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                                 UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
 
                             WASHINGTON, D.C. 20549
                            ------------------------
 
                                   FORM 10-K
 
/X/  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
    OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
 
                           For the fiscal year ended:
                               June 30, 1997, or
 
/ /  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
    OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
 
           For the Transition period from            to            .
 
                        Commission file number: 0-28448
                            ------------------------
 
                       GENERAL SURGICAL INNOVATIONS, INC.
 
             (Exact name of Registrant as specified in its charter)
 
<TABLE>
<S>                            <C>
         CALIFORNIA                 97-3170244
(State or other jurisdiction     (I.R.S. Employer
     of incorporation or        Identification No.)
        organization)
</TABLE>
 
                  10460 BUBB ROAD, CUPERTINO, CALIFORNIA 95014
                    (Address of principal executive offices)
 
       Registrant's telephone number, including area code: (408) 863-2500
                            ------------------------
 
        Securities registered pursuant to Section 12(b) of the Act: None
 
          Securities registered pursuant to Section 12(g) of the Act:
 
                    Common Stock, par value $.001 per share
                            ------------------------
 
    Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes _X_ No ____
 
    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. [ ]
 
    The aggregate market value of the voting stock held by non-affiliates of the
Registrant was approximately $33,942,829 as of August 31, 1996, based upon the
closing sale price on the NASDAQ National Market System reported for such date.
Shares of Common Stock held by each officer and director and by each person who
owns 5% of more of the outstanding Common Stock have been excluded in that such
persons may be deemed to be affiliates. This determination of affiliate status
is not necessarily a conclusive determination for other purposes.
 
    There were 13,306,172 shares of Registrant's Common Stock issued and
outstanding as of August 31, 1997.
 
                      DOCUMENTS INCORPORATED BY REFERENCE
 
    Portions of the Proxy Statement of the Registrant for the 1998 Annual
Meeting of Shareholders are incorporated by reference in Part III of this Form
10-K.
 
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                             INTRODUCTORY STATEMENT
 
    Except for the historical information contained in this Annual Report on
Form 10-K, the matters discussed herein are forward-looking statements that are
subject to certain risks and uncertainties that could cause the actual results
to differ materially from those projected. Factors that could cause actual
results to differ materially include, but are not limited to, market demand for
the Company's products, the Company's ability to shift market focus
successfully, the timing of orders and shipments, the timely development and
market acceptance of new products and surgical procedures, the impact of
competitive products and pricing, the Company's ability to manage growth, the
performance of the Company's new corporate partnering relationships, the
Company's ability to further expand into international markets, public policy
relating to health care reform in the United States and other countries,
approval of its products by government agencies such as the United States Food
and Drug Administration, and other risks detailed below and included from time
to time in the Company's other SEC reports and press releases, copies of which
are available from the Company upon request. The Company assumes no obligation
to update any forward-looking statements contained herein.
 
    References made in this Annual Report on Form 10-K to "General Surgical
Innovations, Inc.," the "Company" or the "Registrant" refer to General Surgical
Innovations, Inc. and its subsidiaries. The following General Surgical
Innovations, Inc. trademarks are mentioned in this Annual Report:
Spacemaker-Registered Trademark-, registered trademark of the Company; and
KnotMaker-TM-, trademark of the Company.
 
                                     PART I
 
ITEM 1.  BUSINESS
 
OVERVIEW
 
    General Surgical Innovations, Inc. ("GSI" or the "Company") develops,
manufactures and sells balloon dissection systems and related surgical
instruments for use in minimally invasive surgery ("MIS"). Each of GSI's
proprietary Spacemaker balloon dissection systems consists of an access and
deployment platform and a balloon dissector. Using the Company's products,
surgeons can access a surgical site in a minimally invasive manner and can
rapidly and relatively atraumatically create a working space at the target
surgical site where no space previously existed. The Company's balloon
dissection systems currently are offered in five access and deployment
platforms, along with 15 different balloon shapes and sizes, which are
specifically designed for various applications, including saphenous vein
harvesting, hernia repair, subfascial endoscopic perforator surgery ("SEPS") and
breast augmentation and reconstruction surgery. The Company commenced commercial
sales of its first product, the Spacemaker I for hernia repair, in September
1993 and to date substantially all of the Company's revenues have been derived
from sales of products for this procedure and guaranteed payments, pursuant to
distribution agreements with United States Surgical Corporation ("USSC") and
Ethicon Endo-Surgery, Inc. ("EES"), a Johnson & Johnson company. In December
1996, EES became the Company's distributor in the hernia and urinary stress
incontinence ("USI") markets, after the Company terminated its distribution
agreement with USSC in November 1996. While the Company is currently in the
process of shifting its focus to vascular surgery, sales of products for hernia
repair are expected to continue providing the largest portion of the Company's
revenues at least through fiscal 1998. The Company currently sells products in
the United States and certain other countries in Europe, Asia and South America.
Over the next 12 months, the Company plans to focus resources on expanding its
presence in the cardiovascular market, maintaining its OEM business with EES in
the hernia and urinary stress incontinence markets, completing marketing-related
clinical evaluations of, and launching, new products, including balloon
dissectors and procedure kits for several applications, including treatment of
urinary stress incontinence, saphenous vein harvesting, tissue expansion and
anterior spinal fusion.
 
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INDUSTRY BACKGROUND
 
    Open surgery is an invasive procedure that generally requires large
incisions and significant tissue manipulation in order to provide the surgeon
with direct access to the intended surgical site. Much of the trauma suffered in
connection with open surgery is a result of gaining access to the surgical site
and is not caused by the surgical repair itself. For example, the surgeon often
must make large incisions through layers of muscle and tissue, which may cause
muscle or nerve damage, bleeding, scarring and other complications such as
infection, temporary or permanent debilitation and pain. As a result, many open
surgical procedures require extended operating times, expose the patient to the
risks of general anesthesia and involve lengthy hospitalization and patient
recovery times. In addition, because of the severe trauma often associated with
open surgical procedures, a significant population of patients, including the
elderly and weak, are not considered good candidates for these surgical
procedures, and are thus deprived of treatment.
 
    In order to reduce the complications associated with open surgery, surgical
techniques referred to as minimally invasive surgery ("MIS") have been
developed. These techniques allow surgeons to access the surgical site through
the body's natural openings (E.G. mouth, urethra or rectum) or by making small
incisions to access body cavities such as the abdominal cavity (the peritoneal
cavity). The performance of MIS generally involves five basic steps. First, a
small incision (approximately 1 cm) is made for insertion of a trocar, a valved
tube with a blunt or sharp insertion device. Next, additional trocars are
introduced to gain increased access to the surgical site and permit the
introduction of surgical instruments. Third, the surgeon creates a working space
through the use of dissection tools or by insufflating a natural body cavity
(such as the abdominal cavity). Fourth, the surgeon utilizes a device such as an
endoscope or laparoscope to visualize the surgical field. Finally, the surgeon
utilizes specialized MIS instruments to perform the surgical procedure.
 
    Studies published in the NEW ENGLAND JOURNAL OF MEDICINE and THE JOURNAL OF
VASCULAR SURGERY support the benefits of MIS as compared to open surgery, which
generally include reduced patient trauma (including less muscle, nerve and other
tissue damage), reduced blood loss, reduced post-operative infection, reduced
scarring at the site of the incision (which in turn reduces reintervention
requirements), shorter patient recovery time, faster procedure time and
ultimately lower medical costs.
 
    Despite the documented benefits of MIS, its adoption to date has been
limited to a select number of surgical procedures, which, in the aggregate,
represented only an estimated 15% of all surgical procedures performed in the
United States in 1997. The most widely adopted MIS procedure, laparoscopic
cholecystectomy (removal of the gall bladder), has been successfully adopted and
is used in an estimated 93% of such cases largely because the target surgical
site lies within the abdominal cavity, the only natural body cavity that
provides a working space when insufflated. Application of MIS techniques to
other surgical procedures and the ability to exploit the clinical benefits of
MIS have been limited by the lack of a natural body cavity proximate to the
surgical site and the inability of the surgeon to easily and atraumatically
access the surgical site or establish a surgical working space where no natural
body cavity exists. MIS conducted outside of a natural body cavity requires the
surgeon to tunnel through tissue to reach the target surgical site and to
dissect a working space. If conventional dissection techniques are utilized, the
resulting working space is often relatively bloody and affords only poor
visualization.
 
    As a result of these limitations, many common types of surgical repairs
cannot be effectively performed using MIS techniques, including hernia repairs,
and procedures performed on organs such as the bladder, kidney, spine, aorta or
other sites that lie outside the abdominal cavity. For example, there are
currently no effective MIS techniques for many common types of vascular surgery
such as saphenous vein harvesting and the treatment of venous stasis ulcers. For
other procedures, although MIS techniques may exist for the performance of the
repair itself, gaining access to the target surgical site is invasive, thereby
reducing many of the clinical benefits of MIS. For example, currently utilized
MIS for spinal fusion requires making small incisions at the midline of the
patient's abdomen, entering the peritoneum,
 
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retracting bowel and other organs to one side, exiting the back of the
peritoneum and continuing down to the front of the spine.
 
    The Company believes that a significant opportunity exists for technologies
and surgical instruments that can effectively address the limitations of MIS and
facilitate the adoption of MIS for a wider range of surgical procedures.
 
GSI SOLUTION
 
    GSI's proprietary balloon dissection systems allow a surgeon to rapidly
access and relatively atraumatically create a working space at a target surgical
site where none previously existed. The body is largely made up of tissue layers
(skin, fat, and muscle, for example) with distinct planes between layers. The
Company's balloon dissection systems allow the surgeon to exploit this anatomy
using minimally invasive techniques. By following such a plane with a deflated
and rolled balloon, and then inflating the balloon to dissect and separate the
two adjacent layers, a new working space is created. Because MIS techniques are
employed, there is little damage compared to that likely encountered with open
surgery, its long incisions and collateral trauma to tissues and nerves.
 
    GSI provides a wide range of balloon dissectors, each having different
attributes or combinations of attributes. Generally, by selecting one of these
dissectors for the purpose at hand, the surgeon may quickly and easily create an
accurate and predictable working space, giving consideration to both size and
shape, and with the desired proximity to the chosen surgical site.
 
    The Company believes that its Spacemaker products can be deployed anywhere
in the body where a natural tissue plane exists. For example, by creating a
working space in the pre-peritoneal area (the space in front of the peritoneum),
the Company's technology enables the use of MIS for hernia repair or treatment
of urinary stress incontinence. Similarly, by creating a working space in the
retroperitoneal area (the space behind the peritoneum), the Company's technology
enables the use of MIS for anterior spinal fusion, vascular surgery and other
pathologies accessible in this area. In addition, the ability of the Company's
line of Spacemaker products to create working spaces at different tissue levels
(including subcutaneous, subfascial, submuscular and subglandular) enables the
use of MIS for saphenous vein harvesting, subfascial endoscopic perforator
surgery, breast augmentation and reconstruction, tissue flap harvesting for
reconstruction, long-bone plating and a variety of other medical procedures.
 
COMPANY STRATEGY
 
    The Company's objective is to become the leading provider of balloon
dissection systems and specialty surgical instruments for MIS. The key elements
of the Company's strategy are as follows:
 
    INCREASE MARKET ACCEPTANCE OF BALLOON DISSECTION TECHNIQUES.  The Company
intends to increase market acceptance for its Spacemaker products primarily by
developing and maintaining relationships worldwide with leading general surgeons
and specialists in the surgical fields of cardiovascular surgery, obstetrics,
gynecology, urology, general, cosmetic and reconstructive surgery and orthopedic
surgery. The Company intends to support these efforts through surgeon training
programs designed to increase surgeon familiarity with the advantages and
applications of the Company's products. In addition, the Company is conducting
marketing-related clinical evaluations to increase exposure of surgeons to the
Company's products and to demonstrate the effectiveness of MIS in a broad range
of procedures when used with the Company's Spacemaker balloon dissection
systems. The Company intends to use data collected from marketing-related
clinical evaluations to demonstrate the anticipated clinical and cost advantages
of the Company's products to patients, surgeons, hospital administrators and
third-party health care payers.
 
    CAPITALIZE ON EXISTING PROPRIETARY POSITION.  GSI has established an
extensive patent portfolio, and plans to capitalize on its proprietary position
to establish and maintain a leadership position in the balloon dissection
market. As of June 30, 1997, GSI had 27 United States patents issued, and had
applied for an
 
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additional 50 United States patents, 11 of which had been allowed. In addition,
as of June 30, 1997, GSI had two foreign patents issued, and 22 in prosecution
covering GSI's Spacemaker technology, including tissue dissection with balloons.
In May 1996, the Company was issued a United States patent that contains broad
claims regarding use of balloons to dissect tissue planes. The Company believes
that the scope of these claims could provide a long-term competitive advantage
for many of the Company's balloon dissection products.
 
    DEVELOP AND RAPIDLY INTRODUCE NEW BALLOON DISSECTOR PRODUCTS.  The Company
intends to develop additional balloon dissection products and enhancements to
its products that fall within the Company's existing 510(k) clearances. GSI's
Spacemaker balloon dissection systems have received FDA 510(k) clearance for
tissue plane dissection during general, endoscopic, laparoscopic or cosmetic and
reconstructive surgery and certain vascular surgeries, using a broad range of
balloon sizes and shapes. Accordingly, the Company believes it is well
positioned to offer a portfolio of products for additional surgical procedures
without significant additional United States regulatory pre-market clearance
compliance requirements. The Company has developed or is developing, balloon
dissectors for a number of procedures for which MIS is currently suboptimal or
unavailable, including treatment of saphenous vein harvesting, urinary stress
incontinence, anterior spinal fusion and long-bone plating for certain
fractures.
 
    DEVELOP NEW SURGICAL INSTRUMENTS FOR MIS.  As part of its MIS product
strategy, the Company intends to continue to develop surgical instruments
tailored for use in the working spaces created by the Company's balloon
dissection systems. To date, the Company has developed several instruments to
facilitate the application of MIS to target surgical procedures, such as its
Hook & Fork Dissectors and Spacekeeper-TM- retractor products for saphenous vein
harvesting and its KnotMaker product, which is designed to assist the surgeon in
suturing and knot tying applications during urinary stress incontinence surgery
and certain other procedures. The Company intends to continue to develop
specialized surgical instruments that facilitate the broader adoption of MIS and
balloon dissection products for surgical procedures.
 
    MARKET CARDIOVASCULAR PRODUCTS THROUGH A DIRECT SALES FORCE AND OTHER
PRODUCTS THROUGH COLLABORATIVE RELATIONSHIPS.  Domestically GSI intends to sell
products in the cardiovascular market through a direct sales force which it is
in the process of building. For international sales of all products and domestic
sales of products other than in cardiovascular markets, the Company intends to
build relationships with medical device companies both in the United States and
internationally that can provide the Company access to an established
distribution network in GSI's targeted specialty surgical markets. By pursuing a
strategy of corporate partnering to leverage established medical device
distribution networks, the Company believes that it will be able to capitalize
on the existing surgeon training programs, complementary products and
established surgeon relationships of its corporate partners. For example, the
Company currently has a licensing and distribution arrangement with Ethicon
Endo-Surgery, Inc. ("EES") under which GSI has granted EES worldwide sales and
marketing rights to sell the Spacemaker-TM- Balloon dissection system in the
laparoscopic hernia repair and urinary stress incontinence markets. The Company
also has an exclusive agreement with Japan Lifeline Co. Ltd. ("Japan Lifeline")
to market and distribute in Japan GSI's balloon dissection systems for use in
vascular procedures. Japan Lifeline is expected to begin distribution of the GSI
balloon dissection systems following receipt of Japanese Ministry of Health and
Welfare approval, which the Company expects will occur in late 1997 or early
1998.
 
BALLOON DISSECTION SYSTEMS
 
    GSI's proprietary Spacemaker balloon dissection systems consist of an access
and deployment platform and a balloon dissector. During a surgical procedure,
the balloon dissection system is inserted between the desired tissue layers
through a puncture-like opening with the balloon in an uninflated state. The
balloon is then filled with fluid, which causes the balloon to dissect the
tissue planes along natural boundaries. After completing the dissection, the
balloon is deflated, the balloon dissection system is
 
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removed from the body, after which the newly dissected space may be insufflated
with gas to maintain the surgical working space. The surgeon can then utilize
MIS instruments to access the surgical site and perform the surgical repair. By
using the Company's balloon dissection systems, the surgeon can avoid the large
incisions and significant tissue manipulation required for open surgery.
 
    The Company's balloon dissectors incorporate several proprietary
technologies to increase the reliability, effectiveness and ease of use in
creating working spaces during MIS. Each balloon is composed of strong and
reliable nonelastomeric polyurethane material and is welded using a proprietary
technique that allows the balloon to be inflated to a predetermined size and
predictable shape with minimal risk of rupture. Each of the Company's balloons
is designed to be deployed in a predictable manner that maximizes effectiveness
and accuracy in creating the surgical working space and minimizes unnecessary
tissue trauma because of the specific and predictable manner in which the
balloon unfurls. The Company has designed its dissection balloons in a variety
of shapes and sizes that are tailored for specific procedures. For example, the
Company's "Manta Ray" shaped balloon is designed for use in hernia repair to
maximize working space and visibility of the surgical site while minimizing the
disruption of other anatomy at the surgical site.
 
    The Company currently offers its balloon dissection systems in five distinct
access and deployment platforms, the Spacemaker I with integral trocar platform,
the Spacemaker II with visualization platform, the Spacemaker Plastics platform,
the SAPHtrak platform and the Spacemaker World platform, along with 15 different
balloon shapes and sizes, designed for various surgical techniques, procedures
types and market segments. Each balloon dissection system contains three primary
components: a guide rod and blunt tip to access the surgical site; a single use,
disposable balloon dissector (which includes a tubing mechanism and valve
apparatus to fill the balloon) to create a working space at the surgical site;
and a balloon cover to protect the balloon dissector and maintain the balloon in
its furled state prior to inflation. End-user prices for the Company's balloon
dissection systems range from $140 to $300 per unit, depending upon the type of
product platform purchased and the nature of the product packaging.
 
    The key attributes of the Company's five major product platforms are
described below:
 
    SPACEMAKER I (WITH INTEGRAL TROCAR) PLATFORM.  The Spacemaker I platform is
composed of a stainless steel rod with a blunt tip which is used both as the
guide rod for the balloon and as the insertion rod for a pre-loaded integral
trocar. This enables the surgeon to quickly and accurately insert the trocar
into the dissected space once the balloon is removed. In addition, the balloon
cover used with the Spacemaker I platform is a strong sheath that maximizes its
tunneling capability.
 
    SPACEMAKER II PLATFORM.  The Spacemaker II platform is a blunt-tipped,
polymeric, hollow tube that is used both as a guide rod for insertion of the
balloon and as a scope cover for protection of a laparoscope. This platform is
designed to allow endoscopic visualization both during insertion and inflation
of the balloon. Visualization enables the surgeon to identify the appropriate
tissue plane for dissection, as well as identify anatomical features while
accessing the surgical site. The Spacemaker II platform includes an integral
polyurethane balloon cover, which releases automatically upon inflation of the
balloon thus simplifying the procedure for the surgeon.
 
    SPACEMAKER PLASTICS PLATFORM.  The Spacemaker Plastics platform consists of
a combined blunt-tipped guide rod and handle, used for insertion, and a balloon
cartridge, composed of a hollow tube upon which the balloon is loaded and an
integral cover over the balloon and tubing to protect them during insertion. The
surgeon can easily load the cartridges onto the guide rod and handle prior to
insertion. This platform is used primarily for plastic and reconstructive
surgery.
 
    SPACEMAKER SAPHTRAK PLATFORM.  The Spacemaker SAPHtrak platform consists of
a stainless steel rod with a blunt tip, an eight inch balloon and a handle. The
malleable feature of the guide rod allows the surgeon to adjust the curvature of
the device to maneuver around challenging patient anatomy. The 150cc
 
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capacity balloon is not removable from the guide so that it is redeployable at
multiple sites along the course of the vein. This platform is used primarily for
saphenous vein harvesting.
 
    SPACEMAKER WORLD PLATFORM.  The Spacemaker World platform is a similar but
simplified version of the Spacemaker II platform design. As with the Spacemaker
II platform, the Spacemaker World platform allows for visualization during the
surgical procedure, but is composed of fewer component parts and is more limited
in its visualization capability. The Spacemaker World platform has been designed
for certain international markets with lower price/performance requirements. The
Company does not currently intend to sell the Spacemaker World platform system
in the United States.
 
APPLICATIONS OF BALLOON DISSECTION TECHNOLOGIES
 
    The Company's initial market focus was the application of its Spacemaker
balloon dissection technology for hernia repair. More recently, the Company has
shifted its focus to begin increasing its emphasis on cardiovascular
applications. The Company has completed marketing-related clinical evaluations
of, and has introduced products or is introducing products for saphenous vein
harvesting, subfascial endoscopic perforator surgery ("SEPS"), breast
augmentation and reconstruction procedures and tissue expansion. The Company is
currently conducting additional marketing-related clinical evaluations for
additional surgical applications, including urological and gynecological
applications (E.G. urinary stress incontinence), other vascular applications
(E.G. saphenous vein harvesting and retroperitoneal aortic reconstruction) and
orthopedic applications (E.G. anterior spinal fusion). The Company believes that
its current FDA clearances provide coverage for many surgical applications that
the Company may pursue. The Company has commenced commercial sales of its
products in the United States and certain other countries in Europe, Asia and
South America for selected applications including hernia repair, SEPS and breast
augmentation and reconstruction. To date, the Company has received 510(k)
clearances from the FDA for the use of its Spacemaker balloon dissection
technology to perform dissection of tissue planes using a broad range of balloon
sizes and shapes. Following FDA clearance of one of the Company's products, the
Company performs marketing-related clinical evaluations to optimize the
application of such product to targeted surgical procedures.
 
    HERNIA REPAIR
 
    A hernia, a condition that commonly occurs in the groin, is a protrusion of
normal abdominal contents through a muscle defect, usually in the tissue layers
overlying the abdomen. The peritoneum and/or bowel often project into this
defect, causing pain and potential major complications. Hernias affect over
700,000 people in the United States and approximately 1.4 million people
worldwide each year.
 
    The open surgical procedure for hernia repair is a herniorrhaphy, which
involves making a 10 to 15 cm open incision in the groin over the muscle defect
to be repaired. As in most invasive surgical procedures, recovery periods tend
to be long, typically extending between three and six weeks. Over the last few
years, in an effort to reduce post-operative pain and recovery times, several
laparoscopic techniques have been developed to repair hernias. Despite these
advances, MIS has not been optimized for hernia repair. For example, in certain
MIS hernia repair procedures, a surgeon must first make an incision in the
abdominal wall to gain access to the abdominal cavity. The surgeon then must
make an additional incision in the peritoneum enabling the surgeon to reach the
surgical site and create the working space required to conduct the surgical
repair.
 
    The Company believes that its balloon dissection technology can
significantly improve the outcomes of laparoscopic hernia repair procedures.
Utilizing the Company's Spacemaker products, the surgeon tunnels the device
through a small incision at the umbilicus and then inflates the balloon to
create a large and relatively bloodless space at the site of the hernia. As a
result, the surgeon is able to more rapidly and easily access the target
surgical site and complete the hernia repair. In addition, because the surgeon
never enters the peritoneum, this procedure reduces the risk of organ damage,
adhesion formation and
 
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morbidity, and eliminates the requirement for general anesthesia. In a study
presented in March 1996, MIS hernia repair procedures utilizing the Company's
balloon dissectors resulted in lower cost, fewer complications and faster
recovery time as compared to open surgical hernia repair procedures.
 
    The Company believes that its Spacemaker products provide a platform for
increasing the conversion of open hernia repair procedures to laparoscopic
procedures. According to Medical Data International, Inc., laparoscopic hernia
repair procedures represented approximately 160,000 or 25% of total hernia
repair procedures in 1995. The Company estimates that approximately half of
these laparoscopic hernia repair procedures are now performed using balloon
dissection technology.
 
    The Company commenced commercial sales of its hernia repair balloon
dissection products in the United States in late 1993 and in Europe in 1994 and
currently sells three versions: the Spacemaker I platform, which was introduced
in September 1993, the Spacemaker II platform, which was introduced in October
1995, and the Spacemaker World platform, which was introduced in March 1996. The
Company sells these products both in the United States and certain foreign
markets, including Europe, Asia and South America, through its partner, EES. The
Company also sells, or will sell, these products in the United States through
its direct sales force and within certain foreign markets through Japan Lifeline
and other selected distributors.
 
    SUBFASCIAL ENDOSCOPIC PERFORATOR SURGERY (SEPS)
 
    Chronic venous insufficiency, which results in insufficient blood flow from
the extremities, is a common and debilitating disease. A frequent manifestation
of venous insufficiency is venous stasis ulceration (chronic skin ulcers), which
currently affects approximately 2.5 million people in the United States.
 
    The Company believes that current treatment options for venous stasis
ulceration and venous insufficiency are suboptimal. Compression stockings
(elastic stockings that put pressure on the leg to force blood flow), the most
common treatment, often temporarily heal the ulcers but do not treat the
underlying venous incompetence. Compression stockings as treatments are also
ineffective because patients often do not wear the stockings, the associated
healing process is slow and the recurrence rate for the ulcers is high. Treating
the incompetent vein through an open surgical procedure allows treatment of the
underlying condition, but requires an incision through the ulcer wound, which is
composed of diseased tissue and is often incapable of healing. Alternatively, a
minimally invasive ligation procedure known as subfascial endoscopic perforator
surgery ("SEPS") has recently been introduced in which the surgeon accesses the
incompetent vein from an incision remote from the ulcer wound using traditional
dissection instruments. However, because this access to the surgical site causes
bleeding and significant tissue trauma, the procedure is difficult and time
consuming for the surgeon to perform because of poor visualization.
 
    The Company's Spacemaker balloon dissection products allow the surgeon to
perform SEPS to ligate incompetent veins endoscopically in a relatively
atraumatic, bloodless manner. By utilizing the Company's Spacemaker technology,
the surgeon is able to deploy an elongated balloon down the length of the
patient's leg to create an operating space for access to one or more incompetent
veins. Because the incisions needed for this procedure are very small
(approximately one cm) and are remote from the area of ulcerated skin, the
Company believes that wounds will heal more rapidly and that there will be fewer
complications compared to open surgery and non-balloon assisted SEPS procedures.
In addition, the bloodless working space created by the Company's balloon
provides the surgeon with improved visualization of the veins requiring
ligation, making the procedure easier and faster for the surgeon.
 
    The Company launched its initial product to treat venous stasis ulceration
and venous insufficiency in January 1996. To date, the Company's Spacemaker I
balloon dissection products have been used to treat over 600 patients suffering
from venous stasis ulcers or venous insufficiency in over 100 centers across the
United States, with results indicating generally successful outcomes. Additional
outcome studies have been completed or are underway such as the study recently
reported in the June 1997 JOURNAL OF VASCULAR SURGERY
 
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that supported the Company's belief that balloon assisted SEPS tends to produce
faster healing rates, fewer complications and lower recurrence rates as compared
to compression stockings or open surgical ligation or non-balloon assisted SEPS
procedures.
 
    SAPHENOUS VEIN HARVESTING
 
    In recent years, advanced coronary artery disease has been increasingly
treated by coronary artery bypass graft (CABG) procedures, which involve
grafting a portion of a patient's vein, taken from a different part of the body,
around the blocked artery. More than 600,000 CABG procedures were performed
worldwide in 1997. Nearly 90% of these procedures in the United States and 60%
outside the United States utilized the patient's saphenous vein as a bypass
graft.
 
    Traditional saphenous vein harvesting procedures often require a continuous
incision from the ankle to the upper thigh of a patient's leg. The saphenous
vein is then dissected and removed, and the wound is sutured closed. A study
involving over 1,000 patients indicates that the open surgical procedure for
saphenous vein harvesting results in wound healing impairment in approximately
24% of patients. The length and invasiveness of the leg incision also causes
significant postoperative patient pain and discomfort. Surgeons indicate that
after the CABG procedure patients more frequently complain about the pain caused
by leg incisions than other aspects of the procedure.
 
    By utilizing the Company's SAPHtrak balloon dissector and Hook and Fork
dissection tools in the saphenous vein harvest procedure, the surgeon can reduce
the leg incision to three or four one-centimeter incisions, and can minimize
damage to the muscles and nerve endings surrounding the saphenous vein. Results
from clinical usage of the SAPHtrak balloon dissector indicate generally
successful outcomes from the procedure including less postoperative pain, faster
healing and less scarring than with traditional open procedures.
 
    The Company currently is developing a second-generation vein harvest system
that will incorporate visualization to the balloon dissector, as well as a
subcutaneous retractor. The Company received FDA clearance for its vein
harvesting products in March 1997.
 
    URINARY STRESS INCONTINENCE SURGERY
 
    Urinary stress incontinence ("USI") is the uncontrollable loss of urine due
to a displacement of the bladder. According to Frost & Sullivan, approximately
1.7 million women 30 years or older suffer from USI on a daily basis and are
thus candidates for interventional treatment.
 
    Depending on the severity of incontinence, there are a number of treatment
options for USI, including collagen injections, drugs, biofeedback exercises and
absorbent pads. The standard treatment for severe USI is a highly invasive, open
surgical procedure involving suture suspension of the bladder neck. This method
can create significant complications for the patient, including enterocele (a
hernia within the vaginal wall) and genital prolapse (a descending of the uterus
due to a weakness of the pelvic floor). Furthermore, after surgery patients may
require up to six weeks or more to resume their preoperative lifestyle. Because
of the risk, expense and complexity of open suture suspension, this surgical
procedure is often performed only in conjunction with other open abdominal
procedures such as hysterectomy. Modern life style norms for women are more
active than in previous times, and USI inhibits stressful activity. What is
needed is a simple, effective treatment for USI.
 
    Several MIS alternatives to open surgical procedures for the treatment of
USI have recently been developed to suspend the bladderneck. These MIS
procedures have been increasingly accepted as stand-alone procedures and are
typically less expensive and less likely to cause adverse side effects. Outcome
studies are now becoming available which indicate satisfactory outcomes for MIS
procedures when compared to open bladder neck suspension procedures in
successfully treating incontinence. Unfortunately, as in hernia repair, some MIS
procedures involve accessing the surgical site by entering, traversing
 
                                       9
<PAGE>
and then exiting the peritoneal cavity. While these procedures offer
improvements over open surgery and afford the benefits of MIS, they still
involve the morbidity risks and difficulties associated with violating the
peritoneum.
 
    Utilizing the Company's balloon dissection system, the surgeon can suspend
the bladderneck laparoscopically without entering the peritoneum, and can do so
under visualization. As in the hernia repair procedure, GSI's Spacemaker
dissection products can be deployed through the umbilicus to provide direct
access to the bladder and bladderneck. The surgeon can then use conventional
laparoscopic instruments to complete the procedure. The Company believes that
the entire USI repair procedure can be performed in less than one hour on an
outpatient basis.
 
    GSI offers a Spacemaker dissector specifically to address the
extra-peritoneal treatment of USI, which the Company believes will allow a
surgeon to optimize the working space for the procedure.
 
    BREAST AUGMENTATION AND RECONSTRUCTIVE SURGERY
 
    In 1995, approximately 90,000 women worldwide had breast reconstructive
surgery due to partial or full mastectomies relating to breast cancer, and an
additional 110,000 had elective (aesthetic) breast augmentation surgery.
Traditional surgical methods for such procedures require making a three to five
cm incision in the skin, finding the required tissue plane, and then using a
combination of blunt and sharp dissection tools to create a pocket for the
implant. The procedure can cause substantial bleeding, can sever both sensory
nerves and perforating vessels and can leave the patient with substantial,
noticeable scars.
 
    In contrast to traditional breast augmentation and reconstruction
procedures, the Company's Spacemaker products require only small incisions,
create a relatively bloodless pocket, minimize disruption of sensory nerves or
perforating vessels and minimize scarring and loss of movement or sensation. In
addition, because the Spacemaker product allows the surgeon to introduce the
balloon dissector from a crease in the axilla (armpit), from the inframammary
fold (below the breast inside the mammary fold), in the periareolar (nipple)
area or in some cases from the umbilicus (navel), the surgeon can minimize the
appearance of any marks or scars. The Company believes that its Spacemaker
dissection products for breast augmentation and reconstruction procedures enable
the surgeon to create uniform, symmetrical pockets in less time and with much
less bleeding than is possible with traditional blunt or sharp dissection tools.
 
    The Company's balloon dissection products for breast augmentation and
reconstruction were first introduced commercially in the United States in
January 1995. The Company currently sells the Spacemaker I platforms and the
Spacemaker Plastic platforms for use in this indication.
 
    OTHER COSMETIC AND RECONSTRUCTIVE SURGERY
 
    In addition to the market opportunities for breast augmentation and
reconstruction, the Company has designed, developed and is clinically evaluating
applications of its balloon dissection technology for a number of cosmetic and
reconstructive surgery procedures, including tissue flap harvesting (24,000
procedures worldwide), face lifts (53,000 procedures worldwide), brow lifts
(21,000 procedures worldwide), and abdominoplasties (28,000 procedures
worldwide). The Company believes that its balloon dissection technology is
well-suited for such procedures. For example, a tissue flap harvest procedure
involves isolation and detachment of a discrete tissue segment for
transplantation to another part of the body, and may include a harvest of a
portion of the rectus muscle (or TRAM flap harvest) or a harvest of the
latissimus muscle (or latissimus dorsi flap harvest). Tissue flap harvesting
procedures are currently very tedious, requiring the severing of connecting
tissue with scissors or scalpel and taking three to four hours or longer to
complete.
 
                                       10
<PAGE>
    The Company believes a surgeon utilizing the GSI balloon dissector can
complete tissue flap harvesting in less than half the time and can do so more
accurately and with less blood loss. Studies involving the Spacemaker platform
for tissue flap harvest procedures have been conducted at both Duke University
and at the Manhattan Eye, Ear, Nose and Throat Institute. The initial results
were presented during the American Society of Plastic and Reconstruction
Surgeons meeting in Montreal, Canada in October 1995, with both groups
demonstrating the feasibility, cost effectiveness and time savings experienced
during procedures in which the Company's balloon dissection products were
utilized for tissue flap harvesting.
 
    ORTHOPEDIC SPINE SURGERY
 
    The Company believes that its products can be used in several orthopedic
spinal procedures to both reduce the costs of the procedure and enhance patient
benefits. Foremost among these procedures is spinal fusion, which was performed
approximately 200,000 times in the United States in 1994. Spinal fusion is
usually performed to remove a ruptured vertebral disc that is causing
significant patient discomfort, and subsequently to promote fusion between the
then exposed and adjacent vertebrae. This fusion procedure can be promoted by
any of several prosthetic systems, by traditional bone prostheses, or by a
combination of the two.
 
    Most traditional open spinal fusion procedures have approached the spine
from the back. Several newer procedures, some currently under clinical
investigation, approach the spine through the abdomen, which appears to yield
better results. The open abdominal approach is highly invasive, however, and has
led researchers to try to develop a minimally invasive, transperitoneal
laparoscopic approach. This approach still subjects the patient to the same
risks associated with the open abdominal approach.
 
    The Company's balloon dissection products have been used in several cadaver
studies in which an extraperitoneal laparoscopic approach to the spine has been
successfully performed. In this procedure, the balloon is deployed in the
retroperitoneal area under the rib cage and is inflated in order to dissect the
peritoneum away from muscle layers in the back and side of the patient. By doing
so, the surgeon can create a large working space to access the spine without
entering the peritoneum. The Company believes the spinal fusion procedure is a
natural extension of the aortic reconstruction application for balloon
dissection technology because the required dissected space is essentially the
same. The Company intends to conduct additional marketing-related clinical
evaluations to optimize the design of the Company's Spacemaker balloon
dissection systems for the orthopedic spine surgery market.
 
ADDITIONAL PRODUCTS UNDER DEVELOPMENT
 
    As part of its competitive strategy, GSI continually seeks to leverage its
core technology to develop balloon dissection systems for new surgical
procedures, as well as to develop new surgical instruments for MIS. The Company
has made a significant investment in developing its proprietary balloon
dissection technology and believes its research and development commitment in
this area is critical to its competitive position. Research and development
expenses for fiscal 1997, 1996 and 1995 were approximately $2.2 million, $1.3
million, and $1 million, respectively. As of June 30, 1997, the Company employed
18 persons engaged in research and development activities.
 
    BALLOON DISSECTION PRODUCTS.  The Company is currently developing a
Spacemaker III product platform, designed as a one-piece instrument in which the
balloon and guide rod are connected as a single unit. The Company believes the
one-piece platform design will be easier to use than the two-piece Spacemaker
platforms, because of the reduced number of steps a surgeon must perform in
order to deploy the balloon and dissect the tissue at the target site. In
addition, the Company expects the Spacemaker III platform to be less expensive
to manufacture, resulting in reduced costs per procedure. The Company intends to
continue to develop additional balloon shapes and sizes that can be used in
conjunction with
 
                                       11
<PAGE>
each of its Spacemaker product platforms. Additional surgical applications
currently being targeted by the Company include long-bone plating for fractures
and seural nerve harvests for reconstructive surgery.
 
    SURGICAL AND RELATED INSTRUMENTS.  The Company is also exploiting its
expertise in MIS to develop a range of instruments to maximize the surgeon's
ability to perform MIS once an operative working space is created by the
Company's balloon dissection products. For example, the Company has developed
the KnotMaker suturing instrument, which is designed to allow the surgeon to
maintain tension on the suture and deliver a pre-tied knot to the surgical site,
rather than requiring the surgeon to tie the knot remote from the surgical site.
The Company received 510(k) clearance for the KnotMaker suturing instrument in
October 1994. In addition, the Company is developing a specialized trocar with a
balloon valve that provides a seal to maintain insufflation of the surgical
space while allowing the use of laparoscopic and conventional non-laparoscopic
instruments during MIS. For example, this specialized trocar would enable the
use of conventional arterial cross clamps, which are particularly important in
aortic reconstruction.
 
    Product research and development will require substantial expenditures, and
there can be no assurance that the Company will be successful in identifying
products for which demand exists, in developing products that have the
characteristics necessary to treat target indications, or that any new product
introduced will receive regulatory approval or be commercially successful.
 
MARKETING, SALES AND DISTRIBUTION
 
    The Company markets its products, both domestically and internationally, to
general surgeons, urologists, gynecologists, vascular surgeons, orthopedic
surgeons and cosmetic and reconstructive surgeons. Sales in the United States
and internationally in the hernia and USI markets are made primarily through an
exclusive relationship with EES. Sales of devices for cardiovascular
applications are made in the United States through the Company's direct sales
force. Domestic sales of non-cardiovascular products, as well as international
sales of all products, are handled through the Company's network of
distributors.
 
    MARKETING PROGRAMS.  The Company's marketing strategy for its balloon
dissection products is designed to target surgeons who are leaders in their
respective surgical specialties, and to promote visibility of the Company's
products and awareness of the clinical efficacy and cost effectiveness of
surgical techniques that employ the Company's products. For direct product
sales, the Company has targeted the cardiovascular markets because the Company
believes it is among the most receptive markets to new surgical systems and
techniques. For other markets, including some where surgeons require substantial
training to use the Company's products, the Company has partnered or is seeking
to partner with independent distributors that have well-established distribution
networks across wide geographic areas as well as well-developed training
programs.
 
    The Company has a program to disseminate clinical and technical information
worldwide to educate surgeons about the benefits of the Company's products and
to encourage surgeons to perform procedures utilizing the Company's products. In
support of this program, the Company has produced and distributed to surgeons
Spacemaker dissector procedure demonstration videos and educational videos for
hernia repair, bladder neck suspension, vascular surgery and cosmetic and
reconstructive surgery. In addition, the Company has developed relationships
with several leading surgeons in each of the Company's targeted major surgical
specialty areas who provide input on clinical and product development, as well
as surgical procedures that are candidates for GSI's products. The Company is
also pursuing a public relations campaign to increase physician and patient
awareness of the benefits of MIS and the improvements afforded by the use of
balloon dissectors in such surgical procedures. In addition, the Company is
actively sponsoring a number of marketing-related clinical evaluations designed
to optimize the product design and to demonstrate the utility and ease of use of
the Company's products.
 
                                       12
<PAGE>
    SALES IN THE UNITED STATES.  GSI maintains a direct sales organization in
the United States to market its cardiovascular products to general surgeons and
specialists, and to support its distributor's sales efforts. As of June 30,
1997, the Company's direct sales force in the United States consisted of 14
persons. GSI is currently selling Spacemaker products in the hernia repair
market, the breast augmentation and reconstructive surgery market, and the
vascular market. For the hernia and USI surgery markets, sales and marketing is
principally conducted through a distribution agreement between the Company and
EES, a leading supplier of surgical instruments for laparoscopic procedures.
Under this agreement, GSI granted EES exclusive worldwide sales and marketing
rights to sell the Spacemaker-TM- Balloon Dissection Systems in the laparoscopic
hernia repair and urinary stress incontinence markets. Although the Company
intends to establish additional distributorships in the United States, there can
be no assurance that such efforts will be successful. Failure to diversify its
distribution network in the United States could have a material adverse effect
on the Company's business, financial condition and results of operations.
 
    INTERNATIONAL SALES.  The Company's products are currently sold
internationally to general surgeons and specialists through independent
distributors in Europe, Asia, Latin America and the Middle East. In June 1997,
GSI entered into an exclusive agreement with Japan Lifeline Co. Ltd. ("Japan
Lifeline") to market and distribute in Japan GSI's balloon dissection systems
for use in vascular procedures. Japan Lifeline is expected to begin distribution
of the GSI balloon dissection systems following receipt of Japanese Ministry of
Health and Welfare approval, which the Company expects will occur in late 1997
or early 1998. The Company generally operates under written agreements with its
international distributors, which typically grant distributors the right to sell
the Company's products within a defined territory and permit the distributors to
sell other non-competing medical products. In addition, the agreements often
include requirements regarding minimum purchases, participation in trade shows
and marketing efforts on behalf of GSI, and training programs for end-users. The
Company's distributors typically purchase the Company's products at discounts
that vary by product and market.
 
    Substantially all of the Company's revenues to date have been derived from
hernia repair products sold to distributors and guaranteed payments from EES.
Guaranteed payments from EES accounted for 54% of total revenues in fiscal year
1997, and product sales accounted for 46% of GSI's total revenues in fiscal year
1997. Product sales to distributors accounted for approximately 92% of the
Company's total product sales for both the year ended June 30, 1997 and the year
ended June 30, 1996. Product sales outside of the United States accounted for
approximately .5% and 4% of the Company's sales in fiscal year 1997 and fiscal
year 1996, respectively. The Company expects that international sales will
represent an increasing portion of revenue in the future. The Company records
all sales to EES as domestic sales.
 
MANUFACTURING
 
    The Company manufactures its products in a clean room facility in Cupertino,
California. The Company has implemented quality control systems as part of its
manufacturing process, which are designed to enable the Company to achieve ISO
9001 certification for its products by the end of calendar year 1997. The
Company has also been inspected by the California Department of Health Services
("CDHS"), on behalf of the CDHS and the FDA, and is registered with the State of
California to manufacture its medical devices. The Company believes that it is
in compliance with all FDA requirements including FDA Good Manufacturing
Practices ("GMP") for medical devices. There can be no assurance, however, that
the Company will attain ISO 9001 certification in calendar year 1997, or that
the Company will remain in compliance with GMP, and failure to do so in either
case could have a material adverse effect on the Company's business, operating
results or financial condition.
 
    Raw materials used in the production of the Company's balloon dissector
products are purchased from various qualified vendors, subjected to stringent
quality specifications and assembled by the Company into the final balloon
dissectors. Quality audits of suppliers are conducted, and the Company has
adopted a vendor qualification program. The Company currently obtains certain
products from single source suppliers, including its supplier of product molds.
The Company believes that alternative suppliers are available
 
                                       13
<PAGE>
for its raw materials and other product components and plans to qualify
additional suppliers when sales volumes warrant. There can be no assurance that
the single source suppliers will meet the Company's future requirements for
timely delivery of products of sufficient quality and quantity. The failure of
GSI's single source suppliers to provide it with adequate supplies of high
quality products, or the loss of any of the Company's single source suppliers,
could cause a delay in GSI's ability to fulfill orders while the Company
attempts to identify and certify a replacement supplier, if any, and could have
a material adverse effect upon the Company's business, financial condition and
results of operations. See "Factors Affecting Future Results--Limited
Manufacturing Experience."
 
COMPETITION
 
    Competition in the market for medical devices and tissue dissection products
is intense and is expected to increase. The Company competes primarily with
other producers of MIS tissue dissection products. Origin, a subsidiary of
Guidant Corporation, and others currently compete with the Company in the
development, production and marketing of balloon based tissue dissection
instruments and tissue dissection technology. To the extent that surgeons elect
to use open surgical procedures rather than MIS, the Company also competes with
producers of tissue dissection products used in open surgical procedures, such
as blunt dissectors or graspers. A number of companies currently compete against
the Company in the development, production and marketing of tissue dissection
products and technology for open surgical procedures. In addition, the Company
competes indirectly with producers of therapeutic drugs, when such drugs are
used as an alternative to surgery. Many of the Company's competitors and
potential competitors have substantially greater name recognition and capital
resources than the Company and also have greater resources and expertise in the
areas of research and development, obtaining regulatory approvals, manufacturing
and marketing.
 
    The Company believes that the primary competitive factors in the market for
tissue dissection products include safety, efficacy, ease of use, quality,
reliability and cost effectiveness. In addition, the length of time required for
products to be developed and to receive regulatory approval is an important
competitive factor. The Company believes that it competes favorably with respect
to these factors, although there can be no assurance that it will continue to do
so.
 
    The market for tissue dissection products is characterized by rapid
technical innovation. Product development involves a high degree of risk, and
there can be no assurance that the Company's competitors and potential
competitors will not succeed in developing and marketing technologies and
products that are more effective than those developed and marketed by the
Company or that would render the Company's technology and products obsolete or
noncompetitive. The medical applications for which the Company's MIS tissue
dissection products are used can also be addressed by other medical devices in
either MIS or open surgical procedures, many of which are widely accepted in the
medical community. There can be no assurance that a procedure using MIS balloon
dissection technology will be able to replace such established products and
procedures. Additionally, new surgical products or procedures could be developed
that replace or reduce the importance of current procedures that use the
Company's products.
 
PATENTS AND PROPRIETARY RIGHTS
 
    The Company's success will depend on its ability to obtain patent protection
for its products and processes, to preserve its trade secrets and proprietary
technology and to operate without infringing upon the patents or proprietary
rights of third parties. As of June 30, 1997, GSI had 27 United States patents
issued, and had applied for an additional 50 United States patents, 11 of which
had been allowed. In addition, as of June 30, 1997, GSI had two foreign patents
issued, and 22 in prosecution. In May 1996, the Company was issued a United
States patent that contains claims regarding the use of balloons to dissect
tissue planes anywhere in the body.
 
                                       14
<PAGE>
    In May 1996, the Guidant Corporation unit of Origin MedSystems, Inc.
("Origin") filed an action against GSI in the U.S. District Court for the
Northern District of California, alleging patent infringement of its patent
entitled "Apparatus and Method for Peritoneal Retraction." GSI also filed an
action against Origin in the U.S. District Court for the Northern District of
California alleging patent infringement of its patent for a method of tissue
plane dissection using balloon systems. In addition, on September 26, 1997, the
Company filed another action against Origin alleging patent infringement of its
patent for a method of serial inflation of tissue dissectors. A decision against
the Company in any of these actions could have a material adverse effect on the
Company's business, financial condition and results of operations.
 
    One of the patent applications filed by the Company, which is directed to a
surgical method using balloon dissection technology, has been placed in
interference with a patent application filed by Origin Medsystems, Inc.
("Origin"), a competitor of the Company. The Company believes that the inventor
named in its patent application was the first to invent this subject matter, and
has asserted that the Origin patent application was filed after a disclosure
made by such inventor to employees of Origin. Origin takes a contrary position.
This interference is presently pending in the United States Patent and Trademark
Office ("USPTO") and, as permitted by the rules of the USPTO, has been referred
to an arbitrator for completion of the interference proceeding. A decision is
not expected in this interference proceeding until 1998, and, while the Company
believes it will be successful in this interference proceeding, there can be no
assurance of such success. Failure of the Company to prevail in such
interference proceeding would have a material adverse effect on the Company's
business, financial condition and results of operations.
 
    Patent interference or infringement involves complex legal and factual
issues and is highly uncertain, and there can be no assurance that any
conclusion reached by the Company regarding patent interference or infringement
will be consistent with the resolution of such issue by a court. In the event
the Company's products are found to infringe patents held by competitors, there
can be no assurance that the Company will be able to modify successfully its
products to avoid infringement, or that any modified products will be
commercially successful. Failure in such event to either develop a commercially
successful alternative or obtain a license to such patent on commercially
reasonable terms would have a material adverse effect on the Company's business,
financial condition and results of operations. As discussed above, the Company
is defending itself, and may in the future have to defend itself, in court
against allegations of infringement of third-party patents. Patent litigation is
expensive, requires extensive management time, and could subject the Company to
significant liabilities, require disputed rights to be licensed from third
parties or require the Company to cease selling its products.
 
    The validity and breadth of claims in medical technology patents involve
complex legal and factual questions and, therefore, may be highly uncertain. No
assurance can be given that any patents based on pending patent applications or
any future patent applications will be issued, that the scope of any patent
protection will exclude competitors or provide competitive advantages to the
Company, that any of the Company's patents or patents to which it has licensed
rights will be held valid under current challenges or if subsequently challenged
or that persons or entities in addition to Origin will not claim rights in or
ownership of the patents and other proprietary rights held or licensed by the
Company or that the Company's existing patents will cover the Company's future
products. Furthermore, there can be no assurance that others have not developed
or will not develop similar products, duplicate any of the Company's products or
design around any patents issued to or licensed by the Company or that may be
issued in the future to the Company. Since patent applications in the United
States are maintained in secrecy until patents issue, the Company also cannot be
certain that others did not first file applications for inventions covered by
the Company's pending patent applications, nor can the Company be certain that
it will not infringe any patents that may issue to others on such applications.
 
    Legislation has recently been enacted in Congress, the effect of which is to
immunize physicians and their employers from liability for patent infringement
for alleged infringement of patent claims directed to medical procedures.
 
                                       15
<PAGE>
    The patent laws of European and certain other foreign countries generally do
not allow for the issuance of patents for methods of surgery on the human body.
Accordingly, the ability of the Company to gain patent protection for its
methods of tissue dissection will be significantly limited. As a result, there
can be no assurance that the Company will be able to develop a patent portfolio
in Europe or that the scope of any patent protection will provide competitive
advantages to the Company.
 
GOVERNMENT REGULATION
 
    The Company's Spacemaker balloon dissection systems and other products are
subject to extensive and rigorous regulation by the FDA and, to varying degrees,
by state and foreign regulatory agencies. Under the federal Food, Drug, and
Cosmetic Act, the FDA regulates the clinical testing, manufacture, labeling,
packaging, marketing, distribution and record keeping for medical devices, in
order to ensure that medical devices distributed in the United States are safe
and effective for their intended use. Prior to commercialization, a medical
device generally must receive FDA and foreign regulatory clearance or approval,
which can be an expensive, lengthy and uncertain process. The Company is also
subject to routine inspection by the FDA and state agencies, such as the
California Department of Health Services ("CDHS"), for compliance with Good
Manufacturing Practice requirements, Medical Device Reporting requirements and
other applicable regulations. Noncompliance with applicable requirements can
result in warning letters, import detentions, fines, civil penalties,
injunctions, suspensions or losses of regulatory approvals, recall or seizure of
products, operating restrictions, refusal of the government to approve product
export applications or allow the Company to enter into supply contracts, and
criminal prosecution. Delays in receipt of, or failure to obtain, regulatory
clearances and approvals, or any failure to comply with regulatory requirements
could have a material adverse effect on the Company's business, financial
condition and results of operations.
 
    Labeling and promotional activities are subject to scrutiny by the FDA and,
in certain circumstances, by the Federal Trade Commission. Current FDA
enforcement policy prohibits the marketing of approved medical devices for
unapproved uses. The Spacemaker I platform, Spacemaker II platform, Spacemaker
Plastics platform, and KnotMaker product each have received 510(k) clearance for
use during general, endoscopic, laparoscopic or cosmetic and reconstructive
surgery, either when tissue dissection is required or, with respect to the
KnotMaker product, when a surgical knot for suturing is required. The Company
has promoted these products for surgical applications (e.g., hernia repair,
subfascial endoscopic perforator surgery and breast augmentation and
reconstruction), and may in the future promote these products for the dissection
or knotmaking required for additional selected applications (e.g., treatment of
stress urinary incontinence, saphenous vein harvesting and a variety of
orthopedic procedures such as anterior spinal fusion). For any medical device
cleared through the 510(k) process, modifications or enhancements that could
significantly affect the safety or effectiveness of the device or that
constitute a major change to the intended use of the device will require a new
510(k) submission. The Company has made modifications to its products which the
Company believes do not affect the safety or effectiveness of the device or
constitute a major change to the intended use and therefore do not require the
submission of new 510(k) notices. There can be no assurance, however, that the
FDA will agree with any of the Company's determinations not to submit a new
510(k) notice for any of these changes or will not require the Company to submit
a new 510(k) notice for any of the changes made to the product. If such
additional 510(k) clearances are required, there can be no assurance that the
Company will obtain them on a timely basis, if at all, and delays in receipt of
or failure to receive such approvals could have a material adverse effect on the
Company's business, financial condition and results of operations. If the FDA
requires the Company to submit a new 510(k) notice for any product modification,
the Company may be prohibited from marketing the modified product until the
510(k) notice is cleared by the FDA. The Company plans to file a 510(k)
submission for its specialized trocar with a balloon valve, which is intended to
provide a seal to maintain insufflation of the surgical space during MIS. There
can be no assurance that the FDA will grant 510(k) clearance for the Company's
specialized trocar on a timely basis, if at all.
 
                                       16
<PAGE>
    Sales of medical devices outside of the United States are subject to foreign
regulatory requirements that vary widely from country to country. The Company
currently relies on its international distributors for the receipt of premarket
approvals and compliance with clinical trial requirements in those countries
that require them, and it expects to continue to rely on distributors in those
countries where the Company continues to use distributors. In the event that the
Company's international distributors fail to obtain or maintain premarket
approvals or compliance in foreign countries where such approvals or compliance
are required, the Company may be required to cause the applicable distributor to
file revised governmental notifications, cease commercial sales of its products
in the applicable countries or otherwise act so as to stop any ongoing
noncompliance in such countries. Any enforcement action by regulatory
authorities with respect to past or any future regulatory noncompliance could
have a material adverse effect on the Company's business, financial condition
and results of operations.
 
    In order to continue selling its products within the European Economic Area
following June 14, 1998, the Company will be required to achieve compliance with
the requirements of the Medical Devices Directive and to affix CE marking on its
products to attest to such compliance. The Company is currently in the process
of seeking CE marking for the products it intends to market internationally and
expects to receive this marking in the second quarter of fiscal 1998 (ending
December 31, 1997). Failure by the Company to comply with CE marking
requirements by June 1998 would prohibit the Company from selling its products
in the European Economic Area unless and until compliance was achieved, which
could have a material adverse effect upon the Company's business, financial
condition and results of operations.
 
THIRD-PARTY REIMBURSEMENT
 
    In the United States, hospitals, physicians and other healthcare providers
that purchase medical devices generally rely on third-party payors, such as
private health insurance plans, to reimburse all or part of the costs associated
with the treatment of patients.
 
    The Company's success will depend upon the ability of surgeons to obtain
satisfactory reimbursement from healthcare payors for the Company's products.
Reimbursement in the United States for the Company's balloon dissection products
is currently available from most third-party payors, including most major
private health care insurance plans and Medicaid, under existing surgical
procedure codes. The Company does not expect that third-party reimbursement in
the United States will be available for use of its other products unless and
until FDA clearance or approval is received. If FDA clearance or approval is
received, third-party reimbursement for these products will be dependent upon
decisions by individual health maintenance organizations, private insurers and
other payors. Many payors, including the federal Medicare program, pay a preset
amount for the surgical facility component of a surgical procedure. This amount
typically includes medical devices such as the Company's. Thus, the surgical
facility or surgeon may not recover the added cost of the Company's products. In
addition, managed care payors often limit coverage to surgical devices on a
pre-approved list or obtained from an exclusive source. If the Company's
products are not on the list or are not available from the exclusive source, the
facility or surgeon will need to obtain an exception from the payor or the
patient will be required to pay for some or all of the cost of the Company's
product. The Company believes that procedures using its balloon dissection
products may be reimbursed in the United States under certain existing procedure
codes. However, there can be no assurance that such procedure codes will remain
available or that the reimbursement under these codes will be adequate. Given
the efforts to control and decrease health care costs in recent years, there can
be no assurance that any reimbursement will be sufficient to permit the Company
to achieve or maintain profitability.
 
    Reimbursement systems in international markets vary significantly by
country, and by region within some countries, and reimbursement approvals must
be obtained on a country-by-country basis. Many international markets have
government managed health care systems that govern reimbursement for new devices
and procedures. In most markets, there are private insurance systems as well as
government-managed systems. Large-scale market acceptance of the Company's
balloon dissectors and other products
 
                                       17
<PAGE>
will depend on the availability and level of reimbursement in international
markets targeted by the Company. Currently, the Company has been informed by its
international distributors that balloon dissectors have been approved for
reimbursement in many of the countries in which the Company markets its
products. Obtaining reimbursement approvals can require 6 to 18 months or
longer. There can be no assurance that the Company will obtain reimbursement in
any country within a particular time, for a particular amount, or at all.
Failure to obtain such approvals could have a material adverse effect on the
Company's sales, business, financial condition and results of operations.
 
    Regardless of the type of reimbursement system, the Company believes that
surgeon advocacy of its products will be required to obtain reimbursement.
Availability of reimbursement will depend on the clinical efficacy and cost of
the Company's balloon dissection systems. There can be no assurance that
surgeons will support and advocate reimbursement for use of the Company's
systems for all applications intended by the Company. Failure by surgeons,
hospitals and other users of the Company's products to obtain sufficient
reimbursement from health care payors or adverse changes in government and
private third-party payors' policies toward reimbursement for procedures
employing the Company's products would have a material adverse effect on the
Company's business, financial condition and results of operations.
 
PRODUCT LIABILITY AND INSURANCE
 
    The Company's business involves an inherent risk of exposure to product
liability claims. Although the Company has not experienced any product liability
claims to date, there can be no assurance that the Company will be able to avoid
significant product liability claims and potential related adverse publicity.
The Company maintains product liability insurance with coverage limits of
$5,000,000 per occurrence and an annual aggregate maximum of $5,000,000, which
the Company believes is comparable to that maintained by other companies of
similar size serving similar markets. However, there can be no assurance that
product liability claims will not exceed such insurance coverage limits, which
could have a material adverse effect on the Company, or that such insurance will
continue to be available on commercially reasonable terms, or at all.
 
ENVIRONMENTAL MATTERS
 
    The Company is subject to federal, state and local laws, rules, regulations
and policies governing the use, generation, manufacture, storage, air emission,
effluent discharge, handling and disposal of certain hazardous and potentially
hazardous substances used in connection with the Company's operations. Although
the Company believes that it has complied with these laws and regulations in all
material respects and to date has not been required to take any action to
correct any noncompliance, there can be no assurance that the Company will not
be required to incur significant costs to comply with environmental regulations
in the future.
 
EMPLOYEES
 
    As of June 30, 1997, GSI employed 83 individuals, 29 of whom were engaged
directly in research, development, regulatory affairs and quality assurance, 20
in manufacturing, 24 in marketing and sales and 10 in finance, customer service
and administration. The Company also contracts with outside consultants. None of
the Company's employees is covered by a collective bargaining agreement. GSI
believes that it maintains good relations with its employees.
 
                                       18
<PAGE>
EXECUTIVE OFFICERS OF THE COMPANY
 
    The executive officers of the Company and their ages as of August 5, 1997
are as follows:
 
<TABLE>
<CAPTION>
NAME                             AGE                                         POSITION
---------------------------      ---      ------------------------------------------------------------------------------
<S>                          <C>          <C>
Roderick A. Young..........          53   Chairman of the Board of Directors and Chief Executive Officer
Gregory D. Casciaro........          40   President, Chief Operating Officer and Director
James E. Jervis............          61   Vice President of Research and Development
Stephen J. Bonelli.........          35   Chief Financial Officer, Vice President of Finance and Treasurer
Ferolyn T. Powell..........          35   Vice President of Operations
</TABLE>
 
    The officers of the Company are appointed by the Board of Directors and
serve at the discretion of the Board. There are no family relationships among
the directors or officers of GSI.
 
    RODERICK A. YOUNG joined GSI in August 1993, and has served as Chairman of
the Board of Directors since August 1997 and Chief Executive Officer since March
1994. Mr. Young also served as President of the Company from August 1993 to
August 1997. From May 1993 until joining GSI, Mr. Young was President and CEO of
Focus Surgery, Inc. ("Focus Surgery"), a medical device company that was spun
out of Diasonics, Inc. ("Diasonics"), a medical products manufacturer, in
October 1993. Prior to joining Focus Surgery, Mr. Young served in various
executive positions, including President, Chief Financial Officer and Chief
Operating Officer of Diasonics from May 1990 to May 1993. Mr. Young serves on
the Board of Directors of several privately held companies. Mr. Young received a
B.S. degree in Industrial Engineering from Stanford University and an MBA from
Harvard Business School.
 
    GREGORY D. CASCIARO joined GSI in February 1995 as Vice President of Sales
and Marketing, was promoted to Senior Vice President in November 1996, and has
served as President, Chief Operating Officer and Director of the Company since
August 1997. Prior to joining GSI, Mr. Casciaro held various positions at
Devices for Vascular Intervention, Inc., a medical device manufacturer,
including Vice President of Sales from June 1991 to February 1995. Previously,
Mr. Casciaro held various sales positions at North American Instrument
Corporation, a medical device company, from March 1983 to May 1991. Mr. Casciaro
received a B.S. degree in Business Administration at Marquette University.
 
    JAMES E. JERVIS joined GSI in March 1994, and serves as Vice President of
Research and Development. Prior to joining GSI, Mr. Jervis had 30 years of
engineering design, development and operations experience at Raychem Corporation
("Raychem"). At Raychem, Mr. Jervis held various executive positions, including
Director of New Business Development, General Manager--Medical Products Group
and Operations Manager. Mr. Jervis holds 19 patents and is named as inventor in
over 50 other patents. Mr. Jervis holds a B.S. in Mechanical Engineering and an
MBA from Stanford University.
 
    STEPHEN J. BONELLI joined GSI in September 1994, and serves as Chief
Financial Officer, Vice President of Finance and Administration and Treasurer.
Prior to joining GSI, Mr. Bonelli held financial management positions at
Coactive Computing Corporation, a computer networking company, from November
1993 to August 1994, and Ready Systems Corporation, a software company, from May
1990 to October 1993. Previous to those positions, Mr. Bonelli held a management
position with Ernst & Young. Mr. Bonelli received a B.S. degree in Business
Administration from California Polytechnic State University, San Luis Obispo.
Mr. Bonelli is a Certified Public Accountant.
 
    FEROLYN T. POWELL joined GSI in October 1995, and has served as Vice
President of Operations since November 1996. Prior to joining GSI, Ms. Powell
served as Director of Research and Development at Adjacent Surgical, Inc. from
June 1995 to October 1995, and as Senior Engineer, Project Manager and Director
at Devices for Vascular Interventions, Inc. from September 1992 to June 1995.
Previous to those positions, Ms. Powell held technical management positions at
Frantz Medical Development Ltd. and Life Systems, Inc. Ms. Powell received her
M.S. degree in Engineering from the University of Akron and her B.S. degree in
Chemical Engineering from Cleveland State University.
 
                                       19
<PAGE>
ITEM 2.  PROPERTIES
 
    The Company occupies a facility of approximately 30,400 square feet in
Cupertino, California, which houses the Company's headquarters, administrative
offices, research laboratories and manufacturing facilities. In addition, the
Company has 16 months remaining on a facility lease in Dublin, California, which
it intends to sublease.
 
ITEM 3.  LEGAL PROCEEDINGS
 
    In May 1996, the Guidant Corporation unit of Origin filed an action against
GSI in the United States District Court for the Northern District of California,
alleging patent infringement of its patent entitled "Apparatus and Methods for
Peritoneal Retraction." GSI subsequently filed a claim against Origin in the
United States District Court for the Northern District of California, alleging
that the use of Origin's balloon dissection products infringe its patent for a
method of tissue plane dissection using balloon systems. In addition, on
September 26, 1997, the Company filed another action against Origin alleging
patent infringement of its patent for a method of serial inflation of tissue
dissectors. Finally, one of the patent applications filed by the Company, which
is directed to a surgical method using balloon dissection technology, has been
placed in interference with a patent application filed by Origin. The Company
believes that the inventor named in its patent application was the first to
invent this subject matter, and the Company has asserted that the Origin patent
application was filed after a disclosure made by such inventor to employees of
Origin. Origin takes a contrary position. This interference is presently pending
in the United States Patent and Trademark Office ("USPTO") and, as permitted by
the rules of the USPTO, has been referred to an arbitrator for completion of the
interference proceeding. A decision is not expected in the interference
proceeding until calendar year 1998, and, while the Company believes it will be
successful in this interference proceeding, there can be no assurance of such
success. Failure of the Company to prevail in such interference proceeding or in
any of the lawsuits described above would have a material adverse effect on the
Company's business, financial condition and results of operations.
 
    From time to time the Company may be exposed to litigation arising out of
its products or operations. The Company is not engaged in any legal proceedings
that are expected, individually or in the aggregate, to have a material adverse
effect on the Company, except for the patent interference and infringement
proceedings discussed herein.
 
ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
 
    Not Applicable.
 
                                       20
<PAGE>
                                    PART II
 
ITEM 5.  MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SHAREHOLDER
  MATTERS
 
MARKET INFORMATION
 
    The Company completed its initial public offering on May 15, 1996, and the
Company's common stock is traded on the Nasdaq National Market under the symbol
GSII. As of August 31, 1997 the Company had approximately 155 shareholders of
record.
 
    The following table shows the Company's high and low selling prices for the
periods indicated as reported by Nasdaq:
 
<TABLE>
<CAPTION>
                                                                                     1997
                                                                             --------------------
                                                                               HIGH        LOW
                                                                             ---------  ---------
<S>                                                                          <C>        <C>
Fourth Quarter ending 6/30/97..............................................  $    7.25  $    3.38
Third Quarter ending 3/31/97...............................................  $   10.00  $    6.50
Second Quarter ending 12/31/96.............................................  $   12.00  $    6.25
First Quarter ending 9/30/96...............................................  $   16.00  $    8.00
5/15/96--6/30/96...........................................................  $   24.25  $   14.25
</TABLE>
 
DIVIDEND POLICY
 
    The Company has not paid dividends on its common stock and has no present
plans to do so. Provisions of the Company's bank line of credit prohibit the
payment of dividends without the bank's permission.
 
ITEM 6.  SELECTED CONSOLIDATED FINANCIAL DATA
 
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
 
<TABLE>
<CAPTION>
                                                                           YEARS ENDED JUNE 30,
                                                   ---------------------------------------------------------------------
                                                       1997           1996          1995          1994          1993
                                                   -------------  ------------  ------------  ------------  ------------
                                                                     (IN THOUSANDS EXCEPT SHARE DATA)
 
<S>                                                <C>            <C>           <C>           <C>           <C>
Sales............................................  $       4,090  $      6,165  $      2,437  $        789  $    --
Guaranteed payments..............................          4,896       --            --            --            --
                                                   -------------  ------------  ------------  ------------  ------------
Total revenue....................................          8,986         6,165         2,437           789       --
Cost of sales....................................          2,385         2,772         1,262           600       --
                                                   -------------  ------------  ------------  ------------  ------------
Gross profit.....................................          6,601         3,393         1,175           189       --
                                                   -------------  ------------  ------------  ------------  ------------
Operating Expenses:
  Research and development.......................          2,231         1,306           975           496           750
  Selling, general and administrative............          8,784         5,204         4,258         2,870           440
  Write-off of acquired in-process research and
    development..................................                        2,791
                                                   -------------  ------------  ------------  ------------  ------------
Total operating expenses.........................         11,015         9,301         5,233         3,366         1,190
                                                   -------------  ------------  ------------  ------------  ------------
Operating loss...................................         (4,414)       (5,908)       (4,058)       (3,177)       (1,190)
Interest and other income (expense), net.........          2,538           443             7            58            18
                                                   -------------  ------------  ------------  ------------  ------------
Net loss.........................................  $      (1,876) $     (5,465) $     (4,051) $     (3,119) $     (1,172)
                                                   -------------  ------------  ------------  ------------  ------------
                                                   -------------  ------------  ------------  ------------  ------------
Net loss per share...............................  $       (0.14) $      (0.74) $      (0.62) $      (0.49) $      (0.20)
                                                   -------------  ------------  ------------  ------------  ------------
                                                   -------------  ------------  ------------  ------------  ------------
Shares used in computing net loss per share......     13,197,114     7,411,099     6,495,826     6,312,569     5,993,264
                                                   -------------  ------------  ------------  ------------  ------------
                                                   -------------  ------------  ------------  ------------  ------------
</TABLE>
 
                                       21
<PAGE>
CONSOLIDATED BALANCE SHEET DATA:
 
<TABLE>
<CAPTION>
                                                                                   JUNE 30,
                                                            -------------------------------------------------------
                                                               1997        1996       1995       1994       1993
                                                            ----------  ----------  ---------  ---------  ---------
                                                                                (IN THOUSANDS)
 
<S>                                                         <C>         <C>         <C>        <C>        <C>
Cash, cash equivalents and available-for-sale
  securities..............................................  $   43,731  $   49,790  $   4,541  $   2,301  $     336
Working capita1...........................................      46,835      50,068      4,457      2,516        169
Total assets..............................................      51,062      52,767      6,245      3,525        560
Convertible redeemable preferred stock....................      --          --         13,225      6,841      1,462
Accumulated deficit.......................................     (15,693)    (13,817)    (8,352)    (4,301)    (1,182)
Shareholder's equity (deficit)............................  $   48,987  $   50,474  $  (8,316) $  (4,279) $  (1,161)
</TABLE>
 
ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
  OF OPERATIONS
 
OVERVIEW
 
    Since its inception in April 1992, GSI has been engaged in the development,
manufacturing and marketing of balloon dissection systems and related minimally
invasive surgical instruments. The Company began commercial sales of its balloon
dissection systems for hernia repair in September 1993. To date, the Company has
received from the FDA five 510(k) clearances for use of the Company's technology
to perform dissection of tissue planes anywhere in the body using a broad range
of balloon sizes and shapes. The Company currently sells products in the United
States and certain other countries in Europe, Asia and South America for
selected applications, such as hernia repair, subfascial endoscopic perforator
surgery and breast augmentation and reconstruction surgery.
 
    In March 1994, the Company entered into a distribution agreement with USSC
providing USSC with limited exclusive rights to distribute the Company's balloon
dissection systems in the hernia repair market in both the United States and
certain international countries. In November 1996, the Company terminated its
distribution agreement with USSC.
 
    In December 1996, the Company entered into a five year OEM supply agreement
(the "Expanded EES Agreement") with EES, pursuant to which GSI granted EES
worldwide sales and marketing rights to sell the Spacemaker-TM- Balloon
Dissection Systems in the laparoscopic hernia repair and urinary stress
incontinence ("USI") markets. The Expanded EES Agreement supersedes the June
1996 licensing agreement between the Company and EES. EES has begun selling
GSI's dissector for hernia repair. EES made guaranteed payments of $1.5 million,
$1.5 million and $1.9 million in the second, third and fourth quarters of fiscal
year 1997, which represents a combination of purchased products and margin
guarantees under the Expanded EES Agreement.
 
    Additional sales in the United States are currently made through a small
direct sales force. The Company currently sells its products (other than for
hernia and USI applications) in international markets through a limited number
of distributors, which resell to surgeons and hospitals. The Company plans to
increase its direct sales force in the United States and may seek to establish a
direct sales force in one or more other countries in the future. Any increase in
the Company's direct sales force will require significant expenditures and
additional management resources.
 
    To date, all of the sales to distributors and almost all of the sales by the
Company's direct sales force have been for use in hernia repair procedures.
While the Company has developed or is developing balloon dissection systems for
urinary stress incontinence, vascular, plastic surgery and orthopedic
applications, sales of products for hernia repair are expected to provide a
majority of the Company's revenues at least through fiscal 1998.
 
                                       22
<PAGE>
    The Company has acquired rights to a significant number of patents from
third parties, including rights that apply to the Company's current balloon
dissection systems. The Company has historically paid and is obligated to pay in
the future to such third parties royalties equal to 4% of sales of such
products, which payments are expected to exceed certain minimum royalty payments
due under the agreements with such parties. The Company has also acquired patent
rights under royalty-bearing agreements with respect to certain surgical
instruments, including the KnotMaker product and the balloon valve trocar. The
payment of such royalty amounts will have an adverse impact on the Company's
gross profit and results of operations.
 
    The Company has a limited history of operations and has experienced
significant operating losses since inception. The Company expects such operating
losses to continue at least through March 31, 1998. The Company's sales to date
have consisted primarily of balloon dissector systems for hernia repair. In
order to support increased levels of sales in the future and to augment its
long-term competitive position, including the development of balloon dissection
systems for other applications, the Company anticipates that it will be required
to make significant additional expenditures in sales and marketing and research
and development (including marketing-related clinical evaluations). In addition,
the Company has experienced higher administration expenses since its initial
public offering resulting from its obligations as a public reporting company.
 
    The Company anticipates that its results of operations may fluctuate for the
foreseeable future due to several factors, including fluctuations in purchases
of the Company's products by EES, EES's ability to achieve certain levels of
sales growth, the status of the Company's relationship with EES or other
partners, the Company's ability to develop and sell its line of cardiovascular
products, fluctuations in revenues among different product lines and markets,
the mix of sales among the distributors and the Company's direct sales force,
timing of new product introductions or transitions to new products, the margins
recognized from products for various surgical procedures, the progress of
marketing-related clinical evaluations, sales of competitive products and the
introduction of new products from competitors (including pricing pressures),
activities related to patents and patent approvals (including litigation) and
regulatory and third-party reimbursement matters, and the timing of research and
development expenses (including marketing-related clinical evaluations). In
addition, the Company's results of operations could be affected by the timing
and number of orders from distributors, expansion of the Company's distributor
network, the ability of the Company's distributors to effectively promote the
Company's products and the ability of the Company to quickly and cost
effectively increase its direct domestic sales force. The Company's limited
operating history makes accurate prediction of future operating results
difficult or impossible.
 
    The Company currently manufactures and ships product shortly after the
receipt of orders, and anticipates that it will do so in the future.
Accordingly, the Company has not developed a significant backlog and does not
anticipate that it will develop a material backlog in the future.
 
    In January 1997, the Company entered into a new facility lease in Cupertino,
California and relocated its headquarters and manufacturing operations to this
new location in April 1997. The new facility's lease comprises approximately
30,460 square feet, and the monthly rent is approximately $47,000.
 
                                       23
<PAGE>
                             RESULTS OF OPERATIONS
 
    The following table sets forth certain data from the Company's consolidated
statement of operations, expressed as a percentage of sales and guaranteed
payments:
 
AS A PERCENTAGE OF SALES AND GUARANTEED PAYMENTS:
 
<TABLE>
<CAPTION>
                                                                                         YEARS ENDED JUNE 30,
                                                                                    -------------------------------
                                                                                      1997       1996       1995
                                                                                    ---------  ---------  ---------
<S>                                                                                 <C>        <C>        <C>
Sales.............................................................................       45.5%      97.8%     100.0%
Guaranteed payments...............................................................       54.5        2.2     --
                                                                                    ---------  ---------  ---------
Total revenue.....................................................................      100.0      100.0      100.0
Cost of sales.....................................................................       26.5       45.0       51.8
                                                                                    ---------  ---------  ---------
Gross profit......................................................................       73.5       55.0       48.2
Operating Expenses:
  Research and development........................................................       24.8       21.2       40.0
  Selling, general and administrative.............................................       97.8       84.4      174.7
  Write-off of acquired in-process research and development.......................     --           45.3     --
                                                                                    ---------  ---------  ---------
Total operating expenses..........................................................      122.6      150.9      214.7
                                                                                    ---------  ---------  ---------
Operating loss....................................................................      (49.1)     (95.9)    (166.5)
Interest and other income (expense), net..........................................       28.2        7.3        0.3
                                                                                    ---------  ---------  ---------
Net loss..........................................................................      (20.9)%     (88.6)%    (166.2)%
                                                                                    ---------  ---------  ---------
                                                                                    ---------  ---------  ---------
</TABLE>
 
    YEARS ENDED JUNE 30, 1997 AND 1996
 
    SALES AND GUARANTEED PAYMENTS.  Sales and guaranteed payments totaled $9.0
million in fiscal 1997, an increase of $2.8 million or 46% over sales and
guaranteed payments of $6.2 million in fiscal 1996. This increase in revenues is
due to guaranteed payments of $4.9 million from EES during its first year as the
Company's new major distributor. These guaranteed payments will not continue to
be made in fiscal 1998. Product sales accounted for $4.1 million of total
revenues in fiscal 1997, which represents a 34% decrease from fiscal 1996. This
decrease reflects lower levels of sales in the hernia market due to competition
in this market and the transition to EES as its major distributor.
 
    COST OF SALES.  Cost of sales decreased 14% to $2.4 million in fiscal 1997
from $2.8 million in fiscal 1996. This decrease was related to the lower level
of product sales which the Company experienced. Direct product costs were 58% of
total product sales in fiscal 1997, an increase of 13% from fiscal 1996, as a
result of spreading certain fixed overhead expenses over a lower number of unit
sales in fiscal 1997.
 
    RESEARCH AND DEVELOPMENT EXPENSES.  Research and Development (R&D) expenses
for fiscal 1997 increased 71% to $2.2 million versus $1.3 million for the year
ending June 30, 1996 as the Company continued to develop products for its
expanding vascular market and developing orthopedic market. The Company expects
to continue to increase R&D expenses as it pursues additional market
opportunities.
 
    SELLING, GENERAL AND ADMINISTRATIVE EXPENSES.  Selling, General and
Administrative (SG&A) expenses were $8.8 million in fiscal year 1997, an
increase of 69% as compared to $5.2 million in fiscal 1996. This increase is
primarily related to expanding GSI's sales presence, both domestically and
internationally, and increased litigation expenses related to the Origin
Medsystem infringement case. GSI expects SG&A expenses to continue to increase
as the Company's level of sales increases and the Company continues to
administratively support growth.
 
                                       24
<PAGE>
    NET LOSS.  The Company had a net loss of approximately $1.9 million in
fiscal 1997 compared to a $5.5 million net loss in fiscal 1996 primarily due to
the effect of the guaranteed payments from EES and interest income.
 
    YEARS ENDED JUNE 30, 1996 AND 1995
 
    SALES.  Sales increased by 153% to $6.2 million in fiscal 1996 from $2.4
million in fiscal 1995. This increase was due primarily to the growth in unit
sales of the Spacemaker I platform to USSC for the hernia market and, to a
lesser extent, from sales of the Spacemaker II platform, which was introduced in
October 1995.
 
    COST OF SALES.  Cost of sales increased by 120% to $2.8 million in fiscal
1996 from $1.3 million in fiscal 1995, and decreased as a percentage of sales to
45% in the 1996 period from 52% in the 1995 period. This increase in absolute
dollars was primarily a result of the costs of additional manufacturing capacity
and personnel to support increased sales volume, which was offset by leveraging
certain fixed overhead expenses across a higher base of sales.
 
    RESEARCH AND DEVELOPMENT EXPENSES.  R&D expenses, which include expenditures
for marketing-related clinical evaluations and regulatory expenses, increased by
34% to $1.3 million in fiscal 1996 from $975,000 in fiscal 1995 and decreased as
a percentage of sales to 21% in fiscal 1996 from 40% in fiscal 1995 as a result
of higher sales volume in fiscal 1996.
 
    SELLING, GENERAL AND ADMINISTRATIVE EXPENSES.  SG&A expenses increased by
22% to $5.2 million in fiscal 1996 from $4.3 million in fiscal 1995. This
increase was primarily due to the growth of a direct sales force in the United
States and the growth in marketing and other personnel associated with the
Company's higher levels of operations.
 
    NET LOSS.  The Company had a net loss of $5.5 million in the year ended June
30, 1996 compared to a net loss of $4.1 million in the year ended June 30, 1995.
The 1996 net loss reflected a one-time expense related to the write-off of
acquired in-process research and development of $2.8 million, incurred in
connection with the Company's acquisition of Adjacent Surgical, Inc. in February
1996.
 
QUARTERLY RESULTS OF OPERATIONS
 
    The following tables set forth certain unaudited consolidated quarterly
results of operations for the fiscal year ended June 30, 1997, as well as such
data expressed as a percentage of the Company's total revenue. This information
has been derived from unaudited financial statements that, in the opinion of
management, reflect all adjustments (consisting only of normally recurring
adjustments) necessary to fairly present this information when read in
conjunction with the consolidated financial statements and notes
 
                                       25
<PAGE>
thereto included herein. The results of operations for any quarter are not
necessarily indicative of the results to be expected for any future period.
 
<TABLE>
<CAPTION>
                                                                            THREE MONTHS ENDED (IN THOUSANDS)
                                                                       --------------------------------------------
                                                                        6/30/97    3/31/97    12/31/96     9/30/96
                                                                       ---------  ---------  -----------  ---------
                                                                                       (UNAUDITED)
<S>                                                                    <C>        <C>        <C>          <C>
Sales................................................................  $     566  $     693   $     361   $   2,470
Guaranteed payments..................................................      1,916      1,480       1,500      --
                                                                       ---------  ---------  -----------  ---------
Total revenue........................................................      2,482      2,173       1,861       2,470
Cost of sales........................................................        636        397         359         993
                                                                       ---------  ---------  -----------  ---------
Gross profit.........................................................      1,846      1,776       1,502       1,477
                                                                       ---------  ---------  -----------  ---------
Operating Expenses:
  Research and development...........................................        704        581         484         462
  Selling, general and administrative................................      2,768      2,260       1,925       1,831
                                                                       ---------  ---------  -----------  ---------
Total operating expenses.............................................      3,472      2,841       2,409       2,293
                                                                       ---------  ---------  -----------  ---------
Operating loss.......................................................     (1,626)    (1,065)       (907)       (816)
Interest and other income (expense), net.............................        655        626         670         587
                                                                       ---------  ---------  -----------  ---------
Net loss.............................................................  $    (971) $    (439)  $    (237)  $    (229)
                                                                       ---------  ---------  -----------  ---------
                                                                       ---------  ---------  -----------  ---------
</TABLE>
 
<TABLE>
<CAPTION>
                                                                                    THREE MONTHS ENDED
                                                                       --------------------------------------------
                                                                        6/30/97    3/31/97    12/31/96     9/30/96
                                                                       ---------  ---------  -----------  ---------
<S>                                                                    <C>        <C>        <C>          <C>
Sales................................................................       22.8%      31.9%       19.4%      100.0%
Guaranteed payments..................................................       77.2       68.1        80.6      --
                                                                       ---------  ---------  -----------  ---------
Total revenue........................................................      100.0      100.0       100.0       100.0
Cost of sales........................................................       25.6       18.3        19.3        40.2
                                                                       ---------  ---------  -----------  ---------
Gross profit.........................................................       74.4       81.7        80.7        59.8
                                                                       ---------  ---------  -----------  ---------
 
Operating Expenses:
  Research and development...........................................       28.4       26.7        26.0        18.7
  Selling, general and administrative................................      111.5      104.0       103.4        74.1
                                                                       ---------  ---------  -----------  ---------
Total operating expenses.............................................      139.9      130.7       129.4        92.8
                                                                       ---------  ---------  -----------  ---------
Operating loss.......................................................      (65.5)     (49.0)      (48.7)      (33.0)
Interest and other income (expense), net.............................       26.4       28.8        36.0        23.7
                                                                       ---------  ---------  -----------  ---------
Net loss.............................................................      (39.1)%     (20.2)%      (12.7)%      (9.3)%
                                                                       ---------  ---------  -----------  ---------
                                                                       ---------  ---------  -----------  ---------
</TABLE>
 
    Results of the Company's operations may fluctuate significantly from quarter
to quarter and will depend on numerous factors, including (i) new product
introductions by the Company and its competitors and fluctuations in revenues
among different product lines and markets, (ii) purchases of the Company's
products by EES, (iii) the rate of adoption by surgeons of balloon dissection
technology in markets targeted by the Company, (iv) the sales efforts of the
Company's distributors, (v) the mix of sales among distributors and the
Company's direct sales force, (vi) timing of patent and regulatory approvals, if
any, (vii) timing and growth of operating expenditures, (viii) timing of
research and development expenses, including marketing-related clinical
evaluation expenditures, (ix) intellectual property litigation and (x) general
market conditions. In the past, the Company's sales were highly dependent upon
the marketing efforts and success of United States Surgical Corporation, which
was the Company's major distributor until the relationship was mutually
terminated in November 1996. In December 1996, the Company entered into the
Expanded Ethicon Agreement, pursuant to which GSI granted EES worldwide sales
and marketing
 
                                       26
<PAGE>
rights to sell the Spacemaker-TM- Balloon Dissection Systems in the laparoscopic
hernia repair and urinary stress incontinence (USI) markets. The Company's sales
in any period will be highly dependent upon the marketing efforts and success of
EES, which are not within the control of the Company. EES made approximately
$4.9 million in guaranteed payments to the Company in fiscal year 1997, which
constituted 54% of revenues for fiscal year 1997. EES is not obligated to make
any such guaranteed payments in future quarters. The Company anticipates that
sales to EES will fluctuate in the future. Failure by EES to achieve certain
levels of sales growth or a decline in purchases by EES could result in a
decline in sales and adversely affect the Company's operating results. In
addition, announcements or expected announcements by the Company, its
competitors or its distributor of new products, new technologies or pricing
changes could cause existing or potential customers of the Company to defer
purchases of the Company's existing products and could alter the mix of products
sold by the Company, which could have a material adverse effect on the Company's
business, financial condition and results of operations. There can be no
assurance that future products or product enhancements will be successfully
introduced or that such introductions will not adversely affect the demand for
existing products. As a result of these and other factors, the Company's
quarterly operating results have fluctuated in the past, and the Company expects
that such results may fluctuate in the future. Due to such quarterly
fluctuations in operating results, quarter-to-quarter comparisons of the
Company's operating results are not necessarily meaningful and should not be
relied upon as indicators of likely future performance or annual operating
results. In addition, the Company's limited operating history makes accurate
prediction of future operating results difficult or impossible to make. There
can be no assurance that in the future the Company will achieve sales growth or
become profitable on a quarterly or annual basis, if at all, or that its growth,
if any, will be consistent with predictions by securities analysts and
investors. In such event, the price of the Company's Common Stock would likely
be materially and adversely affected.
 
LIQUIDITY AND CAPITAL RESOURCES
 
    Since inception, the Company's cash expenditures have significantly exceeded
its sales, resulting in an accumulated deficit of $15.7 million at June 30,
1997. The Company has funded its operations primarily through the sale of equity
securities. From its inception through June 30, 1997 the Company raised
approximately $15.5 million through the private placement of equity securities
and approximately $46.9 million (net of underwriting discounts and commissions)
in an initial public offering.
 
    As of June 30, 1997 the Company's principal source of liquidity consists of
cash, cash equivalents and short-term investments of $43.7 million. In addition,
the Company has a bank line of credit available for $1,500,000. As of June 30,
1997, the company has no amounts outstanding under this line. The Company also
has an equipment loan with a balance of approximately $352,000 under a previous
bank line of credit.
 
    The Company expects to incur substantial additional costs, including costs
related to increased sales and marketing activities, increased research and
development, expenditures in connection with seeking regulatory approvals and
conducting additional marketing-related clinical evaluations, capital equipment
and other costs associated with expansion of the Company's manufacturing
capabilities. The Company believes that its current cash balances and short-term
investments along with cash generated from the future sales of products will be
sufficient to meet the Company's operating and capital requirements through
calendar 1998. The Company may seek additional equity or debt financing to
address its working capital needs or to provide funding for capital
expenditures. There can be no assurance that additional financing, if sought,
will be available on satisfactory terms or at all.
 
                                       27
<PAGE>
FACTORS AFFECTING FUTURE RESULTS
 
    The following discussion should be read in conjunction with the consolidated
financial statements and notes thereto included herein.
 
    The Company desires to take advantage of the "safe harbor" provisions of the
Private Securities Litigation Reform Act of 1995. Specifically the Company
wishes to alert readers that, except for the historical information contained in
this Annual Report on Form 10-K, the matters discussed herein are
forward-looking statements that are subject to certain risks and uncertainties
that could cause the actual results to differ materially from those projected.
Factors that could cause actual results to differ materially include, but are
not limited to, market demand for the Company's products, the Company's ability
to shift market focus successfully, fluctuations in revenues among different
product lines and markets, the timing and number of orders and shipments,
distribution efforts by Ethicon-Endo Surgery, Inc., EES's success in achieving
certain levels of sales growth, the Company's ability to manage growth and the
transition to EES and possible other new corporate partnering relationships, the
timely development and market acceptance of new products and surgical
procedures, the impact of competitive products and pricing, results of ongoing
litigation, the Company's ability to further expand into international markets,
approval of its products by government agencies such as the United States Food
and Drug Administration and other risks detailed below and included from time to
time in the Company's other SEC reports and press releases, copies of which are
available from the Company upon request. The Company assumes no obligation to
update any forward-looking statements contained herein. The factors listed below
under "Factors Affecting Future Results," as well as other factors, have in the
past affected, and could in the future affect, the Company's actual results and
could cause the Company's results for future periods to differ materially from
those expressed in any forward-looking statements contained in the following
discussion.
 
    LIMITED OPERATING HISTORY; ANTICIPATED FUTURE LOSSES.  The Company was
organized in April 1992 and began commercially shipping its first Spacemaker
products in September 1993. Accordingly, the Company has only a limited
operating history upon which an evaluation of the Company and its prospects can
be based. As of June 30, 1997, the Company had an accumulated deficit of $15.7
million. The Company's net operating losses for the fiscal years ending June 30,
1997, 1996 and 1995 were $1.9 million, $5.5 million and $4.1 million,
respectively. The Company expects to continue to incur operating losses on a
quarterly and annual basis through at least March 31, 1998. Due to the Company's
limited operating history and the recent transition to EES as its major
distributor, there can be no assurance of sales growth or profitability in the
future. The Company intends to increase its investments in research and
development, sales and marketing, marketing-related clinical evaluations and
related infrastructure. Due to the anticipated increases in the Company's
operating expenses, the Company's operating results will be adversely affected
if sales do not increase. The Company's prospects must be considered in light of
the risks, expenses and difficulties frequently encountered by companies in
their early stage of development, particularly companies in rapidly evolving
markets. To address these risks, the Company must respond to competitive
developments, continue to attract, retain and motivate qualified persons and
successfully commercialize products incorporating advanced technologies. There
can be no assurance that the Company will be successful in addressing such
risks. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and "Business--Company Strategy."
 
    DEPENDENCE UPON BALLOON DISSECTION PRODUCTS; RISK OF TECHNOLOGICAL
OBSOLESCENCE.  All of the Company's sales since inception have been derived from
sales of its balloon dissection products, with a substantial portion derived
from sales for hernia repair procedures. Failure of the Company to develop
successfully and commercialize balloon dissection products for applications
other than hernia repair could have a material adverse effect on the Company's
business, financial condition and results of operations. The success of the
Company's products depends on the market acceptance of and demand for the
Company's products and related procedures, the nature of the technological
advances inherent in the product designs, reduction in patient trauma or other
benefits provided by such products, results of
 
                                       28
<PAGE>
marketing-related clinical evaluations, continued adoption of minimally invasive
surgery ("MIS") procedures by surgeons, reimbursement for the Company's products
by health care payors and the Company's receipt of regulatory approvals. There
can be no assurance that the Company's products will have the required technical
characteristics, that the Company's products will provide adequate patient
benefits, that marketing-related clinical evaluations results will be favorable,
that surgeons will continue to adopt MIS procedures, that recently-introduced
products or future products of the Company or related procedures will gain
market acceptance, or that required regulatory approvals will be obtained. The
failure to achieve any of the foregoing could have a material adverse effect on
the Company's business, financial condition and results of operations. To the
extent demand for the Company's balloon dissection systems for hernia repair
declines and the Company's newly-introduced products are not commercially
accepted or its existing products are not developed for new procedures, there
could be a material adverse effect on the Company's business, financial
condition and results of operations. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations" and "Business--Applications of
Balloon Dissection Technology," and "--Additional Products Under Development."
 
    DEPENDENCE ON KEY DISTRIBUTORS.  In December 1996, the Company entered into
a five year OEM supply agreement (the "Expanded EES Agreement") with EES,
pursuant to which GSI granted EES worldwide sales and marketing rights to sell
the Spacemaker-TM- Balloon Dissection Systems in the laparoscopic hernia repair
and urinary stress incontinence ("USI") markets. The Expanded EES Agreement
supersedes the June 1996 licensing agreement between the Company and EES. EES
made guaranteed payments of $1.5 million, $1.5 million, and $1.9 million in the
second, third and fourth quarters of fiscal 1997, respectively, under the
Expanded EES Agreement. EES is not obligated to make any further guaranteed
payments under the agreement. There can be no assurance that EES's
manufacturing, marketing or distribution efforts will be successful. EES's
failure to achieve certain levels of sales growth or product orders could have a
material adverse effect on the Company's business, financial condition and
results of operations. Although the Company intends to establish additional
distributorships in the United States for products in areas other than hernia
repair and urinary stress incontinence, there can be no assurance that such
efforts will be successful. Failure to add additional distributors to its
distribution network in the United States could have a material adverse effect
on the Company's business, financial condition and results of operations.
 
    The Company's products are currently sold internationally to general
surgeons and specialists through EES and independent distributors in Europe,
Asia, Latin America and the Middle East. In June 1997, GSI entered into an
exclusive agreement with Japan Lifeline to market and distribute in Japan GSI's
balloon dissection systems for use in vascular procedures. Japan Lifeline is
expected to begin distribution of the GSI balloon dissection systems following
receipt of the Japanese Ministry of Health and Welfare approval, which the
Company expects will occur in late 1997 or early 1998.
 
    To date, substantially all of the Company's international sales for hernia
repair procedures have been made through Autosuture, a USSC affiliate, under the
same terms and conditions as the Company's agreement with USSC, which was
terminated in November 1996. Thus, the Company does not anticipate that it will
have future sales through Autosuture. Although EES has taken over as the
Company's international distributor, there can be no assurance that EES's
efforts in international distribution will be successful.
 
    LIMITED MARKETING AND DIRECT SALES EXPERIENCE.  The Company has only limited
experience marketing and selling its products through its direct sales force,
and has sold its products in commercial quantities through its direct sales
force to the hernia market and, to a lesser degree, to the vascular and cosmetic
and reconstructive surgery market. Establishing marketing and sales capability
sufficient to support sales in commercial quantities for the cardiovascular
market targeted by the Company will require significant resources, and there can
be no assurance that the Company will be able to recruit and retain additional
qualified marketing or sales personnel, or that future sales efforts of the
Company will be successful. In markets other than cardiovascular, the Company
intends to establish partnership relationships with
 
                                       29
<PAGE>
additional distribution partners, and there can be no assurance that the Company
will be successful in establishing such partnership relationships on
commercially reasonable terms, if at all. The failure to establish and maintain
an effective distribution channel for the Company's products, or establish and
retain qualified and effective sales personnel to support commercial sales of
the Company's products, could have a material adverse effect on the Company's
business, financial condition and results of operations. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations," and
"Business--Marketing, Sales and Distribution."
 
    UNCERTAINTY OF MARKET ACCEPTANCE; NO ASSURANCE OF CLINICAL ADVANTAGE.  The
Company's success is substantially dependent upon the success of its
Spacemaker-TM- balloon dissection products. The Company believes that market
acceptance of the Company's products will depend on the Company's ability to
provide evidence to the medical community of the safety, efficacy, clinical
advantage and cost-effectiveness of its products and the procedures in which
these products are intended to be used. Market acceptance is also dependent on
the adoption of laparoscopic techniques generally and the conversion of
non-balloon dissection techniques to balloon dissection techniques specifically.
To date, the Company's products have only been used to treat a limited number of
patients and the Company has limited long-term outcomes data. If the Company is
not able to demonstrate consistent clinical benefits resulting from the use of
its products (including reduced procedure time, reduced patient trauma and lower
costs), the Company's business, financial condition and results of operations
could be materially and adversely affected.
 
    The Company further believes that the ability of health care providers to
obtain adequate reimbursement for procedures using the Company's Spacemaker
balloon dissector products and related instruments will be critical to market
acceptance of the Company's products. Although the Company believes that
procedures using its balloon dissection products currently may be reimbursed in
the United States under certain existing procedure codes, there can be no
assurance that such procedure codes will remain available or that reimbursement
under these codes will be adequate. The Company has limited experience in
obtaining third-party reimbursement, and the failure to obtain reimbursement for
some or all of its products could have a material adverse effect on the
Company's business, financial condition and results of operations. See
"Business--Third-Party Reimbursement."
 
    The Company introduced its balloon dissectors in late 1993 and to date there
has been relatively little education among surgeons about the benefits of
balloon dissection technology. Furthermore, because of the novelty of balloon
dissection procedures, many surgeons and surgeons' assistants have not developed
the requisite skills to perform balloon dissection procedures. To the extent
that laparoscopic techniques are adopted slowly, that balloon dissectors are
incorporated into laparoscopic techniques less often or that surgeons are
unwilling or unable to develop the skills necessary to utilize balloon
dissectors, the Company's business, financial condition and results of
operations could be materially adversely affected. See "Business--Marketing,
Sales and Distribution."
 
    FLUCTUATIONS IN QUARTERLY RESULTS.  Results of the Company's operations may
fluctuate significantly from quarter to quarter and will depend on numerous
factors, including (i) new product introductions by the Company and its
competitors and fluctuations in revenues among different product lines and
markets, (ii) purchases of the Company's products by EES, (iii) the rate of
adoption by surgeons of balloon dissection technology in markets targeted by the
Company, (iv) the sales efforts of the Company's distributors, (v) the mix of
sales among distributors and the Company's direct sales force, (vi) timing of
patent and regulatory approvals, if any, (vii) timing and growth of operating
expenditures, (viii) timing of research and development expenses, including
marketing-related clinical evaluation expenditures, (ix) intellectual property
litigation and (x) general market conditions. In the past, the Company's sales
were highly dependent upon the marketing efforts and success of United States
Surgical Corporation, which was the Company's major distributor until the
relationship was mutually terminated in November 1996. In December 1996, the
Company entered into the Expanded Ethicon Agreement, pursuant to which GSI
granted EES worldwide sales and marketing rights to sell the Spacemaker-TM-
Balloon Dissection Systems in the laparoscopic hernia repair and urinary stress
incontinence markets. The Company's sales in
 
                                       30
<PAGE>
any period will be highly dependent upon the marketing efforts and success of
EES, which are not within the control of the Company. EES made approximately
$4.9 million in guaranteed payments to the Company in fiscal year 1997, which
constituted 54% of revenues for fiscal year 1997. EES is not obligated to make
any such guaranteed payments in future quarters. The Company anticipates that
sales to EES will fluctuate in the future. Failure by EES to achieve certain
levels of sales growth or purchases could adversely affect the Company's
operating results. In addition, announcements or expected announcements by the
Company, its competitors or its distributor of new products, new technologies or
pricing changes could cause existing or potential customers of the Company to
defer purchases of the Company's existing products and could alter the mix of
products sold by the Company, which could have a material adverse effect on the
Company's business, financial condition and results of operations. There can be
no assurance that future products or product enhancements will be successfully
introduced or that such introductions will not adversely affect the demand for
existing products. As a result of these and other factors, the Company's
quarterly operating results have fluctuated in the past, and the Company expects
that such results may fluctuate in the future. Due to such quarterly
fluctuations in operating results, quarter-to-quarter comparisons of the
Company's operating results are not necessarily meaningful and should not be
relied upon as indicators of likely future performance or annual operating
results. In addition, the Company's limited operating history makes accurate
prediction of future operating results difficult or impossible to make. There
can be no assurance that in the future the Company will achieve sales growth or
become profitable on a quarterly or annual basis, if at all, or that its growth,
if any, will be consistent with predictions by securities analysts and
investors. In such event, the price of the Company's Common Stock would likely
be materially and adversely affected. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations."
 
    RELIANCE ON PATENTS AND PROPRIETARY TECHNOLOGY.  The Company's success will
depend on its ability to obtain patent protection for its products and
processes, to preserve its trade secrets and proprietary technology and to
operate without infringing upon the patents or proprietary rights of third
parties.
 
    In May 1996, the Guidant Corporation unit of Origin MedSystems, Inc.
("Origin") filed an action against GSI in the U.S. District Court for the
Northern District of California, alleging patent infringement of its patent
entitled "Apparatus and Method for Peritoneal Retraction." GSI subsequently
filed an action against Origin in the U.S. District Court for the Northern
District of California alleging patent infringement of its patent for a method
of tissue plane dissection using balloon systems. In addition, on September 26,
1997, the Company filed another action against Origin alleging patent
infringement of its patent for a method of serial inflation of tissue
dissectors. A decision against the Company in any of these actions could have a
material adverse effect on the Company's business, financial condition or
results of operations.
 
    One of the patent applications filed by the Company, which is directed to a
surgical method using balloon dissection technology, has been placed in
interference with a patent application filed by Origin Medsystems, Inc.
("Origin"), a competitor of the Company. The Company believes that the inventor
named in its patent application was the first to invent this subject matter, and
has asserted that the Origin patent application was filed after a disclosure
made by such inventor to employees of Origin. Origin takes a contrary position.
This interference is presently pending in the United States Patent and Trademark
Office ("USPTO") and, as permitted by the rules of the USPTO, has been referred
to an arbitrator for completion of the interference proceeding. A decision is
not expected in this interference proceeding until 1998. Failure of the Company
to prevail in such interference proceeding would have a material adverse effect
on the Company's business, financial condition and results of operations.
 
    Patent interference or infringement involves complex legal and factual
issues and is highly uncertain, and there can be no assurance that any
conclusion reached by the Company regarding patent interference or infringement
will be consistent with the resolution of such issue by a court. In the event
the Company's products are found to infringe patents held by competitors, there
can be no assurance that the Company will be able to modify successfully its
products to avoid infringement, or that any modified products will be
 
                                       31
<PAGE>
commercially successful. Failure in such event to either develop a commercially
successful alternative or obtain a license to such patent on commercially
reasonable terms would have a material adverse effect on the Company's business,
financial condition and results of operations. As discussed above, the Company
is defending itself, and may in the future have to defend itself, in court
against allegations of infringement of third-party patents. Patent litigation is
expensive, requires extensive management time, and could subject the Company to
significant liabilities, require disputed rights to be licensed from third
parties or require the Company to cease selling its products.
 
    The validity and breadth of claims in medical technology patents involve
complex legal and factual questions and, therefore, may be highly uncertain. No
assurance can be given that any patents based on pending patent applications or
any future patent applications will be issued, that the scope of any patent
protection will exclude competitors or provide competitive advantages to the
Company, that any of the Company's patents or patents to which it has licensed
rights will be held valid under current challenges or if subsequently challenged
or that persons or entities in addition to Origin will not claim rights in or
ownership of the patents and other proprietary rights held or licensed by the
Company or that the Company's existing patents will cover the Company's future
products. Furthermore, there can be no assurance that others have not developed
or will not develop similar products, duplicate any of the Company's products or
design around any patents issued to or licensed by the Company or that may be
issued in the future to the Company. Since patent applications in the United
States are maintained in secrecy until patents issue, the Company also cannot be
certain that others did not first file applications for inventions covered by
the Company's pending patent applications, nor can the Company be certain that
it will not infringe any patents that may issue to others on such applications.
 
    Legislation has recently been enacted in Congress, the effect of which is to
immunize physicians and their employers from liability for patent infringement
for alleged infringement of patent claims directed to medical procedures.
 
    The patent laws of European and certain other foreign countries generally do
not allow for the issuance of patents for methods of surgery on the human body.
Accordingly, the ability of the Company to gain patent protection for its
methods of tissue dissection will be significantly limited. As a result, there
can be no assurance that the Company will be able to develop a patent portfolio
in Europe or that the scope of any patent protection will provide competitive
advantages to the Company. See "Business--Patents and Proprietary Rights."
 
    ROYALTY PAYMENT OBLIGATIONS.  The Company has acquired rights to patents
from third parties, including rights that apply to the Company's current balloon
dissection systems. The Company has historically paid and is obligated to pay in
the future to such third parties royalties equal to 4% of sales of such
products, which payments are expected to exceed minimum royalty payments due
under agreements with such parties. The Company also has acquired patent rights
under royalty-bearing agreements with respect to certain surgical instruments,
including the KnotMaker product and the balloon valve trocar. The payment of
such royalty amounts will have an adverse impact on the Company's gross profit
and other results of operations. There can be no assurance that the Company will
be able to continue to satisfy such royalty payment obligations in the future,
and a failure to do so could have a material adverse effect on the Company's
business, financial condition and results of operations.
 
    EARLY STAGE OF DEVELOPMENT AND COMMERCIALIZATION; NO ASSURANCE OF ABILITY TO
MANAGE GROWTH.  The Company began commercial sales of its balloon dissection
products in September 1993 and, as a result, has limited experience in
manufacturing, marketing and selling its products commercially. In January 1997
the Company entered into a real estate lease and has relocated its headquarters
and manufacturing operations in April 1997 to this new facility. In addition,
the Company has experienced rapid growth in the number of its employees, the
number of products under development, the number and amount of products
manufactured, and the geographic scope of its sales. In order to augment its
long-term competitive position, the Company anticipates that it will be required
to make significant additional expenditures in research and
 
                                       32
<PAGE>
development and sales and marketing. The Company's inability to manage its
growth effectively could have a material adverse effect on the Company's
business, financial condition and results of operations.
 
    COMPETITION; UNCERTAINTY OF TECHNOLOGICAL CHANGE.  Competition in the market
for medical devices used in tissue dissection surgical procedures is intense and
is expected to increase. The Company competes primarily with other producers of
MIS tissue dissection instruments. Origin, a subsidiary of Guidant Corporation,
and others currently compete against the Company in the development, production
and marketing of MIS tissue dissection instruments and tissue dissection
technology. To the extent that surgeons elect to use open surgical procedures
rather than MIS, the Company also competes with producers of tissue dissection
instruments used in open surgical procedures, such as blunt dissectors or
graspers. A number of companies currently compete against the Company in the
development, production and marketing of tissue dissection instruments and
technology for open surgical procedures. In addition, the Company indirectly
competes with producers of therapeutic drugs, when such drugs are used as an
alternative to surgery. Many of the Company's competitors have substantially
greater capital resources, name recognition, expertise in research and
development, manufacturing and marketing and obtaining regulatory approvals.
There can be no assurance that the Company's competitors will not succeed in
developing balloon dissectors or competing technologies that are more effective
than products marketed by the Company or that render the Company's technology
obsolete. Additionally, even if the Company's products provide performance
comparable to competing products or procedures, there can be no assurance that
the Company will be able to obtain necessary regulatory approvals or compete
against competitors in terms of price, manufacturing, marketing and sales.
 
    Many of the alternative treatments for medical indications that can be
treated by balloon dissection products and laparoscopic surgery are widely
accepted in the medical community and have a long history of use. In addition,
technological advances with other therapies could make such other therapies more
effective or cost-effective than balloon dissectors and minimally invasive
surgery, and could render the Company's technology non-competitive or obsolete.
There can be no assurance that surgeons will use MIS to replace or supplement
established treatments or that MIS will remain competitive with current or
future treatments. The failure of surgeons to adopt MIS could have a material
adverse effect on the Company's business, financial condition and results of
operations.
 
    In addition to the Company's development of its balloon dissection systems,
the Company has also developed surgical instruments for use in MIS. There can be
no assurance that the Company's surgical instruments will successfully compete
with those manufactured by other producers of such surgical instruments. The
failure to achieve commercial market acceptance of such surgical instruments
could have a material adverse effect on the Company's business, financial
condition and results of operations. See "Business--Competition."
 
    UNCERTAIN AVAILABILITY OF THIRD-PARTY REIMBURSEMENT.  The Company's success
will depend upon the ability of surgeons to obtain satisfactory reimbursement
from healthcare payors for the Company's products. In the United States,
hospitals, physicians and other healthcare providers that purchase medical
devices generally rely on third-party payors, such as private health insurance
plans, to reimburse all or part of the costs associated with the treatment of
patients. Reimbursement in the United States for the Company's balloon
dissection products is currently available from most third-party payors,
including most major private health care insurance plans and Medicaid, under
existing surgical procedure codes. The Company does not expect that third-party
reimbursement in the United States will be available for use of its other
products unless and until clearance or approval is received from the federal
Food and Drug Administration (the "FDA"). If FDA clearance or approval is
received, third-party reimbursement for these products will depend upon
decisions by individual health maintenance organizations, private insurers and
other payors. Many payors, including the federal Medicare program, pay a preset
amount for the surgical facility component of a surgical procedure. This amount
typically includes medical devices such as the Company's. Thus, the surgical
facility or surgeon may not recover the added cost of the Company's products. In
addition, managed care payors often limit coverage to surgical devices on a
preapproved list
 
                                       33
<PAGE>
or obtained from an exclusive source. If the Company's products are not on the
list or are not available from the exclusive source, the facility or surgeon
will need to obtain an exception from the payor or the patient will be required
to pay for some or all of the cost of the Company's product. The Company
believes that procedures using its balloon dissection products currently may be
reimbursed in the United States under certain existing procedure codes. However,
there can be no assurance that such procedure codes will remain available or
that the reimbursement under these codes will be adequate. Given the efforts to
control and decrease health care costs in recent years, there can be no
assurance that any reimbursement will be sufficient to permit the Company to
increase revenues or achieve or maintain profitability. The unavailability of
third-party or other adequate reimbursement could have a material adverse effect
on the Company's business, financial condition and results of operations.
 
    Reimbursement systems in international markets vary significantly by
country, and by region within some countries, and reimbursement approvals must
be obtained on a country-by-country basis. Many international markets have
government-managed health care systems that govern reimbursement for new devices
and procedures. In most markets, there are private insurance systems as well as
government-managed systems. Large-scale market acceptance of the Company's
balloon dissection systems and other products will depend on the availability
and level of reimbursement in international markets targeted by the Company.
Currently, the Company has been informed by its international distributors that
the balloon dissectors have been approved for reimbursement in many of the
countries in which the Company markets its products. Obtaining reimbursement
approvals can require 12 to 18 months or longer. There can be no assurance that
the Company will obtain reimbursement in any country within a particular time,
for a particular amount, or at all. Failure to obtain such approvals could have
a material adverse effect on the Company's business, financial condition and
results of operations.
 
    Regardless of the type of reimbursement system, the Company believes that
surgeon advocacy of its products will be required to obtain reimbursement.
Availability of reimbursement will depend on the clinical efficacy of the
procedure and the utility and cost of the Company's products. There can be no
assurance that surgeons will support and advocate reimbursement for use of the
Company's systems for all applications intended by the Company. Failure by
surgeons, hospitals and other users of the Company's products to obtain
sufficient reimbursement from health care payors or adverse changes in
government and private third-party payors' policies toward reimbursement for
procedures employing the Company's products could have a material adverse effect
on the Company's business, financial condition and results of operations. See
"Business--Third-Party Reimbursement."
 
    GOVERNMENT REGULATION.  The Company's Spacemaker balloon dissection systems
and other products are subject to extensive and rigorous regulation by the FDA
and, to varying degrees, by state and foreign regulatory agencies. Under the
federal Food, Drug, and Cosmetic Act, the FDA regulates the clinical testing,
manufacture, labeling, packaging, marketing, distribution and record keeping for
medical devices, in order to ensure that medical devices distributed in the
United States are safe and effective for their intended use. Prior to
commercialization, a medical device generally must receive FDA and foreign
regulatory clearance or approval, which can be an expensive, lengthy and
uncertain process. The Company is also subject to routine inspection by the FDA
and state agencies, such as the California Department of Health Services
("CDHS"), for compliance with Good Manufacturing Practice requirements, Medical
Device Reporting requirements and other applicable regulations. Noncompliance
with applicable requirements can result in warning letters, import detentions,
fines, civil penalties, injunctions, suspensions or losses of regulatory
approvals, recall or seizure of products, operating restrictions, refusal of the
government to approve product export applications or allow the Company to enter
into supply contracts, and criminal prosecution. Delays in receipt of, or
failure to obtain, regulatory clearances and approvals, if obtained, or any
failure to comply with regulatory requirements could have a material adverse
effect on the Company's business, financial condition and results of operations.
 
    Labeling and promotional activities are subject to scrutiny by the FDA and,
in certain circumstances, by the Federal Trade Commission. Current FDA
enforcement policy prohibits the marketing of approved
 
                                       34
<PAGE>
medical devices for unapproved uses. The Spacemaker I platform, Spacemaker II
platform, Spacemaker Plastics platform, Spacemaker SAPHTrak platform and
KnotMaker product each have received 510(k) clearance for use during general,
endoscopic, laparoscopic or cosmetic and reconstructive surgery, either when
tissue dissection is required or, with respect to the KnotMaker product, when a
surgical knot for suturing is required. The Company has promoted these products
for surgical applications (E.G., hernia repair, subfascial endoscopic perforator
surgery and breast augmentation and reconstruction), and may in the future
promote these products for the dissection or knotmaking required for additional
selected applications (E.G., treatment of stress urinary incontinence, saphenous
vein harvesting and a variety of orthopedic procedures such as anterior spinal
fusion). For any medical device cleared through the 510(k) process,
modifications or enhancements that could significantly affect the safety or
effectiveness of the device or that constitute a major change to the intended
use of the device will require a new 510(k) submission. The Company has made
modifications to its products which the Company believes do not affect the
safety or effectiveness of the device or constitute a major change to the
intended use and therefore do not require the submission of new 510(k) notices.
There can be no assurance, however, that the FDA will agree with any of the
Company's determinations not to submit a new 510(k) notice for any of these
changes or will not require the Company to submit a new 510(k) notice for any of
the changes made to the product. If such additional 510(k) clearances are
required, there can be no assurance that the Company will obtain them on a
timely basis, if at all, and delays in receipt of or failure to receive such
approvals could have a material adverse effect on the Company's business,
financial condition and results of operations. If the FDA requires the Company
to submit a new 510(k) notice for any product modification, the Company may be
prohibited from marketing the modified product until the 510(k) notice is
cleared by the FDA.
 
    Sales of medical devices outside of the United States are subject to foreign
regulatory requirements that vary widely from country to country. The Company
currently relies on its international distributors for the receipt of premarket
approvals and compliance with clinical trial requirements in those countries
that require them, and it expects to continue to rely on distributors in those
countries where the Company continues to use distributors. In the event that the
Company's international distributors fail to obtain or maintain premarket
approvals or compliance in foreign countries where such approvals or compliance
are required, the Company may be required to cause the applicable distributor to
file revised governmental notifications, cease commercial sales of its products
in the applicable countries or otherwise act so as to stop any ongoing
noncompliance in such countries. Any enforcement action by regulatory
authorities with respect to past or any future regulatory noncompliance could
have a material adverse effect on the Company's business, financial condition
and results of operations.
 
    In order to continue selling its products within the European Economic Area
following June 14, 1998, the Company will be required to achieve compliance with
the requirements of the Medical Devices Directive and to affix CE marking on its
products to attest to such compliance. The Company is currently in the process
of seeking CE marking for the products it intends to market internationally and
expects to receive this marking in the second quarter of fiscal 1998 (ending
December 31, 1997). Failure by the Company to comply with CE marking
requirements by June 1998 would mean that the Company would be unable to sell
its products in the European Economic Area unless and until compliance was
achieved, which could have a material adverse effect upon the Company's
business, financial condition and results of operations. See
"Business--Government Regulation."
 
    LIMITED MANUFACTURING EXPERIENCE.  The Company has only limited experience
in manufacturing its products in commercial quantities. The Company intends to
scale up its production of new products and to increase its manufacturing
capacity for existing and new products. However, manufacturers often encounter
difficulties in scaling up production of new products, including problems
involving production yields, quality control and assurance, component supply and
shortages of qualified personnel. Difficulties experienced by the Company in
manufacturing scale-up and manufacturing difficulties (including, in the event
of low demand, overcapacity) could have a material adverse effect on its
business, financial condition and results of operations. There can be no
assurance that the Company will be successful in scaling up or that it will not
experience manufacturing difficulties or product recalls in the future.
 
                                       35
<PAGE>
    In January 1997, the Company entered into a new facility lease in Cupertino,
California, and relocated its headquarters and manufacturing operations to this
new location in April 1997. The new facilities lease comprises approximately
30,460 square feet, and the monthly rent is approximately $47,000.
 
    DEPENDENCE ON SINGLE SOURCE SUPPLIERS; LACK OF CONTRACTUAL
ARRANGEMENTS.  The Company currently relies upon single source suppliers for
several components of its balloon dissection products, and in most cases there
are no formal supply contracts. There can be no assurance that the component
materials obtained from single source suppliers will continue to be available in
adequate quantities or, if required, that the Company will be able to locate
alternative sources of such component materials on a timely basis to market its
products, if at all. In addition, there can be no assurance that the single
source suppliers will meet the Company's future requirements for timely delivery
of products of sufficient quality and quantity. The failure to obtain sufficient
quantities and qualities of such component materials, or the loss of any of the
Company's single source suppliers, could cause a delay in GSI's ability to
fulfill orders while it attempts to identify and certify a replacement supplier,
if any, and could have a material adverse effect on the Company's business,
financial condition and results of operations. See "Business--Manufacturing."
 
    PRODUCT LIABILITY RISK AND PRODUCT RECALL; LIMITED INSURANCE COVERAGE.  The
Company's business exposes it to potential product liability risks or product
recalls that are inherent in the design, development, manufacture and marketing
of medical devices, in the event the use of the Company's products cause or are
alleged to have caused adverse effects on a patient or such products are
believed to be defective. The Company's products are designed to be used in
certain procedures where there is a high risk of serious injury or death. Such
risks will exist even with respect to those products that have received, or may
in the future receive, regulatory clearance for commercial sale. As a result,
there can be no assurance that the Company's product liability insurance is
adequate or that such insurance coverage will continue to be available on
commercially reasonable terms or at all. Particularly given the lack of data
regarding the long-term results of the use of balloon dissection products, there
can be no assurance the Company will avoid significant product liability claims.
Consequently, a product liability claim or other claim with respect to uninsured
or underinsured liabilities could have a material adverse effect on the
Company's business, financial condition and results of operations. See
"Business--Product Liability and Insurance."
 
    RISKS ASSOCIATED WITH INTERNATIONAL SALES.  Sales outside of the United
States accounted for approximately .5% and 4% of the Company's sales in fiscal
1997 and 1996, respectively. The Company expects that international sales will
represent an increasing portion of revenue in the future. The Company intends to
continue to expand its sales outside of the United States and to enter
additional international markets, which will require significant management
attention and financial resources and subject the Company further to the risks
of selling internationally. These risks include unexpected changes in regulatory
requirements, tariffs and other barriers and restrictions, reduced protection
for intellectual property rights, and the burdens of complying with a variety of
foreign laws. In addition, because all of the Company's sales are denominated in
U.S. dollars, fluctuations in the U.S. dollar could increase the price in local
currencies of the Company's products in foreign markets and make the Company's
products relatively more expensive than competitors' products that are
denominated in local currencies. There can be no assurance that regulatory,
currency and other factors will not adversely impact the Company's operations in
the future or require the Company to modify its current business practices. See
"Business--Marketing, Sales and Distribution."
 
    DEPENDENCE ON MANAGEMENT AND OTHER KEY PERSONNEL.  The Company is dependent
upon a limited number of key management and technical personnel. The loss of the
services of one or more of such key employees could have a material adverse
effect on the Company's business, financial condition, and results of
operations. In addition, the Company's success will be dependent upon its
ability to attract and retain additional highly qualified sales, management,
manufacturing and research and development personnel. The Company faces intense
competition in its recruiting activities and there can be no assurance that the
Company will be able to attract and/or retain qualified personnel.
 
                                       36
<PAGE>
    POTENTIAL VOLATILITY OF STOCK PRICE.  The market prices of the Company's
common stock and the stock of many other publicly held medical device companies
have in the past been, and can in the future be expected to be, especially
volatile. Announcements regarding competitive developments, product sales,
clinical marketing trial results, release of reports by securities analysts,
developments or disputes concerning patents or proprietary rights, regulatory
developments, changes in regulatory or medical reimbursement policies, economic
and other external factors, as well as period-to-period fluctuations in the
Company's financial results, may have a significant impact on the market price
of the Common Stock. In addition, the securities markets have from time to time
experienced significant price and volume fluctuations that are unrelated to the
operating performance of particular companies.
 
RECENT PRONOUNCEMENTS
 
    In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 128 (SFAS 128), EARNINGS PER SHARE, which
specifies the computation, presentation and disclosure requirements for earnings
per share. SFAS 128 supersedes Accounting Principles Board Opinion No. 15 and is
effective for financial statements issued for periods ending after December 15,
1997. SFAS 128 requires restatement of all prior-period earnings per share data
presented after the effective date. FAS 128 is not expected to have a material
impact on the Company's financial position, results of operations or cash flows.
 
    In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130 (SFAS 130), REPORTING COMPREHENSIVE
INCOME. This statement establishes requirements for disclosure of comprehensive
income and becomes effective for the Company for fiscal years beginning after
December 15, 1997, with reclassification of earlier financial statements for
comparative purposes. Comprehensive income generally represents all changes in
stockholders' equity except those resulting from investments or contributions by
stockholders. The Company is evaluating alternative formats for presenting this
information, but does not expect this pronouncement to materially impact the
Company's results of operations.
 
    In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131 (SFAS 131), DISCLOSURES ABOUT SEGMENTS OF
AN ENTERPRISE AND RELATED INFORMATION. This statement establishes standards for
disclosure about operating segments in annual financial statements and selected
information in interim financial reports. It also establishes standards for
related disclosures about products and services, geographic areas and major
customers. This statement supersedes Statement of Financial Accounting Standards
No. 14, FINANCIAL REPORTING FOR SEGMENTS OF A BUSINESS ENTERPRISE. The new
standard becomes effective for fiscal years beginning after December 15, 1997,
and requires that comparative information from earlier years be restated to
conform to the requirements of this standard. The Company is evaluating the
requirements of SFAS 131 and the effects, if any, on the Company's current
reporting and disclosures.
 
ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
 
    The Company's consolidated financial statements as of June 30, 1997 and 1996
and for each of the three years ending June 30, 1997, June 30, 1996, and June
30, 1995 are included in this Form 10-K starting at page 41.
 
ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANT ON ACCOUNTING AND
  FINANCIAL DISCLOSURE
 
    Not applicable.
 
                                       37
<PAGE>
                                    PART III
 
    Certain information required by Part III is omitted from this report because
the Company will file a definitive Proxy Statement within 120 days after the end
of its fiscal year pursuant to Regulation 14A (the "Proxy Statement") for its
Annual Meeting of Stockholders to be held November 10, 1997, and the information
included therein is incorporated herein by reference to the extent detailed
below.
 
ITEM 10.  DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
 
    The information regarding the Company's directors will be set forth under
the caption "Election of Directors--Nominees" in the Company's Proxy Statement
and is incorporated herein by reference. The Proxy Statement will be filed with
the Securities and Exchange Commission within 120 days after the end of the
Company's fiscal year.
 
ITEM 11.  EXECUTIVE COMPENSATION
 
    The information required by this item is incorporated by reference into this
Form 10-K from the information set forth under the caption "Compensation of
Executive Officers" in the Company's Proxy Statement.
 
ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
 
    The information required by this item is incorporated by reference into this
Form 10-K from the information set forth under the caption "Common Stock
Ownership of Certain Beneficial Owners and Management" in the Company's Proxy
Statement.
 
ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
 
    The information required by this item is incorporated by reference into this
Form 10-K from the information set forth under the caption "Certain
Relationships and Related Transactions" in the Company's Proxy Statement.
 
                                       38
<PAGE>
                                    PART IV
 
ITEM 14.  EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
 
<TABLE>
<CAPTION>
                                                                                                                         PAGE
                                                                                                                         -----
<S>        <C>        <C>                                                                                             <C>
(a)        (1)        Consolidated Financial Statements:
 
                      Report of Independent Accountants.............................................................          41
 
                      Consolidated Balance Sheets...................................................................          42
 
                      Consolidated Statements of Operations.........................................................          43
 
                      Consolidated Statements of Shareholders' Equity (Deficit).....................................          44
 
                      Consolidated Statements of Cash Flows.........................................................          45
 
                      Notes to Consolidated Financial Statements....................................................          47
 
           (2)        Financial Statement Schedules:
 
                      Independent Accountants' Report on Schedule...................................................         S-1
 
                      II-Valuation and Qualifying Accounts..........................................................         S-2
 
           All other schedules are omitted because they are not applicable or the required information is shown in
           the consolidated financial statements or notes thereto.
 
           (3)        Exhibits included herein (numbered in accordance with Item 601 of Regulation S-K)
</TABLE>
 
<TABLE>
<CAPTION>
    EXHIBIT
    NUMBER       DESCRIPTION
---------------  ----------------------------------------------------------------------------------------------
<C>              <S>
     3.2 (1)     Amended and Restated Articles of Incorporation of Company.
 
     3.4 (1)     By-laws of Company, as amended.
 
     4.2 (2)     Shareholder Rights Plan.
 
    10.1 (1)     Form of Indemnification Agreement.
 
    10.2 (1)     1992 Stock Option Plan and form of Agreement.
 
    10.3 (1)     1996 Employee Stock Purchase Plan and form of Subscription Agreement.
 
    10.4 (1)     1995 Directors' Stock Option Plan and form of Option Agreement.
 
    10.5 (1)     Third Amended and Restated Registration Rights Agreement among the Company and certain
                   security holders of the Company dated as of March 21, 1996.
 
    10.6 (1)     Commercial Security Agreement and Promissory Note dated as of December 15, 1994 between
                   Silicon Valley Bank and the Company.
 
    10.7 (1)     Sublease dated July 13, 1994, Sublease Amendment dated November 4, 1995 and Sublease Second
                   Amendment dated March 15, 1996 between the Company and CV Therapeutics, Inc.
 
    10.8 (1)(3)  Agreement and Plan of Reorganization dated as of October 1, 1995, by and among the Company,
                   General Surgical Acquisition Corporation and Adjacent Surgical, Inc.
 
    10.9 (1)     Merger Agreement dated February 12, 1996 by and among Adjacent Surgical, Inc., Thomas J.
                   Fogarty, Fogarty Engineering and the Company.
 
    10.10(1)(3)  Exclusive License Agreement dated as of February 12, 1996 by and among Adjacent Surgical,
                   Inc., Thomas J. Fogarty, Fogarty Engineering and the Company.
</TABLE>
 
                                       39
<PAGE>
<TABLE>
<CAPTION>
    EXHIBIT
    NUMBER       DESCRIPTION
---------------  ----------------------------------------------------------------------------------------------
<C>              <S>
    10.11(1)(3)  Assignment Agreement dated as of March 9, 1995 between Apogee Medical Products, Inc., and the
                   Company.
 
    10.12(1)(3)  Hernia Repair Device Agreement dated as of April 29, 1992 by and among Maciej Kieturakis,
                   Thomas J. Fogarty and the Registrant, as amended on April 18, 1995.
 
    10.14(1)     Professional Services Agreement dated June 16, 1992 between the Company and Thomas J. Fogarty.
 
    10.15(1)     Professional Services Agreement dated June 16, 1992 between the Company and Mark A. Wan.
 
    10.16(1)     Bill of Sale and Instrument of Assignment and Grantback License Agreement dated June 16, 1992
                   between the Company and Thomas J. Fogarty.
 
    10.17(1)     Bill of Sale and Instrument of Assignment dated June 16, 1992, between the Company and Mark
                   Wan.
 
    10.18(1)     Loan Modification Agreement dated as of March 25, 1996, by and between the Company and Silicon
                   Valley Bank.
 
    10.20(4)     OEM Supply Agreement (Expanded Field) dated December 20, 1996 between Ethicon Endo-Surgery,
                   Inc. and the Company.
 
    10.21(4)     Modification and Termination Agreement and Mutual Release dated November 12, 1996, between
                   United States Surgical Corporation and the Company.
 
    10.22(4)     Real Estate Lease between Berg & Berg Developers and the Company.
 
    11.1         Computation of Net Loss per share.
 
    22.1         Subsidiaries of Company.
 
    23.1         Consent of Coopers & Lybrand L.L.P., Independent Accountants.
 
    25.1         Power of Attorney (see p. 59).
 
    27.1         Financial Data Schedule.
</TABLE>
 
------------------------
 
(1) Incorporated by reference to identically numbered exhibits filed in response
    to Item 16(a), "Exhibits," of the Company's Registration Statement on Form
    S-1 and Amendments thereto (File No. 333-2774), which became effective on
    May 10, 1996.
 
(2) Incorporated by reference to exhibits filed in response to Item 2,
    "Exhibits," of the Company's Registration Statement on Form 8-A (File No.
    000-28448), filed with the Commission on May 13, 1997.
 
(3) Confidential treatment has been granted with regard to certain portions of
    this exhibit.
 
(4) Incorporated by reference to identically numbered exhibits filed in response
    to Item 6(a), "Exhibits," of the Company's Quarterly Report on Form 10-Q,
    filed with the Commission on February 14, 1997 (File no. 000-28448).
 
(B)  REPORTS ON FORM 8-K
 
    The Company filed no reports on form 8-K during the quarter ended June 30,
1997.
 
                                       40
<PAGE>
                       REPORT OF INDEPENDENT ACCOUNTANTS
 
To the Board of Directors and Shareholders
General Surgical Innovations, Inc. and Subsidiary:
 
    We have audited the accompanying consolidated balance sheets of General
Surgical Innovations, Inc. and Subsidiary as of June 30, 1997 and 1996, and the
related consolidated statements of operations, shareholders' equity and cash
flows for each of the three years in the period ended June 30, 1997. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on the financial statements based on our
audits.
 
    We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits 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 principals 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 financial statements referred to above present fairly,
in all material respects, the consolidated financial position of General
Surgical Innovations, Inc. and Subsidiary as of June 30, 1997 and 1996, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended June 30, 1997, in conformity with generally
accepted accounting principles.
 
                                          COOPERS & LYBRAND L.L.P.
 
San Jose, California
July 29, 1997
 
                                       41
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
                          CONSOLIDATED BALANCE SHEETS
                       (IN THOUSANDS, EXCEPT SHARE DATA)
 
<TABLE>
<CAPTION>
                                                                                                   JUNE 30,
                                                                                            ----------------------
                                                                                               1997        1996
                                                                                            ----------  ----------
<S>                                                                                         <C>         <C>
                                                      ASSETS
Current assets:
  Cash and cash equivalents...............................................................  $    7,900  $   28,339
  Available-for-sale securities...........................................................      35,831      21,451
  Accounts receivable, net of allowance for doubtful accounts of $47 in 1997 and $78 in
    1996..................................................................................       2,131         873
  Inventories.............................................................................       1,717         700
  Prepaid expenses and other current assets...............................................         971         438
                                                                                            ----------  ----------
    Total current assets..................................................................      48,550      51,801
Property and equipment, net...............................................................       2,251         702
Intangible and other assets, net..........................................................         261         264
                                                                                            ----------  ----------
      Total assets........................................................................  $   51,062  $   52,767
                                                                                            ----------  ----------
                                                                                            ----------  ----------
                                                   LIABILITIES
Current liabilities:
  Accounts payable........................................................................  $      504  $      614
  Accrued liabilities.....................................................................       1,044         892
  Bank borrowings.........................................................................         167         127
  Deferred revenue........................................................................          --         100
                                                                                            ----------  ----------
    Total current liabilities.............................................................       1,715       1,733
Bank borrowings, less current portion.....................................................         185         360
Other long-term liabilities...............................................................         175         200
                                                                                            ----------  ----------
      Total liabilities...................................................................       2,075       2,293
                                                                                            ----------  ----------
Commitments and Contingencies (Note 10)
                                               SHAREHOLDERS' EQUITY
Preferred stock, $.001 par value:
  Authorized: 2,000,000 shares; issued and outstanding: none
Common stock, $.001 par value:
  Authorized: 50,000,000 shares; issued and outstanding: 13,290,644 in 1997 and 13,132,903
    in 1996...............................................................................          13          13
Additional paid-in capital................................................................      65,089      64,885
Notes receivable from shareholders........................................................         (87)       (112)
Deferred compensation, net................................................................        (297)       (496)
Unrealized gain (loss) on available-for-sale securities...................................         (38)          1
Accumulated deficit.......................................................................     (15,693)    (13,817)
                                                                                            ----------  ----------
    Total shareholders' equity............................................................      48,987      50,474
                                                                                            ----------  ----------
      Total liabilities and shareholders' equity..........................................  $   51,062  $   52,767
                                                                                            ----------  ----------
                                                                                            ----------  ----------
</TABLE>
 
  The accompanying notes are an integral part of these consolidated financial
                                  statements.
 
                                       42
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
                     CONSOLIDATED STATEMENTS OF OPERATIONS
                (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
 
<TABLE>
<CAPTION>
                                                                                  YEARS ENDED JUNE 30,
                                                                        -----------------------------------------
                                                                            1997           1996          1995
                                                                        -------------  ------------  ------------
<S>                                                                     <C>            <C>           <C>
Sales.................................................................  $       4,090  $      6,165  $      2,437
Guaranteed payments...................................................          4,896            --            --
                                                                        -------------  ------------  ------------
Total revenue.........................................................          8,986         6,165         2,437
Cost of sales.........................................................          2,385         2,772         1,262
                                                                        -------------  ------------  ------------
  Gross profit........................................................          6,601         3,393         1,175
                                                                        -------------  ------------  ------------
Operating Expenses:
  Research and development............................................          2,231         1,306           975
  Sales and marketing.................................................          4,906         3,609         2,858
  General and administrative..........................................          3,878         1,595         1,400
  Write-off of acquired in-process research and development...........             --         2,791            --
                                                                        -------------  ------------  ------------
  Total operating expenses............................................         11,015         9,301         5,233
                                                                        -------------  ------------  ------------
    Operating loss....................................................         (4,414)       (5,908)       (4,058)
Interest income.......................................................          2,572           443            51
Interest expense......................................................            (47)          (48)          (29)
Other income (expense)................................................             13            48           (15)
                                                                        -------------  ------------  ------------
    Net loss..........................................................  $      (1,876) $     (5,465) $     (4,051)
                                                                        -------------  ------------  ------------
                                                                        -------------  ------------  ------------
Net loss per share....................................................  $       (0.14) $      (0.74) $      (0.62)
                                                                        -------------  ------------  ------------
                                                                        -------------  ------------  ------------
Shares used in computing net loss per share...........................     13,197,144     7,411,099     6,495,826
                                                                        -------------  ------------  ------------
                                                                        -------------  ------------  ------------
</TABLE>
 
  The accompanying notes are an integral part of these consolidated financial
                                  statements.
 
                                       43
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
           CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
 
                    FOR THE THREE YEARS ENDED JUNE 30, 1997
                                 (IN THOUSANDS)
<TABLE>
<CAPTION>
                                                                                                            UNREALIZED
                                                                                                           GAIN(LOSS) ON
                                       COMMON STOCK        ADDITIONAL        NOTES                          AVAILABLE-
                                 ------------------------    PAID-IN    RECEIVABLE FROM     DEFERRED         FOR-SALE
                                   SHARES       AMOUNT       CAPITAL     SHAREHOLDERS     COMPENSATION      SECURITIES
                                 -----------  -----------  -----------  ---------------  ---------------  ---------------
<S>                              <C>          <C>          <C>          <C>              <C>              <C>
Balance, June 30, 1994.........       3,255    $       3    $      90      $     (71)       $                $
  Issuance of common stock for
    cash.......................          28                         8
  Issuance of common stock for
    notes receivable...........         217                        63            (63)
  Exercise of stock options....          39                         6
  Repurchase of common stock in
    exchange for notes
    receivable.................         (49)                      (14)            14
  Net loss.....................
                                 -----------         ---   -----------         -----            -----              ---
Balances, June 30, 1995........       3,490            3          153           (120)              --               --
  Exercise of stock options....          33                        14
  Issuance of common stock.....         254                     1,388
  Issuance of common stock in
    connection with public
    offering at $15.00 per
    share, net of issuance
    costs of $4,810,000........       3,450            4       46,920
  Conversion of convertible
    redeemable preferred into
    common stock...............       5,834            6       15,541
  Conversion of note payable
    into common stock..........          72                       269
  Deferred compensation related
    to stock options...........                                   600                            (600)
  Amortization of deferred
    compensation...............                                                                   104
  Unrealized gain on available-
    for-sale securities........                                                                                      1
  Payment of shareholders notes
    receivable.................                                                    8
  Net loss.....................
                                 -----------         ---   -----------         -----            -----              ---
Balances, June 30, 1996........      13,133           13       64,885           (112)            (496)               1
  Exercise of stock options....         148                        67
  Exercise of stock options
    with notes receivable......          23                        11            (11)
  Issuance of common stock in
    connection with employee
    stock purchase plan........          18                       135
  Repurchase of common stock...         (31)                       (9)             9
  Amortization of deferred
    compensation...............                                                                   199
  Unrealized loss on
    available-for-sale
    securities.................                                                                                    (39)
  Payment of shareholder's
    notes receivable...........                                                   27
  Net loss.....................
                                 -----------         ---   -----------         -----            -----              ---
Balances, June 30, 1997........      13,291    $      13    $  65,089      $     (87)       $    (297)       $     (38)
                                 -----------         ---   -----------         -----            -----              ---
                                 -----------         ---   -----------         -----            -----              ---
 
<CAPTION>
 
                                 ACCUMULATED
                                   DEFICIT       TOTAL
                                 ------------  ---------
<S>                              <C>           <C>
Balance, June 30, 1994.........   $   (4,301)  $  (4,279)
  Issuance of common stock for
    cash.......................                        8
  Issuance of common stock for
    notes receivable...........
  Exercise of stock options....                        6
  Repurchase of common stock in
    exchange for notes
    receivable.................
  Net loss.....................       (4,051)     (4,051)
                                 ------------  ---------
Balances, June 30, 1995........       (8,352)     (8,316)
  Exercise of stock options....                       14
  Issuance of common stock.....                    1,388
  Issuance of common stock in
    connection with public
    offering at $15.00 per
    share, net of issuance
    costs of $4,810,000........                   46,924
  Conversion of convertible
    redeemable preferred into
    common stock...............                   15,547
  Conversion of note payable
    into common stock..........                      269
  Deferred compensation related
    to stock options...........
  Amortization of deferred
    compensation...............                      104
  Unrealized gain on available-
    for-sale securities........                        1
  Payment of shareholders notes
    receivable.................                        8
  Net loss.....................       (5,465)     (5,465)
                                 ------------  ---------
Balances, June 30, 1996........      (13,817)     50,474
  Exercise of stock options....                       67
  Exercise of stock options
    with notes receivable......
  Issuance of common stock in
    connection with employee
    stock purchase plan........                      135
  Repurchase of common stock...
  Amortization of deferred
    compensation...............                      199
  Unrealized loss on
    available-for-sale
    securities.................                      (39)
  Payment of shareholder's
    notes receivable...........                       27
  Net loss.....................       (1,876)     (1,876)
                                 ------------  ---------
Balances, June 30, 1997........   $  (15,693)  $  48,987
                                 ------------  ---------
                                 ------------  ---------
</TABLE>
 
  The accompanying notes are an integral part of these consolidated financial
                                   statements
 
                                       44
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
 
                                 (IN THOUSANDS)
 
<TABLE>
<CAPTION>
                                                                                         YEARS ENDED JUNE 30,
                                                                                    -------------------------------
                                                                                      1997       1996       1995
                                                                                    ---------  ---------  ---------
<S>                                                                                 <C>        <C>        <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss..........................................................................  $  (1,876) $  (5,465) $  (4,051)
Adjustments to reconcile net loss to net cash used in operating activities:
    Amortization of deferred compensation.........................................        199        104         --
    Depreciation and amortization.................................................        889        346        186
    Provision for uncollectable accounts..........................................        (31)        68         --
    Loss on write-off of fixed assets.............................................         38          3         --
    Provision for excess and obsolete inventory...................................         57         --         --
    Write-off of acquired in-process research and development.....................         --      2,791         --
    Changes in operating assets and liabilities:
      Accounts receivable.........................................................     (1,227)      (685)       371
      Inventory...................................................................     (1,074)      (281)      (198)
      Prepaid expenses and other current assets...................................       (533)      (351)       (37)
      Intangible and other assets.................................................        (69)        (3)        --
      Accounts payable............................................................       (110)      (202)        38
      Accrued liabilities.........................................................        152        565         54
      Deferred revenue............................................................       (100)      (133)      (133)
      Other long-term liabilities.................................................        (25)        --         --
                                                                                    ---------  ---------  ---------
        Net cash used in operating activities.....................................     (3,710)    (3,243)    (3,770)
                                                                                    ---------  ---------  ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of available-for-sale securities........................................    (54,335)   (21,450)        --
Proceeds from sales and maturities of available-for-sale securities...............     39,467         --         --
Acquisition of property and equipment.............................................     (2,018)      (337)      (513)
Acquisition of patents............................................................         --         --        (85)
Disposal of fixed assets..........................................................         63         39          9
Cash received on acquisition of Adjacent Surgical, Inc. (Note 3)..................         --         21         --
                                                                                    ---------  ---------  ---------
        Net cash used in investing activities.....................................    (16,823)   (21,727)      (589)
                                                                                    ---------  ---------  ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of Series C convertible redeemable preferred stock.........         --         --      6,309
Proceeds from issuance of Series D convertible redeemable preferred stock.........         --      1,754         --
Proceeds from issuance of common stock, net of issuance costs.....................        202     46,938         14
Proceeds from payment on shareholders notes receivable............................         27          8         --
Principal payments on note payable................................................         --       (140)        (3)
Proceeds from bank borrowings.....................................................         --        787        300
Principal payments on bank borrowings.............................................       (135)      (579)       (21)
                                                                                    ---------  ---------  ---------
        Net cash provided by financing activities.................................         94     48,768      6,599
                                                                                    ---------  ---------  ---------
Net increase (decrease) in cash and cash equivalents..............................    (20,439)    23,798      2,240
Cash and cash equivalent, beginning of year.......................................     28,339      4,541      2,301
                                                                                    ---------  ---------  ---------
Cash and cash equivalents, end of year............................................  $   7,900  $  28,339  $   4,541
                                                                                    ---------  ---------  ---------
                                                                                    ---------  ---------  ---------
Cash paid during the period for:
    Interest......................................................................  $      51  $      37  $      22
    Taxes.........................................................................  $       1  $       1  $       1
NONCASH INVESTING AND FINANCING ACTIVITIES:
Issuance of common stock for notes receivable.....................................  $      11  $      --  $      63
Repurchase of common stock for notes receivable...................................  $       9  $      --  $      14
Unrealized gain(loss) on available-for-sale securities............................  $      39  $       1  $      --
</TABLE>
 
  The accompanying notes are an integral part of these consolidated financial
                                   statements
 
                                       45
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
1. FORMATION AND BUSINESS OF THE COMPANY:
 
    General Surgical Innovations, Inc. (the Company) was incorporated on April
13, 1992 to engage in the development, manufacturing and marketing of medical
device balloon dissectors which create new working spaces between natural tissue
planes in the human body. The company sells its products in the United States
and certain other countries in Europe, Asia and South America, through its
direct sales force and key distributors.
 
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
 
    BASIS OF CONSOLIDATION:
 
    The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiary. All significant intercompany accounts and
transactions have been eliminated.
 
    USE OF ESTIMATES:
 
    The preparation of financial statements in conformity with generally
accepted accounting principles 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.
 
    CASH AND CASH EQUIVALENTS:
 
    The Company considers investments with an original maturity of 90 days or
less as of the date of purchase to be cash equivalents.
 
    AVAILABLE-FOR-SALE SECURITIES:
 
    The Company has classified its investments as "available-for-sale." Such
investments are recorded at fair value and unrealized holding gains and losses
are recorded net of related taxes as a separate component of shareholders'
equity. Interest income is recorded using an effective interest rate, with
associated premium or discount amortized to "investment income." Realized gains
and losses on sales of all such securities are reported in earnings and computed
using the specific identification cost method.
 
    INVENTORIES:
 
    Inventories are stated at the lower of cost or market. Cost is based on
actual costs computed on a first-in, first out basis.
 
    PROPERTY AND EQUIPMENT:
 
    Property and equipment are stated at cost, net of accumulated depreciation
and amortization. Furniture, fixtures, equipment and tooling are depreciated on
a straight-line basis over their estimated useful lives of three to five years.
Leasehold improvements are amortized over the lesser of their estimated useful
lives or the term of the lease.
 
                                       46
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
    EMPLOYEE STOCK PLANS:
 
    The Company accounts for its stock option plans and its employee stock
purchase plan in accordance with the provisions of the Accounting Principles
Board's Opinion No. 25 ("APB 25"), "Accounting for Stock Issued to Employees."
In 1995, the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 123 ("SFAS No. 123"), "Accounting for Stock-Based
Compensation." SFAS No. 123 establishes a fair value based method of accounting
for stock-based plans and is effective for fiscal years beginning after December
15, 1995. The Company is continuing to account for its employee stock plans in
accordance with the provisions of APB 25, and has provided pro forma disclosure
in Note 11 as if the measurement provisions of SFAS No. 123 had been adopted.
 
    REVENUE RECOGNITION:
 
    The Company recognizes revenue from product sales upon shipment of product
and when title passes to its customer. Allowances are provided for estimated
returns. Revenue from guaranteed payments is recognized in the period received
according to the terms and conditions of a distributor agreement.
 
    RESEARCH AND DEVELOPMENT:
 
    Research and development expenses are charged to operations as incurred.
 
    BUSINESS RISKS AND CREDIT CONCENTRATION:
 
    A substantial portion of the Company's sales have been derived from sales of
its balloon dissection products for hernia repair procedures. Failure of the
Company to develop successfully and commercialize balloon dissection products
for applications other than hernia repair could have a material adverse effect
on the Company's business, financial condition and results of operations.
 
    In March 1994, the Company entered into a distribution agreement with United
States Surgical Corporation ("USSC") providing USSC with limited exclusive
rights to distribute the Company's balloon dissection systems in the hernia
repair market in both the United States and certain international countries. In
fiscal 1997, 1996, and 1995, sales to USSC, which include sales to Autosuture,
Inc., a subsidiary of USSC, represented approximately 27%, 92% and 75%,
respectively, of the Company's sales. In November 1996, the Company terminated
its distribution agreement with USSC.
 
    In December 1996, the Company entered a five year OEM supply agreement (the
"Expanded EES Agreement") with Ethicon Endo-Surgery, Inc. ("EES"), a Johnson &
Johnson ("JNJ") company, pursuant to which GSI granted EES worldwide sales and
marketing rights to sell the Spacemaker-TM- Balloon Dissection Systems in the
laparoscopic hernia repair and urinary stress incontinence ("USI") markets.
Under the Expanded EES Agreement, GSI will manufacture certain products and EES
will market and distribute these products in the hernia and USI markets. EES
made guaranteed payments of $1.5 million, $1.5 million and $1.9 million in the
second, third and fourth quarters of fiscal year 1997 which represents a
combination of purchased products and margin guarantees under the Expanded EES
Agreement. Sales and guaranteed payments from EES represented approximately 65%
of the Company's 1997 revenues. There can be no assurance that EES's
manufacturing, marketing or distribution efforts will be successful. EES's
failure to achieve certain levels of sales growth or orders could have a
material adverse effect on the Company's business, financial condition and
results of operations.
 
                                       47
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
    The Company maintains its cash balances in demand accounts primarily with
one financial institution. For its accounts receivable, management of the
Company performs ongoing credit evaluations of its customers and maintains
allowances for doubtful accounts. Historically the Company has not experienced
significant losses related to individual customers or groups of customers in any
particular geographic area. At June 30, 1997 and 1996, one distributor accounted
for approximately 93% and 91%, respectively, of accounts receivable.
 
    FAIR VALUE OF FINANCIAL INSTRUMENTS:
 
    Carrying amounts of the Company's financial instruments including cash and
cash equivalents, accounts receivable, accounts payable and accrued liabilities
approximate fair values due to their short maturities. Based on the borrowing
rates currently available to the Company for loans with similar terms, the
carrying values of the equipment loan and line of credit approximate fair
values. Estimated fair values for available-for-sale securities, which are
separately disclosed elsewhere, are based on quoted market prices for the same
or similar instruments.
 
    INCOME TAXES:
 
    The Company accounts for income taxes under the liability method. Under the
liability method, deferred tax assets and liabilities are determined based on
differences between financial reporting and tax bases of assets and liabilities
and are measured using the enacted tax rates and laws that will be in effect
when the differences are expected to reverse. The Company is required to adjust
deferred tax liabilities in the period when tax rates or the provisions of the
income tax laws change. Valuation allowances are established when necessary to
reduce deferred tax assets to the amounts expected to be realized.
 
    NET LOSS PER SHARE:
 
    The net loss per share is computed using the weighted average number of
shares of common stock outstanding for all periods presented. Common equivalent
shares from stock options and convertible redeemable preferred stock are
excluded from the computation as their effect is anti-dilutive, except that,
pursuant to the Securities and Exchange Commission Staff Accounting Bulletin No.
83, common and common equivalent shares issued during the period beginning
twelve months prior to the initial filing of the Company's initial public
offering at prices substantially below the initial public offering price have
been included in the calculation as if they were outstanding for all periods
prior to the effective date of the initial public offering (using the treasury
stock method and the assumed initial public offering price).
 
    RECENT PRONOUNCEMENTS:
 
    In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 128 (SFAS 128), EARNINGS PER SHARE, which
specifies the computation, presentation and disclosure requirements for earnings
per share. SFAS 128 supersedes Accounting Principles Board Opinion No. 15 and is
effective for the Company's 1998 fiscal year. SFAS 128 requires restatement of
all prior-period earnings per share data presented after the effective date. FAS
128 is not expected to have a material impact on the Company's earnings per
share amounts.
 
    In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130 (SFAS 130), REPORTING COMPREHENSIVE
INCOME. This statement establishes requirements for disclosure of comprehensive
income and becomes effective for the Company's 1999 fiscal year, with
 
                                       48
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
reclassification of earlier financial statements for comparative purposes.
Comprehensive income generally represents all changes in stockholders' equity
except those resulting from investments or contributions by stockholders. The
Company is evaluating alternative formats for presenting this information, but
does not expect this pronouncement to impact the Company's results of
operations.
 
    In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131 (SFAS 131), DISCLOSURES ABOUT SEGMENTS OF
AN ENTERPRISE AND RELATED INFORMATION. This statement establishes standards for
disclosure about operating segments in annual financial statements and selected
information in interim financial reports. It also establishes standards for
related disclosures about products and services, geographic areas and major
customers. This statement supersedes Statement of Financial Accounting Standards
No. 14, FINANCIAL REPORTING FOR SEGMENTS OF A BUSINESS ENTERPRISE. The new
standard becomes effective for the Company's 1999 fiscal year, and requires that
comparative information from earlier years be restated to conform to the
requirements of this standard. The Company is evaluating the requirements of
SFAS 131 and the effects, if any, on the Company's current reporting and
disclosures.
 
3. ACQUISITION:
 
    In February 1996, the Company acquired substantially all of the assets of
Adjacent Surgical, Inc., a development stage enterprise engaged in research and
development for vascular devices. Certain shareholders of Adjacent Surgical,
Inc. also serve as Directors and are also shareholders of the Company.
Consideration paid consisted of the issuance of 254,027 shares of the Company's
common stock and 111,357 shares of the Company's Series C convertible redeemable
preferred stock.
 
    The acquisition was accounted for using the purchase method of accounting,
and, accordingly, its operations have been included with those of the Company
since the date of acquisition. The fair market value of the assets acquired,
liabilities assumed and consideration paid is as follows (IN THOUSANDS):
 
<TABLE>
<CAPTION>
<S>                                                                                                       <C>
Assets acquired:
  Prepaid expenses......................................................................................  $       4
  Fixed assets, net.....................................................................................         68
  In-process research and development...................................................................      2,791
Liabilities assumed:
  Accounts payable and other liabilities................................................................       (519)
  Notes payable.........................................................................................       (409)
Consideration paid:
  Issuance of Series C convertible redeemable preferred stock...........................................       (568)
  Issuance of common stock..............................................................................     (1,388)
                                                                                                          ---------
    Cash received.......................................................................................  $      21
                                                                                                          ---------
                                                                                                          ---------
</TABLE>
 
                                       49
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
4. AVAILABLE-FOR-SALE SECURITIES:
 
    As of June 30, 1997, available-for-sale securities consisted of the
following (IN THOUSANDS):
 
<TABLE>
<CAPTION>
                                             AMORTIZED   UNREALIZED GAINS    ESTIMATED    MATURITY
                                               COST          (LOSSES)       FAIR VALUE     DATES
                                            -----------  -----------------  -----------  ----------
<S>                                         <C>          <C>                <C>          <C>
Obligations of federal government
  agencies................................   $   2,000       $      (2)      $   1,998         3/98
Corporate obligations, principally
  commercial paper and corporate notes....      33,870             (37)         33,833    7/97-6/98
                                            -----------            ---      -----------
                                             $  35,870       $     (39)      $  35,831
                                            -----------            ---      -----------
                                            -----------            ---      -----------
</TABLE>
 
    As of June 30, 1996, available-for-sale securities consisted of the
following (IN THOUSANDS):
 
<TABLE>
<CAPTION>
                                                         AMORTIZED   UNREALIZED GAINS    ESTIMATED
                                                           COST          (LOSSES)       FAIR VALUE
                                                        -----------  -----------------  -----------
<S>                                                     <C>          <C>                <C>
Obligations of federal government agencies............   $   3,021       $  --           $   3,021
Corporate obligations, principally commercial paper
  and corporate notes.................................      18,429               1          18,430
                                                        -----------            ---      -----------
                                                         $  21,450       $       1       $  21,451
                                                        -----------            ---      -----------
                                                        -----------            ---      -----------
</TABLE>
 
    During 1997 and 1996, there were no realized gains or losses on the disposal
of available-for-sale securities.
 
5. PROPERTY AND EQUIPMENT:
 
    Property and equipment comprise (IN THOUSANDS):
 
<TABLE>
<CAPTION>
                                                                                   JUNE 30,
                                                                             --------------------
                                                                               1997       1996
                                                                             ---------  ---------
<S>                                                                          <C>        <C>
Equipment..................................................................  $   1,074  $     590
Furniture and fixtures.....................................................        436        218
Tooling....................................................................        277        302
Leasehold improvements.....................................................      1,152         46
                                                                             ---------  ---------
                                                                                 2,939      1,156
Less accumulated depreciation and amortization.............................       (688)      (454)
                                                                             ---------  ---------
                                                                             $   2,251  $     702
                                                                             ---------  ---------
                                                                             ---------  ---------
</TABLE>
 
                                       50
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
6. INVENTORIES:
 
    Inventories comprise (IN THOUSANDS):
 
<TABLE>
<CAPTION>
                                                                                     JUNE 30,
                                                                               --------------------
                                                                                 1997       1996
                                                                               ---------  ---------
<S>                                                                            <C>        <C>
Raw materials................................................................  $     706  $     387
Work in progress.............................................................         43        153
Finished goods...............................................................        968        160
                                                                               ---------  ---------
                                                                               $   1,717  $     700
                                                                               ---------  ---------
                                                                               ---------  ---------
</TABLE>
 
7. INTANGIBLE AND OTHER ASSETS:
 
    Intangible and other assets comprise (IN THOUSANDS):
 
<TABLE>
<CAPTION>
                                                                                     JUNE 30,
                                                                               --------------------
                                                                                 1997       1996
                                                                               ---------  ---------
<S>                                                                            <C>        <C>
Patents                                                                        $     360  $     360
Other........................................................................         75          6
                                                                               ---------  ---------
                                                                                     435        366
Less accumulated amortization................................................       (174)      (102)
                                                                               ---------  ---------
                                                                               $     261  $     264
                                                                               ---------  ---------
                                                                               ---------  ---------
</TABLE>
 
    Patents are amortized on a straight line basis over their estimated useful
lives of five years.
 
8. NOTE PAYABLE:
 
    In February 1996 in connection with the purchase of Adjacent Surgical, Inc.,
the Company issued two notes payable totaling $264,438 to two shareholders of
Adjacent Surgical, Inc., who are also shareholders of the Company, and one
shareholder who is also a director of the Company. The notes were payable on
August 12, 1996 and accrued interest at 8% per annum. The notes and all accrued
interest were converted to Series C Preferred Redeemable Convertible Stock at
the rate of $3.75 per share at the time of the Company's initial public
offering.
 
9. BANK BORROWINGS:
 
    On March 25, 1996, the Company entered into a loan agreement with a
financial institution which provides for two equipment loans of $300,000 and
$700,000 with interest at the bank's prime rate plus 1.75% (10.25% at June 30,
1997) and 1.25% (9.75% at June 30, 1997), respectively. The note for $300,000
matures September 30, 1998 and the note for $700,000 matures on June 30, 2000.
The bank borrowings are collateralized by substantially all of the Company's
assets. In addition, the Company is required to
 
                                       51
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
9. BANK BORROWINGS: (CONTINUED)
maintain certain restrictive financial covenants. Future minimum payments under
the loans are as follows (IN THOUSANDS):
 
<TABLE>
<CAPTION>
YEAR ENDING JUNE 30,
----------------------------------------------------------------------------------
<S>                                                                                 <C>
1998..............................................................................  $     167
1999..............................................................................        103
2000..............................................................................         82
                                                                                    ---------
                                                                                          352
Less current portion..............................................................       (167)
                                                                                    ---------
                                                                                    $     185
                                                                                    ---------
                                                                                    ---------
</TABLE>
 
    Also on March 25, 1996, the Company entered into a line of credit agreement
with a bank for $1.5 million. This line of credit was due on March 24, 1997, and
was extended on this date, with a new interest rate at the bank's prime rate
(8.50% at June 30, 1997). The line of credit is due on March 24, 1998 and is
collateralized by substantially all of the Company's assets. The Company is
subject to certain financial covenants including minimum tangible net worth and
a minimum quick ratio. There are no amounts outstanding under the line of credit
at June 30, 1997, with $1.5 million available for future use.
 
10. COMMITMENTS:
 
    LEASE AGREEMENTS:
 
    The Company leases its facilities under a noncancelable operating lease that
expires on April 20, 2004. The Company is responsible for certain taxes,
maintenance costs and insurance under the lease. Future minimum rental payments
under the lease are as follows (IN THOUSANDS):
 
<TABLE>
<CAPTION>
YEAR ENDING JUNE 30,
-------------------------------------------------------------------------------------
<S>                                                                                    <C>
  1998...............................................................................  $     632
  1999...............................................................................        864
  2000...............................................................................        986
  2001...............................................................................      1,013
  2002...............................................................................      1,041
  Thereafter.........................................................................      1,949
                                                                                       ---------
                                                                                       $   6,485
                                                                                       ---------
                                                                                       ---------
</TABLE>
 
    Rent expense for the years ended June 30, 1997, 1996 and 1995 was $600,645,
$486,721 and $333,869, respectively.
 
    OTHER COMMITMENTS:
 
    In 1992, the Company entered into a royalty agreement to obtain technology
which provides for royalties of 4% of the sales price for products which utilize
this technology. Amounts charged to operations for the years ended June 30,
1997, 1996, and 1995 were $366,929, $156,619, and $79,666, respectively.
 
    Also, in 1994 in conjunction with obtaining technology for issuance of
preferred stock, the Company entered into a royalty agreement which provides for
royalties of 4% of net sales for products which utilize
 
                                       52
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
10. COMMITMENTS: (CONTINUED)
this technology through 2001. Minimum royalties under the agreement are $25,000,
$62,500, $75,000 and $37,500 for the years ending June 30, 1998, 1999, 2000 and
2001, respectively.
 
    CONTINGENCIES:
 
    In May 1996, the Guidant Corporation unit of Origin MedSystems, Inc.
("Origin") filed an action against GSI in the U.S. District Court for the
Northern District of California, alleging patent infringement of its patent
entitled "Apparatus and Method for Peritoneal Retraction." GSI also filed an
action against Origin in the U.S. District Court for the Northern District of
California alleging patent infringement of its patent for a method of tissue
plane dissection using balloon systems. Discovery is ongoing and Management
believes it has meritorious defenses in relation to the action.
 
    One of the patent applications filed by the Company, which is directed to a
surgical method using balloon dissection technology, has been placed in
interference with a patent application filed by Origin Medsystems, Inc.
("Origin"), a competitor of the Company. The Company believes that the inventor
named in its patent application was the first to invent this subject matter, and
has asserted that the Origin patent application was filed after a disclosure
made by such inventor to employees of Origin. Origin takes a contrary position.
This interference is presently pending in the United States Patent and Trademark
Office ("USPTO") and, as permitted by the rules of the USPTO, has been referred
to an arbitrator for completion of the interference proceeding. A decision is
not expected in this interference proceeding until 1998 and, while the Company
believes it will be successful in this interference proceeding, there can be no
assurance of such success.
 
    No accrual for the above matters has been made in the accompanying
consolidated financial statements as the ultimate outcomes of the litigation and
dispute presently are not determinable. The litigation and dispute are subject
to inherent uncertainties and thus, there can be no assurance that the
litigation or dispute will be resolved favorably to the Company or that the will
not have a material adverse effect on the Company's financial position or
results of operations.
 
                                       53
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
11. SHAREHOLDERS' EQUITY:
 
    INITIAL PUBLIC OFFERING:
 
    In May 1996, the Company completed its initial public offering of 3,450,000
shares of common stock at $15.00 per share. The Company received proceeds of
approximately $46.9 million (net of underwriting discounts and commissions). In
connection with the offering, all shares of convertible redeemable preferred
stock, totaling 5,833,698 shares, were converted into 5,833,698 shares of common
stock.
 
    PREFERRED STOCK:
 
    During 1996, the Company amended its Articles of Incorporation to authorize
2,000,000 shares of undesignated preferred stock. Preferred stock is issuable in
series and the Company's Board of Directors is authorized to determine the
rights, preferences and terms of each series. As of June 30, 1997, the Company
had no shares issued and outstanding.
 
    COMMON STOCK SPLIT:
 
    In March 1996, the Board of Directors approved a 1.37 to 1 stock split of
its common stock and preferred stock. All share and per share information in the
accompanying financial statements have been restated to give retroactive
recognition to the stock split for all periods presented.
 
    COMMON STOCK:
 
    The Company has issued through June 30, 1997 shares of its common stock to
the founders and key employees of the Company under stock purchase agreements.
Certain stock purchase agreements (the Agreements) contain provisions for the
repurchase of common stock by the Company in the event of termination of
employment during the vesting period following the date of employment.
Generally, 25% of the shares of common stock purchased under the Agreements are
released from the Company's repurchase option at the end of twelve months from a
participant's hiring date with the remaining shares being released from
repurchase ratably over the next 36 months. At June 30, 1997,    shares are
subject to repurchase under the Agreements. Each share of common stock has the
right to one vote. The holders of common stock are also entitled to receive
dividends whenever funds are legally available and when declared by the Board of
Directors, subject to the prior rights of holders of any class of stock
outstanding having priority rights as to dividends.
 
    In March 1996, the Board of Directors amended the Company's Articles of
Incorporation, to increase the authorized number of shares of common stock to
50,000,000 shares.
 
    STOCK OPTION PLANS:
 
    1992 Stock Option Plan
 
    The Company has an Incentive Stock Option Plan (the Plan) under which
1,715,895 shares of common stock were originally reserved for issuance. In
November 1996, an additional 400,000 shares were reserved, bringing the
aggregate number of shares of common stock reserved for issuance to 2,115,895 as
of June 30, 1997.
 
    Under the Plan, incentive options may be granted at prices not lower than
fair market value at the date of grant or 110% of the fair market value if the
optionee, immediately prior to the grant, owns stock representing 10% or more of
the voting power or value of all securities. Nonstatutory options may be
 
                                       53
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
11. SHAREHOLDERS' EQUITY: (CONTINUED)
granted at prices not lower than 85% of fair market value at the date of grant
as determined by the Board of Directors. Options granted under the Plan are
exercisable and vest at such times and under such conditions as determined by
the Board. The options generally expire from five years to ten years from date
of grant.
 
    1995 Directors' Stock Option Plan
 
    In November 1995, the Company adopted the Directors' Stock Option Plan (the
Directors' Plan), under which 164,726 shares of Common Stock have been reserved
for issuance. The Directors' Plan provides for the grant of nonstatutory stock
options to non-employee directors of the Company. The Directors' Plan provides
an initial option to purchase 27,454 shares of common stock, which vests monthly
over two years, and beginning with the 1997 annual meeting, an additional annual
stock option to purchase 6,864 shares of common stock.
 
    The exercise price of all stock options granted under the Directors' Plan
shall be equal to the fair market value of the Company's common stock on the
date of grant of the option. Options granted under the Directors' Plan have a
term of ten years.
 
    Activity under the Plans is set forth below (IN THOUSANDS, EXCEPT PER SHARE
DATA):
 
<TABLE>
<CAPTION>
                                                                                        OUTSTANDING OPTIONS
                                                                           ---------------------------------------------
                                                                SHARES                     WEIGHTED
                                                               AVAILABLE    NUMBER OF    AVERAGE PRICE   AGGREGATE PRICE
                                                               FOR GRANT     SHARES        PER SHARE       IN DOLLARS
                                                              -----------  -----------  ---------------  ---------------
<S>                                                           <C>          <C>          <C>              <C>
Balances, June 30, 1994.....................................         271          330      $     .17        $      55
  Options granted...........................................        (205)         205      $     .33               68
  Options exercised.........................................                      (39)     $     .15               (6)
  Options terminated........................................          65          (65)     $     .22              (14)
                                                              -----------       -----          -----           ------
Balances, June 30, 1995.....................................         131          431      $     .24              103
  Increase in shares reserved...............................       1,263
  Options granted...........................................        (745)         745      $    1.91            1,421
  Options exercised.........................................                      (33)     $     .42              (14)
  Options terminated........................................          47          (47)     $    4.00             (188)
                                                              -----------       -----          -----           ------
Balances, June 30, 1996.....................................         696        1,096      $    1.21            1,322
  Increase in shares reserved...............................         400
  Options granted...........................................        (497)         497      $    8.65            4,299
  Options exercised.........................................                     (172)     $     .45              (78)
  Options terminated........................................          58          (58)     $    2.21              128)
                                                              -----------       -----          -----           ------
Balances, June 30, 1997.....................................         657        1,363      $    3.97        $   5,415
                                                              -----------       -----          -----           ------
                                                              -----------       -----          -----           ------
</TABLE>
 
                                       54
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
11. SHAREHOLDERS' EQUITY: (CONTINUED)
    At June 30, 1997, stock options outstanding are as follows (IN THOUSANDS,
EXCEPT PER SHARE DATA):
 
<TABLE>
<CAPTION>
                          OPTIONS OUTSTANDING
------------------------------------------------------------------------        OPTIONS EXERCISABLE
                                  WEIGHTED AVERAGE                        --------------------------------
    RANGE OF        NUMBER OF   REMAINING CONTRACTUAL  WEIGHTED AVERAGE     NUMBER OF    WEIGHTED AVERAGE
 EXERCISE PRICES     SHARES             LIFE            EXERCISE PRICE       SHARES       EXERCISE PRICE
-----------------  -----------  ---------------------  -----------------  -------------  -----------------
<S>                <C>          <C>                    <C>                <C>            <C>
 $ 0.09--$ 0.55           439               7.3years       $    0.37              236        $    0.31
 $ 0.56--$ 3.64           381               8.3                 1.51              155        $    1.55
 $ 3.65--$ 8.50           247               9.3                 7.20               19        $    7.36
 $ 8.51--$12.25           295               9.5                 9.78               25        $    9.75
 $12.26--$22.25             1               8.9                17.50           --            $   22.25
                                             --
                        -----                                  -----              ---           ------
                        1,363               8.4            $    3.97              435        $    1.60
                                             --
                                             --
                        -----                                  -----              ---           ------
                        -----                                  -----              ---           ------
</TABLE>
 
    At June 30, 1996, options to purchase 259,373 shares were exercisable at a
weighted average exercise price of $0.50 per share.
 
    Compensation of approximately $600,000 has been attributed to stock options
granted after May 1995 and prior to the sale of the Company's common stock in an
initial public offering. The deferred compensation is being recognized as a
charge to income over the period for which the related stock options become
exercisable, which is generally four years. Amortization of the deferred
compensation was approximately $199,055 and $103,536 during the years ended June
30, 1997 and 1996, respectively.
 
    PRO FORMA INFORMATION:
 
    Had compensation costs for options awarded in fiscal 1997 and 1996 been
determined based on the fair value at the grant date consistent with the
provisions of SFAS123, the Company's net loss and net loss per share would have
resulted in the pro forma amounts indicated below (in thousands, except per
share data):
 
<TABLE>
<CAPTION>
                                                                                 JUNE 30,
                                                                           --------------------
                                                                             1997       1996
                                                                           ---------  ---------
<S>                                                                        <C>        <C>
Actual net loss..........................................................  $  (1,876) $  (5,465)
Pro forma net loss.......................................................  $  (2,661) $  (5,724)
 
Actual net loss per share................................................  $    (.14) $    (.74)
Pro forma net loss per share.............................................  $    (.20) $    (.77)
</TABLE>
 
    The above pro forma disclosures are not necessarily representative of the
effects on reported net income (loss) in future years.
 
    In fiscal 1997 and 1996, the weighted average fair value of options granted
during the year was $5.12 and $1.99, respectively. The fair value of each option
grant is estimated on the date of grant using the Black-Scholes option-pricing
model with the following weighted-average assumptions used for grants during the
years ended June 30, 1997 and 1996: dividend yield of 0%, expected volatility of
62%, risk-free interest rate of between 6.00% and 6.69% at the date of grant,
and an expected term of 5 years.
 
                                       55
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
11. SHAREHOLDERS' EQUITY: (CONTINUED)
    EMPLOYEE STOCK PURCHASE PLAN:
 
    In March 1996, the Board of Directors adopted the 1996 Employee Stock
Purchase Plan (the ESPP) and reserved 274,543 shares of common stock for
issuance. The purpose of the ESPP is to provide eligible employees of the
Company with a means of acquiring common stock of the Company through payroll
deductions. The purchase price of such stock under the ESPP cannot be less than
95% of the lower of the fair market value on the specified purchase date or the
beginning of the offering period. At June 30, 1997, 17,825 shares had been
issued under the ESPP.
 
    COMMON STOCK PURCHASE RIGHTS:
 
    In May 1997, the Company distributed a dividend to shareholders comprised of
a right to purchase one share of common stock (a "Right") for each outstanding
share of common stock of the Company they hold. These rights do not become
exercisable or transferable apart from the common stock until the Distribution
Date which is either the tenth day after a person or group (a) acquires
beneficial ownership of 15 percent or more of the Company's common stock or (b)
announces a tender or exchange offer, the consummation of which would result in
ownership by a person or group of 15 percent or more of the Company's common
stock. After the Distribution Date, each Right will entitle the holder to
purchase from the Company one share of common stock at a price of $35.00 per
share.
 
    If the Company is acquired in a merger or other business combination
transaction, or if 50 percent or more of its consolidated assets or earnings
power is sold, each Right will entitle the holder to purchase at the exercise
price that number of shares of the acquiring company having a then current
market value of two times the exercise price of the Right. In the event that the
Company is the surviving corporation in a merger and the Company's common stock
remains outstanding, or in the event that an acquiring party engages in certain
self-dealing transactions, each Right not owned by the acquiring party will
entitle the holder to purchase at the exercise price that number of shares of
the Company's common stock having a then current market value of two times the
exercise price of the Right.
 
    The Rights are redeemable at the Company's option for $.01 per Right prior
to becoming exercisable, may be amended at the Company's option on or prior to
the Distribution Date and expire on May 8, 2007.
 
12. INCOME TAXES:
 
    At June 30, 1997 the Company has federal and state net operating loss
carryforwards of $10.2 million and $3.8 million, respectively, which expire in
the years 1998 - 2010.
 
    As a result of a change in ownership, as defined, federal and state net
operating loss carryforwards of $6.0 million and $3.0 million respectively are
subject to an annual limitation of $400,000.
 
                                       56
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
 
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
12. INCOME TAXES: (CONTINUED)
    Temporary differences and carryforwards which gave rise to significant
portions of deferred tax assets and liabilities, are as follows (IN THOUSANDS):
 
<TABLE>
<CAPTION>
                                                                                 JUNE 30,
                                                                           --------------------
                                                                             1997       1996
                                                                           ---------  ---------
<S>                                                                        <C>        <C>
Deferred tax assets:
  Net operating loss carryforwards.......................................  $   3,685  $   3,055
  Capitalized research expenses..........................................        216        113
  Research and development credit carryforward...........................        138         78
  Accrued liabilities and other..........................................        159        286
  Valuation allowance....................................................     (4,198)    (3,532)
                                                                           ---------  ---------
                                                                           $  --      $  --
                                                                           ---------  ---------
                                                                           ---------  ---------
</TABLE>
 
    In accordance with generally accepted accounting principles, a valuation
allowance must be established for a deferred tax asset if it is more likely than
not that a tax benefit may not be realized from the asset in the future. The
Company has established a valuation allowance to the extent of its deferred tax
assets since it is more likely than not that a benefit can be realized in the
future due to the Company's recurring operating losses.
 
<TABLE>
<CAPTION>
                                                                                    YEAR ENDED JUNE 30
                                                                           -------------------------------------
                                                                              1996         1995         1994
                                                                              -----        -----        -----
<S>                                                                        <C>          <C>          <C>
Income tax benefit at statutory rate.....................................         (34)%        (34)%        (34)%
Net operating loss not benefited.........................................          34           34           34
                                                                                   --           --           --
Effective tax rate.......................................................      --    %      --    %      --    %
                                                                                   --           --           --
                                                                                   --           --           --
</TABLE>
 
13. RELATED PARTY TRANSACTIONS:
 
    The Company entered into certain product development arrangements with a
sole proprietorship which is owned by a director of the Company. The Company has
also entered into a royalty agreement with this sole proprietorship to obtain
technology which provides for royalties of 1% - 4% of the sales price for
products which utilize this technology. The Company has paid this sole
proprietorship $190,485 and $223,368 in fiscal year 1997 and 1996, respectively.
 
14. SUBSEQUENT EVENTS:
 
    On September 26, 1997, the Company filed another claim against Origin
alleging patent infringement of its patent for a method serial inflation of
tissue dissectors (See Note 10).
 
                                       57
<PAGE>
                                   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.
 
<TABLE>
<S>                             <C>  <C>
                                GENERAL SURGICAL INNOVATIONS, INC
 
                                By:            /s/ RODERICK A. YOUNG
                                     ------------------------------------------
                                                 Roderick A. Young
                                       CHAIRMAN OF THE BOARD OF DIRECTORS AND
Date: September 29, 1997                      CHIEF EXECUTIVE OFFICER
</TABLE>
 
                               POWER OF ATTORNEY
 
    KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Roderick A. Young and Stephen J. Bonelli his
attorneys-in-fact, each with the power of substitution, for him in any and all
capacities, to sign any amendments to this Report on Form 10-K, and to file the
same, with exhibits thereto and other documents in connection therewith with the
Securities and Exchange Commission, hereby ratifying and confirming all that
each of said attorneys-in-fact, or his substitute or substitutes, may do or
cause to be done by virtue hereof.
 
    Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed below by the following persons in the capacities and on
the dates indicated.
 
             NAME                         TITLE                    DATE
------------------------------  --------------------------  -------------------
 
                                Chairman of the Board of
    /s/ RODERICK A. YOUNG         Directors, Chief
------------------------------    Executive Officer         September 29, 1997
     (Roderick A. Young)          (principal executive
                                  officer)
 
   /s/ GREGORY D. CASCIARO
------------------------------  President, Chief Operating  September 29, 1997
    (Gregory D. Casciaro)         Officer and Director
 
                                Chief Financial Officer,
                                  Vice President of
    /s/ STEPHEN J. BONELLI        Finance and
------------------------------    Administration and        September 29, 1997
     (Stephen J. Bonelli)         Treasurer (principal
                                  financial and accounting
                                  officer)
 
    /s/ DAVID W. CHONETTE
------------------------------  Director                    September 29, 1997
     (David W. Chonette)
 
    /s/ THOMAS A. FOGARTY
------------------------------  Director                    September 29, 1997
     (Thomas A. Fogarty)
 
        /s/ PAUL GOELD
------------------------------  Director                    September 29, 1997
         (Paul Goeld)
 
       /s/ JAMES SULAT
------------------------------  Director                    September 29, 1997
        (James Sulat)
 
       /s/ MARK A. WAN
------------------------------  Director                    September 29, 1997
        (Mark A. Wan)
 
                                       58
<PAGE>
                  INDEPENDENT ACCOUNTANTS' REPORT ON SCHEDULE
 
    Our report on the financial statements of General Surgical Innovations, Inc.
and Subsidiary is included on page 41 of this Form 10-K. In connection with our
audits of such financial statements, we have also audited the related financial
statement schedule listed in the index on page 39 of this Form 10-K.
 
    In our opinion, the financial statement schedule referred to above, when
considered in relation to the basic financial statements taken as a whole,
presents fairly, in all material respects, the information required to be
included therein.
 
                                          COOPERS & LYBRAND L.L.P.
 
San Jose, California
July 29, 1997
 
                                      S-1
<PAGE>
               GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
                 SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
                       VALUATION AND QUALIFYING ACCOUNTS
                                 (IN THOUSANDS)
 
<TABLE>
<CAPTION>
                                                                 BALANCE AT     CHARGED IN
                                                                  BEGINNING      COSTS AND                      BALANCE AT
DESCRIPTION                                                       OF PERIOD      EXPENSES      DEDUCTIONS      END OF PERIOD
--------------------------------------------------------------  -------------  -------------  -------------  -----------------
<S>                                                             <C>            <C>            <C>            <C>
Year ended June 30, 1997
  Allowance for doubtful accounts:............................    $      78      $  --          $     (31)       $      47
Year ended June 30, 1996
  Allowance for doubtful accounts:............................    $      17      $      68      $      (7)       $      78
Year ended June 30, 1995
  Allowance for doubtful accounts:............................    $      17      $  --          $  --            $      17
</TABLE>
 
                                      S-2