##### Table of Contents

---

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



---

FORM 10-Q



---



|x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ---------------------------------------------------------------------------------------

For the quarterly period ended March 31, 2006

OR



| ̈ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ----------------------------------------------------------------------------------------

For the transition period from  to

Commission file number 000-51066



---

CONOR MEDSYSTEMS, INC.

(Exact Name of Registrant as Specified in its Charter)



---



|                                                               |  |                                        
|-------------------------------------------------------------- |  | ---------------------------------------
|Delaware                                                       |  | 94-3350973                             
|(State or Other Jurisdiction of Incorporation or Organization) |  | (I.R.S. Employer Identification Number)

1003 Hamilton Court

Menlo Park, California 94025

(Address of Principal Executive Offices,
including Zip Code)

(650) 614-4100

(Registrants Telephone Number, Including Area Code)



---

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. (Check one):



|                         |  |                      |  |                       
|------------------------ |  | -------------------- |  | ----------------------
|Large accelerated filer ̈ |  | Accelerated filer  x |  | Non-accelerated filer ̈

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

The registrant had 33,828,259 shares of Common Stock, $0.001 par value per share, outstanding as of April 30, 2006.



---



---

##### Table of Contents

CONOR MEDSYSTEMS, INC.

FORM 10-Q

FOR THE QUARTER ENDED MARCH 31, 2006

TABLE OF CONTENTS



|          |  |                                                                                       |  |   
|--------- |  | ------------------------------------------------------------------------------------- |  | --
|PART I.   |  | FINANCIAL INFORMATION                                                                 |  | 3 
|          |  |                                                                                      
|Item 1.   |  | Financial Statements                                                                  |  | 3 
|          |  |                                                                                      
|          |  | Condensed Consolidated Balance Sheets                                                 |  | 3 
|          |  |                                                                                      
|          |  | Condensed Consolidated Statements of Operations                                       |  | 4 
|          |  |                                                                                      
|          |  | Condensed Consolidated Statements of Cash Flows                                       |  | 5 
|          |  |                                                                                      
|          |  | Notes to Condensed Consolidated Financial Statements                                  |  | 6 
|          |  |                                                                                      
|Item 2.   |  | Managements Discussion and Analysis of Financial Condition and Results of Operations |  | 13
|          |  |                                                                                      
|Item 3.   |  | Quantitative and Qualitative Disclosures About Market Risk                            |  | 20
|          |  |                                                                                      
|Item 4.   |  | Controls and Procedures                                                               |  | 20
|          |  |                                                                                      
|PART II.  |  | OTHER INFORMATION                                                                     |  | 20
|          |  |                                                                                      
|Item 1.   |  | Legal Proceedings                                                                     |  | 20
|          |  |                                                                                      
|Item 1A.  |  | Risk Factors                                                                          |  | 21
|          |  |                                                                                      
|Item 2.   |  | Unregistered Sales of Equity Securities and Use of Proceeds                           |  | 42
|          |  |                                                                                      
|Item 5.   |  | Other Information                                                                     |  | 42
|          |  |                                                                                      
|Item 6.   |  | Exhibits                                                                              |  | 43
|          | 
|SIGNATURE |  | 44                                                                                   



2



---

##### Table of Contents

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

Conor Medsystems, Inc.

Condensed Consolidated Balance Sheets

(In thousands)



|                                                                |  |               |          |   |                  |   |          |  
|--------------------------------------------------------------- |  | ------------- | -------- | - | ---------------- | - | -------- | -
|                                                                |  | March 31,2006 |          |   | December 31,2005 |  
|                                                                |  | (unaudited)   |          |   | (Note 1)         |  
|Assets                                                          |  |               |          |   |                  |   |          |  
|Current assets:                                                 |  |               |          |   |                  |   |          |  
|Cash and cash equivalents                                       |  | $             | 61,699   |   |                  | $ | 78,470   |  
|Accounts receivable                                             |  |               | 4,419    |   |                  |   | 1,168    |  
|Inventories, net                                                |  |               | 2,339    |   |                  |   | 1,886    |  
|Prepaid expenses and other current assets                       |  |               | 3,494    |   |                  |   | 1,002    |  
|                                                                |  |               |          |   |                  |   |          |  
|Total current assets                                            |  |               | 71,951   |   |                  |   | 82,526   |  
|Property and equipment, net                                     |  |               | 6,540    |   |                  |   | 5,027    |  
|Restricted cash                                                 |  |               | 174      |   |                  |   | 173      |  
|Assets held for sale                                            |  |               | 627      |   |                  |   | 3,400    |  
|Other assets                                                    |  |               | 947      |   |                  |   | 944      |  
|                                                                |  |               |          |   |                  |   |          |  
|Total assets                                                    |  | $             | 80,239   |   |                  | $ | 92,070   |  
|                                                                |  |               |          |   |                  |   |          |  
|Liabilities and stockholders equity                            |  |               |          |   |                  |   |          |  
|Current liabilities:                                            |  |               |          |   |                  |   |          |  
|Accounts payable                                                |  | $             | 3,457    |   |                  | $ | 3,163    |  
|Accrued compensation                                            |  |               | 1,451    |   |                  |   | 2,007    |  
|Accrued clinical development liabilities                        |  |               | 4,582    |   |                  |   | 2,629    |  
|Accrued legal expenses                                          |  |               | 1,685    |   |                  |   | 2,248    |  
|Contingent expense recovery                                     |  |               | 1,316    |   |                  |   |         |  
|Other accrued liabilities                                       |  |               | 1,767    |   |                  |   | 2,966    |  
|Deferred rent                                                   |  |               | 33       |   |                  |   | 84       |  
|Liability for early exercise of stock options - current portion |  |               | 88       |   |                  |   | 103      |  
|                                                                |  |               |          |   |                  |   |          |  
|Total current liabilities                                       |  |               | 14,379   |   |                  |   | 13,200   |  
|Liability for early exercise of stock options                   |  |               | 107      |   |                  |   | 147      |  
|                                                                |  |              
|Commitments and contingencies (Note 5)                          |  |               |          |   |                  |   |          |  
|                                                                |  |              
|Stockholders equity                                            |  |               |          |   |                  |   |          |  
|Preferred stock                                                 |  |               |         |   |                  |   |         |  
|Common stock                                                    |  |               | 34       |   |                  |   | 33       |  
|Additional paid-in-capital                                      |  |               | 186,807  |   |                  |   | 196,973  |  
|Deferred stock compensation                                     |  |               |         |   |                  |   | (15,349  | )
|Accumulated other comprehensive income                          |  |               | 197      |   |                  |   | 203      |  
|Accumulated deficit                                             |  |               | (121,285 | ) |                  |   | (103,137 | )
|                                                                |  |               |          |   |                  |   |          |  
|Total stockholders equity                                      |  |               | 65,753   |   |                  |   | 78,723   |  
|                                                                |  |               |          |   |                  |   |          |  
|Total liabilities and stockholders equity                      |  | $             | 80,239   |   |                  | $ | 92,070   |  
|                                                                |  |               |          |   |                  |   |          |  

See accompanying notes



3



---

##### Table of Contents

Conor Medsystems, Inc.

Condensed Consolidated Statements of Operations

(In thousands, except per share amounts)

(Unaudited)



|                                                            |  |                             |         |   |      |   |         |  
|----------------------------------------------------------- |  | --------------------------- | ------- | - | ---- | - | ------- | -
|                                                            |  | Three Months EndedMarch 31, |        
|                                                            |  | 2006                        |         |   | 2005 |  
|Product sales                                               |  | $                           | 4,387   |   |      | $ | 36      |  
|Cost of sales                                               |  |                             | 3,839   |   |      |   | 238     |  
|                                                            |  |                             |         |   |      |   |         |  
|Gross margin                                                |  |                             | 548     |   |      |   | (202    | )
|Operating expenses:                                         |  |                             |         |   |      |   |         |  
|Research and development                                    |  |                             | 14,160  |   |      |   | 7,653   |  
|General and administrative                                  |  |                             | 5,360   |   |      |   | 4,605   |  
|                                                            |  |                             |         |   |      |   |         |  
|Total operating expenses                                    |  |                             | 19,520  |   |      |   | 12,258  |  
|                                                            |  |                             |         |   |      |   |         |  
|Loss from operations                                        |  |                             | (18,972 | ) |      |   | (12,460 | )
|Interest income                                             |  |                             | 702     |   |      |   | 679     |  
|Other income, net                                           |  |                             | 122     |   |      |   | 33      |  
|                                                            |  |                             |         |   |      |   |         |  
|Net loss                                                    |  | $                           | (18,148 | ) |      | $ | (11,748 | )
|                                                            |  |                             |         |   |      |   |         |  
|Basic and diluted net loss per share                        |  | $                           | (0.54   | ) |      | $ | (0.37   | )
|                                                            |  |                             |         |   |      |   |         |  
|Shares used to compute basic and diluted net loss per share |  |                             | 33,452  |   |      |   | 31,974  |  
|                                                            |  |                             |         |   |      |   |         |  

See accompanying notes



4



---

##### Table of Contents

Conor Medsystems, Inc.

Condensed Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)



|                                                                                                                          |  |                                     |         |   |      |   |         |  
|------------------------------------------------------------------------------------------------------------------------- |  | ----------------------------------- | ------- | - | ---- | - | ------- | -
|                                                                                                                          |  | For The Three Months EndedMarch 31, |        
|                                                                                                                          |  | 2006                                |         |   | 2005 |  
|Cash flows from operating activities                                                                                      |  |                                     |         |   |      |   |         |  
|Net loss                                                                                                                  |  | $                                   | (18,148 | ) |      | $ | (11,748 | )
|                                                                                                                          |  |                                    
|Adjustments to reconcile net loss to net cash used in operating activities:                                               |  |                                     |         |   |      |   |         |  
|                                                                                                                          |  |                                    
|Depreciation and amortization                                                                                             |  |                                     | 309     |   |      |   | 184     |  
|Recognition of employee stock-based compensation                                                                          |  |                                     | 3,476   |   |      |   | 2,377   |  
|Loss on disposal of property and equipment                                                                                |  |                                     | 5       |   |      |   |        |  
|Issuance of stock options to consultants for services                                                                     |  |                                     | 817     |   |      |   | 714     |  
|Changes in operating assets and liabilities:                                                                              |  |                                     |         |   |      |   |         |  
|Accounts receivable                                                                                                       |  |                                     | (3,211  | ) |      |   | (35     | )
|Inventories                                                                                                               |  |                                     | (499    | ) |      |   | (71     | )
|Prepaid expenses and other current assets                                                                                 |  |                                     | (2,490  | ) |      |   | (44     | )
|Other assets                                                                                                              |  |                                     | 2,770   |   |      |   | (3      | )
|Accounts payable                                                                                                          |  |                                     | 276     |   |      |   | 17      |  
|Accrued compensation                                                                                                      |  |                                     | (561    | ) |      |   | (170    | )
|Accrued clinical development liabilities                                                                                  |  |                                     | 1,953   |   |      |   | 195     |  
|Accrued legal expenses                                                                                                    |  |                                     | (562    | ) |      |   | 443     |  
|Contingent expense recovery                                                                                               |  |                                     | 1,316   |   |      |   |        |  
|Other accrued liabilities                                                                                                 |  |                                     | (1,210  | ) |      |   | 657     |  
|Deferred rent                                                                                                             |  |                                     | (51     | ) |      |   | (7      | )
|                                                                                                                          |  |                                     |         |   |      |   |         |  
|Net cash used in operating activities                                                                                     |  |                                     | (15,810 | ) |      |   | (7,491  | )
|                                                                                                                          |  |                                     |         |   |      |   |         |  
|Cash flows from investing activities                                                                                      |  |                                     |         |   |      |   |         |  
|Transfers to restricted cash                                                                                              |  |                                     | (1      | ) |      |   | (1      | )
|Capital expenditures                                                                                                      |  |                                     | (1,862  | ) |      |   | (1,379  | )
|                                                                                                                          |  |                                     |         |   |      |   |         |  
|Net cash used in investing activities                                                                                     |  |                                     | (1,863  | ) |      |   | (1,380  | )
|                                                                                                                          |  |                                     |         |   |      |   |         |  
|Cash flows from financing activities                                                                                      |  |                                     |         |   |      |   |         |  
|Proceeds from the exercise of stock-based compensation awards, including early exercise, and employee stock purchase plan |  |                                     | 867     |   |      |   | 7,669   |  
|Repurchase of common stock                                                                                                |  |                                     | (32     | ) |      |   |        |  
|                                                                                                                          |  |                                     |         |   |      |   |         |  
|Net cash provided by financing activities                                                                                 |  |                                     | 835     |   |      |   | 7,669   |  
|                                                                                                                          |  |                                     |         |   |      |   |         |  
|Effect of exchange rate changes on cash and cash equivalents                                                              |  |                                     | 67      |   |      |   | (125    | )
|                                                                                                                          |  |                                    
|Net decrease in cash and cash equivalents                                                                                 |  |                                     | (16,771 | ) |      |   | (1,327  | )
|Cash and cash equivalents at beginning of period                                                                          |  |                                     | 78,470  |   |      |   | 117,676 |  
|                                                                                                                          |  |                                     |         |   |      |   |         |  
|Cash and cash equivalents at end of period                                                                                |  | $                                   | 61,699  |   |      | $ | 116,349 |  
|                                                                                                                          |  |                                     |         |   |      |   |         |  

See accompanying notes



5



---

##### Table of Contents

Conor Medsystems, Inc.

Notes to Condensed Consolidated Financial Statements

(Unaudited)

1. Organization and Summary of Significant
Accounting Policies

Organization and Business

Conor Medsystems, Inc. (the Company) was incorporated on October 25, 1999 and develops innovative controlled vascular drug delivery
technologies. In 2005, the Company began commercializing its cobalt chromium paclitaxel-eluting coronary stent system, CoStar, in certain countries outside of the United States, the European Union and Japan, and in the first quarter of 2006, the Company began commercializing its CoStar stent in many countries in the European Union.

Basis of Presentation

The
accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and the rules and regulations of the Securities and Exchange
Commission, or SEC. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements. In the opinion of management, the unaudited condensed consolidated
financial statements reflect all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair presentation of the financial position, results of operations and cash flows for the periods indicated.

The condensed consolidated balance sheet as of December 31, 2005 is derived from the Companys audited consolidated financial statements as of
December 31, 2005, included in the Companys Annual Report on Form 10-K for the year ended December 31, 2005, filed with the SEC on March 16, 2006, but does not include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements.

The unaudited condensed consolidated financial statements and the
accompanying notes should be read in conjunction with the Companys Annual Report on Form 10-K for the year ended December 31, 2005. Readers are encouraged to review the Companys Annual Report on Form 10-K for a broader discussion of
the Companys business and the risks inherent therein.

Risks and Uncertainties Related to Intellectual Property

The Company is aware of patents owned by third parties, to which it does not have licenses, which relate to, among other things,
the use of paclitaxel to treat restenosis, the use of rapamycin or its analogs to treat restenosis, stent structure, catheters used to deliver stents, stent manufacturing processes and composition of materials used on or with stents. For example,
Boston Scientific Corporation owns a series of patents that claim the use of paclitaxel to treat restenosis generally and also to treat restenosis via a stent. In addition, Angiotech Pharmaceuticals, Inc. is the owner of a number of patents, and has
licensed from the U.S. government a number of other patents, that also claim the use of paclitaxel coated stents to treat angiogenesis and restenosis. Johnson & Johnson and its subsidiary Cordis Corporation are also owners of a number of
patents that claim the use of rapamycin or its analogs to treat restenosis. Boston Scientific, Johnson & Johnson, Cordis, Guidant Corporation, Medtronic, Inc., Abbott Laboratories, Medinol Ltd. and other parties also own other patents that
may have a material adverse effect on the Company.

On February 1, 2005, Angiotech Pharmaceuticals, Inc. and Boston Scientific (as
Angiotechs licensee) initiated legal proceedings against the Company in the District Court in The Hague, Netherlands seeking a declaration that the Companys CoStar stent infringes Angiotechs patent rights. In the suit, Angiotech
and Boston Scientific are also seeking orders, among other things, preventing the Company from commercializing its CoStar stent in many European countries and requiring the Company to pay damages. A trial date has not yet been set for these
proceedings. The Company is unable to predict the outcome of these proceedings. Also, on November 8, 2005, Boston Scientific and Boston Scientific Scimed, Inc., (Scimed), initiated legal proceedings against the Company in the
District Court for the District of Delaware seeking a judgment, among other things, that the Companys CoStar stent infringes one of the Jang patents purportedly assigned to Scimed. In the suit, Boston Scientific and Scimed are also seeking
orders, among other things, preventing the Company from commercializing its CoStar stent in the United States and requiring the Company to pay damages. A trial date for these proceedings has not yet been set. The Company is unable to predict the
outcome of these proceedings. On May 4, 2006, Schneider (Europe) GmbH (Schneider), a part of the Boston Scientific group of companies, initiated legal proceedings against Conor Medsystems Ireland Limited (Conor Ireland),
a wholly-owned subsidiary of the Company, in the High Court of Ireland alleging that the CoStar stent infringes the EP 0 650 740 B1 patent owned by Schneider. According to the summons filed in the High Court, Schneider is seeking, among other
things, damages and an injunction restraining Conor Ireland from making, offering, putting on the market or stocking the Companys CoStar stent. Schneider is also seeking an order requiring Conor Ireland to deliver all CoStar stents. The
Company is unable to predict the outcome of these proceedings.



6



---

##### Table of Contents

Based on litigations against the Company to date, the fact that the Company may pose a competitive threat
to large and well-capitalized companies who own or control patents relating to stents and their use, manufacture and delivery, and the prolific litigation that has occurred in the stent industry, the Company believes that it is highly likely that
additional patent infringement claims will be asserted against the Company with respect to the manufacture, use, offer for sale or sale of the Companys CoStar stent based on one or more of these patents. Any lawsuit could seek to enjoin, or
prevent, the Company from commercializing its CoStar stent and may seek damages from the Company, and would likely be expensive for the Company to defend against. The Company has received letters from third parties, some of whom have been actively
involved in coronary stent litigation, asserting that they may have rights to patents that are relevant to the Companys operations or its stent platform and requesting the initiation of discussions. In the event a court determines that the
Company infringes any valid claim in a patent held by a third party, the Company expects that such a determination would have a material adverse effect on its results of operations, financial condition and liquidity, and that the Company may, among
other things, be required to pay substantial damages, cease the development, manufacture, use and sale of products, including its CoStar stent, that infringe the patent rights of others, expend significant resources to redesign the Companys
technology so that it does not infringe others patent rights, or to develop or acquire non-infringing intellectual property, which may not be possible, discontinue manufacturing or other processes incorporating infringing technology, and/or
obtain licenses to the infringed intellectual property. The Company believes that it is unlikely that it would be able to obtain a license to any necessary patent rights controlled by companies, like Boston Scientific, against which it would compete
directly. In addition, the Companys competitors have significant resources to devote to litigation against the Company, and the Company may need to expend significant resources to defend against such litigation. The Company could require
significant additional funds to bear the costs of this litigation, regardless of whether the Company prevails. The Companys ability to continue to operate under its current operating plan could be impaired if such funds are not available.
Since the Companys costs in connection with any such litigation will vary greatly depending on the nature and timing of the litigation, it is not possible for the Company to estimate the effect of such costs on its financial condition and
results of operations. Amounts ultimately payable, if any, resulting from an adverse outcome of any of these matters cannot be reasonably estimated at this time.

On February 24, 2006, the High Court of Justice in the United Kingdom rendered its decision in the proceedings initiated by the Company that an Angiotech European patent covering a paclitaxel-eluting
polymer-coated stent is invalid. As a result of the ruling, the Company received approximately $1.3 million in reimbursement of legal fees. Angiotech has appealed the decision to the Court of Appeal and the Company expects a hearing to occur on this
appeal in December 2006. The Company is unable to predict the outcome of the appellate proceedings. Until the appellate decision is rendered, the Company has deferred the recognition of any expense recovery and has recorded a contingent expense
recovery of $1.3 million on the condensed consolidated balance sheet.

Foreign Currency Translation

The functional currency of the Companys subsidiary in Ireland is the euro. Foreign assets and liabilities are translated into U.S. dollars at the
quarter-end exchange rates, while the statement of operations is translated using average exchange rates in effect throughout the year. Gains and losses from foreign currency transactions are included in the consolidated statements of operations.
For the quarters ended March 31, 2006 and 2005, gains from foreign currency transactions were $0.1 million and $33,000, respectively. Foreign currency translation adjustments are included in accumulated other comprehensive income as a separate
component of stockholders equity.

Use of Estimates

The preparation of financial statements in conformity with U.S. generally accepted accounting principles for interim financial reporting requires
management to make estimates and assumptions that affect amounts reported in the condensed consolidated financial statements and accompanying notes. Actual results may differ from these estimates.

Revenue Recognition

The
Company recognizes revenue from product sales when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable, and collectibility is reasonably assured. Product sales to date have been to the Companys
distributors and revenue from such product sales has been recognized in accordance with SEC Staff Accounting Bulletin No. 104, Revenue Recognition (SAB 104). The Companys distributors have no price protection or rights
of return.



7



---

##### Table of Contents

Assets Held for Sale

In November 2005, the Company purchased substantially all of the assets of Phytogen Life Sciences Inc., including its inventory of finished paclitaxel. As
of March 31, 2006, the Company had sold most of the assets acquired in the transaction and anticipates selling the remainder of the assets acquired in the transaction, except for certain laboratory equipment and an amount of finished paclitaxel
that it believes will be sufficient to meet its investigational and commercial needs. The Company accounted for this transaction as an acquisition of assets pursuant to FAS 142, Goodwill and Other Intangible Assets, and is carrying these
assets at their expected sales price (estimated fair value), less direct costs to sell. The Company has entered into a contract to sell the remaining $0.6 million of assets over the next several months. The Company does not expect to have either a
material gain or loss from the sale of all of the assets acquired from Phytogen.

Comprehensive Loss

Comprehensive loss is comprised of net loss and foreign currency translation adjustments in accordance with SFAS No. 130,Reporting
Comprehensive Income. Net losses for the three months ended March 31, 2006 and 2005 were $18.1 million and $11.7 million, respectively. Foreign currency translation adjustments for the three months ended March 31, 2006 and 2005 were
$0.2 million and $0.1 million, respectively. The total comprehensive loss for the three months ended March 31, 2006 and 2005 was $18.3 million and $11.8 million, respectively.

2.Stock-Based Compensation

On March 31, 2006, the Company had three
share-based compensation plans: the 2004 Equity Incentive Plan, the 2004 Non-Employee Directors Stock Option Plan and the 2004 Employee Stock Purchase Plan, each of which is described below. The compensation expense for those plans included in
the consolidated statements of operations was $4.3 million and $3.1 million for the three months ended March 31, 2006 and 2005, respectively.

Prior to January 1, 2006, the Company accounted for its share-based compensation plans under the recognition and measurement provisions of APB Opinion No. 25, Accounting for Stock Issued to Employees (APB
25), and related interpretations, as permitted by Financial Accounting Standards Board (FASB) Statement No. 123, Accounting for Stock-Based Compensation (SFAS 123). For the periods prior to
January 1, 2006, stock-based employee compensation expense related to stock option grants prior to the Companys initial public offering was recognized in the statements of operations using the intrinsic value method in accordance with the
provisions of APB 25. No compensation expense was recognized for stock options granted since the Companys initial public offering, as all stock options granted had an exercise price equal to the market value of the underlying common stock on
the date of grant. Effective January 1, 2006, the Company adopted the fair value recognition provisions of FASB Statement No. 123R, Share-Based Payment (SFAS 123R), using the modified-prospective-transition method.
Under this transition method, compensation expense recognized in the first quarter of 2006 included: (a) expense for all share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value
estimated in accordance with the original provisions of SFAS 123, and (b) compensation expense for all share-based payments granted subsequent to January 1, 2006, based on the grant-date fair value estimated in accordance with the
provisions of SFAS 123R. Results for prior periods have not been restated.

As a result of adopting SFAS 123R, during the quarter ended
March 31, 2006, the Company reversed the remaining balance of deferred compensation of $15.3 million to additional paid-in-capital and began expensing share-based compensation accordingly. The Companys net loss for the quarter ended
March 31, 2006, was $1.8 million higher than if the Company had continued to account for share-based compensation under APB 25.

The
following table illustrates the effect on net loss and net loss per share if the Company had applied the fair value recognition provisions of SFAS 123 to options granted under the Companys share-based compensation plans during the period ended
March 31, 2005. For purposes of this pro forma disclosure, the value of the options is estimated using a Black-Scholes-Merton option-pricing formula and amortized to expense over the vesting periods of the options. The Company recognized the
compensation expense of all share-based awards on a straight-line basis over the vesting period of the award.



8



---

##### Table of Contents

|                                                                                         |  |                                                                         |         |  
|---------------------------------------------------------------------------------------- |  | ----------------------------------------------------------------------- | ------- | -
|                                                                                         |  | Three Months EndedMarch 31,
2005 (in thousands exceptper
share amounts) |        
|Net loss - as reported                                                                   |  | $                                                                       | (11,748 | )
|Add: Stock-based employee compensation expense included in reported net loss             |  |                                                                         | 2,377   |  
|Deduct: Stock-based employee compensation expense determined under the fair value method |  |                                                                         | (2,753  | )
|                                                                                         |  |                                                                         |         |  
|Net loss - pro forma                                                                     |  | $                                                                       | (12,124 | )
|                                                                                         |  |                                                                         |         |  
|Basic and diluted net loss per share - as reported                                       |  | $                                                                       | (0.37   | )
|                                                                                         |  |                                                                         |         |  
|Basic and diluted net loss per share - pro forma                                         |  | $                                                                       | (0.38   | )
|                                                                                         |  |                                                                         |         |  

Stock Option Plans

The 2004 Equity Incentive Plan (the 2004 Plan), which is stockholder-approved, permits the grant of options and other share-based awards to
the Companys employees, directors and consultants. The 2004 Plan became effective on December 14, 2004. Option awards are generally granted with an exercise price equal to the market price of the Companys stock at the date of grant,
generally vest over a four-year period contingent upon continuous service and expire ten years from the date of grant (or earlier upon termination of continuous service).

The Companys 2004 Non-Employee Directors Stock Option Plan (the 2004 Directors Plan), which is stockholder-approved, provides for the automatic grant of nonstatutory options to
non-employee directors of the Company. The 2004 Directors Plan became effective on December 14, 2004. Option awards are generally granted with an exercise price equal to the market price of the Companys stock at the date of grant,
generally vest over a three-year period contingent upon continuous service and expire ten years from the date of grant (or earlier upon termination of continuous service).

The fair value of each option awarded to employees and directors is estimated on the date of grant using a Black-Scholes option valuation model that uses
the weighted-average assumptions noted in the following table.



|                        |  |                             |  |        
|----------------------- |  | --------------------------- |  | -------
|                        |  | Three Months EndedMarch 31,
|                        |  | 2006                        |  | 2005   
|Dividend yield          |  | 0%                          |  | 0%     
|Risk-free interest rate |  | 4.32%                       |  | 4.00%  
|Volatility              |  | 0.55                        |  | 0.7    
|Expected life           |  | 5 years                     |  | 5 years

The fair value of each option awarded to non-employee non-directors is estimated on the date of
grant using a Black-Scholes option valuation model that uses the weighted-average assumptions noted in the following table.



|                        |  |                             |  |        
|----------------------- |  | --------------------------- |  | -------
|                        |  | Three Months EndedMarch 31,
|                        |  | 2006                        |  | 2005   
|Dividend yield          |  | 0%                          |  | 0%     
|Risk-free interest rate |  | 4.48%                       |  | 4.00%  
|Volatility              |  | 0.55                        |  | 0.7    
|Expected life           |  | 7.7 years                   |  | 9 years

The Companys common stock has limited historical information on its stock price volatility.
In accordance with the implementation guidance of SFAS 123R, the Company has calculated expected volatility based on the average volatilities of similar companies that are growing from newly-public to more mature companies with more stock price
history. For purposes of identifying similar entities, the Company has considered factors such as industry, stage of life cycle, and size. The expected term of options granted represents the period of time that options granted are expected to be
outstanding. When establishing an estimate of the expected term of an award, the Company considers the vesting period for the award, the historical experience of employee stock option exercises (including post-vesting forfeitures) and a comparison
to relevant peer group data. The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant.



9



---

##### Table of Contents

Compensation expense recognized in the unaudited consolidated statement of operations for the quarter
ended March 31, 2006 was based on awards ultimately expected to vest and it reflected estimated forfeitures based on an annual rate of 4.5%.

A summary of option activity under the plans for the quarter ended March 31, 2006 is presented below (in thousands, except for per share amounts):



|                             |  |                 |   |  |                                     |   |  |                                             |                                                       |                          |   |         |  |    
|---------------------------- |  | --------------- | - |  | ----------------------------------- | - |  | ------------------------------------------- | ----------------------------------------------------- | ------------------------ | - | ------- |  | ---
|                             |  |                 |   |  | Options Outstanding and Exercisable |   |  |                                             | Weighted -Average RemainingContractual Life(in years)
|                             |  | SharesAvailable |   |  | Number ofShares                     |   |  | Weighted -Average - Per ShareExercise Price |                                                       | AggregateIntrinsic Value |  
|Balance at December 31, 2005 |  | 1,021           |   |  | 6,077                               |   |  | $                                           | 5.51                                                  |                          | $ | 79,167  |  | 8.5
|                             |  |                 |   |  |                                     |   |  |                                             |                                                       |                          |   |         |  |    
|Authorized                   |  | 1,748           |   |  |                                    |   |  |                                             |                                                       |                          |   |         |  |    
|Granted                      |  | (1,148          | ) |  | 1,148                               |   |  | $                                           | 23.48                                                 |                          |   |         |  |    
|Exercised                    |  |                 |   |  | (144                                | ) |  |                                             | 3.38                                                  |                          |   |         |  |    
|Repurchased                  |  | 48              |   |  |                                    |   |  |                                             |                                                       |                          |   |         |  |    
|Canceled                     |  | 220             |   |  | (220                                | ) |  |                                             | 21.28                                                 |                          |   |         |  |    
|                             |  |                 |   |  |                                     |   |  |                                             |                                                       |                          |   |         |  |    
|Balance at March 31, 2006    |  | 1,889           |   |  | 6,861                               |   |  | $                                           | 8.05                                                  |                          | $ | 147,211 |  | 8.5
|                             |  |                 |   |  |                                     |   |  |                                             |                                                       |                          |   |         |  |    
|Vested at March 31, 2006     |  |                 |   |  | 2,965                               |   |  | $                                           | 1.75                                                  |                          | $ | 82,295  |  | 7.8
|                             |  |                 |   |  |                                     |   |  |                                             |                                                       |                          |   |         |  |    

The weighted-average grant-date fair value of options granted during the quarters ended
March 31, 2006 and 2005 was $12.32 and $9.84, respectively. The total intrinsic value of options exercised during the quarters ended March 31, 2006 and 2005 was $2.97 million and $451,000, respectively. Cash proceeds from the exercise of
stock options were $0.5 million and $14,000 for the quarters ended March 31, 2006 and 2005, respectively.

As of March 31, 2006,
there was $41.4 million of total unrecognized compensation cost related to non-vested share-based compensation arrangements granted under the stock option plans. The unrecognized compensation cost is expected to be recognized over a weighted-average
period of 1.54 years. The total fair value of shares vested during the quarters ended March 31, 2006 and 2005 was $3.6 million and $3.5 million, respectively.

2004 Employee Stock Purchase Plan

In November 2004, the Companys Board of Directors and
stockholders approved the 2004 Employee Stock Purchase Plan (the 2004 Purchase Plan), which became effective on December 14, 2004. The 2004 Purchase Plan provides eligible employees of the Company the opportunity to purchase the
Companys common stock during specified periods. The employees are able to purchase shares of the Companys common stock at a price per share equal to the lower of: (a) 85% of the fair market value of a share of the Companys
common stock on the first date of an offering period; or (b) 85% of the fair market value of a share of the Companys common stock on the date of purchase.

The fair value of each offering under the 2004 Purchase Plan was estimated on the date on which the offering begins using the same option valuation model used for options granted under the 2004 Plan. The inputs for
expected volatility, expected dividends, and risk-free rate used in estimating those options fair value are the same as those noted in the table related to options issued under the 2004 Plan. The expected life for stock granted under the 2004
Purchase Plan in the quarters ended March 31, 2006 and 2005 was 1.33 years and 1.37 years, respectively.

A summary of the activity
under the 2004 Purchase Plan as of March 31, 2006, and changes during the quarter then ended is presented in the table below (in thousands, except for per share amounts):



|                                 |  |                 |   |  |                                 |      
|-------------------------------- |  | --------------- | - |  | ------------------------------- | -----
|Employee Stock Purchase Plan     |  | SharesAvailable |   |  | Average Per SharePurchase Price
|Outstanding at December 31, 2005 |  | 443             |   |  | $                               | 11.13
|Authorized                       |  | 337             |   |  |                                 |      
|Issued upon purchase             |  | (32             | ) |  |                                 | 11.76
|                                 |  |                 |   |  |                                 |      
|Outstanding at March 31, 2006    |  | 748             |   |  | $                               | 11.46
|                                 |  |                 |   |  |                                 |      



10



---

##### Table of Contents

As of March 31, 2006, there was $570,000 of total unrecognized compensation cost related to
share-based compensation arrangements granted under the 2004 Purchase Plan. The unrecognized compensation cost is expected to be recognized over a period of 2.0 years.

Cash received from option exercises and 2004 Purchase Plan offerings for the quarters ended March 31, 2006 and 2005 was $0.8 million and $14,000, respectively.

3. Net Loss Per Share

Basic and diluted net loss per
share is calculated by dividing the net loss by the weighted-average number of common shares outstanding for the period, less outstanding shares subject to repurchase. Diluted net loss per share would be computed by dividing the net loss by the
weighted-average number of common share equivalents outstanding for the period determined using the treasury-stock method. For purposes of this calculation, common stock subject to repurchase by the Company, stock options and warrants are considered
to be common stock equivalents and are only included in the calculation of diluted net loss per share when their effect is dilutive.

The
following table presents the computation of basic and diluted net loss per share (in thousands, except per share amounts):



|                                                                                             |  |                             |         |   |      |   |         |  
|-------------------------------------------------------------------------------------------- |  | --------------------------- | ------- | - | ---- | - | ------- | -
|                                                                                             |  | Three Months EndedMarch 31, |        
|                                                                                             |  | 2006                        |         |   | 2005 |  
|Numerator:                                                                                   |  |                             |         |   |      |   |         |  
|Net loss                                                                                     |  | $                           | (18,148 | ) |      | $ | (11,748 | )
|                                                                                             |  |                             |         |   |      |   |         |  
|Denominator:                                                                                 |  |                             |         |   |      |   |         |  
|Weighted-average common shares outstanding                                                   |  |                             | 33,751  |   |      |   | 32,453  |  
|Less weighted-average shares subject to repurchase                                           |  |                             | (299    | ) |      |   | (479    | )
|                                                                                             |  |                             |         |   |      |   |         |  
|Denominator for basic and diluted net loss per share                                         |  |                             | 33,452  |   |      |   | 31,974  |  
|                                                                                             |  |                             |         |   |      |   |         |  
|Basic and diluted net loss per share                                                         |  | $                           | (0.54   | ) |      | $ | (0.37   | )
|                                                                                             |  |                             |         |   |      |   |         |  
|Outstanding anti-dilutive securities not included in diluted net loss per share calculation: |  |                             |         |   |      |   |         |  
|Common shares subject to repurchase                                                          |  |                             | 244     |   |      |   | 451     |  
|Options to purchase common stock                                                             |  |                             | 6,861   |   |      |   | 4,802   |  
|Warrants to purchase common and preferred stock                                              |  |                             |        |   |      |   | 493     |  
|                                                                                             |  |                             |         |   |      |   |         |  
|                                                                                             |  |                             | 7,105   |   |      |   | 5,746   |  
|                                                                                             |  |                             |         |   |      |   |         |  

4. Balance Sheet Details

Inventories

Inventories consisted of the following (in thousands):



|                 |  |               |       |                  |   |      
|---------------- |  | ------------- | ----- | ---------------- | - | -----
|                 |  | March 31,2006 |       | December 31,2005
|Raw materials    |  | $             | 1,398 |                  | $ | 851  
|Work-in-progress |  |               | 763   |                  |   | 1,035
|Finished goods   |  |               | 178   |                  |   |     
|                 |  |               |       |                  |   |      
|Total Inventory  |  | $             | 2,339 |                  | $ | 1,886
|                 |  |               |       |                  |   |      



11



---

##### Table of Contents

5. Commitments and Contingencies

Legal Contingencies

On February 1, 2005, Angiotech Pharmaceuticals, Inc. and Boston
Scientific Corporation (as Angiotechs licensee) initiated legal proceedings against the Company in the District Court in The Hague, Netherlands, seeking: a declaration that the Companys CoStar stent infringes an issued European patent;
an order that the Company and its affiliates cease any infringement of the European patent in the Netherlands and other designated European countries; an order that the Company not use its CE marketing approval for three years or for a period of
time which the District Court deems appropriate and/or at the choice of Boston Scientific and Angiotech; an order requiring the Company to withdraw all information and documentation concerning the clinical trials the Company has conducted in the
Netherlands from all relevant regulatory authorities worldwide; an order requiring the Company to pay 2,460 euros per sale of its CoStar stent in Europe or, at the choice of Boston Scientific and Angiotech, 2,460 euros per day that the Company does
not comply; an order that the Company indemnify Boston Scientific and Angiotech or surrender its profit on sales of its CoStar stent in countries covered by the European patent; and an order that the Company pay the costs of the proceedings. The
Company intends to vigorously defend itself in this proceeding. If the Company does not succeed in either invalidating or rendering unenforceable the European patent or in establishing that the patent is not infringed by the Companys CoStar
stent, the Company will not be able to commercialize its CoStar stent in the Netherlands and the Company may not be able to commercialize its CoStar stent in other European countries designated in the European patent without a license from Boston
Scientific, which may not be available to it on acceptable terms, or at all. No trial date has been set for these proceedings. The Company is unable to predict the outcome of these proceedings. In addition, on May 3, 2006, the District Court of
The Hague, Netherlands handed down its judgment in the legal proceedings initiated by Boston Scientific and Angiotech against Sahajanand Medical Technologies, or SMT, in which it ruled that SMTs stent infringes the same Angiotech European
patent asserted against the Company in The Hague, Netherlands and that the Angiotech European patent is valid. This ruling may adversely impact our own proceedings in The Hague, Netherlands, including the nullity proceedings we initiated in The
Hague, Netherlands described below.

On November 8, 2005, Boston Scientific and Boston Scientific Scimed, Inc. (Scimed)
initiated legal proceedings against the Company in the District Court for the District of Delaware seeking a judgment, among other things, that the Companys CoStar stent infringes one of the Jang patents purportedly assigned to Scimed. In the
suit, Boston Scientific and Scimed are also seeking orders, among other things, adjudging that the Company has infringed the patent, preventing it from commercializing its CoStar stent in the United States, requiring the Company to pay damages,
adjudging that its infringement was willful and trebling all damages awarded and requiring the Company to pay attorney fees, costs and expenses. The Company intends to vigorously defend itself in this proceeding. If the Company does not succeed in
either invalidating or rendering unenforceable this patent or in defending against Boston Scientifics assertion that the patent is not infringed by its stents, the Company will not be able to commercialize its CoStar stent in the United States
without a license from Boston Scientific and Scimed which may not be available to the Company on acceptable terms, or at all. No trial date has been set for these proceedings. The Company is unable to predict the outcome of these proceedings.

On February 18, 2005, the Company initiated proceedings against Angiotech and the University of British Columbia in the High Court of
Justice in the United Kingdom requesting that the court invalidate the Angiotech European patent covering a paclitaxel-eluting polymer-coated stent referred to above based on the grounds that all claims of the patent either lack novelty or are
obvious in light of the state of scientific knowledge at the priority date of the patent. The trial began on October 4, 2005, and the High Court heard the parties closing arguments in mid December 2005. On February 24, 2006, the High
Court of Justice rendered its decision that the European patent is invalid based on the grounds that the patent was obvious in light of the state of scientific knowledge at the priority date of the patent. Angiotech has appealed the decision to the
Court of Appeal, and the Company expects a hearing to occur on this appeal in December 2006. The Company is unable to predict the outcome of the appellate proceedings.

On March 31, 2005, the Company filed an Application to Revoke certain Australian patents owned by Angiotech and University of British Columbia in the Federal Court of Australia (Victoria District Registry), on
the basis, among others, that the patents are invalid in light of the state of scientific knowledge as of the priority date of the patents and that they are not enabled for the claimed subject matter. The Company has also asserted that the patents
are invalid because both Angiotech and the University of British Columbia are designated as owners of the patent, whereas in the United States on correspondingly similar claims, Angiotech is designated as the sole owner. On February 2, 2006,
the Federal Court issued an order allowing the Company to proceed with its claim of invalidity on the basis that the University of British Columbia is not entitled to patents. Angiotech and the University of British Columbia have appealed the order.
A hearing on the appeal is scheduled for May 2006. A trial for these proceedings has been rescheduled to begin on February 12, 2007. If the Federal Court determines that the University of British Columbia is not entitled to patents, the patents
may be revoked in a final decision. The Company is unable to predict the outcome of these proceedings. The Company is not currently conducting clinical trials in Australia on its CoStar stent, but the Company may seek to commercialize its CoStar
stent in Australia in the



12



---

##### Table of Contents

future. If the Federal Court of Australia rules that these Australian patents are valid, then the Company may in the future need to litigate whether the
Company infringes any of the valid claims. If the Company is found to infringe one or more valid claims, then the Company may not be able to commercialize its CoStar stent in Australia without a license from Boston Scientific, which may not be
available to it on acceptable terms, or at all.

On October 26, 2005, the Company initiated nullity proceedings against Angiotech and
the University of British Columbia in the District Court in The Hague, Netherlands seeking revocation of the European patent referred to above, which is one of the Hunter patents owned by Angiotech and licensed to Boston Scientific that is the
subject of the legal proceedings asserted against the Company in the Netherlands. The revocation has been requested based on the grounds that the patent is invalid based on prior art, the claims are not enabled by the patent specification, and other
grounds. A trial on the merits in these proceedings is scheduled for October 27, 2006. Boston Scientific filed a motion to intervene in this proceeding. The Company is unable to predict the outcome of these proceedings.

On May 4, 2006, Schneider (Europe) GmbH (Schneider), a part of the Boston Scientific group of companies (Boston Scientific),
initiated legal proceedings against Conor Medsystems Ireland Limited (Conor Ireland), a wholly-owned subsidiary of the Company, in the High Court of Ireland alleging that the Companys CoStar stent infringes the EP 0 650 740 B1
patent owned by Schneider. According to the summons filed in the High Court, Schneider is seeking, among other things, damages and an injunction restraining Conor Ireland from making, offering, putting on the market or stocking the Companys
CoStar stent. Schneider is also seeking an order requiring Conor Ireland to deliver all CoStar stents. The Company is unable to predict the outcome of these proceedings.

Amounts ultimately payable, if any, resulting from an adverse outcome of any of these matters cannot be reasonably estimated at this time. As a result of the ruling of the High Court of Justice in the United Kingdom,
the Company received approximately $1.3 million in reimbursement of legal fees. Until the appellate decision is rendered, the Company has deferred the recognition of the $1.3 million expense recovery on the condensed consolidated balance
sheet.

6. Segment, Geographic and Customer Information

The Company operates in one business segment, which primarily focuses on the development and commercialization of controlled vascular drug delivery technologies. The Company currently has one product which accounts
for all of its product sales.

Product sales were generated through the Companys wholly-owned subsidiary in Ireland and were
attributed to geographic regions based on the location of the distribution partner as follows (in thousands):



|                    |  |                             |       |      |   |   
|------------------- |  | --------------------------- | ----- | ---- | - | --
|                    |  | Three Months EndedMarch 31,
|                    |  | 2006                        |       | 2005
|Geographic Sales    |  |                             |       |      |   |   
|Europe              |  | $                           | 4,075 |      | $ |  
|Asia                |  |                             | 312   |      |   | 36
|                    |  |                             |       |      |   |   
|Total Product Sales |  | $                           | 4,387 |      | $ | 36
|                    |  |                             |       |      |   |   

7. Subsequent Events

On May 4, 2006, Schneider initiated legal proceedings against Conor Ireland, a wholly-owned subsidiary of the Company, in the High Court of Ireland alleging that the Companys CoStar stent infringes the EP
0 650 740 B1 patent owned by Schneider. According to the summons filed in the High Court, Boston Scientific is seeking, among other things, damages and an injunction restraining Conor Ireland from making, offering, putting on the
market or stocking the Companys CoStar stent. Schneider is also seeking an order requiring Conor Ireland to deliver all CoStar stents. The Company is unable to predict the outcome of these proceedings.

Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations

This
Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which are subject to the
safe harbor created by those sections. Forward-looking statements are based on our managements beliefs and assumptions and on information currently available to our management. In some cases, you can identify forward-looking



13



---

##### Table of Contents

statements by terms such as may, will, should,  could,  would,  expect, 
plans,  anticipates,  believes,  estimates, projects,  predicts,  potential and similar expressions intended to identify forward-looking statements. These statements
involve known and unknown risks, uncertainties and other factors, which may cause our actual results, performance, time frames or achievements to be materially different from any future results, performance, time frames or achievements expressed or
implied by the forward-looking statements. We discuss many of these risks, uncertainties and other factors in this Quarterly Report on Form 10-Q in greater detail under Part II, Item 1A below. Given these risks, uncertainties and other factors,
you should not place undue reliance on these forward-looking statements. Also, these forward-looking statements represent our estimates and assumptions only as of the date of this filing. You should read this Quarterly Report on Form 10-Q completely
and with the understanding that our actual future results may be materially different from what we expect. We hereby qualify our forward-looking statements by these cautionary statements. Except as required by law, we assume no obligation to update
these forward-looking statements publicly, or to update the reasons actual results could differ materially from those anticipated in these forward-looking statements, even if new information becomes available in the future.

Overview

We develop innovative controlled vascular
drug delivery technologies. We have initially focused on the development of drug-eluting stents to treat coronary artery disease. Our efforts are currently focused on the development and commercialization of our cobalt chromium paclitaxel-eluting
coronary stent system, CoStar, for the treatment of restenosis. In February 2006, our CoStar stent received CE Mark approval in the European Union, and we commercially launched our CoStar stent in many of the countries in the European Union
through our distributor, Biotronik AG.

Historically, we have devoted substantially all of our resources to developing our stent platform,
raising capital and preparing for the commercialization of our CoStar stent. We have pursued a clinical development strategy of demonstrating that our CoStar stent is safe and effective, that the drug inlay design of our CoStar stent permits us to
control drug release kinetics, and that drug release kinetics can have a direct impact on clinical outcomes. In addition, our clinical development strategy has been focused on establishing the basis for regulatory approval of our CoStar stent in the
European Union and the United States.

We submitted an investigational device exemption, or IDE, application to the U.S. Food and Drug
Administration, or FDA, in the first quarter of 2005 for our U.S. pivotal clinical trial, COSTAR II, and in March 2005, we received conditional approval for our IDE application. The first patient was enrolled in the trial in May 2005. In December
2005, we received approval from the FDA to expand enrollment in the COSTAR II trial to the full cohort of 1,700 patients, and we completed enrollment in April 2006. If the clinical trial proceeds as scheduled and the outcomes of this clinical trial
are favorable, we anticipate submitting an application for marketing approval with the FDA in 2007 and, if FDA agrees that we have established the safety and effectiveness of our CoStar stent, receiving regulatory approval for our CoStar stent in
the United States in late 2007 or early 2008. We could be delayed by adverse results or regulatory complications, and we may never achieve U.S. regulatory approval.

If we obtain the necessary regulatory approvals, we plan to pursue commercialization of our CoStar stent in the United States with our own sales force and internationally through distribution arrangements. Our
wholly-owned subsidiary, Conor Medsystems Ireland Limited, or Conor Ireland, entered into an agreement with Biotronik AG to distribute our CoStar stent in countries outside of the United States, Japan, Australia, New Zealand and Korea and certain
other countries. On April 27, 2006, Conor Ireland entered into an agreement with Interventional Technologies Limited, or IVT, under which IVT is the exclusive distributor of the Companys CoStar stent in India, Pakistan, Bangladesh, Sri
Lanka, Kenya, and Tanzania. This agreement supersedes and replaces the agreement entered into with IVT in July 2004. Conor Ireland also entered into agreements with affiliates of St. Jude Medical, Inc. to distribute our CoStar stent in Japan, Korea,
New Zealand and Australia. A decision to seek regulatory approval of, or to sell, our CoStar stent has not yet been made in respect to all of these countries. In 2005, we began commercializing our CoStar stent in certain countries outside of the
United States, the European Union and Japan pursuant to these distribution agreements, and in the first quarter of 2006, we commercially launched our CoStar stent in many of the countries in the European Union through our distributor Biotronik.

In March 2006, pursuant to the terms of our agreement with Novartis Pharma AG, we exercised our option to obtain a world-wide,
non-exclusive license from Novartis to develop, manufacture and commercialize products that use our vascular delivery stent systems, including our drug-eluting reservoir-based cobalt chromium stent, for the local delivery of pimecrolimus. We expect
to initiate two clinical trials to evaluate our cobalt chromium pimecrolimus-eluting coronary stent system, Corio, and our cobalt chromium pimecrolimus- and paclitaxel-eluting coronary stent system, SymBio, for the treatment of
restenosis. In addition, we continue to evaluate a bioresorbable reservoir-based stent that we designed incorporating Biotroniks absorbable metal to enable tailored drug release kinetics for the treatment of restenosis and other vascular
disorders. We are also investigating the applicability of our stent technology to the treatment of an acute myocardial infarction, or AMI, commonly known as a heart attack.



14



---

##### Table of Contents

We were incorporated in Delaware in October 1999 and have a limited operating history. We have incurred
net losses each year. We anticipate that we will continue to incur net losses for the next several years as we develop new products, expand our clinical development team and corporate infrastructure and, assuming we receive FDA approval, prepare for
the potential U.S. commercialization of our CoStar stent. We have financed our operations primarily through private placements of preferred stock and convertible promissory notes, as well as through our initial public offering of our common stock.
We currently have no products approved for sale in the United States.

Critical Accounting Policies and Significant Judgments and Estimates

Our managements discussion and analysis of our financial condition and results of operations are based on our condensed
consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles for interim financial reporting. The preparation of these financial statements requires us to make estimates and assumptions
that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements as well as reported revenues and expenses during the reporting periods. On an ongoing basis,
we evaluate estimates, including those related to stock-based compensation and clinical trial accruals. We base our estimates on historical experience and on various other factors that we believe are reasonable under the circumstances, the results
of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. There has
been no significant change in our critical accounting policies or estimates from those policies or estimates disclosed under the heading Critical Accounting Policies and Significant Judgments and Estimates in Part II, Item 7 of our
Annual Report on Form 10-K for the year ended December 31, 2005, filed with the SEC on March 16, 2006, except for employee stock-based compensation related to our adoption of a revision of SFAS No. 123, Accounting for Stock-Based
Compensation,or SFAS 123R.

Stock-Based Compensation  Adoption of SFAS 123R

During the period from June 1, 2003 through December 31, 2004, we granted options to employees to purchase a total of 4,732,000 shares of common stock at
exercise prices ranging from $0.29 to $2.50 per share. We did not obtain contemporaneous valuations from an unrelated valuation specialist during this period. We determined that the reassessed fair value of such options ranged from $0.38 to $13.00
per share during this period. In determining the reassessed fair value of the common stock as of each grant date, the factors identified in the preceding paragraph were taken into account. We also considered other material factors and business
developments in reassessing fair value as of the respective option grant dates, including the following specific factors:



| |  |  | the completion of enrollment in our SCEPTER clinical trial in October 2003;
| | - |  | ---------------------------------------------------------------------------



| |  |  | the initiation of enrollment in our COSTAR I clinical trial in November 2003;
| | - |  | -----------------------------------------------------------------------------



| |  |  | the completion of enrollment in our PISCES clinical trial in December 2003;
| | - |  | ---------------------------------------------------------------------------



| |  |  | the establishment of an expanded manufacturing and research development facility in March 2004;
| | - |  | -----------------------------------------------------------------------------------------------



| |  |  | the completion of enrollment of the first formulation group in our EuroSTAR clinical trial in April 2004;
| | - |  | ---------------------------------------------------------------------------------------------------------



| |  |  | the completion of enrollment in one formulation group of our COSTAR I clinical trial in January 2004;
| | - |  | -----------------------------------------------------------------------------------------------------



| |  |  | the announcement of results from our PISCES clinical trial in May 2004;
| | - |  | -----------------------------------------------------------------------



| |  |  | the execution of our international distribution agreement with Biotronik AG in May 2004;
| | - |  | ----------------------------------------------------------------------------------------



| |  |  | the growth in the number of our employees and the recruitment of executive officers since June 2003;
| | - |  | ----------------------------------------------------------------------------------------------------



| |  |  | our Series E preferred stock financing in July and August 2004;
| | - |  | ---------------------------------------------------------------



| |  |  | our board of directors authorization of management to initiate the process of preparing for an initial public offering late in the second quarter of 2004; and
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | our initial public offering in December 2004.
| | - |  | ---------------------------------------------

Prior to
January 1, 2006, we accounted for employee stock options using the intrinsic-value method in accordance with Accounting Principles Board, or APB, Opinion No. 25,Accounting for Stock Issued to Employees, Financial Accounting Standards Board,
or FASB, Interpretation No. 44,Accounting for Certain Transactions Involving Stock Compensation, an interpretation of APB No. 25, and related interpretations.

We adopted SFAS 123R effective January 1, 2006, which requires the recognition of stock-based compensation at fair value in our statement of operations. We adopted SFAS 123R under the modified prospective
transition method and therefore we have not restated results for prior periods. The preparation of the financial statement in accordance with generally accepted accounting principles requires us to estimate the fair value of stock options granted.
While fair value may be readily determinable for awards of stock, market quotes are not available for long-term, nontransferable stock options because these instruments are not traded. We currently use the Black-Scholes option pricing model to
estimate the fair value of stock options. However, the Black-Scholes model was developed for use in estimating the fair value of traded options, which have no vesting restrictions and are fully transferable.

Under SFAS 123R, our estimate of compensation expense requires a number of complex and subjective assumptions including our stock price volatility,
employee exercise patterns, and future forfeitures. The most significant assumptions are our estimates of the expected volatility and the expected term of the award. Because our initial public offering occurred on December 14, 2004, there is
limited historical information available to support our estimate of certain assumptions required to value our stock options. The value of a stock option is derived from its potential for appreciation. The more volatile the stock, the more valuable
the option becomes because of the greater possibility of significant changes in stock price. Our common stock has limited historical information on its stock price volatility. In accordance with the implementation guidance in SFAS 123R, we have
therefore calculated expected volatility based on the average volatilities of similar companies that are growing from newly public to more mature companies with more stock price history. For purposes of identifying similar entities, we have
considered factors such as industry, company age, stage of life cycle, and size. The expected term of options granted represents the period of time that options granted are expected to be outstanding. The expected option term also has a significant
effect on the value of the option. The longer the term, the more time the option holder has to allow the stock price to increase without a cash investment and thus, the more valuable the option. Further, lengthier option terms provide more
opportunity to exploit market highs. However, empirical data shows that employees, for a variety of reasons, typically do not wait until the end of the contractual term of a nontransferable option to exercise. When establishing an estimate of the
expected term of an award, we consider the vesting period for the award, our historical experience of employee stock option exercises (including post-vesting forfeitures) and a comparison to relevant peer group data. As a result of using estimates,
if factors change and we use different assumptions, our stock-based compensation expense could be materially different in the future. As required under the accounting rules, we review our valuation assumptions at each grant date and, as a result,
from time to time we will likely change the valuation assumptions we use to estimate the value of stock based awards granted in future periods.



15



---

##### Table of Contents

Results of Operations

Three Months Ended March 31, 2006 and 2005

Product Sales

In 2005, we began commercializing our CoStar stent in certain countries outside of the United States, the European Union and Japan. Prior to February
2005, we had not generated any revenues from the sale of our stents. In February 2006, our CoStar stent received CE Mark approval in the European Union, and we commercially launched our CoStar stent in the European Union through our distributor,
Biotronik AG. As a result of the commercial launch of our CoStar stent in many of the countries in the European Union, we expect product revenues to increase in subsequent quarters over current levels. Because our distributors have fluctuating
inventory stocking patterns, revenues from the sales of our CoStar stent may fluctuate from quarter to quarter.

Product sales were $4.4
million and $36,000 for the three months ended March 31, 2006 and 2005, respectively. The $4.4 million increase was primarily due to the commercial launch of our CoStar stent in many countries in the European Union.

Cost of Sales

Cost of sales
is composed of the material, labor, non-cash stock-based compensation, overhead and transportation costs of production and variances associated with inefficiencies in manufacturing. We expect that as our production processes mature and volumes
increase, our cost of sales as a percentage of product sales will decline.

Cost of sales was $3.8 million and $0.2 million for the three
months ended March 31, 2006 and 2005, respectively. During the three months ended March 31, 2006, cost of sales grew as revenue increased and commercialization of our CoStar stent began in the European Union. Cost of sales included
non-cash stock-based compensation expense of $0.2 million and $0 for the three months ended March 31, 2006 and 2005, respectively. The cost of sales for the three months ended March 31, 2006 and 2005 is representative of the production costs
and variances associated with the early commercialization of our CoStar stent. Our cost of sales has been and will continue to be affected by a variety of factors, including product manufacturing start-up costs, manufacturing efficiencies, pricing
by suppliers, yield and scrap, and production volumes. The cost of sales for the three months ended March 31, 2006 is not necessarily indicative of production costs in future periods.

Research and Development Expenses

Our research and development expenses primarily consist of clinical and regulatory expenses, including pre-clinical and clinical trial costs and the cost of manufacturing clinical supplies. Research and development costs also consist of
employee compensation, supplies and materials, consultant services, facilities, and non-cash stock-based compensation. We expense research and development costs as they are incurred. We expect our research and development expenses to increase
significantly as we complete the development of our CoStar stent, research new product opportunities, conduct additional clinical trials and hire additional employees. If our COSTAR II trial proceeds as currently planned, we anticipate that it will
cost at least $15.0 million to complete. As of March 31, 2006, we had expended $23.4 million in research and development expenses for our EuroSTAR and COSTAR II trials. In addition, we plan to conduct additional clinical trials using our CoStar
stent as well as other drug-eluting stents that we are currently developing, including our Corio and SymBio stent systems.

Research and
development expenses were $14.2 million and $7.7 million for the three months ended March 31, 2006 and 2005, respectively. Research and development expenses included non-cash stock-based compensation expense of $2.3 million and $1.2 million for
the three months ended March 31, 2006 and 2005, respectively. The $6.5 million increase was primarily due to increases in clinical trial expenses of $4.4 million, increases in non-cash employee stock-based compensation expenses of $0.9 million,
increases in payroll and related expenses of $0.9 million as we increased research and development personnel, increases in non-cash non-employee stock-based compensation expenses of $0.2 million, and increases in other expenses of $0.1 million.
Effective January 1, 2006, we adopted SFAS 123R, and as a result operating expenses for the quarter ended March 31, 2006 included additional employee stock-based compensation expense as compared to the comparable period of the prior year.

General and Administrative Expenses

Our general and administrative expenses consist primarily of compensation for executive, finance and administrative personnel and non-cash stock-based compensation. Other significant costs include professional fees
for accounting and legal services, including legal services associated with defending against patent litigation and our efforts to obtain and maintain protection for the intellectual property related to our stent technology. We expect our general
and administrative expenses to increase substantially due to the costs associated with the infrastructure necessary to support the commercialization of our CoStar stent, particularly in the U.S., as well as the costs associated with defending patent
infringement claims asserted against us.



16



---

##### Table of Contents

General and administrative expenses were $5.4 million and $4.6 million for the three months ended
March 31, 2006 and 2005, respectively. General and administrative expenses included non-cash stock-based compensation expense of $1.8 million for each of the three months ended March 31, 2006 and 2005. The $0.8 million increase was primarily
due to increases in professional services for legal, audit and other consulting services of $0.6 million, increases in payroll expenses of $0.3 million as we added management and administrative personnel, increases in non-cash employee stock-based
compensation expenses of $0.1 million, partially offset by decreases in trade show, promotional, franchise tax and other expenses totaling $0.2 million. Effective January 1, 2006, we adopted SFAS 123R, and operating expenses for the quarter
ended March 31, 2006 included additional employee stock-based compensation expense as compared to the comparable period of the prior year.

Interest Income

Interest income was $0.7 million in each of the three months ended March 31, 2006 and 2005.
There was no significant change in interest income as declining cash balances were offset by higher interest rates.

Other Income,
Net

Other income was $0.1 million and $33,000 for the three months ended March 31, 2006 and 2005, respectively. The increase
was due to the foreign exchange gains associated with converting transactions from the euro to the U.S. dollar.

Liquidity and Capital Resources

We have incurred losses since our inception in October 1999 and, as of March 31, 2006, we had an accumulated deficit of $121.3
million. We have funded our operations to date principally from proceeds from our initial public offering of common stock in December 2004 and private placements of equity securities and convertible promissory notes, raising aggregate net proceeds
of $164.0 million through March 31, 2006.

As of March 31, 2006, we did not have any outstanding or available debt financing
arrangements, we had working capital of $57.6 million and our primary source of liquidity was $61.7 million in cash and cash equivalents. Pending their ultimate use, we currently invest our available funds in liquid money market accounts.

Net Cash Used in Operating Activities

Net cash used in operating activities was $15.8 million during the three months ended March 31, 2006. The cash used in operations during the three months ended March 31, 2006 primarily reflected the net loss
of $18.1 million plus increases in accounts receivable of $3.2 million, prepaid assets of $2.5 million and other accrued liabilities of $1.2 million. The cash used in operations was partially offset by non-cash employee stock-based compensation
expense of $3.5 million and decreases of other assets of $2.8 million, accrued clinical development liabilities of $2.0 million, and contingent expense recovery of $1.3 million.

Net cash used in operating activities was $7.5 million during the three months ended March 31, 2005. The net cash used during the three months ended
March 31, 2005 primarily reflected the net loss of $11.7 million, partially reduced by depreciation of $0.2 million, non-cash stock-based compensation expense of $2.4 million, the issuance of stock to consultants as stock-based compensation of
$0.7 million, increases in other accrued liabilities of $0.7 million, and changes in other operating assets and liabilities of $0.3 million.

Net Cash Used in Investing Activities

Net cash used in investing activities for the three months ended
March 31, 2006 and 2005 was $1.9 million and $1.4 million, respectively, primarily as a result of purchases of property and equipment.

Net Cash Provided by Financing Activities

Net cash provided by financing activities for the three months ended
March 31, 2006 was $0.8 million, primarily due to the exercise of stock options. Net cash provided by financing activities for the three months ended March 31, 2005 was $7.7 million, primarily due to the net proceeds we received from the
sale and issuance of shares of our common stock upon the exercise of the over-allotment option in January 2005 by the underwriters of our initial public offering.



17



---

##### Table of Contents

Operating Capital and Capital Expenditure Requirements

As of March 31, 2006, we had not achieved profitability. We anticipate that we will continue to incur net losses for the next several years as we
develop new products, expand our clinical development team and corporate infrastructure and prepare for the U.S. commercialization of our CoStar stent. We expect that our research and development and general and administrative expenses will continue
to increase and, as a result, we will need to generate significant product revenues or raise additional capital to achieve profitability.

In February 2006, our CoStar stent received CE Mark approval in the European Union, and we commercially launched our CoStar stent in many of the countries in the European Union through our distributor, Biotronik AG. As a result of our
commercial launch in the European Union, we expect product revenues to increase in subsequent quarters over current levels. We believe that our cash and cash equivalent balances, as well as the interest we earn on these balances and revenues from
anticipated product sales, will be sufficient to meet our anticipated cash requirements into 2007. However, we anticipate that we will seek to sell additional equity or debt securities or obtain a credit facility prior to this time. The sale of
additional equity and debt securities may result in additional dilution to our stockholders. If we raise additional funds through the issuance of debt securities, these securities could have rights senior to those of our common stock and could
contain covenants that would restrict our operations. We may require additional capital beyond our currently forecasted amounts. Any such required additional capital may not be available on reasonable terms, if at all. If we are unable to obtain
additional financing, we may be required to liquidate some or all of our assets or reduce the scope of, delay or eliminate some or all of our planned research, development and commercialization activities, which could harm our business.

We anticipate spending at least $11.0 million over the next year for clinical trials to seek to obtain regulatory approvals of our CoStar stent. We
estimate that the development of any new product candidates will cost between $15.0 million and $25.0 million per product candidate and will take up to four years or longer to complete. We expect to fund the development of potential product
candidates with our existing cash and cash equivalent balances, or with cash received from sales of our products and securities.

Our
forecasts of the period of time through which our financial resources will be adequate to support our operations and the costs to complete development of products are forward-looking statements that involve risks and uncertainties, and actual
results could vary as a result of a number of factors, including the factors discussed under Part II, Item 1A below. We have based these estimates on assumptions that may prove to be wrong, and we could utilize our available capital resources
sooner than we currently expect.

Because of the numerous risks and uncertainties associated with the development of drug-eluting stents,
such as our CoStar stent, we are unable to estimate the exact amounts of capital outlays and operating expenditures associated with our current and anticipated clinical trials. Our future funding requirements will depend on many factors, including,
but not limited to:



| |  |  | the scope, rate of progress and cost of our clinical trials and other research and development activities;
| | - |  | ----------------------------------------------------------------------------------------------------------



| |  |  | future clinical trial results;
| | - |  | ------------------------------



| |  |  | the cost of filing and prosecuting patent applications and defending and enforcing our patent and other intellectual property rights;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the cost of defending, in litigation or otherwise, any claims that we infringe third-party patent or other intellectual property rights;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the cost of establishing clinical and commercial supplies of our CoStar stent and any other products or product candidates that we may develop;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the cost of building additional commercial scale manufacturing capabilities;
| | - |  | ----------------------------------------------------------------------------



| |  |  | the cost and timing of regulatory approvals;
| | - |  | --------------------------------------------



| |  |  | the cost and timing of establishing sales, marketing and distribution capabilities;
| | - |  | -----------------------------------------------------------------------------------



| |  |  | licensing technologies for future development;
| | - |  | ----------------------------------------------



| |  |  | the effect of competing technological and market developments; and
| | - |  | ------------------------------------------------------------------



| |  |  | the terms and timing of any collaborative, licensing and other arrangements that we may establish.
| | - |  | --------------------------------------------------------------------------------------------------

Future capital requirements will also depend on the extent to which we acquire or invest in businesses, products and technologies, but we currently have
no commitments or agreements relating to any of these types of transactions.

On February 1, 2005, Angiotech Pharmaceuticals, Inc. and
Boston Scientific Corporation (as Angiotechs licensee) initiated legal proceedings against us in the District Court in The Hague, Netherlands seeking a declaration that our CoStar



18



---

##### Table of Contents

stent infringes Angiotechs patent rights. In the suit, Angiotech and Boston Scientific are also seeking orders, among other things, preventing us from
commercializing our CoStar stent in many European countries and requiring us to pay damages. Also, on November 8, 2005, Boston Scientific and Boston Scientific Scimed, Inc., or Scimed, initiated legal proceedings against us in the District
Court for the District of Delaware seeking a judgment, among other things, that our CoStar stent infringes U.S. Patent No. 5,922,021, one of the Jang patents purportedly assigned to Scimed. In the suit, Boston Scientific and Scimed are also
seeking orders, among other things, preventing us from commercializing our CoStar stent in the United States and requiring us to pay damages. On May 4, 2006, Schneider (Europe) GmbH, or Schneider, a part of the Boston Scientific group of
companies, initiated legal proceedings against Conor Medsystems Ireland Limited, our wholly-owned subsidiary, in the High Court of Ireland alleging that our CoStar stent infringes the EP 0 650 740 B1 patent owned by Schneider. According to the
summons filed in the High Court, Schneider is seeking, among other things, damages and an injunction restraining Conor Ireland from making, offering, putting on the market or stocking our CoStar stent. Schneider is also seeking an order requiring
Conor Ireland to deliver all CoStar stents. We are unable to predict the outcome of these proceedings.

Based on litigations against the
Company to date, the fact that we may pose a competitive threat to large and well-capitalized companies who own or control patents relating to stents and their use, manufacture and delivery, and the prolific litigation that has occurred in the stent
industry, we believe that it is highly likely that additional patent infringement claims will be asserted against us with respect to the manufacture, use or sale of our CoStar stent based on one or more of these patents. A number of these patents
are owned by very large and well-capitalized companies that are active participants in the stent market, such as Johnson & Johnson, Boston Scientific, Guidant Corporation (which is now owned by Boston Scientific), Cordis Corporation,
Medtronic Inc., Abbott Laboratories and Medinol Ltd. Many of these third-party patents have been or are being asserted in litigation against purported infringers, including against us, demonstrating a willingness by the patent owners to litigate
their claims. Further, we are aware that there are a large number of U.S. and foreign issued patents and pending patent applications owned by third parties that generally cover stents, catheters, balloons or enabling technologies that could be
relevant to our technologies, products or product candidates, any number of which could be asserted against us in litigation. Any lawsuit could seek to enjoin, or prevent, us from commercializing our CoStar stent and may seek damages from us, and
would likely be expensive for us to defend. We have received letters from third parties, some of whom have been actively involved in coronary stent litigation, asserting that they may have rights to patents that are relevant to our operations or our
stent platform and requesting the initiation of discussions. A court may determine that these patents are valid and infringed by us. A finding that we infringe any valid claim in a patent held by a third party would have a material adverse effect on
our results of operations, financial condition and liquidity, and we may, among other things, be required to:



| |  |  | pay damages, including up to treble damages and the other partys attorneys fees, which may be substantial;
| | - |  | ------------------------------------------------------------------------------------------------------------



| |  |  | cease the development, manufacture, use and sale of products, including our CoStar stent, that infringe the patent rights of others, through a court-imposed sanction called an
injunction;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | expend significant resources to redesign our technology so that it does not infringe others patent rights, or to develop or acquire non-infringing intellectual property, which
may not be possible;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | discontinue manufacturing or other processes incorporating infringing technology; and/or
| | - |  | ----------------------------------------------------------------------------------------



| |  |  | obtain licenses to the infringed intellectual property, which may not be available to us on acceptable terms, or at all.
| | - |  | ------------------------------------------------------------------------------------------------------------------------

An award of damages against us would adversely affect our results of operations and liquidity, and any delays or restrictions with respect to our
commercialization plans resulting from such litigation would adversely affect our ability to generate revenues. In addition, our competitors have significant resources to devote to litigation against us, and we may need to expend significant
resources to defend such litigation. We could require significant additional funds to bear the costs of this litigation, regardless of whether we prevail. Our ability to continue to operate under our current operating plan could be impaired if such
funds are not available. Since our costs in connection with any such litigation will vary greatly depending on the nature and timing of the litigation, it is not possible to estimate the effect of any such costs on our financial condition and
results of operations. Amounts ultimately payable, if any, resulting from an adverse outcome of any of these matters cannot be reasonably estimated at this time.



19



---

##### Table of Contents

Contractual Obligations

For the period ended March 31, 2006, there were no material changes in contractual obligations previously disclosed under the heading Liquidity
and Capital Resources-Contractual Obligations in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2005, filed with the SEC on March 16, 2006.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

For the period ended
March 31, 2006, there were no material changes to the quantitative and qualitative disclosures about market risk previously disclosed in Part II, Item 7A of our Annual Report on Form 10-K for the year ended December 31, 2005, filed
with the SEC on March 16, 2006.

Item 4. Controls and Procedures

Evaluation of disclosure controls and procedures. Based on
their evaluation as of March 31, 2006, our chief executive officer and chief financial officer have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as
amended) were effective to ensure, at the reasonable assurance level, that the information required to be disclosed by us in the reports that we file with the SEC is recorded, processed, summarized and reported within the time periods specified in
the SECs rules and forms.

Changes in Internal Control over Financial Reporting. There were no changes in our internal
control over financial reporting during the quarter ended March 31, 2006 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

During the three months ended March 31, 2006, there were no material
developments in the litigation disclosed under Part I, Item 3 of our Annual Report on Form 10-K for the year ended December 31, 2005, filed with the SEC on March 16, 2006, except as follows:



| |  |  | On February 2, 2006, the Federal Court of Australia (Victoria District Registry) issued an order with respect to our Application to Revoke Australian Patent Nos. 728873, 771815 and
693797 owned by Angiotech Pharmaceuticals, Inc. and University of British Columbia allowing us to proceed with our claim of invalidity on the basis that the University of British Colombia is not entitled to patents. Angiotech and the University of
British Colombia have appealed the order. A hearing on the appeal is scheduled for May 2006. We are unable to predict the outcome of the proceedings.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | On February 24, 2006, the High Court of Justice in the United Kingdom rendered its decision in our proceedings initiated against Angiotech that EP 0 706 376 B1 is invalid based on
the grounds that the patent was obvious in light of the state of scientific knowledge at the priority date of the patent. Angiotech has appealed the decision and we expect a hearing to occur on this appeal in December 2006. We are unable to predict
the outcome of the appellate proceedings.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

In addition, on May 4, 2006, Schneider (Europe) GmbH, or Schneider, a part of the
Boston Scientific group of companies, initiated legal proceedings against Conor Medsystems Ireland Limited, our wholly-owned subsidiary, in the High Court of Ireland alleging that our CoStar stent infringes the EP 0 650 740 B1 patent owned by
Schneider. According to the summons filed in the High Court, Schneider is seeking, among other things, damages and an injunction restraining Conor Ireland from making, offering, putting on the market or stocking our CoStar stent. Schneider is also
seeking an order requiring Conor Ireland to deliver all CoStar stents. We currently use our facilities in Ireland to manufacture our CoStar stent for commercial sale. We are unable to predict the outcome of these proceedings.



20



---

##### Table of Contents

Item 1A. Risk Factors

We have identified the following additional risks and uncertainties that may
have a material adverse effect on our business, financial condition or results of operations. Investors should carefully consider the risks described below before making an investment decision. The risks described below are not the only ones we
face. Additional risks not presently known to us or that we currently believe are immaterial may also significantly impair our business operations. Our business could be harmed by any of these risks. The trading price of our common stock could
decline due to any of these risks, and investors may lose all or part of their investment. We have marked with an asterisk (*) those risks described below that reflect substantive changes from the risks described under Item 1A. Risk
Factors included in our Annual Report on Form 10-K filed with the SEC on March 16, 2006. In addition, the risks described under, and the caption entitled, Problems with the stent to be used in the control group could adversely
affect our U.S. pivotal clinical trial for our CoStar stent under Item 1A. Risk Factors included in our Annual Report on Form 10-K filed with the SEC on March 16, 2006 have been removed.

Risks Related to Intellectual Property

Intellectual
property rights, including in particular patent rights, play a critical role in the drug-eluting stent sector of the medical device industry, and therefore in our business. We face significant risks relating to patents, both as to our own patent
position as well as to patents held by third parties. For example, we are involved in substantial patent litigation with large, well-capitalized companies. These risks are summarized below. We have described in greater detail our patent position,
and patents held by third parties that could impact our business, under Item 1. BusinessPatents and Proprietary Rights in our Annual Report on Form 10-K for the year ended December 31, 2005, filed with the SEC on
March 16, 2006. You should consider carefully the matters discussed under that caption and in the risk factors below in considering an investment in our common stock.

We are involved in substantial patent litigation with large, well-capitalized companies. If any patent infringement or other intellectual property
claims asserted against us are successful, we could be enjoined, or prevented, from commercializing our CoStar stent, our cobalt chromium paclitaxel- and pimecrolimus-eluting coronary stent system, SymBio, our cobalt chromium
pimecrolimus-eluting coronary stent system, Corio, or other product candidates.*

Since February 2005, we have become
involved in five separate legal proceedings regarding patents. These proceedings are:



| |  |  | a litigation initiated against us in The Hague, Netherlands by Angiotech Pharmaceuticals, Inc. and Boston Scientific seeking a declaration that our CoStar stent infringes one of the
Hunter patents;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | a litigation initiated against us in Delaware by Boston Scientific and Boston Scientific Scimed, Inc., or Scimed, seeking a judgment that our CoStar stent infringes one of the Jang
patents;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | a litigation initiated against us in Ireland by Schneider (Europe) GmbH, or Schneider, a part of the Boston Scientific group of companies, seeking a judgment that our CoStar stent
infringes one of the Kastenhofer patents;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | legal proceedings initiated by us in the United Kingdom and the Netherlands requesting that the courts invalidate one of the Hunter patents owned by Angiotech and licensed to Boston
Scientific; and
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | a proceeding initiated by us in Australia seeking to invalidate patents owned by Angiotech and the University of British Columbia.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------

The Hunter and Jang patents are described in greater detail below and under the caption Item 1. BusinessPatents and Proprietary
RightsThird-Party Patent Rights in our Annual Report on Form 10-K for the year ended December 31, 2005, filed with the SEC on March 16, 2006. The Kastenhofer patents are described in greater detail below. In these legal
proceedings, Boston Scientific, Angiotech, Scimed and Schneider are seeking, among other things, substantial damages from us as well as injunctions to prevent us from selling, manufacturing or stocking our CoStar stent. We are unable to predict the
outcome of these legal proceedings. These legal proceedings are described in more detail under the captions Item 3. Legal Proceedings in our Annual Report on Form 10-K for the year ended December 31, 2005, filed with the SEC on
March 16, 2006, and Item 1. Legal Proceedings under Part II of this Quarterly Report on Form 10-Q.



21



---

##### Table of Contents

Including the Hunter, Jang and Kastenhofer patents being asserted against us in one or more of the
litigations mentioned above, there are numerous U.S. and foreign issued patents and pending patent applications owned by third parties with patent claims in areas that are the focus of our product development efforts. We do not have licenses to
these patents. These patents relate to, among other things:



| |  |  | use of paclitaxel (in general or on a stent) to treat restenosis;
| | - |  | -----------------------------------------------------------------



| |  |  | use of rapamycin or its analogs (in general or on a stent) to treat restenosis;
| | - |  | -------------------------------------------------------------------------------



| |  |  | stent structure;
| | - |  | ----------------



| |  |  | catheters used to deliver stents;
| | - |  | ---------------------------------



| |  |  | composition of materials or therapeutic agents used on or with stents; and
| | - |  | --------------------------------------------------------------------------



| |  |  | stent and catheter manufacturing processes.
| | - |  | -------------------------------------------

A number of
these patents are owned by very large and well-capitalized companies that are active participants in the stent market, such as Boston Scientific Corporation, Johnson & Johnson, Cordis Corporation, Medtronic Inc., Abbott Laboratories,
Medinol Ltd. and Guidant Corporation (which is now owned by Boston Scientific). Several of these third-party patents have been or are being asserted in litigation against purported infringers, including against us, demonstrating a willingness by the
patent owners to litigate their claims. For a description of patents that we consider to pose a material litigation risk to us, see the discussion under below and under the caption Item 1. BusinessPatents and Proprietary
RightsThird-Party Patent Rights in our Annual Report on Form 10-K for the year ended December 31, 2005, filed with the SEC on March 16, 2006. There may be patents in addition to those described under that caption and below that
relate to aspects of our technology and that may materially and adversely affect our business. Moreover, because patent applications can take many years to issue, there may be currently pending applications, unknown to us, which may later result in
issued patents that pose a material risk to us.

Based on litigations against us to date, the fact that we may pose a competitive threat to
large and well-capitalized companies who own or control patents relating to stents and their use, manufacture and delivery, and the prolific litigation that has occurred in the stent industry, we believe that it is highly likely that additional
patent infringement claims will be asserted against us with respect to the manufacture, use offer for sale or sale of our CoStar stent based on one or more of these or other patents. We have received letters from third parties who have intellectual
property rights in, or who have been actively involved in litigation or oppositions relating to, coronary stents, asserting that they may have rights to patents that are relevant to our operations or our stent platform and requesting the initiation
of discussions. Any lawsuit could seek to enjoin, or prevent, us from commercializing our CoStar stent and may seek damages from us, and would likely be expensive for us to defend. A court may determine that these patents are valid and infringed by
us. In addition, a lawsuit could seek to enjoin, or prevent our distributors from commercializing our CoStar stent. If a third party brings suit against our distributors it could materially affect our ability to generate revenue.

The stent and related markets have experienced rapid technological change and obsolescence in the past, and our competitors have strong incentives to
stop or delay the introduction of new products and technologies. Some of the companies in these markets, such as Boston Scientific, Johnson & Johnson, Medtronic and Guidant, have been able to capture significant market share by introducing
new technologies. These companies have maintained their position in the market by, among other things, establishing intellectual property rights relating to their products and enforcing these rights aggressively against their competitors and
potential new entrants into the market. All of the major companies in the stent and related markets, including Boston Scientific, Johnson & Johnson, Guidant and Medtronic, have been repeatedly involved in patent litigation relating to
stents since at least 1997. Ongoing patent litigation includes litigation between Boston Scientific and Johnson & Johnson relating to Boston Scientifics drug-eluting stent and Johnson & Johnsons drug-eluting stent. Each
company is claiming that the other company infringes its intellectual property. We may pose a competitive threat to many of the companies in the stent and related markets. Accordingly, many of these companies, especially Boston Scientific and others
against which we would compete directly, have a strong incentive to take steps, through patent litigation or otherwise, to prevent us from commercializing our CoStar stent.



22



---

##### Table of Contents

We are aware that there are a large number of U.S. and foreign issued patents and pending patent
applications owned by third parties that generally cover stents, catheters, balloons or enabling technologies that could be relevant to our technologies, products or product candidates, any number of which could be asserted against us in litigation.
We describe many of these patents below. If we or our distributors are found to infringe these or other patents, it could have a material adverse effect on our business and financial results.

Boston Scientific owns a series of patents that could have a material adverse effect on us known as the Kunz patents, which relate to the use
of paclitaxel to treat restenosis generally and also to treat restenosis via a stent. It is possible that Boston Scientific could assert a patent infringement claim against us based on these patents.

Angiotech is the owner of a number of patents, sometimes referred to as the Hunter patents, and has licensed from the U.S. government a
number of other patents, sometimes referred to as the Kinsella patents, that also claim the use of paclitaxel coated stents to treat angiogenesis and restenosis. These patents could have a material adverse effect on us. Angiotech granted
an exclusive license to Boston Scientific under these patents in the coronary vascular field of use. The legal proceedings initiated by Angiotech and Boston Scientific against us in the Netherlands allege that the CoStar stent infringes one of the
Hunter patents. It is possible that Boston Scientific or Angiotech could assert other patent infringement claims against us based on these patents.

Boston Scientific purports to own or have rights to other patents that could have a material adverse effect on us. These include the Jang stent structure patents, including patents with claims relating to a stent with a
plurality of cavities which are micro-holes or micro-slits which act as reservoirs for a substance and claims relating to an expandable stent having expansion columns and connecting strut columns. The legal proceedings initiated by Boston Scientific
and Scimed against us in Delaware allege that our CoStar stent infringes one of the Jang patents. It is possible that Boston Scientific or Scimed could assert other patent infringement claims against us based on these patents.

Schneider owns a number of patents, known as the Kastenhofer patents relating to dual-layer balloon expandable catheters which are composed
of layers of plastics with varying friction coefficients. These patents could have a material adverse effect on us and Schneider has asserted one of these patents against us in Ireland. It is possible that Schneider could assert other patent
infringement claims against us in other jurisdictions based on these patents.

Cordis Corporation, a subsidiary of Johnson &
Johnson, owns a number of patents, known as the Wright patents, relating to stents containing rapamycin or its analogs in a therapeutically beneficial amount to combat restenosis. Johnson & Johnson also has a license to certain
patents, known as the Morris patents, owned by Wyeth which relate to methods of treating or preventing restenosis by administration of rapamycin. It is possible that Johnson & Johnson and Cordis could assert patent infringement
claims against us based on these patents because of our development of our Corio and SymBio stents.

In addition, Guidant owns a number of
patents that could have a material adverse effect on us. These include the Yock family of patents that are directed to rapid exchange catheters, the Lau family of patents which claim rapid exchange catheters for stent
delivery, another Lau family of patents directed to stent structures and the Castro patents, which are directed to a manufacturing process involving the application of a material to a stent. It is possible that Guidant could
assert a patent infringement claim against us based on these patents.

Title 35 Section 271(e) of the United States Code is known as
the clinical trial safe harbor. It allows parties to use in the United States an invention to which a third party holds a patent solely for uses reasonably related to developing information for submission to the FDA. While we believe that our
clinical activities in the United States and outside of the United States would be covered by the safe harbor, as it relates to U.S. patents, there is no way to confirm such belief until the case is litigated. The U.S. safe harbor would not cover
our stent manufacturing or other activities in the United States if those activities are not deemed by a court to be reasonably related to developing information for submission to the FDA.

Whether we infringe any patent claim will not be known (whether in our current or in future patent litigation) with certainty unless and until a court
interprets the patent claim in the context of litigation. The outcome of patent litigation is subject to substantial uncertainties, especially in medical device-related patent cases that may, for



23



---

##### Table of Contents

example, turn on the interpretation of claim language by the court which may not be to our advantage, the jurys ability to understand and interpret the
technical and legal issues and also the testimony of experts as to technical facts upon which experts may reasonably disagree. In infringement allegations made against us, we may seek to invalidate the asserted patent claim, render the entire patent
unenforceable and/or to allege non-infringement of the asserted patent claim. In Europe, individual country laws control the standard for patent invalidation, and the burden of proof to invalidate a particular claim can vary among countries. In
order for us to invalidate a U.S. patent claim in court, we would need to rebut the presumption of validity afforded to issued patents in the United States with clear and convincing evidence of invalidity, which is a high burden of proof.

In the event that we are found, in our current, or in any future, patent litigation, to infringe any valid claim in a patent held by a
third party, we may, among other things, be required to:



| |  |  | pay damages, including up to treble damages and the other partys attorneys fees, which may be substantial;
| | - |  | ------------------------------------------------------------------------------------------------------------



| |  |  | cease the development, manufacture, use and sale of our products, including our CoStar stent, that infringe the patent rights of others through a court-imposed sanction called an
injunction;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | expend significant resources to redesign our technology so that it does not infringe others patent rights, or to develop or acquire non-infringing intellectual property, which
may not be possible;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | discontinue manufacturing or other processes incorporating infringing technology; and/or
| | - |  | ----------------------------------------------------------------------------------------



| |  |  | obtain licenses to the infringed intellectual property, which may not be available to us on acceptable terms, or at all.
| | - |  | ------------------------------------------------------------------------------------------------------------------------

Any development or acquisition of non-infringing products or technology or licenses could require the expenditure of substantial time and other resources
and could have a material adverse effect on our business and financial results. If we are required to, but cannot, obtain a license to valid patent rights held by a third party, we would likely be prevented from commercializing the relevant product.
We believe that it is unlikely that we would be able to obtain a license to any necessary patent rights controlled by companies, like Boston Scientific, against which we would compete directly. This would include, for example, a license to the Jang,
Hunter or Kastenhofer patents. If we need to redesign products to avoid third-party patents, we may suffer significant regulatory delays associated with conducting additional studies or submitting technical, manufacturing or other information
related to the redesigned product and, ultimately, in obtaining approval.

In addition, many of our agreements, including our distribution
agreements with Biotronik AG and the St. Jude Medical affiliates, our supply agreements for laser-cut stents and catheters and our license agreement with Novartis AG, require us to indemnify the other party in certain circumstances where our
products have been found to infringe a patent or other proprietary rights of others. An indemnification claim against us may require us to pay substantial sums to the indemnified party, including its attorneys fees.

Intellectual property litigation against or by us could significantly disrupt our development and commercialization efforts, divert our
managements attention and quickly consume our financial resources.*

There has been substantial litigation and other
proceedings regarding patent and intellectual property rights in the medical device industry generally and the drug-eluting stent industry in particular. We are currently involved in a substantial amount of patent litigation, some of which was
initiated by third parties and some of which was initiated by us. It is likely that we will become involved in even more litigation. Our involvement in intellectual property litigation results in significant expense. We expect that our patent
litigation expense will remain substantial for the foreseeable future and is likely to increase. Some of our competitors, such as Boston Scientific, Johnson & Johnson, Medtronic and Guidant, have considerable resources available to them and
a strong economic incentive to undertake substantial efforts to stop or delay us from bringing our CoStar stent to market and achieving market acceptance. We, on the other hand, are a company with comparatively few resources available to us to
engage in costly and protracted litigation. Moreover, regardless of the outcome, intellectual property litigation against or by us could significantly disrupt our development and commercialization efforts, divert our managements attention and
quickly consume our financial resources.



24



---

##### Table of Contents

In addition, during the discovery process of any of these litigations, we may be required to disclose
proprietary or confidential information and trade secrets. Although a court would likely issue a protective order covering the information disclosed in the discovery process, there is some risk that such information could be disclosed to third
parties, even if inadvertently. If proprietary and confidential information and trade secrets are disclosed to a third party, such party could try to use such information against us and to our detriment.

If third parties file patent applications or are issued patents claiming technology also claimed by us in pending applications, we may be required to
participate in interference proceedings with the U.S. Patent and Trademark Office, which we refer to as the U.S. Patent Office, or in other proceedings outside the United States, including oppositions, to determine priority of invention or
patentability. For example, we have filed an application which takes the first step in seeking to provoke an interference with a patent owned by MicroCHIPS, Inc. with claims directed to an implantable stent having reservoirs and a system for
releasing drugs contained in the reservoirs, as the priority date of the MicroCHIPS patent is after the priority date of our patent. Even if we are successful in these proceedings, we will incur substantial costs, and the time and attention of our
management and scientific personnel could be diverted in pursuit of these proceedings.

If we are unable to obtain and maintain
intellectual property protection covering our products, others may be able to make, use or sell our products, which would adversely affect our market share and, therefore, our revenues.

Our ability to protect our drug-eluting stent technology from unauthorized or infringing use by third parties depends substantially on our ability to
obtain and maintain valid and enforceable patents. Due to evolving legal standards relating to the patentability, validity and enforceability of patents relating to medical devices and pharmaceutical inventions and the scope of claims made under
these patents, our ability to obtain and enforce patents is uncertain and involves complex legal and factual questions. Accordingly, rights under any of our issued patents may not provide us with commercially meaningful protection for our
drug-eluting stents or afford us a commercial advantage against our competitors or their competitive products or processes. In addition, patents may not issue from any pending or future patent applications owned by or licensed to us, and moreover,
patents that have issued to us or may issue in the future may not be valid or enforceable. Further, even if valid and enforceable, our patents may not be sufficiently broad to prevent others from marketing stents like ours, despite our patent
rights.

The validity of our patent claims depends, in part, on whether prior art references described or rendered obvious our inventions
as of the effective filing date of our patent applications. We may not have identified all prior art, such as U.S. and foreign patents or published applications or published scientific literature, that could adversely affect the validity of our
issued patents or the patentability of our pending patent applications. For example, patent applications in the United States are maintained in confidence for up to 18 months after their filing. In some cases, however, patent applications remain
confidential in the U.S. Patent Office for the entire time prior to issuance as a U.S. patent. Patent applications filed in countries outside the United States are not typically published until at least 18 months from their first filing date.
Similarly, publication of discoveries in the scientific or patent literature often lags behind actual discoveries. Therefore, we cannot be certain that we were the first to invent, or the first to file patent applications relating to, our stent
technologies. In the event that a third party has also filed a U.S. patent application covering our stents or a similar invention, we may have to participate in an adversarial proceeding, known as an interference, declared by the U.S. Patent Office
to determine priority of invention in the United States. It is possible that we may be unsuccessful in an interference, resulting in a loss of some portion or all of our U.S. patent position. The laws of some foreign jurisdictions do not protect
intellectual property rights to the same extent as in the United States, and many companies have encountered significant difficulties in protecting and defending such rights in foreign jurisdictions. If we encounter such difficulties or we are
otherwise precluded from effectively protecting our intellectual property rights in foreign jurisdictions, our business prospects could be substantially harmed.

We may initiate litigation to enforce our patent rights, which may prompt our adversaries in such litigation to challenge the validity, scope or enforceability of our patents. If a court decides that our patents are
not valid, not enforceable or of a limited scope, we will not have the right to stop others from using our inventions.



25



---

##### Table of Contents

We also rely on trade secret protection to protect our interests in proprietary know-how and for
processes for which patents are difficult to obtain or enforce. We may not be able to protect our trade secrets adequately. In addition, we rely on non-disclosure and confidentiality agreements with employees, consultants and other parties to
protect, in part, trade secrets and other proprietary technology. These agreements may be breached, and we may not have adequate remedies for any breach. Moreover, others may independently develop equivalent proprietary information, and third
parties may otherwise gain access to our trade secrets and proprietary knowledge. Any disclosure of confidential data into the public domain or to third parties could allow our competitors to learn our trade secrets and use the information in
competition against us.

Risks Related to Our Business

We are depending heavily on the success of our CoStar stent. If we are unable to successfully commercialize our CoStar stent in Europe, the United States or other major markets or experience significant delays
in doing so, our ability to generate revenue will be significantly delayed and our business will be harmed.

We have
invested all of our product development time and resources in our drug-eluting stent technology, which we have initially commercialized in the form of our CoStar stent. We anticipate that our ability to generate meaningful revenues will depend on
the successful commercialization of our CoStar stent in the European Union and the receipt of regulatory approvals in the United States and other major markets.

The commercial success of our CoStar stent in Europe will depend upon manufacturing commercial supplies, successfully launching the product and acceptance of the product by the medical community and third-party payors
as clinically useful, cost-effective and safe. Although our CoStar stent has received CE Mark approval in the European Union, if the data from our clinical trials is not satisfactory, we may not proceed with our planned filing of applications for
regulatory approvals in the United States or other major markets, or we may be forced to delay the filings. Even if we file an application for approval with satisfactory clinical data, the FDA or foreign regulatory authorities may not accept our
filing, or may request additional information, including data from additional clinical trials. The FDA or foreign regulatory authorities may also approve our CoStar stent for very limited purposes with many restrictions on its use, may delay
approvals, or ultimately may not grant marketing approval for our CoStar stent. Even if we do receive FDA or other foreign regulatory approval, we may be unable to successfully commercialize our CoStar stent in the United States or other major
markets, and our ability to generate revenue will be significantly impaired.

We have limited manufacturing resources and experience,
and if our manufacturing facilities are unable to provide an adequate supply of our stents, our growth could be limited and our business could be harmed.*

We currently manufacture our CoStar, Corio and SymBio stents for our clinical trials and for research and development purposes at our manufacturing facility in Menlo Park, California, and manufacture our CoStar stent
for commercial sale at our manufacturing facility in Athlone, Ireland. If there were a disruption to our existing manufacturing facilities, we would have no other means of manufacturing our stents until we were able to restore the manufacturing
capability at our current facilities or develop alternative manufacturing facilities. If we were unable to produce sufficient quantities of our stents for use in our current and planned clinical trials or for commercialization, or if our
manufacturing process yields substandard stents, our regulatory, development and commercialization efforts would be delayed.

In order to
produce our CoStar stent in the quantities that are required to meet our distributors forecasts, we have increased, or scaled up, the production process over the previous level of production. If the scaled-up production process is
not efficient or produces stents that do not meet quality and other standards, we may be unable to meet market demand and our revenues, business and financial prospects would be adversely affected. Furthermore, since we are dependent on a number of
suppliers to supply us with laser cut stents and catheters, if our suppliers are unable to meet our requirements, our commercialization efforts would be impaired.

Additionally, any damage to or destruction of our facilities or our equipment, prolonged power outage or contamination at our facilities would significantly impair our ability to produce our stents. For example,
because our Menlo Park facilities are located in a seismic zone, we face the risk that an earthquake may damage our facilities and disrupt our operations.



26



---

##### Table of Contents

Quality issues in our manufacturing processes could delay commercialization of our CoStar stent and
our clinical trials.*

The production of our stents must occur in a highly controlled, clean environment to minimize
particles and other yield- and quality-limiting contaminants. In spite of stringent quality controls, weaknesses in process control or minute impurities in materials may cause a substantial percentage of defective products in a lot. In addition, we
must meet certain lot release specifications before our stents can be shipped to our distributors or clinical trial sites, including, among other things, the amount of drug loaded on the stent, the rate the drug is released in vitro, the
level of impurities present in the drug polymer compositions and the mechanical performance of our stents. If a particular lot fails to meet these lot release specifications, we will not be able to ship that lot to our distributors or our clinical
trial sites. If we are not able to maintain stringent quality controls, or if contamination problems arise, the commercialization of our CoStar stent and our clinical trials could be delayed, which would harm our business and our results of
operations.

Our CoStar stent may never achieve market acceptance.*

Our CoStar stent may not gain market acceptance among physicians, patients, health care payors and the medical community. We received CE mark approval to
market our CoStar stent in early 2006, and we have commenced commercial sales, but we cannot predict accurately how well-accepted this product will be by the market. The degree of market acceptance of our CoStar stent will depend on a number of
factors, including:



| |  |  | the perceived effectiveness of our CoStar stent;
| | - |  | ------------------------------------------------



| |  |  | the prevalence and severity of any side effects;
| | - |  | ------------------------------------------------



| |  |  | potential advantages over alternative treatments;
| | - |  | -------------------------------------------------



| |  |  | the strength of marketing and distribution support; and
| | - |  | -------------------------------------------------------



| |  |  | the adequacy of third-party coverage or reimbursement.
| | - |  | ------------------------------------------------------

If our CoStar stent, does not achieve an adequate level of acceptance by physicians, healthcare payors and patients, we may not generate meaningful product revenue and we may not become profitable.

The majority of drug-eluting stents sold in the United States by Boston Scientific and Johnson & Johnson utilize rapid exchange catheters. If we
are not able to develop a commercially acceptable rapid exchange catheter that does not infringe valid patent claims or if we are not able to license the rapid exchange catheter technology on acceptable terms, or at all, we may not be able to access
a significant portion of the drug-eluting stent market in the United States.

We are dependent upon our distributors to market and
sell our CoStar stent internationally, and if our relationships with our distributors do not progress as anticipated or our agreements with our distributors are not renewed or are terminated, our commercialization efforts could be curtailed or
delayed and our operations adversely affected.*

We do not have a sales organization and have no experience as
a company in the sales, marketing and distribution of drug-eluting stents or any other medical devices. To market and sell our CoStar stent internationally, we have entered into distribution agreements with third parties and have derived all of our
product revenues to date from our distribution agreements. Our existing distribution agreements are generally short-term in duration, and we or our distributors may elect not to renew the agreements. Under our distribution agreements, we are
required to, among other things, obtain and maintain certain regulatory approvals, cause our CoStar stent to have a specified shelf life, provide sufficient quantities of our CoStar stent to meet forecasts as well as to perform certain other
commercial obligations and pay certain fees, costs and expenses. Our failure to perform our obligations under our distribution agreements may result in our distributors electing to terminate their respective agreements with us. For example, the
current shelf life of our CoStar stent does not meet the minimum shelf life specified in certain of our distribution agreements. If our relationships with our distributors do not progress as anticipated or our distribution agreements are not renewed
or are terminated, our commercialization efforts could be curtailed or delayed and our



27



---

##### Table of Contents

operations adversely affected. In addition, we may not be successful in entering into distribution agreements with alternative distributors on favorable
terms, or at all, which could substantially impair our ability to generate product revenues.

If our distributors sales and
marketing efforts are not successful or if we are unable to establish sales and marketing capabilities, our business may be harmed.*

Under the terms of our distribution agreements, our distributors, or their sub-distributors, are responsible for the marketing and selling of our CoStar stent in their respective territories. None of our distributors have prior experience
marketing and selling drug-eluting stents. We do not know whether our distributors sales and marketing efforts, or the sales and marketing efforts of any sub-distributors, will be successful. If the sales and marketing strategies of our
distributors are not successful, our business, financial condition and results of operations would be harmed.

If our CoStar stent is
approved for commercial sale in the United States, we currently plan to establish our own sales force to market it in the United States. If we develop our own marketing and sales capabilities, our sales force will be competing with the experienced
and well-funded marketing and sales operations of our competitors. Developing a sales force is expensive and time consuming and could delay or limit the success of any product launch. We may not be able to develop this capacity on a timely basis or
at all. If we are unable to establish sales and marketing capabilities, we will need to contract with third parties to market and sell our CoStar stent in the United States. To the extent that we enter into arrangements with third parties to perform
sales, marketing and distribution services in the United States, our product revenues could be lower than if we directly marketed and sold our CoStar stent, or any other drug delivery device that we may develop. Furthermore, to the extent that we
enter into co-promotion or other marketing and sales arrangements with other companies, any revenues we receive will depend on the skills and efforts of others, and we do not know whether these efforts will be successful. Some of our existing or
future distributors may have products or product candidates that compete with ours, and they may have an incentive not to devote sufficient efforts to marketing our products. If we are unable to establish and maintain adequate sales, marketing and
distribution capabilities, independently or with others, we may not be able to generate product revenue and may not become profitable.

The medical device industry is highly competitive and subject to rapid technological change. If our competitors are better able to develop and market products that compete with ours, our commercial opportunity will be reduced or
eliminated.*

The medical device industry is highly competitive and subject to rapid and profound technological change. Our
success depends, in part, upon our ability to maintain a competitive position in the development of technologies and products in the drug delivery field. If physicians, patients or hospitals opt to use our competitors products, our commercial
opportunity will be reduced and our revenues will suffer.

We face competition from established medical technology, pharmaceutical and
biotechnology companies, as well as from academic institutions, government agencies and private and public research institutions in the United States and abroad. Our principal competitors have significantly greater financial resources and expertise
in research and development, manufacturing, pre-clinical testing, conducting clinical trials, obtaining regulatory approvals and marketing approved products than we do. In addition, our distributors will also face competition from established
pharmaceutical and biotechnology companies with significantly greater financial and marketing resources and expertise in commercializing drug-eluting stents.

For example, Johnson & Johnson and Boston Scientific, two companies with far greater financial and marketing resources than we possess, have both developed, and are actively marketing, drug-eluting stents
which have been approved by the FDA. In addition, in August 2005, Medtronic Inc. commercially launched its Endeavordrug-eluting coronary stent in the European Union. We may be unable to demonstrate that our CoStar stent or our other product candidates offer any advantages over Johnson & Johnsons CYPHER stent, Boston
Scientifics TAXUS Express2 stent or Medtronics Endeavor stent. In addition, in
September 2005, Boston Scientific announced that it had received CE Mark approval for commercial sale of its TAXUS Liberte paclitaxel-eluting coronary stent system. A number of other companies such as Biosensors International Group,
Ltd.s Netherlands-based subsidiary, Occam International B.V., and Sorin Biomedica S.p.A. have also commercially launched drug-



28



---

##### Table of Contents

eluting stents in Europe. Abbott Laboratories is also developing a drug-eluting stent. In January 2006, Guidant announced that it received CE Mark approval
for its XienceV Everolimus-Eluting Coronary Stent System and plans to launch the device in the second quarter
of 2006. In addition, Guidant has announced that it completed enrollment in its SPIRIT II and SPIRIT III clinical trials. Smaller or early-stage companies may also prove to be significant competitors, particularly through collaborative arrangements
with, or mergers with or acquisitions by, large and established companies or through the development of novel products and technologies.

Our competitors may:



| |  |  | develop and patent processes or products earlier than we do;
| | - |  | ------------------------------------------------------------



| |  |  | obtain regulatory approvals for competing products more rapidly than we do; and
| | - |  | -------------------------------------------------------------------------------



| |  |  | develop more effective or less expensive products or technologies that render our technology or product candidates obsolete or non-competitive.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------

The industry in which we operate has undergone, and is expected to continue to undergo, rapid and significant technological change, and we expect
competition to intensify as technical advances are made. Our competitors may develop and commercialize stents or other medical device or pharmaceutical products that are safer or more effective, have fewer side effects or are less expensive than any
products that we develop. For example, we are aware of companies that are developing various other less-invasive technologies for treating cardiovascular disease, which could make our stent platform obsolete. We also compete in recruiting and
retaining qualified scientific and management personnel, establishing clinical trial sites and patient registration for clinical trials, as well as in acquiring technologies and technology licenses complementary to our programs or advantageous to
our business. In addition, as more drug-eluting stents are approved for sale in the major markets, the price paid for drug-eluting stents may decline. If the price paid for drug-eluting stents declines, our ability to generate revenue will suffer.

If we fail to obtain an adequate level of reimbursement for our CoStar stent by third-party payors, there may be no commercially
viable markets for our CoStar stent or the markets may be much smaller than expected.

The availability and levels of reimbursement
by governmental and other third-party payors affect the market for our CoStar stent. The efficacy, safety, performance and cost-effectiveness of our CoStar stent and of any competing products will determine the availability and level of
reimbursement. If we are not able to obtain an adequate level of reimbursement for our CoStar stent by government sponsored healthcare or private insurance, the market may be much smaller than we expect. In addition, reimbursement and healthcare
payment systems in international markets vary significantly by country, and include both government sponsored healthcare and private insurance. To obtain reimbursement or pricing approval in some countries, even those in the European Union where our
CoStar stent has received CE Mark approval, we may be required to produce additional clinical data, which may involve one or more clinical trials, that compares the cost-effectiveness of our products to other available therapies. We may not obtain
international reimbursement or pricing approvals in a timely manner, if at all. Our failure to receive international reimbursement or pricing approvals would negatively impact market acceptance of our CoStar stent in the international markets in
which those approvals are sought, including in the European Union.

We believe that future reimbursement may be subject to increased
restrictions both in the United States and in international markets. Future legislation, regulation or reimbursement policies of third-party payors may adversely affect the demand for our CoStar stent and other products currently under development
and limit our ability to sell our CoStar stent and other product candidates on a profitable basis. In addition, third-party payors continually attempt to contain or reduce the costs of healthcare by challenging the prices charged for healthcare
products and services. If reimbursement for our CoStar stent or other products is unavailable or limited in scope or amount or if pricing is set at unsatisfactory levels, market acceptance of our CoStar stent or other products would be impaired and
our future revenues would be adversely affected.



29



---

##### Table of Contents

We depend on single source suppliers for our stent components and the manufacturing components used
in our stents. The loss of these suppliers could delay or prevent commercialization or delay our clinical trials of our stents.*

We rely on third parties to supply us with the critical components used in our stents. In November 2005, we purchased substantially all of the assets of Phytogen Life Sciences Inc. pursuant to an order of the bankruptcy court. If the
Phytogen paclitaxel purchased by us does not meet quality or other specifications, the commercialization of our CoStar stent could be prevented or delayed. We have obtained paclitaxel from another qualified supplier, but we have not yet used it for
commercial production.

We do not have long-term contracts with our third-party suppliers of stent delivery catheters, polymers or the
cobalt chromium tubing and laser-precision cutting process required to produce our stents. In addition, we do not have long-term contracts with our third-party suppliers of some of the equipment and components that are used in our manufacturing
process. Except for the suppliers of our laser-cut stents and stent delivery catheters, none of our suppliers have agreed to maintain a guaranteed level of production capacity. Furthermore, suppliers that have guaranteed a level of production
capacity may still be unable to satisfy our supply needs. If any of our suppliers are unable to meet our forecasts, our ability to manufacture our stents may be impaired. Establishing additional or replacement suppliers for these components may take
a substantial amount of time. We may also have difficulty obtaining similar components from other suppliers that are acceptable to the FDA or foreign regulatory authorities. Furthermore, since some of these suppliers are located outside of the
United States, we are subject to foreign export laws and U.S. import and customs regulations, which complicate and could delay shipments to us.

Replacing suppliers could cause additional regulatory delays and the manufacture and delivery of our stents could be interrupted for an extended period of time, which may delay completion of our clinical trials or commercialization of our
CoStar stent. In addition, we will be required to obtain regulatory clearance from the FDA or foreign regulatory authorities to use different suppliers or components. As a result, regulatory approval of our stents may not be received on a timely
basis or at all.

Our manufacturing facilities and the manufacturing facilities of our suppliers must comply with applicable
regulatory requirements. If we fail to achieve or maintain regulatory approval for these manufacturing facilities, our business and our results of operations would be harmed.*

Commercialization of our CoStar stent and completion of our clinical trials for our CoStar stent and other product candidates, including our Corio and
SymBio stents, require the use of manufacturing facilities that meet applicable regulatory standards to manufacture a sufficient supply of our CoStar stent and other product candidates. While our manufacturing facility in Ireland has received the
requisite foreign regulatory approval, the FDA must also approve the facilities that manufacture our CoStar stent and other product candidates for U.S. commercial purposes, as well as the manufacturing processes and specifications for our CoStar
stent and other product candidates. Suppliers of components of, and products used to manufacture, our CoStar stent and other product candidates must also comply with FDA and foreign regulatory requirements, which often require significant time,
money and record-keeping and quality assurance efforts and subject us and our suppliers to potential regulatory inspections and stoppages. Our suppliers may not satisfy these requirements. If we or our suppliers do not achieve or maintain required
regulatory approval for our manufacturing operations, our commercialization efforts could be delayed, which would harm our business and our results of operations. In addition, from time to time, suppliers are required to provide information to, and
answer questions of, the regulatory authorities. If our suppliers are unable to satisfactorily respond to the regulatory authorities requests for information, we may experience delays in obtaining, or may not maintain or obtain, regulatory
approvals for our CoStar stent or other product candidates.

If we fail to comply with ongoing regulatory requirements, or if we
experience unanticipated problems with our stents, our stents could be subject to restrictions or withdrawal from the market.*

Any product for which we obtain marketing approval, along with the manufacturing processes, post-approval clinical data and promotional activities for such product, will be subject to continual review and periodic inspections by the FDA and
other regulatory bodies. Even if regulatory approval of a product is granted, the approval may be subject to limitations on the indicated uses for which the product may be marketed or contain requirements for costly post-marketing testing and
surveillance to monitor the safety or efficacy of the product.



30



---

##### Table of Contents

Later discovery of previously unknown problems with our CoStar, Corio and SymBio stents, as well as other potential products, including unanticipated adverse
events or adverse events of unanticipated severity or frequency, manufacturer or manufacturing problems or failure to comply with regulatory requirements, may result in restrictions on such products or manufacturing processes, withdrawal of the
products from the market, voluntary or mandatory recall, fines, suspension of regulatory approvals, product seizures, injunctions or the imposition of civil or criminal penalties.

If we are unable to manage our expected growth, we may not be able to successfully commercialize our CoStar stent and other product
candidates.*

We expect to rapidly expand our operations and grow our research and development, product development and
administrative operations. This expansion has placed, and is expected to continue to place, a significant strain on our management and operational and financial resources. In particular, the commencement of our U.S. pivotal clinical trial has
consumed a significant portion of managements time and our financial resources, and we expect that our U.S. pivotal clinical trial will continue to consume a significant portion of managements time and our financial resources. We also
expect to commence two clinical trials to evaluate our Corio and SymBio stents. To manage any further growth and to commercialize our CoStar stent in the European Union, the United States and other major markets, we will be required to improve
existing and implement new operational and financial systems, procedures and controls and expand, train and manage our growing employee base. Our current and planned personnel, systems, procedures and controls may not be adequate to support our
anticipated growth. If we are unable to manage our growth effectively, our business could be harmed.

Even though our CoStar stent
has received CE Mark approval, we do not have the necessary regulatory approvals to market our CoStar stent or any of our other product candidates in the United States or other major markets, and we may never obtain these regulatory
approvals.*

In February 2006, our CoStar stent received CE Mark approval, and we have commercially launched our CoStar
stent in many of the countries in the European Union through our distributor, Biotronik AG. We do not have the necessary regulatory approvals to market our CoStar stent or any other product candidates in the United States or major markets, other
than the European Union. Our stents and our operations are subject to extensive regulation in the United States by the FDA. The FDA regulates the research, testing, manufacturing, safety, labeling, storage, recordkeeping, promotion, distribution and
production of medical devices in the United States to ensure that medical products distributed domestically are safe and effective for their intended uses. Our CoStar stent is a combination product that will be regulated primarily as a class III
medical device in the United States. The regulatory approval process for our CoStar stent in the United States involves, among other things, obtaining FDA approval of an investigational device exemption, or IDE, application, successfully completing
clinical trials and obtaining FDA approval of a premarket approval application, or PMA. We received conditional approval of our IDE application from the FDA to commence enrollment or our COSTAR II pivotal clinical trial. In December 2005, we
received approval to expand enrollment to the full cohort of 1,700 patients, and we completed enrollment of all 1,700 patients in April 2006. The premarket approval process can be expensive and uncertain, requires detailed and comprehensive
scientific and other data, generally takes several years and may never result in the FDA granting premarket approval. We cannot assure you that we will obtain the necessary regulatory approvals to market our CoStar stent in the United States.

Our CoStar stent is currently marketed in the European Union and other international markets, and we intend to expand the markets in which
our CoStar stent is commercialized. To be able to market and sell our CoStar stent in other countries, we must obtain regulatory approvals and comply with the regulations of those countries. These regulations, including the requirements for
approvals and the time required for regulatory review, vary from country to country. Obtaining and maintaining foreign regulatory approvals are expensive, and although our CoStar stent has received CE Mark approval in the European Union, we cannot
be certain that we will receive regulatory approvals in all foreign countries in which we plan to market our CoStar stent or any of our other product candidates, including our Corio and SymBio stents. The foreign regulatory approval process may
include all of the risks associated with obtaining FDA approval in addition to other risks. We may not obtain foreign regulatory approvals on a timely basis, if at all. Approval by the FDA does not ensure approval by regulatory authorities in other
countries, and approval by one foreign regulatory authority does not ensure approval by regulatory authorities in other foreign countries or by the FDA. If we fail to obtain regulatory approval in any foreign country in which



31



---

##### Table of Contents

we plan to market our CoStar stent or any of our other product candidates, our ability to generate revenues will be harmed.

In addition to the European Union, we are currently commercializing our CoStar stent in certain countries outside of the United States and Japan that do
not require regulatory approval. These and other countries that do not currently require regulatory approval to market our products may in the future require regulatory approval.

Before marketing our CoStar stent or any other product candidate in the United States or other markets, we must successfully complete pre-clinical
studies and clinical trials that demonstrate that the product is safe and effective. Product development, including pre-clinical studies and clinical testing, is a long, expensive and uncertain process and is subject to delays. It may take us
several years to complete our testing, if at all, and a clinical trial may fail at any stage. If our pre-clinical studies and clinical trials fail to demonstrate that our product candidates are safe and effective, our ability to commercialize our
product candidates will be substantially impaired.

We have designed the protocol of our U.S. pivotal clinical trial for our CoStar
stent based in part on prior clinical trials that used different stents. The results of these prior clinical trials may not be indicative of the clinical results we would obtain for our U.S. pivotal clinical trial.*

Our clinical efforts are currently focused on the commercialization of our CoStar stent, which is a cobalt chromium, paclitaxel-eluting stent. We have
only limited clinical data on our CoStar stent, which we derived from the EuroSTAR and COSTAR I trials. Our other prior clinical trials used either a bare metal stainless steel stent or a stainless steel, paclitaxel-eluting stent. In addition to
using a different metal than used in our CoStar stent, the stainless steel stent had slightly different dimensions than our CoStar stent. We have designed the protocol, including the dosage formulations, for our U.S. pivotal clinical trial based on
the results of these prior clinical trials. This trial has been designed in large part based on the results of our PISCES study, which used a stainless steel, paclitaxel-eluting form of our stent technology, as well as on the results of our COSTAR I
and EuroSTAR trials. The results of these prior trials may not be indicative of the behavior of, and therefore the clinical results we will obtain with, our CoStar stent in our U.S. pivotal clinical trial.

The clinical results we have reported to date may not be indicative of future clinical results.*

The clinical results that we have reported to date are limited to four- and twelve-month follow-up data from our PISCES study, six- and twelve-month
follow-up data from our EuroSTAR trial, and four- and twelve-month follow-up data from our COSTAR I trial. Our U.S. pivotal clinical trial, COSTAR II, will require at least eight-month follow-up data. While the stainless steel, paclitaxel-eluting
stent has shown favorable results after twelve months in our PISCES study and our CoStar stent has shown favorable results after twelve months in our COSTAR I trial and our EuroSTAR trial, it is possible that the long-term results we obtain with our
CoStar stent in our U.S. pivotal clinical trial may not show similar effectiveness. Moreover, it is possible that any results we obtain with our Corio and SymBio stents, which incorporate pimecrolimus, may not show adequate levels of safety and
clinical effectiveness. In addition, any pre-clinical or clinical tests may fail to produce results satisfactory to the FDA or foreign regulatory authorities.

Our current and planned clinical trials may not begin on time, or at all, and may not be completed on schedule, or at all.*

The commencement or completion of any of our clinical trials may be delayed or halted for numerous reasons, including, but not limited to, the following:



| |  |  | the FDA or other regulatory authorities do not approve a clinical trial protocol or a clinical trial, or place a clinical trial on hold;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the data and safety monitoring committee, or DSMC, of a clinical trial recommends that a trial be placed on hold or suspended;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------



| |  |  | patients do not enroll in clinical trials at the rate we expect;
| | - |  | ----------------------------------------------------------------



| |  |  | patients are not followed-up at the rate we expect;
| | - |  | ---------------------------------------------------



32



---

##### Table of Contents

| |  |  | clinical trial sites decide not to participate or cease participation in a clinical trial;
| | - |  | ------------------------------------------------------------------------------------------



| |  |  | clinical trial sites determine not to use or cease using the control stent;
| | - |  | ---------------------------------------------------------------------------



| |  |  | patients experience adverse side effects or events related to our products;
| | - |  | ---------------------------------------------------------------------------



| |  |  | patients die or suffer adverse medical effects during a clinical trial for a variety of reasons, including the advanced stage of their disease and medical problems, which may not be
related to our product candidates;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | third-party clinical investigators do not perform our clinical trials on our anticipated schedule or consistent with the clinical trial protocol and good clinical practices, or
other third-party organizations do not perform data collection and analysis in a timely or accurate manner;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | regulatory inspections of our clinical trials or manufacturing facilities, which may, among other things, require us to undertake corrective action or suspend or terminate our
clinical trials if investigators find us not to be in compliance with regulatory requirements;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | third-party suppliers fail to provide us with critical components, including stent delivery catheters, cobalt chromium tubing and precision laser-cut stents, which conform to design
and performance specifications;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the failure of our manufacturing process to produce finished products which conform to design and performance specifications;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------



| |  |  | changes in governmental regulations or administrative actions;
| | - |  | --------------------------------------------------------------



| |  |  | the interim results of the clinical trial are inconclusive or negative;
| | - |  | -----------------------------------------------------------------------



| |  |  | pre-clinical or clinical data is interpreted by third parties in different ways; or
| | - |  | -----------------------------------------------------------------------------------



| |  |  | our trial design, although approved, is inadequate to demonstrate safety and/or efficacy.
| | - |  | -----------------------------------------------------------------------------------------

Clinical trials may require the enrollment of large numbers of patients, and suitable patients may be difficult to identify and recruit. Patient
enrollment in clinical trials and completion of patient follow-up in clinical trials depend on many factors, including the size of the patient population, the nature of the trial protocol, the proximity of patients to clinical sites and the
eligibility criteria for the study and patient compliance. For example, patients may be discouraged from enrolling in our clinical trials if the trial protocol requires them to undergo extensive post-treatment procedures to assess the safety and
effectiveness of our stents, or they may be persuaded to participate in contemporaneous trials of competitive products. Delays in patient enrollment or failure of patients to continue to participate in a study may cause an increase in costs and
delays or result in the failure of the trial.

Our plans to initiate a direct stenting registry in the United States have not been
finalized. The charter for the COSTAR II DSMC calls for the DSMC to review the 30-day outcomes for all patients enrolled into the single-vessel arm of the COSTAR II trial before the DSMC will provide a recommendation for initiation of the direct
stenting registry. The DSMC has reviewed preliminary data for the first 800 patients in the COSTAR II trial and advised us that the rates of clinical events reported in the COSTAR II trial as of the time of its review were within expectations and we
could continue to enroll all 1,700 patients. The DSMC also indicated that the direct stenting registry should not be initiated at this time, and that the DSMC intends to provide a recommendation with respect to the registry with its next planned
follow-up review. We cannot predict the timing or outcome of the DSMCs recommendations with respect to the U.S. direct stenting registry.

Our clinical trial costs will increase if we have material delays in our clinical trials or if we need to perform more or larger clinical trials than planned. Adverse events during a clinical trial could cause us to repeat a trial,
terminate a trial or cancel the entire program.

If the third parties on whom we rely to conduct our clinical trials and to assist us
with pre-clinical development do not perform as contractually required or expected, we may not be able to obtain regulatory approval for or commercialize our product candidates.

We do not have the ability to independently conduct clinical trials for our product candidates, and we must rely on third parties, such as contract
research organizations, medical institutions, clinical investigators and contract laboratories to conduct our clinical trials. In addition, we rely on third parties to assist with our pre-clinical



33



---

##### Table of Contents

development of product candidates. If these third parties do not successfully carry out their contractual duties or regulatory obligations or meet expected
deadlines, if these third parties need to be replaced or if the quality or accuracy of the data they obtain is compromised due to the failure to adhere to our clinical protocols or regulatory requirements or for other reasons, our pre-clinical
development activities or clinical trials may be extended, delayed, suspended or terminated, and we may not be able to obtain regulatory approval for or successfully commercialize our product candidates on a timely basis, if at all. Furthermore, our
third-party clinical trial investigators may be delayed in conducting our clinical trials for reasons outside of their control. For instance, one of our competitors is a major supplier of the intravascular ultrasound, or IVUS, catheters used in our
clinical trials to measure percent volume obstruction, or the volume of the lumen, or the inner channel of the artery through which blood flows, in the stent occupied by restenotic tissue. If the supply of IVUS catheters to our clinical trial sites
is interrupted, our clinical trials may be delayed or terminated.

Our CoStar stent and our other product candidates are based on a
new technology, and we have only limited experience in regulatory affairs, which may affect our ability or the time required to obtain necessary regulatory approvals, if at all.*

Drug-eluting stents were introduced in the U.S. marketplace in 2003. To date, the FDA has approved only Boston Scientifics TAXUS
Express2 and Johnson & Johnsons CYPHER drug-eluting stents for commercial sale. Because
drug-eluting stents are relatively new, regulatory agencies, including the FDA, may be slower in evaluating product candidates. For example, there are currently several measures of restenosis, including binary restenosis rate, in-stent late loss,
in-segment late loss, percentage volume obstruction and percentage diameter loss. Treatments may exhibit a favorable measure using one of these metrics and an unfavorable measure using another metric. It has not been settled which of these metrics,
or another metric, is the ideal measure for evaluating the clinical effectiveness of stents. It is possible that a change in the accepted metrics may result in reconfiguration and delays in our clinical trials or our stents being considered not to
be clinically effective.

Furthermore, unlike surface-coated stents, our product candidates are based on drug delivery polymer reservoirs
and the use of a bioresorbable polymer. Because there are currently no approved products based on this technology, the regulatory requirements governing this type of product may be more rigorous or less clearly established than those for already
approved surface-coated stents or other vascular drug delivery devices. In addition, no drug-eluting stents that deliver pimecrolimus have received regulatory approval or, to our knowledge, have been evaluated in human clinical trials. Moreover, our
CoStar stent has not been approved for use as a bare stent, and we do not expect to obtain FDA approval for this stent as a bare stent prior to filing our PMA with the FDA. We must provide the FDA and foreign regulatory authorities with pre-clinical
and clinical data that demonstrate that our product candidates are safe and effective before they can be approved for commercial sale. We have only limited experience in filing and prosecuting the applications necessary to gain regulatory approvals,
and our clinical staff is limited. As a result, we may experience a longer regulatory process in connection with obtaining regulatory approvals for our product candidates.

Pre-clinical development is a long, expensive and uncertain process, and we may terminate one or more of our pre-clinical development programs.

We may determine that certain pre-clinical product candidates or programs do not have sufficient potential to warrant the
allocation of resources, such as the potential development of our stent technology for the treatment of an AMI. Accordingly, we may elect to terminate our programs for such product candidates. If we terminate a pre-clinical program in which we have
invested significant resources, our prospects will suffer, as we will have expended resources on a program that will not provide a return on our investment and will have missed the opportunity to have allocated those resources to potentially more
productive uses.

We may not be successful in our efforts to expand our portfolio of products and develop additional drug delivery
technologies.*

A key element of our strategy is to discover, develop and commercialize a portfolio of new products in
addition to our CoStar stent, including our Corio and SymBio stents. We are seeking to do so through our internal research and clinical programs and intend to explore strategic collaborations for the development of new products utilizing our stent
technology, such as the development of a bioresorbable drug-eluting stent for the treatment of



34



---

##### Table of Contents

restenosis and other vascular disorders. Research programs to identify new disease targets, product candidates and delivery techniques require substantial
technical, financial and human resources, whether or not any product candidates are ultimately identified. Our research programs may initially show promise in identifying potential product candidates, yet fail to yield product candidates for
clinical development for many reasons, including the following:



| |  |  | the research methodology used may not be successful in identifying potential product candidates;
| | - |  | ------------------------------------------------------------------------------------------------



| |  |  | competitors may develop alternatives that render our product candidates obsolete;
| | - |  | ---------------------------------------------------------------------------------



| |  |  | our delivery technologies may not safely or efficiently deliver the drugs; and
| | - |  | ------------------------------------------------------------------------------



| |  |  | product candidates may on further study be shown to have harmful side effects or other characteristics that indicate they are unlikely to be effective.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------

Our strategy also includes exploring the use of compounds and drugs other than paclitaxel, such as pimecrolimus, for the treatment of restenosis and
other indications. We may not be able obtain any necessary licenses to promising compounds or drugs on reasonable terms, if at all. In addition, our strategy includes substantial reliance on strategic collaborations with others to develop new
products. If these collaborators do not prioritize and commit substantial resources to these collaborations, or if we are unable to secure successful collaborations on acceptable business terms, we may be unable to discover suitable potential
product candidates or develop additional delivery technologies and our business prospects will suffer. Even if we identify product candidates for clinical development, they may not be successful. For example, our Corio and SymBio stents, which are
in early stage clinical development, may not demonstrate safety or efficacy in humans.

We have incurred losses since inception and
anticipate that we will incur continued losses for the foreseeable future.*

We have a limited operating history. As of
March 31, 2006, we had an accumulated deficit of $121.3 million. We have incurred net losses in each year since our inception in 1999. We expect to continue to incur operating losses, in the aggregate and on a per share basis, for the next
several years. These losses, among other things, have had and will continue to have an adverse effect on our stockholders equity, net current assets and working capital.

Because of the numerous risks and uncertainties associated with developing medical devices, we are unable to predict the extent of any future losses or
when we will become profitable, if at all. To date, we have not generated significant product revenues. We have financed our operations and internal growth primarily through private placements of equity securities and convertible promissory notes,
as well as our initial public offering of our common stock. We have devoted substantially all of our efforts to research and development, including clinical trials and to the commercialization of our CoStar stent.

We expect to incur substantial and increasing costs to defend against patent infringement lawsuits against us and to protect our intellectual property
position. We also expect our research and development expenses to increase in connection with the conduct of our clinical trials. As a public company, our general and administrative and legal costs have increased in part due to the additional
operational and regulatory burdens applicable to public companies. In addition, changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002 and related regulations
implemented by the SEC and the Nasdaq, are creating uncertainty for public companies, increasing legal and financial compliance costs and making some activities more time consuming. We are currently evaluating and monitoring developments with
respect to new and proposed rules and cannot predict or estimate the amount of the additional costs we may incur or the timing of such costs. These laws, regulations and standards are subject to varying interpretations, in many cases due to their
lack of specificity, and, as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs
necessitated by ongoing revisions to disclosure and governance practices. We intend to invest resources to comply with evolving laws, regulations and standards, and this investment may result in increased general and administrative expenses and a
diversion of managements time and attention from commercialization and product development activities to compliance activities. If our efforts to comply with new laws, regulations and standards differ from the activities intended by regulatory
or governing bodies due to



35



---

##### Table of Contents

ambiguities related to practice, regulatory authorities may initiate legal proceedings against us and our business may be harmed. Moreover, as a result of
our CoStar stent receiving CE Mark approval, we expect to incur increased manufacturing expenses and will incur significant sales and marketing expenses if our CoStar stent is approved by the FDA.

We may need substantial additional funding and may be unable to raise capital when needed, which would force us to delay, reduce or eliminate our
product development programs or commercialization efforts.*

We may need to raise substantial additional capital to:



| |  |  | fund our operations and clinical trials;
| | - |  | ----------------------------------------



| |  |  | continue our research and development;
| | - |  | --------------------------------------



| |  |  | scale up our manufacturing operations to meet increased demand;
| | - |  | ---------------------------------------------------------------



| |  |  | defend, in litigation or otherwise, any claims that we infringe third-party patent or other intellectual property rights; and
| | - |  | -----------------------------------------------------------------------------------------------------------------------------



| |  |  | commercialize our CoStar stent and other product candidates, if any such product candidates receive regulatory approval for commercial sale.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------

We believe that our cash and cash equivalent balances, as well as the interest we earn on these balances and revenues from anticipated product sales,
will be sufficient to meet our anticipated cash requirements into 2007. However, our future funding requirements will depend on many factors, including:



| |  |  | the scope, rate of progress and cost of our clinical trials and other research and development activities;
| | - |  | ----------------------------------------------------------------------------------------------------------



| |  |  | future clinical trial results;
| | - |  | ------------------------------



| |  |  | the cost of filing and prosecuting patent applications and defending and enforcing our patent and other intellectual property rights;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the cost of defending, in litigation or otherwise, any claims that we infringe third-party patent or other intellectual property rights;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the cost of establishing clinical and commercial supplies of our CoStar stent and any other products or product candidates that we may develop;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the cost of building additional commercial scale manufacturing capabilities;
| | - |  | ----------------------------------------------------------------------------



| |  |  | the cost and timing of regulatory approvals;
| | - |  | --------------------------------------------



| |  |  | the cost and timing of establishing sales, marketing and distribution capabilities;
| | - |  | -----------------------------------------------------------------------------------



| |  |  | licensing technologies for future development;
| | - |  | ----------------------------------------------



| |  |  | the effect of competing technological and market developments;
| | - |  | --------------------------------------------------------------



| |  |  | the terms and timing of any collaborative, licensing and other arrangements that we may establish; and
| | - |  | ------------------------------------------------------------------------------------------------------



| |  |  | the extent to which we acquire or invest in businesses, products and technologies, although we currently have no commitments or agreements relating to any of these types of
transactions.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Until we can generate a sufficient amount of product revenue, we expect to finance future cash needs through
public or private equity offerings, debt financings or corporate collaboration and licensing arrangements, as well as through interest income earned on cash balances. We may never be able to generate sufficient amounts of product revenue to meet our
cash needs.

If we raise additional funds by issuing equity securities, our stockholders may experience dilution. Debt financing, if
available, may involve restrictive covenants. Any debt financing or additional equity that we raise may contain terms that are not favorable to us or our stockholders. If we raise additional funds through collaboration and licensing arrangements
with third parties, it will be necessary to relinquish some rights to our technologies or our



36



---

##### Table of Contents

product candidates, or grant licenses on terms that are not favorable to us. If we are unable to raise adequate funds, we may be required to liquidate some
or all of our assets or delay, reduce the scope of or eliminate some or all of our planned research, development and commercial activities, which could harm our business.

We depend on our officers, and if we are not able to retain them or recruit additional qualified personnel, our business will suffer.

We are highly dependent on our Chairman and Chief Executive Officer, Dr. Frank Litvack, our Chief Technology Officer, John F. Shanley, our Chief
Operating Officer, Dr. Azin Parhizgar, our Vice President of Engineering and Pilot Production, Stephen H. Diaz and our other officers. Due to the specialized knowledge each of our officers possess with respect to interventional cardiology and
our operations, the loss of service of any of our officers could delay or prevent the successful completion of our clinical trials and the commercialization of our CoStar stent. Each of our officers may terminate their employment without notice and
without cause or good reason. We do not carry key person life insurance on our officers.

In addition, our growth will require hiring a
significant number of qualified scientific, commercial and administrative personnel. Accordingly, recruiting and retaining such personnel in the future will be critical to our success. There is intense competition from other companies and research
and academic institutions for qualified personnel in the areas of our activities particularly with respect to engineering, regulatory affairs and clinical. Our offices are located in the San Francisco Bay Area, where competition for personnel with
healthcare industry skills is intense. If we fail to identify, attract, retain and motivate these highly skilled personnel, we may be unable to continue our development and commercialization activities.

Changes in foreign currency exchange rates may increase our expenses or reduce our revenues.*

Our current distribution agreements with Biotronik AG and Interventional Technologies Limited provide for payments to us in euros. In addition, we have
established a manufacturing facility in Ireland, for which we incur expenses, including construction expenses, rental payments and employee salaries, denominated in euros. Our contracts for conducting certain of our clinical trials in Europe are
also denominated in euros. Accordingly, if the euro strengthens against the U.S. dollar, our expenses related to our foreign clinical trials and Ireland facilities will increase, and if the U.S. dollar strengthens against the euro, our payments from
Biotronik will decrease.

We may become exposed to fluctuations in other foreign currencies in the future, and our exposure to foreign
currency exchange rates may adversely affect our results of operations.

Risks Related to Our Industry

Legislative or regulatory reform of the healthcare system may affect our ability to sell our products profitably.

In both the United States and certain foreign jurisdictions, there have been a number of legislative and regulatory proposals to change the regulatory
and healthcare systems in ways that could impact our ability to sell our products profitably, if at all. In the United States in recent years, new legislation has been proposed at the federal and state levels that would effect major changes in the
healthcare system. In addition, new regulations and interpretations of existing healthcare statutes and regulations are frequently adopted. The potential for adoption of these proposals affects or will affect our ability to raise capital, obtain
additional collaborators and market our products. We expect to experience pricing pressures in connection with the future sale of our products due to the trend toward managed health care, the increasing influence of health maintenance organizations
and additional legislative proposals. Our results of operations could be adversely affected by future healthcare reforms.

We face
the risk of product liability claims and may not be able to obtain insurance.

Our business exposes us to the risk of
product liability claims that is inherent in the testing, manufacturing and marketing of medical devices. We may be subject to product liability claims if our stents cause, or merely appear to have caused, an injury. Claims may be made by consumers,
healthcare providers, third-party strategic collaborators or others selling our products. Although we have product liability and clinical trial liability insurance that we



37



---

##### Table of Contents

believe is appropriate, this insurance is subject to deductibles and coverage limitations. Our current product liability insurance may not continue to be
available to us on acceptable terms, if at all, and, if available, the coverage may not be adequate to protect us against any future product liability claims. In addition, if we obtain additional approvals for marketing our product candidates, we
may seek additional insurance coverage. If we are unable to obtain insurance at acceptable cost or on acceptable terms with adequate coverage or otherwise protect against potential product liability claims, we will be exposed to significant
liabilities, which may harm our business. A product liability claim or other claim with respect to uninsured liabilities or for amounts in excess of insured liabilities could have a material adverse effect on our business, financial condition and
results of operations.

We may be subject to claims against us even if the apparent injury is due to the actions of others. For example, we
rely on the expertise of physicians, nurses and other associated medical personnel to perform the medical procedure and related processes to implant our coronary stents into patients. If these medical personnel are not properly trained or are
negligent, the therapeutic effect of our stents may be diminished or the patient may suffer critical injury, which may subject us to liability. In addition, an injury that is caused by the activities of our suppliers, such as those who provide us
with cobalt chromium tubing for our stents, those that laser cut our stents or those that provide the polymer incorporated into our stents, may be the basis for a claim against us.

These liabilities could prevent or interfere with our commercialization efforts. Defending a suit, regardless of merit, could be costly, could divert
management attention and might result in adverse publicity, which could result in the withdrawal of, or inability to recruit, clinical trial volunteers or result in reduced acceptance of our products in the market.

If we initiate a product recall, our ability to generate revenue will be significantly impaired.

There is a possibility that defects in the structure or manufacture of our CoStar stent might necessitate a product recall. A recall could significantly
impair our ability to generate revenue and could have a material adverse effect on our stock price. In addition, any claims arising out of a recall with respect to uninsured liabilities or for amounts in excess of insured liabilities could have a
material adverse effect on our business, financial condition and results of operations.

Our operations involve hazardous materials,
and we must comply with environmental laws and regulations, which can be expensive.

Our research and development activities
involve the controlled use of hazardous chemicals. Our operations also produce hazardous waste products. We are subject to a variety of federal, state and local regulations relating to the use, handling, storage and disposal of these materials. We
generally contract with third parties for the disposal of such substances. We cannot eliminate the risk of accidental contamination or injury from these materials. We may be required to incur substantial costs to comply with current or future
environmental and safety regulations. If an accident or contamination occurred, we would likely incur significant costs associated with civil penalties or criminal fines and in complying with environmental laws and regulations. We do not have any
insurance for liabilities arising from hazardous materials. Compliance with environmental laws and regulations is expensive, and current or future environmental regulation may impair our research, development or production efforts.

Risks Related to Our Common Stock

Failure to
maintain effective internal controls in accordance with Section 404 of the Sarbanes-Oxley Act of 2002 could have a material adverse effect on our stock price.

Section 404 of the Sarbanes-Oxley Act of 2002 and the related rules and regulations of the SEC require annual management assessments of the
effectiveness of our internal control over financial reporting and a report by our independent registered public accounting firm attesting to and reporting on these assessments. If we fail to maintain the adequacy of our internal control over
financial reporting, as such standards are modified, supplemented or amended from time to time, we may not be able to ensure that we can conclude on an ongoing basis that we have effective internal control over financial reporting in accordance with
Section 404 of the Sarbanes-Oxley Act of 2002 and the related rules and regulations of the SEC. If we cannot favorably assess, or our independent registered



38



---

##### Table of Contents

public accounting firm is unable to provide an unqualified attestation report on our assessment of, the effectiveness of our internal control over financial
reporting, investor confidence in the reliability of our financial reports may be adversely affected, which could have a material adverse effect on our stock price.

Anti-takeover defenses that we have in place could prevent or frustrate attempts to change our direction or management.

Provisions of our certificate of incorporation and bylaws and applicable provisions of Delaware law may make it more difficult for or prevent a third party from acquiring control of us without the approval of our
board of directors. These provisions:



| |  |  | establish a classified board of directors, so that not all members of our board may be elected at one time;
| | - |  | -----------------------------------------------------------------------------------------------------------



| |  |  | set limitations on the removal of directors;
| | - |  | --------------------------------------------



| |  |  | limit who may call a special meeting of stockholders;
| | - |  | -----------------------------------------------------



| |  |  | establish advance notice requirements for nominations for election to our board of directors or for proposing matters that can be acted upon at stockholder meetings;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | prohibit cumulative voting in the election of our directors, which would otherwise permit less than a majority of stockholders to elect directors;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | prohibit stockholder action by written consent, thereby requiring all stockholder actions to be taken at a meeting of our stockholders; and
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | provide our board of directors the ability to designate the terms of and issue a new series of preferred stock without stockholder approval.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------

In addition, Section 203 of the Delaware General Corporation Law generally prohibits us from engaging in any business combination with certain
persons who own 15% or more of our outstanding voting stock or any of our associates or affiliates who at any time in the past three years have owned 15% or more of our outstanding voting stock. These provisions may have the effect of entrenching
our management team and may deprive you of the opportunity to sell your shares to potential acquirers at a premium over prevailing prices. This potential inability to obtain a control premium could reduce the price of our common stock.

Our principal stockholders and management own a significant percentage of our stock and are able to exercise significant influence over our
affairs.*

Our executive officers, current directors and holders of five percent or more of our common stock, as of
March 31, 2006, beneficially owned approximately 26.84% of our common stock. The interests of these stockholders may be different than the interests of other stockholders on these matters. This concentration of ownership could also have the
effect of delaying or preventing a change in our control or otherwise discouraging a potential acquirer from attempting to obtain control of us, which in turn could reduce the price of our common stock.

If our stock price is volatile, purchasers of our common stock could incur substantial losses.*

Our stock price is likely to be volatile. The stock market in general and the market for small healthcare companies in particular have experienced
extreme volatility that has often been unrelated to the operating performance of particular companies. As a result of this volatility, investors may not be able to sell their common stock at or above the price they paid for our common stock.

There are many events that may influence the market price for our common stock, including:



| |  |  | results of our clinical trials;
| | - |  | -------------------------------



| |  |  | developments or disputes concerning patents or other intellectual property rights;
| | - |  | ----------------------------------------------------------------------------------



| |  |  | litigation developments, including developments in our patent litigations;
| | - |  | --------------------------------------------------------------------------



39



---

##### Table of Contents

| |  |  | competition in the drug-eluting stent market;
| | - |  | ---------------------------------------------



| |  |  | failure of our CoStar stent to achieve commercial success in the European Union;
| | - |  | --------------------------------------------------------------------------------



| |  |  | failure to meet analysts revenue or earnings projections or other estimates regarding our business or financial prospects;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------



| |  |  | regulatory developments in the United States and foreign countries;
| | - |  | -------------------------------------------------------------------



| |  |  | ability to manufacture our products to commercial standards;
| | - |  | ------------------------------------------------------------



| |  |  | public concern over our products;
| | - |  | ---------------------------------



| |  |  | the departure of key personnel;
| | - |  | -------------------------------



| |  |  | future sales of our common stock;
| | - |  | ---------------------------------



| |  |  | variations in our financial results or those of companies that are perceived to be similar to us;
| | - |  | -------------------------------------------------------------------------------------------------



| |  |  | changes in the structure of healthcare payment systems;
| | - |  | -------------------------------------------------------



| |  |  | investors perceptions of us; and
| | - |  | ---------------------------------



| |  |  | general economic, industry and market conditions.
| | - |  | -------------------------------------------------

In
addition, from time to time, we publicly announce (including in this Quarterly Report on Form 10-Q) the estimated timing of the accomplishment of various clinical, regulatory and other product development goals, which we sometimes refer to as
milestones. These milestones include the enrollment of patients in our clinical trials, the release of data from our clinical trials and other clinical and regulatory events, including the submission to the FDA of a PMA for our CoStar stent. If we
do not achieve our projected development goals in the time frames we announce and expect, our stock price may decline. In addition, during the course of our legal proceedings and lawsuits, we may publicly announce the results of hearings, motions,
and other interim proceedings or developments in the litigation. If securities analysts or investors perceive these results to be negative, it could have a substantial negative effect on the trading price of our stock. A decline in the market price
of our common stock could cause you to lose some or all of your investment and may adversely impact our ability to attract and retain employees and raise capital. In addition, stockholders may initiate securities class action lawsuits if the market
price of our stock drops significantly, which may cause us to incur substantial costs and could divert the time and attention of our management.

If there are substantial sales of our common stock, our stock price could decline.*

If our existing
stockholders sell a large number of shares of our common stock or the public market perceives that existing stockholders might sell shares of our common stock, the market price of our common stock could decline significantly. As of March 31,
2006, we had 33,818,153 outstanding shares of common stock. Of these shares, all of the 6,900,000 shares sold in our initial public offering were freely tradeable without restriction or further registration unless purchased by our affiliates. Of the
remaining 26,918,153 shares of common stock outstanding as of March 31, 2006, 26,767,074 shares were eligible for sale in the public market, subject in some cases to the volume, manner of sale and other limitations under Rule 144 or Rule 701
and vesting in the case of early exercised options, and 151,079 shares will become eligible for sale in the public market under Rule 144 from time to time upon expiration of their respective holding periods.

We have filed registration statements covering the shares of common stock that are authorized for issuance under our stock option plans and employee
stock purchase plan, which can be freely sold in the public market upon issuance, subject to restrictions on our affiliates. In addition, certain holders of our common stock that are parties to our investor rights agreement have rights with respect
to the registration of their shares of common stock with the SEC. If we register their shares of common stock, these holders can immediately sell their shares in the public market without restriction.



40



---

##### Table of Contents

If securities or industry analysts do not publish research or reports about our business, or
publish negative reports about our business, our stock price and trading volume could decline.*

The trading market for our
common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. Analyst publications include valuations regarding our stock price and recommendations whether to buy, hold or sell our
stock. Our stock price may be dependent upon these valuations and recommendations, and we do not have any control over these analysts or the valuations and recommendations they publish. Analysts valuations and recommendations are based
primarily on our reported results and their forecasts and expectations concerning our future results regarding, for example, expenses, revenues, earnings, clinical trials, regulatory approvals and competition. Our future results are subject to
substantial uncertainty, and we may fail to meet or exceed analysts forecasts and expectations as a result of a number of factors, including those discussed above. If our results do not meet analysts forecasts and expectations, our stock
price could decline as a result of analysts lowering their valuations and recommendations or otherwise, including downgrading our stock. In addition, if one or more of these analysts cease coverage of our company or fail to regularly publish reports
on us, we could lose visibility in the financial markets, which could cause our stock price or trading volume to decline.

We do not
intend to pay cash dividends on our common stock in the foreseeable future.

We have never declared or paid any cash dividends on
our common stock or other securities, and we currently do not anticipate paying any cash dividends in the foreseeable future. Accordingly, our stockholders will not realize a return on their investment unless the trading price of our common stock
appreciates.



41



---

##### Table of Contents

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Issuer Purchases of Securities

The following table provides information relating to repurchases of our common stock in the three months ended March 31, 2006:



|                                     |  |                                    |  |                             |      |                                                                     |     |                                                                            |    
|------------------------------------ |  | ---------------------------------- |  | --------------------------- | ---- | ------------------------------------------------------------------- | --- | -------------------------------------------------------------------------- | ---
|Monthly Period                       |  | Total Numberof SharesPurchased (1) |  | Average Price PaidPer Share |      | Total Number ofShares Purchased asPart of PubliclyAnnounced Program |     | Approximate DollarValue of Shares thatMay Yet BePurchased Under theProgram
|January 1, 2006  January 31, 2006   |  |                                   |  |                             |     |                                                                     | N/A |                                                                            | N/A
|February 1, 2006  February 28, 2006 |  | 48,344                             |  | $                           | 0.67 |                                                                     | N/A |                                                                            | N/A
|March 1, 2006  March 31, 2006       |  |                                   |  |                             |     |                                                                     | N/A |                                                                            | N/A
|Total                                |  | 48,344                             |  | $                           | 0.67 |                                                                     | N/A |                                                                            | N/A

---

|(1) | The 48,344 shares of our common stock were repurchased by us from a director upon termination of services pursuant to the terms and conditions of our 2004 Equity Incentive Plan,
which permits us to elect to purchase such shares at the original issuance price.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Use of Proceeds from the Sale of Registered Securities

Our initial public offering of common stock was effected through a Registration Statement on Form S-1 (File No. 333-119174), that
was declared effective by the SEC on December 13, 2004, and a Registration Statement on Form S-1 filed pursuant to Rule 462 (File No. 333-121224) on December 14, 2004, pursuant to which we and a selling stockholder sold all 6,900,000
shares of our common stock that were registered. We did not receive any portion of the $3.1 million in net proceeds received by the selling stockholder in the offering. Of the $78.1 million in net proceeds received by us in the offering, after
deducting offering expenses and underwriting discounts and commissions, as of March 31, 2006:



| |  |  | approximately $65.9 million had been used to fund ongoing operations, including the development of our products and our clinical trials and research programs, and for working
capital and general corporate purposes; and
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the remainder of the net proceeds from the offering, approximately $12.2 million, remained invested in liquid money market accounts.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------

The application of the net proceeds from our initial public offering as set forth above represents our best estimate and does not represent a material
change from the use of proceeds as described in the prospectus for our initial public offering. No such payments were made to directors, officers or persons owning 10 percent or more of our common stock or to their associates, or to our affiliates,
other than payments in the ordinary course of business to officers for salaries (and other employee benefits) and to non-employee directors as compensation for Board or Board committee service.

Item 5. Other Information.

On March 31, 2005, we entered into the First Amendment (the
Amendment) to Lease Agreement with Willow Park Holding Company, II, LLC (Willow Park). The Amendment amends the terms of that certain Lease Agreement, dated November 21, 2003, we entered into with Willow Park for the lease of
our headquarters located at 1003 Hamilton Court, Menlo Park, California (the Lease). The Lease was filed as Exhibit 10.21 to our registration statement on Form S-1 (No. 333-119174), filed with the SEC on September 22, 2004, as amended.
Under the Amendment, the term of the Lease was extended through August 31, 2008 and approximately 25,600 rentable square feet located at 1005 Hamilton Court, Menlo Park, California, was added to the leased premises under the Lease. In addition, the
monthly rent payable under the Lease was increased as a result of the increase in the square footage of the leased premises, and we agreed to pay additional operating, tax and common area utility costs. The foregoing description of the Amendment is
a summary of the material terms of the Amendment and does not purport to be complete, and is qualified in its entirety by reference to the Amendment which is filed as Exhibit 10.34 to this report and is incorporated by reference herein.



42



---

##### Table of Contents

Item 6. Exhibits



|               |  |                                                                                                                                                   
|-------------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit Number |  | Description of Document                                                                                                                           
|3.1(1)         |  | Amended and Restated Certificate of Incorporation.                                                                                                
|               | 
|3.2(2)         |  | Amended and Restated Bylaws.                                                                                                                      
|               | 
|4.1            |  | Reference is made to Exhibits 3.1 and 3.2.                                                                                                        
|               | 
|4.2(3)         |  | Form of Common Stock Certificate.                                                                                                                 
|               | 
|10.33(4)       |  | 2006 Executive Officer Cash Compensation Arrangements.                                                                                            
|               | 
|10.34          |  | First Amendment to Lease Agreement, dated March 31, 2005, between the Registrant and Willow Park Holding Company II, LLC.                         
|               | 
|31.1           |  | CEO Certification required by Rule 13a-14(a) or Rule 15d-14(a).                                                                                   
|               | 
|31.2           |  | CFO Certification required by Rule 13a-14(a) or Rule 15d-14(a).                                                                                   
|               | 
|32.1(5)        |  | Certification required by Rule 13a-14(b) or Rule 15d-14(b) and Section 1350 of Chapter 63 of Title 18 of the United States Code (18 U.S.C. §1350).

---

|(1) | Filed as the like numbered Exhibit to the Registrants Annual Report on Form 10-K (No. 000-51066), filed with the SEC on March 16, 2004, and incorporated herein by
reference.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) | Filed as Exhibit 3.6 to the Registrants registration statement on Form S-1 (No. 333-119174), filed with the SEC on September 22, 2004, as amended, and incorporated herein
by reference.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(3) | Filed as the like numbered Exhibit to the Registrants registration statement on Form S-1 (No. 333-119174), filed with the SEC on September 22, 2004, as amended, and
incorporated herein by reference.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(4) | Filed as the like numbered Exhibit to the Registrants Current Report on Form 8-K (No. 000-51066), filed with the SEC on February 27, 2006 and incorporated herein by
reference.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(5) | This certification accompanies the Form 10-Q to which it relates, is not deemed filed with the SEC and is not to be incorporated by reference into any filing of the Registrant under
the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended (whether made before or after the date of the Form 10-Q), irrespective of any general incorporation language contained in such filing.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



43



---

##### Table of Contents

SIGNATURE

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



CONOR MEDSYSTEMS, INC.By:

/s/ MICHAEL BOENNIGHAUSENMichael BoennighausenVice President, Finance andAdministration and Chief Financial Officer(Duly Authorized and Principal Financialand Accounting Officer)


Dated: May 10, 2006



44