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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549



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FORM 10-Q



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



FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 2003



or



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



For the transaction period from  to



Commission File Number 0-28414



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UROLOGIX, INC.

(Exact name of registrant as specified in its charter)



|                                                              |  |                                    
|------------------------------------------------------------- |  | -----------------------------------
|Minnesota                                                     |  | 41-1697237                         
|(State or other jurisdiction ofincorporation or organization) |  | (I.R.S. EmployerIdentification No.)



14405 21st Avenue
North, Minneapolis, MN 55447

(Address of principal executive offices)



Registrants telephone number, including area code: (763) 475-1400



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



Yes ̈No x



Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.



Yes x No ̈



As of January 30, 2004, the Company had outstanding 14,018,659 shares of common stock, $.01
par value.



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PART I  FINANCIAL INFORMATION



|ITEM 1. | FINANCIAL STATEMENTS
|------- | --------------------



Urologix, Inc.

Condensed Balance Sheets

(In thousands, except per share data)



|                                                                                                        |  |                  |         |   |              |   |         |  
|------------------------------------------------------------------------------------------------------- |  | ---------------- | ------- | - | ------------ | - | ------- | -
|                                                                                                        |  | December 31,2003 |         |   | June 30,2003 |  
|                                                                                                        |  | (unaudited)      |         |   | (*)          |  
|ASSETS                                                                                                  |  |                  |         |   |              |   |         |  
|Current assets:                                                                                         |  |                  |         |   |              |   |         |  
|Cash and cash equivalents                                                                               |  | $                | 885     |   |              | $ | 727     |  
|Available-for-sale investments                                                                          |  |                  | 3,064   |   |              |   | 3,892   |  
|Accounts receivable, net of allowance of $369 and $365                                                  |  |                  | 2,220   |   |              |   | 2,129   |  
|Inventories                                                                                             |  |                  | 2,784   |   |              |   | 2,893   |  
|Prepaids and other current assets                                                                       |  |                  | 398     |   |              |   | 697     |  
|                                                                                                        |  |                  |         |   |              |   |         |  
|Total current assets                                                                                    |  |                  | 9,351   |   |              |   | 10,338  |  
|                                                                                                        |  |                  |         |   |              |   |         |  
|Property and equipment:                                                                                 |  |                  |         |   |              |   |         |  
|Machinery, equipment and furniture                                                                      |  |                  | 9,772   |   |              |   | 9,843   |  
|Less accumulated depreciation                                                                           |  |                  | (6,516  | ) |              |   | (6,029  | )
|                                                                                                        |  |                  |         |   |              |   |         |  
|Property and equipment, net                                                                             |  |                  | 3,256   |   |              |   | 3,814   |  
|Other assets                                                                                            |  |                  | 2,248   |   |              |   | 2,404   |  
|Goodwill, net                                                                                           |  |                  | 10,193  |   |              |   | 10,193  |  
|Other intangible assets, net                                                                            |  |                  | 8,781   |   |              |   | 9,113   |  
|                                                                                                        |  |                  |         |   |              |   |         |  
|Total assets                                                                                            |  | $                | 33,829  |   |              | $ | 35,862  |  
|                                                                                                        |  |                  |         |   |              |   |         |  
|LIABILITIES AND SHAREHOLDERS EQUITY                                                                    |  |                  |         |   |              |   |         |  
|Current liabilities:                                                                                    |  |                  |         |   |              |   |         |  
|Accounts payable                                                                                        |  | $                | 976     |   |              | $ | 1,271   |  
|Accrued compensation                                                                                    |  |                  | 1,022   |   |              |   | 476     |  
|Other accrued expenses                                                                                  |  |                  | 1,662   |   |              |   | 2,450   |  
|Current portion of lease obligation                                                                     |  |                  | 55      |   |              |   | 351     |  
|Current portion of long-term debt                                                                       |  |                  | 165     |   |              |   | 575     |  
|Deferred income                                                                                         |  |                  | 1,441   |   |              |   | 1,634   |  
|                                                                                                        |  |                  |         |   |              |   |         |  
|Total current liabilities                                                                               |  |                  | 5,321   |   |              |   | 6,757   |  
|                                                                                                        |  |                  |         |   |              |   |         |  
|COMMITMENTS AND CONTINGENCIES (Note 11)                                                                 |  |                  |         |   |              |   |         |  
|Shareholders equity:                                                                                   |  |                  |         |   |              |   |         |  
|Common stock, $.01 par value, 25,000 shares authorized; 14,004 and 13,962 shares issued and outstanding |  |                  | 140     |   |              |   | 140     |  
|Additional paid-in capital                                                                              |  |                  | 108,752 |   |              |   | 108,606 |  
|Accumulated deficit                                                                                     |  |                  | (80,425 | ) |              |   | (79,728 | )
|Accumulated other comprehensive income                                                                  |  |                  | 41      |   |              |   | 87      |  
|                                                                                                        |  |                  |         |   |              |   |         |  
|Total shareholders equity                                                                              |  |                  | 28,508  |   |              |   | 29,105  |  
|                                                                                                        |  |                  |         |   |              |   |         |  
|Total liabilities and shareholders equity                                                              |  | $                | 33,829  |   |              | $ | 35,862  |  
|                                                                                                        |  |                  |         |   |              |   |         |  



|(*) | The Balance Sheet at June 30, 2003 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by
generally accepted accounting principles for complete financial statements.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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



1



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Urologix, Inc.

Condensed Statements of Operations

(In thousands, except per share data)

(Unaudited)



|                                                                       |  |                                |        |   |                              |   |        |      |  |   |        |   |  |   |        |  
|---------------------------------------------------------------------- |  | ------------------------------ | ------ | - | ---------------------------- | - | ------ | ---- |  | - | ------ | - |  | - | ------ | -
|                                                                       |  | Three Months EndedDecember 31, |        |   | Six Months EndedDecember 31, |  
|                                                                       |  | 2003                           |        |   | 2002                         |   |        | 2003 |  |   | 2002   |  
|Sales                                                                  |  | $                              | 5,619  |   |                              | $ | 4,584  |      |  | $ | 10,680 |   |  | $ | 9,048  |  
|Cost of goods sold                                                     |  |                                | 2,064  |   |                              |   | 1,854  |      |  |   | 4,046  |   |  |   | 3,360  |  
|                                                                       |  |                                |        |   |                              |   |        |      |  |   |        |   |  |   |        |  
|Gross profit                                                           |  |                                | 3,555  |   |                              |   | 2,730  |      |  |   | 6,634  |   |  |   | 5,688  |  
|                                                                       |  |                                |        |   |                              |   |        |      |  |   |        |   |  |   |        |  
|Costs and expenses:                                                    |  |                                |        |   |                              |   |        |      |  |   |        |   |  |   |        |  
|Selling, general and administrative                                    |  |                                | 3,147  |   |                              |   | 4,131  |      |  |   | 5,972  |   |  |   | 7,770  |  
|Research and development                                               |  |                                | 631    |   |                              |   | 963    |      |  |   | 1,215  |   |  |   | 1,937  |  
|Amortization of intangible assets                                      |  |                                | 166    |   |                              |   | 166    |      |  |   | 332    |   |  |   | 332    |  
|Restructuring                                                          |  |                                | (175   | ) |                              |   |       |      |  |   | (175   | ) |  |   |       |  
|                                                                       |  |                                |        |   |                              |   |        |      |  |   |        |   |  |   |        |  
|Total costs and expenses                                               |  |                                | 3,769  |   |                              |   | 5,260  |      |  |   | 7,344  |   |  |   | 10,039 |  
|                                                                       |  |                                |        |   |                              |   |        |      |  |   |        |   |  |   |        |  
|Operating loss                                                         |  |                                | (214   | ) |                              |   | (2,530 | )    |  |   | (710   | ) |  |   | (4,351 | )
|Interest income, net                                                   |  |                                | 7      |   |                              |   | 40     |      |  |   | 13     |   |  |   | 111    |  
|                                                                       |  |                                |        |   |                              |   |        |      |  |   |        |   |  |   |        |  
|Net loss                                                               |  | $                              | (207   | ) |                              | $ | (2,490 | )    |  | $ | (697   | ) |  | $ | (4,240 | )
|                                                                       |  |                                |        |   |                              |   |        |      |  |   |        |   |  |   |        |  
|Basic and diluted net loss per common share                            |  | $                              | (0.01  | ) |                              | $ | (0.18  | )    |  | $ | (0.05  | ) |  | $ | (0.30  | )
|                                                                       |  |                                |        |   |                              |   |        |      |  |   |        |   |  |   |        |  
|Basic and diluted weighted average number of common shares outstanding |  |                                | 13,985 |   |                              |   | 13,916 |      |  |   | 13,975 |   |  |   | 13,913 |  
|                                                                       |  |                                |        |   |                              |   |        |      |  |   |        |   |  |   |        |  



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



2



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Urologix, Inc.

Condensed Statements of Cash Flows

(In thousands)

(Unaudited)



|                                                                             |  |                               |      |   |      |    |        |  
|---------------------------------------------------------------------------- |  | ----------------------------- | ---- | - | ---- | -- | ------ | -
|                                                                             |  | Six Months Ended December 31, |     
|                                                                             |  | 2003                          |      |   | 2002 |   
|Operating Activities:                                                        |  |                               |      |   |      |    |        |  
|Net loss                                                                     |  | ($                            | 697  | ) |      | ($ | 4,240  | )
|Adjustments to reconcile net loss to net cash used for operating activities: |  |                               |      |   |      |    |        |  
|Depreciation and amortization                                                |  |                               | 819  |   |      |    | 905    |  
|Provision for bad debts                                                      |  |                               | 47   |   |      |    | 49     |  
|Change in operating items:                                                   |  |                               |      |   |      |    |        |  
|Accounts receivable                                                          |  |                               | (138 | ) |      |    | 1,609  |  
|Inventories                                                                  |  |                               | 223  |   |      |    | (3,497 | )
|Prepaids and other assets                                                    |  |                               | 455  |   |      |    | 265    |  
|Accounts payable                                                             |  |                               | (295 | ) |      |    | 613    |  
|Accrued expenses and deferred income                                         |  |                               | (435 | ) |      |    | (312   | )
|                                                                             |  |                               |      |   |      |    |        |  
|Net cash used for operating activities                                       |  |                               | (21  | ) |      |    | (4,608 | )
|                                                                             |  |                               |      |   |      |    |        |  
|Investing Activities:                                                        |  |                               |      |   |      |    |        |  
|Purchase of property and equipment, net                                      |  |                               | (43  | ) |      |    | (177   | )
|Proceeds from sale of available-for-sale investments, net                    |  |                               | 782  |   |      |    | 3,653  |  
|                                                                             |  |                               |      |   |      |    |        |  
|Net cash provided by investing activities                                    |  |                               | 739  |   |      |    | 3,476  |  
|                                                                             |  |                               |      |   |      |    |        |  
|Financing Activities:                                                        |  |                               |      |   |      |    |        |  
|Payments made on capital lease obligations                                   |  |                               | (296 | ) |      |    | (243   | )
|Payments made on term debt                                                   |  |                               | (410 | ) |      |    |       |  
|Proceeds from exercise of stock options                                      |  |                               | 146  |   |      |    | 55     |  
|                                                                             |  |                               |      |   |      |    |        |  
|Net cash used for financing activities                                       |  |                               | (560 | ) |      |    | (188   | )
|                                                                             |  |                               |      |   |      |    |        |  
|Net increase (decrease) in cash and cash equivalents                         |  |                               | 158  |   |      |    | (1,320 | )
|Cash and cash equivalents:                                                   |  |                               |      |   |      |    |        |  
|Beginning of period                                                          |  |                               | 727  |   |      |    | 1,604  |  
|                                                                             |  |                               |      |   |      |    |        |  
|End of period                                                                |  | $                             | 885  |   |      | $  | 284    |  
|                                                                             |  |                               |      |   |      |    |        |  
|Supplemental cash-flow information                                           |  |                               |      |   |      |    |        |  
|Cash paid during the period for interest                                     |  | $                             | 156  |   |      | $  | 78     |  
|Net transfer of inventory to / (from) property and equipment                 |  | $                             | (114 | ) |      | $  | 1,016  |  



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



3



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Urologix, Inc.

Notes to Condensed Financial Statements

December 31, 2003

(Unaudited)



|1. | Basis of presentation
|-- | ---------------------



The accompanying unaudited condensed financial statements of Urologix, Inc. (the Company or Urologix) 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 balance sheet as of December 31, 2003, the statements of operations for the
three and six months ended December 31, 2003 and 2002, and the statements of cash flows for the six months ended December 31, 2003 and 2002, are unaudited but include all adjustments (consisting of normal recurring adjustments) necessary for a fair
presentation of the financial position at such dates and the operating results and cash flows for those periods. Certain information normally included in financial statements and related footnotes prepared in accordance with generally accepted
accounting principles has been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission. The accompanying financial statements should be read in conjunction with the financial statements and notes included
in Urologix Annual Report on Form 10-K for the year ended June 30, 2003.



Results for any interim period shown in this report are not necessarily indicative of results to be expected for any other interim period or for the entire year. Certain prior year amounts have been reclassified to
conform to current year presentation.



|2. | New Accounting Pronouncement
|-- | ----------------------------



In December 2002, the Emerging Issues Task Force (EITF) issued EITF 00-21, Revenue Arrangements with Multiple Deliverables. EITF 00-21
addresses certain aspects of the accounting by a vendor for arrangements under which it will perform multiple revenue-generating activities. In some arrangements, the different revenue-generating activities (deliverables) are sufficiently separable,
and there exists sufficient evidence of their fair values to separately account for some or all of the deliverables (that is, there are separate units of accounting). In other arrangements, some or all of the deliverables are not independently
functional, or there is not sufficient evidence of their fair values to account for them separately. EITF 00-21 addresses when and, if so, how an arrangement involving multiple deliverables should be divided into separate units of accounting. EITF
00-21 does not change otherwise applicable revenue recognition criteria. We adopted EITF 00-21 effective July 1, 2003, and it did not have an impact on our revenue recognition policy.



|3. | Use of Estimates
|-- | ----------------



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



4



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Urologix, Inc.

Notes to Condensed Financial Statements

December 31, 2003

(Unaudited)



|4. | Basic and diluted net loss per share
|-- | ------------------------------------



Basic and diluted net loss per common share was computed by dividing the net loss by the weighted average number of shares of common stock outstanding
during the periods presented. The following table summarizes the common stock equivalents that result from stock options and were excluded from the calculation of diluted earnings per share as the effect would be antidilutive.



|                   |  |                  |  |                 
|------------------ |  | ---------------- |  | ----------------
|                   |  | December 31,2003 |  | December 31,2002
|Three Months Ended |  | 436,884          |  | 45,720          
|Six Months Ended   |  | 277,639          |  | 162,163         



|5. | Inventories
|-- | -----------



Inventories consisted of the following as of (in thousands):



|                  |  |                  |       |              |   |      
|----------------- |  | ---------------- | ----- | ------------ | - | -----
|                  |  | December 31,2003 |       | June 30,2003
|Raw materials     |  | $                | 1,689 |              | $ | 1,335
|Work in process   |  |                  | 413   |              |   | 508  
|Finished goods    |  |                  | 682   |              |   | 1,050
|                  |  |                  |       |              |   |      
|Total inventories |  | $                | 2,784 |              | $ | 2,893
|                  |  |                  |       |              |   |      



|6. | Other intangible assets
|-- | -----------------------



Other intangible assets consist of developed technologies, customer base and trademarks. Developed technologies and customer base are amortized using the
straight-line method over their estimated useful lives of 15 and 14 years, respectively. The trademark asset is considered to be an intangible with an indefinite useful life, and it will not be amortized until its useful life is determined to be no
longer indefinite. Amortization of intangible assets was $166,000 and $332,000 for the three month and six month periods ended December 31, 2003. Future annual amortization expense for acquired intangible assets is expected to be approximately
$664,000 for each of the next five fiscal years.



5



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Urologix, Inc.

Notes to Condensed Financial Statements

December 31, 2003

(Unaudited)



Balances of acquired intangible assets were as follows (in thousands):



|                                         |  |                         |        |                         |   |       |  |   |       
|---------------------------------------- |  | ----------------------- | ------ | ----------------------- | - | ----- |  | - | ------
|                                         |  | As of December 31, 2003
|                                         |  | CarryingAmount          |        | AccumulatedAmortization |   | Net  
|Amortizing intangibles:                  |  |                         |        |                         |   |       |  |   |       
|Developed technologies                   |  | $                       | 7,500  |                         | $ | 1,625 |  | $ | 5,875 
|Customer base                            |  |                         | 2,300  |                         |   | 534   |  |   | 1,766 
|                                         |  |                         |        |                         |   |       |  |   |       
|Subtotal                                 |  |                         | 9,800  |                         |   | 2,159 |  |   | 7,641 
|Non-amortizing intangibles and goodwill: |  |                         |        |                         |   |       |  |   |       
|Goodwill                                 |  |                         | 10,716 |                         |   | 523   |  |   | 10,193
|Trademarks                               |  |                         | 1,200  |                         |   | 60    |  |   | 1,140 
|                                         |  |                         |        |                         |   |       |  |   |       
|Subtotal                                 |  |                         | 11,916 |                         |   | 583   |  |   | 11,333
|                                         |  |                         |        |                         |   |       |  |   |       
|Total acquired intangible assets         |  | $                       | 21,716 |                         | $ | 2,742 |  | $ | 18,974
|                                         |  |                         |        |                         |   |       |  |   |       



|7. | Comprehensive Loss
|-- | ------------------



Comprehensive loss includes all changes in equity during a period except those resulting from investments by and distributions to shareholders. Our
comprehensive loss is as follows (in thousands):



|                                                                |  |                               |      |   |                             |   |        |      |  |   |      |   |  |   |        |  
|--------------------------------------------------------------- |  | ----------------------------- | ---- | - | --------------------------- | - | ------ | ---- |  | - | ---- | - |  | - | ------ | -
|                                                                |  | Three MonthsendedDecember 31, |      |   | Six MonthsendedDecember 31, |  
|                                                                |  | 2003                          |      |   | 2002                        |   |        | 2003 |  |   | 2002 |  
|Net loss                                                        |  | $                             | (207 | ) |                             | $ | (2,490 | )    |  | $ | (697 | ) |  | $ | (4,240 | )
|Change in net unrealized gains on available-for-sale securities |  |                               | (17  | ) |                             |   | (18    | )    |  |   | (46  | ) |  |   | 48     |  
|                                                                |  |                               |      |   |                             |   |        |      |  |   |      |   |  |   |        |  
|Comprehensive loss                                              |  | $                             | (224 | ) |                             | $ | (2,508 | )    |  | $ | (743 | ) |  | $ | (4,192 | )
|                                                                |  |                               |      |   |                             |   |        |      |  |   |      |   |  |   |        |  



6



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Urologix, Inc.

Notes to Condensed Financial Statements

December 31, 2003

(Unaudited)



|8. | Warranty
|-- | --------



Some of our products are covered by warranties against defects in material and workmanship for periods of up to twenty-four months. We record a liability
for warranty claims at the time of sale. The amount of the liability is based on the trend in the historical ratio of product failure rates, material usage and service delivery costs to sales, the historical length of time between the sale and
resulting warranty claim and other factors.



Warranty provisions and claims for
the six month periods ended December 31, 2003 and 2002 were as follows (in thousands):



|     |  |                             |     |                     |   |                 |  |    |                               |   |  |   |    
|---- |  | --------------------------- | --- | ------------------- | - | --------------- |  | -- | ----------------------------- | - |  | - | ---
|     |  | Beginning Balance at July 1 |     | Warranty Provisions |   | Warranty Claims |  |    | Ending Balance at December 31
|2003 |  | $                           | 159 |                     | $ | 127             |  | ($ | 72                            | ) |  | $ | 214
|2002 |  | $                           | 203 |                     | $ | 93              |  | ($ | 124                           | ) |  | $ | 172



|9. | Stock-Based Compensation
|-- | ------------------------



We account for stock-based employee compensation arrangements in accordance with the provisions and related interpretations of Accounting Principles Board
Opinion 25, Accounting for Stock Issued to Employees and elected to follow the disclosure only alternative prescribed by SFAS 123, Accounting for Stock-Based Compensation.



Had compensation cost for stock-based compensation been determined consistent
with SFAS 123, the net loss and loss per share would have been increased to the following pro-forma amounts (in thousands, except per share data):



|                                                                                          |  |                                 |       |   |                               |   |        |      |  |   |        |   |  |   |        |  
|----------------------------------------------------------------------------------------- |  | ------------------------------- | ----- | - | ----------------------------- | - | ------ | ---- |  | - | ------ | - |  | - | ------ | -
|                                                                                          |  |                                 |      
|                                                                                          |  | Three months ended December 31, |       |   | Six months ended December 31, |  
|                                                                                          |  | 2003                            |       |   | 2002                          |   |        | 2003 |  |   | 2002   |  
|Net loss, as reported                                                                     |  | $                               | (207  | ) |                               | $ | (2,490 | )    |  | $ | (697   | ) |  | $ | (4,240 | )
|Total stock-based employee compensation expense determined under fair value based methods |  |                                 | (655  | ) |                               |   | (705   | )    |  |   | (1,293 | ) |  |   | (1,365 | )
|                                                                                          |  |                                 |       |   |                               |   |        |      |  |   |        |   |  |   |        |  
|Pro forma net loss                                                                        |  | $                               | (862  | ) |                               | $ | (3,195 | )    |  | $ | (1,990 | ) |  | $ | (5,605 | )
|                                                                                          |  |                                 |       |   |                               |   |        |      |  |   |        |   |  |   |        |  
|Net loss per share:                                                                       |  |                                 |       |   |                               |   |        |      |  |   |        |   |  |   |        |  
|                                                                                          |  |                                 |       |  
|Basic and dilutedas reported                                                             |  | $                               | (0.01 | ) |                               | $ | (0.18  | )    |  | $ | (0.05  | ) |  | $ | (0.30  | )
|                                                                                          |  |                                 |       |   |                               |   |        |      |  |   |        |   |  |   |        |  
|Basic and dilutedpro forma                                                               |  | $                               | (0.06 | ) |                               | $ | (0.23  | )    |  | $ | (0.14  | ) |  | $ | (0.40  | )
|                                                                                          |  |                                 |       |   |                               |   |        |      |  |   |        |   |  |   |        |  



7



---

Urologix, Inc.

Notes to Condensed Financial Statements

December 31, 2003

(Unaudited)



|10. | Restructuring Expense
|--- | ---------------------



In May 2003, we announced plans for an organizational restructuring which eliminated 28 positions within the Company and also resulted in our vacating a
portion of our leased facility. All of the targeted headcount reductions were completed by June 2003, and we reached an agreement to sublet the vacated space beginning in the second quarter of fiscal 2004. During the second quarter of fiscal 2004,
our severance obligations were reduced by approximately $175,000 and as such, an adjustment to the restructuring liability was recorded. As of December 31, 2003, all salary related severance obligations have been paid and the remaining severance
liability relates primarily to outplacement and benefit related expenses. All of the remaining severance obligations will be paid prior to the conclusion of fiscal 2004. The lease term on the vacated space currently runs through fiscal 2008.



Restructuring expense activity for six month period ended
December 31, 2003 was as follows (in thousands):



|                               |  |           |      |   |       |   |     |       |  |   |      |  
|------------------------------ |  | --------- | ---- | - | ----- | - | --- | ----- |  | - | ---- | -
|                               |  | Severance |      |   | Lease |   |     | Total | 
|Beginning balance              |  | $         | 636  |   |       | $ | 264 |       |  | $ | 900  |  
|Expense accruals / (reversals) |  |           | (175 | ) |       |   |    |       |  |   | (175 | )
|Cash payments                  |  |           | (426 | ) |       |   | (72 | )     |  |   | (498 | )
|                               |  |           |      |   |       |   |     |       |  |   |      |  
|Ending balance                 |  | $         | 35   |   |       | $ | 192 |       |  | $ | 227  |  
|                               |  |           |      |   |       |   |     |       |  |   |      |  



|11. | Legal Proceedings
|--- | -----------------



Our business exposes us to product liability claims that are inherent in the testing, production, marketing and sale of medical devices. Management
believes any losses that may occur from these matters are adequately covered by insurance, and the ultimate outcome of these matters will not have a material effect on the financial position or results of operations of the Company. In addition, the
Company recently settled the litigation described below.



Urologix v.
ProstaLund AB et al.



In March 2002, we filed a patent
infringement action against ProstaLund AB, ProstaLund Operations AB, and Circon Corporation a/k/a ACMI Corporation in the United States District Court for the Eastern District of Wisconsin (and by a later amended complaint) alleging that the
defendants products infringed two United States Patents that were assigned to us: U.S. Patent No. 5,234,004 (004 Patent) and U.S. Patent No. 5,509,929 (929 Patent). The defendants counterclaimed, alleging that they did
not infringe our patents and that our patents were invalid.



In
October 2002, the Court determined that the 004 patent was not entitled to the benefit of an earlier filing date of the patent application and as a result was invalid (October 2002 Order). In November 2002, in response to our
request, the United States Patent and Trademark Office (PTO) issued an office action granting Urologix the benefit of an earlier filing date of a patent application relating to the 004 patent. In light of the PTO office action, we
filed a motion with the Court requesting that the Court vacate the October 2002 Order. In April 2003, the Court denied our motion to vacate the October 2002 Order (April 2003 order).



8



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On January 27, 2004, we entered into a settlement agreement relating to this litigation. Under the terms
of the settlement, the parties will dismiss all pending legal claims against each other and we granted ProstaLund a non-exclusive, royalty-free license under the 004 patent, the 929 patent and U.S. Patent No. 5,480,417 to sell the
ProstaLund transurethral microwave thermotherapy system marketed in the United States by ACMI Corporation as the CoreTherm®device. ProstaLund and ACMI Corporation also agreed to consent to a motion by us to vacate the October 2002 Order and the April 2003 Order, both of which are interlocutory Orders as to which no final
judgment has been entered.



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|ITEM 2. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|------- | -------------------------------------------------------------------------------------



The following is a discussion and analysis of Urologix financial condition and results of operations for the three and
six month periods ended December 31, 2003 and 2002. This section should be read in conjunction with the condensed financial statements and related notes in Item 1 of this report and Urologix Annual Report on Form 10-K for the year ended June
30, 2003, which has been filed with the Securities and Exchange Commission.



Cautionary Note Regarding Forward-Looking Statements



This Managements Discussion and Analysis of Financial Condition and Results of Operations contain, in addition to historical information, forward-looking statements that are based on our current expectations,
beliefs, intentions or future strategies. These statements are subject to risks and uncertainties that could cause actual results to differ materially from the statements, including the extent to which the physicians performing Cooled ThermoTherapy
procedures are able to obtain third-party reimbursement, changes in the reimbursement environment, market acceptance and the rate of adoption of Cooled ThermoTherapy for the treatment of benign prostatic hyperplasia (BPH) by the medical community, our ability to successfully protect
our intellectual property rights, the ability of our key suppliers to provide product, the impact of competitive treatments, products and pricing, and the effectiveness of our sales and marketing organization. We caution readers not to place undue
reliance on any of these forward-looking statements, which speak only as of the date made. A detailed discussion of risks and uncertainties may be found below in Factors That May Affect Our Future Results and The Trading Price of Our Common
Stock and in our Annual Report on Form 10-K for the year ended June 30, 2003.



OVERVIEW



Urologix,
Inc., based in Minneapolis, develops, manufactures and markets minimally invasive medical products for the treatment of urological disorders.



We have developed and offer non-surgical, catheter-based therapies that use a proprietary cooled microwave technology for the treatment of BPH, a disease
that dramatically affects more than 23 million men worldwide by causing adverse changes in urinary voiding patterns. We market our products under the Targis® and Prostatron® names. Both systems utilize Cooled ThermoTherapy, a targeted microwave energy combined with a unique cooling mechanism that protects healthy tissue and
enhances patient comfort while providing safe, effective, lasting relief from the symptoms of BPH. Cooled ThermoTherapy can be performed without anesthesia or intravenous sedation and, as a result, can be performed in a physicians office or an
outpatient clinic. We believe Cooled ThermoTherapy provides an efficacious, safe and cost-effective solution for BPH that is superior to medication without the complications and side effects inherent in surgical procedures.



We believe that third-party reimbursement is essential to the acceptance of
Cooled ThermoTherapy, and that clinical efficacy, overall cost effectiveness and physician advocacy will be keys to obtaining this reimbursement. We estimate that 60% to 80% of patients who receive Cooled ThermoTherapy treatment in the United States
will be eligible for Medicare coverage. The remaining patients will either be covered by private insurers, including traditional indemnity health insurers and managed care organizations, or they will be private-paying patients. As a result, Medicare
reimbursement is particularly critical for widespread market acceptance of Cooled ThermoTherapy in the United States.



The level of Medicare reimbursement for Cooled ThermoTherapy is dependent on the site of service. Beginning on August 1, 2000, the Centers for Medicare
and Medicaid Services (CMS) replaced the reasonable cost basis of reimbursement for outpatient hospital-based procedures, including Cooled ThermoTherapy, with a new fixed rate or prospective payment system. Under this method of reimbursement, a
hospital receives a fixed reimbursement for each Cooled ThermoTherapy treatment performed in its facility, although the rate varies depending on a wage index and other factors for each hospital. The urologist performing the Cooled ThermoTherapy
treatment in the hospital continues to be reimbursed approximately $500 per procedure.



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In January 2001, CMS began to reimburse for Cooled ThermoTherapy treatments performed in the
urologists office. The average reimbursement rate (inclusive of the physicians fee) for Cooled ThermoTherapy procedures performed in the urologists office was approximately $2,700 in calendar year 2003 and approximately $4,000 in
calendar year 2004, subject to geographic adjustment.



Our goal
is to grow Cooled ThermoTherapy as a standard of care for the treatment of BPH. Our business strategy to achieve this goal is to (i) increase the use of Cooled ThermoTherapy by physicians who already have access to a Cooled ThermoTherapy system,
(ii) satisfy additional demand for Cooled ThermoTherapy through the efficient use of our installed base of Cooled ThermoTherapy control units and (iii) increase market awareness of Cooled ThermoTherapy.



Our revenues are primarily generated through the sale of our disposable
treatment catheters, and to a lesser extent, sales of our Cooled ThermoTherapy system control units. We believe that continued growth in revenue from the sale of our disposable treatment catheters will be key to eventually achieving profitability
and generating positive cash flow.



We may continue to incur
operating losses as we focus on growing our revenues, developing new products expanding our product platform, and continuing clinical trials in support of regulatory approvals. Our future profitability will be dependent upon, among other factors,
our success in achieving increased treatment volume and market acceptance of the Cooled ThermoTherapy procedures in the physicians office, our success in obtaining and maintaining necessary regulatory clearances, our ability to manufacture at
the volumes and quantities the market requires, the extent to which Medicare and other health care payers continue to reimburse costs of Cooled ThermoTherapy procedures performed in hospitals, ambulatory surgery centers and physicians offices
and the amount of reimbursement provided.



We expect total
fiscal year 2004 revenues to be in the range of $22.0 million to $23.0 million, a 17% to 22% increase over fiscal 2003 results. We expect net loss per share for fiscal 2004 to be in the range of $0.03 to $0.07 per share.



Critical Accounting Policies:



In accordance with Securities and Exchange Commission guidance, we set forth
below those material accounting policies that we believe are the most critical to an investors understanding of our financial statements, financial results and condition, and require complex management judgment.



Revenue Recognition



We recognize revenue from the sale of Cooled ThermoTherapy system control
units upon delivery to the customer. We recognize revenue from disposable product sales at the time of shipment. In addition to our sales of Cooled ThermoTherapy system control units, we place our Cooled ThermoTherapy system control units with
customers under a variety of programs for both evaluation and long-term use. We retain title to these control units and do not recognize any revenue on these control units until title has transferred. These programs are designed to provide access to
our technology, and thus expand the market for our disposable catheters. Under these programs, we generally charge a higher price for each disposable procedure kit to include the use of our Cooled ThermoTherapy system control unit by the customer.
We recognize revenue on these disposable procedure kits at the time of shipment. Revenue for warranty service contracts is deferred and recognized over the contract period. We record a provision for estimated sales returns on product sales in the
same period as the related revenue is recorded. The provision for estimated sales returns is based on historical sales returns, analysis of credit memo data and other known factors. If the historical data we used to calculate these estimates does
not properly reflect future returns, our revenues could be overstated.



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Allowance for Doubtful Accounts



We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make
required payments. This allowance is an estimate and is regularly evaluated by us for adequacy by taking into consideration factors such as past experience, credit quality of the customer base, age of the receivable balances, both individually and
in the aggregate, and current economic conditions that may affect a customers ability to pay. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances
may be required.



Product Warranty



We record a liability for warranty claims at the time of sale. The amount of
the liability is based on the trend in the historical ratio of product failure rates, material usage and service delivery costs to sales, the historical length of time between the sale and resulting warranty claim and other factors. If actual
product failure rates, material usage or repair costs differ from our estimates, we may be required to make revisions to the estimated warranty liability.



Inventories and Related Allowance for Excess and Obsolete Inventory



We value our inventories, consisting primarily of control units, disposable single-use procedure kits, and raw materials to
produce the control units and procedure kits, at the lower of cost or market value on the first-in, first-out (FIFO) basis. The inventory cost includes both merchandise and our incoming freight costs. We perform a periodic review of the
inventory quantities on hand to determine if the inventory is properly stated at the lower of cost or market. In performing this analysis we consider, at a minimum, the following factors: declines in average selling prices, reimbursement changes,
and changes in demand for our products due to competitive conditions or market acceptance. Each type of inventory is analyzed to determine net realizable values. If required after our analysis, we record a provision to reduce the cost of inventories
to the estimated net realizable values.



We also analyze the
level of inventory on hand on a periodic basis, in relation to estimated customer requirements to determine whether write-downs for excess, obsolete, or slow-moving inventory are required. Any significant or unanticipated change in the factors noted
above could have a significant impact on the value of our inventories and on our reported operating results.



Valuation of Long-Lived and Intangible Assets and Goodwill



In fiscal 2002, we adopted Statement of Financial Accounting Standards (SFAS) 142, Goodwill and Other Intangible Assets, and as a result, we
have ceased to amortize approximately $10.2 million of goodwill and $1.1 million of trademarks. Goodwill and trademarks are tested for impairment annually, or more frequently if changes in circumstance or the occurrence of events suggests an
impairment exists. The test for impairment requires us to make several estimates about fair value, most of which are based on projected future cash flows. Our estimates associated with the impairment tests are considered critical, due to the amount
of goodwill and trademarks recorded on our balance sheet and the judgment required in determining fair value amounts, including projected future cash flows.



Other intangible assets consist of developed technologies, customer base and trademarks. Developed technologies and customer base are amortized using the
straight-line method over their estimated useful lives of 15 and 14 years, respectively. The trademark asset is considered to be an intangible asset with an indefinite useful life, and it will not be amortized until its useful life is determined to
be no longer indefinite. We review the definite lived intangible assets for impairment as changes in circumstance or the occurrence of events suggests the remaining value is not recoverable.



12



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RESULTS OF OPERATIONS



Net Sales



Net sales increased to $5.6 million and $10.7 million for the three and six month periods ended December 31, 2003, respectively, from $4.6 million and
$9.0 million during the same periods in the prior fiscal year. The increase in revenue in both the three and six month periods ended December 31, 2003 was attributable to an increase in the number of disposable procedure kits sold, partially offset
by a decrease in revenue from the sale of our Cooled ThermoTherapy system control units. The decrease in control unit revenue for the first six months of fiscal 2004 was caused primarily by a decrease in the average per unit selling price of these
systems. Sales of disposable procedure kits accounted for 93% of total revenue in the three month period ended December 31, 2003, compared to 84% in the same period in fiscal 2003. For the first six months of fiscal 2004, disposable procedure kits
accounted for 93% of total revenue compared to 86% in the first six months of fiscal 2003. At December 31, 2003, we had an installed base of 398 Cooled ThermoTherapy system control units, including the units that are being used by customers pursuant
to our evaluation and long-term use programs, compared to 337 control units at December 31, 2002.



Cost of Goods Sold and Gross Profit



Cost of goods sold includes raw materials, labor, overhead and royalties incurred in connection with the production of our Cooled ThermoTherapy system control units and disposable procedure kits. Cost of goods sold
for the three and six month periods ended December 31, 2003 increased to $2.1 million and $4.0 million respectively, from $1.9 million and $3.4 million for the three and six month periods ended December 31, 2002. The increase in cost of goods sold
for the three month period ended December 31, 2003 compared to the prior year period, resulted primarily from a higher volume of disposable procedure kits sold partially offset by lower disposable per unit manufacturing costs. For the six month
period ended December 31, 2003, cost of goods increased compared to the prior year period primarily due to an increase in the number of procedure kits sold as well as a first quarter $160,000 charge to cost of goods for a commitment to purchase
additional control unit inventory at prices which exceed the expected future sales value. Delivery of these control units will occur in the second half of fiscal 2004.



Gross profit as a percentage of sales for the three-month period ended December 31, 2003 increased to 63% compared to 60% in
the three-month period ended December 31, 2002. The increase resulted primarily from the increased mix of disposable procedure kit revenue partially offset by a decrease in the average per unit selling price of Cooled ThermoTherapy system control
units. For the six month period ended December 31, 2003 gross profit as a percentage of sales decreased to 62%, from 63% in the same period of the prior fiscal year. The decrease resulted primarily from the drop in the average per unit selling price
of our Cooled ThermoTherapy system control units and the $160,000 charge for the commitment to purchase additional control unit inventory, partially offset by the increased mix of procedure kit revenue.



Selling, General & Administrative



Selling, general and administrative expenses decreased to $3.1 million and
$6.0 million for the three and six month periods ended December 31, 2003, respectively, from $4.1 million and $7.8 million in the same periods of fiscal year 2003. The decreased expenses in both the three and six month periods are primarily
attributable to the organizational restructuring and workforce reduction that occurred in the fourth fiscal quarter of 2003, and a reduction in legal expenses related to the patent infringement suit we filed to protect our intellectual property. As
discussed in Part II. Other Information  Item 1. Legal Proceedings of this Quarterly Report on Form 10-Q, in January 2004 we reached a settlement in the patent infringement suit, and as a result of the settlement, we expect litigation related
expenses for the six month period ending June 30, 2004 to be less than the comparable period in the prior fiscal year.



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Research and Development



Research and development expenses, which include expenditures for product development, regulatory compliance and clinical
studies, decreased to $631,000 and $1.2 million from $963,000 and $1.9 million for three and six month periods ended December 31, 2003 and 2002, respectively. The decrease in expenses in both periods resulted primarily from the organizational
restructuring and workforce reduction that occurred in the fourth fiscal quarter of 2003, and decreased expenditures on product development activities and clinical trial expenses. We expect research and development expenses for the second half of
fiscal 2004 to be consistent with expense levels for the first half of fiscal 2004.



Amortization of Intangible Assets



Amortization of intangible assets was $166,000 and $332,000 for both the three and six month periods ended December 31, 2003 and 2002, respectively. The amortization of intangible assets is a result of the purchase of the Prostatron Cooled
ThermoTherapy product line from EDAP in October 2000.



Restructuring
Expense (Benefit)



In May 2003, we announced plans for
an organizational restructuring which eliminated 28 positions within the Company and also resulted in our vacating a portion of our leased facility. During the fourth quarter of fiscal 2003 we recorded a $1.3 million restructuring charge to cover
the expenses associated with these items. All of the targeted headcount reductions were completed by June 2003, and we reached an agreement to sublet the vacated space beginning in the second quarter of fiscal 2004.



During the three month period ended December 31, 2003, we recorded a $175,000
restructuring benefit, which resulted from a reduction in our severance obligations related to the May 2003 workforce reduction. As of December 31, 2003, all salary related severance obligations have been paid and the remaining severance liability
relates primarily to outplacement and benefit related expenses. All of the remaining severance obligations will be paid prior to the conclusion of fiscal 2004. The lease term on the vacated space currently runs through fiscal 2008.



Net Interest Income



Net interest income decreased to $7,000 and $13,000 for the three and six
month periods ended December 31, 2003 from $40,000 and $111,000 during the same periods of the prior fiscal year. The decrease is primarily attributable to lower interest income due to lower cash and investment balances, partially offset by lower
interest expense.



LIQUIDITY AND CAPITAL RESOURCES



We have financed our operations since inception through sales of equity
securities and, to a lesser extent, sales of our Cooled ThermoTherapy system control units and single-use treatment catheters. As of December 31, 2003, we had total cash, cash equivalents and available-for-sale investments of $3.9 million and
working capital of $4.0 million.



During the six months
ended December 31, 2003, we used $21,000 of cash in operating activities. This cash usage resulted primarily from our net loss of $697,000 combined with a $295,000 reduction in accounts payable and a $435,000 reduction in accrued expenses and
deferred income, partially offset by depreciation and amortization of $819,000 and reductions to prepaids and other assets and inventory of $455,000 and $223,000, respectively. The reduction in accounts payable is primarily due to payments to our
attorneys for previously incurred expenses associated with the patent litigation. The change in accrued expenses and deferred income is primarily due to payments of severance and lease obligations associated with the May 2003 restructuring and a
$175,000 adjustment to the restructuring reserve combined with a reduction in deferred income, partially offset by an increase in accrued compensation. Approximately $630,000 of the accrued compensation will be paid during the third quarter of
fiscal 2004. The reduction in prepaids and other assets resulted primarily from the elimination of a down-payment made in the fourth quarter of fiscal 2003 for inventory that was delivered in the first quarter of fiscal 2004, and the expensing of
royalties and insurance premiums which were paid in prior periods. Inventory balances decreased in the first six months of fiscal 2004 primarily due to sales of Cooled ThermoTherapy system control units and a resulting reduction in the number of
control units in finished goods at December 31, 2003.



14



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We generated $739,000 from investing activities, resulting from the net sale of $782,000 of
available-for-sale investments partially offset by the purchase of $43,000 of property and equipment. We do not expect to make significant capital expenditures during the remainder of fiscal 2004.



We used $560,000 in financing activities as a result of a $410,000 debt
payment to EDAP TMS S.A. (EDAP) and $296,000 of payments on capital lease obligations, partially offset by $146,000 generated from the exercise of stock options. On December 30, 2003, a final payment of $705,000, including accrued interest, was due
to EDAP under a promissory note dated October 1, 2000 in the original principal amount of $575,000 issued to EDAP by us pursuant to an Asset Purchase Agreement dated the same date (the Note). Pursuant to the terms of the Note, on
December 30, 2003 we paid EDAP $130,000 of accrued interest, $410,000 of principal, and offset $165,000 which we are reserving for future anticipated product claims.



We may continue to incur additional losses. We plan to continue offering customers a variety of programs for both evaluation
and long-term use of our Cooled ThermoTherapy system control units in addition to purchase options. As of December 31, 2003 our Property and Equipment, net, included approximately $2.6 million of control units used in evaluation or long-term use
programs. Depending on the growth of these programs, we may use additional capital to finance the units used by these customers.



We believe the completed restructuring and cost reduction initiative will enable us to reduce our annual operating expenses by approximately 25% from
fiscal 2003 levels, while we focus on increasing sales and providing high quality support to our customers. Our total costs and expenses decreased 27% from $10.0 million in the six months ended December 31, 2002 to $7.3 million in the six months
ended December 31, 2003 as a result of restructuring and cost reduction measures that we implemented. Third party financing may also present opportunities for us to finance the equipment used by our customers under evaluation and long-term use
programs.



Based upon these factors, as well as our financial
performance for the first six months of fiscal year 2004, we believe our $3.9 million in cash, cash equivalents, and available-for-sale investments at December 31, 2003, together with the funds generated from product sales, will be sufficient to
fund our working capital and capital resource needs for the next 12 months. There can be no assurance, however, that we will not require additional financing in the future or that any additional financing will be available to us on satisfactory
terms, if at all.



15



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FACTORS THAT MAY AFFECT OUR FUTURE RESULTS AND THE TRADING PRICE OF OUR COMMON STOCK



The risks and uncertainties described below are not the only ones we face.
Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also affect our operations. The occurrence of any of the following risks could harm our business. In that case, the trading price of our common
stock could decline, and investors may lose all or part of their investment.



We have a limited operating history and may continue to generate losses.



We have incurred substantial losses since our inception and, if physicians do not purchase and use our Cooled ThermoTherapy systems to treat patients with
BPH, we may never achieve or maintain profitable operation. We incurred a net loss of $697,000 for the six months ended December 31, 2003, and have incurred losses of more than $80 million since our inception. We may continue to incur operating
losses in the near future as we continue to invest in sales and marketing activities to increase sales and fund research and development activities. We will need to increase the revenues we receive from sales of our products as a result of these
operating expenses. Even if we do achieve profitability, we cannot be certain that we will be able to sustain or increase profitability on a quarterly or annual basis or that our profits will be significant enough to enable us to implement all
aspects of our business plan to take advantage of business opportunities.



We have limited cash resources and may not have additional financing available to us.



We used approximately $21,000 of cash and cash equivalents on operating activities in the six month period ended December 31, 2003 and ended that period
with approximately $3.9 million of cash, cash equivalents, and available-for-sale investments. In the fourth quarter of fiscal 2003, we implemented a restructuring and cost reduction initiative that eliminated 28 positions and vacated a portion of
our leased facility that we have sublet. We believe that these actions will result in a reduction of annual operating expenses of approximately 25% from fiscal 2003 levels. Our total costs and expenses decreased 27% from $10.0 million in the six
months ended December 31, 2002 to $7.3 million in the six months ended December 31, 2003 as a result of the restructuring and cost reduction measures that we implemented. Although we may continue to use existing cash resources to fund our operations
in the near future, we believe these actions will reduce the amount of cash used. As a result, we believe our $3.9 million in cash, cash equivalents, and available-for-sale investments, together with the funds generated from product sales, will be
sufficient to fund our working capital and capital resources needs for the next 12 months. There can be no assurance, however, that we will not require additional financing in the future or that any additional financing will be available to us on
satisfactory terms, if at all.



Our products may not achieve market
acceptance, which could limit our future revenue.



Physicians will not recommend Cooled ThermoTherapy procedures unless they conclude, based on clinical data and other factors, that it is an effective alternative to other methods of enlarged prostate treatment, including more established
methods. Patient acceptance of the procedure will depend in part upon physician recommendations and on other factors, including the degree of invasiveness and the rate and severity of complications associated with the Cooled ThermoTherapy procedure
compared with other therapies. Patient acceptance of the Cooled ThermoTherapy procedure also will depend upon the ability of physicians to educate these patients on their treatment choices. Health care payer acceptance of our procedure will require,
among other things, evidence of the clinical and cost effectiveness of Cooled ThermoTherapy compared to other BPH therapies. Our marketing strategy must overcome the difficulties inherent in the introduction of new technology to the medical
community. If our Cooled ThermoTherapy procedure is not accepted by physicians, patients or payers, or is accepted more slowly than expected, we may never operate profitably.



16



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Third- party reimbursement is critical to market acceptance of our products.



Our future revenues are subject to uncertainties regarding health care
reimbursement and reform. In the United States, health care providers, such as hospitals and physicians, generally rely on third-party payers.



Third-party reimbursement is dependent upon decisions by the Centers for Medicare and Medicaid Services (CMS), contract Medicare carriers, individual
managed care organizations, private insurers, foreign governmental health programs and other payers of health care cost. Failure to receive or maintain favorable coding, coverage and reimbursement determinations for Cooled ThermoTherapy by these
organizations could discourage physicians from using our products. We may be unable to sell our products on a profitable basis if third-party payers deny coverage, provide low reimbursement rates or reduce their current levels of reimbursement.



The continuing efforts of government, insurance companies,
health maintenance organizations and other payers of health care costs to contain or reduce costs of health care may affect our future revenues and profitability. With recent federal and state government initiatives directed at lowering the total
cost of health care, the United States Congress and state legislatures will likely continue to focus on health care reform including the reform of Medicare and Medicaid systems, and on the cost of medical products and services. Additionally,
third-party payers are increasingly challenging the prices charged for medical products and services. Also, the trend toward managed health care in the United States and the concurrent growth of organizations such as HMOs that could control or
significantly influence the purchase of health care services and products, as well as legislative proposals to reform health care or reduce government insurance programs, may also result in lower prices for, or rejection of, our products. The cost
containment measures that health care payers and providers are instituting and the effect of any health care reform could cause reductions in the amount of reimbursement available, and could have a materially adverse affect on our revenues and
ability to operate profitably.



We are faced with intense competition and
rapid technological and industry change.



The medical
device industry is characterized by rapid technological change, changing customer needs and frequent new product introductions. Our products may be rendered obsolete as a result of future innovations. We face intense competition from other device
manufacturers and surgical manufacturers, as well as from pharmaceutical companies. Many of our competitors are significantly larger than we are and have greater financial, technical, research, marketing, sales, distribution and other resources than
we do. We have experienced intense price competition over the past several years which resulted in a significant decrease in the average per unit sales price of our control units. We believe that this price competition will continue among products
developed in our markets and that the average per unit sales price of our control units could decline further. Our competitors may develop or market technologies and products, including drug-based treatments that are more effective or commercially
attractive than any we are developing or marketing. Our competitors may succeed in obtaining regulatory approval and introducing or commercializing products before we do. Such developments could have a significant negative effect on our financial
condition. Even if we are able to compete successfully, we may not be able to do so in a profitable manner.



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We are dependent on adequate protection of our patent and proprietary rights.



We rely on patents, trade secrets, trademarks, copyrights, know-how, license
agreements and contractual provisions to establish and protect our intellectual property rights. However, these legal means afford us only limited protection and may not adequately protect our rights or remedies to gain or keep any advantages we may
have over our competitors.



In March 2002, we filed a patent
infringement action against ProstaLund AB, ProstaLund Operations AB, and Circon Corporation a/k/a ACMI Corporation in the United States District Court for the Eastern District of Wisconsin. This litigation has been settled and we have granted
ProstaLund and ACMI Corporation a non-exclusive, royalty free license under certain of our patents to sell the ProstaLunds transurethral microwave thermotherapy system marketed in the United States by ACMI Corporation as the
CoreTherm®device. See Part II. Other Information  Item 1. Legal Proceedings, for a
description of the settlement.



Additional litigation against
other parties may be necessary in the future to enforce our intellectual property rights, to protect our patents and trade secrets, and to determine the validity and scope of our proprietary rights. Future litigation may require us to incur
substantial litigation expense and may divert substantial time and attention of our personnel. The occurrence of this litigation or the effect of an adverse determination on similar future litigation could have a material adverse effect on our
business, financial condition and results of operations.



Furthermore, we cannot ensure that others have not developed or will not develop similar products or manufacturing processes, duplicate any of our products or manufacturing processes, or design around any of our patents.



We depend upon our Cooled ThermoTherapy systems for all of our revenues.



All of our revenues are derived from sales of our
Cooled ThermoTherapy system control units and single-use disposable treatment catheters. As a result, our success is solely dependent upon the success of our Cooled ThermoTherapy systems. To date, our Cooled ThermoTherapy systems have not received
widespread market acceptance. If we are unable to commercialize the use of these systems successfully, our business, financial condition and results of operations will be materially and adversely affected.



We have limited manufacturing experience and are dependent upon a limited number of
third-party suppliers to manufacture our products.



We
have previously contracted with third parties for the production of the Prostatron product line and the Targis control unit pursuant to written supply agreements. Our supply agreement for the production of the Prostatron control unit with EDAP ended
on October 1, 2003. At this time, we do not have plans to enter into another supply agreement for the manufacture of Prostatron control units, as we believe our current inventory of Prostatron control units combined with Company owned control units
located at customer sites and current purchase commitments with EDAP will adequately support future customer requirements. If, for any reason, customer demand exceeds our current projections, we could experience significant delays and expend
significant resources in obtaining a new supply agreement with EDAP or another manufacturer. If, for any reason, any of our third-party manufacturers are unable or unwilling to manufacture the products for us in the future, we could incur
significant delays in obtaining a substitute contract manufacturer. Also, we purchase additional components used in our products from various suppliers and rely on single sources for several components. One such component is obtained from a source
that has a patent for the technology. Delays could be caused if supply of this component or other components were interrupted. These delays could be extended in certain situations in which a substitute contract manufacturer or a component
substitution would require approval by the FDA of a PMA supplement. The termination or interruption of any of these relationships, or the failure of these manufacturers or suppliers to supply products or components to us on a timely basis or in
sufficient quantities, likely would cause us to be unable to meet customer orders for our products and harm our business.



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We produce the disposable treatment catheters for the Targis system and in January 2004 we began
manufacturing the Targis system control unit. We have limited experience in rapidly scaling up production. Manufacturers often encounter difficulties in scaling up production of new products, including problems involving production yields, product
recalls, quality control and assurance, component supply and lack of qualified personnel.



If we or any of our third-party manufacturers or suppliers experience production problems, we may not be able to locate an alternate manufacturer promptly. Identifying and qualifying alternative suppliers of
components takes time and involves significant additional costs and may delay the production of our products. The FDA requires us to identify any supplier we use. The FDA may require additional testing of any component from new suppliers prior to
our use of these components. The termination of our relationships with these single source suppliers or the failure of these parties to supply us with the components on a timely basis and in sufficient quantities likely would cause us to be unable
to meet customer orders for our products in a timely manner or within our budget and harm our business.



We are dependent on distributors for international sales.



To date, a majority of our revenues outside the United States have been derived from sales through third-party distributors. For the six month period
ended December 31, 2003, international revenue declined 17% from the same period in the prior fiscal year and represented 3% of total revenue. We expect a similar reduction in international revenue in the second half of fiscal year 2004 as we
continue to focus our resources on building the United States market. Although we will continue to sell internationally through distributors, the failure of our distributors to market our products in the international markets effectively or our
failure to locate and establish relationships with reputable distributors could have an adverse effect on our ability to achieve penetration of these markets and establish long-term acceptance of Cooled ThermoTherapy.



We are dependent on key personnel.



Failure to attract and retain skilled personnel could hinder our research
and development as well as our sales and marketing efforts. Our future success depends to a significant degree upon the continued services of key technical and senior management personnel, including Fred B. Parks, our Chairman of the Board and Chief
Executive Officer. We have an employment agreement with Mr. Parks that provides that Mr. Parks will serve as our Chairman and Chief Executive Officer and that either party may terminate Mr. Parks employment at any time with or without cause.
If we terminate Mr. Parks employment without cause, however, we would be required to make specified payments to him as described in his employment agreement. We do not have key person life insurance on Mr. Parks. Our future success also
depends on our continuing ability to attract, retain and motivate highly qualified managerial, technical and sales personnel. Our inability to retain or attract qualified personnel could have a significant negative effect and thereby materially harm
our business and financial condition.



Government regulation can have a
significant impact on our business.



Government
regulation in the United States and other countries is a significant factor affecting the research and development, manufacture and marketing of our products. In the United States, the FDA has broad authority under the federal Food, Drug and
Cosmetic Act and the Public Health Service Act to regulate the distribution, manufacture and sale of medical devices. Sales of drugs and medical devices outside the United States are subject to government regulation and restrictions that vary from
country to country. The process of obtaining FDA and other required regulatory approvals is lengthy and expensive.



We may not be able to obtain necessary approvals for clinical testing or for the manufacturing or marketing of our products in the United States or in
other countries. Failure to comply with applicable regulatory approvals can, among other things, result in fines, suspension of regulatory approvals, product recalls, operating restrictions and criminal prosecution. In addition, government
regulations may be established that could prevent, delay, modify or rescind regulatory approval of our products. Any such position or change of position by the FDA may adversely impact our business and financial condition. Regulatory approvals, if
granted, may include significant limitations on the indicated uses for which our products may be marketed in the United States or in other countries. In addition to obtaining such approvals, the FDA and foreign regulatory authorities may impose
numerous other requirements on us. The FDA prohibits the marketing of approved medical devices for unapproved uses. In addition, product approvals can be withdrawn for failure to comply with regulatory standards or the occurrence of unforeseen
problems following



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initial marketing. We may not be able to obtain regulatory approvals for our products on a timely basis, or at all, and delays in receipt of or failure to
receive such approvals, the loss of previously obtained approvals, or failure to comply with existing or future regulatory requirements would have a significant negative effect on our financial condition. In addition, the health care industry in the
United States is generally subject to fundamental change due to regulatory, as well as political, influences. We anticipate that Congress and state legislatures will continue to review and assess alternative health care delivery and payment systems.
Potential approaches that have been considered include controls on health care spending through limitations on the growth of private purchasing groups and price controls. We cannot predict what impact the adoption of any federal or state health care
reform measures may have on our business.



We, as well as our
distributors and health care providers who purchase our products and services, are subject to state and federal laws prohibiting kickbacks or other forms of bribery in the health care industry. We may be subject to civil and criminal prosecution and
penalties if we or our agents violate any of these laws.



We may be
required to pay damages that exceed our insurance coverage for product liability claims.



Our business exposes us to potential product liability claims that are inherent in the testing, production, marketing and sale of medical devices. While
we believe that we are reasonably insured against these risks, we may not be able to obtain insurance in amounts or scope sufficient to provide us with adequate coverage against all potential liabilities. Currently, we maintain product liability
insurance in amounts we deem to be reasonable. A product liability claim in excess of our insurance coverage would have to be paid out of cash reserves and would harm our reputation in the industry and our business.



Our products may be subject to problems or product recalls even after receiving FDA
clearance or approval, which could harm our reputation and our business.



The FDA and similar governmental authorities in other countries in which our products are sold, have the authority to request and, in some cases, require the recall of our products in the event of material
deficiencies or defects in design or manufacture. A government-mandated or voluntary recall by us could occur as a result of component failures, manufacturing errors or design defects. Any significant product recall could divert managerial and
financial resources and harm our reputation with our customers and our business.



In December 2003, we determined that a component of one of our Cooled ThermoTherapy systems may not perform properly under certain conditions. We advised our customers who are using the affected systems of an
appropriate product protocol to follow pending our implementation of a software solution that will resolve the performance issue. We will submit for FDA approval, the software update addressing the problem and expect the solution will be fully
implemented by the end of March 2004.



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Fluctuations in our future operating results may negatively affect the market price of our common stock.



Our operating results have fluctuated in the past and
can be expected to fluctuate from time to time in the future. Some of the factors that may cause these fluctuations include but are not limited to:



| |  | the timing, volume and pricing of customer orders for both equipment and single-use treatment catheters,
| | - | --------------------------------------------------------------------------------------------------------



| |  | costs and expenses related to our effort to protect intellectual property,
| | - | --------------------------------------------------------------------------



| |  | the timing of expenditures related to sales and marketing, and research and development, and
| | - | --------------------------------------------------------------------------------------------



| |  | product availability.
| | - | ---------------------



If our operating results are below the expectations of securities analysts or investors, the market price of our common stock may fall abruptly and
significantly.



Our business is exposed to risks related to acquisitions
and mergers.



As part of our strategy to commercialize
our products, we may acquire one or more businesses. On October 1, 2000, we purchased the Transurethral Microwave ThermoTherapy (TUMT® or Cooled ThermoTherapy) product line and related patents and technologies from EDAP. We may not be able to integrate our business effectively with any
other business we may acquire. The failure to integrate an acquired company or acquired assets into our operations may cause a drain on our financial and managerial resources, and thereby have a significant negative effect on our business and
financial results.



These difficulties could disrupt our
ongoing business, distract our management and employees or increase our expenses. Furthermore, any physical expansion in facilities due to an acquisition may result in disruptions that seriously impair our business. We are not experienced in
managing facilities or operations in geographically distant areas. In addition, our profitability may suffer because of acquisition-related costs, amortization costs, and potential impairment of acquired goodwill and other intangible assets.
Finally, in connection with any future acquisitions, we may incur debt or issue equity securities as part or all of the consideration for the acquired companys assets or capital stock. We may be unable to obtain sufficient additional financing
on favorable terms or at all. Equity issuances would be dilutive to our existing shareholders.



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Our stock price may be volatile and a shareholders investment could decline in value.



Our stock price has fluctuated in the past and may continue to fluctuate
significantly, making it difficult for an investor to resell shares or to resell shares at an attractive price. The market prices for securities of emerging companies have historically been highly volatile. Future events concerning us or our
competitors could cause such volatility, including:



| |  | actual or anticipated variations in our operating results,
| | - | ----------------------------------------------------------



| |  | developments regarding government and third-party reimbursement,
| | - | ----------------------------------------------------------------



| |  | changes in government regulation,
| | - | ---------------------------------



| |  | government investigation of us or our products,
| | - | -----------------------------------------------



| |  | changes in reimbursement rates or methods affecting our products,
| | - | -----------------------------------------------------------------



| |  | developments concerning proprietary rights,
| | - | -------------------------------------------



| |  | litigation or public concern as to the safety of our products or our competitors products,
| | - | -------------------------------------------------------------------------------------------



| |  | technological innovations or new commercial products by us or our competitors,
| | - | ------------------------------------------------------------------------------



| |  | investor perception of us and our industry
| | - | ------------------------------------------



| |  | general economic and market conditions including market uncertainty,
| | - | --------------------------------------------------------------------



| |  | national or global political events, and
| | - | ----------------------------------------



| |  | public confidence in the securities markets and regulation by or of the securities markets.
| | - | -------------------------------------------------------------------------------------------



In addition, the stock market is subject to price and volume fluctuations that affect the market prices for companies in
general, and small-capitalization, high-technology companies in particular, which are often unrelated to the operating performance of these companies. Any failure by us to meet or exceed estimates of financial analysts is likely to cause a decline
in our common stock price.



Future sales of shares of our common stock
may negatively affect our stock price.



Future sales
of our common stock, including shares issued upon the exercise of outstanding options or hedging or other derivative transactions with respect to our stock, could have a significant negative effect on the market price of our common stock. These
sales also might make it more difficult for us to sell equity securities or equity-related securities in the future at a time and price that we would deem appropriate.



Anti-takeover provisions in our articles of incorporation may have a possible negative effect on our stock price.



Certain provisions of our articles of incorporation and bylaws may make
it more difficult for a third party to acquire, or discourage a third party from attempting to acquire, control of us. We have in place several anti-takeover measures that could discourage or prevent a takeover, even if an acquisition would be
beneficial to our shareholders. Our stock option plans contain provisions that allow for the acceleration of vesting or payments of awards granted under the plans in the event of specified events that result in a change in control. In
addition, we have adopted a shareholder rights plan that would cause substantial dilution to any person or group attempting to acquire our company on terms not approved in advance by our board of directors.



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|ITEM 3. | QUALITATIVE AND QUANTITATIVE DISCLOSURE ABOUT MARKET RISK
|------- | ---------------------------------------------------------



Our financial instruments include cash and cash equivalents and investment securities. The fair value of our financial investment portfolio at December
31, 2003, approximated carrying value. Increases and decreases in prevailing interest rates generally translate into decreases and increases in the fair value of these instruments. Also, fair values of interest rate sensitive instruments may be
affected by the credit worthiness of the issuer, prepayment options, relative values of alternative instruments, the liquidity of the instrument and other general market conditions.



Market risk was estimated as the potential decrease in fair value resulting from a hypothetical 1% change in interest rates
for the issues contained in the investment portfolio and was not materially different from the December 31, 2003 carrying value. Due to the nature of our short-term investments, we have concluded that we do not have a material market risk
exposure.



Our policy is not to enter into derivative
financial instruments. We do not have any significant foreign currency exposure since we do not generally transact business in foreign currencies. Therefore, we do not have significant overall currency exposure. In addition, we do not enter into any
futures or forward contracts and, therefore, do not have significant market risk exposure with respect to commodity prices.



|ITEM 4. | CONTROLS AND PROCEDURES
|------- | -----------------------



(a) Evaluation of Disclosure Controls and Procedures.



The Companys Chief Executive Officer, Fred B. Parks, and Vice President and Chief Financial Officer, Todd E. Paulson, have evaluated the
Companys disclosure controls and procedures as of the end of the period covered by this report. Based upon this review, these officers believe that the Companys disclosure controls and procedures are effective in ensuring that material
information related to the Company is made known to them by others within the Company.



(b) Changes in Internal Controls.



There were no
significant changes in internal control over financial reporting that occurred during the fiscal quarter covered by this report that have materially affected, or are reasonably likely to materially affect, the Companys internal control over
financial reporting.



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PART II - OTHER INFORMATION



|ITEM 1. | LEGAL PROCEEDINGS
|------- | -----------------



Our business exposes us to product liability claims that are inherent in the testing, production, marketing and sale of medical devices. Management
believes any losses that may occur from these matters are adequately covered by insurance, and the ultimate outcome of these matters will not have a material effect on the financial position or results of operations of the Company. In addition, the
Company recently settled the litigation described below.



Urologix v.
ProstaLund AB et al.



In March 2002, we filed a patent
infringement action against ProstaLund AB, ProstaLund Operations AB, and Circon Corporation a/k/a ACMI Corporation in the United States District Court for the Eastern District of Wisconsin (and by a later amended complaint) alleging that the
defendants products infringed two United States Patents that were assigned to us: U.S. Patent No. 5,234,004 (004 Patent) and U.S. Patent No. 5,509,929 (929 Patent). The defendants counterclaimed, alleging that they did
not infringe our patents and that our patents were invalid.



In
October 2002, the Court determined that the 004 patent was not entitled to the benefit of an earlier filing date of the patent application and as a result was invalid (October 2002 Order). In November 2002, in response to our
request, the United States Patent and Trademark Office (PTO) issued an office action granting Urologix the benefit of an earlier filing date of a patent application relating to the 004 patent. In light of the PTO office action, we
filed a motion with the Court requesting that the Court vacate the October 2002 Order. In April 2003, the Court denied our motion to vacate the October 2002 Order (April 2003 Order).



On January 27, 2004, we entered into a settlement agreement relating to this
litigation. Under the terms of the settlement, the parties will dismiss all pending legal claims against each other and we granted ProstaLund a non-exclusive, royalty-free license under the 004 patent, the 929 patent and U.S. Patent No.
5,480,417 to sell the ProstaLund transurethral microwave thermotherapy system marketed in the United States by ACMI Corporation as the CoreTherm®
device. ProstaLund and ACMI Corporation also agreed to consent to a motion by us to vacate the October 2002 Order and the April 2003 Order, both of which are interlocutory Orders as to which no final judgment has been entered.



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|ITEM 6. | EXHIBITS AND REPORTS ON FORM 8-K
|------- | --------------------------------



| | (a) | Exhibits
| | --- | --------



|     |  |                                                                                                                                                   
|---- |  | --------------------------------------------------------------------------------------------------------------------------------------------------
|31.1 |  | Certifications of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Rules 13a-14 and 15d-14 of the Exchange Act).
|     | 
|31.2 |  | Certifications of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Rules 13a-14 and 15d-14 of the Exchange Act).
|     | 
|32   |  | Certifications pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. §1350).                                                       



| | (b) | Report on Form 8-K
| | --- | ------------------



On November 12, 2003, the Company filed a Current Report on Form 8-K dated November 11, 2003 reporting, under Items 9 and 12, the disclosure of certain
information presented at its Annual Meeting of Shareholders and attaching as an exhibit a press release at Item 7.



On October 23, 2003, the Company furnished a Current Report on Form 8-K dated October 23, 2003 reporting, under Item 12, the disclosure of information
regarding its results of operations for its quarter ended September 30, 2003 and attaching as an exhibit a press release at Item 7.



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SIGNATURES



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



Date February 17, 2004



UROLOGIX, INC./s/ Fred B. Parks.Fred B. Parks Chairman and Chief Executive Officer (Principal Executive Officer)




/s/ Todd E. PaulsonTodd E. Paulson Vice President and Chief Financial Officer (Principal Financial Officer)




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