<PAGE>
 
  ____________________________________________________________________________

  ____________________________________________________________________________
                                       

                      SECURITIES AND EXCHANGE COMMISSION
                            Washington, D.C. 20549
                            _______________________
                                   FORM 10-Q
                                        

Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934 For the quarter ended December 26, 1998


                        Commission file number 0-14742
                              CANDELA CORPORATION
            (Exact name of registrant as specified in its charter)


            Delaware                                    04-2477008
    (State or other jurisdiction           (I.R.S. Employer Identification No.)
 of incorporation or organization)


530 Boston Post Road, Wayland, Massachusetts                     01778
   (Address of principal executive offices)                   (Zip code)



      Registrant's telephone number, including area code:  (508) 358-7400

                            _______________________
                                        

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 filing
requirements for the past 90 days.
Yes     X      No ______
    -------    


Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date.

             Class                               Outstanding at February 3, 1999
           ---------                             -------------------------------
  Common Stock, $.01 par value                              5,494,782

  ____________________________________________________________________________

  ____________________________________________________________________________
<PAGE>
 
                              CANDELA CORPORATION
                                     INDEX

<TABLE> 
<CAPTION> 
                                                                                 Page(s)   
                                                                                 -------  
<S>                                                                              <C>      
Part I.   Financial Information:                                                         
                                                                                         
          Item 1. Unaudited Condensed Consolidated Balance Sheets                        
                  as of December 26, 1998 and June 27, 1998                           3  
                                                                                         
                  Unaudited Condensed Consolidated Statements of                         
                  Operations for the three and six month periods ended                   
                  December 26, 1998 and December 27, 1997                             4  
                                                                                         
                  Unaudited Condensed Consolidated Statements of Cash                    
                  Flows for the six month period ended December 26, 1998                
                  and December 27, 1997                                               5  
                                                                                         
                  Notes to Unaudited Condensed Consolidated                              
                  Financial Statements                                              6-8  
                                                                                         
                                                                                         
          Item 2. Management's Discussion and Analysis of Financial                      
                  Condition and Results of Operations                              9-12  
                                                                                         
                  Cautionary Statements                                           12-14  
                                                                                         
          Item 3. Quantitative and Qualitative Disclosure                                
                  about Market Risk                                                  14  
                                                                                         

Part II.  Other Information:                                                             
                                                                                         
          Item 6. Exhibits and Reports on Form 8-K                                   15  
                                                                                         
                  Exhibit 27.1 Financial Data Schedule                               17   
</TABLE> 
 
                                       2
<PAGE>
 
                         PART I. FINANCIAL INFORMATION

ITEM 1 - FINANCIAL STATEMENTS 

                              CANDELA CORPORATION
                     CONDENSED CONSOLIDATED BALANCE SHEETS
                                (in thousands)
                                  (unaudited)

<TABLE> 
<CAPTION> 
                                                                                       December 26,           June 27,
ASSETS                                                                                     1998                 1998
---------------------------------------------------------------------------------------------------------------------------
<S>                                                                                    <C>                    <C>     
Current assets:
   Cash and cash equivalents                                                               $  4,849           $  1,615     
   Accounts receivable, net                                                                  10,349              8,419     
   Notes receivable                                                                           1,079              1,486     
   Inventories                                                                                6,610              7,241     
   Other current assets                                                                         795                200     
---------------------------------------------------------------------------------------------------------------------------
      Total current assets                                                                   23,682             18,961
---------------------------------------------------------------------------------------------------------------------------
Property and equipment, net                                                                   2,710              3,120
Other assets                                                                                    451                523
---------------------------------------------------------------------------------------------------------------------------
      Total Assets                                                                         $ 26,843           $ 22,604
===========================================================================================================================


LIABILITIES AND STOCKHOLDERS' EQUITY
---------------------------------------------------------------------------------------------------------------------------
Current liabilities:
   Accounts payable                                                                        $  4,133           $  4,292     
   Accrued payroll and related expenses                                                       1,338              1,319     
   Accrued warranty costs                                                                     2,357              2,012     
   Income taxes payable                                                                         776                335     
   Restructuring reserve                                                                      1,770              1,995     
   Other accrued liabilities                                                                  1,616                957     
   Lines of credit and short-term notes                                                           -              3,052     
   Current portion of long-term debt                                                            574                597     
   Deferred Income                                                                            2,031              1,763      
---------------------------------------------------------------------------------------------------------------------------
      Total current liabilities                                                              14,595             16,322
---------------------------------------------------------------------------------------------------------------------------
Long-term debt                                                                                3,046                887
---------------------------------------------------------------------------------------------------------------------------
Commitments and contingencies                                                                     -                  -
---------------------------------------------------------------------------------------------------------------------------
Stockholders' equity:
   Common stock                                                                                  55                 55
   Additional paid-in capital                                                                18,525             17,407
   Accumulated deficit                                                                       (9,035)           (11,337)
   Cumulative translation adjustment                                                           (343)              (730)
---------------------------------------------------------------------------------------------------------------------------
      Total stockholders' equity                                                              9,202              5,395
---------------------------------------------------------------------------------------------------------------------------
      Total Liabilities and Stockholders' Equity                                           $ 26,843           $ 22,604
===========================================================================================================================
</TABLE> 

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

                                       3
<PAGE>
 
                              CANDELA CORPORATION
                CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
                     (in thousands, except per share data)
                                  (unaudited)


<TABLE> 
<CAPTION> 
                                                        FOR THE THREE MONTHS ENDED:                 FOR THE SIX MONTHS ENDED:
                                                      DECEMBER 26,        DECEMBER 27,             DECEMBER 26,       DECEMBER 27,
                                                          1998                1997                     1998               1997
------------------------------------------------------------------------------------------------------------------------------------
<S>                                                   <C>                 <C>                      <C>                <C> 
REVENUE:
     PRODUCT SALES                                         $10,385           $ 5,682                $ 18,407            $ 10,946
     SERVICE AND OTHER REVENUE                               2,914             2,840                   5,630               5,399
------------------------------------------------------------------------------------------------------------------------------------
         TOTAL REVENUE                                      13,299             8,522                  24,037              16,345

COST OF SALES:
     PRODUCT COSTS                                           4,505             2,576                   8,305               4,892
     SERVICE COSTS AND OTHER COST OF SALES                   1,994             2,248                   3,867               4,434
------------------------------------------------------------------------------------------------------------------------------------
         TOTAL COST OF SALES                                 6,499             4,824                  12,172               9,326
------------------------------------------------------------------------------------------------------------------------------------
 
GROSS PROFIT                                                 6,800             3,698                  11,865               7,019

OPERATING EXPENSES:
     SELLING, GENERAL, AND ADMINISTRATIVE                    4,213             4,695                   7,546               8,090
     RESEARCH AND DEVELOPMENT                                  760               742                   1,448               1,320
     RESTRUCTURING CHARGE                                        -             2,609                       -               2,609
------------------------------------------------------------------------------------------------------------------------------------
         TOTAL OPERATING EXPENSES                            4,973             8,046                   8,994              12,019
------------------------------------------------------------------------------------------------------------------------------------
INCOME (LOSS) FROM OPERATIONS                                1,827            (4,348)                  2,871              (5,000)

OTHER INCOME (EXPENSE):
     INTEREST INCOME                                            20                 9                      31                  17
     INTEREST EXPENSE                                         (163)              (69)                   (241)               (135)
     OTHER                                                      79               (33)                    112                 (96)
------------------------------------------------------------------------------------------------------------------------------------
         TOTAL OTHER INCOME (EXPENSE)                          (64)              (93)                    (98)               (214)
------------------------------------------------------------------------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES                            1,763            (4,441)                  2,773              (5,214)
PROVISION FOR INCOME TAXES                                     370                 -                     470                  78
------------------------------------------------------------------------------------------------------------------------------------
NET INCOME (LOSS)                                          $ 1,393           $(4,441)               $  2,303            $ (5,292)
====================================================================================================================================

BASIC EARNINGS (LOSS) PER SHARE                            $  0.25           $ (0.82)               $   0.42            $  (0.97)

DILUTED EARNINGS (LOSS) PER SHARE                          $  0.24           $ (0.82)               $   0.41            $  (0.97)
====================================================================================================================================

WEIGHTED AVERAGE SHARES OUTSTANDING                          5,482             5,443                   5,480               5,443

ADJUSTED WEIGHTED AVERAGE SHARES                             
OUTSTANDING                                                  5,739             5,443                   5,650               5,443
====================================================================================================================================


</TABLE> 

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

                                       4
<PAGE>
 
                              CANDELA CORPORATION
                CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                                (in thousands)
                                  (unaudited)

<TABLE> 
<CAPTION> 
                                                                                             For the six months ended:
                                                                                         December 26,         December 27,
                                                                                            1998                 1997
-------------------------------------------------------------------------------------------------------------------------------
<S>                                                                                      <C>                  <C> 
Cash flows from operating activities:
  Net income (loss)                                                                            $  2,303         $  (5,292)       
  Adjustments to reconcile net income (loss) to net                                                                             
     cash provided by (used for) operating activities:                                                                          
     Depreciation and amortization                                                                  455               380       
     Provision for restructuring charges                                                              -             2,609       
     Accretion of imputed interest for debt discount                                                 24                 -       
     Provision for bad debts                                                                         63               736       
     Increase (decrease) in cash from working capital:                                                                          
         Accounts receivable                                                                     (1,532)            2,576       
         Notes receivable                                                                           574              (188)       
         Inventories                                                                                769              (965)       
         Other current assets                                                                      (572)               18       
         Other assets                                                                               (52)              336       
         Accounts payable                                                                          (736)           (1,410)       
         Accrued payroll and related expenses                                                        13              (102)       
         Deferred income                                                                            226              (287)       
         Accrued warranty costs                                                                     305               (88)       
         Income taxes payable                                                                       434              (193)       
         Accrued restructuring charges                                                             (225)                -       
         Other accrued liabilities                                                                  801               569        

----------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used for)  operating activities                                             2,850            (1,301)
----------------------------------------------------------------------------------------------------------------------------------

Cash flows from investing activities:
  Purchases of property and equipment                                                              (121)             (141)
----------------------------------------------------------------------------------------------------------------------------------
Net cash used for investing activities                                                             (121)             (141)
----------------------------------------------------------------------------------------------------------------------------------

Cash flows from financing activities:
  Borrowings from (repayments of) line of credit                                                 (2,700)              950
  Proceeds from issuance of debt and stock warrants                                               3,700                 -
  Principal payments of long-term debt                                                             (519)             (196)
  Principal payments of capital lease obligations                                                  (220)             (198)
  Proceeds from the issuance of common stock                                                         38                76
----------------------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities                                                           299               632
----------------------------------------------------------------------------------------------------------------------------------

Effect of exchange rates on cash and cash equivalents                                               206              (137)
----------------------------------------------------------------------------------------------------------------------------------

Net increase (decrease) in cash and cash equivalents                                              3,234              (947)
----------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at beginning of period                                                  1,615             2,674
----------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of period                                                     $  4,849         $   1,727
==================================================================================================================================
</TABLE> 

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

                                       5
<PAGE>
 
                              CANDELA CORPORATION
        NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1.    BASIS OF PRESENTATION

      The accompanying unaudited financial statements and notes do not include
      all of the disclosures made in the Company's Annual Report on Form 10-K
      for fiscal 1998, which should be read in conjunction with these
      statements. The financial information included herein is unaudited, with
      the exception of the consolidated balance sheet which has been derived
      from the audited consolidated balance sheet dated June 27, 1998. However,
      in the opinion of management, the statements include all necessary
      adjustments for a fair presentation of the quarterly results and are
      prepared and presented in a manner consistent with the Company's Annual
      Report on Form 10-K. The results for the three and six month periods ended
      December 26, 1998, are not necessarily indicative of the results to be
      expected for the full year.

2.    INVENTORIES

      Inventories consist of the following (in thousands):

<TABLE> 
<CAPTION> 
                                 December 26, 1998     June  27, 1998
                                 -----------------     --------------
          <S>                    <C>                   <C> 
          Raw materials                $2,704               $3,110      
          Work in process               1,166                1,062      
          Finished goods                2,740                3,069      
                                       ------               ------ 
                                       $6,610               $7,241       
                                       ======               ====== 
</TABLE> 

3.    DEBT

      On October 15, 1998, the Company issued eight-year, 9.75% subordinated
      notes to three investors in the aggregate amount of $3,700,000. The notes
      become due in October, 2006, and require quarterly interest payments. In
      addition, the Company issued warrants to purchase 370,000 shares of common
      stock to the note holders which have an exercise price of $4.00 per share.
      The value ascribed to the warrants, using the Black Scholes pricing model,
      is $1,080,000 (measured as of the date of issuance). This value has been
      recorded as a component of Additional Paid-In Capital and represents a
      discount to Long-Term Debt. Interest expense, equal to such value, will be
      accreted to debt over the eight-year life of the warrants.

      On October 22, 1998, part of the note proceeds in the amount of $2,700,000
      was used to retire the full amount then outstanding on the Company's line
      of credit. In December, 1998 this line of credit was renewed to expire on
      December 1, 1999, bearing interest at the bank's prime lending rate and
      collateralized by domestic accounts receivable, inventories, and a pledge
      of subsidiary stock. There are no borrowings currently outstanding on this
      line of credit.

4.    EARNINGS PER SHARE

      Basic earnings per share is computed by dividing net income by the
      weighted average number of shares of common stock outstanding and, if
      dilutive, diluted earnings per share is computed by including common stock
      equivalents outstanding. Common stock equivalents include shares issuable
      upon the exercise of stock options or warrants, net of shares assumed to
      have been purchased with the proceeds, using the treasury stock method.

                                       6
<PAGE>
 
                              CANDELA CORPORATION
        NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                  (CONTINUED)

<TABLE> 
<CAPTION> 
                                               For the three months ended       For the six months ended     
                                               --------------------------       ------------------------   
                                              December 26,     December 27,    December 26,    December 27,
                                                  1998           1997              1998           1997     
                                                  ----           ----              ----           ----     
      <S>                                     <C>              <C>             <C>             <C>         
      NUMERATOR                                                                                            
      ---------
      Net income(loss)                           $ 1,393        $(4,441)          $ 2,303        $(5,292)  
                                                 =======        =======           =======        =======   
                                                                                                           
      DENOMINATOR                                                                                          
      -----------                                                                                          
      BASIC EARNINGS PER SHARE                                                                             
      ------------------------                                                                             
      Weighted average shares                                                                              
             outstanding                           5,482          5,443             5,480          5,443   
                                                 -------        -------           -------        -------   
                                                                                                           
      Earnings(loss) per share                   $  0.25        $ (0.82)          $  0.42        $ (0.97)  
                                                 =======        =======           =======        =======   
                                                                                                           
      DILUTED EARNINGS PER SHARE                                                                           
      --------------------------                                                                           
      Weighted average shares                                                                              
             outstanding                           5,482          5,443             5,480          5,443   
                                                                                                           
      Dilutive options and warrants                  257             --               170             --   
                                                 -------        -------           -------        -------    
                                                                                                           
      Adjusted weighted average                                                                            
             shares outstanding                    5,739          5,443             5,650          5,443   
                                                 -------        -------           -------        -------    
                                                                                                           
      Earnings(loss) per share                   $  0.24        $ (0.82)          $  0.41        $ (0.97)  
                                                 =======        =======           =======        =======    
</TABLE> 

      Options totaling 231,000 and 216,000, respectively, for the three and six
      months ended December 27, 1997, were not included in the earnings per
      share calculation because they would have been anti-dilutive as a result
      of the losses in each of those periods.

5.    RESTRUCTURING COSTS AND OTHER CHARGES

      During the quarter ended December 27, 1997, the Company recorded
      restructuring charges of $2,609,000 resulting from management's decision
      to close the LaserSpa(TM) located in Scottsdale, Arizona. During the six
      months ended December 26, 1998, $225,000 was charged against this reserve,
      representing costs associated with the shutdown of the Scottsdale
      facility.

6.    INCOME TAXES

      The provision for income taxes results from a combination of activities of
      both the domestic and foreign subsidiaries of the Company. Provision for
      income taxes for the six months ended December 26, 1998, reflects the
      utilization of a portion of the Company's domestic net operating loss
      carryforwards and minimum tax provisions calculated in Japan at a rate in
      excess of the U.S. statutory tax rate.

      The Company had a net operating loss carryforward of approximately
      $1,786,000 and tax credit carryforwards of approximately $1,595,000 at
      June 28, 1998, the beginning of the current fiscal year. Based on current
      year operating results the Company anticipates utilizing all of the net
      operating loss carryforward and approximately $1,200,000 of the tax credit
      carryforwards.

                                       7
<PAGE>
 
                              CANDELA CORPORATION
        NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                  (CONTINUED)


      The Company had provided valuation allowances for 100% of the Deferred Tax
      Assets. Because the Company expects to utilize a portion of the Deferred
      Tax Asset, income tax expense has been reduced by $1,836,000 through a
      reduction in the valuation allowance, which will be taken ratably over the
      last three quarters of the current fiscal year. The effective tax rate for
      the year is expected to be approximately 21%.

7.    COMPREHENSIVE INCOME

      Effective June 28, 1998, the Company adopted Statement of Financial
      Accounting Standard No. 130, "Reporting Comprehensive Income." This
      statement establishes new rules for the reporting and display of
      comprehensive income and its components; however, the adoption of this
      statement had no impact on the Company's net income or stockholders'
      equity. The Company's comprehensive earnings were as follows:


<TABLE> 
<CAPTION> 
                                            For the three months ended         For the six months ended
                                            --------------------------         ------------------------
                                           December 26,     December 27,      December 26,   December 27,
                                              1998              1997              1998           1997
                                              ----              ----              ----           ----
      <S>                                 <C>                 <C>             <C>            <C> 
      Net income                          $   1,393           $ (4,441)          $ 2,303       $  (5,292)
      Foreign currency translation                                                             
         adjustment, net                        (18)              (162)              308            (162)                  
                                          ---------           ---------          --------      ---------
                                          $   1,375           $ (4,603)          $ 2,611       $  (5,454)
                                          =========           ========           =======       =========
</TABLE> 

8.    NEW ACCOUNTING PRONOUNCEMENTS

      In June 1997, the Financial Accounting Standards Board ("FASB") issued
      Statement of Financial Accounting Standard No. 131 ("SFAS 131"),
      "Disclosure about Segments of an Enterprise and Related Information."
      Based on the management approach to segment reporting, SFAS No. 131
      establishes requirements to report selected segment information and to
      report entity-wide disclosures about products and services, major
      customers and the countries in which the entity holds material assets and
      reports material revenue. The Company will adopt SFAS No. 131 for its
      fiscal year ending July 3, 1999, and management is currently evaluating
      its effects on the Company's reporting of segment information.

      In June 1998, the FASB issued Statement of Financial Accounting Standards
      No. 133 ("SFAS 133") "Accounting for Derivative Instruments and Hedging
      Activities." SFAS 133 establishes accounting and reporting standards for
      derivative instruments, including certain derivative instruments embedded
      in other contracts (collectively referred to as "derivatives"), and for
      hedging activities. SFAS 133 requires companies to recognize all
      derivatives as either assets or liabilities, with the instruments measured
      at fair value. The accounting for changes in fair value, gains or losses,
      depends on the intended use of the derivative and its resulting
      designation. The statement is effective for all fiscal quarters of fiscal
      years beginning after June 15, 1999. The Company plans to implement SFAS
      133 for its fiscal year 2000. Had the Company implemented the policy in
      the current period it would have increased assets and liabilities equal to
      the notional amount of forward currency contracts held by the Company in
      the amount of $1,463,000 and there would have been no material impact on
      the Statement of Operations and net income for the period.

                                       8
<PAGE>
 
                              CANDELA CORPORATION

ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND 
------------------------------------------------------------------------
         RESULTS OF OPERATIONS 
         ---------------------


OVERVIEW:
--------

      Candela Corporation develops, manufactures, and distributes innovative
clinical solutions that enable physicians, surgeons and personal care
practitioners to treat selected cosmetic and medical problems using lasers,
cryosurgery and other proven technologies. In addition, the Company operates one
Company-owned LaserSpa(TM) (a combination skin care center and spa). Subsequent
to the end of the quarter, the medical treatment component of the LaserSpa(TM)
was discontinued.


RESULTS OF OPERATIONS
---------------------

      Total revenue for the three and six month periods ended December 26, 1998,
were $13,299,000 and $24,037,000 respectively, in comparison to $8,522,000 and
$16,345,000 for the three and six month periods a year earlier, representing a
56% and 47% increase respectively. The increase over the same periods a year ago
was mainly due to shipments of the Company's GentleLASE(TM) laser, used
primarily for hair removal procedures, which was not yet available for purchase
during the same periods last year.

      Revenue for the second quarter and year to date, fiscal 1999 and 1998:

<TABLE> 
<CAPTION> 
($ in 000's)                                      3 months                         6 months
                                                  --------                         --------
                                         FY 99      FY 98    Change       FY 99      FY 98     Change
                                         -----      -----    ------       -----      -----     ------
<S>                                     <C>        <C>       <C>         <C>        <C>        <C> 
Laser operations                        $12,483    $ 7,787     60%       $22,504    $14,986      50%
Skin care centers                           816        735     11%         1,533      1,359      13%
                                        -------    -------               -------    -------    
                                                                                               
      Total                             $13,299    $ 8,522     56%       $24,037    $16,345      47%
</TABLE> 

      Gross margins were 51% and 49%, respectively, for the three month and six
month periods ended December 26, 1998, compared to gross margins of 43% for both
periods one year earlier. The increases in gross margin resulted mainly from
increased sales of higher margin laser devices.

      Selling, general and administrative expenses decreased 10%, from
$4,695,000 to $4,213,000, for the three month period ending December 26, 1998,
compared to the same period one year earlier. For the six month period ended
December 26, 1998, selling, general and administrative expenses decreased 7%,
from $8,090,000 to $7,546,000, in comparison to the same six month period a year
earlier. This reflects savings from operating only one LaserSpa(TM) during the
period, partially offset by increased marketing and selling expenses associated
with generating increased revenues in the Company's core laser equipment
business. During the three months ended December 26, 1998, the Company incurred
charges related to the closing of its sales office in The Netherlands and the
reactivation of its sales subsidiary in Germany of approximately $100,000.
During the same three month period a year ago, the Company incurred charges of
$550,000 for a provision for uncollectible notes and accounts receivable from a
distributor and one-time charges of $328,000 for legal and consulting work. For
the three month period ended December 26, 1998, selling, general and
administrative expenses decreased as a percentage of revenue to 32% of revenues
compared to 55% of revenues for the same period a year earlier. For the six
month period ended December 26, 1998, selling, general and administrative
expenses decreased as a percentage of revenue to 31% of revenues compared to 49%
of revenues for the same period a year earlier.

                                       9
<PAGE>
 
                               CANDELA CORPORATION

ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
--------------------------------------------------------------------------------
         OF OPERATIONS (CONTINUED)
         -------------------------

      Research and development spending is associated with laser operations and
increased 2% to $760,000 for the three months ended December 26, 1998, compared
to $742,000 for the same period a year earlier. For the six month period ended
December 26, 1998, research and development spending increased 10% to $1,448,000
in comparison to $1,320,000 for the same period a year earlier. The increase in
research and development reflect the Company's efforts to develope products and
product improvements designed to enhance and augment the existing product lines.

      During the quarter ended December 27, 1997, the Company recorded
restructuring charges of $2,609,000 resulting from management's decision to
close the LaserSpa(TM) located in Scottsdale, Arizona. During the six months
ended December 26, 1998, a total of $225,000 was charged against this reserve,
representing costs associated with the closure of the Scottsdale facility. The
Company continues to pursue subleases of the Scottsdale facility, however, the
Company feels there may be some costs incurred beyond the current fiscal year
related to this facility, all of which have been reserved.

      Income from operations was $1,827,000 for the three months ended December
26, 1998, compared to a loss of $4,348,000 for the same period a year ago.
Income from operations for the six month period ended December 26, 1998,
increased by $7,871,000, from a $5,000,000 loss to profit of $2,871,000, in
comparison to the same six month period a year ago.

      Other income and expense reflected $64,000 in expenses for the three
months ended December 26, 1998, in comparison to expenses of $93,000 for the
same period a year earlier. For the six month period ended December 26, 1998,
other income and expense reflected $98,000 in expenses in comparison to $214,000
in expenses for the same period a year earlier. The improvement resulted from
exchange gains realized at the Company's foreign subsidiaries, relative to
exchange losses in the same periods a year earlier. This improvement was
partially offset by increased interest costs related to higher levels of
borrowing by the Company although the Company did pay down its line of credit
facility in October with proceeds from the sale of its subordinated notes and
warrants.

      The provision for income taxes results from a combination of activities of
both the domestic and foreign subsidiaries of the Company. Provision for income
taxes for the three and six months ended December 26, 1998, reflects the
utilization of a portion of the Company's domestic net operating loss
carryforwards and minimum tax provisions calculated in Japan at a rate in excess
of the U.S. statutory tax rate. The Company had a net operating loss
carryforward of approximately $1,786,000 and tax credit carryforwards of
approximately $1,595,000 at June 28, 1998, the beginning of the current fiscal
year. Based on current year operating results the Company anticipates utilizing
all of the net operating loss carryforward and approximately $1,200,000 of the
tax credit carryforwards. The Company had provided valuation allowances for 100%
of the Deferred Tax Assets. Because the Company expects to utilize a portion of
the Deferred Tax Asset, income tax expense has been reduced by $1,836,000
through a reduction in the valuation allowance, which will be taken ratably over
the last three quarters of the current fiscal year. The effective tax rate for
the year is expected to be approximately 21%.

LIQUIDITY AND CAPITAL RESOURCES

      Cash provided by operating activities amounted to $2,850,000 for the six
months ended December 26, 1998, in comparison to cash used for operating
activities of $1,301,000 for the same period a year earlier reflecting increased
operating earnings during the current period. Cash used for investing activities
totaled $121,000 for the six months ended December 26, 1998, compared to
$141,000 for the same period a year earlier. Cash provided by financing
activities amounted to $299,000 in comparison to $632,000 for the same period a
year earlier. This reflects $3,700,000 in cash provided from the issuance of
eight-year, 9.75% subordinated notes and warrants, offset by payments of
$2,700,000 on the Company's line of credit and payments on short-term notes by
the Company's Japanese subsidiary for 66,666,000 Japanese Yen, or $519,000 based
on average exchange rates for the six month period. The Company borrowed
$950,000 on its line of credit during the same six month period a year ago.

                                       10
<PAGE>
 
                              CANDELA CORPORATION

ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
--------------------------------------------------------------------------------
          OF OPERATIONS (CONTINUED) 
          -------------------------


      Cash and cash equivalents at December 26, 1998, increased by $3,234,000 to
$4,849,000 from $1,615,000 at June 27, 1998, due principally to higher cash
receipts resulting from increases in shipments of the Company's new laser.

      On October 15, 1998, the Company issued eight-year, 9.75% subordinated
notes to three investors in the aggregate amount of $3,700,000. The notes become
due in October, 2006, and require quarterly interest payments. In addition, the
Company issued warrants to purchase 370,000 shares of common stock to the note
holders which have an exercise price of $4.00 per share. The value ascribed to
the warrants, using the Black Scholes pricing model, is $1,080,000 (measured as
of the date of issuance). This value has been recorded as a component of
Additional Paid-In Capital and represents a discount to Long-Term Debt. Interest
expense, equal to such value, will be accreted to debt over the eight-year life
of the warrants.

      The Company also maintains a $3,500,000 line of credit with a major bank
which expires December 1, 1999. The line of credit bears interest at the bank's
prime lending rate and is collateralized by total domestic accounts receivable,
inventories, and a pledge of subsidiary stock. The Company currently has no
borrowings outstanding on this line of credit.

      The Company's Japanese subsidiary has borrowed funds to be used for
payment of equipment purchases made from the parent corporation. At December 26,
1998, this liability was $208,000, converted at the quarter-end exchange rate.
The Company's remaining short-term and long-term debt is comprised of capital
lease obligations which were $366,000 and $426,000, respectively, at December
26, 1998, compared to $362,000 and $828,000, respectively, at June 27, 1998.

YEAR 2000 COMPLIANCE
--------------------

      The Company has established a committee to assess the implications of Year
2000 issues on operations, from information and financial systems to each aspect
of its manufacturing processes, in order to determine the extent to which the
Company may be adversely affected by Year 2000 issues. Indications based on the
internal assessment, which is approximately 50% complete, reveals minimal impact
of Year 2000 issues on the Company. The Company has completed the initial
assessment of Year 2000 issues. Though limited testing of systems has been
performed to date, the Company has developed its systems and products with Year
2000 in mind, thus minimizing the impact of the change. The Company may conduct
further testing and/or an external audit following the conclusion of its
internal assessment. To date there has been a limited number of hours devoted to
Year 2000 issues, with no additional cost expended in systems upgrades directly
relating to Year 2000 issues. Present estimates for further expenditures of both
employee time and expenses to address Year 2000 issues are between 40 and 120
hours and up to $20,000 of incremental expenses. All expenditures will be
expensed as incurred and they are not expected to have a significant impact on
the Company's ongoing results of operations.

      The Company has undertaken an informal survey of its suppliers' Year 2000
compliance status with responses indicating Year 2000 compliance at this time.
Further, the Company has conferred with significant customers to assure that
various systems used for data and information exchanges between them will be
compatible following December 31, 1999.

      Based on its assessments to date, the Company believes it will not
experience any material disruption as a result of Year 2000 issues in internal
manufacturing processes, information processing or interface with

                                       11
<PAGE>
 
                              CANDELA CORPORATION

ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
--------------------------------------------------------------------------------
          OF OPERATIONS (CONTINUED) 
          -------------------------


key customers, or with processing orders and billing. However, if certain
critical third party providers, such as those supplying electricity, water or
telephone service, experience difficulties resulting in disruption of service to
the Company, a shutdown of the Company's operations at individual facilities
could occur for the duration of any such disruption.

     The Company is developing contingency plans relating to Year 2000 issues.
There can be no assurance that Year 2000 issues will not have a material adverse
effect on the Company's business, results of operation and financial condition.


CAUTIONARY STATEMENTS

     In addition to the other information in this Quarterly Report on Form 10-Q,
the following cautionary statements should be considered carefully in evaluating
the Company and its business. Statements contained in this Form 10-Q that are
not historical facts (including, without limitation, statements concerning
anticipated operational and capital expense levels and such expense levels
relative to the Company's total revenues) and other information provided by the
Company and its employees from time to time may contain certain "forward-
looking" information, as that term is defined by (i) the Private Securities
Litigation Reform Act of 1995 (the "Act") and, (ii) in releases made by the
Securities and Exchange Commission (the "SEC"). The factors identified in the
cautionary statements below, among other factors, could cause actual results to
differ materially from those suggested in such forward-looking statements. The
cautionary statements below are being made pursuant to the provisions of the Act
and with the intention of obtaining the benefits of the "safe harbor" provisions
of the Act.

VARIABILITY OF QUARTERLY OPERATING RESULTS. The Company's quarterly operating
results may vary significantly from quarter to quarter, depending upon factors
such as the timing of product sales, the timing of expenditures in anticipation
of future product orders, the introduction and market acceptance of new
products, effectiveness in managing manufacturing processes, changes in cost and
availability of labor and product components, order cancellations, the budgetary
cycles of its customers, the timing of regulatory approvals and the cost of
operating the Company's LaserSpa(TM). The Company's ability to accurately
forecast future revenues and income for any period is necessarily limited, and
any forward-looking information provided from time to time by the Company
represents only management's then-best current estimate of future results or
trends, and actual results may differ materially from those contained in the
Company's estimates.

POTENTIAL VOLATILITY OF STOCK PRICE. There has been significant volatility in
the market price of securities of companies in the medical device industry.
Factors such as announcements of new products by the Company or its competitors,
quarterly fluctuations in the financial results of the Company or its
competitors, shortfalls in the Company's actual financial results compared to
results previously forecast by stock market analysts, conditions in the medical
device industry and the financial markets and the economy generally could cause
the market price of the Company's securities to fluctuate substantially and may
adversely affect the price of the Company's securities.

RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS. A significant portion of the
Company's revenues are attributable to international operations and those
revenues are likely to continue to represent a significant portion of the
Company's revenues in future periods. The Company's international business and
financial performance may be adversely affected by a number of factors,
including without limitation, to fluctuations in

                                       12
<PAGE>
 
                              CANDELA CORPORATION

ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
--------------------------------------------------------------------------------
          OF OPERATIONS (CONTINUED) 
          -------------------------


exchange rates, tariffs and other trade barriers, adverse tax regulation, and
adverse political and economic conditions. Adverse effects on the Company's
international operations may have materially adverse effects on the Company's
overall financial condition and operating results.

BUSINESS STRATEGIC DEVELOPMENT. The Company has renewed its commitment to expand
and diversify its core cosmetic and surgical laser equipment business. As part
of this refocus, the Company has decided not to pursue additional skin care
treatment or spa centers, and is actively seeking buyers for the two facilities
it has sponsored in Scottsdale, Arizona and Boston, Massachusetts. The Company
anticipates that the sale of both facilities will be finalized within the fiscal
year, but no assurances can be made that the sale/sublease will be completed on
terms favorable to the Company or at all within this time frame. Reserves have
been established to cover the closure of the Scottsdale, Arizona, facility,
however, there can be no assurances that the reserves will be adequate.

GOVERNMENTAL REGULATION. Medical devices are subject to governmental approval
before they can be utilized for clinical studies or sold commercially. In
addition, the Company's activities in connection with its CSCC business may
subject the Company to additional regulation under state and federal laws. The
process for obtaining the necessary approvals and compliance with applicable
regulations can be costly and time-consuming. Many foreign countries in which
the Company markets or may market its products have similar regulatory bodies
and restrictions. There is no assurance that the Company will be able to obtain
any such government approvals or successfully comply with any such regulations
in a timely and cost-effective manner, if at all, and failure to do so may have
an adverse effect on the Company's financial condition and results of
operations.

RISKS ASSOCIATED WITH PRODUCT LIABILITY. The administration of medical and
cosmetic treatments using laser products is subject to various risks of physical
injury to the patient which may result in product liability or other claims
against the Company. The costs and resources involved in defending or settling
any such claims, or the payment of any award in connection therewith, may
adversely affect the Company's financial condition and operating results. The
Company maintains product liability insurance, but there is no assurance that
its policy will provide sufficient coverage for any claim or claims that may
arise, or that the Company will be able to maintain such insurance coverage on
favorable economic terms.

RAPID TECHNOLOGICAL CHANGE; COMPETITION. The medical laser industry is subject
to rapid and substantial technological development and product innovations. To
be successful, the Company must be responsive to new developments in laser
technology and new applications of existing technology, and the Company's
financial condition and operating results may be adversely affected by the
failure of new or existing products to compete favorably in response to such
technological developments. In addition, the Company competes against numerous
other companies offering products similar to those of the Company and/or
alternative products and technologies, some of which have greater financial,
marketing and technical resources than the Company. There can be no assurance
the Company will be able to compete successfully against these companies. Such
competition could have a material adverse effect on the Company's business,
financial condition and results of operations.

RELIANCE ON ATTRACTING AND RETAINING KEY EMPLOYEES. The Company's success will
depend in large part on its ability to attract and retain highly-qualified
scientific, technical, managerial, sales and marketing, management and other
personnel. Competition for such personnel is intense and any decline in the
Company's ability to attract and retain such personnel may have adverse effects
on its financial condition and operating results.

                                       13
<PAGE>
 
                              CANDELA CORPORATION

ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
--------------------------------------------------------------------------------
          OF OPERATIONS (CONTINUED) 
          -------------------------


ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
-------------------------------------------------------------------

At December 26, 1998, the Company held foreign currency forward contracts with
notional value totaling approximately $1,463,000 (179,773,000 Japanese Yen)
compared to a value of $1,831,000 (232,271,000 Japanese Yen) at December 27,
1997. These contracts have maturities prior to April 15, 1999. The carrying and
net fair value of these contracts at December 26, 1998, was $0 and ($70,000),
respectively, compared to $0 and ($17,000), respectively, at December 27, 1997.

                                       14
<PAGE>
 
                              CANDELA CORPORATION

                           PART II OTHER INFORMATION


Item 6 - Exhibits and Reports on Form 8-K
-----------------------------------------

     (a)  Exhibits

          Exhibit 27.1, Financial Data Schedule, page 17

     (b)  Reports on Form 8-K

          No reports on Form 8-K were filed during the quarter ended December
          26, 1998.

                                       15
<PAGE>
 
                                  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.


                                   CANDELA CORPORATION
                                   Registrant



Date: February 5, 1999             /s/ Gerard E. Puorro     
      ----------------             -----------------------------------
                                       Gerard E. Puorro
                                       (President and Chief Executive Officer)



Date: February 5, 1999             /s/ F. Paul Broyer                          
      ----------------             -----------------------------------
                                       F. Paul Broyer
                                       (Senior Vice President of Finance and 
                                       Administration, Chief Financial Officer 
                                       and Treasurer)

                                       16