CARDICA INC (Form: S-1/A, Received: 12/20/2005 16:53:48)

As filed with the Securities and Exchange Commission on December 20, 2005

Registration No. 333-129497

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

AMENDMENT NO. 1

Form S-1

REGISTRATION STATEMENT

under

the Securities Act of 1933

CARDICA, INC.

(Exact name of Registrant as specified in its charter)


Delaware	3841	94-3287832
(State or other jurisdiction of incorporation or organization)	(Primary Standard Industrial Classification Code Number)	(I.R.S. Employer Identification Number)

900 Saginaw Drive

Redwood City, California 94063

(650) 364-9975

(Address, including zip code, and telephone number, including area code, of Registrant’s principal executive offices)

Bernard Hausen, M.D., Ph.D.

Chief Executive Officer

Cardica, Inc.

900 Saginaw Drive

Redwood City, California 94063

(650) 364-9975

(Name, address, including zip code, and telephone number, including area code, of agent for service)

Copies to:


Nancy Wojtas, Esq. Cooley Godward LLP Five Palo Alto Square 3000 El Camino Real Palo Alto, California 94304-2155 (650) 843-5000		Guy Molinari, Esq. Stephen Thau, Esq. Heller Ehrman LLP 7 Times Square New York, NY 10036 (212) 832-8300

Approximate date of commencement of proposed sale to the public: As soon as practicable after the effective date of this Registration Statement.

If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box. o

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o

CALCULATION OF REGISTRATION FEE

Proposed

Maximum

Amount to be

Maximum Offering

Aggregate

Title of Class of Securities to be

Registered

Price Per Share

Offering Price

Amount of

Registered

(1)

(2)

Registration Fee

Common Stock, $0.001 par value

4,025,000

14.00

56,350,000

6,029.45

(3)



(1)	Includes 525,000 shares that the Underwriters will have the option to purchase solely to cover over-allotment, if any.



(2)	Estimated solely for the purpose of computing the registration fee pursuant to Rule 457(a) of the Securities Act.



(3)	$4,708.00 previously paid.

The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine.

The information in this prospectus is not complete and may be changed without notice. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus is not an offer to sell these securities and is not soliciting an offer to buy these securities in any jurisdiction where the offer or sale is not permitted.

SUBJECT TO COMPLETION, DATED DECEMBER 20, 2005

PRELIMINARY PROSPECTUS

3,500,000 Shares

Cardica, Inc.

Common Stock

We are offering 3,500,000 shares of our common stock. This is our initial public offering, and no public market currently exists for our shares. We anticipate that the initial public offering price for our shares will be between $12.00 and $14.00 per share. We have applied for quotation of our common stock on the Nasdaq National Market under the symbol “CRDC.”

Investing in our common stock involves a high degree of risk. Before buying any shares, you should carefully consider the risk factors described in “Risk Factors” beginning on page 7 of this prospectus.


	Per Share	Total

Public offering price	$	$
Underwriting discount	$	$
Proceeds, before expenses, to Cardica, Inc.	$	$

The underwriters may also purchase up to an additional 525,000 shares from us at the public offering price, less the underwriting discount, within 30 days after the date of this prospectus to cover over-allotments.

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

The underwriters expect to deliver the shares on or about , 2006.


A.G. Edwards	Allen & Company LLC

Montgomery & Co., LLC

The date of this prospectus is , 2006.

TABLE OF CONTENTS


	Page

Prospectus Summary		1
Risk Factors		7
Information Regarding Forward-Looking Statements		26
Use of Proceeds		27
Dividend Policy		27
Capitalization		28
Dilution		29
Selected Financial Data		31
Management’s Discussion and Analysis of Financial Condition and Results of Operations		33
Business		44
Management		71
Certain Relationships and Related-Party Transactions		83
Principal Stockholders		88
Description of Capital Stock		90
Shares Eligible for Future Sale		94
Underwriting		96
Legal Matters		99
Experts		99
Where You Can Find More Information		99
Index to Financial Statements		F-1
EXHIBIT 10.6
EXHIBIT 10.7
EXHIBIT 10.9
EXHIBIT 10.10
EXHIBIT 23.1

You should rely only on the information contained in this prospectus. We have not, and the underwriters have not, authorized any person to provide you with different information. This prospectus is not an offer to sell, nor is it an offer to buy, these securities in any state where the offer or sale is not permitted. The information in this prospectus is complete and accurate as of the date on the front cover, but the information may have changed since that date.

PROSPECTUS SUMMARY

Before you decide whether to invest in our common stock, you should read the entire prospectus carefully, especially “Risk Factors” and the consolidated financial statements and related notes. References in this prospectus to “we,” “us” and “our” refer to Cardica, Inc. unless the context requires otherwise.

Cardica, Inc.

We design and manufacture proprietary automated anastomotic systems used by surgeons to perform coronary artery bypass surgery. In coronary artery bypass grafting, or CABG, procedures, veins or arteries are used to construct “bypass” conduits to restore blood flow beyond closed or narrowed portions of coronary arteries. Our first two products, the C-Port ^® Distal Anastomosis System, referred to as the C-Port system, and the PAS-Port ^® Proximal Anastomosis System, referred to as the PAS-Port system, provide cardiovascular surgeons with easy-to -use, automated systems to perform consistent, rapid and reliable connections, or anastomoses, of the vessels, which surgeons generally view as the most critical aspect of the CABG procedure. Our C-Port system received the European Union’s CE Mark in April 2004 and 510(k) clearance from the U.S. Food and Drug Administration, or FDA, in November 2005. Our PAS-Port system received the CE Mark in March 2003, regulatory approval in Japan in January 2004, and we have received from the FDA conditional approval of an Investigational Device Exemption to conduct a prospective randomized clinical trial for 510(k) clearance in the United States. As of September 30, 2005, more than 2,400 PAS-Port systems had been sold in Europe and Japan, and it has been used in over 130 hospitals in Japan.

According to the American Heart Association, approximately 13 million Americans have coronary artery disease, and approximately 500,000 people in the United States die each year as a result of the disease. Physicians and patients may select among a variety of treatments to address coronary artery disease, including pharmaceutical therapy, balloon angioplasty, stenting, and CABG procedures, with the selection often depending upon the stage of the disease and the age of the patient. An independent study comparing CABG and implantation of conventional stents shows that CABG is the more effective treatment for coronary artery disease, achieving the best long-term patient outcomes as measured by survival rate and need for re-intervention. Moreover, patients with severe and multi-vessel coronary artery disease often cannot be effectively treated with methods other than CABG. An estimated 260,000 CABG procedures will be performed in the United States in 2005, and we estimate these procedures will require approximately 1.2 million anastomoses.

Our Solutions

The current method of performing an anastomosis in a CABG procedure utilizes technically demanding, tedious and time-consuming hand-sewn sutures to connect a bypass graft vessel to the aorta and to small diameter coronary vessels. By replacing the hand-sewn sutures with an easy-to -use, highly reliable and reproducible automated system, our C-Port and PAS-Port systems can, we believe, improve the quality and consistency of the anastomoses, decrease the time required for completing the anastomoses, and ultimately contribute to improved patient outcomes. We have designed our products to address the needs of surgeons in the following ways:


	•	Our products minimize trauma to both the graft and target vessel and can be used without interrupting blood flow in the coronary artery or clamping the aorta, which can lead to complications. Our C-Port system creates compliant anastomoses, which potentially allow the shape and size of the anastomosis to adapt to changes in blood flow and pressure.

	•	Our products are easy to use and create anastomoses more rapidly than hand suturing.


	•	Our products enable consistent, reproducible anastomoses, largely independent of surgical technique and skill set. In comparison with hand-sewn sutures, our systems offer mechanically governed repeatability and reduced procedural complexity.



	•	Our products can help to expedite the CABG procedure, potentially contributing to reduced operating room time and associated expenses, partially offset by the increased cost of our products compared to current alternatives, such as sutures. To the extent use of our products decreases complications, post-operative costs of a CABG procedure may be significantly reduced.

Our Strategy

Our goal is to become the leading provider of automated anastomotic systems for cardiac bypass surgery and to position our proprietary technology to become the platform for use in minimally invasive and eventually endoscopic cardiac procedures. For CABG to be a more attractive treatment alternative, surgeons must strive to decrease the invasiveness and trauma associated with current procedures by introducing endoscopic or keyhole surgery for CABG, similar to the success seen in laparoscopic or arthroscopic procedures over the past decade. We believe that our anastomotic technology will become a key enabling technology for endoscopic CABG.

The principal elements of our strategy include:



	•	*Driving market adoption of the C-Port and PAS-Port systems.* We intend to drive commercial adoption of our C-Port system and, if approved or cleared by the FDA, our PAS-Port system and future products by marketing them as integrated anastomotic tools for use in CABG. We believe that continued collection of clinical data from our product trials as well as post-marketing studies, together with evidence of the cost-effective nature of our systems, will be key factors in driving physician adoption.



	•	*Expanding our sales and marketing effort.* We plan to build a direct sales force to market our C-Port system targeting top-tier cardiac surgery centers in the United States. We also intend to increase the number of distributors carrying our products in Europe and Asia. If we obtain FDA clearance or approval to market our PAS-Port system or other products in the field of cardiac surgery, the same sales force will be responsible for selling these products.



	•	*Capitalizing on our proprietary technology to develop next-iteration products for endoscopic cardiac procedures.* We believe that the evolution of minimally invasive cardiac bypass procedures offering faster post-operative patient recovery times, long-term graft patency and a low incidence of adverse outcomes could increase the number of CABG procedures performed. To help propel the effort toward more viable cardiac endoscopic procedures, we plan to develop flexible, next-iteration automated anastomotic systems designed to facilitate minimally invasive endoscopic CABG.



	•	*Establishing a strong proprietary position.* As of September 30, 2005, we had 29 issued U.S. patents, 62 additional patent applications in the United States and another six patent applications filed in selected international markets. We plan to continue to invest in building our intellectual property portfolio.



	•	*Leveraging our core competency to develop innovative products for other surgical applications.* We believe that our core technology, which comprises extensive technological innovations, can be adapted for a variety of surgical applications and disease indications, and we are currently developing products for use in other applications, such as vascular closure.

Cook Relationship

In December 2005, we entered into a license, development and commercialization agreement with Cook Incorporated, or Cook, relating to development of our X-Port Vascular Access Closure Device, or X-Port, a product candidate of ours that we are currently studying in preclinical animal model studies. Under the agreement, we will develop the X-Port with Cook, and Cook will have exclusive commercialization rights to market the product for medical procedures anywhere in the body. We will receive an initial payment of $500,000 after we complete, to Cook’s satisfaction, certain milestones under a development plan. Cook will also pay us up to a total of an additional $1.5 million in future milestone payments as development milestones are achieved. We also will receive a royalty based on Cook’s annual worldwide sales of the X-Port.

Guidant Relationship

Guidant Investment Corporation, or Guidant Investment, is our largest investor and our largest creditor. Guidant Corporation, or Guidant, which is an affiliate of Guidant Investment, distributed our products in Europe under a distribution agreement that terminated in September 2004. In addition, we developed an aortic cutter for Guidant’s Heartstring product pursuant to a development agreement with Guidant, and we manufactured the first 10,000 aortic cutters under this agreement. Guidant outsourced future production of the aortic cutter to a third-party contract manufacturer, and we will receive a modest royalty for each aortic cutter sold in the future. In the fiscal year ended June 30, 2004, $0.6 million, or 75% of our revenue, was from Guidant for distribution of our products in Europe and for services under the development contract. In the fiscal year ended June 30, 2005,

$1.3 million, or 65% of our revenue, was from Guidant for distribution of our products in Europe, completion of services under the development contract and manufacturing of the aortic cutter. We do not anticipate receiving any future revenue from Guidant for distribution of our products in Europe or for services under development contracts.

Risks

Our business is subject to a number of risks, which you should be aware of before making an investment decision. These risks are discussed more fully in “Risk Factors.” We have only recently begun to commercialize our C-Port and PAS-Port systems, and it is possible that hospitals or physicians will not adopt our products for clinical use. Additionally, although the current iteration of our C-Port system received 510(k) clearance from the FDA, we have not obtained FDA clearance or approval to market any of our other products in the United States, and even if we obtain FDA clearance or approval, we may not successfully commercialize any of our products in the United States. As of September 30, 2005, we had incurred $51.1 million in net losses since inception. We expect to continue to incur additional, and possibly increasing, losses through at least 2006, and we may never become profitable.

Corporate Information

We were incorporated in Delaware in October 1997 as Vascular Innovations, Inc. and changed our name to Cardica, Inc. in November 2001. Our principal executive offices are located at 900 Saginaw Drive, Redwood City, California 94063 and our telephone number is (650) 364-9975. We are located on the world wide web at cardica.com . The information contained on our website is not a part of this prospectus.

Cardica ^® , C-Port ^® and PAS-Port ^® are our registered trademarks and C-Port xA ^tm , C-Port Flex A ^tm and X-Port ^tm are our common law trademarks. This prospectus also refers to trademarks and trade names of other organizations.

The Offering



Common stock offered by us		3,500,000 shares



Common stock to be outstanding after this offering		9,449,337 shares



Estimated initial public offering price per share		$12.00 to $14.00


Use of proceeds		We intend to use the net proceeds from this offering for sales and marketing initiatives, research and development activities, and general corporate purposes. See “Use of Proceeds.”

Proposed Nasdaq National Market symbol		CRDC

The number of shares of our common stock referred to above that will be outstanding immediately after completion of this offering is based on 1,695,121 shares of our common stock outstanding as of November 30, 2005 and also reflects both the automatic conversion of our preferred stock into 4,254,216 shares of common stock and a one-for-three reverse split of our common stock and preferred stock to be effected prior to the completion of this offering. This number does not include, as of November 30, 2005:



	•	897,110 shares of common stock issuable upon exercise of outstanding options, at a weighted average exercise price of $2.31 per share;



	•	156,515 shares of common stock issuable upon the exercise of outstanding warrants, at a weighted average exercise price of $10.00 per share;



	•	up to 106,655 additional shares of our common stock reserved for issuance under our 1997 Equity Incentive Plan;



	•	230,769 shares of our common stock that are issuable upon conversion of an outstanding promissory note to Century Medical assuming an offering price of $13.00 per share, the midpoint of the range on the front cover of this prospectus; and



	•	400,000 shares of common stock reserved for issuance under our 2005 Equity Incentive Plan.

In addition, we have agreed to issue an additional 525,000 shares if the underwriters exercise their over-allotment option in full, which we describe in “Underwriting.” If the underwriters exercise this option in full, 9,974,337 shares of common stock will be outstanding after this offering.

Unless we indicate otherwise, all information in this prospectus:



	•	gives effect to the conversion of all outstanding shares of our preferred stock into 4,254,216 shares of our common stock upon the completion of this offering;



	•	does not reflect any conversion or exercise of outstanding warrants or options to purchase shares of our common stock;



	•	assumes that the underwriters do not exercise their over-allotment option to purchase additional shares in the offering; and



	•	reflects a one-for-three reverse split of our common stock and preferred stock to be effected before the completion of this offering.

Summary Financial Data

(In thousands, except share and per share data)

The historical summary financial data set forth below for the years ended June 30, 2003, 2004 and 2005 are derived from our audited financial statements included elsewhere in this prospectus. The statement of operations data for the three-month periods ended September 30, 2004 and 2005, and the balance sheet data as of September 30, 2005, have been derived from our unaudited financial statements included elsewhere in this prospectus. You should read the information contained in this table in conjunction with our financial statements and related notes, “Selected Financial Data” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Our historical financial results are not necessarily indicative of results to be expected in future periods.


												Three months
												ended
			Year ended June 30,									September 30,

			2003			2004			2005			2004			2005

			(in thousands, except per share data)
												(unaudited)
Statement of Operations Data:
Revenue:
	Product revenue, net		$	-		$	212		$	719		$	168		$	161
	Product revenue from related party, net			-			401			1,027			744			7
	Development revenue from related party			-			223			310			265			-

		Total net revenue		-			836			2,056			1,177			168
Operating costs and expenses:
	Cost of product revenue (includes related-party costs of $1,377, $1,180, $306 and $0 in fiscal 2004, fiscal 2005 and the three months ended September 30, 2004 and 2005, respectively)(1)			-			2,105			2,478			636			627
	Research and development(1)			6,698			5,826			6,289			1,504			1,166
	Selling, general and administrative(1)			1,936			1,809			3,753			594			1,223

		Total operating costs and expenses		8,634			9,740			12,520			2,734			3,016

Loss from operations				(8,634	)		(8,904	)		(10,464	)		(1,557	)		(2,848	)
Interest income				294			209			305			69			72
Interest expense (includes related-party interest expense of $539, $897, $226 and $226 in fiscal 2004, fiscal 2005 and the three months ended September 30, 2004 and 2005, respectively)				(885	)		(2,001	)		(1,048	)		(264	)		(264	)
Other income (expense) (includes $250 from related party in fiscal 2005)				-			(14	)		257			-			(4	)

Net loss			$	(9,225	)	$	(10,710	)	$	(10,950	)	$	(1,752	)	$	(3,044	)

Basic and diluted net loss per share			$	(7.84	)	$	(8.24	)	$	(7.82	)	$	(1.27	)	$	(2.13	)

Shares used in computing basic and diluted net loss per share				1,176			1,299			1,401			1,384			1,430

Pro forma basic and diluted net loss per share (unaudited)(2)									$	(1.93	)				$	(0.54	)

Shares used in computing pro forma basic and diluted net loss per share (unaudited)(2)										5,660						5,689


(1)	Includes non-cash stock-based compensation of the following:


								Three months
								ended
		Year ended June 30,						September 30,

		2003		2004		2005		2004			2005

								(unaudited)
Cost of product revenue		$	-	$	-	$	52	$	-		$	4
Research and development			67		67		583		(20	)		75
Selling, general and administrative			288		145		2,010		254			650

	Total	$	355	$	212	$	2,645	$	234		$	729


(2)	See our financial statements and related notes included elsewhere in this prospectus for the calculation of pro forma net loss per share.

The following table presents summary balance sheet data on an actual basis and on a pro forma as adjusted basis. The pro forma as adjusted numbers reflect:



	•	the conversion of all of our preferred stock into an aggregate of 4,259,328 shares of common shares immediately prior to the closing of this offering; and



	•	the sale of 3,500,000 shares of our common stock at an assumed initial public offering price of $13.00 per share, the midpoint of the range on the front cover of this prospectus, after deducting underwriting discounts and commissions and estimated offering expenses payable by us.

The table does not reflect any conversion of outstanding warrants into shares of our common stock.


	As of September 30,
	2005

				Pro Forma
	Actual			As Adjusted

	(in thousands,
	unaudited)
Balance Sheet Data:
Cash, cash equivalents and short-term investments	$	7,103		$	47,618
Working capital		7,096			47,611
Total assets		10,051			50,566
Long term-liabilities		15,328			15,328
Convertible preferred stock		39,683			-
Total stockholders’ equity (deficit)		(45,983	)		34,215

RISK FACTORS

An investment in our common stock is highly risky. You should carefully consider the following risks, as well as the other information contained in this prospectus, before you decide whether to buy our common stock. We believe the risks and uncertainties described below are the most significant risks we face. If any of the following events actually occurs, our business, business prospects, financial condition, cash flow and results of operations would likely be materially and adversely affected. In these circumstances, the trading price of our common stock would likely decline, and you could lose all or part of your investment.

Risks Related to Our Business

We are dependent upon the success of our current products, and we have U.S. regulatory clearance for our C-Port system only. We cannot be certain that any of our other products will receive regulatory clearance or approval or that any of our products, including the C-Port system, will be commercialized in the United States. If we are unable to commercialize our products in the United States, or experience significant delays in doing so, our ability to generate revenue will be significantly delayed or halted, and our business will be harmed.

We have expended significant time, money and effort in the development of our current products, the C-Port Distal Anastomosis System, referred to as the C-Port system, and the PAS-Port Proximal Anastomosis System, referred to as the PAS-Port system. While we have regulatory approval for commercial sale of our C-Port system in the United States and in the European Union and of our PAS-Port System in the European Union and Japan, we do not have clearance or approval in the United States for the PAS-Port system, later iterations of the C-Port system or any other product. While we believe most of our revenue in the near future will be derived from the sales and distribution of the C-Port system, we anticipate that our ability to increase our revenue in the longer term will depend on the regulatory clearance or approval and commercialization of the PAS-Port system and later iterations of the C-Port system in the United States.

If we are not successful in commercializing our C-Port system or obtaining U.S. Food and Drug Administration, or FDA, clearance or approval of either our later iterations of the C-Port system or the current iteration of the PAS-Port system, or if FDA clearance or approval of any of our products is significantly delayed, we may never generate substantial revenue, our business, financial condition and results of operations would be materially and adversely affected, and we may be forced to cease operations. We intend to commence sales of our C-Port system in the United States in 2006, but sales may not meet our expectations. Although we have other products under development, we may never obtain regulatory clearance or approval of those devices. We may be required to spend significant amounts of capital or time to respond to requests for additional information by the FDA or foreign regulatory bodies or may otherwise be required to spend significant amounts of time and money to obtain FDA clearance or approval and foreign regulatory approval. Imposition of any of these requirements could substantially delay or preclude us from marketing our products in the United States or foreign countries.

A prior automated cardiac proximal anastomosis system was introduced by another manufacturer but was withdrawn from the market, and, as a result, we may experience difficulty in commercializing our C-Port and PAS-Port systems.

A prior automated proximal anastomosis device was introduced by another manufacturer in the United States in 2002. The FDA received reports of apparently device-related adverse events, and in 2004, the device was voluntarily withdrawn from the market by the manufacturer. Because of the FDA’s experience with this prior device, the FDA has identified new criteria for the clinical data required to obtain clearance for a proximal anastomosis device like the PAS-Port. We may not be able to show that the PAS-Port satisfies these criteria, and we may therefore be unable to obtain FDA clearance or approval to market the device in the United States, which would substantially harm our business and prospects. Moreover, physicians who have experience with or knowledge of prior anastomosis devices may be predisposed against using our C-Port or PAS-Port products, which could limit our ability to commercialize them if they are approved by the FDA. If we fail to achieve market adoption, our business, financial condition and results of operations would be materially harmed.

Lack of third-party coverage and reimbursement for our products could delay or limit their adoption.

We may experience limited sales growth resulting from limitations on reimbursements made to purchasers of our products by third-party payors, and we cannot assure you that our sales will not be impeded and our business harmed if third-party payors fail to provide reimbursement that hospitals view as adequate.

In the United States, our products will be purchased primarily by medical institutions, which then bill various third-party payors, such as the Centers for Medicare & Medicaid Services, or CMS, which administer the Medicare program, and other government programs and private insurance plans, for the health care services provided to their patients. The process involved in applying for coverage and incremental reimbursement from CMS is lengthy and expensive. Even if our products receive FDA and other regulatory clearance or approval, they may not be granted coverage and reimbursement in the foreseeable future, if at all. Moreover, many private payors look to CMS in setting their reimbursement policies and amounts. If CMS or other agencies limit coverage or decrease or limit reimbursement payments for doctors and hospitals, this may affect coverage and reimbursement determinations by many private payors.

We cannot assure you that CMS will provide coverage and reimbursement for our products. If a medical device does not receive incremental reimbursement from CMS, then a medical institution would have to absorb the cost of our products as part of the cost of the procedure in which the products are used. Acute care hospitals are now generally reimbursed by CMS for inpatient operating costs under a Medicare hospital inpatient prospective payment system. Under the Medicare hospital inpatient prospective payment system, acute care hospitals receive a fixed payment amount for each covered hospitalized patient based upon the Diagnosis-Related Group, or DRG, to which the inpatient stay is assigned, regardless of the actual cost of the services provided. At this time, we do not know the extent to which medical institutions would consider insurers’ payment levels adequate to cover the cost of our products. Failure by hospitals and physicians to receive an amount that they consider to be adequate reimbursement for procedures in which our products are used could deter them from purchasing our products and limit our revenue growth. In addition, pre-determined DRG payments may decline over time, which could deter medical institutions from purchasing our products. If medical institutions are unable to justify the costs of our products, they may refuse to purchase them, which would significantly harm our business.

We have limited data regarding the safety and efficacy of the PAS-Port and C-Port. Any data that is generated in the future may not be positive or consistent with our existing data, which would affect market acceptance and the rate at which our devices are adopted.

The C-Port and PAS-Port systems are innovative products, and our success depends upon their acceptance by the medical community as safe and effective. An important factor upon which the efficacy of the C-Port and PAS-Port will be measured is long-term data regarding the duration of patency, or openness, of the artery or the graft vessel. Equally important will be physicians’ perceptions of the safety of our products. Our technology is relatively new in cardiac bypass surgery, and the results of short-term clinical experience of the C-Port and PAS-Port systems do not necessarily predict long-term clinical benefit. We believe that physicians will compare long-term patency for the C-Port and PAS-Port devices against alternative procedures, such as hand-sewn anastomoses. If the long-term rates of patency do not meet physicians’ expectations, or if physicians find our devices unsafe, the C-Port and PAS-Port systems may not become widely adopted and physicians may recommend alternative treatments for their patients.

Our C-Port and PAS-Port systems were designed for use with venous grafts. Additionally, while our indications for use of the C-Port system cleared by the FDA refer broadly to grafts, we have studied the use of the C-Port system only with venous grafts and not with arterial grafts. Using the C-Port system with arterial grafts may not yield patency rates or material adverse cardiac event rates comparable to those found in our clinical trials using venous grafts, which could negatively affect market acceptance of our C-Port system. In addition, the clips and staples deployed by our products are made of 316L medical-grade stainless steel, to which some patients are allergic. These allergies may result in adverse reactions that negatively affect the patency of the anastomoses or the healing of the implants and may therefore adversely affect outcomes, particularly when compared to anastomoses performed with other materials, such as sutures. Additionally, in the event a surgeon,

during the course of surgery, determines that it is necessary to convert to a hand-sewn anastomosis and to remove an anastomosis created by one of our products, the removal of the implants may result in more damage to the target vessel (such as the aorta or coronary artery) than would typically be encountered during removal of a hand-sewn anastomosis. Moreover, the removal may damage the target vessel to an extent that could further complicate construction of a replacement hand-sewn or automated anastomosis, which could be detrimental to patient outcome. These or other issues, if experienced, could limit physician adoption of our products.

Even if the data collected from future clinical studies or clinical experience indicates positive results, each physician’s actual experience with our device outside the clinical study setting may vary. Clinical studies conducted with the C-Port and PAS-Port systems have involved procedures performed by physicians who are technically proficient, high-volume users of the C-Port and PAS-Port systems. Consequently, both short- and long-term results reported in these studies may be significantly more favorable than typical results of practicing physicians, which could negatively impact rates of adoption of the C-Port and PAS-Port systems.

Even though our C-Port product has received U.S. regulatory clearance, our PAS-Port system, as well as our future products, may still face future development and regulatory difficulties.

Even though the current iteration of the C-Port system has received U.S. regulatory clearance, the FDA may still impose significant restrictions on the indicated uses or marketing of this product or ongoing requirements for potentially costly post-clearance studies. Any of our other products, including the PAS-Port system and future iterations of the C-Port system, may also face these types of restrictions or requirements. In addition, regulatory agencies subject a product, its manufacturer and the manufacturer’s facilities to continual review, regulation and periodic inspections. If a regulatory agency discovers previously unknown problems with a product, including adverse events of unanticipated severity or frequency, or problems with the facility where the product is manufactured, a regulatory agency may impose restrictions on that product, our collaborators or us, including requiring withdrawal of the product from the market. Our products will also be subject to ongoing FDA requirements for the labeling, packaging, storage, advertising, promotion, record-keeping and submission of safety and other post-market information on the product. If our products fail to comply with applicable regulatory requirements, a regulatory agency may impose any of the following sanctions:


	•	warning letters, fines, injunctions, consent decrees and civil penalties;

	•	customer notifications, repair, replacement, refunds, recall or seizure of our products;

	•	operating restrictions, partial suspension or total shutdown of production;


	•	delay in processing marketing applications for new products or modifications to existing products;



	•	withdrawing approvals that have already been granted; and


	•	criminal prosecution.

To market any products internationally, we must establish and comply with numerous and varying regulatory requirements of other countries regarding safety and efficacy. Approval procedures vary among countries and can involve additional product testing and additional administrative review periods. The time required to obtain approval in other countries might differ from that required to obtain FDA clearance or approval. The regulatory approval process in other countries may include all of the risks detailed above regarding FDA clearance or approval in the United States. Regulatory approval in one country does not ensure regulatory approval in another, but a failure or delay in obtaining regulatory approval in one country may negatively impact the regulatory process in others. Failure to obtain regulatory approval in other countries or any delay or setback in obtaining such approval could have the same adverse effects detailed above regarding FDA clearance or approval in the United States, including the risk that our products may not be approved for use under all of the circumstances requested, which could limit the uses of our products and adversely impact potential product sales, and that such clearance or approval may require costly, post-marketing follow-up studies. If we fail to comply with applicable foreign regulatory requirements, we may be subject to fines, suspension or withdrawal of regulatory approvals, product recalls, seizure of products, operating restrictions and criminal prosecution.

If we do not achieve our projected development goals in the time frames we announce and expect, the commercialization of our product candidates may be delayed and, as a result, our stock price may decline.

From time to time, we may estimate and publicly announce the timing anticipated for the accomplishment of various clinical, regulatory and other product development goals, which we sometimes refer to as milestones. These milestones may include an Investigational Device Exemption application to commence our enrollment of patients in our clinical trials, the release of data from our clinical trials, receipt of clearances or approvals from regulatory authorities or other clinical and regulatory events. These estimates are based on a variety of assumptions. The actual timing of these milestones can vary dramatically compared to our estimates, in some cases for reasons beyond our control. If we do not meet these milestones as publicly announced, the commercialization of our products may be delayed and, as a result, our stock price may decline.

Our products may never gain any significant degree of market acceptance, and a lack of market acceptance would have a material adverse effect on our business.

We cannot assure you that our products will gain any significant degree of market acceptance among physicians or patients, even if necessary regulatory and reimbursement approvals are obtained. We believe that recommendations by physicians will be essential for market acceptance of our products; however, we cannot assure you that any recommendations will be obtained. Physicians will not recommend the products unless they conclude, based on clinical data and other factors, that the products represent a safe and acceptable alternative to other available options. In particular, physicians may elect not to recommend using our products in surgical procedures until such time, if ever, as we successfully demonstrate with long-term data that our products result in patency rates comparable to or better than those achieved with hand-sewn anastomoses, and we resolve any technical limitations that may arise.

We believe graft patency will be a significant factor for physician recommendation of our products. Although we have not experienced low patency rates in our clinical trials, graft patency determined during the clinical trials conducted by us or other investigators may not be representative of the graft patency actually encountered during commercial use of our products. The surgical skill sets of investigators in our clinical trials may not be representative of the skills of future product users, which could negatively affect graft patency. In addition there may have been a selection bias in the patients, grafts and target vessels used during the clinical trials that positively affected graft patency. The patients included in the clinical trials were enrolled in European centers and it is possible that the characteristics of European patients differ significantly from those of U.S. patients, which constitute the major market for use of our products, favoring improved graft patency in European patients. Finally, patient compliance in terms of use of prescribed anticlotting medicines may have been higher in clinical trials than may occur during commercial use, thereby negatively affecting graft patency during commercial use.

Widespread use of our products will require the training of numerous physicians, and the time required to complete training could result in a delay or dampening of market acceptance. Even if the safety and efficacy of our products is established, physicians may elect not to use our products for a number of reasons beyond our control, including inadequate or no reimbursement from health care payors, physicians’ reluctance to perform anastomoses with an automated device, the introduction of competing devices by our competitors and pricing for our products. Failure of our products to achieve any significant market acceptance would have a material adverse effect on our business, financial condition and results of operations.

If our competitors have products that are approved in advance of ours, marketed more effectively or demonstrated to be more effective than ours, our commercial opportunity will be reduced or eliminated and our business will be harmed.

The market for anastomotic solutions and cardiac bypass products is competitive. Competitors include a variety of public and private companies that currently offer or are developing cardiac surgery products generally and automated anastomotic systems specifically that would compete directly with ours.

We believe that the primary competitive factors in the market for medical devices used in the treatment of coronary artery disease include:


	•	improved patient outcomes;

	•	access to and acceptance by leading physicians;

	•	product quality and reliability;

	•	ease of use;

	•	device cost-effectiveness;

	•	training and support;

	•	novelty;

	•	physician relationships; and

	•	sales and marketing capabilities.

We may be unable to compete successfully on the basis of any one or more of these factors, which could have a material adverse affect on our business, financial condition and results of operations.

A number of different technologies exist or are under development for performing anastomoses, including sutures, mechanical anastomotic devices, suture-based anastomotic devices and shunting devices. Currently, substantially all anastomoses are performed with sutures and, for the foreseeable future, we believe that sutures will continue to be the principal alternative to our anastomotic products. Sutures are far less expensive than our automated anastomotic products, and other anastomotic devices may be less expensive than our own. Surgeons, who have been using sutures for their entire careers, may be reluctant to consider alternative technologies, despite potential advantages. Any resistance to change among practitioners could delay or hinder market acceptance of our products, which would have a material adverse effect on our business.

Cardiovascular diseases may also be treated by other methods that do not require anastomoses, including, interventional techniques such as balloon angioplasty with or without the use of stents, pharmaceuticals, atherectomy catheters and lasers. Several of these alternative treatments are widely accepted in the medical community and have a long history of use. In addition, technological advances with other therapies for cardiovascular disease, such as drugs, or future innovations in cardiac surgery techniques could make other methods of treating this disease more effective or lower cost than bypass procedures. For example, the number of bypass procedures in the United States and other major markets has declined in recent years and is expected to decline in the years ahead because competing treatments are, in many cases, far less invasive and provide acceptable clinical outcomes. Many companies working on treatments that do not require anastomoses may have significantly greater financial, manufacturing, marketing, distribution, and technical resources and experience than we have.

Many of our competitors have significantly greater financial resources and expertise in research and development, manufacturing, pre-clinical testing, clinical trials, obtaining regulatory clearance or approval and marketing approved products than we do. Smaller or early-stage companies may also prove to be significant competitors, particularly through collaborative arrangements with large and established companies. Our competitors may succeed in developing technologies and therapies that are more effective, better tolerated or less costly than any that we are developing or that would render our product candidates obsolete and noncompetitive. Our competitors may succeed in obtaining clearance or approval from the FDA and foreign regulatory authorities for their products sooner than we do for ours. We will also face competition from these third parties in recruiting and retaining qualified scientific and management personnel, establishing clinical trial sites and patient enrollment for clinical trials and in acquiring and in-licensing technologies and products complementary to our programs or advantageous to our business.

We have limited manufacturing experience and may encounter difficulties in increasing production to provide an adequate supply to customers.

To date, our manufacturing activities have consisted primarily of producing limited quantities of our products for use in clinical studies and for sales in Japan and Europe. We do not have experience in manufacturing our products in the commercial quantities that might be required to market our products in the United States. Production in commercial quantities will require us to expand our manufacturing capabilities and to hire and train additional personnel. We may encounter difficulties in increasing our manufacturing capacity and in manufacturing commercial quantities, including:


	•	maintaining product yields;

	•	maintaining quality control and assurance;

	•	providing component and service availability;

	•	maintaining adequate control policies and procedures; and

	•	hiring and retaining qualified personnel.

Difficulties encountered in increasing our manufacturing could have a material adverse effect on our business, financial condition and results of operations.

The manufacture of our products is a complex and costly operation involving a number of separate processes and components. In addition, the current unit costs for our products, based on limited manufacturing volumes, are very high, and it will be necessary to achieve economies of scale to become profitable. Certain of our manufacturing processes are labor intensive, and achieving significant cost reductions will depend in part upon reducing the time required to complete these processes. We cannot assure you that we will be able to achieve cost reductions in the manufacture of our products and, without these cost reductions, our business may never achieve profitability.

We have considered, and will continue to consider as appropriate, manufacturing in-house certain components currently provided by third parties, as well as implementing new production processes. Manufacturing yields or costs may be adversely affected by the transition to in-house production or to new production processes, when and if these efforts are undertaken, which would materially and adversely affect our business, financial condition and results of operations.

Our manufacturing facilities, and those of our suppliers, must comply with applicable regulatory requirements. Failure to obtain regulatory approval of our manufacturing facilities would harm our business and our results of operations.

Our manufacturing facilities and processes are subject to periodic inspections and audits by various U.S. federal, U.S. state and foreign regulatory agencies. For example, our facilities have been inspected by State of California regulatory authorities pursuant to granting a California Device Manufacturing License, but not, to date, by the FDA. Additionally, to market products in Europe, we are required to maintain ISO 13485:2003 certification and are subject to periodic surveillance audits. We are currently ISO 13485:2003 certified; however, our failure to maintain necessary regulatory approvals for our manufacturing facilities could prevent us from manufacturing and selling our products.

Additionally, our manufacturing processes and those of our suppliers are required to comply with FDA’s Quality System Regulation, or QSR, which covers the procedures and documentation of the design, testing, production, control, quality assurance, labeling, packaging, storage and shipping of our products, including the PAS-Port and C-Port. We are also subject to similar state requirements and licenses. In addition, we must engage in extensive record keeping and reporting and must make available our manufacturing facilities and records for periodic inspections by governmental agencies, including FDA, state authorities and comparable agencies in other countries. If we fail a QSR inspection, our operations could be disrupted and our manufacturing interrupted. Failure to take adequate corrective action in response to an adverse QSR inspection could result in, among other things, a shut-down of our manufacturing operations, significant fines, suspension of product distribution or

other operating restrictions, seizures or recalls of our device and criminal prosecutions, any of which would cause our business to suffer. Furthermore, our key component suppliers may not currently be or may not continue to be in compliance with applicable regulatory requirements, which may result in manufacturing delays for our products and cause our revenue to decline.

If we are unable to establish sales and marketing capabilities or enter into and maintain arrangements with third parties to market and sell our products, our business may be harmed.

We do not have a sales and marketing organization, and we have limited experience as a company in the sales, marketing and distribution of our products. Century Medical, Inc., or Century, is responsible for marketing and commercialization of the PAS-Port system in Japan. To promote our current and future products in the United States and Europe, we must develop our sales, marketing and distribution capabilities or make arrangements with third parties to perform these services. Competition for qualified sales personnel is intense. Developing a sales force is expensive and time consuming and could delay any product launch. We may be unable to establish and manage an effective sales force in a timely or cost-effective manner, if at all, and any sales force we do establish may not be capable of generating sufficient demand for our products. To the extent that we enter into arrangements with third parties to perform sales and marketing services, our product revenue may be lower than if we directly marketed and sold our products. We expect to rely on third-party distributors for substantially all of our international sales. If we are unable to establish adequate sales and marketing capabilities, independently or with others, we may not be able to generate significant revenue and may not become profitable.

We will need to increase the size of our organization, and we may experience difficulties in managing this growth.

As of November 30, 2005, we had 42 employees. We will need to continue to expand our managerial, operational, financial and other resources to manage and fund our operations and clinical trials, continue our research and development activities and commercialize our products. It is possible that our management and scientific personnel, systems and facilities currently in place may not be adequate to support this future growth. Our need to effectively manage our operations, growth and programs requires that we continue to improve our operational, financial and management controls, reporting systems and procedures and to attract and retain sufficient numbers of talented employees. We may be unable to successfully implement these tasks on a larger scale and, accordingly, may not achieve our research, development and commercialization goals.

We are dependent upon a number of key suppliers, including single source suppliers, the loss of which would materially harm our business.

We use or rely upon sole source suppliers for certain components and services used in manufacturing our products, and we utilize materials and components supplied by third parties with which we do not have any long-term contracts. In recent years, many suppliers have ceased supplying raw materials for use in implantable medical devices. We cannot assure you that materials required by us will not be restricted or that we will be able to obtain sufficient quantities of such materials or services in the future. Moreover, the continued use by us of materials manufactured by third parties could subject us to liability exposure. Because we do not have long-term contracts, none of our suppliers is required to provide us with any guaranteed minimum production levels.

We cannot quickly replace suppliers or establish additional new suppliers for some of these components, particularly due to both the complex nature of the manufacturing process used by our suppliers and the time and effort that may be required to obtain FDA clearance or approval or other regulatory approval to use materials from alternative suppliers. Any significant supply interruption or capacity constraints affecting our facilities or those of our suppliers would have a material adverse effect on our ability to manufacture our products and, therefore, a material adverse effect on our business, financial condition and results of operations.

We may in the future be a party to patent litigation and administrative proceedings that could be costly and could interfere with our ability to sell our products.

The medical device industry has been characterized by extensive litigation regarding patents and other intellectual property rights, and companies in the industry have used intellectual property litigation to gain a competitive advantage. We may become a party to patent infringement claims and litigation or interference proceedings declared by the U.S. Patent and Trademark Office to determine the priority of inventions. The defense and prosecution of these matters are both costly and time consuming. Additionally, we may need to commence proceedings against others to enforce our patents, to protect our trade secrets or know-how or to determine the enforceability, scope and validity of the proprietary rights of others. These proceedings would result in substantial expense to us and significant diversion of effort by our technical and management personnel.

We are aware of patents issued to third parties that contain subject matter related to our technology. We cannot assure you that these or other third parties will not assert that our products and systems infringe the claims in their patents or seek to expand their patent claims to cover aspects of our products and systems. An adverse determination in litigation or interference proceedings to which we may become a party could subject us to significant liabilities or require us to seek licenses. In addition, if we are found to willfully infringe third-party patents, we could be required to pay treble damages in addition to other penalties. Although patent and intellectual property disputes in the medical device area have often been settled through licensing or similar arrangements, costs associated with these arrangements may be substantial and could include ongoing royalties. We may be unable to obtain necessary licenses on satisfactory terms, if at all. If we do not obtain necessary licenses, we may be required to redesign our products to avoid infringement, and it may not be possible to do so effectively. Adverse determinations in a judicial or administrative proceeding or failure to obtain necessary licenses could prevent us from manufacturing and selling the C-Port system, PAS-Port system or any other product we may develop, which would have a significant adverse impact on our business.

On October 28, 2005, we received a letter from Integrated Vascular Interventional Technologies, Inc., referred to as IVIT, advising us for the first time of IVIT’s effort (thus far unsuccessful) to provoke an interference in the U.S. Patent and Trademark Office between one of IVIT’s patent applications (serial no. 10/243,543) and a patent currently held by us (U.S. patent no. 6,391,038) and relating to the C-Port system. We also learned on that date that IVIT is attempting to provoke an interference in the U.S. Patent and Trademark Office between another of its U.S. patent applications (serial no. 10/706,245) and another of our issued patents (U.S. Patent No. 6,478,804). IVIT makes no specific demands in the letter, but alleges that it has an indication of an allowed claim and that it expects to receive a declaration of interference regarding that claim, and states that it would be “strategically beneficial” for us to discuss this matter prior to receiving a declaration of interference.

An interference is a proceeding within the U.S. Patent and Trademark Office to determine priority of invention of the subject matter of patent claims. The decision to declare an interference is solely within the power of the Board of Patent Appeals and Interferences of the U.S. Patent and Trademark Office, and can be made only after claims in a patent application are allowed by the examiner and a determination is made that interfering subject matter exists. As yet, no claims have been allowed in either of IVIT’s two patent applications referenced above.

We believe, after conferring with intellectual property counsel, that IVIT’s attempts to provoke an interference are unlikely to succeed, and we will vigorously defend our patents against such claims of interference, although there can be no assurance that we will succeed in doing so. We further believe that if IVIT’s patent claims are allowed in their present form, our products would not infringe such claims. There can be no assurance that IVIT’s patent claims, if allowed, will be in their present form, or that our products would not be found to infringe such claims or any other claims that are issued.

Intellectual property rights may not provide adequate protection, which may permit third parties to compete against us more effectively.

We rely upon patents, trade secret laws and confidentiality agreements to protect our technology and products. Our pending patent applications may not issue as patents or, if issued, may not issue in a form that will be advantageous to us. Any patents we have obtained or will obtain in the future might be invalidated or

circumvented by third parties. If any challenges are successful, competitors might be able to market products and use manufacturing processes that are substantially similar to ours. We may not be able to prevent the unauthorized disclosure or use of our technical knowledge or other trade secrets by consultants, vendors or former or current employees, despite the existence generally of confidentiality agreements and other contractual restrictions. Monitoring unauthorized use and disclosure of our intellectual property is difficult, and we do not know whether the steps we have taken to protect our intellectual property will be adequate. In addition, the laws of many foreign countries may not protect our intellectual property rights to the same extent as the laws of the United States. To the extent that our intellectual property protection is inadequate, we are exposed to a greater risk of direct competition. In addition, competitors could purchase any of our products and attempt to replicate some or all of the competitive advantages we derive from our development efforts or design around our protected technology. If our intellectual property is not adequately protected against competitors’ products and methods, our competitive position could be adversely affected, as could our business.

We also rely upon trade secrets, technical know-how and continuing technological innovation to develop and maintain our competitive position. We require our employees, consultants and advisors to execute appropriate confidentiality and assignment-of-inventions agreements with us. These agreements typically provide that all materials and confidential information developed or made known to the individual during the course of the individual’s relationship with us be kept confidential and not disclosed to third parties except in specific circumstances and that all inventions arising out of the individual’s relationship with us shall be our exclusive property. These agreements may be breached, and in some instances, we may not have an appropriate remedy available for breach of the agreements. Furthermore, our competitors may independently develop substantially equivalent proprietary information and techniques, reverse engineer our information and techniques, or otherwise gain access to our proprietary technology.

Our products face the risk of technological obsolescence, which, if realized, could have a material adverse effect on our business.

The medical device industry is characterized by rapid and significant technological change. There can be no assurance that third parties will not succeed in developing or marketing technologies and products that are more effective than ours or that would render our technology and products obsolete or noncompetitive. Additionally, new, less invasive surgical procedures and medications could be developed that replace or reduce the importance of current procedures that use our products. Accordingly, our success will depend in part upon our ability to respond quickly to medical and technological changes through the development and introduction of new products. The relative speed with which we can develop products, complete clinical testing and regulatory clearance or approval processes, train physicians in the use of our products, gain reimbursement acceptance, and supply commercial quantities of the products to the market are expected to be important competitive factors. Product development involves a high degree of risk, and we cannot assure you that our new product development efforts will result in any commercially successful products. We have experienced delays in completing the development and commercialization of our planned products, and there can be no assurance that these delays will not continue or recur in the future. Any delays could result in a loss of market acceptance and market share.

We may not be successful in our efforts to expand our product portfolio, and our failure to do so could cause our business and prospects to suffer.

We intend to use our knowledge and expertise in anastomotic technologies to discover, develop and commercialize new applications in endoscopic surgery, general vascular surgery or other markets. However, the process of researching and developing anastomotic devices is expensive, time-consuming and unpredictable. Our efforts to create products for these new markets are at a very early stage, and we may never be successful in developing viable products for these markets. Even if our development efforts are successful and we obtain the necessary regulatory and reimbursement approvals, we cannot assure you that these or our other products will gain any significant degree of market acceptance among physicians, patients or health care payors. Accordingly, we anticipate that, for the foreseeable future, we will be substantially dependent upon the successful development and commercialization of anastomotic systems and instruments for cardiac surgery, mainly the PAS-Port system and the C-Port system. Failure by us to successfully develop and commercialize these systems for

any reason, including failure to overcome regulatory hurdles or inability to gain any significant degree of market acceptance, would have a material adverse effect on our business, financial condition and results of operations.

We may be subject, directly or indirectly, to federal and state healthcare fraud and abuse laws and regulations and, if we are unable to fully comply with such laws, could face substantial penalties.

Our operations may be directly or indirectly affected by various broad state and federal healthcare fraud and abuse laws, including the federal healthcare program Anti-Kickback Statute, which prohibit any person from knowingly and willfully offering, paying, soliciting or receiving remuneration, directly or indirectly, to induce or reward either the referral of an individual, or the furnishing or arranging for an item or service, for which payment may be made under federal healthcare programs, such as the Medicare and Medicaid programs. Foreign sales of our products are also subject to similar fraud and abuse laws, including application of the U.S. Foreign Corrupt Practices Act. If our past or present operations, including any consulting arrangements we may enter into with physicians who use our products, are found to be in violation of these laws, we or our officers may be subject to civil or criminal penalties, including large monetary penalties, damages, fines, imprisonment and exclusion from Medicare and Medicaid program participation. If enforcement action were to occur, our business and financial condition would be harmed.

We could be exposed to significant product liability claims, which could be time consuming and costly to defend, divert management attention, and adversely impact our ability to obtain and maintain insurance coverage. The expense and potential unavailability of insurance coverage for our company or our customers could adversely affect our ability to sell our products, which would adversely affect our business.

The testing, manufacture, marketing, and sale of our products involve an inherent risk that product liability claims will be asserted against us. Product liability claims or other claims related to our products, or their off-label use, regardless of their merits or outcomes, could harm our reputation in the industry, reduce our product sales, lead to significant legal fees, and result in the diversion of management’s attention from managing our business.

Although we maintain product liability insurance in the amount of $5,000,000, we may not have sufficient insurance coverage to fully cover the costs of any claim or any ultimate damages we might be required to pay. We may not be able to obtain insurance in amounts or scope sufficient to provide us with adequate coverage against all potential liabilities. Any product liability claims brought against us, with or without merit, could increase our product liability insurance rates or prevent us from securing continuing coverage. Product liability claims in excess of our insurance coverage would be paid out of cash reserves, harming our financial condition and adversely affecting our financial condition and operating results.

Some of our customers and prospective customers may have difficulty in procuring or maintaining liability insurance to cover their operations and use of the C-Port or PAS-Port systems. Medical malpractice carriers are withdrawing coverage in certain states or substantially increasing premiums. If this trend continues or worsens, our customers may discontinue using the C-Port or PAS-Port systems and potential customers may opt against purchasing the C-Port or PAS-Port systems due to the cost or inability to procure insurance coverage.

We sell our systems internationally and are subject to various risks relating to these international activities, which could adversely affect our revenue.

To date, all of our revenue has been attributable to sales in international markets. By doing business in international markets, we are exposed to risks separate and distinct from those we face in our domestic operations. Our international business may be adversely affected by changing economic conditions in foreign countries. Because most of our sales are currently denominated in U.S. dollars, if the value of the U.S. dollar increases relative to foreign currencies, our products could become more costly to the international customer and,

therefore, less competitive in international markets, which could affect our results of operations. Engaging in international business inherently involves a number of other difficulties and risks, including:


	•	export restrictions and controls relating to technology;

	•	the availability and level of reimbursement within prevailing foreign healthcare payment systems;

	•	pricing pressure that we may experience internationally;

	•	required compliance with existing and changing foreign regulatory requirements and laws;

	•	laws and business practices favoring local companies;

	•	longer payment cycles;

	•	difficulties in enforcing agreements and collecting receivables through certain foreign legal systems;

	•	political and economic instability;

	•	potentially adverse tax consequences, tariffs and other trade barriers;

	•	international terrorism and anti-American sentiment;

	•	difficulties and costs of staffing and managing foreign operations; and

	•	difficulties in enforcing intellectual property rights.

Our exposure to each of these risks may increase our costs, impair our ability to market and sell our products and require significant management attention. We cannot assure you that one or more of these factors will not harm our business.

We are dependent upon key personnel, loss of any of which could have a material adverse affect on our business.

Our future business and operating results depend significantly on the continued contributions of our key technical personnel and senior management, including those of our co-founder, CEO and President, Bernard Hausen, M.D., Ph.D. These services and individuals would be difficult or impossible to replace and none of these individuals is subject to a post-employment non-competition agreement. While we are subject to certain severance obligations to Dr. Hausen, either he or we may terminate his employment at any time and for any lawful reason or for no reason. Our business and future operating results also depend significantly on our ability to attract and retain qualified management, manufacturing, technical, marketing, sales and support personnel for our operations. Competition for such personnel is intense, and there can be no assurance that we will be successful in attracting or retaining such personnel. Additionally, although we have key-person life insurance in the amount of $3.0 million on the life of Dr. Hausen, we cannot assure you that this amount would fully compensate us for the loss of Dr. Hausen’s services. The loss of key employees, the failure of any key employee to perform or our inability to attract and retain skilled employees, as needed, could materially adversely affect our business, financial condition and results of operations.

Our operations are currently conducted at a single location that may be at risk from earthquakes, terror attacks or other disasters.

We currently conduct all of our manufacturing, development and management activities at a single location in Redwood City, California, near known earthquake fault zones. We have taken precautions to safeguard our facilities, including insurance, health and safety protocols, and off-site storage of computer data. However, any future natural disaster, such as an earthquake, or a terrorist attack, could cause substantial delays in our operations, damage or destroy our equipment or inventory and cause us to incur additional expenses. A disaster could seriously harm our business and results of operations. Our insurance does not cover earthquakes and floods and may not be adequate to cover our losses in any particular case.

If we use hazardous materials in a manner that causes injury, we may be liable for damages.

Our research and development and manufacturing activities involve the use of hazardous materials. Although we believe that our safety procedures for handling and disposing of these materials comply with federal, state and local laws and regulations, we cannot entirely eliminate the risk of accidental injury or contamination from the use, storage, handling or disposal of these materials. If one of our employees were accidentally injured from the use, storage, handling or disposal of these materials, the medical costs related to his or her treatment would be covered by our workers’ compensation insurance policy. However, we do not carry specific hazardous waste insurance coverage, and our property and casualty and general liability insurance policies specifically exclude coverage for damages and fines arising from hazardous waste exposure or contamination. Accordingly, in the event of contamination or injury, we could be held liable for damages or penalized with fines in an amount exceeding our resources, and our clinical trials or regulatory clearances or approvals could be suspended.

We may be subject to fines, penalties or injunctions if we are determined to be promoting the use of our products for unapproved or “off-label” uses.

If our products receive FDA clearance or approval, our promotional materials and training methods regarding physicians will need to comply with FDA and other applicable laws and regulations. If the FDA determines that our promotional materials or training constitutes promotion of an unapproved use, it could request that we modify our training or promotional materials or subject us to regulatory enforcement actions, including the issuance of a warning letter, injunction, seizure, civil fine and criminal penalties. It is also possible that other federal, state or foreign enforcement authorities might take action if they consider our promotional or training materials to constitute promotion of an unapproved use, which could result in significant fines or penalties under other statutory authorities, such as laws prohibiting false claims for reimbursement. In that event, our reputation could be damaged and adoption of the products would be impaired.

Risks Related to Our Finances and Capital Requirements

We have a history of net losses, which we expect to continue for the foreseeable future, and we are unable to predict the extent of future losses or when we will become profitable, if at all.

We incurred net losses since our inception in October 1997. As of September 30, 2005, our accumulated deficit was approximately $51.1 million. We expect to incur substantial additional losses until we can achieve significant commercial sales of our products, which depend upon a number of factors, including the successful commercial launch of our C-Port system in the United States and receipt of regulatory clearance or approval and market adoption of our additional products in the United States. We commenced commercial sales of the C-Port system in Europe in 2004 and the PAS-Port system in Japan in January 2004, and our short commercialization experience makes it difficult for us to predict future performance. Our failure to accurately predict financial performance may lead to volatility in our stock price.

Our cost of product revenue was 343%, 142%, 70% and 373% of our net product revenue in our fiscal years ended June 30, 2004 and 2005, and in the three months ended September 30, 2004 and 2005, respectively. We expect to continue to have high costs of product revenue for the foreseeable future. In addition, if we obtain regulatory clearance or approval in the United States for any of our products, we expect that our operating expenses will increase as we commence our commercialization efforts and devote resources to our sales and marketing, as well as conduct other research and development activities. If, over the long term, we are unable to reduce our cost of producing goods and expenses relative to our net revenue, we may not achieve profitability even if we are able to generate significant revenue from sales of the C-Port and PAS-Port systems. Our failure to achieve and sustain profitability would negatively impact the market price of our common stock.

We currently lack a significant source of product revenue, and prior agreements with Guidant, which represented 75% of our revenue in fiscal year 2004 and 65% of our revenue in fiscal year 2005, have been terminated. We may not become or remain profitable.

Our ability to become and remain profitable depends upon our ability to generate product revenue. Our ability to generate significant continuing revenue depends upon a number of factors, including:



	•	achievement of U.S. regulatory clearance or approval for our additional products;


	•	successful completion of ongoing clinical trials for our products; and

	•	successful sales, manufacturing, marketing and distribution of our products.

For the fiscal year ended June 30, 2005, sales of our products and development activities generated only $2.1 million of revenue, 65% of which was from Guidant. For the fiscal year ended June 30, 2004, sales of our products and development activities generated only $0.8 million of revenue, 75% of which was from Guidant. Our distribution and development agreements with Guidant have terminated. We do not expect to enter into future development contracts with Guidant. Accordingly, we do not anticipate any future revenue from development contracts with Guidant. As Guidant outsourced the manufacture of the aortic cutter to a contract manufacturing company, we ceased manufacturing the aortic cutter. While we receive a modest royalty from Guidant’s sales of the aortic cutter, we do not anticipate any significant future revenue for this royalty.

We do not anticipate that we will generate significant product revenue for the foreseeable future. If we are unable to generate significant product revenue, we will not become or remain profitable, and we may be unable to continue our operations.

We will need substantial additional funding and may be unable to raise capital when needed, which would force us to delay, reduce or eliminate our research and development programs or commercialization efforts.

Our development efforts have consumed substantial capital to date. We believe that our existing cash, cash equivalents and short-term investments, together with the net proceeds from this offering, will be sufficient to meet our projected operating requirements through at least the next 18 months. Because we do not anticipate that we will generate significant product revenue for the foreseeable future, if at all, we will need to raise substantial additional capital to finance our operations in the future. Our future liquidity and capital requirements will depend upon, and could increase significantly as a result of, numerous factors, including:



	•	market acceptance and adoption of our products;


	•	our revenue growth;

	•	the progress of clinical trials;

	•	the timing and costs of regulatory submissions;

	•	the timing and costs required to receive both domestic and international governmental approvals;

	•	the timing and costs of new product introductions, if FDA clearance or approval is obtained;

	•	the extent of our ongoing research and development programs; and

	•	the costs of developing marketing and distribution capabilities.

Until we can generate significant continuing revenue, if ever, we expect to satisfy our future cash needs through public or private equity offerings, debt financings or corporate collaboration and licensing arrangements, as well as through interest income earned on cash balances. We cannot be certain that additional funding will be available on acceptable terms, or at all. Any corporate collaboration and licensing arrangements may require us to relinquish valuable rights. If adequate funds are not available, we may be required to delay, reduce the scope of or eliminate our commercialization efforts or one or more of our research and development programs.

If we do not generate sufficient cash flow through increased revenue or raising additional capital, then we may not be able to meet our substantial debt obligations that become due in 2008.

As of September 30, 2005, we had an aggregate principal amount of approximately $13.3 million in long-term notes payable to Century and Guidant Investment Corporation that mature in 2008. The accrued interest under the Guidant note due at maturity in 2008 will be $4.2 million, of which $1.7 million was recorded as of September 30, 2005. This substantial indebtedness has and will continue to impact us by:


	•	making it more difficult to obtain additional financing; and

	•	constraining our ability to react quickly in an unfavorable economic climate.

Currently we are not generating positive cash flow. Adverse occurrences related to our product commercialization, development and regulatory efforts would adversely impact our ability to meet our obligations to repay the principal amounts on our notes when due in 2008. If we are unable to satisfy our debt service requirements, we may not be able to continue our operations. We may not generate sufficient cash from operations to repay our notes or satisfy any additional debt obligations when they become due and may have to raise additional financing from the sale of equity or debt securities, enter into commercial transactions or otherwise restructure our debt obligations. There can be no assurance that any such financing or restructuring will be available to us on commercially acceptable terms, if at all. If we are unable to restructure our obligations, we may be forced to seek protection under applicable bankruptcy laws. Any restructuring or bankruptcy could materially impair the value of our common stock.

Existing creditors have rights to our assets that are senior to our stockholders.

Existing arrangements with our current lenders, Century and Guidant Investment Corporation, as well as future arrangements with other creditors, allow or may allow these creditors to liquidate our assets, which may include our intellectual property rights, if we are in default or breach of our debt obligations for a continued period of time. The proceeds of any sale or liquidation of our assets under these circumstances would be applied first to any of our debt obligations and would have priority over any of our capital stock, including any liquidation preference of the preferred stock. After satisfaction of our debt obligations, we may have little or no proceeds left under these circumstances to distribute to the holders of our capital stock.

Our quarterly operating results and stock price may fluctuate significantly.

We expect our operating results to be subject to quarterly fluctuations. The revenue we generate, if any, and our operating results will be affected by numerous factors, many of which are beyond our control, including:


	•	the rate of physician adoption of our products;

	•	the results of clinical trials related to our products;

	•	the introduction by us or our competitors, and market acceptance of, new products;

	•	the results of regulatory and reimbursement actions;

	•	the timing of orders by distributors or customers;

	•	the expenditures incurred in the research and development of new products; and

	•	competitive pricing.

Quarterly fluctuations in our operating results may, in turn, cause the price of our stock to fluctuate substantially.

Risks Related to this Offering

We expect the price of our common stock will fluctuate substantially and you may not be able to sell your shares at or above the offering price.

The price for the shares of our common stock sold in this offering will be determined by negotiation between the representatives of the underwriters and us. This price may not reflect the market price of our common stock following this offering. In addition, the market price of our common stock is likely to be highly volatile. The public trading price for our common stock after this offering will be affected by a number of factors, including:



	•	market acceptance and adoption of our products;


	•	regulatory clearance or approvals of our products;

	•	volume and timing of orders for our products;

	•	changes in earnings estimates, investors’ perceptions, recommendations by securities analysts or our failure to achieve analysts’ earning estimates;

	•	quarterly variations in our or our competitors’ results of operations;

	•	general market conditions and other factors unrelated to our operating performance or the operating performance of our competitors;

	•	the announcement of new products or product enhancements by us or our competitors;

	•	announcements related to patents issued to us or our competitors and to litigation; and

	•	developments in our industry.

In addition, the stock prices of many companies in the medical device industry have experienced wide fluctuations that have often been unrelated to the operating performance of those companies. These factors may materially and adversely affect the market price of our common stock.

There has been no prior public market for our common stock, and an active trading market may not develop, potentially lessening the value of your shares and impairing your ability to sell.

Prior to this offering, there has been no public market for our common stock. An active trading market may not develop following completion of this offering or, if developed, may not be sustained. The lack of an active market may impair the value of your shares and your ability to sell your shares at the time you wish to sell them. An inactive market may also impair our ability to raise capital by selling shares.

If there are substantial sales of our common stock, our stock price could decline.

If our existing stockholders sell a large number of shares of our common stock or the public market perceives that existing stockholders might sell shares of our common stock, the market price of our common stock could decline significantly. Based on shares outstanding on November 30, 2005, upon the closing of this offering, assuming no outstanding options are exercised prior to the closing of this offering, we will have approximately 9,605,852 shares of common stock outstanding, including 156,515 shares of common stock issuable upon the exercise of outstanding warrants and 4,254,216 shares of common stock to be issued upon the conversion of our preferred stock immediately prior to the closing of this offering. All of the 3,500,000 shares offered under this prospectus will be freely tradable without restriction or further registration under the federal

securities laws, unless purchased by our affiliates. The remaining 6,105,852 shares outstanding upon the closing of this offering will be available for sale pursuant to Rules 144 and 701 as follows:


	•	shares of common stock will be immediately eligible for sale in the public market without restriction;

	•	shares of common stock will be eligible for sale in the public market under Rule 144 or Rule 701, beginning 90 days after the effective date of the registration statements of which this prospectus is a part, subject to the volume, manner of sale and other limitations under those rules; and

	•	the remaining shares of common stock will become eligible under Rule 144 for sale in the public market from time to time after the effective date of the registration statements of which this prospectus is a part upon expiration of their respective holding periods.

The above does not take into consideration the effect of the lock-up agreements described under “Shares Eligible for Future Sale — Lock-up Agreements.”

Existing stockholders holding an aggregate of 4,410,731 shares of common stock, based upon shares outstanding as of November 30, 2005, including 156,515 shares underlying outstanding warrants, have rights with respect to the registration of these shares of common stock with the Securities and Exchange Commission. See “Description of Capital Stock — Registration Rights.” If we register their shares of common stock following the expiration of the lock-up agreements, they can immediately sell those shares in the public market.

Promptly following this offering, we intend to file a registration statement covering up to 1,403,765 shares of common stock that are authorized for issuance under our equity incentive plans. As of November 30, 2005, 897,110 shares were subject to outstanding options, of which 453,003 shares were vested. Once we file this registration statement, the shares covered can be freely sold in the public market upon issuance, subject to the lock-up agreements referred to above and restrictions on our affiliates. See “Shares Eligible for Future Sale.”

Evolving regulation of corporate governance and public disclosure will result in additional expenses and continuing uncertainty.

Changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002, new SEC regulations and Nasdaq National Market rules are creating uncertainty for public companies. We are presently evaluating and monitoring developments with respect to new and proposed rules and cannot predict or estimate the amount of the additional compliance costs we may incur or the timing of such costs. These new or changed laws, regulations and standards are subject to varying interpretations, in many cases due to their lack of specificity, and as a result, their application in practice may evolve over time as new guidance is provided by courts and regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. Maintaining appropriate standards of corporate governance and public disclosure will result in increased general and administrative expenses and a diversion of management time and attention from revenue-generating activities to compliance activities. In addition, if we fail to comply with new or changed laws, regulations and standards, regulatory authorities may initiate legal proceedings against us and our business and reputation may be harmed.

If you purchase shares of our common stock in this offering, you will suffer immediate and substantial dilution.

Purchasers of common stock in this offering will pay a price per share that substantially exceeds the per-share book value of our tangible assets after subtracting our liabilities as well as the per-share price paid by our existing stockholders and by persons who exercise currently outstanding options and warrants to acquire our stock. Accordingly, after we sell 3,500,000 shares at the initial public offering price of $13.00 per share, the midpoint of the range on the front cover of this prospectus, you will experience immediate dilution of approximately $9.40 per share, representing the difference between the public offering price and our pro forma as adjusted net tangible book value per share as of September 30, 2005 after giving effect to this offering. Additionally, purchasers of common stock in this offering will have contributed approximately 53.5% of the

aggregate price paid by all purchasers of our stock but will own only approximately 36.8% of our common stock outstanding after this offering. See “Dilution.”

Our principal stockholders and management own a significant percentage of our stock and will be able to exercise significant influence over our affairs.

Following the completion of this offering, our executive officers, current directors and holders of five percent or more of our common stock will beneficially own approximately 35.9% of our common stock. We expect that upon the closing of this offering, that same group will continue to hold a majority of our outstanding common stock. Therefore, even after this offering, these stockholders will likely be able to determine the composition of our board of directors, retain the voting power to approve all matters requiring stockholder approval and continue to have significant influence over our operations. The interests of these stockholders may be different than the interests of other stockholders on these matters. This concentration of ownership could also have the effect of delaying or preventing a change in our control or otherwise discouraging a potential acquirer from attempting to obtain control of us, which in turn could reduce the price of our common stock.

We have broad discretion in the use of the net proceeds from this offering and may not use them effectively.

Our management will have broad discretion in the application of the net proceeds from this offering and could spend the proceeds in ways that do not necessarily improve our results of operations or enhance the value of our common stock. The failure by our management to apply these funds effectively could result in financial losses that could have a material adverse effect on our business, cause the price of our common stock to decline and delay product development.

Our future operating results may be below securities analysts’ or investors’ expectations, which could cause our stock price to decline.

The revenue and income potential of our products and our business model are unproven, and we may be unable to generate significant revenue or grow at the rate expected by securities analysts or investors. In addition, our costs may be higher than we, securities analysts or investors expect. If we fail to generate sufficient revenue or our costs are higher than we expect, our results of operations will suffer, which in turn could cause our stock price to decline. Our results of operations will depend upon numerous factors, including:



	•	FDA or other regulatory clearance or approval of our PAS-Port system, future iterations of our C-Port system or our other products;



	•	demand for our products;


	•	the performance of third-party contract manufacturers and component suppliers;

	•	our ability to develop sales and marketing capabilities;

	•	our ability to develop, introduce and market new or enhanced versions of our products on a timely basis; and

	•	our ability to obtain and protect proprietary rights.

Our operating results in any particular period may not be a reliable indication of our future performance. In some future quarters, our operating results may be below the expectations of securities analysts or investors. If this occurs, the price of our common stock will likely decline.

Anti-takeover defenses that we have in place could prevent or frustrate attempts to change our direction or management.

Provisions of our certificate of incorporation and bylaws and applicable provisions of Delaware law may make it more difficult for or prevent a third party from acquiring control of us without the approval of our board of directors. These provisions:


	•	limit who may call a special meeting of stockholders;

	•	establish advance notice requirements for nominations for election to our board of directors or for proposing matters that can be acted upon at stockholder meetings;

	•	prohibit cumulative voting in the election of our directors, which would otherwise permit less than a majority of stockholders to elect directors;

	•	prohibit stockholder action by written consent, thereby requiring all stockholder actions to be taken at a meeting of our stockholders; and

	•	provide our board of directors with the ability to designate the terms of and issue a new series of preferred stock without stockholder approval.

In addition, Section 203 of the Delaware General Corporation Law generally prohibits us from engaging in any business combination with certain persons who own 15% or more of our outstanding voting stock or any of our associates or affiliates who at any time in the past three years have owned 15% or more of our outstanding voting stock. These provisions may have the effect of entrenching our management team and may deprive you of the opportunity to sell your shares to potential acquirors at a premium over prevailing prices. This potential inability to obtain a control premium could reduce the price of our common stock.

We may become involved in securities class action litigation that could divert management’s attention and harm our business.

The stock market in general, the Nasdaq National Market and the market for medical device companies in particular, has experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to the operating performance of those companies. Further, the market prices of securities of medical device companies have been particularly volatile. These broad market and industry factors may materially harm the market price of our common stock, regardless of our operating performance. In the past, following periods of volatility in the market price of a particular company’s securities, securities class action litigation has often been brought against that company. We may become involved in this type of litigation in the future. Litigation often is expensive and diverts management’s attention and resources, which could materially harm our financial condition and results of operations.

Our management and auditors have identified a material weakness in our internal controls that, if not properly remediated, could result in material misstatements in our financial statements and the inability of our management to provide its report on the effectiveness of our internal controls as required by the Sarbanes-Oxley Act of 2002 as required for the year ending June 30, 2008, either of which could cause investors to lose confidence in our reported financial information and have a negative effect on the trading price of our stock.

We are not currently required to comply with Section 404 of the Sarbanes-Oxley Act of 2002, and are therefore not required to make an assessment of the effectiveness of our internal control over financial reporting. Further, Ernst & Young LLP, our independent registered public accounting firm, has not been engaged to express, nor have they expressed, an opinion on the effectiveness of our internal control over financial reporting. However, in connection with our fiscal 2005 financial statement audit, our independent registered public accounting firm informed us that they had identified a material weakness in our internal controls as defined by the American Institute of Certified Public Accountants. A material weakness is a reportable condition in which our internal controls do not reduce to a low level the risk that undetected misstatements caused by error or fraud may occur in amounts that are material to our audited financial statements.

The material weakness reported by our independent registered public accounting firm relates to having insufficient personnel resources and lack of sufficient technical accounting expertise within our accounting function, and inadequate review and approval procedures to prepare external financial statements.

We are taking remedial measures to improve the effectiveness of our internal controls. Specifically, we will be:


	•	strengthening our internal staffing and technical expertise in financial and SEC accounting and reporting to accommodate our new status as a stand-alone public company; and

	•	engaging an outside compliance consulting firm to advise us on improving our internal controls to take advantage of best practices.

We plan to continue to assess our internal controls and procedures and intend to take further action as necessary or appropriate to address any other matters we identify, including to effect compliance with Section 404 of the Sarbanes-Oxley Act of 2002 when we are required to make an assessment of our internal controls under Section 404 which is anticipated to be for fiscal 2008. However, the existence of a material weakness is an indication that there is a more than remote likelihood that a material misstatement of our financial statements will not be prevented or detected in a future period, and the process of designing and implementing effective internal controls and procedures is a continuous effort that requires us to anticipate and react to changes in our business and the economic and regulatory environments and to expend significant resources to maintain a system of internal controls that is adequate to satisfy our reporting obligations as a public company. We cannot assure you that the measures taken to date or to be taken in the future will remediate the material weakness noted by our independent public accounting firm or that we will implement and maintain adequate controls over our financial processes and reporting in the future. In addition, we cannot assure you that additional material weaknesses or significant deficiencies in our internal controls will not be discovered in the future.

The standards required for a Section 404 analysis under the Sarbanes-Oxley Act of 2002 are significantly more stringent than those for a similar analysis for non-public companies. These more stringent standards require that our audit committee be advised and regularly updated on management’s review of internal controls. Our management may not be able to effectively and timely implement controls and procedures that adequately respond to the increased regulatory compliance and reporting requirements that will be applicable to us as a public company. If we are not able to timely remedy the material weakness identified in connection with our fiscal 2005 audit, or if we are not able to implement the requirements of Section 404 in a timely manner or with adequate compliance, management may not be able to assess that its internal controls over financial reporting are effective, which may subject us to adverse regulatory consequences and could result in a negative reaction in the financial markets due to a loss of confidence in the reliability of our financial statements. In addition, if we fail to develop and maintain effective controls and procedures, we may be unable to provide the required financial information in a timely and reliable manner or otherwise comply with the standards applicable to us as a public company. Any failure by us to timely provide the required financial information could materially and adversely impact our financial condition and the market value of our securities.

We have never paid dividends on our capital stock, and we do not anticipate paying any cash dividends in the foreseeable future.

We have paid no cash dividends on any of our classes of capital stock to date, and we currently intend to return our future earnings to fund the development and growth of our business. As a result, capital appreciation, if any, of our common stock will be your sole source of gain for the foreseeable future.

INFORMATION REGARDING FORWARD-LOOKING STATEMENTS

This prospectus, including the sections entitled “Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business,” contains forward-looking statements. Forward-looking statements include all statements that are not statements of historical facts and may relate to, but are not limited to, expectations of future operating results or financial performance, capital expenditures, introduction of new products, regulatory compliance, plans for growth and future operations, as well as assumptions relating to the foregoing. These risks and other factors include, but are not limited to, those listed under “Risk Factors.” In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “could,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “intend,” “potential,” “continue” or the negative of these terms or other similar terminology. Forward-looking statements are inherently subject to risks and uncertainties, some of which cannot be predicted or quantified. These statements represent only management’s beliefs and assumptions as of the date of this prospectus, and actual events or results may differ materially.

We believe that it is important to communicate our future expectations to potential investors. However, there may be events in the future that we are not able to accurately predict or control and that may cause actual events or results to differ materially from the expectations expressed in or implied by our forward-looking statements. Except as required by applicable law, including the securities laws of the United States and the rules and regulations of the SEC, we do not plan to publicly update or revise any forward-looking statements after we distribute this prospectus, whether as a result of any new information, future events or otherwise. Potential investors should not place undue reliance on our forward-looking statements. Before you invest in our common stock, you should be aware that the occurrence of any of the adverse events described in the “Risk Factors” section and elsewhere in this prospectus could harm our business, prospects, operating results and financial condition. You should read this prospectus and the documents that we reference and have filed as exhibits to the registration statement of which this prospectus is a part with the understanding that we cannot guarantee future results, levels of activity, performance or achievements.

USE OF PROCEEDS

We estimate that the net proceeds from the sale of the shares of common stock we are offering will be approximately $40.5 million, based on an estimated offering price of $13.00 per share, the midpoint of the range on the front cover of this prospectus. If the underwriters fully exercise the over-allotment option, the additional net proceeds will be approximately $6.3 million. “Net proceeds” represent the amount we expect to receive after we pay the underwriting discount and other estimated expenses for this offering.

We expect to use our net proceeds from this offering as follows:



	•	approximately $8 million to $10 million to continue the development of our products, including clinical trials and research programs;



	•	approximately $6 million to $8 million to build sales and marketing capabilities;



	•	$2.5 million to repay indebtedness owed to Guidant Investment Corporation; and


	•	the balance for working capital and other general corporate purposes.

The amounts we actually expend in these areas may vary significantly from our expectations and will depend upon a number of factors, including operating costs, capital expenditures and any expenses related to gaining FDA clearance or approval for our products. Accordingly, management will retain broad discretion in the allocation of the net proceeds of this offering. A portion of the net proceeds may also be used to acquire or invest in complementary businesses, technologies, services or products. We have no current plans, agreements or commitments with respect to any such acquisition or investment, and we are not currently engaged in any negotiations with respect to any such transaction.

We believe that the net proceeds from this offering, together with our cash and cash equivalent balances and interest we earn on these balances, will be sufficient to meet our anticipated cash requirements through at least the next 18 months. Pending such uses, the net proceeds of this offering will be invested in short-term, interest-bearing, investment-grade securities.

DIVIDEND POLICY

We have never declared or paid any dividends on our capital stock. We anticipate that we will retain any earnings to support operations and to finance the growth and development of our business. Therefore, we do not expect to pay cash dividends in the foreseeable future. Any future determination relating to our dividend policy will be made at the discretion of our board of directors and will depend upon a number of factors, including earnings, capital requirements, financial condition, prospects and other factors that our board of directors may deem relevant.

CAPITALIZATION

The following table sets forth our capitalization as of September 30, 2005 on an actual basis and on a pro forma as adjusted basis reflecting:



	•	a one-for -three reverse split of our common stock and preferred stock to be effected prior to the completion of this offering;



	•	the conversion of all of our preferred stock into an aggregate of 4,259,328 shares of common stock immediately prior to the closing of this offering; and



	•	the sale of 3,500,000 shares of our common stock at an assumed initial public offering price of $13.00 per share, the midpoint of the range on the front cover of this prospectus, after deducting underwriting discounts and commissions and estimated offering expenses payable by us.

You should read this table in conjunction with the sections of this prospectus entitled “Selected Financial Data” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and with our financial statements and related notes.


			As of September 30, 2005

						Pro Forma
			Actual			As Adjusted

			(unaudited)
			(in thousands, except
			share and per share data)
Long-term debt and accrued interest due through September 30, 2005			$	14,911		$	14,911
Convertible preferred stock, $0.001 par value; 15,389,000 shares authorized, 4,259,328 shares issued and outstanding, actual; 15,389,000 shares authorized, no shares outstanding, pro forma as adjusted				39,683			-
Stockholders’ equity (deficit):
Common stock, $0.001 par value; 24,060,000 shares authorized, 1,752,903 shares outstanding, actual; 24,060,000 authorized, 9,512,231 shares issued and outstanding, pro forma as adjusted				2			10
Additional paid-in capital				6,964			87,154
Deferred compensation				(1,442	)		(1,442	)
Notes receivable from stockholders				(454	)		(454	)
Accumulated deficit				(51,053	)		(51,053	)

	Total stockholders’ equity (deficit)			(45,983	)		34,215

		Total capitalization	$	8,611		$	49,126

The outstanding share information as of September 30, 2005 in the table above excludes:



	•	900,088 shares of common stock issuable upon exercise of outstanding options, at a weighted average exercise price of $2.31 per share;



	•	156,515 shares of common stock issuable upon the exercise of outstanding warrants, at a weighted average exercise price of $10.00 per share;



	•	up to 106,990 additional shares of our common stock reserved for issuance under our 1997 Equity Incentive Plan;



	•	400,000 shares of common stock for issuance under our 2005 Equity Incentive Plan; and



	•	230,769 shares of our common stock issuable upon conversion of an outstanding promissory note to Century Medical, assuming an offering price of $13.00 per share, the midpoint of the range on the front cover of this prospectus.

The table does not reflect any conversion of outstanding common stock warrants into shares of our common stock as a result of any deemed cashless exercise of those warrants. See “Description of Capital Stock — Warrants.”

DILUTION

If you invest in our common stock, your interest will be diluted immediately to the extent of the difference between the public offering price per share of our common stock and the pro forma net tangible book value per share of our common stock after this offering. Our historical net tangible book value (deficit) as of September 30, 2005 was approximately $(46.0) million or $(26.23) per share, based on 1,752,903 shares of common stock outstanding as of September 30, 2005. Historical net tangible book value (deficit) per share represents the amount of our total tangible assets reduced by the amount of our total liabilities and divided by the actual number of shares of common stock outstanding. Our pro forma net tangible book value (deficit) as of September 30, 2005 was approximately $(6.3) million, or $(1.05) per share of our common stock, based on 6,012,231 shares of common stock outstanding, after giving effect to the conversion of all outstanding shares of our convertible preferred stock into common stock upon the closing of this offering. Pro forma net tangible book value (deficit) per share as of September 30, 2005 represents the amount of our total tangible assets reduced by the amount of our total liabilities and divided by the pro forma number of shares of common stock outstanding before giving effect to this offering.

After giving effect to our sale of 3,500,000 shares of common stock offered by this prospectus at an assumed public offering price of $13.00 per share, the midpoint of the range on the front cover of this prospectus, and after deducting underwriting discounts and commission and estimated offering expenses payable by us, our pro forma net tangible book value (deficit) will be $34.2 million, or approximately $3.60 per share. This represents an immediate increase in pro forma net tangible book value (deficit) of $4.65 per share to existing stockholders and an immediate dilution in pro forma net tangible book value (deficit) of $9.40 per share to new investors. Dilution in historical net tangible book value per share represents the difference between the amount per share paid by purchasers of shares of our common stock in this offering and the net tangible book value per share of our common stock immediately afterwards. The following table illustrates this per share dilution.


Assumed public offering price per share				$	13.00
Historical net tangible book value (deficit) per share as of September 30, 2005	$	(26.23	)
Increase per share due to the conversion of all shares of preferred stock		25.18
Pro forma net tangible book value (deficit) per share before this offering		(1.05	)
Increase per share attributable to new investors in this offering		4.65
Pro forma as adjusted net tangible book value (deficit) per share after the offering					3.60

Dilution per share to new investors				$	9.40

If the underwriters exercise their over-allotment option to purchase additional shares in this offering in full, our pro forma net tangible book value after the offering will be approximately $40.6 million or $4.04 per share, representing an immediate increase in pro forma net tangible book value of $30.27 per share to our existing stockholders and an immediate dilution in pro forma net tangible book value of $8.96 per share to new investors purchasing shares in this offering.

The following table sets forth, as of September 30, 2005, the number of shares of common stock purchased from us, the total consideration paid and average price per share paid by existing stockholders and by the new investors, before deducting underwriting discounts and commissions and estimated offering expenses payable by us, using an assumed public offering price of $13.00 per share, the midpoint of the range on the front cover of this prospectus.


		Total Shares					Total Consideration
												Average Price
		Number		Percent			Amount		Percent			Per Share

Existing stockholders			6,012,231		63.2	%	$	39,550,257		46.5	%	$	6.58
New investors			3,500,000		36.8			45,500,000		53.5			13.00

	Total		9,512,231		100.0	%	$	85,050,257		100.0	%	$	8.94

If the underwriters exercise their over-allotment option in full, our existing stockholders would own 60% and our new investors would own 40% of the total number of shares of our common stock outstanding after this offering.

The number of shares of our common stock referred to above that will be outstanding immediately after completion of this offering is based on 1,752,903 shares of our common stock outstanding as of September 30, 2005 and also reflects the automatic conversion of our preferred stock into 4,259,328 shares of common stock. This number does not include, as of September 30, 2005:



	•	900,088 shares of common stock issuable upon exercise of outstanding options, at a weighted average exercise price of $2.31 per share;



	•	156,515 shares of common stock issuable upon the exercise of outstanding warrants, at a weighted average exercise price of $10.00 per share;



	•	up to 106,990 additional shares of our common stock reserved for issuance under our 1997 Equity Incentive Plan;



	•	400,000 shares of common stock for issuance under our 2005 Equity Incentive Plan; and



	•	230,769 shares of our common stock issuable upon conversion of an outstanding promissory note to Century Medical, based upon an assumed public offering price of $13.00 per share, the midpoint of the range on the front cover of this prospectus.

If all of our outstanding options and warrants as of September 30, 2005 were exercised, the pro forma as adjusted net tangible book value per share after this offering would be $3.58 per share, representing an increase to existing holders of $4.63 per share, and there would be an immediate dilution of $9.42 per share to new investors.

In addition, we may choose to raise additional capital due to market conditions or strategic considerations even if we believe we have sufficient funds for our current or future operating plans. To the extent that additional capital is raised through the sale of equity or convertible debt securities, the issuance of these securities could result in further dilution to our stockholders.

SELECTED FINANCIAL DATA

The following table presents selected historical financial data. We derived the selected statements of operations data for the years ended June 30, 2003, 2004 and 2005 and balance sheet data as of June 30, 2004, and 2005 from our audited financial statements and notes thereto that are included elsewhere in this prospectus. The statements of operations data for the three months ended September 30, 2004 and 2005, and the balance sheet data as of September 30, 2005, have been derived from our unaudited financial statements included elsewhere in this prospectus. Our historic results are not necessarily indicative of the results that may be expected in the future. You should read this data together with our financial statements and related notes included elsewhere in this prospectus and the information under “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”


																		Three months
																		ended
			Year ended June 30,															September 30,

			2001			2002			2003			2004			2005			2004			2005

			(in thousands, except per share data)
																		(unaudited)
Statements of Operation Data:
Net revenue:
	Product revenue, net		$	-		$	-		$	-		$	212		$	719			168			161
	Product revenue from related party, net			-			-			-			401			1,027			744			7
	Development revenue from related party			-			-			-			223			310			265			-

		Total net revenue		-			-			-			836			2,056			1,177			168

Operating costs and expenses:
	Cost of product revenue (includes related-party costs of $1,377, $1,180, $306 and $0 in fiscal 2004, fiscal 2005 and the three months ended September 30, 2004 and 2005, respectively)			-			-			-			2,105			2,478			636			627
	Research and development			5,058			5,765			6,698			5,826			6,289			1,504			1,166
	Selling, general and administrative			1,166			1,635			1,936			1,809			3,753			594			1,223

		Total operating costs and expenses		6,224			7,400			8,634			9,740			12,520			2,734			3,016

Loss from operations				(6,224	)		(7,400	)		(8,634	)		(8,904	)		(10,464	)		(1,557	)		(2,848	)
Interest income				286			210			294			209			305			69			72
Interest expense (includes related-party interest expense of $539, $897, $226 and $226 in fiscal 2004, fiscal 2005 and the three months ended September 30, 2004 and 2005, respectively)				(65	)		(675	)		(885	)		(2,001	)		(1,048	)		(264	)		(264	)
Other income (expense) (includes $250 from related party in fiscal 2005)				-			-			-			(14	)		257			-			(4	)

Net loss			$	(6,003	)	$	(7,865	)	$	(9,225	)	$	(10,710	)	$	(10,950	)	$	(1,752	)	$	(3,044	)

Basic and diluted net loss per share			$	(6.46	)	$	(7.53	)	$	(7.84	)	$	(8.24	)	$	(7.82	)	$	(1.27	)	$	(2.13	)


												Three months
												ended
	Year ended June 30,											September 30,

	2001		2002		2003		2004		2005			2004		2005

	(in thousands, except per share data)
												(unaudited)
Shares used in computing basic and diluted net loss per share		929		1,045		1,176		1,299		1,401			1,384		1,430

Pro forma basic and diluted net loss per share (unaudited)									$	(1.93	)			$	(0.54	)

Shares used in computing pro forma basic and diluted net loss per share (unaudited)										5,660					5,689


		As of June 30,															As of
																	September 30,
		2001			2002			2003			2004			2005			2005

		(in thousands)
																	(unaudited)
Balance Sheet Data:
	Cash, cash equivalents and short-term investments	$	8,381		$	21,822		$	17,680		$	17,224		$	8,951		$	7,103
	Working capital		7,345			18,730			13,396			16,402			9,032			7,096
	Total assets		8,864			23,095			19,763			20,231			12,146			10,051
	Long term-liabilities		508			1,984			5,129			14,359			15,156			15,328
	Convertible preferred stock		16,293			35,038			35,038			39,683			39,683			39,683
	Total stockholders’ deficit		(9,055	)		(17,110	)		(25,103	)		(35,430	)		(43,685	)		(45,983	)

MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our financial statements and the related notes to those statements included elsewhere in this prospectus. In addition to historical financial information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results and timing of selected events may differ materially from those anticipated in these forward-looking statements as a result of many factors, including those discussed under “Risk Factors” and elsewhere in this prospectus.

Overview

We design and manufacture proprietary automated anastomotic systems used by surgeons to perform coronary bypass surgery. In coronary artery bypass grafting procedures, or CABG, veins or arteries are used to construct alternative conduits to restore blood flow beyond closed or narrowed portions of coronary arteries, “bypassing” the occluded portion of the coronary artery that is impairing blood flow to the heart muscle. Our products provide cardiovascular surgeons with easy-to-use automated systems to perform consistent, rapid and reliable connections, or anastomoses, of the vessels, which surgeons generally view as the most critical aspect of the bypass procedure. We currently sell our C-Port ^® Distal Anastomosis System, or C-Port system, in Europe, and we plan to commence sales of the C-Port system in the United States in 2006, having received 510(k) clearance from the U.S. Food and Drug Administration, or FDA, in November 2005. We currently sell our PAS-Port ^® Proximal Anastomosis System, or the PAS-Port ^® system, in Europe and Japan. Our strategy is to further enhance and leverage our technology to develop next-iteration automated anastomotic systems that facilitate the performance of minimally invasive endoscopic coronary bypass surgery, as well as automated systems to be used in other surgical applications.

Our first two products are the C-Port system and the PAS-Port system. The C-Port system is used to perform a distal anastomosis, which is the connection of a bypass graft vessel to a coronary artery downstream of the occluded portion of the coronary artery. The PAS-Port system is used to perform a proximal anastomosis, which is the connection of a bypass graft vessel to the aorta or other source of blood.

From our inception in 1997 until May 2003, our operations consisted primarily of start-up activities, including developing the C-Port and PAS-Port systems, recruiting personnel and raising capital. Clinical trials for both the C-Port system and PAS-Port system were completed in Europe during the years 2003 through 2005. The C-Port system received 510(k) clearance from the FDA in November 2005 and the CE Mark in April 2004. The PAS-Port system received the CE Mark in March 2003. Additionally, the PAS-Port system received regulatory approval to be sold in Japan in January 2004 and has been used in over 130 hospitals in Japan. We have received conditional approval of an Investigational Device Exemption, or IDE, from the FDA to conduct a prospective, randomized clinical trial to assess the safety and efficacy of our PAS-Port system. See “Risk Factors.” As of September 30, 2005, we have sold over 250 C-Port systems and more than 2,400 PAS-Port systems worldwide. We believe the United States represents the largest single market for our products, and we plan to establish a direct sales force in 2006 to sell our C-Port system to cardiac surgeons. As of September 30, 2005, we have had limited sales, which have been entirely outside the United States. We sell our products in Japan through our distributor Century Medical, Inc., or Century, and in Europe through limited direct sales activities. We expect our international sales to remain limited for the foreseeable future.

Guidant Corporation, referred to as Guidant, is our largest investor, having invested an aggregate of approximately $14.0 million in our preferred stock in June 2002 and August 2003. Additionally, in August 2003, Guidant extended a line of credit to us for $10.3 million. We have drawn down this line of credit and currently have a long-term loan of $10.3 million outstanding from Guidant, due in August 2008. Interest of 8.75% per year accrues during the life of the loan and is due at maturity. Guidant distributed our products in Europe under a distribution agreement that was signed in May 2003, amended in January 2004 and terminated in September 2004. In addition, we entered into a development and supply agreement with Guidant to develop an aortic cutter for Guidant’s Heartstring product, and we manufactured the first 10,000 aortic cutters. Guidant has outsourced future production of the aortic cutter to a third-party contract manufacturer, and we will receive a modest royalty for each unit sold in the future, but will no longer manufacture the aortic cutter.

We have a distribution agreement for Italy and may have additional distribution agreements for other countries in Europe in the future; however, we do not anticipate significant product sales from Europe in part because European healthcare systems traditionally are difficult to penetrate for new, higher cost medical products.

We manufacture the C-Port and PAS-Port systems with parts we manufacture and components supplied by vendors, which we then assemble, test and package. For the fiscal year ended June 30, 2005, we generated net revenue of $2.1 million, including $396,000 from sales of the aortic cutter to Guidant, and a net loss of $11.0 million. As of September 30, 2005, our accumulated deficit was $51.1 million. Since our inception, we have not been profitable. We expect to continue to incur net losses for the foreseeable future.

Critical Accounting Policies and Significant Judgments and Estimates

Our discussion and analysis of our financial condition and results of operations is based upon our financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenue and expenses, and disclosures of contingent assets and liabilities at the date of the financial statements. On a periodic basis, we evaluate our estimates, including those related to accounts receivable, inventories, and deferred stock-based compensation. We use authoritative pronouncements, historical experience and other assumptions as the basis for making estimates. Actual results could differ materially from those estimates under different assumptions or conditions.

We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our financial statements.

Revenue Recognition. We recognize revenue in accordance with SEC Staff Accounting Bulletin, or SAB, No. 104, “Revenue Recognition.” SAB No. 104 requires that four basic criteria must be met before revenue can be recognized: (1) persuasive evidence of an arrangement exists; (2) title has transferred; (3) the fee is fixed or determinable; and (4) collectibility is reasonably assured. We generally use contracts and customer purchase orders to determine the existence of an arrangement. We assess whether the fee is fixed or determinable based upon the terms of the agreement associated with the transaction. To determine whether collection is probable, we assess a number of factors, including past transaction history with the customer and the creditworthiness of the customer. If we determine that collection is not reasonably assured, we would defer the recognition of revenue until collection becomes reasonably assured, which is generally upon receipt of payment.

Inventory. We state our inventories at the lower of cost (which approximates actual cost on a first-in, first-out basis) or market, computed on a standard cost basis, which approximates actual cost on a first-in, first-out basis and with market being determined as the lower of replacement cost or net realizable value. Standard costs are monitored on a quarterly basis and updated as necessary to reflect changes in raw material costs and labor and overhead rates. Inventory reserves are established when conditions indicate that the selling price could be less than cost due to physical deterioration, usage, obsolescence, reductions in estimated future demand and reductions in selling prices. Inventory reserves are measured as the difference between the cost of inventory and estimated market value. Inventory reserves are charged to cost of revenue and establish a lower cost basis for the inventory. We balance the need to maintain strategic inventory levels with the risk of obsolescence due to

changing technology and customer demand levels. Unfavorable changes in market conditions may result in a need for additional inventory reserves that could adversely impact our financial results.

Clinical Trial Accounting. Clinical trial costs are a component of research and development expenses and include fees paid to participating hospitals and other service providers that conduct clinical trial activities with patients on our behalf and, as well as the cost of, clinical trial insurance. The various costs of the trial are contractually based on the nature of the services, and we accrue the costs as the services are provided. Accrued costs are based on estimates of the work completed under the service agreements, patient enrollment and past experience with similar contracts. Our estimate of the work completed and associated costs to be accrued includes our assessment of information received from our third-party service providers and the overall status of our clinical trial activities. If we have incomplete or inaccurate information, we may underestimate costs associated with various trials at a given point in time. Although our experience in estimating these costs is limited, the difference between accrued expenses based on our estimates and actual expenses have not been material to date.

Stock-Based Compensation. We use the intrinsic method of accounting for employee stock options under Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” or APB No. 25, and present disclosure of pro forma information required under SFAS No. 123, “Accounting for Stock-Based Compensation,” or SFAS No. 123, as amended by SFAS No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure — an amendment of FASB Statement No. 123 ,” or SFAS No. 148. For stock options granted to employees, no compensation expense is recognized unless the exercise price is less than fair market value at the date of grant.

The fair value of the common stock for options granted through September 30, 2005, was originally determined by our board of directors, with input from management. As disclosed more fully in Note 1 of the notes of our financial statements, we granted stock options with an exercise price of $2.85 during the fiscal year ended June 30, 2005 and for the three-month period ended September 30, 2005. We did not obtain contemporaneous valuations by an unrelated valuation specialist in connection with these grants. Instead we relied on our board of directors, the members of which we believe have extensive experience in the medical device market and a majority of which is comprised of non-employee directors, to determine a reasonable estimate of the then-current fair value of our common stock. Since there were no outside financings after August 2003 and since there was no liquidity in our stock during this period, our board of directors determined the fair value of our common stock on the date of grant based on several factors, including the liquidation preferences of our preferred stock, progress against regulatory and product development milestones, our financial condition, equity market conditions, trading ranges of comparable public companies and the likelihood of achieving a liquidity event such as an initial public offering or a sale of the company.

Subsequently, we reassessed the valuations of common stock relating to option grants during the fiscal year ended June 30, 2005 and for the three-month period ended September 30, 2005. We used a market-based approach in determining the reassessed fair value per share of our common stock as of each grant date. The factors in the preceding paragraph were taken into account. We also considered the following factors:



	•	Guidant’s termination of our European distribution agreement in September 2004;



	•	The FDA’s decision to subject our PAS-Port system 510(k) submission to a review by an FDA panel, which met in April 2005 and recommended we obtain additional data, and our decision, following this recommendation, to withdraw our PAS-Port 510(k) submission in May 2005;



	•	Our submission of an Investigational Device Exemption, or IDE, to the FDA for the PAS-Port system in June 2005 and the FDA’s conditional approval of the IDE in July 2005;



	•	The diminished receptivity of the public capital markets to medical device companies’ initial public offerings, which we inferred from the median percentage price reductions for these companies between filing and pricing of 3.6% in the first quarter and 16.5% in the second quarter of 2005 and from the volatility of the initial public offering market for medical device companies with limited revenue; and


	•	Our discussions, commencing in July 2005, with potential underwriters regarding the possibility of pursuing an initial public offering, and our execution of a letter of intent with underwriters pertaining to this offering in September 2005.

In reassessing the value of our common stock, we used a straight-line approach because we determined that no single event supported incremental movement in underlying value. We believe this approach is consistent with valuation methodologies applied by other life science companies pursuing an initial public offering. Based on the reassessment process, we determined that the reassessed fair value of our common stock ranged from $2.85 to $7.50 per share during the fiscal year ended June 30, 2005 and from $7.50 to $9.00 per share during the three-month period ended September 30, 2005.

For financial reporting purposes, we have recorded stock-based compensation representing the difference between the estimated fair value of common stock and the option exercise price. Because shares of our common stock have not been publicly traded, we determined the estimated fair value based upon the factors described above and changes in valuations of existing comparable publicly traded medical device companies, trends in the broad market for medical device stocks and the expected valuation we would obtain in an initial public offering. Although it is reasonable to expect that the completion of our initial public offering will add value to the shares as a result of increased liquidity and marketability, the amount of additional value cannot be measured with precision or certainty. We amortize employee stock-based compensation on a straight-line basis for equity instruments subject to fixed accounting. We amortize employee stock-based compensation in accordance with the provisions of the Financial Accounting Standards Board, or FASB, Interpretation No. 28, “Accounting for Stock Appreciation Rights and Other Variable Stock Option or Award Plans” for equity instruments subject to variable accounting.

We have determined that, for accounting purposes, the estimated fair market value of our common stock was greater than the exercise price for certain options granted. As a result, we have recorded a deferred stock-based compensation charge for these options of $287,000 for the fiscal year ended June 30, 2005. This expense, which is a non-cash charge, will be amortized over the period in which the options vest, which is generally four years. The amortization of this expense recognized for the fiscal year ended June 30, 2005 was $22,000. We also recorded deferred stock compensation resulting from variable accounting for option exercises with non-recourse promissory notes. Deferred stock compensation related to these notes, representing compensation related to unvested options, was $166,000 as of June 30, 2005. We reassessed the valuations of our common stock for options granted from July 1, 2005 through September 30, 2005. The reassessment during the first quarter of fiscal 2006 resulted in our recording an additional $1.1 million of deferred stock-based compensation amortization expense. For the period from July 1, 2005 through September 30, 2005, we did not obtain contemporaneous valuations by an unrelated valuation specialist because, at the time of the issuances of the stock options, we believed our estimates of the fair value of our common stock to be reasonable.

Deferred stock-based compensation at September 30, 2005 is approximately $1.4 million. We expect to record aggregate amortization of stock-based compensation expenses of $345,000 for the remainder of the fiscal year ending June 30, 2006, $389,000 for the fiscal year ending June 30, 2007, $364,000 for the fiscal year ending June 30, 2008 and $320,000 for the fiscal year ending June 30, 2009 and $24,000 for the fiscal year ending June 30, 2010. This amortization will be allocated among research and development expenses and general, selling and administrative expenses, based upon the employee’s job function.

We account for equity instruments issued to non-employees in accordance with the provisions of SFAS No. 123 and Emerging Issues Task Force, or EITF, 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,” using a fair value approach. The compensation costs of these arrangements are subject to remeasurement over the vesting terms as earned. As a result, the non-cash charge to operations for non-employee options with vesting or other performance criteria is affected each reporting period by changes in the estimated fair value of our common stock. The two factors that most affect these changes are the fair value of the common stock underlying stock options for which stock-based compensation is recorded and the volatility of such fair value. If our estimates of the fair value of these equity instruments change, it would have the effect of changing compensation expenses. For options and stock granted to non-employees, we recorded $149,000, $25,000 and $38,800 of

stock-based compensation expense during the fiscal years ended June 30, 2004 and 2005 and the three months ended September 30, 2005 respectively.

In addition, during the fiscal year ended June 30, 2005, and for the three months ended September 30, 2005, we recorded a total of $2.0 million and $583,000, respectively, in stock-based compensation charges related to certain loans we made during the period from 2000 to 2004 to enable three directors, each of whom is or was also an officer, to purchase shares of our common stock. This non-cash compensation expense is calculated by multiplying the difference between the option exercise price and the fair market value of our common stock as determined by our board of directors for the reporting period, by the number of vested shares purchased with promissory notes. These loans were made pursuant to recourse promissory notes that were secured by the underlying shares of common stock purchased with the proceeds of the loans. Because we had modified the loans or provided below-market interest rates on the loans and extended the repayment period, for accounting purposes the issuances of the shares that were purchased with the proceeds of the loans were deemed to be compensatory. Accordingly, we are required to record a non-cash compensation charge equal to the difference between the purchase price of the stock and the fair value of the stock securing the notes in each reporting period the notes remain outstanding.

Results of Operations


	Three Months Ended September 30, 2004 and 2005

Net Revenue. Net revenue decreased $1.0 million, from $1.2 million for the three months ended September 30, 2004 to $168,000 for the three months ended September 30, 2005. The decrease in revenue for the three months ended September 30, 2005 reflects the prior completion in November 2004 of our development contract with Guidant and termination in September 2004 of our distribution agreement with Guidant in Europe.

Cost of Product Revenue. Cost of product revenue consists of material, labor and overhead. Cost of product revenue decreased $9,000, from $636,000 for the three months ended September 30, 2004 to $627,000 for the three months ended September 30, 2005. The decrease in costs for the three months ended September 30, 2005 reflects a reduction in the number of product units sold resulting from the prior completion of the development contract with Guidant and termination of the distribution agreement with Guidant in Europe, partially offset by an increase in inventory write-offs for certain obsolete PAS-Port systems.

Research and Development Expense. Research and development expense decreased $338,000, from $1.5 million for the three months ended September 30, 2004 to $1.2 million for the three months ended September 30, 2005. The decrease in expenses for the three months ended September 30, 2005 was primarily attributable to a decrease in expenses for the C-Port xA system, the next iteration of our C-Port system, and the aortic cutter including prototype material and consulting costs, partially offset by increased non-cash stock-based compensation expenses for the period. Research and development expenses fluctuate with the stage of development of, the timing of clinical trials related to, and the status of regulatory approval of our products.

Selling, General and Administrative Expense. Selling, general and administrative expense increased $629,000, from $594,000 for the three months ended September 30, 2004 to $1.2 million for the three months ended September 30, 2005. The increase in expenses for the three months ended September 30, 2005 was attributable to increases in non-cash stock based compensation, personnel, travel and professional service expenses.

Interest Income. Interest income increased $3,000, from $69,000 for the three months ended September 30, 2004 to $72,000 for the three months ended September 30, 2005. The increase in interest income is primarily attributable to higher interest income due to higher interest rates for the period.

Interest Expense. Interest expense was $264,000 for both the three-month periods ended September 30, 2004 and 2005. Amounts in both periods consisted of interest expense associated with the $13.3 million of long-term debt.

Other Expense. Other expense was $4,000 for the three-month period ended September 30, 2005 compared to zero for the three months ended September 20, 2004. Other expense was primarily comprised of a loss from the sale of an unused asset.

Fiscal Years Ended June 30, 2004 and 2005

Net Revenue. Net revenue increased $1.2 million, from $836,000 in fiscal 2004 to $2.1 million in fiscal 2005. A substantial majority of our product sales have been sales of our PAS-Port system. Revenue from Century, our distributor in Japan, accounted for 33%, and revenue from Guidant accounted for 65% of total net revenue during fiscal 2005. The increase in net revenue was attributable to increased product sales of the PAS-Port system to Century and to sales of approximately $396,000 of the aortic cutter to Guidant. Sales to Century increased in fiscal 2005 relative to fiscal 2004 primarily because we sold the PAS-Port system to Century for only five months of fiscal 2004 compared to twelve months in fiscal 2005. Additionally, sales to Century have fluctuated in the past, and we cannot assure you that our sales to Century will remain constant or grow. Product revenue from Guidant includes $510,000 for fiscal 2005, recognized as the difference between the minimum contractual purchases due from Guidant and actual purchases through the date the distribution agreement terminated in September 2004. Since Guidant terminated our distribution agreement with them in fiscal 2005, we will not have any product revenue from Guidant in fiscal 2006, and we expect our product revenue in fiscal 2006 will be lower than our product revenue in fiscal 2005. During fiscal 2005, we recognized development revenue from Guidant of $310,000, based on the development and supply agreement that called for us to develop and manufacture the aortic cutter. We do not anticipate receiving any additional development revenue from Guidant. Future production of the aortic cutter has been outsourced by Guidant to a third-party manufacturer, and we will not receive any future revenue from Guidant for the manufacture of the aortic cutter. We will receive a modest royalty for each aortic cutter sold in the future, but we do not expect these royalties to contribute significantly to our revenue for the foreseeable future.

Cost of Product Revenue. Cost of product revenue consists primarily of material, labor and overhead costs. Cost of product revenue increased $373,000, from $2.1 million in fiscal 2004 to $2.5 million in fiscal 2005. The increase in costs was primarily attributable to an increased number of PAS-Port systems and aortic cutters sold during the period. To the extent that sales of PAS-Port and C-Port products in fiscal 2006 do not increase to offset the loss of sales of aortic cutters, our manufacturing overhead will need to be allocated across lower sales. Future production of the aortic cutter has been outsourced by Guidant to a third party manufacturer.

Research and Development Expense. Research and development expenses consist primarily of personnel costs within our product development, regulatory and clinical groups and the costs of clinical trials. Research and development expenses increased $463,000, from $5.8 million in fiscal 2004 to $6.3 million in fiscal 2005. During fiscal 2005, increases in non-cash stock compensation expenses and product development expenses including personnel and prototype materials for the C-Port xA and X-Port programs were offset by a decrease in expenses for the PAS-Port program including personnel and tooling expenses. We anticipate that research and development expenses will increase in absolute terms in future periods as we conduct new clinical studies for the C-Port xA and the PAS-Port systems, continue to enhance our existing product lines and begin to develop new applications of our technology. Research and development expenses fluctuate with the stage of development of, the timing of clinical trials related to, and the status of regulatory approval of our products.

Selling, General and Administrative Expense. Selling, general and administrative expenses consist primarily of stock-based compensation charges in fiscal 2005 and costs for administrative and sales and marketing personnel, intellectual property and marketing expenses. Selling, general and administrative expenses increased $2.0 million, from $1.8 million in fiscal 2004 to $3.8 million in fiscal 2005. During fiscal 2005, we recorded a total of $2.0 million in non-cash stock-based compensation expenses related to loans we made to three directors, each of whom is or was also an officer, to purchase shares of our common stock with promissory notes. This non-cash compensation expense was calculated by multiplying the difference between the option exercise price and the fair market value of our common stock at the reporting period, by the number of vested shares purchased with promissory notes. These loans were repaid with common stock in October 2005, and there will be no additional stock-based compensation expense for these loans after October 2005. We expect selling, general and administrative expenses to increase as we expand our sales and marketing efforts and build our corporate

infrastructure to support the requirements of being a public company, including costs associated with compliance with Section 404 of the Sarbanes-Oxley Act of 2002.

Interest Income. Interest income increased $96,000, from $209,000 for fiscal 2004, to $305,000 for fiscal 2005. The increase in interest income is primarily attributable to higher interest income due to higher interest rates for the period.

Interest Expense. Interest expense decreased $953,000, from $2.0 million in fiscal 2004 to $1.0 million in fiscal 2005. Interest expenses in fiscal 2005 included only interest expense for the full fiscal year associated with the $13.3 million of long-term debt. Interest expenses in 2004 included interest expense for a partial year associated with the $13.3 million of long-term debt and a $1.1 million charge for the early extinguishment of debt in August 2003. The $1.1 million charge consisted of issuing to the debt holder 45,745 shares of Series E preferred stock, valued at $14.10 per share, for $645,000 to pay for interest due and $460,000 related to the acceleration of amortization of warrant expense accounted for as a discount of the debt.

Other Income. In fiscal 2005, other income of $257,000 consisted primarily of a one-time payment of $250,000 received from Guidant as a strategic agreement fee.


	Fiscal Years Ended June 30, 2003 and 2004

Net Revenue. Net revenue increased from $0 in fiscal 2003 to $836,000 in fiscal 2004 primarily due to initiating sales of the PAS-Port system in Europe and Japan. Century and Guidant accounted for 25% and 75%, respectively, of total net revenue in fiscal 2004. We commenced sales in January 2004 to Century following marketing approval of the PAS-Port system by the Ministry of Health in Japan. We recognized net product revenue in 2004 of $613,000 in connection with product sales in Europe and Japan. Also in fiscal 2004, we recognized development revenue from Guidant of $223,000 as a result of the development and supply agreement that called for us to develop the aortic cutter for Guidant.

Cost of Product Revenue. Cost of product revenue increased from $0 in fiscal 2003 to $2.1 million in fiscal 2004. The increase was primarily attributable to the initial sales of the PAS-Port and C-Port systems in fiscal 2004.

Research and Development Expense. Research and development expenses decreased $872,000, from $6.7 million in fiscal 2003 to $5.8 million in fiscal 2004. The decrease of expenses in fiscal 2004 compared to the previous fiscal year was primarily attributable to the reallocation, upon commencement of receipt of product revenue in 2004, to cost of product revenue of $817,000 of personnel-related costs for manufacturing overhead included in research and development expenses in 2003. The decrease was also a result of decreases in depreciation of $199,000, resulting from allocation of that portion of depreciation expense to cost of product revenue when we commenced manufacturing product, and other expenses of $443,000 offset in part by $223,000 in costs related to the development of the aortic cutter for Guidant in fiscal 2004. Research and development expenses fluctuate with the stage of development of, the timing of clinical trials related to, and the status of regulatory approval of our products.

Selling, General and Administrative Expense. Selling, general and administrative expenses decreased $127,000, from $1.9 million in fiscal 2003 to $1.8 million in fiscal 2004. The decrease was primarily attributable to lower personnel costs offset in part by higher regulatory consulting costs.

Interest Income. Interest income decreased $85,000, from $294,000 in fiscal 2003 to $209,000 in fiscal 2004. The decrease in interest income in fiscal 2004 was primarily attributable to lower cash and short-term investment balances available for investing.

Interest Expense. Interest expense increased $1.1 million, from $885,000 in fiscal 2003 to $2.0 million in fiscal 2004. The increase in interest expense in fiscal 2004 was primarily due to higher interest expenses on larger average loan balances outstanding during the year from our loans from Guidant and Century, and a $1.1 million charge for the early extinguishment of debt in August 2003. The $1.1 million charge consisted primarily of issuing to the debt holder 45,745 shares of Series E preferred stock, valued at $14.10 per share, for

$645,000 to pay for interest due and $460,000 related to the acceleration of amortization of warrant expense accounted for as a discount of the debt.

Income Taxes

Due to uncertainty surrounding the realization of deferred tax assets through future taxable income, we have provided a full valuation allowance and no benefit has been recognized for the net operating loss and other deferred tax assets. Accordingly, deferred tax asset valuation allowances have been established as of June 30, 2004 and 2005 to reflect these uncertainties.

As of June 30, 2005, we had net operating loss carry-forwards to reduce future taxable income, if any, of approximately $44.3 million for federal income tax purposes and $35.1 million available to reduce future taxable income, if any, for California state income taxes. The net operating loss carry-forwards begin to expire by 2013 and 2008 for federal and California income taxes, respectively. We also had federal and state research and development credit carry-forwards of approximately $700,000 and $500,000, respectively, at June 30, 2005. The federal credits will expire starting in 2013 if not utilized. Utilization of the net operating loss carry-forward may be subject to an annual limitation due to the ownership percentage change limitations provided by the Internal Revenue Code of 1986 and similar state provisions. The annual limitation may result in the expiration of the net operating loss before utilization if certain changes in our ownership occur. This offering may result in a change in ownership percentages that will result in a limitation of our operating loss carry-forwards.

Liquidity and Capital Resources

As of September 30, 2005, our accumulated deficit was $51.1 million. We currently invest our cash and cash equivalents in large money market funds consisting of debt instruments of the U.S. government, its agencies and high-quality corporate issuers. We place our short-term investments primarily in U.S. government bonds and commercial paper. Since inception, we have financed our operations primarily through private sales of convertible preferred stock resulting in aggregate net proceeds of $38.9 million and from long-term notes payable of $13.3 million.

As of September 30, 2005, we did not have any off-balance sheet liabilities. We had cash, cash equivalents and short-term investments of $7.1 million.

The following table discloses aggregate information, as of June 30, 2005, about our contractual obligations and the periods in which payments are due, excluding the convertible preferred stock to be converted into common stock in connection with this offering:


	Payments Due by Period

			Less than						More than
Contractual Obligations	Total		1 Year		1-3 Years		3-5 Years		5 Years

	(in thousands)
Operating lease — real estate	$	1,408	$	429	$	939	$	40	$	-
Sponsored research agreement		158		-		158		-		-
Convertible notes payable, including interest		3,470		150		3,320		-		-
Notes payable and accrued interest		14,496		-		-		14,496		-

Total	$	19,532	$	579	$	4,417	$	14,536	$	-

The long-term commitments under operating leases shown above consist of payments related to our real estate leases for our headquarters in Redwood City, California expiring in 2008.

The long-term commitment under the Sponsored Research Agreement shown above consists of anticipated payments to Stanford University for use of their animal laboratory facility expiring December 31, 2006. The agreement is renewable and has been renewed annually for the past five years.

The subordinated convertible notes payable were issued in connection with our Japan Distribution Agreement with Century. The subordinated convertible notes bear interest at 5% per year, payable quarterly, and

are due in June 2008. The subordinated convertible notes are convertible at the option of the holder into common stock at the price of our initial public offering at any time within six months after our initial public offering. The holder of the subordinated convertible notes has a continuing security interest in all of our personal property and assets, including intellectual property.

The notes payable and accrued interest are for a loan agreement with Guidant Investment Corporation, or Guidant Investment, with principal of $10.3 million and accrued interest as of June 30, 2005 of $1.4 million and future interest of $2.8 million at maturity. The notes bear interest at the rate of 8.75% per year and principal and all accrued interest are due in August 2008. The holder of the notes has a first priority security interest in all our personal property and assets, including intellectual property.

As of June 30, 2005, we had entered into letters of credit totaling $500,000 securing our operating lease. A certificate of deposit in the amount of $500,000 has been recorded as restricted cash at June 30, 2005 related to this letter of credit.

Summary liquidity and cash flow data is as follows:


										As of and for the
										Three Months
	As of and for the Fiscal Year									Ended
	Ended June 30,									September 30,

	2003			2004			2005			2004			2005

	(in thousands)
Cash, cash equivalents and short-term investments	$	17,680		$	17,224		$	8,951		$	15,607		$	7,103
Working capital		13,396			16,402			9,032			15,002			7,096
Net cash used in operating activities		(8,922	)		(7,776	)		(7,417	)		(1,310	)		(1,838	)
Net cash provided by (used in) investing activities		(12,157	)		(1,795	)		7,129			286			982
Net cash provided by financing activities		5,537			8,116			14			6			8

Net cash used in operating activities for the three-month period ended September 30, 2005 was $1.8 million, which was primarily attributable to our net loss of $3.0 million adjusted for non-cash stock based compensation expenses of $729,000 and an increase of $225,000 in accrued interest payable to related party on the $10.3 million note payable. Net cash used in operating activities for the fiscal years ended June 30, 2003, 2004 and 2005, was $8.9 million, $7.8 million and $7.4 million, respectively. The use of cash for the fiscal year ended June 30, 2003, was attributable to our net loss adjusted for depreciation and non-cash stock-based compensation charges, offset by an increase in restricted cash balances for the facility lease of our new headquarters. The use of cash for the fiscal year ended June 30, 2004, was attributable to our net loss adjusted for depreciation and non-cash stock-based compensation charges, offset by an increase in non-current liabilities as a result of $539,000 of interest payable on the note to Guidant Investment. The net use of cash for the fiscal year ended June 30, 2005, was attributable to our net loss adjusted for depreciation and non-cash stock-based compensation charges, offset by an increase in non-current liabilities as a result of $897,000 of interest payable on the note to Guidant Investment.

Net cash provided by investing activities was $1.0 million for the three-month period ended September 30, 2005 due to the sale of available-for-sale securities of $2.0 million, offset in part by purchases of available-for-sale securities of $1.0 million during the period. Net cash used in investing activities was $1.8 million for the fiscal year ended June 30, 2004, due to an increase in purchases of available-for-sale investments as a result of additional cash available from the sale of convertible preferred stock of $4.0 million during the year, partially offset by purchases of property and equipment of $914,000. Net cash provided by investment activities was $7.1 million for the fiscal year ended June 30, 2005, resulting from an increase in proceeds from the sale of available-for-sale investments and decrease in purchases of short-term investments offset by purchases of property and equipment of $882,000.

Net cash provided by financing activities was $8,000 for the three-month period ended September 30, 2005, reflecting funds received upon the exercise of employee stock options during the period. Net cash provided by financing activities in the fiscal year ended June 30, 2004, of $8.1 million was primarily attributable to proceeds

from the sale of convertible preferred stock of $4.0 million to Guidant Investment and proceeds from notes payable to Guidant Investment of $10.3 million, less the repayment of a note payable and interest of $6.3 million. Net cash provided by financing activities of $14,000 in fiscal 2005 was attributable to cash received from stock option exercises.

Our future capital requirements depend upon numerous factors. These factors include but are not limited to the following:


	•	revenue generated by sales of our products;

	•	costs associated with our sales and marketing initiatives and manufacturing activities;

	•	rate of progress and cost of our research and development activities;

	•	costs of obtaining and maintaining FDA and other regulatory clearances and approvals for our products;

	•	securing, maintaining and enforcing intellectual property rights;

	•	effects of competing technological and market developments; and

	•	number and timing of any acquisitions and other strategic transactions we may undertake.

We believe that our current cash, cash equivalents and short-term investments, along with the cash we expect to generate from operations and our net proceeds from this offering, will be sufficient to meet our anticipated cash needs for working capital and capital expenditures for at least the next 18 months. If these sources of cash and the net proceeds from this offering are insufficient to satisfy our liquidity requirements, we may seek to sell additional equity or debt securities, obtain a credit facility or enter into development or license agreements with third parties. The sale of additional equity or convertible debt securities could result in dilution to our stockholders. If additional funds are raised through the issuance of debt securities, these securities could have rights senior to those associated with our common stock and could contain covenants that would restrict our operations. Any licensing or strategic agreements we enter into may require us to relinquish valuable rights. Additional financing may not be available at all, or in amounts or upon terms acceptable to us. If we are unable to obtain this additional financing, we may be required to reduce the scope of our planned product development and marketing efforts.

Quantitative and Qualitative Disclosures About Market Risk

We invest our excess cash primarily in auction rate securities. We do not utilize derivative financial instruments, derivative commodity instruments or other market risk-sensitive instruments, positions or transactions to any material extent. Accordingly, we believe that, while the instruments we hold are subject to changes in the financial standing of the issuer of such securities, we are not subject to any material risks arising from changes in interest rates, foreign currency exchange rates, commodity prices, equity prices or other market changes that affect market risk sensitive instruments. Due to the short-term nature of these investments, a 1% change in market interest rates would not have a significant impact on the total value of our portfolio as of June 30, 2005.

Although substantially all of our sales and purchases are denominated in U.S. dollars, future fluctuations in the value of the U.S. dollar may affect the price competitiveness of our products outside the United States. We do not believe, however, that we currently have significant direct foreign currency exchange rate risk and have not hedged exposures denominated in foreign currencies.

Recent Accounting Pronouncements

In November 2004, the FASB issued SFAS No. 151, “Inventory Costs, an amendment of ARB No. 43, Chapter 4.” SFAS No. 151 clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs and wasted material. SFAS No. 151 is effective for inventory costs incurred during fiscal years beginning in the Company’s first quarter of fiscal year 2006. The Company does not believe the adoption of

SFAS No. 151 will have a material effect on its consolidated financial position, results of operations or cash flows.

On December 16, 2004, the FASB issued SFAS 123(R), which is a revision of SFAS No. 123. SFAS 123(R) supersedes APB No. 25, and amends SFAS No. 95, Statement of Cash Flows. Generally, the approach in SFAS 123(R) is similar to the approach described in SFAS No. 123. However, SFAS 123(R) requires all share-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on their fair values. Under SFAS 123(R), pro forma disclosure is no longer an alternative. We are required to apply the prospective transition method no later than July 1, 2007 or upon becoming a public company. We must continue to account for any equity awards outstanding at the required effective date using the accounting principles originally applied to those awards (e.g., the provisions of Opinion 25 and its related interpretative guidance). As permitted by SFAS 123, we currently account for share-based payments to employees using APB 25’s intrinsic value method. Accordingly, the adoption of SFAS 123(R)’s fair value method will have a significant impact on our results of operations, although it will have no impact on our overall financial position. The impact of adoption of SFAS 123(R) cannot be predicted at this time because it will depend on levels of share-based payments granted in the future.

BUSINESS

Overview

We design and manufacture proprietary automated anastomotic systems used by surgeons to perform coronary artery bypass surgery. In coronary artery bypass grafting procedures, or CABG, veins or arteries are used to construct alternative conduits to restore blood flow beyond narrowed or occluded portions of coronary arteries, “bypassing” the narrowed or occluded portion of the artery that is impairing blood flow to the heart muscle. Our first two products, the C-Port ^® Distal Anastomosis System, referred to as the C-Port system, and the PAS-Port ^® Proximal Anastomosis System, referred to as the PAS-Port system, provide cardiovascular surgeons with easy-to -use automated systems to perform consistent, rapid and reliable connections, or anastomoses, of the vessels, which surgeons generally view as the most critical aspect of the bypass procedure. We received 510(k) clearance from the FDA to market our C-Port system in the United States in November 2005. We currently sell both the C-Port system and the PAS-Port system in Europe, and we sell the PAS-Port system in Japan through our distributor, Century Medical, Inc., referred to as Century. Our strategy is to further enhance and leverage our technology to develop additional automated anastomotic systems that facilitate the performance of minimally invasive endoscopic coronary bypass surgery, as well as automated systems to be used in other surgical applications, such as vascular closure.

The current method of performing an anastomosis in a CABG procedure utilizes a tedious and time-consuming hand-sewn suturing technique to connect a bypass graft to the aorta at one end, the proximal end, and to a small-diameter coronary artery at the other end, the distal end. We estimate that approximately 1.2 million of these blood vessel connections are performed annually in the United States. Proper vessel alignment and suture tension among the many individually placed fine stitches are critical for optimal bypass graft blood flow and function. By replacing the hand-sewn sutures with an easy-to -use, highly reliable and consistent automated system, the time required for completing the anastomoses can be reduced. We believe that our automated systems can also improve the quality and consistency of the anastomoses, which we believe will ultimately contribute to improved patient outcomes.

Our C-Port system is used to perform a distal anastomosis, which is the connection of a bypass graft vessel to the coronary artery downstream of the narrowed or occluded coronary artery. The C-Port system received the CE Mark in April 2004, which is required for marketing in the European Union, and 510(k) clearance from the FDA in November 2005, which is required for marketing in the United States. The C-Port system is currently being sold on a limited basis to selected customers in Europe. We are planning to launch this product in the United States in 2006. As of September 30, 2005, we had sold over 250 C-Port systems internationally. In addition, we are currently designing the next iteration of our C-Port system intended for use in endoscopic coronary bypass surgery.

Our PAS-Port system is used to perform a proximal anastomosis, which is the connection of a bypass graft vessel to the aorta, the source of blood for the bypass. The PAS-Port system received the CE Mark in March 2003 and regulatory approval from Japanese regulatory authorities in January 2004 for distribution in Japan. The PAS-Port system is being sold in Japan through Century. According to Century, the PAS-Port system has been used in Japan in over 130 hospitals and has an estimated 15% market share of all proximal anastomoses performed in beating heart surgery using a vein as the bypass graft. As of September 30, 2005, more than 2,400 PAS-Port systems had been sold in Europe and Japan. We have recently obtained conditional approval of an Investigational Device Exemption, referred to as an IDE, from the FDA to perform a randomized, prospective clinical trial in centers in the United States and in Europe to study the safety and efficacy of the PAS-Port system.

Industry Background

Coronary Artery Disease

According to the American Heart Association, approximately 13 million Americans have coronary artery disease, and approximately 500,000 people in the United States die each year as a result of the disease. Coronary artery disease, sometimes referred to as atherosclerosis, is a degenerative disease resulting from the

deposit of cholesterol and other fatty materials on the interior walls of blood vessels, forming a build-up known as plaque. The accumulation of plaque, usually over decades, causes the vessel to become inelastic and progressively narrows the interior of the artery, impairing its ability to supply blood and oxygen to the heart muscle. When there is insufficient blood flow to the heart muscle, an injury may occur, often resulting in chest pain, or angina, a heart attack or even death. Coronary artery disease is caused by aging and is exacerbated by dietary and environmental factors, as well as by genetic predisposition. As a patient ages, the disease will typically advance and become more diffuse, compromising the coronary artery system more globally and occluding more small-diameter vessels.

Current Treatment Alternatives for Coronary Artery Disease

Physicians and patients may select among a variety of treatments to address coronary artery disease, with the selection often depending upon the stage and severity of the disease and the age of the patient. In addition to changes in patient lifestyle, such as smoking cessation, weight reduction, diet changes and exercise programs, the principal existing treatments for coronary artery disease include the following:

Medical Treatment with Pharmaceuticals

Before the advent of interventional cardiology or bypass surgery, medical treatment with pharmaceuticals was the only form of therapy available to patients with coronary heart disease. In patients with less severe disease, pharmaceuticals remain the primary treatment approach and include drugs such as platelet adhesion inhibitors or drugs that reduce the blood cholesterol or triglyceride levels. The objective for medical treatment with pharmaceutical agents is to reduce the incidence, progression or exacerbation of coronary artery disease and its associated symptoms. For more serious disease, however, pharmacological therapy alone is often inadequate.

Interventional Cardiology Techniques

Coronary Angioplasty. Percutaneous transluminal coronary angioplasty, commonly referred to as balloon angioplasty, is a surgical procedure that involves the dilation of the obstructed artery with a balloon catheter. To perform an angioplasty, the surgeon maneuvers a flexible balloon catheter to the site of the blockage in the coronary artery, inflates the balloon, compressing the plaque and stretching the artery wall to create a larger channel for blood flow. The balloon is then deflated and removed. Angioplasty is generally successful in increasing immediate blood flow and, relative to current surgical procedures, offers the benefits of shorter periods of hospitalization, quicker recovery times, reduced patient discomfort and lower cost. However, angioplasty does not always provide prolonged efficacy: independent studies indicate that 25% to 40% of vessels treated with balloon angioplasty return to their pre-treatment, narrowed size, a process known as restenosis, within six months following the procedure. Restenosis is primarily the result of cell proliferation in response to the “injury” caused by the angioplasty procedure.

Stents. High rates of restenosis following treatment by balloon angioplasty led to the introduction of stents, mesh-like metallic tubes that are placed within the narrowed portion of the coronary vessel to hold the vessel open after the angioplasty balloon has been removed. Although clinical outcomes for procedures using stents reflect an improvement over balloon angioplasty alone, the effectiveness of stents is still limited by restenosis, which occurs in about 10% to 35% of cases within six months of the procedure.

Recently, some manufacturers have introduced drug-eluting stents, which incorporate, on the surface of the stent, specially formulated, slow-release drugs designed to prevent restenosis. According to published studies, currently marketed drug-eluting stents have been shown in clinical trials to reduce the rate of restenosis, within the first nine months after placement, to less than 10%. Market adoption of drug-eluting stents has been rapid, and industry observers predict that drug-eluting stents will capture approximately 90% of the stent market within three years.

Despite the advancements and market success of drug-eluting stents and angioplasty therapies, these interventional procedures may be less effective than CABG in addressing diffuse progressive coronary artery disease. In this advanced stage of coronary artery disease, intervention is required for multiple vessels, many of

which are less than two millimeters in internal diameter, a diameter unsuited for angioplasty and stenting. In addition, stents have been shown to be difficult to place in patients with coronary lesions in sections with vessel branches and in patients with narrowings in the left main coronary artery.

Bypass Surgery. CABG involves the construction of an alternative path to bypass a narrowed or occluded coronary artery and restore blood flow from the aorta to an area past the occlusion. This procedure can be accomplished using either veins or arteries as bypass grafts. Veins are typically harvested from the patient’s leg, while arteries are taken from either the patient’s arm (radial artery) or chest wall (mammary artery). One end of the harvested vessel is then generally attached to the aorta for blood inflow, and the opposite end is attached to the target coronary vessel. If a mammary artery is used as the bypass graft, it must be dissected from the chest wall, leaving one end in place, while the opposite end is attached to the target vessel, providing uninterrupted blood flow from the arterial circulation. Once in place, these grafts provide sufficient blood flow to bypass the narrowed or occluded portion of the coronary artery. (See Figure Below).

Over the last decade approximately 90% of patients undergoing first time CABG surgery received a mammary artery as a bypass graft vessel, a graft that does not require a proximal anastomosis, in addition to other bypass grafts such as veins and radial arteries. When the left anterior descending or LAD, artery is obstructed, CABG is most commonly performed by grafting the left internal mammary artery, or LIMA, to the LAD. When other coronary arteries are obstructed, saphenous vein grafts are typically used as the bypass vessel. A study shows that patients who undergo a CABG procedure typically receive at least three bypass grafts, of which we believe a majority are performed using one artery and two veins as the bypass graft vessels.

Although CABG surgery is generally a highly invasive and even traumatic procedure, an independent study comparing CABG and implantation of conventional stents has shown that CABG is the more effective treatment for coronary artery disease, achieving the best long-term patient outcomes as measured by survival rate and need for intervention. Studies have shown that following CABG, grafts can remain patent, or open, and functional for as long as 10 years in approximately 50% of venous grafts and approximately 90% of arterial grafts. In addition, CABG procedures can be used to treat diffuse, end-stage coronary artery disease states that are not amenable to treatment by angioplasty or stents.

According to an independent analysis by Medtech Insight, a division of Windhover Information, entitled “Emerging U.S. Markets for Myocardial Revascularization, Repair, and Regeneration Products and Technologies,” dated November 2004, an estimated 260,000 CABG procedures will be performed in 2005 in the United States, as compared to approximately 280,000 procedures in 2004. We believe that the decrease in CABG procedures is primarily attributable to the increase in other interventional cardiology procedures, including the

increased use of drug-eluting stents. The average CABG surgery requires approximately three bypass grafts per patient, and a majority of grafts require an anastomotic connection at both ends of the graft. Assuming an average of approximately five anastomoses per CABG procedure, we estimate that approximately 1.2 million of these blood vessel connections are performed in connection with CABG procedures annually in the United States. We believe approximately two-thirds of the procedures are performed using veins as the bypass graft.

Types of CABG Procedures

There are currently three types of CABG, two of which are commonly performed:

Conventional On-Pump CABG Procedures. Conventional on-pump CABG procedures are particularly invasive and traumatic to the patient, typically requiring the surgeon to open the patient’s chest cavity by splitting the sternum and to place the patient on a pump to circulate the blood throughout the body. Redirecting the blood flow to a pump enables the surgeon to clamp the aorta and stop the heart, which results in a motionless and bloodless field in which the surgeon can perform the difficult and tedious task of manually suturing the small vessels to one another. The absence of blood flow and motion are important factors in ensuring precision and providing positive clinical outcomes; however, the use of a pump for circulation exposes the patient’s blood to foreign surfaces, which has been shown to increase the incidence of bleeding and short-term neurocognitive defects. Additionally, stopping the heart may result in impairment or damage to the heart muscle. Moreover, clamping of the aorta has been shown, in clinical studies, to cause the release of particles into the blood stream that may produce blockages in other parts of the body, such as the brain. Blockages in the brain can lead to neurological damage, including strokes. Clamping the aorta also carries the risk of injury to the vessel wall with later bleeding complications. Notwithstanding these potential problems the majority of CABG procedures performed today use this on-pump technique.

Off-Pump CABG Procedures. In 1995, a new method of performing CABG was introduced that avoids the use of external pumps, requiring the surgeon to perform the anastomosis while the heart is beating. The clinical literature suggests that this procedure, termed off-pump coronary artery bypass, or OPCAB, offers several benefits, including reductions in bleeding, kidney dysfunction, short-term neurocognitive dysfunction and length of hospital stay. OPCAB is currently used in approximately 25% of all CABG procedures performed in the United States.

Notwithstanding these advantages, the technical challenges inherent in OPCAB have impeded its widespread adoption. Because the patient’s heart is beating during the procedure, the surgeon is required to perform the delicate anastomosis on a target vessel, which could be as narrow as one millimeter in internal diameter, while the vessel is moving with each heart contraction. The technical demands of the procedure, together with the longer learning curve required to achieve surgical proficiency, may also initially adversely affect long-term graft patency and completion of revascularization. In addition, surgeons will still typically be required to place a partially occluding clamp on the ascending aorta to hand suture the proximal vein graft anastomosis. As a result, even in OPCAB procedures, patients still face the risk of the serious adverse effects associated with the application of aortic clamps.

Minimally Invasive Endoscopic Procedures. Recently, a very small number of CABG procedures have been performed using minimally invasive endoscopic procedures to reduce patient trauma. In this approach, the sternum is left intact and the surgery is performed through small access ports. The anastomoses are performed on selected, readily reachable vessels using special surgical instruments, and this procedure requires special surgical skills. Although endoscopic procedures offer the promise of faster post-operative patient recovery times, rapid ambulation, long-term graft patency and a low incidence of adverse outcomes, there are a number of challenges to wide-scale realization of that potential, in particular, the absence of a method to enable surgeons to perform reproducible and effective anastomoses that can be rapidly deployed through small incisions. Currently, it is estimated that fewer than 3% of CABG patients are eligible for minimally invasive endoscopic techniques.

Surgical Techniques for Anastomoses

The current method of performing anastomoses, the most critical aspect of CABG procedures, typically employs tedious and time-consuming hand-sewn placement of individual stitches with a continuous suture to

connect the bypass graft to the aorta or coronary vessels. Conventional anastomosis can require ten to 25 minutes to suture, depending upon the size of the vessels. Proper vessel alignment and suture tension among the many individually placed fine stitches are critical for optimal bypass graft blood flow and function. Furthermore, long-term clinical outcomes may be improved if the anastomosis is “compliant,” that is, if its shape and size can adapt to changes in flow and blood pressure by placement of many single sutures rather than one continuous suture. However, most surgeons prefer the use of a continuous suture because placement of individual sutures may be more technically challenging and time-consuming. Whether the surgeon elects to operate on the patient on- or off-pump, a hand-sewn proximal anastomosis generally requires clamping of the aorta and therefore carries with it the risk of neurological damage and other serious adverse effects. Recently, new technology has been introduced that allows the surgeon to perform hand-sewn proximal anastomoses to the aorta without clamping of the aorta. These facilitating devices temporarily cover the opening in the aortic wall from the inside while the surgeon places the stitches to create the anastomosis and are removed after the anastomosis has been completed to allow blood flow into the bypass graft. We believe these systems, in their current implementations, are not suitable for endoscopic bypass surgery.

The laborious and time-consuming nature of manually applied sutures and the limitations associated with their use, together with advances occurring in coronary surgical procedures, have fueled the need for easy-to -use, fast and highly reliable automated systems to expedite and standardize the performance of anastomoses in CABG procedures. Although a number of companies have attempted to develop automated systems to perform anastomoses, to date only one system, which is for use in performing a proximal anastomosis, is currently commercially available in the United States.

Our Solutions

We design and manufacture proprietary automated anastomotic systems used by surgeons to perform anastomoses during on- or off-pump CABG procedures. We believe that by enabling consistent and reliable anastomoses of the vessels at this most critical step in CABG surgery through a fast, automated process, our products can improve the quality and consistency of these anastomoses, which we believe will ultimately contribute to improved patient outcomes. We have designed our products to meet the needs of surgeons, including:



	•	*Physiological features.* Our clips use medical grade stainless steel that is identical to that used in conventional coronary stents, which is known to be compatible with the human body (in the absence of allergies to certain components of medical grade stainless steel). Our products minimize trauma to both the graft and target vessel during loading and deployment, thereby reducing the risk of scar formation and associated narrowings or occlusions. Additionally, our PAS-Port system can be used without clamping the aorta, which has been shown to be a cause of adverse events, including neurological complications. In addition, our C-Port system creates compliant anastomoses, which potentially allow the shape and size of the anastomosis to adapt to changes in flow and blood pressure.



	•	*Handling features.* Our anastomotic systems can create anastomoses more rapidly than hand suturing, resulting in a surgical procedure that can be performed more quickly. For example the PAS-Port system can be set-up and deployed in approximately three minutes compared with approximately ten to 25 minutes for a hand-sewn anastomosis. In addition, the system is easy to use, typically requiring only a few hours of training to become technically proficient in the technique. The C-Port system is compatible with coronary arteries as small as one millimeter in internal diameter, which is typically the lower limit of target vessels considered to be candidates for revascularization. The C-Port system can also be deployed at various angles, allowing access to all coronary targets during both on- and off-pump procedures. Both the C-Port system and the PAS-Port system are designed as integrated products, where all steps necessary to create an anastomosis are performed by a single tool, with one user interface. The need for target vessel preparation is minimal for the PAS-Port system, a feature that is especially important in patients undergoing a second or third coronary bypass procedure with the presence of significant scarring in and around the heart and aorta.



	•	*Standardized results.* Our products enable consistent, reproducible anastomoses, largely independent of surgical technique and skill set, using a wide range in quality of graft tissues. In comparison with hand-sewn sutures, our systems offer mechanically-governed repeatability and reduced procedural complexity.



	•	*Reduced costs.* Because our products can help to expedite the CABG procedure, we believe that they may contribute to reduced operating room time and associated expenses, partially offset by the increased cost of our products compared to current alternatives, such as sutures. Additionally, our C-Port system creates anastomoses rapidly and does not require the interruption of blood flow. It may reduce some of the technical challenges inherent in performing anastomosis in off-pump procedures, which may advance adoption of the off-pump approach. By helping more surgeons perform off-pump CABG, the need for a costly pump may also be reduced or eliminated, thereby potentially reducing the total costs of the procedure. Finally, to the extent complications such as strokes or injury to the heart muscle decrease, post-operative costs of a CABG procedure may be significantly reduced.

Our Strategy

Our goal is to become the leading provider of automated anastomotic systems for cardiac bypass surgeries. Although CABG may offer the most effective treatment for many patients with coronary artery disease, patients are often deterred by the invasiveness and trauma associated with the procedure. As a result, some patients may opt to accept less invasive procedures, such as balloon angioplasty and coronary stent implantation, even though the procedure may result in a less favorable outcome for that patient. For CABG to be a more attractive treatment alternative, surgeons must strive to decrease the invasiveness and trauma associated with current procedures by introducing endoscopic or keyhole surgery for CABG, similar to the success seen in laparoscopic or arthroscopic procedures over the past decade. However, for endoscopic CABG to be widely adopted, several challenges must be overcome, including, most significantly, the development and successful implementation of innovative technology that safely accomplishes the most critical step in this procedure, the anastomosis. We believe that our anastomotic technology will become a key enabling technology for endoscopic CABG.

We believe we must follow a step-by-step process of technology development and market introduction to achieve our goals. In the first step, we must show strong clinical evidence that our products are safe and effective in an open chest setting, an environment in which the surgeon currently feels most comfortable. Anastomotic systems are disruptive technology and, to gain the trust and confidence of cardiac surgeons, we must carefully familiarize them with these systems. If we are successful in this first step of the process and the surgical community has started to adopt this technology in open chest surgery, the second step would involve introducing follow-on products that have been tested in a closed chest setting and have incorporated all the features necessary to safely and effectively perform this type of procedure.

The principal elements of our strategy to achieve our vision and goals include:



	•	*Driving market adoption of the C-Port and PAS-Port Systems.* We intend to drive commercial adoption of our C-Port system and, if cleared or approved by the FDA, our PAS-Port system and future products by marketing them as integrated anastomotic tools for use in both on- and off-pump CABG procedures. We believe clinical data from our product trials and evidence of the cost-effective nature of our systems compared with alternatives will be key factors in driving physician adoption of our products. We intend to continue to seek to obtain persuasive clinical data on patient outcomes, procedure times and costs and quality of outcome through post-marketing studies, registry trials and physician-initiated studies to further drive market adoption.



	•	*Expanding our sales and marketing effort.* We plan to build a direct sales force to market and sell the C-Port system in the United States. We expect our U.S. sales force will include clinical specialists who are skilled in training cardiovascular surgeons in the use of our products. We plan to initially target selected top-tier cardiac surgery centers and to conduct intensive focused marketing and training of surgeons affiliated with those centers. Through this effort, we will seek to capitalize on their reputations in the cardiac surgical community to increase both confidence in and demand for our products. We also intend to increase the number of distributors carrying our products in Europe and Asia. If we obtain

FDA clearance or approval of the PAS-Port system or other products in the field of cardiac surgery, the same sales force will be responsible for selling these products.

• Capitalizing on our proprietary technology to develop next-iteration products for endoscopic cardiac procedures. We believe that the evolution of endoscopic CABG procedures, which would offer faster post-operative patient recovery times, long-term graft patency and a low incidence of adverse outcomes, could increase the number of CABG procedures performed. To help propel the effort toward more viable cardiac endoscopic procedures, we plan to develop flexible, next-iteration automated anastomotic systems designed to facilitate minimally invasive endoscopic CABG. We have received a grant from the National Institute of Health, or NIH, which will, in part, support us in our efforts to reach the goal of developing products for use in endoscopic surgery.

• Establishing a strong proprietary position. As of September 30, 2005, we had 29 issued U.S. patents, 62 additional patent applications in the United States and another six patent applications filed in selected international markets. We plan to continue to invest in building our intellectual property portfolio.

• Leveraging our core competency to develop innovative products for other surgical applications. We believe that our core technology, which comprises extensive technological innovations, can be adapted for a variety of surgical applications and disease indications. For example, we are currently developing products for use in other applications, such as vascular closure. We plan to continue to seek market opportunities in related fields to develop additional products that leverage our core strengths in surgical stapling and closure.

Our Products

We have developed three proprietary systems to perform anastomoses, the C-Port system, the C-Port xA Distal Anastomosis System, or C-Port xA system, and the PAS-Port system. The C-Port system automates a distal anastomosis between the graft vessel and target artery. This system has been studied using veins rather than arteries as the graft vessel and has received FDA 510(k) clearance for the creation of anastomoses between grafts and target vessels generally. The C-Port xA system, developed as an iteration of the C-Port system, has been studied in animals using veins and arteries as the bypass graft vessel, and we have submitted a 510(k) application for the C-Port xA system in December 2005. The PAS-Port system automates the performance of a proximal anastomosis between a graft vessel, typically a saphenous vein, and the aorta. A study shows that patients who undergo a CABG procedure typically receive at least three bypass grafts, of which we believe a majority are performed using one artery and two veins as the bypass graft vessels.

C-Port ^® Distal Anastomosis System

Our C-Port system, which may be used in either on- or off-pump CABG procedures, is designed to perform an end-to -side distal anastomosis by attaching the end of a bypass vein graft to a coronary artery downstream of an occlusion or narrowing. The system uses miniature stainless steel staples to securely attach the bypass graft to the coronary artery. As depicted in Figure 2, the individually placed staples inserted by the C-Port system mimic individual sutures, expeditiously and easily creating a compliant anastomosis. In contrast to a non-compliant hand-sewn anastomosis using a continuous suture, the compliant nature of the C-Port anastomosis potentially allows the anastomosis to adapt to changes in blood flow or pressure. Our C-Port system is effective in creating compliant anastomoses in vessels as small as one millimeter in internal diameter. In addition, the C-Port system has been designed to:


	•	perform an end-to -side anastomosis without interruption of native coronary blood flow, which is not possible in a conventional hand-sewn anastomosis during off-pump surgery without the use of a temporarily placed vascular shunt;


	•	be compatible with vein grafts of diameters between 4 millimeters and 6 millimeters and wall thicknesses less than 1.4 millimeters;



	•	achieve nearly complete alignment of the natural blood lining surfaces of the coronary artery and the vein graft to minimize scarring and potential occlusion of the anastomosis; and


	•	minimize the amount of foreign material in the blood stream that may cause clotting and subsequent graft failure.


Figure 1: C-Port Distal Anastomosis System		Figure 2: C-Port Anastomosis

In preparing to deploy the C-Port system, the surgeon cuts the end of the bypass graft as he would for a hand-sewn anastomosis and attaches the graft to four hooks situated on the base of the cartridge. The surgeon then creates a small incision in the target coronary artery and inserts the anvil, a small metal structure of one millimeter diameter. Pressing the button on the C-Port system handle, the surgeon lowers the cartridge with the graft attached onto the target coronary artery and then deploys the staples through the graft and coronary artery against the anvil. The staples are formed on the anvil surface, joining the coronary artery and graft. In addition, a small knife located inside the anvil is released to cut the coronary artery from the inside out to create an opening in the coronary wall through which the blood can flow. Following completion of the anastomosis, the surgeon removes the anvil from the coronary artery and manually stitches the small opening initially created to insert the anvil.

The C-Port system is currently approved for use in Europe, and in November 2005, we received 510(k) clearance to market the C-Port system in the United States.


	*C-Port ^tm xA Anastomosis System*

Figure 3: C-Port xA Anastomosis System

The C-Port xA system is our next-iteration C-Port system. We have applied for 510(k) clearance of the C-Port xA system for the same intended use as the C-Port system. The C-Port xA system features several modifications designed to improve the safety and reliability of the system, including a change from a spring-driven to a gas release-driven stapling mechanism, optimizing the staple configuration to further stabilize the graft; incorporation of non-traumatic vessel clamps to better position the graft vessel for anastomosis; and incorporation of safety mechanisms to minimize the chance of unintentional staple deployment. The C-Port xA

system is also designed to deploy more staples around the periphery of the anastomosis than the original C-Port system to help ensure leak-proof sealing without the need for additional stitches at either end of the anastomosis, as may currently be required with the C-Port system.

PAS-Port ^® Proximal Anastomosis System

Our PAS-Port system is a fully automated device used to perform an end-to -side proximal anastomosis between a saphenous vein and the aorta. To complete a proximal anastomosis, the cardiac surgeon simply loads the bypass graft vessel into the PAS-Port system, places the end of the delivery device against the aorta and turns the knob on the opposite end of the delivery tool. The device first creates an opening in the aorta and subsequently securely attaches the bypass graft to the aortic wall, using a medical grade stainless steel implant that is formed into its final shape by the delivery tool. The innovative design of the PAS-Port system allows the surgeon to load the bypass graft and rapidly complete the anastomosis, typically in approximately three minutes, with little or no injury to the bypass graft vessel or the aorta.



Figure 4: PAS-Port ^® Proximal Anastomosis System		Figure 5: Cross-Section of PAS-Port anastomosis

An important advantage of our PAS-Port system is that, in contrast to conventional hand-sewn proximal anastomoses, the vascular connections created can be performed without clamping the aorta, potentially avoiding the associated risks such as neurological complications. Surgeons use our PAS-Port system in conventional CABG procedures and in OPCAB. While we are not aware of any patients who required additional surgery to correct leakage from an anastomosis performed with our PAS-Port system, the design of the PAS-Port requires an additional stitch intra-operatively to obtain hemostasis (absence of bleeding in the anastomosis site) in approximately 5% to 10% of the deployments. Additional stitches may be required intra-operatively in an individual anastomosis depending on the quality of the target and graft vessels, adequacy of target site preparation and quality of the loading of the graft to the deployment cartridge. We will be working on adaptations to the PAS-Port system for use in endoscopic applications.

The PAS-Port system is approved for sale and marketed in Europe and Japan. As of September 30, 2005, over 2,400 PAS-Port systems had been sold, primarily in Japan. In addition, we have recently obtained conditional approval from the FDA for an Investigational Device Exemption to conduct a prospective, randomized, multi-center and multi-national clinical trial to evaluate the safety and efficacy of the PAS-Port system.

Future Product Programs

Our product research and development efforts are focused on building innovative devices that enhance our current products or leverage our core competency in mechanical clip formation for applications in endoscopic

CABG and other medical fields. We currently have active programs to design and develop the following products:


	*Endoscopic Anastomosis System (C-Port Flex A System)*

Figure 6: C-Port Flex A Anastomosis System

The C-Port Flex A Anastomosis System, or the C-Port Flex A system, includes modifications to the C-Port xA system that are designed to enable automated anastomoses to be performed as part of robot-facilitated CABG procedures. The C-Port Flex A system includes all the features and benefits of the C-Port xA system and has a flexible, rather than rigid, shaft. The flexible shaft is designed to allow the working end of the device that creates the anastomosis to be inserted through a 12-millimeter diameter port to access the chest cavity and heart. The device would then be loaded with the bypass graft vessel inside or outside the chest cavity and deployed to create the anastomosis to the coronary artery. This product is designed to enable technology for completion of robotically assisted, including endoscopic, CABG surgery through four or five relatively small incisions between the ribs. Avoiding both the incision through the sternum and the use of a pump should significantly reduce patient trauma and accelerate post-operative recovery. We are currently conducting preclinical animal-model studies with the C-Port Flex A, supported in part by a grant from the NIH.


	*X-Port ^tm Vascular Access Closure Device*

We believe that our proprietary technology used in our automated vascular anastomosis systems may provide an innovative, simple mechanical solution to close the vascular access sites used in interventional vascular procedures. We are currently designing the X-Port ^tm Vascular Access Closure Device, or X-Port, to address this clinical need.

Similar to our other products, the X-Port consists of a deployment tool and a vascular clip. At the end of an interventional vascular procedure, the surgeon would insert the deployment tool into a standard introducer sheath and then simply press a button to deploy a micro-stainless steel clip over the opening in the vessel wall, sealing off the vascular access site.

Currently, vascular closure is accomplished by one of two methods, manual compression or alternative vascular closure devices. Simple manual compression, the most frequently used method of closure, is a time-consuming process that requires the patient to lie flat while pressure is manually applied directly to the access site for an average of 25 minutes. Once this initial period of compression is completed, the patient must continue to remain immobile for up to another four to 24 hours, depending upon the amount of anticoagulant drug therapy used during and after the procedure. Manual compression causes patient discomfort, is resource intensive and can increase the duration of the patient’s hospitalization. As a result, a variety of devices have been developed and commercialized to replace manual compression. Most of these products substantially decrease the duration of hospitalization, time to ambulation and, in most instances, patient discomfort.

It is estimated that approximately 8.5 million diagnostic and interventional catheterization procedures will be performed worldwide in 2005. In each of these procedures, the access site must be closed by one of these closure methods. It is estimated that in approximately 45% of these patients a device is employed. The

worldwide market for femoral artery closure devices is estimated to be approximately $500 million in 2005 and is estimated to increase to approximately $790 million by 2008.

We have targeted this rapidly growing market because we believe that, by integrating many of the desired features into a single product, the X-Port, if it is successfully developed and receives regulatory clearance or approval, may be well-positioned to outperform existing vascular access closure devices. The X-Port is designed to have the following advantages:


	•	a simple user interface;

	•	placement through the same introducer sheath used for the interventional procedure;

	•	minimal amount of foreign material in the vessel wall with only a fraction of this material exposed to blood;

	•	a low manufactured cost; and

	•	scalable to various sizes of introducer sheaths.

We are currently conducting preclinical animal-model studies of the X-Port to assess its safety and efficacy.

Agreement with Cook Incorporated

On December 9, 2005, we entered into an agreement with Cook Incorporated, or Cook, to develop the X-Port. Under the agreement, we and Cook will jointly develop the X-Port, under the direction of a Development Committee that includes representatives from each party. Cook receives an exclusive, worldwide, royalty-bearing license, with the right to grant sublicences, to make, have made, use, sell, offer for sale and import the X-Port for medical procedures in any part of the body. The parties may also agree to perform research on the product in new formats, in which case Cook would reimburse us for work we perform in connection with such research.

We will receive an initial payment of $500,000 after we complete, to Cook’s satisfaction, certain tasks under an agreed upon development plan. Cook will also pay us up to a total of an additional $1.5 million in the form of milestone payments that become due upon achievement of certain development milestones. Additionally, we will receive a royalty based on Cook’s annual worldwide sales of the X-Port. This royalty is reduced if Cook sells a designated number of product units per calendar year for a defined period of time, and may also be reduced if patents are not issued covering the product in certain countries within a defined period of time. Certain minimum royalty payments are required under the agreement, which may be reduced during time periods in which certain product improvements are being developed because product sales are unexpectedly low for reasons other than Cook’s failure to commercialize diligently the product.

Cook must use commercially reasonable efforts to develop a production version of the product, and to apply for a CE mark and for FDA approval of the product, at its own expense. Additionally, Cook must use commercially reasonable efforts to commercialize the product following regulatory approval. We must supply a certain number of product units for Cook’s use in development of the product. Cook has the right to manufacture the product during later stages of development, and has the obligation to supply the product for commercial purposes. The term of the agreement will expire on December 9, 2025, subject to renewal by mutual agreement between Cook and us. Cook may terminate the agreement for convenience at any time, and either party may terminate the agreement for uncured material breach by the other party.

If the agreement is terminated either by Cook for convenience, or by us for Cook’s material breach, then Cook must pay to us a pro-rated payment for work performed by us under the development plan prior to such termination, not to exceed an amount equal to the milestone payments made during the term of the agreement plus $300,000. Additionally, in such case, Cook must transfer to us certain technology and regulatory filings and assist us in other respects to enable us to develop, manufacture and commercialize the product, and Cook agrees not to sue us under certain intellectual property rights as necessary to allow us to continue, on our own or with or through third parties, to make, use, sell, offer for sale and import the product anywhere in the world for use in medical procedures in the body. In such case, for five years after such termination (unless a court does not determine that our termination for Cook’s breach was proper), Cook cannot grant to any competitor of ours a license under Cook’s intellectual property rights to facilitate the competitor in making, using, selling, offering for

sale or importing the X-Port or any improvement anywhere in the world for use in medical procedures in the body.

If Cook terminates the agreement for our breach after it has paid to us all of the milestone payments, then Cook’s license survives such termination, subject to its continuing obligation to pay royalties to us. If Cook terminates the agreement for material breach by us in failing to meet any of the milestones defined in the agreement, then we must repay the initial fee and the milestone payments, less certain costs we incurred in developing the product.

Cook has the first right to enforce the X-Port intellectual property against third parties, and Cook bears all expenses associated with such enforcement unless we choose to participate. We may undertake such enforcement if Cook permits us to do so. In the event that a third party takes legal action to assert intellectual property rights against us and/or Cook with regard to the X-Port product, then Cook may offset against the total royalty payment due to us a portion of any monies expended by Cook in defending against the action.

Clinical Trial Summary and Timeline


	*Regulatory Status*


	International

The C-Port system received the CE Mark in April 2004 and the PAS-Port system received the CE Mark in March 2003. The PAS-Port system also received regulatory approval to be sold in Japan in January 2004. We plan to submit the C-Port xA for regulatory approval in Europe and Japan as well.

United States

We commenced our European pivotal clinical trial to study our PAS-Port system in 2002. In 2001 and 2002, the FDA approved two proximal anastomosis devices for sale in the United States, the Symmetry system developed by St. Jude Medical and the CorLink system developed by Bypass, Inc. and Johnson & Johnson. The design of the pivotal clinical trial for the PAS-Port was based on the trial designs of these two predicate devices. We submitted the results of our pivotal clinical trial for the PAS-Port system to the FDA in an application for 510(k) clearance in 2003. After receiving reports of apparently device-related adverse events with the Symmetry device, the FDA revisited the criteria for a 510(k) clearance of subsequent anastomosis products. The FDA sponsored a special panel meeting on March 19, 2004 to redefine objective performance criteria for safety and efficacy of anastomosis products, which are significantly more rigorous than when we submitted our data. Following redefinition of the objective performance criteria, we resubmitted pooled data from two trials evaluating safety and efficacy of the PAS-Port system to the FDA. In April of 2005, the FDA asked the Circulatory System Devices Panel to consider the data submitted on the PAS-Port system. The panel concurred that vascular anastomotic devices have great potential and the data regarding the PAS-Port system looked promising. The majority of panel members, however, believed that more robust data were required. Following this recommendation from the panel, we withdrew our 510(k) submission. To collect data to address the new criteria, we obtained a conditional approval of an Investigational Device Exemption, or IDE, for a new randomized prospective clinical trial to be conducted in the United States and Europe.

We commenced our pivotal clinical trial to study our C-Port system in 2003 and submitted the data from this trial in an application for 510(k) clearance in 2004. We received 510(k) clearance from the FDA to market the C-Port system in the United States in November 2005. In December 2005, we submitted an application for 510(k) clearance of the C-Port xA system using the C-Port as a predicate device.


	*International Clinical Studies*

Number and

Enrollment

Number

Location of

Completion

Length of

Regulatory

Study

Sites

Date

Patients

Objective

Follow-up

Status

C-Port Pivotal Trial

5 European Sites

February 2004

133

Determine safety and efficacy of distal anastomotic device

12 months

• CE Mark
received in Europe
• 510(k) clearance obtained in United States

PAS-Port
European
Pivotal
Trial

3 European Sites

September 2002

Determine safety and efficacy of proximal anastomotic device

24 months

• CE Mark
received in Europe
• IDE conditionally approved in United States

PAS Port II Trial

4 European Sites

February 2004

Increase data pool for study of safety and efficacy with an improved PAS-Port device

12 months


	C-Port Pivotal Trial

The C-Port system pivotal trial was designed to prospectively assess the safety and effectiveness of the C-Port system in creating an anastomosis between a coronary artery and a vein graft harvested from the patient. The primary effectiveness endpoint was angiographic evidence of patency at six months and absence of major adverse cardiac events, or MACE, at one year.

Patient enrollment for the C-Port system pivotal clinical trial began in July 2003. Ultimately, 133 patients met the criteria for enrollment in this multi-center, prospective, non-randomized clinical trial conducted in four hospitals in Germany and one hospital in Switzerland. In this study, surgeons successfully used the C-Port system for anastomosis for 113, or approximately 85%, of these patients. Of the remaining 20 patients, three died for reasons that were unrelated to the device, 16 were converted to hand-sewn anastomoses, and the coronary target vessel for one patient was deemed unsuitable after intra-operative site assessment. Intra-operative conversion to a hand-sewn anastomosis was necessary for 16 grafts due to a variety of factors. We believe inadequate target site preparation and excessive coronary wall thickness (> 0.75 mm) were responsible for the need to convert to hand-sewn anastomoses for seven patients, inadequate site preparation was responsible for the need to convert to hand-sewn anastomoses for five patients, inadequate inter-operative coronary run-off was responsible for the need to convert to hand-sewn anastomoses for three patients (including two exhibiting inadequate flow), and excessive graft thickness (> 1.4 mm) was responsible for the need to convert to hand-sewn anastomosis for one patient. We do not believe any of the conversions were directly or indirectly associated with C-Port device use or failures. In 45 of these patients (40%), the C-Port systems were used in small diameter coronary arteries with an internal diameter of 1.5 millimeters. At six and 12 months following the surgical procedure involving the C-Port system, 105 patients and 107 patients, respectively, were available for clinical follow-up. Graft patency was assessed angiographically prior to discharge and again at six months following the procedure. The six-month assessment indicated patent grafts in 92.1% of the patients assessed angiographically. By contrast, an analysis of published data studying hand-sewn anastomoses generally showed average patency of approximately 84% at six months following the procedure in more than 28,000 bypass grafts collectively studied. At 12 months, two of the implanted patients did not reenroll for evaluation and, of the remaining 111 patients implanted, nine had died and none of the others had suffered myocardial infarction or required revascularization of the target vessel.

After submitting the results from the clinical trial and implementing corrections to resolve the minor mechanical reliability problems, the C-Port system received the CE Mark and was approved for sale in Europe and, in November 2005, received 510(k) clearance from the FDA for marketing in the United States.

PAS-Port European Pivotal Trial

The PAS-Port European pivotal trial was designed to prospectively assess the safety and effectiveness of the PAS-Port system in creating an anastomosis between an aorta and a vein graft harvested from the patient. We sought to demonstrate rates of patency at six months that were at least as favorable as those for hand-sewn anastomoses as well as absence of MACE at two years. Based on the FDA’s criteria as defined in March 2004, quantitative angiography was to be used to assess patency of grafts connected with an anastomotic device at a minimum of six months after surgery. Following March 2004, the FDA expects an average vein graft patency rate of at least 85% with a specified statistical confidence level. For the FDA’s purposes, graft patency is defined as less than 50% stenosis, or narrowing, at the site of the mechanical anastomosis, and patency must be determined by angiography and evaluated by an independent core laboratory.

We enrolled 55 patients in this study, which commenced in June 2002. This multi-center, prospective, non-randomized clinical trial was conducted at three sites in Europe, two in Germany and one in Switzerland.

Of the 55 patients enrolled in the study, 47 patients, or approximately 85%, were successfully implanted with an aggregate of 50 PAS-Port implants. In eight patients, the PAS-Port deployments were unsuccessful either due to technical errors with the PAS-Port or technique errors by the surgeons. Patients who were not successfully implanted with the PAS-Port device were successfully converted to hand-sewn anastomoses without compromise to long-term patient outcome.

Graft patency was assessed angiographically prior to discharge and again at six months post-procedure. Angiograms were evaluated by a core laboratory at Stanford University Medical Center for independent analysis. The original study called for follow-up at three and six months. The study was later amended to obtain a two-year follow-up evaluation to meet FDA requirements for long-term follow-up. Clinical follow-up at three months was available on all 47 PAS-Port implanted patients, on 44 patients (93.6%) with PAS-Port implants at six months and on 42 PAS-Port implanted patients (89.4%) at two years. Angiograms were obtained at six months on 39 patients (42 PAS-Port grafts). Stress electrocardiograms, or ECG, tests were obtained at two years on 36 patients with 38 PAS-Port grafts.

The angiographic observed rate of patency of the PAS-Port system at six months was 85.7% for the patients available for evaluation. Five patients with five PAS-Port grafts were evaluated by magnetic resonance imaging, or MRI, and these grafts were shown to be patent. Including this data, the overall patency was 87.2% at six months. At 24 months, three of the implanted patients did not reenroll for evaluation and, of the remaining 44 patients implanted, two had died, one had a myocardial infarction, and none required revascularization of the target vessel.

This trial demonstrated favorable long-term (24-month) clinical outcomes for the patients implanted with the PAS-Port implant, including an overall patency rate after six months of 87.2%. Historical data compiled from many studies indicates a 84.1% patency rate for grafts anastomosed using hand-sewn suturing techniques and studied six months after surgery. This clinical trial also revealed minor mechanical reliability problems with the PAS-Port system that prevented successful implantation in several patients. After submitting the results from the clinical trial and implementing corrections to address the mechanical reliability problems, the product received the CE Mark and was approved for sale in Europe.

PAS-Port II Trial

To gain further clinical experience with the PAS-Port system, the PAS-Port device was also used in 54 of the 133 patients enrolled in the C-Port pivotal trial described above. In patients receiving more than one vein graft, the study protocol allowed usage of the PAS-Port system in additional vein grafts in which the C-Port system was not used.

Of the patients in the C-Port pivotal trial, 50 patients were successfully implanted with an aggregate of 59 PAS-Port implants and discharged from the hospital. Clinical follow-up was available on 47 (94%) of these patients at three months and on 46 (92%) of these patients at six and 12 months. The original protocol called for follow-up at three and six months. The protocol was later amended to include a 12-month follow-up evaluation to meet FDA requirements for long-term follow-up. Angiograms were obtained at six month follow-up on

38 patients having an aggregate of 47 PAS-Port grafts. Stress ECG tests were obtained at 12 months on 42 patients (51 PAS-Port grafts).

Angiograms were performed at six months and demonstrated average patency rates for the PAS-Port grafts of approximately 95.7%. At 12 months, two patients did not reenroll for evaluation, and of the remaining 46 patients implanted, two patients had died, three required revascularization of the target vessel and none had suffered myocardial infarction.

Based on the PAS-Port European pivotal trial and the additional data gathered during the PAS-Port II trial, we believe we have confirmed the safety and effectiveness of the PAS-Port system; however, our data did not achieve the level of statistical confidence required to obtain FDA clearance at that time. As discussed under “Clinical Trial Summary and Timeline — Regulatory Status, United States” above, the Circulatory System Devices Panel determined that additional data is required before a conclusion as to safety and effectiveness could be formed by the FDA. We cannot assure you that additional data we obtain will be as favorable as the data discussed above or will establish the safety or efficacy of our PAS-Port system.

Post-Marketing Surveillance

Post-marketing studies are conducted to provide data regarding disease treatment outcomes. These studies often collect acute, procedural, safety and long-term efficacy data. Acute data from post-marketing studies on CABG procedures often describe the amount of stenosis immediately pre- and post-procedure, and provide data as to procedure-related morbidity, such as heart attack or stroke. Long-term efficacy data collected weeks, months or years after a procedure can be measured in terms of patency or re-intervention rates. Reintervention, also referred to as revascularization, rates measure the number of grafts that have required treatment within a defined period of time because of narrowing or occlusion.

Studies are subject to a number of factors that can influence results, making it difficult to draw general conclusions. The rate of graft occlusion and the need for re-intervention may be influenced by factors unrelated to the method of treatment, such as the type of artery in which the stenosis is located or a patient’s overall health. Because of the relatively small number of treated patients, these factors can influence the meaningfulness of clinical study results. Consequently, findings from one study should not be used to predict limitations or benefits of a particular means of treatment.

The PAS-Port system has been marketed in Europe since March 2003 and in Japan since January 2004. Since commercial launch, we have sold more than 2,400 PAS-Port systems. We have obtained data on the performance of the PAS-Port system from three different sources:


	•	Cardica sponsored European PAS-Port Registry

	•	Investigator sponsored single center, prospective, randomized trial (Heartcenter Leipzig)

	•	Cardica initiated world-wide post-market survey

European PAS-Port Registry. A multi-center patient registry for the PAS-Port system was compiled from data reported by five centers in Europe, which reported data on 95 patients implanted with 123 PAS-Port devices between April 2003 and March 2004. The registry was designed to collect information on the performance of the delivery system during the formation of the anastomosis and to assess any device-related adverse events in the short-term following the procedure. There were no defined exclusion criteria; therefore, this registry was conducted in a patient population that we believe had a greater extent of underlying coronary artery disease, co-existing cardiac conditions, previous coronary interventions or surgery and other adverse health factors than the patient populations in our clinical studies. Acute procedural success was demonstrated by a successful PAS-Port system deployment rate of approximately 95%. There were no reports of re-operation for revision or bleeding associated with a PAS-Port anastomosis. Average clinical follow-up in these patients was at seven months following surgery. In these follow-up evaluations, there were no PAS-Port-related patient deaths and only approximately 6.1% of grafts demonstrated stenosis or occlusion.

Investigator-Sponsored Single Center Randomized Trial. In June 2005, data was presented at the annual meeting of the International Society for Minimally Invasive Cardiac Surgery describing results from a single

center, prospective, randomized clinical trial comparing the PAS-Port system to hand-sewn anastomosis in patients requiring CABG. The primary outcome variable in this study was one-year graft patency assessed by computer tomography. An aggregate of 99 patients were enrolled in the study, of whom 51 were enrolled to receive anastomoses performed using the PAS-Port system and 48 were enrolled to receive anastomoses completed by hand-sewn sutures. Of the 48 patients originally enrolled for hand-sewing, five patients were converted to a PAS-Port anastomosis due to presence of severely calcified aortas, which makes hand-sewing more challenging, and one PAS-Port patient was converted to a hand-sewn anastomosis. At discharge, 55 PAS-Port-implanted patients and 39 hand-sutured patients had CT scans. These scans demonstrated graft patency of 100% in PAS-Port grafts and 97.4% in hand-sewn grafts. At 12 months, the patency rates of 32 patients with PAS-Port anastomoses and 15 patients with hand-sewn anastomoses were 96.8% and 86.7%, respectively.

Worldwide Market Survey. We performed a post-market survey with five European centers and four Japanese centers using the PAS-Port system. The primary outcome variable evaluated in this survey was the incidence of myocardial ischemia and MACE in patients with PAS-Port devices. The surgeons using the PAS-Port system were asked to submit adverse outcomes of all patients that had received a PAS-Port implant. This study included 449 patients, and 496 PAS-Port implants were successfully implanted. During the follow-up period, which was approximately one year for most patients, 11 patients died. During this follow-up period, six, or approximately 1.3% of patients returned to the treating center for evaluation of recurrent chest pain. Stress-induced myocardial ischemia detected following CABG surgery may be unrelated to any of the bypass grafts installed, or the method used to perform the anastomoses on the grafts, during surgery but rather a function of progression of the native coronary artery disease.

We intend to continue to gather additional clinical data for our products to further support our sales and marketing efforts. We believe these studies will primarily consist of registry trials and physician-initiated studies.

Sales and Marketing

Our initial products focus on the needs of cardiovascular surgeons worldwide. We intend to build a direct sales force in the United States to sell our C-Port system, which received 510(k) clearance in November 2005. Our sales force will initially target selected influential surgeons in high volume cardiac surgery centers. Approximately half of all U.S. CABG procedures are performed at 225 cardiac surgery centers. We plan to selectively target institutions within this group of centers and to conduct intensive focused marketing and training for the C-Port system and for our products that receive FDA clearance or approval in the future. Through this effort, we hope to generate wider demand for our products by training well-respected clinical supporters of our products and leveraging their reputations in the clinical community. In addition, we intend to promote our systems at major medical conventions and through other marketing efforts such as seminars, workshops, brochures and internet-based training. We will also work with our investigators to present the results of our clinical trials at cardiovascular meetings.

We currently distribute our PAS-Port system in Japan through our exclusive distributor, Century Medical, Inc., or Century. In the fiscal year ended June 30, 2005, sales to Century comprised approximately 33% of our net revenue. Century has a direct sales organization of approximately 16 representatives who are responsible for the development of the anastomotic device market and directly contact cardiac surgeons. Century provides clinical training and support for end-users in Japan. We provide Century with promotional support, ongoing clinical training, representation at trade shows and guidance in Century’s sales and marketing efforts. Our agreement with Century expires in July 2009. The agreement renews automatically for a second five-year term if Century meets certain sales milestones. Either party may terminate this agreement if the other party defaults in performance of material obligations and such default is not cured within a specified period or if the other party becomes insolvent or subject to bankruptcy proceedings. In addition, we may terminate the agreement within 90 days following a change of control by payment of a specified termination fee.

Guidant distributed our products in Europe under a distribution agreement that terminated in September 2004. Guidant accounted for 75% of our total revenue in fiscal year 2004 and 65% of our total revenue in fiscal year 2005. The revenue generated from the distribution agreement in Europe was $0.4 million, or 48% of fiscal year 2004 revenue, and $1.0 million, or 50% of fiscal year 2005 revenue.

We are currently building a distribution network in Europe for both our PAS-Port and C-Port systems. We have currently engaged SIC Systems as our exclusive distributor in Italy, and we may engage additional distributors in several other European countries; however, we do not anticipate significant product sales from Europe in part because their healthcare systems are difficult to penetrate for new higher cost medical products. We are continuing to sell to selected customers and will continue to evaluate further opportunities to expand our distribution network in Europe and in other parts of the world where the healthcare economics are conducive to the introduction and adoption of new medical device technologies.

Competition

The market for medical devices used in the treatment of coronary artery disease is intensely competitive, subject to rapid change, and significantly affected by new product introductions and other market activities of industry participants. We believe the principal competitive factors in the market for medical devices used in the treatment of coronary artery disease include:


	•	improved patient outcomes;

	•	access to and acceptance by leading physicians;

	•	product quality and reliability;

	•	ease of use;

	•	device cost-effectiveness;

	•	training and support;

	•	novelty;

	•	physician relationships; and

	•	sales and marketing capabilities.

There are numerous potential competitors in the medical device, biotechnology and pharmaceutical industries, such as Boston Scientific Corporation, Edwards Lifesciences Corporation, Guidant Corporation, Johnson & Johnson, Inc., Medtronic, Inc. and St. Jude Medical, that are targeting the treatment of coronary artery disease broadly. Each of these companies has significantly greater financial, clinical, manufacturing, marketing, distribution and technical resources and experience than we have. In addition, new companies have been, and are likely to continue to be, formed to pursue opportunities in our market.

The landscape of active competitors in the market for anastomotic solutions is currently limited. Medtronic, with its recent acquisition of Coalescent Surgical, obtained the only marketed proximal anastomotic system in United States, the Spyder, which deploys a series of nitinol-based U-Clips to attach a graft to the aorta. Several companies market systems designed to facilitate or stabilize proximal anastomoses, such as Guidant’s Heartstring Aortic Occluder and Novare Surgical Systems’ Enclose anastomotic assist device. St. Jude Medical previously had a commercially available proximal anastomotic system that was marketed both in the United States and Europe; however, St. Jude Medical voluntarily withdrew this product from the market in 2004. Johnson & Johnson has obtained FDA clearance for a proximal system that has been developed by Bypass Inc.

Our C-Port system is the only automated anastomosis device for distal anastomosis cleared for marketing in the United States as of November 10, 2005. The only currently marketed facilitating device for distal anastomosis is the U-Clip, which substitutes clips for sutures, but still requires manual application of typically 12 to 14 individually placed clips per anastomosis by the surgeon.

Currently, the vast majority of anastomoses are performed with sutures and, for the foreseeable future, sutures will continue to be the principal competitor for alternative anastomotic solutions. The sutures used for anastomoses in CABG procedures are far less expensive than automated anastomotic systems, and surgeons, who have been using sutures for their entire careers, may be reluctant to consider alternative technologies, despite potential advantages.

In addition, cardiovascular diseases may also be treated by other methods that do not require anastomoses, including interventional techniques such as balloon angioplasty and use of drug-eluting stents, pharmaceuticals, atherectomy catheters and lasers. Further, technological advances with other therapies for cardiovascular disease such as drugs, local gene therapy or future innovations in cardiac surgery techniques could make other methods of treating this disease more effective or less expensive than CABG procedures.

Our X-Port system, if developed and approved, would compete in the market for femoral artery closure devices. Two large competitors, St. Jude Medical and Abbott Vascular Devices, currently control over 80% of this market. St Jude Medical’s Angioseal vascular closure device, which is licensed from Kensey-Nash, is based on a collagen plug and has the leading market share. Other FDA-cleared products in this market include Abbott Vascular Devices’ suture-based Perclose and nitinol-based StarClose devices and Medtronic’s Angiolink Stapler. In addition to these large existing and potential competitors, there are a number of venture capital-backed private companies that are developing devices and technologies for this market.

Manufacturing

Our headquarters provides space for our manufacturing operations, sterile products manufacturing, packaging, storage and shipping, as well as for our research and development laboratories and general administrative facilities. We believe that our current facilities will be sufficient to meet our manufacturing needs for at least the next two years.

We believe our manufacturing operations are in compliance with regulations mandated by the FDA and the European Union. Our facility is ISO 13485:2003 certified. In connection with our CE mark approval and compliance with European quality standards, our facility was initially certified in June 2002 and has been inspected annually thereafter.

There are a number of critical components and sub-assemblies required for manufacturing the C-Port and PAS-Port systems that we purchase from third-party suppliers. The vendors for these materials are qualified through stringent evaluation and monitoring of their performance over time. We audit our critical component manufacturers on a regular basis and at varied intervals based on the nature and complexity of the components they provide and the risk associated with the components’ failure.

We use or rely upon sole source suppliers for certain components and services used in manufacturing our products, and we utilize materials and components supplied by third parties, with which we do not have any long-term contracts. In recent years, many suppliers have ceased supplying raw materials for use in implantable medical devices. We cannot quickly establish additional or replacement suppliers for certain components or materials, due to both the complex nature of the manufacturing processes employed by our suppliers and the time and effort that may be required to obtain FDA clearance or other regulatory approval to use materials from alternative suppliers. Any significant supply interruption or capacity constraints affecting our facilities or those of our suppliers would affect our ability to manufacture and distribute our products.

Third-Party Reimbursement

Sales of medical products are increasingly dependent in part on the availability of reimbursement from third-party payors such as government and private insurance plans. Currently, payors provide coverage and reimbursement for CABG procedures only when they are medically necessary. Our technology will be used concomitantly in CABG procedures. We realize though that Cardica technologies will bring added costs to medical providers and may not be reimbursed separately by third-party payors at rates sufficient to allow us to sell our products on a competitive and profitable basis.

We believe the majority of bypass graft patients in the United States will be Medicare beneficiaries. Further, private payors often consider Medicare’s coverage and payment decisions when developing their own policies. The Centers for Medicare & Medicaid Services, referred to as CMS, is the agency within the Department of Health and Human Services that administers Medicare and will be responsible for reimbursement decisions for the Cardica devices when used to treat Medicare beneficiaries during CABG surgery.

Once a device has received approval or clearance for marketing by the FDA, there is no assurance that Medicare will cover the device and related services. In some cases, CMS may place certain restrictions on the circumstances in which coverage will be available. In making such coverage determinations, CMS considers, among other things, peer-reviewed publications concerning the effectiveness of the technology, the opinions of medical specialty societies, input from the FDA, the National Institutes of Health, and other government agencies. We cannot assure you that once our products are commercially available, they will be covered by Medicare and other third-party payors. Limited coverage of our products could have a material adverse effect on our business, financial condition and results of operations.

In general, Medicare makes a predetermined, fixed payment amount for its beneficiaries receiving covered inpatient services in acute care hospitals. This payment methodology is part of the inpatient prospective payment system, or IPPS. For acute care hospitals, under IPPS, payment for an inpatient stay is based on diagnosis-related groups, or DRGs, which include reimbursement for all covered medical services and medical products that are provided during a hospital stay. Additionally, a relative weight is calculated for each individual DRG which represents the average resources required to care for cases in that particular DRG relative to the average resources required to treat cases in all DRGs. Generally, DRG relative weights are adjusted annually to reflect changes in medical practice in a budget neutral manner.

CMS has made no decisions with respect to DRG assignment when patients undergo CABG procedures in which our products would be used, and there can be no assurance that the DRG to which such patients will be assigned will result in Medicare payment levels that are considered by hospitals to be adequate to support purchase of our products.

Under current CMS reimbursement policies, CMS offers a process to obtain add-on payment for a new medical technology when the existing DRG prospective payment rate is inadequate. To obtain add-on payment, a technology must be considered “new,” demonstrate substantial improvement in care and exceed certain payment thresholds. Add-on payments are made for no less than two years and no more than three years. We must demonstrate the safety and effectiveness of our technology to the FDA in addition to CMS requirements before add-on payments can be made. Further, Medicare coverage is based on our ability to demonstrate the treatment is “reasonable and necessary” for Medicare beneficiaries. The process involved in applying for additional reimbursement for new medical technologies from CMS is lengthy and expensive. Our products may not be awarded additional or separate reimbursement in the foreseeable future, if at all. Moreover, many private payors look to CMS in setting their reimbursement policies and payment amounts. If CMS or other agencies limit coverage and decrease or limit reimbursement payments for hospitals and physicians, this may affect coverage and reimbursement determinations by many private payors.

Medicare policies allow Medicare contractors discretion to cover items involving Category B investigational devices. However, even with items or services involving Category B devices, Medicare coverage may be denied if any other coverage requirements are not met, for example if the treatment is not medically necessary for the specific Medicare beneficiary. In our conditionally approved IDE, the PAS-Port system has been classified by the FDA as a Category B1 device. To that end, the five planned U.S. investigational sites for our upcoming trial may be able to seek specific CMS reimbursement for use of the PAS-Port.

For classification of physician services, the American Medical Association, referred to as the AMA, has developed a coding system known as the Current Procedural Terminology, or CPT. CPT codes are established by the AMA and adopted by the Medicare program in the Healthcare Common Procedure Coding System, to describe and develop payment amounts for physician services. Physician services are reimbursed by Medicare based on a physician fee schedule whereby payment is based generally on the number of “relative value units” assigned by CMS to the service furnished by the physician. No decision has been made concerning whether existing CPT codes would be appropriate for use in coding anastomosis procedures when our products are used or if new CPT codes and payment are required. We cannot assure you that codes used for submitting claims for anastomosis procedures using our products will result in incremental payment to physicians. CPT codes are used by many other third-party payors in addition to Medicare. Failure by physicians to receive what they consider to be adequate reimbursement for anastomosis procedures in which our products are used could have a material adverse effect on our business, financial condition and results of operations.

Research and Development

As of November 30, 2005, we had 16 employees in our research and development department. We currently have a preclinical program to develop smaller devices designed for endoscopic use and for use with automated surgical robotic systems. Future research and development efforts will involve continued enhancements to and cost reductions for our current C-Port and PAS-Port systems. We are also exploring the development of other products that can be derived from our core technology platform and intellectual property. Research and development expenses for fiscal years ended June 30, 2003, 2004 and 2005 were $6.7 million, $5.8 million and $6.3 million, respectively. We expect research and development efforts and expenses to increase in absolute dollar terms as we enhance the capabilities of our current products and explore new applications and indications for our automated anastomosis technology platform.

Patents and Intellectual Property

We believe our competitive position will depend significantly upon our ability to protect our intellectual property. Our policy is to seek to protect our proprietary position by, among other methods, filing U.S. and foreign patent applications related to our technology, inventions and improvements that are important to the development of our business. As of September 30, 2005, we have 29 issued U.S. patents, 62 additional U.S. patent applications and another six patent applications filed in select international markets. Our issued patents expire between 2018 and 2023.

We also rely upon trade secrets, technical know-how and continuing technological innovation to develop and maintain our competitive position. We typically require our employees, consultants and advisors to execute confidentiality and assignment of inventions agreements in connection with their employment, consulting or advisory relationships with us. There can be no assurance, however, that these agreements will not be breached or that we will have adequate remedies for any breach. Furthermore, no assurance can be given that competitors will not independently develop substantially equivalent proprietary information and techniques or otherwise gain access to our proprietary technology, or that we can meaningfully protect our rights in unpatented proprietary technology.

Patent applications in the United States and in foreign countries are maintained in secrecy for a period of time after filing, which results in a delay between the actual discoveries and the filing of related patent applications and the time when discoveries are published in scientific and patent literature. Patents issued and patent applications filed relating to medical devices are numerous, and there can be no assurance that current and potential competitors and other third parties have not filed or in the future will not file applications for, or have not received or in the future will not receive, patents or obtain additional proprietary rights relating to products, devices or processes used or proposed to be used by us. We are aware of patents issued to third parties that contain subject matter related to our technology. We believe that the technologies we employ in our products and systems do not infringe the valid claims of any such patents. There can be no assurance, however, that third parties will not seek to assert that our devices and systems infringe their patents or seek to expand their patent claims to cover aspects of our products and systems.

The medical device industry in general, and the industry segment that includes products for the treatment of cardiovascular disease in particular, has been characterized by substantial litigation regarding patents and other intellectual property rights. Any such claims, regardless of their merit, could be time-consuming and expensive to respond to and could divert our technical and management personnel. We may be involved in litigation to defend against claims of infringement by other patent holders, to enforce patents issued to us, or to protect our trade secrets. If any relevant claims of third-party patents are upheld as valid and enforceable in any litigation or administrative proceeding, we could be prevented from practicing the subject matter claimed in such patents, or would be required to obtain licenses from the patent owners of each such patent, or to redesign its products, devices or processes to avoid infringement. There can be no assurance that such licenses would be available or, if available, would be available on terms acceptable to us or that we would be successful in any attempt to redesign our products or processes to avoid infringement. Accordingly, an adverse determination in a judicial or administrative proceeding or failure to obtain necessary licenses could prevent us from manufacturing and selling our products, which would have a material adverse effect on our business, financial condition and results

of operations. We intend to vigorously protect and defend our intellectual property. Costly and time-consuming litigation brought by us may be necessary to enforce patents issued to us, to protect trade secrets or know-how owned by us or to determine the enforceability, scope and validity of the proprietary rights of others. See “Risk Factors.”

Government Regulation

The FDA and other regulatory bodies extensively regulate the research, development, manufacture, labeling, distribution and marketing of our products. Our current products are regulated by the FDA as medical devices, and we are required to obtain review and clearance or approval from the FDA prior to commercializing our devices in the United States. As discussed above under the heading “Clinical Trial Summary and Timeline,” we obtained 510(k) clearance for marketing our C-Port system in the United States in November 2005. In addition, we have obtained conditional approval of an IDE for the PAS-Port system from the FDA to study this product in the United States and abroad in a prospective, randomized trial. We cannot assure you that we will obtain clearance or approval from the FDA for the PAS-Port, future iterations of the C-Port system or any other products.

FDA regulations govern nearly all of the activities that we perform, or that are performed on our behalf, to ensure that medical products distributed domestically or exported internationally are safe and effective for their intended uses. The activities that the FDA regulates include the following:


	•	product design, development and manufacture;

	•	product safety, testing, labeling and storage;

	•	pre-clinical testing in animals and in the laboratory;

	•	clinical investigations in humans;


	•	marketing applications, such as 510(k) notifications and PMA applications;


	•	record keeping and document retention procedures;

	•	advertising and promotion;


	•	product marketing, distribution and recalls; and


	•	post-marketing surveillance and medical device reporting, including reporting of deaths, serious injuries, device malfunctions or other adverse events.

FDA’s Premarket Clearance and Approval Requirements. Unless an exemption applies, each medical device distributed commercially in the United States will require either prior 510(k) clearance or premarket approval, referred to as a PMA, from the FDA. The FDA classifies medical devices into one of three classes. Class I devices are subject to only general controls, such as establishment registration and device listing, labeling, medical devices reporting, and prohibitions against adulteration and misbranding. Class II medical devices generally require prior 510(k) clearance before they may be commercially marketed in the United States. The FDA will clear marketing of a medical device through the 510(k) process if the FDA is satisfied that the new product has been demonstrated to be substantially equivalent to another legally marketed device, or predicate, device, and otherwise meets the FDA’s requirements. Class II devices are also subject to general controls and may be subject to performance standards and other special controls. Devices deemed by the FDA to pose the greatest risk, such as life-sustaining, life-supporting or implantable devices, or devices deemed not substantially equivalent to a predicate device, are placed in Class III, generally requiring submission of a PMA supported by clinical trial data.

510(k) Clearance Pathway. To obtain 510(k) clearance, we must submit a notification to the FDA demonstrating that our proposed device is substantially equivalent to a predicate device, i.e., a device that was in commercial distribution before May 28, 1976, a device that has been reclassified from Class III to Class I or Class II, or a 510(k)-cleared device. The FDA’s 510(k) clearance process generally takes from three to 12 months from the date the application is submitted, but can take significantly longer. If the FDA determines that the device, or its intended use, is not substantially equivalent to a previously-cleared device or use, the device is automatically placed into Class III, requiring the submission of a PMA. Any modification to a 510(k)-cleared device that would constitute a major change in its intended use, design or manufacture, requires a new 510(k) clearance and may even, in come circumstances, require a PMA, if the change raises complex or novel scientific issues. The FDA requires every manufacturer to make the determination regarding the need for a new 510(k) submission in the first instance, but the FDA may review any manufacturer’s decision. If the FDA disagrees with a manufacturer’s determination, the FDA can require the manufacturer to cease marketing and/or recall the device until 510(k) clearance or PMA is obtained. If the FDA requires us to seek 510(k) clearance or PMAs for any modifications, we may be required to cease marketing and/or recall the modified device, if already in distribution, until 510(k) clearance or PMA is obtained and we could be subject to significant regulatory fines or penalties. Furthermore, our products could be subject to voluntary recall if we or the FDA determines, for any reason, that our products pose a risk of injury or are otherwise defective. Moreover, the FDA can order a mandatory recall if there is a reasonable probability that our device would cause serious adverse health consequences or death. Delays in receipt or failure to receive clearances or approvals, the loss of previously received clearances or approvals, or the failure to comply with existing or future regulatory requirements could reduce our sales, profitability and future growth prospects.

Premarket Approval Pathway. A PMA must be submitted to the FDA if the device cannot be cleared through the 510(k) process. The PMA process is much more demanding than the 510(k) notification process. A PMA must be supported by extensive data, including but not limited to data obtained from preclinical or clinical studies or relating to manufacturing and labeling to demonstrate to the FDA’s satisfaction the safety and effectiveness of the device.

After a PMA is complete, the FDA begins an in-depth review of the submitted information, which generally takes between one and three years, but may take significantly longer. During this review period, the FDA will typically request additional information or clarification of the information already provided. Also, an advisory panel of experts from outside the FDA may be convened to review and evaluate the application and provide recommendations to the FDA as to the approvability of the device. The FDA may or may not accept the panel’s recommendation. In addition, the FDA will conduct a pre-approval inspection of the manufacturing facility to ensure compliance with Quality System Regulation, or QSR. New PMA applications or PMA supplements are required for significant modifications to the device, including, for example, certain types of modifications to the device’s indication for use, manufacturing process, labeling and design. PMA supplements often require submission of the same type of information as a PMA application, except that the supplement is limited to

information needed to support any changes from the device covered by the original PMA application and may not require as extensive clinical data or the convening of an advisory panel.

Clinical Trials. Clinical trials are generally required to support a PMA application and are sometimes required for 510(k) clearance. To perform a clinical trial in the United States for a significant risk device, prior submission of an application for an IDE to the FDA is required. An IDE amendment must also be submitted before initiating a new clinical study under an existing IDE, such as initiating a pivotal trial following the conclusion of a feasibility trial. The IDE application must be supported by appropriate data, such as animal and laboratory testing results, and any available data on human clinical experience, showing that it is safe to test the device in humans and that the testing protocol is scientifically sound. The animal and laboratory testing must meet the FDA’s good laboratory practice requirements.

The IDE and any IDE supplement for a new trial must be approved in advance by the FDA for a specific number of patients. Clinical trials conducted in the United States for significant risk devices may not begin until the IDE application or IDE supplement is approved by the FDA and the appropriate institutional review boards, or IRBs, overseeing the welfare of the research subjects and responsible for that particular clinical trial. If the product is considered a non-significant risk device under FDA regulations, only the patients’ informed consent and IRB approval are required. Under its regulations, the agency responds to an IDE or an IDE amendment for a new trial within 30 days. The FDA may approve the IDE or amendment, grant an approval with certain conditions, or identify deficiencies and request additional information. It is common for the FDA to require additional information before approving an IDE or amendment for a new trial, and thus final FDA approval on a submission may require more than the initial 30 days. The FDA may also require that a small-scale feasibility study be conducted before a pivotal trial may commence. In a feasibility trial, the FDA limits the number of patients, sites and investigators that may participate. Feasibility trials are typically structured to obtain information on safety and to help determine how large a pivotal trial should be to obtain statistically significant results.

Clinical trials are subject to extensive recordkeeping and reporting requirements. Our clinical trials must be conducted under the oversight of an IRB for the relevant clinical trial sites and must comply with FDA regulations, including but not limited to those relating to good clinical practices. We are also required to obtain the patients’ informed consent in form and substance that complies with both FDA requirements and state and federal privacy and human subject protection regulations. We, the FDA or the IRB may suspend a clinical trial at any time for various reasons, including a belief that the risks to study subjects outweigh the anticipated benefits. Even if a trial is completed, the results of clinical testing may not adequately demonstrate the safety and efficacy of the device or may otherwise not be sufficient to obtain FDA approval to market the product in the United States. Similarly, in Europe the clinical study must be approved by a local ethics committee and in some cases, including studies with high-risk devices, by the ministry of health in the applicable country.

Educational Grants. The FDA permits a device manufacturer to provide financial support, including support by way of grants, to third parties for the purpose of conducting medical educational activities. If these funded activities are considered by the FDA to be independent of the manufacturer, then the activities fall outside the restrictions on off-label promotion to which the manufacturer is subject.

The FDA considers several factors in determining whether an educational event or activity is independent from the substantive influence of the device manufacturer and therefore nonpromotional, including the following:


	•	whether the intent of the funded activity is to present clearly defined educational content, free from commercial influence or bias;

	•	whether the third-party grant recipient and not the manufacturer has maintained control over selecting the faculty, speakers, audience, activity content and materials;

	•	whether the program focuses on a single product of the manufacturer without a discussion of other relevant existing treatment options;


	•	whether there was meaningful disclosure to the audience, at the time of the program, regarding the manufacturer’s funding of the program, any significant relationships between the provider, presenters, or speakers and the supporting manufacturer, and whether any unapproved uses will be discussed; and

	•	whether there are legal, business, or other relationships between the supporting manufacturer and the provider or its employees that could permit the supporting manufacturer to exert influence over the content of the program.

Pervasive and Continuing Regulation. There are numerous regulatory requirements governing the approval and marketing of a product. These include:



	•	product listing and establishment registration, which helps facilitate FDA inspections and other regulatory action;


	•	QSR, which requires manufacturers, including third-party manufacturers, to follow stringent design, testing, control, documentation and other quality assurance procedures during all aspects of the manufacturing process;

	•	labeling regulations and FDA prohibitions against the promotion of products for uncleared, unapproved or off-label use or indication;

	•	clearance or approval of product modifications that could significantly affect safety or efficacy or that would constitute a major change in intended use;

	•	medical device reporting regulations, which require that manufacturers comply with FDA requirements to report if their device may have caused or contributed to an adverse event, a death or serious injury or malfunctioned in a way that would likely cause or contribute to a death or serious injury if the malfunction were to recur;

	•	post-approval restrictions or conditions, including post-approval study commitments;

	•	post-market surveillance regulations, which apply when necessary to protect the public health or to provide additional safety and effectiveness data for the device; and

	•	notices of correction or removal and recall regulations.

Advertising and promotion of medical devices are also regulated by the Federal Trade Commission and by state regulatory and enforcement authorities. Recently, some promotional activities for FDA-regulated products have been the subject of enforcement action brought under healthcare reimbursement laws and consumer protection statutes. In addition, under the federal Lanham Act and similar state laws, competitors and others can initiate litigation relating to advertising claims.

We have registered with the FDA as a medical device manufacturer. The FDA has broad post-market and regulatory enforcement powers. We are subject to unannounced inspections by the FDA to determine our compliance with the QSR, and other regulations, and these inspections may include the manufacturing facilities of our suppliers.

Failure by us or by our suppliers to comply with applicable regulatory requirements can result in enforcement action by the FDA or state authorities, which may include any of the following sanctions:


	•	warning letters, fines, injunctions, consent decrees and civil penalties;

	•	customer notifications, repair, replacement, refunds, recall or seizure of our products;

	•	operating restrictions, partial suspension or total shutdown of production;


	•	delay in processing marketing applications for new products or modifications to existing products;



	•	mandatory product recalls;



	•	withdrawing approvals that have already been granted; and


	•	criminal prosecution.

Fraud and Abuse and False Claims. We are directly and indirectly subject to various federal and state laws governing our relationship with healthcare providers and pertaining to healthcare fraud and abuse, including anti-kickback laws. In particular, the federal healthcare program Anti-Kickback Statute prohibits persons from knowingly and willfully soliciting, offering, receiving or providing remuneration, directly or indirectly, in exchange for or to induce either the referral of an individual, or the furnishing, arranging for or recommending a good or service, for which payment may be made in whole or part under federal healthcare programs, such as the Medicare and Medicaid programs. Penalties for violations include criminal penalties and civil sanctions such as fines, imprisonment and possible exclusion from Medicare, Medicaid and other federal healthcare programs. The Anti-Kickback Statute is broad and prohibits many arrangements and practices that are lawful in businesses outside of the healthcare industry. In implementing the statute, the Office of Inspector General of the U.S. Department of Health and Services, or OIG, has issued a series of regulations, known as the “safe harbors.” These safe harbors set forth provisions that, if all their applicable requirements are met, will assure healthcare providers and other parties that they will not be prosecuted under the Anti-Kickback Statute. The failure of a transaction or arrangement to fit precisely within one or more safe harbors does not necessarily mean that it is illegal or that prosecution will be pursued. However, conduct and business arrangements that do not fully satisfy each applicable element of a safe harbor may result in increased scrutiny by government enforcement authorities, such as the OIG.

The Federal False Claims Act imposes civil liability on any person or entity who submits, or causes the submission of a false or fraudulent claim to the United States Government. Damages under the Federal False Claims Act can be significant and consist of the imposition of fines and penalties. The Federal False Claims Act also allows a private individual or entity with knowledge of past or present fraud on the federal government to sue on behalf of the government to recover the civil penalties and treble damages. The U.S. Department of Justice on behalf of the government has successfully enforced the Federal False Claims Act against pharmaceutical manufacturers. Federal suits have alleged that pharmaceutical manufacturers whose marketing and promotional practices were found to have included the off-label promotion of drugs or the payment of prohibited kickbacks to doctors violated the Federal False Claims Act on the grounds that these prohibited activities resulted in the submission of claims to federal and state healthcare entitlement programs such as Medicaid, resulting in the payment of claims by Medicaid for the off-label use of the drug that was not a use of the drug otherwise covered by Medicaid. Such manufacturers have entered into settlements with the federal government under which they paid amounts and entered into corporate integrity agreements that require, among other things, substantial reporting and remedial actions.

The Federal authorities, and state equivalents, may likewise seek to enforce the False Claims Act against medical device manufacturers. We believe that our marketing practices are not in violation of the Federal False Claims Act or state equivalents, but we cannot assure you that the federal authorities will not take action against us and, if such action were successful, we could be required to pay significant fines and penalties and change our marketing practices. Such enforcement could have a significant adverse effect on our ability to operate.

We engage in a variety of activities that are subject to these laws and that have come under particular scrutiny in recent years by federal and state regulators and law enforcement entities. These activities have included, consulting arrangements with cardiothoracic surgeons, grants for training and other education, grants for research, and other interactions with doctors.

International Regulation. International sales of medical devices are subject to foreign governmental regulations, which vary substantially from country to country. The time required to obtain certification or approval by a foreign country may be longer or shorter than that required for FDA clearance or approval, and the requirements may differ.

The primary regulatory body in Europe is the European Union, which has adopted numerous directives and has promulgated voluntary standards regulating the design, manufacture and labeling of and clinical trials and adverse event reporting for medical devices. Devices that comply with the requirements of a relevant directive will be entitled to bear CE conformity marking, indicating that the device conforms with the essential requirements of the applicable directives and, accordingly, can be commercially distributed throughout the member states of the European Union and other countries that comply with or mirror these directives. The

method for assessing conformity varies depending upon the type and class of the product, but normally involves a combination of self-assessment by the manufacturer and a third-party assessment by a notified body, which is an independent and neutral institution appointed by a country to conduct the conformity assessment. This third-party assessment may consist of an audit of the manufacturer’s quality system and specific testing of the manufacturer’s device. Such an assessment is required for a manufacturer to commercially distribute the product throughout these countries. International Standards Organization, or ISO, 9001 and ISO 13845 certifications are voluntary standards. Compliance establishes the presumption of conformity with the essential requirements for the CE Mark. We have the authorization to affix the CE Mark to the PAS-Port and C-Port devices and to commercialize the devices in the European Union for coronary artery bypass grafting.

In Japan, medical devices must be approved prior to importation and commercial sale by the Ministry of Health, Labor and Welfare, or MHLW. Manufacturers of medical devices outside of Japan must utilize a contractually bound In-Country Caretaker, or ICC, to submit an application for device approval to the MHLW. The MHLW evaluates each device for safety and efficacy. As part of its approval process, the MHLW may require that the product be tested in Japanese laboratories. The approval process for products such as our existing anastomotic products is typically 13 to 14 months. Other medical devices may require a longer review period for approval. Once approved, the manufacturer may import the device into Japan for sale by the manufacturer’s contractually bound importer or distributor.

After a device is approved for importation and commercial sale in Japan, the MHLW continues to monitor sales of approved products for compliance with labeling regulations, which prohibit promotion of devices for unapproved uses and reporting regulations, which require reporting of product malfunctions, including serious injury or death caused by any approved device. Failure to comply with applicable regulatory requirements can result in enforcement action by the MHLW, which may include fines, injunctions, and civil penalties, recall or seizure of our products, operating restrictions, partial suspension or total shutdown of sales in Japan, or criminal prosecution.

We have received approval from the MHLW to distribute our PAS-Port system in Japan. We will be required to submit applications with respect to all new products and product enhancements for review and approval by the MHLW. Our contract with Century, our distributor in Japan, has a multi-year term and is renewable for additional multi-year terms upon mutual agreement of the parties.

In addition to MHLW oversight, the regulation of medical devices in Japan is also governed by the Japanese Pharmaceutical Affairs Law, or PAL. PAL was substantially revised in July 2002, and the new provisions were implemented in stages through April 2005. Revised provisions of the approval and licensing system of medical devices in Japan, which constitutes the core of import regulations, came into effect on April 1, 2005. The revised law changes class categorizations of medical devices in relation to risk, introduces a third-party certification system, strengthens safety countermeasures for biologically derived products, and reinforces safety countermeasures at the time of resale or rental. The revised law also abolishes the ICC system and replaces it with the “primary distributor” system. Under the PAL in effect prior to April 1, 2005, manufacturers of medical devices outside of Japan were required to utilize an ICC to obtain on their behalf approval of each product by the MHLW prior to the sale or distribution of their products in Japan. Under the revised PAL, manufacturers outside of Japan must now appoint a “primary distributor” located in Japan that holds a primary distributor license for medical devices to provide primary distribution services, including conducting quality assurance and safety control tasks, for each product at the time an application for the approval of each such product is submitted to the MHLW. Century Medical serves as the “primary distributor” for Cardica. As an interim measure, an ICC licensed under the PAL in effect prior to April 1, 2005 will be deemed to be the primary distributor under the revised PAL if that ICC had a license to import and distribute the relevant medical devices that was applied for and obtained under the old PAL. We are unable at this time to determine the impact of such changes on our approved products or future products. We do not anticipate that these changes will have a material impact on our existing level of third-party reimbursement for sales of our products in Japan.

Employees

As of November 30, 2005, we had 42 employees, including 16 employees in manufacturing, one employee in sales and marketing, four employees in clinical, regulatory and quality assurance, five employees in general and administrative and 16 employees in research and development. We believe that our future success will depend upon our continued ability to attract, hire and retain qualified personnel. None of our employees is represented by a labor union or party to a collective bargaining agreement, and we believe our employee relations are good.

Facilities

We currently lease approximately 29,000 square feet in Redwood City, California, containing approximately 9,000 square feet of manufacturing space, 7,000 square feet used for research and development and 3,000 square feet devoted to administrative offices. Our facility is leased through August 2008. We believe that our existing facility should meet our needs for at least the next 24 months. Our facility is subject to periodic inspections by state and federal regulatory authorities.

Litigation

We are not party to any material pending or threatened litigation.

MANAGEMENT

Executive Officers and Directors

The following table sets forth certain information concerning our executive officers and directors as of November 30, 2005:


Name	Age		Position

Bernard A. Hausen, M.D., Ph.D.		45	President, Chief Executive Officer, Chief Medical Officer and Director
Robert Y. Newell		57	Vice President, Finance & Operations, Chief Financial Officer
David C. Casal, Ph.D.		51	Vice President, Clinical and Regulatory Affairs
Douglas T. Ellison		42	Vice President, Sales and Marketing
Bryan D. Knodel, Ph.D.		45	Vice President, Research and Development
J. Michael Egan(1)(2)		52	Chairman of the Board
Kevin T. Larkin(3)		56	Director
Richard P. Powers(1)(2)(3)		61	Director
Robert C. Robbins, M.D.(2)		48	Director
John Simon, Ph.D.		62	Director
Stephen A. Yencho, Ph.D.		44	Director
William H. Younger, Jr.(1)(3)		55	Director


(1)	Member of the Audit Committee
(2)	Member of the Compensation Committee

(3)	Member of the Nominating Committee

Bernard A. Hausen, M.D., Ph.D. has been our President and Chief Executive Officer since December 2000. Dr. Hausen co-founded the Company in October 1997 and has served as a director and our Chief Medical Officer since inception. Dr. Hausen received a medical degree from Hannover Medical School in Germany in 1988 and was trained there as a general and cardiothoracic surgeon. Upon completion of his training, he received a Ph.D. degree in Medical Physiology in 1999. From 1996 to 2000, he was employed as a Senior Research Scientist in the Laboratory for Transplantation Immunology of the Department of Cardiothoracic Surgery at Stanford University. Until Dr. Hausen became our full-time employee in October of 2000, he remained responsible for all surgery-related research in that laboratory.

Robert Y. Newell has been our Vice President, Finance, and Chief Financial Officer since March 2003 and was appointed Vice President, Finance and Operations, in July 2005. From January 2000 to February 2003 he was Vice President, Finance and Chief Financial Officer for Omnicell, Inc., a hospital supply and medication management company. Mr. Newell holds a B.A. degree in Mathematics from the College of William & Mary and an M.B.A. degree from the Harvard Business School.

David C. Casal joined us in November 2005 as our Vice President, Clinical and Regulatory Affairs. From October 2004 to November 2005, Mr. Casal was Vice President, Clinical, Regulatory and Quality Affairs of Pulmonx, a medical device company. From February 2003 to October 2004, Mr. Casal was Vice President, Clinical, Regulatory and Quality Affairs of Microgenics, a biotechnology company. From September 1999 to January 2003, Mr. Casal was Vice President, Clinical, Regulatory and Quality Affairs of Intuitive Surgical, a surgical robot company. Mr. Casal holds a B.A. degree in American Diplomatic History, an M.S. degree in Physiology and a Ph.D. degree in Cardiovascular Epidemiology from the University of Minnesota. Additionally, Mr. Casal was a NIH Post-Doctoral Fellow in the Division of Lipid Metabolism at the University of California, San Diego.

Douglas T. Ellison joined us in December 2004 as our Vice President of Sales and Marketing. From June 2004 to December 2004, Mr. Ellison consulted for medical device companies. From June 2001 until June 2004

Mr. Ellison was Vice President of Sales of Artemis Medical, Inc., a medical device company. From December 1997 until June 2001, Mr. Ellison held sales and sales management positions with Heartport, Inc., a medical device company focused on minimally-invasive cardiac surgery. Mr. Ellison holds a B.S.C.E. degree from Purdue University.

Bryan D. Knodel joined Cardica as our Vice President of Research and Development in July 2005. Since January 1998, he has been president of Bryan D. Knodel, Inc., a consulting firm specializing in medical device design and product development. From April 2001 until June 2005, Mr. Knodel consulted for us in product development. From 1992 to 1997, he was a principal engineer with Ethicon Endo-Surgery, a Johnson & Johnson company developing medical devices for less invasive surgery. Mr. Knodel holds B.S., M.S. and Ph.D. degrees in Mechanical Engineering from the University of Illinois.

J. Michael Egan has served as the Chairman of the Board and a director since August 2000. From April 1996 through May 2004, Mr. Egan was President and CEO of Bluebird Development, LLC, a financial partnership with Kobayashi Pharmaceutical Company, an Osaka, Japan-based major distributor of medical devices in Asia. Mr. Egan is a director of several privately held companies and of Western Technology Investment, a registered investment company. Mr. Egan holds a B.A. degree in Business Administration from Colorado College.

Kevin T. Larkin joined our board in December 2005. He has been President, Chief Executive Officer and a director of TherOx, a medical device company, since May 2001. From July 1998 until April 2001, Mr. Larkin was President and Chief Executive Officer of CardioVasc, a medical device company. Mr. Larkin also has held senior sales and marketing management positions with Ventritex, Medtronic and Cordis.

Richard P. Powers has been a director and chairman of our Audit Committee since October 2005. From October 2001 to the present, Mr. Powers has been Vice President and Chief Financial Officer of Corgentech Inc., a biotechnology company. From March 1999 to August 2000, Mr. Powers served as Executive Vice President and Chief Financial Officer of Eclipse Surgical Technologies, Inc., a medical device company. From February 1996 to March 1999, Mr. Powers served as Executive Vice President and Chief Financial Officer of CardioGenesis Corporation, a medical device company. From January 1981 to August 1995, Mr. Powers held a number of senior management positions at Syntex Corporation, a biopharmaceutical company, including Senior Vice President and Chief Financial Officer. Mr. Powers also currently serves on the board of directors of HemoSense Inc., a manufacturer of blood monitoring equipment. Mr. Powers holds a B.S. degree in Accounting from Canisius College and an M.B.A. degree from the University of Rochester, New York.

Robert C. Robbins, M.D. has been a director since January 2001 and has been one of our scientific advisors since October 1997. Dr. Robbins is the Chairman of the Department of Cardiothoracic Surgery at the Stanford University School of Medicine, where he has been a member of the faculty since 1993. Dr. Robbins is also the director of the Stanford Cardiovascular Institute. Previously, Dr. Robbins was a Pediatric Fellow of Cardiothoracic Surgery at Emory University, and Royal Children’s Hospital in Melbourne, Australia. Dr. Robbins is a former guest editor for the Surgical Supplement of Circulation and is a manuscript reviewer for a number of periodicals, including the New England Journal of Medicine and the Annals of Thoracic Surgery. He is also on the editorial board for the Journal of Thoracic and Cardiovascular Surgery. Dr. Robbins is certified by the American Board of Surgery and American Board of Thoracic Surgery. Dr. Robbins holds a B.S. degree from Millsaps College and an M.D. degree from the University of Mississippi Medical Center. Dr. Robbins completed his residency in Cardiothoracic Surgery at Stanford.

John Simon, Ph.D. has been a director since June 2001. Mr. Simon is a Managing Director of the investment banking firm, Allen & Company LLC, where he has been employed for over 25 years. He currently serves on the board of directors for Neurogen Corporation, as well as on the boards of several privately held companies. Mr. Simon holds a B.S. degree in Chemistry from The College of William & Mary, a Ph.D. degree in Chemical Engineering from Rice University, and both an M.B.A. degree in finance and a J.D. degree from Columbia University.

Stephen A. Yencho, Ph.D. has been a director since inception. Dr. Yencho co-founded Cardica in October 1997 with Dr. Hausen. From October 1997 through December 2000, Dr. Yencho was our chief executive officer.

From December 2000 through July 2003, Dr. Yencho was our Chief Technology Officer, and Dr. Yencho provided consulting services to us until February 2004. Since February 2004, Dr. Yencho has been engaged in the development of early stage ventures separate from us. Dr. Yencho holds a B.S. degree in Mechanical Engineering from the University of Illinois and an M.S. degree in Manufacturing Systems Engineering from Stanford University. In addition, Dr. Yencho was sponsored by a Hewlett Packard Fellowship in the Ph.D. program in Precision Machinery Engineering at the University of Tokyo. He holds a Ph.D. degree in Materials Science and Engineering from Stanford University.

William H. Younger, Jr. has been a director since August 2000. Mr. Younger is a managing director of the general partner of Sutter Hill Ventures, a venture capital firm, where he has been employed since 1981. Mr. Younger holds a B.S. degree in Electrical Engineering from the University of Michigan and an M.B.A. degree from Stanford University. Mr. Younger is also a director of Omnicell, Inc., as well as of several privately held companies.

Board Composition

Upon the completion of this offering, we will have an authorized board of directors consisting of eight members. We expect to be compliant with the independence criteria for boards of directors under applicable law at the time this offering is completed, and we will continue to evaluate our compliance with these criteria over time. To the extent we determine necessary, we will seek to appoint additional independent directors.

The amended and restated certificate of incorporation that will be in effect upon the closing of this offering provides that the authorized number of directors may be changed only by resolution of the board of directors.

Voting Agreement

Our current directors have been elected pursuant to a voting agreement that we entered into with some of the holders of our common stock and holders of our preferred stock and related provisions of our certificate of incorporation in effect at the time of their election. The holders of our common stock have designated Messrs. Hausen and Yencho for election to our board of directors. The holders of our convertible preferred stock have designated Messrs. Younger and Simon for election to our board of directors. The holders of our common stock and convertible preferred stock, voting together as a single class on an as-converted basis, have designated Messrs. Egan, Larkin, Powers and Robbins. Upon the completion of this offering, the voting agreement will terminate in its entirety and none of our stockholders will have any special rights regarding the election or designation of board members.

Board Committees

Our board of directors has an audit committee, a compensation committee and a nominating committee.

Audit Committee. Our audit committee currently consists of Richard Powers, as chairman, J. Michael Egan and William Younger. The Committee has designated Richard Powers to be our audit committee financial expert, as currently defined under applicable SEC rules. We expect that the composition of our audit committee will comply with the applicable requirements of the Sarbanes-Oxley Act of 2002 and the rules and regulations of the SEC and Nasdaq at the time of completion of this offering, although we will be required by Nasdaq rules to add one additional independent director to this committee within one year after this offering. We anticipate adding at least one independent director within the required time period, and we will add that member to our audit committee at that time. We intend to continue to evaluate the requirements applicable to us and we will comply with future requirements to the extent they become applicable to us. The functions of our audit committee include, among other things:


	•	appointment, compensation and retention of our independent accountants and oversight of their work;

	•	review of our financial statements and financial reporting and the adequacy of those disclosures;


	•	discussions with management and our independent accountants regarding the quality of accounting principles, reasonableness of significant judgments and estimates, propriety of certain critical accounting policies and the scope and effectiveness of internal controls;

	•	consideration of certain audit adjustments and resolution of any disagreements with our independent accountants regarding financial reporting;

	•	approval of related-party transactions;

	•	pre-approval of audit and non-audit services to be rendered by our independent accountants; and

	•	establishment of procedures for the receipt, retention, and treatment of complaints received by us regarding accounting, internal accounting controls, and auditing matters.

Our independent accountants will regularly meet privately with the audit committee and have unrestricted access to this committee.

Compensation Committee. Our compensation committee currently consists of Robert Robbins as chairman, Richard Powers and J. Michael Egan, and we expect to expand this committee when we obtain the services of additional independent directors. The functions of this committee include:


	•	evaluation of and recommendation to the board for approval of compensation plans and programs, including equity plans;

	•	oversight of our compensation policies, plans and programs, including administration of our equity compensation plans;

	•	review and determination of the compensation to be paid to our officers and directors;

	•	approval of our overall compensation strategy, including review of performance goals and obligations relevant to the compensation of our officers; and

	•	review and approval of the terms of any employment or severance agreements.

Nominating Committee. Our nominating committee currently consists of Richard Powers, as chairman, Kevin Larkin and William Younger. The functions of this committee include:



	•	identifying, reviewing, evaluating and recommending candidates to become members of our board of directors;



	•	reviewing and recommending incumbent directors for reelection;



	•	monitoring the size of our board of directors;



	•	considering recommendations for director nominees submitted by our stockholders and establishing policies and procedures regarding such recommendations;



	•	making any disclosures required by applicable law in the course of exercising its authority;



	•	recommending annually chairmanship and membership of each committee of our board of directors;



	•	conducting an annual self-evaluation; and



	•	periodically reviewing and assessing the adequacy of its charter and recommending changes to our board of directors.

Compensation Committee Interlocks and Insider Participation

None of the members of our compensation committee has at any time been one of our officers or employees. None of our executive officers currently serves, or in the past year has served, as a member of the board of directors or compensation committee of any entity that has one or more executive officers serving on our board of directors or compensation committee. For information with respect to transactions between us and any member of the compensation committee, see “Certain Relationships and Related-Party Transactions.”

Director Compensation

Our non-employee directors are reimbursed for certain of their out-of -pocket expenses incurred in connection with attending board and committee meetings. In the past, we have not provided cash compensation to any director for his or her service as a director, other than an annual payment of $50,000 paid to Mr. Egan for his service as chairman of the Board starting in fiscal 2006. Additionally, we have in the past made loans to Drs. Hausen and Yencho and Mr. Egan that may be considered to have been made at below-market interest rates. These loans have been repaid in full as of the date of this prospectus. These loans are described more fully in “Certain Relationships and Related-Party Transactions.” On October 13, 2005, we granted a fully vested restricted stock award consisting of 3,333 shares to Richard Powers.

Additionally, in the past we have granted options to some of our directors for their service as directors, as follows:


					Exercise
			Number of		Price Per
Name	Date of Grant		Shares		Share

J. Michael Egan		July 21, 2000		196,684	$	1.35
		January 31, 2002		39,337	$	1.35
		March 5, 2003		16,666	$	2.25
		March 24, 2004		16,666	$	2.85
Kevin Larkin		December 15, 2005		13,333	$	9.75
Richard Powers		October 13, 2005		13,333	$	9.00
Robert C. Robbins		April 21, 1998		25,000	$	0.30
		February 26, 2001		6,666	$	1.35
		February 26, 2001		3,333	$	1.35
		January 31, 2002		13,333	$	1.35
		March 24, 2005		25,000	$	2.85
William H. Younger, Jr.		April 12, 1999		2,333	$	0.75

*Total*				*371,684*

Robert Robbins, M.D., is also one of our scientific advisors. Dr. Robbins has received $2,000 in connection with his attending a meeting we had with the FDA. Additionally, in connection with his being a scientific advisor, Dr. Robbins received an option grant exercisable for 3,333 shares of our common stock that is now fully vested. The exercise price of this option is $1.35 per share.

Executive Compensation

The following table sets forth summary information concerning compensation of our chief executive officer and each of our four other most highly compensated executive officers as of the end of the last fiscal year. We refer to these persons as our named executive officers elsewhere in this prospectus.

Summary Compensation Table


		Annual
		Compensation				Long-Term Compensation

						Securities
						Underlying		All Other
Name and Position		Salary		Bonus		Options/SARs		Compensation

Bernard Hausen, M.D., Ph.D.		$	236,250	$	-		-	$	2,925	(1),(2)
	Chief Executive Officer and Chief Medical Officer
Robert Newell			183,000		-		-		1,089	(1)
	Chief Financial Officer and Vice President, Finance and Operations
Douglas Ellison			110,833		86,667		100,000		3,784	(1),(3)
	Vice President of Sales and Marketing
Brian DuBois(4)			160,155		-		-		38,816	(1),(5)
	Former Vice President of Research and Development
Larry Pool(6)			146,559		-		-		36,399	(1),(7)
	Former Vice President of Quality and Regulatory Compliance



(1)	Includes amounts paid for group term life insurance.



(2)	Includes $1,490 paid for life insurance and deemed compensation related to a below-market rate loan described in “Certain Relationships and Related-Party Transactions.”



(3)	Includes $3,500 paid for a car allowance.



(4)	Mr. DuBois’ employment with us terminated on July 1, 2005.



(5)	Includes a severance payment of $38,500.



(6)	Mr. Pool’s employment with us terminated on July 1, 2005.



(7)	Includes a severance payment of $35,438.

Option Grants in Last Fiscal Year

In our fiscal year ended June 30, 2005, referred to as fiscal 2005, we granted options to purchase an aggregate of 148,264 shares of our common stock to our employees, directors and consultants, all of which were granted under our 1997 Equity Incentive Plan.

The following table sets forth certain information with respect to stock options granted to each of our named executive officers during fiscal 2005.


				Individual
				Grants
				Percentage
				of Total							Potential Realizable
				Options							Value at Assumed
	Number of			Granted							Annual Rates of Stock
	Securities			to			Exercise				Price Appreciation for
	Underlying			Employees			Price				Option Term ($) (2)
	Options			in Fiscal			Per		Expiration
Name	Granted			Year (1)			Share		Date		5%		10%

Bernard Hausen, M.D., Ph.D.		-			-			-		-	$	-	$	-
Robert Newell		-			-			-		-		-		-
Douglas Ellison		100,000	(3)		87.3	%	$	2.85		2/1/2015		1,832,563		3,086,865
Brian DuBois		-			-			-		-		-		-
Larry Pool		-			-			-		-		-		-



(1)	Based on options to purchase an aggregate of 114,563 shares granted to employees during fiscal 2005.



(2)	The 5% and 10% assumed annual rates of compounded stock price appreciation are mandated by rules of the SEC, and do not represent our estimate or projection of our future common stock prices. The potential realizable values are calculated based on an assumed initial public offering price of $13.00 per share, the midpoint of the range on the front cover of this prospectus, and assume that (i) the common stock appreciates at the indicated rate for the entire 10-year term of the option, and (ii) the option is exercised at the exercise price and sold on the last day of the option term at the appreciated price. Actual gains, if any, on stock option exercises are dependent on the future performance of our common stock and overall stock market conditions. The amounts reflected in the table may not necessarily be realized.


(3)	Option vests as follows: 25% of the shares subject to the option vest on December 1, 2005, and the remaining shares vest ratably over the following 36 months. Upon a change of control, 50% of the then unvested shares will vest. If within one month prior to or 13 months following a change of control Mr. Ellison’s employment is terminated without cause or Mr. Ellison resigns for good reason, the remaining unvested shares will become immediately and fully vested. See “Management — Change in Control Agreements.”

Aggregated Option Exercises in Last Fiscal Year and Fiscal Year-End Option Values

The following table sets forth certain information concerning the number and value of unexercised options held by each of the named executive officers as of June 30, 2005. No options were exercised by the named executive officers in fiscal 2005. These options have an early-exercise provision that permits exercise of the options prior to full vesting, subject to repurchase of the shares issued on early exercise by us if the executive officer’s employment terminates. The amount described in the column captioned “Value of Unexercised In-The-

Money Options at June 30, 2005” represents the difference between the per share exercise price of stock options and $13.00, which is the midpoint of the range on the front cover of this prospectus.


					Number of Securities				Value of Unexercised
					Underlying Unexercised				In-the-Money Options at
	Number of				Options at June 30, 2005				June 30, 2005
	Shares		Value
Name	Acquired		Realized		Exercisable		Unexercisable		Exercisable		Unexercisable

Bernard Hausen, M.D., Ph.D.		-	$	-		133,333		-	$	1,403,333	$	-
Robert Newell		-		-		32,666		-		347,560
Douglas Ellison		-		-		100,000		-		1,015,000
Brian DuBois(1)		-		-		64,384		-		721,674
Larry Pool(2)		-		-		53,331		-		587,912



(1)	Mr. DuBois’s employment with us terminated on July 1, 2005. As a result, unvested options to purchase 14,297 shares were canceled. As of the date of Mr. Dubois’s termination, taking account of the canceled shares, he had outstanding options to purchase 50,087 shares of common stock, and the value of his unexercised in-the-money options on such date was $624,737.



(2)	Mr. Pool’s employment with us terminated on July 1, 2005. As a result, unvested options to purchase 16,695 shares were canceled. As of the date of Mr. Pool’s termination, taking account of the canceled shares, he had outstanding options to purchase 36,636 shares of common stock, and the value of his unexercised in-the-money options was $411,707.

Benefit Agreement

Dr. Hausen has entered into a benefit agreement that provides that, if at any time Dr. Hausen’s employment is terminated by us without cause or if Dr. Hausen resigns for good reason, we would be obligated to pay Dr. Hausen severance equal to 12 months of salary. Subject only to our obligation to pay this severance amount under the circumstances described, Dr. Hausen’s employment by us is “at will,” which means that either he or we may terminate his employment with us at any time and for any reason or for no reason.

Employee Benefit Plans


	*1997 Equity Incentive Plan*

In November 1997, our board of directors adopted, and our stockholders approved, the 1997 Equity Incentive Plan, referred to as the 1997 Plan. Upon the closing of this offering, the 1997 Plan will terminate so that no further stock awards may be thereafter granted under the 1997 Plan. Although the 1997 Plan will terminate, all outstanding options thereunder will continue to be governed by their existing terms.

Stock Awards. The 1997 Plan provides for the grant of incentive stock options, nonstatutory stock options, restricted stock purchase awards and stock bonus awards, also known collectively as stock awards, which may be granted to employees, including officers, non-employee directors, and consultants.

Share Reserve. As of November 30, 2005, the aggregate number of shares of common stock that may be issued pursuant to stock awards under the 1997 Plan is 1,915,000 shares, of which options to purchase 897,110 shares of common stock were outstanding at a weighted average exercise price of $2.31 per share and 106,655 shares of common stock remained available for future grant.

If a stock award granted under the 1997 Plan expires or otherwise terminates without being exercised in full, the shares of common stock not acquired pursuant to the award become available for subsequent issuance under the 2005 Equity Incentive Plan described below. The shares of common stock that remain available for future

grant under the 1997 Plan immediately prior to its termination will become available for grant under the 2005 Equity Incentive Plan, as described below.

Changes to Capital Structure. In the event that there is a specified type of change in our capital structure, such as a stock split, reorganization, recapitalization, stock dividend, combination of shares or the like, appropriate adjustments will be made to the number of shares and exercise price or strike price, if applicable, of all outstanding stock awards.

Corporate Transactions. In the event of certain significant corporate transactions, such as a sale of substantially all of our assets, a merger or consolidation in which we are not the surviving entity or a reverse merger in which we are the surviving entity but our common stock outstanding immediately prior to the transaction is converted into other property, all outstanding stock awards under the 1997 Plan may be assumed, continued or substituted for by any surviving or acquiring entity (or its parent company). If the surviving or acquiring entity (or its parent company) elects not to assume, continue or substitute for such stock awards, then with respect to any outstanding stock award that has not terminated prior to the effective date of the corporate transaction, the vesting and exercisability provisions of such stock awards will be accelerated in full and such awards will be terminated if not exercised prior to the effective date of the corporate transaction. The completion of this offering will not constitute a change of control, change of capital structure or significant corporate transaction for purposes of our 1997 Plan.

2005 Equity Incentive Plan

In October 2005, our board of directors adopted, subject to stockholder approval, the 2005 Equity Incentive Plan, referred to as the EIP. The EIP will become effective immediately upon the date of the underwriting agreement pertaining to this offering and will terminate on October 12, 2015, unless sooner terminated by our board of directors.

Stock Awards. The EIP provides for the grant of incentive stock options, nonstatutory stock options, stock purchase awards, stock bonus awards, stock appreciation rights, stock unit awards and other forms of equity compensation, referred to collectively as stock awards, which may be granted to employees, including officers, non-employee directors, and consultants. The board of directors or its delegate will, in its sole discretion, determine the criteria that will be used in selecting recipients of receive stock awards under the EIP.

Share Reserve. Following this offering, the aggregate number of shares of common stock that may be issued initially pursuant to stock awards under the EIP is 400,000 shares, plus any shares subject to a stock award granted under the 1997 Plan that expires or otherwise terminates without having been exercised in full following the closing of this offering and any shares that remain available for future grant under the 1997 Plan immediately prior to its termination.

No person may be granted awards covering more than 200,000 shares of common stock under the EIP during any calendar year pursuant to an appreciation-only stock award. An appreciation-only stock award is a stock award whose value is determined by reference to an increase over an exercise or strike price of at least 100% of the fair market value of our common stock on the date of grant. A stock option with an exercise price equal to the value of the stock on the date of grant is an example of an appreciation-only award. This limitation is designed to help assure that any tax deductions to which we would otherwise be entitled upon the exercise of an appreciation-only stock award or upon the subsequent sale of shares purchased under such an award, will not be subject to the $1 million limitation on the income tax deductibility of compensation paid per covered executive officer imposed under Section 162(m) of the Internal Revenue Code.

Shares issued under the EIP may again become available for the grant of new awards under the EIP if shares are:


	•	forfeited to or repurchased by us prior to becoming fully vested;

	•	withheld to satisfy income and employment withholding taxes;

	•	used to pay the exercise price of an option in a net exercise arrangement;


	•	tendered to us to pay the exercise price of an option; of

	•	cancelled pursuant to an exchange or repricing program.

In addition, if a stock award granted under the EIP expires or otherwise terminates without being exercised in full, the shares of common stock not acquired pursuant to the award again become available for subsequent issuance under the EIP. Shares issued under the EIP may be previously unissued shares or reacquired shares we have bought on the market or otherwise. As of the date of this prospectus, no shares of common stock have been issued under the EIP.

Administration. Our board of directors has delegated its authority to administer the EIP to our compensation committee. Subject to the terms of the EIP, our board of directors or an authorized committee, referred to as the plan administrator, determines recipients, dates of grant, the numbers and types of equity awards to be granted and the terms and conditions of the equity awards, including the period of their exercisability and vesting. Subject to the limitations set forth below, the plan administrator will also determine the exercise price of options granted, the purchase price of stock purchase awards and the strike price of stock appreciation rights.

The plan administrator has the authority to:


	•	reduce the exercise price of any outstanding option;

	•	cancel any outstanding option and to grant in exchange one or more of the following:

– new options covering the same or a different number of shares of common stock,

– new stock awards,

– cash; and/or

– other valuable consideration; or


	•	engage in any action that is treated as a repricing under generally accepted accounting principles.

Stock Options. The plan administrator determines the exercise price for a stock option, within the terms and conditions of the EIP and applicable law, provided that the exercise price of an incentive or nonstatutory stock option cannot be less than 100% of the fair market value of our common stock on the date of grant. Options granted under the EIP vest at the rate specified by the plan administrator.

Generally, the plan administrator determines the term of stock options granted under the EIP, up to a maximum of ten years (except in the case of some incentive stock options, as described below). Unless the terms of an optionee’s stock option agreement provide otherwise, if an optionee’s service relationship with us, or any of our affiliates, ceases for any reason other than disability, death or following a change in control, the optionee may exercise any vested options for a period of three months following the cessation of service. If an optionee’s service relationship with us, or any of our affiliates, ceases due to disability or death (or an optionee dies within a specified period following cessation of service), the optionee or a beneficiary may exercise any vested options for a period of 12 months, in the event of disability, and 18 months, in the event of death. In no event, however, may an option be exercised beyond the expiration of its term.

Acceptable consideration for the purchase of common stock issued upon the exercise of a stock option will be determined by the plan administrator and may include (i) cash or check, (ii) a broker-assisted cashless exercise, (iii) the tender of common stock previously owned by the optionee, (iv) a net exercise of the option, (v) a deferred payment arrangement, and (vi) other legal consideration approved by the plan administrator.

Unless the plan administrator provides otherwise, options generally are not transferable except by will, the laws of descent and distribution, or pursuant to a domestic relations order. An optionee may designate a beneficiary, however, who may exercise the option following the optionee’s death.

Tax Limitations on Incentive Stock Option Grants. Incentive stock options may be granted only to our employees. The aggregate fair market value, determined at the time of grant, of shares of our common stock with respect to incentive stock options that are exercisable for the first time by an optionee during any calendar year under all of our stock plans may not exceed $100,000. No incentive stock option may be granted to any person

who, at the time of the grant, owns or is deemed to own stock possessing more than 10% of our total combined voting power or that of any of our affiliates unless the option exercise price is at least 110% of the fair market value of the stock subject to the option on the date of grant and the term of the incentive stock option does not exceed five years from the date of grant.

Stock Purchase Awards. The purchase price for stock purchase awards will not be less than the par value of our common stock. The purchase price for a stock purchase award may be payable:


	•	in cash or by check;

	•	according to a deferred payment arrangement; or

	•	in consideration of the recipient’s past or future services performed for us or our affiliates.

Shares of common stock acquired under a stock purchase award may, but need not, be subject to a share repurchase option in our favor in accordance with a vesting schedule to be determined by the plan administrator. Rights to acquire shares under a stock purchase award may be transferred only upon such terms and conditions as set by the plan administrator.

Stock Bonus Awards. A stock bonus award may be granted in consideration for the recipient’s past or future services performed for us or our affiliates or any other form of legal consideration. Shares of common stock acquired under a stock bonus award may, but need not, be subject to forfeiture to us in accordance with a vesting schedule to be determined by the plan administrator. Rights to acquire shares under a stock bonus award may be transferred only upon such terms and conditions as set by the plan administrator.

Stock Unit Awards. Payment of any purchase price may be made in any form permitted under applicable law; however, we will settle a payment due to a recipient of a stock unit award by cash, delivery of stock, a combination of cash and stock as deemed appropriate by the plan administrator, or in any other form of consideration set forth in the stock unit award agreement. Additionally, dividend equivalents may be credited in respect to shares covered by a stock unit award. Except as otherwise provided in the applicable award agreement, stock units that have not vested will be forfeited upon the participant’s cessation of continuous service for any reason.

Stock Appreciation Rights. The plan administrator determines the strike price for a stock appreciation right. Upon the exercise of a stock appreciation right, we will pay the participant an amount equal to the product of (i) the excess of the per share fair market value of our common stock on the date of exercise over the strike price, multiplied by (ii) the number of shares of common stock with respect to which the stock appreciation right is exercised. A stock appreciation right granted under the EIP vests at the rate specified in the stock appreciation right agreement as determined by the plan administrator.

The plan administrator determines the term of stock appreciation rights granted under the EIP. If a participant’s service relationship with us, or any of our affiliates, ceases, then the participant, or the participant’s beneficiary, may exercise any vested stock appreciation right for three months (or such longer or shorter period specified in the stock appreciation right agreement) after the date such service relationship ends. In no event, however, may an option be exercised beyond the expiration of its term.

Other Equity Awards. The plan administrator may grant other awards related to our common stock. The plan administrator will set the number of shares under the award, the purchase price, if any, the timing of exercise and vesting and any repurchase rights associated with such awards.

Changes to Capital Structure. In the event that there is a specified type of change in our capital structure, such as a merger, consolidation, reorganization, recapitalization, reincorporation, stock dividend, dividend in property other than cash, stock split, liquidating dividend, combination of shares, exchange of shares, change in corporate structure or other transaction not involving the receipt of consideration by us, appropriate adjustments will be made to:


	•	the number of shares reserved under the EIP;

	•	the maximum number of shares by which the share reserve may increase automatically each year;


	•	the maximum number of appreciation-only stock awards that can be granted in a calendar year; and

	•	the number of shares and exercise price or strike price, if applicable, of all outstanding stock awards.

Corporate Transactions. In the event of specified significant corporate transactions, such as a sale of all or substantially all of our assets, a sale of at least 90% of our outstanding securities, a merger in which we are not the surviving entity, or a merger in which we are the surviving entity but our common stock outstanding immediately prior to the transaction is exchanged or converted into other property, all outstanding stock awards under the EIP may be assumed, continued or substituted for by any surviving or acquiring entity (or its parent company). If the surviving or acquiring entity (or its parent company) elects not to assume, continue or substitute for such stock awards, then:


	•	with respect to any such stock awards that are held by individuals whose service with us or our affiliates has not terminated more than three months prior to the effective date of the corporate transaction, the vesting and exercisability provisions of such stock awards will be accelerated in full and such awards will be terminated if not exercised prior to the effective date of the corporate transaction; and

	•	all other outstanding stock awards will terminate if not exercised prior to the effective date of the corporate transaction.

Our board of directors may also provide that the holder of an outstanding stock award not assumed in the corporate transaction will surrender such stock award in exchange for a payment equal to the excess of (i) the value of the property that the optionee would have received upon exercise of the stock award, over (ii) the exercise price otherwise payable in connection with the stock award.

Changes in Control. Our board of directors has the discretion to provide that a stock award under the EIP will immediately vest as to all or any portion of the shares subject to the stock award (i) immediately upon the occurrence of specified change-in -control transactions, whether or not such stock award is assumed, continued or substituted by a surviving or acquiring entity in the transaction, or (ii) in the event a participant’s service with us or a successor entity is terminated actually or constructively within a designated period following the occurrence of specified change in control transactions. Stock awards held by participants under the EIP will not vest on such an accelerated basis unless specifically provided by the participant’s applicable award agreement.

401(k) Plan

We maintain a retirement savings plan, or 401(k) Plan, for the benefit of our eligible employees. Our 401(k) Plan is intended to qualify as a defined contribution arrangement under Sections 401(a), 401(k) and 501(a) of the Internal Revenue Code. Employees eligible to participate in our 401(k) Plan are those employees who have completed one month of service in a plan year and have attained the age of 21. Participants may elect to defer a percentage of their eligible pretax earnings each year up to the maximum contribution permitted by the Internal Revenue Code. All assets of our 401(k) Plan are currently invested, subject to participant-directed elections, in a variety of mutual funds chosen from time to time by us. Distribution of a participant’s vested interest generally occurs upon termination of employment, including by reason of retirement, death or disability.

Change-in -Control Arrangements

Options granted to Dr. Hausen, Mr. Newell, Mr. Casal, Mr. Ellison and Mr. Knodel are subject to accelerated vesting such that 50% of the then-unvested shares subject to the options shall become vested upon a change of control, and 100% of the then-unvested shares subject to the options held by each shall become vested if, within one month prior to or 13 months following a change of control, such officer is terminated without cause or resigns for good reason.

Except as otherwise noted above, all options to purchase common stock issued to our named executive officers may be subject to accelerated vesting upon a change of control, as described in “Management — Employee Benefit Plans.”

CERTAIN RELATIONSHIPS AND RELATED-PARTY TRANSACTIONS

We describe below transactions and series of transactions that have occurred since July 1, 2002 to which we were a party in which:


	•	the amounts involved exceeded or will exceed $60,000; and a

	•	director, executive officer, holder of more than 5% of our common stock or any member of their immediate family had or will have a direct or indirect material interest.

Compensation arrangements with our named executive officers are described under the caption “Management — Executive Compensation.”

Equity Transactions

Since July 1, 2002, the following directors, executive officers, entities affiliated with directors, and other holders of more than 5% of our securities purchased from us securities at the purchase prices or with the exercise prices and in the amounts, and as of the dates, set forth below. Shares purchased by all affiliated persons and entities have been aggregated. For additional details, if any, relating to all shares beneficially owned by each of these purchasers, please refer to the information under the caption “Principal Stockholders.” Each share of preferred stock will convert automatically into one share of common stock upon the closing of this offering.


		Common			Series E
Name		Stock			Preferred Stock

Directors
	J. Michael Egan		33,332	(1)		-

Executive Officers
	Robert Y. Newell		35,666	(2)		-

Other 5% Stockholders
	Guidant Investment Corporation		-			283,688	(3)



(1)	Acquired 16,666 shares pursuant to the exercise of options on May 21, 2003, and 16,666 shares pursuant to the exercise of options on April 30, 2004. The per share exercise prices were $2.25 and $2.85, respectively.



(2)	Acquired 33,333 shares pursuant to the exercise of options on January 15, 2004, and 2,333 shares pursuant to the exercise of options on April 1, 2003. The per share exercise prices were $2.25 and $0.75, respectively.



(3)	Acquired on August 19, 2003, at a per share price of $14.10, in connection with the strategic agreement described below.

Strategic Agreements

Pursuant to an agreement dated August 19, 2003, between us and Guidant Investment Corporation, a California corporation, referred to as Guidant Investment, Guidant Investment loaned to us an aggregate of $10.3 million with simple interest calculated at a rate of 8.75% per annum accruing during the life of the loan that is payable at maturity. In connection with this loan, we granted Guidant Investment a right to negotiate exclusively for our acquisition and also agreed not to enter into any change of control transaction during the period between the signing of the strategic agreement and November 2004. The exclusive negotiation right terminated in November 2004. As of September 30, 2005, the principal and interest outstanding under this loan was $11.9 million. The loan is secured by our assets, including our intellectual property.

Under a distribution agreement dated May 2003 and amended in January 2004 with Guidant Corporation, or Guidant, Guidant distributed our C-Port and PAS-Port products in Europe. This agreement was terminated by Guidant in September 2004. Revenue from Guidant under this agreement was $401,000 and $631,000 in fiscal 2004 and 2005, respectively.

In addition, on December 4, 2003, we entered into a development and supply agreement with Guidant to develop and manufacture an aortic cutter for Guidant’s Heartstring product. Future production of the aortic cutter has been outsourced by Guidant to a third-party manufacturer, and we will receive a modest royalty for each unit sold in the future, but will no longer manufacture the aortic cutter for Guidant. Revenue from Guidant under this agreement was $223,000 and $706,000 in fiscal 2004 and 2005, respectively.

Amended and Restated Investor Rights Agreement

We, Guidant Investment and some of our other preferred stockholders and warrant holders, including stockholders affiliated with members of our board of directors, have entered into an amended and restated investor rights agreement pursuant to which these stockholders will have registration rights with respect to their shares of common stock following this offering. For a further description of this agreement, see “Description of Capital Stock — Registration Rights.” The amended and restated investor rights agreement also provides that we must notify Guidant if we receive a written indication that a third party desires to acquire us or certain core aspects of our technology. Additionally, we must provide Guidant with an opportunity to negotiate a similar transaction, Guidant’s notification and negotiation rights under this agreement will terminate upon the effective date of the registration statement of which this prospectus forms a part. Under the agreement, Guidant has the right to designate a representative to attend all meetings of our board of directors in a non-voting capacity.

Limitations on Liability and Indemnification

Our amended and restated certificate of incorporation provides that the liability of our directors for monetary damages shall be eliminated to the fullest extent permissible under the General Corporation Law of the State of Delaware. This provision does not eliminate a director’s duty of care and, in appropriate circumstances, equitable remedies such as an injunction or other forms of non-monetary relief would remain available. Each director will continue to be subject to liability for any breach of the director’s duty of loyalty to us or our stockholders and for acts or omissions not in good faith or involving intentional misconduct or knowing violations of law, for unlawful payment of dividends or stock repurchases or for any transaction in which the director derived an improper personal benefit. This provision also does not affect a director’s responsibilities under any other laws, such as the federal securities laws or other state or federal laws.

Our amended and restated bylaws provide that we will indemnify our directors and executive officers, and may indemnify our other officers, employees and agents, to the fullest extent permitted by the General Corporation Law of the State of Delaware. Under our amended and restated bylaws, we are also empowered to enter into indemnification agreements with our directors, officers and other agents and to purchase insurance on behalf of any person whom we are required or permitted to indemnify. We have procured and intend to maintain a directors’ and officers’ liability insurance policy that insures such persons against the costs of defense, settlement or payment of a judgment under certain circumstances.

We have entered into an indemnification agreement with Stephen Yencho. Under this agreement, we are required to indemnify Dr. Yencho against all expenses, judgments, fines, settlements and other amounts actually and reasonably incurred in connection with any actual or threatened proceeding, if he may be made a party to such proceeding because he is or was one of our directors or officers. We are obligated to pay these amounts only if Dr. Yencho acted in good faith and in a manner that he reasonably believed to be in, or not opposed to, our best interests. The indemnification agreement also sets forth procedures that will apply in the event of a claim for indemnification. We are also obligated to advance expenses, subject to an undertaking to repay amounts advanced if Dr. Yencho is ultimately determined not to be entitled to indemnification.

There is no pending litigation or proceeding naming any of our directors or officers as to which indemnification is being sought, nor are we aware of any pending or threatened litigation that may result in claims for indemnification by any director or officer.

Loans to Executive Officers and Directors

Certain of our officers and directors had the loans set forth in the two tables below outstanding with us, as of September 30, 2005. These loans were paid in full in October 2005.

Loans Entered Into Prior to January 1, 2003

The loans described in the table below were evidenced by recourse promissory notes and used to purchase the number of shares of our common stock upon the exercise of stock options. The shares purchased upon exercise secured the various loans. Effective January 1, 2003, these loans were amended to increase the principal amounts to the aggregate amounts of principal and interest then due, and the increased principal amounts are set forth in the table above. Also effective January 1, 2003, the interest rates on these loans were reduced to 1.58%, which was below the then-current applicable federal rate, or AFR, for short-term loans with interest that compounds annually. Because the interest rate was below the then-current AFR, the named individuals may be deemed to have compensation equal to the difference between the amount of interest that actually accrued on these loans and the amount of interest that would have accrued had the loans bore interest at the then-current AFR, which amount is shown under the heading “Deemed Compensation.”

In October 2005, each of the named individuals tendered to us shares of our common stock, valued at $9.00 per share (which was the fair value of one share of our common stock on October 13, 2005, as determined in good faith by our board of directors), in full payment of principal and interest due under the applicable loans.


																Outstanding
			Amended		Number of					Largest				Outstanding		Balance as of
			Principal		Shares		Amended			Outstanding		Deemed		Balance as of		the Date of
Officer or	Date of		Amount as of		Purchased		Interest			Balance since		Compensation		September 30,		this
Director	Original Loan		January 1, 2003		with Loan		Rate			July 1, 2004		(1)		2005		Prospectus

J. Michael Egan		August 10, 2000	$	154,365		98,342		1.58	%	$	161,379	$	32,519	$	161,169	$	-
J. Michael Egan		February 28, 2002		55,977		39,337		1.58	%		58,521		13,008		58,445		-
Bernard Hausen		July 12, 2001		75,626		50,000		1.58	%		79,062		16,534		78,959		-
Bernard Hausen		February 28, 2002		116,047		81,550		1.58	%		121,319		26.966		121,162		-
Stephen Yencho		February 28, 2002		11,307		7,812		1.58	%		11,893		3,445		11,878		-


(1)	Amount of deemed compensation has been calculated using an assumed interest rate of 11.58%, which is the rate we believe would have been applicable to these loans had they been made by lending institutions.

Loans Entered Into Following January 1, 2003

The loans described in the table below were evidenced by recourse promissory notes and used to purchase the number of shares of our common stock, indicated in the table below, upon the exercise of stock options. These loans bore interest at rates that may be deemed below market rates. Because the interest rate may be below market rates, the named individuals may be deemed to have compensation equal to the difference between the amount of interest actually accrued on these loans and the amount that would have accrued had the loans bore interest at a market rate, which amount is shown under the heading “Deemed Compensation.” The shares purchased upon exercise secured the various loans. In October 2005, each of the named individuals tendered to us shares of our common stock, valued at $9.00 per share (which was the fair value of one share of our common stock on October 13, 2005, as determined in good faith by our board of directors), in full payment of principal and interest due under the applicable loans.


																Outstanding
					Number of					Largest				Outstanding		Balance as of
					Shares					Outstanding		Deemed		Balance as of		the Date of
Officer or	Date of		Principal		Purchased		Interest			Balance since		Compensation		September 30,		this
Director	Original Loan		Amount		with Loan		Rate			July 1, 2004		(1)		2005		Prospectus

J. Michael Egan		May 21, 2003	$	37,450		16,666		1.58	%	$	38,916	$	9,194	$	38,865	$	-
J. Michael Egan		April 30, 2004		47,450		16,666		1.58	%		48,583		11,648		48,519		-
Stephen Yencho(2)		April 21, 2003		73,416		50,000		1.58	%		76,386		16,534		76,286		-



(1)	Amount of deemed compensation has been calculated using an assumed interest rate of 11.58%, which is the rate we believe would have been applicable to these loans had they been made by lending institutions.



(2)	Loan was not for purchase of shares, but was secured by the shares.

Change of Control Vesting Provisions

Stock options held by our named executive officers and Messrs. Knodel and Casal are subject to accelerated vesting upon a change of control, as described under “Management — Change-in -Control Arrangements.”

Severance Obligations

Dr. Hausen is entitled to severance pay as described under “Management — Employment Agreements.”

Severance and Consulting Agreements with Officers

We entered severance agreements with Messrs. DuBois and Pool and with James Zuegel, another of our officers whose employment with us terminated in July 2005. Pursuant to these agreements, Messrs. DuBois, Pool and Zuegel also executed releases of claims against us, and we paid them each severance equal to three months of their pre-termination base salary. Under these agreements, each is entitled to receive additional payments of up to three months base salary starting in October 2005 unless and until each secures employment, and as of the date of this prospectus, Messrs. DuBois, Pool and Zuegel have secured employment. Additionally, we entered into consulting agreements with each of Messrs. Dubois, Pool and Zuegel under which the post-termination option exercise period for each option they hold was extended from three to 12 months. These consulting agreements each have a term of one year.

Agreements with Allen & Company LLC

Pursuant to a letter of intent dated September 12, 2005, between us and Allen & Company LLC, Allen & Company LLC has agreed to act as underwriters, along with A.G. Edwards & Sons, Inc., on a firm commitment basis in the offering of our common stock to the public at the offering price less the underwriting discounts and commissions set forth on the cover page of this prospectus and described more fully under “Underwriting.” One of our directors, John Simon, is affiliated with Allen & Company LLC. As of November 30, 2005, entities and persons affiliated with Allen & Company Incorporated, including John Simon, owned an aggregate of 969,291 shares of our common stock, including 32,146 shares of common stock issuable upon the exercise of a warrant. Allen & Company Incorporated may be deemed to be an affiliate of Allen & Company LLC.

Under the terms of the letter of intent, we made an initial payment to the underwriters of $25,000 as an advance against out-of -pocket expenses incurred in connection with this offering. Additionally if this offering is terminated, we are obligated to reimburse the underwriters for actual, documented out-of -pocket expenses, including the fees and disbursements of counsel, up to an additional $75,000.

Sutter Hill Loan to Director

Prior to November 30, 2005, one of our directors, Mr. Egan, had an outstanding loan in the principal amount of $154,764 with one of our principal stockholders, Sutter Hill Ventures. This loan had an interest rate of 1.81%, compounded annually, and was made pursuant to a full recourse promissory note entered into on January 1, 2003. The proceeds of the loan were used to purchase shares of our common stock upon the exercise of stock options. The shares purchased upon exercise secured the loan. In November 2005, Mr. Egan tendered to entities affiliated with Sutter Hill Ventures 18,000 shares of Common Stock, valued at $9.00 per share (which was the fair market value of one share of our common stock on October 13, 2005, as determined in good faith by our board of directors) and $974 in full payment of principal and interest due under this loan. Another of our directors, Mr. Younger, is affiliated with Sutter Hill Ventures. As of November 30, 2005, individuals and entities affiliated with Sutter Hill Ventures owned 996,507 shares of our common stock, on an as-converted basis, including 2,333 shares of common stock issuable upon exercise of stock options. See “Principal Stockholders.”

Transactions with a Relative of an Executive Officer

Timothy Knodel is the son of Bryan Knodel, our Vice President of Research and Development. Timothy Knodel is an employee of Bryan D. Knodel, Inc., which has been an independent contractor for us for over four years. We have paid Timothy Knodel $86,900 and $76,950 in the fiscal years ended June 30, 2004 and 2005, respectively, for his services as an independent contractor. Timothy Knodel has been an employee of Bryan D. Knodel, Inc. for nearly eight years as a design engineer and, prior to Bryan Knodel’s joining us as an employee, Bryan Knodel was also an employee of Bryan D. Knodel, Inc. Both Bryan Knodel and Timothy Knodel have provided engineering consulting services to us as part of our relationship with Bryan D. Knodel, Inc. On July 1, 2005, Bryan Knodel joined us as an employee. To continue receiving the engineering consulting services from Timothy Knodel, we continue to retain Bryan D. Knodel, Inc. as a consultant. In this ongoing relationship, Timothy Knodel is the only employee of Bryan D. Knodel, Inc. that provides engineering consulting services to us.

We engage, and may from time to time in the future engage, other relatives of our executive officers and directors to perform services for us. However, except as set forth herein, none of these relationships has involved payments in excess of $60,000 in the fiscal years ended June 30, 2003, 2004, or 2005.

Loan from Affiliate of Director

In March 2000, we entered into, and in December 2002 amended, a Master Loan and Security Agreement with an affiliate of Western Technology Investment, or WTI, of which our director J. Michael Egan is also a director. The amendment provided us with the ability to borrow up to a maximum of $5.0 million in working capital financing and $0.5 million in equipment financing under individual notes payable based upon our financing requirements. In conjunction with this agreement and amendment, we issued various warrants exercisable to purchase an aggregate of 124,369 shares of our preferred stock, valued at $1.0 million to the lender. The value of the warrants was recorded as a discount of the debt.

During fiscal year 2004, we paid in full the entire balance of all notes payable and the associated accrued interest earlier than the contractual maturity dates. As a result of paying the obligations in full early, we recorded a charge in the amount of $1.1 million consisting primarily of issuing to the debt holder a total of 45,745 shares of Series E preferred stock, valued at $14.10 per share, totaling $645,000 to pay for interest due on the notes payable and $460,000 related to the acceleration of the amortization of warrant expense originally recorded as a discount of the debt.

PRINCIPAL STOCKHOLDERS

The following table sets forth certain information with respect to beneficial ownership of common stock as of November 30, 2005 by each of our directors, each of our named executive officers, each person who is known by us to own beneficially more than 5% of our issued and outstanding shares of common stock, assuming conversion of all preferred stock, and by our directors and executive officers as a group.

Beneficial ownership is determined in accordance with the rules of the SEC. The percentage of ownership indicated in the following table is based on 5,949,337 shares of common stock outstanding on November 30, 2005 and 9,449,337 shares of common stock outstanding immediately following the completion of this offering. In computing the number of shares beneficially owned by a person and the percentage ownership of that person, shares of common stock subject to options or warrants held by that person that are currently exercisable or exercisable within 60 days of November 30, 2005 are deemed outstanding, but are not deemed outstanding for computing the percentage ownership of any other person. To our knowledge, except as set forth in the footnotes to this table and subject to applicable community property laws, each person named in the table has sole voting and investment power with respect to the shares set forth opposite such person’s name. Except as otherwise indicated, the address of each of the persons in this table is c/o Cardica, Inc., 900 Saginaw Drive, Redwood City, California 94063.


				Percentage of			Percentage of
				Shares			Shares
				Outstanding			Outstanding
	Number of Shares			Before the			After the
Beneficial Owner	Beneficially Owned			Offering			Offering

Guidant Investment Corporation		1,147,245			19.3	%		12.1%
Entities and Persons Affiliated with Sutter
Hill Ventures		996,507	(1)		16.8			10.6
Allen & Company Incorporated		969,291	(2)		16.3			10.3
Bernard A. Hausen, M.D., Ph.D.		640,368	(3)		10.8			6.8
Brian R. Dubois		60,451	(4)		1.0			*
Douglas T. Ellison		100,000	(5)		1.7			1.1
Robert Y. Newell		99,665	(6)		1.7			1.1
Larry D. Pool		36,635	(7)		*			*
J. Michael Egan		222,311	(8)		3.7			2.4
Kevin Larkin		31,891	(9)		*			*
Richard P. Powers		16,666	(10)		*			*
Robert C. Robbins, M.D.		78,332	(11)		1.3			*
John Simon, Ph.D.		969,291	(12)		16.2			10.2
Stephen A. Yencho, Ph.D.		554,138			9.3			5.9
William H. Younger, Jr.		763,596	(13)		12.8			8.1
All executive officers and directors as a group		3,589,480	(14)		60.3			38.0


	*	Indicates less than 1%.

(1)

Consists of: (a) 671,180 shares held by Sutter Hill Ventures, a California Limited Partnership (Sutter Hill Ventures), (b) 6,538 shares held by Sutter Hill Entrepreneurs’ Fund (AI) L.P. (SHAI), (c) 16,555 shares held by Sutter Hill Entrepreneurs’ Fund (QP) L.P. (SHQP), (d) 232,911 shares held by individuals affiliated with Sutter Hill Ventures and entities affiliated with such individuals, (e) 5,000 shares of Common Stock owned by William H. Younger, one of our directors, (f) 2,333 shares subject to stock options exercisable within 60 days after November 30, 2005 held by Mr. Younger, (g) 37,116 shares held by William H. Younger, Trustee of the Younger Living Trust; (h) 24,874 shares held by William H. Younger, Jr., Trustee, The Younger Living Trust U/ A/ D 1/20/95. Mr. Younger has shared voting and dispositive power with respect to the shares held by William H. Younger, Trustee of the Younger Living Trust and by William H. Younger, Jr., Trustee, The Younger Living Trust U/ A/ D 1/20/95. Mr. Younger, Sutter Hill Ventures, SHAI

and SHQP do not have any voting or dispositive power with respect to the shares held by individuals affiliated with Sutter Hill Ventures and entities affiliated with such individuals referenced under part (d) of this note. Mr. Younger shares voting and dispositive power with respect to the shares held by Sutter Hill Ventures, SHAI and SHQP with the following natural persons: David L. Anderson, G. Leonard Baker, Jr., Tench Coxe, Gregory P. Sands, James C. Gaither, James N. White, Jeffrey W. Bird and David E. Sweet. As a result of the shared voting and dispositive powers referenced herein, each of Sutter Hill Ventures, SHAI, SHQP, and Messrs. Younger and David L. Anderson, G. Leonard Baker, Jr., Tench Coxe, Gregory P. Sands, James C. Gaither, James N. White, Jeffrey W. Bird and David E. Sweet may be deemed to beneficially own the shares held by the Sutter Hill Ventures, SHAI, SHQP. In November 2005, Mr. Egan transferred to entities affiliated with Sutter Hill Ventures an aggregate of 18,000 shares, as described under “Certain Relationships and Related Party Transactions.” The table reflects the effects of this transfer.

(2) Includes 32,146 shares issuable upon the exercise of a warrant that is exercisable within 60 days after November 30, 2005.

(3) Includes 3,398 shares subject to repurchase as of November 30, 2005 and 173,332 shares subject to stock options that are exercisable within 60 days after November 30, 2005.

(4) Includes 50,087 stock options that are exercisable within 60 days after November 30, 2005. As of July 1, 2005, Mr. DuBois is no longer our employee.

(5) Consists of shares subject to stock options that are exercisable within 60 days after November 30, 2005.

(6) Includes 52,666 shares subject to stock options that are exercisable within 60 days of November 30, 2005.

(7) Consists of 36,635 stock options that are exercisable within 60 days after November 30, 2005. As of July 1, 2005, Mr. Pool is no longer our employee.

(8) Includes 15,277 shares subject to repurchase as of November 30, 2005. In November 2005, Mr. Egan transferred to entities affiliated with Sutter Hill Ventures an aggregate of 18,000 shares, as described under “Certain Relationships and Related Party Transactions.” The table reflects the effects of this transfer.

(9) Includes 13,333 shares subject to options granted to Mr. Larkin in December 2005 that are exercisable within 60 days after November 30, 2005.



(10)	Includes 13,333 shares subject to stock options that are exercisable within 60 days after November 30, 2005.



(11)	Includes 73,332 shares subject to stock options that are exercisable within 60 days after November 30, 2005.



(12)	Consists of 937,145 shares held by Allen & Company Incorporated, with which Mr. Simon is affiliated, and the warrants referenced in footnote (2) above.



(13)	Includes all shares referenced under footnote (1) other than the 232,911 shares held by individuals affiliated with Sutter Hill Ventures and entities affiliated with such individuals. In November 2005, Mr. Egan transferred to entities affiliated with Sutter Hill Ventures an aggregate of 18,000 shares, as described under “Certain Relationships and Related Party Transactions.” The table reflects the effects of this transfer.



(14)	Includes 556,130 shares issuable upon exercise of stock options and warrants beneficially owned by all executive officers and directors that are exercisable within 60 days after November 30, 2005, including 95,655 shares issuable upon exercise of stock options held by Bryan Knodel, an executive officer of ours who is not a named executive officer. Also includes 17,567 shares beneficially owned by Mr. Knodel. Does not include shares beneficially owned by named executive officers who are not currently employed by us (See notes 4 and 7). See notes (3), (5), (6), and (8) through (13) above.

DESCRIPTION OF CAPITAL STOCK

The following is a summary of the material terms of our capital stock. For more detail, please see our amended and restated certificate of incorporation and our amended and restated bylaws, which are exhibits to the registration statement of which this prospectus forms a part.

Upon the completion of this offering, we will be authorized to issue up to 50,000,000 shares of common stock, par value $0.001, and up to 5,000,000 shares of undesignated preferred stock, par value $0.001.

General

Outstanding Shares

As of November 30, 2005, we had 167 stockholders, and, after giving effect to the conversion of all outstanding preferred stock into common stock, 5,949,337 shares of common stock issued and outstanding. In addition, as of November, 30, 2005, options to purchase 897,110 shares of common stock were outstanding, and warrants to purchase 156,515 shares of common stock were also outstanding. Based on our outstanding capital stock as of November 30, 2005, upon completion of this offering, there will be 9,449,337 shares of common stock outstanding, assuming no exercise of the underwriters’ over-allotment option or exercise of outstanding warrants or stock options.

Voting Rights

Each holder of our common stock is entitled to one vote for each share on all matters submitted to a vote of the stockholders, including the election of directors. Under our amended and restated certificate of incorporation and amended and restated bylaws, our stockholders will not have cumulative voting rights. As a result, the holders of a majority of the shares of common stock entitled to vote in any election of directors will be able to elect all of the directors standing for election.

Dividends

Subject to limitations under Delaware law and preferences that may be applicable to any then outstanding preferred stock that we may designate and issue in the future, holders of common stock are entitled to receive ratably those dividends, if any, as may be declared from time to time by the board of directors out of legally available funds.

Liquidation

In the event we liquidate, dissolve or wind up, holders of common stock will be entitled to share ratably in the net assets legally available for distribution to stockholders after the payment of all our debts and other liabilities and the satisfaction of any liquidation preference granted to the holders of any then outstanding shares of preferred stock that we may designate and issue in the future.

Rights and Preferences

Holders of common stock have no preemptive, conversion or subscription rights. There are no redemption or sinking fund provisions applicable to our common stock. The rights, preferences and privileges of holders of common stock are subject to, and may be adversely affected by, the rights of the holders of shares of any series of preferred stock that we may designate and issue in the future.

Fully Paid and Nonassessable

All outstanding shares of our common stock are, and all shares of common stock to be issued pursuant to this offering will be, fully paid and nonassessable.

Preferred Stock

Following the offering, our board of directors will have the authority, without further action by our stockholders, to issue up to 5,000,000 shares of preferred stock in one or more series, to establish from time to time the number of shares to be included in each such series, to fix the rights, preferences and privileges of the shares of each wholly unissued series and any qualifications, limitations and restrictions on those shares. Our board of directors may also increase or decrease the number of shares of any series, but not below the number of shares of that series then outstanding, without any further vote or action by our stockholders.

Our board of directors may authorize the issuance of preferred stock with voting or conversion rights that adversely affect the voting power or other rights of the holders of our common stock. The issuance of preferred stock, while providing flexibility in connection with possible acquisitions and other corporate purposes, could, among other things, have the effect of delaying, deterring or preventing a change in control and may adversely affect the market price of the common stock and the voting and other rights of the holders of common stock. After the closing of this offering, no shares of our preferred stock will be outstanding.

Warrants

In connection with equipment leasing and other credit facility arrangements, we have issued to entities affiliated with Venture Lending and Leasing, Inc. warrants to purchase (i) up to an aggregate of 12,270 shares of common stock, with an exercise price of $4.89 per share, (ii) up to an aggregate of 52,082 shares of common stock, with an exercise price of $8.40 per share, and (iii) up to an aggregate of 60,017 shares of common stock, with an exercise price of $11.58 per share. These warrants will expire on March 17, 2010, July 5, 2008 and October 31, 2010, respectively.

In connection with a financing, we have issued to Allen & Company Incorporated a warrant to purchase up to an aggregate of 32,146 shares of common stock, with an exercise price of $11.58 per share. This warrant will expire on June 13, 2009.

These warrants contain customary provisions providing for adjustments of the exercise price and the number of shares of stock underlying the warrant upon the occurrence of any recapitalization, reclassification, stock dividend, stock split, stock combination or similar transactions. Each of these warrants has a net exercise provision under which its holder may, in lieu of payment of the exercise price in cash, surrender the warrant and receive a net amount of shares based on the fair market value of our common stock at the time of exercise of the warrant after deduction of the aggregate exercise price.

Other than one warrant issued to Venture Lending and Leasing, Inc. to purchase 60,017 shares of common stock, the warrants described above provide that they will automatically be “net exercised” upon our sale or acquisition in a transaction in which the consideration received for our common stock is valued at a per-share price in excess of the respective warrant exercise prices and is paid in cash or in securities of a publicly traded company, subject to additional requirements described in the warrants.

Delaware Anti-Takeover Law and Certain Provisions of our Certificate of Incorporation and Bylaws

Delaware Law

We are governed by Section 203 of the Delaware General Corporation Law. In general, Section 203 prohibits a public Delaware corporation from engaging in a “business combination” with an “interested stockholder” for a period of three years after the date of the transaction in which the person became an interested stockholder, unless the business combination is approved in a prescribed manner. A “business combination” includes mergers, asset sales or other transactions resulting in a financial benefit to the stockholder. An “interested stockholder” is a person who, together with affiliates and associates, owns, or within three years did own, 15% or more of the corporation’s outstanding voting stock. These provisions may have the effect of delaying, deterring or preventing a change in control.

Certificate of Incorporation and Bylaws

Our amended and restated certificate of incorporation and bylaws, which will be effective following the completion of this offering, include a number of provisions that may have the effect of deterring hostile takeovers or delaying or preventing changes in control or management, including transactions in which stockholders might receive a premium for their shares or transactions that stockholders might otherwise deem to be in their best interests. As a result, these provisions could adversely affect the price of our common stock. These provisions include the following:



	•	Our board of directors can issue up to 5,000,000 shares of preferred stock, with any rights or preferences, including the right to approve or not approve an acquisition or other change in control, without stockholder approval;


	•	Our amended and restated certificate of incorporation provides that all stockholder actions following the completion of this offering must be effected at a duly called meeting of stockholders and not by written consent, which may make it more difficult for stockholders to take action quickly;

	•	Our bylaws provide that stockholders seeking to present proposals before a meeting of stockholders or to nominate candidates for election as directors at a meeting of stockholders must provide timely notice in writing satisfying specified content requirements;

	•	Our amended and restated certificate of incorporation provides that all vacancies, including any newly created directorships, may, except as otherwise required by law, be filled by the affirmative vote of a majority of our directors then in office, even if less than a quorum. In addition, our amended and restated certificate of incorporation provides that our board of directors may fix the number of directors by resolution;

	•	Our amended and restated certificate of incorporation does not provide for cumulative voting for our directors, the absence of which may make it more difficult for stockholders owning less than a majority of our stock to elect any directors to our board; and

	•	The provisions within our amended and restated certificate of incorporation relating to the corporate actions described above may be amended only with the approval of 66 ² / 3 % of our outstanding voting stock, and our amended and restated bylaws may be amended either by the board of directors or by the approval of 66 ² / 3 % of our outstanding voting stock.

Registration Rights

Demand Registration Rights

Beginning 180 days following the closing of this offering, the holders of an aggregate of 4,254,216 shares of our common stock and the holders of warrants to purchase an aggregate of 156,515 shares of our common stock may require us, upon written request from holders of a majority of these shares, and on not more than three occasions, to file a registration statement under the Securities Act of 1933 with respect to their shares.

Piggyback Registration Rights

Following this offering, if we propose to register any of our securities under the Securities Act of 1933, either for our own account or for the account of other stockholders, these holders of registration rights will be entitled to notice of the registration and will be entitled to include their shares of common stock in the registration statement. These registration rights are subject to specified conditions and limitations, including the right of the underwriters to limit the number of shares included in any such registration under certain circumstances. The holders of these rights have waived their rights to have their shares included in this offering.

Registration on Form S-3

Beginning 12 months following the effective date of this offering, the holders of these registration rights will be entitled, upon their written request, to have such shares registered by us on a Form S-3 registration statement

at our expense, provided that the requested registration has an anticipated aggregate offering size to the public of at least $1,000,000 and that we have not already effected three registrations on Form S-3.

Expenses of Registration

We will pay all expenses relating to any demand, piggyback or Form S-3 registrations, other than underwriting fees, discounts, allowances and commissions, subject to specified conditions and limitations.

Expiration of Registration Rights

The registration rights granted to these holders under the Amended and Restated Investor Rights Agreement will terminate on the third anniversary of this offering. Additionally, as to any holder of registration rights, the holder’s rights under this agreement expire at such time, following this offering, as the holder, together with its affiliates, holds less than 1% of our outstanding stock and all shares of our stock held by the holder, together with its affiliates, may be sold pursuant to Rule 144 during any 90-day period.

Nasdaq National Market Listing

We have applied for quotation of our common stock on The Nasdaq National Market under the symbol “CRDC.”

Transfer Agent and Registrar

Upon the closing of this offering, the transfer agent and registrar for our common stock will be .

SHARES ELIGIBLE FOR FUTURE SALE

Prior to this offering, there has been no public market for our common stock. Market sales of shares or the availability of shares for sale may decrease the market price of our common stock prevailing from time to time. As described below, only a portion of our outstanding shares of common stock will be available for sale shortly after this offering due to contractual and legal restrictions on resale. Nevertheless, sales of substantial amounts of common stock in the public market after these restrictions lapse, or the perception that such sales could occur, could adversely affect the market price of the common stock and could impair our future ability to raise capital through the sale of our equity securities.

We will have 9,449,337 shares of common stock outstanding after the completion of this offering (9,974,337 shares if the underwriters’ over-allotment is exercised in full). Of those shares, the 3,500,000 shares of common stock sold in the offering (4,025,000 shares if the underwriters’ over-allotment option is exercised in full) will be freely transferable without restriction, unless purchased by persons deemed to be our “affiliates” as that term is defined in Rule 144 under the Securities Act. Any shares purchased by an affiliate may not be resold except pursuant to an effective registration statement or an applicable exemption from registration, including an exemption under Rule 144 promulgated under the Securities Act. The remaining 5,949,337 shares of common stock to be outstanding immediately following the completion of this offering are “restricted,” which means they were originally sold in offerings that were not registered under the Securities Act. These restricted shares may only be sold through registration under the Securities Act or under an available exemption from registration, such as provided through Rule 144.

All of our officers, directors and holders of more than 1% of our securities have entered into lock-up agreements pursuant to which they have agreed, subject to limited exceptions, not to offer, sell, or otherwise transfer or dispose of, directly or indirectly, any shares of common stock or securities convertible into or exchangeable or exercisable for shares of common stock for a period of 180 days from the date of this prospectus without the prior written consent of A.G. Edwards & Sons, Inc. After the 180-day lock-up period, these shares may be sold, subject to applicable securities laws. A.G. Edwards & Sons, Inc., in its sole discretion and at any time without notice, may release any or all of the securities subject to the lock-up agreements. When determining whether to release shares from the lock-up agreements, A.G. Edwards & Sons, Inc. will consider, among other factors, the stockholder’s reasons for requesting the release, the number of shares for which the release is being requested and market conditions at the time. There are no agreements between the representatives and any of our affiliates or other stockholders or option holders releasing them from these lock-up agreements prior to the expiration of the 180-day period. The lock-up period may be extended under certain circumstances as more completely described under “Underwriting.”

After the offering, the holders of approximately 4,410,731 shares of our common stock (including 156,515 shares issuable upon exercise of outstanding warrants) will be entitled to registration rights. For more information on these registration rights, see the section captioned “Description of Capital Stock — Registration Rights.”

In general, under Rule 144, as currently in effect, beginning 90 days after the effective date of this offering, a person (or persons whose shares are aggregated), including an affiliate, who has beneficially owned shares of our common stock for one year or more, may sell in the open market within any three-month period a number of shares that does not exceed the greater of:



	•	one percent of the then outstanding shares of our common stock (approximately 94,493 shares immediately after the offering); or


	•	the average weekly trading volume in the common stock on The Nasdaq National Market during the four calendar weeks preceding the sale.

Sales under Rule 144 are also subject to certain limitations on the manner of sale, notice requirements and the availability of our current public information. A person (or persons whose shares are aggregated) who is deemed not to have been our affiliate at any time during the 90 days preceding a sale by him or her and who has beneficially owned his or her shares for at least two years, may sell the shares in the public market under

Rule 144(k) without regard to the volume limitations, manner of sale provisions, notice requirements or the availability of current public information we refer to above.

Any of our employees, officers, directors or consultants who purchased his or her shares before the completion of this offering or who hold options as of that date pursuant to a written compensatory plan or contract are entitled to rely on the resale provisions of Rule 701, which permits non-affiliates to sell their Rule 701 shares without having to comply with the public information, holding period, volume limitation or notice provisions of Rule 144 commencing 90 days after completion of an initial public offering. Neither Rule 144 nor Rule 701 supersedes the contractual obligations of our security holders set forth in the lock-up agreements described above.

Subject to the lock-up agreements, the shares of our common stock that will become eligible for sale without registration pursuant to Rule 144 or Rule 701 under the Securities Act are as follows:


	•	shares will be immediately eligible for sale in the public market without restriction pursuant to Rule 144(k); and

	•	shares will be eligible for sale in the public market under Rule 144 or Rule 701 beginning 90 days after the date of this prospectus, subject to volume, manner of sale, and other limitations under those rules.

Upon completion of this offering, we intend to file a registration statement on Form S-8 under the Securities Act to register shares of common stock reserved for issuance under the 1997 Plan and the EIP, thus permitting the resale of these shares by non-affiliates in the public market without restriction under the Securities Act. This registration statement will become effective immediately upon filing.

UNDERWRITING

Subject to the terms and conditions of the underwriting agreement among us and the underwriters, each underwriter has severally agreed to purchase from us the following respective number of shares of common stock at the offering price less the underwriting discounts and commissions set forth on the cover page of this prospectus.


Underwriter		Shares

A.G. Edwards & Sons, Inc.
Allen & Company LLC
Montgomery & Co., LLC
	Total

The underwriting agreement provides that the obligations of the underwriters are subject to certain conditions precedent and that the underwriters will purchase all such shares of the common stock if any of these shares are purchased. The underwriters are obligated to take and pay for all of the shares of common stock offered hereby, other than those covered by the over-allotment option described below, if any are taken.

The underwriters have advised us that they propose to offer the shares of common stock to the public at the offering price set forth on the cover page of this prospectus and to certain dealers at such price less a concession not in excess of $ per share. The underwriters may allow, and such dealers may re-allow, a concession not in excess of $ per share to certain other dealers. If all the shares are not sold at the initial offering price, the underwriters may change the offering price and other selling terms.

Pursuant to the underwriting agreement, we have granted to the underwriters an option, exercisable for 30 days after the date of this prospectus, to purchase up to 525,000 additional shares of common stock from us at the offering price, less the underwriting discounts and commissions set forth on the cover page of this prospectus, solely to cover over-allotments.

To the extent that the underwriters exercise such option, each underwriter will become obligated, subject to certain conditions, to purchase approximately the same percentage of such additional shares as the number set forth next to the underwriter’s name in the preceding table bears to the total number of shares in the table, and we will be obligated, pursuant to the option, to sell such shares to the underwriters.

We, our directors, senior executive officers and certain stockholders have agreed that during the 180 days after the date of this prospectus, subject to limited exceptions, they will not, without the prior written consent of A.G. Edwards & Sons, Inc., directly or indirectly, issue, sell, offer, agree to sell, grant any option or contract for the sale of, pledge, make any short sale of, maintain any short position with respect to, establish or maintain a “put equivalent option” (within the meaning of Rule 16a-1(h) under the Exchange Act) with respect to, enter into any swap, derivative transaction or other arrangement (whether any such transaction is to be settled by delivery of common stock, other securities, cash or other consideration) that transfers to another, in whole or in part, any of the economic consequences of ownership, or otherwise dispose of, any shares of our common stock (or any securities convertible into, exercisable for or exchangeable for our common stock or any interest therein or any capital stock of our subsidiary). These lock-up agreements will cover approximately shares of our outstanding common stock in the aggregate. A.G. Edwards may, in its sole discretion, allow any of these parties to dispose of common stock or other securities prior to the expiration of the 180-day period. There are, however, no agreements between A.G. Edwards and the parties that would allow them to do so as of the date of this prospectus.

The 180-day restricted period described above is subject to extension such that, in the event that either (1) during the last 17 days of the 180-day restricted period, we issue an earnings release or material news or a material event relating to us occurs or (2) prior to the expiration of the 180-day restricted period, we announce that we will release earnings results during the 16-day period beginning on the last day of the 180-day period, the “lock-up” restrictions described above will, subject to limited exceptions, continue to apply until the

expiration of the 18-day period beginning on the earnings release or the occurrence of the material news or material event.

Prior to the offering, there has been no public market for the common stock. The initial public offering price for the shares of common stock included in this offering has been determined by negotiation among us and the representatives. Among the factors considered in determining the price were:


	•	The history of and prospects for our business and the industry in which we operate;

	•	An assessment of our management;

	•	Our past and present revenues and earnings;

	•	The prospects for growth of our revenues and earnings; and

	•	Currently prevailing conditions in the securities markets, including current market valuations of publicly traded companies which are comparable to us.

The representatives have advised us that they do not intend to confirm sales to any account over which they exercise discretionary authority.

The following table summarizes the discounts and commissions to be paid to the underwriters by us in connection with this offering. These amounts are shown assuming both no exercise and full exercise of the underwriters’ option to purchase additional shares of common stock.

Total

Per Share

No Exercise

Full Exercise

Underwriting discounts paid by us

Total

We expect to incur expenses of approximately $ in connection with this offering.

We have agreed to indemnify the underwriters against certain liabilities, including liabilities under the Securities Act of 1933.

Until the distribution of the common stock is completed, rules of the Securities and Exchange Commission may limit the ability of the underwriters and certain selling group members to bid for and purchase the common stock. As an exception to these rules, the underwriters are permitted to engage in certain transactions that stabilize, maintain or otherwise affect the price of the common stock.

In connection with this offering, the underwriters may engage in stabilizing transactions, over-allotment transactions, syndicate covering transactions and penalty bids in accordance with Regulation M under the Securities Act of 1934.


	•	Stabilizing transactions permit bids to purchase the underlying security so long as the stabilizing bids do not exceed a specified maximum.

	•	Over-allotment transactions involve sales by the underwriters of the shares of common stock in excess of the number of shares the underwriters are obligated to purchase, which creates a syndicate short position. The short position may be either a covered short position or a naked short position. In a covered short position, the number of shares over-allotted by the underwriters is not greater than the number of shares they may purchase in the over-allotment option. In a naked short position, the number of shares involved is greater than the number of shares in the over-allotment. The underwriters may close out any short position by either exercising their over-allotment option and/or purchasing shares of common stock in the open market.

	•	Syndicate covering transactions involve purchases of the shares of common stock in the open market after the distribution has been completed in order to cover syndicate short positions. In determining the source of the shares of common stock to close out the short position, the underwriters will consider, among other things, the price of shares of common stock available for purchase in the open market as compared

to the price at which they may purchase shares of common stock through the over-allotment option. If the underwriters sell more shares of common stock than could be covered by the overallotment option, a naked short position, the position can only be closed out by buying shares of common stock in the open market. A naked short position is more likely to be created if the underwriters are concerned that there could be downward pressure on the price of the shares of common stock in the open market after pricing that could adversely affect investors who purchase in the offering.

• Penalty bids permit representatives to reclaim a selling concession from a syndicate member when the shares of common stock originally sold by the syndicate member are purchased in a stabilizing or syndicate covering transaction to cover syndicate short positions.

Similar to other purchase transactions, the underwriters’ purchases to cover the syndicate short sales may have the effect of raising or maintaining the market price of the shares of common stock or preventing or retarding a decline in the market price of the shares of common stock. As a result, the price of the shares of common stock may be higher than the price that might otherwise exist in the open market.

The underwriters will deliver a prospectus to all purchasers of shares of common stock in the short sales. The purchases of shares of common stock in short sales are entitled to the same remedies under the federal securities laws as any other purchaser of shares of common stock covered by this prospectus.

Passive market making may stabilize or maintain the market price of our common stock at a level above that which might otherwise prevail and, if commenced, may be discontinued at any time.

The underwriters are not obligated to engage in any of the transactions described above. If they do engage in any of these transactions, they may discontinue them at any time.

As of November 30, 2005, Allen & Company Incorporated owned 969,291 shares of our common stock, including 32,146 shares of common stock issuable upon the exercise of a warrant. Additionally, one of our directors, John Simon, is affiliated with Allen & Company LLC. See “Certain Relationships and Related-Party Transactions.”

We have applied for quotation of our common stock on The Nasdaq National Market under the symbol “CRDC.”

From time to time in the ordinary course of their respective businesses, some of the underwriters and their affiliates may in the future engage in commercial banking or investment banking transactions with our affiliates and us.

LEGAL MATTERS

The validity of the shares of common stock offered hereby has been passed upon for us by Cooley Godward LLP. GC&H Investments, LLC, an investment fund affiliated with Cooley Godward LLP, owns an aggregate of 20,641 shares of our common stock, and Cooley Godward LLP owns an aggregate of 4,333 shares of our common stock. Heller Ehrman LLP is counsel for the underwriters in connection with this offering.

EXPERTS

Ernst & Young LLP, independent registered public accounting firm, has audited our financial statements at June 30, 2004 and 2005, and for each of the three years in the period ended June 30, 2005, as set forth in their report included in this prospectus. We have included our financial statements in this prospectus and elsewhere in the registration statement in reliance on Ernst & Young LLP’s report, given on their authority as expert in auditing and accounting.

WHERE YOU CAN FIND MORE INFORMATION

We have filed a registration statement on Form S-1 under the Securities Act with the SEC with respect to the shares of stock we are offering by this prospectus. This prospectus, which is a part of the registration statement, does not include all of the information contained in the registration statement or the exhibits filed therewith. For further information about us and the common stock offered by this prospectus, please see the registration statement and its exhibits. Statements contained in this prospectus as to the contents of any contract or any other document that is filed as an exhibit to the registration statement are not necessarily complete. If a contract or document has been filed as an exhibit to the registration statement, we refer you to the copy of the contract or document that has been filed.

You can read our SEC filings, including the registration statement, over the Internet at the SEC’s web site at www.sec.gov . You may also read and copy any document we file with the SEC at its public reference facilities at 100 F Street, NE, Washington, DC 20549. You may also obtain copies of the documents at prescribed rates by writing to the Public Reference Section of the SEC at 100 F Street, NE, Washington, DC 20549. Please call the SEC at 1-800-SEC-0330 for further information on the operation of the public reference facilities.

Upon completion of this offering, we will become subject to the information and periodic reporting requirements of the Securities Exchange Act and, in accordance therewith, will file periodic reports, proxy statements and other information with the SEC. Such periodic reports, proxy statements and other information will be available for inspection and copying at the public reference room and on the Website of the SEC referred to above. We maintain a website on the worldwide web at cardica.com . The reference to our Web address does not constitute incorporation by reference of the information contained at such site.

Cardica, Inc.

Index to Financial Statements


	Page

Report of Independent Registered Public Accounting Firm		F-2
Balance Sheets		F-3
Statements of Operations		F-6
Statements of Convertible Preferred Stock and Stockholders’ Deficit		F-7
Statements of Cash Flows		F-9
Notes to Financial Statements		F-11

F-1

Report of Independent Registered Public Accounting Firm

The Board of Directors and Stockholders

Cardica, Inc.

We have audited the accompanying balance sheets of Cardica, Inc. as of June 30, 2004 and 2005, and the related statements of operations, convertible preferred stock and stockholders’ deficit, and cash flows for each of the three years in the period ended June 30, 2005. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company’s internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Cardica, Inc. at June 30, 2004 and 2005, and the results of its operations and its cash flows for each of the three years in the period ended June 30, 2005, in conformity with U.S. generally accepted accounting principles.

Palo Alto, California

September 8, 2005

except for Note 13, as to which the date is

December , 2005


	Ernst & Young LLP

The foregoing report is in the form that will be signed upon completion of the reverse stock split described in Note 13 to the financial statements.


	/s/ Ernst & Young LLP

Palo Alto, California

December 15, 2005

F-2

Cardica, Inc.

Balance Sheets

(in thousands, except share and per share data)


								Pro Forma
								Stockholders’
		June 30,						Equity at
						September 30,		September 30,
		2004		2005		2005		2005

						(unaudited)		(unaudited)
Assets
Current assets:
	Cash and cash equivalents	$	2,225	$	1,951	$	1,103
	Short-term investments		14,999		7,000		6,000
	Accounts receivable		58		104		166
	Accounts receivable from related party		131		5		3
	Inventories		470		526		330
	Stockholder note receivable		-		73		73
	Interest receivable from stockholders		-		20		23
	Prepaid expenses and other current assets		138		345		421

Total current assets			18,021		10,024		8,119
Property and equipment, net			1,615		1,611		1,422
Stockholder note receivable			73		-		-
Interest receivable from stockholders			12		1		-
Restricted cash			510		510		510

Total assets		$	20,231	$	12,146	$	10,051


Liabilities, Convertible Preferred Stock and Stockholders’ Deficit
Current liabilities:
	Accounts payable	$	196	$	244	$	376
	Accrued compensation		139		133		136
	Other accrued liabilities		223		431		309
	Accrued clinical trial fees		684		-		-
	Deferred other income-related party		250		-		-
	Current portion of leasehold improvement obligation		127		122		122
	Deferred rent		-		62		80

Total current liabilities			1,619		992		1,023
Deferred rent			174		214		191
Notes payable to related party			10,250		10,250		10,250
Interest payable to related party			539		1,436		1,661
Subordinated convertible note			3,000		3,000		3,000
Leasehold improvement obligation			369		255		225
Other non-current liabilities			27		1		1

F-3


							Pro Forma
							Stockholders’
	June 30,						Equity at
					September 30,		September 30,
	2004		2005		2005		2005

					(unaudited)		(unaudited)
Commitments
Series A convertible preferred stock, $0.001 par value: 227,658 shares authorized, issued and outstanding at June 30, 2004, 2005 and September 30, 2005 (unaudited), aggregate liquidation preference of $683 at June 30, 2004, 2005 and September 30, 2005 (unaudited); no shares outstanding pro forma (unaudited)	$	683	$	683	$	683	$	—
Series B convertible preferred stock, $0.001 par value: 566,667 shares authorized; 528,602 shares issued and outstanding at June 30, 2004, 2005 and September 30, 2005 (unaudited), aggregate liquidation preference of $2,585 at June 30, 2004 and 2005 and September 30, 2005 (unaudited); no shares outstanding pro forma (unaudited)		2,585		2,585		2,585		—
Series C convertible preferred stock, $0.001 par value: 1,833,334 shares authorized; 1,566,311 shares issued and outstanding at June 30, 2004, 2005 and September 30, 2005 (unaudited) aggregate liquidation preference of $13,157 at June 30, 2004, 2005 and September 30, 2005 (unaudited); no shares outstanding pro forma (unaudited)		13,157		13,157		13,157		—
Series D convertible preferred stock, $0.001 par value; 2,166,667 shares authorized; 1,607,324 shares issued and outstanding at June 30, 2004, 2005 and September 30, 2005 (unaudited), aggregate liquidation preference of $18,613 at June 30, 2004, 2005 and September 30, 2005 (unaudited); no shares outstanding pro forma (unaudited)		18,613		18,613		18,613		—
Series E convertible preferred stock, $0.001 par value: 335,334 shares authorized; 329,433 shares issued and outstanding at June 30, 2004, 2005 and September 30, 2005 (unaudited), aggregate liquidation preference of $4,645 at June 30, 2004, 2005 and September 30, 2005 (unaudited); no shares outstanding pro forma (unaudited)		4,645		4,645		4,645		—

F-4


											Pro Forma
											Stockholders’
		June 30,									Equity at
								September 30,			September 30,
		2004			2005			2005			2005

								(unaudited)			(unaudited)
Stockholders’ deficit:
	Common stock, $0.001 par value, 24,060,000 shares authorized, 1,739,989 1,748,960 and 1,752,903 shares issued and outstanding at June 30, 2004, 2005 and September 30, 2005 (unaudited), respectively, and 24,060,000 shares authorized, 6,012,231 shares outstanding pro forma (unaudited)		2			2			2			6
	Additional paid-in capital		2,055			5,202			6,964			46,643
	Deferred stock compensation		-			(431	)		(1,442	)		(1,442	)
	Notes receivable from stockholders		(428	)		(449	)		(454	)		(454	)
	Accumulated deficit		(37,059	)		(48,009	)		(51,053	)		(51,053	)

Total stockholders’ deficit			(35,430	)		(43,685	)		(45,983	)	$	(6,300	)

Total liabilities, convertible preferred stock and stockholders’ deficit		$	20,231		$	12,146		$	10,051

See accompanying notes.

F-5

Cardica, Inc.

Statements of Operations

(in thousands, except per share data)


												Three months
												ended
			Year ended June 30,									September 30,

			2003			2004			2005			2004			2005

												(unaudited)
Net revenue:
	Product revenue, net		$	-		$	212		$	719		$	168		$	161
	Product revenue from related party, net			-			401			1,027			744			7
	Development revenue from related party			-			223			310			265			-

Total net revenue				-			836			2,056			1,177			168
Operating costs and expenses:
	Cost of product revenue (includes related party costs of $1,377, $1,180, $306 and $0 in fiscal 2004, fiscal 2005 and the three months ended September 30, 2004 and 2005, respectively)			-			2,105			2,478			636			627
	Research and development			6,698			5,826			6,289			1,504			1,166
	Selling, general and administrative			1,936			1,809			3,753			594			1,223

		Total operating costs and expenses		8,634			9,740			12,520			2,734			3,016

Loss from operations				(8,634	)		(8,904	)		(10,464	)		(1,557	)		(2,848	)
Interest income				294			209			305			69			72
Interest expense (includes related party interest expense of $539, $897, $226 and $226 in fiscal 2004, fiscal 2005 and the three months ended September 30, 2004 and 2005, respectively)				(885	)		(2,001	)		(1,048	)		(264	)		(264	)
Other income (includes $250 from related party in fiscal 2005)				-			(14	)		257			-			(4	)

Net loss			$	(9,225	)	$	(10,710	)	$	(10,950	)	$	(1,752	)	$	(3,044	)

Basic and diluted net loss per share			$	(7.84	)	$	(8.24	)	$	(7.82	)	$	(1.27	)	$	(2.13	)

Shares used in computing basic and diluted net loss per share				1,176			1,299			1,401			1,384			1,430

Pro forma basic and diluted net loss per share (unaudited)									$	(1.93	)				$	(0.54	)

Shares used in computing pro forma basic and diluted net loss per share (unaudited)										5,660						5,689

See accompanying notes.

F-6

Cardica, Inc.

Statements of Convertible Preferred Stock and Stockholders’ Deficit

(in thousands, except share and per share data)


		Convertible															Notes
		Preferred Stock				Common Stock					Additional			Deferred			Receivable						Total
											Paid-In			Stock			from			Accumulated			Stockholders’
		Shares		Amount		Shares			Amount		Capital			Compensation			Stockholder			Deficit			Deficit

Balance at July 1, 2002			3,929,895	$	35,038		1,418,661		$	2	$	457		$	-		$	(445	)	$	(17,124	)	$	(17,110	)
	Issuance of common stock at $0.30 to $2.25 per share upon exercise of employee stock options for cash		-		-		69,356			-		77			-			-			-			77
	Issuance of common stock to employees at $2.25 per share upon early exercise of stock options for promissory note		-		-		16,666			-		2			-			(2	)		-			-
	Issuance of common stock to non- employees at $1.35 to $2.25 per share for services throughout 2003		-		-		52,142			-		90			-			-			-			90
	Issuance of stock options to non-employees throughout 2003 for services		-		-		-			-		67			-			-			-			67
	Warrants issued in October 2002 in conjunction with notes payable		-		-		-			-		685			-			-			-			685
	Additional Series D convertible preferred stock issuance costs		-		-		-			-		(3	)		-			-			-			(3	)
	Repayment of stockholder notes receivable for cash		-		-		-			-		-			-			67			-			67
	Increase of stockholder notes receivable due to accrued interest which was converted into principal of notes		-		-		-			-		-			-			(40	)		-			(40	)
	Stock-based compensation expense related to variable accounting of certain employee stock options		-		-		-			-		288			-			-			-			288
	Net loss and comprehensive loss		-		-		-			-		-			-			-			(9,225	)		(9,225	)

Balance at June 30, 2003			3,929,895		35,038		1,556,825			2		1,663			-			(420	)		(26,349	)		(25,104	)
	Issuance of common stock at $0.30 to $2.25 per share upon exercise of employee stock options for cash		-		-		160,960			-		200			-			-			-			200
	Issuance of common stock at $2.25 to $2.85 per share upon exercise of stock options for promissory notes		-		-		16,666			-		12			-			(12	)		-			-
	Issuance of common stock to non- employees at $2.25 and $2.85 per share for services throughout 2004		-		-		8,142			-		22			-			-			-			22
	Issuance of stock options to non-employees through 2004 for services		-		-		-			-		127			-			-			-			127
	Issuance of Series E convertible preferred stock at $14.10 per share to related party for cash in August 2003, including issuance costs of $50		283,688		4,000		-			-		(50	)		-			-			-			(50	)
	Issuance of Series E convertible preferred stock at $14.10 per share for prepayment of interest due on notes payable		45,745		645		-			-		-			-			-			-			-
	Repurchase of common stock at $1.35 per share in January 2004		-		-		(2,604	)		-		(4	)		-			4			-			-
	Stock-based compensation expense related to variable accounting of certain employee stock options		-		-		-			-		85			-			-			-			85
	Net loss and comprehensive loss		-		-		-			-		-			-			-			(10,710	)		(10,710	)

Balance at June 30, 2004			4,259,328		39,683		1,739,989			2		2,055			-			(428	)		(37,059	)		(35,430	)
Issuance of common stock at $2.25 to $2.85 per share upon exercise of stock options for promissory notes			-		-		-			-		21			-			(21	)		-			-
Issuance of common stock at $1.35 to $2.85 per share upon exercise of employee stock options for cash			-		-		8,971			-		14			-			-			-			14
Stock-based compensation expense related to variable accounting of certain employee stock options			-		-		-			-		2,009			-			-			-			2,009
Stock-based compensation expense related to modifications of certain employee stock options			-		-		-			-		590			-			-			-			590
Issuance of stock options to non- employees through 2005 for services			-		-		-			-		25			-			-			-			25
Early exercise of stock options no longer subject to repurchase			-		-		-			-		35			-			-			-			35
Deferred stock-based compensation			-		-		-			-		453			(453	)		-			-			-
Amortization of deferred stock-based compensation			-		-		-			-		-			22			-			-			22
Net loss and comprehensive loss			-		-		-			-		-			-			-			(10,950	)		(10,950	)

Balance at June 30, 2005			4,259,328	$	39,683		1,748,960		$	2	$	5,202		$	(431	)	$	(449	)	$	(48,009	)	$	(43,685	)

F-7


Issuance of common stock at $2.25 to $2.85 per share upon exercise of stock options for promissory note (unaudited)	-		-	-			-		5			-			(5	)		-			-
Issuance of common stock at $1.35 to $2.85 per share upon exercise of employee stock options for cash (unaudited)	-		-	8,561			-		14			-			-			-			14
Repurchase of common stock at $1.35 per share in September 2005 (unaudited)	-		-	(4,618	)		-		(6	)		-			-			-			(6	)
Stock-based compensation expense related to variable accounting of certain employee stock options (unaudited)	-		-				-		583			-			-			-			583
Early exercise of stock options no longer subject to repurchase	-		-				-		9			-			-			-			9
Issuance of stock options to non- employee through 2006 for services (unaudited)	-		-				-		38			-			-			-			38
Deferred stock-based compensation (unaudited)	-		-	-			-		1,119			(1,119	)		-			-			-
Amortization of deferred stock-based compensation (unaudited)	-		-	-			-		-			108			-			-			108
Net loss and comprehensive loss (unaudited)	-		-	-			-		-			-			-			(3,044	)		(3,044	)

Balance at September 30, 2005 (unaudited)	4,259,328	$	39,683	1,752,903		$	2	$	6,964		$	(1,442	)	$	(454	)	$	(51,053	)	$	(45,983	)

See accompanying notes.

F-8

Cardica, Inc.

Statements of Cash Flows

(in thousands)


												Three months
												ended
			Year ended June 30,									September 30,

			2003			2004			2005			2004			2005

Operating activities:
Net loss			$	(9,225	)	$	(10,710	)	$	(10,950	)	$	(1,752	)	$	(3,044	)
Adjustments to reconcile net loss to net cash used in operating activities:
	Depreciation and amortization			669			672			850			187			203
	Amortization of debt discount			140			460			-			-			-
	Loss on disposal of property and equipment			-			205			24			-			3
	Amortization of deferred stock-based compensation expense			-			-			22			-			108
	Stock-based compensation on grants of stock options to non-employees			68			127			25			(23	)		38
	Stock-based compensation related to issuance of common shares for consulting services rendered			90			22			-			-			-
	Stock-based compensation on grants of stock options to employees			288			85			2,599			257			583
	Conversion of interest to preferred stock on prepayment of note payable			-			645			-			-			-
	Changes in assets and liabilities:
		Accounts receivable		-			(58	)		(46	)		(4	)		(62	)
		Accounts receivable from related party		-			(131	)		126			(512	)		2
		Prepaid expenses and other current assets		(87	)		42			(207	)		8			(76	)
		Inventories		(160	)		(310	)		(56	)		(6	)		196
		Interest receivable from stockholders		(3	)		(9	)		(9	)		(2	)		(2	)
		Other non-current assets		24			3			-			-			-
		Restricted cash		(500	)		72			-			-			-
		Accounts payable and other accrued liabilities		(270	)		258			(419	)		321			19
		Accrued compensation		44			5			(7	)		(10	)		3
		Deferred rent		-			174			102			26			(5	)
		Deferred other income from related party		-			250			(250	)		-			-
		Leasehold improvement obligation		-			(117	)		(118	)		(26	)		(30	)
		Interest payable to related party		-			539			897			226			226

	Net cash used in operating activities			(8,922	)		(7,776	)		(7,417	)		(1,310	)		(1,838	)
Investing activities:
	Purchases of property and equipment			(757	)		(914	)		(882	)		(313	)		(21	)
	Leasehold improvement reimbursement by landlord			-			118			-			-			-
	Proceeds from sale of equipment			-			-			12			-			3
	Purchases of short-term investments			(16,250	)		(3,089	)		(13,076	)		(4,401	)		(1,000	)
	Proceeds from sales of short-term investments			4,850			2,090			21,075			5,000			2,000

		Net cash (used in) provided by investing activities		(12,157	)		(1,795	)		7,129			286			982

F-9


												Three months
												ended
			Year ended June 30,									September 30,

			2003			2004			2005			2004			2005

Financing activities:
	Proceeds from issuance of convertible preferred stock, net of issuance costs			(3	)		3,950			-			-			-
	Proceeds from issuance of common stock pursuant to the exercise of stock options for cash			42			198			14			6			14
	Repurchase of common stock			-			-			-			-			(6	)
	Proceeds from repayment of stockholder notes receivable			67			-			-			-			-
	Proceeds from early exercise of stock options			-			63			-			-			-
	Issuance of stockholder promissory note			-			(73	)		-			-			-
	Proceeds from notes payable			5,500			-			-			-			-
	Proceeds from notes payable from related party			-			10,250			-			-			-
	Proceeds from subordinated convertible note			3,000			-			-			-			-
	Repayment of principal on notes payable			(3,069	)		(6,272	)		-			-			-

		Net cash provided by financing activities		5,537			8,116			14			6			8

Net decrease in cash and cash equivalents				(15,542	)		(1,455	)		(274	)		(1,018	)		(848	)
Cash and cash equivalents at beginning of period				19,222			3,680			2,225			2,225			1,951

Cash and cash equivalents at end of period			$	3,680		$	2,225		$	1,951		$	1,207		$	1,103

Supplemental disclosures of cash flow information:
	Cash paid for interest		$	745		$	328		$	150		$	38		$	38

Supplemental disclosure of non-cash activities:
	Deferred stock-based compensation		$	-		$	-		$	453		$	70		$	1,119

	Issuance of warrants in conjunction with notes payable		$	140		$	-		$	-		$	-		$	-

	Note receivable from exercise of stock options		$	37		$	47		$	-		$	-		$	-

	Accrued interest converted to principal on modified notes		$	40		$	-		$	-		$	-		$	-

	Leasehold improvements paid for directly by landlord		$	-		$	422		$	-		$	-		$	-

See accompanying notes.

F-10

Cardica, Inc.

Notes to Financial Statements

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)


Note 1.	Organization and Summary of Significant Accounting Policies

Organization

Cardica, Inc. (the “Company”) was incorporated in the state of Delaware on October 15, 1997, as Vascular Innovations, Inc. On November 26, 2001, the Company changed its name to Cardica, Inc. The Company designs, manufactures and markets proprietary automated anastomotic systems used in surgical procedures. The Company’s first product, the PAS-Port system, received the CE Mark for sales in Europe in March 2003, and regulatory approval for sales in Japan in January 2004. The second product, the C-Port system, received the CE Mark for sales in Europe in April 2004 and 510(k) clearance in the United States in November 2005.

Need to Raise Additional Capital

The Company has incurred significant net losses and negative cash flows from operations since its inception. At September 30, 2005, the Company had an accumulated deficit of $51.1 million. At September 30, 2005, management believed that currently available cash, cash equivalents and short-term investments together with existing financing agreements would provide sufficient funds to enable the Company to meet its obligations through at least July 1, 2006. Management plans to continue to finance the Company’s operations with a combination of equity issuances, debt arrangements and in the longer term, product sales and royalties. If adequate funds are not available, the Company may be required to delay, reduce the scope of, or eliminate one or more of its development programs or obtain funds through collaborative arrangements with others that may require the Company to relinquish rights to certain of its technologies, product candidates or products that the Company would otherwise seek to develop or commercialize itself.

Use of Estimates

The preparation of financial statements in conformity with U.S. generally accepted accounting principles generally requires management to make estimates and assumptions that affect the amounts reported in the financial statements. Actual results could differ from these estimates.

Reclassifications

Certain amounts of revenue reported as an offset to research and development expense in the previous fiscal year have been reclassified to conform to the 2005 presentation. Certain balance sheet and cash flow amounts in prior fiscal years have been reclassified to conform to the 2005 presentation. Such reclassifications had no effect on previously reported results of operations, total assets or accumulated deficit.

Unaudited Interim Results

The accompanying balance sheet as of September 30, 2005, the statements of operations and of cash flows for the three months ended September 30, 2004 and 2005 and the statement of stockholders’ equity (deficit) for the three months ended September 30, 2005 are unaudited. The unaudited interim financial statements have been prepared on the same basis as the annual financial statements and, in the opinion of management, reflect all adjustments, which include only normal recurring adjustments, necessary to state fairly the Company’s financial position at September 30, 2005 and results of operations and cash flows for the three months ended September 30, 2004 and 2005. The financial data and other information disclosed in these notes to financial statements related to the three-month periods are unaudited. The results for the three months ended September 30, 2005 are not necessarily indicative of the results to be expected for the fiscal year ending June 30, 2006 or for any other interim period or for any future year.

F-11

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

Unaudited Pro Forma Stockholders’ Equity

The Company has filed a registration statement with the Securities and Exchange Commission to sell shares of its common stock to the public. As of September 30, 2005, if the initial public offering is completed under the terms presently anticipated, all of the Series A, Series B, Series C, Series D, and Series E convertible preferred stock outstanding at the time of the offering will convert into 4,259,328 shares of common stock, assuming a one-for-one conversion ratio. Unaudited pro forma stockholders’ equity, as adjusted for the assumed conversion of the preferred stock, is set forth on the accompanying balance sheets.

Cash and Cash Equivalents

The Company’s cash and cash equivalents are maintained in checking, money market and mutual fund investment accounts. For purposes of the statement of cash flows, the Company considers all highly liquid investments with maturities remaining on the date of purchase of three months or less to be cash equivalents. The carrying amount reported in the balance sheets approximates fair value.

Available-for-Sale Securities

The Company has classified its investments in marketable securities as available-for-sale. Such investments are reported at market value, and unrealized gains and losses, if any, are excluded from earnings and are reported in other comprehensive income (loss) as a separate component of stockholders’ equity until realized. The cost of securities sold is based on the specific-identification method. Interest on securities classified as available-for-sale is included in interest income. The net realized gains and losses on sales of available-for-sale securities were not material in fiscal years 2003, 2004 and 2005 and the three month periods ended September 30, 2004 and 2005.

There are no unrealized gains or losses on available-for-sale securities in the periods presented.

Available-for-sale securities at June 30, 2004 and 2005 and September 30, 2005 consist primarily of auction rate securities. The underlying contractual maturities of the auction rate securities are greater than one year. Although maturities may extend beyond one year, it is management’s intent that these securities will be used for current operations, and therefore, are classified as short-term. The Company’s auction rate securities have settlement dates within at least 35 days from purchase date.

Restricted Cash

Under a facility-operating lease for its facility in Redwood City, California, the Company is required to secure a letter of credit with a restricted cash balance with the Company’s bank. A certificate of deposit of $500,000 has been recorded as restricted cash in the accompanying balance sheets at June 30, 2004 and 2005 related to the letter of credit (see Note 5).

A certificate of deposit of $10,000 has been recorded as restricted cash in the accompanying balance sheets at June 30, 2004 and 2005 related to the deposit on the company credit card.

Fair Value of Financial Instruments

The carrying amounts of certain of the Company’s financial instruments, including cash and cash equivalents and investments, approximate fair value due to their short maturities. Based on borrowing rates currently available to the Company for loans and capital lease obligations with similar terms, the carrying value of the Company’s debt obligations approximates fair value.

F-12

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

Concentrations of Credit Risk and Certain Other Risks

Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash and cash equivalents, available-for-sale securities and accounts receivable. The Company places its cash and cash equivalents and available-for-sale securities with high-credit quality financial institutions. The Company is exposed to credit risk in the event of default by the institutions holding the cash and cash equivalents, and available-for-sale securities to the extent of the amounts recorded on the balance sheet.

The Company sells its products to hospitals in Europe and to distributors in Japan who in turn sells the product to hospitals. The Company does not require collateral to support credit sales. The Company has had no credit losses to date.

One customer individually accounted for 86% of total revenue during the three month period ended September 30, 2004, and 68% of total accounts receivable as of September 30, 2004. One customer individually accounted for 90% of total revenue during the three month period ended September 30, 2005 and 89% of total accounts receivable as of September 30, 2005.

Two customers individually accounted for 65% and 33% of total revenue during the fiscal year ended June 30, 2005, and 4% and 79% of total accounts receivable as of June 30, 2005.

Two customers individually accounted for 75% and 25% of total revenue during the fiscal year ended June 30, 2004, and 69% and 29% of total accounts receivable as of June 30, 2004. The Company had no revenue prior to the fiscal year ended June 30, 2004.

The Company depends upon a number of key suppliers, including single source suppliers, the loss of which would materially harm the Company’s business. Single source suppliers are relied upon for certain components and services used in manufacturing the products. The Company does not have long-term contracts with any of the suppliers; rather, purchase orders are submitted for each order. Because long-term contracts do not exist, none of the suppliers are required to provide the company any guaranteed minimum quantities.

Inventories

Inventories are recorded at the lower of standard cost (which approximates actual cost on a first-in, first-out basis) or market. The Company periodically assesses the recoverability of all inventories, including raw materials, work-in -process and finished goods, to determine whether adjustments for impairment are required. Inventory that is obsolete or in excess of forecasted usage is written down to its estimated realizable value based on assumptions about future demand and market conditions.

Property and Equipment

Property and equipment are stated at cost and depreciated on a straight-line basis over the estimated useful lives of the related assets, which are generally three to five years for all property and equipment categories. Amortization of leasehold improvements is computed using the straight-line method over the shorter of the remaining lease term or the estimated useful life of the related assets. Upon sale or retirement of assets, the costs and related accumulated depreciation and amortization are removed from the balance sheet and the resulting gain or loss is reflected in the statement of operations.

Impairment of Long-Lived Assets

The Company reviews long-lived assets, including property and equipment, for impairment whenever events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable. An impairment loss would be recognized when estimated undiscounted future cash flows expected

F-13

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

to result from the use of the asset and its eventual disposition are less than its carrying amount. Impairment, if any, is assessed using discounted cash flows. Through September 30, 2005, there have been no indications of impairment, and the Company has recorded no such losses.

Revenue Recognition

The Company recognizes revenue in accordance with SEC Staff Accounting Bulletin, or SAB, No. 104, “ Revenue Recognition ”. SAB No. 104 requires that four basic criteria must be met before revenue can be recognized: (1) persuasive evidence of an arrangement exists; (2) title has transferred; (3) the fee is fixed or determinable; and (4) collectibility is reasonably assured. The Company generally uses contracts and customer purchase orders to determine the existence of an arrangement. The Company assesses whether the fee is fixed or determinable based upon the terms of the agreement associated with the transaction. To determine whether collection is probable, the Company assesses a number of factors, including past transaction history with the customer and the creditworthiness of the customer. If the Company determines that collection is not reasonably assured, the recognition of revenue is deferred until collection becomes reasonably assured, which is generally upon receipt of payment. Customers have the right to return products that are defective. There are no other return rights. The Company includes shipping and handling costs in cost of product revenue.

The Company entered into a Development and Supply Agreement with Guidant Corporation for the development and commercialization of an aortic cutter. The Company received advance payments which were classified as deferred revenues-related party on the balance sheet until such time that the Company commenced development activities under the agreement. The Company recognized revenues as determined by its performance under the agreement.

Guidant terminated its distribution agreement with the Company for product sales of the PAS-Port and C-Port systems manufactured by the Company. The Company recognized as product sales related-party the difference between the minimum contractual purchases due from Guidant and actual purchases through the termination date.

Research and Development

Research and development expenses consist of costs incurred for internally sponsored research and development, direct expenses, and research-related overhead expenses. Research and development costs are charged to research and development expense as incurred.

Clinical Trials

The Company accrues and expenses costs for clinical trial activities performed by third parties based upon estimates of the percentage of work completed over the life of the individual study in accordance with agreements established with contract research organizations and clinical trial sites. The Company determines the estimates through discussion with internal clinical personnel and outside service providers as to progress or stage of completion of trials or services and the agreed upon fee to be paid for such services. Costs of setting up clinical trial sites for participation in the trials are expensed immediately as research and development expenses. Clinical trial site costs related to patient enrollment are accrued as patients are entered into the trial and reduced by any initial payment made to the clinical trial site when the first patient is enrolled.

Income Taxes

The Company utilizes the liability method of accounting for income taxes as required by SFAS No. 109, Accounting for Income Taxes . Under this method, deferred tax assets and liabilities are determined based on

F-14

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

differences between financial reporting and tax reporting bases of assets and liabilities and are measured using enacted tax rates and laws that are expected to be in effect when the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized.

Segments

The Company operates in one segment. Management uses one measurement of profitability and does not segregate its business for internal reporting. All long-lived assets are maintained in the United States.

Net Loss per Common Share

Basic net loss per share is calculated by dividing the net loss by the weighted-average number of common shares outstanding for the period less the weighted average unvested common shares subject to repurchase and without consideration for potential common shares. Diluted net loss per share is computed by dividing the net loss by the weighted-average number of common shares outstanding for the period less the weighted average unvested common shares subject to repurchase and dilutive potential common shares for the period determined using the treasury-stock method. For purposes of this calculation, preferred stock, options and warrants to purchase stock are considered to be potential common shares and are only included in the calculation of diluted net loss per share when their effect is dilutive.

The unaudited pro forma basic and diluted net loss per share calculations assume the conversion of all outstanding shares of preferred stock into shares of common stock using the as-if-converted method as of June 30, 2005 and September 30, 2005 or the date of issuance, if later (in thousands, except per share data).


										Three months
										ended
	Year ended June 30,									September 30,

	2003			2004			2005			2004			2005

										(unaudited)
Historical
Numerator:
Net loss	$	(9,225	)	$	(10,710	)	$	(10,950	)	$	(1,752	)	$	(3,044	)

Denominator:
Weighted-average common shares outstanding		1,483			1,640			1,747			1,741			1,753
Less: Weighted-average unvested common shares subject to repurchase		(184	)		(119	)		(73	)		(98	)		(35	)
Less: Vested common shares outstanding exercised with promissory notes subject to variable accounting		(123	)		(222	)		(273	)		(259	)		(288	)

Denominator for basic and diluted net loss per share		1,176			1,299			1,401			1,384			1,430

Basic and diluted net loss per share	$	(7.84	)	$	(8.24	)	$	(7.82	)	$	(1.27	)	$	(2.13	)

F-15

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)


								Three months
								ended
	Year ended June 30,							September 30,

	2003		2004		2005			2004		2005

								(unaudited)
Pro forma
Numerator:
Net loss					$	(10,950	)			$	(3,044	)

Denominator:
Shares used above						1,401					1,430
Pro forma adjustments to reflect assumed weighted-average effect of conversion of preferred stock (unaudited)						4,259					4,259

Shares used to compute pro forma basic and diluted net loss per share (unaudited)						5,660					5,689

Pro forma basic and diluted net loss per share (unaudited)					$	(1.93	)			$	(0.54	)

Outstanding securities not included in historical diluted net loss per share calculation
Convertible preferred stock		3,930		4,259		4,259			4,259		4,259
Options to purchase common stock		690		655		766			650		900
Vested common shares outstanding exercised with promissory notes subject to variable accounting		123		222		273			259		288
Warrants to purchase common stock and preferred stock		157		157		157			157		157

		4,900		5,293		5,455			5,325		5,604

Stock-Based Compensation

The Company has elected to follow the intrinsic-value method in accordance with Accounting Principles Board (“APB”) Opinion No. 25, Accounting for Stock Issued to Employees (“APB 25”), and related interpretations, including Financial Accounting Standards Board Interpretation No. 44, Accounting for Certain Transactions involving Stock Compensation , in accounting for its employee stock options. Under APB 25, no compensation expense is recorded for stock option grants to employees with an exercise price equal to the estimated fair value of the underlying stock as determined by the Company’s Board of Directors at the date of grant. The Company has adopted the disclosure-only provisions of Statement of Financial Accounting Standards (“SFAS”) No. 123, Accounting for Stock-Based Compensation (“SFAS 123”), as amended by SFAS 148, Accounting for Stock-Based Compensation — Transition and Disclosure.

Options granted to non-employees, including lenders and consultants, are accounted for in accordance with the provisions of SFAS No. 123 and Emerging Issues Task Force (“EITF”) Consensus 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 applies the Black-Scholes method to determine the estimated fair value of such

F-16

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

awards, which are periodically remeasured as they vest. The resulting value is recognized as an expense over the period of services received or the term of the related financing.

During the fiscal year ended June 30, 2005 and three month period ended September 30, 2005, certain stock options were granted with exercise prices that were below the estimated fair value of the common stock at the date of grant. In accordance with APB Opinion No. 25, a deferred stock-based compensation expense of $287,000 was recorded during the fiscal year ended June 30, 2005 and $1.1 million during the three month period ended September 30, 2005. The deferred stock compensation will be amortized over the related vesting terms of the options. The Company recorded a deferred stock-based compensation expense of $22,000 for the fiscal year ended June 30, 2005 and $108,000 for the three months ended September 30, 2005. The Company also records deferred stock compensation resulting from variable accounting for options exercises with non-recourse promissory notes. Deferred stock compensation related to these notes, representing compensation related to unvested options, was $166,000 as of June 30, 2005 and $202,000 as of September 30, 2005.

The fair value of the common stock for options granted through September 30, 2005, was originally determined by the Company’s board of directors, with input from management. The Company did not obtain contemporaneous valuations by an unrelated valuation specialist. Subsequently, the Company reassessed the valuations of common stock relating to option grants during the fiscal year ended June 30, 2005 and for the three-month period ended September 30, 2005. The Company granted stock options with an exercise price of $2.85 during the fiscal year ended June 30, 2005 and for the three-month period ended September 30, 2005. In addition, the Company determined that the reassessed fair value of its common stock increased from $2.85 to $7.50 per share during the fiscal year ended June 30, 2005 and increased from $7.50 to $9.00 per share during for the three-month period ended September 30, 2005.

As of September 30, 2005, the expected future amortization expense for deferred stock compensation during each of the following periods is as follows (in thousands):


Fiscal year ending June 30,
2006 (remaining)	$	345
2007		389
2008		364
2009		320
2010		24

	$	1,442

F-17

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

The following table illustrates the effect on the Company’s net loss if the Company had applied the fair value recognition provisions of SFAS 123 to stock-based employee compensation (in thousands, except per share data):


											Three months
											ended
		Year ended June 30,									September 30,

		2003			2004			2005			2004			2005

											(unaudited)
Net loss as reported		$	(9,225	)	$	(10,710	)	$	(10,950	)	$	(1,752	)	$	(3,044	)
Add: stock-based employee compensation expense included in net loss as reported			288			85			2,621			257			691
Less: total stock-based employee compensation determined under the fair-value method for all awards			(56	)		(56	)		(89	)		(14	)		(78	)

Pro forma net loss		$	(8,993	)	$	(10,681	)	$	(8,418	)		(1,509	)		(2,431	)

Net loss per share:
	Basic and diluted — as reported	$	(7.84	)	$	(8.24	)	$	(7.82	)	$	(1.27	)	$	(2.13	)

	Basic and diluted — pro forma	$	(7.65	)	$	(8.22	)	$	(6.00	)	$	(1.09	)	$	(1.70	)

The resulting effect on the net loss pursuant to SFAS 123 is not likely to be representative of the effects on net loss and loss per share pursuant to SFAS 123 in future years, since future years are likely to include additional grants.

The fair value of these options was estimated at the date of grant using the minimum-value method with the following weighted-average assumptions:

Three months

ended

Year ended June 30,

September 30,

2003

2004

2005

2004

2005

(unaudited)

Risk-free interest rate

2.96%

2.86%

3.51%

3.21%

4.01%

Dividend yield

0.00%

Weighted-average expected life

4 years

Recent Accounting Pronouncements

In March 2004, the EITF reached a consensus on EITF No. 03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments . EITF No. 03-1 provides guidance regarding disclosures about unrealized losses on available-for-sale debt and equity securities accounted for under SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities . The guidance for evaluating whether an investment is other-than-temporarily impaired should be applied in other-than-temporary impairment evaluations made in reporting periods beginning after June 15, 2004. In September 2004, the EITF delayed the effective date for the measurement and recognition guidance. We are in the process of evaluating the effect of adopting the measurement and recognition provisions of EITF No. 03-1.

F-18

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

In December 2004, the FASB issued SFAS 123(R), which is a revision of SFAS No. 123. SFAS 123(R) supersedes APB No. 25, and amends SFAS No. 95, Statement of Cash Flows. Generally, the approach in SFAS 123(R) is similar to the approach described in SFAS No. 123. However, SFAS 123(R) requires all share-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on their fair values. Under SFAS 123(R), pro forma disclosure is no longer an alternative. The Company is required to apply the prospective transition method no later than July 1, 2007 or upon becoming a public company. The Company must continue to account for any equity awards outstanding at the required effective date using the accounting principles originally applied to those awards (e.g., the provisions of Opinion 25 and its related interpretative guidance). As permitted by SFAS 123, the Company currently accounts for share-based payments to employees using APB 25’s intrinsic value method and, as such, generally recognizes no compensation cost for employee stock options. Accordingly, the adoption of SFAS 123(R)’s fair value method will have a significant impact on the Company’s result of operations, although it will have no impact on its overall financial position. The impact of adoption of SFAS 123(R) cannot be predicted at this time because it will depend on levels of share-based payments granted in the future.

In November 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 151, Inventory Costs, an amendment of ARB No. 43, Chapter 4 . SFAS No. 151 clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs and wasted material. SFAS No. 151 is effective for inventory costs incurred during fiscal years beginning in the Company’s first quarter of fiscal year 2006. The Company does not believe the adoption of SFAS No. 151 will have a material effect on its financial position, results of operations or cash flows.


Note 2.	Short-Term Investments

Short-term investments consist of auction rate preferred securities and are summarized as follows (in thousands):


	June 30,
					September 30,
	2004		2005		2005

					(unaudited)
Fair market value	$	14,999	$	7,000	$	6,000
Cost basis		14,999		7,000		6,000

Unrealized gain (loss)	$	-	$	-	$	-

Contractual maturities or settlement dates of securities at June 30, 2004 and 2005 and September 30, 2005 (unaudited) are within one year.


Note 3.	Inventories

Inventories consisted of the following (in thousands):


	June 30,
					September 30,
	2004		2005		2005

					(unaudited)
Raw materials	$	348	$	280	$	260
Work in progress		17		194		65
Finished goods		105		52		5

	$	470	$	526	$	330

F-19

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)


Note 4.	Property and Equipment

Property and equipment consisted of the following (in thousands):


	June 30,
							September 30,
	2004			2005			2005

							(unaudited)
Computer hardware and software	$	362		$	375		$	377
Office furniture and equipment		144			154			154
Machinery and equipment		1,899			2,832			2,835
Leasehold improvements		461			461			461
Construction in process		174			11			11

		3,040			3,833			3,838
Less: accumulated depreciation and amortization		(1,425	)		(2,222	)		(2,416	)

	$	1,615		$	1,611		$	1,422


Note 5.	Leases and Commitments

The Company entered into an agreement in April 2003 for office space under a non-cancelable operating lease through July 2008. The operating lease has a renewal option at the end of the lease for an additional three years. Pursuant to the terms of the operating lease agreement, the Company placed funds in the amount of $500,000 in a certificate of deposit account. The amount is restricted until the expiration of the lease agreement in July 2008 and is recorded as non-current restricted cash.

Future minimum lease payments under the non-cancelable operating leases having initial terms in excess of one year as of June 30, 2005, are as follows (in thousands):


		Operating
		Leases

Fiscal Year ending June 30,
	2006	$	429
	2007		461
	2008		478
	2009		40

Total minimum lease payments		$	1,408

Rent expense for the fiscal years ended June 30, 2003, 2004 and 2005 and the three months ended September 30, 2004 and 2005, was $320,000, $260,000, $249,000, $60,000 and $46,000, respectively. Deferred rent under the facility operating lease amounted to $174,000, $276,000 and $271,000 at June 30, 2004, 2005 and September 30, 2005, respectively.

Sponsored Research

In August 1999, the Company entered into a Sponsored Research Agreement (“Research Agreement”) with an academic institution. The Research Agreement allows the academic institution to perform research for the Company on a best-efforts basis leading to the delivery of a final research report to the Company, with funds not expended under the agreement to be returned to the Company. The Research Agreement was amended in 2005

F-20

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

to increase the maximum obligation under the agreement to $1.2 million and extend the expiration date to December 31, 2006. The Company incurred expenses totaling $96,000, $130,000, $136,000, $52,000 and $26,000 in the fiscal years ended June 30, 2003, 2004 and 2005 and the three months ended September 30, 2004 and 2005, respectively. The Company had an accrued liability of $547,000 and a prepaid expense of $150,000 and $124,000 at June 30, 2004 and 2005 and September 30, 2005, respectively. The remaining obligation for services to be rendered through December 31, 2006, under the Research Agreement as of September 30, 2005, is approximately $158,000.


Note 6.	Related Party Transactions

Financing Activities

In June 2002, the Company issued to Guidant Investment Corporation (“Guidant Investment”) a total of 863,557 shares of Series D convertible preferred stock at $11.58 per share resulting in cash proceeds of approximately $10.0 million to the Company.

In August 2003, the Company issued to Guidant Investment a total of 283,688 shares of Series E convertible preferred stock at $14.10 per share resulting in cash proceeds of approximately $4.0 million to the Company.

Loan and Strategic Agreements

In March 2000, the Company entered into, and in December 2002 amended, a Master Loan and Security Agreement with an affiliate of Western Technology Investment, of which the Company’s director, J. Michael Egan, is also a director. See Note 8 for more information on notes payable and warrants issued under the Master Loan and Security Agreement.

In August 2003, the Company entered into a Loan Agreement with Guidant Investment. This agreement provided the Company with a five-year loan of $10.3 million. The Company borrowed $5.0 million in August 2003, and borrowed an additional $5.3 million in February 2004. As the note holder, Guidant Investment has a first priority security interest in all personal property and assets of the Company, including intellectual property. The Loan Agreement provides for principal and accrued interest payment at a loan maturity date of August 2008. The interest rate on the notes is 8.75% per annum, calculated on actual principal outstanding based on actual days elapsed. As of June 30, 2004, 2005 and September 30, 2005, the Company had accrued interest payable to related party of $539,000, $1.4 million and $1.7 million, respectively, on the accompanying balance sheet for this obligation.

In August 2003, in connection with this loan, Guidant Investment was granted a right to negotiate exclusively for the acquisition of the Company, and the Company also agreed not to enter into any change of control transaction during the period between the signing of the strategic agreement and November 2004. The Company received a strategic agreement fee of $250,000 and recorded the amount in the accompanying balance sheet as of June 30, 2004 as deferred other income from a related party. The Company recorded the $250,000 as other income in the statement of operations during the fiscal year ended June 30, 2005 upon expiration of the strategic agreement in October 2004.

Development and Supply Agreement

In December 2003, the Company entered into a Development and Supply Agreement with Guidant Corporation (“Guidant”) for the development and commercialization of an aortic cutter for Guidant, the Heartstring product. The agreement called for the Company to develop and manufacture aortic cutters. Future production of the aortic cutter has been outsourced by Guidant to a third-party manufacturer, and the Company will receive royalties quarterly for each unit sold in the future. As of June 30, 2005, no royalties have been

F-21

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

received under this agreement. In addition, the Company was entitled to receive payments of $488,000 for development activities pertaining to the development of the product. In June 2004, the agreement was amended to include further development efforts for incremental consideration of $45,000. The Company recognized development revenue of $223,000 and $310,000, for the fiscal years ended June 30, 2004 and 2005, respectively. The Company also recognized product revenue from the sale of aortic cutters to Guidant of $396,000 in the fiscal year ended June 30, 2005. No product revenue was recognized in fiscal 2004 for the aortic cutter.

Distribution Agreement Termination

In September 2004, Guidant terminated its distribution agreement with the Company for product sales in Europe of the PAS-Port and C-Port systems. The agreement called for minimum purchases by Guidant and upon termination the Company recorded $510,000 in net product revenue in the year ended June 30, 2005 as the difference between the minimum contractual purchases due from Guidant and actual purchases through the termination date. Guidant paid the Company the $510,000 in October 2004. There are no additional payments due the Company related to the termination of the distribution agreement.


Note 7.	Subordinated Convertible Note

In June 2003, the Company entered into a distribution agreement with Century Medical, Inc. (“CMI”). CMI issued a subordinated convertible note to the Company in the amount of $3.0 million. The subordinated convertible notes are convertible at the option of the holder into common stock at the price of the Company’s initial public offering at any time within 180 days after the initial public offering. The holder of the subordinated convertible notes has a continuing security interest in all of the Company’s personal property and assets, including intellectual property. Interest is compounded annually at 5% and is payable quarterly in arrears on January 31, April 30, July 31, and October 31 of each year. The principal of the note is due in June 2008. The Company made interest payments of $131,000 and $150,000 in the fiscal years ended June 30, 2004 and 2005, respectively. The interest payable at June 30, 2004 and 2005 and September 30, 2005 was $25,000.


Note 8.	Notes Payable

In March 2000, the Company entered into, and in December 2002 amended, a Master Loan and Security Agreement with a financial institution. The amendment provided the Company with the ability to borrow up to a maximum of $5.0 million in working capital financing and $0.5 million in equipment financing under individual notes payable based upon the Company’s financing requirements. In conjunction with this agreement and amendment, the Company issued various warrants exercisable to purchase an aggregate of 124,369 shares of preferred stock of the Company, valued at $1.0 million to the lender. The value of the warrants was recorded as a discount of the debt.

During fiscal year 2004, the Company paid in full the entire balance of all notes payable and the associated accrued interest earlier than the contractual maturity dates. As a result of paying the obligations in full early, the Company recorded a charge in the amount of $1.1 million consisting primarily of issuing to the debt holder a total of 45,745 shares of Series E preferred stock, valued at $14.10 per share, totaling $645,000 to pay for interest due on the notes payable and $460,000 related to the acceleration of the amortization of warrant expense originally recorded as a discount of the debt.

F-22

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

Note 9. Stockholders’ (Deficit)

Convertible Preferred Stock

The Company initially recorded the Series A, B, C, D, and E convertible preferred stock (“preferred stock”) at their fair values on the date of issuances. A redemption event will only occur upon the liquidation, winding up, change in control or sale of substantially all of the assets of the Company. As the redemption event is outside of the control of the Company, all shares of preferred stock have been presented outside of permanent equity in accordance with EITF topic D-98, Classification and Measurement of Redeemable Securities . Further, the Company has also elected not to adjust the carrying values of the preferred stock to the redemption value of such shares, since it is uncertain whether or when a redemption event will occur. Subsequent adjustments to increase the carrying values to the redemption values will be made if it becomes probable that such redemption will occur.

Each share of Series A, B, C, D and E convertible preferred stock (collectively, the “preferred stock”) is convertible, at the option of the holder, into shares of common stock. Conversion of the Preferred Stock is subject to a conversion rate determined by dividing the original issue price of the Preferred Stock by the conversion price in effect at the time of conversion. The initial conversion prices are equal to the original issue prices and are subject to adjustment as specified in the Articles of Incorporation. Conversion is automatic upon the closing of an underwritten public offering pursuant to an effective registration statement under the Securities Act of 1933 which results in a price per share of not less than $28.20 and for gross offering proceeds of not less than $25,000,000, or upon the approval of the holders of at least 50% of the outstanding shares of the Preferred Stock. The Preferred Stock has voting rights on an as-if -converted-to -common-stock basis. Series A, B, C, D and E preferred stockholders are entitled to noncumulative dividends if declared by the Board of Directors and in preference to common stock dividends. No dividends have been declared or paid by the Company through June 30, 2005.

In the event of the liquidation, dissolution or sale of the Company, the Series A, B, C, D and E preferred stock are subject to liquidation preferences of $3.00, $4.89, $8.40, $11.58 and $14.10, respectively, per share plus all declared but unpaid dividends. After liquidation preference distributions to Series A, B, C, D and E preferred stockholders have been paid, the remaining assets of the Company available for distribution to stockholders shall be distributed among the holders of common stock.

For as long as at least 1,500,000 shares of the Preferred Stock remain outstanding (subject to adjustment for any stock split, reverse stock split or similar transaction), the holders of the Preferred Stock, voting as a separate class, shall be entitled to elect two members of the Company’s Board of Directors. The holders of the Company’s common stock, voting as a separate class, shall be entitled to elect two members of the Company’s Board of Directors. The holders of common stock and Preferred Stock, voting together as a single class on an as-if-converted basis, shall be entitled to elect all remaining members of the Board of Directors.

Notes Receivable from Stockholders

From inception October 17, 1997, to June 30, 2002, the Company issued six promissory notes to three officers allowing them to exercise their stock options. These full-recourse notes, with aggregate principal of $444,000, had annual rates of interest between 6.6% and 8.15% and were repayable commencing August 2003. In August 2002, one of the notes was paid in cash to the Company by an officer and in April 2003, the note was reissued to the officer. In January 2003, the Company modified the terms of the remaining five notes by reducing the interest rate of each note to 1.58% and extending the repayment date to January 2006. Accrued interest of $40,000, as of the date of modification, was added into the new principal of the notes. The modification of the notes triggered variable accounting of the options exercised with the notes and resulted in

F-23

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

stock-based compensation expense of $288,000, $85,000, $2.0 million and $624,000, which the Company has charged to general and administrative and research and development expense in the accompanying statements of operations for fiscal years ended June 30, 2003, 2004, 2005 and for the three months ended September 30, 2005, respectively. As of June 30, 2005, $449,000 of notes receivable from stockholders remained outstanding. Interest receivable on all promissory notes of $12,000, $21,000 and $23,000, was recorded in the accompanying balance sheets as of June 30, 2004, 2005 and September 30, 2005, respectively. An additional stockholder note receivable of $73,000 is classified on the balance sheet as a current asset. The notes were repaid in October 2005 (See Note 13).

In May 2003 and April 2004, the Company issued promissory notes to an officer allowing him to early exercise options to purchase a total of 33,333 shares of the Company’s common stock. These recourse notes, with principal of $37,000 and $47,000, bear interest at an annual rate of 1.58% and are repayable commencing May 2006 and April 2007, respectively. In accordance with the provision of EITF No. 00-23, Issues Related to the Accounting for Stock Compensation Under APB Opinion No. 25 and FASB Interpretation No. 44 , the early exercises of these options are not treated as a substantive exercise for financial reporting purposes.

The loans were made pursuant to recourse promissory notes that were secured by the underlying shares of common stock purchased with the proceeds of the loans. Because the Company has modified the loans or provided below-market interest rates on the loans and extended the repayment period, for accounting purposes the issuances of the shares that were purchased with the proceeds of the loans were deemed to be compensatory. Accordingly, the Company is required to record a non-cash compensation charge equal to the difference between the purchase price of the stock and the fair value of the stock securing all such notes in each reporting period the notes remain outstanding.

Shares Reserved

Shares of common stock reserved for future issuance are as follows:


	June 30,		September 30,
	2005		2005

			(unaudited)
Stock options outstanding		766,251		900,088
Shares available for grant under stock option plan		244,771		106,990
Warrants for Series B preferred stock		12,270		12,270
Warrants for Series C preferred stock		52,082		52,082
Warrants for Series D preferred stock		60,017		60,017
Warrants for common stock		32,146		32,146
Conversion of convertible preferred stock		4,259,376		4,259,328

		5,426,913		5,422,921

Stock Options

The 1997 Equity Incentive Plan (the “Plan”) was adopted in November 1997 and provides for the issuance of stock options. As of June 30, 2005, the Company had reserved an aggregate of 1,915,000 shares of common stock for issuance under the Plan.

Stock options granted under the Plan may either be incentive stock options, nonstatutory stock options, stock bonuses or rights to acquire restricted stock. Incentive stock options may be granted to employees with exercise prices of no less than the fair value, and nonstatutory options may be granted to employees, directors or

F-24

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

consultants at exercise prices of no less than 85% of the fair value of the common stock on the date of grant, as determined by the Board of Directors. If, at the time the Company grants an option, the optionee directly or by attribution owns stock possessing more than 10% of the total combined voting power of all classes of stock of the Company, the option price shall be at least 110% of the fair value and shall not be exercisable more than five years after the date of grant. Options may be granted with vesting terms as determined by the Board of Directors. Except as noted above, options expire no more than 10 years after the date of grant, or earlier if employment is terminated.

Common stock options may include a provision whereby the holder, while an employee, director or consultant, may elect at any time to exercise the option as to any part or all of the shares subject to the option prior to the full vesting of the option. Any unvested shares so purchased are subject to repurchase by the Company at its option and at a price equal to the original purchase price of the stock. This right of repurchase will lapse with respect to the unvested shares, and each optionee shall vest in his or her option shares, as follows: a minimum of 25% of the option shares upon completion of one year of service measured from the vesting commencement date, and the balance of the option shares in a series of successive equal monthly installments upon the optionee’s completion of each of the next 36 months of service thereafter. In accordance with guidance in Issue 33b of EITF 00-23, the Company does not consider the stock issued upon exercise of an unvested stock option substantively exercised, and the cash paid for the exercise price is considered a deposit or a prepayment of the exercise price that is recognized by the Company as a liability. As the underlying shares vest, the deposit liability is reclassified as equity. At June 30, 2004, 2005 and September 30, 2005, respectively, 114,288, 46,143 and 30,351 shares of common stock were acquired through the early exercise of options, of which 59,472, 32,695 and 23,222 shares of common stock as of June 30, 2004, 2005 and September 30, 2005, respectively, are subject to the Company’s right of repurchase and are excluded from shareholders’ equity since these shares have not vested.

Option activity under this Plan is as follows:


		Outstanding Options

		Shares						Weighted-Average
		Available for			Number			Exercise Price Per
		Grant			of Shares			Share

Balance at July 1, 2002			22,421			485,581		$	1.23
	Shares reserved		500,000			-			-
	Options granted		(373,617	)		373,617			2.25
	Options exercised		-			(138,170	)		1.47
	Options canceled		31,085			(31,085	)		1.44

Balance at June 30, 2003			179,889			689,943			1.68
	Options granted		(218,467	)		218,467			2.85
	Options exercised		-			(185,775	)		1.77
	Options canceled		67,714			(67,714	)		1.92
	Unvested stock options canceled		2,604			-			-

Balance at June 30, 2004			31,740			654,921			2.01
	Shares reserved		333,333			-			-
	Options granted		(148,264	)		148,264			2.85
	Options exercised		-			(8,972	)		1.62
	Options canceled		27,962			(27,962	)		2.19

F-25

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)


		Outstanding Options

		Shares						Weighted-Average
		Available for			Number			Exercise Price Per
		Grant			of Shares			Share

Balance at June 30, 2005			244,771			766,251			2.16

	Options granted (unaudited)		(198,661	)		198,661			2.85
	Options exercised (unaudited)		-			(8,562	)		1.65
	Options cancelled (unaudited)		56,262			(56,262	)		2.34
	Unvested stock options cancelled (unaudited)		4,618			-			1.35

Balance at September 30, 2005 (unaudited)			106,990			900,088		$	2.31

The following table summarizes information about options outstanding, vested and exercisable at September 30, 2005 (unaudited):


			Weighted-
			Average
			Remaining		Number
	Number		Contractual		Vested and
Exercise Price	Outstanding		Life		Exercisable

$0.30		25,000		2.42		25,000
$0.75		7,000		3.53		7,000
$1.20		8,333		4.64		8,333
$1.35		190,500		5.82		186,554
$2.25		171,807		7.50		107,738
$2.85		497,448		9.25		100,072

		900,088				434,697

The weighted-average estimated fair value of options granted to employees at fair value, under the minimum value method, during the fiscal years ended June 30, 2003, 2004 and 2005 was $0.24, $0.30 and $0.33, respectively. The weighed-average estimated fair value of options granted to employees at below fair value during the years ended June 30, 2003, 2004 and 2005 was none, none and $2.52, respectively. The weighted-average estimated fair value of options granted to employees at below fair value during the three months ended September 30, 2005 was $5.97.

For all options granted in fiscal years 2003, 2004 and 2005 to consultants, the Black-Scholes option pricing method was applied using the following weighted-average assumptions for 2003, 2004 and 2005: volatility of 100%; a risk-free interest rate of 2.19%, 4.28% and 4.23%, respectively; a contractual option life of 8-10 years, 7-10 years and 6-10 years, respectively, and no dividend yield. The Company determined compensation expense related to these options for the fiscal years ended June 30, 2003, 2004 and 2005, and the three months ended September 30, 2005, to be $67,000, $127,000, $25,000 and $38,000, respectively, which has been reflected in the statements of operations. In accordance with SFAS 123 and EITF 96-18, options granted to consultants are periodically revalued as such stock options vest.

Deferred Stock-Based Compensation

The fair value of the common stock for options granted through September 30, 2005, was originally estimated by the Company’s board of directors, with input from management. The Company did not obtain

F-26

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

contemporaneous valuations by an unrelated valuation specialist. Subsequently, the Company reassessed the valuations of common stock relating to option grants during the fiscal year ended June 30, 2005 and for the three-month period ended September 30, 2005. The Company granted stock options with an exercise price of $2.85 during the fiscal year ended June 30, 2005 and for the three-month period ended September 30, 2005. The Company determined that the fair value of its common stock increased from $2.85 to $7.50 per share during the fiscal year ended June 30, 2005 and increased from $7.50 to $9.00 per share during for the three-month period ended September 30, 2005.

During the fiscal year ended June 30, 2005 and the three-month period ended September 30, 2005, the Company issued options to certain employees under the 1997 Plan with exercise prices below the estimated fair value of the Company’s common stock at the date of grant, determined with hindsight. In accordance with the requirements of APB No. 25, the Company has recorded deferred stock-based compensation for the difference between the exercise price of the stock option and the estimated fair value of the Company’s stock at the date of grant. This deferred stock-based compensation is amortized to expense on a straight-line basis over the period during which the Company’s right to repurchase the stock lapses or the options vest, generally four years. During the fiscal year ended June 30, 2005 and the three month period ended September 30, 2005, the Company has recorded deferred stock-based compensation related to these options of approximately $287,000 and $1.1 million, respectively. Additionally, the Company has recorded deferred stock-based compensation of $166,000 for stockholder notes as of June 30, 2005 and $160,000 as of September 30, 2005, which are subject to variable accounting. The deferred stock compensation will be amortized over the related vesting terms of the options. The Company recorded deferred stock-based compensation expense of $22,000 and $108,000 for the fiscal year ended June 30, 2005 and the three months ended September 30, 2005, respectively.

Common Stock Subject to Repurchase

In connection with the issuance of common stock to employees and the exercise of options pursuant to the Company’s 1997 Stock Option/ Stock Issuance Plan, employees entered into restricted stock purchase agreements with the Company. Under the terms of these agreements, the Company has a right to repurchase any unvested shares at the original exercise price of the shares. With continuous employment with the company, the repurchase rights generally lapse at a rate of 25% at the end of the first year and at a rate of 1/36th of the remaining purchased shares for each continuous month of service thereafter. As of June 30, 2005 and September 30, 2005, a total of 37,806 and 24,794 shares, respectively, were subject to repurchase by the Company.

Warrants

The following table summarizes all outstanding stock warrants as of September 30, 2005:

Exercise Price

Warrant to Purchase:

Date Issued

Shares

Per Share

Expiration

Preferred Series B

March 2000

12,270

4.89

March 2010

Preferred Series C

July 2001

52,082

8.40

July 2008

Common

June 2002

32,146

11.58

June 2009

Preferred Series D

December 2002

60,017

11.58

October 2010

Total

156,515

F-27

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)


Note 10.	Income Taxes

There is no provision for income taxes because the Company has incurred operating losses. Deferred income taxes reflect the net tax effects of net operating loss and tax credit carryovers and temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company’s deferred tax assets are as follows (in thousands):


	June 30,

	2004			2005

Net operating loss carry-forwards	$	14,253		$	17,149
Research credits		650			1,203
Capitalized research and development expenses		-			548
Other		791			559

Total deferred tax assets		15,694			19,459
Valuation allowance		(15,694	)		(19,459	)

Net deferred tax assets	$	-		$	-

As of June 30, 2005, the Company had federal net operating loss carry-forwards of approximately $44.3 million. The Company also had federal and state research and development tax credit carry-forwards of approximately $0.7 million and $0.5 million respectively. The net operating loss and tax credit carry-forwards will expire at various dates beginning in 2013, if not utilized. As of June 30, 2005, the Company had a state net operating loss carry-forward of approximately $35.1 million, which expires beginning in 2008.

Utilization of the net operating loss and tax credit carry-forwards may be subject to a substantial annual limitation due to the ownership change limitations provided by the Internal Revenue Code of 1986, as amended, that are applicable if the Company experiences an “ownership change,” which may occur, for example, as a result of the Company’s initial public offering and other sales of the Company’s stock and similar state provisions. The annual limitation may result in the expiration of net operating losses and credits before utilization.

As of June 30, 2004 and 2005, the Company had deferred tax assets of approximately $15.7 million and $19.5 million, respectively. Realization of the deferred tax assets is dependent upon future taxable income, if any, the amount and timing of which are uncertain. Accordingly, the net deferred tax assets have been fully offset by a valuation allowance. The net valuation allowance increased by approximately $4.6 million and $3.8 million during the years ended June 30, 2004 and 2005, respectively.


Note 11.	Employee Benefit Plan

In January 2001, the Company adopted a 401(k) Profit Sharing Plan that allows voluntary contributions by eligible employees. Employees may elect to contribute up to the maximum allowed under the Internal Revenue Service regulations. The Company may make discretionary contributions as determined by the Board of Directors. No amount was contributed by the Company to the plan during the fiscal years ended June 30, 2003, 2004 and 2005 or three months ended September 30, 2005.


Note 12.	Indemnification

From time to time, the Company enters into contracts that require the Company, upon the occurrence of certain contingencies, to indemnify parties against third-party claims. These contingent obligations primarily relate to (i) claims against the Company’s customers for violation of third-party intellectual property rights caused by the Company’s products; (ii) claims resulting from personal injury or property damage resulting from

F-28

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

the Company’s activities or products; (iii) claims by the Company’s office lessor arising out of the Company’s use of the premises; and (iv) agreements with the Company’s officers and directors under which the Company may be required to indemnify such persons for liabilities arising out of their activities on behalf of the Company. Because the obligated amounts for these types of agreements usually are not explicitly stated, the overall maximum amount of these obligations cannot be reasonably estimated. No liabilities have been recorded for these obligations on the Company’s balance sheets as of June 30, 2004, 2005 or September 30, 2005.


Note 13.	Subsequent Events

Initial Public Offering

On September 20, 2005, the Board of Directors authorized management of the Company to file a registration statement with the Securities and Exchange Commission permitting the Company to sell shares of its common stock to the public. The registration statement was filed November 4, 2005. If the initial public offering is closed under the terms presently anticipated, all of the redeemable convertible preferred stock outstanding will automatically convert into shares of common stock.

2005 Equity Incentive Plan

On October 13, 2005, the Board of Directors adopted the 2005 Equity Incentive Plan (the “2005 Plan”), subject to stockholder approval. The 2005 Plan will become effective upon the completion of the Company’s initial public offering and provides for the granting of incentive stock options, nonstatutory stock options, stock appreciation rights, stock awards and cash awards to employees and consultants.

A total of 400,000 shares of common stock have been authorized for issuance pursuant to the 2005 Plan, plus any shares which have been reserved but not issued under the 1997 Plan or issued and forfeited after the date of the initial public offering, plus any shares repurchased at or below the original purchase price and any options which expire or become unexercisable after the initial public offering, thereafter plus all shares of common stock restored by the Board of Directors pursuant to the provision of the 2005 Plan that permits options to be settled on a net appreciation basis.

Settlement of Stockholder Notes

In October 2005, the Company entered into agreements with three of its directors, including its chief executive officer and the chairman of the board, pursuant to which these directors agreed to tender to the Company shares of common stock owned by the directors, valued at $9.00 per share, in full payment of the principal and interest due under the six promissory notes described in footnote 9.

Notice of Potential Patent Interference

On October 28, 2005, the Company received a letter from Integrated Vascular Interventional Technologies, Inc. (“IVIT”) advising the Company of IVIT’s effort to provoke an interference in the U.S. Patent and Trademark Office between one of IVIT’s patent applications (serial no. 10/243,543) and a patent currently held by the Company (U.S. patent no. 6,391,038) relating to the Company’s C-Port ^® distal anastomosis system. The Company also learned that IVIT is attempting to provoke another interference in the U.S. Patent and Trademark Office between another of its U.S. patent applications (serial no. 10/706,245) and another of the Company’s issued patents (U.S. Patent No. 6,478,804). IVIT makes no specific demands in the letter, but alleges that it has

F-29

Cardica, Inc.

Notes to Financial Statements — (Continued)

(Information as of September 30, 2005 and for the three months ended

September 30, 2004 and 2005 is unaudited)

an indication of an allowed claim and that it expects to receive a declaration of interference regarding that claim. An interference is a proceeding within the U.S. Patent and Trademark Office to determine priority of invention of the subject matter of patent claims. The decision to declare an interference is solely within the power of the Board of Patent Appeals and Interferences of the U.S. Patent and Trademark Office, and can be made only after claims in a patent application are allowed by the examiner and a determination is made that interfering subject matter exists. As of this date, no claims have been allowed in either of IVIT’s patent applications.

The Company believes that IVIT’s attempts to provoke an interference are unlikely to succeed and will vigorously defend its patents against such claims of interference, although there can be no assurance that the Company will succeed in doing so. The Company further believes that if IVIT’s patent claims are allowed in their present form, the Company’s products would not infringe such claims. There can be no assurance that IVIT’s patent claims, if allowed, will be in their present form, or that the Company’s products would not be found to infringe such claims or any other claims that are issued.

Reverse Stock Split

On December 12, 2005 the Board of Directors approved a one-for-three reverse split of the Company’s issued or outstanding shares of common stock and preferred stock and, subsequent to stockholder approval, the Company expects to file an amended and restated certificate of incorporation effecting the reverse stock split. All issued or outstanding common stock, preferred stock and per share amounts contained in the financial statements have been retroactively adjusted to reflect this reverse stock split.

Agreement with Cook Incorporated

On December 9, 2005, the Company and Cook Incorporated (“Cook”) signed a License, Development and Commercialization Agreement relating the Company’s X-Port vascular access closure device. The agreement gives Cook exclusive worldwide rights to manufacture and sell the X-Port, after certain development milestones are achieved by the Company. The Company will receive an initial payment of $500,000 if certain development milestones are achieved and up to a total of $1.5 million in future milestone payments if milestones relating to development are achieved and will receive royalties if Cook successfully commercializes the X-Port.

F-30

3,500,000 Shares

Cardica, Inc.

Common Stock


A.G. Edwards	Allen & Company LLC

Montgomery & Co., LLC

The date of this prospectus is , 2006

Until , 2006, all dealers that buy, sell or trade the common stock may be required to deliver a prospectus, regardless of whether they are participating in the offering. This is in addition to the dealers’ obligation to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

PART II

INFORMATION NOT REQUIRED IN PROSPECTUS


ITEM 13.	Other Expenses of Issuance and Distribution.

The following table sets forth the costs and expenses, other than underwriting discounts and commissions, payable by Cardica in connection with the sale of the common stock being registered hereby. All amounts are estimates except the SEC Registration Fee and the NASD filing fee.


		Amount to be Paid

SEC registration fee		$	6,029
NASD filing fee			4,500
Nasdaq National Market listing fee			*
Blue Sky fees and expenses			*
Printing and Engraving expenses			*
Legal fees and expenses			*
Accounting fees and expenses			*
Transfer Agent and Registrar fees			*
Miscellaneous			*

	Total


*	To be completed by amendment


ITEM 14.	Indemnification of Directors and Officers.

As permitted by Section 145 of the Delaware General Corporation Law, the registrant’s bylaws provide that (a) the registrant (i) is required to indemnify its directors and executive officers to the fullest extent not prohibited by the Delaware General Corporation Law, (ii) may, in its discretion, indemnify other officers, employees and agents as set forth in the Delaware General Corporation Law, (iii) is required to advance all expenses incurred by its directors and executive officers in connection with certain legal proceedings (subject to certain exceptions), (iv) the registrant is authorized to enter into indemnification agreements with its directors, officers, employees and agents and (v) may not retroactively amend the amended and restated bylaws provisions relating to indemnity and (b) the rights conferred in the amended and restated bylaws are not exclusive.

The registrant has entered into an agreement with one of its directors that requires the registrant to indemnify such person against expenses, judgments, fines, settlements and other amounts that such person actually and reasonably incurred (including expenses of a derivative action) in connection with any proceeding, whether actual or threatened, to which any such party may be made a party by reason of the fact that such person is or was a director or officer of the registrant or any of its affiliated enterprises, provided such person acted in good faith and in a manner such person reasonably believed to be in or not opposed to the best interests of the registrant. The indemnification agreement also sets forth procedures that will apply in the event of a claim for indemnification. The registrant is also obligated to advance expenses, subject to an undertaking to repay amounts advanced if such director is ultimately determined not to be entitled to indemnification. The indemnification agreements also set forth certain procedures that will apply in the event of a claim for indemnification thereunder.

The Underwriting Agreement filed as Exhibit 1.1 to this Registration Statement also provides for indemnification by the underwriters of the registrant and its officers and directors for certain liabilities arising under the Securities Act of 1933, as amended (the “Securities Act”), or otherwise.

See also the undertakings set out in response to Item 17 herein.

II-1


ITEM 15.	Sales of Unregistered Securities.

Since September 1, 2002, the registrant has issued and sold the unregistered securities described below. All shares of preferred stock referenced below will convert into 401,354 shares of common stock upon the completion of the offering described in this registration statement.

(1) The registrant has issued an aggregate of 269,026 shares of its common stock to employees, directors and consultants for cash consideration in the aggregate amount of $436,843 upon the exercise of stock options granted under its 1997 Equity Incentive Plan, 7,430 shares of which have been repurchased.

(2) The registrant has granted stock options to employees, directors and consultants under its 1997 Equity Incentive Plan exercisable for an aggregate of 955,613 shares of common stock, of which options covering an aggregate of 187,120 shares terminated or expired, and an aggregate of 269,026 shares were issued upon the exercise of stock options, as set forth in (1) above.

(3) In December 2002, the registrant issued a warrant to purchase 60,017 shares of Series D Preferred Stock to Venture Lending & Leasing III, LLC at $11.58 per share in connection with credit facility arrangements. As of the date hereof, the warrant has not been exercised.

(4) In June 2003, the registrant issued a warrant to purchase 11,904 shares of Series C Preferred Stock to Venture Lending & Leasing II, Inc. at $8.40 per share in connection with credit facility arrangements. As of the date hereof, the warrant has not been exercised.

(5) In September 2003, the registrant issued an aggregate of 4,071 shares of its common stock to consultants on consideration of services rendered for an aggregate amount of $11,603.30 under its 1997 Equity Incentive Plan.

(6) In August 2003, the registrant sold an aggregate of 329,433 shares of our Series E Preferred Stock, to three accredited investors at $14.10 per share, for an aggregate purchase price of $4,645,010 consisting of cash consideration of $4,000,001 and the $645,009 for the forgiveness of debt.

(7) In December 2003, the registrant issued an aggregate of 4,071 shares of its common stock to consultants on consideration of services rendered for an aggregate amount of $11,603 under its 1997 Equity Incentive Plan.

(8) In October 2005, the registrant issued an aggregate of 3,333 shares of its common stock to one of its directors, Richard Powers, in consideration of services rendered for an aggregate amount of $29,997 under its 1997 Equity Incentive Plan.

The registrant claimed exemption from registration under the Securities Act for the sales and issuances in the transactions described in paragraphs (1), (2), (5), (7) and (8) above under Rule 701 promulgated under the Securities Act on the basis that these issuances were made pursuant to a written compensatory benefits plan, as provided by Rule 701.

With respect to the grant of stock options described in paragraph (2) above, exemption from registration under the Securities Act was also claimed by the registrant to be unnecessary on the basis that none of such transactions involved a “sale” of a security as such term is used in Section 2(3) of the Securities Act.

The sales and issuances of securities in the remaining transactions described in paragraphs (3), (4) and (6) of this Item 15 were deemed exempt from registration under the Securities Act in reliance on Rule 506 of Regulation D promulgated thereunder as transactions not involving any public offering. All of the purchasers of securities in these transactions represented to the registrant that they were accredited investors as defined under the Securities Act, that they acquired the securities for investment purposes only and not with a view to the distribution thereof and as to its experience in business matters. Appropriate legends were affixed to the stock certificates issued in such transactions. The recipient acknowledged either that the recipient received adequate information about the registrant or had access, through business relationships, to such information.

II-2


ITEM 16.	Exhibits and Financial Statement Schedules.

(a) Exhibits.


Exhibit
Number			Description

	1	.1	Form of Underwriting Agreement.*
	3	.1	Amended and Restated Certificate of Incorporation of the Registrant as currently in effect.#
	3	.2	Amended and Restated Certificate of Incorporation of the Registrant to be effective upon closing of the offering.*
	3	.3	Bylaws of the Registrant as currently in effect.#
	3	.4	Bylaws of the Registrant to be effective upon closing of the offering.#
	3	.5	Specimen Common Stock certificate of the Registrant.*
	4	.1	Warrant dated March 17, 2000 exercisable for 36,810 shares of common stock.#
	4	.2	Warrant dated July 5, 2001 exercisable for 31,251 shares of common stock.#
	4	.3	Warrant dated July 5, 2001 exercisable for 124,999 shares of common stock.#
	4	.4	Warrant dated June 13, 2002 exercisable for 96,439 shares of common stock.#
	4	.5	Warrant dated October 31, 2002 exercisable for 180,052 shares of common stock.#
	5	.1	Opinion of Cooley Godward LLP regarding legality.*
	10	.1	1997 Equity Incentive Plan and forms of related agreements and documents.#
	10	.2	2005 Equity Incentive Plan and forms of related agreements and documents.*
	10	.3	Amended and Restated Investor Rights Agreement, dated August 19, 2003, by and among the Registrant and certain stockholders.#
	10	.4	Benefit Agreement with Bernard Hausen, M.D., Ph.D.+*
	10	.5	Office Lease Agreement dated April 25, 2003, and First Amendment to Office Lease Agreement dated January 21, 2004.#
	10	.6	Distribution Agreement by and between Cardica, Inc. and Century Medical, Inc. dated June 16, 2003.†
	10	.7	Subordinated Convertible Note Agreement with Century Medical, Inc. dated June 16, 2003, and Amendment No. 1 thereto, dated August 6, 2003.†
	10	.8	Note issued pursuant to Subordinated Convertible Note Agreement with Century Medical, Inc.#
	10	.9	Agreement by and between the Company and the Guidant Investment Corporation, dated August 19, 2003.†
	10	.10	Intellectual Property Security Agreement by the Company in favor of Guidant, dated August 19, 2003.†
	10	.11	Notes issued pursuant to Omnibus Agreement.#
	10	.12	Allen & Company LLC letter of intent dated September 12, 2005.#
	10	.13	License, Development and Commercialization Agreement by and between Cardica, Inc. and Cook Incorporated, dated December 9, 2005.*
	21	.1	Subsidiaries of Registrant.#
	23	.1	Consent of Independent Registered Public Accounting Firm.
	23	.2	Consent of Cooley Godward LLP (See Exhibit 5.1).*
	24	.1	Power of Attorney (see page II-5).


*	To be filed by amendment.


†	Portions of this exhibit (indicated by asterisks) have been omitted pursuant to a request for confidential treatment and this exhibit has been filed separately with the SEC.


+	Indicates management contract or compensatory plan.


#	Previously filed.

II-3

(b) Financial Statement Schedules

None.


ITEM 17.	Undertakings.

The undersigned Registrant hereby undertakes to provide to the underwriters at the closing specified in the Purchase Agreement certificates in such denominations and registered in such names as required by the underwriters to permit prompt delivery to each purchaser.

Insofar as indemnification for liabilities arising under the Securities Act may be permitted to directors, officers and controlling persons of the Registrant pursuant to the provisions described in Item 14 or otherwise, the Registrant has been advised that in the opinion of the SEC such indemnification is against public policy as expressed in the Securities Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer or controlling person of the Registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Securities Act and will be governed by the final adjudication of such issue.

The undersigned Registrant hereby undertakes that:


	(1) For purposes of determining any liability under the Securities Act, the information omitted from the form of prospectus filed as part of this registration statement in reliance upon Rule 430A and contained in the form of prospectus filed by the registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be part of this registration statement as of the time it was declared effective.

	(2) For the purpose of determining any liability under the Securities Act, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof.

II-4

SIGNATURES

Pursuant to the requirements of the Securities Act of 1933, the registrant has duly caused this Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized, in Redwood City, State of California, on the 20 ^th day of December, 2005.


	Cardica, Inc.


	By:	*



	Bernard A. Hausen, M.D., Ph.D.
	President and Chief Executive Officer

POWER OF ATTORNEY

KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below hereby constitutes and appoints Bernard Hausen, Ph.D., and Robert Newell, and each of them acting individually, as his true and lawful attorneys-in -fact and agents, with full power of each to act alone, with full powers of substitution and resubstitution, for him and in his name, place and stead, in any and all capacities, to sign the Registration Statement filed herewith and any and all amendments to said Registration Statement (including post-effective amendments and any related registration statements thereto filed pursuant to Rule 462 and otherwise), and file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in -fact and agents, with full power of each to act alone, full power and authority to do and perform each and every act and thing requisite and necessary to be done in connection therewith, as fully for all intents and purposes as he might or could do in person, hereby ratifying and confirming all that said attorneys-in -fact and agents, or his or their substitutes, may lawfully do or cause to be done by virtue hereof.

Pursuant to the requirements of the Securities Act of 1933, this registration statement has been signed by the following persons in the capacities and on the dates indicated:


Name and Signature	Title	Date


* Bernard A. Hausen, M.D., Ph.D.	President, Chief Executive Officer and Director (Principal Executive Officer)	December 20, 2005

/s/ Robert Y. Newell Robert Y. Newell	Chief Financial Officer (Principal Financial and Accounting Officer)	December 20, 2005

* J. Michael Egan	Director	December 20, 2005

/s/ Kevin Larkin Kevin Larkin	Director	December 20, 2005

* Richard P. Powers	Director	December 20, 2005

II-5


Name and Signature		Title	Date


* Robert C. Robbins, M.D.		Director	December 20, 2005

* John Simon, Ph.D.		Director	December 20, 2005

* Stephen A. Yencho, Ph.D.		Director	December 20, 2005

* William H. Younger, Jr.		Director	December 20, 2005

* By	/s/ Robert Y. Newell Robert Y. Newell under power of attorney.

II-6

EXHIBIT INDEX


Exhibit
Number			Description

	1	.1	Form of Underwriting Agreement.*
	3	.1	Amended and Restated Certificate of Incorporation of the Registrant as currently in effect.#
	3	.2	Amended and Restated Certificate of Incorporation of the Registrant to be effective upon closing of the offering.*
	3	.3	Bylaws of the Registrant as currently in effect.#
	3	.4	Bylaws of the Registrant to be effective upon closing of the offering.#
	3	.5	Specimen Common Stock certificate of the Registrant.*
	4	.1	Warrant dated March 17, 2000 exercisable for 36,810 shares of common stock.#
	4	.2	Warrant dated July 5, 2001 exercisable for 31,251 shares of common stock.#
	4	.3	Warrant dated July 5, 2001 exercisable for 124,999 shares of common stock.#
	4	.4	Warrant dated June 13, 2002 exercisable for 96,439 shares of common stock.#
	4	.5	Warrant dated October 31, 2002 exercisable for 180,052 shares of common stock.#
	5	.1	Opinion of Cooley Godward LLP regarding legality.*
	10	.1	1997 Equity Incentive Plan and forms of related agreements and documents.#
	10	.2	2005 Equity Incentive Plan and forms of related agreements and documents.*
	10	.3	Amended and Restated Investor Rights Agreement, dated August 19, 2003, by and among the Registrant and certain stockholders.#
	10	.4	Benefit Agreement with Bernard Hausen, M.D., Ph.D.+*
	10	.5	Office Lease Agreement dated April 25, 2003, and First Amendment to Office Lease Agreement dated January 21, 2004.#
	10	.6	Distribution Agreement by and between Cardica, Inc. and Century Medical, Inc. dated June 16, 2003.†
	10	.7	Subordinated Convertible Note Agreement with Century Medical, Inc. dated June 16, 2003, and Amendment No. 1 thereto, dated August 6, 2003.†
	10	.8	Note issued pursuant to Subordinated Convertible Note Agreement with Century Medical, Inc.#
	10	.9	Agreement by and between the Company and the Guidant Investment Corporation, dated August 19, 2003.†
	10	.10	Intellectual Property Security Agreement by the Company in favor of Guidant, dated August 19, 2003.†
	10	.11	Notes issued pursuant to Omnibus Agreement.#
	10	.12	Allen & Company LLC letter of intent dated September 12, 2005.#
	10	.13	License, Development and Commercialization Agreement by and between Cardica, Inc. and Cook Incorporated, dated December 9, 2005.*
	21	.1	Subsidiaries of Registrant.#
	23	.1	Consent of Independent Registered Public Accounting Firm.
	23	.2	Consent of Cooley Godward LLP (See Exhibit 5.1).*
	24	.1	Power of Attorney (see page II-5).


*	To be filed by amendment.


†	Portions of this exhibit (indicated by asterisks) have been omitted pursuant to a request for confidential treatment and this exhibit has been filed separately with the SEC.


+	Indicates management contract or compensatory plan.


#	Previously filed.

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

Exhibit 10.6

Distribution Agreement

by and between

Cardica, Inc.
a Delaware Corporation

and

Century Medical, Inc.
a Japanese Corporation

Dated as of June 16, 2003

Table of Contents


			Page
1.	DEFINITION OF TERMS			1
	1.1	“Competing Products”		1
	1.2	“Contract Year”		1
	1.3	“First Commercial Sale”		1
	1.4	“Initial Term”		1
	1.5	“Party” or “Parties”		1
	1.6	“Premarketing Term”		2
	1.7	“Products”		2
	1.8	“Territory”		2
2.	APPOINTMENT OF DISTRIBUTOR			2
	2.1	Appointment as DISTRIBUTOR by COMPANY		2
	2.2	Subdistributors		3
3.	TERM OF DISTRIBUTORSHIP			3
4.	DUTIES OF DISTRIBUTOR			3
	4.1	Duties of DISTRIBUTOR		3
	4.2	Product Approvals		4
5.	DUTIES OF COMPANY			5
	5.1	Duties of COMPANY		5
6.	EXPENSES			6
	6.1	DISTRIBUTOR’s Expenses		6
	6.2	COMPANY’s Expenses		6
7.	RECORDS AND REPORTS			6
	7.1	Records and Reports		6
	7.2	Adverse Experience Reporting		7
	7.3	Updating/Revising Agreement		7
	7.4	Recall		7
8.	SALES OF PRODUCT TO DISTRIBUTOR			7
	8.1	Purchase Prices and Terms		7
	8.2	Risk of Loss, Deliveries		8
	8.3	Acceptance and Cancellation of Orders		8

-i-

Table of Contents
(continued)


			Page
	8.4	Product Specifications		8
	8.5	Taxes		9
	8.6	Purchase Levels		9
9.	PRODUCT LIABILITY			11
	9.1	Claim, Suit or Action		11
	9.2	Product Liability Insurance		11
10.	WARRANTY POLICY			12
	10.1	Warranties		12
	10.2	Rejection of Products		13
11.	PATENTS, TRADEMARKS, COPYRIGHTS; PROPRIETARY AND CONFIDENTIAL INFORMATION			13
	11.1	Trademark License		13
	11.2	Duty to Preserve Confidentiality		14
	11.3	Proprietary		14
12.	INDEMNITIES			14
	12.1	Indemnity		14
	12.2	Infringing Products		15
13.	TERMINATION			15
	13.1	Cancellation for Cause		15
	13.2	Obligations upon Cancellation or Termination		16
14.	GENERAL PROVISIONS			18
	14.1	Force Majeure		18
	14.2	Relationship Between Parties		18
	14.3	Successors, Nonassignability		19
	14.4	Survival of Obligations		19
	14.5	Remedies		19
	14.6	Notices		19
	14.7	Disputes		20
	14.8	Unenforceable Terms		20
	14.9	Waivers		20

-ii-

Table of Contents
(continued)


			Page
	14.10	Governing Law; Headings		20
	14.11	Entire Agreement, Modification		21
	14.12	Further Assurances		21
	14.13	Schedules		21
	14.14	Counterparts		21
SCHEDULE 1.		Products and Prices		22
SCHEDULE 2.		Memorandum of Compliance		23
SCHEDULE 3.		Reporting for Product Defects, Adverse Events, Overseas Corrective Action Reports and Research Reports		25

-iii-

DISTRIBUTION AGREEMENT

This DISTRIBUTION AGREEMENT (“Agreement”) is made this 16th day of June, 2003 (“Effective Date”), by and between Cardica, Inc., a Delaware corporation with its principal place of business located at 171 Jefferson Drive, Menlo Park, CA 94025, USA (hereinafter referred to as “COMPANY”) and Century Medical, Inc., a Japanese Corporation with its principal place of business located at 1-6-4 Ohsaki, Shinagawa-Ku, Tokyo, 141-8588, Japan (hereinafter referred to as “DISTRIBUTOR”) in consideration of the mutual covenants and conditions hereinafter stated.

1. DEFINITION OF TERMS

1.1 “Competing Products”

“Competing Products” shall mean automated anastomosis products that seal coronary artery bypass grafts to accomplish surgical anastomosis except for and excluding hemostasis products that, as of the Effective Date, DISTRIBUTOR distributes in the Territory that are manufactured by CryoLife, Inc. (BioGlue™), which shall not be considered Competing Products or other anastomosis devices that create a surgical anastomosis outside the coronary area of the body.

1.2 “Contract Year”

“Contract Year” shall mean a twelve (12) month period commencing on, and thereafter beginning on the anniversary of, the first day of the first full month following the date of First Commercial Sale in the Territory of any Product.

1.3 “First Commercial Sale”

“First Commercial Sale” shall mean the first sale of any Product with the intended maximum shelf life of twelve (12) months or more by DISTRIBUTOR to a third party in the Territory with all medical device approvals required to market and sell such Product (“Shonin” or “Lui Betsu Kyoka”) from The Japanese Ministry of Health, Labour and Welfare (“MHLW”) and all import permits from the appropriate government authorities (“Hinmoku Kyoka”). COMPANY hereby represents and warrants that, as of the Effective Date, COMPANY has obtained conditional CE Mark approval for the “Proximal Device” Product and the Proximal Device Product is a commercially available Product to DISTRIBUTOR to begin the device approval process stated above.

1.4 “Initial Term”

“Initial Term” shall mean the five (5) year period beginning on the date of expiration of the Premarketing Term.

1.5 “Party” or “Parties”

“Party” or “Parties” shall mean COMPANY or DISTRIBUTOR, individually and collectively.

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

1.6 “Premarketing Term”

“Premarketing Term” shall mean the period beginning on the Effective Date and ending on the first day of the first full month following the date of First Commercial Sale of all Products.

1.7 “Products”

“Products” shall mean those Products specifically listed in Schedule 1 , whether manufactured by or for COMPANY or its affiliates, including any improvements or modifications thereto, as such schedule may be amended from time to time. As used herein, “affiliate” means a person or entity that directly, or indirectly through one or more intermediaries, controls, or is controlled by, or is under common control with, a specified person or entity, where “control” means (a) fifty percent (50%) or more common equity ownership, or (b) the ability to direct the management or policies of a person or entity, whether by contract or otherwise.

1.8 “Territory”

“Territory” shall mean Japan.

2. APPOINTMENT OF DISTRIBUTOR

2.1 Appointment as DISTRIBUTOR by COMPANY.

COMPANY hereby appoints DISTRIBUTOR as its exclusive importer and distributor of COMPANY’s Products for the Territory in consideration of COMPANY’s issuance of a promissory note (the “Note”), concurrent with the execution of that certain Subordinated Convertible Note Agreement in the amount of three million U.S. dollars ($3,000,000.00), and DISTRIBUTOR hereby accepts such appointment on the terms and conditions set forth in this Agreement. Under no circumstances shall DISTRIBUTOR have authority to sell or distribute any Products outside the Territory. COMPANY shall also grant to DISTRIBUTOR a right of first negotiation for the import and distribution in the Territory of all new and future products with all line extensions, modifications and improvements thereto, manufactured and sold by COMPANY or products acquired by COMPANY or its affiliates for distribution by COMPANY. Such distribution shall be in accordance with the terms and conditions of this Agreement, with a per unit purchase price and minimum purchase levels (“MPL”) mutually agreeable to COMPANY and DISTRIBUTOR. If within thirty (30) days of COMPANY’s first written proposal to DISTRIBUTOR, COMPANY and DISTRIBUTOR cannot agree upon a per unit purchase price and MPL for such new products or if DISTRIBUTOR declines to distribute such products, then COMPANY will be permitted to distribute or cause to distribute by alternate means only such products as were first offered to DISTRIBUTOR for distribution in the Territory; provided , however , that COMPANY’s distribution of said products by alternate means shall be upon terms and conditions (including the per unit purchase price and MPL) to such alternate distributor no more favorable than the terms and conditions under which such products were last offered to DISTRIBUTOR for distribution.

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

2.2 Subdistributors.

DISTRIBUTOR may appoint subdistributors to make sales of Products within the Territory on such terms and conditions as DISTRIBUTOR determines to be necessary to fulfill its obligations under this Agreement; provided that no such appointment or delegation shall relieve DISTRIBUTOR from any obligations hereunder. COMPANY acknowledges and agrees that DISTRIBUTOR will use subdistributors in the sale of Products, the use of said subdistributors being a normal business custom in the Territory.

3. TERM OF DISTRIBUTORSHIP

This Agreement and the rights conferred on DISTRIBUTOR hereunder shall come into effect on the Effective Date and shall remain in effect until the expiration of the Initial Term. At the end of the Initial Term, this Agreement shall automatically renew for an additional five (5) years (the “Renewal Period”) subject to DISTRIBUTOR having met the MPL for each Contract Year during the Initial Term as required under Section 8.6 below.

4. DUTIES OF DISTRIBUTOR

4.1 Duties of DISTRIBUTOR.

DISTRIBUTOR covenants and agrees to do each of the following:

(i) DISTRIBUTOR shall use commercially reasonable efforts to promote and sell the Products in the Territory;

(ii) DISTRIBUTOR shall send one person from its sales and marketing organization to COMPANY for training prior to the First Commercial Sale of the Products in the Territory for a period of time mutually agreed upon by the Parties;

(iii) DISTRIBUTOR shall maintain a commercially reasonable stock of the Products in order to promote the Products in the Territory;

(iv) DISTRIBUTOR shall exhibit Products at industry meetings in the Territory;

(v) DISTRIBUTOR shall create and develop a training program for end-user physician customers in the Territory in cooperation with COMPANY; DISTRIBUTOR shall not sell Products to any end-users who have not been trained in the use of the Products.

(vi) DISTRIBUTOR shall confer with COMPANY, from time to time, upon the written request of COMPANY, on matters relating to the marketing and promotion of the Products in the Territory;

(vii) DISTRIBUTOR shall keep COMPANY informed regarding regulatory requirements in the Territory and shall, from time to time, provide COMPANY with updated amendments to Schedule 2 attached hereto;

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

(viii) DISTRIBUTOR shall not solicit the sale of, promote the sale of, sell, exhibit for sale, distribute or manufacture any Competing Products in the Territory;

(ix) DISTRIBUTOR shall translate Product literature into the Japanese language when necessary; and

(x) during the term of this Agreement, and for a period of [*] years from the expiration or termination of this Agreement, DISTRIBUTOR, its affiliates, successors and assigns shall not directly solicit or indirectly solicit for employment or hire in any capacity any personnel employed by COMPANY or any affiliate of COMPANY.

4.2 Product Approvals.

DISTRIBUTOR shall use its commercially reasonable efforts to obtain, at its own expense (except as otherwise provided herein), all “Lui Betsu Kyoka,” “Me-too” or “Kairyo Iryoyogu” Shonin (as defined below) from the MHLW needed to market the Products in the Territory. DISTRIBUTOR shall be under no obligation to conduct or perform any clinical trial for purposes of obtaining any Shonin or marketing the Products in the Territory. For the purposes of this section, “Lui Betsu Kyoka,” “Me-too” and “Kairyo Iryoyogu” Shonin shall mean those Shonins approved without conducting any clinical trials in the Territory. Lui Betsu Kyoka approval is not expected to exceed six (6) months from the Effective Date, subject to DISTRIBUTOR’s receipt of all necessary information from COMPANY required to prepare and file for the Lui Betsu Kyoka. COMPANY and DISTRIBUTOR recognize that competitive devices already on the market in the Territory have been classified as Lui Betsu Kyoka qualified devices; the easiest category to register a Product in the Territory. In the event that the MHLW requires a more formal Shonin application, either a “Me-too” or “Kairyo Iryoyogu” Shonin or “Shin Iryoyogu,” COMPANY and DISTRIBUTOR will diligently and in good faith apply for a Shonin in the appropriate category. “Shin Iryoyogu” shall mean the Shonin approved based on clinical trials or utilizing foreign clinical study data obtained for the purpose of seeking regulatory approval. In the event that the Parties agree to conduct any clinical trials in the Territory with a reasonable number of clinical cases for obtaining Shonin approval, COMPANY shall, at no charge to DISTRIBUTOR, supply DISTRIBUTOR with all necessary Products. All other costs associated with any clinical trials conducted in the Territory shall be borne by DISTRIBUTOR. COMPANY shall support any clinical trial activity in the Territory with all information available at its disposal. COMPANY reserves the right to approve any study design (protocol) related to clinical trials in the Territory, which approval shall not be unreasonably withheld.

In the event that DISTRIBUTOR is unable, within five (5) years of the Effective Date of this Agreement, to obtain First Commercial Sale, COMPANY shall have the sole and exclusive right to terminate this Agreement with immediate effect.

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

5. DUTIES OF COMPANY

5.1 Duties of COMPANY.

COMPANY covenants and agrees to do each of the following:

(i) COMPANY shall use its commercially reasonable efforts to research and respond to Product improvement needs of end-users in the Territory;

(ii) COMPANY shall not, (a) appoint any other distributor or importer of the Products in the Territory during the term of this Agreement or (b) make sales, directly or indirectly, of any of the Products to any person in the Territory other than DISTRIBUTOR or to any customer outside the Territory who is known to COMPANY, or who COMPANY should reasonably know, intends to introduce, directly or indirectly, the Products into the Territory. Further, subject to Section 2.1, COMPANY shall not, directly or indirectly, import, manufacture, sell, market or otherwise distribute in the Territory (except pursuant to this Agreement) the Products or any products directly competitive with the Products;

(iii) COMPANY shall provide DISTRIBUTOR with all materials necessary to obtain and maintain Shonin or Lui Betsu Kyoka for the import and sale of Products within the Territory by promptly furnishing to DISTRIBUTOR, at COMPANY’s cost, such technical descriptions, specifications, data, drawings, information, service manuals, quality control audits, facility inspection reports issued by governmental regulators or international quality control auditors, and so forth regarding the Products, in the English language, as DISTRIBUTOR may reasonably request;

(iv) COMPANY shall provide DISTRIBUTOR, at no cost, all Products necessary for DISTRIBUTOR to fulfill its obligations under Section 4.2 however, the number of Products supplied at no charge to DISTRIBUTOR shall not exceed ten (10) units of sterile Products per non Shin Iryoyogu Shonin application. The number of units of sterile Products necessary for a Shin Iryoyogu Shonin shall be determined by the number of patients required by the clinical protocol;

(v) COMPANY shall provide DISTRIBUTOR with the information, documentation, data and certificates listed in Schedule 2 , as amended from time to time, necessary for DISTRIBUTOR to remain in compliance with the Good Manufacturing Practices for Importers laws and regulations of the Territory;

(vi) COMPANY shall inform DISTRIBUTOR, from time to time, of technical and other developments regarding the Products as they may occur;

(vii) COMPANY shall furnish to DISTRIBUTOR on an on-going basis, at COMPANY’s cost, with a reasonable quantity of such technical, advertising and selling information and other promotional literature in the English language regarding the Products;

(viii) COMPANY shall provide Product training to personnel of DISTRIBUTOR at times and places mutually agreed upon by both Parties, with each Party bearing its own expenses for attending such training;

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

(ix) COMPANY shall provide DISTRIBUTOR a reasonable amount of non-sterile functional Products for demonstration purposes at [*] percent ([*]%) of the sterile Products price. The total number of non-sterile functional Products sold to DISTRIBUTOR at the discounted price shall be determined at COMPANY’s sole discretion. The total number of non-sterile non-functional Products given to DISTRIBUTOR at no charge shall initially be twenty (20) units and any additional quantities shall be provided at COMPANY’s sole discretion. All such non-sterile Products shall be used for demonstration purposes only and may not be used for any other commercial activity (e.g., sale; lease; loaner; etc.) or implanted; and

(x) during the term of this Agreement and for a period of [*] ([*]) years from the expiration or termination of this Agreement, COMPANY, its affiliates, successors and assigns shall not directly solicit or indirectly solicit for employment or hire in any capacity any personnel employed by DISTRIBUTOR or any affiliate of DISTRIBUTOR.

6. EXPENSES

6.1 DISTRIBUTOR’s Expenses.

Except as otherwise specifically provided herein, DISTRIBUTOR shall be responsible for all expenses incurred by it in connection with the implementation of this Agreement, including without limitation salaries, office and travel expenses of its employees, advertising and trade shows within the Territory and any and all taxes which may be imposed on DISTRIBUTOR within the Territory. COMPANY shall bear only such of these expenses as to which it has given prior written approval.

6.2 COMPANY’s Expenses.

Except as otherwise specifically provided herein, COMPANY shall be responsible for payment of all expenses incurred by it including any taxes imposed on it and shall also pay those expenses incurred in connection with the implementation of this Agreement for which it has given prior written approval.

7. RECORDS and REPORTS

7.1 Records and Reports.

Subject at all times to Section 11.2, DISTRIBUTOR shall maintain complete and accurate records of aggregate purchases and resales of the Products. DISTRIBUTOR shall provide to COMPANY, by the thirtieth (30th) day of the first month following the end of each quarter during the term of this Agreement, a quarterly report summarizing DISTRIBUTOR’S sales activities under this Agreement for the prior calendar quarter and containing such other information as COMPANY may reasonably request, including without limitation a description of and the amount of all Products in DISTRIBUTOR’s inventory as of the first day of each calendar month.

DISTRIBUTOR and COMPANY each shall, for tracking purposes, maintain accurate delivery, receiving and shipping records including model and lot numbers of the Products.

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

7.2 Adverse Experience Reporting.

COMPANY and DISTRIBUTOR shall follow the guidelines contained in Schedule 3 regarding adverse events associated with the Products.

7.3 Updating/Revising Agreement.

The Parties shall amend this Agreement from time to time to the extent necessary to incorporate changes to Schedule 3 reflecting changes in the regulatory requirements applicable to adverse events within their respective territories.

7.4 Recall.

If either Party believes or is notified that a recall in the Territory of any Product is desirable or required by law, it will notify the other Party within twenty-four (24) hours of any such notice. The Parties will then discuss reasonably, expediently and in good faith whether such recall is appropriate or required and the manner in which any mutually agreed recall shall be handled. The Party whose mistake, negligence or gross negligence results in such recall shall bear the expenses incurred in connection with such recall. In addition, if COMPANY is the responsible Party, COMPANY shall reimburse DISTRIBUTOR for the price paid hereunder for such Products as may be recalled, plus all freight and related travel costs incurred by DISTRIBUTOR in connection with such recalled Products, including any costs incurred in disposing of or returning such recalled Products to COMPANY at COMPANY’s instruction. The Parties will mutually agree upon the methods of disposal consistent with applicable laws in the Territory.

8. SALES OF PRODUCT TO DISTRIBUTOR

8.1 Purchase Prices and Terms.

COMPANY shall sell the Products to DISTRIBUTOR at the prices set forth in Schedule 1 . Payments on purchase orders shall be due at the end of the month immediately following the month of shipment of the Products to DISTRIBUTOR. Payment shall be made by wire transfer in U.S. funds to an account designated in writing by COMPANY. All shipments of Products shall be billed to DISTRIBUTOR at the price in effect for each Product in accordance with this Section 8.1 and Schedule 1 , on the date of DISTRIBUTOR’s purchase order for such Products. COMPANY shall have the right to change the prices of the Products no more than [*] each Contract Year consistent with prices charged to third-party international distributors of the Products, taking into consideration such factors as exchange rates, device-specific reimbursement rates for the Products in the Territory, if any, competition, and the like, by notifying DISTRIBUTOR in writing of any such change at least ninety (90) days prior to the effective date of any such change. Notwithstanding the foregoing, in no event shall any price increase exceed [*]% of the then current price for such Product. Further, DISTRIBUTOR shall have the right to request a change in price, taking into consideration such factors as exchange rates, device-specific reimbursement rates for the Products in the Territory, if any, competition, and the like, by notifying COMPANY in writing of any such request and the reason for such request which request COMPANY shall consider in good faith.

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8.2 Risk of Loss, Deliveries.

DISTRIBUTOR shall purchase the Products from COMPANY FCA (as defined under Incoterms 2000 of the International Chamber of Commerce) place of manufacture with risk of loss passing to DISTRIBUTOR upon delivery of the Products to the carrier. DISTRIBUTOR shall be responsible for taxes (other than any taxes on COMPANY’s income) and import duties imposed in the Territory and for shipping fees. COMPANY shall deliver accepted orders within the acknowledged time of shipment stated in COMPANY’s acceptance of the order. All Products shall be packed for shipment and storage in accordance with COMPANY’s standard commercial practices, unless DISTRIBUTOR notifies COMPANY of special packaging requirements, in which event COMPANY shall be entitled to charge DISTRIBUTOR for any additional costs approved in advance by DISTRIBUTOR.

8.3 Acceptance and Cancellation of Orders.

All orders for Products by DISTRIBUTOR shall be initiated by DISTRIBUTOR’s issuance of a written purchase order sent via facsimile or mail to COMPANY or such other place as designated by COMPANY. Such orders shall state unit quantities, unit descriptions, requested delivery dates, and shipping instructions. The acceptance by COMPANY of an order shall be indicated by written acknowledgment thereof by COMPANY within [*] business days following receipt of each order. This Agreement shall control orders of Products by DISTRIBUTOR. Any conflicting or different or additional terms or conditions contained in DISTRIBUTOR’s purchase order, COMPANY’s acknowledgment or other similar document shall not add to or modify the terms of this Agreement. COMPANY shall have the right to cancel any order placed by DISTRIBUTOR or to refuse or delay the shipment thereof to the extent that DISTRIBUTOR is in default of any payment obligations hereunder. DISTRIBUTOR may cancel an order, or any part thereof, for standard Products normally kept in COMPANY’s inventory which COMPANY has accepted only by providing written notice to COMPANY prior to the shipment of such Products and by paying such reasonable cancellation charge as requested by COMPANY. DISTRIBUTOR may not cancel an order for non-inventory Products or custom made Products which COMPANY has accepted unless confirmed in writing by COMPANY and by paying such reasonable cancellation charge as requested by COMPANY, which cancellation charge may include, without limitation reasonable tooling and works-in-progress expenses requested by COMPANY.

8.4 Product Specifications.

COMPANY shall be obligated to deliver Products of the specifications and quality standards in effect at the time and made known to DISTRIBUTOR and which contain a minimum shelf life of the greater of [*] months or [*] percent ([*]%) of the intended maximum shelf life for such Product at the time COMPANY delivers an order. COMPANY shall use reasonable efforts to extend the intended maximum shelf life of Products to [*] months or more by December 31, 2003 and [*] months or more for such Products during 2004. COMPANY reserves the right to change the design or specifications of any of the Products at any time with ninety (90) days prior written notice to DISTRIBUTOR. COMPANY also reserves the right to discontinue the manufacture and distribution of any of the Products at any time, with ninety (90) days prior written notice to DISTRIBUTOR and, without substitution, in COMPANY’s sole discretion;

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provided that a discontinuation or cancellation of a Product or Product line for the purpose of transfer to a third party or to an affiliate of the COMPANY shall be deemed an assignment of the COMPANY’s rights and obligations of this Agreement with respect to such Products, and COMPANY shall ensure that such transferee shall be bound by the terms and conditions of this Agreement to the same extent as the COMPANY with respect to any such Products. COMPANY acknowledges and understands that a substantial lead time is required to obtain Shonin for Product specification changes and COMPANY will use its commercially reasonable efforts to give DISTRIBUTOR as much advance notification as possible in excess of ninety (90) days concerning Product specification changes. In the event COMPANY discontinues the manufacture or distribution of any Product or in the event of a Product specification change or in the event of COMPANY’s refusal to or failure to accept or fill any bona fide purchase orders for Products, DISTRIBUTOR’s MPL under Section 8.6 herein shall be amended and adjusted accordingly.

8.5 Taxes.

DISTRIBUTOR shall be responsible for all taxes levied and/or imposed by the Japanese government or Japanese taxing authority (other than any tax on COMPANY’s income) related to this Agreement; provided that DISTRIBUTOR may withhold from any payments to COMPANY any amounts required by Japanese law to be withheld, and shall provide to COMPANY receipts of any amounts so withheld issued by the proper authority, and such withholding taxes shall not be “grossed up”. COMPANY shall be responsible for all taxes levied and/or imposed by the United States government or any taxing authority in the United States related to this Agreement.

8.6 Purchase Levels.

DISTRIBUTOR’s right to maintain its exclusive distributorship as set forth in Section 2.1, herein, shall be subject to the following:

(i) The MPL for Contract Years 1 through 3 shall be the following sales goals that, if not met, are non-breach, non-termination events:


Proximal Device		Distal Device
Contract Year 1 : [] units ([]% market share)		Year 1: [] ([]% market share)

Contract Year 2 : [] units ([]% market share)		Year 2: [] ([]% market share)

Contract Year 3 : [] units ([]% market share)		Year 3: [] ([]% market share)

Contract Year 1 for “Distal Device” shall commence when (1) DISTRIBUTOR has obtained all necessary regulatory approvals for this Product in accordance with Section 4.2 of this Agreement and (2) COMPANY has extended the intended maximum shelf life of this Product to twelve (12) months or more in accordance with Section 8.4 of this Agreement.

(ii) Contract Year 4 and thereafter: DISTRIBUTOR and COMPANY shall prepare and agree upon an MPL ninety (90) days prior to the anticipated beginning of the Contract Year 4 of the Initial Term and ninety (90) days prior to the beginning of each

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subsequent Contract Year thereafter during the term of this Agreement and any subsequent Renewal Periods. With respect to Product line extensions, the Parties shall make MPL adjustments as mutually agreed upon, commensurate with the expanded total available market opportunity associated with the expanded Product offerings. If after exhausting all reasonable efforts COMPANY and DISTRIBUTOR are unable to mutually agree upon an MPL ten (10) days prior to the beginning of a subsequent Contract Year, then the default MPL for the subsequent Contract Year shall be the product of the actual purchases by DISTRIBUTOR during the Contract Year immediately preceding the subsequent Contract Year times [*] for Contract Year 4 and [*] for any subsequent Contract Year after Contract Year 4.

(iii) For thirty (30) days following the conclusion of any Contract Year of the Agreement in which DISTRIBUTOR has not purchased the MPL for that Contract Year, DISTRIBUTOR shall have the discretionary right but not the obligation to purchase additional Products from COMPANY at the then applicable purchase prices in order to satisfy DISTRIBUTOR’s MPL for the prior Contract Year. Any purchases credited towards the prior Contract Year’s MPL in accordance with the immediately preceding sentence shall not be credited towards the then current Contract Year’s MPL.

(iv) Except as described in Section 8.6(iii) above, for purposes of this Section 8.6, a Product shall be deemed purchased during a designated Contract Year when a firm purchase order has been received and accepted by COMPANY during such Contract Year, and which order calls for delivery of Products within that Contract Year.

(v) Notwithstanding any other provision of this Agreement to the contrary, any MPL then in effect shall be adjusted accordingly to reflect the effect of any new Products and any Product line extensions, any Product recall, any discontinuation of a Product or Product line, any change in design or specifications of any Product which has a material adverse impact on DISTRIBUTOR’s ability to market or sell such Product, any transfer to a third party or affiliate of COMPANY of any Product as described in Section 8.4 that has a material adverse impact on DISTRIBUTOR’s ability to market or sell such Product, any termination of this Agreement with respect to a Product as described in Section 12.2, any refusal or failure by COMPANY to satisfy a bona fide purchase order made in accordance with the terms of Section 8.3, or any relevant event of force majeure as set forth in Section 14.1.

(vi) COMPANY shall have the right but not the obligation to terminate this Agreement in the event that DISTRIBUTOR has not purchased the MPL for Contract Year 4 and any Contract Year thereafter during the term of this Agreement.

(vii) Notwithstanding any provision of this Agreement to the contrary, the MPL has been and will be established solely for the purpose of providing COMPANY with a contingent right to terminate the exclusive distributorship granted to DISTRIBUTOR under Section 2.1, in Contract Year 4 and any Contract Year thereafter. COMPANY agrees that its sole remedy for any failure of DISTRIBUTOR to achieve the MPL for Contract Year 4 and any Contract Year thereafter shall be the termination of DISTRIBUTOR’s exclusive distributorship rights hereunder without any rights to claim against DISTRIBUTOR for any alleged losses or damages of any kind, for reimbursement of any costs of any kind, including attorneys’ fees, or for payment of any other kind; provided , however , that the obligations between DISTRIBUTOR

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and COMPANY under Section 13.2, which may include payments, shall survive a termination for failure of DISTRIBUTOR to fulfill the MPL. This Section 8.6(vii) is not intended to, and shall not be construed to, create any obligation on the part of DISTRIBUTOR to purchase, or any right on the part of COMPANY to cause DISTRIBUTOR to purchase, Products in quantities necessary to satisfy any MPL for any Contract Year.

9. PRODUCT LIABILITY

9.1 Claim, Suit or Action.

If any claim is made or any suit or action is instituted against DISTRIBUTOR arising out of or otherwise in connection with any defect or alleged defect in the Products sold by COMPANY to DISTRIBUTOR under this Agreement, COMPANY shall, without limiting the general indemnity provided by Section 12.1 of this Agreement, at its own expense and upon request by DISTRIBUTOR:

(i) investigate or research the causes of accidents, occurrences, injuries or losses affecting any person or property as a result of the manner in which the Products are designed, manufactured, treated, packaged, labeled, delivered, sold or used, and use its best efforts to correct or eliminate such causes within a reasonable period; and

(ii) provide to DISTRIBUTOR any and all assistance (including, without limitation, technical and other information, documents, data, materials and witnesses) which are, in the opinion of DISTRIBUTOR or its counsel, necessary or useful for DISTRIBUTOR’s defense to such claim, suit or action in relation to the Products sold by COMPANY to DISTRIBUTOR hereunder.

9.2 Product Liability Insurance.

COMPANY shall, at its own expense, obtain and maintain product liability insurance underwritten by a company or companies authorized to do business in the state, countries and Territory contemplated by this Agreement, subject to DISTRIBUTOR’s prior written approval, to cover any and all losses, damages (actual, consequential or indirect), liabilities, penalties, claims, demands, suits or actions, and related costs and expenses of any kind (including without limitation, expenses of investigation, counsel fees, judgments and settlements) for injury to or death of any person or property damages or any other loss suffered or allegedly suffered by any person or entity arising out of or otherwise in connection with the Products sold by COMPANY to DISTRIBUTOR pursuant to this Agreement. COMPANY shall maintain such insurance in a minimum amount of [*] U.S. dollars ($[*]) per occurrence in connection with such insurance. COMPANY shall furnish DISTRIBUTOR with copies of all applicable insurance policies, which insurance policies shall not be canceled, modified or reduced without the prior written consent of DISTRIBUTOR.

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11.

10. WARRANTY POLICY

10.1 Warranties.

COMPANY warrants that the Products sold to DISTRIBUTOR shall be (1) free from any defects in material, design, workmanship, manufacture, treatment, packing, instruction manuals, labeling, warning or otherwise until the use before date (“UBD”) for sterile Products, (2) substantially in conformance with the written specifications maintained by COMPANY at the date of delivery of such Products, and (3) in compliance at all times with the requirements of and regulations adopted pursuant to the U.S. Federal Food, Drug and Cosmetic Act and applicable Japanese law. COMPANY further warrants that it will convey good title to all Products delivered to DISTRIBUTOR free from any security interest, liens or other encumbrance. COMPANY will provide, when requested by DISTRIBUTOR, certification that, to the best of its knowledge, it is in compliance with U.S. and applicable Japanese laws, statutes, rules, and regulations and relevant orders relating to the manufacture, use, distribution and sale of the Products. COMPANY’S SOLE OBLIGATION UNDER THE FOREGOING WARRANTY SHALL BE, AT COMPANY’S SOLE ELECTION, TO EITHER REPLACE THE RELEVANT PRODUCT OR REFUND DISTRIBUTOR’S FULLY-LANDED PURCHASE PRICE FOR SUCH PRODUCT. Such obligation shall be subject to COMPANY being granted the reasonable opportunity to inspect, at COMPANY’s expense, the defective Product at the location of its use or storage and, upon request in accordance with COMPANY’s instruction, return of the Product to COMPANY at COMPANY’s cost. Any such replacement of Products may be made by substitution of any similar Product meeting substantially identical quality specifications and payment by the COMPANY of all freight, handling and duty charges or taxes incident to the delivery of such replacement Products. Upon request by COMPANY, in accordance with COMPANY’S instruction, DISTRIBUTOR shall return the Product to COMPANY at COMPANY’s cost; provided , however , that IN THE EVENT THAT THE RETURN OF A PRODUCT POSES A HEALTH RISK, DUE TO THE POSSIBILITY THAT SUCH PRODUCT HAS BEEN EXPOSED TO AN INFECTIOUS DISEASE OR OTHERWISE, COMPANY, DISTRIBUTOR AND THE END-USER SHALL DETERMINE A MUTUALLY SATISFACTORY METHOD FOR COMPANY TO INSPECT OR OTHERWISE OBTAIN ADDITIONAL INFORMATION ABOUT THE PRODUCT IN ORDER FOR COMPANY TO DETERMINE ITS OBLIGATION UNDER THE FOREGOING WARRANTY. NOTWITHSTANDING THE FOREGOING, COMPANY MAKES NO WARRANTY, NOR SHALL IT HAVE ANY OTHER OBLIGATION TO DISTRIBUTOR WITH RESPECT TO ANY PRODUCT SOLD HEREUNDER, TO THE EXTENT THAT, PRIOR TO USE, SUCH PRODUCT HAS EXCEEDED ITS UBD ACCORDING TO THE PRODUCT’S LABEL OR HAS NOT BEEN USED, HANDLED OR STORED IN ACCORDANCE WITH COMPANY GUIDELINES AS COMMUNICATED BY COMPANY TO DISTRIBUTOR.

Without limiting the generality of the foregoing, and except as provided in Section 12.1, DISTRIBUTOR shall not purport to give, or assume on behalf of COMPANY, any other or different guarantee, warranty, obligation or liability whatsoever, including without limitation liability for loss or damage to person or property resulting from default or defect in design, workmanship or material or goods of any kind, other than stipulated in such warranties as COMPANY may specify from time to time. Furthermore, DISTRIBUTOR shall only give such warranties as specified in this Section 10.1 or as specified by COMPANY from time to time on

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its own behalf and shall not give such other or different warranties or guarantees on its own behalf unless DISTRIBUTOR obtains the prior written consent of COMPANY on each such occasion.

EXCEPT AS EXPRESSLY PROVIDED ABOVE AND IN SECTION 12.1 BELOW, COMPANY GRANTS DISTRIBUTOR NO OTHER WARRANTIES, WHETHER EXPRESS, IMPLIED OR BY STATUTE REGARDING THE PRODUCTS, THEIR FITNESS FOR ANY PARTICULAR PURPOSE, THEIR QUALITY, THEIR MERCHANTABILITY OR OTHERWISE.

10.2 Rejection of Products.

(i) DISTRIBUTOR shall inspect all Products promptly upon receipt thereof and may reject any Product that fails in any material way to meet the then-current specifications for such Product. Any Product not properly rejected within [*] days of receipt of such Product by DISTRIBUTOR (the “Rejection Period”) shall be deemed accepted. To reject a Product, DISTRIBUTOR shall, within the Rejection Period, notify COMPANY of its rejection and request a Material Return Authorization (“MRA”) number. COMPANY shall provide the MRA number to DISTRIBUTOR within seven (7) days of receipt of the request. Within seven (7) days of receipt of the MRA number, DISTRIBUTOR shall return to COMPANY the rejected Product, freight collect, with the MRA number displayed on the outside of the carton. COMPANY reserves the right to refuse to accept any rejected Products that do not bear an MRA number on the outside of the carton. As promptly as possible but no later than [*] working days after receipt of properly rejected Products, COMPANY shall, at its option and expense, either replace the Products or refund DISTRIBUTOR’s original fully landed purchase price for the Products. COMPANY shall pay the cost of shipping charges incurred by DISTRIBUTOR for properly rejected products.

(ii) Notwithstanding the foregoing, Products which are found to be defective for failure to conform to COMPANY’s specifications at an end-user’s site shall be initially replaced by DISTRIBUTOR. COMPANY shall then replace such defective Products with Products meeting specifications within [*] days of (1) receipt of the defective Products, or (2) confirmation by DISTRIBUTOR that such defective Products have been disposed of by an end-user and receipt of a completed customer complaint form. The final good faith determination concerning non-conformance of any Product shall rest solely with COMPANY.

11. PATENTS, TRADEMARKS, COPYRIGHTS;

PROPRIETARY AND CONFIDENTIAL INFORMATION

11.1 Trademark License.

COMPANY hereby grants to DISTRIBUTOR a non-exclusive, royalty-free right and license (with right of sub-license to sub-distributors appointed under Section 2.2) to use the trademarks, trade names, copyrights, and other intellectual property (except patents which are expressly excluded from this Agreement) of COMPANY as communicated to DISTRIBUTOR from time to time (hereinafter referred to as the “Trademarks”) in connection with the sale or other distribution, promotion, advertising and maintenance of the Products under this Agreement.

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13.

DISTRIBUTOR may indicate in its advertising and promotion and on its stationery that it is an “authorized exclusive distributor” of the Products for the Territory. DISTRIBUTOR has no permission to and will not adopt, use or register as a trademark, trade name, business name, or corporate name or part thereof, whether during the term of this Agreement or after its termination, any word, or symbol confusingly similar to any Trademarks. Furthermore, upon request and at COMPANY’s expense, DISTRIBUTOR shall discontinue or cancel the registration of any and all Trademarks utilized and registered by DISTRIBUTOR in connection with the Products prior to or after the execution of this Agreement, except as provided in Section 13.2(iii).

11.2 Duty to Preserve Confidentiality.

Without the prior written consent of the supplying Party, no receiving Party, its officers, agents, or employees shall, in any manner whatsoever for use in any way for its own account or for any third-party disclose or communicate to a third-party, any technical, engineering, manufacturing, business, financial, or other information or know-how (hereinafter referred to as the “Confidential Information”) generated by any Party hereto and acquired directly or indirectly by the other Party. Nothing in this Section 11.2 shall prevent disclosure or use of information: (i) previously known to the receiving Party; (ii) which is or later becomes public knowledge, by publication or otherwise, through no breach of this Agreement by the receiving Party; (iii) which is properly acquired by the receiving Party from a third party having the legal right to disclose such information; (iv) is required to be disclosed by a governmental or judicial authority; or (v) which the receiving Party can demonstrate in writing was independently developed without reference to or reliance upon the other Party’s Confidential Information. No receiving Party shall, in any manner whatever for use in any way for its own account or for the account of any third-party, disclose or communicate to a third-party, any Confidential Information for any purpose except for the purpose for which such Confidential Information was supplied, and such receiving Party shall take every reasonable precaution to protect the confidentiality of such information. Each Party acknowledges that any breach of any obligation under this Section 11.2 is likely to cause or threaten irreparable harm to the other Party, and accordingly, each Party agrees that in such event the non-breaching Party shall be entitled to equitable relief to protect its interests, including, but not limited to, preliminary and permanent injunctive relief.

11.3 Proprietary.

DISTRIBUTOR acknowledges that the Products are proprietary to COMPANY and may not be copied and that all rights of design and invention are reserved by COMPANY.

12. INDEMNITIES

12.1 Indemnity.

COMPANY shall, at its own expense, defend, indemnify and hold harmless DISTRIBUTOR, its officers, directors, employees, agents, successors and assigns (the “Indemnified Parties”) against any and all liabilities, claims, actions, suits, fines, penalties, losses, settlements, costs and expenses (including, without limitation, reasonable attorneys’ fees and expenses) (collectively “Losses”) relating to or arising out of any suit, claim or proceeding instituted against any of the

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Indemnified Parties by any third party or incurred in connection therewith, alleging that: (i) any patent, trademark or any other intellectual property right of COMPANY infringes the intellectual property rights of such third party; or (ii) any defect in the Products or their design or manufacture caused bodily injury or death to any person or damage to any property. Notwithstanding the foregoing, COMPANY shall not be responsible for such Losses as set forth in this section to the extent that: (a) such Product has been altered, modified or tampered with by DISTRIBUTOR directly resulting in such Product defect; or (b) such Product has been misused as a result of DISTRIBUTOR’s unauthorized representation about the Product directly resulting in such Losses; or (c) such Losses arise directly out of any negligence, recklessness or willful misconduct by DISTRIBUTOR or any of its employees; or (d) DISTRIBUTOR fails to give COMPANY reasonable written notice of any such claim as soon as is reasonably practicable. COMPANY shall have the sole control of the defense and/or settlement of any claim subject to indemnification under this Section 12.1; provided, however, that COMPANY shall not control or settle any such claim without prior consultation with DISTRIBUTOR.

12.2 Infringing Products.

If a claim of patent or other proprietary right infringement is made by a third party with respect to a Product, then COMPANY, at its option and expense, shall (i) obtain for DISTRIBUTOR the right to continue to market and distribute the Product, (ii) replace the Product with a functionally-equivalent non-infringing Product, (iii) modify the Product so that it becomes non-infringing, so long as the functionality of the Product is not thereby adversely affected, and replace the infringing Product with such modified Product or (iv) have dismissed, settle or otherwise cause such claim to be withdrawn. If COMPANY is unable to accomplish any of the foregoing within [*] days of the initial infringement claim and the ability of DISTRIBUTOR to market such Product is effectively prevented by a court of relevant jurisdiction in the Territory, then COMPANY shall grant DISTRIBUTOR a full refund of DISTRIBUTOR’S fully-landed cost for all affected Products and accept return of such Products at COMPANY’s expense, the Parties shall remove all such affected Products from then current and future MPL and adjust DISTRIBUTOR’s MPL accordingly and this Agreement shall be terminated with respect to such affected Product. If partial termination of this Agreement with respect to one or more Products pursuant to this Section 12.2 results in a greater than [*] percent ([*]%) decrease in DISTRIBUTOR’s total sales of Products in the [*]-month period following any such partial termination as compared to the average quarterly sales over the [*]-month period immediately preceding the third party claim which precluded DISTRIBUTOR from marketing and distributing any Product, then DISTRIBUTOR shall have the option to terminate this Agreement in its entirety, subject to Section 13.2.

13. TERMINATION

13.1 Cancellation for Cause.

COMPANY or DISTRIBUTOR, as the non-defaulting Party, may cancel this Agreement, immediately by providing written notice to the other Party, upon the occurrence of any of the following events:

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15.

(i) The other Party becomes insolvent or is unable to pay its debts as they mature or ceases to pay in the ordinary course of business its debts as they mature; or the other Party makes an assignment for the benefit of its creditors; or a receiver, liquidator, custodian, trustee or the like is appointed for the other Party or its property; or the other Party commences a voluntary case under any applicable bankruptcy or insolvency law or consents to the entry of an order for relief in any involuntary case, or a court with jurisdiction enters a decree for relief in any involuntary case involving the other Party.

(ii) The other Party defaults in the material performance of any of its obligations under this Agreement and fails to cure such default within sixty (60) days after written notice thereof from the non-defaulting Party.

13.2 Obligations upon Cancellation or Termination.

Upon the expiration of this Agreement or its termination in accordance with Section 8.6(vi), Section 12.2 or Section 13.1 above, and after the allowance for any applicable cure periods, DISTRIBUTOR and COMPANY each promise to do the following immediately:

(i) DISTRIBUTOR shall pay to COMPANY all amounts which are then due and payable by DISTRIBUTOR to COMPANY under this Agreement less any such amounts which reasonably may be set-off by DISTRIBUTOR based on a dispute or otherwise arising out of or related to this Agreement.

(ii) Each Party shall return to the other Party all Confidential Information of the other Party in its possession or under its control, together with a statement signed by an officer or duly authorized representative of the Party to the effect that all of the Confidential Information has been returned to the other Party.

(iii) Except to the extent that DISTRIBUTOR requires use of the Trademarks in order to exercise DISTRIBUTOR’s right to sell any existing inventories of Products upon the expiration or termination of this Agreement, as provided for in Section 13.2(iv), DISTRIBUTOR shall cease to use any of the Trademarks and return to COMPANY all materials supplied to DISTRIBUTOR by COMPANY which contain any of the Trademarks. Furthermore, upon receipt of written notice from COMPANY, DISTRIBUTOR shall dispose of all packaging, labels, brochures, lists, and other similar materials containing any of the Trademarks in accordance with COMPANY’s instructions, except for those materials necessary for DISTRIBUTOR’s continuing sale of existing inventories of Products provided for in Section 13.2(iv). COMPANY shall reimburse DISTRIBUTOR for the direct costs (exclusive of overhead) and disposal costs of such materials.

(iv) COMPANY or its successor (A) shall repurchase all sterile Products with a UBD at the date of termination or expiration of this Agreement of [*]% of the intended maximum shelf life remaining or greater at DISTRIBUTOR’s original landed cost plus any consumption tax applicable in the Territory to sales or deliveries of Products to a third party in the Territory; provided , however , that any Products with [*]% or more of the UBD remaining but less than [*]% of the UBD remaining shall be subject to a [*] percent ([*]%) restocking fee to be charged by COMPANY, and (B) shall pay DISTRIBUTOR for all documented out of pocket

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expenses directly related to all Shonin then held by DISTRIBUTOR; provided , however , that DISTRIBUTOR shall have the absolute right to continue to sell any such Products not repurchased by COMPANY, in accordance with this Section 13.2(iv). All payments by COMPANY under this Section 13.2(iv) shall be made by wire transfer to an account to be specified by DISTRIBUTOR on or prior to thirty (30) days after DISTRIBUTOR has delivered the Products and provided COMPANY with an invoice.

For purposes of this Section 13.2(iv), “out of pocket expenses” shall include any Product costs, documentation, Product testing fees, and any clinical trial related expenses, etc. Specifically excluded from “out of pocket expenses” are DISTRIBUTOR overhead, salary, travel expenses and other expenses, which derive from the operation of DISTRIBUTOR’s business as an ongoing business concern in the Territory.

(v) Subject to payment by COMPANY to DISTRIBUTOR of all out of pocket expenses, as detailed in Section 13.2(iv) above, DISTRIBUTOR shall diligently and expediently take the necessary steps to transfer any Shonin held by DISTRIBUTOR for the Products to a third-party affiliated with COMPANY, and located and organized under the law of the Territory, that is authorized and legally entitled to hold the Shonin.

(vi) During the period that the Shonin are in the process of being transferred, DISTRIBUTOR shall otherwise cooperate with COMPANY by importing and reselling the Products to COMPANY’S next authorized distributor at DISTRIBUTOR’s fully landed cost for the Products plus a mark-up of [*] percent ([*]%) and any applicable consumption tax. The general purchase and sales terms of this Agreement will govern the sale of Products during this transfer period. COMPANY expressly agrees to indemnify DISTRIBUTOR for any non-payment by COMPANY’s next distributor for Products so resold by DISTRIBUTOR or for any other non-performance of DISTRIBUTOR out of DISTRIBUTOR’s immediate control during such transfer period.

(vii) In the event that COMPANY or its successor exercises its right to terminate this Agreement pursuant to Section 14.3(ii) below, COMPANY shall be obligated to pay DISTRIBUTOR a termination fee which shall be calculated in accordance with the following table (the “Change of Control Termination Fee”):


If Change of Control	Then the Change of Control
termination occurs during:	Termination Fee shall be equal to:	Multiplied by a factor of
[*]	[*]	[*]

[*]	[*]	[*]

[*]	[*]	[*]

[*]	[*]	[*]

Gross profit shall mean net sales in YEN of the Products less the price of the Products paid by DISTRIBUTOR to COMPANY in YEN.

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In the event that COMPANY challenges the applicability or efficacy of COMPANY’s Change of Control Termination Fee, or if this provision is held to be void or unenforceable for any reason, DISTRIBUTOR shall be entitled to all remedies provided at law, including attorney’s fees. The Parties expressly acknowledge that substantial injury will result to DISTRIBUTOR upon a termination of this Agreement by COMPANY or its successor pursuant to Section 14.3(ii) below. The Parties further expressly acknowledge that it may be difficult or impossible to determine with precision the amount of monetary damages that would be required to compensate DISTRIBUTOR for such injury. Accordingly, the Parties have made a good-faith effort to accurately determine what those damages might be and the amount agreed to as reasonable by the Parties is COMPANY’s Change of Control Termination Fee.

(viii) If any portion of the Note is still outstanding, COMPANY shall immediately repay to DISTRIBUTOR the principal balance of the Note and any accrued interest owed at the time of such repayment.

14. GENERAL PROVISIONS

14.1 Force Majeure.

Save in respect of payments due under this Agreement, neither Party to this Agreement is responsible to the other Party for nonperformance or delay in performance of the terms and conditions herein due to any event of force majeure, including without limitation acts of god, acts of government, wars, civil disturbances, strikes, and other labor unrest, accidents in transportation or other cause beyond the control of the Parties. The Party whose performance is prevented under this paragraph shall immediately inform the other Party of the state of affairs. Notwithstanding the foregoing, should any Party be prevented from materially performing its obligations under this Agreement due to any such event of force majeure for a period in excess of four (4) months, then the other Party may elect to terminate this Agreement upon delivery of thirty (30) days prior written notice to such effect.

14.2 Relationship Between Parties.

DISTRIBUTOR’s relationship to the COMPANY shall be that of an independent contractor. Nothing contained in this Agreement shall make DISTRIBUTOR a partner, joint venturer, employee, or agent of COMPANY for any purpose whatsoever. DISTRIBUTOR shall not sign any contract in the name of the COMPANY, shall not purport to bind COMPANY in any way to any obligation, and shall not hold itself out or purport to act as COMPANY’s legal partner or legally empowered agent or representative for any purpose whatsoever.

14.3 Successors, Nonassignability.

(i) This Agreement and each and every covenant, term and condition hereof is binding upon and inures to the benefit of the Parties hereto and their respective successors and permitted assigns. Except as provided in Section 2.2 above, neither this Agreement nor any rights hereunder may be assigned by DISTRIBUTOR directly, indirectly, voluntarily or by operation of law, without first receiving the prior written consent of COMPANY. In the event of (A) any consolidation of COMPANY with or merger of COMPANY with or into another entity, or (B) any sale, transfer or lease of all or substantially all the Product related assets of

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

18.

COMPANY, or (C) any event in which any person or group of persons acting in concert acquire more than 50% of the voting stock of COMPANY (each, a “Change in Control”), COMPANY shall to such extent assign its rights and obligations under this Agreement to such acquirer of COMPANY’s stock or assets. COMPANY shall further provide DISTRIBUTOR with prior written notice of such assignment accompanied by a written undertaking of the assignee that the assignee shall be bound by this Agreement and assume all obligations of COMPANY under this Agreement.

(ii) Provided that such Change in Control occurs, COMPANY or COMPANY’s successor shall have ninety (90) days from the date of such a Change in Control to notify DISTRIBUTOR in writing of its intention either to terminate this Agreement or to accept the assignment of and assume all rights and obligations of COMPANY under the terms and conditions of this Agreement. In the event that the COMPANY or COMPANY’s successor notifies DISTRIBUTOR within ninety (90) days of the Change of Control that it has chosen to terminate this Agreement (the “Change of Control Termination Event”), then COMPANY shall promptly pay to DISTRIBUTOR by wire transfer to an account to be specified by DISTRIBUTOR the Change of Control Termination Fee set forth in Section 13.2(vii).

14.4 Survival of Obligations.

Both Parties agree that the obligations described in Sections 4.1(x), 5.1(x), 7.2, 7.3, 7.4, 8.5, 10.1, 13.2 and Articles 9, 11, 12 and 14 of this Agreement shall survive any termination, cancellation, or expiration of this Agreement.

14.5 Remedies.

The rights and remedies of each Party under this Agreement are not exclusive but shall be in addition to all of the rights and remedies to which a Party is entitled against the other Party under the law governing this Agreement.

14.6 Notices.

Unless otherwise specified, any notice required by this Agreement shall be made in a writing sent by prepaid certified mail, overnight courier or any means of electronic communications with confirmation copy sent by certified mail to the addresses first listed above, until notice of another address shall be given in the manner provided herein. All notices, consents or requests shall be effective from the date of transmission if sent by facsimile, seven days if sent by certified mail and when received if sent by international courier.

14.7 Disputes.

In the event there arises a dispute between the Parties as to the performance or interpretation of any of the provisions of this Agreement, or as to matters related to but not covered by this Agreement, the Parties shall first attempt to find a mutually agreeable solution by consultation in good faith. If the matter has not been resolved within thirty (30) days of their first meeting to resolve a dispute, then any such dispute shall be determined finally by final and binding arbitration in accordance with the International Arbitration Rules of the American Arbitration Association. The place of arbitration shall be either (a) Menlo Park, California, U.S.A. if initiated

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

19.

and brought by DISTRIBUTOR or (b) Tokyo, Japan if initiated and brought by COMPANY and the language of the arbitration shall be English. The arbitral tribunal shall consist of a single arbitrator. If the Parties shall not have agreed upon an arbitrator within thirty (30) days of the notice of arbitration, then the Administrator of the American Arbitration Association shall appoint one. At minimum, the arbitral tribunal shall be experienced in cross-border transactions in the area of medical devices. The unsuccessful Party in an arbitration shall pay and discharge all reasonable costs and expenses (including reasonable attorneys’ fees) which are incurred by the other Party in enforcing this Agreement.

Judgment upon the award of the arbitrator may be entered in any court having jurisdiction thereof. The Parties acknowledge that this Agreement and any award rendered pursuant to it shall be governed by the 1958 United Nations Convention on the Recognition and Enforcement of Foreign Arbitral Award.

Pending the submission to arbitrators and thereafter until the single arbitrator renders the award, the Parties shall, except in the event of termination, continue to perform all their obligations under this Agreement without prejudice to a final adjustment in accordance with the award.

Nothing herein shall prevent any party from seeking injunctive relief from any court of competent jurisdiction, in order to preserve assets, prevent irreparable harm or as otherwise appropriate.

14.8 Unenforceable Terms.

In the event any term or provision of this Agreement shall for any reason be invalid, illegal or unenforceable in any respect, it shall be deemed separate and shall not affect any other provisions hereof or the validity hereof. The Parties agree to re-negotiate in good faith any term or provision held invalid and to be bound by the mutually agreed substitute term or provision.

14.9 Waivers.

No waiver of any of the terms and conditions of this Agreement shall be effective for any purpose, unless expressed in a writing and signed by the Party thereto giving the same, and any such waiver shall be effective only in the specific instance and for the purpose given.

14.10 Governing Law; Headings.

This Agreement shall be governed by and construed in accordance with the substantive law of the State of California, U.S.A. excluding that body of law applicable to choice or conflicts of law. The headings to the paragraphs of this Agreement are for convenience of reference only, do not form a part of this Agreement, and shall not in any way affect the interpretation hereof.

14.11 Entire Agreement, Modification.

This Agreement constitutes the entire and final agreement between the Parties on the subject matter hereof and supersedes any and all prior oral or written agreements or discussions on the subject matter hereof. This Agreement may not be modified in any respect except in a writing which states the modification and is signed by both Parties hereto.

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

20.

14.12 Further Assurances.

The parties agree to execute any and all such further agreements, instruments or documents, and to take any and all such further action as may be necessary or desirable to carry out the provisions hereof and to effectuate the purposes of this Agreement.

14.13 Schedules.

The schedules attached hereto are incorporated herein by this reference and expressly made a part hereof as fully as though completely set forth herein.

14.14 Counterparts.

This Agreement may be executed in two or more counterparts, each of which shall be deemed an original and all of which together shall constitute one instrument.

IN WITNESS WHEREOF, this Agreement has been prepared in two (2) original copies and the Patties and/or their duly authorized representatives have placed their signatures here below.


	CARDICA, INC.

	By:		/s/ Bernard Hausen

	Name: Title:		Bernard Hausen, MD President & CEO

	CENTURY MEDICAL, INC.

	By:		/s/ Yasuo Kyotani

	Name:		Yasuo Kyotani
	Title:		President and CEO

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

21.

Schedule 1. Products and Price s

$[*] per Proximal Device FCA.

$[*] per Distal Device FCA.

If the selling price to Distributor exceeds [*]% of COMPANY’s average U.S. selling price, then DISTRIBUTOR shall have the right to discuss pricing matters with COMPANY. COMPANY shall reasonably disclose its average U.S. selling price to Distributor upon written request by DISTRIBUTOR.

COMPANY shall on a case by case basis prepare price quotations for custom made Products based upon DISTRIBUTOR’s specific inquiry, taking into consideration expected purchase volumes.

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

22.

Schedule 2. Memorandum of Compliance

In order to comply with the request from Century Medical, Inc. (“CMI”), Cardica, Inc (“We” or “we”) shall implement and undertake the following:

1. QC Certificate

We shall include a Quality Control Certificate in every shipment to CMI. Such Quality Control Certificate shall be specific as to lots or Serial Number and the date of manufacture, and indicate that the Product shipped is within Product specifications (inspection & test record). In case the Products are sterilized by ETO, we shall also include an ethylene oxide residual analysis report.

2. Sterilization Validation Data

We shall provide CMI with the latest Sterilization Validation Data at least once a year and when validated.

3. Certificate to Foreign Government and Standard Operating Procedure (SOP), etc.

We shall provide CMI with the up-dated “Certificate to Foreign Government” issued by the FDA relating to our manufacturing plant or a copy of the certificate certifying compliance to ISO13485, EN 46001 or successor regulations.

We shall provide CMI the following information at least once every two years for CMI to confirm that the Product specifications conform to the contents of the Japanese Regulatory Approvals document: copies of the (i) up-dated version of the Product specification sheet; (ii) production flow chart; and (iii) SOP of quality control testing protocol; and (iv) other necessary documents in order to maintain GQP, GVP and GMP, and keep CMI updated when these documents are amended or modified. In addition, we shall allow CMI personnel to visit our facility, with reasonable notice, to actually confirm these points at the manufacturing plant.

4. Advance Notice of Product Modifications and/or Improvements

We shall keep CMI informed in writing regarding any and all modifications and/or improvements of the Products, change in method of sterilization, change in packaging, change in facility or factory location, changes in test standards and change in quality control method for transportation and delivery of the Products. Product modifications that might reasonably be expected to affect the validity of the regulatory status of the Products will be discussed with CMI prior to implementation of such changes.

5. Facility Inspections, Product Recalls

We shall promptly notify CMI of any actions taken with respect to our business or the Products by regulators in other jurisdictions, including (i) any facility inspection resulting in any notice of infraction, warning or other action, (ii) voluntary or mandatory recalls or withdrawal of Products, (iii) administrative or court proceedings regarding the Products, (iv) MDR, (v) information on proceedings taken to avoid occurrence or enlargement of health/hygiene danger and (vi) any

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

23.

similar matters. We will promptly provide CMI with copies of any correspondence with regulators regarding any of the foregoing.

6. Transmitting Information Method and Person Responsible

Concerning the events specified in items 4 and 5 above, both Parties will notify the other of the primary (preferred) method of transmitting information and the name and position title of the person responsible for sending and/or receiving these transmissions. Both parties will settle the detail of information transmission method, including mailing address, phone and fax numbers and e-mail address of person in charge, and promptly inform the other Party in case of change.

7. Packaging

We shall provide for the Products to be suitably packaged and packed for export.

8. Product Complaint Handling

We shall provide CM with a written report of our findings, in a reasonably timely manner, in response to any Product complaint report submitted by CMI. Where a Product complaint involves a Product failure that resulted in bodily injury or death, we shall expedite and place the highest priority possible to investigating and reporting in writing our findings to CMI.

9. On-site investigation of Compliance with GMP (ISO 13485;2003) by regulator

In order to register each manufacturing site(s) related to compliance with GMP (ISO 13485;2003), we shall allow regulator’s personnel, with reasonable notice, (i) to visit our manufacturing site(s) and (ii) to investigate such compliance.

10. Addition or amendment to this Memorandum

When any addition or amendment to this Memorandum is required in compliance with GQP, GVP and GMP, we agree to discuss them with CMI in good faith.

Cardica, Inc.

Century Medical, Inc.

Date:

2-16-05

Date:

February 22, 2005

Signature:

/s/ Bernard Hausen

Signature:

/s/ Yasuo Kyotani

Name:

Bernard Hausen, MD, PhD

Name:

Yasuo Kyotani

Title:

President and CEO

Title:

President and CEO

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

24.

Schedule 3 Reporting for Product Defects, Adverse Events, Overseas Corrective Action Reports and Research Reports.

The language used for all communications under this Schedule 3 shall be English. The attached Decision Trees delineate (i) what Product defects or Adverse Events are reportable or non-reportable to MHLW under the Japanese Regulatory Affairs Law along with the time limit for DISTRIBUTOR to report such matters after DISTRIBUTOR becomes aware of those and (ii) definitions of the technical terms used in this Schedule 3. In any event, DISTRIBUTOR is obligated to report Overseas Corrective Action Reports and Research Reports.

FDA Reportable Events by COMPANY means the following (see 21 C.F.R. §803 for further details regarding reporting requirements and time frames):

	a.		Medical Device Report (MDR) is required whenever COMPANY becomes aware of information suggesting that one of its marketed devices (i) may have caused or contributed to a death or serious injury, or (ii) has malfunctioned and this malfunction is likely to cause or contribute to a death or serious injury if it recurs.

	b.		Adverse Event or Serious injury/(Serious Illness) is an injury or illness that:

			Is life threatening, even if temporary in nature; or

			Results in permanent impairment of a body function or permanent damage to a body structure; or

			Necessitates medical or surgical intervention to preclude permanent impairment of a body function or permanent damage to a body structure.

	(i)		Regulatory Reporting Requirements. COMPANY and DISTRIBUTOR each will be responsible for regulatory reporting and for responding to regulatory inquiries within their respective territories. DISTRIBUTOR and COMPANY each shall use their best efforts to notify the other, by telephone, facsimile or email within forty-eight (48) hours (but in any event such notification shall occur within seventy-two (72) hours) after either Party becomes aware of any matter which must be reported to the MHLW or FDA. The Party which becomes aware of any such matter will use its best efforts to provide to the other Party within five (5) calendar days of first becoming aware of such matter (but in any event no later than within five (5) business days), with a detailed written report, by facsimile regarding the event. COMPANY shall supply DISTRIBUTOR with a copy of its medical device report filed with the FDA in accordance with the Medical Device Reporting Regulation (21 C.F.R. § 803 (2001) within twenty-four (24) hours of supplying such a report to FDA. DISTRIBUTOR shall supply COMPANY with a copy of its report filed with the MHLW within twenty-four (24) hours of supplying such a report to the MHLW. Follow-up reports to the initial report will be submitted using the same procedures and timelines.

	(ii)		Non-reportable Product Defects or Non-Reportable Adverse Events. DISTRIBUTOR will notify COMPANY of non-reportable Product defects or non-reportable Adverse Events within ten (10) calendar days after it becomes aware of any such Product defects or Adverse Events.

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

25.

Decision Trees

First check “Device Defect Report” decision tree, as attached hereto. After checking the “Device Defect Report” decision tree, as attached hereto, cheek also the “Adverse Events Reports” decision tree, as attached hereto, in case a patient’s death or injury has occurred.

Definition of the technical terms:

Serious

	(1)		Death.

	(2)		Disability.

	(3)		Cases which might be related to death or disability.

	(4)		Cases which require admission or prolongation of the period of admission to a hospital or clinic for treatment. (excluding cases in (3))

	(5)		Severe cases which might be related to death or injury.

	(6)		Congenital diseases or abnormalities in subsequent generations.

	2.		Moderate

			Incidents neither Serious nor Slight.

	3.		Slight

			Symptoms caused by incidents are slight and easily cured.

	4.		Level of seriousness of a case which might have occurred.

			This is to be determined by judging how serious (in the worst case) a health hazard caused by the case has been, assuming the case occurs again; even if the patient or user was not deceased or injured, or a serious health hazard was avoided due to the intervention of a doctor, in spite of a device defect.

	5.		Prediction of the tendency of occurrence

			This is to be determined by judging whether number, frequency, conditions, etc. relating to occurrence of an incident is clearly written in the device’s Instructions for Use (“IFU”) package insert. In order to be judged as predictable, it must be assured that not only manufacturer (importer) but also users such as doctors and nurses can predict the tendency of occurrence of the incident. Such case is categorized as a “known-incident.”

	6.		Prediction of occurrence

			This is to be determined by judging whether occurrence of an incident is clearly written in the device’s IFU package insert. In order to be judged as predictable, it must be assured that not only manufacturer (importer) but also users such as doctors and nurses can predict the occurrence of the incident. Such case is categorized as a “known-incident.” For purposes of clarity, it is not to be determined as a “known-incident” where an incident has occurred under conditions other than those written in the IFU package insert.

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

26.

Device Defect Reports

(in case Patient’s death or injury simultaneously occurs, check “Adverse Event Report” flowchart also.)

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

27.

Adverse Events Reports (with Patient’s death or injury)

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

28.

Overseas Corrective Action Reports and Resarch Reports

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

29.

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

Exhibit 10.7

SUBORDINATED CONVERTIBLE NOTE AGREEMENT

Table of Contents


			Page
1.	DESCRIPTION OF NOTE AND COMMITMENT			1
	1.1	Procedure for Loan		1
	1.2	Interest		1
	1.3	Maximum Interest Rate		2
	1.4	Payments		2
	1.5	Post-Maturity and Penalty Interest		2
	1.6	Note		2
	1.7	Delivery of Note; Closing		3
	1.8	Place of Payment		3
	1.9	Home Office Payment		3
2.	INTERPRETATION OF AGREEMENT; DEFINITIONS			3
	2.1	Definitions		3
	2.2	Accounting Principles		6
	2.3	Directly or Indirectly		6
	2.4	Legal Holidays		6
3.	REPRESENTATIONS AND WARRANTIES OF THE COMPANY			6
	3.1	Corporate Organization and Authority		6
	3.2	Subsidiaries		7
	3.3	Authority		7
	3.4	Financial Statements		7
	3.5	Business Changes		7
	3.6	Litigation		9
	3.7	Compliance with Laws and Other Instruments		9
	3.8	Title to Properties; Leases		9
	3.9	Licenses, etc		9
	3.10	Proprietary Rights		10
	3.11	Taxes		10
	3.12	Private Offering		11
	3.13	Full Disclosure		11
4.	REPRESENTATIONS AND WARRANTIES OF CENTURY			11

-i-

Table of Contents
(continued)


			Page
	4.1	Corporate Organization		11
	4.2	Authority		11
	4.3	Restricted Note		12
	4.4	Disclosure of Information		12
	4.5	Investment Experience		12
	4.6	Accredited Investor		12
	4.7	Rule 144		13
5.	CONDITIONS PRECEDENT			13
	5.1	Disbursement		13
	5.2	Conditions to Obligations of the Company		13
6.	COVENANTS OF THE COMPANY			14
	6.1	Corporate Existence		14
	6.2	Maintenance of Properties		14
	6.3	Merger; Acquisitions		14
	6.4	Sale or Lease of Assets; Dispositions		14
	6.5	Indebtedness		14
	6.6	Notice of Claims and Litigation		15
	6.7	Notice of Default		15
7.	EVENTS OF DEFAULT			15
	7.1	Payments		15
	7.2	Bankruptcy		15
	7.3	Commencement of an Action		15
	7.4	Default of Indebtedness		16
	7.5	Covenants and Agreements		16
	7.6	Certain Occurrences Under Distribution Agreement		16
	7.7	Other Remedies		16
8.	SUBORDINATION AND SECURITY INTEREST OF CENTURY			16
	8.1	Default on Senior Indebtedness		16
	8.2	Effect of Subordination		17
	8.3	Subrogation		17

-ii-

Table of Contents
(continued)


			Page
	8.4	Undertaking		17
	8.5	Subordination of Future Debt		17
	8.6	Security Interest		17
	8.7	Financing Statements and Other Actions		18
9.	CONVERSION OF NOTE			18
	9.1	Conversion Right		18
	9.2	Conversion Price		18
	9.3	Exercise of Conversion Privilege		18
	9.4	Fractions of Shares		19
	9.5	Notice of Certain Corporate Action		19
	9.6	Company to Reserve Common Stock		20
	9.7	Covenant as to Common Stock		20
	9.8	Change of Control		20
	9.9	Issue Tax		20
	9.10	Transfer and Exchange of the Note		20
	9.11	Loss, Theft, Mutilation or Destruction of a Note		20
	9.12	Expenses, Stamp Tax Indemnity		21
	9.13	Cancellation of Converted Note		21
10.	REGISTRATION RIGHTS			21
11.	MISCELLANEOUS			21
	11.1	Powers and Rights Not Waived; Remedies Cumulative		21
	11.2	Notice		21
	11.3	Successors and Assigns		22
	11.4	Survival of Representations and Warranties		22
	11.5	Severability		22
	11.6	Waiver of Conditions		23
	11.7	Counterparts		23
	11.8	Governing Law		23
	11.9	Captions		23
	11.10	Dispute Resolution		23

-iii-

Table of Contents
(continued)


		Page
11.11	Survival		24
11.12	Term; Termination		24
11.13	Entire Agreement; Amendment and Modification		24

-iv-

[*] = CERTAIN INFORMATION IN THIS EXHIBIT HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

SUBORDINATED CONVERTIBLE NOTE AGREEMENT

This Subordinated Convertible Note Agreement (this “ Agreement ”), is entered into as of the 16th day of June 2003, by and between Century Medical, Inc. a Japanese corporation, and Cardica, Inc. , a Delaware corporation.

Recitals

A. The Company and Century desire to enter into an exclusive Distribution Agreement of equal date herewith in the form attached hereto as Exhibit A .

B. Upon the execution of this Agreement and the Distribution Agreement and upon the Company’s completion of certain milestones, Company, as borrower, desires to borrow from Century, as lender, Three Million Dollars (US$3,000,000), for which a certain Subordinated 5% Convertible Note with a maturity of five (5) years from the date of issuance, in the form attached hereto as Exhibit B , shall be issued to Century by the Company, all as more fully described below, on the terms and conditions set forth herein.

C. The Company and Century desire to make certain representations, warranties, covenants and agreements in connection with the issuance of the Note and desire to prescribe certain conditions precedent to such issuance.

D. The Company and Century desire to make certain representations, warranties, covenants and agreements in connection with entering into this Agreement and desire to prescribe certain conditions precedent to the Agreement.

Agreement

Now, Therefore , in consideration of the promises and of the mutual provisions, agreements and covenants contained herein, the Company and Century hereby agree as follows:

1. Description of Note and Commitment .

1.1 Procedure for Loan . Subject to the terms and conditions of this Agreement, Century agrees that upon the execution of this Agreement and the Distribution Agreement (the “ Effective Date ”), Century shall make a loan (the “ Loan ”) to the Company in a principal amount of Three Million Dollars (US$3,000,000) to be governed by the terms and conditions of, and repaid in accordance with, this Agreement. Any amount repaid may not be reborrowed.

1.2 Interest .

(a) Interest . The Loan shall bear interest from the relevant Disbursement Date on the unpaid principal amount thereof until the earlier of an Event of

Default which results in Century declaring the entire principal and accrued interest immediately due and payable or the Maturity Date, at a rate per annum equal to five percent (5.0%).

(b) Accrual and Computation of Interest. Interest shall be computed on the basis of a year of 365 days for the actual number of days elapsed.

1.3 Maximum Interest Rate . Nothing in this Agreement shall require the Company to pay interest at a rate exceeding the maximum amount permitted by applicable law to be charged by Century; provided, that in any event the Company shall pay the lesser of such maximum permissible rate and the rate provided herein.

1.4 Payments .

(a) Interest Payments . On the last day of each quarter ( i.e. January 31, April 30, July 31 and October 31), payable in arrears, commencing with the quarter of the first Disbursement Date and ending with final payment on the Maturity Date of the Note, the Company shall pay Century all interest then accrued.

(b) Loan Payment . The Company shall repay the entire outstanding principal amount of the Loan in full on the applicable Maturity Date without presentment, demand, protest or any other notice of any kind, all of which are hereby expressly waived; provided that the Note has not been converted to shares of Common Stock, in accordance with Article 9, prior to such repayment.

(c) Optional Prepayment . The Company may at any time prepay the entire outstanding principal amount of the Loan or any portion thereof without penalty.

(d) Subordination . Notwithstanding the foregoing, the payment of principal of the Note will be subordinated in right of payment to the prior payment in full of all Senior Indebtedness (as defined in Section 2.1 below), whether outstanding on the date hereof or hereafter incurred, on the terms set forth in Article 8; provided, however , that, except as limited under Section 8.1, the Company shall pay interest to Century on Interest Payment Dates and outstanding principal, plus any accumulated interest amounts, on either (i) the Stated Maturity of the Note or (ii) acceleration of the Note under Article 7 or Section 9.8 hereunder.

1.5 Post-Maturity and Penalty Interest . Commencing upon the earlier of an Event of Default or the Maturity Date, any outstanding principal balance of the Loan plus accrued but unpaid interest, shall begin bearing interest, payable on demand, at a rate per annum equal to twelve percent (12%), subject to Section 1.3 hereof. This rate shall also apply to any overdue and accumulated interest amounts.

1.6 Note . The Loan made by Century pursuant to this Agreement shall be evidenced by a Note, in the form attached hereto as Exhibit B , or several Notes, resulting from a Permitted Transfer, as described in Section 9.10 (the “ Note ” or “ Notes ”), and shall be payable to Century on the Maturity Date or an Event of Default of the Loan. The Company hereby authorizes Century or the Registered Holder to indicate upon a schedule attached to the Note all payments of principal and interest thereon. Absent manifest error, such notations shall be

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presumptive as to the aggregate unpaid principal amount of the Loan, and interest due thereon, but any failure by Century or the Registered Holder to make such notations or the inaccuracy or incompleteness of any such notations shall not affect the obligations of the Company hereunder or under the Note.

1.7 Delivery of Note; Closing . The delivery of the Note by the Company shall occur at the offices of O’Melveny & Myers LLP, Embarcadero Center West, 275 Battery Street, 26th Floor, San Francisco, CA 94111-3305, at 11:00 a.m., Pacific Standard Time, on the Disbursement Date or such later Business Day as shall be mutually agreed upon by the Company and Century (the “ Closing Date ”). The Note for the Loan, delivered to Century on the Effective Date, will be delivered to Century in the form of a single Note, in the form attached hereto as Exhibit B ; in a principal amount equal to the full principal amount of the Loan, against delivery by Century to the Company of immediately available funds: in the full amount equal to the principal amount of the Loan, by wire transfer for the account of the Company in accordance with the following:


		Chase Manhattan Bank
		ABA# [*]

		Fahnestock & Co. Inc.
		Account # [*]
		For Final Credit of:		Cardica, Inc.
		Final Credit Account #:		[*]

1.8 Place of Payment . Subject to Section 1.9, payments of principal and interest becoming due and payable on the Note shall be made in the State of California at the principal office of the Company in such jurisdiction. The Company may at any time, by notice to Century, change the place of payment of the Note so long as the place of payment shall be either the principal office of the Company in such jurisdiction or the principal office of a bank or trust company in such jurisdiction.

1.9 Home Office Payment . Notwithstanding Section 1.8, so long as Century is the holder of the Note, the Company shall pay all sums becoming due on such Note for principal and interest by wire transfer of immediately available funds for the account of Century to account number [*] at Sumitomo Mitsui Banking Corporation, Shibuya-Ekimae Branch, 1-2-2 Dogenzaka, Shibuya-ku, Tokyo 150-0043, Japan, or by such other method or at such other location as Century shall specify from time to time in writing to Company, without presentation or surrender of the Note or the making of any notation thereon.

2. Interpretation of Agreement; Definitions .

2.1 Definitions . Unless the context otherwise requires, the terms hereinafter set forth when used herein shall have the following meanings and the following definitions shall be equally applicable to both the singular and plural forms of any of the terms herein defined:

“ Affiliate ” shall mean any Person (i) which directly or indirectly through one or more intermediaries controls, or is controlled by, or is under common control with, the

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Company, (ii) which beneficially owns or holds fifty percent (50%) or more of any class of the Voting Stock of the Company or (iii) fifty percent (50%) or more of the Voting Stock (or in the case of a Person which is not a corporation, fifty percent (50%) or more of the equity interest) of which is beneficially owned or held by the Company. The term “control” means the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of a Person, whether through the ownership of Voting Stock, by contract or otherwise.

“ Agreement ” shall have the meaning set forth in the opening paragraph of this document.

“ Business Day ” shall mean any day other than a Saturday, Sunday, legal holiday or other day on which commercial banks located in San Francisco, California or Tokyo, Japan are authorized or required by law to be closed.

“ Century ” shall mean Century Medical, Inc., a Japanese corporation, and any Person who succeeds to all, or substantially all, of the assets or business of Century Medical, Inc. and shall include any Permitted Transferee, as such term is defined in Section 9.10 hereof.

“ Change of Control ” shall mean any change in control of the Company which includes any consolidation of the Company with, or merger of the Company into, any other Person, any merger of another Person into the Company (other than a merger which does not result in any reclassification, conversion, exchange or cancellation of outstanding shares of Common Stock), any acquisition of at least a majority of the Voting Stock of the Company or any sale or transfer of all or substantially all of the business or assets of the Company.

“ Closing Date ” shall have the meaning specified in Section 1.7 hereof.

“ Common Stock ” shall mean the Common Stock, par value $0.001 per share, of the Company.

“ Company ” shall mean Cardica, Inc., a Delaware corporation, and any Person who in accordance with the terms of this Agreement succeeds to all, or substantially all, of the assets or business of Cardica, Inc.

“ Conversion Price ” shall have the meaning specified in Section 9.2 hereof “ Disbursement Date ” shall mean any date on which the disbursement of the Loan is made; provided, however, that Century shall not be required to make any disbursement if the conditions contained in Article 5, herein, are not satisfied.

“ Distribution Agreement ” shall mean that certain exclusive distribution agreement, a form of which is attached hereto as Exhibit A , entered into by and between the Company and Century.

“ Disclosure Schedule ” shall have the meaning specified in Article 3 hereof.

“ Effective Date ” shall have the meaning specified in Section 1.1 hereof.

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“ Event of Default ” shall have the meaning specified in Article 7 hereof or as provided in Section 9.8 hereof.

“ Financial Statements ” shall have the meaning specified in Section 3.4 hereof.

“ GAAP ” shall mean generally accepted accounting principles at the time in the United States.

“ Indebtedness ” shall mean indebtedness for borrowed money evidenced by a promissory note or other similar agreement that provides for payment of interest based on a principal amount and includes the acceleration of payment of such principal amount upon certain events of default.

“ Interest Payment Date ” shall mean the Stated Maturity of an installment of interest on the Note.

“ Lien ” shall mean any interest in property securing an obligation owed to, or a claim by, a Person other than the owner of the property, whether such interest is based on the common law, statute or contract, and including but not limited to the security interest lien arising from a mortgage, encumbrance, pledge, conditional sale or trust receipt or a lease, consignment or bailment for security purposes. The term “Lien” shall include reservations, exceptions, encroachments, easements, rights-of-way, covenants, conditions, restrictions, leases and other title exceptions and encumbrances (including, with respect to stock, stockholder agreements, voting trust agreements, buy-back agreements and all similar arrangements) affecting property. For purposes of this Agreement, the Company shall be deemed to be the owner of any property which it has acquired or holds subject to a conditional sale agreement, capitalized lease or other arrangement pursuant to which title to the property has been retained by or vested in some other Person for security purposes and such retention or vesting shall constitute a Lien.

“ Loan ” shall have the meaning specified in Section 1 .1 hereof.

“ Material Adverse Effect ” shall mean any event, act or failure to act which would have a material adverse effect on the Company’s assets, business (as presently conducted or as proposed to be conducted), properties, financial condition or operating results, or on the Company’s ability to enter into and perform its obligations under this Agreement, the Note or the Distribution Agreement.

“ Maturity Date ” shall mean the date that is five (5) years from the Disbursement Date of the Loan, or any other earlier date on which the Note becomes due and payable, whether as stated or by virtue of an Event of Default or otherwise.

“ Note ” or “ Notes ” shall have the meaning specified in Section 1.6 hereof.

“ Person ” shall mean an individual, partnership, corporation, limited liability company, trust or unincorporated organization, and a government or agency or political subdivision thereof.

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“ Registered Holders ” shall mean any holder of the Note or, in the case of a Permitted Transfer under Section 9.10, any holders of the Notes, as reflected in the records of the Company.

“ SEC ” shall mean the Securities and Exchange Commission, or successor regulatory entity.

“ Securities Act ” shall mean the Securities Act of 1933, as amended.

“ Senior Indebtedness ” shall mean any and all Indebtedness, fees, costs, expenses, liabilities or other amounts owed, owing or to be owed by the Company to (i) Venture Lending & Leasing II, Inc. (“ VLL2 ”), Venture Lending & Leasing III, Inc. (“ VLL3 ” and together with VLL2, “ VLL ”) or their respective successors or assigns pursuant to those certain Loan and Security Agreements dated March 17, 2000 and July 5, 2001, as they may be amended or supplemented from time to time (the “ VLL Loan Agreements ”), or (ii) Guidant Investment (“ Guidant ”), so long as Guidant or its successor owns, five percent (5%) or more of the issued and outstanding shares of the Company; provided that Senior Indebtedness shall be limited to a maximum aggregate outstanding amount of [*] dollars ($[*]) and any amount incurred in excess of such maximum amount shall not constitute Senior Indebtedness.

“ Stated Maturity ,” when used with respect to the Note or any installment of interest thereon, shall mean the date specified in such Note as the fixed date on which the principal of such Note, or any installment of interest thereon, is due and payable.

“ Voting Stock ” shall mean securities of any class or classes, the holders of which are ordinarily, in the absence of contingencies, entitled to elect a majority of the corporate directors (or Persons performing similar functions).

2.2 Accounting Principles . Where the character or amount of any asset or liability or item of income or expense is required to be determined or any consolidation or other accounting computation is required to be made for the purposes of this Agreement, the same shall be done in accordance with GAAP, to the extent applicable, except where such principles are inconsistent with the requirements of this Agreement.

2.3 Directly or Indirectly . Where any provision in this Agreement refers to action to be taken by any Person, or which such Person is prohibited from taking, such provision shall be applicable whether the action in question is taken directly or indirectly by such Person.

2.4 Legal Holidays . In any case where any Interest Payment Date or Stated Maturity of the Note or the last date on which Century has the right to convert the Note shall not be a Business Day, then (notwithstanding any other provision of this Agreement or of the Note) payment of interest or principal or conversion of the Note, as the case may be, shall be made on the next succeeding Business Day with the same force and effect as if made on the Interest Payment Date, or at the Stated Maturity, or on such last day for conversion.

3. Representations and Warranties of the Company .

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Except as otherwise specifically set forth in the Disclosure Schedule attached hereto as Exhibit C (the “ Disclosure Schedule ”) or in any document expressly referenced in the Disclosure Schedule which has been provided to Century, the Company represents and warrants to Century as of the date hereof as follows:

3.1 Corporate Organization and Authority . The Company is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware and has all requisite corporate power and authority and all necessary licenses and permits to own and operate its properties and to carry on its business as now conducted and as presently and proposed to be conducted, and to carry out the transactions contemplated in this Agreement and any other agreement to which the Company is a party, the execution and delivery of which is contemplated hereby. The Company is duly licensed and qualified to transact business and is in good standing in each jurisdiction in which the failure to so qualify would have a Material Adverse Effect.

3.2 Subsidiaries . The Company does not own or control any equity security or other interest of any other corporation, limited partnership or other business entity. The Company is not a participant in any joint venture, partnership or similar arrangement.

3.3 Authority . All corporate action on the part of the Company, its officers, directors and stockholders necessary for the authorization, execution and delivery of this Agreement, the performance of all obligations of the Company hereunder and thereunder and the authorization, execution, issuance (or reservation for issuance) and delivery of the Note has been taken or will be taken prior to the issuance of the Note. This Agreement constitutes upon execution, and the Note will constitute upon issuance, a legal, valid and binding obligation of the Company, enforceable in accordance with its respective terms, subject to the effect of applicable bankruptcy, insolvency, reorganization, moratorium or other similar federal or state laws affecting the rights of creditors and the effect of rules of law governing specific performance, injunctive relief or other equitable remedies.

No consent, approval or authorization of or designation, declaration or filing with any governmental authority on the part of the Company is required in connection with the valid execution and delivery of this Agreement or the issuance of the Note except qualification (or taking such action as may be necessary to secure an exemption from qualification, if available) of the offer and issuance of the Note under applicable federal and state securities law, which filings and qualifications, if required, will he accomplished by the Company in a timely manner.

3.4 Financial Statements . The Company has made available to Century its audited financial statements of June 30, 2002 (“ Audited Financials ”) and its unaudited financial statements as of February 28, 2003 (the “ Balance Sheet ” and, together with the Audited Financials, the “ Financial Statements ”). The Financial Statements have been prepared in accordance with GAAP applied on a consistent basis; provided, however, that the Balance Sheet does not contain footnotes required under GAAP. The Financial Statements present fairly in all material respects the financial condition of the Company as of the date, indicated therein, subject to normal year-end audit adjustments in substantial conformity with GAAP.

3.5 Business Changes . Since February 28, 2003, there has not been:

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(a) any change in the assets, liabilities, financial condition or operating results of the Company from that reflected in the Balance Sheet, except changes in the ordinary course of business that have not, in the aggregate, had a Material Adverse Effect;

(b) any damage, destruction or loss, whether or not covered by insurance, having a Material Adverse Effect;

(c) any waiver or compromise by the Company of a material debt owed to it;

(d) any satisfaction or discharge of any lien, claim, or encumbrance or payment of any obligation by the Company, except in the ordinary course of business and not having a Material Adverse Effect;

(e) any material change to a material contract or agreement by which the Company or any of its assets is bound or subject having a Material Adverse Effect;

(f) any material change in any compensation agreement or agreement with any employee, officer, director or stockholder;

(g) any sale, assignment or transfer of any patents, trademarks, copyrights, trade secrets or other intangible assets;

(h) any resignation or termination of employment of any officer or key employee of the Company;

(i) any mortgage, pledge, transfer of a security interest on or lien, created by the Company, with respect to any of its material properties or assets, except liens for taxes not yet due or payable and those incurred in the ordinary course of business that do not have a Material Adverse Effect;

(j) any loans or guarantees made by the Company to or for the benefit of its employees, officers or directors or any members of their immediate families, other than travel advances and other advances made in the ordinary course of business;

(k) any declaration, setting aside or payment or other distribution in respect to any of the Company’s capital stock, or any direct or indirect redemption, purchase, or other acquisition of any of such capital stock by the Company, except (x) the repurchase of shares of Common Stock issued or held by employees, consultants, directors or service providers of or to the Company upon termination of their employment or services pursuant to agreements providing for the right of such repurchase between the Company and such persons, and (y) the repurchase of shares of Common Stock in connection with the exercise of the right of fist refusal pursuant to agreements providing for the right of first refusal between the Company and any of its stockholders;

(l) any material change in the accounting methods or practices followed by the Company; or

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(m) to the Company’s knowledge, any other event or condition that might reasonably be expected to have a Material Adverse Effect; or

(n) any arrangement or commitment to do any of the things described in this Section 3.5.

3.6 Litigation . There is no dispute, action, suit, proceeding or investigation pending or currently threatened in writing against the Company which questions the validity of this Agreement or the Note, or the right of the Company to enter into each such agreement, or to consummate the transactions contemplated hereby or thereby or that would have, either individually or in the aggregate, a Material Adverse Effect. The foregoing includes, without limitation, actions pending or threatened involving the prior employment of any of the Company’s employees, the use in connection with the Company’s business of any information or techniques allegedly proprietary to any of the Company’s former employers, or the Company’s obligations under any agreements with prior employers. The Company is not a party to, or subject to the provisions of, any order, writ, injunction, judgment or decree of any court or government agency or instrumentality. There is no action, suit, proceeding or investigation by the Company currently pending or which the Company intends to initiate.

3.7 Compliance with Laws and Other Instruments .

(a) The Company is not in violation or default of any provisions of its Restated Certificate or Bylaws or of any instrument, judgment, order, writ, decree, or contract to which it is a party or by which it is bound or, to its knowledge, of any applicable statute, rule, regulation, order or restriction of any domestic or foreign government or any instrumentality or agency thereof in respect of the conduct of its business or the ownership of its properties, the violation of which would result in a Material Adverse Effect. The execution, delivery, and performance of this Agreement, and the issuance of the Note, and the consummation of the transactions contemplated hereby and thereby will not result in any such violation or be in conflict with or constitute, with or without the passage of time and giving of notice, a default under (i) any such provision of the Restated Certificate or the Company’s Bylaws, (ii) any such instrument, judgment, order, writ, decree or contract, or (iii) any statute, rule or governmental regulation applicable to the Company, nor an event which results in the creation of any lien, charge, or encumbrance upon any assets of the Company.

(b) The Company has not performed any act which would result in the Company’s loss or impairment of any right granted under any license, distribution or other agreement, the loss or impairment of which would have a Material Adverse Effect.

3.8 Title to Properties; Leases . The Company owns its property and assets (other than properties or assets it leases) free and clear of all mortgages, liens, loans, and encumbrances, except such encumbrances and liens, which arise in the ordinary course of business and do not impair the Company’s ownership or use of such property or assets. With respect to the property and assets it leases, the Company is in compliance with all terms of such leases, except where the failure of Company would not have a Material Adverse Effect, and holds a valid leasehold interest free of any liens, claims or encumbrances.

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3.9 Licenses, etc . The Company has all franchises, permits, and licenses and any similar authority necessary for the conduct of its business (“ Licenses ”) and is not in default under any such License, except where a default or failure to hold such License would not have a Material Adverse Effect.

3.10 Proprietary Rights . The Company has sufficient title and ownership, without any known conflict with or infringement of the rights of others, of patents, trademarks, service marks, trade names, copyrights, trade secrets, information, and proprietary rights and processes necessary for its business as now conducted and as proposed to be conducted in the future, except for those which the failure to have such sufficient title and ownership would not result in a Material Adverse Effect to such business. There are no outstanding options, licenses, or agreements relating to the foregoing, nor is the Company bound by or a party to any options, licenses, or agreements of any kind with respect to the patents, trademarks, service marks, trade names, copyrights, trade secrets, licenses, information, proprietary rights and processes of any other person or entity, other than such licenses or agreements arising from the purchase of “off the shelf” or standard products or licenses incidental to consulting agreements or with independent contractors. To its knowledge, the Company has not violated nor, by conducting its business as proposed, would violate any of the patents, trademarks, service marks, trade names, copyrights, or trade secrets or other proprietary rights of any other person or entity and the Company has not received any communication alleging such a violation or alleging that the conduct of the business as proposed to be conducted, would constitute such a violation. The Company has a valuable body of trade secrets, including know-how, concepts, computer programs and other technical data and proprietary rights and processes (the “ Proprietary Information ”) for the development, manufacture and sale of its products. To its knowledge, the Company has the right to use the Proprietary Information free and clear of any rights, liens, encumbrances or claims of others, except that the possibility exists that other persons may have independently developed trade secrets or technical information similar or identical to those of the Company. Since its organization, the Company has taken reasonable measures to protect the value (and, to the extent applicable, the confidentiality and security) of all Proprietary Information. The Company is not aware of any such independent development or of any misappropriation of its Proprietary Information. The Company is not aware that any of its employees is obligated under any contract (including licenses, covenants or commitments of any nature) or other agreement, or subject to any judgment, decree or order of any court or administrative agency, that would interfere with the use of his or her best efforts to promote the interests of the Company or that would conflict with the Company’s business as proposed to be conducted. Neither the execution nor delivery of this Agreement nor the Note nor the carrying on of the Company’s business by the employees of the Company, nor the conduct of the Company’s business as proposed, will, to the Company’s knowledge, conflict with or result in a breach of the terms, conditions or provisions of, or constitute a default under, any contract, covenant or instrument under which any of such employees is now obligated. The Company does not believe it is or will be necessary to utilize any inventions of any of its employees (or people it currently intends to hire) made prior to their employment by the Company except for those inventions that have been assigned to the Company. Set forth in Exhibit C is a list of all patents, trademarks and licenses of the Company.

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10.

3.11 Taxes . The Company has timely filed all tax returns and reports as required by law. The Company has paid all taxes and other assessments due, except those contested by it in good faith that are listed in Exhibit C . To the Company’s knowledge, the income tax returns of the Company have never been audited by local, state or federal authorities, and the Company has not been advised that any of its returns are presently being audited. To the Company’s knowledge no material special charges, penalties, fines, liens, or similar encumbrances have been asserted against the Company with respect to the payment or failure to pay any taxes, which have not been paid or received without further liability to the Company. Proper and accurate amounts have been withheld by the Company from its employees for all periods in compliance with the withholding provisions of applicable federal, state and local tax laws.

3.12 Private Offering . Neither the Company nor anyone acting on its behalf will offer the Note or any similar securities for issuance or sale to, or solicit any offering to acquire any of the same from, any Person so as to make the sale and issuance of the Note subject to the registration requirements of section 5 of the Securities Act. Assuming the accuracy of the representations and warranties of Century contained in Article 4 hereof, the offer, sale, and issuance of the Note will be exempt from the registration requirements of the Securities Act and will have been registered or qualified (or are exempt from registration and qualification) under the registration, permit, or qualification requirements of all applicable state securities laws.

3.13 Full Disclosure . The Company has provided Century with all documents, contracts, filings and other information provided to the holders of the Company’s Series D Preferred Stock (the “ Series D Stockholders ”) prior to the purchase by the Series D Stockholders of the Series D Preferred Stock. To the Company’s knowledge, neither this Agreement, the exhibits hereto, nor the Distribution Agreement and Note to be entered into contemporaneously with this Agreement, contain any untrue statement of a material fact nor, to the Company’s knowledge, omit to state a material fact necessary in order to make the statements contained herein or therein not misleading.

4. Representations and Warranties of Century . Except as contemplated by this Agreement, Century represents and warrants to the Company as of the date hereof as follows:

4.1 Corporate Organization . Century is a corporation duly incorporated and validly existing under the laws of Japan. Century is duly qualified to do business in Japan. Century is duly licensed or qualified and is in good standing as a foreign corporation in each jurisdiction in which such licensing or qualification is required by law or wherein the nature of the business transacted by it or the nature of the property owned or leased by it otherwise makes such licensing or qualification necessary, other than to the extent that failure to obtain such licensing or qualification, either individually or in the aggregate, would not have a material adverse effect on Century. Century has all requisite power and authority to own, lease and operate its properties and to carry on its business as now being conducted, and possesses all licenses, franchises, rights and privileges material to the conduct of its business.

4.2 Authority . Century has all requisite corporate power and authority to enter into this Agreement and the related agreements contemplated herein, and, subject to

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satisfaction of the conditions set forth herein, to consummate the transactions contemplated hereby. The execution and delivery of this Agreement and the consummation of the transactions contemplated hereby have been duly authorized by all necessary corporate action on the part of Century. This Agreement has been duly executed and delivered by Century and constitutes the valid and binding obligation of Century enforceable in accordance with its terms, subject to the effect of applicable bankruptcy, insolvency, reorganization or other similar federal or state laws affecting the rights of creditors and the effect or availability of rules of law governing specific performance, injunctive relief or other equitable remedies. Provided the conditions set forth in Article 6 are satisfied, the execution and delivery of this Agreement does not, and the consummation of the transactions contemplated hereby will not, conflict with, or result in any violation of or default (with or without notice or lapse of time, or both) under, or give rise to a right of termination, cancellation or acceleration of any obligation under (a) any provision of the Articles of Incorporation or Bylaws of Century, or (b) any material agreement or instrument, permit, license, judgment, order, statute, law, ordinance, rule or regulation applicable to Century or its properties or assets, other than any such conflicts, violations, defaults, terminations, cancellations or accelerations which individually or in the aggregate would not have a material adverse effect on Century.

Except as noted in Schedule 4.2, no consent, approval, order or authorization of, or registration, declaration or filing with, any Japanese governmental authority is required by or with respect to Century in connection with the execution and delivery of this Agreement by Century or the consummation by Century of the transactions contemplated hereby or thereby.

4.3 Restricted Note . Century represents and agrees that, upon the issuance of the Note, (a) Century will acquire such Note for Century’s own account, and for the purpose of investment and not with a view to the distribution thereof, and that Century has no present intention of selling, negotiating or otherwise disposing of such Note; it being understood, however, that the disposition of Century’s property shall at all times be, and shall at all times remain, within its control, and (b) the Note has not been registered under section 5 of the Securities Act and that Century will only re-offer or resell the Note purchased by Century under this Agreement pursuant to an effective registration statement under the Securities Act or in accordance with an available exemption from the requirements of section 5 of the Securities Act, except under circumstances where neither such registration nor such an exemption from registration is required by law.

4.4 Disclosure of Information . Century believes it has received all the information it considers necessary or appropriate for deciding whether to enter into this Agreement and purchase the Note. Century further represents that it has had an opportunity to ask questions and receive answers from the Company regarding the terms and conditions of this Agreement and the issuance of the Note. The foregoing, however, does not in any way limit or modify the representations and warranties of the Company in Article 3 of this Agreement, nor the right of Century to rely thereon.

4.5 Investment Experience . Century is an investor in securities of companies in the development stage and acknowledges that it is able to fend for itself, and bear the economic risk of its investment and has such knowledge and experience in financial or business matters that it is capable of evaluating the merits and risks of this Agreement and the

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12.

issuance of the Note. Century represents that it has not been organized for the purpose of acquiring the Note.

4.6 Accredited Investor . Century is an “accredited investor” as defined in Section 501 of Regulation D as promulgated by the SEC under the Securities Act and shall submit to the Company such further assurances of such status as may be requested by the Company.

4.7 Rule 144 . Century acknowledges that the Common Stock issuable upon conversion of the Note must be held indefinitely unless subsequently registered under the Securities Act or unless an exemption from such registration is available. Century is aware of the provisions of Rule 144 promulgated under the Securities Act which permit limited resale of shares purchased in a private placement subject to the satisfaction of certain conditions, including, among other things, the existence of a public market for the Common Stock issuable upon conversion of the Note, the availability of certain current public information about the Company, the resale occurring not less than one year after a party has purchased and paid for the security to be sold, the sale being effected through a “broker’s transaction” or in transactions directly with a “market maker” and the number of shares being sold during any three-month period not exceeding specified limitations.

5. Conditions Precedent .

5.1 Disbursement . The obligation of Century to make any disbursement of the Loan shall be subject to the prior or contemporaneous satisfaction of each of the following conditions, unless waived by Century:

(a) Representations and Warranties . The representations and warranties of the Company set forth in this Agreement shall be true and correct in all material respects on the relevant Disbursement Date with the same effect as though made on and as of such date; and the Company shall have performed and complied with all agreements, covenants and conditions required by this Agreement to be performed or complied with by the Company on or prior to such Disbursement Date.

(b) No Existing Default . No Event of Default, as defined in Article 7, or event, which, upon the lapse of time or the giving of notice or both, would constitute an Event of Default by the Company shall exist on or prior to the Disbursement Date.

(c) Distribution Agreement . The Company and Century shall have entered into a Distribution Agreement substantially in the form attached hereto as Exhibit A and such Distribution Agreement shall be in full force and effect, and the Company shall not be in breach or default of any material covenant, condition or other provision thereof beyond the applicable grace period, if any, specified therein.

(d) Officer’s Certificate . The Company shall have delivered to Century a certificate signed by the Chief Executive Officer of the Company and dated as of the relevant Disbursement Date certifying that the conditions specified in Sections 5.l(a) and (b) have been satisfied.

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13.

5.2 Conditions to Obligations of the Company . The obligations of the Company to consummate the transactions contemplated hereby are subject to the satisfaction on or prior to the relevant Disbursement Date of the following conditions, unless waived by the Company:

(a) Representations and Warranties . The representations and warranties of Century set forth in this Agreement shall be true and correct in all material respects as of the date of this Agreement and as if made at and as of the relevant Disbursement Date, except as otherwise contemplated by this Agreement.

(b) Performance of Obligations of Century . Century shall have performed in all material respects all obligations required to be performed by it under this Agreement prior to the relevant Disbursement Date.

6. Covenants of the Company . From and after the Effective Date and continuing so long as any amount remains unpaid on the Note, the Company covenants and agrees with Century that:

6.1 Corporate Existence . The Company shall do or cause to be done all things necessary to preserve and keep in full force and effect the existence, rights and franchises of the Company.

6.2 Maintenance of Properties . The Company will maintain, preserve and keep its material properties which are used or useful in the conduct of its business (whether owned in fee or a leasehold interest) in good repair and working order and from time to time will make all necessary repairs, replacements, renewals and additions so that at all times the efficiency thereof shall be maintained in all material respects.

6.3 Merger; Acquisitions . Except with notice to Century as set forth below, the Company shall not (a) consolidate with or merge into any other Person, (b) convey, transfer or lease all or substantially all of its assets in a single transaction or series of related transactions to any Person, (c) acquire or agree to acquire by merging or consolidating with, or by purchasing a substantial portion of the assets of, or by any other manner, any business or any Person or division thereof, or (d) otherwise acquire or agree to acquire any assets which are material to the Company except in the ordinary course of business consistent with prior practice. Such notice shall be given no earlier than contemporaneously with public disclosure of the occurrence of such an event.

6.4 Sale or Lease of Assets; Dispositions . Except with contemporaneous notice to Century, the Company shall not sell, lease, transfer or otherwise dispose of any of its assets, except in the ordinary course of business, as it may exist from time to time. In the event that such transfer also constitutes a Change of Control, the Company shall transfer to such successor entity this Agreement, the Note and the Distribution Agreement, including without

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limitation any post-termination obligations contained therein, provided that in the event the Company transfers less than all or substantially all of its assets to a purchaser, such agreements, instruments and obligations shall be so transferred only to the extent the assets transferred are subject thereto.

6.5 Indebtedness . Except with five (5) days’ prior notice to Century, the Company shall not incur any Indebtedness other than Senior Indebtedness or guarantee any such Indebtedness or issue or sell any debt securities of the Company other than Senior Indebtedness or guarantee any debt securities of others.

6.6 Notice of Claims and Litigation . The Company will give prompt notice to Century of any claim or action at law or in equity, or before any governmental, administrative or regulatory body or arbitration panel instituted against the Company, or disputes that have a high probability of resulting in a suit of significance against the Company involving a claim against the Company, for damages in excess of Five Hundred Thousand Dollars ($500,000) or which, if concluded adversely to the Company, could be reasonably expected to have a Material Adverse Effect.

6.7 Notice of Default . The Company shall promptly give written notice to Century of any known default or breach by the Company of any of its obligations or commitments set forth in this Agreement, the Distribution Agreement or the Note, or otherwise of any default or other occurrence that, with lapse of time and/or giving of notice, would constitute an Event of Default.

7. Events of Default . If any of the events specified in this Article 7 shall occur (herein individually referred to as an “ Event of Default ”), Century shall have the right, so long as such condition exists and so long as such Note has not been converted in accordance with Article 9 hereof, to declare the entire principal and unpaid accrued interest thereon immediately due and payable, by notice in writing to the Company:

7.1 Payments . Default in the payment of the principal or unpaid accrued interest of the Note when due and payable if such default is not cured by the Company within ten (10) calendar days after Century has given the Company written notice of such default.

7.2 Bankruptcy . The institution by the Company of proceedings to be adjudicated as bankrupt or insolvent, or the consent by it to institution of bankruptcy or insolvency proceedings against it or the filing by it of a petition or answer or consent seeking reorganization or relief under the United States Federal Bankruptcy Code, or any other applicable federal or state law, or the consent by it to the filing of any such petition or the appointment of a receiver, liquidator, assignee, trustee or other similar official of the Company, or of any substantial part of its property, or the making by it of an assignment for the benefit of creditors, or the taking of corporate action by the Company in furtherance of any such action.

7.3 Commencement of an Action . If, within sixty (60) days after the commencement of an action against the Company (and service of process in connection therewith on the Company) seeking any bankruptcy, insolvency, reorganization, liquidation, dissolution or similar relief under any present or future statute, law or regulation, such action

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shall not have been resolved in favor of the Company or all orders or proceedings thereunder affecting the operations or the business of the Company stayed, or if the stay of any such order or proceeding shall thereafter be set aside, or if, within sixty (60) days after the appointment without the consent or acquiescence of the Company of any trustee, receiver or liquidator of the Company or of all or any substantial part of the properties of the Company, such appointment shall not have been vacated.

7.4 Default of Indebtedness . Any declared default of the Company under any Indebtedness that gives the holder thereof the right to accelerate the principal and all accumulated interest amounts thereon, and the entire amount of such principal and interest amounts are in fact accelerated by the holder thereof.

7.5 Covenants and Agreements . The Company shall default in the performance of any of its material covenants and agreements set forth in any provision of this Agreement and the continuance of such default for thirty (30) days after Century has given the Company written notice of such default, or any of the representations or warranties by the Company set forth in this Agreement shall not be true and correct in all material respects as and when made.

7.6 Certain Occurrences Under Distribution Agreement . The Company (i) breaches or defaults on any material covenant, condition or other provision of the Distribution Agreement and such breach, default or acceleration continues after the applicable grace period, if any, specified therein, but in no event more than thirty (30) days after Century has given the Company written notice of such breach, default or acceleration, or (ii) the Distribution Agreement terminates in accordance with Section 12.2 of the Distribution Agreement.

7.7 Other Remedies . If any Event of Default shall occur and be continuing, Century shall have, in addition to the remedies set forth in Article 7 hereof, all other remedies otherwise available at law and equity.

8. Subordination and Security Interest of Century. The Indebtedness evidenced by the Note is hereby expressly subordinated to the extent and in the manner hereinafter set forth, in right of payment to the prior payment in full of the Senior Indebtedness.

8.1 Default on Senior Indebtedness. If there should occur any receivership, insolvency, assignment for the benefit of creditors, bankruptcy, reorganization or arrangements with creditors (whether or not pursuant to bankruptcy or other insolvency laws), sale of all or substantially all of the assets, dissolution, liquidation or any other marshalling of the assets and liabilities of the Company, then no amount shall be paid by the Company in respect of the principal of or interest on the Notes at the time outstanding, unless and until the principal of and interest on the Senior Indebtedness then outstanding shall be paid in full. If there occurs an event of default that has been declared in writing to the Registered Holders with respect to any Senior Indebtedness, or in the instrument under which any Senior Indebtedness is outstanding, permitting the holder of such Senior Indebtedness to accelerate the maturity thereof, no payment shall be made in respect of the principal of or interest on the Notes, unless (i) such event of default shall have been cured or waived by the Senior Indebtedness or shall have ceased to exist, or (ii) payment of all Senior Indebtedness shall have been accelerated and all Senior

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Indebtedness shall have been paid in full, or (iii) within three (3) months after the happening of such event of default (a “ Payment Blockage Period ”), the maturity of such Senior Indebtedness shall not have been accelerated. Notwithstanding anything contained herein to the contrary, payments by the Company of principal and interest on the Notes to the Registered Holders shall be halted under Section 8.l(iii) for only one (1) Payment Blockage Period during any twelve (12) month consecutive period.

8.2 Effect of Subordination. Subject to the rights, if any, of the holders of Senior Indebtedness under this Article 8 to receive cash, securities or other properties otherwise payable or deliverable to the Registered Holder, nothing contained in this Article 8 shall impair, as between the Company and the Registered Holder, the obligation of the Company, subject to the terms and conditions hereof, to pay to the Registered Holder the principal hereof and interest hereon as and when the same become due and payable, or shall prevent the Registered Holder, upon default hereunder, from exercising all rights, powers and remedies otherwise provided herein or by applicable law, except as limited under Section 8.1 above.

8.3 Subrogation. After payment in full of all Senior Indebtedness, the Registered Holder shall he subrogated to the rights of the holders of Senior Indebtedness (to the extent of payments or distributions previously made to such holders of Senior Indebtedness that would, except for this Article 8, have been payable to the Registered Holders) to receive payments or distributions of assets of the Company applicable to the Senior Indebtedness until the payment in full of the Notes. No payments or distributions to the holders of Senior Indebtedness to which the Registered Holder would be entitled except for the provisions of this Article 8 shall, as between the Company and its creditors, other than the holders of Senior Indebtedness and the Registered Holder, be deemed to be a payment by the Company to the Senior Indebtedness or on account of the Senior Indebtedness.

8.4 Undertaking. By its acceptance of the Note, the Registered Holder agrees to execute and deliver such documents as may be reasonably requested from time to time by the Company or the lender of any Senior Indebtedness in order to implement the foregoing provisions of this Article 8.

8.5 Subordination of Future Debt. During the term of this Agreement and until the performance of all obligations to Century, the Company shall not incur or permit to exist any Indebtedness, excluding Senior Indebtedness, unless (i) approved by Century in its sole discretion in writing, or (ii) the holder’s right to repayment of such Indebtedness, the priority of any Lien securing the same, and the rights of the holder thereof to enforce remedies against the Company following default have been made subordinate to the Liens of Century and the prior payment of the obligations to Century under the loan documents pursuant to a written subordination agreement satisfactory to Century, which agreement may provide that regularly scheduled payments of accrued interest on such subordinated Indebtedness may be paid by the Company and retained by the holder so long as no Event of Default has occurred.

8.6 Security Interest. Subject to the continuing security interest of VLL, in accordance with the VLL Loan Agreements, to secure the prompt payment of the Loan when amounts thereunder are due and payable, the Company hereby grants a continuing security interest to Century in all personal property and assets of the Company, including without

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limitation, all of the Company’s right, title and interest in and to all equipment, general intangibles, intellectual property, inventory, investment property, receivables, fixtures, deposit accounts and other goods and personal property, whether tangible or intangible, whether now owned or hereafter acquired and wherever located, all proceeds of each of the foregoing and all accessions to, substitutions and replacements for, and rents, profits and products of each of the foregoing (“ Collateral ”). Within ten (10) calendar days of the Effective Date, Company (a) will prepare and file all documents as directed by Century necessary for registering and perfecting Century’s continuing security interest, all such documents to be approved by Century in writing prior to any such filing by Company (the “ Security Documents ”), and (b) will bear all costs of preparing and filing the Security Documents with the appropriate governmental authorities.

8.7 Financing Statements and Other Actions. With respect to Collateral, the Company covenants:

(a) to execute and deliver to Century all financing statements, notices and other documents from time to time reasonably requested by Century to maintain a perfected security interest in the Collateral in favor of Century; perform such other acts as directed by Century, and execute and deliver to Century such additional conveyances, assignments, agreements and instruments, as Century may at any time reasonably request in connection with the administration and enforcement of this Agreement or Century’s rights, powers and remedies hereunder;

(b) other than with respect to Senior Indebtedness, not to sign or authorize the signing of any financing statement or other document naming the Company as debtor or obligor, or acquiesce or cooperate in the issuance of any bill of lading, warehouse receipt or other document or instrument of title with respect to any Collateral, except those negotiated to Century, or those naming Century as secured party, or with Century’s prior written consent which shall not be unreasonably withheld; and

(c) not to sell, transfer, lease or otherwise dispose of any Collateral, except for fair consideration and in the ordinary course of the Company’s business.

9. Conversion of Note.

9.1 Conversion Right. Upon and for a period of one hundred eighty (180) days following a Qualified Public Offering (as hereinafter defined) (the “ Conversion Period ”), provided that such Conversion Period occurs prior to the Stated Maturity of the Note, and prior to an acceleration of payment as described in Article 7 and Section 9.8 hereof, Century shall have the option, and at Century’s sole discretion to convert the Note at the principal amount thereof, into fully paid and nonassessable shares of Common Stock at the Conversion Price (as defined herein), in effect at the time of such conversion. Such conversion right shall expire as to the Note at the close of business on the fifth anniversary of the Note’s Disbursement Date. For purposes of this Article 9, “ Qualified Public Offering ” shall mean the first bona fide firm commitment underwritten public offering of the Company’s Common Stock registered under the Securities Act on Form S-1 for any successor form designated by the Securities and Exchange Commission) with an aggregate offering price of at least Five Million Dollars (US$5,000,000).

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9.2 Conversion Price. The “ Conversion Price ” shall be the per share offering price of the Qualified Public Offering.

9.3 Exercise of Conversion Privilege. Upon receipt of notice from Century of the exercise of its conversion privilege substantially in the form attached to Exhibit B , Century shall surrender the Note duly endorsed or assigned to the Company or in blank, at the office or agency of the Company maintained for that purpose. Upon conversion, the Company shall pay interest accrued but unpaid on the Note surrendered for conversion through the date of such conversion.

The Note shall be deemed to have been converted as of such date as may be specified in the notice from Century (which in no event shall be earlier than ten (10) days from the receipt of notice by the Company), and at such time, the rights of Century under the Note shall cease and the Person or Persons entitled to receive the Common Stock issuable upon conversion shall be treated for all purposes as the record holder or holders of such Common Stock at such time. As promptly as practicable, on or after the conversion date, the Company shall issue and deliver at such office or agency, a certificate or certificates for the number of duly authorized, validly issued, fully paid and nonassessable shares of Common Stock issuable upon conversion, together with payment in lieu of any fraction of a share, as provided in Section 9.4 hereof.

9.4 Fractions of Shares. No fractional shares of Common Stock shall be issued upon conversion of the Note. Instead of any fractional share of Common Stock, which would otherwise be issuable upon the conversion of the Note, the Company shall pay a cash adjustment in respect of such fraction of a share of Common Stock in an amount equal to the remaining amount, which is not converted by reason of this Section 9.4.

9.5 Notice of Certain Corporate Action. In, case:

(a) the Company shall declare a dividend (or any other distribution) on its Common Stock payable otherwise than in cash out of its earned surplus; or

(b) the Company shall authorize the granting to the holders of its Common Stock of rights or warrants to subscribe for or purchase any shares of capital stock of any class or of any other rights (other than grants of securities or options, warrants or rights for securities, granted to officers, directors, employees, consultants or licensors of the Company); or

(c) of any reclassification of the Common Stock of the Company (other than a subdivision or combination of its outstanding shares of Common Stock), or of any consolidation merger or share exchange to which the Company is a party and for which approval of any stockholders of the Company is required, or of the sale or transfer of all or substantially all of the assets of the Company; or

(d) of the voluntary or involuntary dissolution, liquidation or winding up of the Company;

then the Company shall cause to be filed at the offices of the Company, and shall cause to be mailed to Century at its last addresses, as provided in Section 11.2 hereof; at least twenty (20)

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days (or ten (10) days in any case specified in clause (a) or (b) of this Section 9.5) prior to the applicable record or effective date hereinafter specified, a notice stating (x) the date on which a record is to be taken for the purpose of such dividend, distribution, rights or warrants, or, if a record is not to be taken, the date as of which the holders of Common Stock of record are to be entitled to such dividend, distribution, rights or warrants are to be determined, or (y) the date on which such reclassification, consolidation, merger, share exchange, sale, transfer, dissolution, liquidation or winding up is expected to become effective, and the date as of which it is expected that holders of Common Stock of record shall be entitled to exchange their shares of Common Stock for securities, cash or other property deliverable upon such reclassification, consolidation, merger, share exchange, sale, transfer, dissolution, liquidation or winding up. Neither the failure to give such notice nor any defect therein shall affect the legality or validity of the proceedings described in clauses (a) through (d) of this Section 9.5.

9.6 Company to Reserve Common Stock. Upon the closing of the Qualified Public Offering, the Company shall take all reasonable steps so as to ensure that at all times during the Conversion Period the Company has reserved and kept available out of its authorized but unissued Common Stock, for the purpose of effecting the conversion of the Note, the full number of shares of Common Stock then issuable upon the conversion of the Note.

9.7 Covenant as to Common Stock. The Company covenants that all shares of Common Stock which may be issued upon conversion of the Note will upon such conversion and issuance be fully paid and nonassessable.

9.8 Change of Control. In the event of any Change of Control of the Company, the Company shall notify Century at least thirty (30) days prior to the closing of the transaction that will effect the Change of Control, and Century shall have the right to declare the entire principal and unpaid accrued interest thereon immediately due and payable, by notice in writing to the Company, and terminate this Agreement.

9.9 Issue Tax. The issuance of certificates for shares of Common Stock upon conversion of the Note shall be made without charge to Century for any issue tax in respect thereof; provided, however, that the Company shall not be required to pay any tax which may be payable with respect of any transfer involved in the issuance and delivery of any Common Stock certificate in a name other than that of Century.

9.10 Transfer and Exchange of the Note. The Note may not be transferred or assigned by Century without the express written consent of the Company, which consent may be granted or withheld in the Company’s sole discretion; provided, however, that Century shall have the option of transferring or assigning the whole or any part of the Note to an Affiliate at any time, at the sole discretion of Century (a “ Permitted Transfer ”). Any such Permitted Transfer shall be made in accordance with applicable federal and state securities laws. At any time and from time to time, upon not less than ten (10) days notice to that effect given by Century, the right to receive principal and/or interest payments on such Note may be assigned or transferred in a Permitted Transfer by surrender of such Note to the Company and either (a) reissuance by the Company of such Note to the new registered holder (such holder a “ Permitted Transferee ”) or (b) issuance by the Company of a new Note to the Permitted Transferee. The Company shall at all times maintain a book entry system, which shall reflect ownership of the

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Note. The Company shall also change its records to reflect each such transfer or reissuance. Century shall pay any stamp tax or governmental charge imposed in Japan upon such exchange or transfer and Company shall pay any stamp tax or governmental charge imposed in the United States upon such exchange or transfer.

9.11 Loss, Theft, Mutilation or Destruction of a Note. Upon receipt of evidence reasonably satisfactory to the Company of the loss, theft, mutilation or destruction of the Note, the Company will make and deliver without expense to Century thereof, a new Note, of like tenor: in lieu of such lost, stolen, mutilated or destroyed Note.

9.12 Expenses, Stamp Tax Indemnity. The Company agrees to pay duplicating and printing costs and charges for shipping the Note, adequately insured to Century’s home office or at such other place as Century may designate, and all reasonable expenses of Century (including, without limitation, the reasonable fees and expenses of any financial advisor to Century) relating to any proposed or actual amendment, waivers or consents pursuant to the provisions hereof, including, without limitation, any proposed or actual amendments, waivers, or consents resulting from any work-out, re-negotiations or restructuring relating to the performance by the Company of its obligations under this Agreement and the Note. The Company also agrees that it will pay and hold Century harmless against any and all liabilities with respect to stamp and other taxes, if any, which may be payable or which may be determined to be payable in connection with the execution and delivery of this Agreement or the Note, whether or not such Note is then outstanding. The Company agrees to protect and indemnify Century against any liability for any and all brokerage fees and commissions payable or claimed to be payable to any Person (other than any Person engaged by the Registered Holder) in connection with the transactions contemplated by this Agreement.

9.13 Cancellation of Converted Note. The Note delivered for conversion shall be canceled by or at the direction of the Company.

10. Registration Rights. Century shall be permitted to become a party to that certain Amended and Restated Investors Rights Agreement, by and among the Company and certain of the Company’s stockholders dated June 13, 2002 (the “ IRA ”), by delivering a counterpart signature page to the IRA in accordance with and pursuant Sections 2.12, 5.11(a) and 4.6(h) of the IRA. Century shall be an “Investor” as such term is defined in the IRA with all rights appurtenant to being an “Investor” thereunder upon execution and delivery of such counterpart signature page. Company shall ensure that the “Schedule of Investors” to the IRA shall be appropriately amended to include Century and the definition of “Registrable Securities” shall be amended to include the Common Stock issuable upon conversion of the Note.

11. Miscellaneous.

11.1 Powers and Rights Not Waived; Remedies Cumulative. No delay or failure on the part of Century in the exercise of any power or right shall operate as a waiver thereof; nor shall any single or partial exercise of the same preclude any other or further exercise thereof, or the exercise of any other power or right, and the rights and remedies of Century are cumulative to, and are not exclusive of, any rights or remedies Century would otherwise have.

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11.2 Notice. Except as otherwise expressly provided herein, any notice, consent or document required or permitted hereunder shall be given in writing and it or any certificates or other documents delivered hereunder shall be deemed effectively given or delivered (as the case may be) upon personal delivery (professional courier permissible) or when mailed by receipted certified mail delivery, or five (5) business days after deposit in the mail, or three (3) business days after deposit with an internationally recognized overnight courier. Such certificates, documents or notice may be personally delivered to an authorized representative of the Company or Century (as the case may be) at any address where such authorized representative is present, such other address as such party may designate by twenty (20) days advance written notice to the other party, and otherwise shall be sent to the following address:


		If to the Company:		Cardica, Inc.
				171 Jefferson Drive
				Menlo Park, CA 94025
				Attention: Bernard Hausen
				Telecopy No.: (650) 326-5655

		With a copy to:		Nancy H. Wojtas, Esq.
				Cooley Godward LLP
				Five Palo Alto Square
				3000 El Camino Real
				Palo Alto, CA 94306
				Telecopy No.: (650) 849-7400

		If to Century:		Century Medical, Inc.
				1-6-4 Osaki, Shinagawa-ku
				Tokyo 141-8588 Japan
				Attention: Shunzo Saegusa
				Telecopy No.: (03) 3491-0577

		With a copy to:		O’Melveny & Myers LLP
				Akasaka Twin Tower, East 14F
				2-17-22 Akasaka, Minato-ku
				Tokyo 107-0052
				Attention: Dale Araki, Esq.
				Telecopy No.:(03) 5575-3840

11.3 Successors and Assigns. This Agreement shall be binding upon and inure to the benefit of the Company and its successors and assigns and shall be binding upon and inure to the benefit of Century and its successors and assigns; provided, however, that, subject to Section 9.10 hereof, neither the Company nor Century shall assign this Agreement, the Note or any of its rights, duties or obligations hereunder or thereunder without the prior written consent of the other party which consent shall not be unreasonably withheld, conditioned, or delayed.

11.4 Survival of Representations and Warranties. All representations and warranties made by the Company herein and in any certificates delivered pursuant hereto,

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whether or not in connection with the Closing Date, shall survive the closing and the delivery of this Agreement and the Note.

11.5 Severability. Should any part of this Agreement for any reason be declared invalid or unenforceable, such decision shall not affect the validity or enforceability of any remaining portion, which remaining portion shall remain in force and effect as if this Agreement had been executed with the invalid or unenforceable portion thereof eliminated and it is hereby declared the intention of the parties hereto that they would have executed the remaining portion of this Agreement without including therein any such part, parts or portion which may, for any reason, be hereafter declared invalid or unenforceable.

11.6 Waiver of Conditions. If on the Closing Date, either party hereto fails to fulfill each of the conditions specified in Article 5 hereof, the other party may thereupon elect to be relieved of all further obligations under this Agreement. Without limiting the foregoing, if the conditions specified in Article 5 have not been fulfilled, the other party may waive compliance by such party with any such condition to such extent as such party may in its sole discretion determine. Nothing in this Section 11.6 shall operate to relieve either party of any obligations hereunder or to waive any of the other party’s rights against such party.

11.7 Counterparts. This Agreement may be executed in one or more counterparts, each of which shall be deemed an original, but all of which shall constitute one and the same instrument.

11.8 Governing Law. This Agreement and the Note issued and sold hereunder shall be governed by and construed in accordance with the law of the State of California, without regard to the conflict of laws provisions thereof.

11.9 Captions. The descriptive headings of the various sections or part of this Agreement are for convenience only and shall not affect the meaning or construction of any of the provisions hereof.

11.10 Dispute Resolution. In the event there arises a dispute between the Parties as to the performance or interpretation of any of the provisions of this Agreement, or as to matters related to but not covered by this Agreement, the Parties shall first attempt to find a mutually agreeable solution by consultation in good faith. If the matter has not been resolved within thirty (30) days of their first meeting to resolve a dispute, then any such dispute shall be determined finally by final and binding arbitration in accordance with the International Arbitration Rules of the American Arbitration Association. The place of arbitration shall be either (a) Menlo Park, California, U.S.A. if initiated and brought by DISTRIBUTOR or (b) Tokyo, Japan if initiated and brought by COMPANY and the language of the arbitration shall be English. The arbitral tribunal shall consist of a single arbitrator. If the Parties shall not have agreed upon an arbitrator within thirty (30) days of the notice of arbitration, then the Administrator of the American Arbitration Association shall appoint one. At minimum, the arbitral tribunal shall be experienced in cross-border transactions in the area of medical devices. The unsuccessful Party in an arbitration shall pay and discharge all reasonable costs and expenses (including reasonable attorneys’ fees) which are incurred by the other Party in enforcing this Agreement.

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Nothing herein shall prevent any party from seeking injunctive relief from any court of competent jurisdiction, in order to preserve assets, prevent irreparable harm or as otherwise appropriate.

11.11 Survival. The obligations of the Company under Sections 1.2 — 1.6, 1.8, 1.9 and Articles 2, 6, 7, 8, 9, 10 and 11 hereof shall survive (a) a Permitted Transfer, (b) the enforcement, amendment or waiver of this Agreement or the Note and, (c) provided that the Note or any part thereof remains outstanding, the termination of this Agreement.

11.12 Term; Termination. Subject to Sections 11.1 and 11.11, this Agreement shall terminate upon the earlier of (1) full and final payment of all amounts owed by the Company to Century under the Note or (2) conversion of the Note into Common Stock of the Company, in accordance with Article 9.

11.13 Entire Agreement; Amendment and Modification. This Agreement, together with Distribution Agreement and the Note, constitutes the entire and final agreement between the parties hereto with respect to the subject matter hereof and supersedes any and all prior oral or written agreements or discussions on the subject matter hereof. Neither this agreement nor any of the other documents or instruments delivered herewith or executed pursuant hereto may be modified or amended in any respect except in a writing signed by both parties expressly setting forth such modification or amendment.

[remainder of page intentionally left blank]

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In Witness Whereof, the Company and Century by their duly authorized officers have each caused this Agreement to be executed as of the date first written above.


		CENTURY:

		Century Medical, Inc.

		/s/ Yasuo Kyotani

		By: Yasuo Kyotani
		Title: President & CEO

		COMPANY:

		Cardica, Inc.

		/s/ Bernard Hausen

		By: Bernard Hausen
		Title: President & CEO

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Exhibit A

FORM OF EXCLUSIVE DISTRIBUTION AGREEMENT

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Exhibit B

FORM OF SUBORDINATED 5% CONVERTIBLE NOTE

CARDICA, INC.

5% Convertible Note, due [June -, 2008]


No. CSN-1 $3,000,000		Menlo Park, CA June ___, 2003

Cardica, Inc., a corporation duly organized and existing under the laws of the State of Delaware (the “ Company ”), for value received, hereby promises to pay to Century Medical, Inc., a Japanese corporation (“ Century ”), or its registered assigns (Century or its assigns being the “ Registered Holder ”), the principal sum of THREE MILLION DOLLARS (US$3,000,000) on [June ___, 2008] (the “ Maturity ”), and to pay interest (computed on the basis of the actual number of days elapsed and a year of 365 days) (i) on the unpaid principal balance thereof from the date of this Note at the rate of five percent (5%) per annum from the date hereof, payable quarterly in arrears on January 31, April 30, July 31 and October 31 of each year (each, an “ Interest Payment Date ”) (commencing [July 31, 2003]) until such unpaid principal balance shall become due and payable (whether at Maturity, or by declaration, acceleration or otherwise) and (ii) to the extent permitted by applicable law on each overdue payment of principal or any overdue payment of interest, at a rate per annum equal to twelve percent (12.0%) (computed on the basis of the actual number of days elapsed and a year of 365 days) payable quarterly as aforesaid.

The interest and principal payments payable with respect to this Note, on any Interest Payment Date, at Maturity or by declaration, acceleration or otherwise, pursuant to the Note Agreement (as defined herein), shall be paid to Century in such coin or currency of the United States of America as at the time of payment is legal tender for payment of public and private debts. Such interest and principal payments shall be made to Century in accordance with the provisions of the Note Agreement.

This 5% Convertible Note is the Note due [June ___, 2008] of the Company issued in an aggregate principal amount of Three Million Dollars ($3,000,000) pursuant to the Subordinated Convertible Note Agreement, dated [June ___, 2003], by and between the Company and Century (the “ Note Agreement ”). The Registered Holder of this Note is entitled to the benefits of the Note Agreement, and may enforce the Note Agreement and exercise the remedies provided for thereby or otherwise available in respect thereof.

This Note may be transferred or assigned by Century or Registered Holder as provided in the Note Agreement, provided that the right to receive principal and/or interest payments on this Note may be assigned or transferred only in one of the following methods: (1) by surrender of this Note to the Company and (a) reissuance by the Company of this Note to the new Registered Holder or (b) issuance by the Company of a new note to the new Registered Holder; or (2) by notification to the Company of the transfer and a change by the Company in the Company’s

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books identifying the new owner of an interest in principal or interest on this Note. The Company shall at all times maintain a book entry system, which shall reflect ownership of this Note, and interests therein. In the event the first method of transfer is used, the Company shall also change its records to reflect such transfer or reissuance. The method of transfer, as detailed above, will be determined by mutual agreement of Century and Registered Holder.

In the case of an Event of Default (as defined in the Note Agreement), the principal of this Note in certain circumstances may be declared or otherwise become due and payable in the manner and with the effect provided in the Note Agreement, without presentment, demand, protest or any other notice of any kind, all of which are hereby expressly waived.

This Note is subject to conversion into Common Stock pursuant to the terms and conditions of the Note Agreement and conversion shall be evidenced by a Notice of Conversion as attached hereto.

The Indebtedness evidenced by this Note is, to the extent provided in the Note Agreement, subordinate and subject in right of payment to the Senior Indebtedness (as defined in the Note Agreement), and this Note is issued subject to the provisions of the Note Agreement with respect thereto. Each Registered Holder of this Note, by accepting the same, agrees to and shall be bound by such provisions.

No reference herein to the Note Agreement and no provision of this Note or of the Note Agreement shall alter or impair the obligation of the Company, which is absolute and unconditional, to pay the principal of (and premium, if any) and interest on this Note at the times, place and rate, and in the coin or currency, herein prescribed or to convert this Note as provided in the Note Agreement.

All terms used in this Note, which are defined in the Note Agreement, shall have the meanings assigned to them in the Note Agreement.

This Note has been delivered to Century in Menlo Park, California, and the Note and the Note Agreement are governed by and shall be construed and enforced in accordance with and the rights of the parties shall be governed by the law of the State of California excluding choice-of-law principles.

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In Witness Whereof, the Company has caused this instrument to be duly executed under its corporate seal.

Dated: June __, 2003


						Cardica, Inc.

						By:


						Its:


Attest:

By:


Its:

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NOTICE OF CONVERSION TO 5 % CONVERTIBLE NOTE

Registered Holder, as defined in the certain Subordinated Convertible Note Agreement, dated June ___, 2003 (the “ Note Agreement ”) hereby irrevocably exercises the option to convert this 5% Convertible Note, or that portion hereof below designated, into shares of Common Stock in accordance with the terms of the Note Agreement, and represents that the shares issuable and deliverable upon such conversion, together with written confirmation of transmittal of a wire transfer to Registered Holder in payment for any fractional shares and in payment of accrued but unpaid interest on the Note or portion of the Note to be convened, and any 5% Convertible Note representing any unconverted principal mount hereof, will be issued and delivered to the current Registered Holder of the 5% Convertible Note.

Principal amount to be converted (if less than all): $


		REGISTERED HOLDER

		Name:


		By:


		Its:

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EXHIBIT C

DISCLOSURE SCHEDULES

CARDICA, INC.

SUBORDINATED CONVERTIBLE NOTE AGREEMENT

BY AND BETWEEN

CENTURY MEDICAL, INC.

AND

THE COMPANY

DATED AS OF JUNE 16, 2003

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SCHEDULE OF EXCEPTIONS

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DISCLOSURE SCHEDULE

CENTURY MEDICAL. INC.

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AMENDMENT NO. 1 TO
SUBORDINATED CONVERTIBLE NOTE AGREEMENT

This Amendment No. 1 (this “ Amendment No. 1 ”) to the Subordinated Convertible Note Agreement, dated as of June 16, 2003, by and between Cardica, Inc . , a Delaware corporation (the “ Company ”) and Century Medical, Inc., a Japan corporation (“ CMI ”) (collectively, the “ Agreement ”) is made as of August 6, 2003, by and between the Company and CMI.

Recitals

Whereas , Section 11.13 of the Agreement provides that the Agreement may be amended with the written consent of the Company and CMI; and

Whereas , the Company and CMI desire to amend the Agreement as provided below.

Agreement

In consideration of the foregoing premises and the mutual covenants and conditions set forth below, and for other good and valuable consideration, the receipt of which is hereby acknowledged, the parties to this Amendment No. 1, intending to be legally bound, agree as follows (capitalized terms used in this Amendment No. 1 but not defined herein shall have the meaning assigned to them in the Agreement);

1. Default on Senior Indebtedness. Section 8.1 of the Agreement is hereby amended and restated in its entirety to read as follows:

“ 8.1 Default on Senior Indebtedness. If there should occur any receivership, insolvency, assignment for the benefit of creditors, bankruptcy, reorganization or arrangements with creditors (whether or not pursuant to bankruptcy or other insolvency laws), sale of all or substantially all of the assets, dissolution, liquidation or any other marshalling of the assets and liabilities of the Company, then no amount shall be paid by the Company in respect of the principal of or interest on the Notes at the time outstanding, unless and until the principal of and interest on the Senior Indebtedness then outstanding shall be paid in full. If there occurs an event of default that has been declared in writing to the Registered Holders with respect to any Senior Indebtedness, or in the instrument under which any Senior Indebtedness is outstanding, permitting the holder of such Senior Indebtedness to accelerate the maturity thereof, no payment shall be made in respect of the principal of or interest on the Notes, and no litigation, bankruptcy proceeding, foreclosure, set-off or action to take possession of Collateral shall be commenced by Century to enforce any of its remedies under the Notes, unless (i) such event of default shall have been cured or waived by the holder of such Senior Indebtedness or shall have ceased to exist, or (ii) payment of all Senior Indebtedness shall have been accelerated and all Senior Indebtedness shall have been paid in full, or (iii) within three (3) months after the happening of such event of default (a “ Payment Blockage Period ”), the maturity of such Senior Indebtedness shall not have been accelerated, or (iv) the holder of any Indebtedness other than Senior Indebtedness shall have commenced any litigation, bankruptcy proceeding, foreclosure, set-off or action to take possession of Collateral to enforce its remedies at law, in equity or under the relevant loan

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agreement. Notwithstanding anything contained herein to the contrary, payments by the Company of principal and interest on the Notes to the Registered Holders shall be halted under Section 8.1(iii) for only one (1) Payment Blockage Period during any twelve (12) month consecutive period.”

2. Security Interest . Section 8.6 of the Agreement is hereby amended and restated in its entirety to read as follows:

“ 8.6 Security Interest. Subject to the continuing security interest of any holder of Senior Indebtedness, and pursuant to and limited to the amount of such holder’s Senior Indebtedness , to secure the prompt payment of the Loan when amounts thereunder are due and payable, the Company hereby grants a continuing security interest to Century in all personal property and assets of the Company, including without limitation, all of the Company’s right, title and interest in and to all equipment, general intangibles, intellectual property, inventory, investment property, receivables, fixtures, deposit accounts and other goods and personal property, whether tangible or intangible, whether now owned or hereafter acquired and wherever located, all proceeds of each of the foregoing and all accessions to, substitutions and replacements for, and rents, profits and products of each of the foregoing (“ Collateral ”). Within ten (10) calendar days of the Effective Date, Company (a) will prepare and file all documents as directed by Century necessary for registering and perfecting Century’s continuing security interest, all such documents to be approved by Century in writing prior to any such filing by Company (the “ Security Documents ”), and (b) will bear all costs of preparing and filing the Security Documents with the appropriate governmental authorities. Any security interest on the Collateral granted to Century pursuant to this Agreement or the Security Documents shall be subordinate to all liens or security interests now or hereafter granted to a holder of Senior Indebtedness by Company or by law, pursuant to and limited to the amount of such holder’s Senior Indebtedness, notwithstanding the date, order or method of attachment or perfection of any such lien or security interest or the provisions of any applicable law.”

3. No Other Amendment. Except as modified by this Amendment No. 1, the Agreement shall remain in full force and effect in all respects without any modification. By executing this Amendment No. 1 below, the Company and CMI certify that this Amendment No. 1 has been executed and delivered in compliance with the terms of Section 11.13 of the Agreement. This Amendment No. 1 shall become effective when executed and delivered by the Company and CMI as provided under Section 11.13 of the Agreement.

3. Counterparts. This Amendment No. 1 may be executed in counterparts, each of which shall constitute an original and all of which, when taken together, shall constitute one agreement.

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In Witness Whereof , the parties hereto have executed this Amendment No. 1 To Subordinated Convertible Note Agreement as of the date set forth in the first paragraph hereof.


Cardica, Inc.		Century Medical, Inc.

By: /s/ Bernard Hausen		By: /s/ Yasuo Kyotani

Bernard Hausen, M.D.		Yasuo Kyotani
President and Chief Executive Officer		President and Chief Executive Officer

Amendment No. 1 To Subordinated Convertible Note Agreement
Signature Page

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Exhibit 10.9

AGREEMENT

This Agreement (this “ Agreement ”) is entered into as of the 19 ^th day of August, 2003 (the “ Execution Date ”), by and between Guidant Investment Corporation , a California corporation (“ Guidant ”), and Cardica, Inc. , a Delaware corporation (the “ Company ”).

RECITALS

A. Guidant desires to provide the Company a Ten Million Two Hundred Fifty Thousand Dollars (US$10,250,000) line of credit and to make a Four Million Dollar (US$4,000,000) equity investment in the Company in exchange for an agreement by the Company not to enter into any agreement regarding a material transaction, as more expressly set forth herein.

B. The Company, as borrower, desires to borrow from Guidant, as lender, up to an aggregate principal amount of Ten Million Two Hundred Fifty Thousand Dollars (US$10,250,000), on the terms and conditions set forth herein, and to sell to Guidant up to eight hundred fifty-one thousand sixty-four (851,064) shares (the “ Shares ”) of the Company’s Series E Preferred Stock, $0.001 par value, for an aggregate purchase price of Four Million Dollars and Eighty Cents (US$4,000,000.80).

AGREEMENT

Now, Therefore , in consideration of the promises and of the mutual provisions, agreements and covenants contained herein, the Company and Guidant hereby agree as follows:

ARTICLE I

LINE OF CREDIT

1.1 Commitment . At any time from the date hereof and prior to the Commitment Termination Date, Guidant shall make loans (the “ Loans ”) to the Company in an aggregate principal amount not to exceed Ten Million Two Hundred Fifty Thousand Dollars ($10,250,000) (the “ Line of Credit ”). The collective outstanding amount of all Loans made to the Company shall hereinafter be referred to as the “ Loan .”

1.2 Interest .

(a) Interest . Each Loan shall bear interest from the relevant Disbursement Date on the unpaid principal amount thereof until such Loan is repaid in full, at a rate per annum equal to eight and three quarters percent (8.75%). Upon the occurrence and during the continuation of an Event of Default, each Loan shall, to the extent permitted by law, bear interest at a rate equal to the rate provided above plus two percent (2%) per annum.

(b) Accrual and Computation of Interest . Interest shall be computed on the basis of a year of 365 days for the actual number of days elapsed for any Loan.

(c) Maximum Interest Rate . Nothing in this Agreement shall require the Company to pay interest at a rate exceeding the maximum amount permitted by applicable law to be charged by Guidant; provided, that in any event the Company shall pay the lesser of such maximum permissible rate and the rate provided herein. If, however, interest is paid hereunder in excess of the maximum rate of interest permitted by law, any interest so paid that exceeds such maximum rate shall automatically be deemed to constitute a payment of principal and shall automatically be applied in reduction of principal due on the applicable Note in the amount of such excess. In the event and to the extent such excess amount of interest exceeds the outstanding unpaid principal balance under such Note, any such excess shall be immediately returned to the Company by Guidant.

1.3 Payments .

(a) Interest Payments . The Company shall pay Guidant all interest then accrued with respect to any Note on the Maturity Date, or, if earlier, upon full repayment of such Note.

(b) Loan Payment . The Company shall repay the entire outstanding principal amount of the Loan in full on the Maturity Date. Amounts repaid (whether repaid when due or prepaid) may not be reborrowed.

(c) Optional Prepayment . The Company may at any time prepay the entire outstanding principal amount of the Loan or any portion thereof without penalty.

(d) Material Transaction Prepayment . The Company shall repay the outstanding principal amount of the Loan immediately upon the occurrence of a Material Transaction between the Company and any Person other than Guidant, and in such event Guidant shall have no further obligation to make any further disbursement under this Agreement.

(e) Subordination . Notwithstanding the foregoing, the payment of principal of each Note will be subordinated in right of payment to the prior payment in full of all Senior Indebtedness, whether outstanding on the date hereof or hereafter incurred; provided, however , that, except as limited under Article VI, the Company shall pay outstanding principal, plus any accumulated interest amounts, on the Maturity Date of each Note.

(f) Event of Default . Except as may be limited under Article VI, when an Event of Default occurs and continues, Guidant may, without notice or demand, do any or all of the following (i) declare all amounts immediately due and payable (but if an Event of Default described in clause (b) of the defined term occurs all amounts are immediately due and payable without any action by Guidant); (ii) stop advancing money or extending credit for the Company’s benefit under this Agreement; and (iii) exercise any other remedies available to it under applicable statutes, at law, or in equity.

1.4 Note . Each Loan made shall be evidenced by a promissory note (substantially in the form attached hereto as Exhibit A ) executed by the Company and made payable to Guidant in the stated principal amount of such Loan. Each such promissory note is herein referred to as a “ Note ,” and collectively such promissory notes are herein referred to as “ Notes .” The Company

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hereby authorizes Guidant to indicate upon a schedule attached to each Note all payments of principal and interest thereon. Absent manifest error, such notations shall be presumptive as to the aggregate unpaid principal amount of the Loan, and interest due thereon, but any failure by Guidant to make such notations or the inaccuracy or incompleteness of any such notations shall not affect the Obligations.

1.5 Delivery of Note; Closing . The delivery of the first Note by the Company (the “ Closing ”) shall occur on the first Disbursement Date or such later Business Day as shall be mutually agreed upon by the Company and Guidant (the “ Closing Date ”). On the Closing Date, Guidant shall provide, in immediately available funds, an amount equal to the principal amount of the first installment of the Loan (as set forth in the applicable Borrowing Notice, as such term is defined in Section 1.7 hereof), by wire transfer for the account of the Company in accordance with the following:


		Chase Manhattan Bank
		ABA# [*]

		Fahnestock & Co. Inc.
		Account # [*]
		For Final Credit of:		Cardica, Inc.
		Final Credit Account #:		[*]

1.6 Home Office Payment . The Company shall pay all sums due on each Note by wire transfer of immediately available funds for the account of Guidant in accordance with the following:


		Citibank—New York, NY
		ABA# [*]
		Account [*]
		Account Name:		Guidant Corporation

or by such other method or at such other location as Guidant shall specify from time to time in writing to Company, without presentation or surrender of the Note or the making of any notation thereon.

1.7 Borrowing Procedures . The Company shall deliver to Guidant written notice of the Company’s desire for a Loan no later than 11:00 a.m. San Francisco, California time five (5) Business Days prior to the requested Disbursement Date. Such notice shall be irrevocable and shall be substantially in the form attached hereto as Exhibit B attached hereto (“ Borrowing Notice ”). In no event shall the amount requested for any one Loan be less than One Million Dollars (US$1,000,000), or the remaining availability under the Line of Credit if such amount is less than One Million Dollars (US$1,000,000), nor greater than Five Million Two Hundred Fifty Thousand Dollars (US$5,250,000). In no event shall Guidant be obligated to make a second disbursement until at least six (6) months after the first Disbursement Date and unless the Company has complied with its obligations under Section 5.7 of this Agreement.

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1.8 Obligation to Fund . Upon written notice by the Company pursuant to Section 1.7 hereof to borrow, and so long as no Event of Default has occurred and is continuing, Guidant shall have the absolute obligation to fund the Loan on the Disbursement Date in the amount requested in the Borrowing Notice.

ARTICLE II

INTERPRETATION OF AGREEMENT; DEFINITIONS .

“ Acquisition Proposal ” shall mean any proposal made by a third party to acquire, directly or indirectly, including pursuant to a merger, consolidation, business combination, recapitalization, liquidation, dissolution or similar transaction, for consideration consisting of cash and/or securities, more than 50% of the combined voting power of the shares of the Company then outstanding or all or substantially all the assets of the Company.

“ Affiliate ” shall mean any Person (i) which directly or indirectly through one or more intermediaries controls, or is controlled by, or is under common control with, the Company, (ii) which beneficially owns or holds fifty percent (50%) or more of any class of the Voting Stock of the Company or (iii) fifty percent (50%) or more of the Voting Stock (or in the case of a Person which is not a corporation, fifty percent (50%) or more of the equity interest) of which is beneficially owned or held by the Company. The term “control” means the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of a Person, whether through the ownership of Voting Stock, by contract or otherwise. In addition, The Guidant Foundation is an Affiliate of Guidant.

“ Business Day ” shall mean any day other than a Saturday, Sunday, legal holiday or other day on which commercial banks located in San Francisco, California are authorized or required by law to be closed.

“ CMI ” shall mean Century Medical, Inc., a Japan corporation.

“ Commitment Termination Date ” shall be the date that is the second (2 ^nd ) anniversary of the Execution Date.

“ Common Stock ” shall mean the Common Stock, par value $0.001 per share, of the Company.

“ Disbursement Date ” shall mean any date on which a Loan is made.

“ Disclosure Schedule ” shall have the meaning specified in Article III hereof.

“ Event of Default ” shall mean: (a) a default in the payment of the principal or unpaid accrued interest on the Notes when due and payable if the Company does not cure such default within ten (10) calendar days after Guidant has given the Company written notice of such

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default; (b) the institution by the Company of proceedings to be adjudicated as bankrupt or insolvent, or the consent by it to institution of bankruptcy or insolvency proceedings against it or the filing by it of a petition or answer or consent seeking reorganization or relief under the United States Federal Bankruptcy Code, or any other applicable federal or state law, or the consent by it to the filing of any such petition or the appointment of a receiver, liquidator, assignee, trustee or other similar official of the Company, or of any substantial part of its property, or the making by it of an assignment for the benefit of creditors which proceedings are not dismissed within thirty (30) days of the commencement of such proceedings; (c) the commencement of an action against the Company (and service of process in connection therewith on the Company) seeking any bankruptcy, insolvency, reorganization, liquidation, dissolution or similar relief under any present or future statute, law or regulation which action shall not have been resolved in favor of the Company within thirty (30) days of the commencement of such action, or the appointment without the consent or acquiescence of the Company of any trustee, receiver or liquidator of the Company or of all or any substantial part of the properties of the Company which appointment shall not have been vacated within thirty (30) days of such appointment; (d) a default under the terms of the VLL Loan Agreements; (e) an “Event of Default” as defined under Section 7.1 under the CMI Loan Agreement, regardless of whether CMI treats such occurrence as a default; (f) a default in the performance of any of its covenants and agreements set forth in Section 5.8 hereof and the continuance of such default for thirty (30) days after Guidant has given the Company written notice of such default, or (g) the Quiet Period and the Exclusive Negotiation Period shall have been terminated due to the termination of the Agreement by the Company in accordance with Section 5.1 hereof because of the receipt by the Company of an Acquisition Proposal and the Board of Directors of the Company determined in good faith, after consultation with outside counsel, that it was necessary to do so to act in a manner consistent with its fiduciary duties to the Company’s stockholders under applicable law.

“ Exclusive Negotiation Period ” shall mean a period of thirty (30) days commencing on the earlier of (x) November 1, 2004, or (y) the date following the expiration of the Quiet Period (as hereinafter defined).

“ FDA ” shall mean the U.S. Food and Drug Administration.

“ Financial Statements ” shall have the meaning specified in Section 3.17 hereof.

“ GAAP ” shall mean generally accepted accounting principles at the time in the United States.

“ Indebtedness ” shall mean indebtedness for borrowed money evidenced by a promissory note that provides for payment of interest based on a principal amount and includes the acceleration of payment of such principal amount upon certain events of default.

“ Interest Payment Date ” shall mean the date on which the payment of accrued interest on any Note is due and payable.

“ IP Security Agreement ” shall have the meaning specified in Section 6.7 hereof.

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“ Lien ” shall mean any interest in property securing an obligation owed to, or a claim by, a Person other than the owner of the property, whether such interest is based on the common law, statute or contract, and including but not limited to the security interest lien arising from a mortgage, encumbrance, pledge, conditional sale or trust receipt or a lease, consignment or bailment for security purposes. The term “Lien” shall include reservations, exceptions, encroachments, easements, rights-of-way, covenants, conditions, restrictions, leases and other title exceptions and encumbrances (including, with respect to stock, stockholder agreements, voting trust agreements, buy-back agreements and all similar arrangements) affecting property. For purposes of this Agreement, the Company shall be deemed to be the owner of any property which it has acquired or holds subject to a conditional sale agreement, capitalized lease or other arrangement pursuant to which title to the property has been retained by or vested in some other Person for security purposes and such retention or vesting shall constitute a Lien.

“ Material Adverse Effect ” shall mean any event, act or failure to act which would have a material adverse effect on the Company’s assets, business (as presently conducted or as proposed to be conducted), properties, financial condition or operating results, or on the Company’s ability to enter into and perform its Obligations.

“ Material Transaction ” shall mean any merger, sale or other transfer of all or substantially all of the assets or capital stock of the Company, or any other material strategic transaction involving the Company (including the licensing or other transfer of the Company’s intellectual property, or a United States distribution agreement with a competitor of Guidant’s); provided, however , in no event shall either (a) the sale of shares of the Company’s capital stock (x) in any transaction or series of related transactions consummated principally for equity financing purposes that is not directly related to a material strategic business transaction (such as a merger, acquisition, license, distribution or development transaction), or (y) in connection with the Company’s initial public offering of its securities registered under the Securities Act, or (b) any transaction or series of related transactions with Guidant or its affiliates, constitute a “Material Transaction.”

“ Maturity Date ” shall mean the date that is five (5) years from the Execution Date, or any other earlier date on which a Note becomes due and payable, whether as stated or by virtue of an Event of Default or otherwise.

“ Obligations ” shall mean all loans, advances, debts, liabilities, obligations, covenants and duties owing, to Guidant by the Company of any kind or nature, present or future, whether or not evidenced by any note, guaranty or other instrument, arising under this Agreement, the Note or the IP Security Agreement, whether or not for the payment of money, arising by reason of an extension of credit, absolute or contingent, due or to become due, now existing or hereafter arising, including all principal, interest, charges, expenses, fees, attorneys’ fees and disbursements and any other sum chargeable to the Company under this Agreement or the IP Security Agreement.

“ PAS-Port Data ” shall mean such data described on Exhibit D hereof which is incorporated herein by this reference.

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“ Permitted Liens ” shall mean (a) Liens held by VLL or CMI; (b) Liens for taxes, fees, assessments or other government charges or levies, either not delinquent or being contested in good faith and for which Borrower maintains adequate reserves on its books; (c) purchase money Liens (i) on equipment acquired or held by the Company or its subsidiaries incurred for financing the acquisition of the equipment, or (ii) existing on equipment when acquired, if the Lien is confined to the property and improvements and the proceeds of the equipment; (d) leases or subleases granted in the ordinary course of the Company’s business, including in connection with the Company’s leased premises or leased property; (e) minor liens and encumbrances which do not materially detract from the value of the property subject thereto or materially impair the operations of the Company; (f) Liens that constitute rights of set-off of a customary nature or banker’s Liens with respect to amounts on deposit, whether arising by operation of law or by contract, in connection with arrangements entered into with banks in the ordinary course of business; and (g) Liens incurred in the extension, renewal or refinancing of the indebtedness secured by Liens described in (a) through (c), but any extension, renewal or replacement Lien must be limited to the property encumbered by the existing Lien and the principal amount of the indebtedness may not increase.

“ Person ” shall mean an individual, partnership, corporation, limited liability company, trust or unincorporated organization, and a government or agency or political subdivision thereof.

“ Quiet Period ” shall have the meaning specified in Section 5.1.

“ Registered Holder ” shall mean Guidant Investment Corporation.

“ SEC ” shall mean the Securities and Exchange Commission, or successor regulatory entity.

“ Securities Act ” shall mean the Securities Act of 1933, as amended.

“ Senior Indebtedness ” shall mean any and all Indebtedness, fees, costs, expenses, liabilities or other amounts owed, owing or to be owed by the Company to (x) VLL pursuant to those certain Loan and Security Agreements dated March 17, 2000 and July 5, 2001, and December 12, 2002, as they may be amended or supplemented from time to time (collectively, the “ VLL Loan Agreements ”); and (y) CMI pursuant to that certain Subordinated Convertible Note Agreement by and between the Company and CMI dated June 16, 2003, as it may be amended or supplemented from time to time (the “ CMI Loan Agreement ”), provided , however , that amounts owing to CMI pursuant to the CMI Loan Agreement shall only constitute “Senior Indebtedness” to the extent amounts owing to Guidant and VLL collectively exceed [*] Dollars (US$[*]), and further shall only be “Senior Indebtedness” to the extent provided for in the CMI Loan Agreement.

“ VLL ” shall mean Venture Lending & Leasing II, Inc., and Venture Lending & Leasing III, Inc., and their successors or assigns, collectively.

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“ Voting Stock ” shall mean securities of any class or classes, the holders of which are ordinarily, in the absence of contingencies, entitled to elect a majority of the corporate directors (or Persons performing similar functions).

2.4 Legal Holidays . In any case where any Interest Payment Date or the Maturity Date of the Note shall not be a Business Day, then (notwithstanding any other provision of this Agreement or of the Note) payment of interest or principal or conversion of the Note, as the case may be, shall be made on the next succeeding Business Day with the same force and effect as if made on the Interest Payment Date, or at the Maturity Date.

ARTICLE III

REPRESENTATIONS AND WARRANTIES OF THE COMPANY

Except as otherwise specifically set forth in the Disclosure Schedule attached hereto as Exhibit C (the “ Disclosure Schedule ”), the Company represents and warrants to Guidant as of the date hereof as follows:

3.1 Organization, Good Standing . The Company is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware. The Company has all requisite corporate power and authority to own and operate its properties and assets, to execute and deliver this Agreement, to issue the Notes, to carry out the provisions of this Agreement, and to carry on its business as presently conducted and as presently proposed to be conducted.

3.3 Capitalization; Voting Rights .

(a) The authorized capital stock of the Company consists of (i) 23,860,000 shares of Common Stock, par value $0.001 per share, 4,646,079 shares of which are issued and outstanding; and (ii) 15,243,000 shares of Preferred Stock, par value $0.001 per share, 683,000 shares of which are designated Series A Preferred Stock, all of which are issued and outstanding, 1,700,000 shares of which are designated Series B Preferred Stock, 1,585,838 shares of which are issued and outstanding, 5,500,000 shares of which are designated Series C Preferred Stock,

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4,698,996 shares of which are issued and outstanding, 6,500,000 shares of which are designated Series D Preferred Stock, 4,821,992 of which are issued and outstanding, and 1,006,000 shares of which are designated Series E Preferred Stock, none of which are issued and outstanding. All issued and outstanding shares of the Company’s Common Stock and Preferred Stock have been duly authorized and validly issued and are fully paid and nonassessable. Each share of Preferred Stock is convertible into Common Stock on a one-for-one basis as of the date hereof.

(b) Under the Company’s 1997 Equity Incentive Plan as amended to date (the “ Plan ”), (i) 1,805,459 shares have been issued pursuant to restricted stock purchase agreements and/or the exercise of outstanding options (such number is reflected in the number of shares of outstanding Common Stock listed in Section 3.3(a)(i) above), (ii) options to purchase 2,079,829 shares have been granted and are currently outstanding, and (iii) 554,092 shares of Common Stock remain available for future issuance to officers, directors, employees and consultants of the Company.

(c) Other than (i) the shares reserved for issuance under the Plan, (ii) warrants to purchase 96,439 shares of Common Stock, (iii) warrants to purchase 36,810 shares of Series B Preferred Stock, (iv) warrants to purchase 156,250 shares of Series C Preferred Stock, (v) warrants to purchase 180,052 shares of Series D Preferred Stock, and (vi) except as may be granted pursuant to this Agreement, that certain Series E Preferred Stock Purchase Agreement between the Company and Guidant of even date herewith (the “ Purchase Agreement ”) and that certain Amended and Restated Investor Rights Agreement by and among the Company, Guidant, and certain other holders of the Company’s Preferred Stock of even date herewith (the “ Investor Rights Agreement ”), there are no outstanding options, warrants, rights (including conversion or preemptive rights and rights of first refusal), proxy or stockholder agreements, or agreements of any kind for the purchase or acquisition from the Company of any of its securities.

(d) The rights, preferences, privileges and restrictions of the Preferred Stock and Common Stock are as stated in the Company’s Amended and Restated Certificate of Incorporation (the “ Restated Charter ”). Each series of Preferred Stock is convertible into Common Stock on a one-for-one basis as of the date hereof.

(e) No stock plan, stock purchase, stock option or other agreement or understanding between the Company and any holder of any equity securities or rights to purchase equity securities provides for acceleration or other changes in the vesting provisions or other terms of such agreement or understanding as the result of any merger, consolidated sale of stock or assets, change in control or any other transaction(s) by the Company.

3.4 Authorization; Binding Obligations . All corporate action on the part of the Company, its officers, directors and stockholders necessary for the authorization of this Agreement, the performance of all obligations of the Company hereunder and the authorization, issuance and delivery of the Notes pursuant hereto has been taken or will be taken prior to the Closing. This Agreement, when executed and delivered, will be a valid and binding obligation of the Company enforceable in accordance with its terms, except (a) as limited by applicable bankruptcy, insolvency, reorganization, moratorium or other laws of general application affecting enforcement of creditors’ rights, and (b) general principles of equity that restrict the

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availability of equitable remedies. The issuance of the Notes is not subject to any preemptive rights or rights of first refusal that have not been properly waived or complied with.

3.5 Liabilities . The Company has no material liabilities and, to the best of its knowledge, knows of no material contingent liabilities, except current liabilities incurred in the ordinary course of business which have not been, either in any individual case or in the aggregate, materially adverse.

3.6 Agreements; Action .

(a) Except for agreements explicitly contemplated hereby and agreements between the Company and its employees with respect to the sale of the Company’s Common Stock, there are no agreements, understandings or proposed transactions between the Company and any of its officers, directors, affiliates or any affiliate thereof.

(b) There are no agreements, understandings, instruments, contracts, judgments, orders, writs or decrees to which the Company is a party or to its knowledge by which it is bound which may involve (i) obligations (contingent or otherwise) of, or payments to, the Company in excess of $50,000 (other than obligations of, or payments to, the Company arising from purchase or sale agreements entered into in the ordinary course of business), or (ii) the transfer or license of any patent, copyright, trade secret or other proprietary right to or from the Company (other than licenses arising from the purchase of “off the shelf” or other standard products), or (iii) indemnification by the Company with respect to infringements of proprietary rights (other than indemnification obligations arising from purchase or sale or license agreements entered into in the ordinary course of business).

(c) The Company has not (i) declared or paid any dividends, or authorized or made any distribution upon or with respect to any class or series of its capital stock, (ii) incurred any indebtedness for money borrowed or any other liabilities (other than with respect to dividend obligations, distributions, indebtedness and other obligations incurred in the ordinary course of business) individually in excess of $50,000 or, in the case of indebtedness and/or liabilities individually less than $50,000, in excess of $100,000 in the aggregate, (iii) made any loans or advances to any person, other than ordinary advances for travel expenses, or (iv) sold, exchanged or otherwise disposed of any of its assets or rights, other than the sale of its inventory in the ordinary course of business.

(d) For the purposes of subsections (b) and (c) above, all indebtedness, liabilities, agreements, understandings, instruments, contracts and proposed transactions involving the same person or entity (including persons or entities the Company has reason to believe are affiliated therewith) shall be aggregated for the purpose of meeting the individual minimum dollar amounts of such subsections.

3.7 Obligations to Related Parties . There are no obligations of the Company to officers, directors, stockholders, or employees of the Company other than (a) for payment of salary for services rendered, (b) reimbursement for reasonable expenses incurred on behalf of the Company and (c) for other standard employee benefits made generally available to all employees (including stock option agreements outstanding under any stock option plan approved by the

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Board of Directors of the Company). None of the officers, directors or, to the best of the Company’s knowledge, key employees or stockholders of the Company or any members of their immediate families, are indebted to the Company or have any direct or indirect ownership interest in any firm or corporation with which the Company is affiliated or with which the Company has a business relationship, or any firm or corporation which competes with the Company, other than passive investments in publicly traded companies (representing less than 1% of such company) which may compete with the Company. No officer, director or stockholder, or any member of their immediate families, is, directly or indirectly, interested in any material contract with the Company (other than such contracts as relate to any such person’s ownership of capital stock or other securities of the Company).

3.8 Title to Properties and Assets; Liens, Etc. The Company has good and marketable title to its properties and assets, including the properties and assets reflected in the most recent balance sheet included in the Balance Sheet (as defined in Section 3.17), and good title to its leasehold estates, in each case subject to no mortgage, pledge, lien, lease, encumbrance or charge, other than Permitted Liens. All facilities, machinery, equipment, fixtures, vehicles and other properties owned, leased or used by the Company are in good operating condition and repair and are reasonably fit and usable for the purposes for which they are being used. The Company is in compliance with all material terms of each lease to which it is a party or is otherwise bound.

3.9 Intellectual Property.

(a) To the best of its knowledge, the Company owns or possesses sufficient legal rights to all patents, trademarks, service marks, trade names, copyrights, trade secrets, licenses, information and other proprietary rights and processes necessary for its business as now conducted and as presently proposed to be conducted, without any known infringement of the rights of others. There are no outstanding options, licenses or agreements of any kind relating to the foregoing proprietary rights, nor is the Company bound by or a party to any options, licenses or agreements of any kind with respect to the patents, trademarks, service marks, trade names, copyrights, trade secrets, licenses, information and other proprietary rights and processes of any other person or entity other than such licenses or agreements arising from the purchase of “off the shelf” or standard products or licenses incidental to consulting agreements or with independent contractors.

(b) The Company has not received any communications alleging that the Company has violated or, by conducting its business as presently proposed, would violate any of the patents, trademarks, service marks, trade names, copyrights or trade secrets or other proprietary rights of any other person or entity.

(c) The Company is not aware that any of its employees is obligated under any contract (including licenses, covenants or commitments of any nature) or other agreement, or subject to any judgment, decree or order of any court or administrative agency, that would interfere with their duties to the Company or that would conflict with the Company’s business as presently proposed to be conducted. No employee, officer or consultant of the Company has excluded works or inventions made prior to his or her employment with the Company from his or her assignment of inventions pursuant to such employee, officer or consultant’s proprietary

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information and inventions agreement. The Company does not believe it is or will be necessary to utilize any inventions, trade secrets or proprietary information of any of its employees made prior to their employment by the Company, except for inventions, trade secrets or proprietary information that have been assigned to the Company.

(d) Neither the execution nor delivery of this Agreement, nor the carrying on of the Company’s business by the employees of the Company, nor the conduct of the Company’s business as presently proposed, will, to the Company’s knowledge, conflict with or result in a breach of the terms, conditions or provisions of, or constitute a default under, any contract, covenant or instrument under which any employee is now obligated.

3.10 Compliance with Other Instruments . The Company is not in violation or default of any term of its Restated Charter or Bylaws, or of any provision of any mortgage, indenture, contract, agreement, instrument or contract to which it is party or by which it is bound or of any judgment, decree, order, writ. The execution, delivery, and performance of and compliance with this Agreement, and the issuance of the Notes pursuant hereto, will not, with or without the passage of time or giving of notice, result in any such material violation, or be in conflict with or constitute a default under any such term, or result in the creation of any mortgage, pledge, lien, encumbrance or charge upon any of the properties or assets of the Company or the suspension, revocation, impairment, forfeiture or nonrenewal of any permit, license, authorization or approval applicable to the Company, its business or operations or any of its assets or properties.

3.11 Litigation . There is no action, suit, proceeding or investigation pending or, to the Company’s knowledge, currently threatened in writing against the Company that questions the validity of this Agreement or the right of the Company to enter into this Agreement, or to consummate the transactions contemplated hereby, or which would reasonably be expected to result, either individually or in the aggregate, in any material adverse change in the assets, condition, affairs or prospects of the Company, financially or otherwise, or any change in the current equity ownership of the Company, nor is the Company aware that there is any basis for any of the foregoing. The foregoing includes, without limitation, actions pending or, to the Company’s knowledge, threatened in writing involving the prior employment of any of the Company’s employees, their use in connection with the Company’s business of any information or techniques allegedly proprietary to any of their former employers, or their obligations under any agreements with prior employers. The Company is not a party or subject to the provisions of any order, writ, injunction, judgment or decree of any court or government agency or instrumentality. There is no action, suit, proceeding or investigation by the Company currently pending or which the Company intends to initiate.

3.12 Tax Returns and Payments . The Company has filed all tax returns (federal, state and local) required to be filed by it. All taxes shown to be due and payable on such returns, any assessments imposed, and to the Company’s knowledge all other taxes due and payable by the Company, have been paid or will be paid prior to the time they become delinquent. The Company has no knowledge of any liability of any tax to be imposed upon its properties or assets as of the date of this Agreement that is not adequately provided for. The Company has paid all federal, state and local income, profits, franchise, sales, use, property, excise, payroll and other taxes (including interest and penalties) to the extent that such have become due.

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3.13 Employees . The Company has no collective bargaining agreements with any of its employees. There is no labor union organizing activity pending or, to the Company’s knowledge, threatened with respect to the Company. The Company is not a party to or bound by any currently effective employment contract, deferred compensation arrangement, bonus plan, incentive plan, profit sharing plan, retirement agreement or other employee compensation plan or agreement. To the Company’s knowledge, no employee of the Company, nor any consultant with whom the Company has contracted, is in violation of any term of any employment contract, proprietary information agreement or any other agreement relating to the right of any such individual to be employed by, or to contract with, the Company because of the nature of the business to be conducted by the Company; and to the Company’s knowledge the continued employment by the Company of its present employees, and the performance of the Company’s contracts with its independent contractors, will not result in any such violation. The Company has not received any notice alleging that any such violation has occurred. No employee of the Company has been granted the right to continued employment by the Company or to any material compensation following termination of employment with the Company. The Company is not aware that any officer, key employee or group of employees intends to terminate his, her or their employment with the Company, nor does the Company have a present intention to terminate the employment of any officer, key employee or group of employees.

3.14 Registration Rights and Voting Rights . Except as required pursuant to the Investor Rights Agreement, the Company is presently not under any obligation, and has not granted any rights, to register (as defined in Section 1.1 of the Investor Rights Agreement) any of the Company’s presently outstanding securities or any of its securities that may hereafter be issued. To the Company’s knowledge, except as contemplated in that certain Voting Agreement dated August 9, 2000, by and among the Company and certain holders of the Company’s Common Stock and Preferred Stock, as amended to date, no stockholder of the Company has entered into any agreement with respect to the voting of equity securities of the Company.

3.15 Compliance with Laws; Permits . To its knowledge, the Company is not in violation of any applicable statute, rule, regulation, order or restriction of any domestic or foreign government or any instrumentality or agency thereof in respect of the conduct of its business or the ownership of its properties which violation would materially and adversely affect the business, assets, liabilities, financial condition, operations or prospects of the Company. No governmental orders, permissions, consents, approvals or authorizations are required to be obtained and no registrations or declarations are required to be filed in connection with the execution and delivery of this Agreement and the issuance of the Notes, except such as has been duly and validly obtained or filed. The Company has all franchises, permits, licenses and any similar authority necessary for the conduct of its business as now being conducted by it, the lack of which could materially and adversely affect the business, properties or financial condition of the Company and believes it can obtain, without undue burden or expense, any similar authority for the conduct of its business as planned to be conducted.

3.16 Offering Valid . Assuming the accuracy of the representations and warranties of Guidant contained in Article IV hereof, the offer and issuance of the Notes will be exempt from the registration requirements of the Securities Act, and will have been registered or qualified (or are exempt from registration and qualification) under the registration, permit or qualification requirements of all applicable state securities laws. Neither the Company nor any agent on its

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behalf has solicited or will solicit any offers to issue or has offered to issue or will offer to issue all or any part of the Notes to any person or persons so as to bring the issuance of such Notes by the Company within the registration provisions of the Securities Act or any state securities laws.

3.17 Financial Statements . The Company has made available to Guidant (a) its audited balance sheet as of June 30, 2002, and audited statement of operations for the fiscal year ended June 30, 2002, (b) its unaudited balance sheet (the “ Balance Sheet ”) as of May 31, 2003 (the “ Balance Sheet Date ”) and unaudited statement of operations for the period ending on the Balance Sheet Date (collectively, the “ Financial Statements ”), and (c) its unaudited balance sheets as of April 30, 2003, May 31, 2003 and June 30, 2003 and unaudited statements of operations for the monthly period ended on each such date. The Financial Statements, together with the notes thereto, have been prepared in accordance with generally accepted accounting principles applied on a consistent basis throughout the periods indicated, except as disclosed therein, and present fairly in all material respects the financial condition and position of the Company as of June 30, 2002, and the Balance Sheet Date; provided, however , that the unaudited financial statements are subject to normal year-end audit adjustments, and do not contain footnotes required under generally accepted accounting principles.

3.18 Changes . Since the Balance Sheet Date, there has not been to the Company’s knowledge:

(a) Any change in the assets, liabilities, financial condition or operating results of the Company from that reflected in the Financial Statements, except changes in the ordinary course of business that have not been, either individually or in the aggregate, materially adverse;

(b) Any damage, destruction or loss, whether covered by insurance or not, materially and adversely affecting the business, properties or financial condition of the Company;

(c) Any waiver or compromise by the Company of a valuable right or material debt owed to it;

(d) Any satisfaction or discharge of any lien, claim or encumbrance, or payment of any obligation by the Company, except those in the ordinary course of business that are not material to the business, properties or financial condition of the Company;

(e) Any change to a material contract or agreement by which the Company or any of its assets is bound or to which the Company is subject which materially and adversely affects the business, assets, liabilities, financial condition or operations of the Company;

(f) Any material change in any compensation arrangement or agreement with any employee, officer, director or stockholder;

(g) Any sale, assignment or transfer of any patents, trademarks, copyrights, trade secrets or other intangible assets;

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(h) Any resignation or termination of employment of any officer or key employee of the Company;

(i) Any mortgage, pledge, transfer or a security interest in, or lien, created by the Company, with respect to any of the Company’s material properties or assets, except liens for taxes not yet due or payable and those which arise in the ordinary course of business and do not materially impair the Company’s ownership or use of its material property or assets;

(j) Any loans or guarantees made by the Company to or for the benefit of its employees, officers or directors, or any members of their immediate families, other than travel and other advances made in the ordinary course of business;

(k) Any declaration, setting aside, payment or other distribution in respect of any of the Company’s capital stock, or any direct or indirect redemption, purchase or other acquisition of any of such stock by the Company other than a repurchase by the Company of shares of its Common Stock pursuant to the right of first refusal set forth in the Company’s Bylaws;

(l) Any material change, except in the ordinary course of business, in the contingent obligations of the Company by way of guaranty, endorsement, indemnity, warranty or otherwise;

(m) Any debt, obligation or liability incurred, assumed or guaranteed by the Company except those for immaterial amounts and for current liabilities incurred in the ordinary course of business; and

(n) Any arrangement or commitment by the Company to do any of the acts described in subsections (a) through (m) above.

ARTICLE IV

REPRESENTATIONS AND WARRANTIES OF GUIDANT

Except as contemplated by this Agreement, Guidant represents and warrants to the Company as of the date hereof as follows:

4.1 Corporate Organization . Guidant is a corporation duly incorporated, validly existing and in good standing under the laws of California. Guidant has all requisite corporate power and authority to own and operate its properties and assets, to execute and deliver this Agreement, to purchase the Notes, to carry out the provisions of this Agreement, and to carry on its business as presently conducted and as presently proposed to be conducted.

4.2 Authority . All corporate action on the part of Guidant, its officers, directors and stockholders necessary for the authorization of this Agreement, the performance of all obligations of Guidant has been taken or will be taken prior to the Closing. This Agreement, when executed and delivered, will be a valid and binding obligation of Guidant enforceable in accordance with its terms, except (a) as limited by applicable bankruptcy, insolvency,

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reorganization, moratorium or other laws of general application affecting enforcement of creditors’ rights, and (b) general principles of equity that restrict the availability of equitable remedies. The execution and delivery of this Agreement does not, and the consummation of the transactions contemplated hereby will not, conflict with, or result in any violation of or default (with or without notice or lapse of time, or both) under, or give rise to a right of termination, cancellation or acceleration of any obligation under (a) any provision of the Certificate of Incorporation or Bylaws of Guidant, or (b) any material agreement or instrument, permit, license, judgment, order, statute, law, ordinance, rule or regulation applicable to Guidant or its properties or assets, other than any such conflicts, violations, defaults, terminations, cancellations or accelerations which individually or in the aggregate would not have a material adverse effect on Guidant.

No consent, approval, order or authorization of, or registration, declaration or filing with, any United States governmental authority is required by or with respect to Guidant in connection with the execution and delivery of this Agreement by Guidant or the consummation by Guidant of the transactions contemplated hereby or thereby.

4.3 Restricted Note . Guidant represents and agrees that, upon the issuance of any Note, (a) Guidant will acquire such Note for Guidant’s own account, and for the purpose of investment and not with a view to the distribution thereof, and (b) the Note has not been registered under Section 5 of the Securities Act and may not be offered or sold by Guidant.

4.4 Disclosure of Information . Guidant believes it has received all the information it considers necessary or appropriate for deciding whether to enter into this Agreement and purchase the Note. Guidant further represents that it has had an opportunity to ask questions and receive answers from the Company regarding the terms and conditions of this Agreement and the issuance of the Note.

4.5 Investment Experience . Guidant is an investor in securities of companies in the development stage and acknowledges that it is able to fend for itself, and bear the economic risk of its investment and has such knowledge and experience in financial or business matters that it is capable of evaluating the merits and risks of this Agreement and the issuance of the Note. Guidant represents that it has not been organized for the purpose of acquiring the Note.

4.6 Accredited Investor . Guidant is an “accredited investor” as defined in Rule 501 of Regulation D as promulgated by the SEC under the Securities Act and shall submit to the Company such further assurances of such status as may be requested by the Company.

ARTICLE V

COVENANTS OF THE PARTIES

5.1 Quiet Period . From and after the date hereof and until the later of (x) the date of approval by the FDA of the Company’s PAS-Port, or (y) such time as the PAS-Port Data is collected, the Company shall not enter into any agreement or negotiations for any transaction or series of transactions resulting in a Material Transaction (collectively, the “ Quiet Period ”); provided, however , that the Quiet Period shall not extend beyond November 30, 2004 so long as

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the Company has complied with its obligations in Section 5.2. Notwithstanding the foregoing, in the event that the Company receives an Acquisition Proposal and the Board of Directors of the Company determines in good faith, after consultation with outside counsel, that it is necessary to do so to act in a manner consistent with its fiduciary duties to the Company’s stockholders under applicable law, the Board of Directors of the Company may terminate this Agreement solely to enter into an agreement with such third party, but only after the Company shall have complied with Section 3.7 of the Amended and Restated Investor Rights Agreement of even date herewith by and among the Company and the Investors identified on Exhibit A thereto. The Company shall be permitted to sell additional shares of its capital stock during the Quiet Period provided that such sales do not result in a Material Transaction.

5.2 Company’s Efforts Regarding PAS-Port Data . The Company shall use its reasonable best efforts to gather the PAS-Port Data and obtain FDA clearance for the PAS-Port on or before October 31, 2004.

5.3 Exclusive Negotiation Period . During the Exclusive Negotiation Period, Guidant and its Affiliates shall have an exclusive right to negotiate with the Company for the acquisition of the Company by Guidant or its Affiliates by means of any transaction or series of transactions, including but not limited to by way of merger, acquisition, or a stock or asset transfer. During the Negotiation Period, the Company shall not enter into any agreement or negotiations for any transaction or series of transactions resulting in a Material Transaction and shall negotiate in good faith with Guidant and its Affiliates for the acquisition of the Company by Guidant or its Affiliates by means of any transaction or series of transactions, including but not limited to by way of merger, acquisition, or a stock or asset transfer.

5.4 Equity Purchase . Guidant shall acquire the Shares on the date hereof.

5.5 Information Rights . During such time as any Obligation remains outstanding, Guidant shall have the rights of a Major Investor under Sections 3.1 and 3.2 of the Investor Rights Agreement and Guidant shall be subject to the obligations of an Investor under Section 3.3 of the Investor Rights Agreement.

5.6 Non-Solicitation of Employees . The Company and Guidant agree that, until the expiration of the Exclusive Negotiation Period, neither party will solicit, attempt to hire, hire or employ, directly or indirectly, through any enterprise with which the party is associated, any person who is currently or who, during any time prior to the expiration of the Exclusive Negotiation Period, becomes an employee of the other party or in any way solicit or induce (or assist another person in soliciting or inducing) any employee of the other party to terminate his or her employment with such other party.

5.7 Repayment of Debt to VLL . The Company shall repay, within thirty (30) business days of the Closing Date, all amounts owing to VLL pursuant to the VLL Loan Agreements.

5.8 Covenants of the Company . From and after the Execution Date and continuing so long as any amount remains unpaid on the Notes, the Company covenants that:

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(a) Corporate Existence. The Company shall do or cause to be done all things necessary to preserve and keep in full force and effect the existence, rights and franchises of the Company relating to its corporate existence.

(b) Maintenance of Properties. The Company will use commercially reasonable efforts to maintain, preserve and keep its material properties which are used or useful in the conduct of its business (whether owned in fee or a leasehold interest) in good repair and working order and from time to time will make all necessary repairs, replacements, renewals and additions so that at all times the efficiency thereof shall be maintained in all material respects. Notwithstanding the foregoing, the Company may dispose of obsolete and unneeded property.

(c) Indebtedness. Except with five (5) days’ prior notice to Guidant, the Company shall not incur any Indebtedness other than Senior Indebtedness or guarantee any such Indebtedness or issue or sell any debt securities of the Company other than Senior Indebtedness or guarantee any debt securities of others.

(d) Notice of Claims and Litigation. The Company will give prompt notice to Guidant of any claim or action at law or in equity, or before any governmental, administrative or regulatory body or arbitration panel instituted against the Company, or disputes that have a high probability of resulting in a suit of significance against the Company involving a claim against the Company, for damages in excess of Five Hundred Thousand Dollars ($500,000) or which, if concluded adversely to the Company, could be reasonably expected to have a Material Adverse Effect.

(e) Notice of Default. The Company shall promptly give written notice to Guidant of any known default or breach by the Company of any of its obligations or commitments set forth in this Agreement, or otherwise of any default or other occurrence that, with lapse of time and/or giving of notice, would constitute an Event of Default.

ARTICLE VI

SUBORDINATION AND SECURITY INTEREST OF GUIDANT

6.1 Subordination . The Indebtedness evidenced by the Notes is hereby expressly subordinated to the extent and in the manner hereinafter set forth, in right of payment to the prior payment in full of the Senior Indebtedness.

6.2 Default on Senior Indebtedness . If there should occur any receivership, insolvency, assignment for the benefit of creditors, bankruptcy, reorganization or arrangements with creditors (whether or not pursuant to bankruptcy or other insolvency laws), sale of all or substantially all of the assets, dissolution, liquidation or any other marshalling of the assets and liabilities of the Company, then no amount shall be paid by the Company in respect of the principal of or interest on the Notes at the time outstanding, unless and until the principal of and interest on the Senior Indebtedness then outstanding shall be paid in full. If there occurs an event of default that has been declared with respect to any Senior Indebtedness, or in the instrument under which any Senior Indebtedness is outstanding, permitting the holder of such Senior Indebtedness to accelerate the maturity thereof, no payment shall be made in respect of the

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principal of or interest on the Notes, unless (i) such event of default shall have been cured by the Company or waived by holders of the Senior Indebtedness or shall have ceased to exist, or (ii) payment of all Senior Indebtedness shall have been accelerated and all Senior Indebtedness shall have been paid in full, or (iii) within six (6) months after the happening of such event of default (a “ Payment Blockage Period ”), the maturity of such Senior Indebtedness shall not have been accelerated. Notwithstanding anything contained herein to the contrary, payments by the Company of principal and interest on the Notes to the Registered Holder shall be halted under this Section 6.2(iii) for only one (1) Payment Blockage Period during any twelve (12) month consecutive period.

6.3 Effect of Subordination . Subject to the rights, if any, of the holders of Senior Indebtedness under this Article VI to receive cash, securities or other properties otherwise payable or deliverable to the Registered Holder, nothing contained in this Article VI shall impair, as between the Company and the Registered Holder, the obligation of the Company, subject to the terms and conditions hereof, to pay to the Registered Holder the principal hereof and interest hereon as and when the same become due and payable, or shall prevent the Registered Holder, upon default hereunder, from exercising all rights, powers and remedies otherwise provided herein or by applicable law, except as limited under Section 6.2 above.

6.4 Undertaking . By its acceptance of a Note, the Registered Holder agrees to execute and deliver such documents as may be reasonably requested from time to time by the Company or the lender of any Senior Indebtedness to implement the foregoing provisions of this Article VI.

6.5 Subordination of Future Debt . During the term of this Agreement and until the performance of all obligations to Guidant, the Company shall not incur or permit to exist any Indebtedness, excluding Senior Indebtedness, unless (a) approved by Guidant in its sole discretion in writing, or (b) the holder’s right to repayment of such Indebtedness, the priority of any Lien securing the same, and the rights of the holder thereof to enforce remedies against the Company following default have been made subordinate to the Liens of Guidant and the prior payment of the obligations to Guidant under this Agreement pursuant to a written subordination agreement satisfactory to Guidant, which agreement may provide that regularly scheduled payments of accrued interest on such subordinated Indebtedness may be paid by the Company and retained by the holder so long as no Event of Default has occurred.

6.6 Security Interest . Subject to Permitted Liens, to secure the prompt payment of each Loan, the Company hereby grants a first priority security interest to Guidant in all personal property and assets of the Company, including without limitation, all of the Company’s right, title and interest in and to all equipment, general intangibles, intellectual property, inventory, investment property, receivables, fixtures, deposit accounts and other goods and personal property, whether tangible or intangible, whether now owned or hereafter acquired and wherever located, all proceeds of each of the foregoing and all accessions to, substitutions and replacements for, and rents, profits and products of each of the foregoing (“ Collateral ”).

6.7 Financing Statements . With respect to Collateral, the Company covenants to execute and deliver to Guidant all financing statements, notices and other documents from time to time reasonably requested by Guidant, including the Intellectual Property Security Agreement

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19.

in the form attached hereto as Exhibit E (the “ IP Security Agreement ”), to maintain a perfected security interest in the Collateral in favor of Guidant; perform such other acts as directed by Guidant, and execute and deliver to Guidant such additional conveyances, assignments, agreements and instruments, as Guidant may at any time reasonably request in connection with the administration and enforcement of this Agreement or Guidant’s rights, powers and remedies hereunder.

6.8 Release . At such time as the Company shall completely satisfy all of the Obligations secured hereunder (other than contingent indemnification obligations not yet due), Guidant shall execute and deliver to the Company all lien releases and other instruments as may be reasonably necessary or proper to terminate Guidant’s security interest in the Collateral, subject to any disposition of the Collateral which may have been made by Guidant pursuant to this Agreement. For the purpose of this Agreement, the Obligations shall be deemed to continue if the Borrower enters into any bankruptcy or similar proceeding at a time when any amount paid to Guidant could be ordered to be repaid as a preference or pursuant to a similar theory, and shall continue until it is finally determined that no such repayment can be ordered (provided that nothing herein shall limit the obligation of Guidant under the immediately preceding sentence to execute lien releases and other instruments during any preference period unless a bankruptcy or similar proceeding has been entered into at the time such execution would otherwise be required).

6.9 Remedies . Upon the occurrence and during the continuation of an Event of Default, Guidant shall have the right to exercise all the remedies of a secured party under the California Uniform Commercial Code, including, without limitation, the right to require the Company to assemble the Collateral and any tangible property in which Secured Party has a security interest under this Agreement and to make it available to Guidant at a place designated by Guidant. Guidant shall have a nonexclusive, royalty free license to use the Collateral to the extent reasonably necessary to permit Guidant to exercise its rights and remedies upon the occurrence and during the continuation of an Event of Default. The Company will pay any reasonable expenses (including reasonable attorneys’ fees) incurred by Guidant in connection with the exercise of any of Guidant’s rights hereunder, including, without limitation, any reasonable expense incurred in disposing of the Collateral.

ARTICLE VII

MISCELLANEOUS

7.1 Governing Law . This Agreement and the Notes issued hereunder shall be governed in all respects by the laws of the State of California as such laws are applied to agreements between California residents entered into and performed entirely in California.

7.2 Survival . The representations, warranties, covenants and agreements of the parties hereunder shall survive the enforcement, amendment or waiver of this Agreement or the Notes.

7.3 Successors and Assigns . Except as otherwise expressly provided herein, the provisions hereof shall inure to the benefit of, and be binding upon, the successors, assigns, heirs,

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20.

executors and administrators of the parties hereto and shall inure to the benefit of and be enforceable by each person who shall be a holder of the Shares from time to time.

7.4 Entire Agreement . This Agreement, together with the Notes, constitutes the entire and final agreement between the parties hereto with respect to the subject matter hereof and supersedes any and all prior oral or written agreements or discussions on the subject matter hereof.

7.5 Severability . In case any provision of the Agreement shall be invalid, illegal or unenforceable, the validity, legality and enforceability of the remaining provisions shall not in any way be affected or impaired thereby.

7.6 Amendment and Modification . Neither this Agreement nor any of the other documents or instruments delivered herewith or executed pursuant hereto may be modified or amended in any respect except in a writing signed by both parties expressly setting forth such modification or amendment.

7.7 Delays or Omissions . It is agreed that no delay or omission to exercise any right, power or remedy accruing to any party, upon any breach, default or noncompliance by another party under this Agreement or the Notes shall impair any such right, power or remedy, nor shall it be construed to be a waiver of any such breach, default or noncompliance, or any acquiescence therein, or of or in any similar breach, default or noncompliance thereafter occurring. It is further agreed that any waiver, permit, consent or approval of any kind or character either party’s part of any breach, default or noncompliance under this Agreement, or Guidant’s under any Note, must be in writing and shall be effective only to the extent specifically set forth in such writing. All remedies, either under this Agreement and/or the Notes, as applicable, by law, or otherwise afforded to any party, shall be cumulative and not alternative.

7.8 Notices . All notices required or permitted hereunder shall be in writing and shall be deemed effectively given: (a) upon personal delivery to the party to be notified, (b) when sent by confirmed telex or facsimile if sent during normal business hours of the recipient, if not, then on the next business day, (c) five (5) days after having been sent by registered or certified mail, return receipt requested, postage prepaid, or (d) one (1) day after deposit with a nationally recognized overnight courier, specifying next day delivery, with written verification of receipt. Such certificates, documents or notice may be personally delivered to an authorized representative of the Company or Guidant (as the case may be) at any address where such authorized representative is present, such other address as such party may designate by twenty (20) days advance written notice to the other party, and otherwise shall be sent to the following address:


		If to the Company:		Cardica, Inc.
				171 Jefferson Drive
				Menlo Park, CA 94025
				Attention: Bernard Hausen
				Telecopy No.: (650) 326-5655

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21.


		With a copy to:		Nancy H. Wojtas, Esq.
				Cooley Godward LLP
				Five Palo Alto Square
				3000 El Camino Real
				Palo Alto, CA 94306
				Telecopy No.: (650) 849-7400

		If to Guidant:		Guidant Corporation
				3200 Lakeside Drive
				Santa Clara, CA 95054
				Attention: Greg Garfield
				Telecopy No.: (408) 845-1897

		With a copy to:		Amy C. Seidel, Esq.
				Faegre & Benson LLP
				2300 Wells Fargo Center
				90 South Seventh Street
				Minneapolis, MN 55402
				Telecopy No.: (612) 766-1600

7.9 Attorneys’ Fees . In the event that any suit or action is instituted to enforce any provision in this Agreement, the prevailing party in such dispute shall be entitled to recover from the losing party all fees, costs and expenses of enforcing any right of such prevailing party under or with respect to this Agreement, including without limitation, such reasonable fees and expenses of attorneys and accountants, which shall include, without limitation, all fees, costs and expenses of appeals.

7.10 Titles and Subtitles . The titles of the sections and subsections of the Agreement are for convenience of reference only and are not to be considered in construing this Agreement.

7.11 Counterparts . This Agreement may be executed in any number of counterparts, each of which shall be an original, but all of which shall constitute one instrument.

7.12 Confidentiality . The Nondisclosure Agreement between the Company (f/k/a Vascular Innovations, Inc.) and Guidant dated April 4, 2000, shall remain in full force and effect.

7.13 Pronouns . All pronouns contained herein, and any variations thereof, shall be deemed to refer to the masculine, feminine or neutral, singular or plural, as to the identity of the parties hereto may require.

7.14 Term; Termination . This Agreement shall terminate in the following circumstances: (a) by the Company if Guidant fails to make a Loan on a Disbursement Date as requested by the Company in any Borrowing Notice and does not cure such failure within five (5) days’ written notice from the Company; or (b) upon the expiration of the Exclusive Period provided that the full and final payment of all amounts owed by the Company to Guidant under the Notes shall have been made. Notwithstanding the foregoing, upon the expiration of the Exclusivity Period, Sections 5.1 and 5.2 shall have no further force or effect. Upon the payment

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22.

in full of all amounts due under this Agreement, Guidant shall promptly execute and deliver to the Company all such documents and instruments that shall be necessary to evidence termination of this Agreement and the security interest created hereunder, including any UCC3 financing statement amendments terminating any UCC1 financing statements filed by Guidant.

[Remainder of Page Intentionally Left Blank]

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23.

In Witness Whereof , the Company and Guidant by their duly authorized officers have each caused this Agreement to be executed as of the date first written above.


		GUIDANT:

		GUIDANT INVESTMENT CORPORATION

		/s/		Ronald W. Dollens


		By:		Ronald W. Dollens

		Title: President

		COMPANY:

		CARDICA, INC.


/s/	Bernard Hausen

By:		Bernard Hausen

Title:		President & CEO

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Signature Page to Agreement

EXHIBIT A

FORM OF NOTE

CARDICA, INC.

8.75% Note


No. N-1		Menlo Park, CA
$		___, 200_

Cardica, Inc., a corporation duly organized and existing under the laws of the State of Delaware (the “ Company ”), for value received, hereby promises to pay to Guidant Investment Corporation, a California corporation (“ Guidant ”), the principal sum of [ ($___)] on the Maturity Date (as defined in the Agreement referred to below), and to pay interest (computed on the basis of the actual number of days elapsed and a year of 365 days) on the unpaid principal balance thereof from the date of this Note at the rate of eight and three quarters percent (8.75%) per annum from the date hereof, payable in arrears on the Maturity Date.

The interest and principal payments payable with respect to this Note, on the Maturity Date, regardless of whether by declaration, acceleration or otherwise, pursuant to the Agreement (as defined herein), shall be paid to Guidant in such coin or currency of the United States of America as at the time of payment is legal tender for payment of public and private debts. Such interest and principal payments shall be made to Guidant in accordance with the provisions of the Note Agreement.

This Note is one of the Notes of the Company issued in an aggregate principal amount of up to Ten Million Two Hundred Fifty Thousand Dollars ($10,250,000) pursuant to the Agreement, dated [ ___, 2003] , by and between the Company and Guidant (the “ Agreement ”). Guidant is entitled to the benefits of the Agreement, and may enforce the Agreement and exercise the remedies provided for thereby or otherwise available in respect thereof.

This Note may not be transferred or assigned by Guidant to any Person other than to its Affiliates.

In the case of an Event of Default (as defined in the Agreement), the principal of this Note in certain circumstances may be declared or otherwise become due and payable in the manner and with the effect provided in the Agreement, without presentment, demand, protest or any other notice of any kind, all of which are hereby expressly waived.

The Indebtedness evidenced by this Note is, to the extent provided in the Agreement, subordinate and subject in right of payment to the Senior Indebtedness (as defined in the Agreement), and this Note is issued subject to the provisions of the Agreement with respect thereto.

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No reference herein to the Agreement and no provision of this Note or of the Agreement shall alter or impair the obligation of the Company, which is absolute and unconditional, to pay the principal of (and premium, if any) and interest on this Note at the times, place and rate, and in the coin or currency, herein prescribed.

All terms used in this Note that are defined in the Agreement shall have the meanings assigned to them in the Agreement.

This Note has been delivered to Guidant in Santa Clara, California, and the Note and the Credit Agreement are governed by and shall be construed and enforced in accordance with and the rights of the parties shall be governed by the law of the State of California excluding choice-of-law principles.

In Witness Whereof , the Company has caused this Note to be duly executed as of the ___day of ___, 200_.

COMPANY:

CARDICA, INC.

By:

Print Name:

Print Title:

Attest :

By:

Print Name:

Print Title:

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EXHIBIT B
FORM OF BORROWING NOTICE

Date:


To:		Guidant Investment Corporation
		3200 Lakeside Drive
		Santa Clara, CA 95054
		Attention: Greg Garfield

Re :		The Agreement dated as of ___, 2003 (as the same may from time to time be further amended, modified, supplemented or restated, the (“ *Agreement* ”), by and among Cardica, Inc. , a Delaware corporation (the “ *Company* ”) and Guidant Investment Corporation, a California corporation (“ *Guidant* ”)

Ladies and Gentlemen:

The undersigned refers to the Agreement, capitalized terms used herein but not defined herein being used herein as therein defined, and hereby gives Guidant irrevocable notice, pursuant to Section 1.8 of the Credit Agreement, of the request for a Loan (“ Advance ”) as specified herein:

1. The Disbursement Date of the requested Advance (which is a Business Day) is , 200___.

2. The aggregate amount of the requested Advance is $ .

The undersigned hereby certifies that the following statements are true on the date hereof, and will be true on the Disbursement Date of the requested Advance, before and after giving effect thereto and to the application of the proceeds therefrom:

1. No Event of Default has occurred and is continuing, or would result from such requested Advance;

2. The requested Advance will not cause the aggregate principal amount of all Loans issued under the Agreement to exceed, as of the designated Disbursement Date, Ten Million Two Hundred Fifty Thousand Dollars ($10,250,000);

3. If the requested Advance will constitute the second disbursement under the Agreement, the Company has complied with Section 5.7 of the Agreement; and

4. The account to which the requested Advance should be remitted is the account set forth in Section 1.5 of the Agreement.


		Cardica, Inc. , a Delaware corporation

		By:

		Print Name:

		Print Title:

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EXHIBIT C

SCHEDULE OF EXCEPTIONS

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EXHIBIT D

PAS-PORT DATA

Cardica will provide Guidant with additional clinical data on the patency of 78 additional grafts using the PAS-Port™ device. The following data will be provided:

	1)		intraoperative performance data;

	2)		graft patency assessment by angiography (the PAS-port trial indicates this to be the primary method of obtaining primary endpoint data.) In the event that the patient is unable to tolerate or refuses angiography, Cardiac CT or cardiac MRI will be obtained at 6 months postoperatively (180+/-30 days of day of surgery) (provided that the core lab is able to assess graft patency on all methods of diagnostic imaging);

	3)		core lab reports for each patient and a core lab summary report on all additional PAS-Port patient data; and

	4)		a six-month clinical report that summarizes the new clinical findings and statistical endpoints of the additional data obtained.

Cardica intends to deploy additional PAS-Port™ Proximal Anastomosis implants in patients enrolled in the C-Port™ clinical trial using the C-Port study’s inclusion/exclusion criteria, which is more broad than the original PAS-Port trial. The primary endpoint of the C-Port study is to evaluate the graft patency of the distal anastomosis device. The primary differences between the two trials are that C-Port will include older patients and may also include patients requiring procedures with valve replacements plus CABG. The Company therefore anticipates higher morbidity and mortality rates in this study compared to the original PAS-Port™ clinical trial. Cardica intends to use the PAS-Port™ device in this trial only on graft vessels that do not have a C-Port™ device on the distal anastomosis. If the patient demographics of the C-Port trial are deemed to be significantly different from that of the PAS-Port trial, then Cardica will perform a retrospective logistic regression analysis to determine if these demographic variables have a significant effect on the results of the primary or secondary study endpoints.

The PAS-Port™ data provided from these additional 78 grafts will be used with the original PAS-Port clinical trial data from 47 grafts to determine an overall patency rate using a sample size of 125 grafts as well as on a stand alone basis for the new study sample size of 78 PAS-Port™ grafts.

If the PAS-Port™ 510(k) is not cleared by the FDA and there is an unforeseen delay in completing these 78 PAS-Port additional grafts during the C-Port™ clinical trial or if in 200 patients enrolled in the C-Port™ study Cardica cannot accumulate 6 month PAS-Port™ patency data from 78 grafts in the C-Port clinical trial, then Cardica will supplement this data base with pool-able data to the original 47 grafts in a new clinical trial in which the statistical hypotheses and endpoints are clearly defined, such as to ensure that the trial will prove or disprove a statistically comparative endpoint to a historical control. Prior to commencing this study Cardica will conduct a pre-IDE meeting with FDA to ensure that the statistical hypotheses and endpoints of this new trial will be appropriate and meet FDA’s guidelines for 510(k) clearance of the PAS-port device.

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If the PAS-Port™ 510(k) is cleared by the FDA and there is an unforeseen delay in completing these 78 PAS-Port additional grafts during the C-Port™ clinical trial or if in 200 patients enrolled in the C-Port™ study Cardica cannot accumulate 6 month PAS-Port™ patency data from 78 grafts in the C-Port clinical trial, then Cardica will supplement this data base with pool-able data to the original 47 grafts with 6 month patency data obtained from patients enrolled in the PAS-Port™ registry. This 78-patient registry data will have pool-able data to the original 47 patient PAS-Port registry such that statistically significant endpoints can be assessed.

In all cases, if Cardica does not obtain FDA 510(k) clearance for the PAS-port device, Guidant Corporation may, at Cardica’s request, provide assistance to Cardica to further develop Cardica’s regulatory and clinical strategy. This assistance may take place in the form of pre-IDE meetings, protocol development, trial management, and the preparation of regulatory filings.

[End of PAS-Port Data]

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Exhibit E

IP Security Agreement

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Exhibit 10.10

INTELLECTUAL PROPERTY SECURITY AGREEMENT

This Intellectual Property Security Agreement (this “ Agreement ”) is entered into as of this 19 ^th day of August, 2003 by Cardica, Inc. , a Delaware corporation (the “ Borrower ”), in favor of Guidant Investment Corporation , a California corporation (“ Guidant ”).

In order to induce Guidant to extend the Loan (as defined in the Agreement by and between the Borrower and Guidant dated as of the date hereof (the “ Omnibus Agreement ”)), the Borrower has agreed to grant a security interest in the Borrower’s intellectual property, including the Collateral described herein, to Guidant for purposes of securing certain obligations of the Borrower to Guidant.

In connection with the execution of the Omnibus Agreement, Guidant has required the execution and delivery of this Agreement by the Borrower and the parties hereby agree as follows:

NOW, THEREFORE, THE PARTIES HERETO AGREE AS FOLLOWS :

1. Grant of Security Interest . As collateral security for the prompt and complete payment and performance of the Obligations (as defined in the Omnibus Agreement), the Borrower hereby irrevocably pledges, assigns, grants, transfers, and conveys a security interest to Guidant, with power of sale to the extent permitted by law, in and to the Borrower’s entire right, title and interest in, to and under the following intellectual property (all of which shall collectively be called the “ Collateral ”):

(a) All present and future United States registered copyrights and copyright registrations, including, without limitation, the registered copyrights, maskworks, software, computer programs and other works of authorship subject to United States copyright protection listed in Exhibit A to this Agreement (and including all of the exclusive rights afforded a copyright registrant in the United States under 17 U.S.C. §106 and any exclusive rights which may in the future arise by act of Congress or otherwise) and all present and future applications for copyright registrations (including applications for copyright registrations of derivative works and compilations) (collectively, the “ Registered Copyrights ”), whether now owned or hereafter acquired, and any and all royalties, payments, and other amounts payable to the Borrower in connection with the Registered Copyrights, together with all renewals and extensions of the Registered Copyrights, the right to recover for all past, present, and future infringements of the Registered Copyrights, and all computer programs, computer databases, computer program flow diagrams, source codes, object codes and all tangible property embodying or incorporating the Registered Copyrights, and all other rights of every kind whatsoever accruing thereunder or pertaining thereto.

(b) All present and future copyrights, maskworks, software, computer programs and other works of authorship subject to (or capable of becoming subject to) United

States copyright protection which are not registered in the United States Copyright Office (the “ Unregistered Copyrights ”), whether now owned or hereafter acquired, and any and all royalties, payments, and other amounts payable to the Borrower in connection with the Unregistered Copyrights, together with all renewals and extensions of the Unregistered Copyrights, the right to recover for all past, present, and future infringements of the Unregistered Copyrights, and all computer programs, computer databases, computer program flow diagrams, source codes, object codes and all tangible property embodying or incorporating the Unregistered Copyrights, and all other rights of every kind whatsoever accruing thereunder or pertaining thereto. The Registered Copyrights and the Unregistered Copyrights collectively are referred to herein as the “ Copyrights .”

(c) All present and future license agreements with respect to intellectual property to which the Borrower is a licensee or sublicensee (the “ Licenses ”), including without limitation the license agreements listed in Exhibit B to this Agreement.

(d) All present and future accounts, accounts receivable and other rights to payment arising from, in connection with or relating to the Collateral.

(e) Any and all factual knowledge and information that gives to one the ability to produce or market something that one otherwise would not have known how to produce or market with the same accuracy or precision, including without limitation all formulae, algorithms, processes, procedures, writings, data, protocols, techniques, proposals, designs, ideas, concepts, strategic, research and development information and related documentation, business and other plans, research, inventions and invention disclosure (whether patentable or unpatentable or whether reduced to practice), and all records of the foregoing, test, engineering and technical data, proprietary information and methodologies, communications and associated peripheral devices and resources; computer software, programs and code, both object and source, in whatever form and media, databases, specifications and other information processing tangible and intangible items, whether now owned or hereafter acquired by the Borrower (the “ Know-How ”).

(f) Any and all information that generally facilitates the production, manufacturing, marketing, or sale of products or services, increases revenues, or provides an advantage over the competition, is not generally known, whether now owned or hereafter acquired by the Borrower (the “ Trade Secrets ”).

(g) Any and all design rights which may be available to the Borrower now or hereafter existing, created, acquired or held.

(h) All classes or types of patents, design patents, utility patents whether now owned or hereafter acquired by the Borrower, including, without limitation, originals, divisions, continuations, continuations-in-part, extensions, reexaminations, or reissues, published and non-published patent applications and invention disclosures for these classes or types of patent rights (whether or not patentable and whether or not reduced to practice) in any country of the world, including without limitation those listed on Exhibits C-1 to C-3 attached hereto (collectively, the “ Patents ”).

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(i) Any trademark and servicemark rights whether now owned or hereafter acquired by the Borrower, whether registered or not, applications to register and registrations of the same and like protections, and the entire goodwill of the business of the Borrower connected with and symbolized by such trademarks, including without limitation those set forth on Exhibit D attached hereto (collectively, the “ Trademarks ”); provided , however , that Guidant shall not acquire any interest in any intent to use a federal trademark application for a trademark, servicemark, or other mark filed on the Borrower’s behalf prior to the filing under applicable law of a verified statement of use (or equivalent) for such mark that is the subject of such application.

(j) Any and all claims for damages by way of past, present and future infringements of any of the rights in the Collateral, with the right, but not the obligation, to sue for and collect such damages for said use or infringement of the intellectual property rights identified above.

(k) All licenses or other rights to use any of the Collateral, and all license fees and royalties arising from such use to the extent permitted by such license or rights.

(l) All amendments, extensions, renewals and extensions of any of the Collateral.

(m) All proceeds and products of the foregoing, including without limitation all payments under insurance or any indemnity or warranty payable in respect of any of the Collateral.

2. Authorization and Request . The Borrower authorizes and requests that the Register of Copyrights and the Commissioner of Patents and Trademarks record this Agreement.

3. Covenants and Warranties . Except as otherwise specifically set forth in the Disclosure Schedule attached hereto as Exhibit E (the “ Disclosure Schedule ”), the Borrower represents, warrants, covenants and agrees as follows:

(a) Schedules . Listed on Exhibit A are all Registered Copyrights and all material Unregistered Copyrights. Listed on Exhibit B are all material Licenses related to intellectual property to which the Borrower is a licensee or sublicensee. Listed on Exhibit C-1 to C-3 are all Patents. Listed on Exhibit D are all material Trademarks.

(b) Title . Except for Permitted Liens, the Borrower owns all legally enforceable right, title and interest to all Collateral free and clear of all liens, claims, encumbrances and other restrictions without an obligation to pay any royalties, license fees or other amounts to any other person or entity. The Borrower has not received, and the Borrower does not have any knowledge of, any notice, claim or allegation from any person or entity questioning the right of the Borrower to use, possess, transfer, convey or otherwise dispose of any Collateral or questioning the right of the Borrower to use any Collateral.

(c) Employees . To the knowledge of the Borrower, each employee, agent, consultant and contractor, who has contributed to or participated in the conception, creation or development of the Collateral (other than licensed Collateral) on behalf of the Borrower has

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

executed valid written assignment in favor of the Borrower as assignee, that has caused the conveyance to such the Borrower all right, title and interest in and to all Collateral arising from such individual’s work throughout the world. The Borrower shall undertake all reasonable measures to cause its employees, agents and independent contractors to assign to the Borrower all rights in Collateral in which the Borrower may subsequently acquire any right or interest.

(d) Third-Party Infringement . To the knowledge of the Borrower, there is no unauthorized use, disclosure, infringement, dilution, misappropriation, or other violation by any third party (including any employee or former employee of the Borrower) of any Collateral of the Borrower or of any right of any third party in Collateral licensed by or through the Borrower the result of which would reasonably be expected to cause a Material Adverse Effect.

(e) Freedom to Operate . To the knowledge of the Borrower, the Borrower’s use of the Collateral in its business as presently conducted, has not and will not violate, interfere with or infringe upon the rights of any other individual or entity nor does such use by the Borrower constitute a breach of any agreement, obligation, promise or commitment by which the Borrower may be bound or constitute a violation of any laws, regulations, ordinances, codes or statutes in any jurisdiction.

(f) Know-How and Trade Secrets . The Borrower has taken all actions that a reasonably prudent person in the Borrower business would take to maintain Know-How and Trade Secrets as confidential and proprietary, to protect against the loss, theft or unauthorized use of such Know-How and Trade Secrets. To the knowledge of the Borrower, the Know-How and Trade Secrets are not in the public domain and have not been divulged or appropriated to the detriment of the Borrower. The Borrower’s records include sufficient documentation of the Know-How and Trade Secrets, such as manufacturing and engineering plans, blueprints, designs, process instructions, formulae, quality assurance protocols and procedures and the like, to enable persons who are reasonably skilled and proficient in the relevant subject matter to continue the same in the ordinary course of business without unreasonable delay, expense, or reliance on the memory of any individual.

(g) Licenses . The Borrower has not (A) granted any licenses or other rights, and the Borrower has no obligation to grant any licenses or other rights, with respect to any Collateral or (B) entered into any covenant not to compete or contract limiting or purporting to limit the ability of the Borrower to exploit fully any Collateral or to transact business in any market or geographical area or with any person. With respect to third party licenses, (A) the Borrower is not in breach or default with respect thereto, and no event has occurred which with notice or lapse of time would reasonably be expected to cause a Material Adverse Effect and (B) the Borrower has not repudiated any provision thereof. The Borrower has no agreement to indemnify any individual or entity against any charge of infringement of any Collateral, other than indemnification provisions normal and usual for the Borrower’s industry contained in purchase orders or license agreements arising in the ordinary course-of business.

(h) Validity . There is no interference, opposition, cancellation, reexamination or other contest, proceeding, action, suit, hearing, investigation, charge, complaint, demand, notice, claim, dispute nor any claim of infringement, dilution, misappropriation or other violation by the Borrower of any Collateral or other proprietary rights of any other individual or entity

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

pending or, to the knowledge of the Borrower, threatened or pending against the Borrower. To the knowledge of the Borrower, all statements and representations made by the Borrower in any pending Collateral applications, filings or registrations were true in all material respects as of the time they were made. No Registered Copyright, Trademark, or Patent used in the business (other than in circumstances where the Borrower has intentionally allowed Registered Copyright, Trademark, or Patent not material to the business to lapse, expire, become abandoned or be canceled) has lapsed, is being allowed to lapse, expired or been abandoned, invalidated, or canceled, in whole or in part, or is subject to any injunction, judgment, order, decree, ruling or charge or is subject to any pending or, to the knowledge of the Borrower, threatened oppositions, cancellations, interferences or other proceedings before the United State Patent and Trademark Office, the Trademark Trials and Appeals Board, the United States Copyright Office or in any other registration authority in any country.

(i) No Conflict . Performance of this Agreement does not conflict with or result in a breach of any material agreement to which the Borrower is bound, except to the extent that certain intellectual property agreements prohibit the assignment of the rights thereunder to a third party without the licensor’s or other party’s consent and this Agreement constitutes an assignment.

(j) Prohibition on Transfers . During the term of this Agreement, the Borrower will not transfer or otherwise encumber any interest in the Collateral, except for non-exclusive licenses granted by the Borrower in the ordinary course of business.

(k) Material Adverse Changes . The Borrower shall promptly advise Guidant of any material adverse change in the composition of the Collateral, including but not limited to any subsequent ownership right of the Borrower in or to any material Trademark, Patent or Registered Copyright not specified in this Agreement. Upon any executive officer of the Borrower obtaining actual knowledge thereof, the Borrower will promptly notify Guidant in writing of any event that materially adversely affects the value of any of the Collateral, the right of the Borrower to dispose of any material Collateral or the rights and remedies of Guidant in relation thereto, including the levy of any legal process against any of the Collateral.

(l) Duty to Protect and Defend . The Borrower shall (i) protect, defend and maintain the validity and enforceability of all Collateral that is material to the business of the Borrower, taken as a whole, unless the Borrower determines that reasonable business practices suggest that such protection, defense or maintenance is not appropriate, and not allow any such Collateral to be abandoned, forfeited or dedicated to the public without the written consent of Guidant, which shall not be unreasonably withheld, unless the Borrower determines that reasonable business practices suggest that abandonment is appropriate.

(m) After Acquired Collateral . This Agreement creates, and in the case of after acquired Collateral, this Agreement will create at the time the Borrower first has rights in such after acquired Collateral, in favor of Guidant a valid and perfected first priority security interest (subject only to Permitted Liens, if any (as defined in the Omnibus Agreement), that are specifically entitled pursuant to applicable law, or specifically acknowledged in writing by Guidant, to have priority over Guidant’s security interest) in the Collateral securing the payment and performance of the Obligations.

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

(n) Accuracy of Information . All information now or hereafter supplied to Guidant by or on behalf of the Borrower herein or pursuant hereto with respect to the Collateral is or will be, when so supplied, accurate and complete in all material respects.

(o) Other Impairments . The Borrower shall not enter into any agreement that would materially impair or conflict with the Borrower’s obligations hereunder without Guidant’s prior written consent, which consent shall not be unreasonably withheld. The Borrower shall not permit the inclusion in any material contract to which it becomes a party of any provisions that could or might in any way prevent the creation of a security interest in the Borrower’s rights and interest in any intellectual property included within the definition of the Collateral acquired under such contract, except that contracts may contain anti-assignment provisions that could in effect prohibit the creation of a security interest in such contracts.

4. Secured Party’s Rights . Guidant shall have the right, but not the obligation, to take, at the Borrower’s sole expense, any actions that the Borrower is required under this Agreement to take but which the Borrower fails to take, after fifteen (15) days written notice to the Borrower. The Borrower shall reimburse and indemnify Guidant for all reasonable costs and reasonable expenses incurred in the reasonable exercise of its rights under this section 4.

5. Further Assurances; Attorney in Fact .

(a) The Borrower will, subject to Permitted Liens, make, execute, acknowledge and deliver, and file and record in the proper filing and recording places in the United States, all such instruments, including appropriate financing and continuation statements and collateral agreements and filings with the United States Patent and Trademarks Office and the Register of Copyrights, and take all such action as may reasonably be deemed necessary or advisable, or as reasonably requested by Guidant, to perfect Guidant’s security interest in all Collateral and otherwise to carry out the intent and purposes of this Agreement, or for assuring and confirming to Guidant the grant or perfection of a security interest in all Collateral.

(b) Upon the occurrence and during the continuation of an Event of Default, the Borrower hereby appoints Guidant as the Borrower’s attorney-in-fact, with full authority in the place and stead of the Borrower and in the name of the Borrower, Guidant or otherwise, from time to time in Guidant’s reasonable business judgment, upon the Borrower’s failure or inability to do so, to take any action and to execute any instrument which Guidant may deem necessary or advisable in Guidant’s reasonable business judgment to accomplish the purposes of this Agreement, including:

(i) To modify, in Guidant’s reasonable business judgment, this Agreement without first obtaining the Borrower’s approval of or signature to such modification by amending Exhibit A, Exhibit B, Exhibits C-1 to C-3 and Exhibit D hereof, as appropriate, to include reference to any right, title or interest in any Collateral acquired by the Borrower after the execution hereof or to delete any reference to any right, title or interest in any Collateral in which the Borrower no longer has or claims any right, title or interest; and

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

(ii) To file, in Guidant’s reasonable business judgment, one or more financing or continuation statements and amendments thereto, relative to any of the Collateral without the signature of the Borrower where permitted by law.

Such appointment is coupled with an interest and is irrevocable until payment and performance in full of the Obligations.

6. Events of Default . The occurrence of an Event of Default as defined in the Omnibus Agreement shall constitute an “ Event of Default ” under this Agreement.

7. No Waiver . No course of dealing between the Borrower and Guidant, nor any failure to exercise nor any delay in exercising, on the part of Guidant, any right, power, or privilege under this Agreement or any other document, shall operate as a waiver. No single or partial exercise of any right, power, or privilege under this Agreement or any other document by Guidant shall preclude any other or further exercise of such right, power, or privilege or the exercise of any other right, power, or privilege by Guidant.

8. Rights Are Cumulative . All of Guidant’s rights and remedies with respect to the Collateral whether established by this Agreement or any other documents or agreements, or by law shall be cumulative and may be exercised concurrently or in any order.

9. Attorneys’ Fees . If any action relating to this Agreement is brought by any party hereto against any other party, the prevailing party shall be entitled to recover reasonable attorneys’ fees, costs and disbursements.

10. Amendments . Neither this Agreement nor any of the other documents or instruments delivered herewith or executed pursuant hereto may be modified or amended in any respect except in a writing signed by both parties expressly setting forth such modification or amendment.

11. Severability . In case any provision of the Agreement shall be invalid, illegal or unenforceable, the validity, legality and enforceability of the remaining provisions shall not in any way be affected or impaired thereby.

12. Governing Law; Jurisdiction . This Agreement shall be governed in all respects by the laws of the State of California as such laws are applied to agreements between California residents entered into and performed entirely in California.

13. Counterparts . This Agreement may be executed in any number of counterparts, each of which shall be an original, but all of which shall constitute one instrument.

[ Remainder of Page Intentionally Left Blank ]

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

In Witness Whereof , the parties hereto have executed this Agreement on the day and year first above written.

CARDICA, INC.

Bernard Hausen

By:

Bernard Hausen

Title:

President & CEO

STATE OF CALIFORNIA

)

COUNTY OF SAN MATEO

)

The foregoing Intellectual Property Security Agreement was acknowledged before me this 18 ^th day of august, 2003, by Bernard Hausen, the President and CEO of Cardica, Inc., a Delaware corporation, on behalf of such corporation.


		s/ John B. Sorci
		Notary Public

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

EXHIBIT A

REGISTERED AND MATERIAL UNREGISTERED COPYRIGHTS

None

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

EXHIBIT B

DESCRIPTION OF LICENSE AGREEMENTS

None

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

EXHIBIT C-1

U.S. PATENTS AND PUBLISHED APPLICATIONS

U.S. Patents Issued:


Patent No.	Issue Date	Invention	Inventor
6,179,849	1/30/01	Sutureless Closure for Connecting a Bypass Graft to a Target Vessel	Stephen A. Yencho; Michael Hendricksen; Jaime Vargas; Jamey Nielsen; Bernard A. Hausen; Scott Vance

6,206,913	3/27/01	Method and System for Attaching a Graft to a Blood Vessel	Stephen A. Yencho; Bernard A. Hausen

6,371,964	4/16/02	Trocar for Use in Deploying an Anastomosis Device and Method of Performing Anastomosis	Jaime Vargas; Brendan M. Donohoe; Scott C. Anderson; Theodore Bender; Stephen Yencho; Bernard Hausen; Michael Hendricksen

6,391,038	5/21/02	Anastomosis System and Method for Controlling a Tissue Site	Jaime Vargas; Michael Hendricksen; Stephen A. Yencho; Jamey Nielsen; Bernard A. Hausen; Brendan Donohoe

6,398,797	6/4/02	Tissue Bonding System and Method for Controlling a Tissue Site During Anastomosis	David Bombard; Theodore Bender; Tenny Chang; Jaime Vargas; Michael Hendricksen; Stephen A. Yencho; Jamey Nielsen; Bernard A, Hausen; Brendan Donohoe

6,402,764	6/11/02	Everter and Threadthrough System for Attaching Graft Vessel to Anastomosis Device	Michael Hendricksen; Theodore Bender; Brendan M. Donohoe; Jaime Vargas; Andrew Frazier, Stephen Yencho; Bernard Hausen

6,419,681	7/16/02	Implantable Medical Device Such as an Anastomosis Device	Jaime Vargas; James T. Nielsen; Michael Hendricksen; Brendan M. Donohoe; Stephen Yencho; Bernard Hausen

6,428,550	8/6/02	Sutureless Closure and Deployment System for Connecting Blood Vessels	Jaime Vargas; Stephen A. Yencho; Jamey Nielsen; Michael Hendricksen; Bernard A. Hausen

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.


Patent No.	Issue Date	Invention	Inventor
6,461,320	10/8/02	Method and System for Attaching a Graft to a Blood Vessel	Stephen A. Yencho; Bernard A. Hausen

6,471,713	10/29/02	System for Deploying an Anastomosis Device and Method of Performing Anastomosis	Jaime Vargas; Stephen A. Yencho; Jamey Nielsen; Michael Hendricksen; Bernard A. Hausen; Russell C. Mead, Jr.; Heather Klaubert; Brendan M. Donohoe; Theodore Bender

6,478,8042	11/12/02	Anastomosis System and Method for Controlling a Tissue Site	Jaime Vargas; Michael Hendricksen; Stephen A. Yencho; Jamey Nielsen; Bernard A. Hausen; Brendan Donohoe

6,497,710	12/24/02	Method and System for Attaching a Graft to a Blood Vessel	Stephen A. Yencho; Bernard A. Hausen

6,537,287	3/25/03	Sutureless Closure for Connecting a Bypass Graft to a Target Vessel	Stephen A. Yencho; Michael Hendricksen; Jaime Vargas; Jamey Nielsen; Bernard A. Hausen; Scott Vance

6,537,288	3/25/03	Implantable Medical Device such as an Anastomosis Device	Jaime Vargas; James T. Nielsen; Michael Hendricksen; Brendan M. Donohoe; Stephen Yencho; Bernard Hausen

6,554,764	4/29/03	Graft Vessel Preparation Device and Methods for Using the Same	Jaime Vargas; Ted Bender; David Bombard; Jeremy Frank

U.S. Published Applications Pending:


App./Publication	Date Filed/
No.	Published	Invention	Inventor
09/886,074 2001/0037139	6/18/01 11/1/01	Method and System for Attaching a Graft to a Blood Vessel	Stephen A. Yencho; Bernard A. Hausen

09/924,556 2002/0026137	8/9/01 2/28/02	Method and System for Attaching a Graft to a Blood Vessel	Stephen A. Yencho; Bernard A. Hausen

09/967,684 2003/0065343	9/28/01 4/3/03	Access Port System for Anastomosis	Stephen A. Yencho; Bernard A. Hausen; Jaime S. Vargas

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.


App./Publication	Date Filed/
No.	Published	Invention	Inventor
09/989,055 2002/0077637	11/21/01 6/20/02	Trocar for Use in Deploying an Asastomosis [sic] Device and Method of Performing Anastomosis	Jaime Vargas; Brendan M. Donohoe; Scott C. Anderson; Theodore Bender; Stephen Yencho; Bernard Hausen; Michael Hendricksen

10/001,962 2002/0082626	12/5/01 6/27/02	Integrated Anastomosis Tool with Graft Vessel Attachment Device and Cutting Device	Brendan M. Donohoe; Jaime Vargas; Stephen A. Yencho; James T. Nielsen; Theodore M. Bender; Michael Hendricksen; Scott C. Anderson

10/253,347 2003/0028205	9/24/02 2/6/03	Anastomosis Method	Jaime Vargas; Michael Hendricksen; Stephen A. Yencho; Jamey Nielsen; Bernard A. Hausen; Brendan Donohoe

10/253,376 2003/0023253	9/24/02 1/30/03	Anastomosis System	Jaime Vargas; Michael Hendricksen; Stephen A. Yencho; Jamey Nielsen; Bernard A. Hausen; Brendan Donohoe

10/273,910 2003/0109893	10/18/02 6/12/03	Implantable Medical Device Such as an Anastomosis Device	Jaime Vargas; James T. Nielsen; Michael Hendricksen; Brendan M. Donohoe; Stephen Yencho; Bernard Hausen

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

Exhibit C-2

U.S. PATENT APPLICATIONS

U.S. Patent Applications Pending:


09/542,976		4/4/00
09/664,588		9/18/00
09/664,589		9/18/00
09/687,216		10/12/00
09/764,218		1/16/01
[*]		9/4/01
09/993,438		11/13/01
10/041,542		1/7/02
[*]		1/22/02
10/055,179		1/23/02
[*]		1/23/02
10/083,235		2/26/02
[*]		4/24/02
[*]		4/30/02
[*]		4/30/02
[*]		5/20/02
10/159,838		5/31/02
[*]		6/14/02
10/197,352		7/16/02
[*]		8/16/02
[*]		9/4/02
[*]		12/4/02
[*]		12/30/02
10/367,175		2/14/03
[*]		3/19/03
[*]		4/11/03
[*]		4/21/03
[*]		4/21/03
[*]		4/30/03
[*]		5/16/03
[*]		6/13/03
[*]		6/26/03
[*]		6/26/03
60/399,880		7/31/02
60/483,078		6/26/03
60/483,079		6/26/03

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

Exhibit C-3

FOREIGN PATENT AND PUBLISHED APPLICATIONS

Published and/or Pending Foreign Patent Applications:


	App./
	Publication	Date
Country	No.	Filed	Invention	inventor
PCT	WO 00/09040	8/11/99	Method and System for Attaching a Graft to a Blood Vessel	Stephen A. Yencho; Bernard A. Hausen

PCT	WO 00/69343	5/18/00	Sutureless Closure and Deployment System for Connecting Blood Vessels	Jaime Vargas; Stephen A. Yencho; Jamey Nielsen; Michael Hendricksen; Bernard A. Hausen

PCT	WO 00/69346	5/18/00	Trocar for Use in Deploying an Anastomosis Device and Method of Performing Anastomosis	Jaime Vargas; Brendan M. Donohoe; Scott C. Anderson; Theodore Bender; Stephen Yencho; Bernard Hausen; Michael Hendricksen

PCT	WO 00/69349	5/18/00	Tissue Punch	Jaime Vargas; Brendan M. Donohoe; Scott C. Anderson; Theodore Bender; Stephen Yencho; Bernard Hausen; Michael Hendricksen

PCT	WO 00/69364	5/18/00	Implantable Medical Device Such as an Anastomosis Device	Jaime Vargas; James T. Nielsen; Michael Hendricksen; Brendan M. Donohoe; Stephen Yencho; Bernard Hausen

PCT	WO 00/76405	5/19/00	Sutureless Closure for Connecting a Bypass Graft to a Target Vessel	Stephen Yencho; Michael Hendricksen; Jaime Vargas; Jamey Nielsen; Bernard Hausen; Scott Vance

PCT	WO 01/08601	7/27/00	Anastomosis System and Method of Use	Jaime Vargas; Michael Hendrickson; Stephen A. Yencho; James T. Nielsen; Bernard A. Hausen; Brendan M. Donohoe

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.


	App./
	Publication	Date
Country	No.	Filed	Invention	inventor
PCT	WO 01/41654	11/8/00	Everter and Threadthrough System for Attaching Graft Vessel to Anastomosis Device	Michael Hendricksen; Theodore Bender; Brendan M. Donohoe; Jaime Vargas; Andrew Frazier; Stephen Yencho; Bernard Hausen

EPO	9994 1967.4	8/11/99	Method and System for Attaching a Graft to a Blood Vessel	Stephen A. Yencho; Bernard A. Hausen

EPO	EP 1149567	8/11/99	Stent for Attaching a Graft to a Blood Vessel	Stephen A. Yencho; Bernard A. Hausen

DE	DE 100 84 618	11/19/01	Trocar for Use in Deploying an Anastomosis Device	Jaime Vargas; Brendan M. Donohoe; Scott C. Anderson; Theodore Bender; Stephen Yencho; Bernard Hausen; Michael Hendricksen

DE	DE 100 84 620	11/19/01	Sutureless Anastomosis System	Jaime Vargas; Stephen Yencho; Jamey Nielsen; Michael Hendricksen; Bernard Hausen

DE	DE 100 84 856	1/28/02	Anastomosis System and Method for Controlling a Tissue Site	Jaime Vargas; Michael Hendricksen; Stephen Yencho; James T. Nielsen; Bernard A. Hausen; Brendan M. Donohoe

JP	2000-564545	2/13/01	Method and System for Attaching a Graft to a Blood Vessel	Stephen A. Yencho; Bernard A. Hausen

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

Exhibit D

TRADEMARKS

Trademarks Pending:


Serial Number	Filing Date	Trademark Description
78162848	7/31/2001	Word Mark: CARDICA Typed Drawing

78094302	11/20/2001	Word Mark: PAS-PORT Typed Drawing

78096583	12/4/2001	Word Mark: PASPORT Design plus words, letters and/or numbers

78099022	12/18/2001	Word Mark: CARDICA Design plus words, letters and/or numbers

78140994	7/3/2002	Word Mark: C-PORT Typed Drawing

78201801	1/9/2003	Word Mark: PAS-PORT Design plus words, letters and/or numbers

78201791	1/9/2003	Word Mark: C-PORT Design plus words, letters and/or numbers

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Exhibit E

DISCLOSURE SCHEDULE

[*] = CERTAIN INFORMATION ON THIS PAGE HAS BEEN OMITTED AND FILED SEPARATELY WITH THE COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE OMITTED PORTIONS.

Exhibit 23.1

CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

We consent to the reference to our firm under the caption “Experts” and to the use of our report dated September 8, 2005 (except for Note 13, as to which the date is December ___, 2005), in Amendment No. 1 to the Registration Statement (Form S-1 No. 333-129497) and related Prospectus of Cardica, Inc. for the registration of 4,025,000 shares of its common stock.


		Ernst & Young LLP

Palo Alto, California
December ___, 2005

The foregoing consent is in the form that will be signed upon the completion of the reverse stock split described in Note 13 to the financial statements.


	/s/	Ernst & Young LLP

Palo Alto, California
December 15, 2005



	and SHQP do not have any voting or dispositive power with respect to the shares held by individuals affiliated with Sutter Hill Ventures and entities affiliated with such individuals referenced under part (d) of this note. Mr. Younger shares voting and dispositive power with respect to the shares held by Sutter Hill Ventures, SHAI and SHQP with the following natural persons: David L. Anderson, G. Leonard Baker, Jr., Tench Coxe, Gregory P. Sands, James C. Gaither, James N. White, Jeffrey W. Bird and David E. Sweet. As a result of the shared voting and dispositive powers referenced herein, each of Sutter Hill Ventures, SHAI, SHQP, and Messrs. Younger and David L. Anderson, G. Leonard Baker, Jr., Tench Coxe, Gregory P. Sands, James C. Gaither, James N. White, Jeffrey W. Bird and David E. Sweet may be deemed to beneficially own the shares held by the Sutter Hill Ventures, SHAI, SHQP. In November 2005, Mr. Egan transferred to entities affiliated with Sutter Hill Ventures an aggregate of 18,000 shares, as described under “Certain Relationships and Related Party Transactions.” The table reflects the effects of this transfer.



(2)	Includes 32,146 shares issuable upon the exercise of a warrant that is exercisable within 60 days after November 30, 2005.



(3)	Includes 3,398 shares subject to repurchase as of November 30, 2005 and 173,332 shares subject to stock options that are exercisable within 60 days after November 30, 2005.



(4)	Includes 50,087 stock options that are exercisable within 60 days after November 30, 2005. As of July 1, 2005, Mr. DuBois is no longer our employee.



(5)	Consists of shares subject to stock options that are exercisable within 60 days after November 30, 2005.



(6)	Includes 52,666 shares subject to stock options that are exercisable within 60 days of November 30, 2005.



(7)	Consists of 36,635 stock options that are exercisable within 60 days after November 30, 2005. As of July 1, 2005, Mr. Pool is no longer our employee.



(8)	Includes 15,277 shares subject to repurchase as of November 30, 2005. In November 2005, Mr. Egan transferred to entities affiliated with Sutter Hill Ventures an aggregate of 18,000 shares, as described under “Certain Relationships and Related Party Transactions.” The table reflects the effects of this transfer.



(9)	Includes 13,333 shares subject to options granted to Mr. Larkin in December 2005 that are exercisable within 60 days after November 30, 2005.


		to the price at which they may purchase shares of common stock through the over-allotment option. If the underwriters sell more shares of common stock than could be covered by the overallotment option, a naked short position, the position can only be closed out by buying shares of common stock in the open market. A naked short position is more likely to be created if the underwriters are concerned that there could be downward pressure on the price of the shares of common stock in the open market after pricing that could adversely affect investors who purchase in the offering.

	•	Penalty bids permit representatives to reclaim a selling concession from a syndicate member when the shares of common stock originally sold by the syndicate member are purchased in a stabilizing or syndicate covering transaction to cover syndicate short positions.