as part of receivables or payables.

Cash flows are included in the cash flow statement on a gross basis. The GST component of cash flows arising from investing and financing activities which is recoverable from, or payable to, the taxation authority is classified as operating cash flows.

(h) GoodwillGoodwill, representing the excess of the cost of acquisition over the fair value of the identifiable net assets acquired, is recognised as an asset and not amortised but tested for impairment annually and whenever there is an indication that the goodwill may be impaired. Any impairment is recognised immediately in profit or loss and is not subsequently reversed. Refer also to note 1(j).

(i) Government grantsGovernment grants are assistance by the government in the form of transfers of resources to the company in return for past or future

compliance with certain conditions relating to the operating activities of the company. Government grants include government assistance where there are no conditions specifically relating to the operating activities of the company other than the requirement to operate in certain regions or industry sectors.

Government grants relating to income are recognised as income over the periods necessary to match them with the related costs. Government grants that are receivable as compensation for expenses or losses already incurred or for the purpose of giving immediate financial support to the company with no future related costs are recognised as income of the period in which it becomes receivable.

Government grants relating to assets are treated as deferred income and recognised in profit and loss over the expected useful lives of the assets concerned.

(j) Impairment of assetsAt each reporting date, the company reviews the carrying amounts of its tangible and intangible assets to determine whether there is any indication that those assets have suffered an impairment loss. If any such indication exists, the recoverable amount of the asset is estimated in order to determine the extent of the impairment loss (if any). Where the asset does not generate cash flows that are independent from other assets, the company estimates the recoverable amount of the cash generating unit to which the asset belongs.

Goodwill, intangible assets with indefinite useful lives and intangible assets not yet available for use are tested for impairment annually and whenever there is an indication that the asset may be impaired. An impairment of goodwill is not subsequently reversed. Recoverable amount is the higher of fair value less costs to sell and value in use. In assessing value in use, the estimated future cash flows are discounted to their present value using a pre-tax discount rate that reflects current market assessments of the time value of money and the risks specific to the asset for which the estimates of future cash flows have not been adjusted.

If the recoverable amount of an asset (or cash-generating unit) is estimated to be less than its carrying amount, the carrying amount of the asset (or cash-generating unit) is reduced to its recoverable amount. An impairment loss is recognised in profit or loss immediately, unless the relevant asset is carried at fair value, in which case the impairment loss is treated as a revaluation decrease.

Where an impairment loss subsequently reverses, the carrying amount of the asset (or cash generating unit) is increased to the revised estimate of its recoverable amount, but only to the extent that the increased carrying amount does not exceed the carrying amount that would have been determined had no impairment loss been recognised for the asset (or cash-generating unit) in prior years. A reversal of an impairment loss is recognised in profit or loss immediately, unless the relevant asset is carried at fair value, in which case the reversal of the impairment loss is treated as a revaluation increase.

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(k) Income taxCurrent taxCurrent tax is calculated by reference to the amount of income taxes payable or recoverable in respect of the taxable profit or loss for the period. It is calculated using tax rates and tax laws that have been enacted or substantively enacted by reporting date. Current tax for current and prior periods is recognised as a liability (or asset) to the extent that it is unpaid (or refundable).

Deferred taxDeferred tax is accounted for using the comprehensive balance sheet liability method in respect of temporary differences arising from differences between the carrying amount of assets and liabilities in the financial statements and the corresponding tax base of those items.

In principle, deferred tax liabilities are recognised for all taxable temporary differences. Deferred tax assets are recognised to the extent that it is probable that sufficient taxable amounts will be available against which deductible temporary differences or unused tax losses and tax offsets can be utilised. However, deferred tax assets and liabilities are not recognised if the temporary differences giving rise to them arise from the initial recognition of assets and liabilities (other than as a result of a business combination) which affects neither taxable income nor accounting profit. Furthermore, a deferred tax liability is not recognised in relation to taxable temporary differences arising from goodwill.

Deferred tax assets and liabilities are measured at the tax rates that are expected to apply to the period(s) when the asset and liability giving rise to them are realised or settled, based on tax rates (and tax laws) that have been enacted or substantively enacted by reporting date. The measurement of deferred tax liabilities and assets reflects the tax consequences that would follow from the manner in which the company expects, at the reporting date, to recover or settle the carrying amount of its assets and liabilities.

Deferred tax assets and liabilities are offset when they relate to income taxes levied by the same taxation authority and the company intends to settle its current tax assets and liabilities on a net basis.

Current and deferred tax for the periodCurrent and deferred tax is recognised as an expense or income in the income statement, except when it relates to items credited or debited directly to equity, in which case the deferred tax is also recognised directly in equity, or where it arises from the initial accounting for a business combination, in which case it is taken into account in the determination of goodwill or excess.

(l) Intangible assetsPatents, trademarks and licensesPatents, trademarks and licenses are recorded at cost less accumulated amortisation and impairment. Amortisation is charged on a straight line basis over their estimated useful lives of 10 years. The estimated useful life and amortisation method is reviewed at the end of each annual reporting period.

Research and development costsExpenditure on research activities is recognised as an expense in the period in which it is incurred. Where no internally-generated intangible asset can be recognised, development expenditure is recognised as an expense in the period as incurred.

An intangible asset arising from development (or from the development phase of an internal project) is recognised if, and only if, all of the following are demonstrated:

> the technical feasibility of completing the intangible asset so that it will be available for use or sale;> the intention to complete the intangible asset and use or sell it;> the ability to use or sell the intangible asset;> how the intangible asset will generate probable future economic benefits;> the availability of adequate technical, financial and other resources to complete the development and to use or sell the intangible asset; and> the ability to measure reliably the expenditure attributable to the intangible asset during its development.

Internally-generated intangible assets in respect of development costs are stated at cost less accumulated amortisation and impairment, and are amortised on a straight-line basis over their estimated useful life of 5 years.

Deferred registration costsItems of expenditure on registrations are deferred to the extent that such costs can be measured reliably, future economic benefits are attributable to the expenditure, and it is probable that such future economic benefits will eventuate.

Any deferred registration costs are amortised over a period of 5 years in which the corresponding benefits are expected to arise, commencing from commercial sales to any of the countries for which the registration costs contributed to a successful registration.

The unamortised balance of registration costs deferred in previous periods is reviewed regularly at each reporting date, to ensure the criteria for deferral continue to be met. Where such costs are no longer recoverable, they are written off as an expense in the income statement.

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(m) InventoriesInventories are valued at the lower of cost and net realisable value. Costs, including an appropriate portion of fixed and variable over-head expenses, are assigned to inventory on hand by the method most appropriate to each particular class of inventory, with the majority being valued on a first in first out basis. Net realisable value represents the estimated selling price less all estimated costs of completion and costs to be incurred in marketing, selling and distribution.

(n) LeasesLeases are classified as finance leases whenever the terms of the lease transfer substantially all the risks and rewards of ownership to the lessee. The company does not have any finance leases. All other leases are classified as operating leases.

Operating lease payments are recognised as an expense on a straight-line basis over the lease term, except where another systematic basis is more representative of the time pattern in which economic benefits from the leased asset are consumed.

(o) PayablesTrade payables and other accounts payable are recognised when the company becomes obliged to make future payments resulting from the purchase of goods and services.

(p) Plant and equipmentPlant and equipment and leasehold improvements are stated at cost less accumulated depreciation and impairment. Cost includes expenditure that is directly attributable to the acquisition of the item. In the event that settlement of all or part of the purchase consideration is deferred, cost is determined by discounting the amounts payable in the future to their present value as at the date of the acquisition.

DepreciationDepreciation is provided on plant and equipment and is calculated on a straight line basis so as to write off the cost of each asset over its expected useful life to its estimated residual value. Leasehold improvements are depreciated over the period of the lease or estimated useful life, whichever is the shorter, using the straight line method. The estimated useful lives, residual values and depreciation method are reviewed at the end of each annual reporting period.

The following estimated useful lives are used in the calculation of depreciation:

Leasehold improvements – 5 yearsPlant and equipment – 4-10 years

(q) ProvisionsProvisions are recognised when the company has a present obligation, the future sacrifice of economic benefits is probable, and the amount of the provision can be measured reliably.

The amount recognised as a provision is the best estimate of the consideration required to settle the present obligation at reporting date, taking into account the risks and uncertainties surrounding the obligation. Where a provision is measured using the cashflows estimated to settle the present obligation, its carrying amount is the present value of those cashflows.

When some or all of the economic benefits required to settle a provision are expected to be recovered from a third party, the receivable is recognised as an asset if it is probable that recovery will be received and the amount of the receivable can be measured reliably.

DividendsA provision is recognised for dividends when they have been declared, determined or publicly recommended by the directors on or before the reporting date.

(r) Revenue recognitionSale of goodsRevenue from the sale of goods is recognised when the company has transferred to the buyer the significant risks and rewards of ownership of the goods.

Interest incomeInterest income is recognised on a time proportionate basis that takes into account the effective yield on the financial asset.

(s) Share based paymentsEquity-settled share-based payments granted after 7 November 2002 that were unvested as of 1 January 2005, are measured at fair value at the date of grant. Fair value is measured by use of a Black-Scholes options valuation model. The expected life used in the model has been adjusted, based on management’s best estimate, for the effects of non-transferability, exercise restrictions, and behavioural considerations.

The fair value determined at the grant date of the equity-settled share-based payments is expensed on a straight-line basis over the vesting period, based on the company’s estimate of options that will eventually vest.

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2. Profit from operations

2006 2005 $’000 $’000

(a) Revenue and other income Revenue from sale of goods 6,560 5,404 Other operating lease rental income 7 7 Interest income – bank deposits 18 38 Government grant income 45 –

6,630 5,449

(b) Profit before income tax Profit before income tax has been arrived at after charging the following expenses: Inventory – write down of inventory to net realisable value (18 ) (2 )Finance cost – interest on loans (169 ) (176 )Net bad and doubtful debts arising from other entities (14 ) – Depreciation of non-current assets (242 ) (217 )Amortisation of non-current assets (2 ) – Research & development costs immediately expensed (28 ) (43 )Operating lease rental expenses – minimum lease payments (88 ) (86 )Employee benefit expense: Short-term employee benefits (1,227 ) (1,228 ) Post employment benefits – defined contribution plans (144 ) (133 ) Equity settled share based payments (147 ) –

(1,518 ) (1,361 )

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3. Income Taxes

2006 2005 $’000 $’000

(a) Income tax recognised in profit or loss Tax expense comprises: Current tax expense 331 200 Deferred tax expense relating to the origination and reversal of temporary differences 31 40 Total tax expense 362 240

The prima facie income tax expense on pre-tax accounting profit reconciles to the income tax expense in the financial statements as follows:

Profit from operations 1,159 737

Income tax calculated at 30% 348 221 Share based payment expense 44 – Other (30 ) 19

362 240 The tax rate used in the above reconciliation is the corporate tax rate of 30% payable by Australian corporate entities on taxable profits under Australian tax law. There has been no change in the corporate tax rate when compared with the previous reporting period.

(b) Income tax recognised directly in equity No current and deferred tax amounts have been charged directly to equity during the period (2005: nil)

(c) Current tax liabilities Income tax payable 87 201

(d) Deferred tax assets Temporary differences 178 209

Opening Charged Closing balance to income balance 2006 $’000 $’000 $’000

Gross deferred tax assets: Receivables 8 5 3 Accrued expenses 17 (12 ) 29 Provisions 19 (12 ) 31 IPO costs 150 50 100 New market development expenses 15 – 15

209 31 178

Opening Charged Closing balance to income balance 2005 $’000 $’000 $’000

Gross deferred tax assets: Receivables 8 –- 8 Accrued expenses 10 (7 ) 17 Provisions 18 (1 ) 19 IPO costs 200 50 150 New market development expenses – (15 ) 15 Acquisition costs 13 13 –

249 40 209

Deductible temporary differences arise from the following:

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4. Key management personnel compensation

Details of key management personnelThe key management personnel of Medical Developments International Limited during the year were:

> S A Fisher (Chief Executive Officer), appointed September 30th 2005> J D Payling (Chief Operating Officer & Company Secretary)> C J Weaver (Chief Executive Officer), resigned July 15th 2005> D J Williams (Chairman, non-executive)> A Coulepis (Non-executive), appointed July 14th 2005> I M C Kirkwood (Non-executive)> A D McCallum (Non-executive)> M Van Ryn (Non-executive)

Key management personnel compensation policyThe Board continues to set remuneration at a level that will attract directors and executives of high calibre. The two key elements are:

> base salary, which is determined by reference to the market rate based on payments at similar sized companies in the industry; and > performance incentives, which have two components – short term incentives based on achieving key performance indicators during the year and payable in cash, and long-term incentives payable in equity, the value of which depends on the share price of the company.

The Board believes that the use of performance incentives ensures that company performance is reflected in the quantum of payments made to executives. In particular, the issue of share options ensures the value

of remuneration is directly linked to improvements in the company’s share price and thus shareholder value. Performance metrics are selected to ensure that the interests of management are aligned with those of shareholders, and are considered in more detail below.

The remuneration committee, comprised of D.J. Williams and A.D. McCallum, determined the salary package of the company’s two senior executives and reviewed the compensation of the non-executive directors. Changes were approved by the Board as a whole.

Elements of director and executive remunerationRemuneration packages contain the following key elements:

> Short-term employee benefits – salary/fees and cash bonuses> Post-employment benefits – superannuation> Share-based payments – options

The aggregate compensation of the key management personnel of the company is set out below:

The compensation of each key member of the key management personnel of the company is set out below:

Post Short-term employee benefits Employment Share-based payments Total

Non – Super – Fully paid 2006 Salary & fees $ Bonus $ monetary $ annuation $ shares $ Options $ $

Directors D J Williams 36,697 – – 3,303 – – 40,000 C J Weaver 14,954 – – 1,434 – – 16,388 A Coulepis 26,376 – – 2,374 – – 28,750 I M C Kirkwood 18,349 – – 11,651 – – 30,000 A D McCallum 27,522 – – 2,478 – – 30,000 M Van Ryn – – – 30,000 – – 30,000

123,898 – – 51,240 – – 175,138

Executives S A Fisher 160,771 – – 14,469 – 147,000 322,240 J D Payling 134,365 – – 12,093 – – 146,458

295,136 – – 26,562 – 147,000 468,698

2006 2005 $ $

Short-term employee benefits 419,034 438,764 Post employment benefits 77,802 69,843 Share based payments 147,000 –

643,836 508,607

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Post Short-term employee benefits Employment Share-based payments Total

Non – Super – Fully paid 2005 Salary & fees $ Bonus $ monetary $ annuation $ shares $ Options $ $

Directors D J Williams 36,697 – – 3,303 – – 40,000 C J Weaver 208,869 27,500 – 21,625 – – 257,994 I M C Kirkwood 27,522 – – 2,478 – – 30,000 A D McCallum 27,522 – – 2,478 – – 30,000 M Van Ryn – – – 30,000 – – 30,000

300,610 27,500 – 59,884 – – 387,994

Executives J D Payling 101,654 9,000 – 9,959 – – 120,613

101,654 9,000 – 9,959 – – 120,613

Contracts for services

S A Fisher and J D PaylingDr. Fisher is employed under an open-ended contract with a notice period of three months. Mr Payling is employed under an open-ended contract with a notice period of one month. The contracts do not provide for any termination payments beyond payment for the notice period and any accrued annual leave.

Short-term incentives – financial year ended 30 June 2006For the period ended 30 June 2006 Dr. Fisher was eligible for a cash bonus of up to 20% of his base remuneration. The performance conditions were:

> Net Profit after tax equal to or greater than the Board approved budget> Sales of methoxyflurane in countries other than Australia, New Zealand and the countries within the GCC

Performance against these conditions will be assessed by the Board’s remuneration committee, using audited financials and sales reports by geographic region. Based upon a comparison of actual results and the budget, the committee will determine the amount of the bonus. Where actual results do not meet budget, the committee has the discretion to pay part of the bonus.

Mr Payling was eligible for a cash bonus of up to 10% of his base remuneration. The performance conditions related to the fulfilment of role related conditions which were agreed with the Chief Executive Officer. Performance against these conditions will be assessed by the Chief Executive Officer, who will then recommend a bonus amount to the remuneration committee.

The remuneration committee had not met to consider these incentives as at the date of this report, and as such no bonuses have been paid or approved in respect of the financial year ended 30 June 2006.

Short-term incentives – financial year ended 30 June 2005Mr Weaver and Mr Payling were paid cash bonuses, payable in respect of the 2004 financial year. The performance conditions were:

> Increase in market capitalisation (excluding new share issues) – selected to reward management for a direct increase in shareholder wealth; and> Fulfilment of role related conditions including implementing new systems and complying with statutory and ASX related regulations – selected to ensure the company was set up efficiently and fully compliant with external requirements during its first year of operation.

Mr Weaver was entitled to a bonus of up to 17.5% of his base remuneration. Mr Payling was entitled to a bonus of up to 17.5% of his base remuneration. Payment under these arrangements was subject to approval by the Board’s remuneration committee, which did not occur until after the release of the 2004 annual report.

Long-term incentives

Dr. Fisher was granted on 30 September 2005 a contractual right to options for nil consideration subject to continuing employment with the company and the allotment of such options complying with ASX Listing Rules and the Corporations Act 2001. The share options section above details the number of options to which a contractual right was granted, exercise price and expiry date. There are no additional performance hurdles beyond the continued employment requirement. All of the options were out of the money as at 30 June 2006, and none were exercised during the year.

The aggregate fair value of options granted is $272,500. The share based payment expense for the financial year ending 30 June 2006 of $147,000, disclosed above, represents approximately 45% of Dr. Fisher’s total remuneration.

Executive share options carry no rights to dividends and no voting rights.No options lapsed during the financial year ended 30 June 2006.

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5. Executive share option plan

Senior Manager Share Option PlanThe company is in the process of instituting an ownership-based compensation scheme for senior managers of the company. Under the terms of the scheme, senior managers may be granted options to purchase parcels of ordinary shares.

Chief Executive Officer Share Option PlanDr. Fisher was granted on 30 September 2005 a contractual right to the options disclosed in the following table, subject to being employed by the company on the allotment and exercise dates and the allotment of such options complying with ASX listing rules and the Corporations Act 2001. No other options or contractual rights to options were in existence during the financial year.

The weighted-average fair value of the options to which a contractual right was granted during the financial year is $0.156 (2005: $nil). The weighted-average life remaining is approximately 30 months (2005: nil).

The types of options to which Dr. Fisher has a contractual right are Bermudan style options. The key characteristic of this type of option is that exercise of the option may occur prior to the expiry date but not before the vesting date. Where the dividend yield is not expected to be significant over the potential exercise period, a Black-Scholes model, typically used for European options, is appropriate. As a result, these contractual rights to options have been valued by applying the terms of each option stream to the Black-Scholes formula. The key assumptions which support the fair value in the table above are as follows:

Fair value at Options series Number Vesting date Expiry date Exercise price $ grant date $

1. Not yet issued 250,000 31 August 2006 31 March 2007 0.85 0.21 2. Not yet issued 250,000 31 August 2006 31 August 2007 1.00 0.17 3. Not yet issued 250,000 31 August 2006 31 August 2008 1.50 0.11 4. Not yet issued 500,000 31 August 2007 31 August 2009 1.75 0.14 5. Not yet issued 500,000 31 August 2008 31 August 2010 2.00 0.16

Option series Inputs into the model Series 1 Series 2 Series 3 Series 4 Series 5

Share price ($) 0.85 0.85 0.85 0.85 0.85 Exercise price ($) 0.85 1.00 1.50 1.75 2.00 Expected volatility (%) 52.5 to 55.0 52.5 to 55.0 50.0 to 55.0 50.0 to 52.5 50.0 to 52.5 Option life (years) 1.0 to 1.5 1.0 to 1.9 1.0 to 2.9 2.0 to 3.9 3.0 to 4.9 Risk-free interest rate (%) 5.28 5.28 5.28 5.33 5.33

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In the table on page 35, the data for the key inputs to the model were generated as follows:

> Share price: The market price of MDI shares as at 30 September 2005> Exercise price: per the contractual agreement> Expected volatility: based on the annualised standard deviation for MDI’s ordinary shares as reported by the Australian Graduate School of Management, measured from listing date to 30 September 2005 and the annualised standard deviation of four similar companies measured over 4 years prior to 30 September 2005, to give a range of potential volatilities> Option life: per the contractual agreement based on a range of shortest option life resulting from exercise of options immediately on vesting date, and longest option life resulting from exercise of options immediately before expiry date> Risk-free interest rate: Continuously compounded yield on 2 year and 5 year government bonds expiring August 2008 and August 2010> Dividend policy: the dividend yield over the exercise period is unlikely to be significant

The option streams were valued using both the low end and high end expected volatilities and option lives, and the mid-point was adopted as the fair value. The aggregate fair value as at grant date (30 September) was $272,500.

At the beginning of the financial year, there were no options on issue. During the financial year, a contractual right to 1,750,000 options was granted, and no options were exercised. Therefore, at the end of the financial year, there was a balance of 1,750,000 options outstanding.

(i) Exercised during the financial yearNo share options granted under the Chief Executive Share Option Plan were exercised during the financial year.

6. Remuneration of auditors

The auditor of the entity is Deloitte Touche Tohmatsu.The other services relate to the provision of taxation services.

7. Current receivables

(i) The average credit period on sales of goods is 30 days. No interest is charged on trade receivables. An estimate has been made for estimated irrecoverable amounts from sale of goods, determined by specifically considering all outstanding debts in light of previous default experience.

8. Current inventories

9. Other current assets

2006 2005 $ $

Auditor of the entity Audit of the financial report 56,000 53,200 Other services 19,088 32,315

75,088 85,515

2006 2005 $’000 $’000

Trade receivables (i) 768 681 Allowance for doubtful debts (14 ) (31 ) GST recoverable 15 24 Other – 4

769 678

2006 2005 $’000 $’000

Raw materials: At cost 525 530 Work in progress: At cost 61 33 Finished goods: At cost 769 870 At NRV 8 6

1,363 1,439

2006 2005 $’000 $’000

Prepayments 112 176

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10. Plant & equipment

11. Goodwill

During the year, the company assessed the recoverable amount of goodwill and determined that there was no impairment (2005: $nil).

Allocation of goodwill to cash-generating unitsGoodwill has been allocated for impairment testing purposes to three individual cash-generating units: pharmaceutical business, medical devices business and veterinary equipment business. The carrying amount of goodwill allocated to cash-generating units that are significant individually is as follows:

The recoverable amount of all three cash-generating units is based on a value in use calculation for each unit which uses cash flow projections based on a five-year projection period and terminal value. The approved financial budget for the following year is used to determine the cash flows for years 1-5; year 1 is based on the budget, years 2-5 use the year 1 results with growth at 16.5% for pharmaceuticals (equivalent to the compound annual growth rate over the last three years) and 5% for medical devices and veterinary (this is above the growth rate experienced in the last three years by these two units but management believe that a positive growth rate is appropriate given the significant investment being made in these two areas, which includes the hiring this financial year of a marketing and sales manager specifically for these two areas). The terminal value for all three units is based on the year 5 figure with no real growth, and the discount rate used for all units is 15.3% (2005: 15.8%).

The key assumptions used in the value in use calculations for all three units are:

> Sales growth – described above> Gross margin – it is assumed that gross margin will remain stable. Although the company has seen some underlying raw materials price pressure, this has been offset by increased efficiencies. Note for example that the gross margin this year (65.9%) is higher than last year (64.4%).

Management believes that any reasonably possible change in the key assumptions on which the recoverable amount for each of the three units is based would not cause the carrying amounts to exceed their recoverable amounts.

Leasehold Plant and improvements equipment at cost at cost Total $’000 $’000 $’000

Gross carrying amount Balance at 1 July 2004 27 1,400 1,427 Additions 80 262 342

Balance at 1 July 2005 107 1,662 1,769 Additions – 59 59

Balance at 30 June 2006 107 1,721 1,828

Accumulated depreciation Balance at 1 July 2004 (3 ) (115 ) (118 ) Depreciation expense (1 ) (216 ) (217 )

Balance at 1 July 2005 (4 ) (331 ) (335 ) Depreciation expense (21 ) (221 ) (242 )

Balance at 30 June 2006 (25 ) (552 ) (577 )

Net book value As at 30 June 2005 103 1,331 1,434

As at 30 June 2006 82 1,169 1,251

Aggregate depreciation allocated, whether recognised as an expense or capitalised as part of the carrying value of other assets during the year:

2006 2005 $’000 $’000

Plant & equipment (242) (217)

2006 2005 $’000 $’000

Gross carrying amount Balance at beginning of financial year 7,368 7,368

Balance at end of financial year 7,368 7,368

Net book value Balance at beginning of financial year 7,368 7,368

Balance at end of financial year 7,368 7,368

2006 2005 $’000 $’000

Pharmaceuticals 3,808 3,808 Medical devices 2,979 2,979 Veterinary equipment 581 581

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12. Other intangible assets

(i) The amortisation charge for the year of $2000 (2005: $nil) has been included in administration expenses.

13. Current trade and other payables

(i) The average credit period on purchase of goods is 30 days. No interest is charged on trade payables. The company has financial risk management policies in place to ensure that all payables are paid within the credit timeframe.

14. Current provisions

15. Current borrowings

(i) Relates to the funding of the purchase of Medical Developments Australia Pty Ltd. in 2003. Repayment terms of the original $1,000,000 vendor loan were $500,000 in December 2004 and $500,000 in December 2005. Interest free.

(ii) Unsecured. Repayment terms are ten equal payments of the original loan amount, paid monthly.

16. Other current liabilities

17. Non-current provisions

18. Non-current borrowings

(i) Secured by a fixed and floating charge over all assets. This is a 3 year facility, currently due for repayment in December 2007 (the intention of the company is to extend the facility for a further 3 years before this date). The agreement includes covenants, all of which were met at 30 June 2006.

19. Other non-current liabilities

2006 2005 $’000 $’000

Trade payables (i) 182 229 Accrued expenses 74 60 Superannuation – 11 Salary package liabilities – 6 PAYE withholding tax payable 35 30

291 336

2006 2005 $’000 $’000

Employee benefits 67 35

2006 2005 $’000 $’000

Vendor loan (i) – 500 Insurance premium funding (ii) 44 44

44 544

2006 2005 $’000 $’000

Unearned revenue – prepaid sales 12 7

2006 2005 $’000 $’000

Employee benefits 40 32

Deferred Patents & registration trademarks costs Total $’000 $’000 $’000

Gross carrying amount Balance at 1 July 2004 – – – Additions – 237 237

Balance at 1 July 2005 – 237 237 Additions 11 192 203

Balance at 30 June 2006 11 429 440

Accumulated amortisation Balance at 1 July 2004 – – – Amortisation expense – – –

Balance at 1 July 2005 – – – Amortisation expense (2) – (2)

Balance at 30 June 2006 (2) – (2)

Net book value As at 30 June 2005 – 237 237

As at 30 June 2006 9 429 438

2006 2005 $’000 $’000

Secured: Bank loan (i) 2,000 2,000

2006 2005 $’000 $’000

Unearned government grant income 86 –

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20. Issued Capital

Changes to the then Corporations Law abolished the authorised capital and par value concept in relation to share capital from 1 January 1998. Therefore the company does not have a limited amount of authorised capital and issues shares do not have a par value.

Fully paid ordinary shares carry one vote per share and carry the right to dividends.

Share options Executive share options carry no voting rights to dividends and no voting rights.

Further details of the executive share option plan are contained in note 5 to the financial statements.

21. Reserves

The employee equity-settled benefits reserve arises on the grant of a contractual right to share options to Dr. Fisher under the Chief Executive Share Option Plan. Amounts are transferred out of the reserve and into issued capital when the options are exercised. Further information about share-based payments to employees is made in note 5 to the financial statements.

22. Retained earnings

23. Earnings per share

2006 2005 $’000 $’000

56,980,000 fully paid ordinary shares 8,092 8,092 (2005: 56,980,000)

2006 2005 $’000 $’000

Employee equity-settle benefits reserve Balance at beginning of year – – Share-based payment recognised in income statement 147 – Transfer to share capital – –

147 –

2006 2005 $’000 $’000

Balance at beginning of financial year 836 481 Net profit attributable to members 797 497 Dividends provided for or paid – (142 )

Balance at end of financial year 1,633 836

2006 2005 Cents Cents per share per share

Basic earnings per share 1.4 0.9 Diluted earnings per share 1.4 0.9

2006 2006 2005 2005 No. $’000 No. $’000

Fully paid ordinary shares Balance at beginning of period 56,980,000 8,092 56,980,000 8,092 Balance at end of financial year 56,980,000 8,092 56,980,000 8,092

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Basic earnings per shareThe earnings and weighted average number or ordinary shares used in the calculation of basic earnings per share are as follows:

(a) Earnings used is equal to the net profit in the income statement as there are no necessary adjustments.

Diluted earnings per shareThe contractuaral rights to options held by Dr. Fisher have not been included in the weighted average number of ordinary shares for the purposes of calculating a diluted EPS as they do not meet the requirements for inclusion contained in AASB133 “Earnings per share”. The contractural rights to options are non-dilutive as the exercise prices for the various tranches were significantly higher than the company’s share price as at 30 June 2006.

24. Dividends

25. Operating leases

Operating leases relate to factory leases with lease terms of up to 1 year, with options to extend for a further three years. The company does not have the option to purchase the leased asset at the expiry of the lease period.

2006 2005 Cents per share $’000 Cents per share $’000

Recognised amounts Fully paid ordinary shares Final dividend in respect of 2004 financial year: Franked to 30% – – 0.25 142 – 142

Unrecognised amounts Fully paid ordinary shares Final dividend: Franked to 30% – – – –

Adjusted franking account balance 660 215

2006 2005 $’000 $’000

Non cancellable operating lease payments: Not longer than 1 year 86 37 Longer than 1 year and not longer than 5 years – 37

86 74

2006 2005 $’000 $’000

Earnings (a) 797 497

2006 2005 No. No.

Weighted average number of 56,980,000 56,980,000 ordinary shares

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Medical Veterinary Pharmaceuticals equipment equipment Unallocated Total 2006 2005 2006 2005 2006 2005 2006 2005 2006 2005 $’000 $’000 $’000 $’000 $’000 $’000 $’000 $’000 $’000 $’000

Revenues External sales 3,868 3,041 2,355 1,917 337 446 – – 6,560 5,404 Other income – – – – – – 70 45 70 45

Total revenue 6,630 5,449

Results Segment results 1,401 1,065 682 569 83 103 2,166 1,737 Unallocated (1,007 ) (1,000 ) (1,007 ) (1,000 )

Profit before income tax expense 1,159 737 Income tax expense (362 ) (240 ) Net profit for the period from continuing operations 797 497

Assets and liabilities Assets 5,525 5,684 3,625 3,659 660 695 2,689 2,045 12,499 12,083 Liabilities – – – – – – 2,627 3,155 2,627 3,155

Other segment information Acquisition of segment assets 22 193 14 76 – – Depreciation and amortisation of segment assets 194 178 9 1 – – Other non-cash expenses – – – – – –

26. Segment information

Products and services within each business segmentFor management purposes, the company is organised into three business units – pharmaceuticals, medical devices and veterinary products. These units are the basis on which the company reports its primary segment information. The principal products and services of each of these divisions are as follows:

> Pharmaceuticals – the sale of Penthrox primarily within Australia and New Zealand, but with some sales in Europe, the Middle East and North America> Medical Devices – the sale of medical devices, particularly the Space Chamber and Breath-Alert Peak-Flow meters, primarily within Australia and New Zealand, but with some sales in Asia, Europe, the Middle East and North America> Veterinary Products – the sale of veterinary devices within Australia and Europe

Segment revenues and results

Segment results by geographic segment are not presented as geographic segments outside Australia and New Zealand currently account for less than 10% of total revenues and net assets.

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Balance at Granted as Received on Net other Balance at 30 June 2005 remuneration exercise of change 30 June 2006 2006 No. No. options No. No. No.

D J Williams 22,230,000 – – 709,323 22,939,323 C J Weaver 695,000 – – (695,000 ) – A Coulepis – – – 130,000 130,000 I M C Kirkwood 100,000 – – – 100,000 A D McCallum 390,095 – – 50,000 440,095 M Van Ryn 305,000 – – 389,000 694,000 S A Fisher – – – 20,000 20,000 J D Payling 67,000 – – 33,000 100,000

23,787,095 – – 636,323 24,423,418

Balance at Granted as Received on Net other Balance at 30 June 2004 remuneration exercise of change 30 June 2005 2005 No. No. options No. No. No.

D J Williams 22,180,000 – – 50,000 22,230,000 C J Weaver 680,000 – – 15,000 695,000 I M C Kirkwood 100,000 – – – 100,000 A D McCallum 375,000 – – 15,095 390,095 M Van Ryn 290,000 – – 15,000 305,000 J D Payling 65,000 – – 2,000 67,000

23,690,000 – – 97,095 23,787,095

27. Related party disclosures

(a) Key management personnel compensationDetails of key management personnel compensation are disclosed in note 4 to the financial statements.

(b) Key management personnel equity holdings – fully paid ordinary shares

C J Weaver resigned on 15 July 2005, and as a result his holding of fully paid ordinary shares is not disclosed after this date.

(c) Key management personnel equity holdings - optionsDetails of the executive share option plan are contained in note 5 to the financial statements.

28. Subsequent events

There has not been any matter or circumstance that has arisen since the end of the financial year that has significantly affected, or may significantly affect, the operations of the company, the results of those operations, or the state of affairs of the company in future years.

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2006 2005 $’000 $’000

(a) Reconciliation of cash and cash equivalents For the purposes of the cash flow statement, cash includes cash on hand and in banks. Cash at the end of the financial year as shown in the cash flow statement is reconciled to the related item in the balance sheet as follows:

Cash and cash equivalents 1,020 542

1,020 542

(b) Reconciliation of profit for the period to net cash flows from operating activities Profit for the period 797 497 Depreciation and amortisation of non-current assets 244 217 (Decrease)/increase in current tax liabilities (115 ) (36 )(Decrease)/increase in deferred tax liabilities – (2 )(Increase)/decrease in deferred tax assets 31 40 (Increase)/decrease in foreign currency balances due to exchange rate variations (1 ) 7 Equity settled share based payment expense 147 – Changes in assets and liabilities, net of effects from acquisition and disposal of businesses: (Increase)/decrease in assets: Current receivables (91 ) (11 )Current inventories 78 (217 )Other current assets 64 (21 )Increase/(decrease) in liabilities: Current payables (46 ) 50 Current provisions 31 (3 )Other current liabilities 5 46 Non-current provisions 8 2

Net cash from operating activities 1,152 569

(c) Financing facilities Unsecured bank overdraft facility, reviewed annually and payable at call: Amount used – – Amount unused 150 –

150 –

Secured bank loan facility with a maturity date in 2007 and which may be extended by mutual agreement Amount used 2,000 2,000 Amount unused – –

2,000 2,000

29. Notes to the cash flow statement

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30. Financial Instruments

(a) Financial risk management objectivesThe company’s finance function manages the financial risks relating to the operations of the company. These risks are not currently considered to be significant, but are reviewed regularly. The company does not enter into or trade financial instruments, including derivatives, for speculative purposes.

(b) Significant accounting policiesDetails of significant accounting policies and methods adopted, including the criteria for recognition, the basis of measurement and the basis on which revenues and expenses are recognised, in respect of each class of financial asset, financial liability and equity instrument are disclosed in note 1 to the financial statements.

(c) Credit risk managementThe company does not have any significant credit risk exposure to any single counterparty or any group of counterparties having similar characteristics.

The carrying amount of financial assets recorded in the financial statements, net of any provision for losses, represents the company’s

maximum exposure to credit risk without taking account of the value of any collateral or other security obtained.

(d) Foreign currency risk managementThe company undertakes certain transactions denominated in foreign currencies, hence exposures to exchange rate fluctuations arise. The amount of this exposure is not currently significant and as such forward contracts and currency swap agreements are not used.

(e) Net fair value of financial instrumentsThe carrying amount of financial assets and liabilities recorded in the financial statements approximates their respective net fair values, determined in accordance with the accounting policies disclosed in note 1 to the financial statements.

(f) Interest rate risk managementThe company is exposed to interest rate risk as it borrows funds at floating interest rates. The risk is managed by maintaining an appropriate level of borrowings.

The following table details the company’s exposure to interest rate risk as at 30 June 2006 and 30 June 2005:

Fixed interest Average Variable Less than 1 to 5 More than Non–interest rate maturity interest rate interest rate 1 year years 5 years bearing Total 2006 % $’000 $’000 $’000 $’000 $’000 $’000

Financial assets Cash 3.69 1,020 – – – – 1,020 Receivables – – – – – 769 769

1,020 – – – 769 1,789

Financial liabilities Payables – – – – – 277 277 Bank loan 8.40 2,000 – – – – 2,000

2,000 – – – 277 2,277 2005

Financial assets Cash 3.45 542 – – – – 542 Receivables – – – – – 678 678

542 – – – 678 1,220

Financial liabilities Payables – – – – – 289 289 Bank loan 7.90 2,000 – – – – 2,000 Vendor loan – – – – – 500 500

2,000 – – – 789 2,789

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(g) Liquidity risk managementThe company manages liquidity risk by maintaining adequate cash reserves, banking facilities and reserve borrowing facilities by continuously monitoring forecast and actual cash flows and matching the maturity profiles of financial assets and liabilities.

31. Impacts of the adoption of Australian equivalents to International Financial Reporting Standards

The company changed its accounting policies on 1 July 2005 to comply with Australian equivalents to International Financial Reporting Standards (A-IFRS). The transition to A-IFRS is accounted for in accordance with Accounting Standard AASB 1 “First-time Adoption of Australian Equivalents to International Financial Reporting Standards”, with 1 July 2004 as the date of transition, with the exception of financial instruments, including derivatives, where the date of transition is 1 July 2005 (refer note 1).

An explanation of how the transition from superseded policies to A-IFRS has affected the company’s financial position and financial performance is set out in the following tables and notes that accompany the tables. There are no material differences between the cash flow statement presented under A-IFRS and the cash flow statement presented under the superseded policies.

Effect of A-IFRS on the income statement for the financial year ended 30 June 2005

Financial Superseded Effect of year ended policies transition to A-IFRS A-IFRS 30 June 2005 Note $’000 $’000 $’000

Revenue from sale of goods 5,404 – 5,404 Cost of sales (1,926 ) – (1,926 ) Gross profit 3,478 – 3,478

Other income 45 – 45 Distribution expenses (144 ) – (144 ) Marketing expenses (528 ) – (528 ) Occupancy expenses (125 ) – (125 ) Administration expenses (a) (1,406 ) 379 (1,027 ) Regulatory and registration expenses (555 ) – (555 ) Other expenses (231 ) – (231 ) Finance costs (176 ) – (176 )

Profit before income tax expense 358 379 737 Income tax expense (b) (190 ) (50 ) (240 )

Profit for the period 168 329 497

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1 July 2004 30 June 2005 Effect of Effect of Superseded transition to Superseded transition to policies A-IFRS A-IFRS policies A-IFRS A-IFRS Note $’000 $’000 $’000 $’000 $’000 $’000

Current assets Cash and cash equivalents 1,701 – 1,701 542 – 542 Trade and other receivables 667 – 667 678 – 678 Inventories 1,222 – 1,222 1,439 – 1,439 Other 155 – 155 176 – 176 Total current assets 3,745 – 3,745 2,835 – 2,835

Non-current assets Plant and equipment 1,309 – 1,309 1,434 – 1,434 Goodwill (a) 7,368 – 7,368 6,989 379 7,368 Other intangible assets – – – 237 – 237 Deferred tax assets (b) 50 199 249 60 149 209 Total non-current assets 8,727 199 8,926 8,720 528 9,248

Total assets 12,472 199 12,671 11,555 528 12,083

Current liabilities Trade and other payables 239 – 239 336 – 336 Provisions 38 – 38 35 – 35 Borrowings 1,500 – 1,500 544 – 544 Current tax liabilities 237 – 237 201 – 201 Other 52 – 52 7 – 7 Total current liabilities 2,066 – 2,066 1,123 – 1,123

Non-current liabilities Provisions 30 30 32 32 Borrowings 1,500 – 1,500 2,000 – 2,000 Deferred tax liabilities 2 – 2 – – – Other 500 – 500 – – – Total non-current liabilities 2,032 – 2,032 2,032 – 2,032

Total liabilities 4,098 – 4,098 3,155 – 3,155

Net assets 8,374 199 8,573 8,400 528 8,928

Equity Issued capital (b) 7,893 199 8,092 7,893 199 8,092 Retained earnings (c) 481 – 481 507 329 836

Total equity 8,374 199 8,573 8,400 528 8,928

Effect of A-IFRS on the balance sheet at 1 July 2004 and 30 June 2005

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Notes to the reconciliations of income and equity(a) GoodwillThe company has elected not to restate business combinations that occurred prior to the date of transition to A-IFRS, and accordingly, the carrying amount of goodwill at the date of transition has not changed. However, goodwill, which was amortised under superseded policies, is not amortised under A-IFRS from the date of transition. The effect of the change is an increase in the carrying amount of goodwill and an increase in the net profit before tax for the financial year ended 30 June 2005. There is no tax effect as deferred taxes are not recognised for temporary differences arising from goodwill for which amortisation is not deductible for tax purposes.

(b) Income taxUnder superseded policies, the company adopted tax-effect accounting principles whereby income tax expense was calculated on pre-tax accounting profits after adjustment for permanent differences. The tax effect of timing differences, which occur when items were included or allowed for income tax purposes in a period different to that for accounting, were recognised at current taxation rates as deferred tax assets and deferred tax liabilities, as applicable.

Under A-IFRS, deferred tax is determined using the balance sheet liability method in respect of temporary differences arising from the differences between the carrying amount of assets and liabilities in the financial statements and their corresponding tax bases.

The effect of the above changes is to increase the deferred tax assets at 1 July 2004 and 30 June 2005 by $199 thousand and $149 thousand respectively. This adjustment relates to the recognition of a temporary difference for IPO costs that is deductible for tax purposes over 5 years. The other side of this entry has been recognised in issued capital. The effect on profit for the financial year ended 30 June 2005 is a reduction of $50 thousand.

(c) Retained earningsThe net effect of the above changes is as follows:

(d) Share-based paymentsShare-based payments were examined as part of the implementation of A-IFRS. Share-based payments granted after 7 November 2002 and not vested before 1 January 2005 are required to be expensed under A-IFRS. As a result of the recognition criteria and ‘true-up’ process required under A-IFRS, there are no financial adjustments required to the financial statements at 1 July 2004 and 30 June 2005.

32. Additional company information

Medical Developments International Limited is a listed public company, incorporated and operating in Australia.

Company SecretaryMr Jeremy Payling

Registered office and principal place of business7/56 Smith Road Springvale VIC 3171Tel: (03) 9547 1888

Share registryComputershareYarra Falls 452 Johnston Street Abbotsford VIC 3067Tel: 1300 850 505

1 July 30 June 2004 2005 $’000 $’000

Goodwill no longer amortised – 379 Adjustment to tax balances – (50 )

Total adjustment to retained earnings – 329

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Additional Stock Exchange Informationas at 31 August 2006

Substantial shareholders Number %

Mr David John Williams 22,939,323 40.26 The Myer Family Co. Pty Ltd 4,520,791 7.93

27,460,114 48.19

Twenty largest holders of equity securities Number %

Kidder Peabody Limited 17,790,000 31.22 Moggs Creek Pty Ltd <Superannuation Fund A/c> 5,141,500 9.02 J P Morgan Nominees Australia Limited 4,673,626 8.20 MF Custodians Ltd 4,520,791 7.93 ANZ Nominees Limited 2,396,278 4.21 Invia Custodian Pty Ltd <Black A/c> 1,198,000 2.10 Invia Custodian Pty Ltd <Wam Capital Limited A/c> 1,055,338 1.85 Mutual Trust Pty Ltd 917,000 1.61 Mr Christopher J Weaver & Mrs Melinda A Weaver <Weaver Super Fund A/c> 695,000 1.22 Invia Custodian Pty Ltd <Wam Equity Fund A/c> 686,042 1.20 RBC Dexia Investor Services Australia Nominees Pty Ltd <MLCI A/c> 644,000 1.13 Leivin Investments Pty Ltd 549,818 0.96 Citicorp Nominees Pty Ltd 400,000 0.70 Mullacam Pty Ltd <McCallum Family S/Fund A/c> 390,095 0.68 David Komesaroff Pty Ltd <MDA Exec S/F A/c> 368,000 0.65 Mr Vladimir Anthony Vitez & Ms Catherine Mary Dowlan <Super Fund A/c> 313,600 0.55 Equity Trustees Ltd <Australian New Horizons A/c> 306,099 0.54 Wilk Holdings Pty Ltd <Wilk Family A/c> 300,000 0.53 Mr Michael Stephen Tighe 293,500 0.52 Mr Michael Stephen Tighe & Mrs Simone Melissa Tighe <Tighe Family Super Fund A/c> 231,500 0.41

42,870,187 75.24

Distribution of holders of equity securities

Fully paid ordinary shares 1 – 1,000 53 1,001 – 5,000 258 5,001 – 10,000 203 10,001 – 100,000 292 100,001 and over 37

843

Holding less than a marketable parcel 57

Number of holders of equity securities

Ordinary share capital56,980,000 fully paid ordinary shares held by 843 individual shareholders.All issued ordinary shares carry one vote per share.

Corporate Directory

Medical Developments International Limited is a listed public company, incorporated and operating in Australia.

DirectorsDavid WiliamsAnthony CoulepisIain KirkwoodAllan McCallumMaurice Van Ryn

Company SecretaryJeremy Payling

Medical ConsultantDr. Harry Oxer

Registered office and principal place of business7/56 Smith RoadSpringvale Victoria 3171Tel: (03) 9547 1888Fax: (03) 9547 0262www.medicaldev.com

Share registryComputershareYarra Falls 452 Johnston Street Abbotsford Victoria 3067Tel: 1300 850 505

AuditorDeloitte Touche Tohmatsu180 Lonsdale StreetMelbourneVictoria 3000

BankerWestpac Banking Corporation360 Collins StreetMelbourneVictoria 3000