##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 FORM 10-Q
 (Mark One)
 þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 For the quarterly period ended
September 30, 2007
 or
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 For the transition period from  to
 Commission File No. 001-31744
 MENTOR CORPORATION
  Minnesota
(State or other jurisdiction of 
incorporation or organization)
    
    41-0950791
(IRS Employer Identification No.)
 201 Mentor Drive, Santa Barbara, California 93111
 (805) 879-6000
 þ o
 þ o o
 o þ




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##### 



MENTOR CORPORATION
 INDEX
 Part I. Financial InformationItem 1.
    
    Consolidated Financial Statements:Consolidated Balance Sheets (unaudited)  September 30, 2007 and March 31, 2007Consolidated Statements of Income (unaudited)  Three Months Ended September 30, 2007 and 2006Consolidated Statements of Income (unaudited)  Six Months Ended September 30, 2007 and 2006Consolidated Statements of Cash Flows (unaudited)  Six Months Ended September 30, 2007 and 2006Notes to Consolidated Financial Statements  September 30, 2007Item 2.
    
    Management's Discussion and Analysis of Financial Condition and Results of OperationsItem 3.
    
    Quantitative and Qualitative Disclosures About Market RiskItem 4.
    
    Controls and ProceduresPart II. Other InformationItem 1.
    
    Legal ProceedingsItem 1A.
    
    Risk FactorsItem 2.
    
    Unregistered Sales of Equity Securities and Use of ProceedsItem 3.
    
    Defaults Upon Senior SecuritiesItem 4.
    
    Submission of Matters to a Vote of Security HoldersItem 5.
    
    Other InformationItem 6.
    
    ExhibitsExhibit 10.1Exhibit 31.1Exhibit 31.2Exhibit 32.1Exhibit 32.2
   2




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##### Table of Contents



PART I  FINANCIAL INFORMATION
 
 Item 1. Consolidated Financial Statements
 
 
 September 30,
    
    
    March 31,(in thousands)
    
    2007
    
    
    2007AssetsCurrent assets:Cash and cash equivalents
    
    $
    62,213
    
    
    $
    371,525Marketable securities
    
    
    39,627
    
    
    
    116,215Accounts receivable, net
    
    
    71,304
    
    
    
    65,419Inventories
    
    
    46,576
    
    
    
    38,073Deferred income taxes
    
    
    30,421
    
    
    
    25,892Prepaid income taxes
    
    
    11,426
    
    
    
    13,495Prepaid expenses and other
    
    
    9,021
    
    
    
    6,761Total current assets
    
    
    270,588
    
    
    
    637,380Property and equipment, net
    
    
    44,216
    
    
    
    34,683Intangible assets, net
    
    
    33,711
    
    
    
    15,963Goodwill, net
    
    
    44,596
    
    
    
    12,644Other assets
    
    
    4,727
    
    
    
    9,098Total assets
    
    $
    397,838
    
    
    $
    709,768
   3




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##### Table of Contents



September 30,
    
    
    March 31,(in thousands, except share data)
    
    2007
    
    
    2007Liabilities and shareholders equityCurrent liabilities:Accounts payable and accrued liabilities
    
    $
    39,400
    
    
    $
    32,147Sales returns
    
    
    16,006
    
    
    
    18,590Accrued compensation
    
    
    15,405
    
    
    
    14,022Deferred revenue
    
    
    12,591
    
    
    
    11,863Dividends payable
    
    
    6,785
    
    
    
    8,481Product liability reserves
    
    
    7,091
    
    
    
    6,555Short-term debt
    
    
    1,052
    
    
    
    Warranty reserve
    
    
    2,257
    
    
    
    2,989Interest payable
    
    
    1,031
    
    
    
    1,031Accrued royalties
    
    
    216
    
    
    
    230Other
    
    
    14,397
    
    
    
    16,823Total current liabilities
    
    
    116,231
    
    
    
    112,731Long-term accrued liabilities
    
    
    14,415
    
    
    
    12,169Convertible subordinated notes
    
    
    150,000
    
    
    
    150,000Other long-term debt
    
    
    2,857
    
    
    
    Commitments and contingenciesShareholders equity:Common stock, $.10 par value:Authorized  150,000,000 shares; issued and outstanding
33,926,548 shares at September 30, 2007;
42,400,483 shares at March 31, 2007;
    
    
    3,393
    
    
    
    4,240Accumulated other comprehensive income
    
    
    19,236
    
    
    
    11,342Retained earnings
    
    
    91,706
    
    
    
    419,286Total shareholders equity
    
    
    114,335
    
    
    
    434,868Total liabilities and shareholders equity
    
    $
    397,838
    
    
    $
    709,768
   4




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##### Table of Contents



(in thousands, except per share data)
    
    2007
    
    
    2006Net sales
    
    $
    85,390
    
    
    $
    66,908Cost of sales
    
    
    25,480
    
    
    
    18,521Gross profit
    
    
    59,910
    
    
    
    48,387Selling, general, and administrative
    
    
    33,397
    
    
    
    28,725Research and development
    
    
    12,203
    
    
    
    8,99345,600
    
    
    
    37,718Operating income from continuing operations
    
    
    14,310
    
    
    
    10,669Interest expense
    
    
    (1,447
    )
    
    
    (1,649
    )Interest income
    
    
    1,373
    
    
    
    6,823Other income (expense), net
    
    
    (675
    )
    
    
    237Income from continuing operations before income taxes
    
    
    13,561
    
    
    
    16,080Income taxes
    
    
    3,532
    
    
    
    5,257Income from continuing operations
    
    
    10,029
    
    
    
    10,823Loss from discontinued operations, net of tax benefit of ($25) and ($575),
respectively
    
    
    (46
    )
    
    
    (922
    )Loss on sale of discontinued operations, net of taxes of ($26) and ($116)
    
    
    (65
    )
    
    
    (180
    )Net income
    
    $
    9,918
    
    
    $
    9,721Basic earnings (loss) per shareContinuing operations
    
    $
    0.29
    
    
    $
    0.26Discontinued operations
    
    
    
    
    
    
    (0.03
    )Basic earnings per share
    
    
    0.29
    
    
    
    0.24Diluted earnings (loss) per shareContinuing operations
    
    $
    0.27
    
    
    $
    0.24Discontinued operations
    
    
    
    
    
    
    (0.03
    )Diluted earnings per share
    
    
    0.26
    
    
    
    0.22Dividends per share
    
    $
    0.20
    
    
    $
    0.18Weighted average shares outstandingBasic
    
    
    34,044
    
    
    
    41,360Diluted
    
    
    40,683
    
    
    
    48,546
   5




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(in thousands, except per share data)
    
    2007
    
    
    2006Net sales
    
    $
    180,954
    
    
    $
    146,345Cost of sales
    
    
    46,704
    
    
    
    40,566Gross profit
    
    
    134,250
    
    
    
    105,779Selling, general, and administrative
    
    
    69,442
    
    
    
    58,436Research and development
    
    
    22,517
    
    
    
    16,87491,959
    
    
    
    75,310Operating income from continuing operations
    
    
    42,291
    
    
    
    30,469Interest expense
    
    
    (2,911
    )
    
    
    (3,281
    )Interest income
    
    
    6,147
    
    
    
    9,887Other income (expense), net
    
    
    (969
    )
    
    
    775Income from continuing operations before income taxes
    
    
    44,558
    
    
    
    37,850Income taxes
    
    
    12,785
    
    
    
    11,353Income from continuing operations
    
    
    31,773
    
    
    
    26,497Income (loss) from discontinued operations, net of tax (benefit) expense of
($58) and $3,356, respectively
    
    
    (105
    )
    
    
    2,444Gain (loss) on sale of discontinued operations, net of
taxes of ($5) and $138,355
    
    
    (12
    )
    
    
    222,182Net income
    
    $
    31,656
    
    
    $
    251,123Basic earnings per shareContinuing operations
    
    $
    0.85
    
    
    $
    0.63Discontinued operations
    
    
    
    
    
    
    5.36Basic earnings per share
    
    
    0.85
    
    
    
    6.00Diluted earnings per shareContinuing operations
    
    $
    0.76
    
    
    $
    0.58Discontinued operations
    
    
    
    
    
    
    4.60Diluted earnings per share
    
    
    0.76
    
    
    
    5.18Dividends per share
    
    $
    0.40
    
    
    $
    0.36Weighted average shares outstandingBasic
    
    
    37,237
    
    
    
    41,883Diluted
    
    
    43,803
    
    
    
    48,824
   6




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(in thousands)
    
    2007
    
    
    2006Operating Activities:Income from continuing operations
    
    $
    31,773
    
    
    $
    26,497Adjustments to derive cash flows from continuing operating activities:Depreciation
    
    
    3,822
    
    
    
    3,740Amortization
    
    
    2,326
    
    
    
    1,189Deferred income taxes
    
    
    (3,705
    )
    
    
    4,272Non-cash compensation
    
    
    5,877
    
    
    
    5,182Tax benefit from exercise of stock options
    
    
    1,949
    
    
    
    7,345Excess tax benefits from equity compensation
    
    
    (407
    )
    
    
    Loss on sale of assets
    
    
    26
    
    
    
    83Loss (gain) on long-term marketable securities, net
    
    
    (14
    )
    
    
    101Cash provided by (used in) changes in operating assets and liabilities:Accounts receivable
    
    
    (1,719
    )
    
    
    4,484Inventories
    
    
    2,498
    
    
    
    1,193Other current assets
    
    
    (604
    )
    
    
    53Accounts payable and accrued liabilities
    
    
    2,417
    
    
    
    5,982Income taxes payable
    
    
    
    
    
    
    (5,323
    )Net cash provided by continuing operating activities
    
    
    44,239
    
    
    
    54,798Net cash used for discontinued operating activities
    
    
    (117
    )
    
    
    (66,354
    )Net cash provided by (used for) operating activities
    
    
    44,122
    
    
    
    (11,556
    )Investing Activities:Purchases of property and equipment
    
    
    (7,715
    )
    
    
    (2,588
    )Purchases of intangibles
    
    
    
    
    
    
    (3,505
    )Purchases of marketable securities
    
    
    (36,165
    )
    
    
    (35,336
    )Sales of marketable securities
    
    
    112,260
    
    
    
    26,779Acquisition, net of cash acquired
    
    
    (53,407
    )
    
    
    Proceeds from the sale of the urology business
    
    
    
    
    
    
    458,066Other, net
    
    
    
    
    
    
    3Net cash provided by continuing investing activities
    
    
    14,973
    
    
    
    443,419Net cash used for discontinued investing activities
    
    
    
    
    
    
    (50
    )Net cash provided by investing activities
    
    
    14,973
    
    
    
    443,369Financing Activities:Repurchase of common stock
    
    
    (357,771
    )
    
    
    (84,000
    )Proceeds from exercise of stock options and ESPP
    
    
    4,162
    
    
    
    15,996Excess tax benefits from equity compensation
    
    
    407
    
    
    
    Dividends paid
    
    
    (15,995
    )
    
    
    (15,241
    )Repayments under line of credit agreements
    
    
    (188
    )
    
    
    (9,000
    )Net cash used for continuing financing activities
    
    
    (369,385
    )
    
    
    (92,245
    )Net cash used for financing activities
    
    
    (369,385
    )
    
    
    (92,245
    )Effect of currency exchange rates of continuing operations
    
    
    978
    
    
    
    7Effect of currency exchange rates of discontinued operations
    
    
    
    
    
    
    (120
    )(Decrease) increase in cash and cash equivalents
    
    
    (309,312
    )
    
    
    339,455Cash and cash equivalents at beginning of year
    
    
    371,525
    
    
    
    98,713Cash and cash equivalents at end of period
    
    $
    62,213
    
    
    $
    438,168
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##### Table of Contents



MENTOR CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2007
 Note A  Business Activity
  Note B  Summary of Significant Accounting Policies
   Basis of Presentation
  Use of Estimates
  Revenue Recognition
   8




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Warranty Reserves
  Product Liability Reserves
  Employee Stock-Based Payments
    9




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Effects of Recent Accounting Pronouncements
      10




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Note C  Interim Reporting
 st
 Fiscal 2008
    
    Fiscal 2007First Quarter
    
    June 29, 2007
    
    June 30, 2006Second Quarter
    
    September 28, 2007
    
    September 29, 2006Third Quarter
    
    December 28, 2007
    
    December 29, 2006
    Note D  Cash Equivalents, Marketable Securities, and Long-Term Marketable Securities and
Investments
    11




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##### Table of Contents



Gross
    
    
    Gross
    
    
    EstimatedAdjusted
    
    
    Unrealized
    
    
    Unrealized
    
    
    Fair(in thousands)
    
    Cost
    
    
    Gains
    
    
    Losses
    
    
    ValueCash balances
    
    $
    54,276
    
    
    $
    
    
    
    $
    
    
    
    $
    54,276Money market funds
    
    
    7,937
    
    
    
    
    
    
    
    
    
    
    
    7,937U.S. Government and agency obligations
    
    
    25,012
    
    
    
    22
    
    
    
    
    
    
    
    25,034State and Municipal agency obligations
    
    
    14,311
    
    
    
    1
    
    
    
    (1
    )
    
    
    14,311Corporate debt securities
    
    
    282
    
    
    
    
    
    
    
    
    
    
    
    282Total available-for-sale investments
    
    $
    101,818
    
    
    $
    23
    
    
    $
    (1
    )
    
    $
    101,840Included in cash and cash equivalents
    
    $
    62,213
    
    
    $
    
    
    
    $
    
    
    
    $
    62,213Included in current marketable securities
    
    
    39,605
    
    
    
    23
    
    
    
    (1
    )
    
    
    39,627Total available-for-sale investments
    
    $
    101,818
    
    
    $
    23
    
    
    $
    (1
    )
    
    $
    101,840
  Gross
    
    
    Gross
    
    
    EstimatedAdjusted
    
    
    Unrealized
    
    
    Unrealized
    
    
    Fair(in thousands)
    
    Cost
    
    
    Gains
    
    
    Losses
    
    
    ValueCash balances
    
    $
    146,552
    
    
    $
    
    
    
    $
    
    
    
    $
    146,552Money market funds
    
    
    224,973
    
    
    
    
    
    
    
    
    
    
    
    224,973U.S. Government and agency obligations
    
    
    23,923
    
    
    
    34
    
    
    
    (3
    )
    
    
    23,954State and Municipal agency obligations
    
    
    92,261
    
    
    
    1
    
    
    
    (1
    )
    
    
    92,261Total available-for-sale investments
    
    $
    487,709
    
    
    $
    35
    
    
    $
    (4
    )
    
    $
    487,740Included in cash and cash equivalents
    
    $
    371,525
    
    
    $
    
    
    
    $
    
    
    
    $
    371,525Included in current marketable securities
    
    
    116,184
    
    
    
    35
    
    
    
    (4
    )
    
    
    116,215Total available-for-sale investments
    
    $
    487,709
    
    
    $
    35
    
    
    $
    (4
    )
    
    $
    487,740
  Fair Values of Financial Instruments
  Note E  Inventories
   12




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(in thousands)
    
    September 30
    
    
    March 31Raw materials
    
    $
    7,229
    
    
    $
    5,924Work in process
    
    
    6,822
    
    
    
    4,961Finished goods on consignment
    
    
    16,102
    
    
    
    13,402Finished goods
    
    
    16,423
    
    
    
    13,786$
    46,576
    
    
    $
    38,073
 Note F  Property and Equipment
   (in thousands)
    
    September 30
    
    
    March 31Land
    
    $
    186
    
    
    $
    55Buildings
    
    
    12,477
    
    
    
    10,853Leasehold improvements
    
    
    23,628
    
    
    
    23,099Furniture, fixtures and equipment
    
    
    64,468
    
    
    
    59,708Construction in progress
    
    
    10,946
    
    
    
    4,217111,705
    
    
    
    97,932Less accumulated depreciation and amortization
    
    
    (67,489
    )
    
    
    (63,249
    )$
    44,216
    
    
    $
    34,683
 Note G  Product Warranties
   13




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Six Months EndedSeptember 30,(in thousands)
    
    2007
    
    
    2006Beginning warranty reserves
    
    $
    14,307
    
    
    $
    13,603Costs of warranty claims
    
    
    (1,338
    )
    
    
    (1,756
    )Accruals for product warranties
    
    
    2,122
    
    
    
    2,635Adjustments made to accruals related to pre-existing warranties
    
    
    (3,166
    )
    
    
    Ending warranty reserves
    
    $
    11,925
    
    
    $
    14,482
  Note H  Comprehensive Income
   Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,(in thousands)
    
    2007
    
    
    2006
    
    
    2007
    
    
    2006Net income
    
    $
    9,918
    
    
    $
    9,721
    
    
    $
    31,656
    
    
    $
    251,123Foreign currency translation adjustment
    
    
    6,234
    
    
    
    622
    
    
    
    7,908
    
    
    
    (8,146
    )Unrealized (gains) losses on marketable
securities and investment activities, net
    
    
    26
    
    
    
    40
    
    
    
    (14
    )
    
    
    101Comprehensive income
    
    $
    16,178
    
    
    $
    10,383
    
    
    $
    39,550
    
    
    $
    243,078
 Note I  Income Taxes
   14




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Note J  Earnings per Share
  Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,(in thousands)
    
    2007
    
    
    2006
    
    
    2007
    
    
    2006Net income from continuing operations: as reported
    
    $
    10,029
    
    
    $
    10,823
    
    
    $
    31,773
    
    
    $
    26,497Add back after tax interest expense on convertible notes
    
    
    802
    
    
    
    802
    
    
    
    1,604
    
    
    
    1,604Net income from continuing operations for numerator of
diluted earnings per share
    
    $
    10,831
    
    
    $
    11,625
    
    
    $
    33,377
    
    
    $
    28,101
 Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,(in thousands)
    
    2007
    
    
    2006
    
    
    2007
    
    
    2006Net income (loss) from discontinued operations
    
    $
    (111
    )
    
    $
    (1,102
    )
    
    $
    (117
    )
    
    $
    224,626Net income: as reported
    
    
    9,918
    
    
    
    9,721
    
    
    
    31,656
    
    
    
    251,123Add back after tax interest expense on convertible notes
    
    
    802
    
    
    
    802
    
    
    
    1,604
    
    
    
    1,604Net income for numerator of diluted earnings per share
    
    $
    10,720
    
    
    $
    10,523
    
    
    $
    33,260
    
    
    $
    252,727
 Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,(in thousands, except per share data)
    
    2007
    
    
    2006
    
    
    2007
    
    
    2006Weighted average outstanding shares: basic
    
    
    34,044
    
    
    
    41,360
    
    
    
    37,237
    
    
    
    41,883Restricted grants
    
    
    292
    
    
    
    153
    
    
    
    289
    
    
    
    76Shares issuable through exercise of stock options
    
    
    659
    
    
    
    1,114
    
    
    
    669
    
    
    
    1,163Shares issuable through convertible notes
    
    
    5,170
    
    
    
    5,150
    
    
    
    5,167
    
    
    
    5,148Shares issuable through warrants
    
    
    518
    
    
    
    769
    
    
    
    441
    
    
    
    554Weighted average outstanding shares: diluted
    
    
    40,683
    
    
    
    48,546
    
    
    
    43,803
    
    
    
    48,824Basic earnings (loss) per shareContinuing operations
    
    $
    0.29
    
    
    $
    0.26
    
    
    $
    0.85
    
    
    $
    0.63Discontinued operations
    
    $
    
    
    
    $
    (0.03
    )
    
    $
    
    
    
    $
    5.36Basic earnings per share
    
    $
    0.29
    
    
    $
    0.24
    
    
    $
    0.85
    
    
    $
    6.00Diluted earnings (loss) per shareContinuing operations
    
    $
    0.27
    
    
    $
    0.24
    
    
    $
    0.76
    
    
    $
    0.58Discontinued operations
    
    $
    
    
    
    $
    (0.03
    )
    
    $
    
    
    
    $
    4.60Diluted earnings per share
    
    $
    0.26
    
    
    $
    0.22
    
    
    $
    0.76
    
    
    $
    5.18
  15




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Employee stock options, restricted shares and performance stock units
  Convertible subordinated notes and warrants
    Note K  Stock Options, Restricted Stock and Employee Stock Purchase Plan
 Employee Stock Purchase Plan
   16




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The Companys Long-Term Incentive Plans
       17




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Restricted Stock
   Weighted-averageNonvested shares (in thousands, except per share amounts)
    
    Shares
    
    
    grant date fair valueNonvested at March 31, 2007
    
    
    346
    
    
    $
    47.71Granted
    
    
    10Restrictions lapsed
    
    
    (35
    )Forfeited
    
    
    (7
    )Nonvested at September 30, 2007
    
    
    314
    
    
    $
    48.11
 Options
   Weighted-Weighted-
    
    
    averageaverage
    
    
    remaining
    
    
    Aggregateexercise
    
    
    contractual
    
    
    intrinsic(in thousands, except per share amounts and years)
    
    Options
    
    
    price
    
    
    life (Yrs)
    
    
    valueBalance outstanding at March 31, 2007
    
    
    2,261
    
    
    $
    28.13Granted
    
    
    2,430
    
    
    
    49.18Exercised
    
    
    (270
    )
    
    
    18.54Forfeited/expired
    
    
    (46
    )
    
    
    37.02Balance outstanding at September 30, 2007
    
    
    4,375
    
    
    $
    40.32
    
    
    
    7.00
    
    
    $
    34,422Exercisable at September 30, 2007
    
    
    1,298
    
    
    $
    24.04
    
    
    
    6.89
    
    
    $
    28,570
   18




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##### Table of Contents



September 30,
    
    
    September 30,2007
    
    
    2006Risk-free interest rate
    
    
    4.20
    %
    
    
    5.22
    %Expected life (in years)
    
    
    5.06
    
    
    
    4.94Expected volatility
    
    
    33.72
    %
    
    
    36.00
    %Expected dividend yield
    
    
    1.80
    %
    
    
    1.30
    %
 Performance Award Program
     Fair marketvalue at dateNonvested performance stock units (in thousands)
    
    Shares
    
    
    of grantNonvested at March 31, 2007
    
    
    307
    
    
    $
    6,520Forfeited
    
    
    (5
    )
    
    
    (103
    )Nonvested at September 30, 2007
    
    
    302
    
    
    $
    6,417
  19




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##### Table of Contents



Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,(in thousands)
    
    2007
    
    
    2006
    
    
    2007
    
    
    2006Stock options
    
    $
    775
    
    
    $
    1,299
    
    
    $
    1,736
    
    
    $
    2,770Restricted stock
    
    
    1,305
    
    
    
    1,005
    
    
    
    3,003
    
    
    
    1,718Performance units
    
    
    555
    
    
    
    654
    
    
    
    1,138
    
    
    
    694Total stock-based compensation expense, pre-tax
    
    
    2,635
    
    
    
    2,958
    
    
    
    5,877
    
    
    
    5,182Tax benefit from stock-based compensation expense
    
    
    (875
    )
    
    
    (877
    )
    
    
    (1,978
    )
    
    
    (1,384
    )Total stock-based compensation expense, net of tax
    
    $
    1,760
    
    
    $
    2,081
    
    
    $
    3,899
    
    
    $
    3,798
   Note L  Share Repurchase Program
      20




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##### Table of Contents



Note M  Long-Term Debt
 3 4
  
    
    during any fiscal quarter prior to January 1, 2019, if the closing price of the
Companys common stock for at least 20 trading days in the 30 consecutive trading day
period ending on the first trading day of such fiscal quarter is more than 120% of the
conversion price per share of the Companys common stock on such trading day;
    
    any business day on or after January 1, 2019, if the closing price of the Companys
common stock on the immediately preceding trading day is more than 120% of the conversion
price per share of the Companys common stock on such trading day;
    
    during the five business day period after any five consecutive trading day period if the
average of the trading prices of the notes for such five consecutive trading day period is
less than 98% of the average of the conversion values of the notes during such period,
subject to certain limitations;
    
    if the Company has called the notes for redemption; or
    
    if the Company makes certain significant distributions to holders of its common stock or
the Company enters into specified corporate transactions.
    21




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  
 Note N  Short-Term Bank Borrowings
 Credit Agreement
    22




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##### Table of Contents



Other Financing
      
   23




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##### Table of Contents




  Note O  Related Party Transactions
  Note P  Discontinued Operations
    24




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##### Table of Contents



Note Q  Postretirement Benefit Plan
  Note R  Contingencies
       25




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##### Table of Contents



Note S  Business Combinations
 Perouse Acquisition
     Cash
    
    $
    436Accounts receivable, net
    
    
    3,508Inventory
    
    
    8,953Prepaid expenses and other current assets
    
    
    798Total current assets
    
    
    13,695Property, plant and equipment, net
    
    
    4,544Intangible assets, net
    
    
    19,235Goodwill, net
    
    
    30,446Other assets
    
    
    39Total assets acquired
    
    $
    67,959Liabilities associated with acquisition:Accounts payable and accrued liabilities
    
    $
    7,271Other long-term liabilities
    
    
    6,846Total liabilities assumed
    
    $
    14,117Net assets acquired
    
    $
    53,842
    26




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##### Table of Contents



Note T  Subsequent Events
  
 Item 2.  Managements Discussion and Analysis of Financial Condition and Results of Operations
 Cautionary Statement:
 The following discussion and analysis should be read in conjunction with our Unaudited Consolidated
Financial Statements and related Notes thereto contained elsewhere in this Report. The information
contained in this Quarterly Report on Form 10-Q is not a complete description of our business or
the risks associated with an investment in our securities. We urge you to carefully review and
consider the various disclosures made by us in this Report and in our other reports filed with the
Securities and Exchange Commission (SEC), including our Annual Report on Form 10-K for the year
ended March 31, 2007, and subsequent reports on Form 8-K , both of which discuss our business in
greater detail.
 The section entitled Risk Factors set forth in Item 1A under Part II  Other Information, and
similar discussions in our other SEC filings, discuss some of the important risk factors that may
affect our business, results of operations and financial condition. These risks, in addition to
the other information in this Report and in our other filings with the SEC, should be carefully
considered before deciding to purchase, hold or sell our securities.
 Various statements in this Report, in future filings by us with the SEC, in our press releases and
in our oral statements made by or with the approval of authorized personnel, constitute
forward-looking statements within the meaning of the Private Securities Litigation Reform Act of
1995. Forward-looking statements are based on current expectations and are indicated by words or
phrases such as anticipate, estimate, expect, intend, project, plan, believe, will,
seek, and similar words or phrases and involve known and unknown risks, uncertainties and other
factors which may cause actual results, performance or achievements to be materially different from
any future results, performance or achievements expressed or implied by such forward-looking
statements. Some of the factors that could affect our financial performance or cause actual
results to differ from our estimates in, or underlying, such forward-looking statements are set
forth in Part II under Item 1A -Risk Factors or elsewhere in this Report. Forward-looking
statements include statements regarding, among other things:
 
    
    our anticipated growth strategies;
    
    our intention to introduce or seek approval for new products;
    
    our ability to continue to meet United States Food and Drug Administration (FDA) and
other regulatory requirements;
    
    our anticipated outcomes of litigation and regulatory reviews; and
    
    our ability to replace sources of supply without disruption and regulatory delay.
 These forward-looking statements are based on our expectations and are subject to a number of risks
and uncertainties, many of which are beyond our control. Actual results could differ materially
from these forward-looking statements as a result of the facts described in Part II under Item 1A
- Risk Factors or elsewhere including, among others, problems with suppliers, changes in the
competitive marketplace, significant product liability or other claims, product recalls,
difficulties with new product development, the introduction of new products by our competitors,
changes in the economy, FDA or other regulatory delay in approval or rejection of new or existing
products, changes in Medicare, Medicaid or third-party reimbursement policies, changes in
government regulations, use of hazardous or environmentally sensitive materials, inability to
implement new information technology systems, inability to integrate new acquisitions, and other
events. We undertake no obligation to publicly update or revise any forward-looking statements,
whether as a result of new information, future events or otherwise. In light of these risks and
uncertainties, we cannot assure you that the forward-looking information contained in this Form
10-Q will, in fact, transpire.
  27




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Company Overview
        28




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##### Table of Contents



Urology Summary
     Recent Events
   29




---



##### Table of Contents



APPLICATION OF CRITICAL ACCOUNTING POLICIES
   Revenue Recognition
   Accounts Receivable
   30




---



##### Table of Contents



Inventories
  Warranty Reserves
  Product Liability Reserves
   31




---



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Goodwill and Intangible Asset Impairment
  Stock-Based Compensation Expense
     32




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RESULTS OF OPERATIONS
  Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,2007
    
    
    2006
    
    
    2007
    
    
    2006Net sales
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %Cost of sales
    
    
    29.8
    
    
    
    27.7
    
    
    
    25.8
    
    
    
    27.7Gross profit
    
    
    70.2
    
    
    
    72.3
    
    
    
    74.2
    
    
    
    72.3Selling, general and administrative expense
    
    
    39.1
    
    
    
    42.9
    
    
    
    38.4
    
    
    
    39.9Research and development expense
    
    
    14.3
    
    
    
    13.4
    
    
    
    12.4
    
    
    
    11.5Operating income
    
    
    16.8
    
    
    
    16.0
    
    
    
    23.4
    
    
    
    20.9Interest expense
    
    
    (1.7
    )
    
    
    (2.5
    )
    
    
    (1.6
    )
    
    
    (2.2
    )Interest income
    
    
    1.6
    
    
    
    10.2
    
    
    
    3.4
    
    
    
    6.7Other income (expense), net
    
    
    (0.8
    )
    
    
    0.3
    
    
    
    (0.5
    )
    
    
    0.5Income from continuing operations before
income taxes
    
    
    15.9
    
    
    
    24.0
    
    
    
    24.7
    
    
    
    25.9Income taxes
    
    
    4.1
    
    
    
    7.8
    
    
    
    7.1
    
    
    
    7.8Net income from continuing operations
    
    
    11.8
    
    
    
    16.2
    
    
    
    17.6
    
    
    
    18.1Net income (loss) from discontinued operations
    
    
    (0.1
    )
    
    
    (1.4
    )
    
    
    (0.1
    )
    
    
    1.7Gain (loss) on sale of discontinued operations
    
    
    (0.1
    )
    
    
    (0.3
    )
    
    
    
    
    
    
    151.8Net income
    
    
    11.6
    %
    
    
    14.5
    %
    
    
    17.5
    %
    
    
    171.6
    %
 For the three-month period ended September 30, 2007 compared to the three-month period ended
September 30, 2006
 Net Sales
   Ô
  33




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Cost of Sales and Gross Profit
  Selling, General and Administrative
  Research and Development
  Interest and Other Income and Expense
 3 4
   Income Taxes
   34




---



##### Table of Contents



Income, Net of Income Taxes and Earnings per Share from Continuing Operations
  Income from Discontinued Operations, Net of Income Taxes
  Loss on Sale of Discontinued Operations, Net of Income Taxes
  For the six-month period ended September 30, 2007, compared to the six-month period ended September
30, 2006
 Net Sales
   Ô
  35




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##### Table of Contents



Cost of Sales and Gross Profit
  Selling, General and Administrative
  Research and Development
  Interest and Other Income and Expense
 3 4
    36




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##### Table of Contents



Income Taxes
  Income, Net of Income Taxes, and Earnings per Share from Continuing Operations
  Income from Discontinued Operations, Net of Income Taxes
  Gain on Sale of Discontinued Operations, Net of Income Taxes
  FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
    37




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##### Table of Contents



September 30,
    
    
    March 31,(in thousands)
    
    2007
    
    
    2007Cash and cash equivalents
    
    $
    62,213
    
    
    $
    371,525Marketable securities
    
    
    39,627
    
    
    
    116,215Total cash, cash equivalents and marketable securities
    
    $
    101,840
    
    
    $
    487,740Percentage of total assets
    
    
    26
    %
    
    
    69
    %
 Cash Flow Changes
  Six Months EndedSeptember 30,(in thousands)
    
    2007
    
    
    2006Net cash provided by continuing operating activities
    
    $
    44,239
    
    
    $
    54,798Net cash provided by continuing investing activities
    
    
    14,973
    
    
    
    443,419Net cash used for continuing financing activities
    
    
    (369,385
    )
    
    
    (92,245
    )Net cash used for discontinued operations
    
    
    (117
    )
    
    
    (66,524
    )Effect of currency exchange rates on cash and cash equivalents
    
    
    978
    
    
    
    7Increase (decrease) in cash and cash equivalents
    
    $
    (309,312
    )
    
    $
    339,455
 Cash Provided by Operating Activities of Continuing Operations
  Cash Provided by (Used for) Investing Activities of Continuing Operations
   38




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Perouse Acquisition
   Cash (Used) Provided by Discontinued Operations
  Cash Used for Financing Activities of Continuing Operations
        39




---



##### Table of Contents



Financing Arrangements
 Senior Credit Facility
      40




---



##### Table of Contents



Other Financing
      
    
  41




---



##### Table of Contents



  
  Convertible Subordinated Notes
 3 4
    
 Item 3.  Quantitative and Qualitative Disclosures about Market Risk
   42




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##### Table of Contents



Item 4.  Controls and Procedures
    
 PART II  OTHER INFORMATION
 
 Item 1.  Legal Proceedings
  
 Item 1A.  Risk Factors
  The FDA approval of our MemoryGel breast implants in the U.S. is conditioned on our compliance
with several significant post-approval conditions, including conducting a large scale, 10-year
study of patients who receive the implants. These conditions may adversely affect the market
acceptance and usage rates of our MemoryGel implants, may impact our ability to compete, and may
cause us to incur significant unanticipated expenses. Our failure to comply with these conditions
in a timely manner may cause delay in market acceptance or result in our inability to continue to
sell our MemoryGel implants in the U.S.
 Ô
  43




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®
 Significant product liability or other claims or product recalls may force us to pay substantial
damage awards and other expenses that could exceed our accruals and insurance coverages.
Unexpected increases in the number of limited warranty claims for our products may surpass our
product warranty reserves.
    44




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We are subject to substantial government regulation, which could have a material adverse effect on
our business. Any delay or failure to gain regulatory approval for our products, or the ability of
our competitors to get new products, which compete with our existing products, approved before us,
could also materially adversely affect our business.
   
   45




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##### Table of Contents



If we are unable to continue to develop and commercialize new technologies and products, we may
experience a decrease in demand for our products, or our products could become obsolete.
    If we are unable to compete effectively with existing or new competitors, we could experience price
reductions, reduced demand for our products, reduced margins and loss of market share, and our
business, results of operations, and financial condition would be adversely affected.
   46




---



##### Table of Contents




    
    developing and bringing new products to market before others or providing
benefits superior to those of existing products;
    
    developing new technologies to improve existing products;
    
    developing new products at a lower cost to provide the same benefits as
existing products at the same or lower price;
    
    creating or entering new markets with existing products;
    
    increasing or improving service-related programs;
    
    advertising in a manner that creates additional awareness and demand; and
    
    marketing and selling bundled products.
   If we suffer negative publicity concerning the safety of our products, our sales may be harmed and
we may be forced to withdraw products.
  If changes in the economy and consumer spending reduce consumer demand for our products, our sales
and profitability could suffer.
   47




---



##### Table of Contents



If we are unable to implement new information technology systems or upgrade existing systems, our
ability to manufacture and sell products, maintain regulatory compliance, and manage and report our
business activities may be impaired, delayed, or diminished, which would cause substantial business
interruption and loss of sales, customers, and profits.
  If we are unable to acquire companies, businesses or technologies as part of our growth strategy or
to successfully integrate past acquisitions, our growth, sales, and profitability could suffer.
   We agreed to indemnify Coloplast against specified losses in connection with Coloplasts purchase
of our Urology Business, and any demands for indemnification may result in expenses we do not
anticipate and distract the attention of our management from our continuing businesses. In
addition, we retain responsibility for various legal liabilities related to the Urology business.
   48




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##### Table of Contents



We may not realize some of the benefits of the Coloplast transaction.
  We depend upon our key personnel and our ability to attract, train, and retain employees.
  State legislatures and taxing authorities may create new laws or change their interpretation of
existing state and local tax laws that may affect future product demand or create unforeseen tax
liabilities.
  If our intellectual property rights do not adequately protect our products or technologies, others
could compete against us more directly, which would hurt our profitability.
    49




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##### Table of Contents



If third parties claim we are infringing their intellectual property rights, we could suffer
significant litigation, indemnification, or licensing expenses or be prevented from marketing our
products.
  We depend on the continued use of our manufacturing plants and on single and sole source suppliers
for certain raw materials and licensed or manufactured products, and the loss of, or disruption to,
any plant or supplier could adversely affect our ability to manufacture or sell many of our
products.
 
 Our international business exposes us to a number of risks.
  
    
    foreign government regulation of medical products;
    
    product liability, intellectual property and other claims;
    
    new U.S. export or local market import license requirements;
    
    political or economic instability in our target markets;
    
    trade restrictions;
    
    changes in tax laws and tariffs;
    
    managing foreign distributors and manufacturers;
    
    managing foreign branch offices and staffing; and
    
    competition.
  50




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##### Table of Contents



Health care reimbursement or reform legislation could materially affect our business.
  If our use of hazardous materials results in contamination or injury, we could suffer significant
financial loss.
  Clostridium botulinum
  51




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##### Table of Contents



Changes in financial accounting standards may cause adverse unexpected revenue or expense
fluctuations and affect our reported results of operations.
  Our operating results may fluctuate substantially, and could precipitate unexpected movement in the
price of our common stock and convertible notes.
 3 4
  Hedging transactions and other transactions may affect the value of the notes.
 3 4
  52




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##### Table of Contents



Our Restated Articles of Incorporation provides our Board with the authority to issue blank check
preferred stock. The issuance of blank check preferred stock could adversely affect the market
price and the rights and powers, including voting rights, of our common stock, and decrease the
amount of earnings and assets allocable to or available for distribution to holders of our common
stock.
       
 Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds
 Issuer Purchases of Equity Securities
   53




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##### Table of Contents



ISSUER PURCHASES OF EQUITY SECURITIES (1)(2)(3)Total Number
    
    
    Maximum Numberof Shares
    
    
    of Shares that MayTotal Number
    
    
    
    
    
    
    Purchased as
    
    
    Yet Be Purchased(in thousands
    
    of Shares
    
    
    Average Price
    
    
    Part of Publicly
    
    
    Under the Plansexcept per share amounts)
    
    Purchased
    
    
    Paid per Share
    
    
    Announced Plans
    
    
    or ProgramsJuly 1  July 31, 2007
    
    
    3,558
    (4)
    
    $
    41.45
    
    
    
    3,558
    
    
    
    1,074August 1  August 31, 2007
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,074September 1  September 30, 2007
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,074Total
    
    
    3,558
    
    
    $
    41.45
    
    
    
    3,558
 (1)
    
    During the period, 3.6 million shares were purchased under the 2007 10b5 Plan.(2)
    
    In the first quarter of fiscal 1996, our Board of Directors authorized an ongoing stock repurchase program. The initial authorization was for the repurchase of up to
one million shares. Subsequently, the Board of Directors has authorized the repurchase of an additional 31.0 million shares, including 5.0 million, 1.7 million and 5.0 million
shares in June 2007, June 2006 and March 2006, respectively. These share amounts have been adjusted for the two-for-one stock split affected December 2002.(3)
    
    We have not set a date for the stock repurchase program to expire.(4)
    
    Balance includes approximately 300 shares repurchased for payment of withholding taxes upon the vesting of certain restricted stock grants.
 
 Item 3.  Defaults Upon Senior Securities
   54




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##### Table of Contents



Item 4.  Submission of Matters to a Vote of Security Holders
  Name of Director
    
    Votes For
    
    
    Votes WithheldJoseph E. Whitters
    
    
    30,673,795
    
    
    
    260,147Michael L. Emmons
    
    
    30,691,449
    
    
    
    242,493Walter W. Faster
    
    
    30,534,783
    
    
    
    399,159Joshua H. Levine
    
    
    30,682,890
    
    
    
    251,052Margaret H. Jordan
    
    
    30,684,754
    
    
    
    249,188Ronald J. Rossi
    
    
    30,689,186
    
    
    
    244,756Katherine S. Napier
    
    
    30,685,557
    
    
    
    248,385Burt E. Rosen
    
    
    30,655,614
    
    
    
    278,328
   
 Item 5.  Other Information
  th
  55




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Item 6.  Exhibits
 3.1
    
    Composite Restated Articles of Incorporation of Mentor Corporation dated December 12, 2002
Incorporated by reference to Exhibit 3.1 of the Annual Report on Form 10-K for the year ended March
31, 2003.3.2
    
    Articles of Amendment to Restated Articles of Incorporation of Mentor Corporation  Incorporated by
reference to Exhibit 3.1 on Form 8-K filed on October 3, 2007.3.3
    
    Amended and Restated Bylaws of Mentor Corporation dated September 17, 2007  Incorporated by
reference to Exhibit 3.2 on Form 8-K filed on September 21, 2007.10.1*
    
    Amended and Restated 2007 Strategic Equity Incentive Plan under the 2005 Long-Term Incentive Plan 
Amended September 18, 2007.10.2*
    
    Separation and Release Agreement dated October 27, 2007, between Mentor Corporation and Loren L.
McFarland  Incorporated by reference to Exhibit 10.1 of the Registrants Current Report on Form 8-K
filed on October 30, 2007.10.3*
    
    Consulting Agreement dated October 27, 2007, between Mentor Corporation and Loren L. McFarland 
Incorporated by reference to Exhibit 10.2 of Registrants Current Report on Form 8-K filed on October
30, 2007.31.1
    
    Certification of Principal Executive Officer Pursuant To Section 302 of The Sarbanes-Oxley Act of 2002.31.2
    
    Certification of Principal Financial Officer Pursuant To Section 302 of The Sarbanes-Oxley Act of 2002.32.1
    
    CEO Certification Pursuant To 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 of The
Sarbanes-Oxley Act of 2002.32.2
    
    CFO Certification Pursuant To 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 of The
Sarbanes-Oxley Act of 2002.
 *
    
    Management contract or compensatory plan or arrangement.
  56




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SIGNATURES
  MENTOR CORPORATION
  MENTOR CORPORATIONDATE: November 7, 2007
    /s/JOSHUA H. LEVINEJoshua H. LevinePresident and Chief Executive Officer(Principal Executive Officer)DATE: November 7, 2007
    /s/LOREN L. MCFARLANDLoren L. McFarlandVice President, Chief Financial Officer and Treasurer( Principal Financial Officer)  57




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##### Table of Contents



EXHIBIT INDEX
 ExhibitNo.
    
    Description3.1
    
    Composite Restated Articles of Incorporation of Mentor Corporation dated December 12, 2002
Incorporated by reference to Exhibit 3.1 of the Annual Report on Form 10-K for the year ended March
31, 2003.3.2
    
    Articles of Amendment to Restated Articles of Incorporation of Mentor Corporation  Incorporated by
reference to Exhibit 3.1 on Form 8-K filed on October 3, 2007.3.3
    
    Amended and Restated Bylaws of Mentor Corporation dated September 17, 2007  Incorporated by
reference to Exhibit 3.2 on Form 8-K filed on September 21, 2007.10.1*
    
    Amended and Restated 2007 Strategic Equity Incentive Plan under the 2005 Long-Term Incentive Plan 
Amended September 18, 2007.10.2*
    
    Separation and Release Agreement dated October 27, 2007, between Mentor Corporation and Loren L.
McFarland  Incorporated by reference to Exhibit 10.1 of the Registrants Current Report on Form 8-K
filed on October 30, 2007.10.3*
    
    Consulting Agreement dated October 27, 2007, between Mentor Corporation and Loren L. McFarland 
Incorporated by reference to Exhibit 10.2 of Registrants Current Report on Form 8-K filed on October
30, 2007.31.1
    
    Certification of Principal Executive Officer Pursuant To Section 302 of The Sarbanes-Oxley Act of 2002.31.2
    
    Certification of Principal Financial Officer Pursuant To Section 302 of The Sarbanes-Oxley Act of 2002.32.1
    
    CEO Certification Pursuant To 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 of The
Sarbanes-Oxley Act of 2002.32.2
    
    CFO Certification Pursuant To 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 of The
Sarbanes-Oxley Act of 2002.
 *
    
    Management contract or compensatory plan or arrangement.
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