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|UNITED STATES                                               
|------------------------------------------------------------
|SECURITIES AND EXCHANGE COMMISSION                          
|Washington, D.C. 20549                                      
|                                                            
|FORM
      10-K                                             
|(Mark
      One)                                            
|þ                                                           
|For the
      fiscal year ended December 31, 2008           
|OR                                                          
|[   ]                                                       
|For the
      transition period from _______ to _______     
|                                                            
|Commission
      file number 1-13400                        
|                                                            
|STRATASYS,
      INC.                                       
|(Exact name of
      registrant as specified in its charter)

|Delaware                                                          | 36-3658792                                     
|----------------------------------------------------------------- | -----------------------------------------------
|State or other
      jurisdiction of                              | (I.R.S.
  Employer                             
|incorporation or
      organization                               | Identification
    No.)                        
|                                                                 
|7665 Commerce Way,
      Eden Prairie, Minnesota 55344            | 55344                                          
|(Address of Principal
      Executive Offices)                    | (Zip Code)                                     
|                                                                 
|Registrants telephone
      number, including area code          | **(952)**937-3000                              
|                                                                 
|Securities registered
      pursuant to Section 12(b) of the Act: |                                                
|Title of each
    class                                           | Name of each exchange on
      which registered
|Common stock, $.01 par
      value                                | NASDAQ Global Select
      Market              

Securities registered pursuant section 12(g) of the
Act:None

Indicate by check mark if the registrant is a
well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes þ No [   ]

Indicate by check mark if the registrant is not
required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes [   ] No þ

Indicate by check mark
whether the registrant: (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding
12 months (or for such shorter period that the registrant was required to file
such reports), and (2) has been subject to such filing requirements for past 90
days. Yes þ No [   ]

Indicate by check mark
if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not
contained herein, and will not be contained, to the best of registrants
knowledge, in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-K or any amendment to this Form 10-K.
þ

Indicate by check mark
whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer, or a smaller reporting company. See the definitions of
large accelerated filer, accelerated filer and smaller reporting company
in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer
      [   ]
    Accelerated filer þNon-accelerated filer
      [   ]
    Smaller reporting company
      [   ] (Do not check
      if a smaller reporting company)


|Indicate by check mark whether the registrant is a shell company
      (as defined in Rule 12b-2 of the Exchange Act).
|----------------------------------------------------------------------------------------------------------------------
|Yes [   ] Noþ                                                                                                         

The aggregate market
value of the registrants Common Stock held by non-affiliates of the registrant
as of June 30, 2008, the last business day of the registrants most recently
completed second quarter, was approximately $388,000,000. On such date, the
closing price of the Registrants Common Stock, as quoted on the Nasdaq Global
Select Market was $18.46.

The
registrant had 20,221,972 shares of common stock outstanding as of February
27, 2009.

---

DOCUMENTS INCORPORATED BY REFERENCE

Portions of
the registrants Definitive Proxy Statement to be filed with the Securities and
Exchange Commission with respect to the registrants Annual Meeting of
Stockholders scheduled to be held on May 7, 2009 are incorporated by reference
into Part III of this Annual Report.

---

|TABLE OF
      CONTENTS | 
|----------------------- | 
|                        | 
|Part
      I            | 
|                        | 
|Item
      1.           | 
|Item 1A.                | 
|Item
      1B.          | 
|Item 2.                 | 
|Item
      3.           | 
|Item 4.                 | 
|                        | 
|Part
      II           | 
|                       
|Item 5.                 | 
|Item 6.                 | 
|Item 7.                 | 
|Item 7A.                | 
|Item
      8.           | 
|Item
    9.             | 
|Item
      9A.          | 
|Item 9B.                | 
|                        | 
|Part
      III          | 
|                        | 
|Item
      10.          | 
|Item 11.                | 
|Item 12.                | 
|Item 13.                | 
|Item
      14.          | 
|                        | 
|Part
      IV           | 
|                        | 
|Item
      15.          | 
|Signatures              | 

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PART I

Item 1. Business.

General Development of Business

We
are a worldwide leading manufacturer of three-dimensional (3D) printers and
high-performance rapid prototyping (RP) systems for the office-based RP and
direct digital manufacturing (DDM) markets. Our 3D printers and
high-performance RP systems provide 3D computer-aided design (CAD) users a
fast, office-friendly, and low-cost alternative for building functional 3D
parts. We develop, manufacture and sell a broad product line of 3D printers and
DDM systems (and related proprietary consumable materials) that create physical
models from CAD designs. We also offer rapid prototyping and production part
manufacturing services through our centers located in North America, Europe and
Australia.

We
were incorporated in Delaware in 1989 and our executive offices are located in
Eden Prairie, Minnesota. Our systems are based on our core patented fused
deposition modeling (FDM®) technology and on our patented
Genisys® technology, which we purchased from IBM in 1994. We sold our
first product, the 3D Modeler®, commercially in April 1992 and
introduced our second product, the Benchtop, in June 1993. In February 2002, we
introduced the Dimension® system, our first 3D printer. Dimension
offers modeling capabilities in durable ABS plastic using a desktop 3D printer
platform. In May 2007, we introduced the Fortus 200mc, which was the first of
several systems specifically designed for DDM, which is the production of end
use parts and assembly tools rather than prototypes. Other recent significant
developments in our business are set forth below:

- In
  February 2009, we announced the rebranding of our high-end FDM product group
  as Fortus 3D Production Systems. Since Stratasys introduced Dimension and
  RedEye as individual brands several years ago, there has been some confusion
  about the identity of our flag-ship product line. Informally it has been
  called the FDM Group or the High-End Systems line. By branding this line as
  Fortus, we aim to give it a distinct and powerful brand name.
- In January 2009, we introduced the
  uPrint Personal 3D Printer priced at $14,900. Designed for the desktop, uPrint
  requires only a 25 x 26 inch footprint and features an 8 x 6 x 6 inch build
  envelope.Using our proven FDM technology,
  uPrint builds models with Stratasys ABSplus a material that on average is
  40 percent stronger than our standard ABS material, making it ideally suited
  for testing the form, fit and function of models and prototypes. The uPrint
  also features a soluble support removal system, allowing for hands-free
  removal of the model support material.
- In December 2008, we announced that
  AutoCAD users can now order digitally manufactured prototypes and production
  parts quickly and easily through a new on-demand 3D printing capability
  supported by our Redeye Paid Parts business. AutoCAD 2009 subscription
  customers now have access to this new functionality via a new bonus pack.
  Included in the new bonus pack is on-line ordering capability, giving
  designers and engineers the ability to get instant quotes and place orders
  from our Redeye Paid Parts service.
- In December 2008, we announced that we
  will sell our Fortus 3D Production Systems through a select group of North
  American resellers from our established reseller channel, which had previously
  distributed only the Dimension 3D printer product line. This sales strategy
  leverages our success with a network of independent regional resellers that we
  believe is the strongest sales channel in the industry. This new strategy more
  than triples our sales support for high-end systems.
- In August 2008, we began commercial
  shipment of the Fortus 900mc, which represents our largest system ever. It is
  capable of building parts up to 4.5 feet measured on the diagonal, nine times
  larger than parts built by the Fortus 400mc introduced in 2007. The Fortus
  900mc uses ball-screw technology, which improves part accuracy and
  repeatability and can hold tighter tolerances. This new product is the direct
  result of a $3.6 million order from a Fortune 500 global manufacturing company
  received in September 2005 to advance our proprietary FDM®
  technology for DDM applications.
- In
  February 2008, we launched RedeyeArc.com specifically aimed at serving the
  architectural market through our Paid Parts business.

1

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- In
  January 2008, we introduced two new 3D printers, the Dimension 1200es SST and
  BST. The BST builds with break away supports while the SST builds with
  automated soluble support removal. Both offer the customer the
  ABSplusmaterial previously available only on the Dimension Elite. Priced at $32,900
  and $18,900, depending on the type of supports, the 1200es builds in thinner
  layers, offering better fine feature model detail.
- In January 2008, we introduced the
  Fortus 360mc. The Fortus 360mc is an entry level DDM system that was designed
  for users with demanding applications that require the same accuracy,
  repeatability, and material specifications of more expensive Fortus systems
  but do not require comparable speed or advanced features.

Description of Business

We
develop, manufacture, market, and service a family of 3D printers and 3D
Production Systems that enable engineers and designers to create physical
models, tooling and prototypes out of plastic and other materials directly from
a CAD workstation. Our high-performance systems are used both to create
prototype models as well as to produce parts for end-user, or DDM, applications.
Our 3D printers and high-performance systems can be used in office environments
without expensive facility modification. In many industries, the models and
prototypes required in product development are produced laboriously by
hand-sculpting or machining, a traditional process that can take days or weeks.
Our computerized modeling systems use our proprietary technology to make models
and prototypes as well as end-use parts directly from a designers 3D CAD in a
matter of hours. In addition to selling RP systems and 3D printers, our Paid
Parts service makes and sells physical models, tooling and prototypes for RP and
DDM applications based on our customers CAD files. We estimate that
approximately 35% of our high-performance RP system sales are used for DDM
applications.

We
believe that the 3D printers and Fortus 3D Production Systems using our FDM
technology are the only systems commercially available that can produce
prototypes and parts from industry product-grade plastic without relying on
lasers. This affords our products a number of significant advantages over other
commercially available 3D rapid prototyping technologies that rely primarily on
lasers to create models. Such benefits include:

- the
  ability to use the device in an office environment due to the absence of
  hazardous emissions
- little or no post-processing
- ease
  of use
- the
  need for relatively little system set up
- the
  availability of a variety of plastic materials
- modeling in product-grade plastics for functional testing
- no
  need for costly replacement lasers and laser parts

Our systems can also run virtually
unattended, producing models while designers perform other tasks.

The
process involved in the development of a 3D model using our Fortus 3D Production
Systems begins with the creation of a 3D geometric design on a CAD workstation.
The design is then imported into our proprietary software program, which
mathematically slices the CAD design into horizontal layers that are
automatically downloaded into the system. A spool of thin thermoplastic modeling
material feeds into a moving FDM extrusion head, which heats the material to a
semi-liquid state. This semi-liquid material is extruded and deposited, one
ultra-thin layer at a time, on a base (the X-Y Stage) in a
thermally-controlled modeling chamber. As the material is directed into place by
the computer-controlled head, layer upon layer, the material solidifies,
creating a precise and strong model.

Based
upon data and estimates furnished in the 2008 Wohlers Report, through 2007 we
shipped approximately 34% of all RP systems since the industrys inception in
1987, an improvement over the 24% we realized through 2002. The 2008 Wohlers
Report also states that we shipped 44% of all RP systems globally in 2007 and
53% of all 3D printers shipped globally in 2007.

2

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**Applications for High-Performance Systems and 3D Printers**

Both
high-performance systems and 3D printers allow for the physical modeling of a
design using a special class of machine technology. These systems take data
created from CAD data, CT and MRI scan data or 3D digitized data to quickly
produce models, using an additive approach. Traditionally, RP and 3D printing
have been used by organizations to accelerate product development. Many
companies use RP and 3D printing models to test form, fit and function to help
improve the time to market.

Frequently, users report rapid pay-back times by using RP and 3D printing, as
they accelerate their product development cycle and reduce post-design flaws
through more extensive design verification and testing.

We
also have opportunities for DDM. DDM involves the use of our systems for the
direct manufacture of parts that are subsequently incorporated into the users
end product or process. DDM is particularly attractive in applications that
require short-run or low-volume parts that require rapid turn-around, and for
which tooling would not be appropriate due to small volumes. Our Fortus 200mc,
360mc, 400mc, and 900mc systems are well suited for these types of applications.

An
emerging portion of the DDM market segment is the production of fabrication and
assembly tools that aid in the customers production and assembly process. We
believe this fabrication and assembly tool market is substantially larger than
the $1.1 billion additive fabrication market that we currently serve. In
addition, we have seen a growing number of applications for end-use parts.

During the past five years, the largest growth segment of the additive
fabrication market has been 3D printers. 3D printers are low-cost RP systems
(typically under $40,000) that reside in the design/engineering office
environment, allowing product development organizations quick access to a
modeling system.

We
have shipped over 11,000 systems since our inception. A wide variety of design
and manufacturing organizations use our systems. Current markets and
applications include:

AerospaceConsumer ProductsEducational InstitutionsMedical SystemsMold MakingDirect digital manufacturing of custom partsHeavy Equipment
    
    AutomotiveBusiness MachinesElectronicsMedical AnalysisToolingFixturesArchitecture


Additional future applications include:

Free-form graphic
        designGaming, art and animation
    
    Secondary tooling


Among
potential medical applications, rapid prototyping is being used to produce
accurate models of internal organs, bones and skulls for pre-operative
evaluations or modeling of prostheses. In such uses, our RP systems serve as a
peripheral device for CT and MRI devices.

Products

**3D Printers and High-Performance Systems**

We
have been developing and improving our line of products since our inception in
1989. Since our first commercial product was introduced in 1992, we have
enhanced and expanded our product line. We have improved both the speed and the
accuracy of our Fortus systems, expanded their build envelopes, introduced a
number of new modeling materials and developed and introduced a low-cost 3D
printer. We have also enhanced and upgraded the software that our systems use to
read CAD files and build parts.

3

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Each
of our products is based upon our patented FDM process, and our 3D printers also
employ technology acquired from IBM. Our products are sold as integrated
systems, consisting of an RP machine, the software to convert the CAD designs
into a machine compatible format and modeling materials. Each of our products is
compatible with an office environment and does not require an operator to be
present while it is running.

Our
family of 3D printers and high-performance systems affords a customers product
development team, including engineers, designers and managers, the ability to
create prototypes through all stages of the development cycle. Our products meet
the needs of a very demanding and diverse industrial base by offering a wide
range of capability and price from which to choose. The domestic list prices of
our systems range from $14,900 for our new uPrint Personal 3D Printer to
$400,000 for our high productivity Fortus 900mc.

The
Dimension line of 3D printers allows users to create parts in ABSplusplastic. ABS usually
offers the part strength required for true form, fit and functional testing.
Dimension operates in the office offering speed, ease of use and networking
capabilities at a competitive price. It features our Catalyst EX®
software, which offers a single push-button operation by automating all of the
required build procedures. We introduced the uPrint Personal 3D printer in
January 2009 at a list price of $14,900. Using Dimensions proven FDM
technology, uPrint builds models with Stratasys ABSplus a material on average 40
percent stronger than our standard ABS material, making it ideally suited for
testing the form, fit and function of models and prototypes. uPrint also
features a soluble support removal system, allowing for hands-free removal of
the model support material. The Dimension 1200es SST, introduced in January 2008
and priced at $32,900, offers the ability to build larger parts and creates
parts from our new ABSplusmaterial.

The
Fortus 200mc is our lowest priced high performance FDM System that incorporates
our WaterWorks soluble support system and InSight Software. The patented
WaterWorks process allows for the easy removal of supports from a completed
prototype by simple immersion into a water-based solution. Since support
material is dissolved, resulting in a cleaned prototype, most post-processing
steps required in our competitors systems are eliminated. The Fortus 200mc is
further enhanced by the use of our InSight software. InSight offers the customer
a more flexible array of features allowing for a range of fully automatic
operations to individual and customized functions for each step of the build
process. With the combination of ABS, WaterWorks and InSight software, the
Fortus 200mc offers the customer hands free operation of the entire prototype
building process. The Fortus 200mc was introduced in May 2007, and represents
our first system specifically designed to target the DDM market. We have
announced that the Fortus 200mc will no longer be sold in the US market
beginning in 2009.

The
Fortus 400mc was introduced in July 2007 and represents an increase in
repeatability, part accuracy and material strength over the Vantage and Titan
systems, which are being discontinued. In addition, in January 2008, we
introduced the Fortus 360mc, which offers similar part quality to the Fortus
400mc, but fewer material choices and slower build speeds. Both of these systems
can be configured to meet specific customer needs. Prices for these systems
range from $75,000 to $225,000 depending on the configuration and needs of the
customer.

In December
2007, we introduced the Fortus 900mc, which represents our largest system ever.
It is capable of building parts up to 4.5 feet measured on the diagonal, nine
times larger than parts built by the Fortus 400mc. The Fortus 900mc uses
ball-screw technology, which improves part accuracy, positional repeatability
and tolerances. This new product is the direct result of a $3.6 million order
from a Fortune 500 global manufacturing company entered into in September 2005
to advance our proprietary FDM® technology for direct digital
manufacturing applications.

We
periodically discontinue manufacturing older products. We discontinued sales of
the GenisysXs, FDM 8000 and Prodigy systems at various times in 2002. We
discontinued sales of the FDM 2000 in 2003 and the FDM 3000 in 2004. We
discontinued the Prodigy Plus in 2007 and discontinued the Vantage and Titan
product lines during 2008. Although we have discontinued the manufacture of
these systems, we continue to provide service support in the field.

**Part Build Material**

We
believe that FDM technology allows the use of a greater variety of production
grade plastic building materials than other RP technologies. We continue to
develop filament modeling materials that meet our customers needs for increased
speed, strength, accuracy, surface resolution, chemical and heat resistance, and
color. These materials are processed into our patented filament form, which is
then fed into the Fortus systems. Our spool-based system has proven to be a
significant advantage for our products over ultraviolet (UV) polymer systems
or powder based systems, because our system allows the user to quickly change
material by simply mounting the spool and feeding the desired filament into the
FDM devices. Spools weigh from one pound to ten pounds, and the creation of a
model may require from 0.1 pound to more than one pound of filament. The
spool-based system also compares favorably with stereo lithography (SLA) UV
polymer systems, because the spool-based system allows the customer to use it in
an office environment and to purchase a single spool, as compared to an entire
vat of SLA UV polymer, thereby reducing the customers up-front
costs.

4

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Currently, we have eight modeling materials commercially available for use with
our FDM technology:

- ABS
  is an engineering thermoplastic material (named for its three initial
  monomers, acrylonitrile, butadiene, and styrene), which offers a balance of
  strength, toughness and thermal resistance and is used commercially to make
  products such as cell phones, computer cases and toys.
- Polycarbonate (PC) is an engineering
  thermoplastic material, which is used commercially for demanding applications
  in a number of industries. PC offers superior impact strength coupled with
  resistance to heat and corrosive agents.
- PC-ABS is a blend of PC and ABS plastic.
  The blend combines the strength of PC with the flexibility of ABS.
- Polyphenylsufone (PPSF) is a specialty
  thermoplastic material that offers excellent mechanical properties while being
  subjected to demanding thermal and chemical environments. PPSF is used to make
  prototype parts for numerous industries, including automotive, fluid and
  chemical handling, aerospace, and medical sterilization.
- PC-ISO, a derivative of PC that is
  translucent, expands the usage of polycarbonate models and prototypes in
  various medical applications.
- ABSplusand M-30, like ABS, are
  thermoplastic materials with all the associated benefits. ABSplus has the
  added benefit of creating additional part strength. Parts built with these
  materials are on average 40% stronger than our standard ABS parts.
- ABSi is a higher grade translucent ABS,
  which features greater impact strength than our standard ABS. It can also be
  used in medical applications, including gamma-ray sterilization.
- ULTEM 9085 (our newest material) is a
  strong, light weight, flame and chemically resistant thermoplastic material
  that is frequently used in aerospace, automotive and military
  applications.

In
addition to the modeling materials, we offer a proprietary water-soluble
material, WaterWorks, used for support during the build process, which is later
dissolved from the finished part. Other proprietary release materials are used
for support and are removed from the final model by hand.

Each
material has specific characteristics that make it appropriate for various
applications. The ability to use different materials allows the user to match
the material to the end use application of the prototype, whether it is a
pattern for tooling, a concept model, or a functional part. ABS and
ABSplusare
also offered in numerous colors, including white, black, red, blue, yellow and
green. We offer a program to create custom colors for unique customer needs.

The
modeling and support filament used in the RP and DDM systems and 3D printers
that we sell are consumable products that provide us additional recurring
revenue.

**Operating Software**

Our
high-performance systems and 3D printers use one of two software products that
convert the three-dimensional CAD databases into the appropriate two-dimensional
data formats. The software products also provide a wide range of features,
including automatic support generation, part scaling, positioning and nesting,
as well as geometric editing capabilities. The software is not sold as a
stand-alone product.

5

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Catalyst EX, our entry-level software product, enables users to build prototype
parts at the push of a button. It was introduced in 2000 and is used on
Dimension 1200es SST and BST, Dimension Elite, Dimension 768 BST and SST, and
uPrint.

Our
InSight preprocessing software is used on the remainder of our Fortus products 
Fortus 200mc, 360mc, 400mc, and 900mc, Vantage, Titan and Maxum. It increases
build speed and improves the design engineers control and efficiency over the
entire build process. It has a broad set of features that facilitate the
demanding applications ranging from a single push button for automatic
preprocessing to individual editing and manipulation tools for each process
step.

We
continuously improve both software products to meet the demands of our
sophisticated customers. Throughput enhancements, advanced build algorithms and
features are intended to keep pace with complex industrial geometric designs
while saving valuable operator time.

Services

**Maintenance, Leasing, Training and Contract Engineering**

We
also provide a number of services in relation to our rapid prototyping business.
We provide maintenance to our customers under our standard warranties and
separate maintenance contracts. In the United States, we lease or rent Fortus 3D
Production Systems and Dimension 3D printers under operating agreements to
customers that do not desire to purchase them or enter into sales-type leases.
We offer training to our customers, particularly on our high-performance
systems. Finally, from time to time we offer contract engineering services to
third parties in connection with the development of systems and services
incorporating our proprietary technology.

**RedEye Paid Parts**

Our
RedEye Paid Parts service offers customers the ability to purchase prototypes
and end-use parts that we make for them from CAD files that they provide to us.
We have a facility near our corporate headquarters dedicated to Paid Parts
operations. Our RedEye on Demand website service, www.redeyeondemand.com,
enables our customers to obtain quotes and order parts around the clock, seven
days a week. RedEye on Demand offers unmatched expertise and production capacity
using the latest in proven rapid prototyping and direct digital manufacturing
technologies and processes.

Marketing, Distribution and Customers

**Marketing and Customers**

The
focus of our marketing begins with the identification of customer needs. We
feature a broad array of products that allow us to meet the precise needs of
engineers, designers, educators, marketers and manufacturers. Our products range
from uPrint, priced at $14,900, to a high productivity Fortus 900mc, priced up
to $400,000. We currently offer eight systems between these price points meeting
a variety of material, size and performance criteria.

We
have sold systems to the following representative customers:

The Boeing CompanyIntelHewlett PackardUniversity of Wisconsin - MadisonHyundaiLegoHondaMedtronic-Sofamar Danek
    Harley DavidsonDellXeroxNASALockheed MartinLeverFord Motor Company
    ToyotaNikeMitsubishi ElectronicsPioneer SpeakerSt. Jude MedicalToroGraco


6

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Based
on estimates from the 2008 Wohlers Report, 3D printers represented approximately
74% of all RP systems sold in 2007, and Dimension systems accounted for about
53% of all 3D printers shipped in 2007.

No
customer accounted for more than 10% of sales in 2008, 2007, or 2006.

We
use a variety of tactical marketing methods to reach potential
customers:

Web-based marketingTrade magazine articlesBrochuresWebsitesInternet blogsPress releasesIndustry associations
    Print advertisementsDirect mailingsTrade show demonstrationsTelemarketing programsBroadcast e-mailWebinarsInternet search engines


In
addition, we have developed domestic and international on-site demonstration
capabilities.

**Sales Field Reorganization**

Beginning in 2009, we converted the existing Fortus and 3D printing sales
organizations to a new structure that is now divided into two groups based on
geographical areas. The Americas sales organization covers North, Central and
South America and the International sales organization covers all other areas of
the world. In conjunction with this reorganization, we replaced our Fortus
direct sales channel in the United States with a select group of existing
resellers as further described below. This reorganization serves to better align
our sales and marketing resources with our diverse customer base and,
specifically in the United States, more than triples our sales support for
high-end systems.

**Americas Sales
Organization**

The
Americas sales organization provides sales support to a network of approximately
120 reseller locations in North, Central and South America. On January 1, 2009,
we began selling our Fortus 3D Production Systems through a select group of
North American resellers that had previously distributed only the Dimension 3D
printer product line. This sales strategy leverages our success with a network
of independent regional resellers that we believe is the strongest sales channel
in the industry. By replacing our Fortus 3D Production Systems direct sales
channel with our existing reseller channel, we have converted a significant
portion of our fixed selling costs to a variable cost structure.

**International Sales
Organization**

The
International sales organization uses a worldwide network of approximately 130
resellers to market, sell, and service our 3D printers and Fortus 3D Production
Systems. Our International sales organization supports all major regions of the
world outside of the Americas including Europe, the Middle East, Japan, Korea,
Taiwan and China. We also operate international sales and service centers
located in Frankfurt, Germany; Bologna, Italy; Bangalore, India; Tokyo, Japan;
and Shanghai, China.

**Reseller Network**

We
use an extensive world-wide reseller network to market, sell and service our 3D
printers, Fortus 3D Production Systems, consumable materials, maintenance
service contracts and service parts. Almost all of the reseller outlets have 3D
Printers available for tradeshows, product demonstrations, and other promotional
activities. Many of them also enjoy a long-term presence in their respective
territories making this distribution model highly effective relative to a direct
sales model. In addition to our 3D Printers and Fortus 3D Production Systems,
most resellers also sell and service a third-party 3D solid CAD software
package.

7

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The uPrint
maintenance and servicing will be performed by a third-party service
organization or by selected resellers in certain international locations. In
2009, we intend to add a new type of reseller that will resell only the uPrint
3D printer, allowing us to broaden our overall distribution of that
product.

RedEye Paid Parts

In 2006, we established a dedicated internal sales channel to offer our
RedEye Paid Parts services through our RedEye on Demand instant Internet quoting
system. This team is responsible for growing our Paid Parts service and
nurturing customers who have RP and DDM part needs. Their objective is to insure
the customer has a favorable experience when solving their internal part
requirements. Besides a commitment to customer satisfaction, an essential
objective of this operation is to increase the number of quality FDM parts in
the marketplace, which, in turn, we believe will also support the expansion of
our system sales. Various distribution agreements have been established to
accomplish these goals and continue to grow this service. In 2007, we launched
Redeye RPM, later rebranded as Redeye on Demand, in both Europe and Australia.
In addition, in February 2008, we launched RedeyeArc.com specifically aimed at
serving the architectural market. In December 2008, we announced that AutoCAD
users can now order digitally manufactured prototypes and production parts
quickly and easily through a new on-demand 3D printing capability supported by
our Redeye Paid Parts business. AutoCAD 2009 subscription customers now have
access to this new functionality via a new bonus pack. Included in the new bonus
pack is online ordering capability, giving designers and engineers the ability
to get instant quotes and place orders from our Redeye Paid Parts
service.

**Customer Support**

Our Customer Support department provides on-site system installation and
maintenance services and remote technical support to users of our products. We
offer services on a time and material basis as well as through a number of
post-warranty maintenance contracts with varying levels of support and pricing.
Our help desk provides technical support via phone, fax, and e-mail to
international customers, resellers, and to our field service personnel. We
supply a toll-free telephone number that our domestic customers can utilize to
request technical assistance, schedule service visits, order parts and supplies,
or directly contact a manager within the Customer Support department.

For our high performance systems, we employ a field service organization
that performs system installation, basic operation and maintenance training, and
a full range of maintenance and repair services at customer sites. Field
representatives have been trained and certified to service all of our products.
Representatives are strategically located in regional offices across North
America and are equipped with cellular phones and laptop computers. They have
secure remote access to a customer service database containing service history
and technical documentation to aid in troubleshooting and repairing systems. We
will continue to service all Fortus 3D Production Systems sold through the new
sales channel organization at least through 2009.

Customer Support is represented on all cross-functional product
development teams within Stratasys to ensure that products are designed for
serviceability and to provide our internal design and engineering departments
with feedback on field issues. Failure analysis, corrective action, and
continuation engineering efforts are driven by data collected in the field.
Ongoing customer support initiatives include development of advanced diagnostic
and troubleshooting techniques and comprehensive preventative maintenance
programs, an expanded training and certification program for technical
personnel, and improved communication between the field and the factory.

The uPrint maintenance and servicing will be performed by a third-party
service organization or by selected resellers in certain international
locations.

**Warranty and Service**

We offer a one-year warranty on Fortus 3D Production Systems and uPrint
worldwide. In addition we offer a one-year warranty on all systems sold
internationally and systems sold into the education market domestically. All
other domestically sold systems have a 90-day warranty. In addition, we offer
annual and multiple-year service and maintenance contracts for our systems.
Annual service contracts for our systems are priced from approximately $2,200 to
$48,000 per year.

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Manufacturing

Our manufacturing process consists of assembling systems using purchased
components from our proprietary designs and producing consumable filament to be
used within our systems. We obtain all parts used in the manufacturing process
either from distributors of standard electrical or mechanical parts or from
custom fabricators of our proprietary designs. Our suppliers are measured by
on-time performance and quality. We currently operate on a build-to-forecast
basis.

We purchase major component parts for our Fortus 3D Production Systems
and 3D printing systems from various outside suppliers, subcontractors and other
sources and assemble them at our Minnesota facilities. Our production floor has
been organized using demand-flow techniques (DFT) in order to maximize
efficiency and quality. Using DFT, our production lines are balanced and as
capacity constraints arise, we can avoid the requirements of reconfiguring our
production floor. Computer-based Material Requirements Planning (MRP) is used
for reordering to insure on-time delivery of forecasted parts. All operators and
assemblers are certified and trained on up-to-date assembly and test procedures
including Assembly Requirement Documents, which originate in engineering. The
assembly process includes semi-automated functional tests of key subassemblies.
Key functional characteristics are verified through these tests and the results
are stored in a statistical database. At the completion of assembly, we perform
a complete power up and final quality tests to ensure the quality of our
products before shipment to customers. The complete final quality tests must be
run error free before the system can be cleared for shipment. We maintain a
history log on all products that shows revision level configuration and a
complete history during the manufacturing and test process. All issues on the
system during the manufacturing process are logged and tracked and used to make
continuous process improvements of our production processes. Other manufacturing
strengths that are incorporated into our new designs are the commonality of
designs among our different products as well as the incorporation of Six Sigma
concepts. Our filament production utilizes Factory Physics®
techniques to manage critical buffers of time, capacity and inventory to ensure
product availability. We also utilize the 5S method (Sort, Set-in-order,
Shine, Standardize and Sustain) as part of our lean manufacturing initiatives to
improve organization and efficiency. Additionally, we recycle many filament
cartridge parts.

We maintain an inventory of most of our necessary supplies, which
facilitates the assembly of products required for production. While most
components are available from multiple suppliers, certain components used in our
systems and consumables are only available from single or limited sources.
Should our present single or limited source suppliers become inadequate, we
would be required to spend a significant amount of time and money researching
alternate sources. We consider these suppliers to be very reliable. Although we
believe we maintain adequate inventories of vendor-specific materials, the loss
of a supplier of such vendor-specific materials or compounds could result in the
delay in the manufacture and delivery of those materials and compounds. The
delay could require us to find an alternate source, which would require us to
re-qualify the product supplied by one or more new vendors. We continue to
develop risk management plans for these critical suppliers. We consider our
relationships with our suppliers to be good.

Research, Development and Engineering

We believe that ongoing research, development and engineering efforts are
essential to our continued success. Accordingly, our engineering development
efforts will continue to focus on improvements to the FDM technology and
development of new modeling processes, materials, software, user applications
and products. We have devoted significant time and resources to the development
of a universally compatible and user-friendly software system. We are committed
to designing products using the principles of Six Sigma. We continue to
standardize our product platforms, leveraging each new design so that it will
result in multiple product offerings that are developed faster and at reduced
expense. The Fortus 200mc, 360mc, 400mc, 900mc, Dimension, and uPrint products
as well as the Catalyst and InSight software products are examples of this
successful strategic initiative. For the years ended December 31, 2008, 2007 and
2006, our research, development and engineering expenses were approximately $9.0
million, $7.5 million and $6.7 million, respectively.

Our filament development and production operation is located at our
facilities in Eden Prairie, MN. We regard the filament formulation and
manufacturing process as a trade secret and hold patent claims on filament usage
in our products.We purchase raw material plastics for our consumable filament production
from various large plastic suppliers.

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Intellectual Property

We consider our
proprietary technology to be material to the development, manufacture, and sale
of our products and services and seek to protect our technology through a
combination of patents and confidentiality agreements with our employees and
others. All patents and patent applications for our rapid prototyping processes
and apparatuses associated with the FDM process have been assigned to us by
their inventors. As part of our purchase of rapid prototyping technology assets
from IBM, we were also assigned the rights and title to three patents developed
by IBM, which are used in several of our current product lines. We recorded
these patents domestically and are in the process of recording them in certain
foreign countries. The terms of two of these patents extend until April 12,
2011, and May 17, 2011, while the third patent has expired. The United States
patents covering our proprietary FDM technology expire at various times between
2009 and 2027. In total, we currently own over 180 U.S. and international
patents and patent applications. Other foreign patent applications have also
been filed, including the patent applications assigned to us by IBM.

Our registered trademarks include:

Stratasys, Inc.QuickSlice3D PlotterDimension BSTuPrintBuildFDM
    FDMAutoGenFDM QuantumDimension SSTFortus
    CatalystDimensionGenisysDimension EliteRedeye RPM


Other trademarks
include:

FDM MaxumBASSInSightFortus 200mcProdigy Plus
    FDM TitanWaterWorksTouchworksFortus 360mcProdigy
    SupportWorksFDM VantageFortus 900mcFortus
  400mc


Each of the registered trademarks has a duration of 10 years and may be
renewed every 10 years while it is in use. Trademark applications have also been
filed in Japan and the European Community.

We have also registered a number of Internet domain names, including the
following:

Stratasys.comBuildFDM.com3Dprinter.comPaidparts.comBuildpolyjet.comXpress3D.com
    Dimensionprinting.com3D-fax.comwebprototypes.combuildup.comRedeyeARC.comprinting3D.com
    RedEyeRPM.comDimensionDirect.comprototype.comwebmodeling.comFortus.comRedEyeonDemand.com


Backlog

Our total backlog of system orders at December 31, 2008 was approximately
$2.6 million, as compared with approximately $5.7 million at December 31, 2007.
We estimate that most of our backlog will ship in the first half of
2009.

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Seasonality

Historically, our
results of operations have been subject to seasonal factors. Stronger demand for
our products has occurred in our fourth quarter primarily due to our customers
capital expenditure budget cycles and our sales compensation incentive programs.
Our first quarter has historically been our weakest quarter. This trend has been
muted in recent years by the successful introduction of new products.

Competition

We compete in a marketplace that is still dominated by conventional
methods of model-making and prototype development. Machinists and engineers
working from blueprints or CAD files and using machining or manual methods
generally perform the prototype development and fabrication. We believe that
there is currently no other commercial producer of 3D modeling devices that uses
a single-step, non-toxic technology similar to our FDM technology. Most of the
3D printing and other RP systems manufactured by our competitors involve
additional post-processing steps, such as curing the part after construction of
the model or prototype. Our FDM technology does not rely on the laser or light
technology used by other commercial manufacturers in the RP industry.

Our competitors employ a number of different technologies in their RP
devices. 3D Systems and CMET use stereo lithography in their products. 3D
Systems and EOS GmbH produce machines that use selective laser sintering (SLS)
to harden powdered material. Z Corp. uses inkjet technology to bond powdered
materials. Solidscape, 3D Systems and Objet Geometries have developed
prototyping systems that use inkjet technology to deposit resin material layer
by layer. A smoothing or milling process is often required between each
deposited layer to maintain accuracy in these processes. Envisiontec utilizes a
photopolymer mask and a light process to build models. We believe that our FDM
technology has important advantages over our competitors products. These
advantages include:

- the ability to be used in an office
  environment
- the availability of multiple production-grade
  modeling materials
- a one-step modeling process
- low acquisition price
- ease of use
- hands free support removal

Certain of our competitors may have greater financial and marketing
resources than we have. Based on data and estimates presented in the 2008
Wohlers Report, in 2007 we shipped more units globally than any other company in
the RP industry, and we were the second largest in terms of revenue. Wohlers
reports that we shipped 44% of total units shipped in the industry in 2007. We
believe that this trend continued in 2008 as well.

Employees

As of March 1, 2009, we had 368 full-time employees and 8 contractors or
temporary employees. While we have separate internal departments, such as
manufacturing, marketing, engineering and sales, many employees perform
overlapping functions within the organization. No employee is represented by a
union, and we have not experienced any work stoppages. We believe our employee
relations are good.

Governmental Regulation

We are subject to various local, state and federal laws, regulations and
agencies that affect businesses generally. These include:

- regulations promulgated by federal and state
  environmental and health agencies
- the federal Occupational Safety and Health
  Administration
- laws pertaining to the hiring, treatment, safety
  and discharge of employees
- export control regulations for U.S. made
  products

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Environmental Regulation

In the European marketplace, electrical and electronic equipment is
required to comply with the Directive on Waste Electrical and Electronic
Equipment (WEEE) and the Directive on Restriction of Use of Certain Hazardous
Substances (RoHS). WEEE aims to prevent waste by encouraging reuse and
recycling and RoHS restricts the use of six hazardous substances in electrical
and electronic products. Our products and certain components of such products
put on the market in the EU (whether or not manufactured in the EU) are
potentially subject to WEEE and RoHS. We are actively monitoring the development
of such directives and believe we are well positioned to comply with such
directives in the required time frames.

Available Information

We file annual, quarterly and current reports, proxy statements and other
information with the Securities and Exchange Commission. You may read and copy
any document we file at the SECs public reference room at 100 F Street, N.E.,
Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for information on
the public reference room. The SEC maintains a website that contains annual,
quarterly and current reports, proxy statements and other information that
issuers (including Stratasys) file electronically with the SEC. The SECs
website iswww.sec.gov.

Our website iswww.stratasys.com. We make available
free of charge through our Internet site, via a link to the SECs website atwww.sec.gov, our annual reports on Form 10-K; quarterly reports on Form 10-Q;
current reports on Form 8-K; Forms 3, 4 and 5 filed on behalf of our directors
and executive officers; and any amendments to those reports filed or furnished
pursuant to the Securities Exchange Act of 1934 as soon as reasonably
practicable after such material is electronically filed with, or furnished to,
the SEC.

We make available onwww.stratasys.comour most recent
annual report on Form 10-K, our quarterly reports on Form 10-Q for the current
fiscal year and our most recent proxy statement, although in some cases these
documents are not available on our site as soon as they are available on the
SECs site. You will need to have on your computer the Adobe Acrobat Reader
software to view these documents, which are in PDF format. If you do not have
Adobe Acrobat, a link to Adobes Internet site, from which you can download the
software, is provided. The information on our website is not incorporated by
reference into this report.

Financial Information About Operations
In the United States and Other Countries

The information required by this item is incorporated by reference to our
Financial Statements included elsewhere in this report. (See Part IV, Item 15,
Note 16.)

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Item 1A. Risk Factors.

Many of the factors that affect our business and operations involve risk
and uncertainty. The following describes the principal risks affecting us and
our business. Additional risks and uncertainties, not presently known to us or
currently deemed material, could negatively impact our results of operations or
financial condition in the future.

We may not be able to introduce new
high-performance systems and 3D printing systems and materials acceptable to the
market or to improve the technology and software used in our current
systems.

Our ability to compete in the high-performance and 3D printing market
depends, in large part, on our success in enhancing our existing product lines
and in developing new products. Even if we successfully enhance existing systems
or create new systems, it is likely that new systems and technologies that we
develop will eventually supplant our existing systems or our competitors will
create systems that will replace ours. The RP industry is subject to rapid and
substantial innovation and technological change. We may be unsuccessful at
enhancing existing systems or developing new systems or materials on a timely
basis, and any of our products may be rendered obsolete or uneconomical by our
or others technological advances.

If the 3D printing market does not
continue to accept our systems, or if our Fortus high-performance systems do not
meet the needs for DDM applications, our revenues may stagnate or
decline.

We derive a substantial portion of our sales from the sale of 3D printers
and Fortus 3D Production Systems. If the market for 3D printers or 3D production
systems declines or if competitors introduce products that compete successfully
against ours, we may not be able to sustain the sales of those products. If that
happens, our revenues may not increase and could decline.

If we are unable to maintain revenues
and gross margins from sales of our existing products, our profitability will be
adversely affected.

Our current strategy is to attempt to manage the prices of our
high-performance systems and 3D printers to expand the market and increase
sales. In conjunction with that strategy, we are constantly seeking to reduce
our direct manufacturing costs as well. Our engineering and selling, general and
administrative expenses, however, generally do not vary substantially in
relation to our sales. Accordingly, if our strategy is successful and we
increase our revenues while maintaining our gross margins, our operating profits
generally will increase faster as a percentage of revenues than the percentage
increase in revenues. Conversely, if our revenues or gross margins decline, our
operating profits generally will decline faster than the decline in revenues or
gross margins. Therefore, declines in our revenues may lead to disproportionate
reductions in our operating profits.

If our present single or limited source
suppliers become inadequate, our results of operations and financial condition
may be adversely affected.

We maintain an inventory of most of our necessary supplies, which
facilitates the assembly of products required for production. While most
components are available from multiple suppliers, certain components used in our
systems and consumables are only available from single or limited sources.
Should our present single or limited source suppliers become inadequate, we
would be required to spend a significant amount of time and money researching
alternate sources. We consider these suppliers to be very reliable. Although we
believe we maintain adequate inventories of vendor-specific materials, the loss
of a supplier of such vendor-specific materials or compounds could result in the
delay in the manufacture and delivery of those materials and compounds. The
delay could require us to find an alternate source, which would require us to
re-qualify the product supplied by one or more new vendors. The loss of a single
or limited source supplier could adversely affect our results of operations and
financial condition.

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If other manufacturers were to
successfully develop and market consumables for use in our systems, our revenues
and profits could be adversely affected.

We presently sell substantially all of the consumables that our customers
use in our systems. However, even though we attempt to protect against
replication of our consumables through patents and trade secrets and we provide
that our warranties are valid only if customers use consumables that we certify,
it is possible that other manufacturers could develop consumables that could be
used successfully in our systems. If our customers were to purchase consumables
from our competitors, we would lose some of our sales and could be forced to
reduce prices, which would impair our overall revenue and profitability.

If we fail to grow our Paid Parts
service as anticipated, our net sales and profitability will be adversely
affected.

We are attempting to grow our Paid Parts service substantially. To this
end, we have made significant infrastructure, technological and sales and
marketing investments. These investments include a dedicated facility, increased
staffing, use of a substantial number of our Fortus 3D Production Systems
exclusively for Paid Parts, and the development and launch of our RedEye on
Demand service, which enables customers to obtain quotes for and order parts
over the Internet. If our Paid Parts service does not generate the level of
sales required to support our investment, our net sales and profitability will
be adversely affected.

A loss of a significant number of our
resellers would impair our ability to sell our products and services and could
result in a reduction of sales and net income.

We sell all of our products through resellers. We rely heavily on these
resellers to sell our products to end users in their respective geographic
regions. If a significant number of those resellers were to terminate their
relationship with us or otherwise fail or refuse to sell our products, we may
not be able to find replacements that are as qualified or as successful in
selling our products. If we are unable to find qualified and successful
replacements, our sales will suffer, which would have a material adverse effect
on our net income.

We may not be able to adequately
protect or enforce our intellectual property rights, which could harm our
competitive position.

Our success and future revenue growth will depend, in part, on our
ability to protect our intellectual property. We rely primarily on patents,
trademarks and trade secrets, as well as non-disclosure agreements and other
methods, to protect our proprietary technologies and processes. Despite our
efforts to protect our proprietary technologies and processes, it is possible
that competitors or other unauthorized third parties may obtain, copy, use or
disclose our technologies and processes. We cannot assure you that any of our
existing or future patents will not be challenged, invalidated or circumvented.
As such, any rights granted under these patents may not provide us with
meaningful protection. We may not be able to obtain foreign patents or pending
applications corresponding to our U.S. patent applications. Even if foreign
patents are granted, effective enforcement in foreign countries may not be
available. If our patents do not adequately protect our technology, our
competitors may be able to offer products similar to ours. Our competitors may
also be able to develop similar technology independently or design around our
patents. Any of the foregoing events would lead to increased competition and
lower revenue or gross margins, which would adversely affect our net income.

If our intangible assets become
impaired, we may be required to record a significant charge to
earnings.

As of December
31, 2008, the net book value of our intangible assets was approximately $8.3
million. Accounting rules require us to take a charge against our earnings to
the extent that any of these intangible assets are impaired. Accordingly,
invalidation of our patents, trademarks or other intellectual property or the
impairment of other intangible assets due to litigation, obsolescence,
competitive factors or other reasons could result in a material charge against
our earnings and have a material adverse effect on our results of
operations.

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If our investments become impaired, we
may be required to record a significant charge to earnings.

Our investments include tax-free Auction Rate Securities (ARS) and
municipal government bonds, all of which are insured. Given the current
volatility in interest rates and the potential impact of higher interest rates
on the issuers of these securities, a significant increase in interest rates
could impair the ability of one or more issuers to pay interest on, or principal
of, these obligations. Defaults by these issuers or their insurers could cause
an impairment of the value of our investments, resulting in a charge against our
earnings. Any such charge could have a material adverse effect on our results of
operations.

We operate a global business that
exposes us to additional risks.

Our sales outside of the United States accounted for approximately 46% of
our consolidated net sales in 2008. We continue to expand into international
markets. The future growth and profitability of our foreign market is subject to
a variety of risks and uncertainties. Any of the following factors could
adversely affect our sales to customers located outside of the United States:

- Relative strength of the US dollar against foreign
  currencies could make our products more expensive and would reduce our profit
  margins on sales to foreign customers.
- If we are unable to protect our intellectual
  property in foreign countries, competitors could use it to compete against us,
  adversely affecting our sales and profits.
- Political or economic instability in regions where
  we sell our products could reduce or eliminate sales to customers located in
  those regions.
- Seasonal fluctuations in business activity in
  certain countries could result in significant fluctuations in sales from
  quarter to quarter.
- Changes in export controls and tariffs could make
  it more difficult for us to sell our products outside of the United
  States.

Our operating results and financial
condition may fluctuate.

Our operating results and financial condition may fluctuate from
quarter-to-quarter and year-to-year and are likely to continue to vary due to a
number of factors, many of which are not within our control. If our operating
results do not meet the expectations of securities analysts or investors, who
may derive their expectations by extrapolating data from recent historical
operating results, the market price of our common stock will likely decline.
Fluctuations in our operating results and financial condition may be due to a
number of factors, including, but not limited to, those listed below and those
identified throughout this Risk Factors section:

- changes in the amount that we spend to develop,
  acquire or license new products, consumables, technologies or
  businesses;
- changes in the amount we spend to promote our
  products and services;
- changes in the cost of satisfying our warranty
  obligations and servicing our installed base of systems;
- delays between our expenditures to develop and
  market new or enhanced systems and consumables and the generation of sales
  from those products;
- development of new competitive systems by
  others;
- changes in accounting rules and tax
  laws;
- the mix of high-performance systems and 3D
  printers that we sell during any period;
- the geographic distribution of our
  sales;
- our responses to price
  competition;
- market acceptance of our
  products;
- general economic and industry conditions that
  affect customer demand;
- changes in interest rates that affect returns on
  our cash balances and short-term investments;
- failure of a development partner to continue
  supporting certain product development efforts it is funding;
  and
- our level of research and development
  activities.

Due to all of the foregoing factors, and
the other risks discussed in this report, you should not rely on
quarter-to-quarter comparisons of our operating results as an indicator of
future performance.

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Default in payment by one or more
resellers that have large account receivable balances could adversely impact our
results of operations and financial condition.

Large account receivable balances have been concentrated with certain
resellers. Default by one or more of these resellers or customers could result
in a significant charge against our current reported earnings. We have reviewed
our policies that govern credit and collections, and will continue to monitor
them in light of current payment status and economic conditions.Default by one or more of these
resellers would result in a significant charge against our earnings and
adversely affect our results of operations and financial condition.

If we are unable to retain our key
operating personnel and attract additional skilled operating personnel, our
development of new products will be delayed and our personnel costs will
increase.

Our growth plans require us to retain key employees in, and to hire
additional skilled employees for, our operating departments, such as engineering
and computer programming, to enhance existing products and develop new products.
Our inability to retain and hire key engineers and other employees could have
the effect of delaying our development and introduction of new products, which
would adversely affect our revenues. In addition, a possible shortage of such
personnel in the Minneapolis region could require us to pay more to retain and
hire such employees, thereby increasing our costs.

Our common stock price has been and may
continue to be highly volatile.

In the preceding 12 months, our common stock has traded at prices ranging
between $8.77 and $28.20. Investors may have difficulty selling our common stock
following periods of volatility, because of the markets adverse reaction to
such volatility. Factors that we believe have caused or may cause this
volatility include, among other things:

- the volatile global economy;
- actual or anticipated variations in quarterly or
  annual operating results;
- our announcements of the issuance of patents or
  other technological innovations;
- our announcements of new
  products;
- our competitors' announcements of new
  products;
- changes in financial estimates or recommendations
  by securities analysts;
- the employment and termination of key personnel;
  and
- sales or repurchases of our common stock by our
  Company

Many of these factors are beyond our control. These factors may have a
material adverse affect on the market price of our common stock, regardless of
our operating performance.

If our internal controls over financial
reporting do not comply with the requirements of the Sarbanes-Oxley Act, our
business and stock price could be adversely affected.

Section 404 of the Sarbanes-Oxley Act of 2002 requires us to evaluate the
effectiveness of our internal controls over financial reporting as of the end of
each year, and to include a management report assessing the effectiveness of our
internal controls over financial reporting in all annual reports. Section 404
also requires our independent registered public accounting firm to report on the
effectiveness of our internal controls over financial reporting.

Our management, including our CEO and CFO, does not expect that our
internal controls over financial reporting will prevent all error and fraud. A
control system, no matter how well designed and operated, can provide only
reasonable, not absolute, assurance that the control systems objectives will be
met. Further, the design of a control system must reflect the fact that there
are resource constraints, and the benefits of controls must be considered
relative to their costs. Because of the inherent limitations in all control
systems, no evaluation of controls can provide absolute assurance that all
control issues and instances of fraud, if any, involving Stratasys have been, or
will be detected. These inherent limitations include the realities that
judgments in decision-making can be faulty and that breakdowns can occur because
of simple error or mistake. The design of any system of controls is based in
part on certain assumptions about the likelihood of future events, and we cannot
assure you that any design will succeed in achieving its stated goals under all
potential future conditions. Over time, our controls may becomeinadequate because of changes in conditions or deterioration
in the degree of compliance with policies or procedures. Because of the inherent
limitations in a cost-effective control system, misstatements due to error or
fraud may occur and not be detected.

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Although our management has determined, and our independent registered
public accounting firm has concluded in its audit, that our internal controls
over financial reporting were effective as of December 31, 2008, we cannot
assure you that our independent registered accounting firm will not identify a
material weakness in our internal controls in the future. A material weakness in
our internal controls over financial reporting would require management and our
independent registered public accounting firm to evaluate our internal controls
as ineffective. If our internal controls over financial reporting are not
considered adequate, we may experience a loss of public confidence, which could
have an adverse effect on our business and our stock price.

The foregoing list is not exhaustive. There can be no assurance that we
have correctly identified and appropriately assessed all factors affecting our
business or that the publicly available and other information with respect to
these matters is complete and correct. Additional risks and uncertainties not
presently known to us or that we currently believe to be immaterial also may
adversely impact our business. Should any risks or uncertainties develop into
actual events, these developments could have material adverse effects on our
business, financial condition, and results of operations.

We assume no obligation (and specifically disclaim any such obligation)
to update these Risk Factors or any other forward-looking statements contained
in this Annual Report to reflect actual results, changes in assumptions or other
factors affecting such forward-looking statements.

Item 1B. Unresolved Staff Comments.

None.

Item 2. Properties.

Our executive offices and production facilities presently comprise
approximately 198,000 available square feet in three buildings in Eden Prairie,
Minnesota, near Minneapolis.

On August 1, 2001, we purchased our Eden Prairie manufacturing facility
and land for approximately $3.0 million. The facility consists of 62,100 square
feet, and is used for machine assembly, inventory storage, operations, sales
support, and administration.

In March 2004, we purchased an additional 43,900 square foot
manufacturing facility for approximately $1.2 million. The facility is located
near our manufacturing facility in Eden Prairie, Minnesota, and is used for our
Paid Parts service.

In November 2005, we purchased an additional 91,800 square foot
manufacturing facility for approximately $5.1 million. By the end of 2008, we
had substantially completed the improvements needed to make this facility
suitable for our specific usage and had spent approximately $3.3 million. This
facility is used for R&D, administrative, marketing and sales activities and
is adjacent to our manufacturing facility in Eden Prairie, Minnesota. We expect
it to accommodate our intermediate expansion requirements.

We occupy a 26,300 square foot warehouse in Eden Prairie, Minnesota, for
shipping and storage under a lease that expires in September 2010. We also
occupy a 1,830 square foot facility in Minneapolis, Minnesota, for research and
development under a lease that expires in June 2010.

We have two North American sales offices and one service office. We
occupy 2,700 square feet of space in Novi, Michigan, a Detroit suburb, under a
lease that expires in July 2010. We also occupy a 2,500 square foot sales office
under a lease that expires in August 2011 and a 1,440 square foot service office
under a lease that expires in August 2009, both of which are located in Ontario,
California. We believe we will be able to renew the Ontario, California lease
expiring in August 2009. We are also responsible for real estate taxes,
insurance, utilities, trash removal, and maintenance expenses at these
facilities.

17

---

We have three international sales and service offices under lease. Our
German subsidiary leases 8,041 square feet of space in Frankfurt, Germany under
a lease that expires in June 2011. Our Italian subsidiary leases 1,300 square
feet in Bologna, Italy under a lease that expires in December 2010. We have a
1,100 square foot sales office in Bangalore, India, under a lease that expires
in January 2010. We believe we will be able to renew the India lease.

Item 3. Legal Proceedings.

The Company is a party to various legal matters, the outcome of which, in
the opinion of management, will not have a material adverse effect on the
Companys financial position.

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

No matter was submitted to a vote of stockholders, through the
solicitation of proxies or otherwise, during the fourth quarter of the fiscal
year ended December 31, 2008.

18

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PART II

Item 5. Market for Registrants Common
Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.

Market Information

Our common stock is traded on the Nasdaq Global Select Market under the
symbol SSYS.

The following table sets forth the high and low closing sale prices of
our common stock for each quarter from January 1, 2007 through the fiscal year
ended December 31, 2008 reported on the Nasdaq Global Select Market. All prices
have been adjusted for our two-for-one stock split effective August 15,
2007.

High
    
    LowClosing Sale PricesFiscal Year Ended December 31, 2007January 1, 2007  March 31, 2007
    
    $
    21.72
    
    $
    15.49April 1, 2007  June 30, 2007
    
    
    25.02
    
    
    20.57July 1, 2007  September 30, 2007
    
    
    28.34
    
    
    20.00October 1, 2007  December 31, 2007
    
    
    30.27
    
    
    20.75Fiscal Year Ended December 31, 2008January 1, 2008  March 31, 2008
    
    $
    27.32
    
    $
    17.63April 1, 2008  June 30, 2008
    
    
    22.99
    
    
    18.46July 1, 2008  September 30, 2008
    
    
    21.28
    
    
    15.29October 1, 2008  December 31, 2008
    
    
    17.71
    
    
    9.30


Holders

There were approximately 93 record and 8,932 beneficial owners
of our common stock as of March 5, 2009.

Dividends

We have not paid or declared any cash dividends to date. We intend to
retain earnings, if any, to support the growth of our business.

19

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Securities Authorized for Issuance
Under Equity Compensation Plans

The following
table sets forth the number of securities to be issued upon the exercise of, and
the weighted-average exercise price of, outstanding options, warrants and
rights, and the number of securities remaining available for future issuance,
under our equity compensation plans as of December 31, 2008:

|                             |  |                               |  |                         |  | Number of
      securities   
|---------------------------- |  | ----------------------------- |  | ----------------------- |  | -----------------------------
|                             |  |                               |  | Weighted
      average  |  | remaining
      available for
|                             |  | Number of
      securities    |  | exercise price
      of |  | future
      issuance under  
|                             |  | to be issued
      upon       |  | outstanding             |  | compensation
      plans     
|                             |  | exercise of
      outstanding |  | options,
      warrants |  | (excluding
      securities  
|                             |  | options, warrants and rights  |  | and rights              |  | reflected in column (a))     
|                             |  | (a)                           |  | (b)                     |  | (c)                          
|Equity compensation plans    |  |                               |  |                         |  |                              
|approved by security holders |  | 1,735,378                     |  | $     14.42             |  | 1,136,416                    

Note: We do not have any equity
compensation plans that have not been approved by security holders.

Performance Graph

The following graph compares on a cumulative basis the yearly percentage
change, assuming dividend reinvestment, over the last five fiscal years in (a)
the total stockholder return on our Common Stock with (b) the total return on
the Nasdaq (US) Composite Index, and (c) the total return on the information
technology of the Standard & Poors SmallCap 600 Index (S&P 600 Info
Tech Index). The S&P 600 Info Tech Index consists of 125 of the 600 stocks
comprising the Standard & Poors SmallCap 600 Index, a
capitalization-weighted index of domestic stocks chosen for market size,
liquidity and industry representation. We are a component company of the S&P
600 Info Tech Index. The following graph assumes that $100 had been invested in
each of Stratasys, the Nasdaq (US) Composite Index, and the S&P 600 Info
Tech Index on December 31, 2003.

20

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Item 6. Selected Financial Data.

The selected consolidated financial data as of and for the five-year
period ended December 31, 2008, should be read in conjunction with the
Consolidated Financial Statements and related Notes for the year ended December
31, 2008, and the Managements Discussion and Analysis of Financial Condition
and Results of Operations.

|                                                   |  | Years Ended December 31,                      
|-------------------------------------------------- |  | ----------------------------------------------
|                                                   |  | (In
      Thousands, Except Per Share Amounts)
|                                                   |  | 2008                                          
|Statement of Operations Data:                      |  |                                               
|Net sales                                          |  | $                                             
|Gross profit                                       |  |                                               
|Selling, general and
      administrative expenses |  |                                               
|Research and development                           |  |                                               
|Operating
      income                             |  |                                               
|Net income                                         |  |                                               
|Net income per
      basic common share            |  |                                               
|Weighted
      average basic shares outstanding    |  |                                               
|Net income per diluted
      common share          |  | $                                             
|Weighted
      average diluted shares outstanding  |  |                                               
|Balance Sheet
      Data:                          |  |                                               
|Working capital                                    |  | $                                             
|Total
      assets                                 |  |                                               
|Long term debt (less current portion)              |  |                                               
|Stockholders
      equity                         |  | $                                             

21

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Item 7. Managements Discussion and
Analysis of Financial Condition and Results of Operation.

Introduction

Managements Discussion and
Analysis of Financial Condition and Results of Operations is intended to
facilitate an understanding of our business and results of operations. It should
be read in conjunction with our Consolidated Financial Statements and the
accompanying Notes to Consolidated Financial Statements included elsewhere in
this report. All amounts in the following discussions are stated in thousands,
except employees, share and per share data, prices for systems, or as otherwise
indicated.

General

We develop, manufacture, and market a family of 3D printing, rapid
prototyping (RP) and direct digital manufacturing (DDM) systems, which
enable engineers and designers to create physical models, tooling, jigs,
fixtures, prototypes, and end use parts out of plastic and other materials
directly from a computer aided design (CAD) workstation.

Our strategy in 2008 was three-fold:

- Continue expanding our market position in the
  3D printing market through increased sales of the five Dimension products
  including the Dimension 1200es BST and SST introduced in January
  2008.TheDimension 1200es models offer customers the ABSplus material first
  introduced on our Elite that on average is 40% stronger than our other ABS
  material offering. At the end of 2008, the Dimension product line consisted of
  five systems ranging in price from $18,900 to $34,900. According to the 2008
  Wohlers Report (Wohlers), we shipped more 3D printers than other company in
  the world in 2007, and based on our results in 2008, we believe that we have
  continued that trend in 2008.
  In January 2009, we introduced a new
  personal 3D printer; the uPrint priced at $14,900 and reduced the prices on
  some of our existing models creating a new price range of $14,900 to $32,900.
  We believe the 3D printer market is price elastic and we can grow the volume
  of 3D printers and the related consumables and maintenance sold as we continue
  to introduce lower costs 3D printers.
- Expand our position in the RP and DDM markets
  through new proprietary product introductions, including the Fortus 200mc,
  Fortus 360mc, Fortus 400mc and Fortus 900mc.In 2008, revenue from our high-performance proprietary systems grew by
  41% over 2007. The system revenue growth is attributable to our focus on
  proprietary products, customer acceptance of new product introductions, and
  further penetration of DDM applications. We remain fully committed to our
  historic core RP business. We believe that opportunities in direct digital
  manufacturing and rapid tooling and expansion of traditional rapid prototyping
  applications will be the impetus for continued growth.
- Expand our Paid Parts service of producing
  parts for customers.We believe this is a
  fragmented global market dominated by numerous small companies generating less
  than $1 million each in annual sales.Sales
  from our Paid Parts service have been somewhat volatile quarter-to-quarter as
  we work to identify the most effective ways of reaching customers. In the fall
  of 2005, we launched RedEye RPM, later rebranded as Redeye on Demand, as an internet site
  allowing customers to obtain instant quotes and then order their parts over
  the Internet via the submission of a standard 3D CAD STL file. In February
  2008, we launched RedeyeArc.com specifically aimed at serving the
  architectural market through our Paid Parts business. Year-over-year sales of
  our Paid Parts service increased by 12%. In December 2008, we announced that
  AutoCAD users can now order digitally manufactured prototypes and production
  parts quickly and easily through a new on-demand 3D printing capability
  supported by our Redeye Paid Parts business. As customers continue to increase
  their volume of parts ordered, we are often successful in selling them systems
  to produce their own parts.

22

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In August 2006, we announced that effective January 1, 2007 we were
discontinuing our North American Distributor Agreement with Objet Geometries
Ltd. (Objet). The Eden systems that we distributed for Objet (the Eden
Systems) use inkjet technology to jet ultra-fine layers of UV-cured resin to
build RP models. In order to provide a smooth transition for our customers, we
continued to service the Eden Systems we sold through August 1, 2007.

We also announced that effective December 2007 we discontinued our
distribution agreement with Arcam AB to exclusively distribute their metal-based
direct digital manufacturing and prototyping systems in North America. In
Arcams patented electron-beam melting (EBM) process, called CAD to
Metal®, titanium powder is transformed into solid metal parts for
either functional prototyping or end-use. We believe that the EBM technology is
attractive primarily to early adopters and our distribution agreement with Arcam
did not result in significant sales or margins.

The discontinuation of the Objet and Arcam agreements impacts the
year-over-year revenue and gross margin analysis. We sold approximately $188,000
and $4.0 million of distributed products and services in 2008 and 2007,
respectively. These sales were at negligible gross margins. In discussing the
year-over-year revenue and gross margin comparisons we refer to these two
relationships as distributed products and services. Proprietary refers
primarily to products that we design and manufacture including third-party
peripheral items such as stands and tanks, and services we provide.

As our installed base of systems has increased, we have derived an
increasing amount of revenue from sales of consumables, maintenance contracts,
and other services. Revenue relating to our installed base of systems generates
recurring revenue for us. In 2008, excluding revenue from distributed products,
total non-system revenue increased by 15% due principally to 10% growth in
maintenance, 12% growth in proprietary consumable revenue and Paid Parts
revenue.

Total net unit shipments were essentially flat in 2008 amounting to 2,184
systems compared with the 2,169 net units shipped in 2007. Based upon data and
estimates furnished in Wohlers, through 2007 we shipped approximately 34% of all
RP systems since the industrys inception in 1987, an improvement over the 24%
we realized through 2002. The 2008 Wohlers Report also states that we shipped
44% of all RP systems globally in 2007. Based on data derived from Wohlers, we
believe we shipped more total systems than any other company in our industry in
the world in 2007 and that this will also be the case for 2008. Our sales were
derived from a number of industries, including automotive, consumer products,
electronics, general manufacturing, educational, government, and
aerospace.

In 2009, we plan to continue to make investments in fixed assets, process
improvements, information technology (IT), and human resource development
activities that will be required for future growth. Our expense levels are based
in part on our expectations of future sales and we will make adjustments to our
expense levels as we consider appropriate.While we have adjusted, and will
continue to adjust, our expense levels based on both actual and anticipated
sales, fluctuations in sales in a particular period could adversely impact our
operating results.Whereas our backlog as of December 31, 2008, was $2.6 million, it would
not be sufficient to meet our budgeted sales targets should new system orders in
2009 decline.

We expect growth to be largely dependent upon our ability to penetrate
new markets and develop and market new RP, DDM and 3D printing systems,
materials, applications, and services that meet the needs of our current and
prospective customers. Our ability to implement our strategy for 2009 is subject
to numerous uncertainties, many of which are described under Risk Factors,
above, in this Managements Discussion and Analysis of Financial Condition and
Results of Operations and in the section below captioned Forward Looking
Statements and Factors That May Affect Future Results of Operations. We cannot
ensure that our efforts will be successful.

23

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Results of Operations

Twelve months ended December 31, 2008
compared with twelve months ended December 31, 2007

The following table sets forth certain statement of operations data as a
percentage of net sales for the periods indicated. All items are included in or
derived from our consolidated statement of operations.

|For the twelve
      months ended December 31, |  | 2008  |   | 2007
|---------------------------------------------- |  | ----- | - | ----
|Net sales                                      |  | 100.0 | % |     
|Cost of
      sales                            |  | 46.7  | % |     
|Gross profit                                   |  | 53.3  | % |     
|Selling, general
      and administrative      |  | 29.6  | % |     
|Research & development                         |  | 7.2   | % |     
|Operating
      income                         |  | 16.5  | % |     
|Other income (expense)                         |  | 0.1   | % |     
|Income before
      taxes                      |  | 16.7  | % |     
|Income taxes                                   |  | 5.7   | % |     
|Net
      income                               |  | 10.9  | % |     

Net Sales

Net sales of our products and services for 2008 and 2007 and changes in
net sales were as follows:

Year-over-2008
    
    2007
    
    Year ChangeProducts
    
    $
    98,969
    
    $
    89,280
    
    10.9%Services
    
    
    25,526
    
    
    22,963
    
    11.2%Net
      sales
    
    $
    124,495
    
    $
    112,243
    
    10.9%


In 2007 and the beginning of 2008, we discontinued distribution of Eden
and Arcam products. We recognized approximately $0.2 million and $4.0 million of
distributed sales in 2008 and 2007, respectively. Adjusting for the impact of
the terminated distributed agreements, net sales of our products and services
for 2008 and 2007, and changes in net sales, were as follows:

Year-over-2008
    
    2007
    
    Year ChangeProducts
    
    $
    98,782
    
    $
    86,255
    
    14.5%Services
    
    
    25,526
    
    
    22,002
    
    16.0%Net
      sales
    
    $
    124,308
    
    $
    108,257
    
    14.8%


The primary drivers of the year-over-year growth in proprietary product
and service sales were:

- 41% increase in Fortus high productivity system sales
- 12% increase in our Paid Parts business
- 12% increase in consumable sales
- 10% increase in our maintenance sales

24

---

Sales of Fortus systems grew with
new product introductions and our focus on new applications within the DDM
market. As we increased our installed base of systems in the field, we continued
to see solid growth in consumables and maintenance revenue. Our Dimension
systems sales were flat in 2008 due to the weak global economy.

Service revenues predominately
consisted of the following components: maintenance, Paid Parts, and rentals. We
saw a 12% increase in our Paid Parts service as we continued to invest in
reaching customers through trade shows, direct mailings and our RedEye on
Demandwebsite, which allows customers to order their parts over the Internet. In
addition, in February, 2008 we launched RedEye ARC in an effort to reach the
architectural market. Revenues from maintenance services on our proprietary
systems saw year-over-year revenue growth of 10% as we continued to increase our
installed base of systems.

Net sales and the percentage of net
sales by region for 2008 and 2007, as well as the percentage change were as
follows:

Year-over-2008
    
    2007
    
    Year ChangeNorth America
    
    $
    66,698
    
    54%
    
    $
    62,525
    
    56%
    
    6.7%Europe
    
    
    37,430
    
    30%
    
    
    27,144
    
    24%
    
    37.9%Asia Pacific
    
    
    18,534
    
    15%
    
    
    19,806
    
    18%
    
    -6.4%Other
    
    
    1,833
    
    1%
    
    
    2,768
    
    2%
    
    -33.8%Total
    
    $
    124,495
    
    100%
    
    $
    112,243
    
    100%
    
    10.9%


North American sales grew in 2008
primarily due to significant growth in our high-performance systems, higher
maintenance revenue from a growing installed base and continued growth in our
Paid Parts service business. This growth was partially off-set by a $3.8 million
decline in distributed product revenue that resulted from the discontinuation of
our distributed products agreements in 2007.

European sales grew dramatically
during 2008 as a result of growth in our high-performance systems, expansion of
our reseller network and a favorable US Dollar exchange rate through the first
three quarters of 2008.

Asia Pacific sales declined as a
result of weak sales within the Japanese market due to a decrease in overall
demand. We believe sales in certain Asia Pacific countries were impacted by weak
economic conditions.

We believe that the challenging
economic conditions that have affected North America as well as other regions of
the world in late 2008 and early 2009 may have a negative impact on our future
sales and profitability.

Gross Profit

Gross profit and gross profit as a
percentage of sales for our products and services for 2008 and 2007, as well as
the percentage changes in gross profit were as follows:

Year-over-2008
    
    2007
    
    Year Change% of
      Related
    
    
    
    
    % of
      RelatedSales
    
    
    
    
    SalesProducts
    
    $
    51,297
    
    51.8%
    
    $
    48,739
    
    54.6%
    
    5.2%Services
    
    
    15,116
    
    59.2%
    
    
    10,969
    
    47.8%
    
    37.8%Gross profit
    
    $
    66,413
    
    53.3%
    
    $
    59,708
    
    53.2%
    
    11.2%


25

---

Product gross profit decreased, as a
percentage of product sales, due primarily to changes in product mix and
increased software amortization. Service gross profit benefited primarily from
the following:

- 12% growth in our high margin Paid Parts business;
- Discontinuation of service on distributed products. This service business
  had negligible margins;
- Improved quality and reliability of our proprietary systems resulting in
  reduced service costs and higher service margins.

Operating Expenses

Operating expenses and operating
expense as a percentage of sales for 2008 and 2007, as well as the percentage
change in operating expenses were as follows:

|                                  |  |      |        |      |            |             |   |        |  |            |  | Year-over-
|--------------------------------- |  | ---- | ------ | ---- | ---------- | ----------- | - | ------ |  | ---------- |  | ----------
|                                  |  | 2008 |        | 2007 |            | Year Change
|                                  |  |      |        |      | % of Sales |             |   |        |  | % of Sales |  |           
|Selling, general & administrative |  | $    | 36,843 |      | 29.6%      |             | $ | 33,770 |  | 30.1%      |  | 9.1%      
|Research and
      development    |  |      | 8,973  |      | 7.2%       |             |   | 7,465  |  | 6.7%       |  | 20.2%     
|Total operating
      expenses    |  | $    | 45,816 |      | 36.8%      |             | $ | 41,235 |  | 36.7%      |  | 11.1%     

Selling, general and administrative
expenses for 2008 increased due to the growth in sales. Theses 2008 costs
include approximately $545,000 in restructuring charges related to sales
strategy for our Fortus high-end systems. Effective January 1, 2009, we began
selling Fortus 3D Production Systems through a select group of North American
resellers from our established reseller channel, which had previously
distributed only the Dimension 3D printer product line. This sales strategy
leverages our success with a network of independent regional resellers that we
believe is the strongest sales channel in the industry. This new strategy more
than triples our sales support for high-end systems. By replacing our Fortus 3D
Production Systems direct sales channel with our existing reseller channel, we
have converted a significant portion of our fixed selling costs to a variable
cost structure. Cash flows related to restructuring charges began during the
fourth quarter of 2008 and are expected to be completed by the first quarter of
2009. We intend to finance these restructuring charges from existing cash or
from cash flows from operations.

Research and development expense
increased by 20.2% over the previous year as we remain committed to designing
new products and materials, reducing costs on existing products, and improving
the quality and reliability of all of our platforms. This spending is focused on
accelerating our development efforts to address both the 3D printer and DDM
market opportunities we believe exist. Increases were primarily the result of
increases in engineering headcounts partially offset by an increase in
internally capitalized software. During the quarter ended September 30, 2005, we
announced that we received a $3.6 million order from a Fortune 500 global
manufacturing company to advance our proprietary FDM technology for direct
digital manufacturing applications. This effort resulted in the Fortus 900mc.
The agreement included payments to us as R&D milestones were achieved, as
well as payments that were dependent upon future deliverables. R&D payments
received offset accelerated R&D efforts aimed at direct digital
manufacturing advances and are not recognized as revenue. During 2008 and 2007,
we offset approximately $0.3 million and $1.0 million, respectively, of R&D
expenses with monies received from this customer. This contract was completed in
2008. In 2008 and 2007, capitalized software additions were approximately $2.1
million and $2.0 million, respectively.

Operating Income

Operating income and operating
income as a percentage of sales for 2008 and 2007, as well as the percentage
change in operating income were as follows:

|                 |  |      |        |      |            |             |   |        |  |            |  | Year-over-
|---------------- |  | ---- | ------ | ---- | ---------- | ----------- | - | ------ |  | ---------- |  | ----------
|                 |  | 2008 |        | 2007 |            | Year Change
|                 |  |      |        |      | % of Sales |             |   |        |  | % of Sales |  |           
|Operating income |  | $    | 20,596 |      | 16.5%      |             | $ | 18,473 |  | 16.5%      |  | 11.5%     

Operating income remained constant
as a percentage of sales and increased in real dollars due to the increase in
sales volume.

26

---

Other Income (Expenses)

Other income (expenses) for 2008 and
2007 and changes in other income (expenses) were as follows:

Year-over-Year2008
    
    2007
    
    ChangeInterest income
    
    $
    2,037
    
    
    $
    2,316
    
    
    -12%Foreign currency
      transaction losses
    
    
    (835
    )
    
    
    (503
    )
    
    66%Other
    
    
    (1,065
    )
    
    
    76
    
    
    -1501%Total
    
    $
    137
    
    
    $
    1,889
    
    
    -93%


Interest income decreased in 2008
compared with 2007 due to lower average interest rates on
investments.

We incurred foreign currency
transaction losses because we sell primarily in euros throughout most of Europe.
Consequently, we have euro denominated receivables that we mark to the current
exchange rate at the end of each month. As the euro has fluctuated compared to
the US dollar throughout most of 2008, we adjusted the carrying value of these
receivables to reflect the changes in the exchange rate. Each month we enter
into 30-day forward contracts to offset a portion of the impact of variations in
exchange rates. In 2008, our hedging strategy resulted in a larger transaction
loss due to the volatility of the US dollar relative to the euro. At December
31, 2008 we had approximately €6.0 million net in Euro-denominated receivables
and a €5.0 million 30-day forward contract.

Other income (loss) for 2008
includes an impairment charge of approximately $1.3 million related to $2.6
million in a Jefferson County, Alabama, municipal bond. In February 2008, the
auction for this auction rate security failed and its rating has been reduced
from AAA to CCC. With the assistance of outside consultants, we determined this
investment has incurred both a temporary and other-than-temporary impairment
loss.

Income Taxes

Income taxes and income taxes as a
percentage of net income before taxes for 2008 and 2007, as well as the
percentage change were as follows:

Year-over-2008
    
    2007
    
    Year ChangeIncome taxes
    
    $
    7,118
    
    
    $
    6,038
    
    
    18%As a percent of income before income
      taxes
    
    
    34.3
    %
    
    
    29.6
    %


The following is a reconciliation of
the 2008 effective income tax rate compared with the 2007 rate:

2008 Effective income tax rate
    
    34.3
    %2007 income tax
      benefit recognized from prior yearamendments for state research and development
      credits
    
    (3.7
    %)Other, net
    
    (1.0
    %)2007
      Effective income tax rate
    
    29.6
    %


27

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Net Income

Net income and net income as a
percentage of sales for 2008 and 2007, as well as the percentage change in net
income were as follows:

Year-over-2008
    
    2007
    
    Year Change% of Sales
    
    
    
    
    % of SalesNet income
    
    $
    13,615
    
    10.9%
    
    $
    14,324
    
    12.8%
    
    -5.0%


For the reasons cited above, our net
income for the year ended December 31, 2008 was lower than for the year ended
December 31, 2007.

28

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Twelve months ended December 31, 2007
compared with twelve months ended December 31, 2006

The following
table sets forth certain statement of operations data as a percentage of net
sales for the periods indicated. All items are included in or derived from our
consolidated statement of operations.

|For the twelve
      months ended December 31, | 2007  |   | 2006
|---------------------------------------------- | ----- | - | ----
|Net sales                                      | 100.0 | % |     
|Cost of
      sales                            | 46.8  | % |     
|Gross profit                                   | 53.2  | % |     
|Selling, general
      and administrative      | 30.1  | % |     
|Research & development                         | 6.7   | % |     
|Operating
      income                         | 16.5  | % |     
|Other income (expense)                         | 1.7   | % |     
|Income before
      taxes                      | 18.2  | % |     
|Income taxes                                   | 5.4   | % |     
|Net
      income                               | 12.8  | % |     

Net Sales

Net sales of our
products and services for 2007 and 2006 and changes in net sales were as
follows:

Year-over-2007
    
    2006
    
    Year ChangeProducts
    $
    89,280
    
    $
    83,450
    
    7.0
    %Services
    
    22,963
    
    
    20,359
    
    12.8
    %Net
      sales
    $
    112,243
    
    $
    103,809
    
    8.1
    %


The primary drivers of the year-over-year growth in product sales
were:

- 35% increase from Dimension system
  sales
- 31% increase in high productivity system
  sales
- 23% increase in consumable sales

The increase in sales of our
proprietary products was partially offset by a 73% decrease in distributed
system sales.

Adjusting for the impact of the
terminated distributed agreements with Objet and Arcam, net sales of our
products and services for 2007 and 2006 and changes in net sales were as
follows:

Year-over-2007
    
    2006
    
    Year ChangeProducts
    $
    86,255
    
    $
    66,791
    
    29.1
    %Services
    
    22,002
    
    
    19,496
    
    12.9
    %Net
      sales
    $
    108,257
    
    $
    86,287
    
    25.5
    %


Our Dimension systems sales
continued to grow as we introduced a new, higher-priced system in January 2007
and as awareness of the technology increases. Sales of high-performance systems
grew with new product introductions, the refocus of the domestic sales team on
proprietary products and new applications within the DDM market. As we increased
our installed base of systems in the field, we continued to see solid growth in
consumables. Overall, proprietary systems and consumables grew by 31% in 2007
compared to 2006.

29

---

Service revenues
predominately consisted of the following components: maintenance, Paid Parts,
and rentals. We saw a 30% increase in our Paid Parts service as we continued to
invest in reaching customers through trade shows, direct mailings and our RedEye
on Demandwebsite, which
allows customers to order their parts over the Internet. Revenues from
maintenance services on our proprietary systems saw year-over-year revenue
growth of 6%. We attribute this slower growth to the one-year warranty for all
international systems and domestic education systems as well as the high quality
and reliability experienced by our 3D printer customers who now acquire multiple
systems.

Net sales and the percentage of net sales by region for 2007 and 2006, as
well as the percentage change were as follows:

Year-over-2007
    
    2006
    
    Year ChangeNorth America
    $
    62,525
    
    56
    %
    
    $
    64,705
    
    62
    %
    
    -3.4
    %Europe
    
    27,144
    
    24
    %
    
    
    21,459
    
    21
    %
    
    26.5
    %Asia Pacific
    
    19,806
    
    18
    %
    
    
    16,629
    
    16
    %
    
    19.1
    %Other
    
    2,768
    
    2
    %
    
    
    1,016
    
    1
    %
    
    172.4
    %Total
    $
    112,243
    
    100
    %
    
    $
    103,809
    
    100
    %
    
    8.1
    %


North American sales declined because of the discontinuation of the Objet
distribution agreement. Results for 2007 include $2.4 and $1.6 million of Objet
and Arcam related revenue, respectively, compared with $16.2 and $1.3 million of
Objet and Arcam related revenue, respectively, in 2006.

Adjusting for the impact of the terminated distribution agreements with
Objet and Arcam, net sales and the percentage of net sales by region for 2007
and 2006, as well as the percentage change were as follows:

Year-over-2007
    
    2006
    
    Year ChangeNorth America
    $
    58,539
    
    54
    %
    
    $
    47,183
    
    55
    %
    
    24.1
    %Europe
    
    27,144
    
    25
    %
    
    
    21,459
    
    25
    %
    
    26.5
    %Asia Pacific
    
    19,806
    
    18
    %
    
    
    16,629
    
    19
    %
    
    19.1
    %Other
    
    2,768
    
    3
    %
    
    
    1,016
    
    1
    %
    
    172.4
    %Total
    $
    108,257
    
    100
    %
    
    $
    86,287
    
    100
    %
    
    25.5
    %


North American sales benefited from:

- New high-productivity system introductions and a
  renewed focus of the domestic sales team in selling proprietary
  products.
- Our strong Dimension reseller network and the new
  Dimension Elite.
- Growth in our Paid Parts service, which focused in
  2007 almost exclusively on North America.

We saw a strong European market during 2007 for our high-end productivity
systems. We believe a portion of this recovery was due to the weakness of the US
dollar relative to the euro, but a portion also related to new product
introductions. In addition, we saw strong growth in sales of our Dimension
products as we continued to grow our reseller network and their effectiveness.
We also saw strong growth in Asia Pacific due to new product introductions,
expansion in our Dimension reseller network as well as the effectiveness of
existing resellers.

30

---

Gross Profit

Gross profit and gross profit as a percentage of sales for our products
and services for 2007 and 2006, as well as the percentage changes in gross
profit were as follows:

Year-over-2007
    
    2006
    
    Year Change% of
      Related
    
    
    
    
    % of
      RelatedSales
    
    
    
    
    SalesProducts
    $
    48,739
    
    54.6
    %
    
    $
    41,496
    
    49.7
    %
    
    17.5
    %Services
    
    10,969
    
    47.8
    %
    
    
    9,945
    
    48.8
    %
    
    10.3
    %Gross profit
    $
    59,708
    
    53.2
    %
    
    $
    51,441
    
    49.6
    %
    
    16.1
    %


Product gross
profit increased, as a percentage of product sales, due to an increase in sales
of proprietary products and a significant decline in sales of Eden Systems and
related consumables in the overall mix. The products that we distributed carried
a significantly lower margin than our proprietary systems and consumables, which
we manufacture.Service gross profit was relatively consistent between the years. Our
Paid Parts service business carries a higher gross margin, but this was offset
by lower margins on our overall maintenance business.

Operating Expenses

Operating expenses and operating expense as a percentage of sales for
2007 and 2006, as well as the percentage change in operating expenses were as
follows:

Year-over-2007
    
    2006
    
    Year Change% of Sales
    
    
    
    % of SalesSelling, general & administrative
    $
    33,770
    
    30.1
    %
    
    $
    29,105
    
    28.0
    %
    
    16.0
    %Research and
      development
    
    7,465
    
    6.7
    %
    
    
    6,699
    
    6.5
    %
    
    11.4
    %Total operating expenses
    $
    41,235
    
    36.7
    %
    
    $
    35,804
    
    34.5
    %
    
    15.2
    %


Selling, general and administrative expenses for 2007 increased
significantly over the prior year as a percentage of sales for the following
primary reasons:

- We significantly expanded our sales and marketing
  efforts in our Paid Parts service in an effort to capture market share in a
  segment of the RP market that is very fragmented.
- With the discontinuation of the Objet distribution
  agreement and no new high productivity systems at the beginning of 2007, we
  were concerned with retaining our highly trained domestic sales team and set
  individual quotas at levels to insure their retention. With the renewed focus
  on proprietary high productivity systems and the new product introductions
  throughout 2007, many sales persons exceeded quotas and were paid commissions
  at an accelerated commission rate as a percentage of
  sales.
- We opened an office in Japan to support our
  growing sales both within Japan and elsewhere in the Asia Pacific
  region.
- We incurred a bad debt expense of $564,000 that
  resulted from the bankruptcy of an Italian distributor we originally engaged
  in early 2005 to sell 3D printers. At that time, it was a subsidiary of a
  large Italian company, but was subsequently sold to management without our
  knowledge.

Research and development expense increased by 11.4% over the previous
year as we remained committed to designing new products and materials, reducing
costs on existing products, and improving the quality and reliability of all of
our platforms. Increases were primarily the result of increases in engineering
headcounts partially offset by an increase in internally capitalized software.
During the quarter ended September 30, 2005, we announced that we received a
$3.6 million order from a Fortune 100 global manufacturing company to advance
our proprietary FDM technology for direct digital manufacturing applications.
This effort resulted in the Fortus 900mc. The agreement includes payments to us
over four years as R&D milestones are achieved, as well as payments that are
dependent upon future deliverables. R&D payments received offset accelerated
R&D efforts aimed at direct digital manufacturing advances and are not
recognized as revenue. During 2007 and 2006, we offset approximately $980,000
and $1.1 million, respectively, of R&D expenses with monies received from
this customer.

31

---

Operating Income

Operating income and operating
income as a percentage of sales for 2007 and 2006, as well as the percentage
change in operating income were as follows:

Year-over-2007
    
    2006
    
    Year Change% of Sales
    
    
    
    
    % of SalesOperating income
    
    $
    18,473
    
    16.5%
    
    $
    15,637
    
    15.1%
    
    18.1%


Operating income increased due to
the higher sales volume and the increase in sales of our high-end proprietary
systems and 3D printers compared with distributed products, which carried a
lower margin.

Other Income (Expenses)

Other income (expenses) for 2007 and
2006 and changes in other income (expenses) were as follows:

Year-over-Year2007
    
    2006
    
    ChangeInterest income
    
    $
    2,316
    
    
    $
    1,648
    
    
    41%Foreign currency
      transaction losses
    
    
    (503
    )
    
    
    (307
    )
    
    64%Other
    
    
    76
    
    
    
    (13
    )
    
    -685%Total
    
    $
    1,889
    
    
    $
    1,328
    
    
    42%


Interest income increased in 2007
compared with 2006 as we had higher average cash and investment balances
throughout the year.

We incurred foreign currency
transaction losses because we sold primarily in euros throughout most of Europe.
Consequently, we had euro denominated receivables that we marked to the current
exchange rate at the end of each month. As the euro fluctuated compared to the
US dollar throughout most of 2007, we adjusted the carrying value of these
receivables to reflect the changes in the exchange rate. Each month we enter
into 30-day forward contracts to offset a portion of the impact of variations in
exchange rates. In 2007, our hedging strategy resulted in a larger transaction
loss due to the continuing weakening of the US dollar relative to the euro. At
December 31, 2007 we had approximately €4.5 million net in Euro-denominated
receivables and a €3.3 million 30-day forward contract.

32

---

Income Taxes

Income taxes and income taxes as a percentage of net income before taxes
for 2007 and 2006, as well as the percentage change were as follows:

Year-over-2007
    
    2006
    
    Year ChangeIncome
      taxes
    
    $
    6,038
    
    
    $
    5,800
    
    
    4%As a percent of income before income
      taxes
    
    
    29.6
    %
    
    
    34.2
    %


The following is a reconciliation of the 2007 effective income tax rate
compared with the 2006 rate:

|2006 effective income tax rate                                 |  | 34.2     | %
|-------------------------------------------------------------- |  | -------- | -
|Discrete items
      recognized in 2007 not recurring in 2006  |  | (3.7     | )
|Impact of increase in manufacturer's deduction rate            |  | (1.1     | )
|Uitilization of
      research and development credit          |  | (1.0     | )
|Impact of increased tax-free interest income                   |  | (0.9     | )
|Reduction in
      effective state income taxes, net           |  | (0.9     | )
|Increase in tax contigencies                                   |  | 2.2      |  
|Impact of
      phase-out of extraterritorial income exclusion |  | 1.0      |  
|Other                                                          |  | (0.2     | )
|2007 effective income tax
      rate                           |  | **29.6** | %

Net Income

Net income and net income as a percentage of sales for 2007 and 2006, as
well as the percentage change in net income were as follows:

Year-over-2007
    
    2006
    
    Year Change% of Sales
    
    
    
    
    % of SalesNet income
    
    $
    14,324
    
    12.8%
    
    $
    11,164
    
    10.8%
    
    28.3%


For the reasons cited above, our net income for the year ended December
31, 2007 was at a higher percentage of sales than the year ended December 31,
2006.

33

---

Liquidity and Capital Resources

A summary of our statement
of cash flows for the three years ended December 31, 2008 is as follows:

2008
    
    2007
    
    2006Net income
    
    $
    13,615
    
    
    $
    14,324
    
    
    $
    11,164Depreciation and
      amortization
    
    
    7,004
    
    
    
    4,974
    
    
    
    3,832Stock-based compensation
    
    
    1,322
    
    
    
    955
    
    
    
    1,266Change in
      working capital and other
    
    
    (7,450
    )
    
    
    916
    
    
    
    (3,866
    )Net cash provided by operating and other activities
    
    
    14,491
    
    
    
    21,169
    
    
    
    12,396Net cash
      provided by (used in) investing activities
    
    
    13,290
    
    
    
    (23,841
    )
    
    
    (7,603
    )Net cash provided by (used in) in financing activities
    
    
    (15,856
    )
    
    
    9,321
    
    
    
    (1,704
    )Effect of
      exchange rate changes on cash
    
    
    (191
    )
    
    
    260
    
    
    
    132Net increase in cash and cash equivalents
    
    
    11,734
    
    
    
    6,909
    
    
    
    3,221Cash and cash
      equivalents, beginning of year
    
    
    16,212
    
    
    
    9,303
    
    
    
    6,082Cash and cash equivalents, end of year
    
    $
    27,946
    
    
    $
    16,212
    
    
    $
    9,303


The net cash provided by our operating activities over the past three
years has amounted to approximately $48.1 million, principally derived from
$39.1 million in net income, plus $15.8 million in depreciation and
amortization, $3.5 million in stock-based compensation, less $10.4 million
attributable to changes in net working capital and other items.

In 2008, the principal source of cash from our operating activities was
our net income, as adjusted to exclude the effects of non-cash charges partially
offset by an increase in inventories due to the introduction of the uPrint and
900mc systems. Our 2008 net accounts receivable balance remained relatively flat
as compared to 2007. Although we continue to offer 180-day extended terms to our
3D Printing resellers for demo units, we have seen a continued reduction in our
days sales outstanding (DSO) as a result of increase collection efforts. DSOs
were 78 days in 2008, 86 days in 2007 and 88 days in 2006.

For the years ended December 31, 2008, 2007, and 2006, our inventory
balances were $19.9 million, $12.8 million, and $9.9 million, respectively. The
increase in 2008 from 2007 was principally due to last time buys for legacy
systems, higher finished goods inventory required to support the launch of a new
products in late 2008 and early 2009, and increased consumable raw material
inventory due to strategic buys and to support our increasing installed base. We
have instituted better inventory management, but recognize that we have
opportunities to make considerably more improvement to reduce overall inventory
and improve turns. A significant portion of our inventory is dedicated to the
fulfillment of our service contract and warranty obligations. As we have
introduced new products over the past few years, there are more platforms and
models to service than in the past, which increases the requirements to maintain
spare parts inventory. With the introduction of these new products, older
products have been discontinued, but certain inventory is still required to
fulfill our ongoing service contracts. Our procedures for dealing with this
inventory are more fully explained in the section below captioned Critical
Accounting Policies.

Investments in sales-type leases used cash of $1.1 million in 2008, $1.2
million in 2007 and $0.9 million in 2006. In mid-2003 we introduced a leasing
program that was principally designed for the Dimension systems. The program now
includes customers in both our 3D printing and our Fortus high-performance
system product lines and we plan to continue this leasing program for the
foreseeable future.

Accounts payable and other current accrued liabilities used cash of $2.1
million for the year ended December 31, 2008 and provided cash of $5.6 million
and $0.7 million for the years ended December 31, 2007 and 2006, respectively.
In 2008, the decrease was related to the timing of payments for inventory
purchases and employee compensation.

34

---

Unearned revenue, principally consisting of purchased maintenance
contracts and implied maintenance contracts, provided cash of $1.8 million in
2008, $1.1 million in 2007 and $1.2 million in 2006. This increase is primarily
from our growing installed base of systems.

Our investing activities provided cash of 13.3 million for the year ended
December 31, 2008 and used cash of $23.8 million and $7.6 million for the years
ended December 31, 2007 and 2006, respectively. In 2008, the sale of investments
provided approximately $23.9 million in cash from investing activities, whereas
purchases of investments, net of proceeds, utilized cash of approximately $10.0
million in 2007. Purchases and proceeds netted to zero in 2006.

At December 31, 2008, our investments included:

- Approximately $16.3 million in municipal
  government bonds maturing between January 2009 and May 2026, all of which have
  ratings between AA and BA; and
- Approximately $2.4 million tax-free Auction Rate
  Security (ARS), which re-prices approximately every 30 days. The ARS had a
  rating of AA at December 31, 2008.

As of December 31, 2008, approximately $1.1 million in ARS classified in
the Balance Sheet caption Long-term investments  available for sale
securities, consisted of an investment in a Jefferson County, Alabama municipal
bond that has seen its rating reduced to triple C from triple A. In order to
help us determine the carrying value of this investment, we hired outside
consultants to qualitatively and quantitatively evaluate our ARS portfolio.

With the assistance of the outside consultants, we determined that, as of
December 31, 2008, the $2.6 million investment in the Jefferson County, Alabama
municipal bond had incurred both a temporary and other-than-temporary
impairment. As a result of this determination, we recorded a pretax charge of
$1.3 million in the Income Statement caption Other income (expense) for the
other-than-temporary impairment and recognized an additional pre-tax fair value
adjustment of $0.2 million in the Balance Sheet caption Other comprehensive
income for the temporary impairment. The resulting fair value of the Jefferson
County, Alabama municipal bond of $1.1 million is included in the Balance Sheet
caption Long term investments  available for sale securities. Our ability to
ultimately recognize the $1.1 million fair value of this investment is subject
to numerous risks and uncertainties that may develop in future periods. 
Additional information about our uncertainty about future events is included in
the section below captioned Forward Looking Statements and Factors that May
Affect Future Results of Operations.

Property and equipment acquisitions totaled $8.5 million, $10.2 million,
and $6.1 million in 2008, 2007, and 2006, respectively. Over the three-year
period ended December 31, 2008, our principal property and equipment
acquisitions were for manufacturing or engineering development equipment,
tooling, leasehold improvements, and the acquisition of computer systems and
software applications. Payments for intangible assets, including patents and
capitalized software, amounted to $2.4 million, $3.7 million and $1.5 million
for the years ended December 31, 2008, 2007, and 2006, respectively.

Proceeds from the exercise of stock options provided cash of $3.2
million, $8.5 million and $1.4 million for the years ended December 31, 2008,
2007 and 2006, respectively. Financing activity included the repurchase of
1,089,575 and 257,000 shares of common stock during the years ended December 31,
2008 and 2006, respectively. There were no common stock repurchases during the
year ended December 31, 2007. As of December 31, 2008, the Company has
authorization to repurchase approximately $10.9 million of additional common
stock.

For 2009, we expect to use our cash as follows;

- for improvements to our
  facilities;
- for the continuation of our leasing
  program;
- for working capital purposes;
- for information systems (I/S) and infrastructure
  enhancements;
- for new product and materials
  development;
- for sustaining engineering;
- for the acquisition of equipment, including
  production equipment, tooling, and computers;
- for the purchase or development of intangible
  assets, including patents;
- for increased selling and marketing activities, especially as they relate
  to the continued market and channel development;
- for acquisitions and/or strategic alliances; and
- for our common
  stock buyback program.

35

---

While we believe that the primary source of liquidity during 2009 will be
derived from current cash balances and cash flows from operations, we have
maintained a line of credit for the lesser of $4.0 million or a defined
borrowing base. This credit line bears interest at defined rates based upon two
different indices and expires in July 2009. To date, we have not borrowed
against this credit facility.

At December 31, 2008, large receivable balances were concentrated with
certain resellers. Default by one or more of these resellers or customers could
result in a significant charge against our current reported earnings. We have
reviewed our policies that govern credit and collections, and will continue to
monitor them in light of current payment status and economic conditions. While
we can give no assurances, we believe that most, if not all, of the accounts
receivable balances will ultimately be collected. For further information, see
the section below captioned Critical Accounting Policies.

Our total current assets amounted to $86.2 million at December 31, 2008,
the majority of which consisted of cash and cash equivalents, investments,
inventories and accounts receivable. Total current liabilities amounted to $24.6
million and we have no long-term debt. We estimate that we will spend between
approximately $6.0 and $8.0 million in 2009 for property and equipment. We also
estimate that as of December 31, 2008, we had approximately $16.3 million of
purchase commitments for inventory from selected vendors for the year ending
December 31, 2009. In addition to purchase commitments for inventory, we also
have future commitments for leased facilities. We intend to finance our purchase
commitments from existing cash or from cash flows from operations. The future
contractual cash obligations related to these commitments are as follows:

Year ending December
      31,
    
    Facilities
    
    Inventory
    
    Total2009
    
    $
    406,000
    
    $
    16,318,000
    
    $
    16,724,0002010
    
    
    313,000
    
    
    
    
    
    313,0002011
    
    
    89,000
    
    
    
    
    
    89,000$
    808,000
    
    $
    16,318,000
    
    $
    17,126,000


We have no contractual obligations beyond 2011. Effective January 1,
2007, we adopted the provisions of FASB Interpretation (FIN) No. 48. In addition
to the above disclosed contractual obligations, the FIN 48 tax liability was
$1.2 million at December 31, 2008. Based on the uncertainties associated with
the settlement of these items, we are unable to make reasonably reliable
estimates of the period of potential settlements, if any, with taxing
authorities.

Inflation

We believe that inflation has not had a material effect on our operations
or on our financial condition during the three most recent fiscal years.

Foreign Currency Transactions

We invoice sales to certain European distributors in euros. Our reported
results are therefore subject to fluctuations based upon changes in the exchange
rates of that currency in relation to the United States dollar. In the year
ended December 31, 2008, the loss from foreign currency transactions amounted to
approximately $0.8 million, whereas in the comparable 2007 period we reported
losses from foreign currency transactions of approximately $0.5 million. In the
year ended December 31, 2008, we hedged between €2.5 and €5.1 million of our
accounts receivable that were denominated in euros. The hedge resulted in a
currency exchange loss of approximately $0.2 million for this period. We intend
to continue to hedge some of our accounts receivable balances that are
denominated in euros throughout 2009 and will continue to monitor our exposure
to currency fluctuations. Instruments to hedge our risks may include foreign
currency forward, swap, and option contracts. These instruments will be used to
selectively manage risk, but there can be no assurance that we will be fully
protected against material foreign currency fluctuations. We expect to continue
to derive most of our revenue from regions where the transactions are
negotiated, invoiced, and paid in US dollars. Fluctuations in the currency
exchange rates in these other countries may therefore reduce the demand for our
products by increasing the price of our products in the currency of countries in
which the local currency has declined in value.

36

---

Critical Accounting Policies

We have prepared our consolidated financial statements and related
disclosures in conformity with accounting principles generally accepted in the
United States of America. This has required us to make estimates, judgments, and
assumptions that affected the amounts we reported. Note 1 of Notes to
Consolidated Financial Statements contains the significant accounting principles
that we used to prepare our consolidated financial statements.

We have identified several critical accounting policies that required us
to make assumptions about matters that were uncertain at the time of our
estimates. Had we used different estimates and assumptions, the amounts we
recorded could have been significantly different. Additionally, if we had used
different assumptions or different conditions existed, our financial condition
or results of operations could have been materially different. The critical
accounting policies that were affected by the estimates, assumptions, and
judgments used in the preparation of our consolidated financial statements are
listed below.

Revenue Recognition

We recognize revenue, consistent with SAB 104 and EITF 00-21, when 1)
persuasive evidence of a final agreement exists, 2) delivery has occurred or
services have been rendered, 3) the selling price is fixed or determinable, and
4) collectibility is reasonably assured. Our standard terms are FOB shipping
point, and as such most of our revenue from system sales is primarily recognized
at time of shipment if the shipment conforms to the terms and conditions of the
purchase agreement. Exceptions to this policy occur only if a customers
purchase order indicates an alternative term or provides that the equipment sold
would be subject to certain contingencies, such as formal acceptance. In these
instances, revenues would be recognized only upon satisfying the conditions
established by the customer in its purchase order to us. Revenue from sales-type
leases of our high-performance systems is recognized at the time of lessee
acceptance, which follows installation. Revenue from sales-type leases of our
Dimension systems is recognized at time of shipment, since either the customer
or the reseller performs the installation. We recognize revenue from sales-type
leases at the net present value of future lease payments.Revenue from operating leases is recognized ratably over the
lease period. Revenue from maintenance contracts is recognized ratably over the
term of the contract, usually one year. On certain sales that require a one-year
warranty rather than our standard 90-day warranty, a percentage of the selling
price that represents the fair value of the extended warranty is deferred and
recognized ratably over the period of the extended warranty as an implied
maintenance contract. This has had the effect of deferring, as of December 31,
2008, approximately $3.0 million of revenue that will be recognized in future
periods.

We assess collectibility as part of the revenue recognition process. We
evaluate a number of factors to assess collectibility, including an evaluation
of the credit worthiness of the customer, past payment history, and current
economic conditions. If it is determined that collectibility cannot be
reasonably assured, we would decline shipment, request a down payment, or defer
recognition of revenue until ultimate collectibility is more determinable. We
also record a provision for estimated product returns and allowances in the
period in which the related revenue is recorded. This provision against current
gross revenue is based principally on historical rates of sales returns, but
also factors in changes in the customer base, geographic economic conditions,
and changes in the financial conditions of our customers. If past trends were to
change, we would potentially have to increase or decrease the amount of the
provision for these returns. We have experienced minimal returns
related to leasing. We will monitor our lease sales in the future, and if
necessary will record a provision for returns on leased systems. As of December
31, 2008 and 2007 our allowance for returns was $0.1 and $0.2 million,
respectively.

Stock-Based Compensation

We account for stock-based compensation under the guidance in SFAS No.
123(R), Accounting for Stock-Based Compensation (Revised). SFAS No. 123(R)
establishes standards for the accounting for transactions in which an entity
exchanges its equity instruments for goods or services. It also addresses
transactions in which an entity incurs liabilities in exchange for goods or
services that are based on the fair value of the entitys equity instruments or
that may be settled by the issuance of those equity instruments.

37

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SFAS No. 123(R) focuses primarily on accounting for transactions in which
an entity obtains employee services in share-based payment transactions. SFAS
No. 123(R) requires a public entity to measure the cost of employee services
received in exchange for an award of equity instruments based on the grant-date
fair value of the award (with limited exceptions). That cost will be recognized
over the period during which an employee is required to provide service in
exchange for the award (usually the vesting period). No compensation costs are
recognized for equity instruments for which employees do not render the
requisite service. The grant-date fair value of employee share options and
similar instruments will be estimated using option-pricing models adjusted for
the unique characteristics of those instruments (unless observable market prices
for the same or similar instruments are available). If an equity award is
modified after the grant date, incremental compensation cost will be recognized
in an amount equal to the excess of the fair value of the modified award over
the fair value of the original award immediately before the modification.

We adopted SFAS No. 123(R), effective January 1, 2006. On that date, the
Companys management elected to use the modified prospective transition method
as permitted by SFAS No. 123(R) and therefore did not restate the financial
results for prior periods. Under this transition method, the provisions of SFAS
No. 123(R) were applied to new awards and to awards modified, repurchased, or
cancelled after January 1, 2006. Additionally, compensation costs were
recognized over the remaining applicable service period for the portion of
awards that were outstanding as of January 1, 2006, but for which the requisite
service had not yet been rendered.

Based on stock options that vested since adoption of SFAS No. 123(R), the
Company recorded approximately $1.3 million and $955,000 of additional
compensation expense for the years ended December 31, 2008 and 2007,
respectively. There were no stock option grants for the year ended December 31,
2006.

Allowance for Doubtful Accounts

While we evaluate the collectibility of a sale as part of our revenue
recognition process, we must also make judgments regarding the ultimate
realization of our accounts receivable. A considerable amount of judgment is
required in assessing the realization of these receivables, including the aging
of the receivables and the creditworthiness of each customer. We may not be able
to accurately and timely predict changes to a customers financial condition. If
a customers financial condition should suddenly deteriorate, calling into
question our ability to collect the receivable, our estimates of the realization
of our receivables could be adversely affected. We might then have to record
additional allowances for doubtful accounts, which could have an adverse effect
on our results of operations in the period affected.

Our allowance for doubtful accounts is adjusted quarterly using two
methods. First, our overall reserves are based on a percentage applied to
certain aged receivable categories that are predominately based on historical
bad debt write-off experience. Then, we make an additional evaluation of overdue
customer accounts, for which we specifically reserve. In our evaluation we use a
variety of factors, such as past payment history, the current financial
condition of the customer, and current economic conditions. We also evaluate our
overall concentration risk, which assesses the total amount owed by each
customer, regardless of its current status.

Certain of our resellers have carried large balances that have become
overdue. Most of these resellers have continued to pay down their balances and
are still considered performing. A default by one or more of these resellers
could have a material effect, ranging from $0.2 million to $0.8 million, on our
reported operating results in the period affected. As of December 31, 2008 and
2007, our allowance for doubtful accounts amounted to $1.0 and $1.2 million,
respectively. The decrease in the reserve was primarily due to increased
collection efforts and a maturing reseller network.

38



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Inventories

Our inventories are recorded at the lower
of cost or market, with cost based on a first-in, first-out basis. We
periodically assess this inventory for obsolescence and potential excess by
reducing the difference between our cost and the estimated market value of the
inventory based on assumptions about future demand and historical sales
patterns. Our inventories consist of materials and products that are subject to
technological obsolescence and competitive market conditions. If market
conditions or future demand are less favorable than our current expectations,
additional inventory write downs or reserves may be required, which could have
an adverse effect on our reported results in the period the adjustments are
made. Additionally, engineering or field change orders (ECO and FCO,
respectively) introduced by our engineering group could suddenly create
extensive obsolete and/or excess inventory. Although our engineering group
considers the estimated effect that an ECO or FCO would have on our inventories,
a mandated ECO or FCO could have an immediate adverse affect on our reported
financial condition if it they required the use of different materials in either
new production or our service inventory.

Some of our inventory is returned to us by our customers and refurbished.
This refurbished inventory, once fully repaired and tested, is functionally
equivalent to new production and is utilized to satisfy many of our requirements
under our warranty and service contracts. Upon receipt of the returned material,
this inventory is recorded at a discount from original cost, and further reduced
by estimated future refurbishment expense. While we evaluate this service
material in the same way as our stock inventory (i.e., we periodically test for
obsolescence and excess), this inventory is subject to changing demand that may
not be immediately apparent. Adjustments to this service inventory, following an
obsolescence or excess review, could have an adverse effect on our reported
financial condition in the period when the adjustments are made. We review the
requirements for service inventory for discontinued products using the number of
active maintenance contracts per product line as the key determinant for
inventory levels and composition. A sudden decline in the number of customers
renewing service agreements in a particular period could lead to an
unanticipated write down of this service inventory for a particular product
line.

Intangible Assets

Intangible assets are capitalized and amortized over their estimated
useful or economic lives using the straight-line method in conformity with SFAS
No. 142, Goodwill and Other Intangible Assets, as follows:

RP technology
    11 yearsCapitalized software development
    costs
    3 yearsPatents
    10 yearsTrademarks
    5
years


The
costs of software development, including significant product enhancements,
incurred subsequent to establishing technological feasibility have been
capitalized in accordance with SFAS No. 86, Accounting for the Costs of
Computer Software to be Sold, Leased or Otherwise Marketed.  Costs
incurred prior to establishment of technological feasibility are charged to
research and development expense.

Income Taxes

We comply with SFAS No. 109, Accounting for Income Taxes, which
requires that deferred tax assets and liabilities be recognized using enacted
tax rates for the effect of temporary differences between the book and tax bases
of recorded assets and liabilities. SFAS 109 also requires a valuation allowance
if it is more likely than not that a portion of the deferred tax asset will not
be realized. We have determined that it is more likely than not that our future
taxable income will be sufficient to realize our deferred tax assets.

Our provision for income taxes is based on our effective income tax rate.
The effective rate is highly dependent upon a number of factors, including our
total earnings, the geographic location of sales, the availability of tax
credits, and the effectiveness of our tax planning strategies. We monitor the
effects of these variables throughout the year and adjust our income tax rate
accordingly. However, if our actual results differ from our estimates, we could
be required to adjust our effective tax rate or record a valuation adjustment on
our deferred tax assets. This could have an adverse effect on our financial
condition and results of operations.

Effective January 1, 2007, we adopted the provisions of FASB
Interpretation (FIN) No. 48, Accounting for Uncertainty in Income Taxesan
Interpretation of FASB Statement No. 109. FIN 48 contains a two-step approach
to recognizing and measuring uncertain tax positions (tax contingencies)
accounted for in accordance with SFAS No. 109. The first step is to evaluate the
tax position for recognition by determining if the weight of available evidence
indicates it is more likely than not that the position will be sustained on
audit, including resolution of related appeals or litigation processes, if any.
The second step is to measure the tax benefit as the largest amount which is
more than 50% likely of being realized upon ultimate settlement. We reevaluate
these tax positions quarterly and make adjustments as required. At December 31,
2008 and 2007, we had unrecognized tax benefits of $1.2 million and 1.0 million,
respectively.

Impairment of Long-Lived Assets

The Company adheres to SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets and periodically assesses the recoverability of
the carrying amounts of long-lived assets, including intangible assets. A loss
is recognized when expected undiscounted future cash flows are less than the
carrying amount of the asset. The impairment loss is the difference by which the
carrying amount of the asset exceeds its fair value. A change in the estimated
future values of these assets could have an adverse effect on our financial
condition and results of operations.

39

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Recently Issued Accounting
Pronouncements

In June
2006, the Financial Accounting Standards Board (FASB) issued Statement of
Financial Accounting Standard (SFAS) No. 157, Fair Value Measurements (SFAS
No. 157). SFAS No. 157 establishes 1) a single definition of fair value and a
framework for measuring fair value; 2) sets out a fair value hierarchy to be
used to classify the source of information used in fair value measurements; and
3) requires new disclosures of assets and liabilities measured at fair value
based on their level in the hierarchy. In February 2008, the FASB issued Staff
Positions (FSPs) No. 157-1 and No. 157-2, which, respectively, removes leasing
transactions from the scope of SFAS No. 157 and defers its effective date for
one year relative to certain non-financial assets and liabilities.

The application of the definition of
fair value and related disclosures of SFAS No. 157 (as impacted by these two
FSPs) was effective for the Company beginning January 1, 2008 on a prospective
basis with respect to fair value measurements of 1) non-financial assets and
liabilities that are recognized or disclosed at fair value in our financial
statements on a recurring basis (at least annually); and 2) all financial assets
and liabilities. This adoption did not have a material impact on our
consolidated results of operations or financial condition and the disclosures
required by it are provided in Note 11  Fair Value Measurements.

We are currently evaluating the
remaining aspects of SFAS No. 157 for which the effective date was deferred
under FSP No. 157-2. Areas impacted by the deferral relate to non-financial
assets and liabilities that are measured at fair value, but are recognized or
disclosed at fair value on a nonrecurring basis. This deferral applies to such
items as long-lived asset groups measured at fair value for an impairment
assessment. We are to apply the effects of these remaining aspects of SFAS No.
157 to fair value measurements prospectively beginning January 1, 2009. We do
not expect them to have a material impact on our consolidated results of
operations or financial condition.

In February 2007, the FASB issued
SFAS No. 159, The Fair Value Option for Financial Assets and Financial
Liabilities (SFAS No. 159). SFAS No. 159 permits entities to choose to
measure many financial assets and financial liabilities at fair value.
Unrealized gains and losses on items for which the fair value option has been
elected are to be reported in earnings and upfront costs and fees related to
items for which the fair value option is elected are recognized in earnings as
incurred and not deferred.

SFAS No. 159 also established
presentation and disclosure requirements designed to facilitate comparisons
between entities that choose different measurement attributes for similar types
of assets and liabilities. SFAS No. 159 was effective for financial statements
issued for fiscal years beginning after November 15, 2007. At the effective
date, an entity may elect the fair value option for eligible items that existed
at that date. The entity is then required to report the effect of the first
remeasurement to fair value as a cumulative-effect adjustment to the opening
balance of retained earnings. We did not elect the fair value option for
eligible items that existed as of January 1, 2008.

In September 2007, the FASBs
Emerging Issues Task Force reached a consensus on EITF Issue No. 07-3,
Accounting for Nonrefundable Advance Payments for Goods or Services to Be Used
in Future Research and Development Activities (EITF No. 07-3). EITF No. 07-3
requires nonrefundable advance payments that we make for future R&D
activities to be capitalized and recognized as an expense as we receive the
goods or services. EITF No. 07-3 was effective for new arrangements entered into
beginning January 1, 2008. The adoption of EITF No. 07-3 had no impact on our
consolidated results of operations or financial condition.

In December 2007, the FASB issued
SFAS No. 141 (revised 2007), Business Combinations (SFAS No. 141R). SFAS No.
141R provides revised guidance on how acquirers recognize and measure the
consideration transferred, identifiable assets acquired, liabilities assumed,
non-controlling interests, and goodwill acquired in a business combination. SFAS
No. 141R also expands required disclosures surrounding the nature and financial
effects of business combinations. SFAS No. 141R is effective for fiscal years
beginning after December 15, 2008. We are evaluating the impact of this standard
and will evaluate its impact on any acquisitions that would occur after the
effective date.

40

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In December
2007, the FASB ratified the Emerging Issues Task Force consensus on EITF Issue
No. 07-1, Accounting for Collaborative Arrangements (EITF No. 07-1) that
discusses how parties to a collaborative arrangement (which does not establish a
legal entity within such arrangement) should account for various activities. The
consensus indicates that costs incurred and revenues generated from transactions
with third parties (i.e. parties outside of the collaborative arrangement)
should be reported by the collaborators on the respective line items in their
income statements pursuant to EITF Issue No. 99-19, Reporting Revenue Gross as
a Principal Versus Net as an Agent. Additionally, the consensus provides that
income statement characterization of payments between the participants in a
collaborative arrangement should be based upon 1) existing authoritative
pronouncements; 2) analogy to such pronouncements if not within their scope; or
3) a reasonable, rational, and consistently applied accounting policy election.
EITF No. 07-1 is effective for us beginning January 1, 2009 and is to be applied
retrospectively to all periods presented for collaborative arrangements existing
as of the date of adoption. We are currently evaluating the impacts and
disclosures of this standard, but would not expect EITF No. 07-1 to have any
impact on our consolidated results of operations or financial
condition.

In March 2008, the FASB issued SFAS
No. 161, Disclosures about Derivative Instruments and Hedging Activities
(SFAS No. 161), which will require increased disclosures about an entitys
strategies and objectives for using derivative instruments; the location and
amounts of derivative instruments in an entitys financial statements; how
derivative instruments and related hedged items are accounted for under SFAS No.
133, Accounting for Derivative Instruments and Hedging Activities; and how
derivative instruments and related hedged items affect its financial position,
financial performance, and cash flows. Certain disclosures will also be required
with respect to derivative features that are credit-risk related. SFAS No. 161
is effective for us beginning January 1, 2009 on a prospective basis. We do not
expect this standard to have a material impact on our consolidated results of
operations or financial condition.

In April 2008, the FASB issued FSP
No. FAS 142-3, Determination of the Useful Life of Intangible Assets, which
amends the list of factors an entity should consider in developing renewal or
extension assumptions used in determining the useful life of recognized
intangible assets under SFAS No. 142, Goodwill and Other Intangible Assets.
The new guidance applies to (1) intangible assets that are acquired individually
or with a group of other assets and (2) intangible assets acquired in both
business combinations and asset acquisitions. Under FSP No. FAS 142-3, entities
estimating the useful life of a recognized intangible asset must consider their
historical experience in renewing or extending similar arrangements or, in the
absence of historical experience, must consider assumptions that market
participants would use about renewal or extension. We do not expect this
standard to have a material impact on our consolidated results of operations or
financial condition.

41

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Forward-looking Statements and Factors
That May Affect Future Results of Operations

All statements herein that are not
historical facts or that include such words as expects, anticipates,
projects, estimates, vision, planning or believes or similar words
constitute forward-looking statements that we deem to be covered by and to
qualify for the safe harbor protection covered by the Private Securities
Litigation Reform Act of 1995 (the 1995 Act). Investors and prospective
investors in our Company should understand that several factors govern whether
any forward-looking statement herein will be or can be achieved. Any one of
these factors could cause actual results to differ materially from those
projected herein.

These forward-looking statements
include the expected increases in net sales of RP, DDM, and 3D printing systems,
services and consumables, and our ability to maintain our gross margins on these
sales. The forward-looking statements include projected revenue and income in
future quarters; the size of the 3D printing market; our objectives for the
marketing and sale of our Dimension 3D printers and our Fortus 3D production
systems, particularly for use in direct digital manufacturing (DDM); the demand
for our proprietary consumables; the expansion of our paid parts service; and
our beliefs with respect to the growth in the demand for our products. They
include our plans and objectives to introduce new products, to control expenses,
to improve the quality and reliability of our systems, to respond to new or
existing competitive products, and to improve profitability. The forward-looking
statements included herein are based on current expectations that involve a
number of risks and uncertainties, some of which are described in Item 1A, Risk
Factors above. These forward-looking statements are based on assumptions, among
others, that we will be able to:

- continue to introduce new high-performance and 3D
  printing systems and materials acceptable to the market, and to continue to
  improve our existing technology and software in our current product
  offerings;
- successfully develop the 3D printing market with
  our Dimension BST, Dimension SST, Dimension Elite, and uPrint systems, and
  that the market will accept these systems;
- successfully develop the DDM market with our
  Fortus 200mc 360mc, 400mc and 900mc, and that the market will accept these
  systems;
- maintain our revenues and gross margins on our
  present products;
- control our operating expenses;
- expand our manufacturing capabilities to meet the
  expected demand generated by our uPrint, Dimension BST, Dimension SST and
  Dimension Elite systems, our consumable products and our Paid Parts
  service;
- successfully commercialize new materials and gain
  market acceptance for these new materials; and
- recruit, retain, and develop employees with the
  necessary skills to produce, create, commercialize, market, and sell our
  products.

Assumptions relating to the
foregoing involve judgments with respect to, among other things, future
economic, geo-political, competitive, market and technological conditions, and
future business decisions, all of which are difficult or impossible to predict
accurately and many of which are beyond our control. Although we believe that
the assumptions underlying the forward-looking statements contained herein are
reasonable, any of those assumptions could prove inaccurate, and therefore there
is and can be no assurance that the results contemplated in any such
forward-looking statement will be realized. The impact of actual experience and
business developments may cause us to alter our marketing plans, our capital
expenditure budgets, or our engineering, selling, manufacturing or other
budgets, which may in turn affect our results of operations or the success of
our new product development and introduction. We may not be able to alter our
plans or budgets in a timely manner, resulting in reduced profitability or
losses.

Due to the factors noted above and
elsewhere in this Managements Discussion and Analysis of Financial Condition
and Results of Operations, our future earnings and stock price may be subject to
significant volatility, particularly on a quarterly basis. Additionally, we may
not learn of revenue or earnings shortfalls until late in a fiscal quarter,
since we frequently receive a significant number of orders very late in a
quarter. This could result in an immediate and adverse effect on the trading
price of our common stock. Past financial performance should not be considered a
reliable indicator of future performance, and investors should not use
historical trends to anticipate results or trends in future periods.

42

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Item 7A. Quantitative and Qualitative
Disclosures About Market Risk.

Interest Rate Risk

Our cash and cash equivalent
investments are exclusively in short-term money market and sweep instruments
with maturities of less than 90 days. These are subject to limited interest rate
risk. A 10% change in interest rates would not have a material effect on our
financial condition or results of operations. Our short- and long-term
investments are invested in Auction Rate Securities and municipal government
bonds that bear interest at rates of 1.4% to 6.0%. An immediate 10% change in
interest rates would have no material effect on our financial condition or
results of operations.

Foreign Currency Exchange Rate
Risk

We have not historically hedged
sales from or expenses incurred by our European operations that are conducted in
euros. Therefore, a hypothetical 10% change in the exchange rates between the
U.S. dollar and the Euro could increase or decrease our income before taxes by
less than $0.4 million for the continued maintenance of our European facility.
Throughout 2008 we hedged between €2.5 million and €5.1 million of our accounts
receivable balances that were denominated in euros. A hypothetical 10% change in
the exchange rates between the US dollar and the euro could increase or decrease
income before taxes by between $0.7 million and $1.1 million.

Item 8. Financial Statements and
Supplementary Data.

This information appears following
Item 15 of this report and is incorporated herein by reference.

Item 9. Changes In and Disagreements
With Accountants on Accounting and Financial Disclosure.

None.

Item 9A. Controls and
Procedures.

Disclosure Controls and
Procedures

Under the supervision and with the
participation of our management, including our Chief Executive Officer and Chief
Financial Officer, we conducted an evaluation of the effectiveness of the design
and operation of our disclosure controls and procedures (as defined in Rules
13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) as of the end
of the period covered by this report (the Evaluation Date). Based on this
evaluation, our Chief Executive Officer and Chief Financial Officer concluded as
of the Evaluation Date that our disclosure controls and procedures were
effective such that the information relating to us required to be disclosed in
our Securities and Exchange Commission (SEC) reports (i) is recorded,
processed, summarized and reported within the time periods specified in SEC
rules and forms, and (ii) is accumulated and communicated to our management,
including our Chief Executive Officer and Chief Financial Officer, as
appropriate to allow timely decisions regarding required disclosure.

43

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Internal Control over Financial
Reporting

Under the supervision
and with the participation of our management, including our Chief Executive
Officer and Chief Financial Officer, we are responsible for establishing and
maintaining an effective system of internal control over financial reporting (as
defined in Rule 13a-15(f) and 15d-15(f) under the Securities Exchange Act of
1934). Our management has conducted an assessment of our internal control over
financial reporting based on the framework established by the committee of
Sponsoring Organizations of the Treadway Commission in Internal Control 
Integrated Framework. There have not been any changes in our internal control
over financial reporting identified in connection with the assessment that
occurred during the fourth quarter of 2008 that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting. Our management has prepared an annual report on internal control over
financial reporting. Managements report is included in this Annual Report on
Form 10-K on page F-1. In addition, Grant Thornton, LLP, our independent
registered public accounting firm, has prepared its report on the effectiveness
of our internal control over financial reporting and such report is included on
pages F-4 to F-5 of the consolidated financial statements.

Item 9B. Other
Information.

On February 12, 2009, pursuant to
the recommendation of the Compensation Committee of our Board of Directors, our
Board of Directors adopted an amendment to Section 4 of the Stratasys 2008
Long-Term Performance and Incentive Plan (the 2008 Plan) to provide that
stockholder approval shall be required to (i) cancel or amend outstanding
options or SARs for the purpose of repricing, replacing, or regranting such
options or SARs with options or SARs that have a purchase or grant price that is
less than the purchase or grant price for the original options or SARs or (ii)
issue an option or amend an outstanding option to provide for the grant or
issuance of a new option on exercise of the original option (so-called reload
options).  A copy of the 2008 Plan, as amended, is appended hereto as
Exhibit 10.6.

44

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PART III

Item 10. Directors, Executive Officers
and Corporate Governance.

Incorporated herein by reference to
our Definitive Proxy Statement with respect to our Annual Meeting of
Stockholders scheduled to be held May 7, 2009.

Item 11. Executive
Compensation.

Incorporated herein by reference to
our Definitive Proxy Statement with respect to our Annual Meeting of
Stockholders scheduled to be held May 7, 2009.

Item 12. Security Ownership of Certain
Beneficial Owners and Management and Related Stockholder Matters.

Incorporated herein by reference to
our Definitive Proxy Statement with respect to our Annual Meeting of
Stockholders scheduled to be held May 7, 2009.

Item 13. Certain Relationships and
Related Transactions, and Director Independence.

Incorporated herein by reference to
our Definitive Proxy Statement with respect to our Annual Meeting of
Stockholders scheduled to be held May 7, 2009.

Item 14. Principal Accountant Fees and
Services.

Incorporated herein by reference to
our Definitive Proxy Statement with respect to our Annual Meeting of
Stockholders scheduled to be held May 7, 2009.

45

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PART IV

Item 15. Exhibits and Financial
Statement Schedules.

|(a) |  | Documents                                                                                |  |             
|--- |  | ---------------------------------------------------------------------------------------- |  | ------------
|   
|    |  | 1. Financial
      Statements --                                                         |  |             
|   
|    |  | Managements Report on Internal Control Over Financial
      Reporting                   |  | F-3         
|    |  | Reports of Independent Registered Public Accounting
      Firms                          |  | F-4 to F-7  
|    |  | Consolidated Balance Sheets December 31, 2008 and 2007                                   |  | F-8         
|    |  | Consolidated Statements of Operations Years Ended December 31,
      2008, 2007 and 2006 |  | F-9         
|    |  | Consolidated Statements of Changes in Stockholders Equity and
      Comprehensive       |  |             
|    |  | Income Years Ended December 31, 2008, 2007 and 2006                                      |  | F-10        
|    |  | Consolidated Statements of Cash Flows Years Ended December 31,
      2008, 2007 and 2006 |  | F-11        
|    |  | Notes to Consolidated Financial Statements                                               |  | F-12 to F-32
|   
|    |  | 2. Financial
      Statement Schedule --                                                 |  |             
|   
|    |  | Schedule II-- Valuation and Qualifying Accounts and
      Reserves                       |  | F-33        

46

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STRATASYS, INC. AND
SUBSIDIARIES

CONSOLIDATED FINANCIAL
STATEMENTSANDREPORTS OF INDEPENDENT
REGISTEREDPUBLIC ACCOUNTING FIRMS

DECEMBER 31, 2008 AND 2007





F-1

---

|CONTENTS                                                                               |  |          
|-------------------------------------------------------------------------------------- |  | ---------
|                                                                                       |  |          
|Managements Report on Internal Controls over Financial
      Reporting                |  | F-3      
|                                                                                      
|Reports of Independent Registered Public Accounting
    Firms                          |  | F-4-F-7  
|                                                                                      
|Consolidated Financial Statements                                                      |  |          
|                                                                                      
|Balance Sheets                                                                         |  | F-8      
|                                                                                      
|**Statements of
      Operations**                                                     |  | F-9      
|                                                                                      
|**Statements of
      Changes in Stockholders' Equity and Comprehensive
      Income** |  | F-10     
|                                                                                       |  |          
|**Statements of
      Cash Flows**                                                     |  | F-11     
|                                                                                       |  |          
|**Notes to
      Financial Statements**                                                |  | F-12-F-32
|                                                                                       |  |          
|**Schedule II - Valuation and Qualifying Accounts and
      Reserves**                 |  | F-33     

F-2

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MANAGEMENTS RESPONSIBILITY FOR
FINANCIAL REPORTING

Management
of the Company is responsible for establishing and maintaining adequate internal
control over financial reporting (as such term is defined in Rule 13a-15(f)
under the Securities Exchange Act of 1934). The Companys internal control over
financial reporting includes those policies and procedures that (i) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the Company; (ii)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with accounting
principles generally accepted in the United States, and that receipts and
expenditures of the Company are being made only in accordance with
authorizations of management and directors of the Company; and (iii) provide
reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use, or disposition of the Companys assets that could have a
material effect on the financial statements.

Internal
control over financial reporting is designed to provide reasonable assurance to
the Companys management and board of directors regarding the preparation of
reliable financial statements for external purposes in accordance with
accounting principles generally accepted in the United States. Internal control
over financial reporting includes self-monitoring mechanisms and actions taken
to correct deficiencies as they are identified. Because of the inherent
limitations in any internal control, no matter how well designed, misstatements
may occur and not be prevented or detected. Accordingly, even effective internal
control over financial reporting can provide only reasonable assurance with
respect to financial statement preparation. Further, the evaluation of the
effectiveness of internal control over financial reporting was made as of a
specific date, and continued effectiveness in future periods is subject to the
risks that controls may become inadequate because of changes in conditions or
that the degree of compliance with the policies and procedures may decline.

MANAGEMENTS REPORT ON INTERNAL
CONTROLS OVER FINANCIAL REPORTING

Management
conducted an evaluation of the effectiveness of the Companys system of internal
control over financial reporting as of December 31, 2008 based on the framework
set forth in Internal Control  Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission. Based on its evaluation,
management concluded that, as of December 31, 2008, the Companys internal
control over financial reporting is effective based on the specified
criteria.

|/s/ S. SCOTT CRUMP            | 
|----------------------------- | 
|S. Scott
      Crump         
|Chief
      Executive Officer
|                             
|                             
|                             
|/s/ ROBERT F. GALLAGHER       | 
|Robert F.
      Gallagher    
|Chief
      Financial Officer

Date: March 9,
2009

F-3

---

REPORT OF INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM

Board of Directors and
ShareholdersStratasys, Inc.

We have
audited the accompanying consolidated balance sheets of Stratasys, Inc. and
subsidiaries (the Company) (a Delaware Corporation) as of December 31, 2008
and 2007, and the related consolidated statements of operations, stockholders
equity and comprehensive income, and cash flows for each of the two years in the
period ended December 31, 2008. Our audits of the basic financial statements
included the financial statement schedule listed in the index appearing under
Item 15. These financial statements and financial statement schedule are the
responsibility of the Companys management. Our responsibility is to express an
opinion on these financial statements and financial schedule based on our
audits.

We conducted
our audits in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provides a
reasonable basis for our opinion.

In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of Stratasys, Inc. and
subsidiaries as of December 31, 2008 and 2007, and the results of their
operations and their cash flows for each of the two years in the period ended
December 31, 2008 in conformity with accounting principles generally accepted in
the United States of America. Also in our opinion, the related financial
statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly, in all material respects, the
information set forth therein.

We also have
audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), Stratasys, Inc.s internal control over
financial reporting as of December 31, 2008, based on criteria established inInternal ControlIntegrated
Frameworkissued by the Committee of
Sponsoring Organizations of the Treadway Commission (COSO) and our report dated
March 9, 2009 expressed an unqualified opinion on the effectiveness of the
Companys internal control over financial reporting.

/s/ GRANT THORNTON LLPMinneapolis,
Minnesota

March 9, 2009

F-4

---

REPORT OF INDEPENDENT REGISTERED PUBLIC
ACCOUNTING FIRM

Board of Directors and
ShareholdersStratasys, Inc.

We have audited Stratasys, Inc. and subsidiaries (the
Company) (a Delaware Corporation) internal control over financial
reporting as of December 31, 2008, based on criteria established inInternal ControlIntegrated
Frameworkissued by the Committee of
Sponsoring Organizations of the Treadway Commission (COSO). The
Companys management is responsible for maintaining effective internal
control over financial reporting and for its assessment of the effectiveness of
internal control over financial reporting, included in the accompanying
Managements Report on Internal Control over Financial Reporting. Our
responsibility is to express an opinion on Stratasys, Inc.s internal control
over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether
effective internal control over financial reporting was maintained in all
material respects. Our audit included obtaining an understanding of internal
control over financial reporting, assessing the risk that a material weakness
exists, testing and evaluating the design and operating effectiveness of
internal control based on the assessed risk, and performing such other
procedures as we considered necessary in the circumstances. We believe that our
audit provides a reasonable basis for our opinion.

A companys internal control over financial reporting is a process
designed to provide reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles. A companys internal
control over financial reporting includes those policies and procedures that (1)
pertain to the maintenance of records that, in reasonable detail, accurately and
fairly reflect the transactions and dispositions of the assets of the company;
(2) provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the companys
assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial
reporting may not prevent or detect misstatements. Also, projections of any
evaluation of effectiveness to future periods are subject to the risk that
controls may become inadequate because of changes in conditions, or that the
degree of compliance with the policies or procedures may deteriorate.

In our opinion, Stratasys, Inc. maintained, in all material respects,
effective internal control over financial reporting as of December 31, 2008,
based on criteria established inInternal
Control  Integrated Frameworkissued by
COSO.

F-5

---

We also have audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the
consolidated balance sheets of Stratasys, Inc. and  Subsidiaries
as of December 31, 2008 and 2007, and the related consolidated statements of
operations, changes in stockholders equity and comprehensive income, and cash
flows as of and for the years ended December 31, 2008 and 2007 and our
report dated March 9, 2009 expressed an unqualified opinion on those financial
statements.

/s/ GRANT THORNTON LLPMinneapolis,
Minnesota

March 9, 2009

F-6

---

REPORT OF INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders
ofStratasys, Inc.

We have audited the accompanying consolidated balance sheets of
Stratasys, Inc. and Subsidiaries (collectively, the Company) as of December
31, 2006 and 2005, and the related consolidated statements of operations,
changes in stockholders equity, and cash flows for each of the years in the
three-year period ended December 31, 2006. These financial statements are the
responsibility of the Companys management. Our responsibility is to express an
opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Stratasys,
Inc. and Subsidiaries as of December 31, 2006 and 2005, and the results of their
operations and their cash flows for each of the years in the three-year period
ended December 31, 2006, in conformity with accounting principles generally
accepted in the United States of America.

We also have audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the effectiveness of the
Companys internal control over financial reporting as of December 31, 2006,
based on criteria established in Internal ControlIntegrated Framework issued
by the Committee of Sponsoring Organizations of the Treadway Commission
(COSO), and our report dated January 31, 2007 expressed an unqualified opinion
on managements assessment of internal control over financial reporting and an
unqualified opinion on the effectiveness of internal control over financial
reporting.

In connection with our audits of the financial statements referred to
above, we audited the financial schedule listed under Schedule II  Valuation
and Qualifying Accounts and Reserves. In our opinion, this financial schedule,
when considered in relation to the financial statements taken as a whole,
presents fairly, in all material respects, the information stated therein.

/s/ ROTHSTEIN, KASS & COMPANY,
P.C.Roseland, New JerseyJanuary 31, 2007

F-7

---

STRATASYS, INC. AND
SUBSIDIARIESCONSOLIDATED FINANCIAL
STATEMENTS

Consolidated Balance
Sheets

|December 31,                                                      |  | 2008 |             | 2007
|----------------------------------------------------------------- |  | ---- | ----------- | ----
|ASSETS                                                            |  |      |             |     
|Current
      assets                                              |  |      |             |     
|Cash
      and cash equivalents                                   |  | $    | 27,945,799  |     
|Short-term investments                                            |  |      | 4,835,055   |     
|Accounts receivable, less allowance for doubtful                  |  |      |             |     
|accounts of $1,017,521 and $1,205,621                             |  |      |             |     
|in 2008 and 2007, respectively                                    |  |      | 26,539,733  |     
|Inventories                                                       |  |      | 19,889,351  |     
|Net
      investment in sales-type leases, less allowance         |  |      |             |     
|for doubtful accounts of $324,642 and
      $154,849              |  |      |             |     
|in 2008 and 2007, respectively                                    |  |      | 3,870,472   |     
|Prepaid expenses and other current assets                         |  |      | 2,608,080   |     
|Deferred income taxes                                             |  |      | 559,000     |     
|Total current assets                                              |  |      | 86,247,490  |     
|Property and equipment, net                                       |  |      | 29,749,921  |     
|Other
      assets                                                |  |      |             |     
|Intangible assets, net                                            |  |      | 8,347,200   |     
|Net investment in sales-type leases                               |  |      | 4,545,977   |     
|Deferred income taxes                                             |  |      | 989,000     |     
|Long-term investments - Available for sale
      securities       |  |      | 1,109,250   |     
|Long-term investments                                             |  |      | 13,825,981  |     
|Other non-current assets                                          |  |      | 2,308,214   |     
|Total
      other assets                                          |  |      | 31,125,622  |     
|Total
      assets                                                |  | $    | 147,123,033 |     
|                                                                 
|LIABILITIES AND STOCKHOLDERS' EQUITY                              |  |      |             |     
|Current
      liabilities                                         |  |      |             |     
|Accounts payable and other current liabilities                    |  | $    | 11,795,238  |     
|Unearned revenues                                                 |  |      | 12,765,396  |     
|Total current liabilities                                         |  |      | 24,560,634  |     
|Commitments
      and contingencies                               |  |      |             |     
|Stockholders' equity                                              |  |      |             |     
|Common stock, $.01 par value, authorized 30,000,000
      shares; |  |      |             |     
|issued 25,909,603 shares and 25,610,654                           |  |      |             |     
|shares in 2008 and 2007, respectively                             |  |      | 259,096     |     
|Capital in excess of par value                                    |  |      | 91,611,078  |     
|Retained earnings                                                 |  |      | 69,899,669  |     
|Accumulated other comprehensive income (loss)                     |  |      | (203,019    | )   
|Less cost of treasury stock, 5,687,631 and 4,600,056
      shares |  |      |             |     
|in 2008 and 2007, respectively                                    |  |      | (39,004,425 | )   
|Total
      stockholders' equity                                  |  |      | 122,562,399 |     
|Total
      liabilities and stockholders' equity                  |  | $    | 147,123,033 |     

F-8

---

STRATASYS, INC. AND
SUBSIDIARIESCONSOLIDATED FINANCIAL
STATEMENTS

|Consolidated
      Statements of Operations |  |          |             |          |  |          |             |   |  |   |             |  
|------------------------------------------- |  | -------- | ----------- | -------- |  | -------- | ----------- | - |  | - | ----------- | -
|                                           
|**Years Ended
      December 31,**          |  | **2008** |             | **2007** |  | **2006**
|Net sales                                   |  |          |             |          |  |          |             |   |  |   |             |  
|Products                                    |  | $        | 98,969,152  |          |  | $        | 89,280,009  |   |  | $ | 83,449,388  |  
|Services                                    |  |          | 25,525,860  |          |  |          | 22,962,572  |   |  |   | 20,359,463  |  
|                                            |  |          | 124,495,012 |          |  |          | 112,242,581 |   |  |   | 103,808,851 |  
|                                            |  |          |             |          |  |          |             |   |  |   |             |  
|Cost of sales                               |  |          |             |          |  |          |             |   |  |   |             |  
|Products                                    |  |          | 47,672,443  |          |  |          | 40,540,564  |   |  |   | 41,953,162  |  
|Services                                    |  |          | 10,410,249  |          |  |          | 11,993,906  |   |  |   | 10,414,305  |  
|                                            |  |          | 58,082,692  |          |  |          | 52,534,470  |   |  |   | 52,367,467  |  
|                                            |  |          |             |          |  |          |             |   |  |   |             |  
|Gross profit                                |  |          | 66,412,320  |          |  |          | 59,708,111  |   |  |   | 51,441,384  |  
|                                           
|Operating expenses                          |  |          |             |          |  |          |             |   |  |   |             |  
|Research and development                    |  |          | 8,973,203   |          |  |          | 7,465,334   |   |  |   | 6,699,373   |  
|Selling, general and administrative         |  |          | 36,842,665  |          |  |          | 33,769,880  |   |  |   | 29,105,342  |  
|                                            |  |          | 45,815,868  |          |  |          | 41,235,214  |   |  |   | 35,804,715  |  
|                                            |  |          |             |          |  |          |             |   |  |   |             |  
|Operating income                            |  |          | 20,596,452  |          |  |          | 18,472,897  |   |  |   | 15,636,669  |  
|                                           
|Other income (expense)                      |  |          |             |          |  |          |             |   |  |   |             |  
|Interest income, net                        |  |          | 2,037,257   |          |  |          | 2,316,001   |   |  |   | 1,648,035   |  
|Foreign currency transaction losses, net    |  |          | (834,762    | )        |  |          | (503,309    | ) |  |   | (307,314    | )
|Other                                       |  |          | (1,065,460  | )        |  |          | 76,468      |   |  |   | (13,211     | )
|                                            |  |          | 137,035     |          |  |          | 1,889,160   |   |  |   | 1,327,510   |  
|                                            |  |          |             |          |  |          |             |   |  |   |             |  
|Income before income taxes                  |  |          | 20,733,487  |          |  |          | 20,362,057  |   |  |   | 16,964,179  |  
|Income taxes                                |  |          | 7,118,000   |          |  |          | 6,037,999   |   |  |   | 5,800,000   |  
|                                           
|Net income                                  |  | $        | 13,615,487  |          |  | $        | 14,324,058  |   |  | $ | 11,164,179  |  
|                                           
|Net income per common share                 |  |          |             |          |  |          |             |   |  |   |             |  
|Basic                                       |  | $        | 0.66        |          |  | $        | 0.69        |   |  | $ | 0.55        |  
|Diluted                                     |  |          | 0.65        |          |  |          | 0.66        |   |  |   | 0.54        |  
|                                           
|Weighted average commons shares outstanding |  |          |             |          |  |          |             |   |  |   |             |  
|Basic                                       |  |          | 20,676,436  |          |  |          | 20,771,656  |   |  |   | 20,240,012  |  
|Diluted                                     |  |          | 21,079,265  |          |  |          | 21,565,618  |   |  |   | 20,723,166  |  

*See accompanying notes to
consolidated financial statements.*

F-9

---

STRATASYS, INC. AND
SUBSIDIARIESCONSOLIDATED FINANCIAL
STATEMENTS

Stratasys, Inc. and
Subsidiaries

Consolidated Statements of Changes in
Stockholders' Equity and Comprehensive Income

|Years Ended December 31, 2008, 2007,
      and 2006
|---------------------------------------------------
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|Balances, January 1, 2006                          
|Exercise of stock options and warrants             
|Income tax reductions relating to                  
|**exercise of
      stock options**                
|Purchase of 257,000 shares of treasury stock       
|Stock based compensation                           
|Net income                                         
|Other comprehensive loss,                          
|foreign currency
      translation adjustment      
|Total comprehensive income                         
|Balances, December 31, 2006                        
|                                                   
|Exercise of stock options and warrants             
|Income tax reductions relating to                  
|**exercise of
      stock options**                
|Stock based compensation                           
|Net income                                         
|Other comprehensive income,                        
|foreign currency
      translation adjustment      
|Total comprehensive income                         
|Balances, December 31, 2007                        
|                                                   
|Exercise of stock options and warrants             
|Income tax reductions relating to                  
|**exercise of
      stock options**                
|Purchase of 1,087,575 shares of treasury stock     
|Stock based compensation                           
|Net income                                         
|Other comprehensive income,                        
|unrealized loss on
      securites                 
|foreign currency
      translation adjustment      
|**Total comprehensive income**                     
|**Balances, December 31, 2008**                    

F-10

---

STRATASYS, INC. AND
SUBSIDIARIESCONSOLIDATED FINANCIAL
STATEMENTS

|Consolidated
      Statements of Cash Flows                    |  |          |             |          |  |          |             |   |  |   |            |  
|-------------------------------------------------------------- |  | -------- | ----------- | -------- |  | -------- | ----------- | - |  | - | ---------- | -
|                                                              
|Years Ended December
      31,                                 |  | **2008** |             | **2007** |  | **2006**
|Cash flows from operating activities                           |  |          |             |          |  |          |             |   |  |   |            |  
|Net income                                                     |  | $        | 13,615,487  |          |  | $        | 14,324,058  |   |  | $ | 11,164,179 |  
|Adjustments to
      reconcile net income to net cash provided |  |          |             |          |  |          |             |   |  |   |            |  
|by operating activities:                                       |  |          |             |          |  |          |             |   |  |   |            |  
|Deferred income taxes                                          |  |          | (51,000     | )        |  |          | (56,000     | ) |  |   | 204,611    |  
|Depreciation                                                   |  |          | 4,810,237   |          |  |          | 3,608,601   |   |  |   | 2,783,089  |  
|Amortization                                                   |  |          | 2,193,609   |          |  |          | 1,365,735   |   |  |   | 1,049,145  |  
|Stock based compensation                                       |  |          | 1,321,597   |          |  |          | 954,783     |   |  |   | 1,265,556  |  
|Gain
      on disposal of property and equipment               |  |          | (61,784     | )        |  |          | 7,379       |   |  |   | 55,860     |  
|Loss on write-down of investment                               |  |          | 1,270,750   |          |  |          | -           |   |  |   | -          |  
|Increase (decrease) in cash attributable to changes
      in   |  |          |             |          |  |          |             |   |  |   |            |  
|operating assets and liabilities:                              |  |          |             |          |  |          |             |   |  |   |            |  
|Accounts receivable, net                                       |  |          | (233,037    | )        |  |          | (1,271,388  | ) |  |   | (4,859,210 | )
|Inventories                                                    |  |          | (6,875,415  | )        |  |          | (2,423,068  | ) |  |   | 1,013,897  |  
|Net investment in sales-type leases                            |  |          | (1,057,814  | )        |  |          | (1,229,566  | ) |  |   | (949,526   | )
|Prepaid expenses                                               |  |          | (100,764    | )        |  |          | 861,270     |   |  |   | (1,068,264 | )
|Other assets                                                   |  |          | (964        | )        |  |          | (836,268    | ) |  |   | (166,337   | )
|Accounts payable and other current
      liabilities           |  |          | (2,121,903  | )        |  |          | 5,588,851   |   |  |   | 740,037    |  
|Unearned revenues                                              |  |          | 1,800,925   |          |  |          | 1,087,752   |   |  |   | 1,162,943  |  
|Excess tax benefit from stock options                          |  |          | (18,747     | )        |  |          | (812,766    | ) |  |   | -          |  
|Net cash provided by operating activities                      |  |          | 14,491,177  |          |  |          | 21,169,373  |   |  |   | 12,395,980 |  
|                                                               |  |          |             |          |  |          |             |   |  |   |            |  
|Cash flows from investing activities                           |  |          |             |          |  |          |             |   |  |   |            |  
|Proceeds from sale of investments                              |  |          | 23,875,909  |          |  |          | 14,475,022  |   |  |   | 7,636,567  |  
|Proceeds from sale of property and
      equipment             |  |          | 315,726     |          |  |          | 63,630      |   |  |   | 0          |  
|Purchases of investments                                       |  |          | -           |          |  |          | (24,459,978 | ) |  |   | (7,637,455 | )
|Acquisition of property and equipment                          |  |          | (8,494,145  | )        |  |          | (10,237,990 | ) |  |   | (6,063,741 | )
|Acquisition of intangible and other assets                     |  |          | (2,407,221  | )        |  |          | (3,682,017  | ) |  |   | (1,537,875 | )
|Net cash provided by (used in) investing
      activities      |  |          | 13,290,269  |          |  |          | (23,841,333 | ) |  |   | (7,602,504 | )
|                                                               |  |          |             |          |  |          |             |   |  |   |            |  
|Cash flows from financing activities                           |  |          |             |          |  |          |             |   |  |   |            |  
|Proceeds from exercise of stock options and
      warrants     |  |          | 3,229,259   |          |  |          | 8,508,265   |   |  |   | 1,407,174  |  
|Excess tax benefit from stock options                          |  |          | 18,747      |          |  |          | 812,766     |   |  |   | -          |  
|Purchase of treasury stock                                     |  |          | (19,104,261 | )        |  |          | -           |   |  |   | (3,111,280 | )
|Net cash provided by (used in) financing
      activities      |  |          | (15,856,255 | )        |  |          | 9,321,031   |   |  |   | (1,704,106 | )
|                                                              
|Effect of exchange rate changes on cash                        |  |          | (191,163    | )        |  |          | 259,855     |   |  |   | 131,859    |  
|Net increase
      in cash and cash equivalents                |  |          | 11,734,028  |          |  |          | 6,908,926   |   |  |   | 3,221,229  |  
|Cash and cash equivalents,beginning of year                    |  |          | 16,211,771  |          |  |          | 9,302,845   |   |  |   | 6,081,616  |  
|Cash and cash
      equivalents,end of year                    |  | $        | 27,945,799  |          |  | $        | 16,211,771  |   |  | $ | 9,302,845  |  
|                                                              
|Supplemental Disclosures of cash flow information:             |  |          |             |          |  |          |             |   |  |   |            |  
|Cash paid for taxes                                            |  | $        | 8,133,189   |          |  | $        | 3,011,834   |   |  | $ | 5,283,313  |  
|Transfer of fixed assets to inventory                          |  |          | 242,701     |          |  |          | 422,950     |   |  |   | 135,446    |  

F-11

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

1.Nature of operations and summary
of significant accounting policies

Nature of Operations

Stratasys, Inc.
and Subsidiaries (collectively the "Company") develops, manufactures,
distributes and markets a family of rapid prototyping (RP), three-dimensional
(3D) printing and direct digital manufacturing (DDM) systems that permit
engineers and designers to create physical models and prototypes, made of
various materials, utilizing three dimensional Computer Aided Design ("3D CAD")
files at a CAD workstation. The Company sells these systems and the related
consumable materials and maintenance worldwide. In addition, the Company offers
both existing and potential customers the ability to purchase prototypes and
parts that it makes for them from CAD files that they provide to the Company.

Principles of Consolidation

The accompanying consolidated financial statements include the accounts
of Stratasys, Inc. and its wholly owned subsidiaries. All intercompany accounts
and transactions have been eliminated in consolidation.

Fair Value of Financial Instruments

The fair value of the Company's assets and liabilities, which qualify as
financial instruments under Statement of Financial Accounting Standards (SFAS)
No. 107, "Disclosures About Fair Value of Financial Instruments," approximate
the carrying amounts presented in the consolidated balance sheets.

Cash and Cash Equivalents

The Company considers all highly-liquid debt instruments purchased with
maturities of three months or less when acquired to be cash equivalents. At
December 31, 2008 and 2007, cash equivalents consisted of money market accounts
aggregating approximately $26.1 million and $13.9 million, respectively. As of
December 31, 2008 and 2007, and at various times during those years, balances of
cash at financial institutions exceeded the federally insured limit. The Company
has not experienced any losses in such accounts and believes it is not subject
to any significant credit risk on cash and cash equivalents. At December 31,
2008 and 2007, cash balances held in foreign bank accounts were approximately
$0.9 million and $1.7 million, respectively. Cash balances held in foreign
accounts are subject to local banking laws and may bear higher or lower risk
than cash deposited in the United States.

Short-term and Long-term Investments

Classification of investments as current or non-current is dependent upon
managements intended holding period, the investments maturity date and
liquidity considerations based on market conditions. If management has the
intent and ability to hold the securities for longer than one year as of the
balance sheet date, they are classified as non-current. The Company had no
unrecognized gains or losses related to held-to-maturity investments at December
31, 2008 or 2007, as the fair value of those investments approximated
cost.

Accounts Receivable

The Company carries its accounts receivable at cost less an allowance for
returns and doubtful accounts. On a periodic basis, the Company evaluates its
accounts receivable and establishes an allowance for doubtful accounts based on
a history of past write-offs and collections and current credit conditions. The
Company evaluates a number of factors to assess collectibility, including an
evaluation of the creditworthiness of the customer, past payment history, and
current economic conditions. Accounts are written-off against the reserve when
management deems the accounts are no longer collectible. The Company also
records a provision for estimated product returns and allowances in the period
in which the related revenue is recorded. This provision against current gross
revenue is based principally on historical rates of sales returns, but also
factors in changes in the customer base, geographic economic conditions, and
changes in the financial conditions of the Companys customers.

F-12

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

Inventories

Inventories are stated on the first-in, first-out method, at the lower of
cost or market. Inventory costs consist of material, direct labor and overhead.
The Company periodically assesses inventory for obsolescence and excess by
reducing the carrying amount by an amount equal to the difference between its
cost and the estimated market value based on assumptions about future demand and
historical sales patterns.

Impairment of Long-Lived Assets

The Company adheres to SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, and annually assesses the recoverability of the
carrying amounts of long-lived assets, including intangible assets, at year-end.
An impairment loss would be recognized if expected undiscounted future cash
flows are less than the carrying amount of the asset. This loss would be
determined by calculating the difference by which the carrying amount of the
asset exceeds its fair value. Based on the Companys assessment as of December
31, 2008, no long-lived assets were determined to be impaired.

Property and Equipment

Property and equipment is stated at cost less accumulated depreciation
and amortization. Depreciation and amortization are computed using the
straight-line method over the estimated useful lives of the assets ranging from
2 to 30 years. The Company recorded depreciation expense not included in cost of
sales of approximately $1.7 million, $1.1 million, and $0.9 million for the
years ended December 31, 2008, 2007, and 2006, respectively. Maintenance and
repairs are charged to operations, while betterments and improvements are
capitalized.

Intangible Assets

Intangible assets are capitalized and amortized over their estimated
useful or economic lives using the straight-line method in conformity with SFAS
No. 142, Goodwill and Other Intangible Assets, as follows:

| | RP technology                                | 11 years
| | -------------------------------------------- | --------
| | Capitalized
      software development costs | 3 years 
| | Patents                                      | 10 years
| | Trademarks                                   | 5 years 

The costs of software development, including significant product
enhancements, incurred subsequent to establishing technological feasibility have
been capitalized in accordance with SFAS No. 86, "Accounting for the Costs of
Computer Software to be Sold, Leased or Otherwise Marketed." Costs incurred
prior to establishment of technological feasibility are charged to research and
development expense.

Warranty Policy and
Methodology

The Company services and supports customers by providing warranties for
its products. The standard warranty is three months, however, educational and
international customers are granted a 12-month warranty. In all cases, three
months of expected warranty costs will be accrued in the same period as the
product revenues. These expected warranty costs are based on historical costs of
supporting the Companys products. When the warranty period exceeds the standard
three-month warranty period, an accrual of expected costs for the three-month
standard warranty period is made and the portion of revenue applicable to the
remaining nine months of extended warranty coverage will be deferred. The amount
deferred is based on the fair market value of a purchased maintenance agreement
for the same product and term of coverage. The expenses of maintaining the
products under the extended warranty periods are treated as period costs, as
they are expected to be incurred evenly throughout the same period and reflect a
proper matching of revenue and expenses.

F-13

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

Unearned Revenues

The Company
services and supports customers by providing warranties and selling maintenance
agreements for its products. Unearned revenues comprise purchased maintenance
agreements, covering future periods, and deferred implied maintenance, as
discussed in the Warranty Policy and Methodology section. Implied maintenance is
recognized as earned maintenance revenue in equal installments over the extended
warranty period. The purchased maintenance is deferred in whole and amortized
over the period of coverage ranging from one to two years.

Revenue Recognition

The Company derives revenue from sales of 3D printing, rapid prototyping
(RP) and direct digital manufacturing (DDM) systems, consumables, and
services. The Company recognizes revenue when (1) persuasive evidence of a final
agreement exists, (2) delivery has occurred or services have been rendered, (3)
the selling price is fixed or determinable, and (4) collectibility is reasonably
assured. The Companys standard terms are FOB shipping point, and as such most
of the revenue from the sale of RP machines and consumables is recognized when
shipped. Exceptions to this policy occur only if a customers purchase order
indicates an alternative term or provides that the equipment sold would be
subject to certain contingencies, such as formal acceptance. In these instances,
revenues would be recognized only upon satisfying the conditions established by
the customer as contained in its purchase order to the Company. Revenue from
sales-type leases for the Companys high-performance systems is recognized at
the time of lessee acceptance, which follows installation. Revenue from
sales-type leases for the Companys Dimension systems is recognized at the time
of shipment, since either the customer or the reseller performs the
installation. The Company recognizes revenue from sales-type leases at the net
present value of future lease payments. Revenue from operating leases is
recognized ratably over the lease period.

Service revenue is derived from sales of maintenance contracts,
installation services, and training. Service revenue from maintenance contracts
is recognized ratably over the term of the contract, typically one to two years.
On certain sales that require a one-year warranty, rather than the standard
90-day warranty, the extended warranty is treated for revenue recognition
purposes as a maintenance agreement. The fair value of this maintenance
agreement is deferred and recognized ratably over the period of the extended
warranty as an implied maintenance contract. Installation service revenues are
recognized upon completion of the installation. Training revenues are recognized
upon completion of the training.

In accordance with Emerging Issues Task Force (EITF) No. 00-21,
Revenue Arrangements with Multiple Deliverables, when two or more product
offerings are contained in a single arrangement, revenue is allocated between
the elements based on their relative fair value, provided that each element
meets the criteria for treatment as a separate unit of accounting. An item is
considered a separate unit of accounting if it has value to the customer on a
stand-alone basis and there is objective and reliable evidence of the fair value
of the undelivered items. Fair value is generally determined based upon the
price charged when the element is sold separately. In the absence of fair value
for a delivered element, revenue is allocated first to the fair value of the
undelivered elements and then the residual revenue is allocated to the delivered
elements. In the absence of fair value for an undelivered element, the
arrangement is accounted for as a single unit of accounting, resulting in a
delay of revenue recognition for the delivered elements until all undelivered
elements have been fulfilled.

Revenues from training and installation are unbundled and are recognized
after the services have been performed. Both of these services are optional to
the customer. Most of the Companys products are sold through distribution
channels, with training and installation services offered by the resellers. For
the Dimension product neither installation nor training is offered. Consistent
with the SECs Staff Accounting Bulletin (SAB) No. 104, Revision of Topic 13:
Revenue Recognition in Financial Statements, the equipment the Company
manufactures and sells is subject to factory testing that should replicate the
conditions under which the customers intend to use the equipment. All of the
systems are sold subject to published specifications, and all systems sales
involve standard models.

The Company assesses collectibility as part of the revenue recognition
process. The Company also evaluates a number of factors to assess
collectibility, including an evaluation of the creditworthiness of the customer,
past payment history, and current economic conditions. If it is determined that
collectibility cannot be reasonably assured, the Company will decline shipment,
request a down payment, or defer recognition of revenue until ultimate
collectibility is more determinable.

F-14

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

The Company also
records a provision for estimated product returns and allowances in the period
in which the related revenue is recorded. This provision against current gross
revenue is based principally on historical rates of sales returns, but also
factors in changes in the customer base, geographic economic conditions, and
changes in the financial conditions of the Companys customers. If past trends
were to change, the Company would potentially have to increase or decrease the
amount of the provision for these returns. As of December 31, 2008, the
allowance for returns was approximately $122,000 as compared with approximately
$191,000 as of December 31, 2007.

Derivative Financial Instruments

The Company uses derivatives primarily to hedge its exposure to changes
in foreign currency exchange rates between the US dollar and the euro. The
Company is exposed to fluctuations in foreign currency cash flows related
primarily to euro denominated accounts receivable. Forward contracts of
generally one-month duration are used to hedge some of these risks and any
ineffectiveness is recognized in earnings in the period deemed ineffective. At
December 31, 2008 and 2007, the Company had forward contracts (in euros) of €5.0
million and €3.3 million, respectively.

Advertising

Advertising costs are charged to operations as incurred and were
approximately $4.0 million, $3.5 million, and $2.7 million, for 2008, 2007 and
2006, respectively.

Research and Development Costs

The Company complies with SFAS No. 2, Accounting for Research and
Development Costs. Expenditures for research, development and engineering of
products and manufacturing processes are expensed as incurred.

*Sales Tax*

Taxes collected from customers and remitted to governmental authorities
are recorded on a net basis (excluded from revenues) in the Companys
Consolidated Statement of Operations.

Income Taxes

The Company complies with SFAS No. 109, "Accounting for Income Taxes,"
which requires an asset and liability approach to financial reporting of income
taxes. Deferred income tax assets and liabilities are computed for differences
between the financial statement and tax basis of assets and liabilities that
will result in taxable or deductible amounts in the future, based on enacted tax
laws and rates applicable to the periods in which the differences are expected
to affect taxable income. Valuation allowances are established, when necessary,
to reduce the deferred income tax assets to the amount expected to be realized.

Effective January 1, 2007, the Company adopted the provisions of FASB
Interpretation (FIN) No. 48, Accounting for Uncertainty in Income Taxesan
Interpretation of FASB Statement No. 109. FIN 48 contains a two-step approach
to recognizing and measuring uncertain tax positions (tax contingencies)
accounted for in accordance with SFAS No. 109. The first step is to evaluate the
tax position for recognition by determining if the weight of available evidence
indicates it is more likely than not that the position will be sustained on
audit, including resolution of related appeals or litigation processes, if any.
The second step is to measure the tax benefit as the largest amount which is
more than 50% likely of being realized upon ultimate settlement. The Company
reevaluates these tax positions quarterly and makes adjustments as required.

Earnings Per Share

The Company complies with SFAS No. 128, "Earnings Per Share." SFAS No.
128 requires dual presentation of basic and diluted income per common share for
all periods presented. Basic net income per share excludes dilution and is
computed by dividing net income by the weighted average number of shares
outstanding for the period. Diluted net income per share reflects the potential
dilution that could occur if securities or other contracts to issue common stock
were exercised or converted into common stock or resulted in the issuance of
common stock that then share in the income of the Company. The difference
between the number of common shares used to compute basic net income per share
and diluted net income per share relates to additional common shares to be
issued upon the assumed exercise of stock options and warrants, net of common
shares hypothetically repurchased at the average market price of proceeds,
including unrecognized compensation, of exercise. The additional common shares
amounted to 402,829 in 2008, 793,962 in 2007 and 483,154 in 2006. A total of
265,000 and 258,000 shares were excluded from the dilution calculation for the
years ended December 31, 2008 and 2007, respectively, since their inclusion
would have an anti-dilutive effect. There were no anti-dilutive shares for the
year ended December 31, 2006.

F-15

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

Stock-Based Compensation

The Company
accounts for stock-based compensation under the guidance in SFAS No. 123(R),
Accounting for Stock-Based Compensation (Revised). SFAS No. 123(R) establishes
standards for the accounting for transactions in which an entity exchanges its
equity instruments for goods or services. It also addresses transactions in
which an entity incurs liabilities in exchange for goods or services that are
based on the fair value of the entitys equity instruments or that may be
settled by the issuance of those equity instruments.

SFAS No. 123(R) focuses primarily on accounting for transactions in which
an entity obtains employee services in share-based payment transactions. SFAS
No. 123(R) requires a public entity to measure the cost of employee services
received in exchange for an award of equity instruments based on the grant-date
fair value of the award (with limited exceptions). That cost will be recognized
over the period during which an employee is required to provide service in
exchange for the award (usually the vesting period). No compensation costs are
recognized for equity instruments for which employees do not render the
requisite service. The grant-date fair value of employee share options and
similar instruments will be estimated using option-pricing models adjusted for
the unique characteristics of those instruments (unless observable market prices
for the same or similar instruments are available). If an equity award is
modified after the grant date, incremental compensation cost will be recognized
in an amount equal to the excess of the fair value of the modified award over
the fair value of the original award immediately before the modification.

The Company adopted SFAS No. 123(R), effective January 1, 2006. On that
date, the Companys management elected to use the modified prospective
transition method as permitted by SFAS No. 123(R) and therefore did not restate
the financial results for prior periods. Under this transition method, the
provisions of SFAS No. 123(R) were applied to new awards and to awards modified,
repurchased, or cancelled after January 1, 2006. Additionally, compensation
costs were recognized over the remaining applicable service period for the
portion of awards that were outstanding as of January 1, 2006, but for which the
requisite service had not yet been rendered.

Based on stock options that vested since adoption of SFAS No. 123(R), the
Company recorded approximately $1.3 million, $1.0 million and $1.3 million of
additional compensation expense for the years ended December 31, 2008, 2007 and
2006, respectively.

Use of Estimates

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

Comprehensive Income

The Company complies with SFAS No. 130, "Reporting Comprehensive Income,"
which establishes rules for the reporting and display of comprehensive income
(loss) and its components. The Company reports the financial impact of
translating its foreign subsidiaries financial statements from local currency
to reporting currency as a component of comprehensive income
(loss).

F-16

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

Recently Issued Accounting
Pronouncements

In June 2006, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standard (SFAS) No. 157, Fair Value
Measurements (SFAS No. 157). SFAS No. 157 establishes 1) a single definition
of fair value and a framework for measuring fair value; 2) sets out a fair value
hierarchy to be used to classify the source of information used in fair value
measurements; and 3) requires new disclosures of assets and liabilities measured
at fair value based on their level in the hierarchy. In February 2008, the FASB
issued Staff Positions (FSPs) No. 157-1 and No. 157-2, which, respectively,
removes leasing transactions from the scope of SFAS No. 157 and defers its
effective date for one year relative to certain non-financial assets and
liabilities.

The application of the definition of fair value and related disclosures
of SFAS No.157 (as impacted by these two FSPs) was effective for the Company
beginning January 1, 2008 on a prospective basis with respect to fair value
measurements of 1) non-financial assets and liabilities that are recognized or
disclosed at fair value in the Companys financial statements on a recurring
basis (at least annually); and 2) all financial assets and liabilities. This
adoption did not have a material impact on the Companys consolidated results of
operations or financial condition and the disclosures required by it are
provided in Note 11  Fair Value Measurements.

The remaining aspects of SFAS No. 157 for which the effective date was
deferred under FSP No. 157-2 are currently being evaluated by the Company. Areas
impacted by the deferral relate to non-financial assets and liabilities that are
measured at fair value, but are recognized or disclosed at fair value on a
nonrecurring basis. This deferral applies to such items as non-financial
long-lived asset groups measured at fair value for an impairment assessment. The
effects of these remaining aspects of SFAS No. 157 are to be applied by the
Company to fair value measurements prospectively beginning January 1, 2009. The
Company does not expect them to have a material impact on its consolidated
results of operations or financial condition.

In February 2007, the FASB issued SFAS No. 159, The Fair Value Option
for Financial Assets and Financial Liabilities (SFAS No. 159). SFAS No. 159
permits entities to choose to measure many financial assets and financial
liabilities at fair value. Unrealized gains and losses on items for which the
fair value option has been elected are to be reported in earnings and upfront
costs and fees related to items for which the fair value option is elected are
recognized in earnings as incurred and not deferred.

SFAS No. 159 also established presentation and disclosure requirements
designed to facilitate comparisons between entities that choose different
measurement attributes for similar types of assets and liabilities. SFAS No. 159
was effective for financial statements issued for fiscal years beginning after
November 15, 2007. At the effective date, an entity may elect the fair value
option for eligible items that existed at that date. The entity is then required
to report the effect of the first remeasurement to fair value as a
cumulative-effect adjustment to the opening balance of retained earnings. The
Company did not elect the fair value option for eligible items that existed as
of January 1, 2008.

In September 2007, the FASBs Emerging Issues Task Force reached a
consensus on EITF Issue No. 07-3, Accounting for Nonrefundable Advance Payments
for Goods or Services to Be Used in Future Research and Development Activities
(EITF No. 07-3). EITF No. 07-3 requires nonrefundable advance payments made by
the Company for future R&D activities to be capitalized and recognized as an
expense as the goods or services are received by the Company. EITF No. 07-3 was
effective for new arrangements entered into beginning January 1, 2008. The
adoption of EITF No. 07-3 had no impact on the Companys consolidated results of
operations or financial condition.

In December 2007, the FASB issued SFAS No. 141 (revised 2007), Business
Combinations (SFAS No. 141R). SFAS No. 141R provides revised guidance on how
acquirers recognize and measure the consideration transferred, identifiable
assets acquired, liabilities assumed, non-controlling interests, and goodwill
acquired in a business combination. SFAS No. 141R also expands required
disclosures surrounding the nature and financial effects of business
combinations. SFAS No. 141R is effective for fiscal years beginning after
December 15, 2008. The Company is evaluating the impact of this standard and
will evaluate its impact on any acquisitions that would occur after the
effective date.

F-17

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

In December 2007, the FASB ratified the Emerging Issues Task Force
consensus on EITF Issue No. 07-1, Accounting for Collaborative Arrangements
(EITF No. 07-1) that discusses how parties to a collaborative arrangement
(which does not establish a legal entity within such arrangement) should account
for various activities. The consensus indicates that costs incurred and revenues
generated from transactions with third parties (i.e. parties outside of the
collaborative arrangement) should be reported by the collaborators on the
respective line items in their income statements pursuant to EITF Issue No.
99-19, Reporting Revenue Gross as a Principal Versus Net as an Agent.
Additionally, the consensus provides that income statement characterization of
payments between the participants in a collaborative arrangement should be based
upon 1) existing authoritative pronouncements; 2) analogy to such pronouncements
if not within their scope; or 3) a reasonable, rational, and consistently
applied accounting policy election. EITF No. 07-1 is effective for the Company
beginning January 1, 2009 and is to be applied retrospectively to all periods
presented for collaborative arrangements existing as of the date of adoption.
The Company is currently evaluating the impacts and disclosures of this
standard, but would not expect EITF No. 07-1 to have any impact on its
consolidated results of operations or financial condition.

In March 2008, the FASB issued SFAS No. 161, Disclosures about
Derivative Instruments and Hedging Activities (SFAS No. 161), which will
require increased disclosures about an entitys strategies and objectives for
using derivative instruments; the location and amounts of derivative instruments
in an entitys financial statements; how derivative instruments and related
hedged items are accounted for under SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities; and how derivative instruments and related
hedged items affect its financial position, financial performance, and cash
flows. Certain disclosures will also be required with respect to derivative
features that are credit-risk related. SFAS No. 161 is effective for the Company
beginning January 1, 2009 on a prospective basis. The Company does not expect
this standard to have a material impact on its consolidated results of
operations or financial condition.

In April 2008, the FASB issued FSP No. FAS 142-3, Determination of the
Useful Life of Intangible Assets, which amends the list of factors an entity
should consider in developing renewal or extension assumptions used in
determining the useful life of recognized intangible assets under SFAS No. 142,
Goodwill and Other Intangible Assets. The new guidance applies to (1)
intangible assets that are acquired individually or with a group of other assets
and (2) intangible assets acquired in both business combinations and asset
acquisitions. Under FSP No. FAS 142-3, entities estimating the useful life of a
recognized intangible asset must consider their historical experience in
renewing or extending similar arrangements or, in the absence of historical
experience, must consider assumptions that market participants would use about
renewal or extension. The Company does not expect this standard to have a
material impact on its consolidated results of operations or financial
condition.

F-18

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

2.Investments

The Company
invests in tax-free auction rate securities, government bonds, and municipal
notes, all of which are insured. The following is a summary of amounts recorded
on the Consolidated Balance Sheet for marketable securities (current and
non-current) at December 31, 2008.

|                                                            | 2008 |            | 2007
|----------------------------------------------------------- | ---- | ---------- | ----
|Government bonds                                            | $    | 4,834,698  |     
|Other
      securities                                      |      | 357        |     
|Auction rate securities                                     |      | -          |     
|Short-term
      investments                                |      | 4,835,055  |     
|                                                           
|Auction rate securities                                     |      | 1,109,250  |     
|Long-term
      investments - available for sale securities |      | 1,109,250  |     
|                                                           
|Auction rate securities                                     |      | 2,400,000  |     
|Government
      bonds                                      |      | 11,425,981 |     
|Other securities                                            |      | -          |     
|Long-term
      investments                                 |      | 13,825,981 |     
|                                                            |      |            |     
|Total investments                                           | $    | 19,770,286 |     

Short-term and long-term investments consist of Auction Rate Securities
(ARS) and tax-free government bonds with maturities ranging from January 2009
through May 2042 at December 31, 2008 and from January 2008 through February
2042 at December 31, 2007. At December 31, 2008, the Companys investments
included:

- approximately $16.3 million in municipal
  government bonds maturing between January 2009 and May 2026, all of which have
  ratings between AA and BA; and
- approximately $2.4 million tax-free ARS,
  which re-prices approximately every 30 days. The ARS had a rating of AA at
  December 31, 2008.

As of December 31, 2008, approximately $1.1 million in ARS classified as
long-term investments  available for sale securities, consisted of an
investment in a Jefferson County, Alabama municipal bond that has seen its
rating reduced to triple C from triple A. In order to help the Company determine
the carrying value of this investment, it hired outside consultants to
qualitatively and quantitatively evaluate its auction rate securities portfolio.

With the assistance of the outside consultants, the Companys management
determined that, as of December 31, 2008, the $2.6 million investment in the
Jefferson County, Alabama municipal bond had incurred both a temporary and
other-than-temporary impairment. As a result of this determination, the Company
has recorded a pretax charge of $1.3 million in Other income (expense) for the
other-than-temporary impairment and recognized an additional pre-tax fair value
adjustment of $0.2 million in Other comprehensive income for the temporary
impairment. The resulting fair value of the Jefferson County, Alabama municipal
bond of $1.1 million is included in the Balance Sheet caption Long term
investments  available for sale securities.

3.Inventories

Inventories consist of the following at December 31:

|                    | 2008 |            | 2007
|------------------- | ---- | ---------- | ----
|Finished goods      | $    | 11,968,337 |     
|Raw
      materials |      | 7,921,014  |     
|                    | $    | 19,889,351 |     

F-19

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

4.Net investment in sales-type
leases

The Company
leases certain of its systems under agreements accounted for as sales-type
leases. Included in revenues for the years ended December 31, 2008, 2007 and
2006 are approximately $3.1 million, $2.3 million and $1.5 million,
respectively, of revenues related to sales-type leases. These non-cancelable
leases expire over the next two to five years.

The following lists the components of the net investment in sales-type
leases as of December 31, 2008 and 2007:

|                                            | 2008 |           | 2007
|------------------------------------------- | ---- | --------- | ----
|Future minimum lease payments receivable    | $    | 8,741,091 |     
|Less allowance
      for doubtful accounts  |      | (324,642  | )   
|Net future minimum lease payment receivable |      | 8,416,449 |     
|Less unearned
      interest income         |      | (625,442  | )   
|Net investment in sales-type leases         | $    | 7,791,007 |     

Unearned interest income on sales-type leases is included in the Balance
Sheet caption Unearned revenues.

Future minimum lease payments due from customers under sales-type leases
as of December 31, 2008 are as follows:

| | Year ending
      December 31, |  |   |          
| | ------------------------------ |  | - | ---------
| | 2009                           |  | $ | 4,195,113
| | 2010                           |  |   | 2,603,837
| | 2011                           |  |   | 1,282,095
| | 2012                           |  |   | 424,774  
| | 2013                           |  |   | 235,272  
| |                                |  | $ | 8,741,091

The interest income for sales-type leases amounted to approximately
$444,000, $329,000, and $251,000 for the years ended December 31, 2008, 2007 and
2006, respectively.

F-20

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

5.Property and equipment

Property and
equipment consists of the following at December 31:

|                                          | 2008 |            | 2007
|----------------------------------------- | ---- | ---------- | ----
|Machinery and equipment                   | $    | 23,428,209 |     
|Building and
      improvements           |      | 11,569,453 |     
|Land and improvements                     |      | 3,120,619  |     
|Computer
      equipment and software     |      | 10,852,152 |     
|Office equipment                          |      | 2,486,212  |     
|Leasehold
      improvements              |      | 2,160,242  |     
|                                          |      | 53,616,887 |     
|                                         
|Accumulated depreciation and amortization |      | 23,866,966 |     
|                                          | $    | 29,749,921 |     

6.Intangible assets

Intangible assets consist of the following at December 31:

|                                                | 2008     |            | 2007        
|----------------------------------------------- | -------- | ---------- | ------------
|                                                | Gross    |            |             
|                                                | Carrying |            | Accumulated 
|                                                | Amount   |            | Amortization
|RP technology                                   | $        | 5,523,255  |             
|Capitalized
      software development costs    |          | 10,932,766 |             
|Patents                                         |          | 3,012,685  |             
|Trademarks                                      |          | 271,254    |             
|                                                |          | 19,739,960 |             
|Accumulated
      amortization                  |          | 12,230,369 |             
|Net book value of amortizable intangible assets |          | 7,509,591  |             
|Goodwill                                        |          | 837,609    |             
|Net book value intangible assets                | $        | 8,347,200  |             

For the years ended December 31, 2008, 2007 and 2006, amortization of
intangible assets charged to operations was approximately $2.1 million, $1.3
million and $1.0 million, respectively. The weighted average remaining
amortization period for intangible assets as of December 31, 2008 and 2007 was
approximately 3.6 and 5.6 years, respectively. The change in goodwill between
2008 and 2007 is due to a translation adjustment.

F-21

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

Estimated
amortization expense, for all intangible assets, for the five years subsequent
to December 31, 2008 is approximately as follows:

| | Year ending
      December 31, |  |   |          
| | ------------------------------ |  | - | ---------
| | 2009                           |  | $ | 2,308,000
| | 2010                           |  |   | 2,036,000
| | 2011                           |  |   | 1,288,000
| | 2012                           |  |   | 460,000  
| | 2013                           |  |   | 413,000  

7.Line of credit

The Company has an available line of credit from a financial institution
for the lesser of $4.0 million or a defined borrowing base. The credit line
bears interest at defined rates based upon two different indexes and expires in
July 2009. No amounts were outstanding at December 31, 2008 and 2007.

8.Accounts payable and other current
liabilities

Accounts payable and other current liabilities consist of the following
at December 31:

|                                | 2008 |            | 2007
|------------------------------- | ---- | ---------- | ----
|Trade                           | $    | 6,002,138  |     
|Compensation,
      commissions |      |            |     
|and related benefits            |      | 3,962,650  |     
|Reserve for warranty expenses   |      | 321,874    |     
|Taxes                           |      | 20,067     |     
|Other                           |      | 1,488,509  |     
|                                | $    | 11,795,238 |     

9.Unearned revenues

Unearned revenues consist of the following at December 31:

|                                    | 2008 |            | 2007
|----------------------------------- | ---- | ---------- | ----
|Maintenance contracts               | $    | 9,058,501  |     
|Implied
      maintenance contracts |      | 2,990,228  |     
|Other                               |      | 716,667    |     
|                                    | $    | 12,765,396 |     

F-22

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

10.Income taxes

The components of
the Company's deferred tax assets (liabilities) at December 31, 2008 and 2007
are as follows:

|                                          | 2008 |            | 2007
|----------------------------------------- | ---- | ---------- | ----
|Current deferred tax assets:              |      |            |     
|Allowance for doubtful accounts           | $    | 307,000    |     
|State research and
      development      |      |            |     
|credit carryforward                       |      | 224,000    |     
|Reserve for warranty
      expenses       |      | 102,000    |     
|Reserve for sales
      returns, net      |      | 46,000     |     
|Current deferred tax assets               |      | 679,000    |     
|Current deferred tax liabilities:         |      |            |     
|Unrealized gain on foreign
      currency |      | (120,000   | )   
|Net current deferred tax assets           | $    | 559,000    |     
|                                         
|Long-term deferred tax assets:            |      |            |     
|Inventory reserves                        | $    | 713,000    |     
|Stock compensation
      expense          |      | 530,000    |     
|Deferred maintenance revenue              |      | 729,000    |     
|Investment
      reserves                 |      | 551,000    |     
|Amortization                              |      | 228,000    |     
|Vacation
      accrual                    |      | 167,000    |     
|Long-term deferred tax assets             |      | 2,918,000  |     
|Long-term deferred tax liabilities:       |      |            |     
|Depreciation                              |      | (1,673,000 | )   
|Software
      capitalization             |      | (256,000   | )   
|Net long-term
      deferred tax assets   | $    | 989,000    |     

Income before income taxes for the years ended December 31, 2008, 2007
and 2006 is as follows:

|              | 2008 |            | 2007 |   | 2006      
|------------- | ---- | ---------- | ---- | - | ----------
|United States | $    | 20,270,134 |      | $ | 19,915,766
|Foreign       |      | 463,353    |      |   | 446,291   
|              | $    | 20,733,487 |      | $ | 20,362,057

F-23

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

The components of
income tax expense for the years ended December 31, 2008, 2007 and 2006 are as
follows:

|                         | 2008 |           | 2007 |   | 2006     
|------------------------ | ---- | --------- | ---- | - | ---------
|Current                  |      |           |      |   |          
|Federal                  | $    | 5,976,000 |      | $ | 6,547,184
|State                    |      | 878,000   |      |   | (718,749 
|Foreign                  |      | 121,000   |      |   | 153,564  
|                         |      | 6,975,000 |      |   | 5,981,999
|                        
|Deferred                 |      |           |      |   |          
|Federal                  |      | 133,000   |      |   | (157,000 
|State                    |      | 10,000    |      |   | 213,000  
|                         |      | 143,000   |      |   | 56,000   
|Total Income
      taxes | $    | 7,118,000 |      | $ | 6,037,999

During the years ended December 31, 2008, 2007, and 2006, approximately
$46,000, $1,965,000, and $590,000, respectively, was added to additional paid-in
capital in accordance with FASB No. 109 reflecting the permanent book to tax
difference in accounting for tax benefits related to employee stock option
transactions.

A reconciliation of the statutory federal income tax rate and the
effective tax rate for the years ended December 31, 2008, 2007 and 2006 are as
follows:

|                                        | 2008 |   | 2007 |  | 2006
|--------------------------------------- | ---- | - | ---- |  | ----
|Federal statutory rate                  | 35.0 |   | %    |  | 35.0
|State income
      taxes, net of        |      |   |      |  |     
|federal benefit                         | 2.5  |   |      |  | 1.9 
|Tax contingencies                       | 0.9  |   |      |  | 2.2 
|Prior year
      amendments for state   |      |   |      |  |     
|research and development
      credits  | -    |   |      |  | (3.7
|Tax exempt interest income              | (2.0 | ) |      |  | (3.2
|Stock
      compensation expense        | 1.3  |   |      |  | 0.7 
|Export tax benefits                     | -    |   |      |  | -   
|Manufacturing
      deduction           | (1.4 | ) |      |  | (1.8
|Federal research and                    |      |   |      |  |     
|development tax
      credit            | (2.1 | ) |      |  | (1.8
|Earnings of
      subsidiaries taxed    |      |   |      |  |     
|at other than U.S. statutory
      rate | -    |   |      |  | -   
|Other                                   | 0.1  |   |      |  | 0.3 
|Effective income
      tax rate         | 34.3 |   | %    |  | 29.6

At December 31, 2008 the Company had Minnesota tax credit carry-forwards
of approximately $240,000. The Company expects to utilize its state research and
development tax credit carry-forwards that would otherwise expire from 2018
through 2023.

F-24

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

Significant judgment is required in evaluating the Companys tax
positions and determining its provision for income taxes. During the ordinary
course of business, there are many transactions and calculations for which the
ultimate tax determination is uncertain. We establish reserves for tax-related
uncertainties based on estimates of whether, and the extent to which, additional
taxes will be due. These reserves are established when the Company believes that
certain positions might be challenged despite its belief that its tax return
positions are fully supportable. The Company adjusts these reserves in light of
changing facts and circumstances, such as the outcome of a tax audit or changes
in the tax law. The provision for income taxes includes the impact of reserve
provisions and changes to reserves that are considered appropriate. Accruals for
tax contingencies are provided for in accordance with the requirements of FIN
48.

The Company is
subject to income taxes in the U.S., various states and certain foreign
jurisdictions. It may be subject to examination by the Internal Revenue Service
(IRS) for calendar years 2005 through 2008. Its Federal income tax returns are
closed for all tax years up to and including 2004. The expiration of the statute
of limitations related to the various state income tax returns that the Company
and subsidiaries file varies by state and foreign jurisdiction.

At December 31, 2008 and 2007, the Company had unrecognized tax benefits
of $1.2 million and $1.0 million, respectively. If recognized, these benefits
would favorably impact the effective tax rate. A reconciliation of the beginning
and ending amount of unrecognized tax benefits is as follows:

|                                                              | 2008 |           | 2007
|------------------------------------------------------------- | ---- | --------- | ----
|Balance at beginning of year                                  | $    | 1,021,593 |     
|Additions for
      tax positions related to the current year |      | 244,208   |     
|Reduction of reserve for reassessment position                |      | (42,801   | )   
|Balance at end
      of year                                  | $    | 1,223,000 |     

The increase in tax liabilities is primarily due to potential U.S.
federal and state adjustments taken in the Companys 2008 income tax provision.
The Companys policy is to include interest and penalties related to its tax
contingencies in income tax expense.

11.Fair Value Measurements

As discussed in Note 1 - Recently Issued Accounting Pronouncements, the
Company adopted SFAS No. 157 (as impacted by FSP Nos. 157-1 and 157-2) effective
January 1, 2008, with respect to fair value measurements of 1) non-financial
assets and liabilities that are recognized or disclosed at fair value in the
Companys financial statements on a recurring basis (at least annually) and 2)
all financial assets and liabilities.

Under SFAS No. 157, fair value is defined as the exit price, or the
amount that would be received to sell an asset or paid to transfer a liability
in an orderly transaction between market participants as of the measurement
date. SFAS No. 157 also establishes a hierarchy for inputs used in measuring
fair value that maximizes the use of observable inputs and minimizes the use of
unobservable inputs by requiring that the most observable inputs be used when
available. Observable inputs are inputs market participants would use in valuing
the asset or liability developed based on market data obtained from sources
independent of the Company. Unobservable inputs are inputs that reflect the
Companys assumptions about the factors market participants would use in valuing
the asset or liability developed based upon the best information available in
the circumstances. The hierarchy is broken down into three levels. Level 1
inputs are quoted prices (unadjusted) in active markets for identical assets or
liabilities. Level 2 inputs include quoted prices for similar assets or
liabilities in active markets, quoted prices for identical or similar assets or
liabilities in markets that are not active, and inputs (other than quoted
prices) that are observable for the asset or liability, either directly or
indirectly. Level 3 inputs are unobservable inputs for the asset or liability.
Categorization within the valuation hierarchy is based upon the lowest level of
input that is significant to the fair value measurement.

F-25

---

STRATASYS, INC. AND
SUBSIDIARIESNOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

Assets and Liabilities that are
Measured at Fair Value on a Recurring Basis:

For financial
assets held by the Company as of January 1, 2008, fair value under SFAS No. 157
(as impacted by FSP Nos. 157-1 and 157-2) principally applied to
available-for-sale marketable securities. These items were previously, and will
continue to be, marked-to-market at each reporting period; however, the
definition of fair value used for these mark-to-markets are now applied using
SFAS No. 157. The information in the following paragraphs and tables primarily
addresses matters relative to these financial assets. The Company does not have
any financial liabilities that are subject to the provisions of SFAS No. 157.
Separately, there were no material fair value measurements with respect to
non-financial assets or liabilities that are recognized or disclosed at fair
value in the Companys financial statements on a recurring basis subsequent to
the effective date of SFAS No. 157 (as impacted by FSP Nos. 157-1 and 157-2).

The Company uses various valuation techniques, which are primarily based
upon the market approach, with respect to its financial assets. As discussed in
Note 1, a portion of the auction rate securities held by the Company experienced
a significant credit rating reduction. As a result, investments in auction rate
securities are valued utilizing a quantitative and qualitative third-party
analysis. The Company therefore classifies these securities as Level 3.

The following table provides a reconciliation of the beginning and ending
balances of items measured at fair value on a recurring basis that used
significant unobservable inputs:

|                                                                          | Auction rate securities
|------------------------------------------------------------------------- | -----------------------
|Beginning balance (December 31, 2007)                                     | $                      
|Total gains
      or (losses):                                            |                        
|Included in earnings                                                      |                        
|Included in other comprehensive
      income                              |                        
|Settlements                                                               |                        
|Transfers in
      and/or out of Level 3                                  |                        
|Ending balance (December 31, 2008)                                        |                        
|Classified as
      long-term investments                                 |                        
|Classified as long-term investments - available for sale
      securities | $                      

12.Commitments

The Company rents
certain of its facilities under non-cancelable operating leases, which expire
through 2011.

Aggregate future minimum annual rental payments in the years subsequent
to December 31, 2008 are approximately as follows:

| | Year ending
      December 31, |  |   |        
| | ------------------------------ |  | - | -------
| | 2009                           |  | $ | 406,000
| | 2010                           |  |   | 313,000
| | 2011                           |  |   | 89,000 

Rent expense for the years ended December 31, 2008, 2007 and 2006 was
approximately $572,000, $894,000 and $739,000, respectively.

F-26

---

STRATASYS, INC. AND SUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

13.Restructuring Activities

The Company
announced that starting January 1, 2009, in North America it will begin selling
its Fortus 3D Production Systems through a select group of resellers from its
established reseller channel, which currently distributes only the Dimension 3D
Printer line. This sales strategy leverages the Companys success with what it
believes is the strongest sales channel in the industry, consisting of a network
of independent regional resellers. Stratasys expects that it will improve market
awareness by increasing the number of high-end system sales and support staff.
This restructuring of the Companys sales field includes costs related to
workforce reductions, closure of certain leased facilities, rebranding
expenses, and other contract termination charges that are expected to be
completed during the first quarter of 2009.

A summary of
these restructuring and other costs recognized in the Statement of Operations
caption Selling, general and administrative for the year ended December 31,
2008 are as follows:

|                                        |  | Employee-         |         | Contract         |  |      
|--------------------------------------- |  | ----------------- | ------- | ---------------- |  | -----
|                                        |  | Related Items and |         | Terminations and |  |      
|                                        |  | Benefits          |         | Other            |  | Total
|Expenses incurred                       |  | $                 | 331,014 |                  |  | $    
|Cash
      payments                     |  |                   | (25,000 | )                |  |      
|Accrued Balance as of December 31, 2008 |  | $                 | 306,014 |                  |  | $    

14.Common stock

In August 2007,
the Company effected a two-for-one stock split of the Companys common stock in
the form of a common stock dividend. Prior year share and per-share information
has been retroactively adjusted to reflect the stock split.

The Company has a
common stock repurchase program and repurchased 1,089,575 and 257,000 shares of
common stock during the years ended December 31, 2008 and 2006, respectively.
There were no common stock repurchases during the year ended December 31, 2007.
As of December 31, 2008, the Company has authorization to repurchase
approximately $10.9 million of additional common stock.

F-27

---

STRATASYS, INC. AND SUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

Stock options and warrants

The Company has
various stock option plans that have been approved by stockholders. After giving
effect to the Companys two-for-one stock split, the plans provided for the
granting of options to purchase up to 4,825,000 shares of the Companys common
stock to qualified employees of the Company, independent contractors,
consultants, and other persons. Of those 4,825,000 shares approved for grant,
3,688,564 have been granted, leaving 1,136,416 shares available to be granted by
the Company as of December 31, 2008. Options principally vest immediately or
ratably over five years and are exercisable over a period ranging from five
years to six years and one-month. The information presented below has been
adjusted to reflect the Companys two-for-one stock split.

|                           |  |                  |   |                |   | Weighted
|-------------------------- |  | ---------------- | - | -------------- | - | --------
|                           |  | Number           |   |                |   | Average 
|                           |  | of
      Options |   | Per Share      |   | Exercise
|                           |  | Outstanding      |   | Exercise Price |   | Price   
|Shares under option        |  |                  |   |                |   |         
|at January 1, 2006         |  | 2,621,172        |   |                | $ | 0.92    
|Exercised in
      2006    |  | (315,350         | ) |                |   | 1.02    
|Shares under option        |  |                  |   |                |   |         
|at December 31, 2006       |  | 2,305,822        |   |                |   | 0.92    
|Granted in
      2007      |  | 260,000          |   |                |   | 20.75   
|Exercised in 2007          |  | (720,894         | ) |                |   | 1.02    
|Expired in
      2007      |  | (15,900          | ) |                |   | 1.00    
|Forfeited in 2007          |  | (27,000          | ) |                |   | 1.02    
|Shares under
      option  |  |                  |   |                |   |         
|at December 31,
      2007 |  | 1,802,028        |   |                |   | 1.02    
|Granted in 2008            |  | 281,500          |   |                |   | 9.30    
|Exercised in
      2008    |  | (234,300         | ) |                |   | 1.67    
|Expired in 2008            |  | (53,050          | ) |                |   | 1.02    
|Forfeited in
      2008    |  | (60,800          | ) |                |   | 12.49   
|Shares under option        |  |                  |   |                |   |         
|at December 31, 2008       |  | 1,735,378        |   |                | $ | 2.54    

F-28

---

STRATASYS, INC. AND SUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

A summary of
stock options exercisable at December 31, 2008, 2007 and 2006 is as
follows:

|                       |           |  |                |      | Weighted
|---------------------- | --------- |  | -------------- | ---- | --------
|                       | Number    |  |                |      | Average 
|                       | of        |  | Per Share      |      | Exercise
|                       | Shares    |  | Exercise Price |      | Price   
|Options exercisable at |           |  |                |      |         
|December 31, 2008      | 1,199,078 |  | $              | 2.54 | -       
|                      
|Options exercisable at |           |  |                |      |         
|December 31, 2007      | 1,411,978 |  | $              | 1.67 | -       
|                      
|Options exercisable at |           |  |                |      |         
|December 31, 2006      | 2,060,340 |  | $              | 0.92 | -       

The following
table summarizes information about stock options outstanding at December 31,
2008:

|                |  | Options Outstanding |           | Options Exercisable
|--------------- |  | ------------------- | --------- | -------------------
|                |  | Number              |           | Weighted-          
|                |  | Outstanding         |           | Average            
|                |  | at                  |           | Remaining          
|Exercise        |  | December 31,        |           | Contractual        
|Prices          |  | 2008                |           | Life in Years      
|$2.54-9.78      |  |                     | 267,800   |                    
|10.55-13.34     |  |                     | 557,700   |                    
|14.17-19.15     |  |                     | 646,878   |                    
|20.75-26.15     |  |                     | 263,000   |                    
|                |  |                     | 1,735,378 |                    
|               
|Aggregate       |  |                     |           |                    
|intrinsic value |  | $                   | 751,568   |                    

The weighted
average life remaining on vested options is 1.9 years. The weighted average
grant date fair value based on the Black-Scholes model was $4.54 for options
granted in 2008. The Company issues new shares of common stock upon exercise of
stock options. The total intrinsic value of options exercised was approximately
$3.3 million in 2008, $5.8 million in 2007 and $1.6 million in 2006.

F-29

---

STRATASYS, INC. AND SUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

The Company used
the Black-Scholes option-pricing model to determine the fair value of grants
made in 2008 and 2007. There were no options granted in 2006. The following
assumptions were applied in determining the pro forma compensation cost:

|                           | 2008            |  | 2007           
|-------------------------- | --------------- |  | ---------------
|Risk-free interest rate    | 3.9%            |  | 3.3%           
|Expected option
      term | 4.5
      years |  | 4.5
      years
|Expected price volitility  | 43%             |  | 47%            
|Dividend
      yield       | -               |  | -              

The Company, as
part of sales of common stock and other agreements, has issued warrants to
purchase the Companys common stock. During 2008, 59,639 net shares were issued
as a result of the exercise of warrants. Stock warrants totaling 139,500 shares
were exercised at an average price of $11.99 per share; 79,861 shares were
surrendered as payment, in lieu of cash, at an average price of $20.95 per
share. As of December 31, 2008, the Company had 310,500 warrants outstanding
with exercise prices ranging from $11.56 to $13.82 with a weighted average price
per share of $12.34. These remaining warrants expired on February 22, 2009
without being exercised.

As of December
31, 2007 and 2006, the Company had 450,000 warrants outstanding with at average
per share price of $12.23. No warrants were issued or exercised in 2007 and
2006. The amount of shares under warrants has been adjusted for the two-for-one
stock split in August 2007.

As of December
31. 2008, there was approximately $3.2 million of total unrecognized
compensation expense related to unvested share-based compensation granted under
the Companys plans. That cost is expected to be recognized over a
weighted-average period of 4.1 years. The fair value of options shares vested
during the year 2008 was approximately $1.4 million.

15.Litigation

The Company is a
party to various legal matters, the outcome of which, in the opinion of
management, will not have a material adverse effect on the financial position,
results of operations or cash flows of the Company.

16.Export sales

Export sales were
as follows for the years ended December 31:

|                   |  | 2008 |            | 2007 |   | 2006      
|------------------ |  | ---- | ---------- | ---- | - | ----------
|Europe             |  | $    | 37,430,146 |      | $ | 27,144,055
|Asia
      Pacific |  |      | 18,533,549 |      |   | 19,806,049
|Other              |  |      | 1,883,206  |      |   | 2,767,662 
|                   |  | $    | 57,846,901 |      | $ | 49,717,766

At December 31,
2008 and 2007, accounts receivable included balances due from foreign customers
of approximately $13.8 million and $15.0 million, respectively.

F-30

---

STRATASYS, INC. AND SUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

17.Retirement plan

The Company has a
defined contribution retirement plan (the Plan) under the provisions of
Section 401(k) of the Internal Revenue Code (IRC) that covers all eligible
employees as defined in the Plan. Participants may elect to contribute up to 50%
of pre-tax annual compensation, as defined by the Plan, up to a maximum
prescribed by the IRC. The Company makes matching contributions equal to the
lesser of $3,000 or 3% of the participants annual compensation. The Company, at
its discretion, may make additional contributions subject to limitations. For
the years ended December 31, 2008, 2007 and 2006, the Company made 401(k) Plan
contributions of approximately $578,000, $506,000 and $440,000,
respectively.

F-31

---

STRATASYS, INC. AND SUBSIDIARIESNOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

18.Quarterly Results (unaudited)

|                      |  | First   |            | Second  |   | Third      |  | Fourth 
|--------------------- |  | ------- | ---------- | ------- | - | ---------- |  | -------
|                      |  | Quarter |            | Quarter |   | Quarter    |  | Quarter
|2008                  |  |         |            |         |   |            |  |        
|Net sales             |  | $       | 30,707,689 |         | $ | 31,274,922 |  | $      
|Gross profit          |  |         | 17,363,877 |         |   | 17,308,370 |  |        
|Net income            |  |         | 3,798,569  |         |   | 4,096,056  |  |        
|Net income per common |  |         |            |         |   |            |  |        
|share:                |  |         |            |         |   |            |  |        
|Basic                 |  | $       | 0.18       |         | $ | 0.20       |  | $      
|Diluted               |  |         | 0.18       |         |   | 0.19       |  |        
|                     
|2007                  |  |         |            |         |   |            |  |        
|Net sales             |  | $       | 27,344,860 |         | $ | 28,223,494 |  | $      
|Gross profit          |  |         | 14,706,020 |         |   | 15,600,589 |  |        
|Net income            |  |         | 3,157,438  |         |   | 3,633,559  |  |        
|Net income per common |  |         |            |         |   |            |  |        
|share:                |  |         |            |         |   |            |  |        
|Basic                 |  | $       | 0.15       |         | $ | 0.18       |  | $      
|Diluted               |  |         | 0.15       |         |   | 0.17       |  |        

F-32

---

|SCHEDULE II                                         
|----------------------------------------------------
|VALUATION AND QUALIFYING ACCOUNTS
      AND RESERVES
|Years Ended December 31, 2008, 2007, and 2006       
|COLUMN A                                            
|                                                    
|                                                    
|Description                                         
|2008                                                
|Reserve for bad
      debts and allowances          
|Reserve for sales returns and other allowances      
|                                                    
|2007                                                
|Reserve for bad
      debts and allowances          
|Reserve for sales returns and other allowances      
|                                                    
|2006                                                
|Reserve for bad
      debts and allowances          
|Reserve for sales returns and other allowances      

F-33

---

(b) Exhibits

|EXHIBIT |       |            
|------- | ----- | -----------
|NO.     |       | DESCRIPTION
|        | 3.1   |            
|        |       |            
|        | 3.2   |            
|        |       |            
|        | 10.1  |            
|        |       |            
|        | 10.2  |            
|        |       |            
|        | 10.3  |            
|        |       |            
|        | 10.4  |            
|        |       |            
|        | 10.5  |            
|        |       |            
|        | 10.6  |            
|        |       |            
|        | 10.7  |            
|        |       |            
|        | 10.8  |            
|        |       |            
|        | 10.9  |            
|        |       |            
|        | 10.10 |            
|        |       |            
|        | 10.11 |            
|        |       |            
|        | 10.12 |            
|        |       |            
|        | 14.1  |            
|        |       |            
|        | 21.1  |            
|        |       |            
|        | 23.1  |            
|        |       |            
|        | 23.2  |            
|        |       |            
|        | 31.1  |            

---

|EXHIBIT |      |            
|------- | ---- | -----------
|NO.     |      | DESCRIPTION
|        | 31.2 |            
|        |     
|        | 32.1 |            
|        |     
|        | 32.2 |            

| | (1) |  | Incorporated by
      reference from the Companys Registration Statement on Form SB-2 (File No.
      33-83638-C) filed September 2, 1994.                               
| | --- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |    
| | (2) |  | Incorporated by
      reference from the Companys Form 8-K, Amendment No. 2, dated January 1,
      1995.                                                                
| |    
| | (3) |  | Incorporated by
      reference from Amendment No. 1 to the Registration Statement on Form SB-2
      (File No. 33-99108) filed December 20, 1995.                        
| |    
| | (4) |  | Incorporated by
      reference from the Companys definitive Proxy Statement on Schedule 14A
      with respect to the Companys 1998 Annual Meeting of
    Stockholders.
| |    
| | (5) |  | Incorporated by
      reference from the Companys Registration Statement on Form S-8 (File No.
      333-32782) filed March 17, 2000.                                    
| |    
| | (6) |  | Incorporated by
      reference from the Companys definitive Proxy Statement on Schedule 14A
      with respect to the Companys 2002 Annual Meeting of
    Stockholders.
| |    
| | (7) |  | Incorporated by
      reference from the Companys Form 8-K filed July 31, 2007.                                                                                          
| |    
| | (8) |  | Incorporated by
      reference from the Companys Form 10-K for the year ended December 31,
      2007.                                                                  
| |    
| | (9) |  | Filed
    herewith.                                                                                                                                                       

* Compensatory plan or arrangement.

(c) Other required financial statements

All other
schedules called for under Regulation S-X are not submitted because they are not
applicable or not required, or because the required information is included in
the financial statements or notes thereto.

Separate
financial statements of the Registrant have been omitted because the Registrant
is primarily an operating company. All subsidiaries included in the consolidated
financial statements are majority owned, and none of the subsidiaries have
indebtedness that is not guaranteed by the Registrant.

---

SIGNATURES

Pursuant to
the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.

STRATASYS, INC.By: /s/ S. SCOTT
      CRUMPS. Scott
      CrumpPresidentDated:
    March 9,
      2009


Pursuant to
the requirements of the Securities Exchange Act of 1934, this report has been
signed below by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.

|                            |  | Chairman of
      the Board of Directors, |  |                    
|--------------------------- |  | ----------------------------------------- |  | -------------------
|/s/ S. SCOTT CRUMP          |  | President,
      Chief Executive Officer, |  |                    
|S. Scott
      Crump        |  | Treasurer
      (Principal Executive      |  | March 9,
      2009
|                            |  | Officer)                                  |  |                    
|/s/ ROBERT F. GALLAGHER     |  | Chief
      Financial Officer (Principal  |  |                    
|Robert F.
      Gallagher   |  | Financial and
      Accounting Officer)   |  | March 9,
      2009
|                           
|/s/ RALPH E. CRUMP          |  | Director                                  |  | March 9,
      2009
|Ralph E.
      Crump        |  |                                           |  |                    
|                            |  |                                           |  |                    
|/s/ EDWARD J. FIERKO        |  |                                           |  |                    
|Edward J.
      Fierko      |  | Director                                  |  | March 9,
      2009
|                            |  |                                           |  |                    
|/s/ JOHN J. MCELENEY        |  |                                           |  |                    
|John J.
      McEleney      |  | Director                                  |  | March 9,
      2009
|                           
|/s/ CLIFFORD H. SCHWIETER   |  |                                           |  |                    
|Clifford H.
      Schwieter |  | Director                                  |  | March 9,
      2009
|                           
|/s/ ARNOLD J. WASSERMAN     |  |                                           |  |                    
|Arnold J.
      Wasserman   |  | Director                                  |  | March 9,
      2009
|                           
|/s/ GREGORY L. WILSON       |  |                                           |  |                    
|Gregory L.
      Wilson     |  | Director                                  |  | March 9,
      2009

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