UNITED STATES SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                    FORM 10-Q




     [X]   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
           OF THE SECURITIES AND EXCHANGE ACT OF 1934

           FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1998

                              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:  0-016607



                         ADVANCED TISSUE SCIENCES, INC.
               (Exact name of registrant as specified in charter)





          Delaware                                      14-1701513
 -------------------------------                    -------------------
 (State or other jurisdiction of                     (I.R.S. Employer
 incorporation or organization)                     Identification No.)

10933 North Torrey Pines Road, La Jolla, California          92037
---------------------------------------------------        ----------
    (Address of principal executive offices)               (Zip Code)

Registrant's telephone number, including area code:  (619) 450-5730



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 of the Registrant's Common Stock, par value $.01 per share,
outstanding at August 1, 1998 was 39,324,173.

<PAGE>

                         ADVANCED TISSUE SCIENCES, INC.

                  FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 1998



                                      INDEX
                                      -----


Part I - Financial Information
------------------------------
                                                                         Page
                                                                         ----
  Item 1 - Financial Statements

             Introduction to the Financial Statements                      1

             Consolidated Balance Sheets -
               June 30, 1998 and December 31, 1997                         2

             Consolidated Statements of Operations -
               Three and Six Months Ended June 30, 1998 and 1997           3

             Consolidated Statements of Cash Flows -
               Six Months Ended June 30, 1998 and 1997                     4

             Consolidated Statement of Stockholders' Equity -
               Six Months Ended June 30, 1998                              5

             Notes to the Consolidated Financial Statements               6-9

  Item 2 - Management's Discussion and Analysis of Financial
             Condition and Results of Operations                         10-13

Part II -  Other Information
----------------------------

  Item 1 - Legal Proceedings                                              14

  Item 4 - Submission of Matters to a Vote of Security Holders            14

  Item 5 - Other Information                                              14

  Item 6 - Exhibits and Reports on Form 8-K                               15

Signatures                                                                15



<PAGE>



                         PART I - FINANCIAL INFORMATION
                         ------------------------------            

ITEM 1 - FINANCIAL STATEMENTS


                    INTRODUCTION TO THE FINANCIAL STATEMENTS

     The financial statements have been prepared by Advanced Tissue Sciences,
Inc. (the "Company"), without audit, pursuant to the rules and regulations of
the Securities and Exchange Commission.  Certain information and footnote
disclosures normally included in financial statements prepared in accordance
with generally accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations.  The Company believes that the
disclosures are adequate to make the information presented not misleading when
read in conjunction with the financial statements and the notes thereto included
in the Company's Annual Report on Form 10-K for the year ended December 31, 1997
and Quarterly Report on Form 10-Q for the three months ended March 31, 1998.

     The financial information presented in this Quarterly Report on Form 10-Q
reflects all adjustments, consisting only of normal recurring adjustments, which
are, in the opinion of management, necessary for a fair statement of the results
for the interim periods presented.  The results for the interim periods are not
necessarily indicative of results to be expected for the full year.


                                  -1-

<PAGE>


                         ADVANCED TISSUE SCIENCES, INC.

                           CONSOLIDATED BALANCE SHEETS
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)




<TABLE>
<CAPTION>

                                                 June 30,      December 31,
                                                   1998           1997
                                               ------------    ------------
                                                (Unaudited)
<S>                                            <C>             <C>
  ASSETS
Current assets:
   Cash and cash equivalents (Note 8)          $     12,965    $     15,086
   Short-term investments                             4,000           2,000
   Inventory                                          3,954           4,643
   Other current assets                               2,650           1,395
                                               ------------    ------------

       Total current assets                          23,569          23,124
Property - net                                       23,222          23,190
Patent costs - net                                    1,717           1,608
Other assets                                          1,729           2,538
                                               ------------    ------------

       Total assets                            $     50,237    $     50,460
                                               ============    ============

  LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities:
   Current portion of long-term debt and 
    capital lease obligations                  $      2,793    $      1,939 
   Accounts payable                                   1,364             958 
   Accrued expenses                                   5,364           7,011 
                                               ------------    ------------

       Total current liabilities                      9,521           9,908 
Long-term debt and capital lease obligations         27,113          26,157 
Other long-term liabilities                             401             245 
Minority interest in consolidated subsidiary            321             184 
                                               ------------    ------------

       Total liabilities                             37,356          36,494 
                                               ------------    ------------

Stockholders' equity:
   Preferred Stock, $.01 par value; 
     1,000,000 shares authorized; none issued
     as of June 30, 1998 and December 31, 1997           --              -- 
   Common Stock, $.01 par value; 
     100,000,000 shares authorized; issued
     and outstanding, 39,324,173 shares at 
     June 30, 1998 and 37,673,983 shares at 
     December 31, 1997                                  393             377 
   Additional paid-in capital                       211,520         189,679 
   Accumulated deficit                             (198,113)       (175,171)
                                               ------------    ------------

                                                     13,800          14,885 

   Less note received in connection with 
     sale of Common Stock                              (919)           (919)
                                               ------------    ------------

       Total stockholders' equity                    12,881          13,966 
                                               ------------    ------------

       Total liabilities and stockholders' 
         equity                                $     50,237    $     50,460 
                                               ============    ============

</TABLE>

         See accompanying notes to the consolidated financial statements.

                                  -2-

<PAGE>


                         ADVANCED TISSUE SCIENCES, INC.

                      CONSOLIDATED STATEMENTS OF OPERATIONS
                    (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)




<TABLE>
<CAPTION>

                                        Three Months Ended June 30,    Six Months Ended June 30,
                                       -----------------------------  ---------------------------
                                            1998           1997           1998          1997
                                       -----------------------------  ---------------------------
                                                                (Unaudited)
<S>                                    <C>              <C>           <C>             <C>
Revenues:
  Product sales -
    Related parties                    $    2,063       $     222     $    4,478      $     222 
    Others                                    293             450            520            450
  Contracts and fees -
    Related parties                         1,974           2,947          4,513          5,586 
    Others                                    103              --            228             10 
                                       ----------       ---------     ----------      ---------

    Total revenues                          4,433           3,619          9,739          6,268 
                                       ----------       ---------     ----------      ---------

Costs and expenses:
  Research and development                  3,803           4,497          7,657          9,465 
  Selling, general and administrative       3,768           3,641          7,380          6,761 
  Cost of goods sold                        3,024             708          6,952            708 
  Professional and consulting                 624             678            952          1,352 
                                       ----------       ---------     ----------      ---------

    Total costs and expenses               11,219           9,524         22,941         18,286 
                                       ----------       ---------     ----------      ---------

Loss from operations before equity
  in losses of joint ventures              (6,786)         (5,905)       (13,202)       (12,018)

Equity in losses of joint ventures         (4,637)         (2,642)        (8,889)        (4,349)
                                       ----------       ---------     ----------      ---------

Loss from operations                      (11,423)         (8,547)       (22,091)       (16,367)

Other income (expense):
  Interest income and other                    31             685            300            978 
  Interest expense                           (595)           (251)        (1,151)          (256)
                                       ----------       ---------     ----------      ---------

Net loss                               $  (11,987)      $  (8,113)    $  (22,942)     $  (15,645)
                                       ==========       =========     ==========      ==========

Basic and diluted loss per share       $     (.30)      $    (.22)    $     (.59)     $     (.42)
                                       ==========       =========     ==========      ==========

Weighted average number of common
  shares used in computation of basic
  and diluted loss per share               39,324          37,519         39,128          37,504 
                                       ==========       =========     ==========      ==========

</TABLE>

         See accompanying notes to the consolidated financial statements.

                                  -3-

<PAGE>


                          ADVANCED TISSUE SCIENCES, INC.

                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (IN THOUSANDS)




<TABLE>
<CAPTION>

                                                     Six Months Ended June 30,
                                                    ---------------------------
                                                        1998          1997
                                                    ------------  -------------
                                                             (Unaudited)
<S>                                                 <C>           <C>
Operating activities:
   Net loss                                         $  (22,942)   $   (15,645)
   Adjustments to reconcile net loss to cash
     used in operating activities:
      Equity in losses of joint ventures                 8,889          4,349 
      Depreciation and amortization                      2,326          1,038 
      Compensation for services paid in stock,
        stock options or warrants                          809            219 
      Other adjustments to net loss                        297             60 
      Change in assets and liabilities:
        Inventory                                          689         (1,634)
        Other current assets                            (1,255)        (1,519)
        Accounts payable                                   406            246 
        Accrued expenses                                (1,647)          (445)
                                                    ----------     ----------

           Net cash used in operating activities       (12,428)       (13,331)
                                                    ----------     ----------

Investing activities:
   Purchases of short-term investments                  (3,972)        (2,248)
   Maturities and sales of short-term investments        1,972          9,572 
   Acquisition of property                              (2,496)        (8,405)
   Distribution from joint ventures                      1,175             -- 
   Equity investment in joint ventures                 (10,050)        (5,362)
   Patent application costs                               (131)          (131)
   Other assets                                            991         (2,035)
                                                    ----------     ----------

          Net cash used in investing activities        (12,511)        (8,609)
                                                    ----------     ----------

Financing activities:
   Proceeds from borrowings                              2,558         11,776 
   Payments of borrowings                                 (748)           (11)
   Net proceeds from sale of equity                     20,000             -- 
   Options and warrants exercised                          852            673 
   Other long-term obligations                             156             -- 
                                                    ----------     ----------

          Net cash provided by financing 
            activities                                  22,818         12,438 
                                                    ----------     ----------

Net decrease in cash and cash equivalents               (2,121)        (9,502)
Cash and cash equivalents at beginning of period        15,086         27,907 
                                                    ----------     ----------

Cash and cash equivalents at end of period          $   12,965     $   18,405 
                                                    ==========     ==========

</TABLE>

         See accompanying notes to the consolidated financial statements.

                                  -4-

<PAGE>


                        ADVANCED TISSUE SCIENCES, INC.

                 CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
                                 (IN THOUSANDS)




<TABLE>
<CAPTION>

                                                                                               Total
                                                      Additional                              Stock-
                                  Common Stock         Paid-In    Accumulated      Note       Holders'
                              ---------------------
                               Shares       Amount     Capital      Deficit     Receivable    Equity
                              --------     --------   ----------  -----------   ----------    --------
                                                              (Unaudited)

<S>                            <C>         <C>        <C>          <C>          <C>           <C>
Balance, December 31, 1997     37,674      $   377    $ 189,679    $(175,171)   $    (919)    $  13,966 

Sale of Common Stock            1,533           15       19,985                                  20,000 

Options exercised                 117            1          851                                     852 

Options and warrants
  granted for services                                    1,005                                   1,005 

Net loss                                                             (22,942)                   (22,942)
                               ------      -------    ---------    ---------    ---------     ---------

Balance, June 30, 1998         39,324      $   393    $ 211,520    $(198,113)   $    (919)    $  12,881 
                               ======      =======    =========    ============ =========     =========

</TABLE>

         See accompanying notes to the consolidated financial statements.

                                  -5-

<PAGE>


                         ADVANCED TISSUE SCIENCES, INC.

                 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
                                   (Unaudited)

NOTE 1 - BASIS OF PRESENTATION

Organization - Advanced Tissue Sciences, Inc. (the "Company") is a tissue
engineering company utilizing its proprietary technology to develop and
manufacture human-based tissue products for tissue repair and transplantation.
The Company is focusing on the worldwide commercialization of skin, cartilage
and cardiovascular products.  The Company's leading therapeutic products are
tissue engineered skin products for the temporary covering of severe and
partial-thickness burns, which is on the market in the United States, and for
the treatment of diabetic foot ulcers, which is in clinical trials in the United
States and on the market in Canada, the United Kingdom and several other
European countries through a joint venture with Smith & Nephew plc ("Smith &
Nephew").

Principles of Consolidation - The consolidated financial statements include the
accounts of the Company, its wholly owned subsidiaries and DermEquip, L.L.C.
("DermEquip"), a limited liability company owned jointly with Smith & Nephew.
All intercompany accounts and transactions have been eliminated.  The Company's
other interests in joint ventures with Smith & Nephew are accounted for under
the equity method (see Note 2).

Reclassification - Certain reclassifications have been made to prior year
amounts to conform to the presentation for the three months and six months ended
June 30, 1998.

NOTE 2 - STRATEGIC ALLIANCES

In April 1996, the Company entered into an agreement with Smith & Nephew to form
a fifty-fifty joint venture for the worldwide commercialization of 
Dermagraft(R), the Company's tissue engineered dermal skin replacement, for the 
treatment of diabetic foot ulcers (the "Dermagraft Joint Venture").  In 
January 1998, the Company and Smith & Nephew expanded the Dermagraft Joint 
Venture to include venous ulcers, pressure ulcers, burns and other skin tissue 
wounds.  At that time, the Company retained the exclusive right to market 
Dermagraft-TC(R), a temporary covering for full and partial-thickness burns, 
in the United States, while the Dermagraft Joint Venture was granted the right 
to market Dermagraft-TC for other skin wounds in the United States.  In August 
1998, the Company and Smith & Nephew expanded the Dermagraft Joint Venture to 
include exclusive rights to Dermagraft-TC for full and partial-thickness burns 
in the United States effective October 1, 1998 (see Note 8).  Smith & Nephew 
is a worldwide healthcare company with extensive sales and distribution 
capabilities.  It manufactures a wide range of tissue repair products, 
principally addressing the areas of bone, joints, skin and other soft tissue.

As consideration for entering into the Dermagraft Joint Venture, Advanced Tissue
Sciences received a $10 million up front fee in 1996.  In addition, as a part of
the agreement to expand the joint venture, Smith & Nephew purchased $20 million,
or 1,533,115 newly-issued shares, of the Company's Common Stock at approximately
$13.05 per share in January 1998.  The Company will also receive an additional
$15 million, directly or through the Dermagraft Joint Venture, upon the earlier
of (i) U.S. Food and Drug Administration ("FDA") approval for the marketing of
Dermagraft in the treatment of diabetic foot ulcers or (ii) January 4, 1999, and
could receive, subject to the achievement of certain milestones related to
regulatory approvals, reimbursement and sales levels, further payments of up to
$136 million.

In the expanded joint venture, the Company and Smith & Nephew will continue to
share equally in the expenses and revenues of the Dermagraft Joint Venture,
except the Company will fund the first $6 million of expenses for conducting
clinical trials and for regulatory support of Dermagraft and Dermagraft-TC in
the treatment of venous  and pressure ulcers.  The Company will continue to
manufacture and Smith & Nephew will continue to market and sell the joint
venture's products.  During the three and six-month periods ended June 30, 1998
and 1997, the Company recognized $1,431,000 and $1,942,000 in the three-month
periods and $3,141,000 and $3,637,000 in the six-month periods, respectively, in
contract revenues for research and development activities performed for the
Dermagraft Joint Venture.  In addition, during the three and six-month periods
ended June 30, 1998, product sales to related parties include products sold to
the Dermagraft Joint Venture of $2,063,000 and $4,478,000, respectively, 

                                  -6-

<PAGE>


which compared to sales of $222,000 for the corresponding three and six-month 
periods in 1997.  Such product sales to the Dermagraft Joint Venture are equal 
to the Company's cost of goods sold for such products.

In 1994, Smith & Nephew and the Company entered into a separate joint venture
for the development of tissue engineered cartilage for orthopedic applications
(the "Cartilage Joint Venture").  Under the Cartilage Joint Venture, Smith &
Nephew contributed the first $10 million in funding and the Company contributed
certain technology licenses. The Cartilage Joint Venture's total funding since
inception reached $10 million in January 1997 and, as provided in the joint
venture agreement, the Company and Smith & Nephew are sharing equally in
Cartilage Joint Venture revenues and expenditures.  During the three and six
months ended June 30, 1998, the Company recognized $543,000 and $1,372,000,
respectively, in contract revenues for research and development activities
performed for the Cartilage Joint Venture, as compared with $1,005,000 and
$1,949,000 during the corresponding periods of 1997.

The results of operations of the joint ventures for the three and six months
ended June 30, 1998 and 1997 are as follows (in thousands):


<TABLE>
<CAPTION>

                          Three Months Ended June 30,   Six Months Ended June 30,
                          ---------------------------   -------------------------
                              1998           1997           1998         1997
                          ------------   ------------   ------------  -----------
<S>                       <C>            <C>            <C>           <C>
Dermagraft Joint Venture
------------------------

Sales                     $       51     $      --      $     126     $     --
Cost of goods sold             2,389            --          4,971           --
Other costs and expenses       6,246         3,651         10,775        5,761
Net loss                       8,584         3,651         15,620        5,761

Cartilage Joint Venture
------------------------

Costs and expenses        $      999     $   1,781      $   2,474     $  3,646
Net loss                         999         1,781          2,474        3,646

</TABLE>

NOTE 3 - INVENTORIES

Inventories are stated at the lower of cost, principally standard costs which
approximate actual costs on a first-in, first-out basis, or market and consist
of the following components as of June 30, 1998 and December 31, 1997 (in
thousands):


                                          June 30,           December 31,
                                            1998                 1997
                                        ------------         ------------

      Raw materials and supplies         $   3,150             $   3,295
      Work-in-process                          747                   347
      Finished goods                            57                 1,001
                                         ---------             ---------

                                         $   3,954             $   4,643
                                         =========             =========

NOTE 4 - CONTINGENCIES - LEGAL PROCEEDINGS

Since June 1998, several lawsuits have been filed in the United States District
Court for the Southern District of California against the Company and two of its
officers.  The lawsuits allege violations of the federal securities laws arising
out of alleged misstatements and alleged failures to disclose certain material
facts concerning the clinical trials and obtaining FDA approval of Dermagraft
for the treatment of diabetic foot ulcers in the United States.  The lawsuits
purport to seek damages on behalf of a class of shareholders who purchased
Advanced Tissue Sciences, Inc. Common Stock during the period generally from
January 13, 1997 through June 11, 1998.  The complaints in the lawsuits do not
specify an amount of claimed damages.  The Company believes that the lawsuits
are without merit and intends to defend against them vigorously.

                                  -7-
<PAGE>


NOTE 5 - LONG-TERM DEBT

In March 1998, DermEquip borrowed an additional $1.4 million under the term loan
agreement with The Chase Manhattan Bank (the "Chase Loan") bringing borrowings
under the Chase Loan to $16 million, the total amount available under the
facility.  During 1998, the Company has borrowed an additional $850,000 from
Smith & Nephew pursuant to a commitment as a part of the agreement to form the
Cartilage Joint Venture (see Note 2).  Under the terms of that joint venture
agreement, the Company may borrow up to a total of $10 million of which $4.3
million had been drawn as of June 30, 1998.  Debt and other long-term
obligations as of June 30, 1998 and December 31, 1997 were as follows (in
thousands):


                                      June 30,             December 31,
                                        1998                   1997
                                    ------------           ------------

         Chase Loan                  $   15,360             $   14,600
         Smith & Nephew notes:
          Dermagraft Joint Venture       10,000                 10,000
          Cartilage Joint Venture         4,250                  3,400
         Capital leases and other           296                     96
         Less current portion            (2,793)                (1,939)
                                     ----------             ----------

                                     $   27,113             $   26,157
                                     ==========             ==========

NOTE 6 - BASIC AND DILUTED LOSS PER SHARE

As required, the Company adopted Financial Accounting Standards Board Statement
No. 128, "Earnings Per Share," ("FAS No. 128") for the year ended December 31,
1997.  FAS No. 128 changes the method used to calculate earnings per share and
requires the restatement of all prior periods reported.  Under FAS No. 128, the
Company is required to present basic and diluted earnings per share if
applicable.  Basic earnings per share are determined based on the weighted
average number of shares outstanding during the period.  Diluted earnings per
share includes the weighted average number of shares outstanding and gives
effect to potentially dilutive common shares such as options and warrants
outstanding.

Both the basic and diluted loss per share for the three and six months ended
June 30, 1998 and 1997 are based on the weighted average number of shares of
Common Stock outstanding during the periods.  Potentially dilutive securities
include options and warrants outstanding and debt convertible into Common Stock;
however, such securities have not been included in the calculation of the
diluted loss per share as their effect is antidilutive.  Since such securities
are antidilutive, there is no difference between basic and diluted loss per
share for the periods presented and there was no change in the loss per share
for the three and six-month periods ended June 30, 1997.

NOTE 7 - STOCK OPTIONS

The following table summarizes activity under the Company's 1997 Stock Incentive
Plan (the "1997 Plan") and for other options and warrants for Common Stock for
the six months ended June 30, 1998:


<TABLE>
<CAPTION>

                                        1997 Plan            Other Options and Warrants
                                -------------------------    --------------------------
                                             Weighted                      Weighted
                                 Number    Average Price      Number     Average Price
                                of Shares    Per Share       of Shares     Per Share
                                ---------  --------------    ---------  --------------
<S>                             <C>           <C>            <C>            <C>
Outstanding, December 31, 1997  4,115,150     $10.26         1,459,640       $7.21
  Granted                         366,500     $11.23            50,000      $14.00
  Exercised                      (117,075)    $ 7.28                --          --
  Canceled                       (157,660)    $13.35                --          --
                                ---------                    ---------

Outstanding, June 30, 1998      4,206,915     $10.31         1,509,640       $7.44
                                =========                    ==========

</TABLE>

                                  -8-


<PAGE>


During the six months ended June 30, 1998, the Company issued a warrant
exercisable for Common Stock as a commitment fee for extending an equity line.
The warrants have been valued at $418,000 representing the amount of the
commitment fee as negotiated between the parties.

NOTE 8 - SUBSEQUENT EVENTS

Series B Convertible Preferred Stock

In July 1998, the Company raised $25 million through a private placement of
Series B Convertible Preferred Stock (the "Series B Preferred Stock") to a group
of investors (the "Investors").  Subject to adjustment in certain events, the
Series B Preferred Stock is convertible into Common Stock of the Company at
$4.77 per share (the "Conversion Price").  The Conversion Price will be
increased by one-half the amount by which the market price of the Common Stock
on the date of conversion exceeds $7.96 per share, if any.  Conversely, should
the average daily trading price (as defined in the agreements) prior to a
conversion be equal to or below $3.58 per share, the Conversion Price will be
equal to such average daily trading price.

The Series B Preferred Stock accrues dividends at 5% per annum.  Dividends are
payable quarterly in Common Stock or cash at the option of the Company.  To the
extent not previously converted, the Series B Preferred Stock is, at the
election of the Company, redeemable at par value plus accrued dividends or
convertible into Common Stock three years from the date of issuance subject to
extension in certain circumstances.  The Series B Preferred Stock is redeemable
at the option of the holders upon the occurrence of certain events.  The Common
Stock issuable upon conversion of the Series B Preferred Stock will be
registered for resale under the Securities Act of 1933.  Under the terms of the
private placement and subject to certain conditions, the Company has the option
to sell an additional $25 million of the Series B Preferred Stock in the first
quarter of 1999 to the Investors.  Conditions to the Company's option include,
but are not limited to, (i) registering the Common Stock issuable on conversion
under the Securities Act of 1933 and (ii) the Common Stock must be trading above
$5.49 per share, among others.

Equity Line Extension

In July 1998, the Company extended an Investment Agreement (the "Investment
Agreement") under which the Company may access up to $50 million through an
equity line until February 2000.  The Company originally entered into the
Investment Agreement for a two-year period in February 1996.  The decision to
draw any funds under the Investment Agreement and the timing of any such draw
are solely at the Company's discretion.

The Investment Agreement provides that the Company can obtain up to $15 million
at any one time through the sale of its Common Stock to the investment group.
Any sales against the equity line will be at a five percent discount to the
average low sales prices of the Company's Common Stock over a specified period
of time as determined by market volume at the time of the draw.  The Company's
ability to draw under the Investment Agreement is subject to certain conditions
including, but not limited to, registration of the shares, a minimum trading
price of $2.00 per share, and certain limitations on the number of shares of
Common Stock held by the investment group at any point in time.

Expansion of Strategic Alliance

In August 1998, the Company and Smith & Nephew expanded the Dermagraft Joint
Venture to include exclusive rights to Dermagraft-TC for full and
partial-thickness burns in the United States effective October 1, 1998.  The
Company will continue to manufacture and Smith & Nephew will then market and
sell Dermagraft-TC.  Under the expansion, the Company and Smith & Nephew will
continue to share equally in the expenses and revenues of the Dermagraft Joint
Venture, except the Company will fund certain manufacturing and distribution
costs and certain costs related to post-market studies of Dermagraft-TC through
December 31, 1999.  Such manufacturing and distribution costs are to be returned
to the Company out of future gross margin or net profits, if any, from sales of
Dermagraft-TC for burns in the United States.  Sales of Dermagraft-TC will also
be included in determining whether sales levels for future milestone payments
from Smith & Nephew have been achieved.  See Note 2.

                                  -9-

<PAGE>


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

     Advanced Tissue Sciences, Inc. (the "Company" or "Advanced Tissue
Sciences") is engaged in the development and manufacture of human-based tissue
products for tissue repair and transplantation using its proprietary tissue
engineering technology.  The Company's leading therapeutic products are tissue
engineered skin products, Dermagraft-TC(R) for the temporary covering of severe
and partial-thickness burns and Dermagraft(R) for the treatment of severe skin
ulcers.  In addition to its Dermagraft-TC and Dermagraft skin products, the
Company is focusing its resources on the development of tissue engineered
cartilage and cardiovascular products.

     In March 1997, the Company received marketing approval in the United States
from the U.S. Food and Drug Administration (the "FDA") for its first therapeutic
product, Dermagraft-TC, as a temporary covering for severe, full-thickness
burns.  In addition, in October 1997, the Company received FDA approval to
market Dermagraft-TC for partial-thickness burns in the United States.
Dermagraft-TC is currently being marketed for burns by Advanced Tissue Sciences
through a direct sales force in the United States.  Dermagraft-TC will be
marketed throughout the rest of the world for certain wound care applications
under a recently expanded joint venture with Smith & Nephew plc ("Smith &
Nephew") and, in October 1998, the joint venture will also begin marketing
Dermagraft-TC for burns in the United States (see Note 8 to the consolidated
financial statements).

     Dermagraft was approved for sale in Canada in August 1997 and was
introduced in the United Kingdom and several other European countries late in
1997 through the joint venture with Smith & Nephew.  The Company also submitted
a Premarket Approval (PMA) application to the FDA for approval to market
Dermagraft for the treatment of diabetic foot ulcers in the United States.  An
FDA advisory panel recommended approval of Dermagraft with the condition that
the Company perform a post-marketing study to confirm efficacy and provide
physician training.  However, in June 1998, the FDA decided the PMA application
was not approvable without supportive data from an additional controlled
clinical trial.  The Company has recently received approval from the FDA
allowing it to begin the requested clinical trial.  Based on the clinical plan,
the Company believes the additional data could be available for submission in
twelve to eighteen months after trial initiation, assuming a reasonable rate of
patient enrollment and data consistent with its previous PMA submission.

     In April 1996, the Company entered into an agreement with Smith & Nephew to
form a joint venture (the "Dermagraft Joint Venture") for the worldwide 
commercialization of Dermagraft in the treatment of diabetic foot ulcers.  
Beginning in January 1997, all expenses and revenues associated with the 
development and commercialization of Dermagraft for diabetic foot ulcers are
being shared equally by the joint venture partners.  In January 1998, Advanced
Tissue Sciences and Smith & Nephew expanded the Dermagraft Joint Venture to
include additional technology for the treatment of skin tissue wounds and
applications such as venous ulcers, pressure ulcers and burns.  Under the
expanded joint venture, Advanced Tissue Sciences and Smith & Nephew will
continue to share equally in the expenses and revenues of the Dermagraft Joint
Venture, except the Company will fund the first $6 million in expense for
conducting clinical trials and regulatory support of Dermagraft and
Dermagraft-TC in the treatment of venous ulcers and pressure ulcers.  See 
Note 2 to the consolidated financial statements.

     In May 1994, the Company and Smith & Nephew entered into a separate,
joint venture (the "Cartilage Joint Venture") for the worldwide development, 
manufacture and marketing of human tissue engineered cartilage for
orthopedic applications.  In January 1997, the joint venture partners began
sharing equally in the Cartilage Joint Venture's expenses.  See Note 2 to the
consolidated financial statements.

     In October 1997, the Company was awarded a $2 million Advanced Technology
Program grant from the National Institute of Standards and Technology to fund
collaborative cardiovascular research with the University of California, San
Diego over a three-year period.  Funding under the grant began in 1998.  From
1993 through 1997, the Company sponsored at least $1 million in early stage
research programs at the Massachusetts Institute of Technology ("MIT") and
Children's Hospital in Boston ("Children's Hospital") directed toward the tissue
engineering of cartilage, liver and numerous other tissues and several polymer
technologies.  The Company has substantially reduced its commitment to MIT and
Children's Hospital in 1998; however, additional research is being sponsored at
several other academic institutions.

                                  -10-

<PAGE>


     The Company has incurred, and expects to continue to incur, substantial
expenditures in support of the commercialization, development and clinical
trials of its Dermagraft-TC and Dermagraft products for burn and skin ulcer
applications, for manufacturing systems, for sales and marketing and launching
products, and in advancing other applications of the Company's core technology.
In particular, the Company will incur, either directly or through the Dermagraft
Joint Venture, substantial and increasing costs for the additional clinical
trial of Dermagraft in the treatment of diabetic foot ulcers and in support of
clinical trials and post-market studies of Dermagraft and Dermagraft-TC in
venous, pressure and diabetic foot ulcers and for full and partial-thickness
burns.

Results of Operations
---------------------

     Product sales totaled $2,356,000 and $4,998,000 for the three months and
six months ended June 30, 1998, respectively, which compared to sales of
$672,000 in the corresponding periods of 1997.  Product sales to related parties
reflect sales of Dermagraft and Dermagraft-TC to the Dermagraft Joint Venture at
cost.  See Note 2 to the consolidated financial statements.  The Company
manufactures Dermagraft and Dermagraft-TC to meet the Dermagraft Joint Venture's
forecasted requirements for sales, marketing and clinical trials.  As discussed
below, sales of Dermagraft and Dermagraft-TC to the Dermagraft Joint Venture
were limited by the availability of product during the second quarter of 1998.
In addition to product attributes and competition, growth in sales in 1998 and
beyond will be sensitive to success in obtaining product reimbursement from both
national healthcare systems and private insurers.

     Sales to outside customers of $293,000 and $520,000 in the three and six
months ended June 30, 1998, respectively, compared to $450,000 for the three and
six months ended June 30, 1997 from sales of Dermagraft-TC in the United States.
There were no sales to outside customers in the first quarter of 1997, as
Dermagraft-TC was first introduced in April 1997 for full-thickness burns and in
October 1997 for partial-thickness burns.

     Following an inspection of its manufacturing facility by the FDA in late
March 1998, the Company initiated the voluntary recall of certain product lots
of Dermagraft-TC and Dermagraft which complied with finished product
specifications, but contained a raw material that was out of specification.  As
a result of the recall, sales in both the first and second quarter of 1998 have
been affected by the availability of product.  The Company has responded to the
issues raised during the facility inspection and is continuing to manufacture
and, based on availability, ship and sell Dermagraft and Dermagraft-TC.  The FDA
is expected to re-inspect the Company's manufacturing facility during the third
quarter of 1998.  There can be no assurance that the Company will be able to
satisfy the FDA's concerns, that the FDA will not raise additional issues or
that other actions will not be taken.

     Revenues from contracts and fees were $2,077,000 and $4,741,000 for the
three and six months ended June 30, 1998, respectively, compared to $2,947,000
and $5,596,000 for the corresponding periods of 1997.  Contract revenues
decreased $870,000 and $855,000 in the three and six months, respectively,
reflecting lower contract revenues recognized for research and development and
clinical activities performed for the Dermagraft and the Cartilage Joint
Ventures and for associated administrative costs.  See Note 2 to the
consolidated financial statements.  Future contract revenues will include costs
associated with the additional clinical trial of Dermagraft in the treatment of
diabetic foot ulcers in the second half of 1998.

     Cost of goods sold for the three and six months ended June 30, 1998
represents the cost of the Company's Dermagraft-TC product sold domestically and
the cost of Dermagraft-TC and Dermagraft sold to the Dermagraft Joint Venture.
Products are being sold to the Dermagraft Joint Venture at cost to manufacture
including period costs.  The Company initiated production of Dermagraft in its
commercial facility in January 1998 and, accordingly, cost of goods sold has
reflected costs associated with that facility such as depreciation and overhead
since that date.  Cost of goods sold for the six months ended June 30, 1998 also
includes approximately $380,000 related to the product recall discussed above.
As a result of the FDA's decision to require additional clinical data for
Dermagraft in the treatment of diabetic foot ulcers, the Company expects to
continue to incur significant costs associated with excess production capacity
within its manufacturing facility.

     Research and development expenditures decreased to $3,803,000 and
$7,657,000 in the three and six months ended June 30, 1998, respectively, as
compared to $4,497,000 and $9,465,000 in the corresponding periods of 1997.  The
decrease in research and development costs primarily reflects lower costs for
both clinical trials and production for clinical trials of Dermagraft-TC and
Dermagraft, for sponsored research programs and for the development of

                                  -11-

<PAGE>


commercial manufacturing processes.  Research and development costs are expected
to increase during the last half of the year reflecting clinical trials and
post-market studies of Dermagraft and Dermagraft-TC in venous, pressure and
diabetic foot ulcers and for full and partial-thickness burns.

     Selling, general and administrative costs were $3,768,000 and $7,380,000
for the three and six months ended June 30, 1998, respectively, as compared to
$3,641,000 and $6,761,000 in the corresponding periods of the prior year.  The
increase in selling, general and administrative expenses principally reflects
higher compensation costs partially offset by lower expenditures for outside
services related to the commercialization of products.

     Professional and consulting costs for legal, accounting and other
consulting services incurred in the three and six months ended June 30, 1998
were $624,000 and $952,000, respectively, as compared to $678,000 and $1,352,000
for the corresponding periods of 1997.  The decrease in professional and
consulting fees in the six months ended June 30, 1998 principally reflects lower
legal fees and lower costs for Dermagraft-related marketing consultants.

     Equity in losses of joint ventures were $4,637,000 and $8,889,000 for the
three and six months ended June 30, 1998, respectively, compared to $2,642,000
and $4,349,000 for the corresponding periods of 1997.  These amounts represent
the Company's share of losses of the Dermagraft and Cartilage Joint Ventures.
The increases in 1998 primarily reflect increased production costs and selling,
general and administrative expenses in the Dermagraft Joint Venture.  As the
Company sells products to the Dermagraft Joint Venture at its cost to
manufacture, costs of the commercial facility began to be recognized in cost of
goods sold for the Dermagraft Joint Venture in January 1998.  Selling, general
and administrative expenses in the Dermagraft Joint Venture have increased to
support the commercial introduction of Dermagraft in certain markets.  The joint
ventures' losses are expected to continue to increase in 1998 as Dermagraft and
Dermagraft-TC are commercially introduced, as venous and pressure ulcers enter
into clinical trials and as orthopedic cartilage research and development
efforts continue.

     Interest income and other was $31,000 and $300,000 in the three and six
months ended June 30, 1998, respectively, as compared to $685,000 and $978,000
in the corresponding periods of 1997.  The decrease primarily represents lower
interest income associated with reduced balances in cash equivalents and
investments and the effect of Smith & Nephew's minority interest in DermEquip
LLC.  See Note 1 to the consolidated financial statements.

     Interest expense was $595,000 and $1,151,000 in the three and six months
ended June 30, 1998, respectively, as compared to $251,000 and $256,000 in the
corresponding periods in 1997.  The increase principally reflects interest on
notes payable to Smith & Nephew and The Chase Manhattan Bank.  See Note 5 to the
consolidated financial statements.

Liquidity and Capital Resources
-------------------------------

     As of June 30, 1998, the Company had available working capital of
$14,048,000, an increase of $832,000 from December 31, 1997.  In addition, the
Company raised $25 million through a private placement of Series B Convertible
Preferred Stock in July 1998 (see Note 8 to the consolidated financial
statements).  The increase in working capital principally reflects $20 million
from the sale of equity (see Note 2 to the consolidated financial statements)
and funds received from borrowings (see Note 5 to the consolidated financial
statements) substantially offset by funds used in operations, in support of the
Dermagraft and Cartilage Joint Ventures, for capital expenditures and payments
of debt.  Capital expenditures of $2,496,000 in the first six months of 1998
relate primarily to the expansion of the Company's manufacturing facility and
related process equipment.

     The Company expects to use working capital as it continues to incur
substantial research and development expenses; additional costs in support of
clinical trials; selling, general and administrative costs in support of product
commercialization; and additional expenditures for capital equipment and
patents.  These increases are expected to be only partially offset by contract
revenues received from the Cartilage and Dermagraft Joint Ventures with Smith &
Nephew.

     In addition to available working capital, the Company has entered into an
equity line which could provide up to $50 million in funding through the sale of
Common Stock.  Subject to certain conditions, the equity line is available until
February 2000 (see Note 8 to the consolidated financial statements).  Any
decision to draw any funds under the 

                                  -12-

<PAGE>


equity line and the timing of any such draw are solely at the Company's 
discretion.  Under the expanded Dermagraft Joint Venture, Smith & Nephew 
agreed to pay the Company $15 million, directly or through the Dermagraft 
Joint Venture, upon the earlier of (i) FDA approval for the marketing of 
Dermagraft in the treatment of diabetic foot ulcers or (ii) January 4, 1999.
The Company also may have, under the terms of the private placement and 
subject to certain conditions, an option to sell an additional $25 million 
of the Series B Preferred Stock in the first quarter of 1999 (see Note 8
to the consolidated financial statements).

     To the extent necessary, further sources of funds may include existing or
future strategic alliances or other joint venture arrangements which provide
funding to the Company, and additional public or private offerings of debt or
equity securities, among others.  There can be no assurance, however, that funds
from these sources or those outlined above will be available when needed or on
terms favorable to the Company, under existing arrangements or otherwise, or
that the Company will be successful in entering into any other strategic
alliances or joint ventures.

     The Company continually reviews its product development activities in an
effort to allocate its resources to those products the Company believes have the
greatest commercial potential.  Factors considered by the Company in determining
the products to pursue include projected markets and need, potential for
regulatory approval and reimbursement under the existing health care system as
well as anticipated health care reforms, technical feasibility, expected and
known product attributes and estimated costs to bring the product to market.
Based on these and other factors which the Company considers relevant, the
Company may from time to time reallocate its resources among its product
development activities.  Additions to products under development or changes in
products being pursued can substantially and rapidly change the Company's
funding requirements.

Financial Condition
-------------------

     Cash, cash equivalents and short-term investments as of June 30, 1998
decreased by $121,000 as compared to December 31, 1997 principally reflecting
the use of cash to fund operations, in support of the Dermagraft and Cartilage
Joint Ventures and for capital expenditures and the payment of debt offset by
proceeds from the sale of Common Stock to Smith & Nephew (see Note 2 to the
consolidated financial statements) and funds received from borrowings (see Note
5 to the consolidated financial statements).  The increase in debt reflects
loans from Smith & Nephew and The Chase Manhattan Bank, partially offset by
payments.

Year 2000 Compliance
--------------------

     Many currently installed computer systems and software products are coded
to accept only two digit entries to represent years.  These systems and products
will need to be able to accept four digit entries to distinguish years beginning
with 2000 from prior years.  As a result, systems and products that do not
accept four digit year entries will need to be upgraded or replaced to comply
with such "Year 2000" requirements.  The Company has begun the process of
evaluating its information systems and to identify equipment and significant
vendors that could be affected by the Year 2000 issue.  Although its assessment
of its Year 2000 issues is not complete, Advanced Tissue Sciences believes that
its internal systems are Year 2000 compliant or will be replaced in connection
with previously planned upgrades to information systems prior to the need to
comply with Year 2000 requirements.  However, a number of the Company's
customers and vendors may be affected by Year 2000 issues that require that they
expend significant resources to modify or replace their existing systems.  To
date, the Company has not identified any Year 2000 issues that will require a
significant investment to be made by the Company to resolve; however, it is not
possible to predict with any certainty (i) that the Company will identify all
significant Year 2000 issues which could be material to its operations, (ii)
that significant vendors will not be affected by Year 2000 and therefore may be
unable to meet their commitments to the Company, (iii) that the Company will not
identify Year 2000 issue that result in material costs to the Company, or (iv)
that the Company will be able to adequately resolve or develop satisfactory
contingency plans for identified Year 2000 issues.

                                  -13-

<PAGE>


                           PART II - OTHER INFORMATION
                           ---------------------------

ITEM 1 - LEGAL PROCEEDINGS

     Several shareholders have filed lawsuits against the Company and two of its
officers in the United States District Court for the Southern District of
California.  The lawsuits allege violations of the federal securities laws, and
purport to seek damages on behalf of a class of shareholders who purchased
Advanced Tissue Sciences, Inc. Common Stock during the period generally from
January 13, 1997 through June 11, 1998.  The Company believes that the lawsuits
are without merit and intends to defend against them vigorously.

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

     The Company's Annual Meeting of Stockholders was held on May 20, 1998.
During the Annual Meeting, the stockholders elected the following nominees to
the Company's Board of Directors to serve for the term of one year or until
their successors have been elected and qualified.  The votes of the stockholders
for each of the director nominees was as follows:


                   Nominee                  In Favor       Withheld
          ------------------------        ------------   ------------
          Arthur J. Benvenuto              37,221,321      491,460
          Dr. Gail K. Naughton             37,267,621      445,160
          Jerome E. Groopman, M.D.         37,277,591      435,190
          Jack L. Heckel                   37,277,431      435,350
          Ronald L. Nelson                 37,277,646      435,135
          Dayton Ogden                     37,279,176      433,605
          David S. Tappan, Jr.             37,268,631      444,150
          Dr. Gail R. Wilensky             37,275,251      437,530


     The stockholders also approved the appointment of Ernst & Young LLP as
independent auditors of the Company for the fiscal year ending December 31, 1998
with 37,243,531 shares in favor of the proposal, 346,695 shares opposed and
122,555 shares abstaining.

ITEM 5 - OTHER INFORMATION

     This Quarterly Report on Form 10-Q includes a number of forward-looking
statements that involve risks and uncertainties within the meaning of the
Securities Act of 1933 and the Securities Exchange Act of 1934, including,
without limitation, those relating to strategic alliances (including potential
milestone payments and revenues from joint ventures), the use of working
capital, the sufficiency and availability of funds to support operations, and
commercialization of the Company's products.

     In particular, the Company will need to successfully complete an additional
controlled clinical trial of Dermagraft in the treatment of diabetic foot ulcers
and submit a revised premarket approval application to the FDA.  No assurance
can be given that the FDA will approve the additional clinical trial as
designed, the Company will successfully complete the clinical trial, the
clinical trial will be completed within any specific timeframe or the Company
will obtain FDA or other regulatory approvals of Dermagraft (or that any such
approvals will be obtained on a timely basis).  In addition, there can be no
assurance the Company can successfully scale up manufacturing processes, launch
its products within reasonable timeframes, obtain reimbursement for, or
successfully commercialize any such products.

     Following an inspection of the Company's manufacturing facility by the FDA
in March 1998, the FDA notified the Company of numerous objectionable
observations with respect to its manufacturing and quality assurance processes
and systems.  The Company responded to the issues raised by the FDA and the
manufacturing facility is scheduled to be re-inspected by the FDA in the third
quarter of 1998.  There can be no assurance, however, that the Company will be
able to satisfy the FDA's concerns, that the FDA will not raise additional
issues on re-inspection, or that other actions will not be taken with respect to
the Company's manufacturing and quality assurance processes and systems.

                                  -14-

<PAGE>


ITEM 5 - OTHER INFORMATION (CONTINUED)

     These and other risks are detailed in the Company's publicly available
filings with the Securities and Exchange Commission including the Company's
Annual Report on Form 10-K for the year ended December 31, 1997.  Actual results
may differ materially from those currently anticipated as a result of such
risks.

ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K

 (a)   Exhibits

       Exhibit
         No.                     Title                        Method of Filing
       -------                   -----                        ----------------

        10.1     Heads of Agreement Between Advanced Tissue    Filed Herewith
                 Sciences, Inc. and Smith & Nephew plc Dated
                 August 6, 1998

         27      Financial Data Schedule                       Filed with
                                                               Electronic Copy
                                                               Only

  (b)  Reports on Form 8-K

     The Company filed a Current Report on Form 8-K dated June 11, 1998 under
Item 5 reporting that the U.S. Food and Drug Administration (FDA) had requested
an additional controlled clinical trial be completed in support of its Premarket
Approval (PMA) application of Dermagraft in the treatment of diabetic foot
ulcers.  The FDA indicated the PMA application was not approvable without
supportive data from the additional clinical trial.  The Company also reported
the FDA had suggested that a Treatment Investigational Device Exemption (IDE) be
submitted.  The Treatment IDE is a new regulatory provision for devices that
permits companies to make available promising new products under an agreed
clinical protocol to patients with serious diseases for which there is no
satisfactory alternative.

     The Company also filed a Current Report on Form 8-K dated June 23, 1998,
reporting that a shareholder had filed a lawsuit against the Company and two of
its officers in the United States District Court for the Southern District of
California.  The lawsuit alleges violations of the federal securities laws, and
purports to seek damages on behalf of a class of shareholders who purchased
Advanced Tissue Sciences, Inc. Common Stock during the period from January 13,
1997 through June 11, 1998.  The Company stated it believes that the lawsuit is
without merit and intends to defend against it vigorously.


                                   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.

                                       ADVANCED TISSUE SCIENCES, INC.



Date:  August 13, 1998                    /s/ Arthur J. Benvenuto
       ---------------                 --------------------------------
                                       Arthur J. Benvenuto
                                       Chairman of the Board and Chief 
                                       Executive Officer




Date:  August 13, 1998                    /s/ Michael V. Swanson
       ---------------                 --------------------------------
                                       Michael V. Swanson
                                       Vice President, Finance and 
                                       Administration


                                  -15-