<PAGE>

                                 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 September 30, 2000

                                       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:  0-28460

                       FUSION MEDICAL TECHNOLOGIES, INC.
             (Exact name of registrant as specified in its charter)


             Delaware                                  94-3177221
  (State or other jurisdiction of       (I.R.S. Employer Identification No.)
   incorporation or organization)


                           34175 Ardenwood Boulevard
                               Fremont, CA  94555
                    (Address of principal executive offices)


                                 (510) 818-4600
              (Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required
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 [_]


The number of outstanding shares of the registrant's Common Stock was 11,252,757
as of November 6, 2000.





This Report on Form 10-Q includes 24 pages with the Index to Exhibits located on
page 23.

<PAGE>

                       FUSION MEDICAL TECHNOLOGIES, INC.

                                    INDEX TO
                              REPORT ON FORM 10-Q
                      FOR QUARTER ENDED SEPTEMBER 30, 2000


                                                                            Page
                                                                            ----
PART I.  FINANCIAL INFORMATION

Item 1.  Financial Statements:

           Condensed Consolidated Balance Sheets - September 30, 2000
            (unaudited) and December 31, 1999.............................   3

           Condensed Consolidated Statements of Operations - Three and
            Nine Months Ended September 30, 2000 and 1999 (unaudited).....   4

           Statements of Condensed Consolidated Cash Flows - Nine Months
            Ended September 30, 2000 and 1999 (unaudited).................   5

           Notes to Condensed Consolidated Financial Statements...........   6


Item 2.  Management's Discussion and Analysis of Financial Condition and
         Results of Operations............................................   9

Item 3.  Quantitative and Qualitative Disclosures About Market Risk.......  22


PART II.  OTHER INFORMATION

Item 1.  Legal Proceedings................................................  23

Item 6.  Exhibits and Reports on Form 8-K.................................  23

         Signatures.......................................................  24

                                       2
<PAGE>

PART I-FINANCIAL INFORMATION

ITEM 1.   FINANCIAL STATEMENTS


                       FUSION MEDICAL TECHNOLOGIES, INC.
                     CONDENSED CONSOLIDATED BALANCE SHEETS
                                 (In thousands)
<TABLE>
<CAPTION>
<S>                                                                           <C>                     <C>
<S>                                                                                  September                   December
                                                                                       2000                        1999
                                                                                     ---------                   --------
                                                                                    (Unaudited)
                                                 ASSETS

Current assets:
     Cash and cash equivalents                                                        $  8,431                  $  8,164
     Available-for-sale securities                                                       3,786                     3,818
     Accounts receivable                                                                   614                       147
     Inventory                                                                           1,220                       582
     Prepaids and other current assets                                                     248                       182
                                                                                     ---------                 ---------
         Total current assets                                                           14,299                    12,893

 Property and equipment, net                                                             4,698                     1,038
 Available-for-sale securities, long term                                                    -                       996
 Restricted cash deposit                                                                 2,344                     1,088
 Other long-term assets                                                                    207                       201
                                                                                     ---------                 ---------
         Total assets                                                                 $ 21,548                  $ 16,216
                                                                                     =========                 =========

                                       LIABILITIES AND STOCKHOLDERS' EQUITY

 Current liabilities                                                                  $  2,319                  $  1,343
 Long-term obligations                                                                     865                        87
                                                                                     ---------                 ---------
         Total liabilities                                                               3,184                     1,430
                                                                                     ---------                 ---------

 Common stock and other equity                                                          65,859                    52,343
 Accumulated deficit                                                                   (47,495)                  (37,557)
                                                                                     ---------                 ---------
         Total stockholders' equity                                                     18,364                    14,786
                                                                                     ---------                 ---------

         Total liabilities and stockholders' equity                                   $ 21,548                  $ 16,216
                                                                                    ==========                 =========
</TABLE>
The accompanying notes are an integral part of these condensed consolidated
financial statements.

                                       3
<PAGE>

                       FUSION MEDICAL TECHNOLOGIES, INC.
                CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
                    (in thousands except per share amounts)
                                  (unaudited)

<TABLE>
<CAPTION>
                                                               Three Months Ended              Nine Months Ended
                                                                 September 30                    September 30
                                                           ------------------------        ----------------------
                                                             2000            1999             2000          1999
                                                           -------         --------        --------       -------
<S>                                                        <C>             <C>             <C>            <C>
Net revenues                                               $ 1,241         $    56         $  3,001       $    81
Cost of goods sold and start-up manufacturing costs          1,232             234            3,519           379
                                                           -------         --------        --------       -------
                               Gross profit (loss)               9            (178)            (518)         (298)
                                                           -------         --------        --------       -------

Operating expenses:
     Research and development                                1,726           1,364            4,238         3,719
     Marketing and selling                                   1,495             238            3,700           758
     General and administrative                                622             492            2,089         1,190
                                                           -------         --------        --------       -------
                     Total costs and expenses                3,843           2,094           10,027         5,667
                                                           -------         --------        --------       -------
                               Operating loss               (3,834)         (2,272)         (10,545)       (5,965)

     Interest income                                           291             128              632           353
     Interest expense                                          (15)             (6)             (24)          (20)
     Other income (expense), net                                 -               -               (1)            3
                                                           -------         --------        --------       -------
                               Net loss                    $(3,558)        $(2,150)        $ (9,938)      $(5,629)
                                                           =======         ========        ========       =======
Basic and diluted net loss per share                        $(0.32)         $(0.24)          $(0.94)       $(0.67)
                                                           =======         ========        ========       =======
Shares used in computing basic and diluted net
     loss per share                                         11,223           9,004           10,540         8,356
                                                           =======         ========        ========       =======
</TABLE>

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

                                       4
<PAGE>

                       FUSION MEDICAL TECHNOLOGIES, INC.
                CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                                (in thousands)
                                  (unaudited)

<TABLE>
<CAPTION>

                                                                                                    Nine Months Ended
                                                                                                      September 30
                                                                                             -------------------------------
                                                                                                    2000         1999
                                                                                             --------------   --------------
<S>                                                                                          <C>              <C>
Cash flows used from operating activities:
       Net loss                                                                              $      (9,938)   $      (5,629)
       Adjustments to reconcile net loss to net cash used in
           operating activities:
           Depreciation and amortization                                                               469              287
           Accretion of available-for-sale securities                                                   (8)               -
           Amortization of deferred compensation                                                       115              157
           Changes in assets and liabilities:
                  Accounts receivable                                                                 (467)             (59)
                  Inventories, net                                                                    (638)            (311)
                  Prepaids and other current assets                                                    (66)             (32)
                  Other assets                                                                          (6)               -
                  Accounts payable                                                                     788              358
                  Accrued expenses                                                                      64             (453)
                                                                                             --------------   --------------
                      Net cash used in operating activities                                         (9,687)          (5,682)
                                                                                             --------------   --------------

Cash flows from investing activities:
       Acquisition of property and equipment                                                        (4,128)            (565)
       Purchases of available-for-sale securities                                                   (8,788)          (4,493)
       Sales and maturities of available-for-sale securities                                         9,816            5,505
       Restricted cash                                                                              (1,256)               -
                                                                                             --------------   --------------
                      Net cash (used in) provided by investing activities                           (4,356)             447
                                                                                             --------------   --------------

Cash flows from financing activities:
       Proceeds from issuance of common stock, net of issuance costs                                13,054             8,070
       Proceeds from exercise of common stock options                                                  354               250
       Proceeds from equipment loan financing                                                          989                -
       Repayment of notes payable                                                                      (87)              (87)
                                                                                             --------------   --------------
                      Net increase in cash and cash equivalents                                     14,310             8,233
                                                                                             --------------   --------------

Net increase in cash and cash equivalents                                                              267             2,998
Cash and cash equivalents, beginning of period                                                       8,164             4,151
                                                                                             --------------   --------------
Cash and cash equivalents, end of period                                                     $       8,431    $        7,149
                                                                                             ==============   ==============
</TABLE>

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

                                       5
<PAGE>

                       FUSION MEDICAL TECHNOLOGIES, INC.

             NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                              September 30, 2000
                                  (Unaudited)


1.  Basis of presentation

The accompanying condensed consolidated financial statements of Fusion Medical
Technologies, Inc. (the "Company" or "Fusion") have been prepared in accordance
with generally accepted accounting principles for interim financial information
and with the instructions for Form 10-Q and Article 10 of Regulation S-X.  The
condensed consolidated balance sheet as of September 30, 2000, and the condensed
consolidated statements of operations for the three and nine month periods ended
September 30, 2000 and 1999, and the condensed consolidated statements of cash
flows for the nine month periods ended September 30, 2000 and 1999 are unaudited
but include all adjustments (consisting of normal recurring adjustments) which
the Company considers necessary for a fair presentation of the financial
position at such dates and the consolidated operating results and cash flows for
those periods.  Although the Company believes that the disclosures in these
condensed consolidated financial statements are adequate to make the information
presented not misleading, certain information normally included in financial
statements and related footnotes prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to the rules and
regulations of the Securities and Exchange Commission.  The accompanying
condensed consolidated financial statements should be read in conjunction with
the financial statements as contained in the Company's Annual Report on Form 10-
K for the year ended December 31, 1999 filed with the U.S. Securities & Exchange
Commission on March 30, 2000.

Results for any interim period are not necessarily indicative of results for any
other interim period or for the entire year.


2.  Net loss per share

Basic and diluted loss per common share are computed using the weighted average
number of shares of common stock outstanding.  Common equivalent shares from
stock options and warrants are excluded from the computation of diluted net loss
per common share as their effect is anti-dilutive.  Stock options to purchase
2,469,689 and 1,791,062 shares of common stock at prices ranging from $0.16 to
$17.63 per share were outstanding at September 30, 2000 and 1999, respectively,
but were not included in the computation of diluted income per share because
they were anti-dilutive.  At September 30, 2000 and 1999 there were warrants
outstanding to purchase 12,785 shares of common stock at an exercise price of
$4.00.  These warrants have been excluded from the computation of diluted loss
per common share because they were anti-dilutive.


3.  Cash, cash equivalents and available-for-sale securities

The Company classifies all highly liquid investments purchased with an original
maturity of three months or less as cash equivalents.  Cash and cash equivalents
include money market funds and various deposit accounts.

                                       6
<PAGE>

                       FUSION MEDICAL TECHNOLOGIES, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
                              September 30, 2000
                                  (Unaudited)


The Company classifies both short term and long term investments as available-
for-sale.  Such investments are recorded at fair market value and unrealized
gains and losses are recorded as a separate component of equity until realized.
Interest income is recorded using an effective interest rate, with associated
premium or discount amortized to interest income.  The cost of securities sold
is based upon the specific identification method.


4.  Inventory

Inventory is recorded at the lower of cost or market using the FIFO method.
Inventories consist of the following (in thousands):

                                       September 30             December 31
                                           2000                    1999
                                       ------------             -----------
  Finished goods                       $        344             $       195
  Work in process                               429                     150
  Raw materials                                 447                     237
                                       ------------             -----------
                                       $      1,220             $       582
                                       ============             ===========

5.  Debt

In December 1997, we signed an agreement for a bank loan facility to finance
equipment up to a total of $3,500,000. Available credit under this facility, as
amended, expired in February 1998.  The facility is collateralized by the
equipment financed. The loan balance is subject to a floating interest rate
equal to the bank's prime rate plus 1.5% per annum (11.0% at September 30,
2000).  As of September 30, 2000, we had drawn down $117,000 on the loan
facility. In connection with this loan facility, we issued a warrant to purchase
4,500 shares of common stock at an exercise price of $4.00 per share. This
warrant expires in December 2002. These facilities are subject to specific
positive and negative covenants that include restrictions on the declaration or
payment of any dividend or any other distribution on any of its capital stock.
The Company was in compliance with those covenants at September 30, 2000.

On April 17, 2000, the Company accepted a commitment from Transamerica Business
Credit Corporation - Technology Finance Division to finance up to a total of
$3,000,000 toward production equipment, research & development equipment,
computer equipment and office furnishings.  A maximum of $900,000 of this total
can be used to finance tenant improvements.  Each loan term commences upon
delivery of the equipment having an aggregate cost of $75,000 or more and will
continue for 48 months.  The interest rate is variable and based on 4-year U.S.
Treasury Securities plus 737 basis points.  The interest rate becomes fixed at
the commencement of each loan for the complete term.  A balloon payment of 10%
of the original principal amount of each loan is due at the end of each loan
term.  Draw down capability under this facility will expire on December 31,
2000.  As of September 30, 2000, we had drawn down $989,000 on the loan
facility.



6.  Recent Accounting Pronouncements

                                       7
<PAGE>

                       FUSION MEDICAL TECHNOLOGIES, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
                              September 30, 2000
                                  (Unaudited)


In June 1998, the FASB issued Statement of Financial Accounting Standards (SFAS)
No. 133, "Accounting for Derivative Instruments and Hedging Activities", which
establishes accounting and reporting standards for derivative instruments and
hedging activities.  It requires that an entity recognize all derivatives as
either assets or liabilities in the statement of financial position and measure
those instruments at fair value. In July 1999, the FASB issued Statement of
Financial Accounting Standards No. 137 "Accounting for Derivative Instruments
and Hedging Activities - Deferral of the Effective Date of FASB Statement No.
133" ("SFAS 137"). SFAS 137 deferred the effective date of SFAS 133 until the
first fiscal year beginning after June 15, 2000. The Company, to date, has not
engaged in derivative and hedging activities. The Company will adopt SFAS No.
133 as required for its first quarterly filing of calendar year 2001.

In December 1999, the SEC issued Staff Accounting Bulletin No. 101 "Revenue
Recognition in Financial Statements" ("SAB101"). In June 2000 the SEC issued SAB
101B, which deferred the implementation of SAB 101 until the fourth quarter of
fiscal years beginning after December 15, 1999. The Company believes its revenue
recognition policy complies with SAB 101.

                                       8
<PAGE>

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


This Report on Form 10-Q contains, in addition to historical information,
forward-looking statements that involve risks and uncertainties, which are
designated by an asterisk [*] after the statement.  The Company's actual results
could differ materially from those anticipated by these forward-looking
statements as a result of certain factors, including those set forth in
"Business - Additional Factors That Might Affect Future Results" commencing on
page 13 and those set forth under Item 1 in the Company's Annual Report filed on
Form 10-K for the Year Ended December 31, 1999 filed with the U.S. Securities &
Exchange Commission on March 30, 2000.


OVERVIEW

     We are commercializing and developing proprietary collagen gel-based
products for use in controlling bleeding in a variety of surgeries. Our lead
product, FloSeal Matrix Hemostatic Sealant ("FloSeal"(R)) was approved on
December 8, 1999 by the U.S. Food and Drug Administration ("FDA") for marketing
in the U.S. FloSeal combines a gel derived from collagen with thrombin, a potent
clotting agent, to control surgical bleeding. We have designed FloSeal to
complement sutures and staples and to overcome limitations of existing products
used to control bleeding, including topical hemostats, fibrin glues and other
types of surgical sealants and adhesives. In April 1999, we received the CE mark
which allowed us to commercialize FloSeal in the European Union.

     In June 1999, we entered into a distribution agreement with Sulzer Spine-
Tech ("SST"), a wholly owned subsidiary of Sulzer Medica, Ltd.  This agreement
provides SST with exclusive rights and responsibilities to market and sell
FloSeal into the spinal and cranial surgical specialties in all markets world
wide except for Japan. SST is selling a configuration of FloSeal under the brand
name Proceed Hemostatic Sealant ("Proceed"(TM)).

     In December 1998, we completed a 309 patient clinical trial. The primary
endpoint of the clinical trial, which included cardiac, vascular and spinal
surgery patients, was to show FloSeal stopped bleeding within 10 minutes of
application at least as frequently as the Gelfoam plus thrombin control. The
trial showed FloSeal stopped patients' bleeding within 10 minutes in 96% of all
patients treated with FloSeal, whereas Gelfoam plus thrombin stopped patients'
bleeding within 10 minutes in 77% of all patients in the control group. The
trial also showed FloSeal stopped heavy cardiac bleeding within three minutes in
77% of patients, as compared to 0% for the control group where Gelfoam plus
thrombin was used. Lastly, FloSeal stopped patients' bleeding at least two times
more quickly than Gelfoam plus thrombin.

     We have reported $3,001,000 and $81,000 in revenue for the nine months
ended September 30, 2000 and September 30, 1999 respectively, primarily from
sales into the cardiac, vascular and spinal surgical specialties.  As of
September 30, 2000, we had an accumulated deficit of $47.5 million.  In late
September 2000, we began commercializing FloSeal for use in the ear, nose and
throat (ENT) market, in addition to its existing cardiac, vascular and spinal
markets.  We anticipate sales increasing as FloSeal is used more often by
doctors currently using FloSeal, as additional doctors in hospitals where
FloSeal is currently being used begin using FloSeal, and as we add new hospitals
as customers.* We anticipate incurring increased expenses relating to FloSeal
sales and marketing, research and development, manufacturing and general and
administrative expenses.*  We have not achieved, nor do we expect to achieve,
profitability before 2002.*

                                       9
<PAGE>

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

     We are also developing additional bleeding control products based upon the
core technology underlying FloSeal.  These products include a configuration of
FloSeal for use in sealing femoral artery punctures following vascular
interventional procedures. We expect to begin feasibility clinical trials using
the FloSeal FAST (Femoral Arteriotomy Sealing Technology) device prior to year-
end.* Also under development is the FloSeal sponge, a dry, sponge-like
formulation of FloSeal designed to require no mixing and to be used in various
surgical and non-surgical settings such as in battlefield and emergency or
trauma settings.  These and all other future products require approvals by the
FDA and other regulators, which cannot be guaranteed.*

     We have been expanding our manufacturing capacity in order to be able to
meet the anticipated product supply requirements for commercial sale of
FloSeal.*  In November 1999, we entered into a lease for a 72,500 square foot
building in Fremont, California.  In conjunction with this new facility, we
anticipate spending a total of approximately $5.0 million for leasehold
improvements, the purchase of equipment for production, research and
development, and office furnishings and equipment.


RESULTS OF OPERATIONS

Three and Nine Months Ended September 30, 2000 and 1999
-------------------------------------------------------


NET REVENUES

     We recorded revenues of $1,241,000 and $56,000 for the three months ended
September 30, 2000 and 1999 respectively. We recorded revenues of $3,001,000 and
$81,000 for the nine months ended September 30, 2000 and 1999 respectively. We
commenced selling FloSeal in the U.S. in December 1999. The Company achieved
limited revenue for the three and nine months ended September 30, 1999 after
FloSeal received CE Mark approval to market in the European Union in April 1999.
Revenues increased principally due to obtaining regulatory approval in the U.S.

COST OF SALES AND START-UP MANUFACTURING COSTS

     We recorded cost of sales and start up manufacturing costs of $1,232,000
and $234,000 for the three months ended September 30, 2000 and 1999
respectively. For the nine months ended September 30, 2000, we recorded cost of
sales and start up manufacturing costs of $3,519,000 compared to $379,000 for
the nine months ended September 30, 1999. Total sales were greater than cost of
sales for the three months ended September 30, 2000. Cost of sales increased due
to increased shipments of products following regulatory approval in the U.S.
Cost of sales for per product unit is expected to decrease as greater unit
volume is produced.* However, we anticipate cost of sales will increase in
future periods in connection with the increase in sales of FloSeal.*

RESEARCH AND DEVELOPMENT

     Research and development expenses increased 27% to $1,726,000 in the three
months ended September 30, 2000 compared to $1,364,000 in the three months ended
September 30, 1999. For the nine months ended September 30, 2000, research and
development expenses increased 14% to $4,238,000 compared to $3,719,000 for the
nine months ended September 30, 1999. The increase for the three and nine months
ended September 30, 2000 was primarily a result of the Company's work to advance
development of new configurations of FloSeal and new products based on the
FloSeal
                                       10
<PAGE>


technology. For the full fiscal year 2000, we believe research and development
expenses are likely to exceed those of 1999.*

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

MARKETING AND SELLING

     Marketing and selling expenses increased 528% to $1,495,000 in the three
months ended September 30, 2000, compared to $238,000 for the three months ended
September 30, 1999. For the nine months ended September 30, 2000, marketing and
selling expenses increased 388% to $3,700,000 compared to $758,000 for the nine
months ended September 30, 1999. The increase for the three and nine months
ended September 30, 2000 is the result of increases in expenses associated with
efforts to establish a direct sales force and marketing efforts to launch
FloSeal in the U.S. and Europe. Marketing expenses relating to the launch of
FloSeal into the ENT surgical specialty were incurred during the three months
ended September 30, 2000. We anticipate sales and marketing expenditures will
increase in future periods in connection with the continued commercial sales of
FloSeal.*

GENERAL AND ADMINISTRATIVE

     General and administrative expenses increased 26% to $622,000 in the three
months ended September 30, 2000, compared to $492,000 for the three months ended
September 30, 1999.  For the nine months ended September 30, 2000, general and
administrative expenses increased 76% to $2,089,000 compared to $1,190,000 for
the nine months ended September 30, 1999.  The increase for the three and nine
months ended September 30, 2000 was primarily attributable to addition of our
new Fremont headquarters and an increase in staff and administrative expenses in
preparation for and following the sales launch of FloSeal.   The Fremont
facility was unoccupied during construction improvements from January through
March 2000.  Occupancy by management, sales and marketing, administrative and
limited research personnel began on April 3, 2000.  Additional personnel and
manufacturing activities will be phased into the Fremont facility through the
first quarter 2001. We anticipate that general and administrative expenditures
will increase in future periods.*

INTEREST INCOME

     Interest income increased 127% to $291,000 for the three months ended
September 30, 2000 compared to $128,000 for the three months ended September 30,
1999. For the nine months ended September 30, 2000 interest income increased 79%
to $632,000 compared to $353,000 for the nine months ended September 30, 1999.
The increase was attributable primarily to the increased balance of the
Company's cash, cash equivalents and available-for-sale securities resulting
from two private placement financings in November 1999 and June 2000.

NET LOSS

     As a net result of the items discussed above, net loss was $3,558,000 for
the three months ended September 30, 2000 as compared to the net loss of
$2,150,000 for the three months ended September 30, 1999. The net loss was
$9,938,000 for the nine months ended September 30, 2000 as compared to
$5,629,000 for the nine months ended September 30, 1999.

                                       11
<PAGE>

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

LIQUIDITY AND CAPITAL RESOURCES

     At September 30, 2000, the Company's cash, cash equivalents and available-
for-sale securities, including long-term portion, were $12,217,000 compared to
$12,978,000 at December 31, 1999.

     For the nine months ended September 30, 2000 and 1999, the Company's
operations consumed cash of $9,687,000 and $5,682,000, respectively. The
increase in cash consumed by operations was due primarily to the increase in the
net loss of operations as well as an increase in accounts receivable and
inventories partially offset by an increase in accounts payable. The Company
expects the use of cash in operating activities to continue to increase through
calendar year 2000 and into 2001 as it continues to devote resources to the
commercialization of FloSeal and develops other products based on the FloSeal
technology.*

     For the nine months ended September 30, 2000 and 1999, the Company's
investing activities used cash of $4,356,000 and provided cash of $447,000,
respectively. The increase in cash used was primarily due to the acquisition of
plant, property and equipment. The Company expects the cash provided by
investing activities to increase through calendar year 2000 as it continues to
build manufacturing capacity to support the commercialization of FloSeal.*

     For the nine months ended September 30, 2000 and 1999, the Company's
financing activities provided cash of $14,310,000 and $8,233,000, respectively.
The increase in cash provided was primarily due to selling 1.1 million shares of
our common stock through a private placement financing concluded in June 2000.
The private placement offering resulted in net proceeds of approximately $13.0
million. Also, as discussed below, approximately $989,000 of cash was provided
by the Transamerica loan facility.

     In April 2000, we accepted a commitment from Transamerica Business Credit
Corporation - Technology Finance Division to finance up to a total of $3,000,000
toward production equipment, research & development equipment, computer
equipment and office furnishings. A maximum of $900,000 of this total can be
used to finance tenant improvements. Each loan term commences upon delivery of
the equipment having an aggregate cost of $75,000 or more and will continue for
48 months. The interest rate is variable and based on 4-year U.S. Treasury
Securities plus 737 basis points. The interest rate becomes fixed at the
commencement of each loan for the complete term. A balloon payment of 10% of the
original principal amount of each loan is due at the end of each loan term. Draw
down capability under this facility will expire on December 31, 2000. As of
September 30, 2000, we had drawn down $989,000 on this loan facility.

     When we need to raise additional money to fund our operations, we cannot be
certain that funding from any source will be available to us on acceptable
terms, or at all. The amount and the timing of raising additional funds will
depend primarily upon our ability to generate revenues from the sale of FloSeal.
Our inability to obtain additional funding on reasonable terms will materially
and adversely affect our business.

Recent Accounting Pronouncements

     In June 1998, the FASB issued Statement of Financial Accounting Standards
(SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities",
which establishes accounting and

                                       12
<PAGE>

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

reporting standards for derivative instruments and hedging activities. It
requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value. In July 1999, the FASB issued Statement of Financial Accounting
Standards No. 137 "Accounting for Derivative Instruments and Hedging Activities-
Deferral of the Effective Date of FASB Statement No. 133" ("SFAS 137"). SFAS 137
deferred the effective date of SFAS 133 until the first fiscal year beginning
after June 15, 2000. The Company, to date, has not engaged in derivative and
hedging activities. The Company will adopt SFAS No. 133 as required for its
first quarterly filing of calendar year 2001.

     In December 1999, the SEC issued Staff Accounting Bulletin No. 101 "Revenue
Recognition in Financial Statements" ("SAB101"). In June 2000 the SEC issued SAB
101B, which deferred the implementation of SAB 101 until the fourth quarter of
fiscal years beginning after December 15, 1999. The Company believes its revenue
recognition policy complies with SAB 101.

ADDITIONAL FACTORS THAT MIGHT AFFECT FUTURE RESULTS

THE FOLLOWING FACTORS REPRESENT SOME OF OUR CHALLENGES WHICH CREATE RISK AND
UNCERTAINTY. IF ANY OF THE FOLLOWING RISKS ACTUALLY OCCUR, OUR BUSINESS,
FINANCIAL CONDITION OR RESULTS OF OPERATIONS COULD BE MATERIALLY ADVERSELY
AFFECTED. THIS FORM 10-Q ALSO CONTAINS FORWARD-LOOKING STATEMENTS THAT INVOLVE
RISKS AND UNCERTAINTIES.

WE HAVE A HISTORY OF LOSSES. WE EXPECT LOSSES TO CONTINUE IN THE FUTURE, AND WE
MAY NEVER ACHIEVE PROFITABILITY.*

     We have not been profitable since our inception in 1992. Through 1998, we
did not generate any revenues, other than modest revenues in 1996 and 1997 from
the sale of the RapiSeal patch, a product that we discontinued in 1997. We
generated only $254,000 of revenues in 1999 and $3,001,000 in the first nine
months of 2000. We incurred net losses of $10.0 million in 1997, $7.7 million in
1998, $8.3 million in 1999 and $9.9 million in the first nine months of 2000. As
of September 30, 2000, we had an accumulated deficit of $47.5 million. We expect
to increase our operating expenses to market our current commercial product,
FloSeal, and to develop other products.* The amount of future net losses and the
time required to achieve profitability are highly uncertain. We do not expect to
achieve profitability before at least 2002, and we may never achieve
profitability.* If we do achieve profitability in any period, we may not be able
to sustain or increase such profitability on a quarterly or annual basis.*

WE EXPECT QUARTERLY REVENUE AND OPERATING RESULTS TO VARY SIGNIFICANTLY IN
FUTURE PERIODS, WHICH COULD CAUSE OUR STOCK PRICE TO FLUCTUATE.*

     Our limited operating results have varied widely in the past, and we expect
they will continue to vary significantly from quarter to quarter as we attempt
to commercially produce and establish FloSeal and our other products under
development in the market.* Our quarterly results may fluctuate for many
reasons, including:

       . our limited operating history,

                                       13
<PAGE>

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

       . our dependence on FloSeal to provide future revenue,

       . our dependence on SST to sell Proceed into the spinal surgical
         specialty, and

       . our lack of experience in manufacturing and marketing FloSeal in
         commercial quantities.

     As a result of these fluctuations and uncertainties in our operating
results, we believe quarter-to-quarter or annual comparisons of our operating
results are not a good indication of our future performance. In addition, at
some point in the future, these fluctuations may likely cause us to perform
below the expectations of public market analysts and investors. If our results
were to fall below market expectations, the price of our common stock would
likely fall.

WE CANNOT BE CERTAIN THAT WE WILL BE ABLE TO MANUFACTURE FLOSEAL IN SUFFICIENTLY
HIGH VOLUMES AT COMMERCIALLY REASONABLE COSTS.

     We have limited experience manufacturing FloSeal or any of our other
products in the quantities necessary to achieve significant commercial sales. We
cannot be certain we will be capable of reliable, high-volume manufacturing at
commercially reasonable costs. We could encounter problems relating to:

       . capacity constraints,

       . production yields,

       . quality control,

       . shortages of qualified personnel, and

       . raw materials supply.

     These problems could affect our ability to adequately increase and maintain
uninterrupted production of our products and fill customer orders on a timely
basis, in which case we may not be able to increase revenues. Furthermore, the
adverse consequences of these problems could have a disproportionately large
effect on us because the manufacturing of FloSeal is centralized in a single
facility.

     In addition, our manufacturing facilities are subject to the Quality System
Regulation of the FDA, international quality standards and other regulatory
requirements. Our failure to implement and maintain our facilities in accordance
with these regulatory requirements and standards will result in a delay or
termination of production. Any delay or termination of production would
materially and adversely affect our ability to manufacture commercially
necessary volumes and our ability to generate revenue.

WE MAY NOT BE ABLE TO SUCCESSFULLY MARKET AND SELL FLOSEAL.

     We depend on the success of FloSeal, our lead product and currently only
commercial source of revenue. We received the necessary regulatory approval for
the commercial sale of FloSeal in the U.S. in December 1999 and the necessary
regulatory approval for the commercial sale of FloSeal in the European Union in
April 1999. Our success, if any, will depend on the medical community's
acceptance of FloSeal and our ability to develop an effective sales, marketing
and distribution capability. We cannot predict how quickly, if at all, the
medical community will accept FloSeal. Similarly, we cannot predict the extent
to which FloSeal will be used. A surgeon's use of FloSeal will require a change
from more familiar products that are currently available. We cannot assure you
of our ability to cause such a change. For example, we were not able to
successfully market our prior product, RapiSeal, which we discontinued in 1997.
FloSeal will have to be priced competitively and offer clinically significant
advantages over other commercially available products in order to achieve market
acceptance. Even if the market generally accepts FloSeal, surgeons may choose to
use it in fewer procedures than we project. If FloSeal

                                       14
<PAGE>

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

does not achieve significant market acceptance or we are unsuccessful in
increasing commercial manufacturing or in developing an effective sales,
marketing and distribution capability, we may not be able to increase our
revenues while our costs will continue to rise.

OUR ABILITY TO ACHIEVE SIGNIFICANT REVENUE WILL DEPEND ON OUR ABILITY TO
ESTABLISH EFFECTIVE SALES, MARKETING AND DISTRIBUTION CAPABILITIES.

     Our ability to achieve significant revenue will depend heavily on our
success in establishing effective sales and marketing capabilities through a
combination of a direct sales force and collaboration and distribution
arrangements. We have built our own sales force to address only the cardiac,
vascular, and ENT surgical markets for FloSeal in the U.S. We have only limited
experience in establishing and managing a direct sales force. We cannot be
certain we can establish and manage an effective direct sales force for FloSeal.
To the extent we rely on our direct sales force, we compete with other companies
that have greater experience and better-funded marketing and sales operations.

     We depend on distribution arrangements for sales, marketing and
distribution of FloSeal in international markets. We have a distribution
arrangement with Sulzer Spine-Tech for the worldwide distribution of Proceed,
which is a configuration of FloSeal for the spinal and cranial surgical markets.
We have entered into distribution agreements with European regional distributors
for the distribution of FloSeal in the cardiac and vascular surgical markets in
the European Union. Our distributors may be unable to satisfy minimum purchase
agreement requirements or achieve projected sales levels under the distribution
agreements, which could result in the termination of their agreements and a
material adverse affect on our business, financial condition and results of
operations. In addition, several of our agreements with regional distributors
have one-year terms. The distributors are under no obligation to renew these
agreements. As a result, we may need to seek new arrangements to sell and
distribute FloSeal and our other products under development or to expand our own
direct sales capabilities. Securing new partners or distributors is a time-
consuming process, and there is no guarantee that the negotiations with new
distributors will result in arrangements on commercially reasonable terms. There
can be no assurance that the terms of new arrangements will be favorable to us.
In addition, there can be no assurance that our distributors will not distribute
other products that compete directly with FloSeal or new products developed by
competitors that may prove to be more effective or cost efficient alternatives
than our products.

WE MAY BE UNABLE TO MARKET AND SELL FLOSEAL EFFECTIVELY BECAUSE THE MARKET FOR
HEMOSTATIC PRODUCTS IS HIGHLY COMPETITIVE.

     The market for products that control surgical bleeding is highly
competitive. FloSeal and our other products under development compete with a
variety of products, such as topical hemostats, fibrin glues and other types of
surgical sealants and adhesives.

     Competing products are manufactured and sold by several companies,
including Pharmacia & Upjohn (maker of Gelfoam), Baxter International (maker of
Tisseel, a fibrin glue product) and Johnson & Johnson. We cannot be certain that
FloSeal or our other products under development will be able to compete
successfully against these companies or any other products or companies that may
enter the marketplace.

     Our major competitors have several competitive advantages over us, such as:

       . greater name recognition,

       . broader product lines,

       . greater marketing and sales personnel resources,

       . stronger distribution networks,

       . greater capital resources,

                                       15
<PAGE>

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

       . larger regulatory compliance staffs, and

       . larger technological, research and development and clinical staffs and
         facilities.

     Our competitors may develop future products that are more effective, easier
to use or more economical than FloSeal or our other products under development.
Our competitors may also use technologies that could render our technology or
products obsolete or unable to compete. Additionally, we cannot assure you that
our marketing or other strategic partners, such as Sulzer Spine-Tech, will not
pursue parallel development of technologies or products that compete with
FloSeal or our products under development.

     Smaller companies, such as Bard, CryoLife and Cohesion, may also prove to
be significant competitors, particularly through collaborative arrangements with
large companies. Academic institutions, government agencies and other public and
private research organizations also conduct research, seek patent protection and
establish collaborative arrangements for product development and marketing. In
addition, these companies and institutions compete with us in recruiting and
retaining highly qualified scientific and management personnel.

WE PURCHASE KEY RAW MATERIALS FROM SINGLE SUPPLIERS, WITH WHOM WE DO NOT HAVE
LONG TERM SUPPLY ARRANGEMENTS.

     We currently purchase essential elements of FloSeal and sterilization
services from single suppliers. We purchase bovine hides from Spear Products and
thrombin from GenTrac, Inc. We do not have long-term supply arrangements with
these suppliers. In the event that raw materials from any of our current single-
source suppliers become unavailable for any reason, we will be required to
identify alternative suppliers. Identifying and utilizing additional or
replacement suppliers for any of the components in FloSeal may not be
accomplished quickly and could involve significant additional costs. In
addition, because the FDA approval process requires manufacturers to specify
their proposed suppliers of active ingredients and certain packaging materials
in their applications, FDA approval of any new supplier would be required if
active ingredients or the packaging materials were no longer available from the
specified supplier. The qualification of a new supplier could delay our
development and marketing efforts. Our failure to obtain any of the components
used to manufacture FloSeal from alternative suppliers or any delay in
qualifying a new supplier could limit our ability to manufacture FloSeal and
would have a material adverse affect on our business, financial condition and
results of operations.

WE MANUFACTURE FLOSEAL IN A SINGLE MANUFACTURING FACILITY, WHICH IS LOCATED IN
THE SAN FRANCISCO BAY AREA IN CALIFORNIA.  A NATURAL DISASTER IS POSSIBLE AND
COULD RESULT IN PROLONGED INTERRUPTION OF OUR BUSINESS.

     We currently manufacture FloSeal in our Mountain View, California facility.
We plan to continue manufacturing FloSeal only in that facility until at least
the middle of 2001. After expiration of the Mountain View lease at the end of
2001, we intend to centralize all manufacturing activities at the Fremont,
California facility. Both facilities are located in the San Francisco Bay Area
in California, which is a seismically active area. With our manufacturing
centralized in a single facility, a natural disaster, such as an earthquake,
fire or flood, could substantially disrupt our manufacturing operations or
destroy our facilities. This could cause delays and cause us to incur additional
expenses and adversely affect our reputation with our customers and our
distributors. In addition, since the real estate market in the San Francisco Bay
Area is extremely competitive and is likely to remain competitive, an
alternative facility may not be available on commercially reasonable terms if we
suffer a catastrophic loss from a natural disaster.

IF WE ARE UNABLE TO EFFECTIVELY DEVELOP AND COMMERCIALIZE NEW PRODUCTS, OUR
REVENUES MAY DECLINE.

     To be successful, we will need, in part, to develop, market and sell
products other than FloSeal. We are developing the FloSeal sponge and our
FloSeal Femoral Arteriotomy Sealing Technology ("FAST") device. There

                                       16
<PAGE>

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

can be no assurance we will be able to successfully develop these products or,
if developed, we will generate revenues or profits from these products. For
example, we were not able to successfully market our prior product, RapiSeal,
which we discontinued in 1997. Successful marketing and sale of our products
under development depends, in significant part, on our ability to:

       . complete product development in a timely fashion,

       . obtain and maintain patents or other proprietary protections,

       . obtain required regulatory approvals from the FDA and other regulatory
         authorities,

       . implement efficient, commercial-scale manufacturing processes,

       . gain early entry into relevant markets,

       . establish sales, marketing, distribution and development
         collaborations, and

       . demonstrate the efficacy and competitiveness of our products.

     If new industry standards emerge that we do not anticipate or adapt to, our
products could be rendered obsolete and our revenues may decline. A number of
factors, including research and development or manufacturing difficulties, could
delay or prevent us from developing, introducing or marketing new products. In
addition, our competitors may introduce new products before we do and achieve a
competitive advantage in our targeted markets.

INCREASES IN OPERATING EXPENSES IN THE FUTURE MAY ADVERSELY AFFECT OUR
OPERATING RESULTS AND FINANCIAL CONDITION.

     We plan to increase our operating expenses to expand our manufacturing,
sales and marketing efforts, our customer support capability and levels of
product development.* Our operating budget is based on our expectations of
future revenues and is relatively fixed in the short term. If revenues fall
below our expectations, we will not be able to quickly reduce our spending,
which would materially adversely affect our operating results and financial
condition. In addition, our revenue may fluctuate significantly due to limited
operating history and lack of experience in manufacturing and marketing FloSeal.

ADDITIONAL FUNDING MAY NOT BE AVAILABLE TO US OR, IF AVAILABLE, MAY NOT BE
AVAILABLE ON COMMERCIALLY REASONABLE TERMS.

     We may need additional funding for research and product development,
obtaining regulatory clearances and approvals, increasing manufacturing
capabilities, enhancing sales and marketing capabilities, working capital needs
and for other operating and general corporate expenses. Future financing
strategies may include:

       . partnering relationships with larger medical device companies,

       . bank facilities, or

       . debt or additional equity offerings.

     We cannot be certain that funding from any source will be available to us
on commercially reasonable terms, if at all. The amount and the timing of
raising additional funds will depend primarily on our ability to generate
revenues from the sale of FloSeal. We generated only $254,000 from sales of
FloSeal in the year ended December 31, 1999 and $3,001,000 in the nine months
ended September 30, 2000. Our inability to obtain any needed additional funding
on commercially reasonable terms may force us to limit the marketing and sale of
FloSeal, limit one or more of our research and development programs or obtain
financing through arrangements that may

                                       17
<PAGE>

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

require us to relinquish rights to certain of our products, any of which could
materially and adversely affect our operating results or financial condition.

WE MAY INCUR SIGNIFICANT COSTS IN MAINTAINING COMPLIANCE WITH REGULATIONS
GOVERNING OUR MANUFACTURING OPERATIONS.

     We are required to maintain compliance with the good manufacturing practice
requirements of the FDA's Quality System Regulation for medical devices, as well
as regulatory authorities in the European Union. The Quality System Regulation
and the European regulatory requirements relate to product testing and quality
assurance, as well as the maintenance of records and documentation. The FDA and
the European regulatory authorities enforce their regulatory requirements
through periodic inspections. We can provide no assurance that we will be able
to maintain compliance on an on-going basis. If we or any third-party
manufacturer of our products or active ingredients do not conform to the Quality
System Regulation or the requirements of the European regulatory authorities, we
will be required to find alternative manufacturers that do conform to the
Quality System Regulation. This may be a long and costly process. The FDA must
approve alternative third-party manufacturers before they can commercially
manufacture our products or active ingredients. We may have to incur significant
costs to comply with laws and regulations and our failure to comply could lead
to penalties that could have a material and adverse affect on our operating
results or financial condition.

IF WE FAIL TO MAINTAIN REGULATORY CLEARANCES AND APPROVALS FOR FLOSEAL, WE MAY
BE UNABLE TO COMMERCIALIZE OUR PRODUCTS AND OUR REVENUES MAY DECLINE.

     Although we have obtained regulatory clearance and approval of FloSeal in
the U.S. for almost all surgical applications and in the European Union for all
surgical applications, we continue to be subject to extensive regulatory
requirements. These regulations are wide-ranging and govern, among other things:

       . product changes or modifications,

       . product manufacturing,

       . manufacturing quality control requirements,

       . reporting requirements to regulatory agencies,

       . unapproved, off-label uses, and

       . product sales and distribution.

     If we fail to comply with medical device laws or regulations, we may be
fined and restricted from selling our products. If the FDA believes that we are
not complying with the law, it can:

       . detain or seize our products,

       . issue a recall,

       . enjoin future violations, and

       . assess civil and criminal penalties against us.

     In addition, regulations are subject to change. We cannot predict the
effect, if any, that such changes might have on our business. Our failure to
comply with regulatory requirements could have a material adverse effect on our
business.

                                       18
<PAGE>

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


     Our regulatory clearance and approval for the sale of FloSeal in the U.S.
and the European Union could also be rescinded. For example, one of our
principal competitors has claimed that FloSeal was improperly certified for
sale in Germany as a medical device. The competitor claimed that FloSeal
should be regulated as a drug. While no regulatory authority determined that
our competitor's claim was correct, an adverse determination could restrict
our ability to market and sell FloSeal in the U.S. or the European Union.


WE MAY NOT BE ABLE TO EXPAND THE INTERNATIONAL SALE OF OUR PRODUCTS WITHOUT
FURTHER APPROVALS.


     Marketing of FloSeal outside of the U.S. requires compliance with local
regulatory requirements. While we have obtained regulatory approval for the
commercial sale of FloSeal as a medical device in the European Union, we have
not yet received approval in other international markets. Without approval we
will not be able to expand our international sales. In addition, if the
regulatory approval we obtained for the commercial sale of FloSeal in the
European Union is rescinded or otherwise becomes unavailable to us, we would
not be able to market and sell FloSeal in the European Union without subsequent
regulatory approval.


FAILURE TO OBTAIN REGULATORY APPROVAL FOR ADDITIONAL CONFIGURATIONS OF FLOSEAL
AND OUR OTHER PRODUCTS UNDER DEVELOPMENT COULD SIGNIFICANTLY HARM OUR ABILITY TO
GENERATE REVENUE.


     The Center for Devices and Radiological Health, a division of the FDA,
regulates applications of FloSeal technology. Before we can market additional
configurations of FloSeal or any of our other products under development in
the U.S., we must show that our products are safe and effective. We must also
obtain approval from the FDA, which cannot be guaranteed. We may be required
to complete clinical trials and obtain approval for additional applications of
FloSeal technology before they may be marketed. The FDA may also limit the
commercial claims and uses of any of our future products.


     Similar requirements or restrictions apply in the European Union and
elsewhere to the marketing and sale of additional configurations of FloSeal
and our other products under development. If we are unable to obtain
regulatory approval, our anticipated revenues would be materially and
adversely affected, as well as our results of operations and financial
condition.


OUR FUTURE SUCCESS WILL DEPEND IN PART ON OUR ABILITY TO PROTECT OUR
INTELLECTUAL PROPERTY RIGHTS. OUR INABILITY TO ENFORCE THESE RIGHTS COULD
CAUSE US TO LOSE SALES AND ANY COMPETITIVE ADVANTAGE WE HAVE.


     We have four issued U.S. patents relating to FloSeal. We also have 10
issued U.S. patents and three pending patent applications relating to our
other products under development and other technologies invented by our
research department. We also have two corresponding international patent
applications filed under the Patent Cooperative Treaty, which provides certain
rights overseas with respect to our patents. Our success depends to a
significant degree on our ability to protect and preserve our intellectual
property. To protect our intellectual property rights, we rely on the patent
laws of the U.S. and the other countries where we market and sell FloSeal or
intend to market and sell FloSeal or our other products under development.
However, we cannot be certain that the steps we have taken will prevent third
parties from using our technology without our authorization or independently
developing technology without our authorization or independently developing
technology that is similar to ours, particularly in those countries where the
laws do not protect our proprietary rights as fully as in the U.S. In
addition, we cannot assure you that patents will issue from our applications
or that any patent will issue on technology arising from additional research
or, if patents do issue, that claims allowed will be sufficient to protect our
technologies.


     The use of our technology or similar technology by others could reduce or
eliminate any competitive advantage we have developed, cause us to lose sales
and otherwise harm our business.  Although we do have several issued U.S.
patents and several pending U.S.  patent applications, our competitors may
already have applied for

                                       19
<PAGE>

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


patents that, once issued, will prevail over our patent rights or otherwise
limit our ability to sell our products in the U.S. or elsewhere. Our
competitors also may attempt to design around our patents or copy or otherwise
obtain and use our proprietary technology. We may not be able to secure
registration with respect to our pending patent applications. Failure to
secure these registrations may limit our ability to protect the intellectual
property rights that these applications are intended to cover.


WE MAY BE PREVENTED FROM MARKETING AND SELLING FLOSEAL OR OUR OTHER PRODUCTS
UNDER DEVELOPMENT IF THEY INFRINGE EXISTING PATENTS OR PATENTS THAT HAVE NOT YET
ISSUED.


     Although we have conducted searches, there can be no assurance that third-
party patents or other intellectual property rights will not cover FloSeal or
our products under development. If they do, the continued development and
marketing of our products would require a license under those patents or other
intellectual property rights. There can be no assurance that required licenses
will be available to us on commercially reasonable terms, if at all. If we do
not obtain the licenses, we could encounter delays in product introductions
while we attempt to design around the third-party patents, or we could be
completely blocked from developing, manufacturing or selling products
requiring the licenses.


     Moreover, since U.S. patent applications are not a matter of public
record, a patent application could currently be on file that would stand in
our way of obtaining an issued patent. Interference proceedings declared by
the U.S. Patent and Trademark Office may be necessary to determine the
priority of inventions with respect to our patent applications. Litigation or
interference proceedings could result in substantial costs to us and a
diversion of management focus, and could have a material adverse effect on our
business, financial condition and results of operations. In addition, a number
of medical device and other companies, universities and research institutions
have filed patent applications or may have been issued patents relating to
compositions and methods for surgical sealing. The issuance of any of these
potentially competing patents could materially and adversely affect our
business, results of operations and financial condition.


CLAIMS THAT WE INFRINGE THIRD-PARTY INTELLECTUAL PROPERTY RIGHTS COULD RESULT
IN SIGNIFICANT EXPENSES AND RESTRICTIONS ON OUR ABILITY TO SELL FLOSEAL AND
OUR OTHER PRODUCTS UNDER DEVELOPMENT.


     We may be subject to litigation in which we would have to defend against
claims of infringement of the rights of others or to determine the scope and
validity of the intellectual property rights that may conflict with our
business. Any infringement claims could result in costly litigation, divert
the efforts of our management personnel, cause product shipment delays,
require us to enter into royalty or licensing agreements, require us to pay
damages, harm our reputation or prevent us from manufacturing, marketing or
selling FloSeal or any of our other products under development. Moreover, if
we were to discover that FloSeal or any of our products under development
violated third-party intellectual property rights, we might be unable to
redesign it to avoid violating their rights or to obtain a license to use the
third-party intellectual property on commercially reasonable terms.


FAILURE BY OUR CUSTOMERS TO OBTAIN ADEQUATE THIRD-PARTY REIMBURSEMENT FOR THE
PROCEDURES UTILIZING FLOSEAL COULD ADVERSELY AFFECT OUR ABILITY TO MARKET AND
SELL FLOSEAL AND GENERATE REVENUES.


     Our U.S. customers generally rely on third-party insurers, such as
federal Medicare, state Medicaid and private health insurance plans, to
reimburse some or all of the cost of a procedure in which FloSeal will be
used. We expect to sell FloSeal based on a prospective payment system.* In a
prospective payment system, the cost of FloSeal would be incorporated in the
overall cost of the surgical procedures that use FloSeal instead of providing
for a separate reimbursement for our products. However, we cannot assure you
that third-party insurers will reimburse our customers for the cost of
FloSeal. Our financial success depends, in part, on our customers obtaining
satisfactory reimbursement for surgical procedures that use FloSeal. Failure
by our customers to obtain sufficient reimbursement for these procedures or
adverse changes in governmental and private insurance policies toward

                                       20
<PAGE>

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


reimbursement for these procedures could result in reduction or elimination of
purchases of FloSeal, which would materially and adversely affect our
revenues. Since FloSeal is priced at a premium to corresponding widely used
hemostats, our business may also be materially and adversely affected by the
continuing efforts of third-party insurers to contain or reduce healthcare
costs.


     International market acceptance of FloSeal and other products that we may
develop in the future is dependent, in part, on the availability of
reimbursement for the prevailing healthcare payment systems for our products
or procedures that use our products. Reimbursement and healthcare payment
systems in international markets vary significantly and include both
government-sponsored healthcare and private insurance. We intend to seek
reimbursement approvals where applicable.* We cannot be certain any such
approvals will be obtained in a timely manner, if at all. Failure to receive
reimbursement approvals in the international market could materially and
adversely affect our ability to market and sell FloSeal and generate revenue.


THE EUROPEAN FEAR OF "MAD COW DISEASE" COULD ADVERSELY IMPACT ACCEPTANCE OF OUR
PRODUCTS IN EUROPE.


     There is uncertainty as to the acceptance in the European Union of
products that incorporate products derived from cows. This uncertainty is due
to concerns about "mad cow disease". This disease is believed to be
transmitted from cows to humans and may cause serious illness or death.
FloSeal and our other products under development contain thrombin and gelatin
derived from bovine tissue from cows. A delay in European acceptance of
FloSeal could materially and adversely affect our ability to market and sell
FloSeal and our other products under development.


WE MAY FACE PRODUCT LIABILITY CLAIMS RELATED TO THE USE OR MISUSE OF OUR
PRODUCTS. OUR INSURANCE COVERAGE IS LIMITED.


     We face risk of product liability claims. There can be no assurance that
we will not experience losses due to product liability claims. We currently
maintain liability insurance with combined coverage limits of $3.0 million on
a claims-made basis. We cannot be certain that the size or the coverage of our
insurance is adequate. The insurance is expensive, difficult to obtain and may
not be available in the future on acceptable terms, if at all. Any claims
against us, regardless of their merit, could materially and adversely affect
our business, results of operations and financial condition due to the cost of
defending against such claims and diversion of management attention.


WE MAY BE UNABLE TO ATTRACT AND RETAIN QUALIFIED EMPLOYEES, WHO WE NEED TO BE
SUCCESSFUL.


     We are highly dependent on certain members of our management and research
and development staff. The loss of any of these persons, or our inability to
recruit additional personnel necessary for our business, could substantially
impair our research and development efforts and impede our ability to develop
and commercialize our products. Recruiting and retaining qualified technical
and managerial personnel will also be critical to our success. Our business is
located in the San Francisco Bay Area in California, where demand for
experienced personnel is extremely high and is likely to remain high. As a
result, competition for and retention of personnel, particularly for employees
with technical expertise, is intense and the turnover rate for these people is
high. We may not be able to recruit and retain qualified employees on
commercially reasonable terms, which could materially and adversely affect our
ability to achieve profitability.


OUR ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED IN OUR
FORWARD-LOOKING STATEMENTS.


This Form 10-Q contains forward-looking statements that involve risks and
uncertainties. We used words such as "believes," "intends," "expects,"
"anticipates," "plans," and similar expressions identify forward-looking
statements. Our Annual Report on Form 10-K for the year ended December 31,
1999 also contains third party estimates

                                       21
<PAGE>

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


regarding the size and growth of surgical specialty markets, as well as the
size of the suture and staples market and topical hemostat market and other
marketing estimates. You should not place undue reliance on these forward-
looking statements. Our actual results could differ materially from those
anticipated in the forward-looking statements for the reasons described above
and elsewhere in this Form 10-Q.



ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

    Our exposure to market risk for changes in interest rates relates primarily
to our investment portfolio, bank borrowings and equipment financing. Reference
is made to Part II, Item 7A, Quantitative and Qualitative Disclosures About
Market Risk, in our Annual Report on Form 10-K for the year ended December 31,
1999. The average interest rate for our available-for-sale securities, as of
September 30, 2000 was 6.12% compared to 6.28% reported in the Form 10-K for the
year ended December 31, 1999. The average interest rate for our cash and cash
equivalents as of September 30, 2000 was 6.21% compared to 5.88% reported in the
Form 10-K for the year ended December 31, 1999. No other material changes have
occurred since the filing of our Annual Report on Form 10-K for the year ended
December 31, 1999.

Fusion Medical Technologies Inc., FloSeal and RapiSeal are registered
trademarks of Fusion Medical Technologies, Inc. FloSeal Matrix is a trademark
of Fusion Medical Technologies, Inc.

                                       22
<PAGE>

PART II-OTHER INFORMATION

ITEM 1.  LEGAL PROCEEDINGS

          None.



          ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K

   (a)  Exhibits.
        ---------

               Exhibit
               Number                         Description
               -------    --------------------------------------------------
                10.13     Transamerica Business Credit Corporation finance
                          agreement June 6, 2000.
                27.1      Financial Data Schedule.


   (b)  Reports on Form 8-K. The Company did not file any Reports on Form 8-K
        -------------------
        during the quarter ended September 30, 2000.

                                       23
<PAGE>

                                   SIGNATURES


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



                                    FUSION MEDICAL TECHNOLOGIES, INC.



Date:  November 9, 2000                 By: /s/  LARRY J. STRAUSS
                                           ---------------------------
                                                 Larry J. Strauss

                                             Vice President, Finance and
                                               Chief Financial Officer
                                         (Chief Accounting Officer and Duly
                                        Authorized Officer of the Registrant)

                                       24