<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 June 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 11,224,920
as of August 3, 2000.

This report on Form 10-Q includes 25 pages with the Index to Exhibits located on
page 24.

<PAGE>

                       FUSION MEDICAL TECHNOLOGIES, INC.

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


<TABLE>
<CAPTION>
                                                                                           Page
                                                                                           ----
<S>                                                                                        <C>
PART I.      FINANCIAL INFORMATION

Item 1.      Financial Statements:

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

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

              Statements of Condensed Consolidated Cash Flows - Six Months Ended June
              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 2.      Changes in Securities and Use of Proceeds.................................      23

Item 4.      Submission of Matters to a Vote of Security Holders.......................      23

Item 6.      Exhibits and Reports on Form 8-K..........................................      24

             Signatures................................................................      25

</TABLE>
<PAGE>

PART I - FINANCIAL INFORMATION

I.   FINANCIAL STATEMENTS


                       FUSION MEDICAL TECHNOLOGIES, INC.
                     CONDENSED CONSOLIDATED BALANCE SHEETS
                                (In thousands)

<TABLE>
<CAPTION>
                                                        June 30   December 31
                                                         2000        1999
                                                      ----------- -----------
                                                      (Unaudited)
<S>                                                   <C>           <C>
                       ASSETS

Current assets:
       Cash and cash equivalents                      $   10,704    $  8,164
       Available-for-sale securities                       7,824       3,818
       Accounts receivable                                   345         147
       Inventory                                           1,150         582
       Prepaids and other current assets                     208         182
                                                      ----------    --------
         Total current assets                             20,231      12,893

 Property and equipment, net                               2,390       1,038
 Available-for-sale securities, long term                     --         996
 Restricted cash deposit                                   1,088       1,088
 Other long-term assets                                      205         201
                                                      ----------    --------

         Total assets                                 $   23,914    $ 16,216
                                                      ==========    ========

                      LIABILITIES AND STOCKHOLDERS' EQUITY

 Current liabilities                                  $    1,755    $  1,343
 Long-term obligations                                       298          87
                                                      ----------    --------
         Total liabilities                                 2,053       1,430
                                                      ----------    --------

 Common stock and other equity                            65,798      52,343
 Accumulated deficit                                     (43,937)    (37,557)
                                                      ----------    --------
         Total stockholders' equity                       21,861      14,786
                                                      ----------    --------

         Total liabilities and stockholders' equity   $   23,914    $ 16,216
                                                      ==========    ========
</TABLE>

The accompanying notes are an integral part of these condensed consolidated
                      financial statements.
<PAGE>

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


<TABLE>
<CAPTION>
                                                        Three Months Ended      Six Months Ended
                                                             June 30                June 30
                                                       --------------------    --------------------
                                                         2000       1999         2000        1999
                                                       --------    --------    --------    --------
<S>                                                    <C>         <C>         <C>         <C>

Net revenues                                           $  1,078    $     25    $  1,760    $     25
                                                       --------    --------    --------    --------
Costs and expenses:
      Cost of sales and start-up manufacturing costs      1,233         145       2,289         145
      Research and development                            1,509       1,247       2,530       2,374
      Marketing and selling                               1,239         248       2,202         530
      General and administrative                            507         417       1,449         669
                                                       --------    --------    --------    --------
           Total costs and expenses                       4,488       2,057       8,470       3,718
                                                       --------    --------    --------    --------
                Operating loss                           (3,410)     (2,032)     (6,710)     (3,693)

      Interest income                                       171         146         341         225
      Interest expense                                       (5)         (7)        (10)        (14)
      Other income (expense), net                          --            (4)         (1)          3
                                                       --------    --------    --------    --------
                Net loss                               $ (3,244)   $ (1,897)   $ (6,380)   $ (3,479)
                                                       ========    ========    ========    ========
Basic and diluted net loss per share                   $  (0.31)   $  (0.21)   $  (0.63)   $  (0.43)
                                                       ========    ========    ========    ========
Shares used in computing basic and diluted net
      loss per share                                     10,363       8,886      10,195       8,027
                                                       ========    ========    ========    ========
</TABLE>

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

                       FUSION MEDICAL TECHNOLOGIES, INC.
                CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                                (In thousands)
                                  (Unaudited)

<TABLE>
<CAPTION>
                                                                                 Six Months Ended
                                                                                      June 30
                                                                                --------------------
                                                                                  2000        1999
                                                                                --------    --------
<S>                                                                             <C>         <C>
Cash flows used for operating activities:
        Net loss                                                                $ (6,380)   $ (3,479)
        Adjustments to reconcile net loss to net cash used in
               operating activities:
               Depreciation and amortization                                         274         178
               Accretion of available-for-sale securities                             --          15
               Amortization of deferred compensation                                 183          87
               Changes in assets and liabilities:                                     --
                     Accounts receivable                                            (198)        (21)
                     Inventories                                                    (568)       (227)
                     Prepaids and other current assets                               (26)        (91)
                     Other assets                                                     (4)         44
                     Accounts payable                                                152         188
                     Accrued expenses                                                260        (454)
                                                                                --------    --------
                          Net cash used in operating activities                   (6,307)     (3,760)
                                                                                --------    --------

Cash flows from investing activities:
        Acquisition of property and equipment                                     (1,626)       (297)
        Purchases of available-for-sale securities                                (7,396)     (1,502)
        Sales and maturities of available-for-sale securities                      4,386       3,500
                                                                                --------    --------
                          Net cash (used in) provided by investing activities     (4,636)      1,701
                                                                                --------    --------

Cash flows from financing activities:
        Proceeds from issuance of common stock, net of issuance costs             13,270       8,163
        Proceeds from exercise of common stock options                                 2         142
        Proceeds from equipment loan financing                                       269        --
        Repayment of notes payable                                                   (58)        (58)
                                                                                --------    --------
                          Net cash provided by financing activities               13,483       8,247
                                                                                --------    --------

Net increase in cash and cash equivalents                                          2,540       6,188
Cash and cash equivalents, beginning of period                                     8,164       4,151
                                                                                --------    --------
Cash and cash equivalents, end of period                                        $ 10,704    $ 10,339
                                                                                ========    ========
</TABLE>

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

                       FUSION MEDICAL TECHNOLOGIES, INC.

             NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                 June 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 June 30, 2000, and the condensed
consolidated statements of operations for the three and six month periods ended
June 30, 2000 and 1999, and the condensed consolidated statements of cash flows
for the six month periods ended June 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.

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
2,397,846 and 1,323,993 shares of common stock at prices ranging from $0.16 to
$16.00 per share were outstanding at June 30, 2000 and 1999, respectively, but
were not included in the computation of diluted income per share because they
were anti-dilutive.  At June 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 antidilutive.


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)
                                March 31, 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):

                     June 30     December 31
                       2000         1999
                     -------     -----------
  Finished goods     $   293     $    195
  Work in process        516          150
  Raw materials          342          237
                     -------     -----------
                     $ 1,150     $    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 June 30, 2000).  As
of June 30, 2000, we had drawn down $146,000 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 June 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 June 30, 2000, we had drawn down $392,000 on the loan facility.

                                       7
<PAGE>

6.  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 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 is evaluating the
effect of adopting SAB 101 and will comply with its requirements in the fourth
quarter of fiscal 2000.

In March 2000, the Financial Accounting Standards Board ("FASB") issued FIN44
"Accounting for Certain Transactions Involving Stock Compensation - an
interpretation of APB25" which is effective July 1, 2000.  The Company does not
expect FIN44 will have a material impact on its financial statements.

                                       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.  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 15 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.


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") was approved on December
8, 1999 by the 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 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 $1,760,000 in revenue for the first half of 2000 and
$25,000 in revenue for the first half of 1999. We also anticipate, however,
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 2001.

     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 ear, nose and throat (ENT) surgeries, a femoral artery
puncture sealing device for use following vascular interventional procedures and
the FloSeal sponge, a dry, sponge-like formulation of FloSeal requiring no
mixing, for use in various surgical and non-surgical settings.  We expect to
begin commercial shipments with our ENT configuration of FloSeal by the end of
2000.  We expect to begin clinical trails for the femoral artery closure device
before the end of 2000.  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.

                                       9
<PAGE>

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

     As of June 30, 2000, we had an accumulated deficit of $44 million.
Operating losses are expected to continue at least through 2001.


RESULTS OF OPERATIONS

Three and Six Months Ended June 30, 2000 and 1999
-------------------------------------------------


NET REVENUES

     We recorded revenues of $1,078,000 and $25,000 for the three months ended
June 30, 2000 and 1999 respectively. We recorded revenues of $1,760,000 and
$25,000 for the six months ended June 30, 2000 and 1999 respectively. We
commenced selling FloSeal in the U.S. in December 1999. The Company achieved
limited revenue for the same three months ended June 30, 1999 after FloSeal
received CE Mark approval to market in Europe in April 1999.

COST OF SALES AND START-UP MANUFACTURING COSTS

     We recorded cost of sales and start up manufacturing costs of $1,233,000
and $145,000 for the three months ended June 30, 2000 and 1999 respectively. For
the six months ended June 30, 2000, we recorded cost of sales and start up
manufacturing costs of $2,289,000 compared to $145,000 for the six months ended
June 30, 1999. The increase was due to the start-up of production related to the
commercial sales of FloSeal. We anticipate that cost of sales and start-up
manufacturing costs will increase in future periods in connection with the
continued commercial launch of FloSeal.

RESEARCH AND DEVELOPMENT

     Research and development expenses increased 21% to $1,509,000 in the three
months ended June 30, 2000 compared to $1,247,000 in the three months ended June
30, 1999. For the six months ended June 30, 2000, research and development
expenses increased 7% to $2,530,000 compared to $2,374,000 for the six months
ended June 30, 1999. The increase for the three and six months ended June 30,
2000 are primarily a result of the Company's work to advance development of new
configurations of FloSeal and new products based on the FloSeal technology. For
the full fiscal year 2000, the Company believes research and development
expenses are likely to exceed those of 1999 as the Company devotes more
resources to the support of new products based on the FloSeal technology.

MARKETING AND SELLING

     Marketing and selling expenses increased 402% to $1,239,000 in the three
months ended June 30, 2000, compared to $247,000 for the three months ended June
30, 1999. For the six months ended June 30, 2000, marketing and selling expenses
increased 262% to $2,202,000 compared to $608,000 for the six months ended June
30, 1999. The increase for the three and six months ended June 30, 2000 is the
result of increases in expenses associated with sales and marketing efforts to
establish a direct sales force and marketing efforts to launch FloSeal in the
U.S. and Europe. We anticipate that sales and marketing expenditures will
increase in future periods in connection with the continued commercial launch of
FloSeal.

                                       10
<PAGE>

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

GENERAL AND ADMINISTRATIVE

      General and administrative expenses increased 21% to $507,000 in the three
months ended June 30, 2000, compared to $418,000 for the three months ended June
30, 1999. For the six months ended June 30, 2000, general and administrative
expenses increased 145% to $1,449,000 compared to $591,000 for the six months
ended June 30, 1999. The increase for the three and six months ended June 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, including some manufacturing
activities, are anticipated to move to Fremont in the third quarter 2000. We
anticipate that general and administrative expenditures will increase in future
periods.

INTEREST INCOME

      Interest income increased 15% to $171,000 for the three months ended June
30, 2000 compared to $146,000 for the three months ended June 30, 1999. For the
six months ended June 30, 2000 interest income increased 52% to $341,000
compared to $225,000 for the six months ended June 30, 1999. The increase was
attributable primarily to the increase 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 $3,244,000 for
the three months ended June 30, 2000 as compared to the net loss of $1,897,000
for the three months ended June 30, 1999. The net loss was $6,380,000 for the
six months ended June 30, 2000 as compared to $3,479,000 for the six months
ended June 30, 1999.



LIQUIDITY AND CAPITAL RESOURCES

      At June 30, 2000, the Company's cash, cash equivalents and available-for-
sale securities, including long-term portion, were $18,528,000 compared to
$12,978,000 at December 31, 1999.

      For the six months ended June 30, 2000 and 1999, the Company's operations
consumed cash of $6,307,000 and $3,760,000, 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. 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 six months ended June 30, 2000 and 1999, the Company's investing
activities used cash of $4,636,000 and provided cash of $1,701,000,
respectively. The increase in cash used was primarily due to the purchase of
available-for-sale securities and the increase in the acquisition of plant,
property and equipment. The Company expects the cash provided by investing
activities to increase through

                                       11
<PAGE>

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

calendar year 2000 as it continues to build manufacturing capacity to support
the commercialization of FloSeal.

     For the six months ended June 30, 2000 and 1999, the Company's financing
activities provided cash of $13,483,000 and $8,247,000, respectively. The
increase in cash provided was 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.


     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 secured 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 June 30, 2000). As
of June 30, 2000, we had drawn down $146,000 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 March 31, 2000.

     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 June
30, 2000, we had drawn down $392,000 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 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.

                                       12
<PAGE>

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

     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 is evaluating the
effect of adopting SAB 101 and will comply with its requirements in the fourth
quarter of fiscal 2000.

     In March 2000, the Financial Accounting Standards Board ("FASB") issued
FIN44 "Accounting for Certain Transactions Involving Stock Compensation -an
interpretation of APB25" which is effective July 1, 2000. The Company does not
expect FIN44 will have a material impact on its financial statements.



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 DID NOT GENERATE ANY REVENUES IN 1998 AND GENERATED ONLY MODEST REVENUES IN
1999.  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 $1,760,000 in the first half of
2000.  We incurred net losses of $10.0 million in 1997, $7.7 million in 1998,
$8.3 million in 1999 and $6.4 million in the first half of 2000.  As of June 30,
2000, we had an accumulated deficit of $44 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 2001, 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,

     .    our dependence on FloSeal to provide future revenue, 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

                                       13
<PAGE>

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

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 increase commercial manufacturing and
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 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

                                       14
<PAGE>

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

arrangements.  We have built our own sales force to address only the cardiac and
vascular 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,

     .    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

                                       15
<PAGE>

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

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
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 FloSeal for ear, nose and throat
surgeries, the FloSeal sponge and our femoral artery vascular closure device.
There can be no assurance that 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,

                                       16
<PAGE>

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

     .    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.

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

     We plan to significantly 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 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 $1,760,000 in the six months
ended June 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 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

                                       17
<PAGE>

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

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 APPROVALS FOR FLOSEAL, OUR BUSINESS WILL
SUFFER.

     Although we have obtained regulatory 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.

     Our regulatory 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.

                                       18
<PAGE>

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

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 Europe 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 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.

                                       19
<PAGE>

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

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 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.

                                       20
<PAGE>

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

     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.  This Form 10-K also contains third party estimates regarding the
size and growth of the cardiovascular, spinal and vascular surgery 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.

                                       21
<PAGE>

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

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     No significant change has occurred since the filing by the Registrant on
Form 10-K for the year ended December 31, 1999. 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 June 30, 2000 was
6.24% 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
June 30, 2000 was 6.55% 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 by the Registrant 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 2.   CHANGES IN SECURITIES AND USE OF PROCEEDS

The Registrant closed a private placement offering of 1.1 million shares of our
common stock on June 8, 2000.  The private placement offering resulted in net
proceeds to the Registrant of approximately $13.0 million.

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

The Company's Annual Meeting of Shareholders (the "Annual Meeting") was held on
June 15, 2000 at 10:00 a.m. local time, at its principal corporate offices
located at 34175 Ardenwood Blvd., Fremont, CA.  The Annual Meeting was held for
the purpose of (a) electing one Class I Director to serve for two years expiring
upon the 2002 Annual Meeting of the Stockholders and electing one Class II
Director to serve for three years expiring upon the 2003 Annual Meeting of the
Stockholders, (b) approving an amendment to the Company's 1993 Stock Option
Plan, (c) ratifying the appointment of PricewaterhouseCoopers LLP as the
Company's independent accountants for the fiscal year ending December 31, 2000,
and (d) transacting such other business as may properly come before the Annual
Meeting.  The three matters were voted upon and approved:

     1)   J. Michael Egan was duly elected as a Class I Director to serve for
          two years expiring upon the 2002 Annual Meeting of the Stockholders,
          or until a successor is duly elected and qualified, with 8,524,578
          votes cast for election and 151,935 votes withheld. Douglas E. Kelly,
          M.D. was duly elected as a Class II Director to serve for three years
          expiring upon the 2003 Annual Meeting of the Stockholders, or until a
          successor is duly elected and qualified, with 8,522,878 votes cast for
          election and 153,635 votes withheld.

     2)   The Amendment to the 1993 Stock Option Plan increasing the number of
          shares of Common Stock authorized for issuance by 950,000 shares to
          3,590,492 shares was approved with 4,499,223 votes cast for the
          amendment, 1,711,243 votes against, and 43,273 votes abstained.

     3)   PricewaterhouseCoopers LLP was appointed the Independent Accountants
          for the fiscal year ended December 31, 2000 with 8,663,575 votes cast
          for the appointment, 7,745 against, and 4,193 abstained.

Three directors were not up for election at the June 2000 meeting. Their names
and term expiration are as follows:

          Name                          Term expires upon the
                                        annual meeting in this year
          Vaughn D. Bryson              2001
          Gordon W. Russell             2001
          Philip M. Sawyer              2001
          Olav B. Bergheim              2002

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<PAGE>

ITEM 6.   EXHIBITS AND REPORTS ON FORM 8-K

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

               Exhibit
               Number                        Description
               -------         -------------------------------------------------
                4.2(1)         Stock Purchase Agreement dated as of June 7,
                               2000.
               27.1            Financial Data Schedule.

                   (1)  Incorporated by reference to the Registrant's
                        Registration Statement on Form S-3 filed on June 26,
                        2000.

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

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<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:  August 14, 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)

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