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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549



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FORM 10-Q



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(Mark One)



|x | Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
|- | ---------------------------------------------------------------------------------------



For the quarterly period ended September 30, 2005



or



| ̈ | Transition report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934
|- | ----------------------------------------------------------------------------------------



For the transition period from              to
            .



Commission File Number 000-50998



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FOXHOLLOW TECHNOLOGIES, INC.

(Exact name of registrant as specified in its charter)



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|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Delaware                                                       |  | 94-3252085                          
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)



740 Bay Road

Redwood City, California 94063-2469

(Address of principal executive offices, including Zip Code)



(650) 421-8400

(Registrants telephone number, including area code)



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



Indicate by check mark whether the registrant is an accelerated filer (as defined by rule 12b-2 of the Exchange
Act).    YES ̈NO  x



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



|                               |  |                                       
|------------------------------ |  | --------------------------------------
|Class                          |  | Shares Outstanding at October 15, 2005
|Common Stock, $0.001 par value |  | 23,752,912                            



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##### Table of Contents

FOXHOLLOW TECHNOLOGIES, INC.



FORM
10-Q



TABLE OF CONTENTS



|                              |  |                                                                                                    |  |     
|----------------------------- |  | -------------------------------------------------------------------------------------------------- |  | ----
|                              |  |                                                                                                    |  | Page
|Part I: Financial Information
|                              |  |                                                                                                   
|Item 1.                       |  | Condensed Financial Statements (unaudited):                                                        |  |     
|                              |  |                                                                                                   
|                              |  | Condensed Balance Sheets at September 30, 2005 and December 31, 2004                               |  | 3   
|                              |  |                                                                                                   
|                              |  | Condensed Statements of Operations for the Three and Nine Months Ended September 30, 2005 and 2004 |  | 4   
|                              |  |                                                                                                   
|                              |  | Condensed Statements of Cash Flows for the Nine Months Ended September 30, 2005 and 2004           |  | 5   
|                              |  |                                                                                                   
|                              |  | Notes to Condensed Financial Statements                                                            |  | 6   
|                              |  |                                                                                                   
|Item 2.                       |  | Managements Discussion and Analysis of Financial Condition and Results of Operations              |  | 12  
|                              |  |                                                                                                   
|Item 3.                       |  | Quantitative and Qualitative Disclosures About Market Risk                                         |  | 32  
|                              |  |                                                                                                   
|Item 4.                       |  | Controls and Procedures                                                                            |  | 32  
|                             
|Part II: Other Information   
|                              |  |                                                                                                   
|Item 1.                       |  | Legal Proceedings                                                                                  |  | 33  
|                              |  |                                                                                                   
|Item 2.                       |  | Changes in Securities and Use of Proceeds                                                          |  | 33  
|                              |  |                                                                                                   
|Item 4.                       |  | Submission of Matters to a Vote of Security Holders                                                |  | 33  
|                              |  |                                                                                                   
|Item 5.                       |  | Other Information                                                                                  |  | 33  
|                              |  |                                                                                                   
|Item 6.                       |  | Exhibits                                                                                           |  | 34  
|                              | 
|Signatures                    |  | 35                                                                                                
|                              | 
|Certifications                |  |                                                                                                   



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##### Table of Contents

PART I: FINANCIAL INFORMATION



ITEM 1. CONDENSED FINANCIAL STATEMENTS



FOXHOLLOW TECHNOLOGIES, INC.



CONDENSED BALANCE SHEETS

(in thousands)

(unaudited)





|                                                                                                                        |  |                   |         |   |                  |   |         |  
|----------------------------------------------------------------------------------------------------------------------- |  | ----------------- | ------- | - | ---------------- | - | ------- | -
|                                                                                                                        |  | September 30,2005 |         |   | December 31,2004 |  
|Assets                                                                                                                  |  |                   |         |   |                  |   |         |  
|Current assets:                                                                                                         |  |                   |         |   |                  |   |         |  
|Cash and cash equivalents                                                                                               |  | $                 | 27,201  |   |                  | $ | 27,506  |  
|Short-term investments                                                                                                  |  |                   | 35,257  |   |                  |   | 42,887  |  
|Accounts receivable, net of allowance for doubtful accounts of $910 at September 30, 2005 and $324 at December 31, 2004 |  |                   | 18,349  |   |                  |   | 7,666   |  
|Inventories                                                                                                             |  |                   | 14,605  |   |                  |   | 7,619   |  
|Prepaid expenses and other current assets                                                                               |  |                   | 2,202   |   |                  |   | 1,091   |  
|                                                                                                                        |  |                   |         |   |                  |   |         |  
|Total current assets                                                                                                    |  |                   | 97,614  |   |                  |   | 86,769  |  
|                                                                                                                        |  |                  
|Property and equipment, net                                                                                             |  |                   | 7,983   |   |                  |   | 3,506   |  
|Other assets                                                                                                            |  |                   | 564     |   |                  |   | 561     |  
|                                                                                                                        |  |                   |         |   |                  |   |         |  
|Total assets                                                                                                            |  | $                 | 106,161 |   |                  | $ | 90,836  |  
|                                                                                                                        |  |                   |         |   |                  |   |         |  
|Liabilities and Stockholders Equity                                                                                    |  |                   |         |   |                  |   |         |  
|Current liabilities:                                                                                                    |  |                   |         |   |                  |   |         |  
|Accounts payable                                                                                                        |  | $                 | 7,936   |   |                  | $ | 3,757   |  
|Accrued liabilities                                                                                                     |  |                   | 10,925  |   |                  |   | 5,406   |  
|Deferred revenue                                                                                                        |  |                   | 8,569   |   |                  |   |        |  
|                                                                                                                        |  |                   |         |   |                  |   |         |  
|Total liabilities                                                                                                       |  |                   | 27,430  |   |                  |   | 9,163   |  
|                                                                                                                        |  |                   |         |   |                  |   |         |  
|Stockholders equity:                                                                                                   |  |                   |         |   |                  |   |         |  
|Common stock: $0.001 par value per share                                                                                |  |                   | 23      |   |                  |   | 22      |  
|Additional paid-in capital                                                                                              |  |                   | 174,071 |   |                  |   | 169,389 |  
|Deferred stock-based compensation, net                                                                                  |  |                   | (10,308 | ) |                  |   | (14,202 | )
|Other comprehensive loss                                                                                                |  |                   | (109    | ) |                  |   | (41     | )
|Accumulated deficit                                                                                                     |  |                   | (84,946 | ) |                  |   | (73,495 | )
|                                                                                                                        |  |                   |         |   |                  |   |         |  
|Total stockholders equity                                                                                              |  |                   | 78,731  |   |                  |   | 81,673  |  
|                                                                                                                        |  |                   |         |   |                  |   |         |  
|Total liabilities and stockholders equity                                                                              |  | $                 | 106,161 |   |                  | $ | 90,836  |  
|                                                                                                                        |  |                   |         |   |                  |   |         |  



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



3



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FOXHOLLOW TECHNOLOGIES, INC.



CONDENSED STATEMENTS OF OPERATIONS

(in thousands, except per share amounts)

(unaudited)



|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|-------------------------------------------------------------------------------- |  | ------------------------------- | ------ | - | ------------------------------ | - | ------ | ---- |  | - | ------- | - |  | - | ------- | -
|                                                                                 |  | Three Months EndedSeptember 30, |        |   | Nine Months EndedSeptember 30, |  
|                                                                                 |  | 2005                            |        |   | 2004                           |   |        | 2005 |  |   | 2004    |  
|Net revenue                                                                      |  | $                               | 36,076 |   |                                | $ | 11,581 |      |  | $ | 86,278  |   |  | $ | 23,853  |  
|Cost of revenue (1)                                                              |  |                                 | 9,821  |   |                                |   | 6,977  |      |  |   | 27,575  |   |  |   | 17,134  |  
|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Gross profit                                                                     |  |                                 | 26,255 |   |                                |   | 4,604  |      |  |   | 58,703  |   |  |   | 6,719   |  
|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Operating expenses:                                                              |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Research and development (1)                                                     |  |                                 | 2,759  |   |                                |   | 1,539  |      |  |   | 7,681   |   |  |   | 4,502   |  
|Selling, general and administrative (1)                                          |  |                                 | 25,419 |   |                                |   | 10,547 |      |  |   | 63,811  |   |  |   | 24,754  |  
|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Total operating expenses                                                         |  |                                 | 28,178 |   |                                |   | 12,086 |      |  |   | 71,492  |   |  |   | 29,256  |  
|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Loss from operations                                                             |  |                                 | (1,923 | ) |                                |   | (7,482 | )    |  |   | (12,789 | ) |  |   | (22,537 | )
|Interest and other income                                                        |  |                                 | 463    |   |                                |   | 61     |      |  |   | 1,366   |   |  |   | 117     |  
|Interest and other expense                                                       |  |                                 | (26    | ) |                                |   |       |      |  |   | (28     | ) |  |   | (2      | )
|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Net loss                                                                         |  |                                 | (1,486 | ) |                                |   | (7,421 | )    |  |   | (11,451 | ) |  |   | (22,422 | )
|Dividend related to beneficial conversion feature of convertible preferred stock |  |                                 |       |   |                                |   |       |      |  |   |        |   |  |   | (15,977 | )
|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Net loss attributable to common stockholders                                     |  | $                               | (1,486 | ) |                                | $ | (7,421 | )    |  | $ | (11,451 | ) |  | $ | (38,399 | )
|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Net loss per common share:                                                       |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Basic and diluted                                                                |  | $                               | (0.06  | ) |                                | $ | (6.83  | )    |  | $ | (0.50   | ) |  | $ | (46.04  | )
|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Weighted-average number of shares used in per common share calculations:         |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Basic and diluted                                                                |  |                                 | 23,189 |   |                                |   | 1,087  |      |  |   | 22,748  |   |  |   | 834     |  
|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|(1)    Includes the
following stock-based compensation charges:                  |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|                                                                                 |  |                                 |        |  
|Cost of revenue                                                                  |  | $                               | 126    |   |                                | $ | 209    |      |  | $ | 425     |   |  | $ | 347     |  
|Research and development                                                         |  |                                 | 197    |   |                                |   | 120    |      |  |   | 924     |   |  |   | 293     |  
|Selling, general and administrative                                              |  |                                 | 1,872  |   |                                |   | 1,460  |      |  |   | 4,488   |   |  |   | 3,377   |  
|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|                                                                                 |  | $                               | 2,195  |   |                                | $ | 1,789  |      |  | $ | 5,837   |   |  | $ | 4,017   |  
|                                                                                 |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  



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



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FOXHOLLOW TECHNOLOGIES, INC.



CONDENSED STATEMENTS OF CASH FLOWS

(in thousands, unaudited)



|                                                                                 |  |                                |         |   |      |   |         |  
|-------------------------------------------------------------------------------- |  | ------------------------------ | ------- | - | ---- | - | ------- | -
|                                                                                 |  | Nine Months EndedSeptember 30, |        
|                                                                                 |  | 2005                           |         |   | 2004 |  
|Cash flows from operating activities:                                            |  |                                |         |   |      |   |         |  
|Net loss                                                                         |  | $                              | (11,451 | ) |      | $ | (22,422 | )
|Adjustments to reconcile net loss to net cash used in operating activities:      |  |                                |         |   |      |   |         |  
|Allowance for doubtful accounts                                                  |  |                                | 586     |   |      |   | 258     |  
|Depreciation and amortization                                                    |  |                                | 2,147   |   |      |   | 822     |  
|Gain on disposal of property and equipment                                       |  |                                | (33     | ) |      |   |        |  
|Amortization of deferred stock-based compensation                                |  |                                | 3,544   |   |      |   | 3,249   |  
|Stock-based compensation expense                                                 |  |                                | 2,293   |   |      |   | 768     |  
|Provision for excess and obsolete inventories                                    |  |                                | 810     |   |      |   | 797     |  
|Changes in operating assets and liabilities:                                     |  |                                |         |   |      |   |         |  
|Accounts receivable                                                              |  |                                | (11,269 | ) |      |   | (4,984  | )
|Inventories                                                                      |  |                                | (7,796  | ) |      |   | (4,275  | )
|Deferred cost of revenue                                                         |  |                                |        |   |      |   | 45      |  
|Prepaid expenses and other current assets                                        |  |                                | (1,111  | ) |      |   | (1,083  | )
|Other assets                                                                     |  |                                | (3      | ) |      |   | (456    | )
|Accounts payable                                                                 |  |                                | 4,179   |   |      |   | 3,166   |  
|Accrued liabilities                                                              |  |                                | 5,811   |   |      |   | 1,383   |  
|Deferred revenue                                                                 |  |                                | 8,569   |   |      |   | (45     | )
|                                                                                 |  |                                |         |   |      |   |         |  
|Net cash used in operating activities                                            |  |                                | (3,724  | ) |      |   | (22,777 | )
|                                                                                 |  |                                |         |   |      |   |         |  
|Cash flows from investing activities:                                            |  |                                |         |   |      |   |         |  
|Acquisition of property and equipment                                            |  |                                | (6,749  | ) |      |   | (2,594  | )
|Proceeds from disposal of property and equipment                                 |  |                                | 158     |   |      |   |        |  
|Sales or maturities of investments                                               |  |                                | 40,931  |   |      |   | 7,833   |  
|Purchases of investments                                                         |  |                                | (33,369 | ) |      |   | (4,458  | )
|                                                                                 |  |                                |         |   |      |   |         |  
|Net cash provided by investing activities                                        |  |                                | 971     |   |      |   | 781     |  
|                                                                                 |  |                                |         |   |      |   |         |  
|Cash flows from financing activities:                                            |  |                                |         |   |      |   |         |  
|Proceeds from issuance of convertible preferred stock, net                       |  |                                |        |   |      |   | 29,532  |  
|Proceeds from exercise of options                                                |  |                                | 859     |   |      |   | 943     |  
|Proceeds from issuance of common stock under the Employee Stock Purchase Plan    |  |                                | 1,609   |   |      |   |        |  
|Repurchase of convertible preferred stock                                        |  |                                |        |   |      |   | (17     | )
|Repurchase of common stock                                                       |  |                                | (20     | ) |      |   | (10     | )
|                                                                                 |  |                                |         |   |      |   |         |  
|Net cash provided by financing activities                                        |  |                                | 2,448   |   |      |   | 30,448  |  
|                                                                                 |  |                                |         |   |      |   |         |  
|Net increase (decrease) in cash and cash equivalents                             |  |                                | (305    | ) |      |   | 8,452   |  
|Cash and cash equivalents, beginning of period                                   |  |                                | 27,506  |   |      |   | 2,637   |  
|                                                                                 |  |                                |         |   |      |   |         |  
|Cash and cash equivalents, end of period                                         |  | $                              | 27,201  |   |      | $ | 11,089  |  
|                                                                                 |  |                                |         |   |      |   |         |  
|Supplemental disclosure of noncash investing and financing activities:           |  |                                |         |   |      |   |         |  
|Changes in net unrealized gains on investments                                   |  | $                              | (68     | ) |      | $ |        |  
|Reversal of deferred stock-based compensation                                    |  |                                | (350    | ) |      |   |        |  
|Vesting of restricted stock                                                      |  |                                | 326     |   |      |   | 334     |  
|Dividend related to beneficial conversion feature of convertible preferred stock |  |                                |        |   |      |   | 15,977  |  
|Deferred stock-based compensation                                                |  |                                |        |   |      |   | 15,821  |  



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



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FOXHOLLOW TECHNOLOGIES INC.



NOTES TO CONDENSED FINANCIAL STATEMENTS

(unaudited)



NOTE 1Organization and Basis of Presentation:



Organization



FoxHollow Technologies, Inc. (the Company) designs, develops, manufactures and sells medical devices primarily for the treatment of peripheral
artery disease (PAD). PAD results from the accumulation of plaque in the arteries. The Company sells the SilverHawk Plaque Excision System (SilverHawk), a minimally-invasive single-use catheter system designed for removal of
plaque from arteries. Plaque removal re-opens previously narrowed arteries, allowing increased blood flow to tissue and organs. In June 2003, the U.S. Food and Drug Administration (FDA) granted 510(k) clearance to market the SilverHawk
for treatment of atherosclerosis in the peripheral vasculature. In September 2005, the Company entered into a Collaboration and License Agreement with Merck & Co., Inc. (the Merck Collaboration Agreement), pursuant to which the
Company and Merck agreed to collaborate on the analysis of atherosclerotic plaque removed from patient arteries (see Note 9). The Company was incorporated in the state of Delaware on September 24, 1996. On October 28, 2004, the Company
completed an initial public offering of 4.5 million shares of its common stock at $14.00 per share. Additionally, on October 29, 2004, the underwriters exercised their over-allotment option to purchase 675,000 shares at $14.00 per share.
Proceeds from the offering after deducting underwriting discounts and commissions but before expenses were $67.4 million.



Basis of Presentation



The accompanying unaudited condensed financial statements have been prepared by the Company in accordance with accounting principles generally accepted in
the United States of America for interim financial information and pursuant to the instructions to Form 10-Q and Article 10 of Regulation S-X of the Securities and Exchange Commission. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair presentation have been
included. The results for the nine month period ended September 30, 2005 are not necessarily indicative of the results that may be expected for the year ending December 31, 2005, or for any future period. These condensed financial
statements and notes should be read in conjunction with the audited financial statements included in the Companys Form 10-K for the year ended December 31, 2004. Certain items in the prior periods financial statements have been
reclassified to conform to the current periods format.



NOTE
2Significant Accounting Policy Update:



Revenue Recognition



The Company generates revenue from the sale of SilverHawk
devices and through plaque analysis related to the Merck Collaboration Agreement. The Company recognizes product revenue in accordance with SEC Staff Accounting Bulletin, or SAB, No. 104, Revenue Recognition. SAB No. 104
requires that four basic criteria must be met before revenue can be recognized; persuasive evidence of an arrangement exists; title has transferred; the fee is fixed and determinable; and collectibility is reasonably assured. The Company recognizes
plaque analysis revenue related to the Merck Collaboration Agreement in accordance with Emerging Issues Task Force (EITF) Issue No. 00-21 Accounting for Revenue Arrangements with Multiple Deliverables. The Merck Collaboration
Agreement provides for an initial payment which covers costs associated with the Companys responsibilities and for the rights granted to Merck during the initial year of the research collaboration. This initial payment is recognized as
deferred revenue. The Company will recognize plaque analysis revenue as it fulfills its obligations.



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FOXHOLLOW TECHNOLOGIES INC.



NOTES TO CONDENSED FINANCIAL STATEMENTS(Continued)

(unaudited)



NOTE 3Accounting for Stock-Based Compensation:



The Company accounts for stock-based employee compensation arrangements in
accordance with the provisions of Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, and its interpretations and complies with the disclosure provisions of SFAS No. 123,
Accounting for Stock-Based Compensation, as amended by SFAS No. 148, Accounting for Stock- Based Compensation-Transition and Disclosurean amendment of FASB Statement No. 123. Under APB Opinion No. 25,
compensation expense is based on the difference, if any, on the date of the grant between the fair value of the Companys stock and the exercise price. Employee stock-based compensation is amortized on a straight-line basis over the vesting
period of the underlying options.



SFAS No. 123 defines
the fair value based method of accounting for an employee stock option or similar equity investment. The following table illustrates the effect on net loss if the Company had applied the fair value recognition provisions of SFAS
No. 123 to stock-based employee compensation arrangements (in thousands, except per share data):



|                                                                                   |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|---------------------------------------------------------------------------------- |  | ------------------------------- | ------ | - | ------------------------------ | - | ------ | ---- |  | - | ------- | - |  | - | ------- | -
|                                                                                   |  | Three Months EndedSeptember 30, |        |   | Nine Months EndedSeptember 30, |  
|                                                                                   |  | 2005                            |        |   | 2004                           |   |        | 2005 |  |   | 2004    |  
|Net loss attributable to common stockholders, as reported                          |  | $                               | (1,486 | ) |                                | $ | (7,421 | )    |  | $ | (11,451 | ) |  | $ | (38,399 | )
|Add: Employee stock-based compensation included in reported net loss               |  |                                 | 1,171  |   |                                |   | 1,271  |      |  |   | 3,544   |   |  |   | 3,040   |  
|Deduct: Employee total stock-based compensation determined under fair value method |  |                                 | (4,653 | ) |                                |   | (1,433 | )    |  |   | (10,440 | ) |  |   | (3,107  | )
|                                                                                   |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Pro forma net loss attributable to common stockholders                             |  | $                               | (4,968 | ) |                                | $ | (7,583 | )    |  | $ | (18,347 | ) |  | $ | (38,466 | )
|                                                                                   |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Net loss attributable to common stockholders per common share, basic and diluted:  |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|As reported                                                                        |  | $                               | (0.06  | ) |                                | $ | (6.83  | )    |  | $ | (0.50   | ) |  | $ | (46.04  | )
|                                                                                   |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Pro forma                                                                          |  | $                               | (0.21  | ) |                                | $ | (6.98  | )    |  | $ | (0.81   | ) |  | $ | (46.12  | )
|                                                                                   |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  



The fair values of
option grants and the employee stock purchase plan (ESPP) were estimated as of the grant date or purchase date using the Black-Scholes option pricing model. The Black-Scholes model was originally developed for use in estimating the fair
value of traded options and requires the input of highly subjective assumptions including expected stock price volatility.



In December 2004, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (SFAS) No. 123(R),
Share-Based Payment (revised 2004), (SFAS No. 123(R)). SFAS No. 123(R) requires companies to measure all stock-based compensation awards, including grants of employee stock options, using a fair value method and
record such expense in the financial statements. SFAS No. 123(R), as amended, is now effective for public companies for annual, rather than interim, periods that begin after June 15, 2005, which requires the Company to adopt this standard
commencing January 1, 2006 (see Note 10).



The amounts
disclosed above are not necessarily indicative of the amounts that will be expensed upon adoption of SFAS No. 123(R). Compensation expense calculated under SFAS No. 123(R) may differ from



7



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##### Table of Contents

FOXHOLLOW TECHNOLOGIES INC.



NOTES TO CONDENSED FINANCIAL STATEMENTS(Continued)

(unaudited)



amounts currently disclosed within these footnotes based on changes in the fair value of the Companys common stock, changes in the number of options
granted or the terms of such options, the treatment of tax benefits and changes in expected volatility, interest rates or other factors.



The Company accounts for equity instruments issued to non-employees in accordance with the provisions of SFAS No. 123 and Emerging Issues Task Force
(EITF) Issue No. 96-18, Accounting for Equity Instruments that Are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling Goods, or Services, which require that such equity instruments are recorded
at their fair value on the measurement date. The measurement of stock-based compensation is subject to periodic adjustment as the underlying equity instruments vest. Non-employee stock-based compensation expense is being recognized on a
straight-line basis over the vesting periods of the related options, generally two years.



NOTE 4Net Loss Per Common Share:



Basic net loss per common share is computed by dividing net loss attributable to common stockholders by the weighted-average number of common shares outstanding, excluding shares of common stock subject to repurchase,
during the period. Diluted net loss per common share is computed by giving effect to all potential dilutive common shares, including options, warrants, and convertible preferred stock. A reconciliation of the numerator and denominator used in the
calculation of basic and diluted net loss per common share is as follows (in thousands):



|                                                                                                                   |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|------------------------------------------------------------------------------------------------------------------ |  | ------------------------------- | ------ | - | ------------------------------ | - | ------ | ---- |  | - | ------- | - |  | - | ------- | -
|                                                                                                                   |  | Three Months EndedSeptember 30, |        |   | Nine Months EndedSeptember 30, |  
|                                                                                                                   |  | 2005                            |        |   | 2004                           |   |        | 2005 |  |   | 2004    |  
|Numerator:                                                                                                         |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Net loss                                                                                                           |  | $                               | (1,486 | ) |                                | $ | (7,421 | )    |  | $ | (11,451 | ) |  | $ | (22,422 | )
|Dividend related to beneficial conversion feature of convertible preferred stock                                   |  |                                 |       |   |                                |   |       |      |  |   |        |   |  |   | (15,977 | )
|                                                                                                                   |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Net loss attributable to common stockholders                                                                       |  | $                               | (1,486 | ) |                                | $ | (7,421 | )    |  | $ | (11,451 | ) |  | $ | (38,399 | )
|                                                                                                                   |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Denominator:                                                                                                       |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Weighted-average common shares outstanding                                                                         |  |                                 | 23,646 |   |                                |   | 1,690  |      |  |   | 23,305  |   |  |   | 1,035   |  
|Less: Weighted-average unvested common shares subject to repurchase                                                |  |                                 | (457   | ) |                                |   | (603   | )    |  |   | (557    | ) |  |   | (201    | )
|                                                                                                                   |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  
|Weighted-average number of common shares outstanding used in computing basic and diluted net loss per common share |  |                                 | 23,189 |   |                                |   | 1,087  |      |  |   | 22,748  |   |  |   | 834     |  
|                                                                                                                   |  |                                 |        |   |                                |   |        |      |  |   |         |   |  |   |         |  



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FOXHOLLOW TECHNOLOGIES INC.



NOTES TO CONDENSED FINANCIAL STATEMENTS(Continued)

(unaudited)



The following outstanding options, convertible and restricted preferred stock, and warrants were
excluded from the computation of diluted net loss per common share for the periods presented because including them would have had an antidilutive effect (in thousands):





|                                                 |  |               |  |       
|------------------------------------------------ |  | ------------- |  | ------
|                                                 |  | September 30,
|                                                 |  | 2005          |  | 2004  
|Convertible preferred stock                      |  |              |  | 15,213
|Restricted preferred stock                       |  |              |  | 146   
|Options to purchase common stock                 |  | 4,210         |  | 3,922 
|Warrants to purchase convertible preferred stock |  |              |  | 213   
|                                                 |  |               |  |       
|                                                 |  | 4,210         |  | 19,494
|                                                 |  |               |  |       



NOTE 5Comprehensive Income:



Comprehensive income (loss) generally represents all
changes in stockholders equity except those resulting from investments or contributions by stockholders. The Companys unrealized gain/(loss) on investments represent the only component of other comprehensive loss that is excluded from
the Companys net loss.



NOTE 6Investments:



Investments consisted of the following (in thousands):



|                                                         |  |           |        |                 |   |                  |  |   |           |   |  |   |       
|-------------------------------------------------------- |  | --------- | ------ | --------------- | - | ---------------- |  | - | --------- | - |  | - | ------
|Investments                                              |  | CostBasis |        | UnrealizedGains |   | UnrealizedLosses |  |   | FairValue
|At September 30, 2005                                    |  |           |        |                 |   |                  |  |   |           |   |  |   |       
|US Government securities (maturities less than one year) |  | $         | 20,272 |                 | $ |                 |  | $ | (94       | ) |  | $ | 20,178
|Corporate bonds (maturities less than one year)          |  |           | 15,094 |                 |   |                 |  |   | (15       | ) |  |   | 15,079
|                                                         |  |           |        |                 |   |                  |  |   |           |   |  |   |       
|Total                                                    |  | $         | 35,366 |                 | $ |                 |  | $ | (109      | ) |  | $ | 35,257
|                                                         |  |           |        |                 |   |                  |  |   |           |   |  |   |       
|At December 31, 2004                                     |  |           |        |                 |   |                  |  |   |           |   |  |   |       
|US Government securities (maturities less than one year) |  | $         | 32,306 |                 | $ | 1                |  | $ | (21       | ) |  | $ | 32,286
|Corporate bonds (maturities less than one year)          |  |           | 10,622 |                 |   | 7                |  |   | (28       | ) |  |   | 10,601
|                                                         |  |           |        |                 |   |                  |  |   |           |   |  |   |       
|Total                                                    |  | $         | 42,928 |                 | $ | 8                |  | $ | (49       | ) |  | $ | 42,887
|                                                         |  |           |        |                 |   |                  |  |   |           |   |  |   |       



The Company has not
experienced any significant realized gains or losses on its investments in the periods presented in the statements of operations.



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##### Table of Contents

FOXHOLLOW TECHNOLOGIES INC.



NOTES TO CONDENSED FINANCIAL STATEMENTS(Continued)

(unaudited)



NOTE 7Inventories:



Inventories consisted of the following (in thousands):





|                |  |                   |        |                  |   |      
|--------------- |  | ----------------- | ------ | ---------------- | - | -----
|                |  | September 30,2005 |        | December 31,2004
|Raw materials   |  | $                 | 9,119  |                  | $ | 4,833
|Work in process |  |                   | 2,895  |                  |   | 1,366
|Finished goods  |  |                   | 2,591  |                  |   | 1,420
|                |  |                   |        |                  |   |      
|                |  | $                 | 14,605 |                  | $ | 7,619
|                |  |                   |        |                  |   |      



NOTE 8Warranties:



The Company maintains a warranty allowance for the
estimated amount of replacement cost of all products which are found to be defective. The amount of allowance is based upon analyses of historical replacements as well as changes in design and reliability. Warranty costs are reflected in the
statement of operations as a cost of goods sold. A reconciliation of the changes in the Companys warranty liability for the nine months ended September 30, 2005 and 2004 follows (in thousands):



|                                       |  |               |      |   |      |   |      |  
|-------------------------------------- |  | ------------- | ---- | - | ---- | - | ---- | -
|                                       |  | September 30, |     
|                                       |  | 2005          |      |   | 2004 |  
|Balance at December 31, 2004 and 2003  |  | $             | 207  |   |      | $ | 52   |  
|Add: Accruals for warranties           |  |               | 597  |   |      |   | 716  |  
|Less: Cost of replacements             |  |               | (566 | ) |      |   | (601 | )
|                                       |  |               |      |   |      |   |      |  
|Balance at September 30, 2005 and 2004 |  | $             | 238  |   |      | $ | 167  |  
|                                       |  |               |      |   |      |   |      |  



NOTE 9Deferred Revenue:



In September 2005, the Company entered into the Merck
Collaboration Agreement, pursuant to which the Company and Merck agreed to collaborate on the analysis of atherosclerotic plaque removed from patient arteries with the goal of identifying new biomarkers of atherosclerotic disease progression.
Certain payments made by Merck to the Company thereunder must be recognized as revenue on a deferred basis. Upon execution of the Merck Collaboration Agreement, the Company received initial cash payments of $9 million to cover costs associated with
the Companys responsibilities and for the rights granted to Merck during the initial year of the research collaboration. During the three and nine months ended September 30, 2005, the Company recognized $431,000 as revenue and will continue to
recognize plaque analysis revenue as it fulfills its obligations and delivers tissue samples under the Merck Collaboration Agreement.



NOTE 10Recent Accounting Pronouncements:



In November 2004, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS)
No. 151, Inventory Costs, an amendment of ARB No. 43, Chapter 4. SFAS No. 151 amends APB No. 43, Chapter 4, to clarify that abnormal amounts of idle facility expense, freight, handling costs, and wasted
material (spoilage) should be recognized as current period charges. In addition, SFAS No. 151 requires that allocation of fixed production overhead to the cost of conversion be based on the normal capacity of the production facilities. The
provisions of SFAS No. 151 are effective for fiscal years beginning



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##### Table of Contents

FOXHOLLOW TECHNOLOGIES INC.



NOTES TO CONDENSED FINANCIAL STATEMENTS(Continued)

(unaudited)



after June 15, 2005. The adoption of SFAS No. 151 is not expected to have a material impact on the Companys financial statements.



In December 2004, the FASB issued SFAS No. 153, Exchanges
of Non-monetary Assets, an amendment of APB Opinion No. 29, (SFAS No. 153). SFAS No. 153 addresses the measurement of exchanges of non-monetary assets and redefines the scope of transactions that should be measured
based on the fair value of the assets exchanged. SFAS No. 153 is effective for non-monetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The adoption of SFAS No. 153 is not expected to have a material
impact on the Companys financial statements.



In December
2004, the FASB issued SFAS No. 123(R), Share-Based Payment (revised 2004), (SFAS No. 123(R)). SFAS No. 123(R) requires companies to measure all stock-based compensation awards, including grants of employee
stock options, using a fair value method and record such expense in the financial statements. In addition, the adoption of SFAS No. 123(R) requires additional accounting related to the income tax effects and additional disclosure regarding the
cash flow effects resulting from share-based payment arrangements. SFAS No. 123(R) as amended, is now effective for public companies for annual, rather than interim, periods that begin after June 15, 2005, which will require the Company to
adopt this standard commencing January 1, 2006. In March 2005, the Securities and Exchange Commission issued Staff Accounting Bulletin (SAB) No. 107, TOPIC 14: Share-based payment. SAB No. 107 addresses the
interaction between SFAS No. 123(R) and certain SEC rules and regulations and provides views regarding the valuation of share-based payment arrangements for public companies. SAB No. 107 was effective immediately. The Company has completed
its preliminary assessment of the impact of adopting these new standards.



In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections, (SFAS No. 154) which establishes, unless impracticable, retrospective application as the
required method for reporting a change in accounting principle in the absence of explicit transition requirements specific to the newly adopted accounting principle. The statement provides guidance for determining whether retrospective
application of a change in accounting principle is impracticable. The statement also addresses the reporting of a correction of an error by restating previously issued financial statements. SFAS No. 154 is effective for accounting changes
and corrections of errors made in fiscal years beginning after December 15, 2005. The adoption of SFAS No. 154 is not expected to have a material impact on the Companys financial statements.



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##### Table of Contents

ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS



Introduction



Managements discussion and analysis of financial condition and results of operations, or MD&A, is provided as a supplement to the accompanying
condensed financial statements and footnotes contained in Item 1 of this report to provide an understanding of our results of operations, financial condition, and changes in financial condition. These statements may relate to, but are not
limited to, expectations of future operating results or financial performance, capital expenditures, introduction of new products, regulatory compliance, plans for growth and future operations, as well as assumptions relating to the foregoing.
Forward-looking statements are inherently subject to risks and uncertainties, some of which cannot be predicted or quantified. These risks and other factors include, but are not limited to, those listed under Factors Affecting Future Operating
Results. In some cases, you can identify forward-looking statements by terminology such as may, will, should, could, expect, plan, anticipate,
believe, estimate, predict, intend, potential, continue or the negative of these terms or other comparable terminology. These statements are only predictions. Actual events or
results may differ materially. MD&A is organized as follows:



| |  |  | Company description.This section provides a general description and history of our business, including details regarding our organization and customer base and capsule
financial information regarding our results of operations.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Results of operations.This section provides our analysis and outlook for the significant line items on our statements of operations.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Stock-based compensation.This section provides the method and financial reporting of our accounting for stock options and other equity instruments granted to employees and
to non-employees.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Liquidity and capital resources.This section provides an analysis of our liquidity and cash flows, as well as a discussion of our commitments that existed as of
September 30, 2005.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Recent accounting pronouncements. This section describes the issuance and effects of new accounting pronouncements.
| | - |  | -------------------------------------------------------------------------------------------------------------------



| |  |  | Factors affecting future operating results.This section discusses the most significant factors that could affect our future financial results. The factors discussed in this
section are in addition to factors that may be described in the MD&A captions discussed above and elsewhere in this report.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Company Description. We design, develop, manufacture and sell medical devices primarily for the treatment of peripheral artery disease. PAD
results from the accumulation of plaque in arteries, most commonly occurring in the pelvis and legs. Plaque accumulation, known as atherosclerosis, causes the narrowing of arteries, thereby reducing the flow of oxygenated blood to tissue and organs.
Left untreated, PAD increases the risk of heart attack, stroke, amputation and death. Our first product, the SilverHawk Plaque Excision System, is a minimally-invasive catheter system that treats PAD by removing plaque in order to reopen narrowed or
blocked arteries. The SilverHawk consists of two primary components, a low profile catheter and a battery-driven control unit that connects to the catheter, both of which are disposable. In June 2003, the U.S. Food and Drug Administration, or FDA,
granted us 510(k) clearance to market the SilverHawk in the United States for treatment of atherosclerosis in the peripheral vasculature, which includes arteries outside the heart and brain.



From our inception in 1996 until July 2003, our operations consisted
primarily of start-up activities, including developing the SilverHawk, recruiting personnel and raising capital. We received clearance from FDA to market the SilverHawk for treatment of atherosclerosis in the peripheral vasculature in June 2003. In
July 2003, we began to build our U.S. direct sales organization and initiated sales of the SilverHawk to several large medical centers in the United States. In January 2004, we commenced full commercial introduction of the SilverHawk in the United
States. The SilverHawk is not approved in the United States for use in the coronary or carotid arteries. We received our CE Mark to market the SilverHawk for coronary applications in October 2002



12



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##### Table of Contents

and for peripheral applications in May 2003. We began commercial sales in Europe in November 2002. To date, our sales outside of the United States have been
limited, and we expect our international sales to remain limited for the foreseeable future.



We are expanding our direct sales force in the United States to further penetrate the PAD market. We have increased our sales force from 69 direct sales representatives as of December 31, 2004 to 141 as of
September 30, 2005, and we expect to continue to grow our sales force. We market the SilverHawk through our direct sales force in the United States primarily to interventional cardiologists, vascular surgeons and interventional radiologists. We
sell the SilverHawk to 1,000 current hospital customers in the United States. No single customer accounted for more than 5% of our net revenue in the three month or the nine month periods ended September 30, 2005. Reimbursement claims for the
SilverHawk procedure are typically submitted by the hospital and physician to Medicare or other third-party payors using established billing codes for procedures that treat atherosclerosis in the peripheral vasculature.



We manufacture the SilverHawk with parts manufactured in-house and components
supplied by vendors, which we then assemble, test and package. We offer seven different SilverHawk catheters of various diameters and tip lengths to accommodate differing artery sizes and amounts of plaque.



In September 2005, we consolidated manufacturing operations into our Redwood
City, California, building, which serves as our headquarters. This 60,000 square foot facility represents a three-fold increase over our previous facility. This expansion of our manufacturing facility has resulted in expanded production area and
clean room space and enhanced research and development labs. The completion of the facility expansion increases our production capacity from approximately 15,000 to 25,000 units per quarter.



In September 2005, we entered into the Merck Collaboration Agreement through
which we agreed with Merck to collaborate on the analysis of atherosclerotic plaque removed from patient arteries with the goal of identifying new biomarkers for atherosclerotic disease progression. The Merck Collaboration Agreement provides for a
research collaboration of up to three years and consists of an initial one-year research term that Merck may, at its discretion, extend for one or two additional years. As part of this research collaboration, we will provide Merck with exclusive
access to existing atherosclerotic plaque samples collected from patients having vascular disease using the SilverHawk Plaque Excision System as well as new samples to be collected pursuant to agreed upon protocols and criteria. Upon execution of
the Merck Collaboration Agreement, we received initial cash payments of $9 million to cover costs associated with our responsibilities and for the rights granted to Merck during the initial year of the research collaboration. We may also be entitled
to additional payments of at least $7 million and up to $31 million over the following two years, if Merck elects to extend the research collaboration beyond its initial one year term and/or exercise an option to maintain exclusive access to our
atherosclerotic plaque samples. We may derive further revenue from Merck for milestone payments based on the progress of clinical development of any pharmaceutical or diagnostic products arising from work under the research collaboration, as well as
royalties on sales of any such products.



For the nine months
ended September 30, 2005, we generated net revenue of $86.3 million and a net loss of $11.5 million. As of September 30, 2005, our accumulated deficit was $84.9 million. As of September 30, 2005, our cash, cash equivalents and
investment balances totaled $62.5 million. On October 28, 2004, we completed an initial public offering of 4.5 million shares of our common stock. Additionally, on October 29, 2004, the underwriters of the offering exercised their
over-allotment option to purchase 675,000 shares. Proceeds from the offering after deducting underwriting discounts and commissions but before expenses were $67.4 million.



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##### Table of Contents

Results of Operations



Three Months Ended September 30, 2005 and September 30, 2004



The following table sets forth, for the periods indicated, our results of operations expressed as dollar amounts (in
thousands) and as percentages of net revenue:



|                                        |  |                                  |        |   |                 |     |   |        |   |        |                 |  |     |  
|--------------------------------------- |  | -------------------------------- | ------ | - | --------------- | --- | - | ------ | - | ------ | --------------- |  | --- | -
|                                        |  | Three Months Ended September 30, |       
|                                        |  | 2005                             |        |   | 2004            |    
|                                        |  | Amount                           |        |   | % of NetRevenue |     |   | Amount |   |        | % of NetRevenue | 
|Net revenue                             |  | $                                | 36,076 |   |                 | 100 | % |        | $ | 11,581 |                 |  | 100 | %
|Cost of revenue (1)                     |  |                                  | 9,821  |   |                 | 27  | % |        |   | 6,977  |                 |  | 60  | %
|                                        |  |                                  |        |   |                 |     |   |        |   |        |                 |  |     |  
|Gross profit                            |  |                                  | 26,255 |   |                 | 73  | % |        |   | 4,604  |                 |  | 40  | %
|                                        |  |                                  |        |   |                 |     |   |        |   |        |                 |  |     |  
|Operating expenses                      |  |                                  |        |   |                 |     |   |        |   |        |                 |  |     |  
|Research and development (1)            |  |                                  | 2,759  |   |                 | 8   | % |        |   | 1,539  |                 |  | 13  | %
|Selling, general and administrative (1) |  |                                  | 25,419 |   |                 | 70  | % |        |   | 10,547 |                 |  | 91  | %
|                                        |  |                                  |        |   |                 |     |   |        |   |        |                 |  |     |  
|Total operating expenses                |  |                                  | 28,178 |   |                 | 78  | % |        |   | 12,086 |                 |  | 104 | %
|                                        |  |                                  |        |   |                 |     |   |        |   |        |                 |  |     |  
|Loss from operations                    |  |                                  | (1,923 | ) |                 | -5  | % |        |   | (7,482 | )               |  | -64 | %
|Interest and other income               |  |                                  | 463    |   |                 | 1   | % |        |   | 61     |                 |  | 1   | %
|Interest and other expense              |  |                                  | (26    | ) |                 | 0   | % |        |   |       |                 |  | 0   | %
|                                        |  |                                  |        |   |                 |     |   |        |   |        |                 |  |     |  
|Net loss                                |  | $                                | (1,486 | ) |                 | -4  | % |        | $ | (7,421 | )               |  | -63 | %
|                                        |  |                                  |        |   |                 |     |   |        |   |        |                 |  |     |  

---

|(1) | Includes the following stock-based compensation charges:
|--- | --------------------------------------------------------



|                                    |  |   |       |  |  |  |   |       |  | 
|----------------------------------- |  | - | ----- |  |  |  | - | ----- |  | 
|Cost of revenue                     |  | $ | 126   |  |  |  | $ | 209   |  | 
|Research and development            |  |   | 197   |  |  |  |   | 120   |  | 
|Selling, general and administrative |  |   | 1,872 |  |  |  |   | 1,460 |  | 
|                                    |  |   |       |  |  |  |   |       |  | 
|                                    |  | $ | 2,195 |  |  |  | $ | 1,789 |  | 
|                                    |  |   |       |  |  |  |   |       |  | 



Net
Revenue. Net revenue is derived from sales of the SilverHawk and revenue related to the Merck Collaboration Agreement. Net revenue was $36.1 million for the three months ended September 30, 2005 as compared to $11.6 million for the
three months ended September 30, 2004. The increase in net revenue is attributable to an increase in the number of SilverHawk devices sold, a 32% increase in the average sales price per unit and $431,000 of revenue recognized from the delivery
of tissue samples related to the Merck Collaboration Agreement. The increase in the number of devices sold is primarily attributable to an increase in the number of hospital customers purchasing our devices as we have expanded our sales force. We
expect our net revenue to increase as we continue to expand our sales force to increase penetration of the U.S. PAD market.



Cost of Revenue. Cost of revenue consists primarily of material, labor and overhead costs. Cost of revenue was $9.8 million for the three
months ended September 30, 2005 as compared to $7.0 million for the three months ended September 30, 2004. The increase was primarily attributable to the increase in the number of SilverHawk devices sold. As a percentage of net revenue,
cost of revenue was 27% in the three months ended September 30, 2005 as compared to 60% in the three months ended September 30, 2004. Primary factors that contributed to the decrease in the cost of revenue as a percentage of net revenue
included an increase in the average sales price per unit, continued improvements related to the absorption of manufacturing overhead costs associated with increased production volumes, improved purchasing efficiencies for supplies and materials, and
improved labor and manufacturing efficiencies. We expect that cost of revenue as a percentage of net revenue will continue to decrease as we implement cost reduction initiatives and benefit from economies of scale.



14



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##### Table of Contents

Research and Development. Research and development expenses consist primarily of personnel
and material costs within our product development, regulatory and clinical organizations and the costs of clinical studies. Research and development expenses were $2.8 million for the three months ended September 30, 2005 as compared to $1.5
million for the three months ended September 30, 2004. The increase was primarily attributable to a $914,000 increase in personnel related costs, a $260,000 increase in expenses related to clinical trials and a $77,000 increase in stock-based
compensation offset by a $309,000 decrease in materials used in product development. As a percentage of net revenue, research and development expenses were 8% in the three months ended September 30, 2005 as compared to 13% in the three months
ended September 30, 2004. In future periods, we expect research and development expenses to grow in absolute terms but remain consistent as a percentage of net revenue as we enhance the capabilities of the SilverHawk and explore new
applications and indications for our plaque excision technology platform.



Selling, General and Administrative. Selling, general and administrative expenses consist primarily of personnel related costs and costs associated with participation in medical conferences, physician
symposia and promotional activities. Selling, general and administrative expenses were $25.4 million for the three months ended September 30, 2005 as compared to $10.5 million for the three months ended September 30, 2004. The increase was
primarily attributable to a $10.7 million increase in costs related to employment of additional sales and marketing personnel and sales commissions paid, an $1.2 million increase in travel and related expenses, a $969,000 increase in marketing and
promotional activities, and a $412,000 increase in stock-based compensation. As a percentage of net revenue, selling, general and administrative expenses in the three months ended September 30, 2005 were 70% as compared to 91% in the three
months ended September 30, 2004. We expect to incur additional operating costs, such as professional fees and insurance costs, related to the growth of our business and our operations as a public company. We expect selling, general and
administrative expenses to continue to increase in absolute terms as we expand our sales and marketing efforts, but to decrease as a percentage of net revenue as we leverage our existing selling, general and administrative infrastructure.



Interest and Other Income. Interest and other
income were $463,000 for the three months ended September 30, 2005 as compared to $61,000 for the three months ended September 30, 2004. The increase in interest and other income is primarily attributable to higher average cash, cash
equivalents, and investment balances that increased as a result of cash received from financing activities.



Interest and Other Expense. Interest and other expense were $26,000 for the three months ended September 30, 2005 as compared to $0 for
the three months ended September 30, 2004. The increase in interest and other expense is primarily attributable to losses on disposal of property and equipment.



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##### Table of Contents

Nine Months Ended September 30, 2005 and September 30, 2004



The following table sets forth, for the periods indicated, our results of
operations expressed as dollar amounts (in thousands) and as percentages of net revenue:



|                                        |  |                                 |         |   |                 |     |   |        |   |         |                 |  |     |  
|--------------------------------------- |  | ------------------------------- | ------- | - | --------------- | --- | - | ------ | - | ------- | --------------- |  | --- | -
|                                        |  | Nine Months Ended September 30, |        
|                                        |  | 2005                            |         |   | 2004            |    
|                                        |  | Amount                          |         |   | % of NetRevenue |     |   | Amount |   |         | % of NetRevenue | 
|Net revenue                             |  | $                               | 86,278  |   |                 | 100 | % |        | $ | 23,853  |                 |  | 100 | %
|Cost of revenue (1)                     |  |                                 | 27,575  |   |                 | 32  | % |        |   | 17,134  |                 |  | 72  | %
|                                        |  |                                 |         |   |                 |     |   |        |   |         |                 |  |     |  
|Gross profit                            |  |                                 | 58,703  |   |                 | 68  | % |        |   | 6,719   |                 |  | 28  | %
|                                        |  |                                 |         |   |                 |     |   |        |   |         |                 |  |     |  
|Operating expenses                      |  |                                 |         |   |                 |     |   |        |   |         |                 |  |     |  
|Research and development (1)            |  |                                 | 7,681   |   |                 | 9   | % |        |   | 4,502   |                 |  | 19  | %
|Selling, general and administrative (1) |  |                                 | 63,811  |   |                 | 74  | % |        |   | 24,754  |                 |  | 104 | %
|                                        |  |                                 |         |   |                 |     |   |        |   |         |                 |  |     |  
|Total operating expenses                |  |                                 | 71,492  |   |                 | 83  | % |        |   | 29,256  |                 |  | 123 | %
|                                        |  |                                 |         |   |                 |     |   |        |   |         |                 |  |     |  
|Loss from operations                    |  |                                 | (12,789 | ) |                 | -15 | % |        |   | (22,537 | )               |  | -95 | %
|Interest and other income               |  |                                 | 1,366   |   |                 | 2   | % |        |   | 117     |                 |  | 0   | %
|Interest and other expense              |  |                                 | (28     | ) |                 | 0   | % |        |   | (2      | )               |  | 0   | %
|                                        |  |                                 |         |   |                 |     |   |        |   |         |                 |  |     |  
|Net loss                                |  | $                               | (11,451 | ) |                 | -13 | % |        | $ | (22,422 | )               |  | -95 | %
|                                        |  |                                 |         |   |                 |     |   |        |   |         |                 |  |     |  

---

|(1) | Includes the following stock-based compensation charges:
|--- | --------------------------------------------------------



|                                    |  |   |       |  |  |  |   |       |  | 
|----------------------------------- |  | - | ----- |  |  |  | - | ----- |  | 
|Cost of revenue                     |  | $ | 425   |  |  |  | $ | 347   |  | 
|Research and development            |  |   | 924   |  |  |  |   | 293   |  | 
|Selling, general and administrative |  |   | 4,488 |  |  |  |   | 3,377 |  | 
|                                    |  |   |       |  |  |  |   |       |  | 
|                                    |  | $ | 5,837 |  |  |  | $ | 4,017 |  | 
|                                    |  |   |       |  |  |  |   |       |  | 



Net
Revenue. Net revenue was $86.3 million for the nine months ended September 30, 2005 as compared to $23.9 million for the nine months ended September 30, 2004. The increase in net revenue is attributable to an increase in the number
of SilverHawk devices sold, a 28% increase in the average sales price per unit and $431,000 of revenue recognized from the delivery of tissue samples related to the Merck Collaboration Agreement. The increase in the number of devices sold is
primarily attributable to an increase in the number of hospital customers purchasing our devices as we have expanded our sales force.



Cost of Revenue. Cost of revenue was $27.6 million for the nine months ended September 30, 2005 as compared to $17.1 million for the
nine months ended September 30, 2004. The increase is primarily attributable to the increase in the number of SilverHawk devices sold. As a percentage of net revenue, cost of revenue was 32% in the nine months ended September 30, 2005 as
compared to 72% in the nine months ended September 30, 2004. Primary factors that contributed to the decrease in the cost of revenue as a percentage of net revenue included an increase in the average sales price per unit, continued improvements
related to the absorption of manufacturing overhead costs associated with increased production volumes, improved purchasing efficiencies for supplies and materials, and improved labor and manufacturing efficiencies.



Research and Development. Research and development expenses
were $7.7 million for the nine months ended September 30, 2005 as compared to $4.5 million for the nine months ended September 30, 2004. The increase is primarily attributable to a $2.6 million increase in personnel related costs, a
$631,000 increase in stock-based compensation and a $67,000 increase in expenses related to clinical trials offset by a $745,000 decrease in materials used in product development. As a percentage of net revenue, research and development expenses
were 9% in the nine months ended September 30, 2005 as compared to 19% in the nine months ended September 30, 2004.



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Selling, General and Administrative. Selling, general and administrative expenses were
$63.8 million for the nine months ended September 30, 2005 as compared to $24.8 million for the nine months ended September 30, 2004. The increase is primarily attributable to a $26.9 million increase in costs related to employment of
additional sales and marketing personnel and sales commissions paid, a $3.9 million increase in travel and related expenses, a $2.3 million increase in marketing and promotional activities, and an $1.1 million increase in stock-based compensation.
As a percentage of net revenue, selling, general and administrative expenses in the nine months ended September 30, 2005 were 74% as compared to 104% in the nine months ended September 30, 2004.



Interest and Other Income. Interest and other income were $1.4
million for the nine months ended September 30, 2005 as compared to $117,000 for the nine months ended September 30, 2004. The increase in interest and other income is primarily attributable to higher average cash, cash equivalents, and
investment balances that increased as a result of cash received from financing activities.



Interest and Other Expense. Interest and other expense were $28,000 for the nine months ended September 30, 2005 as compared to $2,000 for the nine months ended September 30, 2004. The increase
in interest and other expense is primarily attributable to losses on disposal of property and equipment.



Beneficial Conversion Feature. The issuance of Series E convertible preferred stock resulted in a beneficial conversion feature, calculated
in accordance with EITF No. 00-27, Application of Issue No. 98-5, Accounting for Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios, to Certain Convertible
Instruments, based on the conversion price and fair value of the common stock on the date of issuance. Accordingly, we recognized $16.0 million as a charge to additional paid-in-capital to account for the deemed dividend on the convertible
preferred stock for the nine months ended September 30, 2004. The amount of the deemed dividend related to the beneficial conversion feature was recorded upon issuance of the convertible preferred stock, as the convertible preferred stock was
convertible to common stock by the holder at any time.



Stock-Based
Compensation



We record deferred stock-based compensation
for financial reporting purposes as the difference between the exercise price of options granted to employees and directors and the estimated fair value of our common stock at the time of grant. Deferred stock-based compensation is amortized on a
straight-line basis to cost of revenue, research and development and selling, general and administrative expenses. Deferred stock-based compensation recorded through September 30, 2005 was $20.0 million, net of stock option cancellations, with
accumulated amortization of $9.7 million. The remaining $10.3 million will be amortized over the vesting periods of the options, generally four years from the date of grant (assuming no additional cancellations). We currently expect to record
amortization expense for deferred stock-based compensation as follows:



|                           |  |             
|-------------------------- |  | ------------
|Period                     |  | Amount      
|Remaining 3 months of 2005 |  | $1.2 million
|2006                       |  | $4.7 million
|2007                       |  | $3.8 million
|2008                       |  | $0.6 million



Stock-based
compensation expenses related to stock options granted to non-employees are recognized as the stock options are earned. The amount of stock-based compensation expenses to be recorded in future periods may decrease if unvested options are cancelled.
Our stock-based compensation expenses will fluctuate as the fair market value of our common stock fluctuates. We recorded $1.0 million and $308,000 in stock-based compensation expense in the three months ended September 30, 2005 and 2004,
respectively, and $2.3 million and $768,000 in the nine months ended September 30, 2005 and 2004, respectively.



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Liquidity and Capital Resources



On October 28, 2004, the Company completed an initial public offering of 4.5 million shares of its common stock.
Additionally, on October 29, 2004, the underwriters exercised their over-allotment option of 675,000 shares. Proceeds from the offering, after deducting underwriting discounts and commissions but before expenses, were $67.4 million. As of
September 30, 2005, we had $27.2 million of cash and cash equivalents, $35.3 million of investments, and $70.2 million of working capital.



The following table discloses aggregate information about our contractual obligations and the periods in which payments are due as of September 30,
2005:



|                                   |  |                        |        |                  |   |      |  |      |       |      |   |       |  |           |       |  |   |       |  |   |      
|---------------------------------- |  | ---------------------- | ------ | ---------------- | - | ---- |  | ---- | ----- | ---- | - | ----- |  | --------- | ----- |  | - | ----- |  | - | -----
|                                   |  | Payments Due by Period
|Contractual Obligations            |  | Total                  |        | Remainder of2005 |   | 2006 |  | 2007 |       | 2008 |   | 2009  |  | After2009
|                                   |  | (in thousands)        
|Operating leases                   |  | $                      | 5,350  |                  | $ | 321  |  | $    | 889   |      | $ | 835   |  | $         | 854   |  | $ | 890   |  | $ | 1,561
|Related party consulting agreement |  |                        | 1,092  |                  |   | 75   |  |      | 300   |      |   | 300   |  |           | 300   |  |   | 117   |  |   |     
|Royalty obligation                 |  |                        | 20     |                  |   | 20   |  |      |      |      |   |      |  |           |      |  |   |      |  |   |     
|Purchase agreement                 |  |                        | 5,657  |                  |   |     |  |      | 2,829 |      |   |      |  |           | 2,828 |  |   |      |  |   |     
|                                   |  |                        |        |                  |   |      |  |      |       |      |   |       |  |           |       |  |   |       |  |   |      
|                                   |  | $                      | 12,119 |                  | $ | 416  |  | $    | 4,018 |      | $ | 1,135 |  | $         | 3,982 |  | $ | 1,007 |  | $ | 1,561
|                                   |  |                        |        |                  |   |      |  |      |       |      |   |       |  |           |       |  |   |       |  |   |      



The long-term
commitments under operating leases shown above consist of payments related to our real estate leases in Redwood City, California expiring December 2005 and August 2011 and our real estate lease in Menlo Park, California expiring May 2007.



In May 2004, we entered into a consulting agreement with the
chairman of our board of directors, Dr. John B. Simpson, pursuant to which he provides us with consulting services and is paid $25,000 per month. The term of the agreement is five years unless terminated earlier.



For 2006 and each year thereafter, the quarterly minimum patent royalty
obligation equals the prior years minimum royalty adjusted by a percentage equal to the percentage change in the consumer price index for the prior calendar year as reported by the U.S. Department of Labor. Unless terminated earlier, the term
of the royalty obligation will continue until the expiration of the last to expire patent that covers that licensed product in such country or for a period of 15 years following commercial sales, whichever is longer.



In March 2005, the Company entered into a purchase agreement with one of its
suppliers for certain manufacturing components used in the Companys devices. Under the terms of this agreement, the Company will be required to make payments to the supplier for differences between actual purchase quantities and the minimum
purchase quantities defined in the agreement.



Net Cash
Used in Operating Activities. Net cash used in operating activities was $3.7 million for the nine months ended September 30, 2005 compared to $22.8 million for the nine months ended September 30, 2004. For the nine months ended
September 30, 2005, net cash used in operating activities was attributable primarily to net losses after adjustment for non-cash allowances and provisions, depreciation and amortization, amortization of deferred stock-based compensation charges
and increases in working capital requirements due to increased sales of the SilverHawk offset by deferred revenue from the Merck Collaboration Agreement. For the nine months ended September 30, 2004, net cash used in operating activities was
attributable primarily to net losses after adjustment for non-cash allowances and provisions, depreciation and amortization, amortization of deferred stock-based compensation charges and increases in working capital requirements due to increased
sales of the SilverHawk.



Net Cash Provided by Investing
Activities. Net cash provided by investing activities was $971,000 for the nine months ended September 30, 2005 compared to $781,000 for the nine months ended September 30, 2004.



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For each of these periods, net cash provided by investing activities was primarily attributable to sales or maturities of investments offset by purchases of
investments and acquisition of property and equipment.



Net Cash Provided by Financing Activities. Net cash provided by financing activities was $2.4 million for the nine months ended September 30, 2005 compared to $30.4 million for the nine months ended September 30,
2004. For the nine months ended September 30, 2005, net cash provided by financing activities was attributable to proceeds from the issuance of common stock related to stock option exercises and the issuance of common stock under the employee
stock purchase plan offset by repurchases of common stock. For the nine months ended September 30, 2004, net cash provided by financing activities was attributable to the proceeds from the issuance of convertible preferred stock and the
issuance of common stock related to stock option exercises offset by repurchases of convertible preferred stock and repurchases of common stock.



Our future capital requirements depend on numerous factors. These factors include but are not limited to the following:



| |  |  | revenue generated by sales of the SilverHawk;
| | - |  | ---------------------------------------------



| |  |  | costs associated with our sales and marketing initiatives and manufacturing activities;
| | - |  | ---------------------------------------------------------------------------------------



| |  |  | rate of progress and cost of our research and development activities;
| | - |  | ---------------------------------------------------------------------



| |  |  | costs of obtaining and maintaining FDA and other regulatory clearances of the SilverHawk;
| | - |  | -----------------------------------------------------------------------------------------



| |  |  | effects of competing technological and market developments;
| | - |  | -----------------------------------------------------------



| |  |  | size, number and timing of acquisitions and other strategic transactions; and
| | - |  | -----------------------------------------------------------------------------



| |  |  | revenue generated by the Merck Collaboration Agreement.
| | - |  | -------------------------------------------------------



Off-Balance-Sheet Arrangements.As of September 30, 2005, we did not have any significant off-balance-sheet arrangements, as defined in
Item 303(a)(4)(ii) of SEC Regulation S-K.



Summary.We believe that our current cash, cash equivalents and investment balances, along with the cash we expect to generate from operations, will be sufficient to meet our anticipated cash needs for working capital and capital expenditures for at
least the next 12 months. If these sources of cash are insufficient to satisfy our liquidity requirements, we may seek to sell additional equity or debt securities or obtain a credit facility. The sale of additional equity or convertible debt
securities could result in dilution to our stockholders. If additional funds are raised through the issuance of debt securities, these securities could have rights senior to those associated with our common stock and could contain covenants that
would restrict our operations. Additional financing may not be available at all, or in amounts or on terms acceptable to us. If we are unable to generate sufficient cash from operations or obtain additional financing, we may be required to reduce
the scope of our planned product development and marketing efforts.



We expect to increase capital expenditures consistent with our anticipated growth in manufacturing, infrastructure and personnel. We also may increase our capital expenditures as we expand our product lines or invest to address new markets.



Recent Accounting Pronouncements



In November 2004, the Financial Accounting Standards Board
(FASB) issued SFAS No. 151, Inventory Costs, an amendment of ARB No. 43, Chapter 4, (SFAS 151). SFAS 151 amends APB No. 43, Chapter 4, to clarify that abnormal amounts of idle facility
expense, freight, handling costs, and wasted material (spoilage) should be recognized as current period charges. In addition, SFAS No. 151 requires that allocation of fixed production overhead to the cost of conversion be based on the
normal capacity of the production facilities. The provisions of SFAS No. 151 are effective for fiscal years beginning after June 15, 2005. The adoption of SFAS No. 151 is not expected to have a material impact on the Companys
financial statements.



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In December 2004, the FASB issued SFAS No. 153, Exchanges of Non-monetary Assets, an
amendment of APB Opinion No. 29, (SFAS No. 153). SFAS 153 addresses the measurement of exchanges of non-monetary assets and redefines the scope of transactions that should be measured based on the fair value of the
assets exchanged. SFAS No. 153 is effective for non-monetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The adoption of SFAS No. 153 is not expected to have a material impact on the Companys
financial statements.



In December 2004, the FASB issued SFAS
No. 123 (R), Share-Based Payment (revised 2004), (SFAS No. 123(R)). SFAS No. 123(R) requires companies to measure all stock-based compensation awards, including grants of employee stock options, using a fair
value method and record such expense in the financial statements. In addition, the adoption of SFAS No. 123(R) requires additional accounting related to the income tax effects and additional disclosure regarding the cash flow effects resulting
from share-based payment arrangements. SFAS No. 123(R) as amended, is now effective for public companies for annual, rather than interim, periods that begin after June 15, 2005, which will require the Company to adopt this standard
commencing January 1, 2006. In March 2005, the Securities and Exchange Commission issued Staff Accounting Bulletin (SAB) No. 107, TOPIC 14: Share-based payment. SAB No. 107 addresses the interaction between
SFAS No. 123(R) and certain SEC rules and regulations and provides views regarding the valuation of share-based payment arrangements for public companies. SAB No. 107 was effective immediately. The Company has completed its preliminary
assessment of the impact of adopting these new standards.



In
May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections, (SFAS No. 154) which establishes, unless impracticable, retrospective application as the required method for reporting a change
in accounting principle in the absence of explicit transition requirements specific to the newly adopted accounting principle. The statement provides guidance for determining whether retrospective application of a change in accounting principle
is impracticable. The statement also addresses the reporting of a correction of an error by restating previously issued financial statements. SFAS No. 154 is effective for accounting changes and corrections of errors made in fiscal
years beginning after December 15, 2005. The adoption of SFAS No. 154 is not expected to have a material impact on the Companys financial statements



Factors Affecting Future Operating Results



We depend on a single product, the SilverHawk. If the SilverHawk fails to gain or loses market acceptance, our business will suffer.



The SilverHawk is our only product, and we are wholly dependent on it. We
expect that sales of the SilverHawk in the United States will account for a substantial portion of our revenue for the foreseeable future. Because of its fairly recent commercial introduction, the SilverHawk has limited product and brand
recognition. We do not know if the SilverHawk will be successful over the long term. Market acceptance of the SilverHawk may be hindered if physicians are not presented with compelling data from long-term studies of the safety and efficacy of the
SilverHawk compared against alternative procedures, such as angioplasty, stenting or bypass grafting. We have no current plans to conduct such comparative studies. In addition, demand for the SilverHawk may decline or may not increase as quickly as
we expect. Failure of the SilverHawk to significantly penetrate current or new markets would negatively impact our business, financial condition and results of operations.



There exists limited long-term data regarding the safety and efficacy of the SilverHawk. Future long-term data may not be positive or
consistent with data currently available, which would affect the rate at which our device is adopted.



The SilverHawk is a novel product, and our success depends on its acceptance by the medical community as safe and effective. Important factors upon which
the efficacy of the SilverHawk will be measured are long-term data on the rate of restenosis, or plaque regrowth following our procedure, and the corresponding duration of patency, or openness of the artery. Because our technology is relatively new
in the treatment of PAD, to date



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there have been two single-center, clinical experiences with limited patient populations that have measured short-term restenosis and patency rates up to one
year following treatment. Neither of these studies were conducted by us. We plan to conduct studies designed to measure restenosis rates or patency rates after treatment with the SilverHawk. These studies may be expensive and time consuming and the
results may not prove favorable for the SilverHawk device.



Our
TALON registry may produce limited subset data regarding restenosis and patency rates, but such an evaluation is not mandated by the registry protocol. Another important factor that physicians will consider is the rate of reintervention, or
retreatment, following the SilverHawk procedure. In October 2005, we announced consistent reintervention data on a much larger group of patients from the TALON registry. We cannot provide any assurance that the data collected will be compelling to
the medical community, because it may not be scientifically meaningful and may not demonstrate that the SilverHawk is an attractive procedure when compared against data from alternative procedures. In addition, the long-term effects of the
SilverHawk procedure are not known.



The results of limited
long-term data and of short-term clinical experience of the SilverHawk do not necessarily predict long-term clinical benefit. Restenosis rates usually increase over time, and typically two-year restenosis rates are substantially higher than one-year
results. We believe that physicians will compare the rates of long-term restenosis and reintervention for the SilverHawk procedure against alternative procedures, such as angioplasty, stenting and bypass grafting. If long-term rates of restenosis
and reintervention do not meet physicians expectations, the SilverHawk may not become widely adopted and physicians may recommend alternative treatments for their patients. Other significant factors that physicians will consider include acute
safety data on complications that occur during the SilverHawk procedure. If the results obtained from any future clinical studies or clinical or commercial experience indicate that the SilverHawk is not as safe or effective as other treatment
options or as prior short-term or long-term data would suggest, adoption of our product may suffer and our business would be harmed.



Even if we believe the data collected from clinical studies or clinical experience indicate positive results, each physicians actual experience with
our device will vary. Clinical studies conducted with the SilverHawk, as well as clinical experience recorded in the TALON registry, have involved procedures performed by physicians who are technically-proficient and high-volume users of the
SilverHawk. Consequently, both short and long-term results reported in these studies and the TALON registry may be significantly more favorable than typical results of practicing physicians, which could negatively impact rates of adoption of the
SilverHawk.



We have a limited history of operations and a history of net
losses that may prevent us from achieving or maintaining profitability.



We have a limited history of operations upon which you can evaluate our business. In particular, we incurred net losses of $11.5 million in the first nine months of 2005 and $29.9 million in the full year of 2004. As
of September 30, 2005, we had an accumulated deficit of $84.9 million. We commenced full commercial sales of the SilverHawk in January 2004, and our short commercialization experience makes it difficult for us to predict future performance. Our
failure to accurately predict financial performance may lead to volatility in our stock price. In addition, we expect our operating expenses will increase as we expand our business to meet anticipated growing demand for the SilverHawk and devote
substantial resources to our sales force expansion, sales and marketing programs and research and development activities. Our failure to achieve and sustain profitability would negatively impact the market price of our common stock.



Our future growth depends on physician adoption of the SilverHawk, which requires
physicians to change their screening and referral practices.



Although there is a significant correlation between PAD and coronary artery disease, many physicians do not routinely screen for PAD while screening for coronary artery disease. We target our sales efforts to



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interventional cardiologists and vascular surgeons because they are often the primary care physicians diagnosing and treating both coronary artery disease
and PAD. However, the initial point of contact for many patients may be general practitioners, podiatrists, nephrologists or endocrinologists, each of whom commonly treats patients experiencing complications resulting from PAD. If we do not educate
referring physicians about PAD in general and the existence of the SilverHawk in particular, they may not refer patients to interventional cardiologists, vascular surgeons or interventional radiologists for the SilverHawk procedure, and those
patients may instead be surgically treated or treated with an alternative interventional procedure. If we are not successful in educating physicians about screening for PAD or about referral opportunities, our ability to increase our revenue may be
impaired.



Our ability to market the SilverHawk in the United States is
limited to use in peripheral vessels, and if we want to expand our marketing claims, we will need to file for additional FDA clearances or approvals and conduct further clinical trials, which would be expensive and time-consuming and may not be
successful.



We have FDA clearance in the United States
for treatment of atherosclerosis in the peripheral vasculature. This general clearance restricts our ability to market or advertise the SilverHawk for any specific indication within the peripheral arteries, which limits our ability to market the
SilverHawk and could affect our growth. Off-label use of the SilverHawk outside the peripheral vasculature, in coronary and carotid arteries, has occurred and is likely to continue. In addition, off-label use for treatment of in-stent restenosis has
occurred and is likely to continue. While off-label uses of medical devices are common and FDA does not regulate physicians choice of treatments, FDA does restrict a manufacturers communications regarding such off-label use. We may not
actively promote or advertise the SilverHawk for off-label uses. In addition, we cannot make comparative claims regarding the use of the SilverHawk against any alternative treatments without conducting head-to-head comparative clinical studies,
which would be expensive and time consuming. We do not have any current plans to conduct clinical studies in the near future to evaluate the SilverHawk against any alternative method of treatment. If our promotional activities fail to comply with
FDAs regulations or guidelines, we may be subject to FDA warnings or enforcement action.



If we want to market the SilverHawk in the United States for use in coronary or carotid arteries, we will need to conduct further clinical trials and obtain premarket approval from FDA. We previously began a clinical
trial in support of FDA approval for use of the SilverHawk in the coronary arteries. Based on 172 patients treated in this trial, we experienced 37 serious adverse events in treating 28 patients, including 10 perforations, two cases of emergency
bypass surgery, three cases of stroke, 14 cases of heart attack and eight patient deaths. We voluntarily halted enrollment so that we could incorporate safety and design improvements into our coronary product. We believe that these serious adverse
events resulted from a number of factors, including the patients overall poor health, the complexity of treating the bifurcated lesions called for under the trial protocol, and the application of our device in the coronary arteries, which are
extremely small and constantly move as the heart beats. We are currently evaluating design modifications made earlier this year through a feasibility trial that is being conducted in Europe. Pending the outcome of the feasibility trial, we may
conduct a new trial in the U.S. to evaluate the safety and efficacy of the SilverHawk in the coronary arteries. FDA will require that we resubmit an application for an Investigational Device Exemption, or IDE, before we can commence our coronary
clinical trial in the U.S. Such a resubmission will add significant time to the regulatory approval process for the use of the SilverHawk in coronary arteries. If FDA approves our IDE and we commence a coronary clinical trial with our redesigned
product, we do not know whether that trial will be successful. Even if we believe a clinical trial demonstrates promising safety and efficacy data, such results may not be sufficient to obtain FDA approval. Without conducting and successfully
completing further clinical studies, our ability to market the SilverHawk will be limited and our revenue expectations may not be realized.



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If we are unable to manage the anticipated growth of our business, our future revenue and operating results may be
adversely affected.



The growth that we have experienced,
and in the future may experience, provides challenges to our organization, requiring us to rapidly expand our sales personnel and manufacturing operations. Our sales force has increased from 69 direct sales representatives on December 31, 2004
to 141 on September 30, 2005, and we expect to continue to grow our sales force and invest aggressively in expanded sales and marketing activities. We are also currently in the process of expanding our manufacturing operations significantly.
Rapid expansion in personnel means that less experienced people may be producing and selling our product, which could result in unanticipated costs and disruptions to our operations. If we cannot scale and manage our business appropriately, our
anticipated growth may be impaired and our financial results will suffer.



We have limited experience manufacturing the SilverHawk in commercial quantities, which could adversely impact our business.



Because we have only limited experience in manufacturing the SilverHawk in commercial quantities, we may encounter unforeseen situations that would result
in delays or shortfalls. For example, in June 2004, we initiated a voluntary recall of two lots of the SilverHawk due to the possibility of improper sterilization at one of two approved sterilization facilities. We may encounter difficulties and
delays in manufacturing the SilverHawk for the following additional reasons:



| |  |  | we are in the process of significantly expanding our manufacturing operations, and our production processes may have to change to accommodate this growth;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | key components of the SilverHawk are currently provided by a single supplier or limited number of suppliers, and we do not maintain large inventory levels of these components;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | to increase our manufacturing output significantly, we will have to attract and retain qualified employees, who are in short supply, for the assembly and testing operations; and
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | all of our manufacturing occurs at a single facility and if we were to lose availability of this facility due to earthquake, fire, natural disaster or other disruptions, our
operations would be significantly impaired.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



If
our manufacturing operations are unable to meet demand for the SilverHawk, our revenue could be impaired, market acceptance for the SilverHawk could be adversely affected, and our customers might instead purchase our competitors products.
Additionally, although we maintain business interruption insurance, there can be no assurance that the proceeds of such insurance would be sufficient to offset any loss that we might incur or that we would be able to retain our customer base if
operations were disrupted.



We depend on third-party vendors in our
manufacturing operations, making us vulnerable to supply shortages and price fluctuations that could harm our business.



We currently rely on third-party vendors for the manufacture of most of the components used in the SilverHawk. Our reliance on these vendors subjects us
to a number of risks that could impact our ability to manufacture our product and harm our business, including:



| |  |  | interruption of supply resulting from modifications to, or discontinuation of, a suppliers operations;
| | - |  | -------------------------------------------------------------------------------------------------------



| |  |  | delays in product shipments resulting from uncorrected defects, reliability issues or a suppliers variation in a component;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------



| |  |  | price fluctuations due to a lack of long-term supply arrangements for key components with our suppliers;
| | - |  | --------------------------------------------------------------------------------------------------------



| |  |  | inability to obtain adequate supply in a timely manner or on commercially reasonable terms;
| | - |  | -------------------------------------------------------------------------------------------



| |  |  | difficulty identifying and qualifying alternative suppliers for components in a timely manner;
| | - |  | ----------------------------------------------------------------------------------------------



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| |  |  | production delays related to the evaluation and testing of products from alternative suppliers and corresponding regulatory qualifications; and
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | delays in delivery by our suppliers due to changes in demand from us or their other customers.
| | - |  | ----------------------------------------------------------------------------------------------



Any significant delay or interruption in the supply of components, or our inability to obtain substitute components or
materials from alternate sources at acceptable prices in a timely manner, could impair our ability to meet the demand of our customers and harm our business.



We depend on single and limited source suppliers for some of the SilverHawk components, and if any of those suppliers are unable or unwilling to produce these
components or supply them in the quantities that we need, we would experience manufacturing delays as a result.



We rely on single and limited source suppliers for several of our components. For example, we rely on one vendor for our torque shaft and one vendor for
our cutting blade motor. These components are critical to the SilverHawk and there are few alternative sources of supply for them. We do not carry a significant inventory of these components. Identifying and qualifying additional or replacement
suppliers for any of the components used in the SilverHawk, if required, may not be accomplished quickly or at all and could involve significant additional costs. Any supply interruption from our vendors or failure to obtain additional vendors for
any of the components used to manufacture the SilverHawk would limit our ability to manufacture our product and could therefore have a material adverse effect on our business, financial condition and results of operations.



The use, misuse or off-label use of the SilverHawk may result in injuries that lead to
product liability suits, which could be costly to our business.



We neither provide training for physicians nor require that physicians be trained in the use of the SilverHawk by a third party because we market primarily to physicians who are skilled in the interventional techniques required to use our
device. Although the SilverHawk is cleared by FDA for the treatment of atherosclerosis in the peripheral vasculature, we have indicated through our marketing efforts that certain treatment locations, such as arteries below the knee or above the leg,
are not suited for physicians with limited experience using the device. There may be increased risk of injury if such physicians attempt SilverHawk procedures in peripheral arteries in these areas of the body. Not requiring training specific to the
use of our device in various parts of the body may expose us to greater risk of product liability if injuries occur during the SilverHawk procedure. If demand for the SilverHawk continues to grow, less skilled surgeons will likely use the device,
potentially leading to more injury and an increased risk of product liability.



The use or misuse of the SilverHawk in the peripheral and coronary arteries has in the past resulted, and may in the future result, in complications, including damage to the treated artery, internal bleeding, limb
loss and death, potentially leading to a product liability claim. The SilverHawk is not FDA-cleared or approved for treatment of carotid arteries, which are arteries leading to the brain, coronary arteries, or in-stent restenosis in the United
States. Our sales force does not promote the product for off-label uses, and our U.S. instructions for use specify that the SilverHawk is not intended for use in the coronary arteries or carotid arteries. However, we cannot prevent a physician from
using the SilverHawk for these off-label applications. The application of the SilverHawk to coronary arteries, as opposed to peripheral arteries, is more likely to result in complications that have serious consequences. For example, if excised
plaque were not captured properly in our device, it could be carried by the bloodstream to a narrower location, blocking a coronary artery, leading to a heart attack, or blocking an artery to the brain, leading to a stroke. We have had three
reported incidents of stroke in our halted coronary trial, which may have been caused by excised arterial plaque entering the bloodstream. If the SilverHawk is defectively designed, manufactured or labeled, contains defective components or is
misused, we may become subject to costly litigation by our customers or their patients. Product liability claims could divert managements attention from our core business, be expensive to defend and result in sizable damage awards against us.



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We may be subject, directly or indirectly, to federal and state healthcare fraud and abuse laws and regulations and,
if we are unable to fully comply with such laws, could face substantial penalties.



Our operations may be directly or indirectly affected by various broad state and federal healthcare fraud and abuse laws, including the federal Anti-Kickback Statute, which prohibit any person from knowingly and
willfully offering, paying, soliciting or receiving remuneration, directly or indirectly, to induce or reward either the referral of an individual, or the furnishing or arranging for an item or service, for which payment may be made under federal
healthcare programs, such as the Medicare and Medicaid programs. If our past or present operations, including our consulting arrangements with physicians who use our product, are found to be in violation of these laws, we or our officers may be
subject to civil or criminal penalties, including large monetary penalties, damages, fines, imprisonment and exclusion from Medicare and Medicaid program participation. If enforcement action were to occur, our business and financial condition would
be harmed.



We compete against companies that have longer operating
histories, more established products and greater resources, which may prevent us from achieving significant market penetration or improved operating results.



We compete against very large and well-known stent and angioplasty device manufacturers, including Abbott Laboratories,
Boston Scientific, Cook, Guidant, Johnson & Johnson and Medtronic. We also compete against smaller manufacturers, including, among others: ev3, a manufacturer of peripheral vascular stents and angioplasty devices; Spectranetics, a
manufacturer of excimer lasers for the treatment of coronary artery disease and PAD; and W. L. Gore, (Medical Products Division), a manufacturer of endoprostheses stent-grafts. There are also several other companies that provide products used by
surgeons in peripheral bypass procedures. Other competitors include pharmaceutical companies that manufacture drugs for the treatment of mild to moderate PAD. Many of our competitors have significantly greater financial and human capital resources
than we do and have established reputations, as well as worldwide distribution channels that are more effective than ours. Competition with these companies could result in price-cutting, reduced profit margins and loss of market share, any of which
would harm our business, financial condition and results of operations.



Our ability to compete effectively depends on our ability to distinguish our company and the SilverHawk from our competitors and their products, and includes such factors as:



| |  |  | the SilverHawks ability to treat PAD safely and effectively;
| | - |  | -------------------------------------------------------------



| |  |  | predictable clinical performance;
| | - |  | ---------------------------------



| |  |  | ease of use;
| | - |  | ------------



| |  |  | price;
| | - |  | ------



| |  |  | adequate third-party reimbursement; and
| | - |  | ---------------------------------------



| |  |  | brand and name recognition.
| | - |  | ---------------------------



Our competitors with greater financial resources could acquire other companies to gain enhanced name recognition and market share, as well as new
technologies or products that could effectively compete with our existing product, which may cause our revenue to decline and would harm our business.



Our ability to compete also depends on our ability to innovate successfully. If our competitors can compete directly against us or demonstrate the safety and efficacy
of other methods of treating PAD, our revenue may decline.



The market for medical devices is highly competitive, dynamic, and marked by rapid and substantial technological development and product innovations. There are few barriers that would prevent new entrants or existing competitors from
developing products that compete directly with ours. Demand for the SilverHawk



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could be diminished by equivalent or superior products and technologies offered by competitors. For example, drug-eluting stents have been developed for
treating coronary artery disease and have been rapidly adopted. Cook is currently conducting clinical trials for the use of drug-eluting stents and Edwards is conducting clinical trials for the use of non-drug-eluting stents in the peripheral
vasculature, each of which, if successful, may impact future SilverHawk sales. We are also aware of at least two other companies, Cardiovascular Systems, Inc. and Pathway Medical, developing plaque-removal devices intended for the treatment of PAD.
If we are unable to innovate successfully or if new competitors emerge, the SilverHawk could become obsolete, and our revenue would decline as our customers purchase our competitors products.



We may in the future be a party to patent litigation and administrative proceedings that
could be costly and could interfere with our ability to sell the SilverHawk.



The medical device industry has been characterized by extensive litigation regarding patents and other intellectual property rights, and companies in the industry have used intellectual property litigation to gain a
competitive advantage. We may become a party to patent infringement claims and litigation or interference proceedings declared by the U.S. Patent and Trademark Office to determine the priority of inventions. The defense and prosecution of these
matters are both costly and time consuming. Additionally, we may need to commence proceedings against others to enforce our patents, to protect our trade secrets or know-how or to determine the enforceability, scope and validity of the proprietary
rights of others. These proceedings would result in substantial expense to us and significant diversion of effort by our technical and management personnel.



An adverse determination in litigation or interference proceedings to which we may become a party could subject us to significant liabilities or
injunctions which would require us to seek licenses. In addition, if we are found to willfully infringe third-party patents, we could be required to pay treble damages in addition to other penalties. Although patent and intellectual property
disputes in the medical device area have often been settled through licensing or similar arrangements, costs associated with such arrangements may be substantial and could include ongoing royalties. We may be unable to obtain necessary licenses on
satisfactory terms, if at all. If we do not obtain necessary licenses, we may not be able to redesign the SilverHawk to avoid infringement. Adverse determinations in a judicial or administrative proceeding or failure to obtain necessary licenses
could prevent us from manufacturing and selling the SilverHawk, which would have a significant adverse impact on our business.



We are aware of patents held by Guidant that may be asserted against us in litigation that could be costly and could limit our ability to sell the SilverHawk.



We are aware of patent families related to catheter
positioning and atherectomy, or plaque removal, owned or licensed by Guidant. Johnson & Johnson has entered into a definitive agreement to acquire Guidant, expected to close in the fourth quarter. With regard to atherectomy patents, one of
our founders, Dr. John Simpson, founded a company prior to founding our company that developed an atherectomy device that is currently sold by Guidant, and he is a listed inventor on several patents covering that device. Those patents are now
held by Guidant. Guidants device is currently marketed and sold for use in coronary arteries. We are not currently aware of any claims Guidant has made or intends to make against us. Because of a doctrine known as assignor
estoppel, if any of Dr. Simpsons earlier patents are asserted against us by Guidant, we may be prevented from asserting an invalidity defense regarding those patents, and our defense may be compromised. Guidant has significantly
greater financial resources than we do to pursue patent litigation and can assert these patent families against us at any time. Adverse determinations in such litigation could prevent us from manufacturing or selling the SilverHawk, which would have
a significant adverse impact on our business.



Intellectual property rights
may not provide adequate protection, which may permit third parties to compete against us more effectively.



We rely on patents, trade secret laws and confidentiality agreements to protect our technology and products. Our pending patent applications may not issue
as patents or, if issued, may not issue in a form that will be



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advantageous to us. Any patents we have obtained or will obtain in the future might be invalidated or circumvented by third parties. Should such challenges
be successful, competitors might be able to market products and use manufacturing processes that are substantially similar to ours. We may not be able to prevent the unauthorized disclosure or use of our technical knowledge or other trade secrets by
consultants, vendors or former or current employees, despite the existence generally of confidentiality agreements and other contractual restrictions. Monitoring unauthorized use and disclosure of our intellectual property is difficult, and we do
not know whether the steps we have taken to protect our intellectual property will be adequate. In addition, the laws of many foreign countries will not protect our intellectual property rights to the same extent as the laws of the United States. To
the extent our intellectual property protection is incomplete, we are exposed to a greater risk of direct competition. In addition, competitors could purchase a SilverHawk device and attempt to replicate some or all of the competitive advantages we
derive from our development efforts or design around our protected technology. If our intellectual property is not adequately protected against competitors products and methods, our competitive position could be adversely affected, as could
our business.



The Merck Collaboration Agreement may not result in revenue
beyond the initial payment we received and many of the factors affecting the likelihood of generating any such revenue are not within our control.



The Merck Collaboration Agreement may be terminated by Merck at any time in its sole discretion. Additionally, even if extended beyond the initial one
year term, the payments may be reduced if we do not meet certain milestones or if Merck elects not to exercise its exclusivity rights. As a result, any additional payments from Merck pursuant to the Merck Collaboration Agreement may be reduced or
eliminated. Also, the additional revenue from Merck for milestone payments based on the progress of clinical development of certain pharmaceutical and diagnostic products arising from work under the research collaboration, as well as royalties on
sales of any such products, are entirely based on Mercks efforts under this Agreement. The development of Mercks drug therapies from our collaboration are long-term projects with significant research, clinical, development, and execution
risks. As a result, the achievement of the milestones and any sales of a product may not happen for many years, or may not happen at all, and we may not realize additional revenue from the Merck Collaboration Agreement.



If we make acquisitions or divestitures, we could encounter difficulties that harm our
business.



We may acquire companies, products or
technologies that we believe to be complementary to the present or future direction of our business. If we engage in such acquisitions, we may have difficulty integrating the acquired personnel, financials, operations, products or technologies.
Acquisitions may dilute our earnings per share, disrupt our ongoing business, distract our management and employees, increase our expenses, subject us to liabilities, and increase our risk of litigation, all of which could harm our business. If we
use cash to acquire companies, products or technologies, it may divert resources otherwise available for other purposes. If we use our common stock to acquire companies, products or technologies, our stockholders may experience substantial dilution.



If we fail to obtain and maintain necessary regulatory clearances or
approvals for the SilverHawk, or if clearances or approvals for future products and indications are delayed or not issued, our commercial operations would be harmed.



The SilverHawk is a medical device that is subject to extensive regulation by FDA in the United States and by regulatory
agencies in other countries where we do business. Government regulations specific to medical devices are wide-ranging and govern, among other things:



| |  |  | product design, development and manufacture;
| | - |  | --------------------------------------------



| |  |  | product safety, testing, labeling and storage;
| | - |  | ----------------------------------------------



| |  |  | premarketing clearance or approval;
| | - |  | -----------------------------------



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| |  |  | record keeping procedures;
| | - |  | --------------------------



| |  |  | product marketing, sales and distribution; and
| | - |  | ----------------------------------------------



| |  |  | post-marketing surveillance, reporting of deaths or serious injuries and medical device reporting.
| | - |  | --------------------------------------------------------------------------------------------------



Before a new medical device or a new use of, or claim for, an existing product can be marketed in the United States, a
company must first apply for and receive either 510(k) clearance or premarketing approval from FDA, unless an exemption applies. Either process can be expensive, lengthy and unpredictable. Although we have obtained 510(k) clearance to market the
SilverHawk for treatment of atherosclerosis in the peripheral vasculature, our clearance can be revoked if safety or efficacy problems develop. We voluntarily suspended our U.S. clinical trial for the use of the SilverHawk in coronary arteries. To
market the SilverHawk in the United States for this use, we must successfully complete a clinical trial, submit a premarket approval application to FDA and obtain premarket approval. Therefore, even if we believe we have successfully developed the
SilverHawk for use in the coronary arteries, we may not be permitted to market our device for this indication in the United States for a number of years, if at all. Delays in obtaining approval could adversely affect our future growth.



We are also subject to medical device reporting regulations that require
us to report to FDA if our product causes or contributes to a death or serious injury or malfunctions. For the third quarter of 2005, there were ten medical device reports associated with procedures where the SilverHawk was used that were filed with
the FDA. These filings included one report of a death resulting from a perforation during an in-stent restenosis procedure in an iliac artery, one report of a device and stent interaction that required intervention with no long term patient impact,
one report of sheath failure that was not SilverHawk related, one report of a wire wrap that did not require intervention, one report of embolized sheath material developing during an off-label pulmonary vein intervention in a pediatric patient, one
report of embolization due to a broken flushport that required intervention, one report of a tip detachment, one report of embolization, and two reports in the same case of the SilverHawk tip splitting during use at the distal end. The
identification or increased frequency of serious safety risks could result in product recall or withdrawal of our clearance or approval.



FDA and state authorities have broad enforcement powers. Our failure to comply with applicable regulatory requirements could result in enforcement action
by FDA or state agencies, which may include any of the following sanctions:



| |  |  | warning letters, fines, injunctions, consent decrees and civil penalties;
| | - |  | -------------------------------------------------------------------------



| |  |  | repair, replacement, refunds, recall or seizure of our products;
| | - |  | ----------------------------------------------------------------



| |  |  | operating restrictions, partial suspension or total shutdown of production;
| | - |  | ---------------------------------------------------------------------------



| |  |  | refusing our requests for 510(k) clearance or premarket approval of new products; new intended uses of, or modifications to, existing products;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | withdrawing 510(k) clearance or premarket approvals that have already been granted; and
| | - |  | ---------------------------------------------------------------------------------------



| |  |  | criminal prosecution.
| | - |  | ---------------------



If any of these events were to occur, our business and financial condition would be harmed.



Modifications to the SilverHawk may require new 510(k) clearances or premarket approvals or may require us to recall or cease marketing
the SilverHawk until clearances are obtained.



Modifications to the SilverHawk may require new 510(k) clearances or premarket approvals or require us to recall or cease marketing the modified devices until these clearances or approvals are obtained. FDA requires device manufacturers to
initially make and document a determination of whether or not a modification requires a new approval, supplement or clearance; however, FDA can review a manufacturers decision. Any modification



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to an FDA-cleared device that would significantly affect its safety or efficacy or that would constitute a major change in its intended use would require a
new 510(k) clearance or possibly a premarket approval. We may not be able to obtain additional 510(k) clearances or premarket approvals for new products or for modifications to, or additional indications for, the SilverHawk in a timely fashion, or
at all. Delays in obtaining required future clearances would adversely affect our ability to introduce new or enhanced products in a timely manner, which in turn would harm our future growth. We have made modifications to the SilverHawk in the past
and may make additional modifications in the future that we believe do not or will not require additional clearances or approvals. If FDA disagrees and requires new clearances or approvals for the modifications, we may be required to recall and to
stop marketing the SilverHawk as modified, which could harm our operating results and require us to redesign the SilverHawk. In these circumstances, we may be subject to significant enforcement actions.



If we or our suppliers fail to comply with FDAs Quality System Regulation, our
manufacturing operations could be delayed and SilverHawk sales could suffer.



Our manufacturing processes and those of our suppliers are required to comply with FDAs Quality System Regulation, which covers the procedures and documentation of the design, testing, production, control,
quality assurance, labeling, packaging, storage and shipping of the SilverHawk. We are also subject to similar state requirements and licenses. In addition, we must engage in extensive recordkeeping and reporting and must make available our
manufacturing facilities and records for periodic inspections by governmental agencies, including FDA, state authorities and comparable agencies in other countries. We were inspected by FDA late last year, and two minor observations were noted. We
corrected the observations, and they were verified by FDA. If we fail a Quality System inspection, our operations could be disrupted and our manufacturing interrupted. Failure to take adequate corrective action in response to an adverse Quality
System inspection could result in, among other things, a shut-down of our manufacturing operations, significant fines, suspension of marketing clearances and approvals, seizures or recalls of our device, operating restrictions and criminal
prosecutions, any of which would cause our business to suffer. Furthermore, our key component suppliers may not currently be or may not continue to be in compliance with applicable regulatory requirements, which may result in manufacturing delays
for our product and cause our revenue to decline.



The SilverHawk has been
and may in the future be subject to product recalls that could harm our reputation.



FDA and similar governmental authorities in other countries have the authority to require the recall of commercialized products in the event of material regulatory deficiencies or defects in design or manufacture. A
government mandated or voluntary recall by us could occur as a result of component failures, manufacturing errors or design or labeling defects. In June 2004, we initiated a voluntary recall of two lots of the SilverHawk due to the possibility of
improper sterilization. Thirty-eight of 127 affected devices were used in procedures on patients. While no adverse events were reported 30 days after these procedures, we have been unable to determine whether the devices we recalled were
contaminated or whether the laboratory that initially tested the recalled devices incorrectly concluded that the units were not sterile. We continue to use both the testing facility and sterilization facility involved in the recall. In October 2004,
we received a formal closure notice from the FDA regarding the recall. Additional recalls of the SilverHawk would divert managerial and financial resources, harm our reputation with customers and have an adverse effect on our financial condition and
results of operations. A recall announcement would negatively affect our stock price.



Changes in coverage and reimbursement for procedures using the SilverHawk could affect the adoption of the SilverHawk and our future revenue.



Currently, the SilverHawk procedure is typically reimbursed by third-party payors, including Medicare and private healthcare insurance companies, under
existing atherectomy codes. These payors may adversely change their coverage and reimbursement policies, as well as payment amounts. Also, healthcare reform legislation or regulation may be proposed or enacted in the future, which may adversely
affect such policies and amounts. We



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cannot predict whether and to what extent existing coverage and reimbursement will continue to be available. If physicians, hospitals and other providers are
unable to obtain adequate coverage and reimbursement for the SilverHawk procedure, they are less likely to use it and our business would be adversely impacted.



The expense and potential unavailability of insurance coverage for our company or our customers could adversely affect our ability to sell the SilverHawk, which
would harm our business.



We may not have sufficient
insurance coverage for future product liability claims. We may not be able to obtain insurance in amounts or scope sufficient to provide us with adequate coverage against all potential liabilities. Any product liability claims brought against us,
with or without merit, could increase our product liability insurance rates or prevent us from securing continuing coverage, harm our reputation in the industry and reduce product sales. Product liability claims in excess of our insurance coverage
would be paid out of cash reserves, harming our financial condition and adversely affecting our financial condition and operating results.



Some of our customers and prospective customers may have difficulty in procuring or maintaining liability insurance to cover their operation and use of
the SilverHawk. Medical malpractice carriers are withdrawing coverage in certain states or substantially increasing premiums. If this trend continues or worsens, our customers may discontinue using the SilverHawk and potential customers may opt
against purchasing the SilverHawk due to the cost or inability to procure insurance coverage.



We depend on skilled and experienced personnel to operate our business effectively. If we are unable to recruit, hire and retain these employees, our ability to manage and expand our business will be harmed, which
would impair our future revenue and profitability.



Our
success largely depends on the skills, experience and efforts of our officers and other key employees. Any of our officers and other key employees may terminate their employment at any time. The loss of any of our senior management team could harm
our business. Our ability to retain our skilled labor force and our success in attracting and hiring new skilled employees will be a critical factor in determining whether we will be successful in the future. We may not be able to meet our future
hiring needs or retain existing personnel. We will face particularly significant challenges and risks in hiring, training, managing and retaining engineering and sales and marketing employees. Failure to attract and retain personnel, particularly
technical and sales and marketing personnel, would harm our ability to compete effectively and grow our business. The announcement of the loss of one of our key employees could negatively affect our stock price.



Compliance with environmental laws and regulations could be expensive. Failure to comply
with environmental laws and regulations could subject us to significant liability.



Our manufacturing operations involve the use of hazardous substances and are subject to a variety of federal, state and local environmental laws and regulations relating to the storage, use, discharge, disposal,
remediation of, and human exposure to, hazardous substances. Our research and development and manufacturing operations produce biological waste materials, such as human and animal tissue, and waste solvents, such as isopropyl alcohol. These
operations are permitted by regulatory authorities, and the resultant waste materials are disposed of in material compliance with environmental laws and regulations. Compliance with these laws and regulations may be expensive and non-compliance
could result in substantial liabilities. In addition, our manufacturing operations may result in the release, discharge, emission or disposal of hazardous substances that could cause us to incur substantial liabilities, including costs for
investigation and remediation. Our leased Bay Road facility was formerly occupied by Rohm & Haas and Occidental Chemical Company and contains residual contamination in soil and groundwater from these past industrial operations.
Rohm & Haas and Occidental Chemical Company previously performed soil remediation on the property under the supervision of the California Regional Water Quality Control Board. Rohm & Haas has indemnified the owner of the Bay Road
facility and its tenants against costs associated with the residual contamination, but there can be no assurance that this indemnification will be adequate to cover the extent of the liability. Environmental laws and regulations



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could become more stringent over time, imposing greater compliance costs and increasing risks and penalties associated with violations. We cannot assure you
that violations of these laws and regulations will not occur in the future or have not occurred in the past as a result of human error, accidents, equipment failure or other causes. The expense associated with environmental regulation and
remediation could harm our financial condition and operating results.



Our
directors, officers and principal stockholders have significant voting power and may take actions that may not be in the best interests of our other stockholders.



Our directors, officers and principal stockholders each holding more than 5% of our common stock collectively will control
approximately 49% of our outstanding common stock, assuming the exercise of all options held by such persons. As a result, these stockholders, if they act together, would be able to exercise significant control over the management and affairs of our
company and most matters requiring stockholder approval, including the election of directors and approval of significant corporate transactions. This concentration of ownership may have the effect of delaying or preventing a change in control, might
adversely affect the market price of our common stock and may not be in the best interests of our other stockholders.



Anti-takeover provisions in our amended and restated certificate of incorporation and bylaws and Delaware law could discourage a takeover.



Our amended and restated certificate of incorporation and bylaws and
Delaware law contain provisions that might enable our management to resist a takeover. These provisions include:



| |  |  | a classified board of directors;
| | - |  | --------------------------------



| |  |  | advance notice requirements to stockholders for matters to be brought at stockholder meetings;
| | - |  | ----------------------------------------------------------------------------------------------



| |  |  | a supermajority stockholder vote requirement for amending certain provisions of our amended and restated certificate of incorporation and bylaws; and
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the right to issue preferred stock without stockholder approval, which could be used to dilute the stock ownership of a potential hostile acquirer.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------



These provisions might discourage, delay or prevent a change in control of
our company or a change in our management. The existence of these provisions could adversely affect the voting power of holders of common stock and limit the price that investors might be willing to pay in the future for shares of our common stock.



The cost of public company compliance with the securities laws and
regulations is substantial and recently enacted and proposed changes to these laws and regulations will further increase our general and administrative expenses.



The cost of complying with the reporting requirements under the Securities and Exchange Act of 1934 are substantial. In
addition, the Sarbanes-Oxley Act of 2002, along with other recent and proposed rules from the SEC and Nasdaq, have required further legal and financial compliance costs, and made some corporate actions more difficult. For example, compliance with
the internal control requirements of Sarbanes-Oxley Section 404 requires us to commit significant resources to document and review the adequacy of our internal controls. While we are expending significant resources in developing the required
documentation and testing procedures required by Section 404, we can provide no assurance as to conclusions by our external auditors with respect to the effectiveness of our internal controls over financial reporting. If we are unable to comply
with the requirements of Section 404, we will have to issue a report that our internal controls are not effective, which could cause the market price of our stock to decline.



In addition, the changes in securities laws and regulations may make it more difficult and more expensive for us to maintain
directors and officers liability insurance, and we may be required to accept reduced coverage



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or incur substantially higher costs to obtain coverage. These developments also could make it more difficult for us to attract and retain qualified executive
officers and members of our board of directors, particularly with regard to our audit committee.



Recent changes in the required accounting treatment for stock options will have a material negative impact on our financial statements and may affect our stock price.



In December 2004, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards (SFAS) No. 123(R), Share-Based Payment, pursuant to which we must measure all stock-based compensation awards, including grants of employee stock options, using a fair value-based method
and record such expense in our financial statements. This requirement to expense stock-based compensation awards is to take effect for public companies for annual periods beginning after June 15, 2005, thus we are required to adopt this
standard commencing January 1, 2006. Currently, we disclose such expenses on a pro forma basis in the notes to our financial statements, but we do not record a charge for employee stock option expense in the financial statements. The inclusion
of employee stock-option expense in accordance with SFAS No. 123(R) will cause our reported earnings to decrease, which may affect our stock price.



We have not paid dividends in the past and do not expect to pay dividends in the future, and any return on investment may be limited to the value of our stock.



We have never paid cash dividends and do not anticipate
paying cash dividends in the foreseeable future. The payment of dividends will depend on our earnings, capital requirements, financial condition, prospects and other factors our board of directors may deem relevant. If we do not pay dividends, our
stock may be less valuable because a return on your investment will only occur if our stock price appreciates.



ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK



Our exposure to interest rate risk at September 30, 2005 is related primarily to our investment portfolio. Our investment portfolio includes fixed
rate debt instruments of high quality government and corporate issuers. A change in prevailing interest rates may cause the fair value of our investments to fluctuate. For example, if we hold a security that was issued with a fixed interest rate at
the then-prevailing rate and the prevailing rate rises, the fair value of the principal amount of our investment will probably decline. To minimize this risk, investments are generally held to maturity and the weighted average duration of our
investments is 12 months or less. Due to the short-term nature of these investments, we believe we have no material exposure to interest rate risk arising from our investments.



We have operated mainly in the United States, and 100% of our sales were made in U.S. dollars for each of the three month
periods ended September 30, 2005 and 2004, and 100% and 99% for the nine months ended September 30, 2005 and 2004 respectively. To date, we have not had any material exposure to foreign currency rate fluctuations.



ITEM 4. CONTROLS AND PROCEDURES



An evaluation of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934) as of the end of the period covered by this report was carried out under the supervision
and with the participation of our management, including our chief executive officer and chief financial officer. Based on that evaluation, our chief executive officer and chief financial officer have concluded that our disclosure controls and
procedures are effective to ensure that material information relating to us, is made known to them, particularly during the period in which this report was prepared, in order to allow timely decisions regarding required disclosure.



There was no change in our internal control over financial reporting (as
defined in Rule 13a-15(f) under the Securities Exchange Act of 1934) that occurred during our most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.



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PART II: OTHER INFORMATION



ITEM 1. LEGAL PROCEEDINGS



The Company is not presently party to any material litigation.



ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS



We registered the initial public offering of our common stock, par value $0.001 per share, on a Registration Statement on Form S-1, as amended, (Registration No. 333-118191), which was declared effective on
October 27, 2004. On October 28, 2004, we completed the initial public offering of our common stock by selling 4.5 million shares at $14.00 per share. Additionally, on October 29, 2004, the underwriters exercised their
over-allotment option to purchase 675,000 shares at $14.00 per share. Proceeds from the offering after deducting underwriting discounts and commissions of $5.1 million, but before expenses were $67.4 million. The managing underwriters of the
offering were J.P. Morgan Securities, Inc., Piper Jaffray & Co., Thomas Weisel Partners, LLC and William Blair & Company, LLC. We finished spending the net proceeds from the initial public offering as of the second quarter of 2005.



ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS



None.



ITEM 5. OTHER INFORMATION



In accordance with Section 10A(i)(2) of the Securities Exchange Act of 1934, as added by Section 202 of the Sarbanes-Oxley Act of 2002 (the Act), we are required to disclose the non-audit services approved by our Audit
Committee to be performed by PricewaterhouseCoopers LLP, our external accountants. Non-audit services are defined in the Act as services other than those provided in connection with an audit or a review of the financial statements of a company. The
Audit Committee has approved the engagement of PricewaterhouseCoopers LLP for the following non-audit services: (1) tax matter consultations concerning foreign, U.S. federal and state taxes; and (2) the preparation of federal and state
income tax returns.



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##### Table of Contents

ITEM 6. EXHIBITS



|              |  |                                                                                                                                                                                
|------------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|ExhibitNumber |  | Description                                                                                                                                                                    
|              | 
|3.2*          |  | Amended and Restated Certificate of Incorporation.                                                                                                                             
|              | 
|3.4*          |  | Bylaws.                                                                                                                                                                        
|              | 
|4.2*          |  | Amended and Restated Specimen Common Stock certificate.                                                                                                                        
|              | 
|10.1*         |  | Form of Indemnification Agreement for directors and executive officers.                                                                                                        
|              | 
|10.2*         |  | 1997 Stock Plan.                                                                                                                                                               
|              | 
|10.3*         |  | 2004 Equity Incentive Plan.                                                                                                                                                    
|              | 
|10.4*         |  | 2004 Employee Stock Purchase Plan.                                                                                                                                             
|              | 
|10.5*         |  | 2004 Preferred Stock Plan.                                                                                                                                                     
|              | 
|10.6*         |  | Amended and Restated Investors Rights Agreement, dated February 24, 2004, by and among the Registrant and certain stockholders.                                               
|              | 
|10.7*         |  | First Amendment to Amended and Restated Investors Rights Agreement, dated May 21, 2004, by and among the Registrant and certain stockholders.                                 
|              | 
|10.8*         |  | Sublease Agreement, dated June 30, 2000, by and between the Registrant and Perclose, Inc. for office space located at 300 Saginaw Drive, Redwood City, California.             
|              | 
|10.9*         |  | First Amendment to Sublease Agreement, dated September 17, 2002, by and between the Registrant and Perclose, Inc.                                                              
|              | 
|10.10*        |  | Office Building Lease, dated May 3, 2004, by and between the Registrant and Woodside Technology Center, LLC for office space located at 740 Bay Road, Redwood City,
California.
|              | 
|10.11*       |  | Master License Agreement dated August 24, 1999, by and between the Registrant and Surmodics, Inc., as amended.                                                                 
|              | 
|10.12*        |  | Consulting Agreement dated May 21, 2004, by and between the Registrant and John B. Simpson.                                                                                    
|              | 
|10.13*        |  | Second Amendment to Amended and Restated Investors Rights Agreement, dated October 25, 2004, by and among the Registrant and certain stockholders.                            
|              | 
|10.14**      |  | Supplier Agreement between the Registrant and Norman Noble, Inc. dated March 25, 2005                                                                                          
|              | 
|10.15        |  | Collaboration and License Agreement between the Registrant and Merck & Co. Inc. dated September 14, 2005.                                                                      
|              | 
|31.1          |  | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                            
|              | 
|31.2          |  | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                            
|              | 
|32.1          |  | Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.

---

|* | Incorporated by reference from our Registration Statement on Form S-1 (Registration No. 333-118191), which was declared effective on October 27, 2004.
|- | ------------------------------------------------------------------------------------------------------------------------------------------------------

| | Portions of the exhibit have been omitted pursuant to a request for confidential treatment. The confidential portions have been filed with the SEC.
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------

|** | Incorporated by reference from our Form 10-Q for the quarter ended March 31, 2005 filed May 13, 2005.
|-- | -----------------------------------------------------------------------------------------------------



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##### Table of Contents

SIGNATURES



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



|                       |  |  |  |     |  |                              |  |                                                                                                  
|---------------------- |  |  |  | --- |  | ---------------------------- |  | -------------------------------------------------------------------------------------------------
|                       |  |  |  |     |  | FOXHOLLOW TECHNOLOGIES, INC.
|                       |  |  | 
|Date: November 1, 2005 |  |  |  | By: |  | /s/    ROBERT W.
THOMAS     
|                       |  |  |  |     |  |                              |  | Robert W. Thomas President and Chief Executive Officer and Director (Principal Executive Officer)
|                       |  |  | 
|Date: November 1, 2005 |  |  |  | By: |  | /s/    MATTHEW B.
FERGUSON  
|                       |  |  |  |     |  |                              |  | Matthew B. Ferguson Chief Financial Officer (Principal Accounting and Financial Officer)         



35