UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

or

For the transition period from ________ to ________

Commission File Number: 00030733

AMERICAN MEDICAL SYSTEMS HOLDINGS, INC.

952-930-6000

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

[X] Yes [   ] No

     Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

[X] Yes [   ] No

     As of July 30, 2004, there were 33,650,476 shares of the registrant’s $.01 par value Common Stock outstanding.

INDEX

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PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS (Unaudited)

American Medical Systems Holdings, Inc.

The accompanying notes are an integral part of the consolidated financial statements.

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American Medical Systems Holdings, Inc.

The accompanying notes are an intergral part of the consolidated financal statements.

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American Medical Systems Holdings, Inc.

The accompanying notes are an integral part of the consolidated financial statements.

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AMERICAN MEDICAL SYSTEMS HOLDINGS, INC.

1. Basis of Presentation

The consolidated financial statements included in this Form 10-Q have been prepared by American Medical Systems Holdings, Inc. (the Company), without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (SEC). Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to these rules and regulations. The year-end balance sheet was derived from audited financial statements, but does not include all disclosures required by generally accepted accounting principles. These unaudited consolidated interim financial statements should be read in conjunction with the Company’s consolidated financial statements and related notes included in its Annual Report on Form 10-K for fiscal 2003. All amounts are in thousands, except per share data.

These statements reflect, in management’s opinion, all adjustments (which include only normal, recurring adjustments) necessary for a fair presentation of the financial position and the results of operations and cash flows for the periods presented. The results of operations for any interim period may not be indicative of results for the full year.

The Company has a 52 or 53 week fiscal year ended on the Saturday nearest December 31. Accordingly, the second fiscal quarters of 2004 and 2003 ended on July 3, 2004 and June 28, 2003, respectively. The second fiscal quarter and the first half of the fiscal year are identified respectively herein as our three and six month periods of fiscal 2004 and 2003.

2. Stock-Based Compensation

The Company has one stock-based employee compensation plan. The Company accounts for this plan under the recognition and measurement principles of APB Opinion 25, Accounting for Stock Issued to Employees, and related interpretations. The exercise price of the Company’s employee stock options generally equals the market price of the underlying stock on the date of grant for all options granted, and thus, under APB 25, no compensation expense is recognized. However, during 2000, the Company recognized deferred compensation of $1.4 million, reflecting the excess of the fair value of the underlying stock on the date of grant over the exercise price. The deferred compensation was being amortized over vesting periods of two to four years, and was fully amortized as of the end of the first fiscal quarter of 2004.

The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of SFAS 123, Accounting for Stock-Based Compensation, to stock-based employee compensation.

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During the second fiscal quarter of 2004, stock options were exercised to acquire 316,785 shares and 12,297 shares were purchased under the employee stock purchase plan. During the first six months of fiscal 2004, stock options were exercised to acquire 478,891 shares, and 23,360 shares were purchased under the employee stock purchase plan.

3. Earnings per Share

The following table presents information necessary to calculate basic and diluted net income per common share and common share equivalents for the three and six month periods of fiscal 2004 and 2003.

4. Inventories

Inventories consist of the following:

5. Investments

During fiscal 2004, the Company invested in certain tax-advantaged municipal debt that is classified as available-for-sale securities. As of July 3, 2004, the value of the investments was $11.3 million. Cost approximates market value for the investments, which mature between January 2005 and June 2005.

6. Warranties

Many of the Company’s products are sold with warranty coverage for periods ranging from one year up to the patient’s lifetime. The accrued warranty allowance is the Company’s estimate of the expected future cost of honoring warranty obligations. Factors influencing this estimate include historical claim rates, surgical infection rates, changes in product performance, the frequency of use by the patient, the patient’s performance expectations, and changes in the terms of our policies. The warranty allowance was adjusted down in the fourth quarters of 2003 and 2002 by $3.1 million and $2.9 million, respectively. This was based on a reduction in management’s estimate of the future cost of honoring the Company’s warranty obligations resulting from improvements in the quality and durability of its products and changes in its claims processing. Changes in warranty allowances during the six month periods of fiscal 2004 and 2003 were as follows:

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7. Comprehensive Income

Comprehensive income for the Company is net income adjusted for changes in the value of derivative financial instruments designated as hedges, unrealized gains and losses on marketable securities, and foreign currency translation.

Comprehensive income for the three and six month periods in fiscal 2004 and 2003 was:

8. Recent Accounting Pronouncements

The Medicare Prescription Drug, Improvements and Modernization Act of 2003 (The Act) was signed into law in December 2003. The Act introduces a prescription drug benefit under Medicare (Medicare Part D), as well as a federal subsidy to sponsors of retiree health care benefit plans that provide a prescription drug benefit that is at least actuarially equivalent to Medicare Part D. In May 2004, the FASB issued Staff Position (FSP) No. 106-2, “Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003.” This FSP is effective for interim or annual periods beginning after June 15, 2004. We have not yet concluded whether the benefits provided by our plan are actuarially equivalent to Medicare Part D under The Act.

9. Industry Segment Information and Foreign Operations

Since its inception, the Company has operated in the single industry segment of developing, manufacturing, and marketing medical devices.

The Company distributes its products through its direct sales force and independent sales representatives in the United States, Canada, Australia, and most of Europe. Additionally, the Company distributes its products through foreign independent distributors, primarily in Europe, Asia, and South America, who then sell the products to medical institutions. No customer or distributor accounted for five percent or more of the Company’s net sales during 2004 or 2003. Foreign subsidiary sales are predominantly to customers in Western Europe, Australia, and Canada. Substantially all of the Company’s foreign subsidiary assets are located in Western Europe, Australia, and Canada.

The following table presents net sales and long-lived assets by geographical territory. No individual foreign country’s net sales or long-lived assets are material.

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10. Goodwill and Intangible Assets

There were no changes in the carrying amount of goodwill during the second fiscal quarter of 2004. It is the Company’s practice to assess goodwill impairment under the annual requirement of SFAS 142 or when impairment indicators arise.

The following table presents the Company’s intangible assets and accumulated amortization as of July 3, 2004:

Estimated amortization expense for the years 2004 through 2008 is $4.2 million, $2.7 million, $2.2 million, $1.3 million and $1.3 million, respectively, excluding additional amortization that may arise from the acquisition in July 2004 of TherMatrx, Inc. as further described in Note 11.

11. Subsequent Events

Repayment of Debt

On July 8, 2004, the Company repaid the entire outstanding balance of $12.9 million under its senior credit facility and terminated the credit facility. The original maturity of the term notes required quarterly principal payments through September 2005. We have plans to reestablish a new credit facility during 2004.

TherMatrx Acquisition

On July 15, 2004, the Company completed the acquisition of TherMatrx, Inc. As a result of the merger, holders of shares of TherMatrx stock which were outstanding as of the merger were initially paid cash proceeds, after all adjustments made at closing, in the amount of $40.5 million. The Company deposited $4.0 million of this initial consideration in escrow to be held for six months after closing of the merger to cover certain contingencies, and the balance was distributed to holders of TherMatrx stock. The Company used cash on hand to make the initial payment of $40.5 million.

In addition to the initial closing payment, the Company will make contingent payments based on the net product revenues attributable to sales of the TherMatrx Dose Optimized Thermotherapy product. These payments will equal four times such sales over a period of six consecutive Company fiscal quarters (which began on July 5, 2004, and will end on December 31, 2005), minus $40.0 million. The maximum amount of the purchase price is $250.0 million.

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

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Words such as “may,” “expect,” “believe,” “anticipate,” or “estimate,” identify such forward-looking statements. These statements by their nature involve substantial risks and uncertainties, and actual results may differ materially from those expressed in such forward-looking statements. Some of the factors that could cause such material differences are identified in “Risk Factors”. We undertake no obligation to correct or update any forward-looking statements, whether as a result of new information, future events, or otherwise. You are advised, however, to consult any future disclosures we make on related subjects in future filings with the SEC.

Critical Accounting Policies and Estimates

We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Management’s discussion and analysis of financial condition and results of operations are based upon the consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect (1) the reported amounts of assets, liabilities, revenues, and expenses; and (2) the related disclosure of contingent assets and liabilities. At each balance sheet date, we evaluate our estimates, including but not limited to, those related to accounts receivable and sales return obligations, inventories, long-lived assets, warranty, legal contingencies, and income taxes. The critical accounting policies that are most important in fully understanding and evaluating the financial condition and results of operations are discussed in our Form 10-K on file with the SEC.

Overview

American Medical Systems develops, manufactures, and markets medical devices for physician customers, primarily urologists, gynecologists and urogynecologists. Our products are utilized by physicians to treat male disorders such as erectile dysfunction, incontinence, and prostate disease; and also female disorders such as incontinence, excessive uterine bleeding, and pelvic organ prolapse. Our strategy has been to develop innovative products that provide our customers with therapy options to better, and/or less invasively, manage under-treated urological and gynecological conditions.

Our product offering includes a full line of erectile restoration products including both inflatable and non-inflatable prostheses to replace non-functioning penile erectile tissue. For male urinary control we sell our AMS 800 Artificial Urinary Sphincter™ and the InVance™ sling system. For urethral stricture and benign prostatic hyperplasia (BPH) symptoms we sell urethral stents and surgical resection loops. The ProstaJect® chemical prostate ablation system is currently available outside of the U.S. and is in clinical trials in the U.S. Our women’s health products include several products for stress urinary incontinence (InFast™, SPARC™, Monarc™ and BioArc™). Through the acquisition of CryoGen, Inc. in January 2003, we added the Her Option® therapy to our women’s health portfolio for excessive menstrual bleeding.

On July 15, 2004, we acquired TherMatrx, Inc., a privately held company focused on providing physicians an in-office alternative for BPH. Each year in the United States, over three million men seek treatment for the non-cancerous enlargement of the prostate gland known as BPH. Current invasive therapies offered for BPH include surgically removing the entire prostate, resecting a portion of the prostate, or performing a transurethral incision of the prostatic tissue. Other less invasive procedures performed in the hospital include prostatic stenting, laser-based resection, radio-frequency energy ablation, and the delivery of microwave energy. While some of these therapies may be performed under certain circumstances in a physician’s office, they are neither as comfortable for the patient nor as appropriate for the office setting as the TherMatrx microwave therapy for BPH symptoms.

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Results of Operations

The following table compares net sales by product line and geography for the three and six month periods of fiscal 2004 and 2003:

[Continued from above table, first column(s) repeated]

Net Sales. Net sales increased by 16.3 percent in the second fiscal quarter of 2004 as compared to the same period in 2003. Net sales year to date through the second quarter of 2004 grew 18.2 percent as compared to the same period of 2003.

Sales in our second fiscal quarter grew broadly worldwide, contributing to our total net sales of $49.1 million. International sales, which this quarter represented over 23 percent of our net sales, grew 37.9 percent over last the second quarter of 2003 (27.6 percent before favorable currency effects). U.S. sales grew 11.0 percent from the year ago period. Growth in the U.S., excluding erectile restoration sales, was 21.5 percent. Further detail on the erectile restoration business and its growth follows.

Worldwide erectile restoration revenues decreased .3 percent and 1.2 percent during the three and six month periods of fiscal 2004, respectively. We believe that the overall erectile restoration market has been impacted by the trialing of new drug therapies which tends to delay implant decisions by our physician and patient customers. We also believe that our market share is stable and could improve in future quarters as a result of an important new product launch later this year. We have received clearance from the Food and Drug Administration for our new AMS 700 Tactile Pump™ product. Clinical trials of this new erectile restoration product, designed to improve patients’ ease of use in activating the pump, have generated early enthusiasm within the prosthetic urology community. We anticipate worldwide availability of the new pump in October 2004. Aided by the launch of this product, and a declining effect of new drug trialing, we anticipate our erectile restoration business will resume modest growth in the second half of 2004.

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Our male urinary continence products increased 17.1 percent and 19.2 percent in the three and six month periods of fiscal 2004, respectively, in second quarter over the year ago period, primarily due to unit sales growth. Both the AMS Artificial Urinary Sphincter 800 and InVance sling were implanted in more patients in the second quarter than at any time in our history.

Prostate product sales declined by 17.0 percent and 10.2 percent in the three and six month periods of fiscal 2004, respectively, as we continue to reposition the UroLume® product toward obstructive urethral conditions such as urethral stricture. Our second half sales of prostate treatment products will include the sales of TherMatrx BPH products as of that company’s July 15^th, 2004 acquisition date. TherMatrx sales (not included in our reported first half sales) were $9.7 million in the first half of 2004, a 45 percent increase over the first half of 2003.

Sales of women’s health products increased 42.8 percent and 51.0 percent in the three and six month periods of fiscal 2004, respectively. The market for female incontinence products continues to expand rapidly driven by the acceptance of minimally invasive therapies. The SPARC sling system continues to be our number one selling female incontinence product in the U.S., although we expect it will be surpassed by the end of the year with continued adoption of Monarc. Monarc sales grew significantly in our second quarter of 2004, its sixth quarter of availability in Europe and fourth quarter of use in the U.S. We are continuing Monarc training and proctoring for gynecologists and urologists worldwide. Our BioArc sling system continued to grow sequentially during the second quarter of 2004. BioArc is the only product available which offers physicians the choice of a biologic graft material attached to the self-fixating sling. We plan to further expand the BioArc series from the BioArc SP, (suprapubic surgical approach) to include also the BioArc TO (transobturator surgical approach). This expansion of the BioArc series is anticipated during our third fiscal quarter of 2004.

We expanded our female pelvic prolapse product portfolio during the second fiscal quarter with the FDA’s clearance of the Apogee™ and Perigee™. Although we have received regulatory clearance for these products, our physician training only began in early June 2004. We will continue to train physicians in the third quarter of 2004 for purposes of post-market studies which we believe will support wider product availability in 2005.

Sales growth in the three and six month periods of fiscal 2004 were driven primarily by unit volume growth of new products and, to a lesser degree, by pricing increases and the positive impact of foreign exchange rates.

Changes in currency exchange rates, primarily the Euro, increased sales for the three and six month periods of fiscal 2004 by $.9 million and $2.2 million, respectively. If these currency exchange rates in fiscal 2004 had been the same as fiscal 2003, total sales during the three month period of fiscal 2004 would have been $48.2 million, an increase of $6.0 million, or 14.3 percent, and total sales during the six month period of fiscal 2004 would have been $94.2 million, an increase of $12.7 million, or 15.5 percent.

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The following table compares revenue, expense, and other income accounts for the three and six month periods of fiscal 2004 and 2003:

[Continued from above table, first column(s) repeated]

Cost of sales. Cost of sales as a percentage of sales increased by .9 percentage point and 1.0 percentage point during the three and six month periods of fiscal 2004, respectively. Over half of this increase was due to a greater portion of our revenues consisting of sales of women’s health products and sales in international markets, both of which carry a lower margin than our consolidated average. Inventory reserves for lesser-used product sizes were also increased during the first and second quarters of fiscal 2004 as we prepare to

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phase out older products in favor of anticipated new product releases later in the year. These unfavorable increases were partially offset by the favorable foreign exchange impact on our gross profit. Future cost of goods sold will continue to depend on product phase-ins, production levels and product mix.

Marketing and selling. Marketing and selling expense increased in the three and six month periods of fiscal 2004 due to greater sales volume, but declined by 5.1.and 4.0 percentage points relative to sales, respectively. This decline as a percent of sales resulted from our ability to leverage the investment made during 2003 in our marketing and training programs for women’s health products. Accordingly, our objective remains to increase sales and marketing expenses in absolute dollars, but to decrease as a percentage of sales.

Research and development. Research and development expense was 7.3 percent and 7.4 percent of sales during the three and six month periods of fiscal 2004, respectively. We expect total spending in research and development over the longer term, to be in the range of 8 to 10 percent of sales.

General and administrative. General and administrative expenses during the three and six month periods of fiscal 2004 increased 35.5 percent and 27.4 percent, respectively, and increased as a percentage of net sales over fiscal 2003. Over half of the increase in the three and six month periods of fiscal 2004 was attributable to external Sarbanes-Oxley Act related spending, combined with legal costs related to intellectual property matters and bad debt expense.

Amortization of intangibles. Amortization of intangibles includes amortization expense on our definite-lived intangible assets, consisting of patents, licenses and developed technology. We expect amortization of intangibles to remain at approximately $1.1 million per quarter for the remainder of 2004, excluding additional amortization that may arise from our acquisition of TherMatrx in July 2004.

Royalty income. Our royalty income is primarily from the license of our stent-delivery technology for medical use outside of urology. This exclusive worldwide license was entered into during 1998, with expiration immediately following the term of the various licensed patents. We receive a royalty equal to 2.625 percent of net sales of licensed products on a quarterly basis. We do not directly influence sales of the products on which this royalty is based and cannot give any assurance as to future income levels.

Interest income. Interest income increased during the three and six month periods of fiscal 2004, due to higher levels of investments resulting from greater cash generated from operations in fiscal 2004 than in fiscal 2003.

Interest expense. Interest expense declined during the three and six month periods of fiscal 2004, due to the expiration of our interest rate swap agreement as well as a decline in our long term debt balance. We hedged a portion of our original $65.0 million variable rate term note, as required by our senior credit facility, by entering into an interest rate swap agreement in which we agreed to exchange, at specified intervals, the calculated difference between the fixed interest rate of the swap and the variable interest rate on a portion of our debt. This interest rate swap agreement expired June 30, 2003. We did not renew the swap agreement and do not expect swap-related expenses going forward. On July 8, 2004, we repaid the entire outstanding balance of $12.9 million under our senior credit facility and terminated the credit facility. Accordingly, we expect our interest expense to decrease in future periods.

Other income. Other income and expense primarily represents gains and losses as a result of remeasuring foreign short-term denominated inter-company receivables, mainly the euro, to current rates. The three and six month periods of fiscal 2004 reflect losses due to the weakening of the euro by 1.2 percent and 2.2 percent, respectively, to the U.S. dollar from the beginning of the period, while the three and six month periods of fiscal 2003 reflect gains due to the strengthening of the euro by 6.8 percent and 10.2 percent, respectively, to the U.S. dollar from the beginning of the period.

Income taxes. Our effective tax rate for the three and six month periods of fiscal 2004 was 36.5 percent. We believe our utilization of research and development tax credits and the extraterritorial income exclusion will result in an effective tax rate of 36.5 percent for the remainder of fiscal 2004.

The effective tax rate for the three and six month periods of fiscal 2003 was 35.9 percent and 37.2 percent respectively. During the third quarter of fiscal 2003, the Company applied for and began to recognize the tax benefits related to research and development tax credits and extraterritorial income exclusions.

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Liquidity and Capital Resources

Cash and cash equivalents were $65.9 million as of July 3, 2004, compared to $59.0 million as of January 3, 2004. This increase is due primarily to the continued strong growth in revenues and net income, and other factors described below.

Cash flows from operating activities. Net cash from operations was $18.7 million for the six month period of fiscal 2004, driven by net income of $16.5 million and increased for certain non-cash expenses including depreciation and amortization of $5.6 million. Working capital impacts included an increase in accounts receivable of $3.7 million resulting primarily from higher revenues by our foreign subsidiaries, and a decrease of $1.9 million in accounts payable and accrued expenses. Net cash from operations was $11.7 million for the six month period of fiscal 2003, resulting from net income of $11.8 million, depreciation and amortization of $5.0 million, offset by other changes in assets and liabilities.

Cash flows from investing activities. Cash used in investing activities was $12.8 million and $44.7 million for the six month periods of fiscal 2004 and 2003, respectively. During the six month periods of fiscal of 2004 and 2003, we purchased equipment totaling $1.4 million and $1.6 million, respectively. We expect capital expenditures to be in the range of $5.0 to $7.0 million for the full year of fiscal 2004. During the six month period of fiscal 2004, we purchased investments of $11.3 million. During the first fiscal quarter of 2003, we had a cash outlay of $43.1 million related to the acquisition of CryoGen Inc.

Cash flows from financing activities. Cash flows generated from financing activities was $1.1 million during the six month period of fiscal 2004, compared to $2.1 million used during the six month period of 2003. Cash received under our stock option and employee stock purchase plans was $4.6 million and $1.3 million during the six month periods of fiscal 2004 and 2003, respectively. Payments made under our senior credit facility were $3.5 million and $3.3 million during the six month periods of fiscal 2004 and 2003, respectively.

On July 8, 2004, we repaid the entire outstanding balance of $12.9 million under our senior credit facility and terminated the credit facility. The original maturity of the term notes required quarterly principal payments through September 2005. We were in compliance with all required financial covenants both during the six month periods covered, as well as through the date the debt was repaid in full.

During the six month period of fiscal 2004, we received $4.6 million from the exercises of options under our 2000 Equity Incentive Plan and for issuing common stock under our Employee Stock Purchase Plan.

Cash Commitments. Pursuant to our acquisition of CryoGen, Inc. on January 2, 2003, we have agreed to pay CryoGen’s former shareholders an earnout payment contingent upon sales of CryoGen products. The earnout payment will be equal to three times our net sales of CryoGen products during four consecutive quarters, less our $40.0 million initial acquisition payment. The earnout period expires December 31, 2005. If our net CryoGen product sales do not exceed $13.3 million during any consecutive four-quarter period prior to December 31, 2005, no earnout payment will be required. The maximum amount of the earnout payment is $110.0 million. This transaction is more fully described in our Form 8-K filed with the SEC on January 6, 2003. We do not currently anticipate an earnout payment to the former CryoGen shareholders.

On July 15, 2004, we completed the acquisition of TherMatrx. As a result of the merger, holders of shares of TherMatrx stock which were outstanding as of the merger were initially paid cash proceeds, after all adjustments made at closing, in the amount of $40.5 million. We used cash on hand to make the initial payment of $40.5 million. In addition to the initial closing payment, we will make contingent payments based on the net product revenues attributable to sales of the TherMatrx Dose Optimized Thermotherapy product. These payments will equal four times such sales over a period of six consecutive fiscal quarters (which began on July 5, 2004, and will end on December 31, 2005), minus $40.0 million. Sales of the TherMatrx Dose Optimized Thermotherapy were $5.0 million in TherMatrx’s second quarter of 2004. Accordingly, if product sales remained flat during the contingent payment period, the total amount of the contingent payments would be $80.0 million. The maximum amount of the purchase price is $250.0 million or $210.0 million of contingent payments.

We believe that funds generated from operations, together with our balances in cash and cash equivalents, as well as short term investments and our plans to add a new credit facility will be sufficient to finance current operations, planned capital expenditures, and our commitment to TherMatrx shareholders.

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Risk Factors

There are several factors that could cause our actual results to differ materially from our anticipated results. Some of these factors, and their impact on the success of our operations and our ability to achieve our goals, are discussed below.

Supplier Risks

Many of our products are dependent on raw materials from one or two suppliers who may not be able to meet our demands or who may decide to stop supplying us because of their concerns about product liability claims or other reasons. Losing any of these raw material suppliers could have a material adverse effect on our sales and income. As a result of supplier consolidations, we now rely on only one source for the silicone elastomer used in some of our implantable products; the loss of this supplier would have a material adverse effect on our cost of sales and income, as we would be required to qualify an additional supplier. We procure human cadaveric dermis through two processors, and we have one supplier of porcine dermis.

Potential Product Recalls

In the event that any of our products were defective, we could voluntarily recall, or the FDA or an international regulatory body could require us to redesign or recall, any defective product. There is a possibility that we may recall products in the future and that future recalls could result in significant costs to us and in significant negative publicity which could harm our ability to market our products in the future.

Continued Physician Use and Endorsement of our Products

For us to sell our products, physicians must recommend and endorse them. We may not obtain the necessary recommendations or endorsements from physicians. Many of the products we acquired or are developing are based on new treatment methods. Acceptance of our products is dependent on educating the medical community as to the distinctive characteristics, perceived benefits, clinical efficacy, and cost-effectiveness of our products compared to competitive products, and on training physicians in the proper application of our products. We believe our products address major market opportunities, but if we are unsuccessful in marketing them, our sales and earnings might be below expectations.

Successful Introduction of New Products and Product Improvements

As part of our growth strategy, we intend to introduce a number of new products and product improvements. If we do not introduce these new products and product improvements on schedule, or they are not well-accepted by the market, our growth may be reduced.

Continued Use of Non-Invasive Treatment Alternatives

We predominantly sell devices and kits for invasive or minimally invasive surgical procedures. If patients do not accept our products, our sales may decline. Patient acceptance of our products depends on a number of factors, including the failure of non-invasive therapies, the degree of invasiveness involved in the procedures using our products, the rate and severity of complications, and other adverse side effects from the procedures using our products. Patients are more likely to first consider non-invasive alternatives to treat their urological disorders. The introduction of new oral medications or other less-invasive therapies might cause our sales to decline.

Actions Related to Reimbursement for Procedures Using our Products

Our physician and hospital customers depend on third party government and non-government entities for reimbursement for services provided to patients. The level of such third party reimbursement may influence whether or not customers purchase our products.

Effective January 1, 2004, the Centers for Medicare and Medicaid Services (CMS) increased reimbursement for certain procedures utilizing inflatable penile prostheses and urinary sphincter devices. This increase partially reverses reductions in such reimbursement rates in 2001 and 2002. Our sales history of these devices does not evidence an obvious correlation with changes in CMS reimbursement rates.

In March of 2004 we were informed by the American Medical Association that the organization’s Current Procedural Terminology (CPT) Editorial Panel had approved a CPT code for our Her Option cryoablation system to treat excessive uterine bleeding. The receipt of this CPT code is the first step toward the availability of standard reimbursement for Her Option. A noticeable effect on sales of Her Option is not

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expected until such reimbursement is established (currently anticipated to be January 2005). We can offer no assurances that a new code for Her Option procedures will be in place by January 2005 or that the reimbursement will adequately cover the costs of performing the procedure.

Intellectual Property Lawsuits

The medical device industry is litigious with respect to patents and other intellectual property rights. Companies in the medical device industry have used intellectual property litigation to gain a competitive advantage. We are currently involved in an intellectual property lawsuit with Mentor Corporation relating to our Monarc sub-fascial hammock for the treatment of female incontinence. If Mentor were to obtain a favorable ruling in this lawsuit, the court could require us to pay significant damages to Mentor, prevent us from selling our Monarc sub-fascial hammock for the treatment of female incontinence, or both. The occurrence of any of these would have a negative impact on our business.

In the future, we may become a party to other lawsuits involving patents or other intellectual property. A legal proceeding, regardless of the outcome, could drain our financial resources and divert the time and efforts of our management. If we lose one of these proceedings, a court, or a similar foreign governing body, could require us to pay significant damages to third parties, require us to seek licenses from third parties and pay ongoing royalties, require us to redesign our products, or prevent us from manufacturing, using or selling our products. In addition to being costly, protracted litigation to defend or prosecute our intellectual property rights could result in our customers or potential customers deferring or limiting their purchase or use of the affected products until resolution of the litigation.

Product Liability Lawsuits

The manufacture and sale of medical devices exposes us to significant risk of product liability claims. In the past, we have had a number of product liability claims relating to our products. In the future, we may be subject to additional product liability claims, some of which may have a negative impact on our business. If a product liability claim or series of claims is brought against us for uninsured liabilities or for amounts in excess of our insurance coverage, our business could suffer. We are not currently involved in any material product liability litigation.

Costs of Physician Malpractice Insurance

Most of our products are used by physicians who are required to maintain certain levels of medical malpractice insurance to maintain their hospital privileges. As the cost of this insurance increases, certain physicians who have used our products to treat their patients may stop performing surgeries. Unless these patients who would have been treated by these physicians are referred to other physicians, sales of our products will decline.

Acquisition Integration

We have acquired businesses in the past, and we may acquire other businesses in the future. Failure to successfully retain critical employees of an acquired company, gain FDA approval for the products of an acquired company, or establish and maintain appropriate communications, performance expectations, regulatory compliance procedures, accounting controls, and reporting procedures could have a material adverse affect on our business. Our CryoGen acquisition has now been fully integrated into our business as we obtained FDA approval for manufacturing and product service on March 31, 2004. We are currently integrating TherMatrx, which we acquired in July 2004.

International Sales

During the three and six month periods of fiscal 2004, approximately 23 percent of our sales were to customers outside the United States. Some of these sales were to governmental entities and other organizations with extended payment terms. A number of factors, including political or economic instability in the countries where we do business, could affect payment terms and our ability to collect foreign receivables. We have little influence over these factors and changes could have a materially adverse impact on our business. In addition, foreign sales are influenced by fluctuations in currency exchange rates, mainly in the Euro. In recent periods, our sales have been positively impacted by increases in the value of the Euro relative to the U.S. Dollar. Decreases in the value of the Euro relative to the U.S. dollar would negatively impact our sales.

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Manufacturing Facility

We are currently operating with one manufacturing shift and have adequate physical capacity to serve our business operations for the foreseeable future. We do not have a back up facility, and the loss of our Minnetonka facility would have a materially adverse effect on our sales, earnings, and financial condition.

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ADDITIONAL INFORMATION ON AMS

We are currently subject to the informational requirements of the Securities Exchange Act of 1934, as amended. As a result, we are required to file periodic reports and other information with the SEC, such as annual, quarterly, and current reports, and proxy and information statements. You are advised to read this Form 10-Q in conjunction with the other reports, proxy statements, and other documents we file from time to time with the SEC. If you would like more information regarding AMS, you may read and copy the reports, proxy and information statements and other documents we file with the SEC, at prescribed rates, at the SEC’s public reference room at 450 Fifth Street, NW, Washington, DC 20549. You may obtain information regarding the operation of the SEC’s public reference rooms by calling the SEC at 1-800-SEC-0330. Our SEC filings are also available to the public free of charge at the SEC’s website. The address of this website is http://www.sec.gov.

We also make all of our SEC filings, such as our annual, quarterly and current reports and proxy statements, available to the public free from charge on our website www.AmericanMedicalSystems.com. Our website is not intended to be, and is not, a part of this Quarterly Report on Form 10-Q. We place our SEC filings on our website on the same day as we file such material with the SEC. In addition, we will provide electronic or paper copies of our SEC filings (excluding exhibits) to any AMS stockholder free of charge upon receipt of a written request for any such filing. All requests for our SEC filings should be sent to the attention of Investor Relations at American Medical Systems, Inc., 10700 Bren Road West, Minnetonka, Minnesota 55343.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rates

We do not believe that our interest rate risk is material given the low volatility of interest rates in recent years and the low level and relatively short-term nature of our outstanding debt and our short term investments. On July 8, 2004, we repaid the entire outstanding balance of $12.9 million under our senior credit facility and terminated the credit facility.

Currency

Our operations outside of the United States are maintained in their local currency. All assets and liabilities of our international subsidiaries are translated to U.S. dollars at period-end exchange rates. Translation adjustments arising from the use of differing exchange rates are included in accumulated other comprehensive income in stockholders’ equity. Gains and losses on foreign currency transactions and short-term inter-company receivables from foreign subsidiaries are included in other income (expense).

During the three and six month periods of fiscal 2004, revenues from sales to customers outside the United States were 23.2 percent and 23.0 percent of total consolidated revenues, respectively, and international accounts receivable, inventory, cash, and accounts payable were 36.3 percent, 5.8 percent, 9.9 percent, and 22.2 percent of total consolidated accounts for each of these items as of July 3, 2004. The reported results of our foreign operations will be influenced during their translation into U.S. dollars by currency movements against the U.S. dollar. The result of a uniform 10 percent strengthening in the value of the U.S. dollar in fiscal 2004 levels relative to each of the currencies in which our revenues and expenses are denominated would have resulted in a decrease in net income of approximately $0.6 million and $1.2 million during the three and six month periods of fiscal 2004, respectively.

At July 3, 2004, our net investment in foreign subsidiaries translated into dollars using the period end exchange rate was $19.4 million, and the potential loss in fair value resulting from a hypothetical 10 percent strengthening in the value of the U.S. dollar currency exchange rate amounts to $.07 million. Actual amounts may differ.

Inflation

We do not believe that inflation has had a material effect on our results of operations in recent years and periods. There can be no assurance, however, that our business will not be adversely affected by inflation in the future.

ITEM 4. CONTROLS AND PROCEDURES

Our chief executive officer and chief financial officer, after evaluating the effectiveness of our disclosure controls and procedures (as defined in the Exchange Act Rules 13a-15(e) and 15d-15(e)) as of the end of the period covered by this Quarterly Report on Form 10-Q, have concluded that, based on such evaluation, our disclosure controls and procedures were adequate and designed to ensure that material information relating to us and our consolidated subsidiaries, which we are required to disclose in the reports we file or submit under the Securities Exchange Act of 1934, was made known to them by others within those entities and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.

There were no changes in our internal control over financial reporting identified in connection with the evaluation of such internal control over financial reporting that occurred during our last fiscal quarter which have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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PART II. OTHER INFORMATION

ITEM 5. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

a)		Our annual meeting of stockholders was held on May 6, 2004.
b)		Albert Jay Graf was re-elected as director of the company. Douglas W. Kohrs, Richard B. Emmitt, Christopher H. Porter, Thomas E. Timbie, and Elizabeth H. Weatherman, continued their terms as directors after the meeting. David W. Stassen resigned from the Board of Directors, effective at the meeting, and did not stand for re-election. Accordingly, the seat on the Board of Directors previously held by Mr. Stassen remained vacant following the meeting.
c)		At the annual meeting, our stockholders were presented with and asked to vote upon two proposals: (1) to elect one director to serve for three-year term, or until his successor is elected and duly qualified; (2) to transact other business if properly brought before the Annual Meeting or any adjournment thereof. The name of the nominee for director and voting results are:

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

a)

Exhibits

b)

Reports on Form 8-K

On April 29, 2004, we filed a Current Report on Form 8-K furnishing our press release dated April 29, 2004, announcing results of operations for the quarter ended April 3, 2004.

On June 16, 2004 we filed a Current Report on Form 8-K reporting that we entered into an agreement and plan of merger to acquire TherMatrx, Inc.

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SIGNATURES

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

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AMERICAN MEDICAL SYSTEMS HOLDINGS, INC.

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