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SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549




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FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934


For the fiscal year ended December 31,
2002

Commission file number: 0-28288




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CardioGenesis Corporation

(formerly known as Eclipse Surgical
Technologies, Inc.)


(Exact name of Registrant as specified in its
charter)


|                         |  |                                            
|------------------------ |  | -------------------------------------------
|California               |  | 77-0223740                                 
|(State of incorporation) |  | (I.R.S. Employer
    Identification Number)

26632 Towne Center Drive,
Suite 320

Foothill Ranch, California 92610


(Address of principal executive
officers)


(714) 649-5000

(Registrants telephone number, including
area code)




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|                           |  |                                     
|-------------------------- |  | ------------------------------------
|Title of Each Class        |  | Name of Exchange on Which Registered
|                           |  |                                     
|Common Stock, no par value |  | Nasdaq SmallCap Market              

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 þ          No o

Indicate by check mark if disclosure of
delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be
contained, to the best of the registrants knowledge, in
definitive proxy or information statements incorporated herein
by reference in Part III of this Form 10-K or any
amendment to this
Form 10-K. o

Indicate by check mark whether the registrant is
an accelerated filer (as defined in Exchange Act
Rule 12b-2.)

Yes o          No þ

The aggregate market value of the voting and
non-voting stock held by non-affiliates of the Registrant was
approximately $26,581,683 as of June 28, 2002, based upon
the closing sale price reported for that date on the Nasdaq
National Market. Shares of Common Stock held by each officer and
director and by each person who owns 5% or more of the
outstanding Common Stock have been excluded because such persons
may be deemed to be affiliates. This determination of affiliate
status is not necessarily a conclusive determination for any
other purpose.

Indicate the number of shares outstanding of each
of the issuers classes of common stock outstanding as of
the last practicable date.

37,120,925 shares

As of March 17, 2003




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TABLE OF CONTENTS



|                   |                                                                                                |  |  |  |  |  |  | 
|------------------ | ---------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|INDEX TO FORM 10-K
|PART I            
|                   | Item 1. Business.                                                                             
|                   | Item 2. Description of Property.                                                              
|                   | Item 3. Legal Proceedings.                                                                    
|                   | Item 4. Submission of Matters to a Vote of Security Holders.                                  
|PART II           
|                   | Item 5. Market for Registrants Shares and Related Shareholder Matters.                        
|                   | Item 6. Selected Consolidated Financial Data.                                                 
|                   | Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations.
|                   | Item 7A. Quantitative and Qualitative Disclosures About Market Risk                           
|                   | Item 8. Consolidated Financial Statements and Supplementary Data.                             
|                   | Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. 
|PART III          
|                   | Item 10. Directors and Executive Officers of the Registrant.                                  
|                   | Item 11. Executive Compensation and Other Matters.                                            
|                   | Item 12. Security Ownership of Certain Beneficial Owners and Management.                      
|                   | Item 13. Certain Relationships and Related Transactions.                                      
|                   | Item 14. Controls and Procedures                                                              
|PART IV           
|                   | Item 15. Exhibits, Financial Statement Schedule, and Reports on Form 8-K.                     
|SIGNATURES        
|EXHIBIT 21.1      
|EXHIBIT 23.1      



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INDEX TO FORM 10-K

|           |  |                                                                                           |    |      |    | 
|---------- |  | ----------------------------------------------------------------------------------------- | -- | ---- | -- | 
|           |  |                                                                                           |    | Page
|           |  |                                                                                           |    |     
|PART I    
|Item 1.    |  | Business                                                                                  |    |      | 1  | 
|Item 2.    |  | Description of Property                                                                   |    |      | 18 | 
|Item 3.    |  | Legal Proceedings                                                                         |    |      | 18 | 
|Item 4.    |  | Submission of Matters to a Vote of Security
    Holders                                   |    |      | 19 | 
|PART II   
|Item 5.    |  | Market for Registrants Shares and Related
    Shareholder Matters                        |    |      | 19 | 
|Item 6.    |  | Selected Consolidated Financial Data                                                      |    |      | 19 | 
|Item 7.    |  | Managements Discussion and Analysis of
    Financial Condition and Results of Operations |    |      | 20 | 
|Item 7A.   |  | Quantitative and Qualitative Disclosures About
    Market Risk                            |    |      | 27 | 
|Item 8.    |  | Consolidated Financial Statements and
    Supplementary Data                              |    |      | 27 | 
|Item 9.    |  | Changes in and Disagreements with Accountants on
    Accounting and Financial Disclosure  |    |      | 27 | 
|PART III  
|Item 10.   |  | Directors and Executive Officers of the Registrant                                        |    |      | 27 | 
|Item 11.   |  | Executive Compensation and Other Matters                                                  |    |      | 28 | 
|Item 12.   |  | Security Ownership of Certain Beneficial Owners
    and Management                        |    |      | 28 | 
|Item 13.   |  | Certain Relationships and Related Transactions                                            |    |      | 28 | 
|Item 14.   |  | Controls and Procedures                                                                   |    |      | 28 | 
|PART IV   
|Item 15.   |  | Exhibits, Financial Statement Schedule and
    Reports on Form 8-K                        |    |      | 29 | 
|Signatures |  |                                                                                           | 31 |     



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PART I






|        |          
|------- | ---------
|Item 1. | Business.

This Annual Report on Form 10-K contains
forward-looking statements that involve risks and uncertainties.
The statements contained herein that are not purely historical
are forward-looking statements within the meaning of
Section 27A of the Securities Act and Section 21E of
the Exchange Act, including without limitation statements
regarding our expectations, beliefs, intentions or strategies
regarding the future. All forward-looking statements included in
this document or incorporated by reference herein are based on
information available to us on the date hereof, and we assume no
obligation to update any such forward-looking statements. Our
actual results could differ materially from those anticipated in
these forward-looking statements as a result of certain factors,
including those set forth in Item 7 and
elsewhere.

General

CardioGenesis Corporation, formerly known as
Eclipse Surgical Technologies, Inc., incorporated in California
in 1989, designs, develops, manufactures and distributes
laser-based surgical products and disposable fiber-optic
accessories for the treatment of advanced cardiovascular disease
through transmyocardial revascularization (TMR) and
percutaneous transluminal myocardial revascularization
(PMR). TMR and PMR are recent laser-based heart
treatments in which channels are made in the heart muscle. It is
believed these procedures encourage new vessel formation, or
angiogenesis. TMR is performed by a cardiac surgeon through a
small incision in the chest under general anesthesia. PMR is
performed by a cardiologist in a catheter based procedure which
utilizes local anesthesia. Clinical studies have demonstrated a
significant reduction in angina and increase in exercise
duration in patients treated with TMR or PMR plus medications,
when compared with patients who received medications alone.

We received CE Mark approval for our TMR system
in May 1997 and our PMR system in April 1998. On
February 11, 1999, we received final approval from the Food
and Drug Administration (FDA) for our TMR products
for treatment of stable patients with angina (Canadian
Cardiovascular Society Class 4) refractory to other medical
treatments and secondary to objectively demonstrated coronary
artery atherosclerosis and with a region of the myocardium with
reversible ischemia not amenable to direct coronary
revascularization. Effective July 1, 1999, the Health Care
Financial Administration began to provide Medicare coverage for
TMR. Hospitals and physicians are now eligible to receive
Medicare reimbursement for TMR equipment and procedures.

We have completed pivotal clinical trials
involving PMR, and study results were submitted to the FDA in a
Pre Market Approval application (PMA application) in
December 1999 along with subsequent amendments. In July 2001,
the FDA Advisory Panel recommended against approval of PMR for
public sale and use in the United States. In February 2003, the
FDA granted an independent panel review of our pending PMA
application for PMR by the Medical Devices Dispute Resolution
Panel. We expect the Dispute Resolution Panel to convene in the
second quarter of 2003. There can be no assurance, however, that
we will receive a favorable decision from the FDA.

On March 17, 1999, we merged with the former
CardioGenesis Corporation. Under the terms of the combination,
each share of the former CardioGenesis common stock was
converted into 0.8 of a share of our common stock, and the
former CardioGenesis has become a wholly owned subsidiary of
ours. As a result of the transaction, our outstanding shares
increased by approximately 9.9 million shares. The
transaction was structured to qualify as a tax-free
reorganization and has been accounted for as a pooling of
interests. Accordingly, the included financial information has
been restated as if the combined entity existed for the 1999
period prior to the merger.

Background

Cardiovascular disease is the leading cause of
death and disability in the U.S. according to the American
Heart Association. Coronary artery disease is the principal form
of cardiovascular disease and is characterized by a progressive
narrowing of the coronary arteries which supply blood to the
heart. This narrowing process is

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usually due to atherosclerosis, which is the
buildup of fatty deposits, or plaque, on the inner lining of the
arteries. Coronary artery disease reduces the available supply
of oxygenated blood to the heart muscle, potentially resulting
in severe chest pain known as angina, as well as damage to the
heart. Typically, the condition worsens over time and often
leads to heart attack and/or death.


Based on standards promulgated by the Canadian
Heart Association, angina is typically classified into four
classes, ranging from Class 1, in which angina pain results
only from strenuous exertion, to the most severe class,
Class 4, in which the patient is unable to conduct any
physical activity without angina and angina may be present even
at rest. The American Heart Association estimates that more than
six million Americans experience angina symptoms.

The primary therapeutic options for treatment of
coronary artery disease are drug therapy, balloon angioplasty
also known as percutaneous transluminal coronary angioplasty or
(PTCA), other interventional techniques which
augment or replace PTCA such as stent placement and atherectomy,
and coronary artery bypass grafting or (CABG). The
objective of each of these approaches is to increase blood flow
through the coronary arteries to the heart.

Drug therapy may be effective for mild cases of
coronary artery disease and angina either through medical
effects on the arteries that improve blood flow without reducing
the plaque or by decreasing the rate of formation of additional
plaque (e.g., by reducing blood levels of cholesterol). Because
of the progressive nature of the disease, however, many patients
with angina ultimately undergo either PTCA or CABG.

PTCA is a less-invasive alternative to CABG
introduced in the early 1980s in which a balloon-tipped catheter
is inserted into an artery, typically near the groin, and guided
to the areas of blockage in the coronary arteries. The balloon
is then inflated and deflated at each blockage site, thereby
rupturing the blockage and stretching the vessel. Although the
procedure is usually successful in widening the blocked channel,
the artery often re-narrows within six months of the procedure,
a process called restenosis, often necessitating a
repeat procedure. A variety of techniques for use in conjunction
with PTCA have been developed in an attempt to reduce the
frequency of restenosis, including stent placement and
atherectomy. Stents are small metal frames delivered to the area
of blockage using a balloon catheter and deployed or expanded
within the coronary artery. The stent is a permanent implant
intended to keep the channel open. Atherectomy is a means of
using mechanical, laser or other techniques at the tip of a
catheter to cut or grind away plaque.

CABG is an open chest procedure developed in the
1960s in which conduit vessels are taken from elsewhere in the
body and grafted to the blocked coronary arteries so that blood
can bypass the blockage. CABG typically requires the use of a
heart-lung bypass machine to render the heart inactive (to allow
the surgeon to operate on a still, relatively bloodless heart)
and involves prolonged hospitalization and patient recovery
periods. Accordingly, it is generally reserved for patients with
severe cases of coronary artery disease or those who have
previously failed to receive adequate relief of their symptoms
from PTCA or related techniques. Most bypass grafts fail within
one to fifteen years following the procedure. Repeating the
surgery (re-do bypass surgery) is possible, but is
made more difficult because of scar tissue and adhesions that
typically form as a result of the first operation. Moreover, for
many patients CABG is inadvisable for various reasons, such as
the severity of the patients overall condition, the extent
of coronary artery disease or the small size of the blocked
arteries.

When these treatment options are exhausted, the
patient is left with no viable surgical or interventional
alternative other than, in limited cases, heart transplantation.
Without a viable surgical alternative, the patient is generally
managed with drug therapy, often with significant lifestyle
limitations. TMR, which bears the CE Marking and has
received FDA approval, and PMR, which bears the CE Marking and
for which we are continuing to pursue FDA approval for use in
the U.S., offer potential relief to a large population of
patients with severe cardiovascular disease.

The TMR and PMR Procedures

TMR is a surgical procedure performed on the
beating or non-beating heart, in which a laser device is used to
create pathways through the myocardium directly into the heart
chamber. The pathways are intended

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to supply blood to ischemic, or oxygen-deprived
regions of the myocardium and reduce angina in the patient. TMR
can be performed using open chest surgery or minimally invasive
surgery through a small incision between the ribs. TMR offers
end-stage cardiac patients who have regions of ischemia not
amenable to PTCA or CABG a means to alleviate their symptoms and
improve their quality of life. We have received FDA approval for
U.S. commercial distribution of our TMR laser system for
treatment of stable patients with angina (Canadian
Cardiovascular Society Class 4) refractory to medical
treatment and secondary to objectively demonstrated coronary
artery atherosclerosis and with a region of the myocardium with
reversible ischemia not amenable to direct coronary
revascularization.


PMR is an interventional procedure performed by a
cardiologist. PMR is based upon the same principles as TMR, but
the procedure is much less invasive. The patient is under local
anesthesia and is treated through a catheter inserted in the
femoral artery at the top of the leg. A laser transmitting
catheter is threaded up into the heart chamber, where channels
are created in the inner portion of the myocardium
(i.e. heart muscle). We have completed pivotal clinical
trials involving PMR, and study results were submitted to the
FDA in a Pre Market Approval application in December 1999
along with subsequent amendments. As discussed below under the
caption Regulatory Status, the FDA Advisory Panel
recommended against approval of PMR for public sale and use in
the United States. In February 2003, the FDA granted an
independent panel review of our pending PMA application for PMR
by the Medical Devices Dispute Resolution Panel. We expect the
Dispute Resolution Panel to convene in the second quarter of
2003. There can be no assurance, however, that we will receive a
favorable decision from the FDA.

Business Strategy

Our objective is to become a recognized leader in
the field of myocardial revascularization, with TMR and PMR
established as well-known and acceptable therapies. Our
strategies to achieve this goal are as follows:



| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  Expand Market for our
    Products. We are seeking to expand market awareness of our
    products among opinion leaders in the cardiovascular field, the
    referring physician community and the targeted patient
    population. In connection with the FDA approved TMR product, we
    have prioritized our efforts in the U.S. on the top 600
    hospitals that perform the greatest number of cardiovascular
    procedures. We also sell our products in Europe and to the rest
    of the world through our direct international sales organization
    along with several distributors and agents. In addition, we have
    developed a comprehensive training program to assist physicians
    in acquiring the expertise necessary to utilize our TMR or PMR
    products and procedures.                                                  
|
| |  Demonstrate Clinical Utility of
    PMR. We are seeking to demonstrate the clinical safety and
    effectiveness of PMR. We have completed a pivotal clinical trial
    regarding PMR, and the study results were submitted to the FDA
    in a Pre Market Approval Supplemental application in December
    1999. As discussed below under the caption Regulatory
    Status, the FDA Advisory Panel recommended against
    approval of PMR for public sale and use in the United States. In
    February 2003, the FDA granted an independent panel review of
    our pending PMA application for PMR by the Medical Devices
    Dispute Resolution Panel. We expect the Dispute Resolution Panel
    to convene in the second quarter of 2003. There can be no
    assurance, however, that we will receive a favorable decision
    from the FDA.
|
| |  Leverage Proprietary
    Technology. We believe that our significant expertise in
    laser and catheter-based systems for cardiovascular disease and
    the proprietary technologies we have developed are important
    factors in our efforts to demonstrate the safety and
    effectiveness of our TMR and PMR procedures. We are seeking to
    develop additional proprietary technologies for TMR, PMR and
    related procedures. We have over 80 foreign and
    U.S. patents or allowed patent applications and more than
    150 U.S. and foreign patent applications pending
    relating to various aspects of TMR, PMR and other cardiovascular
    therapies.                                                                                                                                                                          

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Products and Technology



| |                         
| | ------------------------
| | The Companys TMR System

The Companys TMR system consists of our TMR
2000 laser console and a line of fiber-optic, laser-based
surgical tools. Each surgical tool utilizes an optical fiber
assembly to deliver laser energy from the source laser base unit
to the distal tip of the surgical handpiece or PMR catheter. The
compact base unit occupies a small amount of operating room
floor space, operates on a standard 208 or 220-volt power
supply, and is light enough to move within the operating room or
among operating rooms in order to use operating room space
efficiently. Moreover, the flexible fiberoptic assembly used to
deliver the laser energy to the patient enables ready access to
the patient and to various sites within the heart.

Our TMR system and related surgical procedures
are designed to be used without the requirement of the external
systems utilized with certain competitive TMR systems. For
example, our TMR 2000 system does not require electrocardiogram
synchronization, which monitors the electrical output of the
heart and times the use of the laser to minimize electrical
disruption of the heart, or transesophageal echocardiography,
which tests each application of the laser to the myocardium
during the TMR procedure to determine if the pathway has
penetrated through the myocardium into the heart chamber.

Our Holmium Laser.Our TMR 2000 laser base unit generates laser light of a 2.1
micron wavelength by photoelectric excitation of a solid state
holmium crystal. The holmium laser, because it uses a solid
state crystal as its source, is compact, reliable and requires
minimal maintenance.

SoloGrip.The single
use SoloGrip handpiece system contains multiple, fine
fiber-optic strands in a one millimeter diameter bundle. The
flexible fiber optic delivery system combined with the ergonomic
handpiece provides access for treating all regions of the left
ventricle.

The SoloGrip fiber-optic delivery system has an
easy to install connector which screws into the laser base unit,
and the device is pre-calibrated in the factory so it requires
no special preparation.



| |                         
| | ------------------------
| | The Companys PMR System

The Companys PMR System is currently sold
only outside the United States. The PMR System consists of the
PMR Laser and ECG Monitor.

Our PMR Laser.The
holmium laser base unit generates laser light of a
2.1 micron wavelength in the mid-infrared spectrum. It
provides a reliable source for laser energy with low maintenance.

The Axcis Catheter
system.The Axcis catheter system is
an over-the-wire system that consists of two components, the
Axcis laser catheter and Axcis aligning catheter. The Axcis
catheter system is designed to provide controlled navigation and
access to target regions of the left ventricle. The coaxial
Axcis laser catheter has an independent, extendible lens with
radiopaque lens markers which show the location and orientation
of the tip for optimal contact with the ventricle wall. The
Axcis laser catheter also has nitinol petals at the laser-lens
tip which are designed for safe penetration of the endocardium
and to provide depth control.

Regulatory Status

On February 11, 1999, we received approval
from the FDA for use of our TMR 2000 laser console and
SoloGrip handpiece for treatment of stable patients with angina
(Canadian Cardiovascular Society Class 4) refractory to
other medical treatments and secondary to objectively
demonstrated coronary artery atherosclerosis and with a region
of the myocardium with reversible ischemia not amenable to
direct coronary revascularization.

We have completed pivotal clinical trials
involving PMR and study results were submitted in a PMA
application to the FDA in December 1999 along with subsequent
amendments. The PMR study compares PMR to conventional medical
therapy in patients with no option for other treatment. In July
2001, the FDA Advisory Panel recommended against approval by the
FDA of our PMR device for public sale and use in the United
States. In February 2003, the FDA granted an independent panel
review of our pending PMA

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application for PMR by the Medical Devices
Dispute Resolution Panel. We expect the Dispute Resolution Panel
to convene in the second quarter of 2003. There can be no
assurance, however, that we will receive a favorable decision
from the FDA.


In addition, we have obtained approval to affix
the CE Marking to substantially all of our products, which
enables us to commercially distribute our TMR and PMR products
throughout the European Community.

Sales and Marketing

We have received FDA approval for our surgical
TMR laser system. The Health Care Finance Administration has
also announced its coverage policy for the TMR with FDA approved
systems. We are promoting market awareness of our approved
surgical products among opinion leaders in the cardiovascular
field and are recruiting physicians and hospitals.

In the United States, we currently offer a laser
base unit at a current end user list price of $355,000 per unit,
and the disposable TMR handpiece (at least one of which
must be used with each TMR procedure) at an end user unit list
price of $2,995. In order to accelerate market adoption of the
TMR procedure, we intend to continue to either sell lasers to
hospitals outright or loan lasers to hospitals in return for the
hospital purchasing a minimum number of handpieces at a premium
over the list price.

Internationally, we sell our products through a
direct sales and support organization and distributors and
agents.

We have developed, in conjunction with several
major hospitals using our TMR or PMR products, a training
program to assist physicians in acquiring the expertise
necessary to utilize our products and procedures. This program
includes a comprehensive one-day course including didactic
training and hands-on performance of TMR or PMR in vivo. To date
over 1,100 cardiothoracic surgeons have been trained on the
CardioGenesis TMR system.

We exhibit our products at major cardiovascular
meetings. Investigators of our products have made presentations
at meetings around the world, describing their results.
Abstracts and articles have been published in peer-reviewed
publications and industry journals to present the results of our
clinical trials.

Research and Development

We believe that streamlining our research and
product effort is essential to our ability to stimulate growth
and maintain our market leadership position. Our ongoing
research and product development efforts are focused on the
development of new and enhanced lasers and fiber-optic
handpieces for TMR and PMR applications.

We believe our future success will depend, in
part, upon the success of our research and development programs.
There can be no assurance that we will realize financial benefit
from these efforts or that products or technologies developed by
others will not render our products or technologies obsolete or
non-competitive.

Manufacturing

We outsource the manufacturing and assembly of
our TMR and PMR handpiece systems to a contract manufacturer. We
are currently exploring manufacturing outsourcing options for
the TMR 2000 laser. The PMR laser system is provided to us under
a manufacturing agreement with a laser manufacturing company.

Certain components of our laser units and
fiber-optic handpieces are generally acquired from multiple
sources. Other laser and fiber-optic components and
subassemblies are purchased from single sources. Although we
have identified alternative vendors, the qualification of
additional or replacement vendors for certain components or
services is a lengthy process. Any significant supply
interruption would have a material adverse effect on the ability
to manufacture our products and, therefore, would harm our
business. We intend to continue to qualify multiple sources for
components that are presently single sourced.

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Competition

We expect that the market for TMR and PMR, which
is currently in the early stages of development, will be
competitive. At this point in time, we believe that our only
competitor is PLC Systems, Inc. (PLC) which is
selling FDA-approved TMR products in the U.S. and abroad.
Other competitors may also enter the market, including large
companies in the laser and cardiac surgery markets. Many of
these companies have or may have significantly greater
financial, research and development, marketing and other
resources than we do.

PLC is a publicly traded corporation which uses a
CO2 laser and an articulated mechanical arm in its TMR products.
PLC obtained a Pre Market Approval for TMR in 1998. PLC has
received the CE Marking, which allows sales of its products
commercially in all European Union countries. PLC has been
issued patents for its apparatus and methods for TMR. Edwards
Life Sciences has exercised its option to assume full sales and
marketing responsibility in the U.S. for PLCs
TMR Heart Laser 2 System and associated kits pursuant
to a co-marketing agreement between the two companies that was
signed in January 2001.

We believe that the factors which will be
critical to market success include: the timing of receipt of
requisite regulatory approvals, effectiveness and ease of use of
the TMR products and applications, breadth of product line,
system reliability, brand name recognition, effectiveness of
distribution channels and cost of capital equipment and
disposable devices.

TMR and PMR also compete with other methods for
the treatment of cardiovascular disease, including drug therapy,
PTCA and CABG. Even with the FDA approval of our TMR system in
patients for whom other cardiovascular treatments are not likely
to provide relief, and when used in conjunction with other
treatments, we can not assure you that our TMR or PMR products
will be accepted. Moreover, technological advances in other
therapies for cardiovascular disease such as pharmaceuticals or
future innovations in cardiac surgery techniques could make such
other therapies more effective or lower in cost than our TMR
procedure and could render our technology obsolete. We can not
assure you that physicians will use our TMR procedure to replace
or supplement established treatments, or that our TMR procedure
will be competitive with current or future technologies. Such
competition could harm our business.

Our TMR laser system and any other product
developed by us that gains regulatory approval will face
competition for market acceptance and market share. An important
factor in such competition may be the timing of market
introduction of competitive products. Accordingly, the relative
pace at which we can develop products, complete clinical
testing, achieve regulatory approval, gain reimbursement
acceptance and supply commercial quantities of the product to
the market are expected to be important competitive factors. In
the event a competitor is able to obtain a PMA for its products
prior to our doing so, we may not be able to compete
successfully. We may not be able to compete successfully against
current and future competitors even if we obtain a PMA prior to
our competitors.

Government Regulation

Laser-based surgical products and disposable
fiber-optic accessories for the treatment of advanced
cardiovascular disease through TMR are considered medical
devices, and as such are subject to regulation in the
U.S. by the FDA and comparable international regulatory
agencies. Our devices require the rigorous PMA process for
approval to market the product in the U.S. and must bear
the CE Marking for commercial distribution in the European
Community.

To obtain a Pre Market Approval (PMA)
for a medical device, we must file a PMA application that
includes clinical data and the results of pre-clinical and other
testing sufficient to show that there is a reasonable assurance
of safety and effectiveness of the product for its intended use.
To begin a clinical study, an Investigational Device Exemption
(IDE) must be obtained and the study must be
conducted in accordance with FDA regulations. An IDE application
must contain preclinical test data demonstrating the safety of
the product for human investigational use, information on
manufacturing processes and procedures, and proposed clinical
protocols. If the FDA clears the IDE application, human clinical
trials may begin. The results obtained from these trials are
accumulated and, if satisfactory, are submitted to the FDA in
support of a PMA application. Prior to U.S. commercial
distribution, premarket approval is required from the FDA. In

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addition to the results of clinical trials, the
PMA application must include other information relevant to the
safety and effectiveness of the device, a description of the
facilities and controls used in the manufacturing of the device,
and proposed labeling. By law, the FDA has 180 days to
review a PMA application. While the FDA has responded to PMA
applications within the allotted time frame, reviews more often
occur over a significantly longer period and may include
requests for additional information or extensive additional
trials. There can be no assurance that we will not be required
to conduct additional trials which may result in substantial
costs and delays, nor can there be any assurance that a PMA will
be obtained for each product in a timely manner, if at all. In
addition, changes in existing regulations or the adoption of new
regulations or policies could prevent or delay regulatory
approval of our products. Furthermore, even if a PMA is granted,
subsequent modifications of the approved device or the
manufacturing process may require a supplemental PMA or the
submission of a new PMA which could require substantial
additional clinical efficacy data and FDA review. After the FDA
accepts a PMA application for filing, and after FDA review of
the application, a public meeting is frequently held before an
FDA advisory panel in which the PMA is reviewed and discussed.
The panel then issues a favorable or unfavorable recommendation
to the FDA or recommends approval with conditions. Although the
FDA is not bound by the panels recommendations, it tends
to give such recommendations significant weight. In February
1999, we received a PMA for our TMR laser system for use in
certain indications. As discussed above under the caption
Regulatory Status, the FDA Advisory Panel
recommended against approval of PMR for public sale and use in
the United States. In February 2003, the FDA granted an
independent panel review of our pending PMA application for PMR
by the Medical Devices Dispute Resolution Panel. We expect the
Dispute Resolution Panel to convene in the second quarter of
2003. There can be no assurance, however, that we will receive a
favorable decision from the FDA.


Products manufactured or distributed by us
pursuant to a PMA will be subject to pervasive and continuing
regulation by the FDA, including, among other things, postmarket
surveillance and adverse event reporting requirements. Failure
to comply with applicable regulatory requirements can result in,
among other things, warning letters, fines, suspensions or
delays of approvals, seizures or recalls of products, operating
restrictions or criminal prosecutions. The Federal Food, Drug
and Cosmetic Act requires us to manufacture our products in
registered establishments and in accordance with Good
Manufacturing Practices (GMP) regulations and to
list our devices with the FDA. Furthermore, as a condition to
receipt of a PMA, our facilities, procedures and practices will
be subject to additional pre-approval GMP inspections and
thereafter to ongoing, periodic GMP inspections by the FDA.
These GMP regulations impose certain procedural and
documentation requirements upon us with respect to manufacturing
and quality assurance activities. Labeling and promotional
activities are subject to scrutiny by the FDA. Current FDA
enforcement policy prohibits the marketing of approved medical
devices for unapproved uses. Changes in existing regulatory
requirements or adoption of new requirements could harm our
business. We may be required to incur significant costs to
comply with laws and regulations in the future and current or
future laws and regulations may harm our business.

We are also regulated by the FDA under the
Radiation Control for Health and Safety Act, which requires
laser products to comply with performance standards, including
design and operation requirements, and manufacturers to certify
in product labeling and in reports to the FDA that our products
comply with all such standards. The law also requires laser
manufacturers to file new product and annual reports, maintain
manufacturing, testing and sales records, and report product
defects. Various warning labels must be affixed and certain
protective devices installed, depending on the class of the
product. In addition, we are subject to California regulations
governing the manufacture of medical devices, including an
annual licensing requirement. Our facilities are subject to
ongoing, periodic inspections by the FDA and California
regulatory authorities.

Sales, manufacturing and further development of
our TMR and PMR systems also may be subject to additional
federal regulations pertaining to export controls and
environmental and worker protection, as well as to state and
local health, safety and other regulations that vary by locality
and which may require obtaining additional permits. We can not
predict the impact of these regulations on our business.

Sales of medical devices outside of the
U.S. are subject to foreign regulatory requirements that
vary widely by country. In addition, the FDA must approve the
export of devices to certain countries. To market in

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Europe, a manufacturer must obtain the
certifications necessary to affix to its products the CE
Marking. The CE Marking is an international symbol of adherence
to quality assurance standards and compliance with applicable
European medical device directives. In order to obtain and to
maintain a CE Marking, a manufacturer must be in compliance with
appropriate ISO 9001 standards and obtain certification of
its quality assurance systems by a recognized European Union
notified body. However, certain individual countries within
Europe require further approval by their national regulatory
agencies. We have achieved International Standards Organization
and European Union certification for our manufacturing facility.
In addition, we have completed CE mark registration for all of
our products in accordance with the implementation of various
medical device directives in the European Union. Failure to
maintain the right to affix the CE Marking or other
requisite approvals could prohibit us from selling our TMR and
PMR products in member countries of the European Union or
elsewhere.


Intellectual Property Matters

Our success depends, in part, on our ability to
obtain patent protection for our products, preserve our trade
secrets, and operate without infringing the proprietary rights
of others. Our policy is to seek to protect our proprietary
position by, among other methods, filing U.S. and foreign
patent applications related to our technology, inventions and
improvements that are important to the development of our
business. We have over 80 U.S. and foreign patents or
allowed patent applications and more than 150 U.S. and
foreign patent applications pending relating to various aspects
of TMR, PMR and other cardiovascular therapies. Our patents or
patent applications may be challenged, invalidated or
circumvented in the future or the rights granted may not provide
a competitive advantage. We intend to vigorously protect and
defend our intellectual property. We do not know if patent
protection will continue to be available for surgical methods in
the future. Costly and time-consuming litigation brought by us
may be necessary to enforce our patents and to protect our trade
secrets and know-how, or to determine the enforceability, scope
and validity of the proprietary rights of others.

We also rely upon trade secrets, technical
know-how and continuing technological innovation to develop and
maintain our competitive position. We typically require our
employees, consultants and advisors to execute confidentiality
and assignment of inventions agreements in connection with their
employment, consulting, or advisory relationships with us. These
agreements may be breached and we may not have adequate remedies
for any breach. Furthermore, our competitors may independently
develop substantially equivalent proprietary information and
techniques or otherwise gain access to our proprietary
technology, or we may not be able to meaningfully protect our
rights in unpatented proprietary technology.

The medical device industry in general, and the
industry segment that includes products for the treatment of
cardiovascular disease in particular, have been characterized by
substantial competition and litigation regarding patent and
other intellectual property rights. In this regard, our
competitors have been issued a number of patents related to TMR
and PMR. There can be no assurance, however, that claims or
proceedings will not be initiated by a competitor, or that
claims by other parties will not arise in the future. In
particular, the introduction in the United States market of the
Companys PMR technology, should that occur, may create new
exposures to claims of infringement of third party patents. Any
such claims in the future, with or without merit, could be
time-consuming and expensive to respond to and could divert the
attention of our technical and management personnel. We may be
involved in litigation to defend against claims of our
infringement, to enforce our patents, or to protect our trade
secrets. If any relevant claims of third party patents are
upheld as valid and enforceable in any litigation or
administrative proceeding, we could be prevented from practicing
the subject matter claimed in such patents, or we could be
required to obtain licenses from the patent owners of each such
patent or to redesign our products or processes to avoid
infringement.

We can not assure that our current and potential
competitors and other third parties have not filed or in the
future will not file patent applications for, or have not
received or in the future will not receive, patents or obtain
additional proprietary rights that will prevent, limit or
interfere with our ability to make, use or sell our products
either in the U.S. or internationally. In the event we were
to require licenses to patents issued to third parties, such
licenses may not be available or, if available, may not be
available on terms acceptable to us. In addition, we may not be
successful in any attempt to redesign our products or processes
to avoid infringement

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or that any such redesign could be accomplished
in a cost-effective manner. Accordingly, an adverse
determination in a judicial or administrative proceeding or
failure to obtain necessary licenses could prevent us from
manufacturing and selling our products, which would harm our
business.


Third Party Reimbursement

We expect that sales volumes and prices of our
products will depend significantly on the availability of
reimbursement for surgical procedures using our products from
third party payors such as governmental programs, private
insurance and private health plans. Reimbursement is a
significant factor considered by hospitals in determining
whether to acquire new equipment. Reimbursement rates from third
party payors vary depending on the third party payor, the
procedure performed and other factors. Moreover, third party
payors, including government programs, private insurance and
private health plans, have in recent years been instituting
increasing cost containment measures designed to limit payments
made to healthcare providers by, among other measures, reducing
reimbursement rates, limiting services covered, negotiating
prospective or discounted contract pricing and carefully
reviewing and increasingly challenging the prices charged for
medical products and services.

Medicare reimburses hospitals on a prospectively
determined fixed amount for the costs associated with an
in-patient hospitalization based on the patients discharge
diagnosis, and reimburses physicians on a prospectively
determined fixed amount based on the procedure performed,
regardless of the actual costs incurred by the hospital or
physician in furnishing the care and unrelated to the specific
devices used in that procedure. Medicare and other third party
payors are increasingly scrutinizing whether to cover new
products and the level of reimbursement for covered products. In
addition, Medicare traditionally has considered items or
services involving devices that have not been approved or
cleared for marketing by the FDA to be precluded from Medicare
coverage. In July 1999, Centers for Medicare and Medicaid
Services (CMS), formerly known as HCFA, began
coverage of FDA approved TMR systems for any manufacturers
TMR procedures. In October of 1999, CMS further clarified its
coverage policy to include coverage of TMR when performed as an
adjunctive to Coronary Artery Bypass Graft.

We have limited experience to date with the
acceptability of our TMR procedures for reimbursement by private
insurance and private health plans. Private insurance and
private health plans may not approve reimbursement for TMR or
PMR. The lack of private insurance and health plans
reimbursement may harm our business. Based on physician
feedback, we know that private insurers are reimbursing
hospitals and physicians when the procedure is performed on
non-Medicare patients. In May 2001, Blue Cross/Blue
Shields Technology Evaluation Center (TEC)
assessed our therapy and confirmed that both TMR and TMR used as
an adjunct to bypass surgery, improves net health
outcomes. While TEC decisions are not binding, many Blue
Cross/Blue Shield plans and other third-party payers use the
center as a benchmark and adopt into policy those therapies that
meet the TEC assessment.

In foreign markets, reimbursement is obtained
from a variety of sources, including governmental authorities,
private health insurance plans and labor unions. In most foreign
countries, there are also private insurance systems that may
offer payments for alternative therapies. Although not as
prevalent as in the U.S., health maintenance organizations are
emerging in certain European countries. We may need to seek
international reimbursement approvals, and we may not be able to
attain these approvals in a timely manner, if at all. Failure to
receive foreign reimbursement approvals could make market
acceptance of our products in the foreign markets in which such
approvals are sought more difficult.

We believe that reimbursement in the future will
be subject to increased restrictions such as those described
above, both in the U.S. and in foreign markets. We also
believe that the escalating cost of medical products and
services has led to and will continue to lead to increased
pressures on the health care industry, both foreign and
domestic, to reduce the cost of products and services, including
products offered by us. Third party reimbursement and coverage
may not be available or adequate in U.S. or foreign
markets, current levels of reimbursement may be decreased in the
future or future legislation, regulation, or reimbursement
policies of third party payors may reduce the demand for our
products or our ability to sell our products on a profitable
basis. Fundamental reforms in the healthcare industry in the
U.S. and Europe that could affect the availability

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of third party reimbursement continue to be
proposed, and we cannot predict the timing or effect of any such
proposal. If third party payor coverage or reimbursement is
unavailable or inadequate, our business may suffer.


Product Liability and Insurance

We maintain insurance against product liability
claims in the amount of $10 million per occurrence and
$10 million in the aggregate. We may not be able to obtain
additional coverage or continue coverage in the amount desired
or on terms acceptable to us, and such coverage may not be
adequate for liabilities actually incurred. Any uninsured or
underinsured claim brought against us or any claim or product
recall that results in a significant cost to or adverse
publicity against us could harm our business.

Employees

As of December 31, 2002 we had 38 employees,
of which 17 employees were in sales and marketing. In November
2001, we entered into an employment agreement with Michael J.
Quinn, our Chief Executive Officer. The agreement was
subsequently amended in July 2002. In June 2002, we entered into
an employment agreement with Darrell F. Eckstein, our President,
Chief Operating Officer and Acting Chief Financial Officer. None
of our employees are covered by a collective bargaining
agreement and we have not experienced any work stoppages to date.

Our executive officers as of March 31, 2003
are as follows:

|                      |  |     |    |          |  |                                                                                                                              
|--------------------- |  | --- | -- | -------- |  | -----------------------------------------------------------------------------------------------------------------------------
|Name                  |  | Age |    | Position
|                      |  |     |    |         
|Michael J. Quinn      |  |     | 59 |          |  | Chief Executive Officer, Chairman of the Board
    and Director                                                              
|Darrell F. Eckstein   |  |     | 45 |          |  | President, Chief Operating Officer, Acting Chief
    Financial Officer, Chief Accounting Officer, Treasurer and
    Secretary
|Richard P. Lanigan    |  |     | 44 |          |  | Vice President of Government Affairs and Business
    Development                                                            
|Henry R. Rossell, Jr. |  |     | 47 |          |  | Senior Vice President of Worldwide Sales and
    Marketing                                                                   

Michael J. Quinnhas
served as our Chief Executive Officer, Chairman of the Board and
Director since October 2000 and also President from October
2000 to May 2002. From November 1999 to
September 2000, Mr. Quinn served as Chief Executive
Officer, President and a member of the Board of Directors for
Premier Laser Systems, a manufacturer of surgical and dental
products. From January 1998 to November 1999,
Mr. Quinn served as President and Chief Operating Officer
of Imagyn Medical Technologies, Inc., a manufacturer of
minimally invasive surgical specialty products. From 1995
through December 1997, Mr. Quinn served as President and
Chief Operating Officer of Fisher Scientific Company. Prior to
1995, Mr. Quinn held senior operating management positions
at major healthcare organizations including American Hospital
Supply Corporation, Picker International, Cardinal Health Group
and Bergen Brunswig.

Darrell F. Ecksteinhas served as our President and Chief Operating Officer since
May 2002, in addition to serving as Acting Chief Financial
Officer, Chief Accounting Officer, Treasurer and Secretary since
January 2002. Mr. Eckstein served as our Vice President of
Operations from December 2000 to January 2002. From 1996 to 2000
he served as Vice President and General Manager of the Surgical
Products Division of Imagyn Medical Technologies, a manufacturer
of minimally invasive surgical specialty products. From 1995 to
1996, Mr. Eckstein was Vice President of Finance, Chief
Financial Officer and an Executive Committee member of
Richard-Allen Medical Industries Inc., a medical devices
company. From 1991 to 1995, Mr. Eckstein was Vice President
of Finance, Chief Financial Officer and an Executive Committee
member of National Emergency Services Inc., a health care
services company that provides physician contract management,
medical billing and insurance services. Prior to 1991,
Mr. Eckstein worked for Deloitte and Touche, most recently
as a Senior Audit Manager, for 11 years. He received his
Bachelor of Science degree in Accounting from Indiana University.

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Richard P. Laniganhas been our Vice President of Government Affairs and Business
Development since March 2001, Vice President of Sales and
Marketing since March 2000 and Director of Marketing since 1997.
From 1992 to 1997, Mr. Lanigan served in various positions,
most recently Marketing Manager, at Stryker Endoscopy. From 1987
to 1992, Mr. Lanigan served in Manufacturing and Operations
management at Raychem Corporation. From 1981 to 1987, he served
in the U.S. Navy where he completed six years of service as
Lieutenant in the Supply Corps. Mr. Lanigan has a Bachelors
of Arts in Finance from Notre Dame and a Masters degree in
Systems Management from the University of Southern California.

Henry R. Rossell, Jr.has been our Senior Vice President of
Worldwide Sales and Marketing since January 2003. From 1999 to
2002, Mr. Rossell served as Senior Vice-President, Sales
and Marketing, Surgical Products Division at Imagyn Medical
Technologies, Inc. From 1998 to 1999, he served as Vice
President of the Education Services Group at Medascend, Inc.
From 1994 to 1998, Mr. Rossell served as Vice President of
Sales at Deknatel Snowden-Pencer and at Genzyme Surgical
Products following the acquisition of Deknatel by Genzyme. Prior
to Genzyme, Mr. Rossell spent 17 years in several
sales management positions at Baxter Healthcare International
where his most recently held position was Area Vice President,
Corporate Sales and Marketing. Mr. Rossell has a Bachelors
of Arts in History from Duke University.

Risk Factors

In addition to the other information included in
this Form 10-K, the following risk factors should be
considered carefully in evaluating us and our business.



| |                                                                                                                    
| | -------------------------------------------------------------------------------------------------------------------
| | Our ability to maintain current operations is
    dependent upon achieving profitable operations
    in the future.

We will have a continuing need for new infusions
of cash until revenues are increased to meet our operating
expenses. We plan to increase our sales through increased direct
sales and marketing efforts on existing products and achieving
regulatory approval for other products. If we are unable to
increase our sales or achieve regulatory approval for our
products, we will be unable to significantly increase our
revenues. We believe that if we are unable to generate
sufficient funds from sales or from debt or equity issuances to
maintain our current expenditure rate, it will be necessary to
significantly reduce our operations. We may be required to seek
additional sources of financing, which could include short-term
debt, long-term debt or equity. There is a risk that we may be
unsuccessful in obtaining such financing and will not have
sufficient cash to fund our operations.

We have incurred significant losses since
inception. Our revenues and operating income will be constrained:



| |   |                                                                                                                                                 
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------
| |  | until such time, if ever, as we obtain broad
    commercial adoption of our TMR laser systems by healthcare
    facilities in the United States;
|
| |  | until such time, if ever, as we obtain FDA and
    other regulatory approvals for our PMR laser systems; and                                    
|
| |  | for an uncertain period of time after such
    approvals are obtained.                                                                          

We may not achieve or sustain profitability in
the future.



| |                                                                                    
| | -----------------------------------------------------------------------------------
| | Our common stock could be delisted in the
    future by the Nasdaq SmallCap Market.

The stock market has experienced significant
price and volume fluctuations that have particularly affected
the trading prices of equity securities of many high technology
companies. These fluctuations have often been unrelated or
disproportionate to the operating performance of many of these
companies. Any negative change in the publics perception
of medical device companies could depress our stock price
regardless of our operating results.

On October 2, 2002, the trading of our
common stock was transferred from the Nasdaq National Market to
the Nasdaq SmallCap Market because we did not meet the minimum
$1.00 per share closing bid price

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requirement for continued listing on the Nasdaq
National Market. By transferring to the Nasdaq SmallCap Market,
we were given until December 24, 2002 to comply with the
minimum $1.00 per share closing bid price requirement,
which date was subsequently extended. Our common stock could be
delisted at any time by the Nasdaq SmallCap Market because we
have failed to comply with the minimum $1.00 per share
closing bid price requirement. Delisting from the Nasdaq
SmallCap Market could adversely affect the liquidity and price
of our common stock and it could have a long-term adverse impact
on our ability to raise capital in the future.




| |                                                                                                             
| | ------------------------------------------------------------------------------------------------------------
| | The price of our common stock may fluctuate
    significantly, which may result in losses for
    investors.

The market price of our common stock has been and
may continue to be volatile. For example, during the 52-week
period ended December 31, 2002, the closing prices of our
common stock as reported on Nasdaq ranged from a high of $1.25
to a low of $0.25. We expect our stock price to be subject to
fluctuations as a result of a variety of factors, including
factors beyond our control. These factors include:



| |   |                                                                                                     
| | - | ----------------------------------------------------------------------------------------------------
| |  | actual or anticipated variations in our quarterly
    operating results;                            
|
| |  | announcements of technological innovations or new
    products or services by us or our competitors;
|
| |  | announcements relating to strategic relationships
    or acquisitions;                              
|
| |  | changes in financial estimates by securities
    analysts;                                          
|
| |  | statements by securities analysts regarding us or
    our industry;                                 
|
| |  | conditions or trends in the medical device
    industry; and                                        
|
| |  | changes in the economic performance and/or market
    valuations of other medical device companies. 



| |                                                                                                                 
| | ----------------------------------------------------------------------------------------------------------------
| | We may fail to obtain required regulatory
    approvals in the United States to market our
    PMR laser system.

Our business could be harmed if any of the
following events, circumstances or occurrences related to the
regulatory process occurred thereby causing a reduction in our
revenues:



| |   |                                                                                                  
| | - | -------------------------------------------------------------------------------------------------
| |  | the failure to obtain regulatory approvals for
    our PMR system;                               
|
| |  | any significant limitations in the indicated uses
    for which our products may be marketed; and
|
| |  | substantial costs incurred in obtaining
    regulatory approvals.                                

The FDA has not approved our PMR laser system for
any application in the United States. In February 2003, the FDA
granted an independent panel review of our pending PMA
application for PMR by the Medical Devices Dispute Resolution
Panel. The Dispute Resolution Panel is expected to convene in
the second quarter of 2003. There is no assurance, however, that
we will receive a favorable decision from the FDA. We will not
be able to derive any revenue from the sale of that device in
the United States until such time, if any, that the FDA approves
the device. Such inability to realize revenue from sales of our
PMR device in the United States may have an adverse effect on
our results of operations.



| |                                                                               
| | ------------------------------------------------------------------------------
| | In the future, the FDA could restrict the
    current uses of our TMR product.

The FDA has approved our TMR product for sale and
use by physicians in the United States. At the request of the
FDA, we are currently conducting post-market surveillance of our
TMR product. However, if we should fail to meet the requirements
mandated by the FDA or fail to complete our post-market
surveillance study in an acceptable time period, the FDA could
withdraw its approval for the sale and use of our TMR product by
physicians in the United States. Additionally, though we are not
aware of any safety concerns during our on-going post-market
surveillance of our TMR product, if concerns over the safety of
our TMR product were to arise, the FDA could possibly restrict
the currently approved uses of our TMR product. In the future,
if the FDA were to withdraw its approval or restrict the range
of uses for which our TMR product can be used by physicians,
such as restricting TMRs use with the coronary artery
bypass grafting

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procedure, either outcome could lead to reduced
or no sales of our TMR product in the United States and our
business could be adversely affected.




| |                                                                                                                             
| | ----------------------------------------------------------------------------------------------------------------------------
| | We must comply with FDA manufacturing
    standards or face fines or other penalties including suspension
    of production.

We are required to demonstrate compliance with
the FDAs current good manufacturing practices regulations
if we market devices in the United States or manufacture
finished devices in the United States. The FDA inspects
manufacturing facilities on a regular basis to determine
compliance. If we fail to comply with applicable FDA or other
regulatory requirements, we can be subject to:



| |   |                                                
| | - | -----------------------------------------------
| |  | fines, injunctions, and civil penalties;       
|
| |  | recalls or seizures of products;               
|
| |  | total or partial suspensions of production; and
|
| |  | criminal prosecutions.                         

The impact on the company of any such failure to
comply would depend on the impact of the remedy imposed on us.



| |                                                                                                                                              
| | ---------------------------------------------------------------------------------------------------------------------------------------------
| | We may fail to comply with international
    regulatory requirements and could be subject to regulatory
    delays, fines or other penalties.

Regulatory requirements in foreign countries for
international sales of medical devices often vary from country
to country. In addition, the FDA must approve the export of
devices to certain countries. The occurrence and related impact
of the following factors would harm our business:



| |   |                                                                                             
| | - | --------------------------------------------------------------------------------------------
| |  | delays in receipt of, or failure to receive,
    foreign regulatory approvals or clearances;
|
| |  | the loss of previously obtained approvals or
    clearances; or                             
|
| |  | the failure to comply with existing or future
    regulatory requirements.                  

To market in Europe, a manufacturer must obtain
the certifications necessary to affix to its products the CE
Marking. The CE Marking is an international symbol of adherence
to quality assurance standards and compliance with applicable
European medical device directives. In order to obtain and to
maintain a CE Marking, a manufacturer must be in compliance
with the appropriate quality assurance provisions of the
International Standards Organization and obtain certification of
its quality assurance systems by a recognized European Union
notified body. However, certain individual countries within
Europe require further approval by their national regulatory
agencies.

We have completed CE mark registration for all of
our products in accordance with the implementation of various
medical device directives in the European Union. Failure to
maintain the right to affix the CE Marking or other
requisite approvals could prohibit us from selling our products
in member countries of the European Union or elsewhere. Any
enforcement action by international regulatory authorities with
respect to past or future regulatory noncompliance could cause
our business to suffer. Noncompliance with international
regulatory requirements could result in enforcement action such
as not being allowed to market our product in the European
Union, which would significantly reduce international revenue.

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| |                                                                                                                                                                                                                                                      
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Expansion of our business may put added
    pressure on our management and operational infrastructure
    affecting our ability to meet any increased demand for our
    products and possibly having an adverse effect on our operating
    results.

The growth in our business may place a
significant strain on our limited personnel, management,
financial systems and other resources. The evolving growth of
our business presents numerous risks and challenges, including:



| |   |                                                                                                                                                                  
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | the dependence on the growth of the market for
    our TMR and PMR systems;                                                                                      
|
| |  | our ability to successfully and rapidly expand
    sales to potential customers in response to potentially
    increasing clinical adoption of the TMR procedure;
|
| |  | the costs associated with such growth, which are
    difficult to quantify, but could be significant;                                                            
|
| |  | domestic and international regulatory
    developments;                                                                                                          
|
| |  | rapid technological change;                                                                                                                                      
|
| |  | the highly competitive nature of the medical
    devices industry; and                                                                                           
|
| |  | the risk of entering emerging markets in which we
    have limited or no direct experience.                                                                      

To accommodate any such growth and compete
effectively, we may need to obtain additional funding to improve
information systems, procedures and controls and expand, train,
motivate and manage our employees, and such funding may not be
available in sufficient quantities, if at all. If we are not
able to manage these activities and implement these strategies
successfully to expand to meet any increased demand, our
operating results could suffer.



| |                                                                                                                                               
| | ----------------------------------------------------------------------------------------------------------------------------------------------
| | Our operating results are expected to
    fluctuate and quarter-to-quarter comparisons of our results may
    not indicate future performance.

Our operating results have fluctuated
significantly from quarter-to-quarter and are expected to
continue to fluctuate significantly from quarter-to-quarter. We
believe that quarter-to-quarter comparisons of our operating
results are not a good indication of our future performance. Due
to the emerging nature of the markets in which we compete,
forecasting operating results is difficult and unreliable. Over
the past year, our revenue has been lower than anticipated,
largely attributable to the transition to our new sales
strategy. It is likely or possible that our operating results
for a future quarter will fall below the expectations of public
market analysts and investors. When this occurred in the past,
the price of our common stock fell substantially, and if this
occurs again, the price of our common stock may fall again,
perhaps substantially.



| |                                                                                                                                                                                                        
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | We may not be able to successfully market our
    products if third party reimbursement for the procedures
    performed with our products is not available for our health care
    provider customers.

Few individuals are able to pay directly for the
costs associated with the use of our products. In the United
States, hospitals, physicians and other healthcare providers
that purchase medical devices generally rely on third party
payors, such as Medicare, to reimburse all or part of the cost
of the procedure in which the medical device is being used.
Effective July 1, 1999 the Centers for Medicare and
Medicaid Services, (CMS) formerly the Health Care
Financing Administration, commenced Medicare coverage for TMR
systems for any manufacturers TMR procedures. Hospitals
and physicians are now eligible to receive Medicare
reimbursement covering 100% of the costs for TMR procedures. The
CMS has not approved reimbursement for PMR. If it does not in
the future provide reimbursement, our ability to successfully
market and sell our PMR products will be harmed.

Even though Medicare beneficiaries appear to
account for a majority of all patients treated with the TMR
procedure, the remaining patients are beneficiaries of private
insurance and private health plans. If private insurance and
private health plans do not provide reimbursement, our business
will suffer.

If we obtain the necessary foreign regulatory
registrations or approvals for our products, market acceptance
in international markets would be dependent, in part, upon the
availability of reimbursement

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within prevailing health care payment systems.
Reimbursement is a significant factor considered by hospitals in
determining whether to acquire new equipment. A hospital is more
inclined to purchase new equipment if third-party reimbursement
can be obtained. Reimbursement and health care payment systems
in international markets vary significantly by country. They
include both government sponsored health care and private
insurance. Although we expect to seek international
reimbursement approvals, any such approvals may not be obtained
in a timely manner, if at all. Failure to receive international
reimbursement approvals could hurt market acceptance of our TMR
and PMR products in the international markets in which such
approvals are sought, which would significantly reduce
international revenue.




| |                                                                                                                                                 
| | ------------------------------------------------------------------------------------------------------------------------------------------------
| | We face competition from our competitors
    products which could limit market acceptance of our products and
    render our products obsolete.

The market for TMR laser systems is competitive.
If our competitor is more effective in developing new products
and procedures and marketing existing and future products
similar to ours, our business will suffer. The market for TMR
laser systems is characterized by rapid technical innovation. We
currently compete with PLC Systems. Edwards Life Sciences has
exercised its option to assume full sales and marketing
responsibility in the U.S. for PLCs TMR Heart Laser 2
System and associated kits pursuant to a co-marketing agreement
between the two companies that was signed in January 2001. Our
current or future competitors may succeed in developing TMR
products or procedures that:



| |   |                                                        
| | - | -------------------------------------------------------
| |  | are more effective than our products;                  
|
| |  | are more effectively marketed than our products;
    or
|
| |  | may render our products or technology obsolete.        

If we obtain the FDAs approval for our PMR
laser system, we will face competition for market acceptance and
market share for that product. Our ability to compete may depend
in significant part on the timing of introduction of competitive
products into the market, and will be affected by the pace,
relative to competitors, at which we are able to:



| |   |                                                                 
| | - | ----------------------------------------------------------------
| |  | develop products;                                               
|
| |  | complete clinical testing and regulatory approval
    processes;
|
| |  | obtain third party reimbursement acceptance; and                
|
| |  | supply adequate quantities of the product to the
    market.    



| |                                                                                                                                                    
| | ---------------------------------------------------------------------------------------------------------------------------------------------------
| | Third parties may limit the development and
    protection of our intellectual property, which could adversely
    affect our competitive position.

Our success is dependent in large part on our
ability to:



| |   |                                                                                        
| | - | ---------------------------------------------------------------------------------------
| |  | obtain patent protection for our products and
    processes;                           
|
| |  | preserve our trade secrets and proprietary
    technology; and                         
|
| |  | operate without infringing upon the patents or
    proprietary rights of third parties.

The medical device industry has been
characterized by extensive litigation regarding patents and
other intellectual property rights. Companies in the medical
device industry have employed intellectual property litigation
to gain a competitive advantage. Certain competitors and
potential competitors of ours have obtained United States
patents covering technology that could be used for certain TMR
and PMR procedures. We do not know if such competitors,
potential competitors or others have filed and hold
international patents covering other TMR or PMR technology. In
addition, international patents may not be interpreted the same
as any counterpart United States patents.

15



---



##### Table of Contents



While we periodically review the scope of our
patents and other relevant patents of which we are aware, the
question of patent infringement involves complex legal and
factual issues. Any conclusion regarding infringement may not be
consistent with the resolution of any such issues by a court.



| |                                                                                
| | -------------------------------------------------------------------------------
| | Costly litigation may be necessary to protect
    intellectual property rights.

We may have to engage in time consuming and
costly litigation to protect our intellectual property rights or
to determine the proprietary rights of others. In addition, we
may become subject to patent infringement claims or litigation,
or interference proceedings declared by the United States Patent
and Trademark Office to determine the priority of inventions.

Defending and prosecuting intellectual property
suits, United States Patent and Trademark Office interference
proceedings and related legal and administrative proceedings are
both costly and time-consuming. We may be required to litigate
further to:



| |   |                                                                                          
| | - | -----------------------------------------------------------------------------------------
| |  | enforce our issued patents;                                                              
|
| |  | protect our trade secrets or know-how; or                                                
|
| |  | determine the enforceability, scope and validity
    of the proprietary rights of others.

Any litigation or interference proceedings will
result in substantial expense and significant diversion of
effort by technical and management personnel. If the results of
such litigation or interference proceedings are adverse to us,
then the results may:



| |   |                                                                          
| | - | -------------------------------------------------------------------------
| |  | subject us to significant liabilities to third
    parties;              
|
| |  | require us to seek licenses from third parties;                          
|
| |  | prevent us from selling our products in certain
    markets or at all; or
|
| |  | require us to modify our products.                                       

Although patent and intellectual property
disputes regarding medical devices are often settled through
licensing and similar arrangements, costs associated with such
arrangements may be substantial and could include ongoing
royalties. Furthermore, we may not be able to obtain the
necessary licenses on satisfactory terms, if at all.

Adverse determinations in a judicial or
administrative proceeding or failure to obtain necessary
licenses could prevent us from manufacturing and selling our
products. This would harm our business.

The United States patent laws have been amended
to exempt physicians, other health care professionals, and
affiliated entities from infringement liability for medical and
surgical procedures performed on patients. We are not able to
predict if this exemption will materially affect our ability to
protect our proprietary methods and procedures.



| |                                                                                                
| | -----------------------------------------------------------------------------------------------
| | We rely on patent and trade secret laws, which
    are complex and may be difficult to enforce.

The validity and breadth of claims in medical
technology patents involve complex legal and factual questions
and, therefore, may be highly uncertain. Issued patent or
patents based on pending patent applications or any future
patent application may not exclude competitors or may not
provide a competitive advantage to us. In addition, patents
issued or licensed to us may not be held valid if subsequently
challenged and others may claim rights in or ownership of such
patents.

Furthermore, we cannot assure you that our
competitors:



| |   |                                                                    
| | - | -------------------------------------------------------------------
| |  | have not developed or will not develop similar
    products;       
|
| |  | will not duplicate our products; or                                
|
| |  | will not design around any patents issued to or
    licensed by us.

16



---



##### Table of Contents



Because patent applications in the United States
were historically maintained in secrecy until the patents are
issued, we cannot be certain that:



| |   |                                                                                                         
| | - | --------------------------------------------------------------------------------------------------------
| |  | others did not first file applications for
    inventions covered by our pending patent applications; or
|
| |  | we will not infringe any patents that may issue
    to others on such applications.                     



| |                                                                                                                                                                                                                               
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | We may not be able to meet future product
    demand on a timely basis and may be subject to delays and
    interruptions to product shipments because we depend on single
    source third party suppliers and manufacturers.

Certain critical products and components for
lasers and disposable handpieces are purchased from single
sources. In addition, we are vulnerable to delays and
interruptions, for reasons out of our control, because we
outsource the manufacturing of some of these products to third
parties. We may experience harm to our business if these sources
have difficulties supplying our needs for these products and
components. In addition, we do not have long-term supply
contracts. As a result, these sources are not obligated to
continue to provide these critical products or components to us.
Although we have identified alternative suppliers and
manufacturers, a lengthy process would be required to qualify
them as additional or replacement suppliers or manufacturers.
Also, it is possible some of our suppliers or manufacturers
could have difficulty meeting our needs if demand for our TMR
and PMR laser systems were to increase rapidly or significantly.
In addition, any defect or malfunction in the laser or other
products provided by such suppliers and manufacturers could
cause a delay in regulatory approvals or adversely affect
product acceptance. Further, we cannot predict:



| |   |                                                                                                                                                                                             
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | if materials and products obtained from outside
    suppliers and manufacturers will always be available in adequate
    quantities to meet our future needs; or                            
|
| |  | whether replacement suppliers and/or
    manufacturers can be qualified on a timely basis if our current
    suppliers and/or manufacturers are unable to meet our needs for
    any reason.



| |                                                                                               
| | ----------------------------------------------------------------------------------------------
| | We may suffer losses from product liability
    claims if our products cause harm to patients.

We are exposed to potential product liability
claims and product recalls. These risks are inherent in the
design, development, manufacture and marketing of medical
devices. We could be subject to product liability claims if the
use of our TMR or PMR laser systems is alleged to have caused
adverse effects on a patient or such products are believed to be
defective. Our products are designed to be used in
life-threatening situations where there is a high risk of
serious injury or death. We are not aware of any material side
effects or adverse events arising from the use of our TMR
product. Though we are in the process of responding to the
FDAs Circulatory Devices Panels recent
recommendation against approval of our PMR product because of
concerns over the safety of the device and the data regarding
adverse events in the clinical trials, we believe there are no
material side effects or adverse events arising from the use of
our PMR product. When being clinically investigated, it is not
uncommon for new surgical or interventional procedures to result
in a higher rate of complications in the treated population of
patients as opposed to those reported in the control group. In
light of this, we believe that the difference in the rates of
complications between the treated groups and the control groups
in the clinical trials for our PMR product are not statistically
significant, which is why we believe that there are no material
side effects or material adverse events arising from the use of
our PMR product.

Any regulatory clearance for commercial sale of
these products will not remove these risks. Any failure to
comply with the FDAs good manufacturing practices or other
regulations could hurt our ability to defend against product
liability lawsuits.



| |                                                                                    
| | -----------------------------------------------------------------------------------
| | Our insurance may be insufficient to cover
    product liability claims against us.

Our product liability insurance may not be
adequate for any future product liability problems or continue
to be available on commercially reasonable terms, or at all.

17



---



##### Table of Contents



If we were held liable for a product liability
claim or series of claims in excess of our insurance coverage,
such liability could harm our business and financial condition.
We maintain insurance against product liability claims in the
amount of $10 million per occurrence and $10 million
in the aggregate.

We may require increased product liability
coverage as sales of approved products increase and as
additional products are commercialized. Product liability
insurance is expensive and in the future may not be available on
acceptable terms, if at all.



| |                                                                                                                        
| | -----------------------------------------------------------------------------------------------------------------------
| | We depend heavily on key personnel and
    turnover of key employees and senior management could harm our
    business.

During the last 15 months, we have had
significant changes in our senior management team. Our future
business and results of operations depend in significant part
upon the continued contributions of our key technical and senior
management personnel. They also depend in significant part upon
our ability to attract and retain additional qualified
management, technical, marketing and sales and support personnel
for our operations. If we lose a key employee or if a key
employee fails to perform in his or her current position, or if
we are not able to attract and retain skilled employees as
needed, our business could suffer. Further significant turnover
in our senior management could significantly deplete our
institutional knowledge held by our existing senior management
team. We depend on the skills and abilities of these key
employees in managing the manufacturing, technical, marketing
and sales aspects of our business, any part of which could be
harmed by further turnover.



| |                                                                                                                               
| | ------------------------------------------------------------------------------------------------------------------------------
| | We sell our products internationally which
    subjects us to specific risks of transacting business in foreign
    countries.

In future quarters, international sales may
become a significant portion of our revenue if our products
become more widely used outside of the United States. Our
international revenue is subject to the following risks, the
occurrence of any of which could harm our business:



| |   |                                                                   
| | - | ------------------------------------------------------------------
| |  | foreign currency fluctuations;                                    
|
| |  | economic or political instability;                                
|
| |  | foreign tax laws;                                                 
|
| |  | shipping delays;                                                  
|
| |  | various tariffs and trade regulations;                            
|
| |  | restrictions and foreign medical regulations;                     
|
| |  | customs duties, export quotas or other trade
    restrictions; and
|
| |  | difficulty in protecting intellectual property
    rights.        






|        |                         
|------- | ------------------------
|Item 2. | Description of Property.

Our headquarters, located in Foothill Ranch,
California, are comprised of 17,845 square feet of leased space.
The lease expires in July 2006. We believe our facilities are
adequate to meet our foreseeable requirements. There can be no
assurance that additional facilities will be available to us, if
and when needed, thereafter.






|        |                   
|------- | ------------------
|Item 3. | Legal Proceedings.

There are no pending legal proceedings against us
other than ordinary litigation incidental to our business, the
outcome of which, individually or in the aggregate, is not
expected to have a material adverse effect on our business or
financial condition.

18



---



##### Table of Contents








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

None.




PART II






|        |                                                                   
|------- | ------------------------------------------------------------------
|Item 5. | Market for Registrants Shares and Related
    Shareholder Matters.

(a)Our common
stock is traded on the Nasdaq SmallCap Market under the symbol
CGCPC. For the periods indicated, the following table presents
the range of high and low sale prices for the common stock as
reported by the Nasdaq National Market and on the Nasdaq
SmallCap Market, effective in the fourth quarter of 2002.

|               |  |      |      |     |  |   |      | 
|-------------- |  | ---- | ---- | --- |  | - | ---- | 
|2002           |  | High |      | Low
|               |  |      |      |    
|First Quarter  |  | $    | 1.25 |     |  | $ | 0.65 | 
|Second Quarter |  | $    | 1.20 |     |  | $ | 0.67 | 
|Third Quarter  |  | $    | 0.99 |     |  | $ | 0.56 | 
|Fourth Quarter |  | $    | 0.93 |     |  | $ | 0.25 | 

|               |  |      |      |     |  |   |      | 
|-------------- |  | ---- | ---- | --- |  | - | ---- | 
|2001           |  | High |      | Low
|               |  |      |      |    
|First Quarter  |  | $    | 2.28 |     |  | $ | 0.81 | 
|Second Quarter |  | $    | 3.12 |     |  | $ | 0.91 | 
|Third Quarter  |  | $    | 2.98 |     |  | $ | 0.60 | 
|Fourth Quarter |  | $    | 1.65 |     |  | $ | 0.65 | 

As of December 31, 2002 shares of our common
stock were held by 195 shareholders of record.

We have never paid a cash dividend on our common
stock and do not anticipate paying any cash dividends in the
foreseeable future, as we intend to retain our earnings, if any,
to generate increased growth and for general corporate purposes.

Pursuant to a Share Purchase Agreement, dated
April 11, 2001, we sold 2,000,000 shares of common stock to
the State of Wisconsin Investment Board (SWIB) for a
total price of $2,000,000, in reliance upon the exemption from
registration provided by Section 4(2) and Rule 506 of
the Securities Act of 1933, as amended (the Securities
Act).

In connection with entering into our facilities
lease at 26632 Towne Centre Dr., Suite 320, Foothill Ranch,
California, we issued a Common Stock Purchase Warrant covering
75,000 shares of common stock for an exercise price of $1.63 a
share. The warrants are immediately exercisable at any time
prior to May 7, 2006. This Common Stock Purchase Warrant
was issued in reliance upon the exemption from registration
provided by Section 4(2) and Rule 506 of the
Securities Act.

Pursuant to a Share Purchase Agreement, dated
December 21, 2001, we sold 2,222,225 shares of common stock
to SWIB for a total price of $2,000,000 in reliance upon the
exemption from registration provided by Section 4(2) and
Rule 506 of the Securities Act.

Pursuant to a Share Purchase Agreement, dated
April 10, 2002, the Company sold 500,000 shares of common
stock to SWIB for a total price of $500,000, in reliance upon
the exemption from registration provided by Section 4(2)
and Rule 506 of the Securities Act.






|        |                                          
|------- | -----------------------------------------
|Item 6. | Selected Consolidated Financial
    Data.

The following selected consolidated statement of
operations data for fiscal years ended 2002, 2001 and 2000 and
the consolidated balance sheet data for 2002 and 2001 set forth
below are derived from our consolidated financial statements and
are qualified by reference to our consolidated financial
statements included herein.

19



---



##### Table of Contents



The selected consolidated statement of operations
data for fiscal year ended 1998 and the consolidated balance
sheet data for 1999 and 1998 have been derived from our audited
consolidated financial statements not included herein. These
historical results are not necessarily indicative of the results
of operations to be expected for any future period. As a result
of our 1999 pooling of interest with the former CardioGenesis,
all prior period data has been restated as if the combined
entity existed for all periods presented.

Selected Consolidated Financial Data

|                                                 |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|------------------------------------------------ |  | ---------------------------------------- | -------- | ---- |  | ---- | -------- | ------- |  | ---- | -------- | - |  | - | -------- | - |  | - | -------- | -
|                                                 |  |                                         
|                                                 |  | Years Ended December 31,                
|                                                 |  |                                         
|                                                 |  | 2002                                     |          | 2001 |  | 2000 |          | 1999(1) |  | 1998
|                                                 |  |                                          |          |      |  |      |          |         |  |     
|                                                 |  |                                         
|                                                 |  | (in thousands, except per share amounts)
|Consolidated Statement of Operations
    Data:   |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|Net revenues                                     |  | $                                        | 13,048   |      |  | $    | 14,153   |         |  | $    | 22,210   |   |  | $ | 25,324   |   |  | $ | 15,080   |  
|Cost of revenues                                 |  |                                          | 2,935    |      |  |      | 5,777    |         |  |      | 10,055   |   |  |   | 13,246   |   |  |   | 7,868    |  
|                                                 |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|Gross profit                                     |  |                                          | 10,113   |      |  |      | 8,376    |         |  |      | 12,155   |   |  |   | 12,078   |   |  |   | 7,212    |  
|                                                 |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|Operating expenses:                              |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|Research and development                         |  |                                          | 657      |      |  |      | 1,863    |         |  |      | 5,065    |   |  |   | 11,353   |   |  |   | 29,861   |  
|Sales, general and administrative                |  |                                          | 12,297   |      |  |      | 15,119   |         |  |      | 22,009   |   |  |   | 24,581   |   |  |   | 28,484   |  
|Restructuring and merger-related costs           |  |                                          |         |      |  |      | 1,033    |         |  |      |         |   |  |   | 5,214    |   |  |   |         |  
|                                                 |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|Total operating expenses                         |  |                                          | 12,954   |      |  |      | 18,015   |         |  |      | 27,074   |   |  |   | 41,148   |   |  |   | 58,345   |  
|                                                 |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|Operating loss                                   |  |                                          | (2,841   | )    |  |      | (9,639   | )       |  |      | (14,919  | ) |  |   | (29,070  | ) |  |   | (51,133  | )
|Interest and other income (expense), net         |  |                                          | 2,311    |      |  |      | (608     | )       |  |      | 310      |   |  |   | 737      |   |  |   | 3,366    |  
|                                                 |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|Net loss                                         |  | $                                        | (530     | )    |  | $    | (10,247  | )       |  | $    | (14,609  | ) |  | $ | (28,333  | ) |  | $ | (47,767  | )
|                                                 |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|Net loss per share  basic and diluted           |  | $                                        | (0.01    | )    |  | $    | (0.31    | )       |  | $    | (0.48    | ) |  | $ | (0.99    | ) |  | $ | (1.77    | )
|                                                 |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|Shares used in per share calculation             |  |                                          | 36,911   |      |  |      | 33,311   |         |  |      | 30,166   |   |  |   | 28,629   |   |  |   | 27,000   |  
|                                                 |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|Consolidated Balance Sheet Data:                 |  |                                          |          |      |  |      |          |         |  |      |          |   |  |   |          |   |  |   |          |  
|Cash, cash equivalents and marketable securities |  | $                                        | 1,490    |      |  | $    | 2,629    |         |  | $    | 3,357    |   |  | $ | 13,313   |   |  | $ | 27,941   |  
|Working capital                                  |  |                                          | 1,614    |      |  |      | 1,048    |         |  |      | 4,662    |   |  |   | 10,031   |   |  |   | 22,243   |  
|Total assets                                     |  |                                          | 7,755    |      |  |      | 11,309   |         |  |      | 16,965   |   |  |   | 34,019   |   |  |   | 52,978   |  
|Long-term debt, less current portion             |  |                                          | 1        |      |  |      | 32       |         |  |      | 405      |   |  |   | 815      |   |  |   | 114      |  
|Accumulated deficit                              |  |                                          | (164,610 | )    |  |      | (164,080 | )       |  |      | (153,833 | ) |  |   | (139,224 | ) |  |   | (110,891 | )
|Total shareholders equity                       |  |                                          | 3,711    |      |  |      | 3,582    |         |  |      | 7,974    |   |  |   | 18,573   |   |  |   | 37,276   |  



---



|    |                                                                                                                           
|--- | --------------------------------------------------------------------------------------------------------------------------
|(1) | Cost of revenues includes $2.5 million of
    inventory write-offs and upgrades associated with the
    March 1999 merger.






|        |                                                                                           
|------- | ------------------------------------------------------------------------------------------
|Item 7. | Managements Discussion and Analysis
    of Financial Condition and Results of Operations.

This Managements Discussion and Analysis
of Financial Condition and Results of Operations contains
descriptions of our expectations regarding future trends
affecting our business. These forward-looking statements and
other forward-looking statements made elsewhere in this document
are made in reliance upon the safe harbor provisions of the
Private Securities Litigation Reform Act of 1995. Please read
the section below titled Factors Affecting Future
Results to review conditions which we believe could cause
actual results to differ materially from those contemplated by
the forward-looking statements. Forward-looking statements are
identified by words such as believes,
anticipates, expects,
intends, plans, will,
may and

20



---



##### Table of Contents



similar expressions. In addition, any
statements that refer to our plans, expectations, strategies or
other characterizations of future events or circumstances are
forward-looking statements. Our business may have changed since
the date hereof and we undertake no obligation to update these
forward looking statements.




| |                                                                                                                                                        
| | -------------------------------------------------------------------------------------------------------------------------------------------------------
| | The following discussion should be read in
    conjunction with financial statements and notes thereto included
    in this Annual Report on Form 10-K.

Overview

CardioGenesis Corporation, formerly known as
Eclipse Surgical Technologies, Inc. (CardioGenesis,
Company), incorporated in California in 1989,
designs, develops, manufactures and distributes laser-based
surgical products and disposable fiber-optic accessories for the
treatment of advanced cardiovascular disease through
transmyocardial revascularization (TMR) and
percutaneous transluminal myocardial revascularization
(PMR).

On February 11, 1999, we received final
approval from the FDA for our TMR products for certain
indications, and we are now able to sell those products in the
U.S. on a commercial basis. We have also received the
European Conforming Mark (CE Mark) allowing the
commercial sale of our TMR laser systems and our PMR catheter
system to customers in the European Community. Effective
July 1, 1999, Health Care Financial Administration began
providing Medicare coverage for TMR. Hospitals and physicians
are now eligible to receive Medicare reimbursement for TMR
equipment and procedures.

We have completed pivotal clinical trials
involving PMR, and study results were submitted to the FDA in a
Pre Market Approval application (PMA application) in
December of 1999 along with subsequent amendments. In July 2001,
the FDA Advisory Panel recommended against approval of PMR for
public sale and use in the United States. In February 2003, the
FDA granted an independent panel review of our pending PMA
application for PMR by the Medical Devices Dispute Resolution
Panel. We expect the Dispute Resolution Panel to convene in the
second quarter of 2003. There can be no assurance, however, that
we will receive a favorable decision from the FDA.

As of December 31, 2002, we had an
accumulated deficit of $164,610,000. We may continue to incur
operating losses. The timing and amounts of our expenditures
will depend upon a number of factors, including the efforts
required to develop our sales and marketing organization, the
timing of market acceptance of our products and the status and
timing of regulatory approvals.

Results of Operations



| |                                                                          
| | -------------------------------------------------------------------------
| | Year Ended December 31, 2002 Compared
    to Year Ended December 31, 2001



| |             
| | ------------
| | Net Revenues

Net revenues of $13,048,000 for the year ended
December 31, 2002 decreased $1,105,000, or 8%, when
compared to net revenues of $14,153,000 for the year ended
December 31, 2001. The decrease in net revenues was due to
a reduction in domestic handpiece revenues of $1,810,000 and
international sales of $547,000 offset by an increase in
domestic laser sales of $761,000 and in service and other
revenue of $491,000.

The decrease in handpiece revenue is primarily
related to our current strategy of concentrating our sales
resources on increasing procedure volume in our existing
installed base, which has had the effect of reducing handpiece
revenues from loaned laser placements, when compared to the
levels attained in the year ended December 31, 2001. The
decline in loaned laser placements in 2002, when compared to the
prior year, has resulted in a year-over-year reduction in the
number of handpieces sold as each shipped laser is normally
accompanied by an order for handpieces. In the year ended
December 31, 2002, domestic handpiece revenue consisted of
$2,832,000 in sales to customers operating under the loaned
laser program, of which $756,000 was attributed to premiums
associated with such sales. In the year ended December 31,
2001, domestic handpiece revenue consisted of $4,677,000 in
sales of product to customers operating under the loaned laser
program, of which $1,424,000 was attributed to premiums
associated with such sales. In the years ended December 31,

21



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##### Table of Contents



2002 and 2001, sales of product to customers not
operating under the loaned laser program was $5,937,000 and
$5,902,000, respectively.


For the year ended December 31, 2002,
domestic laser sales increased by $761,000 compared to the year
ended December 31, 2001 primarily from an increase in sales
of lasers that were previously on loan in our installed base.
International sales, accounting for approximately 4% of total
sales for the year ended December 31, 2002, decreased
$547,000 from the prior year when international sales accounted
for 7% of total sales primarily as a result of fewer handpiece
sales due to decreased shipments to distributors in the
international market compared to 2001. Service and other revenue
of $976,000 increased $491,000 for the year ended
December 31, 2002 when compared to $485,000 for the year
ended December 31, 2001 due primarily to an increase in the
number of service contracts sold.



| |             
| | ------------
| | Gross Profit

Gross profit increased to 78% of net revenues for
the year ended December 31, 2002 as compared to 59% of net
revenues for the year ended December 31, 2001. Gross profit
in absolute dollars increased by $1,737,000 to $10,113,000 for
the year ended December 31, 2002, as compared to $8,376,000
for the year ended December 31, 2001. The increase in gross
profit as a percent of sales, and in absolute terms, resulted
from improved margins on lasers sold as well as improved margins
on disposable handpieces due to the outsourcing of disposables
manufacturing which took place in the second half of 2001.



| |                         
| | ------------------------
| | Research and Development

Research and development expenditures of $657,000
decreased $1,206,000 or 65% for the year ended December 31,
2002 when compared to $1,863,000 for the year ended
December 31, 2001. While actual expenditures for research
and development remained fairly constant from 2001 to 2002, the
decrease in overall research and development expense resulted
primarily from the effects of recording a total of
$1.3 million in reductions of accrued liabilities recorded
in prior years for estimated clinical trial obligations.



| |                                  
| | ---------------------------------
| | Sales, General and Administrative

Sales, general and administrative expenditures of
$12,297,000 decreased $2,822,000 or 19% for the year ended
December 31, 2002 when compared to $15,119,000 for the year
ended December 31, 2001. The decrease in expenses resulted
primarily from a decrease in employee expenses of $1,956,000
primarily related to reductions in our work force and overall
cost cutting efforts. Additionally, facilities and office
expenses decreased by $685,000 primarily as a result of the
relocation of our corporate headquarters which was completed in
the third quarter of 2001.



| |                                           
| | ------------------------------------------
| | Restructuring and Merger-Related
    Costs

During the year ended December, 31 2001, we
recognized restructuring charges of $1,303,000, which were
partially offset by a change in estimate of $270,000 in
connection with merger-related costs that were incurred in 1999.
The 2001 restructuring charges related to the company-wide
restructuring which began in the second quarter of 2001. The
restructuring included a reduction in headcount, the closing of
our facilities in Sunnyvale, California and the move to a new
facility located in Foothill Ranch, California. As a result of
the restructuring, 48 employees were identified to be terminated
under the original restructuring plan, primarily from the
finance and manufacturing departments.

22



---



##### Table of Contents



The following table summarizes the restructuring
activity and the remaining restructuring reserve balance (in
thousands):

|                 |                                 |               |      |             |  |               |      |       |  |   |      |    |  |   |        |    | 
|---------------- | ------------------------------- | ------------- | ---- | ----------- |  | ------------- | ---- | ----- |  | - | ---- | -- |  | - | ------ | -- | 
|                 |                                 |               |      | Lease and   |  |               |      |      
|                 |                                 | Personnel and |      | Other       |  | Other         |      |      
|                 |                                 | Severance     |      | Contractual |  | Miscellaneous |      |      
|                 |                                 | Costs         |      | Commitments |  | Costs         |      | Total
|                 |                                 |               |      |             |  |               |      |      
|Provisions       |                                 | $             | 655  |             |  | $             | 344  |       |  | $ | 304  |    |  | $ | 1,303  |   
|Payments         |                                 |               | (655 | )           |  |               | (252 | )     |  |   | (176 | )  |  |   | (1,083 | ) 
|Non-cash charges |                                 |               |     |             |  |               | (52  | )     |  |   | (116 | )  |  |   | (168   | ) 
|                 |                                 |               |      |             |  |               |      |       |  |   |      |    |  |   |        |   
|                 | Balance as of December 31, 2001 |               |      |            |  |               |      | 40    |  |   |      | 12 |  |   |        | 52 | 
|Payments         |                                 |               |     |             |  |               | (40  | )     |  |   |     |    |  |   | (40    | ) 
|Non-cash charges |                                 |               |     |             |  |               |     |       |  |   | (12  | )  |  |   | (12    | ) 
|                 |                                 |               |      |             |  |               |      |       |  |   |      |    |  |   |        |   
|                 | Balance as of December 31, 2002 |               | $    |            |  |               | $    |      |  |   | $    |   |  |   | $      |   | 
|                 |                                 |               |      |             |  |               |      |       |  |   |      |    |  |   |        |   

Personnel and severance costs are comprised of
severance, retention and relocation costs. Certain employees
were offered a retention incentive to stay employed through a
certain date while we were going through the restructuring
phase. Lease and other contractual commitments are comprised
primarily of the termination penalties associated with the early
lease termination on our manufacturing and office facilities.



| |                                             
| | --------------------------------------------
| | Interest and Other Income (Expense),
    Net

Interest and other income (expense), net is
comprised of interest income, interest expense and both income
and expense which related to our ownership interest in
Microheart, Inc. a privately-held company
(Microheart.)

Interest income of $39,000 decreased $23,000 or
37% for the year ended December 31, 2002 when compared to
$62,000 for the year ended December 31, 2001. This decrease
was due to lower interest rates and lower investments in cash
equivalents.

Interest expense of $13,000 decreased $5,000 or
28% for the year ended December 31, 2002 when compared to
$18,000 for the year ended December 31, 2001. This decrease
reflected a lower level of debt outstanding.

A gain on the sale of an investee of $2,285,000
for the year ended December 31, 2002 was related to the
sale of our ownership interest in Microheart in April 2002. For
the year ended December 31, 2001, the equity in net loss of
$652,000 represented our share of the net loss of Microheart, in
which our ownership was approximately 30% at the time the net
loss was recorded.

Year Ended December 31, 2001 Compared to
Year Ended December 31, 2000



| |             
| | ------------
| | Net Revenues

Net revenues of $14,153,000 for the year ended
December 31, 2001 decreased $8,057,000, or 36%, when
compared to net revenues of $22,210,000 for the year ended
December 31, 2000. The decrease in net revenues was due to
a reduction in sales of laser systems and disposable handpiece
sales.

For the year ended December 31, 2001,
domestic laser revenue decreased by $4,800,000 and domestic
disposable handpiece revenue decreased by $2,100,000. In 2001,
domestic handpiece revenue consisted of $4,700,000 in sales of
product to customers operating under the loaned laser program,
of which $1,400,000 was attributed to premiums associated with
such sales. In 2000, domestic handpiece revenue consisted of
$5,100,000 in sales of product to customers operating under the
loaned laser program, of which $2,000,000 was attributed to
premiums associated with such sales. In 2001 and 2000, sales of
product to customers not operating under the loaned laser
program was $5,900,000 and $7,600,000, respectively.
International sales, accounting for approximately 7% of total
sales for the year ended December 31, 2001, decreased
$1,200,000 from the prior year when international sales
accounted for 10% of total sales. This reduction can be explained

23



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##### Table of Contents



by a reduction in international sales
representation. We define international sales as sales to
customers located outside of the United States.




| |             
| | ------------
| | Gross Profit

Gross profit increased to 59% of net revenues for
the year ended December 31, 2001 as compared to 55% of
net revenues for the year ended December 31, 2000. Gross
profit in absolute dollars decreased by $3,779,000 to $8,376,000
for the year ended December 31, 2001, as compared to
$12,155,000 for the year ended December 31, 2000. The
increase in gross profit as a percent of sales resulted from
improved margins on lasers and disposables partially as a result
of the outsourcing of the manufacturing process for disposables,
which occurred in the second half of 2001. The decrease in gross
margin in absolute terms resulted from the decrease in sales
volumes.



| |                         
| | ------------------------
| | Research and Development

Research and development expenditures of
$1,863,000 decreased $3,202,000 or 63% for the year ended
December 31, 2001 when compared to $5,065,000 for the year
ended December 31, 2000. The decrease in overall research
and development expense is comprised of a decrease in employee
expenses of $1,400,000 related to reductions in force and a
reduction in clinical trials expenses of $785,000 related to the
conclusion of several of our major clinical trials.
Additionally, the allocation for facilities overhead costs
decreased by $620,000 and expenditures for engineering decreased
by $400,000 due to a reduction in development activities.



| |                                  
| | ---------------------------------
| | Sales, General and Administrative

Sales, general and administrative expenditures of
$15,119,000 decreased $6,890,000 or 31% for the year ended
December 31, 2001 when compared to $22,009,000 for the year
ended December 31, 2000. The decrease in expenses resulted
primarily from a decrease in employee expenses of $2,700,000
related to reductions in work force and a decrease in travel
costs. Additionally, facilities and office expenses decreased by
$1,950,000, costs for consulting and outside services decreased
by $1,100,000 and marketing expenses decreased by $760,000.



| |                                           
| | ------------------------------------------
| | Restructuring and Merger-Related
    Costs

During the year ended December 31 2001, we
recognized restructuring charges of $1,303,000, which were
partially offset by a change in estimate of $270,000 in
connection with merger-related costs that were incurred in 1999.
The current year restructuring charges related to the
company-wide restructuring which began in the second quarter of
2001. The restructuring included a reduction in headcount, the
closing of our facilities in Sunnyvale, California and the move
to a new facility located in Foothill Ranch, California. As a
result of the restructuring, 48 employees were identified
to be terminated under the original restructuring plan,
primarily from the finance and manufacturing departments.

The following table summarizes the restructuring
activity and the remaining restructuring reserve balance (in
thousands):

|           |                  |                                 |     |             |   |               |     |       |    |   |     |      |    |   |       |        |    | 
|---------- | ---------------- | ------------------------------- | --- | ----------- | - | ------------- | --- | ----- | -- | - | --- | ---- | -- | - | ----- | ------ | -- | 
|           |                  |                                 |     | Lease and   |   |               |     |      
|           |                  | Personnel and                   |     | Other       |   | Other         |     |      
|           |                  | Severance                       |     | Contractual |   | Miscellaneous |     |      
|           |                  | Costs                           |     | Commitments |   | Costs         |     | Total
|           |                  |                                 |     |             |   |               |     |      
|Provisions |                  | $                               | 655 |             |   | $             | 344 |       |    | $ | 304 |      |    | $ | 1,303 |       
|           | Payments         |                                 |     | (655        | ) |               |     | (252  | )  |   |     | (176 | )  |   |       | (1,083 | ) 
|           | Non-cash charges |                                 |     |            |   |               |     | (52   | )  |   |     | (116 | )  |   |       | (168   | ) 
|           |                  |                                 |     |             |   |               |     |       |    |   |     |      |    |   |       |       
|           |                  | Balance as of December 31, 2001 |     | $           |  |               |     | $     | 40 |   |     | $    | 12 |   |       | $      | 52 | 
|           |                  |                                 |     |             |   |               |     |       |    |   |     |      |    |   |       |       

Personnel and severance costs are comprised of
severance, retention and relocation costs. Certain employees
were offered a retention incentive to stay employed through a
certain date while we were going

24



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##### Table of Contents



through the restructuring phase. Lease and other
contractual commitments are comprised primarily of the
termination penalties associated with the early lease
termination on our manufacturing and office facilities.




| |                                             
| | --------------------------------------------
| | Interest and Other Income (Expense),
    Net

Interest and other income (expense), net is
comprised of interest income, interest expense and other expense
which related to our ownership interest in Microheart.

Interest income of $62,000 decreased $338,000 or
85% for the year ended December 31, 2001 when compared to
$400,000 for the year ended December 31, 2000. This
decrease was due to lower interest rates and lower investments
in cash equivalents.

Interest expense of $18,000 decreased $14,000 or
44% for the year ended December 31, 2001 when compared to
$32,000 for the year ended December 31, 2000. This decrease
reflected a lower level of debt outstanding.

Equity in net loss of $652,000 for the year ended
December 31, 2001, compared to $58,000 for the year ended
December 31, 2000, represented our share of the net loss of
Microheart, of which our ownership was 30% as of
December 31, 2001.

Liquidity and Capital Resources

At December 31, 2002 we had cash and cash
equivalents of $1,490,000 compared to $2,629,000 at
December 31, 2001. During the year ended December 31,
2002, we incurred operating losses of $2,841,000, which, when
coupled with the payment of current liabilities partially offset
by non-cash operating expenses, resulted in the use of
$3,196,000 to support operating activities. Cash provided by
investing activities was $2,223,000 primarily consisting of the
net proceeds obtained from the sale of our ownership interest in
Microheart. Cash used in financing activities was $254,000
resulting from payments on short term borrowings of $825,000.
This was offset by net proceeds of $486,000 obtained from the
sale of our common stock to the State of Wisconsin Investment
Board in April 2002 and proceeds of $85,000 received from the
sale of stock under the Employee Stock Purchase Plan.

On March 27, 2003, we entered into a
Purchase and Security Agreement with a private equity fund and
entered into a revolving Convertible Note agreement (the
Note) that matures on March 26, 2006. The Note
provides for borrowings of up to $2,000,000 based upon eligible
accounts receivable, and advances under the Note will bear
interest at prime plus 3.35%. The Note includes a right of
conversion at a fixed conversion price of $.30 per share,
subject to adjustment. In conjunction with this transaction, we
issued 275,000 five year warrants at exercise prices ranging
from $.35 to $.44 per share. As of March 31, 2003, we had
no outstanding borrowings on the Note.

We have incurred significant losses for the last
several years and at December 31, 2002 have an accumulated
deficit of $164,610,000. Our ability to maintain current
operations is dependent upon achieving profitable operations in
the future. Our plans include increasing sales through increased
direct sales and marketing efforts on existing products and
achieving timely regulatory approval for certain other products.

We also plan to continue our cost containment
efforts by focusing on reducing sales, general and
administrative expenses. In 2002, we significantly reduced our
cost of revenues primarily due to the outsourcing of a
significant portion of our manufacturing which allows us to
purchase products at lower costs. To reduce operating expenses,
we have focused our efforts on reducing headcount and overall
expenses in functions that are not essential to core and
critical activities.

Currently, our primary goal is to achieve
profitability. Our actions have been guided by this imperative,
and the resulting cost containment measures have helped to
conserve our cash. Our focus is upon core and critical
activities, thus operating expenses that are nonessential to our
core operations have been eliminated.

We believe our cash balance as of
December 31, 2002 and the borrowing capacity available
under our $2,000,000 revolving convertible note credit facility,
will be sufficient to meet our capital and operating

25



---



##### Table of Contents



requirements through the end of 2003. We believe
that if revenue from sales or new funds from debt or equity
instruments is insufficient to maintain the current expenditure
rate, it will be necessary to significantly reduce our
operations until an appropriate solution is implemented.


Quarterly Results of Operations

The following table sets forth certain quarterly
financial information for the periods indicated. This
information has been derived from unaudited financial statements
that, in the opinion of management, have been prepared on the
same basis as the audited information, and includes all normal
recurring adjustments necessary for a fair presentation of such
information. The results of operations for any quarter are not
necessarily indicative of the results to be expected for any
future periods.

|                             |                                     |                    |        |         |   |          |        |         |  |          |       |         |   |          |       |         |  |   |        |        |   |   |        |        |   |   |        |        |   |   |        |        |  
|---------------------------- | ----------------------------------- | ------------------ | ------ | ------- | - | -------- | ------ | ------- |  | -------- | ----- | ------- | - | -------- | ----- | ------- |  | - | ------ | ------ | - | - | ------ | ------ | - | - | ------ | ------ | - | - | ------ | ------ | -
|                             |                                     |                   
|                             |                                     | Three Months Ended
|                             |                                     |                   
|                             |                                     |                    |        |        
|                             |                                     | 2002               |        | 2001   
|                             |                                     |                    |        |        
|                             |                                     | March 31           |        | June 30 |   | Sept. 30 |        | Dec. 31 |  | March 31 |       | June 30 |   | Sept. 30 |       | Dec. 31
|                             |                                     |                    |        |         |   |          |        |         |  |          |       |         |   |          |       |        
|Net revenues                 |                                     | $                  | 3,158  |         |   | $        | 3,010  |         |  | $        | 3,210 |         |   | $        | 3,670 |         |  | $ | 3,111  |        |   | $ | 4,030  |        |   | $ | 4,221  |        |   | $ | 2,791  |       
|Gross profit                 |                                     |                    | 2,332  |         |   |          | 2,338  |         |  |          | 2,515 |         |   |          | 2,928 |         |  |   | 1,576  |        |   |   | 2,447  |        |   |   | 2,594  |        |   |   | 1,759  |       
|Operating (loss)/income      |                                     |                    | (1,246 | )       |   |          | (1,160 | )       |  |          | (581  | )       |   |          | 146   |         |  |   | (2,105 | )      |   |   | (2,705 | )      |   |   | (2,494 | )      |   |   | (2,335 | )     
|Net (loss)/income            |                                     |                    | (1,239 | )       |   |          | 1,137  |         |  |          | (576  | )       |   |          | 148   |         |  |   | (2,437 | )      |   |   | (2,967 | )      |   |   | (2,481 | )      |   |   | (2,362 | )     
|Net (loss)/income per share: |                                     |                    |        |         |   |          |        |         |  |          |       |         |   |          |       |         |  |   |        |        |   |   |        |        |   |   |        |        |   |   |        |       
|                             | Basic and diluted                   |                    |        | (0.03   | ) |          |        | 0.03    |  |          |       | (0.02   | ) |          |       | 0.00    |  |   |        | (0.08  | ) |   |        | (0.09  | ) |   |        | (0.07  | ) |   |        | (0.07  | )
|                             | Weighted average shares outstanding |                    |        | 36,507  |   |          |        | 36,979  |  |          |       | 37,059  |   |          |       | 37,090  |  |   |        | 30,837 |   |   |        | 33,631 |   |   |        | 34,209 |   |   |        | 34,415 |  

Critical Accounting Policies and
Estimates

We consider certain accounting policies related
to use of estimates and revenue recognition to be critical
accounting policies.



| |                 
| | ----------------
| | Use of Estimates

The preparation of financial statements in
conformity with generally accepted accounting principles
requires our management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could
differ from those estimates.



| |                    
| | -------------------
| | Revenue Recognition

We recognize revenue on product sales upon
receipt of a purchase order, subsequent shipment of the product
and when the price is fixed or determinable and collection of
sales proceeds is reasonably assured. Where purchase orders
allow customers an acceptance period or other contingencies,
revenue is recognized upon the earlier of acceptance or removal
of the contingency.

Revenues from sales to distributors and agents
are recognized upon shipment when there is evidence that an
arrangement exists, delivery has occurred, the sales price is
fixed or determinable and the ability to collect sales proceeds
is reasonably assured. The contracts regarding these sales do
not include any rights of return or price protection clauses.

We frequently loan lasers to hospitals in return
for the hospital purchasing a minimum number of handpieces at a
premium over the list price. Loaned lasers are depreciated to
cost of revenues over a useful life of 24 months. Revenue
on handpieces is recognized upon shipment at an amount equal to
the list price. The premium over the list price represents
revenue related to the use of the laser unit and is recognized
ratably, generally over the 24-month useful life of the placed
lasers.

Revenues from service contracts are recognized
upon performance or over the terms of the contract as
appropriate.

26



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##### Table of Contents








|         |                                                               
|-------- | --------------------------------------------------------------
|Item 7A. | Quantitative and Qualitative Disclosures
    About Market Risk



| |                         
| | ------------------------
| | Quantitative Disclosures

The Company is exposed to market risks inherent
in its operations, primarily related to interest rate risk and
currency risk. These risks arise from transactions and
operations entered into in the normal course of business. The
Company does not use derivatives to alter the interest
characteristics of its marketable securities or its debt
instruments. The Company has no holdings of derivative or
commodity instruments.

Interest Rate Risk.The Company is subject to interest rate risks on cash and cash
equivalents and any future financing requirements. The long-term
debt at December 31, 2002 consists of an outstanding
balance on a lease obligation.

The following table presents the future principal
cash flows or amounts and related weighted average interest
rates expected by year for the Companys existing cash and
cash equivalents and long-term debt instruments:

|                               |  |      |       |      |  |      |   |      |  |      |   |            |  |   |   |  |  |   |   |  |  |   |       |  
|------------------------------ |  | ---- | ----- | ---- |  | ---- | - | ---- |  | ---- | - | ---------- |  | - | - |  |  | - | - |  |  | - | ----- | -
|                               |  |      |       |      |  |      |   |      |  |      |   | Total Fair
|In Thousands                   |  | 2003 |       | 2004 |  | 2005 |   | 2006 |  | 2007 |   | Value     
|                               |  |      |       |      |  |      |   |      |  |      |   |           
|Assets                         |  |      |       |      |  |      |   |      |  |      |   |            |  |   |   |  |  |   |   |  |  |   |       |  
|Cash, cash equivalents         |  | $    | 1,490 |      |  | $    |  |      |  | $    |  |            |  | $ |  |  |  | $ |  |  |  | $ | 1,490 |  
|Weighted average interest rate |  |      | 2.0   | %    |  |      |  |      |  |      |  |            |  |   |  |  |  |   |  |  |  |   | 2.0   | %
|Liabilities                    |  |      |       |      |  |      |   |      |  |      |   |            |  |   |   |  |  |   |   |  |  |   |       |  
|Fixed Rate Debt                |  |      |       |      |  |      |   |      |  |      |   |            |  |   |   |  |  |   |   |  |  |   |       |  
|Lease obligation               |  | $    | 31    |      |  | $    |  |      |  | $    |  |            |  | $ |  |  |  | $ |  |  |  | $ | 31    |  
|Weighted average interest rate |  |      | 6.8   | %    |  |      |  |      |  |      |  |            |  |   |  |  |  |   |  |  |  |   | 6.8   | %



| |                        
| | -----------------------
| | Qualitative Disclosures

Interest Rate Risk.The Companys primary interest rate risk exposures relate
to the impact of interest rate movements on the Companys
ability to obtain adequate financing to fund future operations.

The Company manages interest rate risk on its
outstanding long-term debts through the use of fixed rate debt.
Management evaluates the Companys financial position on an
ongoing basis.

The Company does not hedge any balance sheet
exposures and intercompany balances against future movements in
foreign exchange rates. The exposure related to currency rate
movements would not have a material impact on future net income
or cash flows.






|        |                                                              
|------- | -------------------------------------------------------------
|Item 8. | Consolidated Financial Statements and
    Supplementary Data.

See Item 15(a) below and the Index therein
for a listing of the consolidated financial statements and
supplementary data filed as part of this report.






|        |                                                                                              
|------- | ---------------------------------------------------------------------------------------------
|Item 9. | Changes in and Disagreements with
    Accountants on Accounting and Financial
    Disclosure.

None.




PART III






|         |                                                        
|-------- | -------------------------------------------------------
|Item 10. | Directors and Executive Officers of the
    Registrant.

Certain information required by Part III,
Item 10 is omitted from this Annual Report on
Form 10-K because we will file a definitive proxy statement
within 120 days after the end of our fiscal year pursuant
to Regulation 14A for our 2003 Annual Meeting of
Shareholders, and the information included in the proxy
statement is incorporated herein by reference.

27



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##### Table of Contents








|         |                                              
|-------- | ---------------------------------------------
|Item 11. | Executive Compensation and Other
    Matters.

Certain of the information concerning our
executive officers required by this Item is contained in the
section of Part I of this Annual Report on Form 10-K
entitled Item 1. Business  Employees.

The information concerning our directors and the
remaining information concerning our executive officers required
by this item is incorporated by reference to the information set
forth under the similarly titled caption contained in the proxy
statement to be used by us in connection with our 2003 Annual
Meeting of Shareholders.






|         |                                                                    
|-------- | -------------------------------------------------------------------
|Item 12. | Security Ownership of Certain Beneficial
    Owners and Management.

The information required by this item is
incorporated by reference to the information set forth under the
similarly titled caption contained in the proxy statement to be
used by us in connection with our 2003 Annual Meeting of
Shareholders.






|         |                                                    
|-------- | ---------------------------------------------------
|Item 13. | Certain Relationships and Related
    Transactions.

The information required by this item is
incorporated by reference to the information set forth under the
similarly titled caption contained in the proxy statement to be
used by us in connection with our 2003 Annual Meeting of
Shareholders.






|         |                        
|-------- | -----------------------
|Item 14. | Controls and Procedures

(a) Evaluation of Disclosure Controls and
Procedures:



| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | The Companys Chief Executive Officer and
    Chief Financial Officer have evaluated the effectiveness of the
    Companys disclosure controls and procedures (as such term
    is defined in Rules 13a-14(c) and 15d-14(c) under the
    Securities Exchange Act of 1934, as amended (the Exchange
    Act) as of a date within 90 days prior to the filing
    date of this annual report (the Evaluation Date).
    Based on such evaluation, such officers have concluded that, as
    of the Evaluation Date, the Companys disclosure controls
    and procedures are effective in alerting them on a timely basis
    to material information relating to the Company to be included
    in the Companys periodic filings under the Exchange Act.

(b) Changes in Internal Controls:



| |                                                                                                                                                                                         
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Since the Evaluation Date, there have not been
    any significant changes in the Companys internal controls
    or in other factors that could significantly affect such
    controls.

28



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##### Table of Contents






PART IV






|         |                                                                     
|-------- | --------------------------------------------------------------------
|Item 15. | Exhibits, Financial Statement Schedule, and
    Reports on Form 8-K.

(a)(1) Financial Statements. The
financial statements required to be filed by Item 8
herewith are as follows:

|                                                                                                                          |  |      |    | 
|------------------------------------------------------------------------------------------------------------------------- |  | ---- | -- | 
|                                                                                                                          |  | Page
|                                                                                                                          |  |     
|Report of Independent Accountants                                                                                         |  |      | 34 | 
|Consolidated Balance Sheets as of
    December 31, 2002 and 2001                                                          |  |      | 35 | 
|Consolidated Statements of Operations and
    Comprehensive Loss for the years ended December 31, 2002,
    2001 and 2000 |  |      | 36 | 
|Consolidated Statements of Shareholders
    Equity for the years ended December 31, 2002, 2001 and 2000                  |  |      | 37 | 
|Consolidated Statements of Cash Flows for the
    years ended December 31, 2002, 2001 and 2000                            |  |      | 38 | 
|Notes to Consolidated Financial Statements                                                                                |  |      | 39 | 

(2) Financial Statement Schedule.

The following financial statement schedule is
filed herewith.

|                                                    |  |  |    | 
|--------------------------------------------------- |  |  | -- | 
|Schedule II  Valuation and
    Qualifying Accounts |  |  | 50 | 

(3) Exhibits.

The exhibits listed under Item 15(c) are
filed or incorporated by reference herein.

(b) Reports on Form 8-K.

A report was filed on January 18, 2002 to
announce preliminary financial results for the fourth quarter
ended December 31, 2001 and to announce the organizational
restructuring which occurred in January 2002. The report also
disclosed the approval of an amendment to the Shareholder Rights
Agreement pursuant to the Share Purchase Agreement between the
Company and the State of Wisconsin Investment Board dated
December 21, 2001.

A report was filed on April 5, 2002, to
report under Item 2, Acquisition of Assets, the sale of the
Companys ownership of Microheart, Inc., a privately owned
entity in which the Companys ownership was approximately
30%, and under Item 5, Other Events, the Companys
sale of common stock to the State of Wisconsin Investment Board.

29



---



##### Table of Contents



(c) Exhibits.The exhibits below are
filed or incorporated herein by reference.

|        |          |             |  |                                                                                                                                                                                                                                                                                                                                                                 
|------- | -------- | ----------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |          |            
|Number  |          | Description
|        |          |            
|        | 2.1(1)   |             |  | Agreement and Plan of Reorganization among the
    Company, the former CardioGenesis Corporation and RW Acquisition
    Corporation dated October 21, 1998.                                                                                                                                                                                                     
|        | 3.1(2)   |             |  | Certificate of Amendment and Restated Articles of
    Incorporation of Registrant.                                                                                                                                                                                                                                                                              
|        | 3.2      |             |  | Certificate of Amendment to Articles of
    Incorporation of Registrant (incorporated by reference to the
    Companys Form 10-Q filed August 14, 2001).                                                                                                                                                                                                       
|        | 3.3(3)   |             |  | Amended and Restated Bylaws of Registrant.                                                                                                                                                                                                                                                                                                                      
|        | 4.1      |             |  | Form of Rights Agreement, dated as of
    August 17, 2001, between CardioGenesis Corporation and
    EquiServe Trust Company, N.A., as Rights Agent, which includes
    as Exhibit A the Form of Right Certificate, Form of
    Assignment and Form of Election to Purchase (incorporated by
    reference to the Companys Form 8-K filed
    August 20, 2001).
|        | 4.2      |             |  | First Amendment to Rights Agreement, dated as of
    January 17, 2002, between CardioGenesis Corporation and
    EquiServe Trust Company, N.A., as Rights Agent (incorporated by
    reference to the Companys Form 8-K filed
    January 18, 2002).                                                                                                           
|        | 10.1(2)  |             |  | Form of Director and Officer Indemnification
    Agreement.                                                                                                                                                                                                                                                                                                     
|        | 10.2(3)  |             |  | Stock Option Plan, as amended and restated.                                                                                                                                                                                                                                                                                                                     
|        | 10.3(3)  |             |  | Director Stock Option Plan, as amended and
    restated.                                                                                                                                                                                                                                                                                                        
|        | 10.4(2)  |             |  | 1996 Employee Stock Purchase Plan of
    CardioGenesis Corporation.                                                                                                                                                                                                                                                                                             
|        | 10.5     |             |  | Facilities Lease for 26632 Towne Centre Dr.,
    Suite 320, Foothill Ranch, California (incorporated herein
    by reference to the Registrants Form 10-Q/A,
    Exhibit 10.1, filed August 16, 2001).                                                                                                                                                         
|        | 10.6(2)  |             |  | 401(k) Plan.                                                                                                                                                                                                                                                                                                                                                    
|        | 10.7     |             |  | 1993 Equity Incentive Plan of the former
    CardioGenesis Corporation (incorporated by reference to the
    former CardioGenesis Corporations Form SB-2 (File
    No. 333-3752-LA), declared effective on May 21, 1996).                                                                                                                                      
|        | 10.8     |             |  | 1996 Equity Incentive Plan of the former
    CardioGenesis Corporation (incorporated by reference to the
    former CardioGenesis Corporations Form S-8 (File
    No. 333-35095), dated September 8, 1997).                                                                                                                                                    
|        | 10.9(4)  |             |  | Employment agreement dated June 1, 2002
    between the Company and Darrell F. Eckstein, President,
    Chief Operating Officer and Acting Chief Financial Officer.                                                                                                                                                                                             
|        | 10.10(4) |             |  | Amendment to employment agreement between the
    Company and Michael J. Quinn, Chief Executive Officer,
    dated July 3, 2002                                                                                                                                                                                                                                 
|        | 21.1     |             |  | List of Subsidiaries                                                                                                                                                                                                                                                                                                                                            
|        | 23.1     |             |  | Consent of PricewaterhouseCoopers LLP                                                                                                                                                                                                                                                                                                                           
|        | 24.1     |             |  | Power of Attorney (see signature page)                                                                                                                                                                                                                                                                                                                          



---



|    |                                                                                                                                                                                               
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Incorporated by reference to Appendix 1 to
    the Companys Registration Statement on S-4 filed with the
    Securities and Exchange Commission on February 9, 1999
    (File No. 333-72063).
|   
|(2) | Incorporated by reference to the Companys
    Registration Statement on Form S-1 (File
    No. 333-03770), as amended, filed on April 18, 1996.                                              
|   
|(3) | Incorporated by reference to the Companys
    Form 10-K filed April 16, 2002.                                                                                                                
|   
|(4) | Incorporated by reference to the Companys
    Form 10-Q filed August 14, 2002.                                                                                                               

30



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##### Table of Contents






SIGNATURES

Pursuant to the requirements of Section 13
or 15(d) 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.



| |                          
| | -------------------------
| | CARDIOGENESIS CORPORATION
| | Registrant               



| |     |                     
| | --- | --------------------
| | By: | /s/ MICHAEL J. QUINN

| |                                   
| | ----------------------------------
| |                                   
| | Michael J. Quinn                  
| | Chief Executive Officer,          
| | Chairman of the Board and Director
| | (Principal Executive Officer)     

Date: March 31, 2003

Pursuant to the requirements of the Securities
Exchange Act of 1934, this Report has been signed below by the
following persons on behalf of the Registrant in the capacities
and on the date indicated.

KNOW ALL PERSONS BY THESE PRESENTS, that each
person whose signature appears below constitutes and appoints
jointly and severally, Michael J. Quinn and/or Darrell F.
Eckstein and each one of them, his attorneys-in-fact, each with
the power of substitution, for him in any and all capacities, to
sign any and all amendments to this Annual Report on
Form 10-K and to file the same, with exhibits thereto and
other documents in connection therewith, with the Securities and
Exchange Commission, hereby ratifying and confirming all that
each of said attorneys-in-fact, or his substitute or
substitutes, may do or cause to be done by virtue hereof.

|                                           |  |                                                                                                                                                      |  |                |  | 
|------------------------------------------ |  | ---------------------------------------------------------------------------------------------------------------------------------------------------- |  | -------------- |  | 
|                                           |  |                                                                                                                                                      |  |               
|Signature                                  |  | Title                                                                                                                                                |  | Date          
|                                           |  |                                                                                                                                                      |  |               
|                                          
|/s/ MICHAEL J. QUINNMichael J. Quinn       |  | Chief Executive Officer,
    Chairman of the Board and Director
    (Principal Executive Officer)                                                    |  | March 31, 2003
|                                          
|/s/ DARRELL F. ECKSTEINDarrell F. Eckstein |  | President, Chief Operating Officer,
    Acting Chief Financial Officer
    (Principal Accounting and Financial Officer, Secretary and
    Treasurer) |  | March 31, 2003
|                                          
|/s/ JACK M. GILLJack M. Gill               |  | Director                                                                                                                                             |  | March 31, 2003
|                                          
|/s/ JOSEPH R. KLETZELJoseph R. Kletzel     |  | Director                                                                                                                                             |  | March 31, 2003
|                                          
|/s/ ROBERT L. MORTENSENRobert L. Mortensen |  | Director                                                                                                                                             |  | March 31, 2003
|                                          
|/s/ ROBERT C. STRAUSSRobert C. Strauss     |  | Director                                                                                                                                             |  | March 31, 2003

31



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##### Table of Contents



CERTIFICATIONS

I, Michael J. Quinn, certify that:



| |                                                                                                                                                                                                                                                                                                                                                
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 1. I have reviewed this Annual Report on
    Form 10-K of CardioGenesis Corporation;                                                                                                                                                                                                                                                           
|
| | 2. Based on my knowledge, this Annual Report
    does not contain any untrue statement of a material fact or omit
    to state a material fact necessary to make the statements made,
    in light of the circumstances under which such statements were
    made, not misleading with respect to the period covered by this
    Annual Report;
|
| | 3. Based on my knowledge, the financial
    statements, and other financial information included in this
    Annual Report, fairly present in all material respects the
    financial condition, results of operations and cash flows of the
    registrant as of, and for, the periods presented in this Annual
    Report;                   
|
| | 4. The registrants other certifying
    officer and I are responsible for establishing and maintaining
    disclosure controls and procedures (as defined in Exchange Act
    Rules 13a-14 and 15d-14) for the registrant and we have:                                                                                                        



| |                                                                                                                                                                                                                                    
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (a) designed such disclosure controls and
    procedures to ensure that material information relating to the
    registrant, is made known to us, particularly during the period
    in which this Annual Report is being prepared;
|
| | (b) evaluated the effectiveness of the
    registrants disclosure controls and procedures as of a
    date within 90 days prior to the filing date of this Annual
    Report (the Evaluation Date);                             



| |                                                                                                                                                                                                             
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 5. The registrants other certifying
    officer and I have disclosed, based on our most recent
    evaluation, to the registrants auditors and the audit
    committee of registrants board of directors:



| |                                                                                                                                                                                                                                                                                                                       
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (a) all significant deficiencies in the
    design or operation of internal controls which could adversely
    affect the registrants ability to record, process,
    summarize and report financial data and have identified for the
    registrants auditors any material weaknesses in internal
    controls; and
|
| | (b) any fraud, whether or not material, that
    involves management or other employees who have a significant
    role in the registrants internal controls; and                                                                                                                                                    



| |                                                                                                                                                                                                                                                                                                                                                                                                                 
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 6. The registrants other certifying
    officer and I have indicated in this Annual Report whether or
    not there were significant changes in internal controls or in
    other factors that could significantly affect internal controls
    subsequent to the date of our most recent evaluation, including
    any corrective actions with regard to significant deficiencies
    and material weaknesses.



| |                        
| | -----------------------
| | /s/ Michael J. Quinn   
| |                        
| | Michael J. Quinn       
| | Chief Executive Officer

March 31, 2003

32



---



##### Table of Contents





I, Darrell F. Eckstein, certify that:



| |                                                                                                                                                                                                                                                                                                                                                
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 1. I have reviewed this Annual Report on
    Form 10-K of CardioGenesis Corporation;                                                                                                                                                                                                                                                           
|
| | 2. Based on my knowledge, this Annual Report
    does not contain any untrue statement of a material fact or omit
    to state a material fact necessary to make the statements made,
    in light of the circumstances under which such statements were
    made, not misleading with respect to the period covered by this
    Annual Report;
|
| | 3. Based on my knowledge, the financial
    statements, and other financial information included in this
    Annual Report, fairly present in all material respects the
    financial condition, results of operations and cash flows of the
    registrant as of, and for, the periods presented in this Annual
    Report;                   
|
| | 4. The registrants other certifying
    officer and I are responsible for establishing and maintaining
    disclosure controls and procedures (as defined in Exchange Act
    Rules 13a-14 and 15d-14) for the registrant and we have:                                                                                                        



| |                                                                                                                                                                                                                                    
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (a) designed such disclosure controls and
    procedures to ensure that material information relating to the
    registrant, is made known to us, particularly during the period
    in which this Annual Report is being prepared;
|
| | (b) evaluated the effectiveness of the
    registrants disclosure controls and procedures as of a
    date within 90 days prior to the filing date of this Annual
    Report (the Evaluation Date);                             



| |                                                                                                                                                                                                             
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 5. The registrants other certifying
    officer and I have disclosed, based on our most recent
    evaluation, to the registrants auditors and the audit
    committee of registrants board of directors:



| |                                                                                                                                                                                                                                                                                                                       
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (a) all significant deficiencies in the
    design or operation of internal controls which could adversely
    affect the registrants ability to record, process,
    summarize and report financial data and have identified for the
    registrants auditors any material weaknesses in internal
    controls; and
|
| | (b) any fraud, whether or not material, that
    involves management or other employees who have a significant
    role in the registrants internal controls; and                                                                                                                                                    



| |                                                                                                                                                                                                                                                                                                                                                                                                                 
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 6. The registrants other certifying
    officer and I have indicated in this Annual Report whether or
    not there were significant changes in internal controls or in
    other factors that could significantly affect internal controls
    subsequent to the date of our most recent evaluation, including
    any corrective actions with regard to significant deficiencies
    and material weaknesses.



| |                               
| | ------------------------------
| | /s/ Darrell F. Eckstein       
| |                               
| | Darrell F. Eckstein           
| | Acting Chief Financial Officer

March 31, 2003

33



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##### Table of Contents



REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Shareholders of
CardioGenesis Corporation

In our opinion, the accompanying consolidated
financial statements listed in the index appearing under
Item 15(a)(1) on page 29 present fairly, in all
material respects, the financial position of CardioGenesis
Corporation and its subsidiaries (the Company) at
December 31, 2002 and December 31, 2001, and the
results of their operations and their cash flows for each of the
three years in the period ended December 31, 2002 in
conformity with accounting principles generally accepted in the
United States of America. In addition, in our opinion, the
financial statement schedule listed in the index appearing under
Item 15(a)(2) on page 29 presents fairly, in all
material respects, the information set forth therein when read
in conjunction with the related consolidated financial
statements. These financial statements and the financial
statement schedule are the responsibility of the Companys
management; our responsibility is to express an opinion on these
financial statements and the financial statement schedule based
on our audits. We conducted our audits of these statements in
accordance with auditing standards generally accepted in the
United States of America, which require that we plan and perform
the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable
basis for our opinion.

PricewaterhouseCoopers LLP

Orange County, California


February 21, 2003, except Note 16


as to which the date is March 27, 2003


34



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##### Table of Contents



CARDIOGENESIS CORPORATION

CONSOLIDATED BALANCE SHEETS

December 31, 2002 and 2001


|                                               |                                                                                                                                                               |                                            |       |          |       |  |       |          |        | 
|---------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------ | ----- | -------- | ----- |  | ----- | -------- | ------ | 
|                                               |                                                                                                                                                               | 2002                                       |       | 2001    
|                                               |                                                                                                                                                               |                                            |       |         
|                                               |                                                                                                                                                               |                                           
|                                               |                                                                                                                                                               | (In thousands)                            
|ASSETS                                        
|Current assets:                                |                                                                                                                                                               |                                            |       |          |       |  |       |         
|                                               | Cash and cash equivalents                                                                                                                                     |                                            | $     | 1,490    |       |  | $     | 2,629    |       
|                                               | Accounts receivable, net of allowance for
    doubtful accounts of $449 and $1,354 at December 31, 2002
    and 2001, respectively                            |                                            |       | 1,961    |       |  |       | 2,330    |       
|                                               | Inventories, net of reserves of $361 and $1,246
    at December 31, 2002 and 2001, respectively                                                               |                                            |       | 1,632    |       |  |       | 3,215    |       
|                                               | Prepaids and other current assets                                                                                                                             |                                            |       | 574      |       |  |       | 569      |       
|                                               |                                                                                                                                                               |                                            |       |          |       |  |       |         
|                                               |                                                                                                                                                               | Total current assets                       |       |          | 5,657 |  |       |          | 8,743  | 
|Property and equipment, net                    |                                                                                                                                                               |                                            | 589   |          |       |  | 863   |         
|Other assets                                   |                                                                                                                                                               |                                            | 1,509 |          |       |  | 1,703 |         
|                                               |                                                                                                                                                               |                                            |       |          |       |  |       |         
|                                               |                                                                                                                                                               | Total assets                               |       | $        | 7,755 |  |       | $        | 11,309 | 
|                                               |                                                                                                                                                               |                                            |       |          |       |  |       |         
|                                              
|LIABILITIES AND STOCKHOLDERS
    EQUITY      
|Current liabilities:                           |                                                                                                                                                               |                                            |       |          |       |  |       |         
|                                               | Accounts payable                                                                                                                                              |                                            | $     | 1,241    |       |  | $     | 1,548    |       
|                                               | Accrued liabilities                                                                                                                                           |                                            |       | 2,101    |       |  |       | 4,467    |       
|                                               | Customer deposits                                                                                                                                             |                                            |       | 50       |       |  |       | 54       |       
|                                               | Deferred revenue                                                                                                                                              |                                            |       | 621      |       |  |       | 931      |       
|                                               | Notes payable                                                                                                                                                 |                                            |       |         |       |  |       | 170      |       
|                                               | Current portion of capital lease obligation                                                                                                                   |                                            |       | 30       |       |  |       | 30       |       
|                                               | Other current liability                                                                                                                                       |                                            |       |         |       |  |       | 495      |       
|                                               |                                                                                                                                                               |                                            |       |          |       |  |       |         
|                                               |                                                                                                                                                               | Total current liabilities                  |       |          | 4,043 |  |       |          | 7,695  | 
|Capital lease obligation, less current portion |                                                                                                                                                               |                                            | 1     |          |       |  | 32    |         
|                                               |                                                                                                                                                               |                                            |       |          |       |  |       |         
|                                               |                                                                                                                                                               | Total liabilities                          |       |          | 4,044 |  |       |          | 7,727  | 
|                                               |                                                                                                                                                               |                                            |       |          |       |  |       |         
|Commitments and contingencies (Note 10)        |                                                                                                                                                               |                                            |       |          |       |  |       |         
|Shareholders equity:                          |                                                                                                                                                               |                                            |       |          |       |  |       |         
|                                               | Preferred stock:
    no par value; 6,600 shares authorized; none issued and
    outstanding;                                                                  |                                            |       |         |       |  |       |         |       
|                                               | Common stock:
    no par value; 50,000 shares authorized; 37,121 and 36,507 shares
    issued and outstanding at December 31, 2002 and 2001,
    respectively |                                            |       | 168,321  |       |  |       | 167,750  |       
|                                               | Accumulated other comprehensive loss                                                                                                                          |                                            |       |         |       |  |       | (88      | )     
|                                               | Accumulated deficit                                                                                                                                           |                                            |       | (164,610 | )     |  |       | (164,080 | )     
|                                               |                                                                                                                                                               |                                            |       |          |       |  |       |         
|                                               |                                                                                                                                                               | Total shareholders equity                 |       |          | 3,711 |  |       |          | 3,582  | 
|                                               |                                                                                                                                                               |                                            |       |          |       |  |       |         
|                                               |                                                                                                                                                               | Total liabilities and shareholders equity |       | $        | 7,755 |  |       | $        | 11,309 | 
|                                               |                                                                                                                                                               |                                            |       |          |       |  |       |         

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

35



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##### Table of Contents



CARDIOGENESIS CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS AND
COMPREHENSIVE LOSS

For the Years Ended December 31, 2002,
2001 and 2000


|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |        |    |         |         |  
|---------------------------------------------- | ------------------------------------------------- | ---------------------------------------- | ------------------------ | -------- | -- | ------ | ------ | ------ | --- | ------- | ------- | ------ | -- | ------- | ------- | -
|                                               |                                                   | 2002                                     |                          | 2001     |    | 1999  
|                                               |                                                   |                                          |                          |          |    |       
|                                               |                                                   |                                         
|                                               |                                                   | (In thousands, except per share amounts)
|Net revenues                                   |                                                   | $                                        | 13,048                   |          |    | $      | 14,153 |        |     | $       | 22,210  |       
|Cost of revenues                               |                                                   |                                          | 2,935                    |          |    |        | 5,777  |        |     |         | 10,055  |       
|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|                                               |                                                   |                                          | Gross profit             |          |    | 10,113 |        |        |     | 8,376   |         |        |    | 12,155  |        
|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|Operating expenses:                            |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|                                               | Research and development                          |                                          |                          | 657      |    |        |        | 1,863  |     |         |         | 5,065  |   
|                                               | Sales, general and administrative                 |                                          |                          | 12,297   |    |        |        | 15,119 |     |         |         | 22,009 |   
|                                               | Restructuring and merger-related costs            |                                          |                          |         |    |        |        | 1,033  |     |         |         |       |   
|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|                                               |                                                   |                                          | Total operating expenses |          |    | 12,954 |        |        |     | 18,015  |         |        |    | 27,074  |        
|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|                                               |                                                   |                                          | Operating loss           |          |    | (2,841 | )      |        |     | (9,639  | )       |        |    | (14,919 | )      
|Interest expense                               |                                                   |                                          | (13                      | )        |    |        | (18    | )      |     |         | (32     | )     
|Interest income                                |                                                   |                                          | 39                       |          |    |        | 62     |        |     |         | 400     |       
|Equity in net loss of investee                 |                                                   |                                          |                         |          |    |        | (652   | )      |     |         | (58     | )     
|Gain on sale of investee                       |                                                   |                                          | 2,285                    |          |    |        |       |        |     |         |        |       
|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|                                               |                                                   |                                          |                          | Net loss |    |        | (530   | )      |     |         | (10,247 | )      |    |         | (14,609 | )
|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|Other comprehensive income (loss), net of tax: |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|                                               | Unrealized holding gains on marketable securities |                                          |                          |         |    |        |        |       |     |         |         | 44     |   
|                                               | Foreign currency translation adjustment           |                                          |                          | 88       |    |        |        | (23    | )   |         |         | (34    | ) 
|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|                                               |                                                   | Other comprehensive income (loss)        |                          |          | 88 |        |        |        | (23 | )       |         |        | 10 |        
|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|                                               |                                                   |                                          | Comprehensive loss       |          | $  | (442   | )      |        | $   | (10,270 | )       |        | $  | (14,599 | )      
|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|Net loss per share:                            |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|                                               | Basic and diluted                                 |                                          | $                        | (0.01    | )  |        | $      | (0.31  | )   |         | $       | (0.48  | ) 
|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       
|                                               | Weighted average shares outstanding               |                                          |                          | 36,911   |    |        |        | 33,311 |     |         |         | 30,166 |   
|                                               |                                                   |                                          |                          |          |    |        |        |        |     |         |         |       

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

36



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##### Table of Contents



CARDIOGENESIS CORPORATION

CONSOLIDATED STATEMENTS OF SHAREHOLDERS
EQUITY

For the Years Ended December 31, 2002,
2001 and 2000


|                            |                                                                                                 |                |        |          |  |               |         |             |   |         |      |       |   |   |     |     |   |   |          |         |   |   |        |         |  
|--------------------------- | ----------------------------------------------------------------------------------------------- | -------------- | ------ | -------- |  | ------------- | ------- | ----------- | - | ------- | ---- | ----- | - | - | --- | --- | - | - | -------- | ------- | - | - | ------ | ------- | -
|                            |                                                                                                 |                |        |          |  |               |         | Accumulated |   |         |      |      
|                            |                                                                                                 |                |        |          |  | Other         |         |             |   |        
|                            |                                                                                                 | Common Stock   |        |          |  | Comprehensive |         |             |   |        
|                            |                                                                                                 |                |        | Deferred |  | Income        |         | Accumulated |   |        
|                            |                                                                                                 | Shares         |        | Amount   |  | Compensation  |         | (Loss)      |   | Deficit |      | Total
|                            |                                                                                                 |                |        |          |  |               |         |             |   |         |      |      
|                            |                                                                                                 |               
|                            |                                                                                                 | (In thousands)
|Balances, December 31, 1999 |                                                                                                 |                | 29,437 |          |  | $             | 158,338 |             |   | $       | (466 | )     |   | $ | (75 | )   |   | $ | (139,224 | )       |   | $ | 18,573 |        
|                            | Issuance of common stock pursuant to exercise of
    options                                    |                |        | 640      |  |               |         | 1,064       |   |         |      |      |   |   |     |    |   |   |          |        |   |   |        | 1,064   |  
|                            | Issuance of common stock pursuant to stock
    purchased under the Employee Stock Purchase Plan |                |        | 204      |  |               |         | 388         |   |         |      |      |   |   |     |    |   |   |          |        |   |   |        | 388     |  
|                            | Issuance of common stock for cash                                                               |                |        | 526      |  |               |         | 1,873       |   |         |      |      |   |   |     |    |   |   |          |        |   |   |        | 1,873   |  
|                            | Issuance of common stock to private company in
    lieu of payment for services                 |                |        | 29       |  |               |         | 44          |   |         |      |      |   |   |     |    |   |   |          |        |   |   |        | 44      |  
|                            | Deferred stock compensation                                                                     |                |        |         |  |               |         | 231         |   |         |      | (231  | ) |   |     |    |   |   |          |        |   |   |        |        |  
|                            | Amortization of deferred compensation                                                           |                |        |         |  |               |         |            |   |         |      | 631   |   |   |     |    |   |   |          |        |   |   |        | 631     |  
|                            | Net change in unrealized gains on marketable
    securities                                     |                |        |         |  |               |         |            |   |         |      |      |   |   |     | 44  |   |   |          |        |   |   |        | 44      |  
|                            | Foreign currency translation adjustment                                                         |                |        |         |  |               |         |            |   |         |      |      |   |   |     | (34 | ) |   |          |        |   |   |        | (34     | )
|                            | Net loss                                                                                        |                |        |         |  |               |         |            |   |         |      |      |   |   |     |    |   |   |          | (14,609 | ) |   |        | (14,609 | )
|                            |                                                                                                 |                |        |          |  |               |         |             |   |         |      |       |   |   |     |     |   |   |          |         |   |   |        |        
|Balances, December 31, 2000 |                                                                                                 |                | 30,836 |          |  |               | 161,938 |             |   |         | (66  | )     |   |   | (65 | )   |   |   | (153,833 | )       |   |   | 7,974  |        
|                            | Issuance of common stock pursuant to exercise of
    options                                    |                |        | 446      |  |               |         | 719         |   |         |      |      |   |   |     |    |   |   |          |        |   |   |        | 719     |  
|                            | Issuance of common stock pursuant to stock
    purchased under the Employee Stock Purchase Plan |                |        | 105      |  |               |         | 120         |   |         |      |      |   |   |     |    |   |   |          |        |   |   |        | 120     |  
|                            | Issuance of common stock purchase warrants                                                      |                |        |         |  |               |         | 94          |   |         |      |      |   |   |     |    |   |   |          |        |   |   |        | 94      |  
|                            | Issuance of common stock for cash                                                               |                |        | 5,120    |  |               |         | 4,884       |   |         |      |      |   |   |     |    |   |   |          |        |   |   |        | 4,884   |  
|                            | Deferred stock compensation                                                                     |                |        |         |  |               |         | (5          | ) |         |      | 5     |   |   |     |    |   |   |          |        |   |   |        |        |  
|                            | Amortization of deferred compensation                                                           |                |        |         |  |               |         |            |   |         |      | 61    |   |   |     |    |   |   |          |        |   |   |        | 61      |  
|                            | Foreign currency translation adjustment                                                         |                |        |         |  |               |         |            |   |         |      |      |   |   |     | (23 | ) |   |          |        |   |   |        | (23     | )
|                            | Net loss                                                                                        |                |        |         |  |               |         |            |   |         |      |      |   |   |     |    |   |   |          | (10,247 | ) |   |        | (10,247 | )
|                            |                                                                                                 |                |        |          |  |               |         |             |   |         |      |       |   |   |     |     |   |   |          |         |   |   |        |        
|Balances, December 31, 2001 |                                                                                                 |                | 36,507 |          |  |               | 167,750 |             |   |         |     |       |   |   | (88 | )   |   |   | (164,080 | )       |   |   | 3,582  |        
|                            | Issuance of common stock pursuant to stock
    purchased under the Employee Stock Purchase Plan |                |        | 114      |  |               |         | 85          |   |         |      |      |   |   |     |    |   |   |          |        |   |   |        | 85      |  
|                            | Issuance of common stock for cash                                                               |                |        | 500      |  |               |         | 486         |   |         |      |      |   |   |     |    |   |   |          |        |   |   |        | 486     |  
|                            | Foreign currency translation adjustment                                                         |                |        |         |  |               |         |            |   |         |      |      |   |   |     | 88  |   |   |          |        |   |   |        | 88      |  
|                            | Net loss                                                                                        |                |        |         |  |               |         |            |   |         |      |      |   |   |     |    |   |   |          | (530    | ) |   |        | (530    | )
|                            |                                                                                                 |                |        |          |  |               |         |             |   |         |      |       |   |   |     |     |   |   |          |         |   |   |        |        
|Balances, December 31, 2002 |                                                                                                 |                | 37,121 |          |  | $             | 168,321 |             |   | $       |     |       |   | $ |    |     |   | $ | (164,610 | )       |   | $ | 3,711  |        
|                            |                                                                                                 |                |        |          |  |               |         |             |   |         |      |       |   |   |     |     |   |   |          |         |   |   |        |        

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

37



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##### Table of Contents



CARDIOGENESIS CORPORATION

CONSOLIDATED STATEMENTS OF CASH
FLOWS

For the Years Ended December 31, 2002,
2001 and 2000


|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |         |       |        |         |  
|------------------------------------------------------------------------ | ------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------ | ---------------------------------------- | --------------------------------------------------------- | ------ | ------ | ------ | ------- | ----- | ------ | ------ | ------- | ----- | ------ | ------- | -
|                                                                         |                                                                                                                                             | 2002                                                                     |                                          | 2001                                                      |        | 2000  
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |       
|                                                                         |                                                                                                                                             |                                                                         
|                                                                         |                                                                                                                                             | (In thousands)                                                          
|Cash flows from operating activities:                                    |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         | Net loss                                                                                                                                    |                                                                          | $                                        | (530                                                      | )      |        | $      | (10,247 | )     |        | $      | (14,609 | )    
|                                                                         | Adjustments to reconcile net loss to net cash
    used in operating activities:                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |         |      
|                                                                         |                                                                                                                                             | Depreciation and amortization                                            |                                          |                                                           | 308    |        |        |         | 450   |        |        |         | 933   |       
|                                                                         |                                                                                                                                             | Gain from sale of equity investee                                        |                                          |                                                           | (2,285 | )      |        |         |      |        |        |         |      |       
|                                                                         |                                                                                                                                             | Loss from equity investee                                                |                                          |                                                           |       |        |        |         | 652   |        |        |         | 58    |       
|                                                                         |                                                                                                                                             | Provision for doubtful accounts                                          |                                          |                                                           | 335    |        |        |         | 904   |        |        |         | 620   |       
|                                                                         |                                                                                                                                             | Inventory reserves                                                       |                                          |                                                           | 854    |        |        |         | 1,144 |        |        |         | 1,788 |       
|                                                                         |                                                                                                                                             | Amortization of deferred compensation for options
    to consultants     |                                          |                                                           |       |        |        |         | 61    |        |        |         | 631   |       
|                                                                         |                                                                                                                                             | Amortization of license fees and other assets                            |                                          |                                                           | 194    |        |        |         | 211   |        |        |         | 194   |       
|                                                                         |                                                                                                                                             | Accretion of long-term liability                                         |                                          |                                                           |       |        |        |         | 31    |        |        |         |      |       
|                                                                         |                                                                                                                                             | Loss on disposal of property and equipment                               |                                          |                                                           | 28     |        |        |         | 4     |        |        |         |      |       
|                                                                         |                                                                                                                                             | Issuance of stock to private company in lieu of
    payment for services |                                          |                                                           |       |        |        |         |      |        |        |         | 44    |       
|                                                                         |                                                                                                                                             | Reduction of clinical trial accrual                                      |                                          |                                                           | (1,282 | )      |        |         |      |        |        |         |      |       
|                                                                         |                                                                                                                                             | Changes in operating assets and liabilities:                             |                                          |                                                           |        |        |        |         |       |        |        |         |       |       
|                                                                         |                                                                                                                                             |                                                                          | Accounts receivable  short term         |                                                           |        | 34     |        |         |       | 420    |        |         |       | 3,756  |        
|                                                                         |                                                                                                                                             |                                                                          | Inventories                              |                                                           |        | 729    |        |         |       | 1,041  |        |         |       | (694   | )      
|                                                                         |                                                                                                                                             |                                                                          | Prepaids and other current assets        |                                                           |        | 619    |        |         |       | 346    |        |         |       | (70    | )      
|                                                                         |                                                                                                                                             |                                                                          | Accounts receivable  long term          |                                                           |        |       |        |         |       | 119    |        |         |       | 1,096  |        
|                                                                         |                                                                                                                                             |                                                                          | Accounts payable                         |                                                           |        | (307   | )      |         |       | 859    |        |         |       | (1,130 | )      
|                                                                         |                                                                                                                                             |                                                                          | Accrued liabilities                      |                                                           |        | (1,084 | )      |         |       | (1,322 | )      |         |       | (3,768 | )      
|                                                                         |                                                                                                                                             |                                                                          | Current portion of long term liabilities |                                                           |        | (495   | )      |         |       | (5     | )      |         |       | (375   | )      
|                                                                         |                                                                                                                                             |                                                                          | Long term liabilities                    |                                                           |        |       |        |         |       | (370   | )      |         |       | (386   | )      
|                                                                         |                                                                                                                                             |                                                                          | Customer deposits                        |                                                           |        | (4     | )      |         |       | (132   | )      |         |       | 41     |        
|                                                                         |                                                                                                                                             |                                                                          | Deferred revenue                         |                                                           |        | (310   | )      |         |       | (379   | )      |         |       | (410   | )      
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         |                                                                                                                                             |                                                                          |                                          | Net cash used in operating activities                     |        |        | (3,196 | )       |       |        | (6,213 | )       |       |        | (12,281 | )
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|Cash flows from investing activities:                                    |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         | Proceeds from sale of equity in investee                                                                                                    |                                                                          |                                          | 2,285                                                     |        |        |        |        |       |        |        |        |      
|                                                                         | Purchase of marketable securities                                                                                                           |                                                                          |                                          |                                                          |        |        |        |        |       |        |        | (3,317  | )    
|                                                                         | Maturities of marketable securities                                                                                                         |                                                                          |                                          |                                                          |        |        |        |        |       |        |        | 11,108  |      
|                                                                         | Acquisition of property and equipment                                                                                                       |                                                                          |                                          | (62                                                       | )      |        |        | (269    | )     |        |        | (762    | )    
|                                                                         | Exercise of warrants in Microheart, Inc.                                                                                                    |                                                                          |                                          |                                                          |        |        |        |        |       |        |        | (310    | )    
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         |                                                                                                                                             |                                                                          |                                          | Net cash provided by (used in) investing
    activities   |        |        | 2,223  |         |       |        | (269   | )       |       |        | 6,719   |  
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|Cash flows from financing activities:                                    |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         | Net proceeds from issuance of common stock from
    exercise of options and from stock purchased under the Employee
    Stock Purchase Plan |                                                                          |                                          | 85                                                        |        |        |        | 839     |       |        |        | 1,452   |      
|                                                                         | Net proceeds from sale of common stock to private
    entities                                                                              |                                                                          |                                          | 486                                                       |        |        |        | 4,884   |       |        |        | 1,873   |      
|                                                                         | (Payments on) proceeds from short term borrowings                                                                                           |                                                                          |                                          | (794                                                      | )      |        |        | 439     |       |        |        | 319     |      
|                                                                         | Repayment of note payable                                                                                                                   |                                                                          |                                          |                                                          |        |        |        | (355    | )     |        |        | (233    | )    
|                                                                         | Repayments of capital lease obligations                                                                                                     |                                                                          |                                          | (31                                                       | )      |        |        | (30     | )     |        |        | (24     | )    
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         |                                                                                                                                             |                                                                          |                                          | Net cash (used in) provided by financing
    activities   |        |        | (254   | )       |       |        | 5,777  |         |       |        | 3,387   |  
|                                                                         |                                                                                                                                             |                                                                          |                                          | Effect of exchange rates on cash and cash
    equivalents |        |        | 88     |         |       |        | (23    | )       |       |        | (34     | )
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         |                                                                                                                                             |                                                                          |                                          | Net decrease in cash and cash equivalents                 |        |        | (1,139 | )       |       |        | (728   | )       |       |        | (2,209  | )
|Cash and cash equivalents at beginning of year                           |                                                                                                                                             |                                                                          | 2,629                                    |                                                           |        |        | 3,357  |         |       |        | 5,566  |        
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|Cash and cash equivalents at end of year                                 |                                                                                                                                             | $                                                                        | 1,490                                    |                                                           |        | $      | 2,629  |         |       | $      | 3,357  |        
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|Supplemental schedule of cash flow information:                          |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         | Interest paid                                                                                                                               |                                                                          | $                                        | 13                                                        |        |        | $      | 21      |       |        | $      | 32      |      
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         | Taxes paid                                                                                                                                  |                                                                          | $                                        | 60                                                        |        |        | $      | 74      |       |        | $      | 153     |      
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|Supplemental schedule of noncash investing and
    financing activities: |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         | Change in unrealized gain on marketable securities                                                                                          |                                                                          | $                                        |                                                          |        |        | $      |        |       |        | $      | 44      |      
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         | Issuance of common stock purchase warrants                                                                                                  |                                                                          | $                                        |                                                          |        |        | $      | 94      |       |        | $      |        |      
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        
|                                                                         | Deferred compensation                                                                                                                       |                                                                          | $                                        |                                                          |        |        | $      | (5      | )     |        | $      | 231     |      
|                                                                         |                                                                                                                                             |                                                                          |                                          |                                                           |        |        |        |         |       |        |        |        

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

38



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##### Table of Contents



CARDIOGENESIS CORPORATION

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS


1.   Nature of
Operations:

CardioGenesis Corporation
(CardioGenesis or the Company), formerly
known as Eclipse Surgical Technologies, Inc., was founded in
1989 to develop, manufacture and market surgical lasers and
accessories for the treatment of disease. Currently,
CardioGenesis emphasis is on the development and
manufacture of products used for transmyocardial
revascularization (TMR) and percutaneous myocardial
revascularization (PMR), which are cardiovascular
procedures. CardioGenesis markets its products for sale
primarily in the U.S., Europe and Asia. CardioGenesis operates
in a single segment.

These financial statements contemplate the
realization of assets and the satisfaction of liabilities in the
normal course of business. CardioGenesis has sustained
significant operating losses for the last several years and may
continue to incur losses through 2003. Management believes its
cash balance as of December 31, 2002 is sufficient to meet
the Companys capital and operating requirements for the
next 12 months. CardioGenesis has additional funding
available through a $2,000,000 revolving convertible note credit
facility (See Note 16  Subsequent Event).

CardioGenesis may require additional financing in
the future. There can be no assurance that CardioGenesis will be
able to obtain additional debt or equity financing, if and when
needed, on terms acceptable to the Company. Any additional
equity or debt financing may involve substantial dilution to
CardioGenesis stockholders, restrictive covenants or high
interest costs. The failure to raise needed funds on
sufficiently favorable terms could have a material adverse
effect on CardioGenesis business, operating results and
financial condition. CardioGenesis long term liquidity
also depends upon its ability to increase revenues from the sale
of its products and achieve profitability. The failure to
achieve these goals could have a material adverse effect on the
business, operating results and financial condition.

2.   Summary of Significant
Accounting Policies:



| |                       
| | ----------------------
| | Basis of Presentation:

On March 17, 1999, Eclipse Surgical
Technologies, Inc. (Eclipse) completed the
acquisition of the former CardioGenesis Corporation pursuant to
the Agreement and Plan of Reorganization (the
merger) dated as of October 21, 1998. The
merger was accounted for using the pooling of interests method
of accounting for business combinations. The accompanying
consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiaries. All significant
intercompany transactions and balances have been eliminated.



| |                  
| | -----------------
| | Use of Estimates:

The preparation of financial statements in
conformity with generally accepted accounting principles
requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could
differ from those estimates.



| |                           
| | --------------------------
| | Cash and Cash Equivalents:

All highly liquid instruments purchased with an
original maturity of three months or less are considered cash
equivalents.



| |             
| | ------------
| | Inventories:

Inventories are stated at the lower of cost
(principally standard cost, which approximates actual cost on a
first-in, first-out basis) or market value.

39



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##### Table of Contents



CARDIOGENESIS CORPORATION


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)




| |                 
| | ----------------
| | Patent Expenses:

Patent and patent related expenditures are
expensed as general and administrative expenses as incurred.



| |                        
| | -----------------------
| | Property and Equipment:

Property and equipment are stated at cost and
depreciated on a straight-line basis over their estimated useful
lives of two to seven years. Assets acquired under capital
leases are amortized over the shorter of their estimated useful
lives or the term of the related lease (generally three to five
years). Amortization of leasehold improvements is based on the
straight-line method over the shorter of the estimated useful
life or the lease term.



| |                                                                    
| | -------------------------------------------------------------------
| | Accounting for the Impairment or Disposal of
    Long-Lived Assets:

CardioGenesis evaluates the recoverability of its
long-lived assets in accordance with Statement of Financial
Accounting Standards No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets
(SFAS 144). SFAS 144 requires recognition
of the impairment of long-lived assets in the event the net book
value of such assets exceeds the future undiscounted cash flows
attributable to such assets.



| |                                     
| | ------------------------------------
| | Fair Value of Financial Instruments:

The carrying amounts of certain of
CardioGenesis financial instruments including cash
equivalents, accounts receivable, accounts payable, accrued
liabilities and customer deposits approximate fair value due to
their short maturities.

The fair value of the Companys long-term
liabilities is estimated by discounting future cash flows of
each instrument at rates currently offered to the Company for
similar debt instruments of comparable maturities. Based upon
such rates currently available to the Company, the estimated
fair value of the Companys long-term liabilities
approximates carrying value.



| |                     
| | --------------------
| | Revenue Recognition:

CardioGenesis recognizes revenue on product sales
upon receipt of a purchase order, subsequent shipment of the
product and the price is fixed or determinable and collection of
sales proceeds is reasonably assured. Where purchase orders
allow customers an acceptance period or other contingencies,
revenue is recognized upon the earlier of acceptance or removal
of the contingency.

Revenues from sales to distributors and agents
are recognized upon shipment when there is evidence that an
arrangement exists, delivery has occurred, and when the sales
price is fixed or determinable and the ability to collect sales
proceeds is reasonably assured. The contracts regarding these
sales do not include any rights of return or price protection
clauses.

CardioGenesis frequently loans lasers to
hospitals in return for the hospital purchasing a minimum number
of handpieces at a premium over the list price. The loaned
lasers are depreciated to cost of revenues over a useful life of
24 months. The revenue on the handpieces is recognized upon
shipment at an amount equal to the list price. The premium over
the list price represents revenue related to the use of the
laser unit and is recognized ratably, generally over the
24-month useful life of the placed lasers.

Revenues from service contracts, rentals, and per
procedure fees are recognized upon performance or over the terms
of the contract as appropriate.

40



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##### Table of Contents



CARDIOGENESIS CORPORATION


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)




| |                          
| | -------------------------
| | Research and Development:

Research and development expenses are charged to
operations as incurred.



| |            
| | -----------
| | Warranties:

CardioGenesis laser products are generally
sold with a one year warranty. CardioGenesis provides for
estimated future costs of repair or replacement which are
reflected in the accompanying financial statements.



| |             
| | ------------
| | Advertising:

CardioGenesis expenses all advertising as
incurred. CardioGenesis advertising expenses were
$220,765, $137,000 and $128,000 for 2002, 2001, and 2000,
respectively. Advertising expenses include fees for website
design and hosting, reprints from medical journals, promotional
materials and sales sheets.



| |              
| | -------------
| | Income Taxes:

CardioGenesis accounts for income taxes using the
liability method under which deferred tax assets or liabilities
are calculated at the balance sheet date using current tax laws
and rates in effect for the year in which the differences are
expected to affect taxable income. Valuation allowances are
established, when necessary, to reduce deferred tax assets to
the amounts expected to be realized.



| |                              
| | -----------------------------
| | Foreign Currency Translation:

CardioGenesis international subsidiary uses
its local currency as its functional currency. Assets and
liabilities are translated at exchange rates in effect at the
balance sheet date and income and expense accounts at average
exchange rates during the year. Resulting translation
adjustments are recorded in accumulated other comprehensive
income/loss in shareholders equity. Transaction gains and
losses are included in the results of operations and have not
been significant for all periods presented.



| |                          
| | -------------------------
| | Stock-Based Compensation:

CardioGenesis accounts for its stock-based
compensation in accordance with Accounting Principles Board
Opinion No. 25, Accounting for Stock Issued to
Employees (APB 25). CardioGenesis has
elected to adopt the disclosure only provisions of Statement of
Financial Accounting Standards No. 123, Accounting
for Stock-Based Compensation (SFAS 123),
which requires pro forma disclosures in the financial statements
as if the measurement provisions of SFAS 123 had been adopted.
In addition, the Company has made the appropriate disclosures as
required under the Statement of Financial Accounting Standards
No. 148, Accounting for Stock-Based
Compensation  Transition and Disclosure. (See
Note 11).

CardioGenesis accounts for equity instruments
issued to non-employees in accordance with the provisions of
SFAS 123 and Emerging Issues Task Force 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.



| |                    
| | -------------------
| | Net Loss Per Share:

Basic earnings per share (EPS) is
computed by dividing the net loss by the weighted average number
of common shares outstanding for the period. Diluted EPS is
computed giving effect to all dilutive potential common shares
that were outstanding during the period. Dilutive potential
common shares consist of incremental shares issuable upon the
exercise of stock options and warrants using the treasury
stock method.

Options to purchase 3,477,000, 2,787,000, and
3,243,000 shares of common stock were outstanding at
December 31, 2002, 2001 and 2000, respectively. The range
of per share exercise prices for these options was

41



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##### Table of Contents



CARDIOGENESIS CORPORATION


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)


$0.563-$12.6875 for 2002 and 2001 and
$0.03-$15.9375 for 2000. Warrants to purchase 75,000 shares of
common stock at $1.63 per share were outstanding as of
December 31, 2002 and 2001. No warrants were outstanding at
December 31, 2000. Both the options and warrants were not
included in the calculation of diluted EPS because their
inclusion would have been anti-dilutive.

3.   Restructuring
Costs:

During the year ended December 31, 2001, the
Company recognized restructuring charges of $1,303,000, which
were partially offset by a change in estimate of $270,000 in
connection with merger-related costs that were incurred in 1999.
The restructuring included a reduction in headcount and the
closing of the Companys facilities in Sunnyvale,
California. As a result of the restructuring, 48 employees were
identified to be terminated under the original restructuring
plan, primarily from the finance and manufacturing departments.

The following table summarizes the restructuring
activity and the remaining restructuring reserve balance (in
thousands):

|                 |                                 |               |      |             |  |               |      |       |  |   |      |    |  |   |        |    | 
|---------------- | ------------------------------- | ------------- | ---- | ----------- |  | ------------- | ---- | ----- |  | - | ---- | -- |  | - | ------ | -- | 
|                 |                                 |               |      | Lease and   |  |               |      |      
|                 |                                 | Personnel and |      | Other       |  | Other         |      |      
|                 |                                 | Severance     |      | Contractual |  | Miscellaneous |      |      
|                 |                                 | Costs         |      | Commitments |  | Costs         |      | Total
|                 |                                 |               |      |             |  |               |      |      
|Provisions       |                                 | $             | 655  |             |  | $             | 344  |       |  | $ | 304  |    |  | $ | 1,303  |   
|Payments         |                                 |               | (655 | )           |  |               | (252 | )     |  |   | (176 | )  |  |   | (1,083 | ) 
|Non-cash charges |                                 |               |     |             |  |               | (52  | )     |  |   | (116 | )  |  |   | (168   | ) 
|                 |                                 |               |      |             |  |               |      |       |  |   |      |    |  |   |        |   
|                 | Balance as of December 31, 2001 |               |      |            |  |               |      | 40    |  |   |      | 12 |  |   |        | 52 | 
|Payments         |                                 |               |     |             |  |               | (40  | )     |  |   |     |    |  |   | (40    | ) 
|Non-cash charges |                                 |               |     |             |  |               |     |       |  |   | (12  | )  |  |   | (12    | ) 
|                 |                                 |               |      |             |  |               |      |       |  |   |      |    |  |   |        |   
|                 | Balance as of December 31, 2002 |               | $    |            |  |               | $    |      |  |   | $    |   |  |   | $      |   | 
|                 |                                 |               |      |             |  |               |      |       |  |   |      |    |  |   |        |   

The restructuring reserve balance is included in
accrued liabilities at December 31, 2001.

Personnel and severance costs are comprised of
severance, retention and relocation costs. Certain employees
were offered a retention incentive to stay employed through a
certain date while the Company was going through the
restructuring phase. Lease and other contractual commitments are
comprised primarily of the termination penalties associated with
the early lease termination on the Companys manufacturing
and office facilities.

4.   Inventories:

Inventories consist of the following (in
thousands):

|                |  |              |       |      |  |   |        |  
|--------------- |  | ------------ | ----- | ---- |  | - | ------ | -
|                |  |             
|                |  | December 31,
|                |  |             
|                |  | 2002         |       | 2001
|                |  |              |       |     
|Raw materials   |  | $            | 1,121 |      |  | $ | 917    |  
|Work in process |  |              | 136   |      |  |   | 323    |  
|Finished goods  |  |              | 736   |      |  |   | 3,221  |  
|                |  |              |       |      |  |   |        |  
|                |  |              | 1,993 |      |  |   | 4,461  |  
|Less reserves   |  |              | (361  | )    |  |   | (1,246 | )
|                |  |              |       |      |  |   |        |  
|                |  | $            | 1,632 |      |  | $ | 3,215  |  
|                |  |              |       |      |  |   |        |  

42



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##### Table of Contents



CARDIOGENESIS CORPORATION


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)


5.   Property and
Equipment:

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

|                                               |  |              |        |      |  |   |        |  
|---------------------------------------------- |  | ------------ | ------ | ---- |  | - | ------ | -
|                                               |  |             
|                                               |  | December 31,
|                                               |  |             
|                                               |  | 2002         |        | 2001
|                                               |  |              |        |     
|Computers and equipment                        |  | $            | 2,677  |      |  | $ | 2,715  |  
|Manufacturing and demonstration equipment      |  |              | 2,177  |      |  |   | 2,272  |  
|Leasehold improvements                         |  |              | 172    |      |  |   | 157    |  
|                                               |  |              |        |      |  |   |        |  
|                                               |  |              | 5026   |      |  |   | 5,144  |  
|Less accumulated depreciation and amortization |  |              | (4,437 | )    |  |   | (4,281 | )
|                                               |  |              |        |      |  |   |        |  
|                                               |  | $            | 589    |      |  | $ | 863    |  
|                                               |  |              |        |      |  |   |        |  

CardioGenesis leases certain equipment under a
capital lease which expires in November 2003. Accordingly,
capitalized costs of $138,000, net of accumulated amortization
of $113,000 and $83,000 at December 31, 2002 and 2001,
respectively, are included in computers and equipment.

6.   Other Assets:

On January 5, 1999, CardioGenesis entered
into a Settlement and License Agreement (the PLC
agreement) with PLC Medical Systems, Inc.
(PLC), which granted CardioGenesis a non-exclusive
worldwide license to certain PLC patents. In return,
CardioGenesis agreed to pay PLC a license fee and minimum
royalties totaling $2,500,000 over an approximately forty-month
period. The present value of these payments of $2,300,000 was
recorded as a prepaid license fee in other assets, and is being
amortized over the life of the underlying patents. The Company
has recorded accumulated amortization of $778,000 and $584,000
for the years ended December 31, 2002 and 2001,
respectively (See Note 9).

At December 31, 2001, CardioGenesis had a
30% ownership interest in Microheart, Inc., formerly known as
Microheart Holdings, Inc., (Microheart), which was
accounted for under the equity method. The investment in
Microheart was originally recorded at cost and subsequently
adjusted for the Companys share of Microhearts
losses. For the years ended December 31, 2001 and 2000,
CardioGenesis recorded an expense of $652,000 and $58,000,
respectively, which represented CardioGenesis equity in
the losses incurred by Microheart subsequent to obtaining the
equity interest. As of December 31, 2001 the investment in
Microheart was fully written down. In the second quarter of
2002, CardioGenesis recorded a gain of $2,285,000 resulting from
the sale of the Companys minority interest in Microheart.

7.   Accrued
Liabilities:

Accrued liabilities consists of the following
(in thousands):

|                                              |  |              |       |      |  |   |       | 
|--------------------------------------------- |  | ------------ | ----- | ---- |  | - | ----- | 
|                                              |  |             
|                                              |  | December 31,
|                                              |  |             
|                                              |  | 2002         |       | 2001
|                                              |  |              |       |     
|Accrued research support                      |  | $            | 753   |      |  | $ | 2,192 | 
|Accrued accounts payable and related expenses |  |              | 420   |      |  |   | 989   | 
|Accrued commissions                           |  |              | 276   |      |  |   | 213   | 
|Accrued other                                 |  |              | 652   |      |  |   | 1,073 | 
|                                              |  |              |       |      |  |   |       | 
|                                              |  | $            | 2,101 |      |  | $ | 4,467 | 
|                                              |  |              |       |      |  |   |       | 

43



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##### Table of Contents



CARDIOGENESIS CORPORATION


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)


8.   Notes Payable:

In May 2001, CardioGenesis financed insurance
premiums for Directors & Officers insurance with a $339,000
note payable to a finance company at 6.1% per annum, with an
outstanding balance of $70,000 at December 31, 2001. In
August 2001, CardioGenesis established a receivables financing
arrangement with a finance company. As of December 31,
2001, the Company had outstanding borrowings of $100,000. The
receivables financing arrangement has been terminated.

As of December 31, 2002, there was no note
payable balance outstanding.

9.   Other Current
Liability:

Pursuant to the PLC agreement, which grants
CardioGenesis a non-exclusive worldwide license to certain PLC
patents, CardioGenesis agreed to pay PLC a license fee and
minimum royalties totaling $2,500,000 over an approximately
forty-month period. As of December 31, 2002, there is no
liability for outstanding payments due to PLC. As of
December 31, 2001, the liability for outstanding payments
due to PLC was $495,000, net of interest of $5,000 (See
Note 6).

10. Commitments and
Contingencies:

CardioGenesis has entered into an operating lease
for an office facility with terms extending through October
2006. The minimum future rental payments are as follows (in
thousands):

|                              |  |   |       | 
|----------------------------- |  | - | ----- | 
|Year Ending December 31, 2003 |  | $ | 498   | 
|2004                          |  |   | 498   | 
|2005                          |  |   | 498   | 
|2006                          |  |   | 436   | 
|                              |  |   |       | 
|                              |  | $ | 1,930 | 
|                              |  |   |       | 

Rent expense was approximately $504,000,
$1,154,000 and $950,000 for the years ended December 31,
2002, 2001 and 2000, respectively.

11. Shareholders Equity:



| |                           
| | --------------------------
| | Issuances of Common Stock:

In March 2001 and September 2000, the Company
sold 898,202 shares and 526,496 shares, respectively, of common
stock to a private company. The March 2001 sale was at a
negotiated purchase price of $1.1133 per share and the September
2000 sale was at a negotiated price of $3.7987 per share.

In April 2002, December 2001 and April 2001, the
Company sold 500,000, 2,222,225 and 2,000,000 shares,
respectively, of common stock to a governmental entity. The
April 2002 and April 2001 sales were at a negotiated purchase
price of $1.00 per share and the December 2001 sale was at a
negotiated purchase price of $0.90 per share. Certain bylaws
were amended as a condition of these sales.



| |          
| | ---------
| | Warrants:

During the year ended December 31, 2001, the
Company issued warrants to purchase 75,000 shares of common
stock at a price of $1.63 per share in connection with a
facilities lease agreement executed in 2001. The warrants were
fair valued at $94,000 using the Black-Scholes pricing model and
are being amortized over the five-year lease term. For the years
ended December 31, 2002 and 2001, the Company recorded
amortization charges to rent expense of $19,000 and $9,000,
respectively, in connection with these warrants. The warrants
expire in May 2006 and were outstanding at December 31,
2002. During the years ended

44



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##### Table of Contents



CARDIOGENESIS CORPORATION


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)


December 31, 2002 and 2000, no warrants were
issued. During the years ended December 31, 2002, 2001 and
2000, no warrants were exercised.



| |                                
| | -------------------------------
| | Options Granted to Consultants:

At December 31, 2002, 2001 and 2000, options
for consultants to purchase a total of 47,000, 86,000 and
371,000 shares of common stock, respectively, at exercise prices
ranging from $.78 to $8.75 per share were outstanding. The
termination of this plan and terms under which stock options are
exercised are the same as CardioGenesis Stock Option Plan
which is described below. At December 31, 2002,
CardioGenesis had reserved 47,000 shares of common stock for
issuance upon exercise of these options. CardioGenesis recorded
deferred stock compensation of $61,000 and $231,000 for the
years ended December 31, 2001 and 2000, respectively,
related to these options. No deferred compensation was recorded
in the year ended December 31, 2002. These options are
included in the Stock Option Plan disclosures below.



| |                   
| | ------------------
| | Stock Option Plan:

CardioGenesis maintains a Stock Option Plan,
which includes the Employee Program under which incentive and
nonstatutory options may be granted to employees and the
Consultants Program, under which nonstatutory options may be
granted to consultants of the Company. As of December 31,
2002, CardioGenesis had reserved a total of 7,100,000 shares of
common stock for issuance under this plan. Under the plan,
options may be granted at not less than fair market value (110%
of fair market value for options granted to 10% shareholders),
as determined by the Board of Directors. Options generally vest
over a period of three years and expire ten years from date of
grant (five years for options granted to 10% shareholders). No
shares of common stock issued under the plan are subject to
repurchase.



| |                              
| | -----------------------------
| | Directors Stock Option Plan:

CardioGenesis maintains a Directors Stock
Option Plan which provides for the grant of nonstatutory options
to directors who are not officers or employees of the Company.
As of December 31, 2002, CardioGenesis had reserved 575,000
shares of common stock for issuance under this plan. Under this
plan, options are granted at the trading price of the common
stock at the date of grant. Options generally vest over twelve
to thirty-six months and expire ten years from date of grant. No
shares of common stock issued under the plan are subject to
repurchase.



| |                              
| | -----------------------------
| | Employee Stock Purchase Plan:

CardioGenesis maintains an Employee Stock
Purchase Plan (ESPP), under which 878,400 shares of
common stock have been reserved for issuance. CardioGenesis
adopted the ESPP in April 1996. The purpose of the ESPP is to
provide eligible employees of CardioGenesis with a means of
acquiring common stock of CardioGenesis through payroll
deductions. Eligible employees are permitted to purchase common
stock at 85% of the fair market value through payroll deductions
of up to 15% of an employees compensation, subject to
certain limitations. During fiscal years 2002, 2001 and 2000,
approximately 114,000, 105,000 and 172,000 shares, respectively,
were sold through the ESPP.

45



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##### Table of Contents



CARDIOGENESIS CORPORATION


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)




| |                          
| | -------------------------
| | Stock-Based Compensation:

The Company has adopted the disclosure only
provisions of SFAS 123. CardioGenesis, however, continues to
apply APB 25 and related interpretations in accounting for its
plans. Had compensation cost for the Stock Option Plan, the
Directors Stock Option Plan and the ESPP been determined
based on the fair value of the options at the grant date for
awards in 2002, 2001 and 2000 consistent with the provisions of
SFAS 123, CardioGenesis net loss and net loss per share
would have increased to the pro forma amounts indicated below
(in thousands, except per share amounts):

|                                                 |  |                         |        |      |  |      |         |   |  |   |         |  
|------------------------------------------------ |  | ----------------------- | ------ | ---- |  | ---- | ------- | - |  | - | ------- | -
|                                                 |  |                        
|                                                 |  | Year Ended December 31,
|                                                 |  |                        
|                                                 |  | 2002                    |        | 2001 |  | 2000
|                                                 |  |                         |        |      |  |     
|Net loss as reported                             |  | $                       | (530   | )    |  | $    | (10,247 | ) |  | $ | (14,609 | )
|Pro forma net loss                               |  | $                       | (1,934 | )    |  | $    | (11,609 | ) |  | $ | (17,993 | )
|Basic and diluted net loss per share as reported |  | $                       | (0.01  | )    |  | $    | (0.31   | ) |  | $ | (0.48   | )
|Pro forma basic and diluted net loss per share   |  | $                       | (0.05  | )    |  | $    | (0.35   | ) |  | $ | (0.60   | )

The above pro-forma disclosures are not
necessarily representative of the effects on reported net income
(loss) for future years. The aggregate fair value and weighted
average fair value per share of options granted in the years
ended December 31, 2002, 2001 and 2000 were $646,000,
$1,400,000 and $2,500,000, and $0.58, $1.53 and $1.44,
respectively. The fair value of each option grant is estimated
on the date of grant using the Black-Scholes option pricing
model with the following weighted-average assumptions for grants
in 2002, 2001 and 2000:

|                        |  |              |          |      |  |      |          |   |  |  |          |  
|----------------------- |  | ------------ | -------- | ---- |  | ---- | -------- | - |  |  | -------- | -
|                        |  |             
|                        |  | December 31,
|                        |  |             
|                        |  | 2002         |          | 2001 |  | 2000
|                        |  |              |          |      |  |     
|Expected life of option |  |              | 7  years |      |  |      | 7  years |   |  |  | 7  years |  
|Risk-free interest rate |  |              | 4.04     | %    |  |      | 5.26     | % |  |  | 5.85     | %
|Expected dividends      |  |              |         |      |  |      |         |   |  |  |         |  
|Expected volatility     |  |              | 75       | %    |  |      | 100      | % |  |  | 70       | %

The aggregate fair value and weighted average
fair value per share of purchase rights under the ESPP in fiscal
years 2002, 2001 and 2000 was $56,000, $61,000 and $167,000, and
$0.59, $0.64 and $3.01, respectively. The fair value for the
purchase rights under the ESPP is estimated using the
Black-Scholes option pricing model, with the following
assumptions for the rights granted in 2002, 2001 and 2000:

|                        |  |              |           |      |  |      |           |   |  |  |           |  
|----------------------- |  | ------------ | --------- | ---- |  | ---- | --------- | - |  |  | --------- | -
|                        |  |             
|                        |  | December 31,
|                        |  |             
|                        |  | 2002         |           | 2001 |  | 2000
|                        |  |              |           |      |  |     
|Expected life           |  |              | .5  years |      |  |      | .5  years |   |  |  | .5  years |  
|Risk-free interest rate |  |              | 4.04      | %    |  |      | 5.26      | % |  |  | 5.85      | %
|Expected dividends      |  |              |          |      |  |      |          |   |  |  |          |  
|Expected volatility     |  |              | 152       | %    |  |      | 193       | % |  |  | 165       | %

46



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##### Table of Contents



CARDIOGENESIS CORPORATION


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)


Option activity under the Stock Option Plan and
the Directors Stock Option Plan is as follows
(in thousands, except per share amounts):

|                           |  |                  |        |                     |  |                  |        |   |  |   |      | 
|-------------------------- |  | ---------------- | ------ | ------------------- |  | ---------------- | ------ | - |  | - | ---- | 
|                           |  |                  |        |                    
|                           |  |                  |        | Outstanding Options
|                           |  |                  |        |                    
|                           |  | Shares Available |        | Number              |  | Weighted Average
|                           |  | For Grant        |        | of Shares           |  | Price per Share 
|                           |  |                  |        |                     |  |                 
|Balance, December 31, 1999 |  |                  | 301    |                     |  |                  | 4,363  |   |  | $ | 5.35 | 
|Options granted            |  |                  | (1,081 | )                   |  |                  | 1,081  |   |  | $ | 2.34 | 
|Options canceled           |  |                  | 780    |                     |  |                  | (1,561 | ) |  | $ | 7.36 | 
|Options exercised          |  |                  |       |                     |  |                  | (640   | ) |  | $ | 1.66 | 
|                           |  |                  |        |                     |  |                  |        |   |  |   |      | 
|Balance, December 31, 2000 |  |                  |       |                     |  |                  | 3,243  |   |  | $ | 4.99 | 
|Additional shares reserved |  |                  | 500    |                     |  |                  |       |   |  |   |     | 
|Options granted            |  |                  | (2,075 | )                   |  |                  | 2,075  |   |  | $ | 1.61 | 
|Options canceled           |  |                  | 2,085  |                     |  |                  | (2,085 | ) |  | $ | 5.27 | 
|Options exercised          |  |                  |       |                     |  |                  | (446   | ) |  | $ | 1.58 | 
|                           |  |                  |        |                     |  |                  |        |   |  |   |      | 
|Balance, December 31, 2001 |  |                  | 510    |                     |  |                  | 2,787  |   |  | $ | 2.42 | 
|Additional shares reserved |  |                  | 1,500  |                     |  |                  |       |   |  |   |     | 
|Options granted            |  |                  | (1,105 | )                   |  |                  | 1,105  |   |  | $ | 0.82 | 
|Options canceled           |  |                  | 415    |                     |  |                  | (415   | ) |  | $ | 3.86 | 
|                           |  |                  |        |                     |  |                  |        |   |  |   |      | 
|Balance, December 31, 2002 |  |                  | 1,320  |                     |  |                  | 3,477  |   |  | $ | 1.74 | 
|                           |  |                  |        |                     |  |                  |        |   |  |   |      | 

The following table summarizes information about
the Companys stock options outstanding and exercisable
under the Stock Option Plan and the Directors Stock Option
Plan at December 31, 2002:

|                |  |                     |       |                  |  |                  |      |                     |  |                  |      |  |  |  |       |  |  |   |      | 
|--------------- |  | ------------------- | ----- | ---------------- |  | ---------------- | ---- | ------------------- |  | ---------------- | ---- |  |  |  | ----- |  |  | - | ---- | 
|                |  |                     |       |                  |  |                 
|                |  | Options Outstanding |       |                  |  |                 
|                |  |                     |       |                 
|                |  |                     |       | Weighted Average |  |                  |      | Options Exercisable
|                |  |                     |       | Remaining        |  |                  |      |                    
|                |  | Number              |       | Contractual Life |  | Weighted Average |      | Number              |  | Weighted Average
|Exercise Prices |  | Outstanding         |       | (In Years)       |  | Exercise Price   |      | Exercisable         |  | Exercise Price  
|                |  |                     |       |                  |  |                  |      |                     |  |                 
|                |  | (In thousands)      |       |                  |  |                  |      | (In thousands)      |  |                 
|$0.56-$0.83     |  |                     | 550   |                  |  |                  | 9.15 |                     |  | $                | 0.70 |  |  |  | 314   |  |  | $ | 0.68 | 
|$0.84-$1.00     |  |                     | 574   |                  |  |                  | 9.45 |                     |  | $                | 0.88 |  |  |  | 241   |  |  | $ | 0.88 | 
|$1.01-$1.16     |  |                     | 457   |                  |  |                  | 8.60 |                     |  | $                | 1.04 |  |  |  | 207   |  |  | $ | 1.04 | 
|$1.19-$1.45     |  |                     | 648   |                  |  |                  | 8.23 |                     |  | $                | 1.27 |  |  |  | 440   |  |  | $ | 1.26 | 
|$1.67-$1.75     |  |                     | 742   |                  |  |                  | 7.75 |                     |  | $                | 1.69 |  |  |  | 536   |  |  | $ | 1.69 | 
|$2.57-$6.06     |  |                     | 363   |                  |  |                  | 8.14 |                     |  | $                | 3.33 |  |  |  | 241   |  |  | $ | 3.60 | 
|$6.38-$12.69    |  |                     | 143   |                  |  |                  | 5.89 |                     |  | $                | 9.75 |  |  |  | 140   |  |  | $ | 9.81 | 
|                |  |                     |       |                  |  |                  |      |                     |  |                  |      |  |  |  |       |  |  |   |      | 
|                |  |                     | 3,477 |                  |  |                  | 8.42 |                     |  | $                | 1.74 |  |  |  | 2,119 |  |  | $ | 2.05 | 
|                |  |                     |       |                  |  |                  |      |                     |  |                  |      |  |  |  |       |  |  |   |      | 

The Companys stock options exercisable
under the Stock Option Plan and the Directors Stock Option
Plan at December 31, 2002 and 2001 were 2,119,000 and
872,000 shares, respectively.

12. Employee Retirement Plan:

CardioGenesis maintains a 401(k) plan for its
employees. The plan allows eligible employees to defer up to 15%
of their earnings, not to exceed the statutory amount per year
on a pretax basis through contributions to the plan. The plan
provides for employer contributions at the discretion of the
Board of Directors. For the

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##### Table of Contents



CARDIOGENESIS CORPORATION


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)


years ended December 31, 2002 and 2001,
$93,000 and $110,000 of employer contributions were made to the
plan, respectively. For the year ended December 31, 2000,
no such contributions were made.

13. Segment Disclosures

The Company operates in the cardiovascular
medical device segment. The principal markets for the
Companys products are in the United States of America.
International sales occur in Europe, the Middle East and Asia
and amounted to $494,000, $1,000,000 and $2,200,000 for the
years ended December 31, 2002, 2001 and 2000, respectively.
The international sales represent 4%, 7% and 10% of total sales
for the years ended December 31, 2002, 2001 and 2000,
respectively. The majority of international sales are
denominated in US dollars.

14. Income Taxes:

Significant components of CardioGenesis
deferred tax assets are as follows (in thousands):

|                                           |  |              |         |      |  |   |         |  
|------------------------------------------ |  | ------------ | ------- | ---- |  | - | ------- | -
|                                           |  |             
|                                           |  | December 31,
|                                           |  |             
|                                           |  | 2002         |         | 2001
|                                           |  |              |         |     
|Net operating losses                       |  | $            | 56,042  |      |  | $ | 56,931  |  
|Research and development and other credits |  |              | 4,109   |      |  |   | 3,823   |  
|Reserves                                   |  |              | 670     |      |  |   | 1,950   |  
|Accrued liabilities                        |  |              | 572     |      |  |   | 680     |  
|Depreciation                               |  |              | 263     |      |  |   | 243     |  
|Other                                      |  |              |        |      |  |   | 304     |  
|                                           |  |              |         |      |  |   |         |  
|Net deferred tax asset                     |  |              | 61,656  |      |  |   | 63,931  |  
|Less valuation allowance                   |  |              | (61,656 | )    |  |   | (63,931 | )
|                                           |  |              |         |      |  |   |         |  
|Net deferred tax assets                    |  | $            |        |      |  | $ |        |  
|                                           |  |              |         |      |  |   |         |  

The Company has established a valuation allowance
to the extent of its deferred tax asset since it is not certain
that a benefit can be realized in the future due to the
Companys recurring operating losses.

As of December 31, 2002, the Company had
federal and state net operating loss carryforwards of
approximately $152,200,000 and $48,500,000, respectively, to
offset future taxable income. In addition, the Company had
federal and state credit carryforwards of approximately
$2,500,000 and $1,600,000 available to offset future tax
liabilities. The Companys net operating loss
carryforwards, as well as credit carryforwards, will expire at
various dates beginning in 2002 through 2020, if not utilized.

The Internal Revenue Code limits the use of net
operating loss and tax credit carryforwards in certain
situations where changes occur in the stock ownership of a
company. The Company believes that the sale of common stock in
its initial public offering and the merger with CardioGenesis
resulted in changes in ownership which could restrict the
utilization of the carryforwards.

15. Risks and Concentrations:

CardioGenesis sells its products primarily to
hospitals and other healthcare providers in North America,
Europe and Asia. CardioGenesis performs ongoing credit
evaluations of its customers and generally does not require
collateral. Although CardioGenesis maintains allowances for
potential credit losses that it believes to be adequate, a
payment default on a significant sale could materially and
adversely affect its operating results and financial condition.
At December 31, 2002, one customer individually accounted
for more than 11% of gross accounts receivable. No customer
individually accounted for 10% or more of accounts receivable at

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##### Table of Contents



CARDIOGENESIS CORPORATION


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(continued)


December 31, 2001. For the years ended
December 31, 2002, 2001 and 2000, no customer individually
accounted for 10% or more of net revenues.

Certain components of laser units and fiber-optic
handpieces are generally acquired from multiple sources. Other
laser and fiber-optic components and subassemblies are purchased
from single sources. Although the Company has identified
alternative vendors, the qualification of additional or
replacement vendors for certain components or services is a
lengthy process. Any significant supply interruption would have
a material adverse effect on the Companys ability to
manufacture its products and, therefore, would harm
its business. The Company intends to continue to qualify
multiple sources for components that are presently single
sourced.

16. Subsequent Event:

On March 27, 2003, the Company entered into
a Purchase and Security Agreement with a private equity fund and
entered into a revolving Convertible Note agreement (the
Note) that matures on March 26, 2006. The Note
provides for borrowings of up to $2,000,000 based upon eligible
accounts receivable, and advances under the Note will bear
interest at prime plus 3.35%. The Note includes a right of
conversion at a fixed conversion price of $.30 per share,
subject to adjustment. In conjunction with this transaction, the
Company issued 275,000 five year warrants at exercise prices
ranging from $.35 to $.44 per share. As of March 31, 2003,
the Company has no outstanding borrowings on the Note.

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CARDIOGENESIS CORPORATION

SCHEDULE II  VALUATION AND
QUALIFYING ACCOUNTS

|                                 |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|-------------------------------- |  | -------------- | ------ | ------------ |  | ------------- | ----- | ------------- |  | - | ----- |  |  | - | ------ | 
|                                 |  | Balance at     |        |              |  |               |       |              
|                                 |  | Beginning      |        |              |  |               |       | Balance at   
|                                 |  | of Period      |        | Additions(1) |  | Deductions(2) |       | End of Period
|                                 |  |                |        |              |  |               |       |              
|                                 |  |               
|                                 |  | (In thousands)
|Allowance for doubtful accounts: |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Year ended December 31, 2000     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Allowance for doubtful accounts  |  | $              | 1,876  |              |  | $             | 620   |               |  | $ | 1,700 |  |  | $ | 796    | 
|Year ended December 31, 2001     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Allowance for doubtful accounts  |  | $              | 796    |              |  | $             | 904   |               |  | $ | 346   |  |  | $ | 1,354  | 
|Year ended December 31, 2002     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Allowance for doubtful accounts  |  | $              | 1,354  |              |  | $             | 335   |               |  | $ | 1,240 |  |  | $ | 449    | 
|Inventory reserve:               |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Year ended December 31, 2000     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Inventory reserve                |  | $              | 1,998  |              |  | $             | 1,788 |               |  | $ | 1,606 |  |  | $ | 2,180  | 
|Year ended December 31, 2001     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Inventory reserve                |  | $              | 2,180  |              |  | $             | 1,144 |               |  | $ | 2,078 |  |  | $ | 1,246  | 
|Year ended December 31, 2002     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Inventory reserve                |  | $              | 1,246  |              |  | $             | 854   |               |  | $ | 1,739 |  |  | $ | 361    | 
|Warranty reserve:                |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Year ended December 31, 2000     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Warranty reserve                 |  | $              | 225    |              |  | $             | 95    |               |  | $ | 162   |  |  | $ | 158    | 
|Year ended December 31, 2001     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Warranty reserve                 |  | $              | 158    |              |  | $             | 28    |               |  | $ | 170   |  |  | $ | 16     | 
|Year ended December 31, 2002     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Warranty reserve                 |  | $              | 16     |              |  | $             | 35    |               |  | $ | 34    |  |  | $ | 17     | 
|Valuation allowance:             |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Year ended December 31, 2000     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Valuation allowance              |  | $              | 56,297 |              |  | $             | 3,118 |               |  | $ |      |  |  | $ | 59,415 | 
|Year ended December 31, 2001     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Valuation allowance              |  | $              | 59,415 |              |  | $             | 4,516 |               |  | $ |      |  |  | $ | 63,931 | 
|Year ended December 31, 2002     |  |                |        |              |  |               |       |               |  |   |       |  |  |   |        | 
|Valuation allowance              |  | $              | 63,931 |              |  | $             |      |               |  | $ | 2,275 |  |  | $ | 61,656 | 



---



|    |                                         
|--- | ----------------------------------------
|(1) | Charged to costs and expenses.          
|   
|(2) | Amounts written off against the reserve.

THIS SCHEDULE CONTAINS SUMMARY FINANCIAL
INFORMATION EXTRACTED FROM THE YEAR ENDED DECEMBER 31,
2002, 2001 AND 2000 AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.

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##### Table of Contents



EXHIBIT INDEX

|        |          |             |  |                                                                                                                                                                                                                                                                                                                                                                 
|------- | -------- | ----------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |          |            
|Number  |          | Description
|        |          |            
|        | 2.1(1)   |             |  | Agreement and Plan of Reorganization among the
    Company, the former CardioGenesis Corporation and RW Acquisition
    Corporation dated October 21, 1998.                                                                                                                                                                                                     
|        | 3.1(2)   |             |  | Certificate of Amendment and Restated Articles of
    Incorporation of Registrant.                                                                                                                                                                                                                                                                              
|        | 3.2      |             |  | Certificate of Amendment to Articles of
    Incorporation of Registrant (incorporated by reference to the
    Companys Form 10-Q filed August 14, 2001).                                                                                                                                                                                                       
|        | 3.3(3)   |             |  | Amended and Restated Bylaws of Registrant.                                                                                                                                                                                                                                                                                                                      
|        | 4.1      |             |  | Form of Rights Agreement, dated as of
    August 17, 2001, between CardioGenesis Corporation and
    EquiServe Trust Company, N.A., as Rights Agent, which includes
    as Exhibit A the Form of Right Certificate, Form of
    Assignment and Form of Election to Purchase (incorporated by
    reference to the Companys Form 8-K filed
    August 20, 2001).
|        | 4.2      |             |  | First Amendment to Rights Agreement, dated as of
    January 17, 2002, between CardioGenesis Corporation and
    EquiServe Trust Company, N.A., as Rights Agent (incorporated by
    reference to the Companys Form 8-K filed
    January 18, 2002).                                                                                                           
|        | 10.1(2)  |             |  | Form of Director and Officer Indemnification
    Agreement.                                                                                                                                                                                                                                                                                                     
|        | 10.2(3)  |             |  | Stock Option Plan, as amended and restated.                                                                                                                                                                                                                                                                                                                     
|        | 10.3(3)  |             |  | Director Stock Option Plan, as amended and
    restated.                                                                                                                                                                                                                                                                                                        
|        | 10.4(2)  |             |  | 1996 Employee Stock Purchase Plan of
    CardioGenesis Corporation.                                                                                                                                                                                                                                                                                             
|        | 10.5     |             |  | Facilities Lease for 26632 Towne Centre Dr.,
    Suite 320, Foothill Ranch, California (incorporated herein
    by reference to the Registrants Form 10-Q/A,
    Exhibit 10.1, filed August 16, 2001).                                                                                                                                                         
|        | 10.6(2)  |             |  | 401(k) Plan.                                                                                                                                                                                                                                                                                                                                                    
|        | 10.7     |             |  | 1993 Equity Incentive Plan of the former
    CardioGenesis Corporation (incorporated by reference to the
    former CardioGenesis Corporations Form SB-2 (File
    No. 333-3752-LA), declared effective on May 21, 1996).                                                                                                                                      
|        | 10.8     |             |  | 1996 Equity Incentive Plan of the former
    CardioGenesis Corporation (incorporated by reference to the
    former CardioGenesis Corporations Form S-8 (File
    No. 333-35095), dated September 8, 1997).                                                                                                                                                    
|        | 10.9(4)  |             |  | Employment agreement dated June 1, 2002
    between the Company and Darrell F. Eckstein, President,
    Chief Operating Officer and Acting Chief Financial Officer.                                                                                                                                                                                             
|        | 10.10(4) |             |  | Amendment to employment agreement between the
    Company and Michael J. Quinn, Chief Executive Officer,
    dated July 3, 2002                                                                                                                                                                                                                                 
|        | 21.1     |             |  | List of Subsidiaries                                                                                                                                                                                                                                                                                                                                            
|        | 23.1     |             |  | Consent of PricewaterhouseCoopers LLP                                                                                                                                                                                                                                                                                                                           
|        | 24.1     |             |  | Power of Attorney (see signature page)                                                                                                                                                                                                                                                                                                                          



---



|    |                                                                                                                                                                                               
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Incorporated by reference to Appendix 1 to
    the Companys Registration Statement on S-4 filed with the
    Securities and Exchange Commission on February 9, 1999
    (File No. 333-72063).
|   
|(2) | Incorporated by reference to the Companys
    Registration Statement on Form S-1 (File
    No. 333-03770), as amended, filed on April 18, 1996.                                              
|   
|(3) | Incorporated by reference to the Companys
    Form 10-K filed April 16, 2002.                                                                                                                
|   
|(4) | Incorporated by reference to the Companys
    Form 10-Q filed August 14, 2002.