<PAGE>   1
                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                    FORM 10-Q

         (mark one)
         [X]  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
              SECURITIES EXCHANGE ACT OF 1934

         FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2001

                                       OR

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

         FOR THE TRANSITION PERIOD FROM _______________ TO _____________

                         COMMISSION FILE NUMBER 0-20096

                                  GLIATECH INC.
             (Exact name of registrant as specified in its charter)

           DELAWARE                                    34-1587242
(State or other jurisdiction               (I.R.S. Employer Identification No.)
 of incorporation or organization)

        23420 COMMERCE PARK ROAD
        CLEVELAND, OHIO                                  44122
(Address of principal executive offices)              (Zip Code)

                                 (216) 831-3200
              (Registrant's telephone number, including area code)

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
                                          -----        -----

THE NUMBER OF SHARES OUTSTANDING OF THE REGISTRANT'S COMMON STOCK, $0.01 PAR
VALUE PER SHARE, AS OF AUGUST 10, 2001 WAS 9,682,637 SHARES.


<PAGE>   2





                         GLIATECH INC. AND SUBSIDIARIES

                                      INDEX

<TABLE>
<CAPTION>

PART I.                                FINANCIAL INFORMATION                                            PAGE
                                                                                                        ----

<S>           <C>                                                                                        <C>
Item 1        Financial Statements: (unaudited)

              Consolidated Balance Sheets -
              June 30, 2001 and December 31, 2000

              Consolidated Statements of Operations - for the three month and
              six month periods ended June 30, 2001 and 2000

              Consolidated Statements of Cash Flows - for the six month periods
              ended June 30, 2001 and 2000

              Notes to Consolidated Financial Statements

Item 2        Management's Discussion and Analysis of Financial Condition
              and Results of Operations

Item 3        Quantitative and Qualitative Disclosures About Market Risk


PART II.                               OTHER INFORMATION

Item 1        Legal Proceedings

Item 2        Changes in Securities

Item 4        Submission of Matters to a Vote of Security Holders

Item 6        Exhibits and Reports on Form 8-K
</TABLE>


<PAGE>   3



                         PART I - FINANCIAL INFORMATION
                          ITEM 1. FINANCIAL STATEMENTS
                         GLIATECH INC. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS
                                   (UNAUDITED)

<TABLE>
<CAPTION>
 (In thousands)                                               JUNE 30,   DECEMBER 31,
                                                                2001         2000
                                                             --------     --------
<S>                                                          <C>          <C>
ASSETS
Current assets:
 Cash and cash equivalents                                   $  4,010     $    960
 Short-term investments                                         7,274        7,504
  accounts receivable, less allowances of $294 in 2001 and
  $1,585 in 2000                                                1,085        1,771
 Inventories                                                    2,650        2,315
 Prepaid expenses and other                                       224          744
                                                             --------     --------
Total current assets                                           15,243       13,294

Long term investments                                                        3,642
Property and equipment, net                                     2,799        3,197
Other assets, net                                               1,270        1,043
                                                             --------     --------
TOTAL ASSETS                                                 $ 19,312     $ 21,176
                                                             ========     ========

LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
 Accounts payable                                            $  1,348     $  1,026
 Accrued expenses                                               2,179        2,814
 Product recall returns payable                                 2,759        1,015
 Accrued research contracts                                        67          154
 Accrued clinical trial costs                                     961          664
                                                             --------     --------
 Total current liabilities                                      7,314        5,673

 Long-term obligations                                          6,862

Stockholders' equity:
 Common stock                                                      97           97
 Additional paid-in capital                                    75,460       74,465
 Accumulated other comprehensive income                            29           27
 Accumulated deficit                                          (70,450)     (59,086)
                                                             --------     --------
 Total stockholders' equity                                     5,136       15,503
                                                             --------     --------
 TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY                  $ 19,312     $ 21,176
                                                             ========     ========
</TABLE>

See notes to consolidated financial statements




                                       1
<PAGE>   4




                         GLIATECH INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                                   (UNAUDITED)

(In thousands, except share and per share data)

<TABLE>
<CAPTION>
                                                    THREE MONTHS ENDED              SIX MONTHS ENDED
                                                         JUNE 30,                        JUNE 30,
                                                ---------------------------     ---------------------------
                                                   2001            2000            2001            2000
                                                -----------     -----------     -----------     -----------

<S>                                             <C>             <C>             <C>             <C>
REVENUES
Product sales                                   $     1,094     $     7,035     $     1,094     $    13,867
Government grants                                                       243                             485
                                                -----------     -----------     -----------     -----------
          Total revenues                              1,094           7,278           1,094          14,352

OPERATING COSTS AND EXPENSES
Cost of products sold                                 1,288           1,165           2,653           2,367
Research and development                              2,894           3,230           5,256           5,803
Selling, general and administrative                   2,313           2,795           4,650           6,113
Merger related and severance costs                                      590                             724
                                                -----------     -----------     -----------     -----------
          Total operating costs and expenses          6,495           7,780          12,559          15,007
                                                -----------     -----------     -----------     -----------
Operating loss                                       (5,401)           (502)        (11,465)           (655)
Net interest (expense) income                           (98)            272             101             542
                                                -----------     -----------     -----------     -----------
NET LOSS                                        $    (5,499)    $      (230)    $   (11,364)    $      (113)
                                                ===========     ===========     ===========     ===========

Loss per share
          Basic                                 $     (0.57)    $     (0.02)    $     (1.17)    $     (0.01)
                                                ===========     ===========     ===========     ===========
          Diluted                               $     (0.57)    $     (0.02)    $     (1.17)    $     (0.01)
                                                ===========     ===========     ===========     ===========

Average shares outstanding
          Basic                                   9,682,637       9,519,949       9,682,637       9,505,232
                                                ===========     ===========     ===========     ===========
          Diluted                                 9,682,637       9,519,949       9,682,637       9,505,232
                                                ===========     ===========     ===========     ===========
</TABLE>



See notes to consolidated financial statements.





                                       2
<PAGE>   5



                         GLIATECH INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                               SIX MONTHS ENDED
                                                                  JUNE 30,
                                                              2001         2000
                                                            --------     --------
<S>                                                         <C>          <C>
OPERATING ACTIVITIES
Net loss                                                    $(11,364)    $   (113)
Adjustments to reconcile net loss to net cash used in
  operating activities:
   Depreciation and amortization                                 456          326
   Provision for losses on accounts receivable                   100           17
   Compensation from issuance of stock and stock options         149          103
   Gain on sale of investments                                                 (9)
   Changes in operating assets and liabilities:
     Accounts receivable                                       1,971       (2,739)
     Inventories                                                (335)        (458)
     Government grants receivable and other assets               520           38
     Accounts payable and other liabilities                       46         (332)
     Accrued research and clinical trial costs                   210         (929)
     Other long-term items                                       208
                                                            --------     --------
Net cash used in operating activities                         (8,039)      (4,096)
INVESTING ACTIVITIES
Sale of investments                                           10,473       12,087
Purchase of investments                                       (6,600)      (6,499)
Payment for patent rights and trademarks                         (75)        (114)
Purchase of property and equipment                               (43)        (515)
                                                            --------     --------
Net cash provided by investing activities                      3,755        4,959
FINANCING ACTIVITIES
Proceeds from long-term borrowings                             7,500
Debt issuance costs                                             (166)
Proceeds from exercise of stock options                                       723
                                                            --------     --------
Net cash provided by financing activities                      7,334          723
                                                            --------     --------

Increase in cash and cash equivalents                          3,050        1,586
Cash and cash equivalents at beginning of period                 960        3,350
                                                            --------     --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD                  $  4,010     $  4,936
                                                            ========     ========
</TABLE>

See notes to consolidated financial statements




                                       3
<PAGE>   6


                         GLIATECH INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                   (unaudited)

Note 1. Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the six-month period ended June 30, 2001
are not necessarily indicative of the results that may be expected for the year
ending December 31, 2001. These financial statements should be read in
conjunction with the consolidated financial statements and footnotes thereto
included in the Annual Report on Form 10-K of Gliatech Inc. for the fiscal year
ended December 31, 2000 filed with the Securities and Exchange Commission.
Certain fiscal 2000 amounts have been reclassified to conform to fiscal 2001
presentation.

The accompanying financial statements have been prepared assuming the Company
will continue as a going concern. The Company has incurred annual losses and
negative cash flows from operations since inception and has an accumulated
deficit of $70.5 million at June 30, 2001. In January 2001, the Company recalled
its primary products, ADCON-L and ADCON-T/N, and discontinued sale of these
products due to a recall by a supplier of a raw material used in the production
of these products. These factors raise substantial doubt about its ability to
continue as a going concern.

The Company's continued operations will depend on its ability to raise
additional funds through various potential sources such as equity and debt
financing, collaborative agreements, strategic alliances, recommencing
commercial sales of its products in the U.S., validation of the Solon, Ohio
manufacturing facility for commercial distribution in the U.S., the outcome of
pending litigation and investigations (see Note 8) and its ability to realize
the full potential of its technology and its drug candidates. In April 2001, the
Company entered into a financing agreement (see Note 5). The Company currently
is in active discussion with several potential strategic alliance partners to
further the development of drug candidates in its pipeline. In addition,
management is pursuing other equity and debt financing alternatives to raise
additional funds. However, there can be no assurance that any alliances or
funding alternatives will be consummated as these alternatives may be dependent
upon many other factors including, without limitation, market conditions, and
such alliances or financing may not be available or be available on acceptable
terms. The Company's ability to raise additional funds may also depend upon
obtaining regulatory approval to recommence sales of ADCON-L in the U.S., which
is dependent upon the outcomes of the FDA review and assessment of the Company's
clinical data and the timeliness of FDA review due to Application Integrity
Policy ("AIP") status. In May 2001, the Company relaunched ADCON-L
internationally.

                                       4
<PAGE>   7

There can be no assurance that the Company will obtain these additional funds to
continue as a going concern. No adjustments to the amounts or classifications of
assets and liabilities, which could result from the outcome of this uncertainty,
are reflected in the financial statements.

Note 2. Investments

Short-term and long-term investments classified as available-for-sale at June
30, 2001 and December 31, 2000 are as follows (in thousands):


<TABLE>
<CAPTION>
                                                                             Gross Unrealized
                                                                             ----------------
                                              Amortized Cost         Holding Gain      Holding Loss        Fair Value
                                              --------------         ------------      ------------        ----------
<S>                                              <C>                     <C>                                <C>
JUNE 30, 2001:
Corporate debt securities                        $  4,245                $  15                              $  4,260
U.S. Treasury securities                            3,000                   14                                 3,014
                                                    -----                   --                                 -----
                                                 $  7,245                $  29                              $  7,274
                                                 ========                =====                              ========

DECEMBER 31, 2000:
Corporate debt securities                        $  7,240                $  19                              $  7,259
U.S. Treasury securities                            3,879                   13                $(5)             3,887
                                                    -----                   --                ----             -----
                                                 $ 11,119                $  32                $(5)          $ 11,146
                                                 ========                =====                ====          ========
</TABLE>

All of the Company's investments are classified as available-for-sale. Such
investments are carried at fair value with unrealized holding gains and losses
charged or credited to stockholders' equity. The fair value of each investment
is determined by the most recent quoted market price. The amortized cost of
corporate debt securities and U.S. treasury securities is adjusted for
amortization of premiums and accretion of discounts to maturity. Such
amortization or accretion is included in interest income.

Realized gains and losses on available-for-sale securities are determined on a
specific identification basis. Any decline in market value below cost that is
determined to be other than temporary is an impairment that would result in a
reduction in the carrying amount to fair value. Such impairment, if any, is
charged to current earnings, and an adjusted cost for the security is
established.

Maturities of short-term investments classified as available-for-sale securities
at June 30, 2001 were as follows (in thousands):

                                         Amortized Cost          Fair Value
                                         --------------          ----------

Due in 1 year or less                       $ 3,600               $ 3,600
Due in 1-3 years                              3,645                 3,674
                                              -----                 -----
                                            $ 7,245               $ 7,274
                                            =======               =======

Investments with maturities in excess of one year have been classified as
short-term investments due to management's intentions to utilize these
investments to fund current operations.




                                       5
<PAGE>   8


Note 3. Inventories

At June 30, 2001 and December 31, 2000, inventories, net of reserves, consisted
of (in thousands):

<TABLE>
<CAPTION>
                                                 June 30,          December 31,
                                                  2001                2000
                                                 ------              ------

<S>                                              <C>                 <C>
Raw material                                     $1,686              $2,315
Work in process                                     796
Finished goods                                      168
                                                 ------              ------
                                                 $2,650              $2,315
                                                 ======              ======
</TABLE>

The Company records reserves for obsolete and impaired inventory when items are
identified that will not meet either the Company's quality or regulatory
validation requirements. The inventory obsolescence reserve was $1.5 million and
$2.4 million at June 30, 2001 and December 31, 2000, respectively.

Note 4. Other Assets

At June 30, 2001 and December 31, 2000, other assets consisted of (in
thousands):

                                                         June 30,   December 31,
                                                           2001        2000
                                                          ------      ------

Patent cost, net of accumulated amortization of $149
   at June 30, 2001 and $138 at December 31, 2000         $1,057      $  992
Trademark cost, net of accumulated amortization of $33
   at June 30, 2001 and $30 at December 31, 2000              37          37
Debt issuance costs                                          166
Other                                                         10          14
                                                          ------      ------
                                                          $1,270      $1,043
                                                          ======      ======

Patents are amortized on the straight-line basis over the shorter of the
estimated useful life of the patented technology or seventeen years, beginning
at the time the patent is issued. The Company reviews its patents to determine
if the expected future operating cash flows to be derived from a patent is less
than the carrying value. If an impairment has occurred, the patent is
written-down to its expected future cash flows or, if abandoned, it is
written-off in its entirety. There was no patent expense due to impairments or
abandonments for the three-month periods ended June 30, 2001 and 2000,
respectively.

Trademark costs are amortized on the straight-line basis over the shorter of the
estimated useful life of the trademark or ten years beginning at the time the
trademark is granted.


                                       6
<PAGE>   9

Debt issuance costs represent professional services incurred related to the
financing with Paul Capital Royalty Acquisition Fund, L.P. ("PCRAF"). These
costs will be amortized on a straight-line basis over the life of the
obligation.

Note 5. Long-Term Obligations

The Company has long-term obligations (net of unamortized discount of $0.8
million), of $6.9 million at June 30, 2001. The effective interest rate on these
obligations could range from 20 to 30% subject to adjustment based on future
sales levels.

On April 26, 2001, the Company entered into a financing agreement with PCRAF
that provides the Company will initially receive up to $15.0 million in stages.
In addition, the Company will also have the option for the 12 months following
the commercial relaunch of ADCON(R)-L in the United States, to obtain, subject
to the satisfaction of certain other conditions, an additional $15.0 million
from PCRAF on the same general economic terms as the initial arrangement. As of
June 30, 2001, the Company has received $7.5 million of the initial $15.0
million and will receive the remaining $7.5 million upon satisfaction of certain
conditions, including, without limitation, the commercial relaunch of ADCON(R)-L
in the United States.

In consideration for the first $15.0 million, PCRAF will receive royalty
payments based on future sales of ADCON(R) products equal to the greater of i)
2.5% of net product sales or ii) certain guaranteed minimum annual royalty
payments beginning in 2003 at a rate of $1.6 million annually and increasing in
stages during future years up to $9.0 million annually. Royalty payments to
PCRAF end on December 31, 2012. The royalty payments based on the percentage
of net sales and the guaranteed minimum annual payment are subject to
modification under certain conditions. If, among other things, Adcon-L is not
relaunched in the United States by a certain date and at a certain level, then:
i) the revenue interest would change to an increased percentage of future sales
outside of the United States; ii) guaranteed minimum annual royalty payments
would be reduced; iii) PCRAF's future funding obligations to the Company would
be terminated; and iv) the Company's option to receive additional capital would
be terminated. Guaranteed minimum annual royalty payments due over the next
five years at the current $7.5 million level of investment are as follows: $0
in 2001, $0 in 2002, $0.8 million in 2003, $0.8 million in 2004 and $2.1
million in 2005.

As part of the agreement, PCRAF received a warrant to purchase 300,000 shares of
common stock of the Company at $2.00 per share valued at $0.8 million. In
accordance with Accounting Principles Board Opinion No. 14, "Accounting for
Convertible Debt and Debt issued with Stock Purchase Warrants", the value of the
warrants have been recorded as a discount to the debt proceeds and as additional
paid in capital. The discount will be amortized to interest expense using the
interest method over the life of the obligations under the financing agreement.

In the event of a change in control in the Company or upon the occurrence of
certain other events as defined in the financing agreement, PCRAF has the option
to put its revenue interest back to the Company at a specified rate of return,
which is dependent upon the date at which PCRAF exercises this option and the
level of investment by PCRAF. The Company also has the option to repurchase
PCRAF's royalty interest beginning in 2003 for a specified rate of return.



Note 6. Cost of Products Sold


                                       7
<PAGE>   10

Cost of products sold for the three and six months ended June 30, 2001 includes
$0.4 million and $1.5 million, respectively, of operating and validation costs
incurred at the Company's manufacturing facility in Solon, Ohio and its third
party contract manufacturer, European Medical Contract Manufacturing B.V. as
well as $0.3 million and $0.6 million, respectively, of product recall costs.
Cost of products sold for the three and six months ended June 30, 2000 includes
$0.1 million and $0.5 million, respectively, of operating costs incurred at the
Company's Solon, Ohio manufacturing facility.


Note 7. Business Segment

The Company operates in one business segment. It is engaged in the development
and commercialization of the Company's principal products, the ADCON(R) family,
which are medical devices designed to inhibit scarring and adhesion following
surgery. In January 2001, the Company recalled its primary products, ADCON-L and
ADCON-T/N, and discontinued sale of these products due to a recall by a supplier
of a raw material used in the production of these products. In May 2001, the
Company recommenced commercial sale of ADCON-L outside the United States. The
Company sells ADCON(R) products to independent medical device distributors in
approximately 33 countries outside the United States. The Company does not have
foreign facilities and therefore does not measure operating profit or loss from
foreign sales.

Domestic and foreign net product sales are as follows (in thousands):

                              Three Months Ended         Six Months Ended
                                    June 30,                 June 30,
                               2001         2000         2001         2000
                              -------      -------      -------      -------
Domestic                                   $ 5,853                   $11,713
Foreign                       $ 1,094        1,182      $ 1,094        2,154
                              -------      -------      -------      -------
Net product sales             $ 1,094      $ 7,035      $ 1,094      $13,867
                              =======      =======      =======      =======



Note 8. Litigation

The following action was instituted against the Company during the period
covered by this Quarterly Report on Form 10-Q:

On May 5, 2001, Norman V. Woods filed a lawsuit against the Company and its
wholly owned subsidiaries, Gliatech Medical Inc. and GIC, Inc. in the United
States District Court for the Western District of Virginia alleging, among other
things, certain product liability claims as a result of the use of ADCON-L
during surgery. The complaint seeks $5.0 million in damages plus $0.4 million in
punitive damages from each defendant, plus costs and expenses, including,
without limitation, legal fees.

As reported in the Company's Annual Report on Form 10-K for the fiscal year
ended December 31, 2000, the following actions have been instituted against the
Company, none of which were commenced during the period covered by this
Quarterly Report on Form 10-Q.

To date, eleven plaintiffs, on behalf of themselves and all other persons
similarly situated, have filed ten class action lawsuits against the Company,
certain of its officers and certain former officers in the United States
District Court for the Northern District of Ohio alleging violation of the
federal securities laws. These complaints allege that the Company, certain
officers and certain former officers failed to disclose material facts in
connection with the termination of the


                                       8
<PAGE>   11

merger agreement that had been entered into with Guilford and from certain
inspectional observations by the FDA contained in a Form 483. These complaints
seek compensatory damages in an unspecific amount, fees and expenses related to
such class action and the granting of extraordinary equitable and/or injunctive
relief, including, without limitation, rescission.

The Company, certain officers and certain former officers filed a motion to
consolidate these actions, and certain plaintiffs have moved for the appointment
of lead plaintiff and lead counsel. These motions are currently pending in the
United States District Court for the Northern District of Ohio. The Company has
been granted leave to respond to the complaints until after appointment of lead
plaintiff and the filing of a consolidated amended complaint. Each of these
motions is pending before a single judge.

On March 13, 2001, Geri Fried filed a derivative stockholder lawsuit on behalf
of the Company against certain members and former members of the board of
directors of the Company and certain former officers of the Company in the Court
of Common Pleas of Cuyahoga County, Ohio. The Company is named as a nominal
defendant. The complaint alleges, among other things, breach of fiduciary duty,
gross mismanagement and constructive fraud arising out of, among other things,
the termination of the proposed merger with Guilford, the inspectional
observations by the FDA in its Form 483 relating to the U.S. clinical study of
ADCON-L, and the Company's handling of potential medical device reports to the
FDA. The complaint seeks unspecific compensatory and punitive damages from the
individual defendants and fees and expenses.

On January 29, 2001, Kenneth Rubenstein filed a lawsuit against the Company,
Clinipad Corporation and Lutheran General Hospital in the Circuit Court of Cook
County, Illinois County Department, Law Division alleging certain product
liability claims as a result of the use of ADCON(R)-L during surgery. With
respect to the Company, the complaint alleges that as a result of being
administered ADCON(R)-L during lumbar disc surgery, Mr. Rubenstein suffered a
post-surgical infection resulting in continuous pain, discomfort and permanent
injury. The complaint seeks unspecified monetary damages from the Company in an
amount in excess of $0.05 million.

On October 20, 2000, Mark A. Reichl filed a lawsuit against the Company and
certain of its subsidiaries, officers, directors and employees, Praxa
Pharmaceuticals and one of its employees, John A. Kona, M.D. and The
Williamsburg Community Hospital, Incorporated in the Circuit Court for the City
of Williamsburg, Virginia alleging certain product liability claims as a result
of the use of ADCON(R)-L during surgery. With respect to the Company, the
lawsuit alleges that as a result of being administered ADCON(R)-L during lumbar
spinal surgery, Mr. Reichl has suffered personal injury, pain and suffering,
disability and loss of income. The demand for judgment seeks compensatory and
consequential damages in the amount of $30.0 million and punitive damages in the
amount of $100.0 million.

The Department of Justice and the FDA are conducting an ongoing government
investigation related to, among other things, the Company's handling of
potential product complaints, reporting of potential medical device report
events and the U.S. clinical study of ADCON-L. This investigation could result
in potential civil or criminal penalties being filed against the Company


                                       9
<PAGE>   12

or its employees. The Company has been cooperating and intends to continue to
cooperate with this investigation to resolve these questions as quickly as
possible.

The National Association of Securities Dealers (the "NASD") is conducting a
review of certain trading activity in Company stock by employees and former
employees prior to the August 2000 announcement of the termination of the
proposed merger with Guilford. The Company is cooperating with the NASD in this
review.

Each of the above matters is in the early stages of development. As a result,
management is unable to estimate the probability or the amount of loss, if any,
related to these matters and the investigations. In addition, from time to time,
the Company may be involved in various disputes arising in the ordinary course
of business. In management's opinion, if an unfavorable resolution of these
matters or the investigations occurs, depending on the amount and timing, the
Company's financial position, results of operations or cash flows could be
materially impacted.

Note 9. Comprehensive Loss

The components of comprehensive loss are as follows (in thousands):

<TABLE>
<CAPTION>
                                          Three Months Ended        Six Months Ended
                                                June 30,                 June 30,
                                           2001         2000         2001         2000
                                         --------     --------     --------     --------
<S>                                      <C>          <C>          <C>          <C>
Net loss                                 $ (5,499)    $   (230)    $(11,364)    $   (113)
Unrealized (loss) gain on investments         (13)           7            2            6
                                         --------     --------     --------     --------
Total comprehensive loss                 $ (5,512)    $   (223)    $(11,362)    $   (107)
                                         ========     ========     ========     ========
</TABLE>

Accumulated other comprehensive gain, which is shown as a separate component of
stockholders' equity, was $0.03 million at June 30, 2001 and December 31, 2000,
respectively, and consists entirely of net unrealized gains on investments.




                                       10
<PAGE>   13


Note 10. Loss Per Share Calculation

The following table sets forth the computation of basic and diluted loss per
share (in thousands, except share and per share amounts):

<TABLE>
<CAPTION>
                                          Three Months Ended             Six Months Ended
                                              June 30,                      June 30,
                                        2001           2000            2001             2000
                                        ----           ----            ----             ----
<S>                                 <C>             <C>            <C>             <C>
Basic and diluted loss per share
     computation
Net loss                            $    (5,499)    $     (230)    $   (11,364)    $      (113)
                                    ===========     ==========     ===========     ===========
Average common
     shares outstanding               9,682,637      9,519,949       9,682,637       9,505,232
                                    ===========     ==========     ===========     ===========
Basic and diluted loss per share    $     (0.57)    $    (0.02)    $     (1.17)    $     (0.01)
                                    ===========     ==========     ===========     ===========
</TABLE>

Securities that could potentially dilute earnings per share in future periods
totaled 367,375 and 183,688 for the three and six months ended June 30, 2001,
respectively. Such shares were not included in the computation of diluted loss
per share for those periods as to do so would have been antidilutive.

Note 11. Stock-Based Compensation to Employees and Non-employees

The Company accounts for stock-based compensation related to employees in
accordance with Accounting Principles Board Opinion No. 25, "Accounting for
Stock issued to Employees." The Company recognized compensation cost for fixed
stock options issued to employees and directors of $0.1 million and $0.1 million
for the three and six-month periods ended June 30, 2001, respectively. No
compensation cost for fixed stock options issued to employees and directors was
recognized for the three or six months ended June 30, 2000.

The Company accounts for stock-based compensation related to non-employees in
accordance with Emerging Issues Task Force Issue No. 96-18, "Accounting for
Equity Instruments that are Issued to Other than Employees for Acquiring, or in
Conjunction with Selling, Goods or Services." The Company did not recognize any
compensation expense related to stock options issued to non-employee consultants
for the three or six-month periods ended June 30, 2001. The Company recognized
compensation expense related to stock options issued to non-employee consultants
of $0.05 million and $0.1 million for the three and six months ended June 30,
2000, respectively.






                                       11
<PAGE>   14


ITEM 2                 MANAGEMENT'S DISCUSSION AND ANALYSIS
                OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

OVERVIEW

Gliatech Inc. is engaged in the discovery and development of biosurgery and
pharmaceutical products. The biosurgery products include ADCON(R) gel and
ADCON(R) solution, which are proprietary, resorbable, carbohydrate polymer
medical devices designed to inhibit scarring and adhesions following surgery.
Gliatech's pharmaceutical product candidates include small molecule drugs to
modulate the cognitive state of the nervous system and proprietary monoclonal
antibodies designed to treat inflammatory disorders. Based on European pivotal
clinical studies and other compliance efforts and submission of data, the
Company obtained regulatory clearance to affix CE Marking on ADCON(R)-L and
ADCON(R)-T/N in August 1995 and January 1996, respectively, thereby allowing
ADCON(R)-L and ADCON(R)-T/N to be marketed in the 19 European countries which
recognize CE Marking for lumbar disc surgery and tendon and peripheral nerve
surgeries, respectively. In addition, the Company signed a development and
exclusive license agreement in December 1996 with Chugai for the sale of
ADCON(R)-L and ADCON(R)-T/N in Japan. The Company is engaged in ongoing
discussions with Chugai regarding the licensing and sale of ADCON(R)-L and
ADCON(R)-T/N in Japan.

The Company anticipates that a significant portion of revenue from product sales
will continue to be derived from its ADCON(R) family of products, primarily
ADCON(R)-L. Other revenues have included various government grants awarded to
the Company. The Company has not recognized any grant revenue since the third
quarter of 2000. The Company is also engaged in the research and development of
small molecule compounds for the treatment of several neurological disorders and
antibody therapies to inhibit inflammation. These products may potentially treat
disorders such as, Attention Deficit Hyperactive Disorder, sleep disorders,
anxiety, schizophrenia, rheumatoid arthritis, cardiopulmonary bypass surgery
complications and Alzheimer's Disease.

After receiving FDA approval in May 1998, the Company commenced sales of
ADCON(R)-L in the United States in June 1998. In September 1999, the FDA issued
a warning letter to European Medical Contract Manufacturing B.V. ("EMCM"), the
Company's third party manufacturer, which led to an import ban on all ADCON(R)-L
shipments to the United States. After a successful re-inspection of EMCM's
facilities, the import ban was lifted in December 1999 and the Company resumed
shipments of ADCON(R)-L to the United States in January 2000. After an audit by
the FDA of a post-approval clinical study of ADCON(R)-L, the FDA issued a Form
483 to the Company in August 2000. The Form 483 identified certain items
relating to the recording of data and the process the Company used in recording
and presenting this data to the FDA with respect to the U.S. clinical trial of
ADCON(R)-L. On September 14, 2000, the Company filed a response to the Form 483.
In December 2000, the FDA placed the Company on Application Integrity Policy
("AIP") status due to, among other things, violations of good clinical practices
in the conduct, analysis and reporting of data from the U.S. clinical study of
ADCON(R)-L. The FDA has also communicated to the Company concerns regarding the
Company's handling of potential product complaints and potential medical device
report events. In January 2001, the Company voluntarily discontinued the
worldwide sale of ADCON(R)-L and ADCON(R)-T/N and recalled such products due to
the voluntary recall by a supplier of a raw material used in the manufacture of
these


                                       12
<PAGE>   15

products. In January 2001, the FDA issued an import alert with respect to
ADCON(R)-L due to the supplier recall. The Company has worked with this supplier
to validate production of ADCON(R)-L with the raw material in a modified
container. In May 2001, the Company relaunched ADCON(R)-L internationally in
this modified container. The Company sells ADCON(R)-L through independent
medical device distributors in approximately 33 countries outside the United
States, including the major countries in the European Union pursuant to its CE
Marking. Prior to the product recall, the Company sold ADCON(R)-L through a
network of 31 independent manufacturer's agents that served the orthopaedic and
neurosurgical markets in the United States.

In April 2001, the Company successfully completed an International Standards
Organization 9001 audit that was conducted by KEMA Registered Quality B.V., a
European Notified Body. In addition, the Company completed process
development work relating to a raw material used in the manufacture of
ADCON(R)-L and initiated manufacturing validation runs. In May 2001, the Company
relaunched ADCON(R)-L internationally.

On April 26, 2001, the Company entered into a financing agreement with Paul
Capital Royalty Acquisition Fund, L.P. ("PCRAF") that provides the Company will
initially receive up to $15.0 million in stages. In addition, the Company will
also have the option for the 12 months following the commercial relaunch of
ADCON(R)-L in the United States, to obtain, subject to the satisfaction of
certain other conditions, an additional $15.0 million from PCRAF in the same
general economic terms as the initial agreement. As of June 30, 2001, the
Company has received $7.5 million of the initial $15.0 million and will receive
the remaining $7.5 million upon satisfaction of certain conditions, including,
without limitation, the commercial relaunch of ADCON(R)-L in the United States.

In consideration for the first $15 million, PCRAF will receive royalty payments
based on future sales of ADCON(R) products equal to the greater of i)
approximately 2.5% of net sales or ii) certain guaranteed minimum annual
royalty payments beginning in 2003 at a rate of $1.6 million annually and
increasing in stages during future years up to $9.0 million annually. Royalty
payments to PCRAF end on December 31, 2012. The royalty payments based on the
percentage of net sales and the guaranteed minimum annual payment are subject
to modification under certain conditions. In addition, PCRAF received a warrant
to purchase 300,000 shares of common stock of the Company at $2.00 per share.
In the event of a change in control in the Company or upon the occurrence of
certain other events as defined in the financing agreement, PCRAF has the
option to put its revenue interest back to the Company at a specified rate of
return, which is dependent upon the date at which PCRAF exercises this option
and the level of investment by PCRAF. The Company also has the option to
repurchase PCRAF's royalty interest beginning in 2003.

In June 2001, the Company received permission from the FDA to initiate an
independent re-evaluation of the magnetic resonance imaging ("MRI") data from
the U.S. clinical study of ADCON(R)-L. The re-evaluation will be conducted in
response to the Form FDA 483 received by the Company on August 23, 2000
concerning the post approval U.S. clinical trial of ADCON(R)-L and the FDA's
guidance regarding the steps for the Company to resolve its AIP status.

This re-evaluation is being conducted by an independent clinical research
organization. In this re-evaluation, the magnetic resonance images will be read
independently by two neuroradiologists trained to assess scar formation after
lumbar surgery. The independent re-evaluation of the study has been established
in cooperation with the FDA to ensure the integrity of the data for FDA review
purposes. The re-evaluation is being audited by the independent auditor, Health
Policy Associates, retained by the Company pursuant to its AIP status.




                                       13
<PAGE>   16


RESULTS OF OPERATIONS

For the three-month and six-month periods ended June 30, 2001 and 2000.


REVENUES

Total revenues, which consisted entirely of net product sales in 2001, decreased
85.0% to $1.1 million in the second quarter of 2001 compared to $7.3 million in
the second quarter of 2000 and decreased 92.4% to $1.1 million in the first six
months of 2001 compared to $14.4 million in the first six months of 2000. In
January 2001, the Company voluntarily recalled and discontinued worldwide sale
of its primary products, ADCON(R)-L and ADCON(R)-T/N, due to a recall by a
supplier of a raw material used in the production of these products. In May
2001, the Company relaunched sales of ADCON(R)-L internationally. International
net product sales were $1.1 million in the second quarter and first six months
of 2001. In the second quarter and first six months of 2000, domestic net
product sales were $5.9 million and $11.7 million, respectively, and
international net product sales were $1.2 million and $2.2 million,
respectively. No government grant revenue has been recognized in 2001. In the
second quarter and first six months of 2000, government grant revenue was $0.2
million and $0.5 million, respectively, which related to two Phase II Small
Business Innovation Research ("SBIR") grants whose related costs were incurred
during those periods.

OPERATING COSTS AND EXPENSES

Total operating costs decreased 16.5% to $6.5 million in the second quarter of
2001 compared to $7.8 million in the second quarter of 2000 and 16.3% to $12.6
million in the first six months of 2001 compared to $15.0 million in the first
six months of 2000. Cost of products sold increased to $1.3 million in the
second quarter of 2001 compared to $1.2 million in the second quarter of 2000.
Cost of products sold in the first six months of 2001 increased to $2.7 million
compared to $2.4 million in the first six months of 2000. Cost of products sold
in the second quarter and first six months of 2001 was unfavorably impacted by
$0.4 million and $1.5 million, respectively, of operating and validation costs
incurred at the Company's manufacturing facility in Solon, Ohio and its third
party contract manufacturer, EMCM, as well as $0.3 million and $0.6 million,
respectively, of product recall costs. Cost of products sold in the second
quarter and first six months of 2000 included $0.1 million and $0.5 million,
respectively, of operating costs incurred at the Company's Solon, Ohio
manufacturing facility.

Excluding the operating, validation and product recall costs, cost of products
sold as a percentage of net product sales was 53.7% for the second quarter and
first six months of 2001 and 15.1% and 13.5% for the second quarter and first
six months of 2000, respectively. Cost of products sold as a percentage of net
product sales was unfavorably impacted in 2001 because net product sales
consisted entirely of lower margin international sales compared to net product
sales in fiscal 2000, which consisted primarily of higher margin domestic sales.

Research and development expenses decreased 10.4% to $2.9 million in the second
quarter of 2001 compared to $3.2 million in the second quarter of 2000 and
decreased 9.4% to $5.3 million

                                       14
<PAGE>   17

for the first six months of 2001 compared to $5.8 million for the first six
months of 2000. These decreases resulted primarily from a $0.8 million reduction
in ADCON-P pivotal trial costs in the first six months of 2001 compared to the
first six months of 2000 as patient enrollment and certain related consulting
costs were completed in 2000. Other research consulting costs also decreased by
$0.4 million in the first six months of 2001 compared to the first six months of
2000. These decreases were partially offset by an increase of $0.9 million in
clinical development costs related to the GT-2331 Phase II clinical trial,
clinical research organization costs incurred for site visits where pilot
clinical trials are underway for the use of ADCON(R)-L in breast augmentation
surgeries and third-party costs related to the re-evaluation of the magnetic
resonance imaging data from the U.S. clinical study of ADCON(R)-L.

Selling, general and administrative expenses decreased 17.2% to $2.3 million in
the second quarter of 2001 compared to $2.8 million in the second quarter of
2000 and decreased 23.9% to $4.7 million in the first six months compared to
$6.1 million in the first six months of 2000. Commission expense decreased by
$1.0 million and $2.2 million, respectively, in the second quarter and first six
months of 2001 compared to 2000 due to the discontinuance of sales in the U.S.
in January 2001. These decreases were partially offset by a $0.6 million
increase in consulting costs in both the second quarter and first six months of
2001 compared to 2000 for third party costs incurred related to matters
regarding the Company's AIP status with the FDA. The Company also incurred $0.6
million and $0.7 million in the second quarter and first six months of 2000,
respectively, related to professional expenses and fees in connection with the
proposed merger with Guilford Pharmaceuticals, Inc.

INTEREST INCOME (EXPENSE)

Interest income (expense), net, decreased 136.0% to $(0.1) million in the second
quarter of 2001 compared to $0.3 million in the second quarter of 2000 and
decreased 81.4% to $0.1 million for the first six months of 2001 compared to
$0.5 million in the first six months of 2000. The decreases were due to a
reduction in assets earning interest, such as cash, cash equivalents and
investment balances which were used to fund operations due to reduced net
product sales and a $0.2 million non-cash interest charge incurred in the second
quarter of 2001 related to the long-term obligation with PCRAF.

NET LOSS

The Company's net loss increased to $(5.5) million or $(0.57) per share in the
second quarter of 2001 compared to $(0.2) million or $(0.02) per share in the
second quarter of 2000 and increased to $(11.4) million or $(1.17) per share for
the first six months of 2001 compared to $(0.1) million or $(0.01) per share for
the first six months of 2000 due primarily to reduced net product sales and the
other factors described above.


LIQUIDITY AND CAPITAL RESOURCES

Prior to the commercialization of ADCON(R)-L in the United States, the Company
historically financed its operations primarily through the private placement and
public offering of its equity securities, research contract licensing fees, and,
to a lesser extent, through federally sponsored


                                       15
<PAGE>   18

research grants. The Company has not received any government grant revenue since
the third quarter of 2000. The Company has applied for new grant funding,
however, there can be no assurance that the Company will be awarded any new
grants. In October 1995, the Company received net proceeds of $19.7 million from
its initial public offering in which it sold 2,300,000 shares of its common
stock. In June 1998, the Company raised additional funds through a public
offering of 1,725,000 shares of its common stock, including the exercise of the
over-allotment option of 225,000 shares. The net proceeds to the Company from
this offering were $18.9 million.

In order to preserve principal and maintain liquidity, the Company's funds are
invested primarily in commercial paper and other short-term investments. The
Company's cash, cash equivalents and investments decreased by $0.8 million to
$11.3 million at June 30, 2001 compared to $12.1 million at December 31, 2000
due to cash used to fund operations, which was partially offset by a capital
infusion of $7.5 million from PCRAF in the second quarter of 2001. Although
sales of ADCON(R)-L outside the U.S. resumed in May 2001, the Company does not
expect to generate a positive cash flow from operations in 2001 as sales of
ADCON(R)-L in the U.S. have been discontinued for an indefinite period.

On April 26, 2001, the Company entered into a financing agreement with PCRAF
that provides the Company will initially receive up to $15.0 million in stages.
In addition, the Company will also have the option for the 12 months following
the commercial relaunch of ADCON(R)-L in the United States, to obtain, subject
to the satisfaction of certain other conditions, an additional $15.0 million
from PCRAF on the same general economic terms as the initial arrangement. As of
June 30, 2001, the Company has received $7.5 million of the initial $15.0
million and will receive the remaining $7.5 million upon satisfaction of certain
conditions, including, without limitation, the commercial relaunch of ADCON(R)-L
in the United States.

In consideration for the first $15 million, PCRAF will receive royalty payments
based on future sales of ADCON(R) products equal to the greater of i)
approximately 2.5% of net sales or ii) certain guaranteed minimum annual
royalty payments beginning in 2003 at a rate of $1.6 million annually and
increasing in stages during future years up to $9.0 million annually. Royalty
payments to PCRAF end on December 31, 2012. The royalty payments based on the
percentage of net sales and the guaranteed minimum annual payment are subject
to modification under certain conditions. If, among other things, Adcon-L is
not relaunched in the United States by a certain date and at a certain level,
then: i) the revenue interest would change to an increased percentage of future
sales outside of the United States; ii) guaranteed minimum annual royalty
payments would be reduced; iii) PCRAF's future funding obligations to the
Company would be terminated; and iv) the Company's option to receive additional
capital would be terminated. In addition, PCRAF received a warrant to purchase
300,000 shares of common stock of the Company at $2.00 per share. In the event
of a change in control in the Company or upon the occurrence of certain other
events as defined in the financing agreement, PCRAF has the option to put its
revenue interest back to the Company at a specified rate of return, which is
dependent upon the date at which PCRAF exercises this option and the level of
investment by PCRAF. The Company also has the option to repurchase PCRAF's
royalty interest beginning in 2003. Given this infusion of capital, the Company
believes that it has sufficient cash, cash equivalents and short-term
investments on hand to meet operating requirements through February 2002.

As sales of ADCON(R)-L in the U.S., which have historically represented the
majority of net product sales and substantially all of the revenues of the
Company, have been discontinued, there is substantial doubt about the Company's
ability to continue as a going concern. The Company's continued operations will
depend on its ability to raise additional funds through various potential
sources such as equity and debt financing, collaborative agreements, strategic
alliances, recommencing commercial sales of ADCON(R)-L in the U.S., validation
of the Solon, Ohio manufacturing facility for commercial distribution in the
U.S., the outcome of pending litigation and investigations and its ability to
realize the full potential of its technology and its drug candidates. The
Company currently is in active discussion with several potential strategic
alliance partners to further the development of drug candidates in its pipeline.
In addition, management is pursuing other equity and debt financing alternatives
to raise additional funds. However, there can be no


                                       16
<PAGE>   19

assurance that any alliances or funding alternatives will be consummated as
these alternatives may be dependent upon many other factors including, without
limitation, market conditions, and such alliances or financing may not be
available or be available on acceptable terms. The Company's ability to raise
additional funds may also depend upon obtaining regulatory approval to
recommence sales of ADCON(R)-L in the U.S., which is dependent upon the outcome
of the FDA review and assessment of the Company's clinical data, including,
without limitation, the outcome of the re-evaluation of the MRI data from the
U.S. clinical study of ADCON-L and the timeliness of FDA review due to the AIP
status of the Company.

The Company's future capital requirements will depend on, and could increase as
a result of many factors, including, but not limited to, the cost for
recommercialization of ADCON(R)-L in the U.S., the future commercialization
success of its ADCON family of products, the progress of the Company's research
and development, including the costs related to its Cognition Modulation
GT-2331, Alzheimer's Disease, antibody, schizophrenia and other pharmaceutical
programs, the scope, timing and results of preclinical studies and clinical
trials, the cost and timing of obtaining regulatory approvals and resolution of
the issues outlined in FDA Forms 483, the outcome of pending litigation and
investigations, the Company's success in obtaining the strategic alliances
required to fund certain of its programs, the rate of technological advances,
determinations as to the commercial potential of certain of the Company's
product candidates, the status of competitive products and the establishment of
additional manufacturing capacity. The Company may reduce or even eliminate
certain programs or activities based on management's assessment of the status of
the FDA review of clinical data, AIP status, manufacturing and other test
results as well as the financial condition of the Company in order to decrease
future capital requirements.

The Company from time to time is involved in various stages of discussion or
negotiation regarding acquisitions or mergers and from time to time other
strategic alternatives. As of the date hereof, the Company has not entered into
a definitive agreement with respect to any such financing transaction or other
strategic alternative, other than with PCRAF. The Company is pursuing the
issuance of additional equity securities or debt instruments and may pursue
corporate collaborative agreements or strategic alliances, as required, to meet
its capital requirements. The issuance of additional equity securities, if any,
could result in substantial dilution to the Company's stockholders. There can be
no assurance that the additional funding will be available on terms acceptable
to the Company, if at all. The failure to fund the Company's capital
requirements would have a material adverse effect on its business, financial
condition and results of operations.


EURO CONVERSION

On January 1, 1999, eleven of the fifteen countries (the "Participating
Countries") that are members of the European Union established a new uniform
currency known as the "Euro." The currencies existing prior to such date in the
Participating Countries will be phased out during the transition period
commencing January 1, 1999 and ending January 1, 2002. During such transition
period both the Euro and the existing currencies will be available in the
Participating Countries. Although certain of the Company's products are being
sold in the Participating Countries through independent distributors, the
Company receives revenues from such sales


                                       17
<PAGE>   20

in U.S. dollars. As a result, the Company does not anticipate that the
introduction and use of the Euro will materially affect the Company's business,
prospects, results of operations or financial condition


FORWARD-LOOKING STATEMENTS. Certain statements in this Quarterly Report on Form
10-Q constitute "forward-looking statements." When used in this Form 10-Q, the
words "believes," "anticipates," "expects," "intends" and other predictive,
interpretive and similar expressions are intended to identify such
forward-looking statements. Such forward-looking statements involve known and
unknown risks, uncertainties and other factors that may cause the actual results
of the Company to be different from expectations expressed or implied by such
forward-looking statements. Such factors include, but are not limited to,
commercial uncertainty of regulatory approvals of the Company's ADCON products,
including the timing and content of decisions made by the FDA, relating to,
among other things, decisions regarding the sale of ADCON-L, the uncertainty of
the outcome of the re-evaluation of the MRI data from the U.S. clinical study of
ADCON-L, product recalls, the import alert and inspectional observations,
commercial uncertainty of market acceptance of the Company's ADCON family of
products, delays in product development of additional ADCON products,
uncertainty of outcomes of future FDA audits and inspections, the uncertainty of
the status of the Company with respect to AIP regulations, the uncertainty of
expenses associated with clinical trials and research efforts, which may affect
the profitability of the Company, uncertainty due to the early stage of
development for the pharmaceutical programs, the possible need for additional
funding, the ability of the Company to establish and maintain collaborative
arrangements with others, the potential market size for ADCON products, the
ability of the Company to obtain an adequate supply of the materials used in the
manufacture of its ADCON products, the productivity of distributors of ADCON
products, shortages of supply of ADCON products from the Company's sole
manufacturer, the ability of the Company to manufacture ADCON products at its
Solon, Ohio facility, the lack of supply of raw materials for the Company's
products, uncertainty of future profitability, uncertainties related to the
Company's proprietary rights in its products, the outcome of pending litigation
and investigations, technological change and the ability of the Company to fund
its capital requirements through cash from operations or the issuance of debt or
equity securities, the ability of the Company to consummate strategic
collaborations or other strategic alternatives on terms satisfactory to the
Company, or at all. These statements are based on certain assumptions and
analysis made by the Company in light of its experience and its perception of
historical trends, current conditions, expected future developments and other
factors it believes are appropriate in the circumstances. Such statements are
subject to a number of other assumptions, risks, uncertainties, general economic
and business conditions, and the business opportunities (or lack thereof) that
may be presented to and pursued by the Company. Prospective investors are
cautioned that any such statements are not guarantees of future performance and
that actual results or developments may differ materially from those projected
in the forward-looking statements.




                                       18
<PAGE>   21


ITEM 3                QUANTITATIVE AND QUALITATIVE DISCLOSURES
                                ABOUT MARKET RISK

The Company does not enter into derivative financial instruments. The Company
primarily invests in commercial paper and corporate bonds that have short-term
maturities. The Company has no outstanding debt. Exposure to foreign currency
has been minimal because the Company's foreign product sales are in U.S.
currency. As a result, the Company believes that its market risk exposure is not
material to the Company's financial position, liquidity or results of
operations.






                                       19
<PAGE>   22


                                     PART II
                                OTHER INFORMATION



ITEM 1: LEGAL PROCEEDINGS

The following action was instituted against the Company during the period
covered by this Quarterly Report on Form 10-Q:

On May 5, 2001, Norman V. Woods filed a lawsuit against the Company and its
wholly owned subsidiaries, Gliatech Medical Inc. and GIC, Inc. in the United
States District Court for the Western District of Virginia alleging, among other
things, certain product liability claims as a result of the use of ADCON-L
during surgery. The complaint seeks $5.0 million in damages plus $0.4 million in
punitive damages from each defendant, plus costs and expenses, including,
without limitation, legal fees.

As reported in the Company's Annual Report on Form 10-K for the fiscal year
ended December 31, 2000, the following actions have been instituted against the
Company, none of which were commenced during the period covered by this
Quarterly Report on Form 10-Q.

To date, the following plaintiffs, on behalf of themselves and all other persons
similarly situated, have filed ten class action lawsuits against the Company,
certain of its officers and certain former officers in the United States
District Court for the Northern District of Ohio alleging violation of the
federal securities laws. These complaints allege that the Company, certain
officers and certain former officers failed to disclose material facts in
connection with the termination of the merger agreement that had been entered
into with Guilford and from certain inspectional observations by the FDA
contained in a Form 483. These complaints seek compensatory damages in an
unspecific amount, fees and expenses related to such class action and the
granting of extraordinary equitable and/or injunctive relief, including, without
limitation, rescission. For each of these class actions, the date each complaint
was filed and the name of the plaintiff is as follows:

                  Date                      Plaintiff
                  ----                      ---------

                  September 5, 2000         Avrom Gart
                  September 7, 2000         Jason Raker
                  September 12, 2000        Jon Burgermeister
                  September 13, 2000        Carl L. Evans
                  September 27, 2000        WPG Merger Arbitrage Fund, L.P.
                                            and WPG Merger Arbitrage Overseas
                                            Fund, Ltd.
                  October 4, 2000           Eric Ford
                  October 5, 2000           Steven R. Graupner
                  October 19, 2000          James Berman
                  October 20, 2000          Atul Verma
                  November 1, 2000          Daniel Triefler


                                       20
<PAGE>   23

The Company, certain officers and certain former officers filed a motion to
consolidate these actions, and certain plaintiffs have moved for the appointment
of lead plaintiff and lead counsel. These motions are currently pending in the
United States District Court for the Northern District of Ohio. The Company has
been granted leave to respond to the complaints until after appointment of lead
plaintiff and the filing of a consolidated amended complaint. Each of these
motions is pending before a single judge.

On March 13, 2001, Geri Fried filed a derivative stockholder lawsuit on behalf
of the Company against certain members and former members of the board of
directors of the Company and certain former officers of the Company in the Court
of Common Pleas of Cuyahoga County, Ohio. The Company is named as a nominal
defendant. The complaint alleges, among other things, breach of fiduciary duty,
gross mismanagement and constructive fraud arising out of, among other things,
the termination of the proposed merger with Guilford, the inspectional
observations by the FDA in its Form 483 relating to the U.S. clinical study of
ADCON-L, and the Company's handling of potential medical device reports to the
FDA. The complaint seeks unspecific compensatory and punitive damages from the
individual defendants and fees and expenses.

On January 29, 2001, Kenneth Rubenstein filed a lawsuit against the Company,
Clinipad Corporation and Lutheran General Hospital in the Circuit Court of Cook
County, Illinois County Department, Law Division alleging certain product
liability claims as a result of the use of ADCON(R)-L during surgery. With
respect to the Company, the complaint alleges that as a result of being
administered ADCON(R)-L during lumbar disc surgery, Mr. Rubenstein suffered a
post-surgical infection resulting in continuous pain, discomfort and permanent
injury. The complaint seeks unspecified monetary damages from the Company in an
amount in excess of $0.05 million.

On October 20, 2000, Mark A. Reichl filed a lawsuit against the Company and
certain of its subsidiaries, officers, directors and employees, Praxa
Pharmaceuticals and one of its employees, John A. Kona, M.D. and The
Williamsburg Community Hospital, Incorporated in the Circuit Court for the City
of Williamsburg, Virginia alleging certain products liability claims as a result
of the use of ADCON(R)-L during surgery. With respect to the Company, the
lawsuit alleges that as a result of being administered ADCON(R)-L during lumbar
spinal surgery, Mr. Reichl has suffered personal injury, pain and suffering,
disability and loss of income. The demand for judgment seeks compensatory and
consequential damages in the amount of $30.0 million and punitive damages in the
amount of $100.0 million.

The Department of Justice and the FDA are conducting an ongoing government
investigation related to, among other things, the Company's handling of
potential product complaints, reporting of potential medical device report
events and the U.S. clinical study of ADCON-L. This investigation could result
in potential civil or criminal penalties being filed against the Company or its
employees. The Company has been cooperating and intends to continue to cooperate
with this investigation to resolve these questions as quickly as possible.


                                       21
<PAGE>   24

The NASD is conducting a review of certain trading activity in Company stock by
employees and former employees prior to the August 2000 announcement of the
termination of the proposed merger with Guilford. The Company is cooperating
with the NASD in this review.

Each of the above matters is in the early stages of development. As a result,
management is unable to estimate the probability or the amount of loss, if any,
of these matters and the investigations. In addition, from time to time, the
Company may be involved in various disputes arising in the ordinary course of
business. In management's opinion, if an unfavorable resolution of these matters
or the investigations occurs, depending on the amount and timing, the Company's
financial position, results of operations or cash flows could be materially
impacted.




                                       22
<PAGE>   25


ITEM 2: CHANGES IN SECURITIES

On April 26, 2001, the Company issued a warrant to purchase 300,000 shares of
the common stock of the Company to Paul Capital Royalty Acquisition Fund, L.P.
("PCRAF") in a transaction exempt from the registration requirements of the
Securities Act of 1933 in reliance on Section 4(2) of such Act. This warrant was
issued in connection with the Revenue Interests Assignment Agreement, dated as
of April 26, 2001, by and between the Company and PCRAF.




                                       23
<PAGE>   26


ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

On May 15, 2001, at the Annual Meeting of Stockholders of Gliatech Inc., the
stockholders took the following actions:

(1)     Elected as Directors all nominees designated in the Proxy Statement
        dated April 17, 2001.

(2)     Approved the Gliatech Inc. 2001 Stock Incentive Plan

(3)     Approved the appointment of the independent certified public accountants
        of the Company for the current fiscal year.

The Directors were elected pursuant to the following vote:


NOMINEE            FOR             WITHHELD      ABSTAIN     BROKER NON-VOTE

ROBERT P. PINKAS   8,279,162       53,467           --             --

STEVEN L. BASTA    8,279,162       53,467           --             --


In addition, the following Directors' term of office continued after the
meeting: William A. Clarke and Ronald D. Henriksen.


The approval of the Gliatech Inc. 2001 Stock incentive Plan was approved by the
following vote:


                   FOR             WITHHELD      ABSTAIN     BROKER NON-VOTE

                   3,122,372       475,346       22,125      4,712,786


The approval of appointment of Ernst & Young LLP as independent certified public
accountants to the Company for its current fiscal year was approved by the
following vote:


                   FOR              WITHHELD     ABSTAIN     BROKER NON-VOTE

                   8,303,799       20,784        8,046             --


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<PAGE>   27


ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K

(a)      Exhibits

10.1     Form of Distributor Agreement

10.2     Warrant, dated April 26, 2001, by and between the Company and Paul
         Capital Royalty Acquisition Fund, L.P. is incorporated by reference to
         Exhibit 10.2 of the Company's Quarterly Report on Form 10-Q for the
         quarterly period ended March 31, 2001.

10.3     Security Agreement, dated as of April 26, 2001, by and between the
         Company and Paul Capital Royalty Acquisition Fund, L.P. is incorporated
         by reference to Exhibit 10.3 of the Company's Quarterly Report on Form
         10-Q for the quarterly period ended March 31, 2001.

10.4     Revenue Interests Assignment Agreement, dated as of April 26, 2001, by
         and between the Company and Paul Capital Royalty Acquisition Fund, L.P.
         (certain portions of this exhibit have been omitted and were filed
         separately with the Securities and Exchange Commission pursuant to a
         request by the Company for confidential treatment) is incorporated by
         reference to Exhibit 10.4 of the Company's Quarterly Report on Form
         10-Q for the quarterly period ended March 31, 2001.

(b)      The Company did not file any Current Reports on Form 8-K during the
         three months ended June 30, 2001.







                                       25
<PAGE>   28


                                   SIGNATURES


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

Date: August 14, 2001              GLIATECH INC.


                             By:           /s/Thomas F. Barnish
                                           --------------------
                                  Thomas F. Barnish, Chief Financial Officer
                                    (Duly Authorized Officer and Principal
                                      Financial and Accounting Officer)





                                       26
<PAGE>   29


                                  EXHIBIT INDEX


Exhibit No.           Description of Exhibit
-----------           ----------------------



10.1     Form of Distributor Agreement

10.2     Warrant, dated April 26, 2001, by and between the Company and Paul
         Capital Royalty Acquisition Fund, L.P. is incorporated by reference to
         Exhibit 10.2 of the Company's Quarterly Report on Form 10-Q for the
         quarterly period ended March 31, 2001.

10.3     Security Agreement, dated as of April 26, 2001, by and between the
         Company and Paul Capital Royalty Acquisition Fund, L.P. is incorporated
         by reference to Exhibit 10.3 of the Company's Quarterly Report on Form
         10-Q for the quarterly period ended March 31, 2001.

10.4     Revenue Interests Assignment Agreement, dated as of April 26, 2001, by
         and between the Company and Paul Capital Royalty Acquisition Fund, L.P.
         (certain portions of this exhibit have been omitted and were filed
         separately with the Securities and Exchange Commission pursuant to a
         request by the Company for confidential treatment) is incorporated by
         reference to Exhibit 10.4 of the Company's Quarterly Report on Form
         10-Q for the quarterly period ended March 31, 2001.







                                       27