KENSEY NASH CORP - 10-K Annual Report

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

FORM 10-K

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

For the Fiscal Year Ended: June 30, 2004

OR

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

For the transition period from to .

Commission File Number: 0-27120

KENSEY NASH CORPORATION
(Exact name of registrant as specified in its charter)

DELAWARE 36-3316412
(State or other jurisdiction (IRS Employer Identification No.)
of incorporation or organization)

MARSH CREEK CORPORATE CENTER, 55 EAST UWCHLAN AVENUE,
EXTON, PENNSYLVANIA 19341
(Address of principal executive offices and zip code)

Registrant's telephone number, including area code: (610) 524-0188
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, PAR VALUE $.001 PER SHARE
(TITLE OF CLASS)

Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No __

Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]

Indicate by check mark whether the registrant is an accelerated filer (as
defined in the Exchange Act Rule 12b-2). Yes X No __

The aggregate market value of the registrant's Common Stock held by
non-affiliates of the registrant as of September 3, 2004 was $323,550,569, based
on the closing price per share of Common Stock of $28.11 as of such date
reported by the NASDAQ National Market. Shares of the registrant's Common Stock
held by each executive officer and director and by each person who owns 10% or
more of the outstanding Common Stock have been excluded in that such persons may
be deemed to be affiliates. This determination of affiliate status is not
necessarily a conclusive determination for other purposes.

The number of shares outstanding of the registrant's Common Stock, par
value $.001 per share, as of September 3, 2004 was 11,510,159.

DOCUMENTS INCORPORATED BY REFERENCE
Portions of registrant's definitive Proxy Statement, to be filed pursuant to
Regulation 14A
under the Securities Exchange Act of 1934, in connection with the registrant's
2004 Annual
Meeting of Stockholders scheduled to be held on December 1, 2004.

PART I

ITEM 1. BUSINESS

This discussion below contains forward-looking statements relating to future
events or our future financial performance. These statements are only
predictions and actual events or results may differ materially. In evaluating
such statements, you should carefully consider the various factors identified in
this report which could cause actual results to differ materially from those
indicated in any forward-looking statements, including those set forth in "Risk
Factors" in this Annual Report on Form 10-K. See "Forward-Looking Statements".

OVERVIEW

Kensey Nash Corporation is a leading medical technology company providing
innovative solutions, via novel technologies, for a wide range of medical
procedures. We have expanded well beyond our beginnings in vascular puncture
closure and today provide an extensive range of products into multiple medical
markets, primarily cardiovascular, sports medicine and spine, amongst others. As
the inventor of the Angio-Seal(TM) Vascular Closure Device (Angio-Seal), a
device designed to seal and close femoral artery punctures made during
diagnostic and therapeutic cardiovascular catheterizations, we were the first
company to place an absorbable biomaterial component into the human vascular
system. As pioneers in this field of absorbable biomaterials, we have developed
significant experience, expertise and competitive advantage in the design,
development, manufacture and processing of absorbable biomaterials for medical
applications. Our most recent advance into the cardiovascular market is the
TriActiv(R) Balloon Protected Flush Extraction System (the TriActiv), a device
designed to provide embolic protection during the treatment of diseased vessels.
Again, we are on the forefront of an emerging medical market as the adoption of
embolic protection is growing rapidly due to its proven clinical benefits.

We have expanded an Angio-Seal derived revenue base of $3.0 million in the year
of our initial public offering (IPO) (fiscal year ended June 30, 1996) to $58.2
million in total revenue in the fiscal year ended June 30, 2004 (fiscal 2004),
diversified across three primary markets (shown below). This increase in revenue
represents compound annual growth (CAGR) of 44.9% and has been driven by our
commitment to research and development of new solutions to existing and evolving
medical problems. The following chart shows our total revenues of $58.2 million,
which include net sales, research and development revenue and royalty income, by
market for fiscal 2004:

REVENUES BY MARKET -- FISCAL 2004

REVENUES PIE CHART

Our original success is rooted in the Angio-Seal, of which we were the original
designer, developer and manufacturer. St. Jude Medical, Inc. (St. Jude Medical)
acquired the worldwide license to the Angio-Seal device in March of 1999. The
Angio-Seal was commercialized in the U.S. in 1996 and is currently the worldwide
leader in the vascular closure device market with product sales by St. Jude
Medical of $251 million in our fiscal 2004, up 39% from $180 million in fiscal
2003. The vascular puncture closure market is estimated to be a potential $1
billion annual worldwide market with current penetration of approximately 40% to
45%. We manufacture two of the key absorbable components of the Angio-Seal, the
collagen plug and the polymer anchor, for St. Jude Medical and receive a 6%
royalty on every Angio-Seal device sold to the end-user. The

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royalty fell to 6% from 9%, as specified under contract, in April 2004 when the
four millionth Angio-Seal unit had been sold. The manufacturing of components
and royalties received contributed $12.8 million and $20.9 million of our total
net sales and royalty income line items, respectively, for fiscal 2004, or a
total of $33.7 million of our total revenues. St. Jude Medical develops and
manufactures the product as well as markets and distributes the product
worldwide.

We have utilized the knowledge gained during the development process of the
absorbable biomaterials components of the Angio-Seal, the anchor and the
collagen plug, as a springboard into the application of absorbable biomaterials
into multiple medical markets. Our history with these biomaterials has made us
experts in the design, development, manufacture and processing of proprietary
biomaterials products which we now apply to the fields of orthopaedics
(including sports medicine and spine), cardiology, drug/biologics delivery,
periodontal, general surgery and wound care. We have several strategic
partnerships and alliances through which our biomaterials products are developed
and marketed. We intend to continue to leverage our proprietary knowledge and
expertise in each of these markets to develop new products and technologies and
to explore additional applications for our existing products.

We have also developed the TriActiv(R) Balloon Protected Flush Extraction
System, a device designed to provide embolic protection during the treatment of
diseased vessels, with an initial application in diseased saphenous vein grafts.
This saphenous vein graft (SVG) market opportunity is currently estimated at
$200 - $300 million annually. The TriActiv device is a balloon embolic
protection device in a market populated or pursued by both balloon and filter
devices. While both approaches have pros and cons, we believe the unique design
of the TriActiv device as a system offering three key features: an embolic
protection balloon, a flush catheter and an active, controlled extraction
system, offers the most complete and effective solution to embolic protection.
The TriActiv System was commercially launched in Europe in May 2002 and clinical
trials in the United States were completed in March 2004. On July 28, 2004, we
submitted a 510(k) application to the FDA for commercial approval of the
TriActiv System. We anticipate approval from the FDA during the second fiscal
quarter of 2005 and are planning a U.S. commercial launch in the third fiscal
quarter. In August 2004, we announced that we would be selling and marketing the
TriActiv System via a direct sales force. Future generations of the TriActiv
device, currently in development and in clinical trials, will address additional
markets. These future applications will potentially include the treatment of
diseased carotid, peripheral and native coronary arteries as well as acute
myocardial infarction (AMI) (a heart attack) and the removal of thrombus during
such treatment. Industry estimates indicate that the addition of these
applications broadens the potential market for the TriActiv platform to over $1
billion.

BIOMATERIALS

BIOMATERIALS -- MARKET OVERVIEW

Biomaterials, which are substances that treat, augment, or replace tissue,
organs or body functions, are used regularly as components and elements in a
wide variety of absorbable and permanent implants. Advances in materials
technology and a better understanding of the biological processes involved in
tissue formation and remodeling have led to the introduction of absorbable
biomaterials-based products to address long-standing deficiencies of traditional
products and therapies. This trend has been observed in many markets, including
orthopaedics, cardiology, drug/biologics delivery, wound care, surgery,
periodontics and urology. Generally, absorbable biomaterials-based products have
proven attractive solutions for a number of reasons. First, physicians generally
prefer to use an implant that will not require a second surgery to remove the
device. Second, the rate of absorption of products can be carefully engineered
to promote healing as the biomaterials-based products work with the body's
natural healing response. Finally, absorbable biomaterials offer potential for
drug delivery. The ability to provide staged and sustained release of drugs and
biologics offers significant potential for growth in the use of absorbable
biomaterials-based products.

OUR BIOMATERIALS BUSINESS, TECHNOLOGY AND PRODUCTS

We have grown our biomaterials business from just $247,000 in fiscal 1996 (the
year of our IPO) to $36.1 million in fiscal 2004, representing 86.5% CAGR. Not
only have we grown the business in terms of

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revenue generated, we have diversified our products across multiple markets from
a base consisting entirely of cardiology products in fiscal 1996. The chart
below shows our biomaterials sales of $36.1 million by market for fiscal 2004:

BIOMATERIAL SALES BY MARKET -- FISCAL 2004

SALES PIE CHART

Biomaterials continue to be a source of new emerging technologies for our
company. Alongside our Angio-Seal and TriActiv platforms, we have built a solid
reputation and significant market presence in the development of biomaterials
for use in medical implants. The technological challenges involved in developing
biomaterials products are substantial. Developing products made from absorbable
and nonabsorbable biomaterials, such as polymers, collagen, polysaccharides and
ceramics, requires an understanding of the mechanical integrity,
biocompatibility and absorption rates, as well as the ability to sterilize these
products without jeopardizing their material properties. Our expertise in
biomaterials enables us to design, develop and manufacture proprietary
biomaterials products. These products are characterized by their ability to be
absorbed or incorporated in the body's own tissue. Our particular expertise is
in the properties, usage and processing of polymers, collagen, ceramics and
other absorbable and nonabsorbable materials. We believe that our diverse
platforms in, and significant experience with, biomaterials technology give us a
competitive advantage because many participants in the market specialize in only
one biomaterial or have far less experience in biomaterials. Our background with
multiple materials enables us to provide essential biomaterials building blocks
across multiple biomaterials platforms to address specific product needs in a
wide variety of markets.

- Polymers. We were pioneers in the design, development and manufacture of
absorbable and nonabsorbable polymer products. We use many different
types of polymers, in combination or as single entities, to achieve the
desired properties in a particular product. We have developed several
unique polymer-based materials, products and processes, which have a
variety of applications in implantable absorbable medical devices. We
offer our customers and partners a complete solution, including product
design and engineering, tool design, process development, commercial
manufacture and packaging configuration.

Our polymer technology platform includes a porous tissue matrix (PTM)
technology which allows us to create porous implants which support cell
growth, tissue regeneration and the delivery of biologics, growth factors
and drugs. The implants are designed to facilitate wound healing in both
bone and soft tissue and are bioabsorbable at controlled rates for
specific functions and tissues. We have a series of products and
development programs utilizing intellectual property related to our porous
biodegradable regeneration matrices. Specifically, we are researching
applications for articular cartilage regeneration, vascular grafts, bone
growth scaffolds for spinal and trauma indications and for the delivery of
drugs and growth factors.

- Collagen and Other Naturally-Occurring Materials. We design, develop and
manufacture products using naturally-occurring materials such as
collagen, elastin, hyaluronic acid and alginate, which have applications
in a wide variety of absorbable medical devices. We have significant
experience and expertise in processing collagen into diverse product
formulations, including powders, gels, pastes, sponges and structural
matrices. We combine collagen and other naturally-occurring materials
using

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our proprietary processes, thereby creating new materials with unique
characteristics and diverse product applications.

- Ceramics Products. We have experience using ceramic materials, primarily
with calcium phosphate salts such as hydroxyapatite. These materials can
be designed to replicate bone structure and support new bone growth or as
osteoconductive implants. Ceramics are also useful for enhancing the
material properties of products, such as strength, when used in
combination with other biomaterials. We have expertise in the compounding
of ceramic materials with various absorbable polymers to enhance strength
characteristics primarily for orthopaedic applications. We are currently
working with select orthopaedic customers to incorporate this enhanced
material into their existing products or to develop new products. In
addition, we are independently developing blended materials, using
ceramics in combination with other biomaterials such as collagen, for
applications in filling of bone defects and fracture repair.

We participate in the biomaterials market in several ways:

- We manufacture biomaterials products for our customers who incorporate
them into their products;

- We manufacture a complete product incorporating our biomaterials and
provide the finished product to our customers for distribution;

- We provide our customers with a variety of proprietary products ranging
from components to final packaged products, which are then marketed and
sold to end users;

- We independently design and develop biomaterials products that may
enhance the features and benefits of our customers' products; and

- We design and develop potential enhancements to our customers' products.

A majority of our biomaterials sales are concentrated among a few strategic
customers and partners. The relationship with these customers and partners is
generally long-term and contractual in nature, with contracts specifying the
characteristics of the product to be supplied and pricing. Our products often
represent a key strategic source for these customers and partners. In many
cases, the technology incorporated in the product is our proprietary technology.
As a result, we view our customer relationships as a long-term sustainable
competitive advantage.

We have established several strategic partnerships with companies selling
biomaterials based products. We act as a strategic partner and are often the
exclusive supplier of certain biomaterials technology to our customers. Our
largest biomaterials customers include St. Jude Medical, to whom we supply
Angio-Seal components, Arthrex, to whom we supply a broad range of sports
medicine products, and Orthovita, to whom we supply bone healing and repair
products for use in repair of the spine, osteoporotic fractures and trauma
injuries. We also supply biomaterials products to multiple other leading
orthopaedic companies.

We continue to independently develop new proprietary products, to pursue other
strategic partnerships in multiple fields of use including orthopaedics,
cardiology, wound repair, aesthetics and drug delivery, among others. We also
continue to work with both leading and emerging companies to commercialize
biomaterials-based technology to maximize our return on our increased investment
in these products. As we continue to increase our investment in the development
of new biomaterials and products, we believe we will be able to increase our
margins on commercialized products using our biomaterials technology.

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The table below details the biomaterials markets in which we participate and the
products that we develop and sell:

BIOMATERIALS MARKETS BIOMATERIALS PRODUCTS PRODUCT STATUS

Orthopaedics:
Sports Medicine Meniscal Repair Tacks Commercial
Anterior Cruciate Ligament Repair Screws Commercial; additional products in
development
Rotator Cuff Repair Screws Commercial
Rotator Cuff Repair Patch Commercial; additional products in
development
Spinal Fixation Absorbable Growth Factor Delivery Commercial
Matrices
Trauma Fixation Bone Void Filler Commercial
Joint Replacement ImproVise(TM) Cement Restrictor Commercial
Cartilage Repair Cartilage Regeneration Development
Cardiology:
Vascular Puncture Closure Absorbable Polymer Anchors and Collagen Commercial
Plugs for Angio-Seal(TM)
Vascular Grafts Vascular Graft Coatings Commercial, international only
Vascular Graft Development
Wound Care:
Wound Dressings Collagen based Wound Dressings Commercial
Periodontal:
Periodontal Drilac(R) Commercial
Periodontal Epi-Guide(R) Commercial

Product status definitions:
Commercial -- Product approved by the appropriate regulatory agency and/or
available for sale or actively pursuing distribution channel.
Development -- Product in-process which has demonstrated feasibility but has not
been approved for clinical trials or sale.

We have products that are commercially available for sale in the U.S. and
international markets, and products that are in various stages of development,
clinical trials or regulatory review. Additionally, we have biomaterials
research programs, which we believe will provide us with opportunities to expand
our product offerings and strategic alliances. The following are descriptions of
the markets into which our biomaterials products are being placed, as well as
the applications for which our products and technology are currently being used
or have future potential use.

ORTHOPAEDIC PRODUCTS.

Nowhere is the transition to biomaterials based products more evident than in
the orthopaedics market where absorbable biomaterials have reduced healing
times, improved patient outcomes and lessened or eliminated morbidity issues
related to the use of autologous tissue as graft material. While traditional
surgical methodologies continue to be utilized, the trend toward new
biomaterial-based products is driving innovation and growth in the orthopaedic
industry.

Orthopaedic applications of biomaterials include repair, regeneration or
augmentation of musculoskeletal tissues, including bone, cartilage, ligaments,
spinal discs and tendons. Companies in this market often look to third parties
to develop and manufacture their product concepts into marketable products. Our
capabilities and expertise have enabled us to develop relationships with several
major orthopaedic companies, to which we provide our biomaterials products or
compounded materials. The orthopaedic portion of our biomaterials business
represented 61% of our total biomaterials sales for fiscal 2004. Applications in
the orthopaedic market for our biomaterials products include sports medicine,
spinal fixation and trauma fixation. Many of our biomaterials products
manufactured from absorbable materials are designed to replace metallic devices
used in the fixation and repair of musculoskeletal tissues. Use of absorbable
biomaterials eliminates the need for a second surgery, which is frequently
necessary to remove non-absorbable metallic implants like bone rods and pins.
This benefit provides our customers with a cost-effective alternative to
traditional non-absorbable based products.

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SPORTS MEDICINE. Sports medicine is a broad area of healthcare that
includes medical management and treatment of injury in persons engaged in
sports and exercise. Sports injuries, once most commonly associated with
professional athletes, are becoming commonplace in our increasingly active
population. This trend is driving the discovery of new products and
technologies to address this fast growing market.

SOFT TISSUE FIXATION. The primary application for our biomaterials in
the sports medicine segment is soft tissue fixation. Soft tissue
fixation includes the repair of tendons and ligaments in the knee, such
as the anterior cruciate ligament and the meniscus, and in the shoulder,
such as the rotator cuff. We manufacture products for all of these
applications.

TRAUMA FIXATION. Trauma fixation devices are used to repair broken bones
using nails, screws, plates, pins and bone growth stimulation
techniques. We currently manufacture trauma screws for orthopaedic
repair.

CARTILAGE REGENERATION. Articular cartilage covers the opposing surfaces
of all moving joints in the body. Significant debilitation can result
from even minor injury to articular cartilage. U.S. physicians perform
over 500,000 procedures each year to repair damaged cartilage in the
knee. A majority of these are repeat procedures, illustrating the
ineffectiveness of current therapeutic approaches. Over time,
debilitating osteoarthritis may develop in the afflicted joint,
ultimately requiring knee replacement or other invasive treatment.

The healing and growth properties of absorbable biomaterials make them
ideal for use as the foundation for cartilage regeneration, as they are
bioabsorbable at controlled rates for specific tissues. We are
researching the use of our porous tissue matrix technology for articular
cartilage regeneration. We commenced this research under a grant from
the National Institute of Standards and Technologies (NIST) under which
we performed two large animal studies. Initial results from both of
these studies were promising. Based on these results, we have sponsored
a third animal study, which began in June 2003 with expected results by
late calendar 2004.

Sports medicine products represented 50% of our total biomaterials product
sales in fiscal 2004.

SPINE. The application of biomaterials is an increasingly important aspect
of the spinal surgery market. Major companies have introduced growth
factors delivered via biomaterials matrices into the market, a trend that
is garnering significant attention. In addition, bone void fillers and
alternatives to autografts (bone harvested from cadavers) are increasingly
being used in conjunction with metal cages in spinal fusion procedures, as
well as to fill the voids left by bone harvest procedures.

In March 2003, we entered an agreement with Orthovita to commercialize new
products based on Orthovita's proprietary VITOSS bone graft substitute
material in combination with our proprietary biomaterials. The new products
build upon the VITOSS technology, a resorbable porous calcium phosphate
scaffold that allows for resorption, cell seeding and rapid in-growth of
host bone. The products are directed toward the spinal surgery market,
which we believe to be the fastest growing market in orthopaedics,
estimated at $1.2 billion on a worldwide basis. Under the agreement, we
manufacture the products and Orthovita markets and sells the products
worldwide. The first products under this agreement, VITOSS Scaffold FOAM
strips and cylinders, which are synthetic bone substitutes, were launched
in March of 2004. VITOSS Scaffold FOAM FLOW, a flowable version of the
strips and cylinders, was launched in July of 2004.

Spine products represented 11% of total biomaterials product sales in
fiscal 2004.

BONE. Next to blood, bone is the most commonly transplanted tissue in
humans. It is estimated that more than 500,000 bone-grafting procedures are
performed annually in the U.S. Surgeons today have few choices for
materials used in bone grafting. Therefore, the need for an improved
alternative to currently available materials remains an important issue in
orthopaedic and maxillofacial surgery.

We are developing several different bone graft substitutes fabricated from
collagen, synthetic polymers or composite biomaterials. We also manufacture
for a strategic partner a resorbable growth factor delivery matrix that is
commercially available outside the U.S. Extensive pre-clinical study of our
synthetic

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polymer bone graft substitute has shown it to be an excellent carrier of
biologically active agents as well as a suitable substrate for bone
formation and healing.

CARDIOLOGY PRODUCTS.

Our biomaterials are used in vascular puncture closure products and coatings for
synthetic vascular grafts. These cardiology products represented 36% of our
total biomaterials sales in fiscal 2004. In addition, we have examined the
feasibility of an absorbable polymer matrix to deliver angiogenic growth factors
to promote the growth of new blood vessels for use in myocardial
revascularization procedures and are exploring the use of our biomaterials in an
arterial stent. Lastly, we are developing a synthetic vascular graft utilizing
our PTM technology.

VASCULAR. Medical options for resolving arterial blockage include vessel
replacement or bypass surgery to divert blood flow around an obstruction.
Over 1.7 million surgical procedures are performed annually worldwide that
employ some type of arterial graft; nearly 900,000 of them require grafts
of a very small diameter. Vein grafts or mammary arteries, taken from the
patient's leg or chest, respectively, are the only reliable choice
available for those small diameter-grafting procedures. Although the
standard of care today, these grafts have significant issues related to
availability, performance, trauma and expense.

Recognizing this significant medical need, we are developing a synthetic
technology that incorporates multiple biomaterials into an "off-the-shelf"
implantable graft. In fiscal 2002, we received a three-year, $1.9 million
award from the Advanced Technology Program (ATP) of NIST to support
development of this technology. Pre-clinical studies are currently being
conducted to assess the capabilities of the graft in a surgical setting.

DRUG/BIOLOGICS DELIVERY PRODUCTS.

Biomaterials are particularly useful for the controlled release of drugs and
other biologically active agents such as growth factors. In these applications,
the drug is deposited or incorporated into a biomaterials delivery matrix. As
the matrix dissolves or is degraded by the body, the drug is gradually released.
The use of a biomaterials matrix for drug delivery permits a locally targeted,
low-dose release profile, improving the delivery of the drug. The PTM technology
provides benefits that traditional biomaterials do not offer, as the porosity of
the material provides additional release capabilities. Utilizing our PTM
technology, we are researching sustained or controlled release of
chemotherapeutic drugs for the treatment of breast cancer. We began this
research under a National Institute of Health (NIH) grant received in fiscal
2003.

WOUND CARE PRODUCTS.

While the wound care market is currently dominated by conventional bandages and
dressings and surgical staples or sutures, there is a new generation of products
resulting from recent advances in biomaterials, tissue engineering and
biotechnology. Our biomaterials are used in topical wound dressing products,
which accounted for less than 1% of our total biomaterials sales for fiscal
2004.

PERIODONTAL PRODUCTS.

Biomaterials are commonly used in the periodontal segment of the dentistry
market. We have two commercialized products in the periodontal field, the
Drilac(R) product, which prevents dry socket following tooth extraction, and the
Epi-Guide(R) barrier membrane, used in periodontal restorative procedures to
prevent soft tissue cells from growing into space reserved for bone. These two
products accounted for approximately 1% of our total biomaterials sales in
fiscal 2004.

OUR STRATEGY FOR GROWTH OF OUR BIOMATERIALS BUSINESS.

We intend to utilize our experience and expertise in the design, development and
processing of the above materials to expand our market penetration in
biomaterials products and technology. Our strategy to accomplish this expansion
is as follows:

- DEVELOP NEW PROPRIETARY BIOMATERIALS PRODUCTS. We continue to leverage
our technology and expertise in polymers, collagen and other absorbable
and nonabsorbable materials to develop new proprietary biomaterials
products. We are using this expertise to develop new biomaterials
products, new
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formulations and applications of existing materials and products. We are
seeking regulatory approval for our proprietary PTM technology-based
product with application in the orthopaedics market. We are in the final
phases of researching a cartilage regeneration product and are
researching a vascular graft application, both of which utilize our PTM
technology.

- EXPAND OUR EXISTING BIOMATERIALS BUSINESS. We intend to aggressively
expand our existing biomaterials business by increasing sales to our
current customers and attracting new customers by providing proprietary,
technologically superior biomaterials products. We offer a complete range
of services including design, development, regulatory consulting,
manufacturing and package engineering. We intend to continue to invest in
new manufacturing technology and processes to meet our customers'
requirements, support product launches and increase the demand for our
biomaterials products. Additionally, we intend to expand our marketing
efforts to broaden our customer base in the orthopaedic, cardiology,
drug/biologics delivery, periodontal, general surgery and wound care
markets.

- PURSUE STRATEGIC ACQUISITIONS AND ALLIANCES. We intend to continue to
seek strategic acquisitions and alliances which add complementary
technologies and expertise, broaden our intellectual property portfolio
and strengthen our competitive position in our biomaterials business. We
believe that our expertise in biomaterials allows us to identify and
attract these opportunities.

THE TRIACTIV(R) BALLOON PROTECTED FLUSH EXTRACTION SYSTEM -- A DISTAL EMBOLIC
PROTECTION DEVICE

EMBOLIC PROTECTION -- MARKET OVERVIEW

Embolic protection systems are designed to provide protection during the
treatment of diseased vessels (arteries or veins) in the human body. Vessels
become diseased when deposits of cholesterol and other fatty materials (plaque)
on the walls of the vessels cause narrowing or blockage of the vessel and reduce
the blood supply to a vital organ. Embolic protection systems are designed to
capture debris dislodged from the wall of a vessel during balloon angioplasty or
the placement of a stent. This debris, left uncaptured, might otherwise be
released into the vascular system and result in complications such as a heart
attack or stroke. Current approaches to embolic protection include distal
balloons and filters. The balloon or filter is placed distal (on the far side)
to the area of the vessel to be treated to capture debris loosened during the
procedure. Existing worldwide commercial applications for embolic protection
devices include the treatment of diseased saphenous vein grafts (SVGs) and
carotid and peripheral arteries. These protection devices have been clinically
proven to reduce complication rates associated with device-based treatment of
diseased vessels. Applications are under clinical investigation for the
treatment of diseased native coronary arteries, the removal of thrombus and
acute myocardial infarction (AMI) (a heart attack). The initial indication for
our TriActiv is the treatment of diseased SVGs. The TriActiv is currently
commercially available in Europe. We submitted an application to the FDA for
commercial approval of the TriActiv in the U.S. in July 2004.

SAPHENOUS VEIN GRAFT MARKET

There are approximately 550,000 coronary bypass surgeries performed
annually worldwide and approximately half of all these bypass grafts become
diseased or occluded within ten years of surgery, resulting in a pipeline
of patients who will eventually require treatment of one or more diseased
grafts. During many coronary bypass procedures, the saphenous vein is
removed from the patient's leg and is surgically implanted to bypass a
diseased or occluded native coronary artery. The SVG is used as a
replacement for the diseased or occluded native coronary artery to restore
blood flow. Current treatment options for diseased SVGs include drug
therapy, device-based therapies (including angioplasty and the placement of
stents) or repeat bypass surgery. There are significant risks involved with
these treatments ranging from continued progression of disease, heart
attack and possible death. Specifically, during the treatment of diseased
SVGs via device-based therapy, the rate of major complication (known as the
MACE (major adverse cardiac event) rate) without embolic protection is
approximately 15 to 20%. These complications occur primarily because the
material clogging the SVG is dislodged during the treatment and released
into the vasculature causing clots or heart attack. Embolic protection is a
method of preventing this debris from going downstream during device-based
therapy procedures. Current devices in the SVG embolic protection market,
which have been clinically proven to reduce the complication rates during
device-based therapy, include balloon and filter-based therapies.
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CAROTID ARTERY MARKET

Each year, there are over 200,000 surgical endarterectomies performed
worldwide to treat carotid artery disease. An endarterectomy is an open
invasive surgical procedure performed to remove debris from the carotid
artery. It is also known that a significantly larger number of patients are
affected by carotid artery disease, with many going untreated due to the
invasiveness of the surgical procedure. With the advent of carotid stenting
in combination with embolic protection devices continuing to show promising
results, it is believed that carotid stenting with embolic protection could
become the standard of care for the treatment of carotid artery disease.

NATIVE CORONARY ARTERIES AND AMI MARKETS

Distal embolization of plaque is increasingly recognized as a contributor
to complication rates in common percutaneous coronary intervention (PCI)
and stent placement procedures. This seems to be particularly apparent in
AMI or heart attack patients where a significant amount of blood clot or
thrombus is often present. If the thrombus embolizes, it generally leads to
adverse short-term and/or long-term outcomes for the patients. Embolic
protection and thrombus removal devices have been studied as tools for
lowering complication rates in these patients but have not yet proven
clinical benefit.

THE TRIACTIV(R) SYSTEM

We have designed the TriActiv System, a balloon based embolic protection
therapy, to provide distal embolic protection during the treatment of diseased
arteries or vessels. In addition to the balloon protection, the TriActiv System
utilizes active flushing and extraction to remove debris from the vessel after a
treatment procedure. The initial application for the TriActiv System is the
treatment of diseased SVGs. Clinical data from our pilot study in Europe
demonstrated that the use of the TriActiv System reduces the MACE rate to 6.9%
for patients treated within the clinical protocol. Documented studies have shown
that MACE rates in non-protected SVG procedures are approximately 15 to 20%. We
completed our U.S. randomized clinical study for the TriActiv System in March of
2004 and submitted to the FDA for commercial approval in July 2004. The clinical
data from this trial will be presented for the first time at the Transcatheter
Cardiovascular Therapeutic conference in Washington D.C. on September 28, 2004.

We believe the TriActiv System is currently the only device, in clinical trials
or commercially available, which offers all three of the following features:

- an embolic protection balloon placed beyond the occlusion to prevent
debris from flowing downstream and potentially causing a heart attack;

- a flush catheter advanced over a guidewire that delivers fluid to the
vessel; and

- an active, controlled extraction system which removes the debris.

To operate the TriActiv System, a guiding catheter is positioned at the entrance
to the graft. The guidewire, containing the embolic protection balloon, is
advanced through the SVG beyond the occlusion. The embolic protection balloon is
inflated and a stent is placed in the vessel at the occlusion. Following stent
placement, saline and contrast media are delivered into the graft from the flush
catheter to dislodge the occlusive material. The particles and debris that are
dislodged by the flush system are extracted through the lumen of the guiding
catheter.

We received CE Mark approval for the TriActiv System in January 2002. The CE
Mark is an international symbol of adherence to quality assurance standards
established by the European Union and compliance with applicable European
medical device directives. The European commercial launch of the device occurred
in May 2002 and we shipped our first product in June 2002. Our subsidiary in
Germany, Kensey Nash Europe GmbH, consists of eight employees and is responsible
for the sales and marketing of the TriActiv System in Europe This team sells the
product directly to the German market and supports our distributor relationships
in the rest of Europe.

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In March 2004, we completed enrollment in the PRotection during Saphenous Vein
Graft Intervention to Prevent Distal Embolization (PRIDE) Trial in the U.S. The
PRIDE Trial was a randomized, controlled study of 894 patients at 68
investigational sites in the U.S. and 10 sites in Europe. We completed a 510(k)
submission to the FDA for commercial approval of the TriActiv System in July
2004. The FDA grants 510(k) clearance when it determines that a new device is
substantially equivalent to an approved device. If the submission meets the
requirements of the FDA, we would anticipate receiving approval for commercial
sale of the device by December 2004. We are planning a U.S. commercial launch of
the TriActiv System in our third fiscal quarter of fiscal 2004 and will execute
such launch and the continued sales and marketing of the device with a direct
sales force.

FUTURE GENERATIONS OF THE TRIACTIV SYSTEM

We have modified the design of the TriActiv System to improve the ease-of-use
for SVG applications as well as to address additional applications where distal
embolization is a concern. These additional applications include the treatment
of carotid, native coronary and peripheral, AMI, arteries, as well as thrombus
removal. Testing of these additional designs is expected to occur during fiscal
2005 and 2006.

The second generation SVG application device, TriActiv FX has been designed to
improve the ease-of-use of the original device. We received CE Mark approval for
TriActiv FX in December 2003. Adding additional features to enhance ease-of-use
and system performance, we have redesigned the TriActiv FX system to incorporate
"local flush and extraction" (the TriActiv LFX). We anticipate starting a U.S.
clinical registry with the TriActiv LFX during our third quarter of fiscal 2005,
with completion anticipated within nine months.

We completed a six patient pilot study, the TRACER study, on the carotid artery
application of the TriActiv System in September 2003. This study was completed
at one clinical site in Costa Rica. The TriActiv carotid application device was
successfully used to provide protection from potential stroke-causing emboli by
actively removing debris during carotid stenting procedures. We plan to begin
enrollment in a CE Mark study for the TriActiv carotid application during fiscal
2005.

THE ANGIO-SEAL(TM) DEVICE

VASCULAR PUNCTURE CLOSURE -- MARKET OVERVIEW

Vascular puncture closure is the closing and sealing of femoral artery punctures
made during cardiovascular catheterizations. Current treatment options include
manual pressure and device based therapy. Existing device-based treatment
options consist of either biomaterial-based devices or suture-based devices.
Leading cardiology industry journals currently estimate that there are
approximately 7.0 million cardiovascular catheterization procedures performed
annually, which translates to a potential worldwide vascular puncture closure
market of approximately $1 billion annually. The U.S. market represents
approximately 70-75% of this total market opportunity. Industry estimates of
current market penetration for vascular puncture closure devices are
approximately 44% and 33%, for the U.S. and the international markets,
respectively, or 43% worldwide.

THE ANGIO-SEAL SYSTEM

The Angio-Seal puncture closure device is a biomaterial-based device, which acts
to close and seal femoral artery punctures made during diagnostic and
therapeutic cardiovascular catheterizations. The device consists of four
components:

- an absorbable polymer anchor seated securely against the inside surface
of a patient's artery at the point of puncture;

- an absorbable collagen plug applied adjacent to the outside of the artery
wall;

- an absorbable suture; and

- a delivery system consisting of an insertion sheath, puncture locator,
guidewire and tamper tube.
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The anchor and suture act as a pulley to position the collagen into the puncture
tract adjacent to the outside of the artery wall to seal and close the puncture.
A tamper tube is used to further position and secure the closure device. The
anchor, collagen and suture are all designed to be absorbed into the patient's
body within 60 to 90 days after the procedure. We believe that this mechanical
(anchor and collagen) and biochemical (collagen) approach offer physicians a
method for sealing and closing punctures with significant advantages over
traditional manual or mechanical compression methods, as well as over other
competitive products. The Angio-Seal product has been proven to have several
advantages over traditional manual or mechanical compression procedures,
including: reduced time to ambulation and hemostasis, reduced staffing and
hospital time, possible reduction in procedure costs, increased patient comfort,
greater flexibility in post-procedure blood thinning therapy and increased blood
flow to the leg.

The Angio-Seal device is manufactured, marketed, sold and distributed by St.
Jude Medical, Inc. (St. Jude Medical). We receive a royalty of 6% on every unit
sold. Angio-Seal royalty income was $20.9 million in fiscal 2004, a 28% increase
over fiscal 2003 of $16.3 million. In addition, we manufacture components for
the Angio-Seal device. We believe the impact of continued sales and marketing
efforts by St. Jude Medical, along with product enhancements planned by St. Jude
Medical, will provide continued growth opportunities.

With the launch of the latest generations of the Angio-Seal product line, the
Self Tightening Suture (STS) and STS Plus platforms in March 2002 and September
2003, respectively, the Angio-Seal device has become the leading product in the
worldwide vascular puncture closure market. The Angio-Seal has been sold in
Europe since 1995, in the U.S. since 1996 and was launched in Japan in late
2003. There have been approximately 4.3 million Angio-Seal devices sold as of
June 30, 2004. Industry estimates show the Angio-Seal worldwide market share of
the worldwide vascular puncture closure market at June 30, 2004 was
approximately 60%, compared to approximately 55% at June 30, 2003.

PATENTS AND PROPRIETARY RIGHTS

Our intellectual property covers technology in the fields of vascular puncture
closure, blood vessel location, arterial revascularization and embolic
protection systems, drug/biologics delivery, wound care, periodontics,
angiogenesis products and surgical instruments. We protect our technology by,
among other things, filing patent applications for the patentable technologies
that we consider material to our business. Our first U.S. patent for arterial
revascularization was issued in 1986 and for the concept of sealing vascular
punctures was issued in 1988. As of September 3, 2004, we held 99 United States
patents and 83 foreign national patents and had various United States patents
and foreign national patent applications pending.

We also rely heavily on trade secrets and unpatented proprietary know-how which
we seek to protect through non-disclosure agreements with corporations,
institutions and individuals exposed to our proprietary information. As a
condition of employment, we require that all full-time and part-time employees
enter into an invention assignment and non-disclosure agreement. Additionally,
non-compete agreements are being utilized for certain employees who are exposed
to our most sensitive trade secrets.

We have licensed our United States and foreign patents for the Angio-Seal device
to St. Jude Medical and are required to license all improvements for the device
to St. Jude Medical. The license agreements with St. Jude Medical are exclusive
and worldwide, with rights to make, use and sell the Angio-Seal device, but are
limited to the cardiovascular field of use only.

We intend to continue to aggressively protect new manufacturing processes,
biomaterials products and technologies and medical products and devices which we
have invented or developed. We intend to broaden the scope of our intellectual
property and consider our core technologies to be critical to our future product
development.

MANUFACTURING

We have developed unique manufacturing and processing capabilities for
absorbable collagen and polymers. We manufacture numerous absorbable
biomaterials products for use in applications including orthopaedics,
cardiology, drug/biologics delivery, periodontal, general surgery and urology,
and wound care. We have also

12

established manufacturing processes and capabilities for the TriActiv, which we
currently manufacture for the European markets and for ongoing clinical trials.
We believe these processes and our facilities are adequate to take us through
commercial launch of the TriActiv in the U.S. during fiscal 2005. We have our
own capabilities in tool and die making, injection molding, extrusion,
compounding, machining, model making and laser welding, which allow us to
engineer our products in development on site.

We currently manufacture two of the major absorbable components of the
Angio-Seal, the collagen plug and polymer anchor, for St. Jude Medical. Our
sales of the collagen plug component continue to increase in line with St. Jude
Medical's overall growth in Angio-Seal end user sales. However, as expected, St.
Jude Medical began manufacturing the anchor component during fiscal 2004. We
anticipate we will continue to be a secondary source of anchor requirements
during fiscal 2005. We continue to supply St. Jude Medical with collagen
requirements for the Angio-Seal under a formal collagen supply agreement with
St. Jude Medical, which expires in November 2005.

Our FDA-registered manufacturing facility in Exton, Pennsylvania contains
separate areas for the TriActiv and absorbable collagen and polymer
manufacturing. While we believe our facility is currently adequate to handle
ours as well as our customers' product volumes, we have begun the construction
of a new facility to facilitate future growth of all product lines (see
discussion of our new facility in Item 2 below). Our manufacturing facility is
equipped with multiple ISO class seven (7) clean room facilities and is
certified to three international quality standards: ISO 13485, ISO 9001 and EN
46001. Certification is based on adherence to established standards of design,
service, quality assurance and manufacturing process control. Our manufacturing
facility is subject to regulatory requirements and periodic inspection by
regulatory authorities. We have a separate in-house quality assurance department
that sets standards, monitors production, creates and reviews operating
procedures and protocols and performs final testing of sample devices and
products manufactured by or for us.

We purchase most raw materials, parts and peripheral components used in our
products. Although many of these supplies are off-the-shelf items readily
available from several supply sources, others are custom-made to meet our
specifications. We maintain safety stock levels of these custom materials to
prevent any product downtime in the case of supply interruption. In addition, we
believe that, in most of these cases, alternative sources of supply for
custom-made materials are available or could be developed within a reasonable
period of time.

RESEARCH AND DEVELOPMENT

Our research and development and regulatory and clinical staff consisted of 89
individuals at September 3, 2004. Our research and development efforts are
focused on the continued development of the TriActiv and of our biomaterials
capabilities. We incurred total research and development expenses of $16.4
million, $14.5 million, and $10.8 million in fiscal 2004, 2003 and 2002,
respectively.

In addition to the resources dedicated to the product development process, we
have an internal regulatory affairs and clinical management staff responsible
for managing our clinical trials and obtaining regulatory approvals for the
TriActiv. Our staff also works closely with several of our customers to obtain
regulatory approvals for their products in the U.S., the European Union and
several other countries.

OUR RELATIONSHIP WITH ST. JUDE MEDICAL

The Angio-Seal is licensed to St. Jude Medical, which manufactures, markets and
sells the Angio-Seal worldwide. Under our license agreements, St. Jude Medical
has exclusive rights to manufacture, market and distribute all versions of the
patented Angio-Seal for hemostatic puncture closure for cardiovascular use
worldwide. We retain the rights to use this technology for other applications.
We earn a royalty on each Angio-Seal sold by St. Jude Medical. The royalty rate
is based on cumulative volume of Angio-Seal units sold. Our royalty rate was 12%
until October 2000, when it decreased to 9%, based on Angio-Seal unit sales
reaching a cumulative total of one million units sold. The final decrease in
royalty rate, to 6%, occurred in April 2004, when four million cumulative units
were sold.

13

The term of the license agreements extends to the expiration date of the most
recently issued licensed patent, including all continuations or supplements. The
most recent patent for the Angio-Seal technology was issued in July 2000. St.
Jude Medical may terminate the license agreements at any time after the end of
the fifth royalty year, which ended September 30, 2001, for any reason upon 12
months notice. Upon termination, all rights, including sales, marketing,
manufacturing and distribution would become the exclusive property of Kensey
Nash. The Angio-Seal trademark would be retained by St. Jude Medical.

If a license under any third-party patent is necessary to make, use or sell the
Angio-Seal product licensed to St. Jude Medical, any payments and royalties for
such third-party license and any related attorney's fees, will be deducted from
payments due to us, on a territory-by-territory basis, in an amount not to
exceed in any one year one-half of any royalties in any such territory for that
year.

SALES AND MARKETING

THE TRIACTIV SYSTEM

In January 2002, we established Kensey Nash Europe GmbH in Eschborn, Germany for
the purpose of selling and marketing the TriActiv System in Europe. The TriActiv
was commercially launched in Europe in the fourth quarter of the fiscal year
ended June 30, 2002 (fiscal 2002). We are selling the system direct to the
market in Germany and through distributors for the rest of Europe. We have
entered into distribution agreements for sales in the United Kingdom, Ireland,
Switzerland, Austria, and Italy and are in the process of identifying
distributors for the rest of Europe. At September 3, 2004 we had eight
individuals on the European sales and marketing team, which includes sales
people and clinical specialists.

In the U.S. we have developed a sales and marketing team, including clinical
specialists, to increase market awareness and prepare for commercial launch. At
September 3, 2004, we had seven individuals on the U.S. team, including a
marketing manager, a sales manager and three clinical specialists. If the FDA
approves the TriActiv System, we plan to market and sell the TriActiv device in
the U.S. through a small, dedicated direct sales force of approximately ten
salespersons. We anticipate hiring those individuals in the second and third
quarters of fiscal 2005.

BIOMATERIALS

Sales and marketing efforts for our biomaterials products are primarily
conducted by our senior management team. Sales are concentrated among a few
customers and partners and our marketing efforts are focused more on the sale of
our technology and expertise than on specific products. When appropriate, we
seek to partner with a sales and marketing organization to commercialize or
advance our proprietary products and technologies.

During fiscal 2003, we entered into an agreement with Orthovita to commercialize
new products using Orthovita's proprietary ultra porous VITOSS bone void filler
material in combination with our proprietary biomaterials in spine applications.
Under the agreement, we are responsible for manufacturing these products and
Orthovita is responsible for worldwide sales and marketing.

COMPETITION

The markets for our current and proposed products are fragmented, intensely
competitive, subject to rapid change and sensitive to new product introductions
and enhancements. We expect that the competitive environment for our products
will become more intense as additional companies enter our markets and as new
techniques and technologies are adopted. Our biomaterials and medical devices
compete directly and indirectly for customers with a range of products and
technologies produced by a wide variety of companies, as well as other processes
and procedures which do not require the use of our products or those of our
competitors. Many of our existing competitors, as well as a number of potential
new competitors, have longer operating histories in these markets, greater name
recognition, larger customer bases and greater financial,

14

technical and marketing resources. Generally, we believe that the principal
competitive factors for our products include:

- the ability to obtain regulatory approvals;

- safety and effectiveness;

- performance and quality;

- ease of use;

- marketing;

- distribution;

- pricing;

- cost effectiveness;

- customer service;

- the development or acquisition of proprietary products and processes;

- the ability to attract and retain skilled personnel;

- improvements to existing technologies;

- reimbursement; and

- compliance with regulations.

Our biomaterials products compete with the products of many of the larger
companies in the industry. In the vascular sealing device market, our products
compete with products sold by Datascope Corporation, Perclose, Inc. (a
subsidiary of Abbott Laboratories) and Vascular Solutions, Inc., amongst other
smaller competitors. While we consider the Angio-Seal and other sealing devices
to be a superior method of vascular sealing, the majority of vascular sealing is
still performed through manual compression, which represents our primary
competition. The TriActiv is currently only commercially available in Europe,
where our competitors include Boston Scientific Corporation, Johnson and
Johnson, Inc., Medtronic, Inc., Abott Laboratories and Guidant Corporation,
among others. If we are successful in commercializing the TriActiv in the U.S.,
we anticipate the competitors will be the same companies against which we are
competing in Europe, as well as others.

CUSTOMERS

In fiscal 2004, we had approximately 26 customers for our biomaterials products,
excluding our periodontal products, which, are sold directly to periodontists
around the country. Two customers each accounted for more than 10% of our total
revenues for the fiscal year. Royalty income from and sales of biomaterials to
St. Jude Medical, associated with the Angio-Seal, represented approximately 58%
of total revenues. Sales of biomaterials products to Arthrex, a distributor of
orthopaedic products, represented approximately 30% of total revenues. Our
TriActiv device is being sold to hospitals throughout Europe either through our
direct sales force or through distributors.

GOVERNMENT REGULATION

Our medical devices are subject to extensive regulation by the U.S. Food and
Drug Administration (FDA) and by foreign governments. The FDA regulates the
clinical testing, design, manufacture, labeling, distribution and promotion of
medical devices. Noncompliance with applicable requirements can result in fines,
injunctions, civil penalties, seizure of products, total or partial suspension
of production, failure to grant pre-market clearance or pre-market approval for
devices, withdrawal of marketing approvals and criminal prosecution. The FDA
also has the authority to recall or request repair, replacement or refund of the
cost of any device we manufacture or distribute.

15

International sales of medical devices are subject to the regulatory agency
product registration requirements of each country in which they are sold. The
regulatory review process varies from country to country. Many countries also
impose product standards, packaging requirements, labeling requirements, price
restraints and import restrictions on devices. Delays in receipt of, or a
failure to receive, approvals or clearances, or the loss of any previously
received approvals or clearances, could have a material adverse effect on our
business, financial condition and results of operations. In addition,
reimbursement coverage must be obtained in some countries.

Generally, our biomaterials products are incorporated by our customers into
another product which receives FDA and other government approvals. We maintain
device master files for some of our biomaterials products containing information
relating to the specifications, manufacturing, biochemical characterization,
biocompatibility and viral safety of our biomaterials products. These files, in
addition to our technical expertise, help our clients in their regulatory
approval process for products incorporating our biomaterials.

In January 2002, we received CE Mark approval from the European regulatory
authority for the TriActiv, which allows commercial sale of the product in the
European Union. In the U.S., both a small pilot study registry and large
randomized pivotal study (PRIDE Study) were conducted to provide safety and
efficacy data for approval of the device. Enrollment in the PRIDE Study occurred
between December 2001 and March 2004. Data from the PRIDE Study was presented to
the FDA in a 510(k) submission for pre-market approval of the device in July
2004. We anticipate approval from the FDA by December 2004, which would allow
the commercial sale of the device in the U.S.

A "next generation" TriActiv, an improved version of the device, is scheduled
for a human clinical trial in the third quarter of fiscal 2005. The data from
the approximately 100 patient study will support U.S. and European approval for
SVG indications. Studies to support the approval of the device in other
indications are also planned to start in fiscal year 2005.

The Angio-Seal product line has received both CE Mark and FDA approval. St. Jude
Medical is responsible for all future FDA pre-market approval application
supplements for the Angio-Seal.

When human clinical trials of a device are required in connection with our new
proprietary products and the device presents a significant risk, we must file an
investigational device exemption (IDE) application with the FDA in order to
commence human clinical trials. The IDE application must be supported by data,
typically including the results of animal and laboratory testing. If the IDE
application is approved, human clinical trials may begin at a specific number of
investigational sites with a specific number of patients, as approved by the
FDA. The conduct of human clinical trials is also subject to regulation by the
FDA. Sponsors of clinical trials are permitted to sell those devices distributed
during the course of the trial provided such compensation does not exceed
recovery of the costs of manufacture, research, development and handling.
Similar approvals are required to conduct clinical trials in foreign countries.

Any products we manufacture or distribute pursuant to FDA clearance or approvals
are subject to pervasive and continuing regulation by the FDA, including
recordkeeping requirements and reporting of adverse experiences with the use of
the device. As a device manufacturer, we are required to register our
manufacturing facility with the FDA and list our devices with the FDA, and are
subject to periodic inspections by the FDA and certain state agencies. The
Federal Food, Drug, and Cosmetic Act requires devices to be manufactured in
accordance with Quality System regulations which impose certain procedural and
documentation requirements with respect to manufacturing and quality assurance
activities. Labeling and promotional activities are subject to scrutiny by the
FDA and, in certain instances, by the Federal Trade Commission. The FDA actively
enforces regulations prohibiting marketing of products for unapproved uses.

Manufacturers are also subject to numerous federal, state and local laws
relating to such matters as safe working conditions, manufacturing practices,
environmental protection, fire hazard control and disposal of hazardous or
potentially hazardous substances. We may be required to incur significant costs
to comply with such laws and regulations in the future and any failure to comply
with such laws or regulations could have a material adverse effect upon our
ability to do business.

16

EMPLOYEES

As of September 3, 2004, we had 294 employees, including 162 employees in
operations, 89 employees in research and development and clinical and regulatory
affairs, 28 employees in finance and administration and 15 employees in sales
and marketing, including eight employees in Europe. All of our U.S. employees
are located at our facilities in Exton, Pennsylvania, with the exception of
eight clinical specialists located elsewhere throughout the country. We believe
that our success depends in large part on our ability to attract and retain
employees in all areas of our business.

CORPORATE GOVERNANCE AND INTERNET ADDRESS

We recognize that good corporate governance is an important means of protecting
the interests of our stockholders, employees, customers, and the community. We
have closely monitored and implemented relevant legislative and regulatory
corporate governance reforms, including provisions of the Sarbanes-Oxley Act of
2002 (Sarbanes-Oxley), the rules of the Securities and Exchange Commission (SEC)
interpreting and implementing Sarbanes-Oxley, and the corporate governance
listing standards of the NASDAQ National Market (Nasdaq).

Our corporate governance information and materials, including our Code of
Business Conduct and Ethics, are posted on the corporate governance section of
our website at www.kenseynash.com and are available in print upon request to our
Investor Relations department at our offices in Exton, Pennsylvania. Our Board
will regularly review corporate governance developments and modify these
materials and practices as warranted.

Our website also provides information on how to contact us and other items of
interest to investors. We make available on our website, free of charge, our
annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on
Form 8-K and all amendments to these reports, as soon as practical after we file
these reports with the SEC.

ITEM 2. PROPERTIES

We lease approximately 68,000 square feet of executive offices, manufacturing
and research and development facilities in Exton, Pennsylvania, a suburb of
Philadelphia. This lease expires in fiscal 2006, subject to additional renewal
options. We also recently leased approximately 11,500 square feet of additional
office space in Exton, Pennsylvania for which our lease expires at the earlier
of three years (September 2007) or the completion of our new facility described
below. In addition, we lease a 10,000 square foot warehouse in Exton,
Pennsylvania, where our lease will expire in December 2005 and a small office
space in Eschborn, Germany.

We do not believe our existing facility will support full-scale manufacturing of
the TriActiv device for both Europe and the U.S. or future growth of our
biomaterials product sales. For these reasons, we entered into an agreement for
the purchase of land and construction of a new facility. The new facility will
also be in Exton, Pennsylvania. The first phase of our construction plan, which
began in July 2004, will include the construction of a 162,000 square foot shell
and 90,000 square feet of fit-out which will house all of our manufacturing and
quality assurance operations. Completion of this phase is scheduled for our
second quarter of fiscal 2006. See the discussion of our new facility in Item 7.
Management's Discussion and Analysis of Financial Conditions and Results of
Operations, "Liquidity and Capital Resources". Prior to the completion of our
new facility, we do not anticipate any significant difficulty in obtaining
additional or alternate space or renewing our leases for additional terms, at
reasonable rates, in the event we need additional space or upon the expiration,
cancellation or termination of any of our existing leases.

ITEM 3. LEGAL PROCEEDINGS

From time to time, in the normal course of business, we are a party to various
legal proceedings. We do not expect that any currently pending proceedings will
have a material adverse effect on our business, results of operations or
financial condition.

17

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

The Company held a Special Meeting of Stockholders on June 28, 2004. At the
meeting, the Company's stockholders voted to approve the Fourth Amended and
Restated Kensey Nash Corporation Employee Incentive Compensation. The following
summarizes the voting results for such action:

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PART II

ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS

Our common stock is listed on the Nasdaq National Market under the symbol "KNSY"
and has been traded publicly since our initial public offering in December 1995.
The following table sets forth the high and low closing sale prices per share of
our common stock as reported by the Nasdaq National Market for the periods
indicated.

On September 3, 2004, the last reported sale price of our common stock in the
Nasdaq National Market was $28.11 per share. As of September 3, 2004, there were
49 record owners of our Common Stock. There were also approximately 8,500
beneficial owners of the shares of our common stock at that date.

We have not declared or paid cash dividends and do not anticipate declaring or
paying any dividends on our common stock in the near future. Any future
determination as to the declaration and payment of dividends will be at the
discretion of our board of directors and will depend on the then existing
conditions, including our financial conditions, results of operations,
contractual restrictions, capital requirements, business prospects and other
relevant factors.

In October 2003, we announced a plan to repurchase 400,000 shares of our common
stock and, during the repurchase period that expired in April 2004, repurchased
141,500 shares. On August 17, 2004, we announced the reinstatement of our stock
repurchase plan. The reinstated plan calls for the repurchase of up to 259,500
shares, the balance under the original plan.

ITEM 6. SELECTED FINANCIAL DATA

The following table sets forth selected consolidated statement of operations and
consolidated balance sheet data for the fiscal years ended June 30, 2004, 2003,
2002, 2001, and 2000. The selected financial data for each such fiscal year
listed below has been derived from our consolidated financial statements for
those years, which have been audited by Deloitte & Touche LLP, independent
certified public accountants, whose report for fiscal years 2004, 2003 and 2002
is included elsewhere herein. The following data for fiscal years 2004, 2003,
and 2002 should be read in conjunction with "Management's Discussion and
Analysis of Financial Condition

19

and Results of Operations" and with our consolidated financial statements and
the related notes and other financial information included herein.

20

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

The following discussion and analysis should be read in conjunction with
"Selected Consolidated Financial Data" and our financial statements and the
related notes included in this report.

This discussion and analysis below contains forward-looking statements relating
to future events or our future financial performance. These statements are only
predictions and actual events or results may differ materially. In evaluating
such statements, you should carefully consider the various factors identified in
this report which could cause actual results to differ materially from those
expressed in, or implied by, any forward-looking statements, including those set
forth in "Risk Factors" in this Annual Report on Form 10-K. See
"-- Forward-Looking Statements."

OVERVIEW

REVENUES

Our revenues consist of three components: net sales, research and development
revenue and royalty income.

Net Sales. Net sales is comprised of sales of biomaterials products and the
TriActiv device.

Biomaterials. In the year of our IPO, fiscal 1996, our biomaterials sales
were comprised entirely of the absorbable collagen and polymer components
of the Angio-Seal supplied to our strategic alliance partner. Since that
time, we have experienced significant sales growth in our biomaterials
products as we have expanded our customer base and marketing activities,
increased sales to existing customers and assisted in the development of
new product offerings.

The biomaterials component of net sales, which comprises 99% of total net
sales, represents the sale of our biomaterials products to customers for
use in the following markets: orthopaedics (sports medicine and spine),
cardiology, drug/biologics delivery, periodontal, general surgery and wound
care. The two most significant components of our biomaterials sales are our
orthopaedic product sales and the absorbable components of the Angio-Seal,
supplied to St. Jude Medical. Our orthopaedic product sales to date have
consisted primarily of sales to Arthrex, a privately held orthopaedics
company for which we manufacture a wide array of sports medicine products.
During fiscal 2004, we sold our first bone grafting and spine products to
Orthovita, a publicly held orthopaedic biomaterials company. In the next
fiscal year and beyond, we anticipate our sales of these products and new
products to Orthovita, to become a more significant portion of our total
biomaterials sales. Below is a table showing the trends in our Angio-Seal
and orthopaedic sales fiscal 2003 to fiscal 2004 as a percentage of our
total biomaterials sales:

The decline in the Angio-Seal components as a percentage of total
biomaterials sales is related to the on-going transition of the manufacture
of the absorbable polymer anchor from us to St. Jude Medical offset in part
by increases in sales of the collagen component related to increased sales
volume of the Angio-Seal device. Based on discussions with St. Jude
Medical, we believe their current plans are that we will remain a supplier
of approximately 15% of the future anchor requirements for the Angio-Seal.
We are to continue to supply a minimum of 50% of the collagen component for
the device under a three year contract with St. Jude Medical, which
currently expires in December 2005.

The increase in our orthopaedic products sales as a percentage of total
biomaterials sales is primarily related to the growth of sales to Arthrex,
which represented 48% of total biomaterials sales for fiscal 2004. In
addition, in our third fiscal quarter 2004, we shipped our first commercial
products to Orthovita. These sales represented approximately 8% of our
total biomaterials sales for fiscal 2004.

21

We expect the growth in our overall biomaterials sales to continue because
of greater acceptance by the medical community of biomaterials and
technological advances which have expanded the applications for our
biomaterials products. Biomaterials sales growth was 35% in fiscal 2004
over fiscal 2003. Due to this greater acceptance, we have been able to
expand our biomaterials customer and product base by initiating new
partnerships within the medical device industry, as well as expanding the
product lines for our current customers.

TriActiv System. The TriActiv device was commercially launched in Europe in
the fourth quarter of fiscal 2002. We are selling directly to the market in
Germany and through distributors throughout the rest of Europe. We
currently have distribution agreements for sales in Ireland, Switzerland,
Austria, Italy, Netherlands and the United Kingdom. We have entered into
two distribution agreements during fiscal 2004, and are in the process of
identifying additional distributors for markets in Europe and Asia. The
TriActiv sales were less than 1% of our total sales for fiscal 2004. We
anticipate the TriActiv System will become a more significant component of
net sales during our fiscal year ending June 30, 2005 and beyond as we gain
new customers in the European markets, introduce new versions and
applications of the product and launch the product in the U.S. market. We
currently anticipate commercial launch of the TriActiv System in the U.S.
in the third quarter of fiscal 2005, subject to U.S. regulatory approval,
via a direct sales force.

We received European Community approval (CE Mark) to market the
second-generation TriActiv device, the TriActiv(R) FX Embolic Protection
System (the TriActiv FX), in November 2003. This second generation device
incorporates several important ease-of-use design enhancements including an
integrated, fully disposable flush and extraction system, a new balloon
inflator that simplifies catheter exchanges during the procedure, and a
monorail flush catheter to enhance device usage and reduce procedure time.
We expect to initiate European marketing of the TriActiv FX in the second
half of fiscal 2005.

Research and Development Revenue. In fiscal 2004, research and development
revenue was derived from a National Institute of Standards and Technology (NIST)
grant and a National Institute of Health (NIH) grant. In November 1999, we
received our first NIST grant. Since that time we have been awarded a second
NIST grant and an NIH grant. Under the first NIST grant, a $1.2 million grant
over a three-year period, we were researching cartilage regeneration utilizing
our porous tissue matrix (PTM) technology. Although we continue to independently
develop this technology, we received all remaining funds under this grant in our
second quarter of fiscal 2003. In October 2001 we received the second NIST
grant, a $1.9 million grant over a three year period, under which we are
researching a synthetic vascular graft, also utilizing our PTM technology. This
project is expected to continue through October 2004. In January 2003, we
received from the NIH, $100,000 over a one-year period, under which we were
researching sustained or controlled release of chemotherapeutic drugs for the
treatment of breast cancer utilizing our PTM technology. Research under this
grant was completed in early fiscal 2004, but we are continuing to independently
develop this drug delivery technology for commercial use and expectations of
future grant applications.

Royalty Income. Our royalty income consists of royalties received from St. Jude
Medical and Orthovita. Royalties from St. Jude Medical are received on every
Angio-Seal unit sold worldwide. We anticipate sales of the Angio-Seal will
continue to grow as St. Jude Medical continues to expand its sales and marketing
efforts, including its recent launch of the Angio-Seal product line in the
Japanese market, and releases future generations of the Angio-Seal system,
including its launch of the Self Tightening Suture (STS) Plus version of the
device in the U.S. and Europe. Our royalty rate as of June 30, 2004 was 6%. The
original rate of 12% was contractually reduced from 12% to 9%, in accordance
with our License Agreements, during the fiscal quarter ended December 31, 2000
when a cumulative one million Angio-Seal units had been sold. There was one
further contracted decrease in the royalty rate, to 6%, upon reaching four
million cumulative units sold. This final rate reduction occurred in April 2004.
We believe continued Angio-Seal unit growth will partially offset this 33%
decline in royalty rate for a net reduction in royalty income in fiscal 2005
from fiscal 2004 of approximately 10-15%. We, therefore, expect that royalty
income from the Angio-Seal will continue to be a significant source of revenue.
As of June 30, 2004 approximately 4.3 million Angio-Seal units had been sold.

22

In March 2003, we entered into an agreement with Orthovita under which we will
develop and commercialize products based on Orthovita's proprietary, ultra
porous VITOSS(TM) bone void filler material in combination with our proprietary
biomaterials. The products will have applications in the bone grafting and
spinal surgery markets. Under the agreement, the products will be co-developed,
we will manufacture the products and Orthovita will market and sell the products
worldwide. Orthovita launched the initial bone grafting and spinal product line,
VITOSS scaffold FOAM strips and cylinders, in the third quarter of fiscal 2004
and the second family of products, VITOSS scaffold FOAM flow in June 2004. Under
the agreement, we receive a royalty on Orthovita's end-user sales of all
co-developed products. We believe the unique technology associated with the
VITOSS FOAM products and the size and strength of the spine market will result
in the Orthovita component of royalty income becoming more significant over the
next several quarters and beyond.

Cost of Products Sold. We have experienced an overall increase in gross margin
during fiscal 2004 reflecting the continued increase in volume of biomaterials
product sales. This increased volume, from both our existing customers and new
customers, has resulted in manufacturing efficiencies. The volume increase also
results in our fixed costs being spread over a greater number of units. We
anticipate the gross margin on our biomaterials products will continue to
improve with continued increased sales volume. We have experienced higher volume
of our sales of biomaterials products and greater manufacturing efficiencies,
which has lowered our unit costs in many of our product lines. However, we also
initiated three new product lines during fiscal 2004, the Orthovita VITOSS FOAM
strips, cylinder and flow products. During the initial phases of production of
these product lines we incurred higher costs due to the learning curve
associated with initiating new products. Our expectations for the gross margin
after maturity of this product line are expected to be in line with our overall
gross margins for the company as a whole. We anticipate the gross margin on our
biomaterials products will continue to improve with expected increases in sales
volume and efficiencies gained in new product lines. These improvements could
potentially be offset by low initial margins on the TriActiv product line in our
first year of U.S. sales. As a result of our expanding product mix, for fiscal
2005, we believe our total gross margin, across all product lines, will be only
slightly improved over fiscal 2004.

Research and Development Expense. Research and development expense consists of
expenses incurred for the development of our proprietary technologies, such as
the TriActiv System, absorbable and nonabsorbable biomaterials products and
technologies and other development programs, including expenses under the NIST
and NIH programs. In December 2001, we began our TriActiv U.S. pivotal clinical
study, the PRIDE study, a randomized trial at up to 80 sites in the U.S and
Europe. We completed enrollment in the PRIDE study during March 2004. We
enrolled a total of 894 patients in the PRIDE study, including roll-in patients,
at 68 sites in the U.S. and 10 sites in Europe. Submission of data from the
trial to the FDA for 510(k) approval occurred in July 2004. If we are granted
approval from the FDA, we will market and sell the device in the U.S. using a
small direct sales team with an anticipated market launch in January 2005. We
also completed a six patient pilot study, the TRACER study, on the carotid
artery application for the TriActiv System in September 2003. This study was
completed at one clinical site in Costa Rica. The TriActiv carotid application
device was successfully used to provide protection from potential stroke-causing
emboli by actively removing debris during carotid stenting procedures. We plan
to begin enrollment in a CE Mark study for the TriActiv carotid application
during fiscal 2005. We also plan to initiate a U.S. registry on a next
generation TriActiv device, the TriActiv LFX, in our third quarter of fiscal
2005. The study is a planned 100 to 120 patient study at 20 sites in the U.S. We
cannot make any assurances as to the successful completion of these trials or
subsequent regulatory approval for the TriActiv System or for future
applications in the U.S. or in Europe.

Clinical efforts in pursuit of FDA approval and continuing development of the
TriActiv System, as well as our continued development of proprietary
biomaterials products and technologies, require significant research and
development expenditures. We anticipate research and development expense will
continue to increase as we pursue commercialization of the TriActiv System in
the U.S., and explore opportunities for other indications related to the
TriActiv System as well as our other technologies, including the continued
development of proprietary biomaterials technologies. While we believe research
and development expense will increase in dollars, we believe that it will
decrease as a percentage of total revenue as our revenue continues to grow.
Research and development expense was 28% of total revenue in fiscal 2004
compared to 33% of total revenue

23

in fiscal 2003. We anticipate research and development will continue to decline
as a percentage of total revenue in fiscal 2005 and beyond.

Selling, General and Administrative. Selling, general and administrative
expense includes general and administrative costs, including activities of our
finance, human resource and business development departments, as well as costs
related to the sales and marketing of our products. The general and
administrative component of selling, general and administrative expense
increased over fiscal 2003. This increase was a result of the overall growth of
our business as well as expenses incurred related to compliance with new SEC and
corporate governance regulations. The sales and marketing component of selling,
general and administrative expenses has also increased over fiscal 2003. This
increase relates to increased sales efforts for the TriActiv System in Europe,
which was commercially launched in May 2002, and the move toward
commercialization of the TriActiv System in the U.S. In January 2002, we
received CE Mark approval from the European regulatory authority for the
TriActiv System, which allows commercial sale of the product in the European
Union. We established a subsidiary in Germany, Kensey Nash Europe GmbH where we
maintain a European sales and marketing team. This team consisted of a Vice
President of European Sales and Marketing, three clinical specialists and four
sales people as of June 30, 2004. We plan to continue to add personnel to this
team when we believe it is required to meet our clinical and sales goals. This
team is selling the product direct in the German market and supports our
distributor relationships in the rest of Europe. We anticipate sales and
marketing expenses will continue to increase as we await U.S. regulatory
approval of the TriActiv System. If approved by the FDA, we will market and sell
the TriActiv System in the U.S. through a small, dedicated direct sales force
initially comprised of approximately ten salespeople. Our initial estimates of
the cost of a direct sales plan would increase selling expense in fiscal 2005 by
$2.5 million to $3.0 million, including personnel and marketing expenses, over
fiscal 2004. We also continue to expand our marketing efforts for our
biomaterials business.

Income Tax Expense. Our effective income tax rate was approximately 28.4% for
fiscal year 2004 compared with 22.5% for the year ended June 30, 2003. In the
prior year our effective tax rate was reduced by a $1.5 million tax credit
related to historic qualified research and development activities of the
Company. Our fiscal 2004 effective income tax rate includes our current year
research and development tax credit. We are forecasting an effective tax rate
for fiscal 2005 of approximately 30%.

CRITICAL ACCOUNTING POLICIES

Our "critical accounting policies" are those that require application of
management's most difficult, subjective or complex judgments, often as a result
of the need to make estimates about matters that are inherently uncertain and
may change in future periods. It is not intended to be a comprehensive list of
all of our significant accounting policies. In many cases, the accounting
treatment of a particular transaction is specifically dictated by generally
accepted accounting principles, with no need for management's judgment in their
application. There are also areas in which the selection of an available
alternative policy would not produce a materially different result. We have
identified the following as our critical accounting policies: revenue
recognition, accounting for stock-based compensation, allowance for doubtful
accounts, inventory valuation and income taxes.

Revenue Recognition. We recognize revenue under the provisions of Staff
Accounting Bulletin (SAB) No. 101, Revenue Recognition in Financial
Statements(SAB 101). Accordingly, sales revenue is recognized when the related
product is shipped. All of our shipments are Free on Board (F.O.B.) shipping
point. Revenue under research and development contracts is recognized as the
related costs are incurred. Royalty revenue is recognized as the related product
is sold. Advance payments received for products or services are recorded as
deferred revenue and are recognized when the product is shipped or services are
performed.

Accounting for Stock-Based Compensation. We account for stock-based compensation
costs under Accounting for Stock-Based Compensation (SFAS No. 123), as amended
by SFAS No. 148 which permits (i) recognition of the fair value of stock-based
awards as an expense, or (ii) continued application of the intrinsic value
method of Accounting Principles Board Opinion No. 25, Accounting for Stock
Issued to

24

Employees (APB 25). We account for our stock-based employee and director
compensation plans under the recognition and measurement principles of APB 25.
Under this intrinsic value method, compensation cost represents the excess, if
any, of the quoted market price of our common stock at the grant date over the
amount the grantee must pay for the stock. Our policy is to grant stock options
at the fair market value at the date of grant. Therefore, we have not recognized
any compensation expense for options granted to employees. We account for
stock-based awards to non-employees using the fair value method in accordance
with SFAS No. 123, which requires using the Black-Scholes option-pricing model
to determine the fair value of the option at the original grant date. Options
granted to non-employees, as defined under SFAS No. 123, (as amended by SFAS No.
148) and Emerging Issues Task Force (EITF) 96-18 Accounting for Equity
Instruments that are Issued to Other Than Employees for Acquiring or in
Conjunction with Selling, Goods or Services, are recorded as an expense over the
service period. We granted options to non-employees, outside consultants, during
fiscal 2003 and fiscal 2004. See Note 9 to the financial statements for
information regarding options granted to non-employees in July 2003 and October
2002.

Allowance for Doubtful Accounts. Our allowance for doubtful accounts is
determined using a combination of factors to ensure that our trade receivables
balances are not overstated due to uncollectibility. We maintain a bad debt
reserve for all customers based on a variety of factors, including the length of
time receivables are past due, trends in overall weighted average risk rating of
the total portfolio, significant one-time events and historical experience with
each customer. Also, we record additional reserves for individual accounts when
we become aware of a customer's inability to meet its financial obligations to
us, such as in the case of bankruptcy filings or deterioration in the customer's
operating results or financial position. If circumstances related to specific
customers change, our estimates of the recoverability of receivables would be
adjusted. We believe our allowance at June 30, 2004 is sufficient to cover all
existing accounts receivable.

Inventory Valuation. Our inventory is stated at the lower of cost or market.
Adjustments to inventory are made at the individual part level for estimated
excess, obsolescence or impaired balances, to reflect inventory at the lower of
cost or market. Factors influencing these adjustments include: changes in
demand, rapid technological changes, product life cycle and development plans,
component cost trends, product pricing, physical deterioration and quality
concerns. Revisions to these adjustments would be required if any of these
factors differ from our estimates.

Income Taxes. Our estimated effective tax rate includes the impact of certain
research and development tax credits. Material changes in, or differences from
our estimates of, these three factors could impact our estimate of our effective
tax rate.

25

RESULTS OF OPERATIONS

COMPARISON OF FISCAL YEARS 2004 AND 2003

The following table summarizes our operating results for the fiscal year ended
June 30, 2004 compared to the fiscal year ended June 30, 2003.

Total Revenue and Net Sales. Total revenues increased 31% to $58.2 million in
fiscal 2004 from $44.4 million in the fiscal 2003. Net sales of products
increased 34% to $36.4 million for fiscal 2004 from $27.1 million for fiscal
2003. The increase in net sales was primarily attributable to increased sales of
our biomaterials products, specifically our orthopaedic products, which
increased 97% in fiscal 2004 over fiscal 2003. Orthopaedic product sales
increased as a result of increased sports medicine product sales to Arthrex, our
largest orthopaedic customer, and the initial sales of a new spine product line
to Orthovita under an agreement entered into in March 2003. Sales to these two
customers increased $7.8 million, or 80%, and $3.0 million, which was entirely
new business, respectively, over fiscal 2003. This increase was partially offset
by a $1.7 million, or 12% decrease in Angio-Seal component sales. The decrease
in Angio-Seal component sales was related to the on-going transition of the
manufacture of the absorbable polymer anchor from us to St. Jude Medical offset
in part by increases in sales of the collagen component related to increased
sales volume of the Angio-Seal device. Based on discussions with St. Jude
Medical, we believe their current plans are for us to remain a supplier of
approximately 15% of the future anchor requirements for the Angio-Seal. We will
continue to supply a minimum of 50% of the collagen component for the device
under a three-year contract with St. Jude Medical, which currently expires in
December 2005. The TriActiv sales represented less than 1% of our total sales in
fiscal 2004 and fiscal 2003.

Research and Development Revenue. Research and development revenues decreased
28% to $688,000 for fiscal 2004 from $963,000 for fiscal 2003. Fiscal 2004
revenues were generated under the NIST synthetic vascular graft development
grant and the NIH breast cancer drug delivery grant. In the prior fiscal year,
revenues were generated under these same two grants in addition to the NIST
articular cartilage grant. The NIH breast cancer drug delivery grant provided
revenue for four of the twelve months of fiscal 2004, as the project concluded
in October 2003. The NIST vascular graft grant provided revenue for the entire
year. The decrease from the prior fiscal year reflects the conclusion of the
NIST articular cartilage grant in October 2002, which provided $193,000 of
revenue in fiscal 2003 and did not provide revenue in fiscal 2004. In addition,
the decrease from the prior year reflected a decrease in reimbursements under
the synthetic vascular graft grant, which generated $634,000 in revenue for
fiscal 2004 compared to $724,000 for fiscal 2003. This decrease was attributable
to the timing of animal studies, which are a significant component of the total
reimbursement under the grant. Specifically, an animal study concluded prior to
the second quarter of fiscal 2004 and another animal study started in late third
fiscal quarter of 2004, in contrast to fiscal 2003 where an animal study was
being conducted throughout the year.

26

The following table summarizes the research and development revenue for the
fiscal year ended June 30, 2004 compared to the fiscal year ended June 30, 2003.

Royalty Income. Royalty income increased 30% to $21.2 million for fiscal 2004
from $16.3 million for fiscal 2003. The increase in royalty income was primarily
due to the increase in Angio-Seal royalties from St. Jude Medical. This increase
occurred despite a 33% decline, from 9% to 6%, in the contracted Angio-Seal
royalty rate in April 2004. Our royalty rate as of June 30, 2004 was 6%. The
original rate of 12% was contractually reduced from 12% to 9%, in accordance
with our License Agreements, during the fiscal quarter ended December 31, 2000
when a cumulative one million Angio-Seal units had been sold. One final
contracted decrease in the royalty rate, to 6%, occurred upon reaching four
million cumulative units sold in April 2004. The increase in royalty income
despite this fourth quarter reduction in royalty rate reflected a greater number
of units sold as well as an increase in the average selling price for the
Angio-Seal. Royalty units increased 38%, as approximately 1.3 million Angio-Seal
units were sold to end-users during fiscal 2004 compared to approximately
967,000 units sold during fiscal 2003. The average worldwide selling price
increased to $188 from $186 in fiscal 2004 and 2003, respectively. We believe
that the increase in units is due to St. Jude Medical's continued sales and
marketing efforts, which are resulting in greater market share and overall
increased adoption of vascular closure devices in the market. St. Jude Medical's
market share is estimated at 60% in fiscal 2004 up from 55% in fiscal 2003 and
worldwide market penetration is estimated at over 40% up from approximately 35%
in fiscal 2004 and 2003, respectively. St. Jude Medical launched the most recent
generation of the Angio-Seal product line, the STS Plus platform in September
2003 (commanding a premium price over the previous version of the device). In
fiscal 2004, royalty income also included a new royalty from Orthovita under the
March 2003 manufacturing, development and supply agreement between our two
companies. This royalty is received on all co-developed VITOSS products of
end-user sales of such products by Orthovita. The first royalty was earned in
the third quarter of fiscal 2004 when Orthovita commercially launched the first
co-developed products. Royalty income from Orthovita was approximately $300,000
for the fiscal year 2004.

Cost of Products Sold. Cost of products sold increased 32% to $16.1 million in
fiscal 2004 from $12.2 million in fiscal 2003 while gross margin increased to
56% from 55% for the same periods. The increase in gross margin reflected the
higher margins on our biomaterials products attributable in part to higher
volumes, which resulted in manufacturing efficiencies, as well as continued
allocation of overhead across greater sales volumes, resulting in a decrease in
per unit costs. The higher margins were slightly offset by lower margins on the
TriActiv device and new biomaterials products, specifically Orthovita. The
TriActiv margins will continue to be lower than our biomaterials product margins
until our manufacturing process matures and volumes increase. Also, we initiated
a new product line during the third fiscal quarter 2004, Orthovita's VITOSS Foam
products. During the initial phases of production of this product line we
incurred higher costs due to the learning curve associated with new products.

Research and Development Expense. Research and development expense increased 13%
to $16.4 million in fiscal 2004 compared to $14.5 million in fiscal 2003. While
research and development expenses continued to increase in dollars, they
decreased as a percentage of total revenue to 28% from 33% for fiscal periods
ended June 30, 2004 and June 30, 2003, respectively. Expense increases were
primarily due to our development efforts on our biomaterials products including
our work under the NIST grant. Biomaterials and other proprietary technologies
spending increased $1.4 million, or 30%, to $6.3 million in fiscal 2004 from
$4.9 million in fiscal 2003 related primarily to increases in personnel costs
totaling $763,000, and facility costs, including rent, electric and depreciation
of $573,000 to support our continued development of new products and processes
for our current and prospective customers. We expect research and development
expenses to

27

increase as we investigate and develop new products, conduct clinical trials and
seek regulatory approvals for our proprietary products.

Expense increases were also attributable to our continued development efforts on
the TriActiv, including clinical trial expenses. Research and development
expenses related to the TriActiv increased $493,000, or 5%, to $10.1 million in
fiscal 2004 from $9.6 million in fiscal 2003. Expense increases occurred in
personnel costs ($372,000), facility costs, including rent, electric and
depreciation ($164,000) and patent counsel fees and other consulting costs
($208,000), all of which were to support the final efforts on our PRIDE clinical
study and the growth in the development efforts on the next generation of the
TriActiv, the TriActiv LFX. These cost increases were partially offset by a
$225,000 decrease in fiscal 2004 from fiscal 2003 in various product design
costs related to the TriActiv SVG application. Over the past year, there have
been many new design features/ease of use improvements for the TriActiv product.
As of the third fiscal quarter 2004, many of these design enhancements had been
implemented and the expenses related to these improvements were not at the level
they had been during the prior year. In addition, there was a decrease in
clinical trial costs ($61,000) due to the conclusion of enrollment in the PRIDE
clinical study in March 2004.

Selling, General and Administrative Expense. Selling, general and administrative
expense increased 17% to $8.7 million in fiscal 2004 from $7.4 million in fiscal
2003. Sales and marketing expenses increased $900,000 to $4.2 million in fiscal
2004 from $3.3 million in fiscal 2003. This increase related primarily to the
TriActiv European sales and marketing efforts, which increased $695,000 mainly
due to a marketing clinical study in support of third party reimbursement of
TriActiv in Europe. The clinical study expenses increased $356,000 to $657,000
in fiscal 2004 from $302,000 in fiscal 2003. This study is expected to conclude
in the second quarter of fiscal 2005. In addition, increases occurred in the
overall operations in Europe to support our clinical and commercial efforts,
including personnel costs ($195,000), convention and travel expenses ($65,000),
as well as office and facility costs, including rent, phone, and electric
($56,000). These increases in the European sales and marketing expenses include
an exchange rate premium from fiscal 2003 to 2004. The average exchange rate in
fiscal 2003 was $1.05, whereas the average exchange rate in fiscal 2004 was
$1.19. Of the increases above, approximately $60,000 of the $695,000 related to
the increase in the exchange rate, or 14% of each of the increases stated above
is directly related to the difference in the exchange rate. The U.S. marketing
expenses increased $205,000 to $1.7 million in fiscal 2004 from $1.5 million in
fiscal 2003. This increase was primarily for personnel expenses ($148,000) and
pre-launch activities, such as marketing materials and publications ($52,000),
as we prepare for our commercial launch.

General and administrative expenses increased $359,000 to $4.5 million in fiscal
2004 from $4.1 million in fiscal 2003. This was attributable to increases of
$392,000 in personnel costs, $63,000 in facility costs, including rent, electric
and depreciation and $321,000 in increased professional services and public
company expenses, including investor relations and SEC filing fees. These
personnel and facility cost increases were primarily related to the support of
our continued sales and research and development growth, while increased
professional fees as well as personnel costs were related to complying with the
Sarbanes-Oxley Act of 2002 (SOA). Offsetting these increases was a decrease of
$218,000 in audit and tax fees and a $210,000 decrease in the allowance for
doubtful accounts. Although the audit portion of our fees increased in fiscal
2004 compared to fiscal 2003, our tax services fees in fiscal 2004 decreased by
$275,000 related to a $325,000 professional service fee in fiscal 2003 for the
research and development tax credit project performed. There was a $50,500
professional service fee in fiscal 2004 when the final portion of the research
and development tax credit project was performed. Related to the accounts
receivable allowance, we were carrying a receivables reserve for an amount due
from a company that had filed for bankruptcy. The outstanding balance has since
been paid and the reserve was no longer required.

Net Interest Income. Interest expense decreased $80,000, or 55%, to $66,000 in
fiscal 2004 from $145,000 in fiscal 2003. This was due to a lower principal
balance on our debt balance as we continue to make our required quarterly
payments. Interest income decreased by 7% to $1.1 million in fiscal 2004 from
$1.2 million in fiscal 2003. Although our cash and investment balances
increased, this was more than offset by lower interest rates.

28

Other Non-Operating Income (Expense). Other non-operating income was $16,000 for
fiscal 2004 compared to other non-operating expense of $700 for fiscal 2003.
Other non-operating expense (income) for both periods represented primarily the
net loss or gain on the sale of fixed assets.

COMPARISON OF FISCAL YEARS 2003 AND 2002

The following table summarizes our operating results for the fiscal year ended
June 30, 2003 compared to the fiscal year ended June 30, 2002.

Total Revenue and Net Sales. Total revenues increased 53% to $44.4 million in
the year ended June 30, 2003 from $29.0 million in the year ended June 30, 2002.
Net sales of products increased 55% to $27.1 million for fiscal 2003 from $17.5
million for fiscal 2002. While TriActiv sales increased 388% in fiscal 2003 over
fiscal 2002, they represented less than 1% of total sales for fiscal 2003. As
such, the increase in total sales was primarily attributable to increased sales
of the Angio-Seal components and our orthopaedic products. Our orthopaedic
products increased 31% in fiscal 2003 over fiscal 2002.

Research and Development Revenue. Research and development revenues increased
26% to $963,000 for fiscal 2003 from $765,000 for fiscal 2002. Fiscal 2003
revenues were generated under the NIST articular cartilage and synthetic
vascular graft development grants and the NIH breast cancer drug delivery grant.
In the prior fiscal year, revenues were generated under the NIST articular
cartilage and synthetic vascular graft development grants. The NIST articular
cartilage grant provided revenue for four of the twelve months of fiscal 2003,
as the project concluded in October 2002. The NIST vascular graft grant provided
revenue for the entire year. The NIH breast cancer drug delivery grant was
initiated in September 2002. The increase over the prior fiscal year reflects
the addition of the NIH breast cancer grant, which provided $46,000 of revenue
in fiscal 2003 and an increase in the activities and expenses related to the
NIST synthetic vascular graft grant. The vascular graft grant revenue increased
$454,000 in fiscal 2003, from fiscal 2002. These increases were offset by a
decrease of $302,000 in the NIST articular cartilage grant due to the conclusion
of the grant in early fiscal 2003.

The following table summarizes the research and development revenue for the
fiscal year ended June 30, 2003 compared to the fiscal year ended June 30, 2002.

Royalty Income. Royalty income increased 52% to $16.3 million for fiscal 2003
from $10.8 million for fiscal 2002. This increase reflects a greater number of
units sold as well as an increase in average selling price for the

29

Angio-Seal. The average worldwide selling price increased to $186 from $178 in
fiscal 2003 and 2002, respectively. Royalty units increased 44% as approximately
967,000 Angio-Seal units were sold to end-users during fiscal 2003 compared to
approximately 670,000 units sold during fiscal 2002. We believe that this unit
increase was primarily due to St. Jude Medical's increased sales and marketing
efforts, resulting in market share gains for the Angio-Seal product line in both
the U.S. and European markets and the full year impact of the self-tightening
suture (STS) version of the Angio-Seal, which was introduced in the U.S. in
March 2002.

Cost of Products Sold. Cost of products sold increased 48% to $12.2 million in
fiscal 2003 from $8.2 million in fiscal 2002 while gross margin increased to 55%
from 53%. The increase in gross margin reflected the higher margins on our
biomaterials products attributable in part to higher volumes which result in
manufacturing efficiencies, as well as continued allocation of overhead across
greater sales volumes, which results in a decrease in per unit costs. The higher
margins on our biomaterials products were slightly offset by lower margins on
the TriActiv. The TriActiv margins will continue to be lower than our
biomaterials product margins until our manufacturing process matures and volumes
increase.

Research and Development Expense. Research and development expense increased 34%
to $14.5 million in fiscal 2003 compared to $10.8 million in fiscal 2002.
Research and development expenses related to the TriActiv increased $2.5
million, or 36%, to $9.6 million in fiscal 2003 from $7.1 million in fiscal
2002. This increase was mainly attributable to our continued development efforts
on the TriActiv, including clinical trial expenses, which increased $1.8 million
in fiscal 2003 over fiscal 2002. Other increases occurred in personnel expenses
($643,000) and operational expenses related to new design features/ease of use
improvements for the TriActiv product line ($142,000). We also continued to
expand our development efforts on our biomaterials products including our work
under the NIST grants. Biomaterials and other proprietary technologies spending
increased $1.2 million, or 31%, to $4.9 million in fiscal 2003 from $3.7 million
in fiscal 2002. This increases related primarily to personnel costs ($503,000),
operational expenses related to product development costs ($288,000), facility
costs, including rent, electric and depreciation ($289,000) and patent counsel
fees and other consulting costs ($75,000).

Selling, General and Administrative Expense. Selling, general and administrative
expense increased 59% to $7.4 million in fiscal 2003 from $4.7 million, in
fiscal 2002. This increase was partially the result of increased sales and
marketing expenses which increased $1.5 million to $3.3 million in fiscal 2003
from $1.8 million in fiscal 2002. This increase related primarily to European
sales and marketing efforts on the TriActiv, which increased $1.4 million in
fiscal 2003 from fiscal 2002. Our subsidiary in Germany was established in
January 2002. Since that time we have established a European sales and marketing
team to meet our clinical and sales goals. Fiscal year 2003 was the first full
year of European sales and marketing expenses.

General and administrative expenses increased $1.3 million to $4.1 million in
fiscal 2003 from $2.8 million in fiscal 2002. This increase was attributable to
$696,000 in increased personnel costs and $261,000 in increased professional
services and public company expenses, including investor relations and filing
fees. These increases were related to our continued sales and research and
development growth, but primarily to increased costs related to complying with
the Sarbanes-Oxley Act of 2002 (SOA). In addition, selling, general and
administrative include a $325,000 professional service fee, which relates
directly to a research and development tax credit project performed in our
fiscal fourth quarter (see below).

Net Interest Income. Interest expense decreased $78,000, or 35%, to $145,000 in
fiscal 2003 from $223,000 in fiscal 2002. This was due to a lower principal
balance on the THM Acquisition Obligation as we continue to make the required
quarterly payments and as a result of early repayment to certain debt holders.
Interest income decreased by 37% to $1.2 million in fiscal 2003 from $1.9
million in fiscal 2002. Although our cash and investment balances increased,
this was more than offset by lower interest rates.

Other Non-Operating Income (Expense). Other non-operating income was $700 for
fiscal 2003 compared to other non-operating expense of $15,000 for fiscal 2002.
Other non-operating expense (income) for both periods represented primarily the
net loss or gain on the sale of fixed assets.

Net Income. Net income increased 91% to $8.8 million in fiscal 2003 from $4.6
million in fiscal 2002. This was primarily the result of increased sales and
royalty income as described above, offset in part by increased

30

expenses associated with research and development and sales and marketing
efforts related to the TriActiv, also described above. In addition, the Company
recognized $2.5 million in income tax expense in fiscal 2003 compared to $2.4
million of income tax expense in fiscal 2002. The tax expense in fiscal 2003 was
net of a $1.5 million research and development tax credit described below.

LIQUIDITY AND CAPITAL RESOURCES

Our cash, cash equivalents and investments were $61.1 million at June 30, 2004,
an increase of $12.7 million from our balance of $48.4 at the end of our prior
fiscal year, June 30, 2003. In addition, our working capital was $72.7 million
at June 30, 2004, an increase of $13.3 million from our working capital of $59.4
million at June 30, 2003.

Net cash provided by our operating activities was $19.9 million and $14.4
million in the fiscal years ended June 30, 2004 and 2003, respectively. In the
fiscal year ended June 30, 2004, we had net income of $13.0 million, a tax
benefit from the exercise of stock options of $1.7 million and non-cash
depreciation and amortization of $4.3 million. In addition, changes in asset and
liability balances provided $900,000 of cash. The increase in cash provided by
the change in assets and liabilities was primarily due to the utilization of our
deferred tax asset coupled with a reduction in prepaid and other assets and an
increase in our accounts payable and accrued expenses. This was partially offset
by an increase in accounts receivable and deferred revenue. The decrease in our
prepaid and other assets was directly attributable to pre-payments related to
our clinical trial contracts. These prepaid balances are expensed when the
service is performed. As we completed enrollment in our PRIDE study, many of the
related services have been performed and pre-payments expensed. The increase in
accounts payable and accrued expenses was directly related to our accrued tax
liability. In the fourth quarter of fiscal 2004 we recorded a $1.9 million
federal tax liability to be paid in the first quarter of fiscal 2005. Prior to
the fourth quarter, including the entire fiscal year 2003, the deferred tax
asset was utilized as we were in a net operating loss (NOL) position and
therefore no federal tax liability was recorded during those time periods.
Increases in accounts receivable related to the increased sales levels in the
fourth quarter of fiscal 2004 over the same period in fiscal 2003. In the fiscal
year ended June 30, 2003, changes in asset and liability balances resulted in a
net $160,000 use of cash, net income was $8.8 million, a tax benefit from
exercise of stock options of $2.6 million and non-cash depreciation and
amortization of $3.2 million.

Cash used in investing activities was $20.0 million for the fiscal year ended
June 30, 2004. This was the net result of purchase and redemption activity
within our investment portfolio. We had $13.3 million of investments mature or
called during the fiscal year 2004. We subsequently purchased new investments
with these proceeds as well as invested an additional $13.9 million of our cash
or cash equivalents, for total investment purchases of $27.1 million. See Note 1
to the condensed consolidated financial statements included in this annual
report for a description of our available-for sale securities. See discussion
below for cash used for the purchase of property, plant and equipment.

We had an $8.0 million capital spending plan for fiscal 2004, of which we spent
$6.1 million through June 30, 2004 on machinery, equipment, furniture and
fixtures as well as leasehold improvements to fit-out additional leased space
and to reconfigure existing space. These expenditures were primarily related to
the expansion of our research and development capabilities ($788,000), expansion
and upgrade of our MIS technology ($266,000) and the continued expansion of our
manufacturing capabilities for our biomaterials and TriActiv product lines ($5.0
million). We have a $25.0 million capital spending plan for fiscal 2005 which
will be expended primarily ($15 to $20 million) on our new facility (see
discussion below) and will be used to continue to expand our research and
development and manufacturing capabilities and upgrade our MIS technology.

Our operating leases, all on our various facilities in Exton, Pennsylvania, also
represent a significant cash outflow. Lease expense under non-cancelable
operating leases over the next three years will be as follows: $899,004 in
fiscal 2005; $420,378 in fiscal 2006 and $0 in fiscal 2007.

To address our current and future facilities requirements, in August 2004 we
entered into an agreement for the purchase of land and construction of a new
facility. The new facility will be located in Chester County,
31

Pennsylvania, approximately two miles from our existing location. Long term, the
proposed building site will accommodate a 220,000 square foot facility and thus
provide for our future growth and continued expansion. Our construction plan
will have three phases. Phase one will include the construction of a 162,000
square foot building shell and the fit-out of 90,000 square feet of space for
our manufacturing and quality assurance operations and personnel. Phase One
began in August 2004, and will continue for a period of approximately 18 months
and have a total estimated cost of $26 million, including the land purchase.
Phase Two would increase the total building shell size to 175,000 square feet
and add another 85,000 square feet of fit-out and is anticipated to be complete
by the end of five years. The second phase would allow the complete transition
of all our personnel and operations to the new facility within five years. Phase
Three would complete the building to the maximum of 220,000 square feet, when
necessary. We intend to finance the construction of this building from current
available cash on hand, cash from operations and/or liquid investments.

In conjunction with our acquisition of THM in September of 2000, we incurred a
note payable to the shareholders of THM in the amount of $4.5 million (the
Acquisition Obligation). Of that amount, $219,147 remained outstanding as of
June 30, 2004. The obligation was due in equal quarterly installments of
$281,250, which began on December 31, 2000 and is scheduled to end on September
30, 2004. As of February 28, 2003, due to repayments to certain former
shareholders of THM, we reduced our remaining quarterly installments to $223,256
through September 30, 2004. The cash outflow related to the Acquisition
Obligation will be $223,256 in fiscal 2005. We have adequate cash balances at
June 30, 2004 to repay the remaining amount under this obligation.

The exercise of stock options provided cash of $3.4 million for the fiscal year
ended June 30, 2004. We believe that option exercises will continue through
fiscal 2005 due to the strength in our share price compared to the average
exercise price of outstanding options.

In the second quarter of fiscal year 2004, the Company repurchased and retired
140,500 shares of common stock under a board approved repurchase program at a
cost of approximately $3.0 million at an average market price of $21.34 per
share. We financed the repurchases using our available cash. On August 17, 2004,
we reinstated our stock repurchase plan (see "Reinstatement of Stock Repurchase
Program" below).

We plan to continue to spend substantial amounts to fund clinical trials, to
gain regulatory approvals and to continue to expand research and development
activities, particularly for the TriActiv System and our biomaterials products.
In addition to the potential cash requirements associated with our announced
reinstatement of the stock repurchase plan (see below), we will continue to add
additional manufacturing facilities to support the continued growth of our
biomaterials business and expected commercial launch of the TriActiv System, as
discussed above. If approved by the FDA, we will market and sell the TriActiv
System in the U.S. through a small, dedicated direct sales force initially
comprised of approximately ten salespeople. Our initial estimates of the cost of
a direct sales plan would increase selling expense in fiscal 2005 by $2.5
million to $3.0 million; including personnel and marketing expenses. We believe
our current cash and investment balances, in addition to cash generated from
operations, will be sufficient to meet our operating, financing and capital
requirements through at least the next 12 months. We also believe our cash and
investment balances will be sufficient on a longer term basis, however, it will
depend on numerous factors, including market acceptance of our existing and
future products; the successful commercialization of products in development and
costs associated with that commercialization; progress in our product
development efforts; the magnitude and scope of such efforts; progress with
pre-clinical studies, clinical trials and product clearance by the FDA and other
agencies; the cost and timing of our efforts to expand our manufacturing, sales,
and marketing capabilities; the cost of filing, prosecuting, defending and
enforcing patent claims and other intellectual property rights; competing
technological and market developments; and the development of strategic
alliances for the marketing of certain of our products.

The terms of any future equity financing may be dilutive to our stockholders and
the terms of any debt financing may contain restrictive covenants that limit our
ability to pursue certain courses of action. Our ability to obtain financing is
dependent on the status of our future business prospects, as well as conditions
prevailing in the relevant capital markets. No assurance can be given that any
additional financing will be available to us, or will be available to us on
acceptable terms' should such a need arise.

32

Presented below is a summary of our contractual obligations as of June 30, 2004:

- ---------------

(1) See Note 6 to our Consolidated Financial Statements for additional
information on our short-term debt.

(2) In accordance with Accounting Principles Generally Accepted in the United
States, these obligations are not recorded in the Consolidated Balance
Sheet.

(3) See Note 4 to Consolidated Financial Statements for additional information
on our operating leases.

Our estimate of the time periods for which our cash and cash equivalents will be
adequate to fund operations is a forward looking statement within the meaning of
Private Securities Litigation Reform Act of 1995 and is subject to risks and
uncertainties. Actual results may differ materially from those contemplated in
such forward-looking statements. In addition to those described above, factors
which may cause such a difference are set forth under the caption "Risk Factors"
in this annual report on Form 10-K.

RESEARCH AND DEVELOPMENT TAX CREDIT

We recorded tax credits of $984,817 and $1,500,000 for fiscal years ended June
30, 2004 and June 30, 2003, respectively. The entire tax credit recorded for
2003 and $310,000 of the 2004 credit related to qualified research and
development activities of the Company for the period 1991 through 2003.

STOCK REPURCHASE PROGRAM

On October 23, 2003, we announced that our board of directors had approved a
program to repurchase up to 400,000 of its issued and outstanding shares of
Common Stock over six months from the date of the board approval. In the second
quarter of fiscal year 2004, the Company repurchased and retired 140,500 shares
of common stock under the program at a cost of approximately $3.0 million at an
average market price of $21.34 per share. We financed the repurchases using our
available cash.

On August 17, 2004, we announced that our board of directors had reinstated a
program to repurchase issued and outstanding shares of Common Stock over six
months from the date of the board approval. The current plan calls for the
repurchase of up to 259,500 shares, the balance under the original plan
mentioned above. As of September 3, 2004, we had repurchased and retired 25,000
shares of common stock under the program at a cost of approximately $600,000 or
an average market price of $24.14 per share. We financed the repurchases using
our available cash.

We plan to continue to repurchase our shares for cash, from time to time in the
open market, through block trades or otherwise. The repurchase program does not
require us to purchase any specific dollar value or number of shares. Any
purchases under the program will depend on market conditions and may be
commenced or suspended at any time or from time to time without prior notice.

33

RISK FACTORS

You should carefully consider the risks, uncertainties and other factors
described below, in addition to the other information set forth in this report,
because they could materially and adversely affect our business, operating
results, financial condition, cash flows and prospects as well as adversely
affect the value of an investment in our common stock.

RISKS RELATED TO OUR BUSINESS

WE MAY NOT BE ABLE TO OBTAIN THE NECESSARY REGULATORY APPROVALS FOR THE TRIACTIV
SYSTEM IN THE UNITED STATES.

The FDA has not approved the TriActiv System for marketing. Prior to granting
approval, the FDA may require clarification of information provided in our
regulatory submissions, more information or more clinical studies. If granted,
FDA approval may impose limitations on the uses for which our product may be
marketed or how our product may be marketed. Should we experience delays or be
unable to receive approval from the FDA, our growth prospects will be
diminished.

ALTHOUGH WE HAVE RECEIVED CE MARK APPROVAL AND EVEN IF WE RECEIVE FDA APPROVAL,
WE MAY NOT BE SUCCESSFUL COMMERCIALIZING THE TRIACTIV SYSTEM THROUGH A DIRECT
SALES FORCE.

If the TriActiv System obtains the necessary governmental approvals, we will
need to commercialize the product. We may not be able to successfully develop
and train our own sales force to sell and market the TriActiv System. We
recently began to build a sales and marketing force, but had no prior experience
hiring or training a sales and marketing force. We may not be able to expand and
maintain an internal sales and marketing force with technical expertise and
supporting distribution capabilities. If we are unable to successfully
commercialize the TriActiv, our growth prospects will be diminished.

WE DERIVE A SUBSTANTIAL MAJORITY OF OUR REVENUES FROM ONLY TWO CUSTOMERS.

A substantial majority of our total revenues are derived from only two
customers. Royalty income from, and sales of biomaterials to, St. Jude Medical
associated with the Angio-Seal represented approximately 58% of our total
revenue for fiscal 2004 while sales of biomaterials products to Arthrex, a
distributor of orthopaedic products, represented approximately 30% of total
revenues. It is not possible for us to predict the future level of demand for
our products that will be generated by these customers or the future demand for
the Angio-Seal from customers of St. Jude Medical. Our customer concentration
exposes us to the risk of changes in the business condition of either our major
customers and to the risk that the loss of a major customer would adversely
affect our results of operations. Our relationship with these customers is
subject to change at any time.

WE ANTICIPATE THAT A SUBSTANTIAL PORTION OF OUR REVENUES WILL CONTINUE TO COME
FROM THE ANGIO-SEAL, WHICH IS MANUFACTURED, MARKETED AND DISTRIBUTED BY ST. JUDE
MEDICAL.

Under our license agreements with St. Jude Medical, the Angio-Seal is
manufactured, marketed and sold on a worldwide basis by St. Jude Medical. Two of
our significant sources of revenue for the future are expected to be sales of
collagen to St. Jude Medical for use in the Angio-Seal and royalty income from
the sale of the Angio-Seal product line. Our success with the Angio-Seal depends
in part on the time, effort and attention that St. Jude Medical devotes to the
Angio-Seal product line and on their success in manufacturing, marketing and
selling the Angio-Seal product line. Under the terms of our agreements with St.
Jude Medical, we have no control over the pricing and marketing strategy for the
Angio-Seal product line. In addition, we depend on St. Jude Medical to
successfully maintain levels of manufacturing sufficient to meet anticipated
demand, abide by applicable manufacturing regulations and seek reimbursement
approvals. St. Jude Medical can terminate our arrangement at any time for any
reason upon 12 months notice. At such time, all sales and marketing,
manufacturing and distribution rights to the Angio-Seal would be returned to us.
St. Jude Medical may not successfully pass future inspections of its
manufacturing facility or adequately perform its manufacturing, marketing and
selling duties. Any such failure by St. Jude Medical may negatively impact
Angio-Seal unit sales and therefore reduce our royalties.
34

IF OUR BIOMATERIALS PRODUCTS ARE NOT SUCCESSFUL, OUR OPERATING RESULTS AND
BUSINESS MAY BE SUBSTANTIALLY IMPAIRED.

The success of our existing biomaterials products, as well as any we develop in
the future, depends on a variety of factors, including our ability to continue
to manufacture, sell and competitively price these products and the acceptance
of these products by the medical profession. In addition, we may be required to
obtain regulatory approval for any future biomaterials products. We will require
substantial additional funds to develop and market our biomaterials products. We
expect to fund the growth of our biomaterials business out of our operating
income, but this operating income may not be sufficient to develop new
biomaterials products. To date, we have relied on strategic partners or
customers to market and sell our biomaterials products. We cannot assure you
that we will commercialize our products successfully through our planned
development of a sales force.

WE DEPEND ON OUR CUSTOMERS TO MARKET AND OBTAIN REGULATORY APPROVALS FOR THEIR
BIOMATERIALS PRODUCTS.

We depend on the efforts of our biomaterials customers in marketing their
products that include our biomaterials components. There can be no assurance
that our customers' end-use products that include our biomaterials components
will be commercialized successfully by our customers or that our customers will
otherwise be able to compete effectively in their markets.

THE MARKETS FOR OUR PRODUCTS ARE HIGHLY COMPETITIVE AND ARE LIKELY TO BECOME
MORE COMPETITIVE, AND OUR COMPETITORS MAY BE ABLE TO RESPOND MORE QUICKLY TO NEW
OR EMERGING TECHNOLOGIES AND CHANGES IN CUSTOMER REQUIREMENTS.

The markets for our current and proposed products are fragmented, intensely
competitive, subject to rapid change and sensitive to new product introductions
and enhancements. We expect that the competitive environment for our products
will become more intense as additional companies enter our markets and as new
techniques and technologies are adopted. Our biomaterials and medical devices
compete directly and indirectly for customers with a range of products and
technologies produced by a wide variety of companies, as well as other processes
and procedures which do not require the use of our products or those of our
competitors. Many of our existing competitors, as well as a number of potential
new competitors, have longer operating histories in these markets, greater name
recognition, larger customer bases and greater financial, technical and
marketing resources.

Our biomaterials products compete with the products of many of the larger
companies in the industry. In the vascular sealing device market, our products
compete with products sold by Datascope Corporation, Perclose, Inc. (a
subsidiary of Abbott Laboratories) and Vascular Solutions, Inc., amongst other
smaller competitors. The majority of vascular sealing is performed through
manual compression, which represents our primary competition. The TriActiv is
currently only commercially available in Europe where our competitors include
Boston Scientific Corporation, Johnson and Johnson, Inc., Medtronic, Inc. (which
owns Percu-Surge, Inc.) and Guidant Corporation, among others. If we are
successful in commercializing the TriActiv in the U.S., we anticipate the
competitors will be the same companies against which we are competing in Europe,
as well as others.

Our competitors may have broader product lines, which allow them to negotiate
exclusive, long-term supply contracts and offer comprehensive pricing for their
products. Broader product lines may also provide our competitors with a
significant advantage in marketing competing products to group purchasing
organizations and other managed care organizations that are increasingly seeking
to reduce costs through centralized purchasing. Greater financial resources and
product development capabilities may allow our competitors to respond more
quickly to new or emerging technologies and changes in customer requirements
that may render our products obsolete.

Because a significant portion of our revenue depends on sales of medical devices
by our customers to the end-user market, we are also affected by competition
within the markets for these devices. Competition within the medical device
market could also have an adverse effect on our business for a variety of
reasons, including that our customers may compete directly with larger, dominant
manufacturers with extensive product lines and

35

greater sales, marketing and distribution capabilities. We are also unable to
control other factors that may impact the commercialization of our components
for end use products, such as marketing and sales efforts and competitive
pricing pressures within particular markets.

IF OUR PRODUCTS ARE NOT ACCEPTED BY THE MEDICAL COMMUNITY OR IF OUR PRODUCTS ARE
REPLACED BY NEW TECHNOLOGIES, OUR BUSINESS MAY SUFFER.

The success of our existing products depends on continued acceptance of these
products by the medical community. We cannot predict whether or not our products
will continue to be accepted and if that acceptance will be sustained to over
the long term. The success of any products we develop in the future will depend
on the adoption of these products by our targeted markets. We cannot predict how
quickly, if at all, the medical community will accept our future products or the
extent to which our future products will be used. If we encounter difficulties
introducing future products into our targeted markets, our operating results and
business may be substantially impaired. In addition, new technologies and
techniques may be developed which may render our current products, along with
those under development, obsolete.

THE LOSS OF, OR INTERRUPTION OF SUPPLY FROM, KEY VENDORS COULD LIMIT OUR ABILITY
TO MANUFACTURE OUR PRODUCTS.

We purchase certain materials and components for our products from various
suppliers. Some of these components are custom made for us, including many of
our absorbable polymer and suture raw materials which are used in our custom
polymer products across all markets. Any loss of, or interruption of supply
from, key vendors may require us to find new vendors. We could experience
production or development delays while we seek new vendors.

WE MAY HAVE PROBLEMS MANUFACTURING AND DELIVERING OUR BIOMATERIALS PRODUCTS IN
THE FUTURE.

The biomaterials industry is an emerging area, using many materials which are
untested or whose properties are still not known. Consequently, from time to
time we may experience unanticipated difficulties in manufacturing and
delivering our biomaterials products to our customers. These difficulties may
include an inability to meet customer demand, delays in delivering products or
quality control problems with certain biomaterials products.

OUR USE OF HAZARDOUS MATERIALS EXPOSES US TO THE RISK OF MATERIAL ENVIRONMENTAL
LIABILITIES.

Because we use hazardous substances in our research and development and
manufacturing operations, we are potentially subject to material liabilities
related to personal injuries or property damages that may be caused by hazardous
substance releases or exposures at or from our facility. Decontamination costs,
other clean-up costs and related damages or liabilities could substantially
impair our business and operating results. We are required to comply with
increasingly stringent laws and regulations governing environmental protection
and workplace safety, including requirements governing the handling, storage and
disposal of hazardous substances.

ST. JUDE MEDICAL'S AND OUR INTERNATIONAL SALES ARE SUBJECT TO A NUMBER OF RISKS
THAT COULD HARM FUTURE INTERNATIONAL SALES OF ANGIO-SEAL AND OUR ABILITY TO
SUCCESSFULLY COMMERCIALIZE NEW PRODUCTS IN INTERNATIONAL MARKETS.

St. Jude Medical sells the Angio-Seal product line internationally and pays us a
royalty on each unit sold. We also sell the TriActiv, as well as some of our
other products, in the international markets. Our royalties from international
sales of the Angio-Seal product line by St. Jude Medical and our revenues from
our other international sales are subject to several risks, including:

- the impact of recessions in economies both within and outside the United
States;

- unexpected changes in regulatory requirements, tariffs or other trade
barriers;

- weaker intellectual property rights protection in some countries;

36

- fluctuations in exchange rates;

- potentially adverse tax consequences; and

- political and economic instability.

The occurrence of any of these events could seriously harm St. Jude Medical's or
our future international sales.

OUR SUCCESS DEPENDS ON KEY PERSONNEL, THE LOSS OF WHOM COULD IMPAIR OUR
OPERATING RESULTS AND BUSINESS.

Our success depends, to a significant extent, upon the efforts and abilities of
Joseph W. Kaufmann, Douglas G. Evans, Wendy F. DiCicco and other members of
senior management. The loss of the services of one or more of these key
employees could harm our operating results and business. In addition, we will
not be successful unless we can attract and retain skilled personnel,
particularly in the areas of research and product development.

OUR FAILURE TO EXPAND OUR MANAGEMENT SYSTEMS AND CONTROLS TO SUPPORT ANTICIPATED
GROWTH OR INTEGRATE FUTURE ACQUISITIONS COULD SERIOUSLY HARM OUR OPERATING
RESULTS AND BUSINESS.

Our operations continue to grow and we expect this expansion to continue as we
execute our business strategy. Sustaining our growth has placed significant
demands on management and our administrative, operational, information
technology, manufacturing, financial and personnel resources. Accordingly, our
future operating results will depend on the ability of our officers and other
key employees to continue to implement and improve our operational, client
support and financial control systems, and effectively expand, train and manage
our employee base. We may not be able to manage our growth successfully.

ANY ACQUISITIONS THAT WE UNDERTAKE COULD BE DIFFICULT TO INTEGRATE, DISRUPT OUR
BUSINESS, DILUTE STOCKHOLDER VALUE AND HARM OUR OPERATING RESULTS.

We may acquire or make investments in complementary businesses, technologies,
services or products if appropriate opportunities arise. The process of
integrating any acquired business, technology, service or product into our
business and operations may result in unforeseen operating difficulties and
expenditures. Integration of any acquired company also may consume much of our
management's time and attention that could otherwise be available for ongoing
development of our business. Moreover, the anticipated benefits of any
acquisition may not be realized. Furthermore, we may be unable to identify,
negotiate or finance future acquisitions successfully. Future acquisitions could
result in potentially dilutive issuances of equity securities or the incurrence
of debt, contingent liabilities or amortization expenses related to goodwill and
other intangible assets.

OUR FUTURE OPERATING RESULTS ARE DIFFICULT TO PREDICT AND MAY VARY SIGNIFICANTLY
FROM QUARTER TO QUARTER.

Our operating results have varied significantly from quarter to quarter in the
past and are likely to vary substantially in the future as a result of a number
of factors, some of which are not in our control, including:

- market perception and customer acceptance of our products;

- market perception and acceptance of our customer's products;

- our efforts to increase sales of our biomaterials products;

- our efforts to gain FDA approval and commercialize the TriActiv;

- our efforts to gain CE Mark and FDA approval for future generations of
the TriActiv device;

- the loss of significant orders;

- changes in our relationship with St. Jude Medical;

- our establishment of strategic alliances or acquisitions;

37

- timely implementation of new and improved products;

- delays in obtaining regulatory approvals;

- increased competition; and

- litigation concerning intellectual property rights in the medical device
industry.

You should not rely upon our results of operations for any particular quarter as
an indication of our results for a full year or any other quarter.

RISKS RELATED TO OUR INTELLECTUAL PROPERTY

IF WE ARE UNABLE TO PROTECT OUR PATENTS AND PROPRIETARY RIGHTS, OUR REPUTATION
AND COMPETITIVENESS IN THE MARKETPLACE MAY BE MATERIALLY DAMAGED.

We regard our patents, biomaterials trade secrets and other intellectual
property as important to our success. We rely upon patent law, trade secret
protection, confidentiality agreements and license agreements with St. Jude
Medical to protect our proprietary rights. Although we have registered certain
of our patents with applicable governmental authorities, effective patent
protection may not be available in every country in which our products are made
available, and we have not sought protection for our intellectual property in
every country where our products may be sold. The steps we take to protect our
proprietary rights may not be adequate to ensure that third parties will not
infringe or otherwise violate our patents or similar proprietary rights.

WE MAY BE ACCUSED OF INFRINGING UPON THE PROPRIETARY RIGHTS OF OTHERS AND ANY
RELATED LITIGATION COULD MATERIALLY DAMAGE OUR OPERATING RESULTS AND BUSINESS.

Third parties may claim that we have violated their intellectual property
rights. An adverse determination in any intellectual property litigation or
interference proceedings brought against us could prohibit us from selling our
products, subject us to significant liabilities to third parties or require us
to seek licenses from third parties. The costs associated with these license
arrangements may be substantial and could include ongoing royalties.
Furthermore, the necessary licenses may not be available to us on satisfactory
terms, if at all. Adverse determinations in a judicial or administrative
proceeding or failure to obtain necessary licenses could prevent us from
manufacturing and selling our products. Any of these claims, with or without
merit, could subject us to costly litigation and divert the attention of key
personnel.

WE DO NOT OWN OR CONTROL THE USE OF THE ANGIO-SEAL DEVICE TRADEMARK.

The term Angio-Seal is a trademark of St. Jude Medical. All goodwill generated
by the marketing and sales of devices bearing the Angio-Seal trademark belongs
to St. Jude Medical and not to us. Should the St. Jude Medical license
agreements terminate, we would not have the right to call any of our products
"Angio-Seal" unless we purchase or license the trademark from St. Jude Medical.
Without rights to the Angio-Seal trademark, we would have to market our products
under a different trademark. Moreover, upon the termination of the St. Jude
Medical license agreements, St. Jude Medical would have the right to compete
against us by selling collagen and puncture closure devices under the Angio-Seal
trademark. Thus, purchasers of puncture closure devices may be more likely to
recognize and purchase products labeled Angio-Seal regardless of whether those
devices originate from us.

RISKS RELATED TO OUR INDUSTRY

WE MAY FACE PRODUCT LIABILITY CLAIMS THAT COULD RESULT IN COSTLY LITIGATION AND
SIGNIFICANT LIABILITIES.

The clinical testing, manufacture and sale of medical products involve an
inherent risk that human subjects in clinical testing or consumers of the
products may suffer serious bodily injury or death due to side effects or other
unintended negative reactions to our products. Accordingly, the clinical
testing, manufacture and sale of our products entail significant risk of product
liability claims. The medical device industry in general has been subject to
significant product liability litigation. Any product liability claims, with or
without merit, could

38

result in costly litigation, reduced sales, significant liabilities and
diversion of our management's time, attention and resources. We cannot be sure
that our product liability insurance coverage is adequate or that it will
continue to be available to us on acceptable terms, if at all.

WE FACE UNCERTAINTY RELATING TO THIRD PARTY REIMBURSEMENT FOR OUR PRODUCTS.

We could be seriously harmed by changes in reimbursement policies of
governmental or private healthcare payers, particularly to the extent any
changes affect reimbursement for catheterization procedures in which our
Angio-Seal products are used. Physicians, hospitals and other users of our
products may fail to obtain sufficient reimbursement from healthcare payers for
procedures in which our products are used or adverse changes may occur in
governmental and private third-party payers' policies toward reimbursement for
these procedures.

OUR PRODUCTS AND MANUFACTURING ACTIVITIES ARE SUBJECT TO EXTENSIVE GOVERNMENTAL
REGULATION THAT COULD MAKE IT MORE EXPENSIVE AND TIME CONSUMING FOR US TO
INTRODUCE NEW AND IMPROVED PRODUCTS.

Our products and manufacturing activities are subject to extensive regulation by
a number of governmental agencies, including the FDA and comparable
international agencies. We are required to:

- obtain the approval of the FDA and international agencies before we can
market and sell new products;

- satisfy these agencies' requirements for all of our labeling, sales and
promotional materials in connection with our existing products;

- comply with all applicable manufacturing regulations; and

- undergo rigorous inspections by these agencies.

Compliance with the regulations of these agencies may delay or prevent us from
introducing any new or improved products, including the TriActiv. Furthermore,
we may be subject to sanctions, including temporary or permanent suspension of
operations, product recalls and marketing restrictions if we fail to comply with
the laws and regulations pertaining to our business.

We are also required to demonstrate compliance with the FDA's quality system
regulations. The FDA enforces its quality system regulations through
pre-approval and periodic post-approval inspections. These regulations relate to
product testing, vendor qualification, design control and quality assurance, as
well as the maintenance of records and documentation. If we are unable to
conform to these regulations, we will be required to locate alternative
manufacturers that do conform. Identifying and qualifying alternative
manufacturers may be a long, costly and difficult process and could seriously
harm our business.

The FDA and international regulatory agencies may also limit the indications for
which our products are approved. These regulatory agencies may restrict or
withdraw approvals we have received if additional information becomes available
to support this action.

RISKS RELATED TO OUR SECURITIES

THE TRADING PRICE OF OUR COMMON STOCK IS LIKELY TO FLUCTUATE SUBSTANTIALLY IN
THE FUTURE.

The trading price of our common stock may fluctuate widely as a result of a
number of factors, some of which are not in our control, including:

- our ability to meet or exceed our own forecasts or expectations of
analysts or investors;

- quarter to quarter variations in our operating results;

- announcements regarding clinical activities or new products by us or our
competitors;

- general conditions in the medical device industry;

- changes in our own forecasts or earnings estimates by analysts;

39

- our partners ability to meet or exceed the forecasts or expectations of
analysts or investors;

- price and volume fluctuations in the overall stock market, which have
particularly affected the market prices of many medical device companies;
and

- general economic conditions.

In addition, the market for our stock has experienced, and may continue to
experience, price and volume fluctuations unrelated or disproportionate to our
operating performance. As a result, you may not be able to sell shares of our
common stock at or above the price at which you purchase them. In the past,
following periods of volatility in the market price of a company's securities,
securities class action litigation has often been instituted against that
company. If any securities litigation is initiated against us, with or without
merit, we could incur substantial costs, and our management's attention and
resources could be diverted from our business.

FUTURE SALES OF OUR COMMON STOCK IN THE PUBLIC MARKET BY MANAGEMENT AND OTHER
STOCKHOLDERS WITH SIGNIFICANT HOLDINGS COULD CAUSE OUR STOCK PRICE TO FALL.

Sales of a substantial number of shares of our common stock in the public market
by management or other significant stockholders or the perception that such
sales could occur, could cause the market price of our common stock to decline
or adversely affect our future ability to raise capital through an offering of
equity securities.

OUR SECOND AMENDED AND RESTATED CERTIFICATE OF INCORPORATION AND DELAWARE LAW
MAY DISCOURAGE AN ACQUISITION OF OUR COMPANY.

Provisions of our second amended and restated certificate of incorporation and
Delaware law could make it more difficult for a third party to acquire us, even
if doing so would be beneficial to our stockholders.

FORWARD-LOOKING STATEMENTS

This report includes forward-looking statements within the meaning of Section
21E of the Securities Exchange Act of 1934. We have based these forward-looking
statements largely on our current expectations and projections about future
events and trends affecting our business. In this report, the words "believe,"
"may," "will," "estimate," "continue," "anticipate," "intend," "expect," "plan"
and similar expressions, as they relate to Kensey Nash, our business or our
management, are intended to identify forward-looking statements, but they are
not exclusive means of identifying them.

A number of risks, uncertainties and other factors could cause our actual
results, performance, financial condition, cash flows, prospects and
opportunities to differ materially from those expressed in, or implied by, the
forward-looking statements. These risks, uncertainties and other factors
include, among other things:

- general economic and business conditions, both nationally and in our
markets;

- the impact of competition;

- anticipated trends in our business;

- existing and future regulations affecting our business;

- strategic alliances and acquisition opportunities; and

- other risk factors set forth under "Risk Factors" above.

Except as expressly required by the federal securities laws, we undertake no
obligation to publicly update or revise any forward-looking statements, whether
as a result of new information, future events or otherwise after the date of
this report. Our results of operations in any past period should not be
considered indicative of the results to be expected for future periods.
Fluctuations in operating results may also result in fluctuations in the price
of our common stock.

40

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Our interest income and expense are sensitive to changes in the general level of
interest rates. In this regard, changes in interest rates affect the interest
earned on our cash, cash equivalents and investments as well as interest paid on
our debt.

Our investment portfolio consists primarily of high quality U.S. government,
municipal and corporate securities. The majority of these investments have
maturities ranging from 2 to 13 years. Also, there are certain municipal
variable rate demand obligations that have maturities ranging from 6 to 30
years. These municipal variable-rate demand obligations are putable weekly and
callable on a monthly basis. We mitigate default risk by investing in what we
believe are safe and high credit quality securities and by monitoring the credit
rating of investment issuers. Our portfolio includes only marketable securities
with secondary or resale markets and we have an audit committee approved
investment strategy which currently limits the duration of our investments.
These available-for-sale securities are subject to interest rate risk and
decrease in market value if interest rates increase. At June 30, 2004, our total
portfolio consisted of approximately $46.5 million of investments. While our
investments may be sold at anytime because the portfolio includes
available-for-sale marketable securities with secondary or resale markets, we
generally hold securities until the earlier of their call date or their
maturity. Therefore, we do not expect our results of operations or cash flows to
be materially impacted due to a sudden change in interest rates. We had $219,000
in outstanding debt at June 30, 2004, related to the acquisition of THM.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Our financial statements and supplementary data required by this item are set
forth in Item 15 of this Annual Report on Form 10-K.

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

None.

ITEM 9A. CONTROLS AND PROCEDURES

We carried out an evaluation, under the supervision and with the participation
of our management, including our Chief Executive Officer and Chief Financial
Officer, of the design and operation of our disclosure controls and procedures.
Based on this evaluation, our Chief Executive Officer and Chief Financial
Officer concluded that, as of June 30, 2004, our disclosure controls and
procedures were effective to provide reasonable assurance that the information
required to be disclosed by us in the reports filed or submitted under the
Securities Exchange Act of 1934 is recorded, processed, summarized and reported
within the time periods specified in the SEC's rules and forms.

There was not any change in the Company's internal control over financial
reporting during the fiscal year ended June 30, 2004 that has materially
affected, or is reasonably likely to materially affect, the Company's internal
control over financial reporting.

Any control system, no matter how well designed and operated, can provide only
reasonable (not absolute) assurance that its objectives will be met.
Furthermore, no evaluation of controls can provide absolute assurance that all
control issues and instances of fraud, if any, have been detected.

ITEM 9B. OTHER INFORMATION

Not applicable.

41

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

Information required by this item is incorporated by reference to the
information under the captions "Proposal 1 -- Election of Directors,"
"-- Nominees," "-- Other Directors," "-- Board Committees," "-- Executive
Officers," "Corporate Governance Policies and Procedures," and "-- Section 16(a)
Beneficial Ownership Reporting Compliance" in our definitive Proxy Statement in
connection with our 2004 Annual Meeting of Stockholders scheduled to be held on
December 1, 2004 (the 2004 Proxy Statement), which will be filed with the
Securities and Exchange Commission on or before October 26, 2004.

ITEM 11. EXECUTIVE COMPENSATION

Information in response to this item is incorporated by reference to the
information under the caption "Proposal 1 -- Election of Directors -- Director
Compensation" and "-- Executive Compensation" in the 2004 Proxy Statement.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS

The information required by this item is incorporated by reference to the
information under the captions "Security Ownership of Management and Certain
Stockholders," and "-- Equity Compensation Plan Information" in the 2004 Proxy
Statement.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Information required by this item is incorporated by reference to the
information under the caption "Certain Transactions" in the 2004 Proxy
Statement.

ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

Information required by this item is incorporated by reference to the
information under the caption "Proposal 2 -- Ratification of Appointment of
Auditors -- Independent Auditor Fees" in the 2004 Proxy Statement.

42

PART IV

ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

15(a) 1. FINANCIAL STATEMENTS

The following financial statements are included in this report:

Report of Independent Registered Public Accounting Firm

Consolidated Balance Sheets as of June 30, 2004 and 2003

Consolidated Statements of Income for the Years Ended June 30, 2004, 2003
and 2002

Consolidated Statements of Stockholders' Equity for the Years Ended June
30, 2004, 2003 and 2002

Consolidated Statements of Cash Flows for the Years Ended June 30, 2004,
2003 and 2002

Notes to Consolidated Financial Statements

43

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders of
KENSEY NASH CORPORATION:
Exton, Pennsylvania

We have audited the accompanying consolidated balance sheets of Kensey Nash
Corporation and its Subsidiaries (the "Company") as of June 30, 2004 and 2003,
and the related consolidated statements of income, stockholders' equity, and
cash flows for each of the three years in the period ended June 30, 2004. 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 standards of the Public Company
Accounting 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. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of the Company as of June 30, 2004 and
2003, and the results of its operations and its cash flows for each of the three
years in the period ended June 30, 2004, in conformity with accounting
principles generally accepted in the United States of America.

DELOITTE & TOUCHE LLP
Philadelphia, Pennsylvania

September 13, 2004

F-1

KENSEY NASH CORPORATION

CONSOLIDATED BALANCE SHEETS

See notes to consolidated financial statements.

F-2

KENSEY NASH CORPORATION

CONSOLIDATED STATEMENTS OF INCOME

See notes to consolidated financial statements.

F-3

KENSEY NASH CORPORATION

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

See notes to consolidated financial statements.

F-4

KENSEY NASH CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

See notes to consolidated financial statements.

F-5

KENSEY NASH CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

YEARS ENDED JUNE 30, 2004, 2003 AND 2002

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

BUSINESS -- Kensey Nash Corporation is a leading medical technology company
providing innovative solutions, via novel technologies, to a wide range of
medical procedures. We have expanded well beyond our beginnings in arterial
puncture closure and today provide a wide range of products into multiple
medical markets, primarily cardiovascular, sports medicine and spine, amongst
others. As the inventor of the Angio-Seal(TM) Vascular Closure Device
(Angio-Seal), a device designed to seal and close femoral artery punctures made
during diagnostic and therapeutic cardiovascular catheterizations, we were the
first company to place an absorbable biomaterial component into the human
vascular system. As pioneers in this field of absorbable biomaterials, we have
developed significant experience, expertise and competitive advantage in the
design, development, manufacture and processing of absorbable biomaterials for
medical applications.

We have developed, assisted in developing and are manufacturing absorbable
biomaterials products for leading companies in the orthopaedic, cardiology,
drug/biologics delivery, periodontal, general surgery and wound care markets for
incorporation into their products. We are also, independently or on behalf of
our customers, designing and developing various new absorbable biomaterials
products for these markets.

Kensey Nash is also developing the TriActiv(R) Balloon Protected Flush
Extraction System (TriActiv), a device designed to provide embolic protection
during the treatment of diseased vessels. We received European (CE) mark
approval for the saphenous vein graft (SVG) application of the TriActiv in
January 2002 and commercialized the device during the fourth quarter of the
fiscal year ended June 30, 2002 (fiscal 2002). We are marketing and selling the
device in Europe through a direct sales force in Germany and through
distributors throughout the rest of Europe. Enrollment in the U.S. pivotal
clinical study (the PRIDE study) of the TriActiv SVG application was completed
in March 2004. Our 510(k) application was submitted to the FDA early in the
first fiscal quarter 2005. We anticipate approval and the implementation of a
direct sales team by the end of our second fiscal quarter 2005, with a
subsequent U.S. market launch of the system early in our third fiscal quarter
2005. Future generations of the TriActiv currently in development and in
clinical trials are being designed to address additional markets. These future
applications are expected to include the treatment of diseased carotid, native
coronary and peripheral arteries, including the removal of thrombus, and acute
myocardial infarction (AMI) (a heart attack).

As mentioned above, we were the original designer, developer and manufacturer of
the Angio-Seal, the leading product in arterial puncture closure. The Angio-Seal
is manufactured, marketed and sold by St. Jude Medical, Inc.

The Company was incorporated in Delaware on August 6, 1984.

PRINCIPLES OF CONSOLIDATION AND BASIS OF PRESENTATION -- The consolidated
financial statements include the accounts of Kensey Nash Corporation, Kensey
Nash Holding Company and Kensey Nash Europe GmbH. All intercompany transactions
and balances have been eliminated. Kensey Nash Holding Company, incorporated in
Delaware on January 8, 1992, was formed to hold title to certain Company patents
and has no operations. Kensey Nash GmbH, incorporated in Germany in January
2002, was formed for the purpose of European sales and marketing of the
TriActiv, which was commercially launched in Europe in fiscal 2002.

The preparation of the consolidated financial statements in conformity with
accounting principles generally accepted in the United States of America
necessarily requires management to make estimates and assumptions. These
estimates and assumptions, which may differ from actual results, will affect the
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the dates of the financial statements, as well as the
reported amounts of revenue and expense during the periods presented.

F-6

CASH AND CASH EQUIVALENTS -- Cash and cash equivalents represent cash in banks
and short-term investments having an original maturity of less than three
months.

FAIR VALUE OF FINANCIAL INSTRUMENTS -- The carrying amounts of financial
instruments including cash and cash equivalents, short-term investments,
accounts receivable, accounts payable and debt approximated fair value as of
June 30, 2004 and 2003. The fair value of short-term investments is based on
quoted market prices.

INVESTMENTS -- Investments at June 30, 2004 consisted primarily of high quality
U.S. corporate and municipal obligations. In accordance with Statement of
Financial Accounting Standards (SFAS) No. 115, Accounting for Certain
Investments in Debt and Equity Securities (SFAS 115), the Company has classified
its entire investment portfolio as available-for-sale marketable securities with
secondary or resale markets. The Company's entire investment portfolio is
reported at fair value with unrealized gains and losses included in
stockholders' equity (see Comprehensive Income).

In March 2004, the FASB ratified the Emerging Issues Task Force Issue (EITF)
03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to
Certain Investments. EITF 03-1 requires certain quantitative and qualitative
disclosures for securities accounted for under SFAS No. 115 Accounting for
Certain Investments in Debt and Equity Securities, that are impaired at the
balance sheet date but for which an other-than -temporary impairment has not
been recognized. The disclosure requirements under EITF 03-1 is effective for
fiscal years ending after December 15, 2003 and the recognition and measurement
requirements will be effective for periods beginning after June 15, 2004. The
Company has included the required disclosures in these financial statements. The
Company's adoption of the recognition and measurement requirements of EITF 03-1
is not expected to have a material impact on the Company's financial position or
results of operations.

The following is a summary of available-for-sale securities at June 30, 2004 and
2003.

The majority of the above investments have maturities ranging from 2-13 years.
Also, there are certain municipal variable rate demand obligations that have
maturities ranging from 6 to 30 years. These municipal variable-rate demand
obligations are putable weekly and callable on a monthly basis. There were no
realized gains or losses on investments in the years ended June 30, 2004, 2003
and 2002.

The investment securities shown below currently have fair values less than
amortized cost and therefore contain unrealized losses. The Company has
evaluated these securities and has determined that the decline in value is not
related to any company or industry specific event. There are approximately
thirty-eight out of forty-five investment securities with unrealized losses. The
Company anticipates full recovery of amortized costs with respect to these
securities at maturity or sooner in the event of a more favorable market
interest rate

F-7

environment. The length of time the individual securities have been in
continuous unrealized loss position, aggregated by investment by category at
June 30, 2004 are as follows:

COMPREHENSIVE INCOME -- The Company accounts for comprehensive income under the
provisions of SFAS No. 130, Reporting Comprehensive Income (SFAS 130).
Accordingly, accumulated other comprehensive (loss) income is shown in the
consolidated statements of stockholders' equity at June 30, 2004, 2003 and 2002,
and is comprised of net unrealized gains and losses on the Company's
available-for-sale securities and foreign currency translation adjustments. The
tax effect for 2004, 2003, and 2002 of other comprehensive income was $147,428,
$68,073, and $21,006, respectively.

INVENTORY -- Inventory is stated at the lower of cost (determined by the average
cost method, which approximates first-in, first-out) or market. Inventory
primarily includes the cost of material utilized in the processing of the
Company's products and is as follows:

PROPERTY, PLANT AND EQUIPMENT -- Property, plant and equipment consists
primarily of machinery and equipment and leasehold improvements and is recorded
at cost. Maintenance and repairs are expensed as incurred. Machinery, furniture
and equipment are depreciated using the straight-line method over its useful
life ranging from one to seven years. Leasehold improvements are amortized using
the straight-line method over the lesser of the term of the lease or useful life
of the asset.

CONSTRUCTION OF NEW FACILITY

To address the Company's current and future facilities requirements, in
August 2004 the Company entered into an agreement for the purchase of land
and construction of a new facility. The new facility will be located in
Chester County, Pennsylvania, approximately two miles from the Company's
existing location. Long term, the proposed building site will accommodate a
220,000 square foot facility and thus provide for the Company's future
growth and continued expansion. The Company's construction plan will have
three phases. Phase one will include the construction of a 162,000 square
foot building shell and the fit-out of 90,000 square feet of space for the
Company's manufacturing and quality assurance operations and personnel.
Phase One began in August 2004, and will continue for a period of
approximately eighteen months and have a total estimated cost of $26
million, including the land purchase. Phase Two would increase the total
building shell size to 175,000 square feet and add another 85,000 square
feet of fit-out and is anticipated to be complete by the end of five years.
The second phase would allow the complete transition of all the Company's
personnel and operations to the new facility within five years. Phase Three
would complete the building to the maximum of 220,000 square feet, when
necessary. The Company intends to finance the construction of this building
from current available cash on hand, cash from operations and/or liquid
investments.
F-8

GOODWILL -- Goodwill represents the excess of cost over the fair value of the
identifiable net assets of THM Biomedical, Inc. (THM), a company acquired in
September 2000 (see Note 3). Effective July 1, 2001, the Company adopted SFAS
No. 141, Business Combinations (SFAS 141) and SFAS No. 142, Goodwill and Other
Intangible Assets (SFAS 142). SFAS 141 requires that the purchase method of
accounting be used for all business combinations subsequent to June 30, 2001 and
specifies criteria for recognizing intangible assets acquired in a business
combination. Under SFAS 142, goodwill and intangible assets with indefinite
useful lives are no longer amortized, but are subject to annual impairment
tests. Intangible assets with definite useful lives will continue to be
amortized over their respective useful lives. Adoption of SFAS 142 did not
result in the reclassification of any intangible assets, changes in the
amortization periods for those intangible assets with definite lives or in the
impairment of any intangible assets.

IMPAIRMENT OF LONG-LIVED ASSETS -- Long-lived assets are reviewed for impairment
whenever events or circumstances indicate that the carrying amount of an asset
may not be recoverable. If the undiscounted expected future cash flows to be
generated by the related asset are less than the carrying value of the asset,
the Company measures the amount of the impairment by comparing the carrying
amount of the asset to its fair value. The estimation of fair value is generally
measured by discounting expected future cash flows at the rate the Company
borrows.

ACCOUNTS RECEIVABLE ALLOWANCE -- The Company had trade receivable allowances of
$13,590 and $131,582 at June 30, 2004 and 2003, respectively. The Company
established trade receivable allowances of $15,500 and $93,474 and wrote off
amounts totaling $1,718 and $4,392 in the years ended June 30, 2004 and 2003,
respectively. In addition, for the year ended June 30, 2004, the Company reduced
the prior year accounts receivable allowance by $110,382 which was primarily
established for a customer that had filed for bankruptcy. The customer's
outstanding balance has since been paid and the specific allowance was no longer
needed. These amounts are included in selling, general and administrative
expense for the years ended June 30, 2004 and 2003.

PATENTS -- The costs of internally developed patents are expensed when incurred
due to the long development cycle for patents and the Company's inability to
measure the recoverability of these costs when incurred. The entire cost of
acquired patents is being amortized over the remaining period of economic
benefit, ranging from 5 to 10 years at June 30, 2004. The gross carrying amount
of such patents at June 30, 2004 was $4,096,366 with accumulated amortization of
$1,685,743. Amortization expense on these patents was $263,026 in each of the
fiscal years ended June 30, 2004, 2003 and 2002. Amortization expense on the
Company's acquired patents is estimated at $263,026 for each of the years ending
June 30, 2005, 2006, 2007, 2008 and 2009.

REVENUE RECOGNITION -- The Company recognizes revenue under the provisions of
Staff Accounting Bulletin (SAB) 101, Revenue Recognition in Financial Statements
(SAB 101). Accordingly, sales revenue is recognized when the related product is
shipped. All product is shipped free-on-board shipping point. Revenue under
research and development contracts is recognized as the related expenses are
incurred. Royalty revenue is recognized as the related product is sold. Advance
payments received for products or services are recorded as deferred revenue and
are recognized when the product is shipped or services are performed.

The Company receives a royalty on every Angio-Seal unit sold by St. Jude
Medical, its licensee. The original rate of 12% was contractually reduced from
12% to 9%, in accordance with our licensing agreements during the quarter ended
December 31, 2000, when a cumulative one million Angio-Seal units had been sold.
The final contracted decrease in the royalty rate, to 6%, occurred in April 2004
when four million cumulative units had been sold. As of June 30, 2004
approximately 4.3 million Angio-Seal units have been sold.

The Company receives a 10% royalty on all co-developed VITOSS product sales by
Orthovita. The royalty is pursuant to an agreement entered into between the
Company and Orthovita in March of 2003 (see Note 2). The first royalty was
earned in February of 2004 when the first co-developed product was commercially
launched by Orthovita.

The Company recognizes substantially all of its royalty revenue, in accordance
with its St. Jude Medical and Orthovita agreements, at the end of each month
when the Company is advised by the respective party of the

F-9

total end-user product sales dollars for the month. Royalty payments are
received within 45 days of the end of each calendar quarter.

INCOME TAXES -- The Company accounts for income taxes under the provisions of
SFAS No. 109, Accounting for Income Taxes, (SFAS 109) (see Note 8).

EARNINGS PER SHARE -- Earnings per share are calculated in accordance with SFAS
No. 128, Earnings per Share (SFAS 128), which requires the Company to report
both basic and diluted earnings per share (EPS). Basic and diluted EPS are
computed using the weighted average number of shares of common stock
outstanding, with common equivalent shares from options included in the diluted
computation when their effect is dilutive (see Note 16).

STOCK-BASED COMPENSATION -- Stock-based compensation cost is accounted for under
SFAS No. 123, Accounting for Stock-Based Compensation (SFAS 123), which permits
(i) recognition of the fair value of stock-based awards as an expense, or (ii)
continued application of the intrinsic value method of Accounting Principles
Board Opinion No. 25, Accounting for Stock Issued to Employees (APB 25). The
Company accounts for its stock-based employee and director compensation plans
under the recognition and measurement principles of APB 25. Under the intrinsic
value method, compensation cost represents the excess, if any, of the quoted
market price of the Company's common stock at the grant date over the amount the
grantee must pay for the stock. The Company's policy is to grant stock options
with an exercise price equal to the fair market value of the Company's common
stock at the date of grant (see Note 14). Options granted to non-employees, as
defined under SFAS 123, are recorded as compensation expense. See Note 9 for
options granted to non-employee outside consultants of the Company in July 2003
and October 2002. The Company did not grant any options to non-employees (other
than non-employee directors) during the fiscal year ended June 30, 2002.

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation -- Transition and Disclosure -- an amendment to FASB Statement No.
123, Accounting for Stock-Based Compensation (SFAS 148). The Company implemented
the "disclosure only" provisions of SFAS 148 in the period ended December 31,
2002. Accordingly, no compensation cost has been recognized for the Company's
two stock option plans. Had compensation cost for the plans been determined
based on the fair market value of the options at the grant date, consistent with
the provisions of SFAS 123, as amended by SFAS 148, the Company's fully-taxed
net income and earnings per share would have been reduced to the pro forma
amounts below:

DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES -- The Company recognizes all
derivatives as either assets or liabilities in the balance sheet, depending on
the Company's rights or obligations under the applicable

F-10

derivative contract, and measures those instruments at fair value. The Company
did not have any derivative instruments during the fiscal years ended June 30,
2004, 2003, or 2002.

NEW ACCOUNTING PRONOUNCEMENTS -- In December 2003, the FASB issued SFAS No. 132
(revised 2003), Employers' Disclosures about Pensions and Other Postretirement
Benefits -- an amendment of FASB Statements No. 87, 88, and 106 (SFAS 132
revised), which improves financial statement disclosures for defined benefit
plans. The change replaces existing FASB disclosure requirements for pensions
and requires additional disclosures about the assets, obligations, cash flows,
and net periodic benefit cost of defined benefit pension plans and other defined
benefit postretirement plans. The project was initiated by the FASB in response
to concerns raised by investors and other users of financial statements about
the need for greater transparency of pension information. The guidance is
effective for fiscal years ending after December 15, 2003, and for the first
fiscal quarter of the year following initial application of the annual
disclosure requirements. The Company's adoption of SFAS 132 provides enhanced
disclosures of 401(k) matching contributions (see Note 7) but has no impact on
the Company's financial position or results of operations.

2. STRATEGIC ALLIANCE AGREEMENTS

ST. JUDE MEDICAL

The Company has a strategic alliance with St. Jude Medical, Inc. (St. Jude
Medical) which incorporates United States and foreign license agreements
(together, the License Agreements) and a Collagen Supply Agreement (see below).

THE LICENSE AGREEMENTS -- Under the License Agreements, St. Jude Medical
has exclusive rights to manufacture and market all current and future sizes
of the Angio-Seal worldwide. Also under the License Agreements, the Company
receives royalty payments based upon a percentage of the revenues generated
from the sale of the Angio-Seal.

THE COLLAGEN SUPPLY AGREEMENT -- Pursuant to an agreement with St. Jude
Medical, the Company manufactures the collagen plug component of the
Angio-Seal. The agreement is a three-year agreement expiring on November
30, 2005 which contains a minimum purchase requirement from St. Jude
Medical, with pricing that fluctuates based on product size and cumulative
quantities sold.

ORTHOVITA

In March 2003, the Company entered into a development, manufacturing and supply
agreement with Orthovita under which the Company develops and commercializes
products based on Orthovita's proprietary VITOSS bone graft substitute material
in combination with the Company's proprietary biomaterials (the Orthovita
Agreement). Under the Orthovita Agreement, products are co-developed, Kensey
Nash manufactures the products and Orthovita markets and sells the products
worldwide. Also under the Orthovita Agreement, Kensey Nash receives a royalty
payment based upon Orthovita's total end-user sales of co-developed products.

In July 2004, the Company acquired the intellectual property rights of a third
party, an inventor of the VITOSS technology (the Inventor), for $2.6 million
under an assignment agreement with the Inventor (the Assignment Agreement).
Under the Assignment Agreement, the Company receives all intellectual property
rights of the Inventor that had not previously been assigned to Orthovita. Also
under the Assignment Agreement, the Company will receive a royalty from
Orthovita on the sale of all Orthovita products containing the VITOSS
technology, up to a total royalty to be received of $4,035,782.

F-11

3. GOODWILL

The Company accounts for goodwill under the provisions of SFAS 142. Under SFAS
142, goodwill is no longer amortized but is subject to annual impairment tests.
The Company has established its annual impairment testing date to be June 30th
of each fiscal year.

There were no changes to the net carrying amount of goodwill for the year ended
June 30, 2004 from June 30, 2003. The Company completed its initial required
goodwill impairment test under SFAS 142 in the first quarter of fiscal 2002. The
most recent tests in fiscal 2004, 2003 and 2002 indicated that goodwill was not
impaired.

4. LEASES

At June 30, 2004, future minimum annual rental commitments under non-cancelable
lease obligations were as follows:

Rent expense for operating leases consists of rent for the Company's facilities
in Exton, Pennsylvania, Duluth, Minnesota (through July 2003) and Eschborn,
Germany. Rent expense for the fiscal years ended June 30, 2004, 2003 and 2002
was approximately $811,000, $697,000 and $511,000, respectively.

5. PATENT ACQUISITION AGREEMENT

In November 1997, the Company entered into an agreement (the Patent Acquisition
Agreement) to acquire a portfolio of puncture closure patents and patent
applications as well as the rights of the seller under a pre-existing licensing
agreement. The acquired patents were valued at the share price per share of the
Company's common stock, multiplied by the number of shares issued, on the date
of the Patent Acquisition Agreement plus the present value of the cash payments
and the legal and related costs incurred to acquire the patents. The patents are
being amortized over the average remaining useful life of the acquired portfolio
at the time of the acquisition which was approximately 15 years. At June 30,
2004, the remaining period of amortization was approximately 9 years.

6. DEBT

ACQUISITION OBLIGATION -- On September 1, 2000, in conjunction with the
acquisition of THM Biomedical, the Company incurred a note payable in the amount
of $4.5 million (the Acquisition Obligation). The Acquisition Obligation was due
in equal quarterly installments of $281,250 beginning on December 31, 2000 and
ending on September 30, 2004. Accordingly, the present value of the cash
payments (discounted based upon the Company's then available borrowing rate of
7.5%) of $3,833,970 was recorded as a liability on the Company's consolidated
financial statements. During the quarter ended March 31, 2003, the Company
repaid certain debt holders, thereby reducing the Company's remaining quarterly
installments to $223,256 through September 30, 2004. The remaining balance is
$219,147 at June 30, 2004, of which the entire amount is current.

7. RETIREMENT PLAN

The Company has a 401(k) Salary Reduction Plan and Trust (the 401(k) Plan) in
which all employees that are at least 21 years of age are eligible to
participate. Contributions to the 401(k) Plan are made by employees through an
employee salary reduction election. Effective October 1, 1999, the Company
implemented a 25% discretionary matching contribution, on up to 6% of an
employee's total compensation, for all employee contributions. Employer
contributions to the 401(k) plan for 2004, 2003 and 2002 were $143,694, $117,796

F-12

and $87,500, respectively. Effective July 1, 2005, the Company revised its
discretionary matching contribution to 50%, on up to 6% of an employee's total
compensation, for all employee contributions.

8. INCOME TAXES

The Company accounts for income taxes under SFAS No. 109, which generally
provides that deferred tax assets and liabilities be recognized for temporary
differences between the financial reporting basis and the tax basis of the
Company's assets and liabilities and expected benefits of utilizing net
operating loss (NOL) carryforwards. The impact on deferred taxes of changes in
tax rates and laws, if any, applied to the years during which temporary
differences are expected to be settled are reflected in the financial statements
in the period of enactment.

The Company recorded tax credits of $984,817 and $1,500,000 for fiscal years
ended June 30, 2004 and June 30, 2003, respectively. The entire tax credit
recorded for 2003 and $310,000 of the 2004 credit related to qualified research
and development activities of the Company for the period 1991 through 2003.

Earnings before income taxes earned within or outside the United States are
shown below:

The Provision for income taxes is composed of the following:

F-13

The differences between the Company's income tax expense (benefit) and the
income tax expense (benefit) computed using the U.S. federal income tax rate
were as follows:

Significant components of the Company's deferred tax assets are as follows:

A portion of the Company's deferred tax asset is offset by a valuation allowance
relating to state NOL carryforwards due to restrictions imposed and uncertainty
surrounding its use. The valuation allowance reduces deferred tax assets to an
amount that represents management's best estimate of the amount of such deferred
tax assets that more than likely will be realized. At June 30, 2004, the Company
had NOL carryforwards for state tax purposes totaling $20.0 million, which will
expire though 2024. In addition, the Company has a foreign net operating loss of
$300,000 at June 30, 2004, which will not expire.

F-14

9. CONSULTING CONTRACTS

In October 2002, the Company granted options to purchase 50,000 shares of common
stock to a physician pursuant to a five-year consulting agreement related to the
development of a carotid artery application for the TriActiv.

In July 2003, the Company granted options to purchase 1,500 shares of common
stock to a physician pursuant to a two-year consulting agreement related to the
development of orthopaedic applications for the Company's porous and non-porous
tissue fixation and regeneration devices and drug delivery devices.

The Company calculated the fair value of these non-employee options in
accordance with SFAS No. 123, as $375,550 and $11,378 for the October 2002 and
July 2003 grants, respectively, using the Black-Scholes option-pricing model.
These amounts were recorded as prepaid consulting expense and increases to
additional paid in capital in the quarters ended December 31, 2002 and September
30, 2003, respectively. The prepaid expense is being amortized to research and
development expense over the terms of the agreements. Accordingly, $80,799 was
recorded as a component of research and development expense for the period ended
June 30, 2004. In the comparable period of the prior year, the research and
development expense associated with these consulting contracts was $56,333 for
the period ended June 30, 2003 and related only to the first consulting
agreement mentioned above.

10. STOCK REPURCHASE PROGRAM

On October 23, 2003, the Company announced that its board of directors had
approved a program to repurchase up to 400,000 of its issued and outstanding
shares of Common Stock over six months from the date of the board approval.

In the second quarter of fiscal year 2004, the Company repurchased and retired
140,500 shares of common stock under the program at a cost of approximately $3.0
million at an average market price of $21.34 per share. The Company financed the
repurchases using its available cash.

No additional repurchases were made during the quarter ended March 31, 2004 and
through the remainder of the program, which expired on April 23, 2004.

REINSTATEMENT OF STOCK REPURCHASE PROGRAM

On August 17, 2004, the Company announced that its board of directors had
reinstated a program to repurchase issued and outstanding shares of Common Stock
over six months from the date of the board approval. The current plan calls for
the repurchase of up to 259,500 shares, the balance under the original plan
mentioned above.

As of September 3, 2004, the Company had repurchased and retired 25,000 shares
of common stock under the program at a cost of approximately $600,000 or an
average market price of $24.14 per share. The Company is financing the
repurchases using its available cash.

The Company plans to continue to repurchase its shares for cash, from time to
time in the open market, through block trades or otherwise. The repurchase
program does not require the Company to purchase any specific dollar value or
number of shares. Any purchases under the program will depend on market
conditions and may be commenced or suspended at any time or from time to time
without prior notice.

11. CONCENTRATION OF CREDIT RISK

Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist primarily of cash and cash equivalents,
investments and accounts receivable. The Company places its cash, cash
equivalents and investments with high quality financial institutions and has
established guidelines relative to diversification and maturities to maintain
safety and high liquidity. No single component of the Company's investment
portfolio represented more than 12% or 11% of the total investments at June 30,
2004 and June 30, 2003, respectively. With respect to trade and royalty
receivables, such receivables are primarily with St. Jude Medical (24% and 95%,
and 42% and 100% of trade and royalty receivables, respectively, at June 30,
2004 and
F-15

2003) (see Note 2). The trade receivable from two other customers, Arthrex, and
Orthovita, were approximately 37% and 33%, respectively, of trade receivables at
June 30, 2004. If any of these customers' receivable balances should be deemed
uncollectible, it would have a material adverse effect on the Company's results
of operations and financial condition. The Company performs ongoing credit
evaluations on all of its customers' financial conditions, but does not require
collateral to support customer receivables.

12. CERTAIN COMPENSATION AND EMPLOYMENT AGREEMENTS

The Company has entered into employment agreements with certain of its officers,
which provide for aggregate annual base salaries of $705,000 through June 30,
2005.

13. PREFERRED STOCK

The Company has an authorized class of undesignated Preferred Stock consisting
of 100,000 shares with a $.001 par value. The Board of Directors may authorize
the issuance of Preferred Stock, which ranks senior to the common stock with
respect to the payment of dividends and the distribution of assets on
liquidation. In addition, the Board of Directors is authorized to fix the
limitations and restrictions, if any, upon the payment of dividends on Common
Stock to be effective while any shares of Preferred Stock are outstanding. The
Board of Directors, without stockholder approval, can issue Preferred Stock with
voting and conversion rights, which could adversely affect the voting power of
the holders of Common Stock. At June 30, 2004 and 2003, no shares of Preferred
Stock were outstanding. The Company has no present intention to issue shares of
Preferred Stock.

14. STOCK OPTION PLANS

The Company has an Employee Incentive Compensation Plan (the Employee Plan), a
flexible plan that provides the Employee Plan Committee (the Committee) with
broad discretion to award eligible participants with stock-based and
performance-related incentives as the Committee deems appropriate. The persons
eligible to participate in the Employee Plan are officers and employees of the
Company who, in the opinion of the Committee, contribute to the growth and
success of the Company.

The Compensation Committee of the Board of Directors oversees the Committee and
may grant nonqualified stock options, incentive stock options or a combination
thereof to the participants. As of June 30, 2003 the total number of shares
authorized for issuance under the Employee Plan was 3,200,000 of which options
to purchase a total of 2,077,325 shares of the Company's common stock at a
weighted average exercise price of $12.31 were outstanding, and options to
purchase a total of 1,033,982 shares of the Company's Common Stock had
previously been exercised under the Employee Plan. As a result, only 88,693
shares remained available for new awards under the Employee Plan. Consequently,
the Board of Directors proposed, and the stockholders subsequently approved at a
special meeting held on June 28, 2004, to reserve an additional 850,000 (raising
the total number provided under the plan to 4,050,000) shares of Common Stock
for issuance under the Employee Plan. Options granted will provide for the
purchase of Common Stock at prices determined by the Compensation Committee, but
in no event less than the closing price of the stock on the date of grant. As of
June 30, 2004, awards consist solely of stock options as summarized in the table
below.

The Company also has a Non-employee Directors' Stock Option Plan (the Directors'
Plan). The Directors' Plan grants nonqualified stock options for the purchase of
Common Stock to directors who are not employees. Under the Directors' Plan, a
total of 410,000 shares are available for option grants.

Each non-employee director was granted an option to purchase 5,000 shares of
Common Stock on the Directors' Plan's effective date. In addition, the
Director's Plan provides for the grant of an option to purchase 7,500 shares of
Common Stock to each non-employee director on the date of each regular annual
stockholder meeting. The participant must either be continuing as a non-employee
director subsequent to the meeting or have been elected at such meeting to serve
as a non-employee director. Options granted under the Directors' Plan must
provide for the purchase of Common Stock at the closing price of the stock on
the date of grant.

F-16

Under both plans, the options are exercisable over a maximum term of ten years
from the date of grant and vest over periods of zero to four years based on the
grant date.

A summary of the stock option activity under both plans for the years ended June
30, 2004, 2003 and 2002, is as follows:

The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option-pricing model with the following weighted average
assumptions used for grants:

F-17

The following table summarizes significant option groups outstanding at June 30,
2004 and related weighted average exercise price and remaining contractual life
information as follows:

15. RESTRICTED STOCK

The Company may provide restricted stock grants to executive officers and
outside directors of the Company under the Employee Plan approved by the
Company's stockholders. Shares awarded under the plan vest in installments up to
three years and unvested shares are forfeited upon termination of employment.
The Company made the following grants to outside directors during fiscal 2004
(vesting of these shares is contingent upon the Company's achievement of certain
earnings per share targets and Company common stock price targets):

Compensation expense related to all restricted stock grants is being recorded
over a three-year vesting period of these grants. For the year ended June 30,
2004, the Company recognized expense of $33,255 related to restricted share
awards.

16. EARNINGS PER SHARE

The following table shows the reconciliation between the numerators and
denominators for the basic and diluted EPS calculations, where income is the
numerator and the weighted average number of shares is the denominator.

F-18

17. SEGMENT REPORTING

Operating segments are identified as components of an enterprise about which
separate discrete financial information is available for evaluation by the chief
operating decision-making group in making decisions regarding how to allocate
resources and assess performance. Based on the criteria established by SFAS No.
131, Disclosures About Segments of an Enterprise and Related Information (SFAS
131), the Company's operations and products have been aggregated into a single
reportable segment since they have similar economic characteristics, production
processes, types of customers and distribution methods.

The Company's primary products are all medical devices and include Biomaterials
and Embolic Protection (the TriActiv). With respect to biomaterials products,
the Company designs and/or manufactures and markets various absorbable polymer
and collagen products for use in numerous applications including orthopaedic,
cardiology, drug/biologics delivery, periodontal, general surgery and wound
care. The Company also receives royalty revenue from the sale of Angio-Seal
units by St. Jude Medical and research and development revenue under certain
research and development contracts or grants. The TriActiv was commercially
launched in Europe in the fourth quarter of fiscal 2002. Net sales by product
line and a reconciliation to total revenue is as follows:

For the years ended June 30, 2004, 2003 and 2002, revenues from St. Jude Medical
represented the following percentages of total revenues to the Company:

F-19

For the years ended June 30, 2004, 2003 and 2002, revenues from Arthrex
represented the following percentages of total revenues to the Company:

The Company's revenues from external customers are summarized below. Revenues
are attributed to a country based on the location of the customer. No one
country other than the U.S. represented more than 10% of the Company's revenues.
In addition, all of the Company's long-lived assets are located in the U.S.

18. QUARTERLY FINANCIAL DATA (UNAUDITED)

The summarized quarterly results of operations of the Company for the years
ended June 30, 2004 and June 30, 2003 are presented below:

Quarterly and total year earnings per share are calculated independently based
on the weighted average number of shares outstanding during each period.

* * * * *

15(a) 2. FINANCIAL STATEMENT SCHEDULES

All other schedules are omitted because they are not required, are not
applicable or the information is scheduled in our financial statements or notes
thereto.

F-20

15(a) 3. EXHIBITS

- ---------------

* This exhibit is incorporated by reference to the exhibit with the same
Exhibit Number in our Current Report on Form 8-K filed with the SEC on
November 30, 2000.

** This exhibit is incorporated by reference to the exhibit with the same
Exhibit Number in our Registration Statement on Form S-1, Registration
No. 33-98722.

*** This exhibit is incorporated by reference to the exhibit with the same
Exhibit Number in our Quarterly Report on Form 10-Q for the quarterly
period ended September 30, 2001.

**** This exhibit is incorporated by reference to Exhibit 4.5 in our
Registration Statement on Form S-8, Registration No. 333-71050.

***** This exhibit is incorporated by reference to the exhibit with the same
Exhibit Number in our Registration Statement on Form S-3, Registration
No. 333-35494.

****** This exhibit is incorporated by reference to Exhibit 4.2 in our
Registration Statement on Form S-8, Registration No. 333-117354.

******* This exhibit is incorporated by reference to the exhibit with the same
Exhibit Number in our Quarterly Report on Form 10-Q for the quarterly
period ended December 31, 2003.

+ Management contract or compensatory plan or arrangement required to be
filed as an exhibit to this Annual Report on Form 10-K.

F-21

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this Report to be signed on its
behalf by the undersigned, thereunto duly authorized, on the 13th day of
September 2004.

KENSEY NASH CORPORATION

By: /s/ WENDY F. DICICCO, CPA
------------------------------------
Wendy F. DiCicco, CPA
Chief Financial Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this Report
has been signed below by the following persons on behalf of the Registrant and
in the capacities indicated on the 13th day of September 2004.