<PAGE>

                                                                    Exhibit 10.2


*****Portions of this exhibit have been omitted pursuant to a request made by
the Company for confidential treatment by the Securities and Exchange
Commission. The omitted portions have been filed separately with the
Commission. Prior filings of this exhibit should not be relied upon due to the
fact that markings in such filings do not accurately reflect redactions in
this exhibit.

                         SECURITIES PURCHASE AGREEMENT

     THIS SECURITIES PURCHASE AGREEMENT ("Agreement") is made and entered into
                                          ---------
effective as of August 11, 2000, by and among Optical Sensors Incorporated, a
Delaware corporation (the "Company"), with its principal place of business at
                           -------
7615 Golden Triangle Drive, Suite A, Eden Prairie, Minnesota 55344, and the
investor listed on Schedule A hereto (the "Investor").
                   ----------              --------
     A.   The Company desires to raise up to $1,500,000 of additional capital in
order to fund its operations.

     B.   The Investor desires to make an investment in the Company on the terms
and conditions set forth in this Agreement.

     Accordingly, in consideration of the foregoing, the mutual promises set
forth herein, and for other good and valuable consideration, the receipt and
sufficiency of which are hereby acknowledged, the parties hereto agree as
follows:

1.  Authorization of Securities.  The Company proposes to authorize, issue and
    ---------------------------
    sell the number of shares of Series A Convertible Preferred Stock, $.01 par
    value (the "Series A Preferred") as provided herein, which will be entitled
                ------------------
    to the preferences, rights and benefits set forth in the capital stock
    provisions of the Company's Certificate of Designation, which has been filed
    in the form set forth in Exhibit A attached hereto (the "Certificate of
                                                             ---------------
    Designation"). The Series A Preferred will be convertible into shares of the
    -----------
    Company's common stock, $.01 par value, as set forth in the Certificate of
    Designation.

2.  Purchase of Securities.
    ----------------------

     (a)  Subject to the terms and conditions hereof, the Company agrees to sell
          to the Investor, and the Investor agrees to purchase from the Company
          in accordance with this Agreement, up to Four Million Thirty Three
          Thousand Three Hundred Thirty Four (4,333,334) shares of the Company's
          Series A Preferred (the "Shares") in the amounts set forth on Schedule
                                   ------
          A.  The purchase price for the first One Million (1,000,000) shares of
          Series A Preferred purchased by the Investor (in the aggregate) will
          be Fifty Cents ($.50) per share, the purchase price for the next One
          Million Three Hundred Thirty Three Thousand Three Hundred Thirty Four
          (1,333,334) shares of Series A Preferred purchased by the Investor (in
          the aggregate) will be Thirty Seven and One-Half Cents ($.375) per
          share and the purchase price for the next Two Million (2,000,000)
          purchased shares by the Investor (in the aggregate) of Series A
          Preferred will be Twenty-Five Cents ($.25) per share.

                                       1
<PAGE>

     (b)  From time to time after the date of this Agreement, the Company will
          send a written notice to the Investor indicating the number of shares
          of Series A Preferred that the Company wishes to sell to the Investor
          (the "Notice") and the applicable per share price in accordance with
                ------
          Section 2(b).  Within five (5) business days after the receipt of the
          Notice, the Investor shall purchase the number of shares of Series A
          Preferred specified in the Notice (the "Purchased Shares") by
                                                  ----------------
          delivering to the Company within such five (5) day period a certified
          check or wire transfer in an amount equal to the number of Purchased
          Shares multiplied by the applicable price, as determined by reference
          to Section 2(a) (the "Purchase Price"); provided, however, that the
                                --------------
          Investor (in the aggregate) shall be required to purchase a maximum of
          Four Million Thirty Three Thousand Three Hundred Thirty Four
          (4,333,334) shares of Series A Preferred (the "Maximum Commitment")
                                                         ------------------
          with an aggregate maximum purchase price of One Million Five Hundred
          Thousand Dollars ($1,500,000).

     (c)  At the time of delivery of the Purchase Price, the Company shall
          deliver to the Investor stock certificate(s) for the number of shares
          of Series A Preferred being purchased by such Investor, which such
          shares will be registered in the Investor's name or as otherwise
          designated by the Investor.

     (d)  Notwithstanding any other provision of this Agreement to the contrary,
          the ability of the Company to sell shares of Series A Preferred to the
          Investor is subject to the existing contractual right of
          Instrumentation Laboratory Company ("ILC") to participate in equity
                                               ---
          financings of the Company.  In the event that ILC elects to purchase
          any or all of the shares of the Series A Preferred that would
          otherwise be offered to the Investor under this Agreement, the number
          of shares so purchased will reduce the Maximum Commitment by an equal
          number.  Any shares of Series A Preferred purchased by ILC will be
          deemed to have been purchased by the Investor for purposes of
          determining the Purchase Price for any shares of Series A Preferred
          sold to the Investor.

3.  Adjustment of Notes and Warrants.
    --------------------------------

     (a)  Conversion Price of Notes.  The conversion price of the convertible
          promissory notes (the "Notes") issued to the Investor pursuant to the
                                 -----
          Investment Agreement by and among the Company and the other investors
          named therein dated March 10, 2000 (the "Investment Agreement"), as
                                                   --------------------
          specified in Section 2.1 of the Note, is hereby amended so that such
          conversion price at any time is equal to Fifty Thousand (50,000)
          multiplied by the lowest price at which the Company sells any shares
          of its capital stock (other than a sale pursuant to the exercise of an
          option, right or warrant to subscribe for shares of Common Stock that
          are outstanding on the date hereof or options granted under the
          Company's stock option plan) after the first date on which the
          Investor purchases shares of Series A Preferred (the "Lowest
                                                                ------

                                       2
<PAGE>

          Issue Price"). Subject to the foregoing amendment, the foregoing
          -----------
          conversion price otherwise remains subject to adjustment as provided
          in Section 2.4 of the Note.

     (b)  Exercise Price of Warrants.  The Exercise Price (as defined in the
          warrant issued to the Investor pursuant to the Investment Agreement
          (the "Warrant")) of the Warrant is hereby amended so that the Exercise
                -------
          Price at any time is equal to the Lowest Issue Price.  Subject to the
          foregoing amendment, the foregoing conversion price otherwise remains
          subject to adjustment as provided in Section 4 of the Warrant.

4.  Representations and Warranties of the Company.  The Company represents and
    ---------------------------------------------
warrants to the Investor as follows:

     (a)  Organization.  The Company is a corporation duly organized, validly
          existing and in good standing under the laws of the State of Delaware
          and has the requisite corporate power and authority to own, lease or
          operate its properties and to carry on its business as it is now being
          conducted and as it is proposed to be conducted.  The Company has no
          subsidiaries or direct or indirect ownership in any firm, corporation
          or business which either, individually or in the aggregate, is
          material to the business of the Company. The Company is qualified to
          do business and is in good standing as a foreign corporation in every
          jurisdiction in which its ownership of property or conduct of business
          requires it so to be qualified and in which the failure to so qualify
          would have a material adverse effect on the financial condition or
          business of the Company.

     (b)  Authorization.  The Company has the corporate power and authority to
          execute and deliver this Agreement, the Shares and to perform its
          obligations hereunder and thereunder, including the issuance of the
          Shares and the Conversion Securities (as defined below).  This
          Agreement and the Shares have been duly authorized by all necessary
          corporate action on behalf of the Company, have been duly executed and
          delivered by authorized officers of the Company, are valid and binding
          agreements on the part of the Company and are enforceable against the
          Company in accordance with their respective terms, except as the
          enforceability thereof may be limited by bankruptcy, insolvency,
          moratorium, reorganization or other similar laws affecting the
          enforcement of creditors rights generally and to judicial limitations
          on the enforcement of the remedy of specific performance and other
          equitable remedies.  All corporate actions necessary for reservation
          and issuance of the shares of Common Stock issuable upon conversion of
          the Shares ("Conversion Securities") has been taken.  The Conversion
                       ---------------------
          Securities when issued pursuant to the Certificate of Designation will
          be duly authorized, validly issued, fully paid and nonassessable, free
          and clear of any and all liens, charges, claims, encumbrances and
          preemptive rights.

     (c)  No Violation.  Neither the execution and delivery of this Agreement
          nor any of the Shares by the Company, nor the performance by the
          Company of its obligations

                                       3
<PAGE>

          hereunder or thereunder, nor the consummation of the transactions
          contemplated hereby or thereby will: (a) conflict with or result in
          any breach of any provision of the Certificate of Incorporation or By-
          Laws of the Company; (b) result in a default (or give rise to any
          right of termination, cancellation or acceleration) under any of the
          terms, conditions or provisions of any note, lease, mortgage, license,
          agreement or other instrument or obligation to which the Company is a
          party or by which any of its assets may be bound, except for such
          defaults (or rights of termination, cancellation or acceleration) as
          to which requisite waivers or consents have been obtained or which, in
          the aggregate, would not result in a material adverse effect on the
          Company; (c) violate any order, writ, injunction, decree, statute,
          rule or regulation applicable to the Company or any of its assets,
          except for violations which would not result in a material adverse
          effect on the Company; or (d) result in the creation or imposition of
          any liens, charges or encumbrances upon any assets of the Company.

     (d)  SEC Reports.  The Company has filed all reports, registration
          statements and other filings with the Securities and Exchange
          Commission (the "Commission") required to be filed by it pursuant to
                           ----------
          the Securities Act of 1933, as amended (the "Securities Act"), and the
                                                       --------------
          Securities Exchange Act of 1934, as amended (the "Exchange Act").  All
                                                            ------------
          such reports, registration statements and other filings (including all
          notes, exhibits and schedules thereto, all documents incorporated by
          reference therein, and any amendments thereto) are collectively
          referred to herein as the "SEC Reports."  As of their respective dates
                                     -----------
          of filing with the Commission, the SEC Reports complied in all
          material respects with all of the rules and regulations of the
          Commission and did not contain any untrue statement of a material fact
          or omit to state a material fact required to be stated therein or
          necessary in order to make the statements made therein, in light of
          the circumstances under which they were made, not misleading.

     (e)  Financial Statements.  The financial statements of the Company
          included in the SEC Reports (the "Financial Statements") have been
                                            --------------------
          prepared in accordance with United States generally accepted
          accounting principles consistently applied and fairly present the
          financial position of the Company at the dates thereof and the results
          of the Company's operations and cash flows for the periods then ended
          (subject, in the case of unaudited statements, to normal adjustments
          and the omission of footnotes).  The Company has no material
          liabilities, known or unknown, absolute, contingent or otherwise,
          except for (i) liabilities that are set forth in the Financial
          Statements, the notes thereto or the SEC Reports and (ii) liabilities
          that have been incurred in the ordinary course of business since June
          30, 2000.

     (f)  No Material Adverse Change.  There have not been any changes in the
          assets, properties, liabilities, financial condition, business or
          operations of the Company from that reflected in the Financial
          Statements except for (i) changes in the ordinary

                                       4
<PAGE>

          course of business which have not been, either individually or in the
          aggregate, materially adverse and (ii) the Company's continued
          operating losses and negative cash flow.

     (g)  Authorized Capital Stock. The authorized capital stock of the Company
          is as set forth in the SEC Reports.  The issued and outstanding shares
          of capital stock of the Company have been duly authorized, validly
          issued and are fully paid and nonassessable.  As of the date hereof,
          the Company has outstanding options and warrants to purchase 755,109
          shares of Common Stock, and there are no other outstanding warrants,
          options or other rights to acquire any shares of capital stock of the
          Company, except for the shares issued upon conversion of the Notes,
          the Warrants issuable upon conversion of the Notes and as disclosed in
          the SEC Reports.  All of the above securities of the Company were
          issued in compliance with all applicable federal and state securities
          laws and were not issued in violation of or subject to any preemptive
          rights or other rights to subscribe for or purchase securities.
          Except for IL, no holder of any security of the Company is entitled to
          any preemptive or similar rights to purchase any securities of the
          Company.

     (h)  Intellectual Property. The Company owns or possesses adequate rights
          to use all patents, patent rights, inventions, trademarks, trade
          names, copyrights, licenses, domain names, governmental
          authorizations, trade secrets and know-how that are used or necessary
          for the conduct of its business; neither the Company nor any of its
          subsidiaries has received any notice of, or has any knowledge of, any
          infringement of or conflict with asserted rights of others with
          respect to any patents, patent rights, inventions, trademarks, trade
          names, copyrights, licenses, governmental authorizations, trade secret
          or know-how that, individually or in the aggregate, if the subject of
          an unfavorable decision, ruling or finding, would have a material
          adverse effect on the condition (financial or otherwise), earnings,
          operations or business of the Company and its subsidiaries considered
          as a whole.

     (i)  Securities Laws.  Subject to the accuracy of the representations of
          the Investor in Section 5, no consent, authorization, approval, permit
          or order of or filing with any governmental or regulatory authority is
          required under current laws and regulations in connection with the
          execution and delivery of this Agreement or the offer, issuance, sale
          or delivery to the Investor of the Shares or the Conversion Securities
          other than (i) the filing with the Commission of a Form D pursuant to
          Regulation D under the Securities Act, and the qualification thereof,
          if required, under applicable state securities laws, which
          qualification has been or will be effected as a condition of the sale
          of the Shares and the issuance of the Conversion Securities, and (ii)
          the filing of a registration statement or statements pursuant to
          Section 7.  Under the circumstances contemplated by this Agreement,
          the offer, issuance, sale and delivery of the Shares will not, under
          current laws and regulations, require compliance with the prospectus
          delivery or registration requirements of the Securities Act.

                                       5
<PAGE>

     (j)  Litigation.  Except for the informal investigation by the Commission
          regarding recent trading in the Company's Common Stock there are no
          actions, suits, proceedings or investigations pending or, to the best
          of the Company's knowledge, threatened against the Company or any of
          its properties before or by any court or arbitrator or any
          governmental body, agency or official in which there is a reasonable
          likelihood (in the judgment of the Company) of an adverse decision
          that (a) would have a material adverse effect on the Company's
          properties or assets or the business of the Company as presently
          conducted or proposed to be conducted or (b) would impair the ability
          of the Company to perform in any material respect its obligations
          under this Agreement. The Company is not in default with respect to
          any judgment, order or decree of any court or governmental agency or
          instrumentality which, individually or in the aggregate, would have a
          material adverse effect on the assets, properties or business of the
          Company.

     (k)  Properties.  The Company has good and marketable title to all the
          properties and assets reflected as owned in the Financial Statements,
          subject to no lien, mortgage, pledge, charge or encumbrance of any
          kind except (i) those, if any, reflected in such Financial Statements,
          or (ii) those which are not material in amount and do not adversely
          affect the use made and promised to be made of such property by the
          Company.  The Company holds its leased properties under valid and
          binding leases, with such exceptions as are not materially significant
          in relation to the business of the Company. The Company owns or leases
          all such properties as are necessary to its operations as now
          conducted or as proposed to be conducted.

     (l)  Brokers or Finders.  To the knowledge of the Company, no person, firm
          or corporation has or will have, as a result of any act or omission of
          the Company, any right, interest or valid claim against any Investor
          for any commission, fee or other compensation as a finder or broker in
          connection with the transactions contemplated by this Agreement.  The
          Company shall indemnify and hold the Investor harmless for any claims
          made for any commission, fee or other compensation concerning the
          transactions contemplated by this Agreement.

5.  Representations and Warranties of the Investor.  The Investor represents
    ----------------------------------------------
and warrants to the Company as follows:

     (a)  The Shares are being purchased for investment for such Investor's own
          account and not with the view to, or for resale in connection with,
          any distribution or public offering thereof.  Each Investor
          understands that neither the Shares nor the Conversion Securities have
          been registered under the Securities Act or any state securities laws
          by reason of their contemplated issuance in transactions exempt from
          the registration requirements of the Securities Act and applicable
          state securities laws and that the reliance of the Company and others
          upon these exemptions is predicated in part upon this representation
          by the Investor.  The

                                       6
<PAGE>

          Investor further understands that its shares of Series A Preferred and
          the Conversion Securities may not be transferred or resold without
          registration under the Securities Act and any applicable state
          securities laws, or pursuant to an exemption from the requirements of
          the Securities Act and applicable state securities laws.

     (b)  The Investor's principal place of business is located at the address
          set forth on Schedule A.  The Investor qualifies as an "accredited
                       ----------
          investor," as defined in Rule 501 of Regulation D under the Securities
          Act.  The Investor acknowledges that the Company has made available to
          such Investor at a reasonable time prior to the execution of this
          Agreement the opportunity to ask questions and receive answers
          concerning the business, operations and financial condition of the
          Company and the terms and conditions of the sale of securities
          contemplated by this Agreement and to obtain any additional
          information requested by such Investor.  The Investor is able to bear
          the loss of its entire investment in the Shares and the Conversion
          Securities and has such knowledge and experience of financial and
          business matters that he is capable of evaluating the merits and risks
          of the investment to be made pursuant to this Agreement.  However,
          neither the foregoing nor any other due diligence investigation
          conducted by such Investor or on its behalf shall limit, modify or
          affect the representations and warranties of the Company set forth in
          Section 4 of this Agreement or the right of such Investor to rely
          thereon.

     (c)  This Agreement has been duly authorized by all necessary action on the
          part of the Investor, has been duly executed and delivered by such
          Investor and is a valid and binding agreement of such Investor.

6.  Use of Proceeds.  The Company will use the proceeds from the sale of the
    ---------------
Shares for general corporate purposes, including obtaining regulatory clearance
for the Company's CapnoProbe sublingual CO2 monitor and disposable sensors.

7.  Registration Rights.
    -------------------

     (a)  Filing of Registration Statement.  Within one hundred twenty (120)
          days of the issuance of at least Two Million Five Hundred Thousand
          shares of Series A Preferred, the Company will file a registration
          statement with the Commission under the Securities Act covering the
          Conversion Securities issuable upon conversion of all of the Shares.
          The Company may, on not more than one occasion, delay the filing of
          any registration statement required hereunder for a period of not more
          than 90 days in the event that the Company has furnished the Investor
          with a certificate executed by the Company's President or Chief
          Executive Officer stating that such delay is necessary in order to (i)
          not significantly adversely affect financing efforts then underway at
          the Company or (ii) avoid disclosure of material non-public
          information.  Any registration of Conversion Securities hereunder
          shall

                                       7
<PAGE>

          cover any additional Conversion Securities issued or issuable pursuant
          to anti-dilution or other similar rights.

     (b)  Registration Procedures.  If and whenever the Company is required by
          the provisions of Section 7(a) to effect the registration of any
          Conversion Securities under the Securities Act, the Company will:

          (i)    prepare and file with the Commission a registration statement
                 (on any available form to effect registration) with respect to
                 such securities, and use its best efforts to cause such
                 registration statement to become and remain effective until
                 such securities are sold pursuant to such registration
                 statement or are eligible to be sold pursuant to Rule 144(k);

          (ii)   prepare and file with the Commission such amendments to such
                 registration statement and supplements to the prospectus
                 contained therein as may be necessary to keep such registration
                 statement effective until such securities are sold pursuant to
                 such registration statement or are eligible to be sold pursuant
                 to Rule 144(k);

          (iii)  furnish to the Investor and to any underwriters of the
                 securities being registered such reasonable number of copies of
                 the registration statement, preliminary prospectus, final
                 prospectus and such other documents as the Investor and
                 underwriters may reasonably request in order to facilitate the
                 public offering of such securities;

          (iv)   use its best efforts to register or qualify the securities
                 covered by such registration statement under such state
                 securities or blue sky laws of such jurisdictions as the
                 Investor may reasonably request, except that the Company shall
                 not for any purpose be required to execute a general consent to
                 service of process or to qualify to do business as a foreign
                 corporation in any jurisdiction wherein it is not so qualified;

          (v)    prepare and promptly file with the Commission and promptly
                 notify the Investor of the filing of such amendment or
                 supplement to such registration statement or prospectus as may
                 be necessary to correct any statements or omissions if, at the
                 time when a prospectus relating to such securities is required
                 to be delivered under the Securities Act, any event shall have
                 occurred as the result of which any such prospectus or any
                 other prospectus as then in effect would include an untrue
                 statement of a material fact or omit to state any material fact
                 necessary to make the statements therein, in the light of the
                 circumstances in which they were made, not misleading; and

          (vi)   use its best efforts to cause all securities covered by such
                 registration statement to be listed on any securities exchange,
                 quotation system, market

                                       8
<PAGE>

                 or over-the-counter bulletin board, if any, on which the Common
                 Stock shall then be listed and trading.

     (c)  Expenses.  Except as set forth in the last sentence of this Section
          7(c), with respect to any registration of securities pursuant to
          Section 7(a), the Company shall bear all fees, costs and expenses,
          including, without limitation: all registration, filing and NASD fees,
          printing expenses, fees and disbursements of counsel and accountants
          for the Company, all internal Company expenses, the premiums and other
          costs of policies of insurance against liability arising out of the
          public offering, and all legal fees and disbursements and other
          expenses of complying with state securities or blue sky laws of any
          jurisdictions in which the securities to be offered are to be
          registered or qualified.  Fees and disbursements of counsel and
          accountants for the Investor, underwriting discounts and commissions
          and transfer taxes for the Investor and any other expenses incurred by
          the Investor not expressly included above shall be borne by the
          Investor.

     (d)  Indemnification.  In the event that any Conversion Securities owned by
          the Investor are included in a registration statement under Section
          7(a):

          (i)    The Company will indemnify and hold harmless the Investor
                 (including for this purpose its directors, officers and
                 partners) and any underwriter (as defined in the Securities
                 Act) from and against any and all loss, damage, liability, cost
                 and expense (including, subject to Section 7(d)(iii),
                 reasonable fees and expenses of counsel) to which any such
                 Investor or any such underwriter may become subject under the
                 Securities Act or otherwise, insofar as such losses, damages,
                 liabilities, costs or expenses are caused by any untrue
                 statement or alleged untrue statement of any material fact
                 contained in such registration statement, any prospectus
                 contained therein or any amendment or supplement thereto, or
                 arise out of or are based upon the omission or alleged omission
                 to state therein a material fact required to be stated therein
                 or necessary to make the statements therein, in light of the
                 circumstances in which they were made, not misleading;
                 provided, however, that the Company will not be liable in any
                 such case to the extent that any such loss, damage, liability,
                 cost or expense arises out of or is based upon an untrue
                 statement or alleged untrue statement or omission or alleged
                 omission so made in conformity with written information
                 furnished by such Investor or such underwriter.

          (ii)   The Investor will indemnify and hold harmless the Company and
                 any underwriter from and against any and all loss, damage,
                 liability, cost or expense (including, subject to Section
                 7(d)(iii), reasonable fees and expenses of counsel) to which
                 the Company or any underwriter may become subject under the
                 Securities Act or otherwise, insofar as such losses, damages,
                 liabilities, costs or expenses are caused by any untrue or
                 alleged

                                       9
<PAGE>

                 untrue statement of any material fact contained in such
                 registration statement, any prospectus contained therein or any
                 amendment or supplement thereto, or arise out of or are based
                 upon the omission or the alleged omission to state therein a
                 material fact required to be stated therein or necessary to
                 make the statements therein, in light of the circumstances in
                 which they were made, not misleading, in each case to the
                 extent, but only to the extent, that such untrue statement or
                 alleged untrue statement or omission or alleged omission was so
                 made in reliance upon and in strict conformity with written
                 information furnished by such Investor. Notwithstanding the
                 provisions of this clause (ii), no Investor shall be required
                 to indemnify any person pursuant to this Section 7 in an amount
                 in excess of the amount of the aggregate net proceeds received
                 by such Investor in connection with any such registration under
                 the Securities Act.

          (iii)  Promptly after receipt by an indemnified party pursuant to the
                 provisions of paragraph (i) or (ii) of this Section 7(d) of
                 notice of the commencement of any action involving the subject
                 matter of the foregoing indemnity provisions, such indemnified
                 party will, if a claim thereof is to be made against the
                 indemnifying party pursuant to the provisions of said paragraph
                 (i) or (ii), promptly notify the indemnifying party of the
                 commencement thereof; but the omission to so notify the
                 indemnifying party will not relieve the indemnifying party from
                 any liability which it may have to any indemnified party
                 otherwise than hereunder nor of its obligations or liabilities
                 pursuant to this Agreement, except to the extent that the
                 failure to so notify materially prejudices the indemnifying
                 party. In case such action is brought against any indemnified
                 party and it notifies the indemnifying party of the
                 commencement thereof, the indemnifying party shall have the
                 right to participate in, and, to the extent that it may wish,
                 jointly with any other indemnifying party similarly notified,
                 to assume the defense thereof, with counsel satisfactory to
                 such indemnified party; provided, however, if the defendants in
                 any action include both the indemnified party and the
                 indemnifying party and there is a conflict of interest which
                 would prevent counsel for the indemnifying party from also
                 representing the indemnified party, the indemnified party or
                 parties shall have the right to select one separate counsel to
                 participate in the defense of such action on behalf of such
                 indemnified party or parties, which counsel shall be reasonably
                 satisfactory to the indemnifying party. After notice from the
                 indemnifying party to such indemnified party of its election so
                 to assume the defense thereof, the indemnifying party will not
                 be liable to such indemnified party pursuant to the provisions
                 of said paragraph (i) or (ii) for any legal or other expense
                 subsequently incurred by such indemnified party in connection
                 with the defense thereof other than reasonable costs of
                 investigation, unless (x) the indemnified party shall have
                 employed counsel in accordance with the proviso of the
                 preceding sentence, (y) the indemnifying party shall not

                                       10
<PAGE>

                 have employed counsel satisfactory to the indemnified party to
                 represent the indemnified party within a reasonable time after
                 the notice of the commencement of the action, or (z) the
                 indemnifying party has authorized the employment of counsel for
                 the indemnified party at the expense of the indemnifying party.
                 No indemnifying party shall, without the prior written consent
                 of the indemnified party, consent to entry of any judgment or
                 enter into any settlement which does not include as an
                 unconditional term thereof the giving by the claimant or the
                 plaintiff to such indemnified party of a release from all
                 liability in respect of such action, and no indemnified party
                 shall consent to entry of any judgment or settle such action
                 without the prior written consent of the indemnifying party.

     (e)  SEC Reports. The Company will file with the Commission, on a timely
          basis, all SEC Reports required to be filed under the Exchange Act and
          any other documents required to meet the public information
          requirements of Rule 144(c) under the Securities Act.

     (f)  Bonus. Upon a Change in Control, as defined below, the Company's
          employees, in the aggregate, will be paid a bonus (the "Bonus") equal
          to (A) One Hundred Percent (100%) of the proceeds to the Company or
          its shareholders from the Change in Control transaction between
          Fifteen Million Dollars ($15,000,000) and Sixteen Million Dollars
          ($16,000,000) plus (B) Ten Percent (10%) of the proceeds to the
          Company or its shareholders from the Change in Control transaction
          between Sixteen Million Dollars ($16,000,000) and Twenty Million
          Dollars ($20,000,000).  The allocation of the Bonus among the
          individual employees of the Company shall be as set forth in Schedule
          A, as amended from time to time by the President and Chief Executive
          Officer of the Company as necessary to reflect changes in personnel.
          For purposes of this Agreement, Change in Control shall mean the
          occurrence of any of the following on or after the date hereof:

          (i)    the sale, lease, exchange or other transfer, directly or
                 indirectly, of all or substantially all of the assets of the
                 Company, in one transaction or in a series of related
                 transactions, to any Person;

          (ii)   the approval by the shareholders of the Company of any plan or
                 proposal for the liquidation or dissolution of the Company;

          (iii)  any Person is or becomes the "beneficial owner" (as defined in
                 Rule 13d-3 under the Exchange Act), directly or indirectly, of
                 (a) 20 percent or more, but not more than 50 percent, of the
                 combined voting power of the Company's outstanding securities
                 ordinarily having the right to vote at elections of directors,
                 unless the transaction resulting in such ownership has been
                 approved in advance by the "continuity directors," as defined
                 at Subsection (b), or (b) more than 50 percent of the combined
                 voting power

                                       11
<PAGE>

                 of the Company's outstanding securities ordinarily having the
                 right to vote at elections of directors (regardless of any
                 approval by the continuity directors);

          (iv)   a merger or consolidation to which the Company is a party if
                 the shareholders of the Company immediately prior to the
                 effective date of such merger or consolidation have, solely on
                 account of ownership of securities of the Company at such time,
                 "beneficial ownership" (as defined in Rule 13d-3 under the
                 Exchange Act) immediately following the effective date of such
                 merger or consolidation of securities of the surviving company
                 representing (a) 50 percent or more, but not more than 80
                 percent, of the combined voting power of the surviving
                 corporation's then outstanding securities ordinarily having the
                 right to vote at elections of directors, unless such merger or
                 consolidation has been approved in advance by the continuity
                 directors, or (b) less than 50 percent of the combined voting
                 power of the surviving corporation's then outstanding
                 securities ordinarily having the right to vote at elections of
                 directors (regardless of any approval by the continuity
                 directors);

          (v)    the continuity directors cease for any reason to constitute at
                 least a majority the Board; or

          (vi)   a change in control of a nature that is determined by outside
                 legal counsel to the Company, in a written opinion specifically
                 referencing this provision of the Plan, to be required to be
                 reported (assuming such event has not been "previously
                 reported") pursuant to section 13 or 15(d) of the Exchange Act,
                 whether or not the Company is then subject to such reporting
                 requirement, as of the effective date of such change in
                 control.

     The sale, lease, exchange or other transfer, directly or indirectly, of the
     assets comprising the Company's CapnoProbe Product Line, in one transaction
     or in a series of related transactions, to any Person shall constituted a
     Change in Control under Subsection (a)(i).

     For purposes of this section: "continuity director" means any individual
     who is a member of the Board on the date hereof, while he or she is a
     member of the Board, and any individual who subsequently becomes a member
     of the Board whose election or nomination for election by the Company's
     shareholders was approved by a vote of at least a majority of the directors
     who are continuity directors (either by a specific vote or by approval of
     the proxy statement of the Company in which such individual is named as a
     nominee for director without objection to such nomination).  For example,
     if a majority of the four individuals constituting the Board on the date
     hereof, approved a proxy statement in which two different individuals were
     nominated to replace two of the individuals who were members of the Board
     on the date hereof, upon their election by the Company's shareholders, the
     two newly elected directors would join the two remaining directors who

                                       12
<PAGE>

       were members of the Board on date hereof as continuity directors.
       Similarly if a majority of those four directors approved a proxy
       statement in which two different individuals were nominated to replace
       the two other directors who were members of the Board on date hereof,
       upon their election by the Company's shareholders, the two newly elected
       directors would also become, along with the two other directors,
       continuity directors. Individuals subsequently joining the Board could
       become continuity directors under the principles reflected in this
       example.

8.   Repricing of Options.  As soon as practicable after each sale of any of the
     --------------------
Shares to the Investor, the exercise price of all option agreements held by
current employees and current directors of the Company will be changed to the
figure equal to (i) the aggregate purchase price that was paid for all shares of
Series A Preferred issued to the Investor prior to the date of determination
(whether or not all such shares are then outstanding) divided by (ii) the
aggregate number of shares of Series A Preferred that were issued to the
Investor prior to the date of determination (whether or not all such shares are
then outstanding).

9.   Miscellaneous.
     -------------

       (a)  This Agreement and the rights and obligations of the parties
            hereunder shall not be assignable, in whole or in part, by the
            Company without the prior written consent of the Investor. This
            Agreement and the rights and obligations of the parties hereunder
            shall not be assignable, in whole or in part, by an Investor without
            the prior written consent of the Company, except that any Investor
            may assign its rights under this Agreement to any affiliate without
            the prior written consent of the Company. This Agreement shall inure
            to the benefit of and be binding upon and be enforceable by the
            successors and permitted assigns of the parties hereto. Neither this
            Agreement nor any provision hereof may be amended, modified, waived
            or discharged without the written consent of the parties hereto.

       (b)  This Agreement, including the exhibits attached hereto, constitutes
            the entire agreement of the parties relative to the subject matter
            hereof and supersedes any and all other agreements and
            understanding, whether written or oral, relative to the matters
            discussed herein.

       (c)  All representations and warranties contained herein shall survive
            after the execution and delivery of this Agreement for a period of
            two (2) years from the date hereof. All covenants and agreements
            which by their terms are to be performed after the date hereof will
            survive indefinitely, unless such covenants and agreements by their
            terms expire at an earlier date, in which case they will expire on
            such earlier date.

       (d)  All notices, requests, consents and other communications required or
            permitted hereunder shall be in writing and shall be given in
            writing by personal delivery, facsimile, commercial air delivery
            service or by registered or certified mail, postage prepaid, return
            receipt requested, addressed to the Company at the address set forth

                                       13
<PAGE>

          in the introductory paragraph to this Agreement and to the Investor at
          the addresses set forth on Schedule A, or at such other address as the
                                     ----------
          respective parties may designate by like notice from time to time.
          Notices so given shall be effective upon the earlier of: (a) receipt
          by the party to which notice is given (which, in the instance of a
          facsimile, shall be deemed to have occurred at the time that the
          machine transmitting the facsimile verifies a successful transmission
          of the facsimile); (b) on the fifth business day following the date
          such notice was deposited in the mail; or (c) on the second business
          day following the date such notice was delivered to a commercial air
          delivery service.

     (e)  This Agreement shall be construed and enforced in accordance with the
          laws of the State of Minnesota.

     (f)  This Agreement may be executed in two or more counterparts, each of
          which shall be deemed an original, but all of which together shall
          constitute one and the same instrument.  This Agreement may be
          executed by facsimile.

                         [NEXT PAGE IS SIGNATURE PAGE]

                                       14
<PAGE>

IN WITNESS WHEREOF, the Company and the Investor have executed this Agreement
effective as of the date first written above.

                                    OPTICAL SENSORS INCORPORATED

                                    By______________________________________
                                      Paulita LaPlante,
                                      President and Chief Executive Officer

                                    CIRCLE F VENTURES LLC

                                    By______________________________________

                                    Its_____________________________________

                                       15
<PAGE>

                                  SCHEDULE A


Investor

Circle F Ventures LLC
17797 North Perimeter Drive
Suite 105
Scottsdale, Arizona 85255

                                       16
<PAGE>

                                   SCHEDULE A


                                         BONUS
                                      DESIGNATION

                   EMPLOYEES
                   ---------
          Paulita LaPlante                 1
          Wes Peterson                     1
          Dan Bartnik                      1
          Victor Kimball                   1
          Rochell Gifford
          Kent Winger                     ***
          Randy Sherbrooke
          Eddie Anderson
          Jim Zirbes
          Irvin Pierskalla
          Brian Halverson
          Jason Alderete
          Brandon Reynolds
          James Todd
          Kathy Haldeman
          Michelle Strayer
          Richard Wallner
          Steven Nevala
          Christina Zehnder
          Kham Phatachack

          ---------------------

                  Totals


          Bonus Breakout:
            Tier 1 = 60%
            Tier 2 = 30%
            Tier 3 = 10%


***The remaining text under this column has been omitted pursuant to a request
made by the Company for confidential treatment by the Securities and Exchange
Commission. The omitted portions have been filed separately with the Commission.
Prior filing of this exhibit should not be relied upon due to the fact that
markings in such filings do not accurately reflect the redactions in this
exhibit.

                                       17