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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-K

FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO

SECTIONS 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Fiscal Year Ended March 31, 2004
OR

For the transition period from                               to                              

Commission File No. 0-20970

Vision-Sciences, Inc.
(Exact name of Registrant as specified in its charter)

Registrant's telephone number, including area code: (508) 650-9971

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 $.01

        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 ý    No o

        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.     ý    

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

        Aggregate market value of Common Stock held by non-affiliates of the Registrant as of September 30, 2003 based upon the last sale price of the Common Stock on the Nasdaq SmallCap Market as reported by Nasdaq:    $25,056,757

        Number of shares outstanding of the Registrant's Common Stock as of May 31, 2004:    30,873,213

        Documents incorporated by reference: Portions of the Proxy Statement for the 2004 Annual Meeting of Stockholders are incorporated by reference into Part III of this Form 10-K.

PART I

Item 1.    Business

        This Annual Report on Form 10-K contains forward-looking statements, including statements about new product introductions, expectations as to future sales of the products of Vision-Sciences, Inc. (the "Company", "we", "our", "us"), the availability of supplies, the sufficiency of our capital resources to meet anticipated capital requirements, our intentions to manufacture product in Israel, our sales distribution channels and our expectations as to future expenditures, including research and development expenditures. For this purpose, any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing, the words "believes", "anticipates", "plans", "expects", and similar expressions are intended to identify forward-looking statements. These forward-looking statements involve risks and uncertainties, and our actual results may differ significantly from the results discussed in the forward-looking statements. Factors that might cause such a difference include, but are not limited to, the availability of capital resources, the availability of third-party reimbursement, government regulation, commercialization and technological difficulties, general economic conditions and other risks detailed below. See "Certain Factors That May Affect Our Future Operating Results."

        This Business section should be read in conjunction with our Consolidated Financial Statements attached hereto as Appendix A, including the notes thereto.

        We design, develop, manufacture and market products for endoscopy, the science of using an instrument, known as an endoscope, to provide minimally invasive access to areas not readily visible to the human eye. We operate in three reportable segments: medical, industrial and corporate.

        The medical segment designs, manufactures and sells our EndoSheath® System ("EndoSheath"), a single-use device that slides on to the insertion tube of a flexible endoscope. The insertion tube is the part of an endoscope that enters the patient's body. The use of an EndoSheath gives health-care providers economic advantages because it allows them to avoid the burdensome cleaning required of endoscopes, reduces repair costs to endoscopes caused by the harsh chemicals used in the cleaning process and allows health-care providers to avoid investing in multiple endoscopes. Our EndoSheaths that have channels help to improve the practice efficiency of health-care providers by allowing them to perform procedures in their offices that otherwise they would have to perform in hospitals using special endoscopes that have channels. Often, the reimbursement rates are higher for physicians when they perform procedures in their offices. In addition, the EndoSheath is a sterile device that provides patients with a contaminant-free insertion tube for each procedure. There is a risk to patients of cross-contamination from the reuse of conventional flexible endoscopes that health-care providers are unable to effectively sterilize.

        The industrial segment manufactures and repairs flexible endoscopes for the medical segment. These include our conventional nasopharyngolaryngo ("ENT") endoscopes, and our Video Enabled Endoscopes ("VEE") for the ENT market. In addition, the industrial segment manufactures and repairs our trans-nasal diagnostic esophagoscope ("TNE D scope"), sigmoidoscope, bronchoscope and will be manufacturing our cystoscope, our new TNE therapeutic scope and other endoscopes after they complete the product development cycle. In addition, the industrial segment designs, manufactures and markets flexible endoscopes, called borescopes, for industrial markets, primarily aircraft maintenance, jet engine manufacturing and defense.

        The corporate segment consists of certain administrative activities applicable to all segments.

        We were incorporated in Delaware in 1987 under the name Machida Incorporated. Since that time, we have acquired by merger Cyberex Corporation (in October 1988) and Vascu-Care, Inc. (in March 1989), and acquired pursuant to a share exchange Opielab, Inc. (in September 1990). We

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changed our name to Vision-Sciences, Inc. in December 1990. Our principal executive offices are located at 9 Strathmore Road, Natick, Massachusetts 01760. Our telephone number is (508) 650-9971.

Endoscopy

Background

        Endoscopy is a minimally invasive technique that is being used with increased frequency in a growing number of medical applications. Endoscopes are used for a variety of screening and diagnostic procedures and are also used therapeutically as an alternative to more traditional surgical procedures. Endoscopic therapeutic procedures, unlike more traditional "open" surgical procedures, can be performed without a major incision, in most cases without general anesthesia, and are, therefore, safer and less expensive than traditional surgical procedures. In addition, endoscopic procedures are typically performed on an outpatient basis, generally involving less recovery time and patient discomfort than traditional surgery. The patient benefits and cost savings associated with endoscopy have caused many governmental reimbursement programs and private health insurance plans to encourage the use of endoscopic procedures in a number of medical applications. In many instances, the use of endoscopes allow physicians to receive higher reimbursement for performing procedures in their offices, compared to performing them in hospitals, due to the insurance plan not having to reimburse for the hospital cost component.

        Flexible endoscopes are tubular instruments that enter the body through a natural orifice and enable physicians to view the interior of a body organ or cavity remotely and perform various screening, diagnostic and therapeutic procedures. Flexible endoscopes generally utilize fiberoptic bundles or video camera technology for image production. The physician can steer the distal portion of a flexible endoscope with control knobs on the endoscope's operator body. By maneuvering the tip of the endoscope, the physician can access body regions through lengthy and twisted passageways, and perform a variety of procedures. The typical ENT endoscope does not contain channels whereas most conventional flexible endoscopes for gastroenterology ("GI"), pulmonary, urology procedures and special ENT endoscopes do contain a series of channels running the length of the endoscope for delivery of air, water, suction and accessory devices, such as biopsy forceps and cutting instruments.

        Rigid endoscopes generally utilize a stainless steel tube encasing a series of high resolution lenses to transmit the optical image. Most rigid endoscopes do not contain the channels that are characteristic of flexible endoscopes. Rigid endoscopes are currently utilized for diagnostic and surgical procedures such as arthroscopy, laparoscopy, urological and gynecological procedures. While rigid endoscopes for other medical applications, such as bronchoscopes, sigmoidoscopes and nasopharyngo-laryngoscopes are still marketed, they have largely been supplanted by flexible endoscopes, which offer improved patient comfort and better handling capabilities. We do not currently plan to manufacture endoscopes for the rigid endoscope market.

Applications

        Flexible endoscopes are widely used in hospitals, clinics and physicians' offices, primarily on an outpatient basis. Our flexible endoscopes are designed primarily for screening, diagnostic and therapeutic procedures in fields such as otolaryngology (ear-nose-throat medicine, or "ENT"), gastroenterology, urology, pulmonary medicine, primary care and surgery. We estimate, based on various industry sources, that approximately 20 million flexible endoscopic procedures in these fields are performed in the United States annually.

        ENT Endoscopes.    These endoscopes, typically without channels, are used for viewing the ears, nose, throat and larynx for diagnostic purposes, such as testing for throat cancer or sleep apnea. We estimate that based on industry sources, approximately 4 million such procedures are performed in the United States annually, generally by otolaryngologists and allergists in hospitals, clinics and physicians'

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offices. In addition, there are ENT endoscopes with a channel, which are typically used in hospitals to perform procedures such as biopsies, removal of polyps in sinus cavities, tests for swallowing disorders and other procedures. These endoscopes require a significantly larger investment to acquire than flexible endoscopes without a channel.

        Gastrointestinal Endoscopes.    Based on industry sources, we estimate that over 12 million flexible endoscopic procedures involving the screening, diagnosis or treatment of the colon, esophagus, stomach and duodenum are performed in the United States annually. Continued growth in such procedures is expected to result from an increase in sigmoidoscopies performed for the purpose of detecting cancer of the descending colon, as well as the increased medical needs associated with an aging population. The American Cancer Society has recommended that every adult over the age of 50 (currently approximately 77 million Americans) receive a screening sigmoidoscopy every three to five years, or a colonoscopy every ten years. The most common flexible endoscopes used in GI endoscopy are sigmoidoscopes, colonoscopes, gastroscopes and duodenoscopes.

        Pulmonary Endoscopes.    A bronchoscope and an intubation endoscope are flexible endoscopes used for viewing the trachea, bronchi and lungs for diagnostic and therapeutic purposes, generally by pulmonary specialists and anesthesiologists in a clinic or hospital setting. We estimate that based on industry sources, approximately 500,000 procedures using flexible bronchoscopes are performed in the United States annually. Because pneumonia is common in persons infected with the HIV virus, and because bronchoscopy is often used to make this diagnosis, there has been increased usage of bronchoscopes for this purpose, as well as greater recognition of the need to perform bronchoscopies in a contamination-free manner to protect both the HIV positive patients, who have weakened immune systems, and subsequent patients on whom the bronchoscope is used.

        Urology Endoscopes.    Cystoscopes allow the urologist to view the inside of the bladder and urethra and are commonly used to diagnose and take biopsies of bladder tumors, identify obstruction of the bladder and to install and remove stents as part of surgical procedures. We estimate that based upon industry sources, over 250,000 flexible cystoscopies are performed annually in the United States, of 79% are done in an outpatient setting. Sterile equipment is highly desired for cystoscopy, but today, most cystoscopes are disinfected, not sterilized.

Problems with Conventional Flexible Endoscopes

        While endoscopy represents a significant advance in the field of clinical medicine, flexible endoscopes without EndoSheaths present a number of health risks and problems to both patients and medical personnel. Flexible endoscopes are intended for repeated use in hundreds of procedures and, with each use, come in contact with some combination of the patient's blood, tissue, mucus, saliva, urine or stool. Therefore, flexible endoscopes without EndoSheaths must be meticulously manually cleaned and disinfected after each procedure. However, the design of flexible endoscopes makes it impossible to sterilize them, and even difficult to attain high-level disinfection after cleaning. As a result, the repeated use of flexible endoscopes without EndoSheaths and the difficulty of thoroughly cleaning and disinfecting them after each use create the following problems:

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Patients, and to a lesser degree the physicians using the flexible endoscopes without EndoSheaths and the nurse assistants cleaning them, are exposed to the risk of infection from contaminated endoscopes that results from their repeated use.



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The nurses or other medical personnel who clean endoscopes used without EndoSheaths face health risks from exposure to toxic disinfecting agents used in the cleaning process.



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The proper cleaning of a flexible endoscope used without an EndoSheath is relatively expensive, time-consuming and arduous.

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•

The repeated cleaning of a flexible endoscope used without an EndoSheath subjects it to wear and tear, reduces its useful life and impairs the quality of its optics; in addition, improper cleaning can cause blocked channels, which require expensive endoscope repairs.



•

The time needed to clean a flexible endoscope used without an EndoSheath after each use results in a period of "down time" during which the endoscope cannot be used and may require users to buy and maintain multiple endoscopes.

        Difficulty of Proper Cleaning.    The problems associated with cleaning flexible endoscopes used without EndoSheaths can be better understood by examining the cleaning procedures they require. The cleaning of these endoscopes is generally the responsibility of the nurse or endoscopic assistant. The Society of Gastroenterology Nurses and Associates, Inc., in 1990 published Recommended Guidelines for Infection Control in Gastrointestinal Endoscopy Settings (the "SGNA Guidelines"). Although cleaning procedures for endoscopes vary widely, the following is a summary of the principal steps in the cleaning procedures that are called for by the SGNA Guidelines:

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Inspection—Endoscopes should be tested for leaks and inspected for damage. Even small leaks can lead to costly fiberoptic or video component damage or contamination of the endoscope.



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Cleaning—After gross cleaning to remove patient material, endoscopes should be thoroughly rinsed, the detachable parts should be removed and cleaned and exteriors should be sponge-cleaned. All internal channels that are accessible should be scrubbed with brushes, while unreachable air and water channels should be rinsed clear of residual patient organic matter, as the presence of such matter diminishes the effectiveness of the disinfecting agents used. The endoscope should then be washed in a detergent and enzyme solution, with such cleaning agents drawn through internal channels. The endoscope should then be rinsed, with excess water removed, since residual water can dilute disinfectants.



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Disinfection—Endoscopes should be disinfected using recommended chemical agents or an automated cleaner. Disinfectants must also be drawn through internal channels during this process. Although certain sterilization methods are available for flexible endoscopes, conventional heat sterilization will destroy flexible endoscopes.



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Rinsing—To ensure that patients are not exposed to toxic disinfectants, endoscopes should be thoroughly rinsed using either tap water or sterile water, followed by a final rinse in an alcohol solution.



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Drying—Endoscopes and channels should be dried using forced air, flushed with an alcohol solution and dried again, prior to storage.



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Storage—Endoscopes should be hung vertically in well-ventilated cabinets to prevent recontamination or damage between uses.

        Proper cleaning of flexible endoscopes used without EndoSheaths, even when done in compliance with the SGNA Guidelines, is difficult to achieve for a number of reasons. Firstly, the design of these flexible endoscopes, which includes channels, joints and crevices, makes it difficult to reach and clean all parts of the endoscope. As the SGNA Guidelines state, an endoscope's "complex and fragile structure presents problems in cleaning/disinfecting/sterilizing". Secondly, we believe the most important step in the cleaning process is the manual removal of organic material, and therefore, the opportunity for human error is always present, even if optimal cleaning procedures are followed. Finally, there are questions concerning the efficiency of some disinfecting agents used in the endoscope cleaning process. For example, in 1991 the federal Food & Drug Administration ("FDA") recommended that the medical profession cease the use of Sporicidin, a widely-used endoscope disinfectant, based upon the FDA's conclusion that this disinfectant does not work. The FDA has also required that the manufacturers of 2.4% glutaraldehyde-based disinfectants change the recommended soak time on their instructions for

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use from 20 minutes to 45 minutes, and increase the temperature from 20 degrees Celsius to 25 degrees Celsius. This longer soak time means slower turnaround on conventional scopes, and the increased temperature of the glutaraldehyde is hazardous due to increased caustic vapors released during heating.

        Health Risks.    Because flexible endoscopes used without EndoSheaths are difficult to clean properly, sterilization (the complete elimination of microbial life) is virtually impossible to achieve. Therefore, "high-level disinfection" (the elimination of all microbial life other than the most highly resistant spores) is the standard currently recommended by the Centers for Disease Control ("CDC") for cleaning flexible endoscopes. However, studies indicate that high-level disinfection is often not attained and that cross-contamination remains a risk to patients and medical personnel.

        Numerous infectious agents, including pseudomonas, tuberculosis and salmonella, have been reported in the medical literature as having been transmitted through the use of contaminated endoscopes. Concern about the risk of endoscopic cross-contamination has also been heightened by the increasing prevalence of the HIV and hepatitis viruses.

        The cleaning procedures required for endoscopes also subject medical personnel to health risks (such as severe eye, nose and throat irritation, nausea, headaches, asthma and skin rashes) from exposure to toxic disinfecting agents. The Occupational Safety and Health Administration has classified glutaraldehyde, a key ingredient in many endoscope disinfecting agents, as a highly toxic material and requires hospitals, clinics and physicians' offices to reduce the level of emissions to 0.2 parts per million wherever glutaraldehyde is used. In addition, toxic disinfectants must be disposed of in compliance with applicable environmental laws.

        Other Problems.    In addition to the health problems posed by the use and cleaning of conventional flexible endoscopes, the required cleaning of these products is relatively expensive, time-consuming and arduous. We estimate, based upon our own experience, that the cleaning and disinfection procedure required following each use of a flexible endoscope without an EndoSheath, if done in compliance with the FDA recommendations, would take approximately 60 minutes. The repeated cleaning in harsh chemical disinfectants also subjects a flexible endoscope to wear and tear, reducing its useful life and impairing the quality of its optics. Moreover, the failure to clean all organic materials from a flexible endoscope's channels is a common cause of blocked channels, which require expensive endoscope repairs as well as a back-up inventory of endoscopes. In addition, the need to properly clean a flexible endoscope after each use requires that each doctor performing endoscopies must either have access to a number of endoscopes or be forced to wait an estimated 60 minutes between each endoscopic procedure (assuming the endoscope is cleaned in compliance with FDA Guidelines).

Company Strategy

        Our business strategy is to design, develop, manufacture and market flexible endoscopes with Slide-On EndoSheath Systems as devices that provide physicians with tools to increase their practice efficiency and also protect patients by providing a sterile insertion tube for each procedure. To implement this strategy, we developed a variety of flexible endoscopes with Slide-On EndoSheath Systems described below. We market our ENT products domestically primarily through an exclusive distribution agreement with Medtronic Xomed, Inc., and our other products through our own network of independent sales representatives. We market all our products internationally through our network of independent international distributors. We manufacture EndoSheaths in our Natick, MA facility, and endoscopes in our Orangeburg, NY facility. In addition, to reduce our manufacturing costs, we have entered into an agreement with a subcontractor in Israel to manufacture certain of our EndoSheaths.

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Products and Product Development Programs

        In the medical segment, our primary products include a family of flexible endoscopes with Slide-On EndoSheath Systems for applications in the ENT, GI, pulmonary and urology markets. In addition, through our industrial segment we currently manufacture and sell borescopes, which are endoscope devices for industrial applications, and related products.

Medical Segment

ENT EndoSheaths and Endoscopes

        We have developed a family of Slide-On ENT EndoSheaths for use with our own conventional ENT-2000 endoscope and our slim ENT-1000 endoscope, and with ENT endoscopes manufactured by other companies. Slide-On EndoSheaths do not require the use of a pump to inflate the EndoSheath during installation onto an endoscope. Rather, Slide-On EndoSheaths are made with materials using our own proprietary process that makes the EndoSheath slippery, allowing the health-care provider to easily slide the EndoSheath onto the insertion tube of an ENT endoscope. The user stretches the Slide-On EndoSheaths slightly until the proximal connector attaches to the strain relief of any ENT endoscope, allowing a snug fit. In addition, Slide-On ENT EndoSheaths have an optically clear window that fits securely over the ENT endoscope tip, preventing glare. After the procedure is completed, the health-care provider slides the EndoSheath off the endoscope and disposes of it. In general, ENT endoscopes do not contain air, water, suction or accessory channels, unlike endoscopes designed for use in gastroenterology, pulmonology or urology. Therefore, our standard Slide-On ENT EndoSheaths, designed to be the only component that comes into contact with the patient, do not contain channels. Other of our ENT EndoSheaths and our EndoSheaths for gastroenterology, pulmonology and urology do contain channels. We have also developed our own ENT endoscopes, with state-of-the-art fiberoptic bundles, designed so that any necessary repairs are inexpensive and with other features that we believe make them competitive with ENT endoscopes of other major manufacturers.

        As part of the Slide-On family of ENT EndoSheaths, we manufacture and sell a Slide-On ENT with Channel EndoSheath and a Slide-On ENT Sensory EndoSheath, both for our own flexible ENT-2000 endoscope and for ENT endoscopes manufactured by other companies. These EndoSheaths allow physicians to perform procedures in their offices using their conventional ENT endoscopes that otherwise they would have to perform using special ENT endoscopes that contain a channel. These special ENT endoscopes are expensive, and typically are found at hospitals.

        The Slide-On ENT Channeled EndoSheath contains a 2.1mm channel within the Slide-On EndoSheath that the physician can use to perform biopsies or other therapeutic procedures. The Slide-On ENT Sensory EndoSheath is designed to provide ENT physicians the opportunity to perform Flexible Endoscopic Evaluation of Swallowing with Sensory Testing ("FEESST") using their conventional endoscopes. FEESST, an alternative emerging procedure to modified barium swallow studies, is performed by the ENT physician using the Slide-On ENT Sensory EndoSheath that contains a channel through which air is pulsed to the larynx to elicit an airway protective reflex. The ENT physician, by observing the reaction to the air pulse, is able to diagnose, treat and manage patients with swallowing disorders with an emphasis on decreasing the risk of choking, coughing and aspirating food and liquids that can lead to aspiration pneumonia. Both of these EndoSheaths enhance the practice efficiency of physicians, as they enable the physicians to use their conventional ENT endoscope to perform tests in their offices, compared to traveling to a hospital to perform them with a special ENT endoscope. Often, by performing the tests in their offices, the ENT physician receives a higher reimbursement, compared to the reimbursement received when the test is performed in a hospital.

        Another member of our ENT family is our flexible ENT-2000VE endoscope, our first VEE, for the ENT market. The VEE architecture is a hybrid between video and fiberoptic endoscopes. The insertion tube contains a glass fiber bundle, but the optical eye piece is eliminated, replaced with a CCD camera

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that is integrated in the handle. The CCD camera's output cable connects to a compact camera control unit that sends standard video signals to a flat screen or video monitor. This integrated configuration eliminates the need for the physician to close one eye and view the patient's internal organs with the other via the small eyepiece, or the alternative of attaching a relatively expensive and heavy add-on camera to the eyepiece. The ENT-2000VE utilizes our standard optics, and our EndoSheath for the ENT-2000 endoscope.

        We manufacture and sell a TNE D scope with Slide-On EndoSheath System that is designed to allow ENT and GI physicians to view the esophagus transnasally, i.e. through the nose, compared to viewing it transorally, i.e. through the mouth, as with a conventional gastroscope. Conventional gastroscopes require patients to be consciously sedated to counteract the gag reflex encountered when a gastroscope is inserted transorally. Our TNE D scope with Slide-On EndoSheath System, with its narrow diameter allowing transnasal passage, enables physicians to perform examinations in their office of a patient's throat and esophagus for manifestations of gastroesophageal reflux disease ("GERD"). We estimate that approximately 40 million people in the United States suffer from some form of GERD affecting their vocal chords, esophagus or stomach.

        The TNE D scope can also be used to evaluate patients with dysphagia, a condition broadly defined as a subjective or objective patient complaint of difficulty swallowing, or of coughing or choking while swallowing or eating. A physician performs this test if an oropharyngeal exam did not fully reveal the cause of the patient's swallowing problem. Currently this procedure is performed in a hospital setting with conscious sedation and a special endoscope that contains a biopsy channel that doubles as an air-administration channel. The TNE D scope with Slide-On EndoSheath System is designed to allow these tests to be done by ENT and GI physicians in their offices, thus improving practice efficiency and lowering overall costs to the health care system. Both the diagnostic and therapeutic procedures have reimbursement codes, allowing physicians to receive payment for the service, and allowing us to measure the practice efficiencies presented by our products. We completed the development of the TNE D scope with Slide-On EndoSheath System in our fiscal year ended March 31, 2004 ("FY 04").

Gastrointestinal and Pulmonary EndoSheath/Endoscope Systems

        We have developed a family of proprietary flexible endoscope systems for GI and pulmonary applications consisting of two main components—a proprietary, sterile, disposable EndoSheath and a reusable, flexible endoscope incorporating our proprietary design. The EndoSheaths and endoscopes included in these systems are functional only when used together.

Industrial Segment

        Under the Machida name, we design, manufacture and market flexible borescopes, which are similar in design to endoscopes and are used for inspection and quality-control functions in industrial applications, such as the inspection of aircraft engines and nuclear power plants. Through Machida, we were first to offer a flexible borescope with a grinding attachment that allows users to "blend", or smooth, small cracks in small turbine blades of jet engines without disassembling the engine, which would involve significant expense and delay. We also offer a variety of ancillary products for use with flexible endoscopes and borescopes, such as light sources, cameras, adapters, accessories and imaging systems.

Sales and Marketing

Medical Segment

        The end users of our disposable EndoSheaths, flexible endoscopes and related products are otolaryngologists (ENT doctors), gastroenterologists, urologists, colon and rectal surgeons,

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pulmonologists and primary care physicians in hospitals, medical clinics and physicians' offices. As of May 1, 2004, we had four sales and marketing employees. Since September 19, 2003 we have been distributing all of our products for the ENT markets in the U.S.A. and Canada through Medtronic Xomed, Inc. ("Medtronic Xomed") as part of our exclusive distribution agreement (the "Medtronic Agreement") with them. We have retained our domestic network of independent sales representatives for the GI, urology and pulmonary product lines. We distribute all our products internationally through 23 independent international distributors in Europe, Australia, South America, the Middle East and the Far East. We periodically evaluate the effectiveness of our sales channels, and may change them if we believe a different method will increase our revenues.

        Although we have no specific plans or commitments in this regard, we may also license to one or more third parties rights to manufacture and sell reusable flexible endoscopes incorporating our proprietary design features, while retaining the rights to manufacture and sell the EndoSheaths used with these endoscopes.

Industrial Segment

        Our borescopes are sold both directly by our Machida subsidiary and through independent sales representatives.

International Sales and Sales to Major Customers

        Sales to unaffiliated customers outside of the United States were approximately $1,830,000, $2,090,000 and $2,981,000 for FY 02, FY 03 and FY 04, respectively. In FY 04, sales to foreign customers accounted for approximately 34% of the annual net sales of our medical segment and 21% of net annual sales of our industrial segment. We expect to sell our medical segment products outside of the United States in the fiscal year ending FY 05 in approximately the same proportion as in FY 04. We currently sell certain models of our borescopes and repair services outside of the United States.

        During FY 02, Pratt Whitney accounted for 13% of net sales. During FY 03, no customer accounted for over 10% of net sales. During FY 04, Medtronic Xomed and Gyrus International Ltd. accounted for 30% and 10% of net sales, respectively.

Backlog

        We had an order backlog of approximately $1,797,000 at March 31, 2004, compared to a backlog of approximately $544,000 at March 31, 2003. The backlog in 2004 was comprised of approximately $1,585,000 and $212,000 for the medical and industrial segments, respectively. The backlog in 2003 was comprised of approximately $419,000 and $125,000 for the medical and industrial segments, respectively. The increase in the medical segment backlog is primarily due to an increase in ENT endoscopes and ENT EndoSheaths for delivery to Medtronic Xomed through the first year of the Medtronic Agreement. The increase in the backlog of the industrial segment was due primarily to an increase in the amount of orders from that segment's existing customer base. We expect to fill over 75% of our order backlog in the fiscal year ending March 31, 2005 ("FY 05").

Manufacturing and Suppliers

        We produce EndoSheaths at our Natick, Massachusetts facility using raw materials, molded parts and components purchased from independent vendors, some of which are manufactured to our specifications. We manufacture our ENT EndoSheaths using proprietary processes that utilize the forming and bonding machines that were manufactured to our specifications. In addition, we use molded purchased parts and a worldwide, royalty-free exclusive license, negotiated with a third party, to manufacture optically clear windows. This license is for windows used in our EndoSheaths for ENT and intubation endoscopes. We have also negotiated a non-exclusive license to include the same technology

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in our EndoSheaths for use in other markets. Currently, we are using this technology in the ENT EndoSheaths, ENT Channeled EndoSheaths, ENT Sensory EndoSheaths, TNE D EndoSheaths and in EndoSheaths for our bronchoscopes.

        We assemble the GI and pulmonary EndoSheaths using molded and extruded components purchased from independent vendors, some of which are manufactured to our specifications. Most purchased components are available from multiple sources. With the exception of our supply agreement with Pentax Corporation ("Pentax"), discussed below, we have no long-term agreements with any of our vendors or suppliers, and we purchase our required components and supplies on a purchase-order basis. We contract with third parties for the sterilization of all of our EndoSheaths.

        In June 2003, we entered into a Contract Manufacturing Agreement, a Loan Agreement and a Pledge Agreement (collectively, the "3BY Agreements") with Three BY Ltd., an Israeli company ("3BY"). The purpose of the 3BY Agreements was to lower the manufacturing cost of our EndoSheath products, and to provide for increased manufacturing capacity of our ENT EndoSheaths. The 3BY Agreements provide for, among other things, the manufacture of certain of our products by 3BY, and a loan of up to $267,500 from us to 3BY for the purchase and installation of certain manufacturing equipment by 3BY, at 3BY's facility, to be used to manufacture certain of our products. As of December 31, 2003, we had advanced $267,500 to 3BY. After production has begun, we and 3BY plan to establish a repayment schedule, according to the 3BY Agreements. We expect 3BY will begin to deliver GI, pulmonary and ENT EndoSheaths by the end of our second fiscal quarter of FY 05.

        We assemble our flexible endoscopes for the medical and industrial segments at our Orangeburg, New York facility using purchased components and subassemblies, as well as certain proprietary components produced by us. Most purchased components and subassemblies are available from more than one supplier. However, certain critical components, such as image bundles for all endoscopes manufactured for the medical segment and operator control bodies for sigmoidoscopes, are currently being purchased solely from Pentax, who competes with our medical segment in the endoscope market. These components are being purchased pursuant to a supply agreement, which expires in March 2005, subject to earlier termination by mutual consent or upon breach or bankruptcy, and which may be extended with the consent of both parties. We believe that while substitute components, which are currently produced by sources other than Pentax, would be available, such substitute components may be more expensive and of a lower quality and may require a redesign of our endoscope and additional regulatory clearances. Moreover, such substitute components may not be immediately available in quantities needed by us. Our inability to obtain a sufficient quantity of such critical components on favorable terms could materially adversely affect our business. To date, we have encountered no significant difficulties or delays in obtaining a sufficient quantity of such critical components or subassemblies for our ENT endoscopes, our TNE D scopes, our sigmoidoscope or our bronchoscope. However, there can be no assurance that no difficulties or delays will be experienced in the future as we increase our manufacturing operations. The industrial segment purchased approximately $1,477,000 and $833,000 worth of products, for the manufacture of both medical and industrial products, from Pentax in FY 04 and FY 03, respectively.

        Our borescopes are assembled using components and subassemblies purchased from independent vendors. While most components and subassemblies are currently available from more than one supplier, certain critical components are currently purchased only from Machida Endoscope Company, Ltd., an unaffiliated Japanese company. The failure of us to obtain a sufficient quantity of such components on favorable terms could materially adversely affect our business.

        We purchase light sources, cameras, adapters, accessories and imaging systems for industrial applications from a variety of vendors.

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Competition

        We believe that the primary competitive factors in the medical market for flexible endoscopes and EndoSheaths are the safety and effectiveness (including optical quality) of the products offered, ease of product use, product reliability, price, physician familiarity with the manufacturer and its products and third-party reimbursement policies. In our industrial markets, we believe that product effectiveness, ease of product use, product reliability and price are the principal competitive factors. Our ability to compete in our markets is affected by our product development and innovation capabilities, our ability to obtain required regulatory clearances, our ability to protect the proprietary technology included in its products, our manufacturing and marketing skills and our ability to attract and retain skilled employees.

        The flexible endoscopes and related products currently sold and under development by us face competition primarily from medical products companies such as Olympus and Pentax. In addition, any company that is able to significantly redesign flexible endoscopes used without an EndoSheath to simplify the disinfection process, or significantly improve the current methods of disinfecting flexible endoscopes, would provide competition for our products. The principal competitors for our industrial products are Olympus and Welch Allyn, Inc.

        Our competitors and some potential competitors have greater financial resources, research and development personnel and manufacturing and marketing capabilities than we do. In addition, it is possible that other large health care companies may enter the flexible endoscope market in the future.

Patents and Proprietary Rights

        Our success depends in part on our ability to maintain patent protection for our products, to preserve our trade secrets and to operate without infringing the proprietary rights of third parties. Our strategy regarding the protection of proprietary rights and innovations is to seek patents on those portions of our technology that we believe are patentable, and to protect as trade secrets other confidential and proprietary information.

        We, along with our subsidiaries, currently hold 28 U.S. patents and have 7 U.S. patent applications pending. In addition, we have 17 foreign patents and have 21 foreign patent applications pending. All of these patents relate to our disposable EndoSheaths and reusable flexible endoscopes. The issued patents will expire on various dates in the years 2004 through 2019. In addition to those listed above, we have 1 U.S. patent issued and 6 U.S. patents pending in the U.S. and 12 corresponding foreign applications for Complementary Metal Oxide Semiconductor ("CMOS") image sensor design patents. There can be no assurance that our pending patent applications will result in patents being issued or that our competitors will not circumvent, or challenge the validity of, any patents issued to us. In addition, in the event that another party infringes our patent rights, the enforcement of such rights is at our option and can be a lengthy and costly process, with no guarantee of success.

        Some of the technology used in, and that may be important to, our products is not covered by any patent or patent application. We seek to maintain the confidentiality of our proprietary technology by requiring all employees who work with proprietary information to sign confidentiality agreements and by limiting access by outside parties to such confidential information. However, there can be no assurance that these measures will prevent the unauthorized disclosure or use of this information, or that others will not be able to independently develop such information. Moreover, as is the case with our patent rights, the enforcement of our trade secret rights can be lengthy and costly, with no guarantee of success.

        To date, no claims have been brought against us alleging that our technology or products infringe any intellectual property rights of others. However, there can be no assurance that such claims will not be brought against us in the future or that any such claims will not be successful.

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Government Regulation

        The medical products that we currently market and that are under development are regulated as medical devices by the FDA under the federal Food, Drug and Cosmetic Act (the "FDC Act") and require regulatory clearance prior to commercialization in the United States. Under the FDC Act, the FDA regulates clinical testing, manufacturing, labeling, distribution and promotion of medical devices in the United States. Various states and other countries in which our products may be sold in the future may impose additional regulatory requirements.

        Following the enactment of the Medical Device Amendments to the FDC Act in May 1976, the FDA classified medical devices in commercial distribution into one of three classes, Class I, II, or III. This classification is based on the controls necessary to reasonably ensure the safety and effectiveness of the medical device. Class I devices are those devices whose safety and effectiveness can reasonably be ensured through general controls, such as adequate labeling, pre-market notification, and adherence to the FDA's Quality System Regulations ("QSR"). Some Class I devices are further exempted from some of the general controls. Class II devices are those devices whose safety and effectiveness can reasonably be ensured through the use of special controls, such as performance standards, post-market surveillance, patient registries and FDA guidelines. Class III devices are devices that must receive pre-market approval by the FDA to ensure their safety and effectiveness. Generally, Class III devices are limited to life-sustaining, life-supporting or implantable devices.

        If a manufacturer or distributor of medical devices can establish that a new device is "substantially equivalent" to a legally marketed Class I or Class II medical device or to a Class III medical device for which the FDA has not required pre-market approval, the manufacturer or distributor may seek FDA marketing clearance for the device by filing a 510(k) Pre-market Notification. The 510(k) Pre-market Notification and the claim of substantial equivalence may have to be supported by various types of information indicating that the device is as safe and effective for its intended use as a legally marketed predicate device.

        Following submission of the 510(k) Pre-market Notification, the manufacturer or distributor may not place the device into commercial distribution until an order is issued by the FDA. By regulation, the FDA has no specific time limit by which it must respond to a 510(k) Pre-market Notification. At this time, the FDA typically responds to the submission of a 510(k) Pre-market Notification within approximately 90 days. The FDA may declare that the device is "substantially equivalent" to another legally marketed device and allow the proposed device to be marketed in the United States. The FDA may, however, determine that the proposed device is not substantially equivalent, or may require further information, such as additional test data, before the FDA is able to make a determination regarding substantial equivalence. Such determination or request for additional information could delay the market introduction of our products and could have a material adverse effect on us.

        Flexible endoscopes, EndoSheaths, and accessory products have been classified by the FDA as Class II devices, and a Section 510(k) Pre-market Notification must be submitted to and cleared by the FDA before such devices can be sold. We have received FDA clearance of our 510(k) Pre-market Notifications for all of our products that require clearance. We expect that we will be required to obtain 510(k) clearance for each additional disposable EndoSheath/reusable flexible endoscope system that we develop in the future.

        Effective July 1998, our Natick, Massachusetts facility was certified as having established, and we continue to maintain, a quality system that meets the requirements of ISO 9001 and EN 46001. In addition, both the Natick and Orangeburg, New York facilities received their EC certificate, indicating they maintain a quality system that conforms to the essential requirements of the Council Directive 93/42/EEC, and apply this system at every stage from design to final controls. In July 2001, our Natick facility was re-certified, through July 2004, as maintaining a quality system that meets the requirements of ISO 9001, EN 46001 and ISO 13485. In addition to the three-year certification audits, we undergo

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annual surveillance audits to confirm that we are maintaining our quality system. The most recent surveillance audit was completed in August 2003. The Natick and Orangeburg facilities are registered with the FDA as medical device manufacturers. As a result, these facilities are subject to the FDA's QSR, which regulate their design, manufacturing, testing, quality control and documentation procedures. We are also required to comply with the FDA's labeling requirements, as well as its information reporting regulations. The export of medical devices is also subject to regulation in certain instances. Our compliance with these various regulatory requirements will be monitored through periodic inspections by the FDA and audits by independent authorities to maintain our ISO 9001 and ISO 13485 status. 3BY is certified as meeting the standards of ISO 9001 and EN 46001.

        The process of obtaining required regulatory clearances can be lengthy and expensive, and compliance with ISO 9001 and the FDA's QSR and regulatory requirements can be burdensome. Moreover, there can be no assurance that the required regulatory clearances will be obtained, and those obtained may include significant limitations on the uses of the product in question. In addition, changes in existing regulations or the adoption of new regulations could make regulatory compliance by us more difficult in the future. The failure to obtain the required regulatory clearances or to comply with applicable regulations may result in fines, delays or suspensions of clearances, seizures, recalls of products, operating restrictions or criminal prosecutions, and could have a material adverse effect on our operations.

Third-Party Reimbursement

        Hospitals, medical clinics and physicians' offices that purchase medical devices such as our EndoSheaths and flexible endoscopes generally rely on third-party payors, such as Medicare, Medicaid and private health insurance plans to pay for some or all of the costs of the screening, diagnostic and therapeutic procedures performed with these devices. Whether a particular procedure qualifies for third-party reimbursement depends upon such factors as the safety and effectiveness of the procedure, and reimbursement may be denied if the medical device used is experimental or was used for a non-approved indication. We believe, based upon our knowledge of third-party reimbursement practices, advice from consultants in this area and our own selling experience, that third-party reimbursement is available for most procedures that utilize our products. However, not all third-party payors will reimburse health-care providers separately for the cost of our EndoSheath.

        Third-party payors use a variety of mechanisms to determine reimbursement amounts for procedures such as endoscopies. In most cases, payment is based upon amounts determined by the Centers for Medicare & Medicaid Services ("CMS"), a governmental agency under the U.S. Department of Health and Human Services. As part of its responsibilities, CMS assigns relative value units ("RVUs") to over 10,000 physician services. An RVU for a specific procedure is comprised of values for work, practice expense and malpractice insurance, and when multiplied by a Conversion Factor, represents a dollar value for a specific procedure.

        CMS has developed practice expense RVUs specific to facility and non-facility settings. Generally, the facility practice expense RVUs will be used for services performed in inpatient or outpatient hospital settings, emergency rooms, skilled nursing facilities or ambulatory surgical centers. The non-facility practice expense RVUs will be used for services performed in all other settings. Based upon a review of calendar year 2004 RVUs for procedures that utilize our ENT EndoSheath, ENT Channeled EndoSheath, ENT Sensory EndoSheath, our TNE D EndoSheath and our products in development for TNE therapeutic and cystoscopy, we believe health care providers will receive payments ranging from 40% to 137% more per procedure for performing them in non-facility settings in 2004 compared to performing these services in facility settings. The increase in the RVUs for practice expense is based upon extensive reviews by CMS of actual practice expense data from the Clinical Practice Expert Panel and the American Medical Association's Socioeconomic Monitoring System.

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        We believe that, based upon the resource-based practice expense RVU, the number of procedures performed in non-facility settings will increase. This increase will be due primarily to the increased differential in payments that physicians will receive for performing these procedures. As these procedures move to non-facility settings, physicians will have to contend with the cost and effort required to reprocess endoscopes. We believe our disposable EndoSheaths, which eliminate the time and cost of cleaning endoscopes, will provide an economically beneficial alternative to the use of endoscopes without EndoSheaths. This economic benefit is based upon the provider not having to purchase multiple endoscopes, expensive special endoscopes with channels and expensive sterilizing equipment and supplies as well as not having to spend valuable time cleaning endoscopes. In addition, we believe that with approximately 77 million people in the United States over the age of 50, there will be an increase in the potential number of procedures that physicians will be performing. We believe our disposable EndoSheaths combined with the resource-based system for setting values for physician services together represent a sound economic solution for performing diagnostic and therapeutic procedures for a variety of illnesses.

        There can be no assurance that third-party reimbursement will continue to be available for procedures performed with our products or that the cost of our EndoSheaths would be covered by such reimbursement in the future. In addition, reimbursement standards and rates may change. We believe that the inability of users of our GI and pulmonary EndoSheaths to obtain adequate reimbursement from third-party payors has had a materially adverse effect on us.

Product Liability and Insurance

        The nature of our products exposes the Company to significant product liability risks. We maintain product liability insurance with coverage limits of $2,000,000 per year. We believe that this level of coverage is adequate, given our past sales levels and our anticipated sales levels for FY 05. We evaluate the adequacy of this coverage annually to determine if we need to increase it. No product liability claims have been brought against us to date. However, there can be no assurance that product liability insurance will continue to be available to us on acceptable terms, or that product liability claims in excess of our insurance coverage, if any, will not be successfully asserted against us in the future.

Research and Development

        We believe that our future success depends in part upon our ability to develop new products and enhance our existing products. In the past, we have devoted significant resources to research and development.

        Our research and development expenses, excluding stock-based compensation charges, in FY 02, FY 03 and FY 04 were approximately $320,000, $426,000 and $689,000, respectively.

        In FY 02 our research and development efforts focused on developing a Slide-On ENT Channeled EndoSheath to allow biopsy sampling, and on developing a Slide-On bronchoscope EndoSheath. In FY 03 our research and development efforts focused on finishing the Slide-On bronchoscope EndoSheath and the ENT Channeled EndoSheath, and beginning the development efforts for FEESST and TNE. In FY 04 our research and development efforts focused on completing products for FEESST and TNE. In addition, we completed the development of our ENT-1000 endoscope with Slide-On EndoSheath System, and continued efforts to develop a flexible cardio-thoracic endoscope with EndoSheath System. Also, we began efforts to develop a flexible cystoscope with Slide-On EndoSheath System, and our VEE line. We also have begun development of a line of peripheral products for ENT physicians, including a product for capturing images of patient conditions and archiving them for future reference.

        The cardio-thoracic ("CT") endoscope and EndoSheath System that we are developing for Endoscopic Technologies, Inc. ("Estech") is being designed to provide minimally invasive access to the

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pericardium in order to enhance visualization during epicardial atrial fibrillation procedures. Estech will have exclusive rights to distribute these products within the field of minimally invasive coronary atrial fibrillation surgery, assuming it meets certain minimum purchases. We expect to complete the development of the CT endoscope and EndoSheath in FY 05.

        Cystoscopy is a procedure that is normally performed to evaluate changes in urinary performance, blood in the urine and to visualize anatomy. These procedures are done in both the office and hospitals settings. We have developed, and will begin, in the first fiscal quarter of FY 05, the manufacture and marketing of a flexible cystoscope with Slide-On EndoSheath System for use by urologists. We believe these products will be useful to urologists to diagnose and take biopsies of bladder tumors, identify obstructions of the bladder and the installation and removal of stents. Cystoscopy and cystoscopy with biopsy have reimbursement codes.

        We plan to develop a TNE therapeutic ("TNE-T") endoscope with Slide-On EndoSheath System in FY 05. This configuration would include a trans-nasal esophagoscope designed to accept our TNE-T EndoSheath that has a channel allowing the physician to perform biopsies in the office. We believe this product will prove useful to increase the practice efficiency of both ENT and GI physicians, by allowing them to do biopsies in their offices.

Employees

        As of April 30, 2004, the Company had 69 employees, including temporary employees. No Company employees are represented by a labor union. The Company believes that its employee relations are good. The Company's success depends in large part upon its ability to attract and retain highly qualified scientific, management, sales and marketing personnel.

Executive Officers of the Company

        Ron Hadani, age 47, has been our President and Chief Executive Officer since February 2003. From 2001 to February 1, 2003, Mr. Hadani was a self-employed consultant, working in various capacities with early-stage companies in the U.S and Israel. From 1999-2001, he served as President of Kontran Medical, LLC. From 1997-1999 he served as Divisional Vice President of U.S. Surgical, a division of Tyco International, Ltd.

        Katsumi Oneda, age 66, a co-founder of the Company, was President and Chief Executive Officer from October 1993 to February 2003, and has served as Chairman of the Board of Directors since October 1993. He served as Vice-Chairman of the Board of Directors of the Company from May 1992 to October 1993, as Honorary Chairman of the Board of Directors from October 1991 to October 1993, and as Chairman of the Board of Directors from September 1990 to October 1991. Mr. Oneda is a director of several private companies. He has been a director since 1987, and is a member of the Executive Committee.

        Lewis C. Pell, age 61, a co-founder of the Company, has been Vice-Chairman of the Board of Directors since May 1992, and is a member of the Executive Committee. Mr. Pell has served as a director of Heart Technology, Inc., a publicly-held medical device company. Mr. Pell is a founder, or co-founder, and a director of a number of other privately-held medical device companies.

        James A. Tracy, age 55, joined the Company in July 1997 and was elected Vice President Finance in August 1997. From 1994 to 1996 Mr. Tracy was the Vice President Finance at ORS Environmental Systems, a manufacturer of environmental equipment and sensor instrumentation. He received a CPA certificate in 1975.

        Isao Fujimoto, age 56, has served as Vice President Manufacturing and Engineering of the industrial segment since January 1995. Mr. Fujimoto joined the Company in 1987, and served in a variety of roles in the manufacturing and engineering departments from that date to January 1995.

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        Mark S. Landman, age 50, has served as Vice President Operations of the medical segment since July 1999. Mr. Landman joined the Company in January 1991, and served in a variety of roles in product development, project management, manufacturing engineering and material control from that date to July 1999.

        Jitendra Patel, age 51, has served as Vice President Sales and Marketing of the industrial segment since August 2000. From August 1995 to July 2000, he served as the Manager of Sales and Marketing for that segment.

        Thomas Olmstead, age 50, has served as Vice President Sales and Marketing for the medical segment since October 1, 2001. From April 2000 to August 2001, Mr. Olmstead served as the Marketing Manager for the Pulmonary Endoscopy Products Group of C.R. Bard, a medical device company. From August 1996 to April 2000, Mr. Olmstead served as the General Manager of Mill-Rose Laboratories, Inc., a medical device manufacturer.

        Officers are elected on an annual basis and serve at the discretion of the Board of Directors.

Item 2.    Properties

        The operations of our medical segment currently occupy approximately 20,000 square feet of space in Natick, Massachusetts under a lease that expires in October 2006. The operations of the Company's industrial segment, and the offices of the Company's corporate segment are located in Orangeburg, New York under a lease for approximately 10,000 square feet, which expires in August 2005.

        Our Natick and Orangeburg facilities are registered with the FDA as medical device manufacturing facilities and, therefore, are subject to the FDA's QSR regarding manufacturing, testing, quality control and documentation procedures. We believe that the physical characteristics and layouts of these facilities are adequate to manufacture our products in compliance with applicable FDA regulations. In addition, our Natick facility is registered as meeting the requirements of ISO 9001, EN 46001 and ISO 13485, allowing us to sell our medical products in Europe and Canada.

Item 3.    Legal Proceedings

        As of March 31, 2004, there were no material legal proceedings to which we or any of our subsidiaries are a party, or to which any of our properties are subject.

Item 4.    Submission of Matters to a Vote of Security Holders

        No matters were submitted to a vote of our security holders during the last quarter of FY 04.

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PART II

Item 5.    Market for the Registrant's Common Stock and Related Stockholder Matters

        Since October 30, 1997, the Company's Common Stock has been quoted on the Nasdaq SmallCap Market under the symbol VSCI. The following table sets forth the high and low sale prices for the Common Stock on the Nasdaq SmallCap Market, as reported by Nasdaq during the periods indicated.

        Such over-the-counter market quotations reflect inter-dealer prices without retail mark-up, mark-down, or commission and may not necessarily represent actual transactions.

        As of May 31, 2004, there were 30,873,213 outstanding shares of Common Stock held by 218 stockholders of record, in addition to which there were approximately 1700 beneficial stockholders.

        We have never paid cash dividends on our Common Stock, and we do not expect to pay any cash dividends on our Common Stock in the foreseeable future. In accordance with a line-of-credit agreement that we have with a bank, we are prevented from paying cash dividends on our Common Stock.

        In March 2003, we completed a private equity placement with two of our employee/directors in an offering exempt from registration under Section 4(2) of the Securities Act of 1933, as amended. We sold an aggregate of 2,385,568 shares of common stock at a price of $.67 per share, which represented 67% of the average closing price of the common stock on the Nasdaq SmallCap Market during the five trading days ended March 21, 2003. We received an aggregate consideration of approximately $1,600,000 for the newly issued shares of Common Stock.

        In April, 2003, we completed a private equity placement with accredited private investors in an offering exempt from registration under Section 4(2) of the Securities Act of 1933, as amended. We sold an aggregate of 524,098 shares of common stock at a price of $0.67 per share, which represented 67% of the average closing price of the common stock on the Nasdaq SmallCap Market during the five trading days ended March 21, 2003. We received an aggregate consideration of approximately $351,000 for the newly issued shares of Common Stock.

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Securities Authorized for Issuance Under Equity Compensation Plans

        The following table provides information about the securities authorized for issuance under our equity compensation plans as of March 31, 2004:

Equity Compensation Plan Information

(1)

In addition to being available for future issuance upon exercise of options that may be granted after March 31, 2004, shares issuable under the 2000 Stock Incentive Plan may instead be issued in the form of restricted stock, unrestricted stock, stock appreciation rights, performance shares or other equity-based awards.

(2)

Includes any shares of Common Stock that would be issuable pursuant to the 2003 Director Option Plan, approved by the stockholders in July 2003.

(3)

All of our equity compensation plans have been approved by our stockholders.

        There were no repurchases of registered equity securities during the last quarter of FY 04.

Item 6.    Selected Financial Data

        The following table summarizes certain selected financial data and should be read in conjunction with the financial statements and related notes contained in Appendix A to this report.

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Item 7.    Management's Discussion and Analysis of Financial Condition and Results of Operations

Executive Summary

        This Annual Report on Form 10-K contains forward-looking statements within the meaning of The Private Securities Litigation Reform Act of 1995. Examples of forward-looking statements include statements about expectations about future financial results, future products and future sales of new and existing products, future expenditures, and capital resources to meet anticipated requirements. Without limiting the foregoing, the words "believes", "anticipates", "plans", "expects", and similar expressions are intended to identify forward-looking statements. These forward-looking statements involve risks and uncertainties, and our actual results may differ significantly from those discussed in the forward-looking statements. Factors that might cause such a difference include, but are not limited to, the availability of capital resources, the availability of third-party reimbursement, government regulation, the availability of supplies, competition, technological difficulties, general economic conditions and other risks. See "Certain Factors That May Affect Our Future Operating Results." We do not undertake an obligation to update our forward-looking statements to reflect future events or circumstances.

        We develop, manufacture and sell flexible endoscope products for the medical device and industrial device markets. We operate in three reporting segments: medical, industrial and corporate.

Medical Segment

        The medical segment supplies flexible endoscopes and disposable EndoSheaths to the ENT, GI and pulmonary markets. We expect to provide a flexible endoscope with disposable EndoSheath System to the urology market in the year ending March 31, 2005 ("FY 05"). Health-care providers use EndoSheaths to cover the insertion tube of flexible endoscopes, such as ENT endoscopes, TNE scopes, cystoscopes, sigmoidoscopes and bronchoscopes. The EndoSheaths allow the health-care providers to process patients economically by avoiding the reprocessing of endoscopes after each use. In addition, the EndoSheaths ensure a sterile insertion tube for each patient procedure.

        Our strategy in the medical segment in FY 04 was comprised of three components: a) improve sales distribution, b) lower manufacturing costs and c) increase the number of new product offerings.

Sales Distribution

        Since September 19, 2003 we have been distributing all of our products for the ENT markets in the U.S.A. and Canada through Medtronic Xomed as part of the Medtronic Agreement. The initial term of the Medtronic Agreement is three years. Thereafter, the Medtronic Agreement will be automatically renewed for successive one-year periods, unless terminated by either party upon advance written notice. Under the Medtronic Agreement, we have granted Medtronic Xomed exclusive distribution rights in the United States and Canada to market and sell our ENT EndoSheaths and ENT endoscopes to ENT practitioners. Medtronic Xomed has agreed to certain minimum purchase requirements for the initial twelve-month period of the term. The Medtronic Agreement has resulted in an increase in sales of our ENT EndoSheaths and ENT endoscopes due to the quantities of endoscopes and EndoSheaths purchased by Medtronic Xomed. In addition, due to the marketing and sales capabilities of Medtronic Xomed, the Medtronic Agreement has facilitated the introduction of new products to the ENT market, such as the TNE scope with Slide-On EndoSheath System, by allowing quicker market acceptance of these products. As a result of the Medtronic Agreement, the success of our ENT product lines is substantially dependent upon the success of the marketing and sales activities of Medtronic Xomed over which we have limited control. We have retained our domestic network of independent sales representatives for the GI and pulmonary product lines. Also, we have retained our own international network of distributors for all our medical product lines.

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Cost Reduction

        In the fourth fiscal quarter of FY 03, we completed the installation of machinery used to manufacture ENT EndoSheaths in our Natick, MA facility. We designed this machinery to lower the cost to manufacture these items by increasing the automation of the assembly process. For FY 04, the operation of the machinery has resulted in a reduction of the standard unit cost of ENT EndoSheaths of approximately 43%. In FY 04 we decided we could reduce manufacturing costs further by sub-contracting the manufacture of our EndoSheaths for the GI, Pulmonary and ENT markets to a company in Israel. That program continues, and we expect to begin to receive product in the second fiscal quarter of FY 05.

New Products

        In calendar 2003 we have received clearance from the FDA to market our ENT Channeled EndoSheath, our ENT Sensory EndoSheath and our TNE D scope with Slide-On EndoSheath System. In March 2004 we introduced our new small diameter ENT-1000 endoscope with Slide-On EndoSheath System, and we announced that we have CE Marked our TNE D scope with Slide-On EndoSheath System for marketing in Europe. We designed the first two products to allow ENT physicians to perform various procedures in their offices, as opposed to the current practice of performing the procedures in a hospital setting. Using our ENT Channeled EndoSheath or the ENT Sensory EndoSheath, along with the physician's conventional ENT endoscope, gives the ENT physician the ability to perform procedures in the office, instead of traveling to a hospital to utilize a special channeled ENT endoscope. In addition, under reimbursement procedures of the CMS, the ENT physician will receive a higher reimbursement by performing the procedures in their offices than they receive when they perform them in a hospital. We designed the TNE D scope with Slide-On EndoSheath System to give ENT physicians the ability to perform a new procedure, the diagnosis of GERD in their offices, using a local anesthetic. Currently gastroenterologists perform these procedures orally in endoscopy suites or hospitals using conscious sedation. We intend to also market this product to GI physicians, allowing them to perform a diagnostic procedure in their offices, where they will also receive the higher reimbursement rate.

        Our plans for new product introductions in FY 05 include the VEE line of endoscopes, the TNE T endoscope with Slide-On EndoSheath System, a cystoscope with Slide-On EndoSheath System, a line of peripheral products for ENT physician offices and an image-capturing and archiving system for ENT offices.

Industrial Segment

        The industrial segment designs, manufactures and sells flexible endoscopes, termed borescopes, for industrial users, and manufactures and repairs flexible endoscopes for the medical segment. The industrial segment users consist primarily of companies in the aircraft engine manufacturing and maintenance markets and the defense market.

Corporate Segment

        The corporate segment consists of certain administrative and business development activities applicable to the company as a whole.

Critical Accounting Policies and Estimates

        This discussion and analysis of our financial condition and results of operations is based upon our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States. See the Notes to the Consolidated Financial Statements included elsewhere herein. Certain of our accounting policies require the application of judgment in

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selecting the appropriate assumptions for calculating financial estimates. By their nature these judgments are subject to an inherent degree of uncertainty. We periodically evaluate the judgments and estimates used for our critical accounting policies to ensure that such judgments and estimates are reasonable for our interim and year-end reporting requirements. These judgments and estimates are based upon our historical experience, current trends and information available from other sources, as appropriate. If different conditions result from those assumptions used in our judgment, the results could be materially different from our estimates. Our critical accounting policies include the following:

Revenue Recognition

        We recognize revenue in accordance with SEC Staff Accounting Bulletin No. 104, Revenue Recognition in Financial Statements (SAB 104) and EITF 00-21 Revenue Arrangements with Multiple Deliverables. These pronouncements requires that five basic criteria must be met before revenue can be recognized: (1) persuasive evidence that an arrangement exists; (2) delivery has occurred or services rendered; (3) the fee is fixed and determinable; (4) collectibility is reasonably assured and (5) the fair value of undelivered elements, if any, exists. Determination of criterion (4) is based on management's judgment regarding the collectibility of invoices for products and services delivered to customers. Should changes in conditions cause management to determine this criteria is not met for certain future transactions, revenue recognized for any reporting period could be adversely affected.

Non-qualified Options Issued to Non-employees

        For FY 02—04 we accounted for certain non-qualified options granted to non-employees to purchase our common stock in accordance the EITF 00-19, Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company's Own Stock, and carried these contracts at fair value, with any changes in fair value recorded in the results of operations. Fair values for certain non-qualified options are derived from pricing models that consider current market and contractual prices for the underlying financial instruments or commodities, as well as time value and yield curve or volatility factors underlying the positions. Pricing models and their underlying assumptions impact the amount and timing of unrealized gains and losses recognized, and the use of different pricing models or assumptions could produce different financial results. The Company uses the Black-Scholes option pricing model to determine the fair market value of non-qualified options.

        Effective March 31, 2004, we amended the non-qualified option agreements previously granted to non-employees. This amendment provides that we may settle our obligation to the holder by delivering unregistered shares to the holder. As a result of this amendment, we now account for these non-qualified options as equity instruments, and the fair market value of these options was transferred to the equity section of our balance sheet. We will account for these options in accordance with the provisions of EITF 96-18.

Income Taxes

        Under our income tax policy, we record the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying consolidated balance sheets, as well as operating loss and tax credit carryforwards. The evaluation of the recoverability of any tax assets recorded on the balance sheet is subject to significant judgement. We have provided valuation allowances for all our deferred tax assets to date.

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Results of Operations

Fiscal Years Ended March 31, 2004 and 2003

Sales

        Net sales in FY 04 were $9,927,126, an increase of $3,497,484, or 54%, compared to net sales in FY 03. Sales in the medical segment increased by $2,925,540, or 77%, to $6,700,606, while sales of the industrial segment increased by $571,944, or 22% to $3,226,520. In the medical segment, sales by market in FY 04 and FY 03 were as follows ($000's):

Medical Segment—ENT Market

        Sales to the ENT market include products for the domestic and international markets as follows:

        We further delineate the products sold to the domestic market, as follows:

        The primary reasons for the increase in sales of products to the domestic ENT market were the changing of our distribution method from independent sales representatives to exclusive distribution in the U.S. and Canada with Medtronic Xomed, and the release of several new products. As of March 31, 2004, Medtronic Xomed has purchased more than the proportional quantity of ENT endoscopes and EndoSheaths that they contracted to purchase in the first year of the Medtronic Agreement. In addition, Medtronic Xomed has purchased our flexible TNE D scope with Slide-On EndoSheath System, as well as a variety of accessories, for resale in the ENT market. Total sales to Medtronic Xomed in FY 04 were approximately $2.9 million. As a result of the Medtronic Agreement, the success of our ENT product lines are substantially dependent upon the success of the marketing and sales activities of Medtronic Xomed over which we have limited control.

        We expect to negotiate the quantities of endoscopes and EndoSheaths for delivery from September 2004 through August 2005 ("Year 2") with Medtronic Xomed by the end of August 2004. There is no assurance that quantities and unit prices will be as favorable to us in Year 2 of the Medtronic Agreement as they have been in the first year. However, relations between us and

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Medtronic Xomed are open, and we expect we will negotiate quantities and prices for the second year that will be beneficial to both companies.

        Unit sales of ENT EndoSheaths to the domestic market were 210,140, an increase of 58%, compared to unit sales in FY 03. Unit sales of ENT endoscopes were 230, an increase of 151, or 191%, compared to unit sales in FY 03. The average unit sales price ("ASP") for ENT EndoSheaths and ENT endoscopes declined in FY 04, compared to FY 03, due to the Medtronic Agreement. However, the higher volume more than offset those price decreases.

        During FY 04 we released the Slide-On ENT Sensory EndoSheath, the flexible TNE D scope with Slide-On EndoSheath System and our ENT-1000 endoscope with Slide-On EndoSheath System. We recorded sales of all these products, with the TNE D scope with Slide-On EndoSheath System being the most prominent. We plan to show significant increases in sales of these products in FY 05. In addition, we expect to release other new products in FY 05 that will be additive to sales. These include our flexible cystoscope with Slide-On EndoSheath System, the TNE T with Slide-On EndoSheath System and a full line of VEE products for the ENT, GI and urology markets. In addition, we are planning to release a line of peripherals, including equipment for archiving patient images and complete our flexible endoscope with Slide-On EndoSheath System for the cardiothoracic market.

        We further delineate the products sold to the international market as follows:

        Unit sales of ENT EndoSheaths to the international market were 273,191, an increase of 50%, compared to unit sales in FY 03. We sold 144 ENT endoscopes in FY 04, an increase of 89%, compared to unit sales in FY 03. The ASP for ENT EndoSheaths and ENT endoscopes were approximately the same in FY 04, compared to FY 03. The increase in sales was due primarily to higher demand from Europe, where health care providers consider the use of the ENT EndoSheaths to be a cost-effective alternative to the time-consuming process of having to disinfect endoscopes after each use. In addition, concerns regarding cross-infection, specifically about the spread of variant Creutzfeldt-Jacob disease, persist in Europe. Also in FY 04, the value of the U.S. Dollar in relation to the Euro resulted in a favorable competitive advantage to our ENT endoscope, compared to the cost of endoscopes manufactured in other countries in Europe. In FY 05 we plan to increase the prices of the ENT endoscope and ENT EndoSheath by 5% and 8%, respectively. Our internal analysis of the effect of this price increase on units sold in FY 04 indicated approximately 13% of the increase in the sales of EndoSheath units likely were caused by advance purchases by our international distributors. This may have the effect of partially reducing our expected increase in unit sales in our first fiscal quarter of FY 05, but we do not believe it should have a significant effect on the future growth of the market.

        During FY 04 we signed agreements with three new distributors in Europe and the Middle East. Although sales to those distributors were not material in FY 04, we expect sales to both these new distributors and our current distributors will improve in FY 05 due to our marketing efforts, and to the continued release of the new products mentioned above to them. These marketing efforts in FY 05 include attending more trade shows, and hosting product symposiums for physicians where they can experience the benefits that our products can have on the efficiency of their practices, and the protection our products offer to patients. In addition, we plan to continue to sign agreements with

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distributors in countries where we do not have a presence. As of May 31, 2004 we have 23 independent distributors, covering Europe, the Far East, Australia, South America and the Middle East.

Medical Segment—GI and Pulmonary Markets

        Sales of endoscopes and EndoSheaths to the GI market continue to show little growth. Sales of endoscopes and EndoSheaths to the pulmonary market decreased. We have a loyal group of users of these products, and we plan to continue to supply them with product in FY 05, but we expect sales of these products will continue to show little growth, or even be negative compared to sales in FY 04. We believe the continued lack of reimbursement for the GI and pulmonary EndoSheath by insurance companies to health care providers is the primary cause for this lower demand. We do not expect demand for our GI and pulmonary EndoSheaths to increase, as health care providers cannot, in general, obtain separate reimbursement for the EndoSheath, thus discouraging its use. We increased the price of these EndoSheaths in November 2002 to help us recover our costs to manufacture them. By the second fiscal quarter of FY 05 we plan to have these products manufactured at our subcontractor in Israel, where we expect the costs to be approximately 50% less than our current costs.

Industrial Segment

        Sales in FY 04 of products in this segment increased as demand for new borescopes rebounded from prior years. We expect demand for new products of this segment to remain flat in FY 05.

Gross Profit

        Gross profit was $3,771,450, an increase of $2,104,220, compared to FY 03. The gross profit of the medical segment increased by approximately $1,775,000 to $2,796,000, and was 42% of sales, compared to 27% of sales in FY 03. Gross profit of the industrial segment increased by approximately $329,000 to $975,000 and was 30% of sales, compared to 24% of sales in FY 03.

        The increase in the gross profit of the medical segment was primarily due to the higher unit volume of ENT EndoSheaths and endoscopes for the ENT market, including the new TNE D scope. In FY 04 we experienced the full effect of the new machinery in Natick, MA used to manufacture ENT EndoSheaths that helped to reduce our standard unit costs by approximately 43%. In addition, we controlled our spending for fixed overhead expenses, increasing our efficiency and allowing us to realize a large portion of the gross profit generated by the higher unit volume.

        During FY 04, we began the process of moving the manufacturing of our GI and pulmonary EndoSheaths to a sub-contractor in Israel, where we expect the unit costs of these products will decline by approximately 50%. We advanced $267,500 to the subcontractor for the purchase and installation of machinery to produce ENT EndoSheaths. The transfer of the manufacturing of the GI and pulmonary products and the installation of the line of ENT manufacturing equipment has taken longer than we had expected due to delays in the manufacturing of the equipment and difficulties inherent in the transfer of production techniques. We expect to begin receiving manufactured product from Israel during our second fiscal quarter of FY 05.

        The higher gross profit in the industrial segment was due primarily to the higher volume of new product sold to customers, and to efficiencies attained by the increase in production of endoscopes for the medical segment. In addition, the industrial segment was able to reduce its reserves for obsolete inventory by using approximately $50,000 of parts previously reserved for in the production of endoscopes in FY 04. We expect the volume of sales to industrial customers of this segment will be flat in FY 05, but there can be no assurance that sales will not decline due to lower production of jet engines and reduced air travel. We plan to increase the quantity of endoscopes manufactured by the industrial segment for the medical segment significantly in the second half of FY 05. Although we

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expect this increase will result in increased absorption of overhead, there can be no assurance that at some point we will not need to increase our overhead spending in this segment

Operating Expenses

        Operating expenses increased by $625,784 in FY 04, compared to FY 03. Selling, general and administrative expenses ("SG&A") increased by $363,367, and research and development ("R&D") increased by $262,417. In the medical segment, SG&A expenses increased by approximately $45,000, due primarily to higher spending on legal fees related to intellectual property of approximately $75,000, and higher spending for marketing consulting of approximately $83,000. These were partially offset by lower spending for sales commissions of approximately $114,000, due to the elimination of our independent sales representative network for ENT products when we signed the Medtronic Agreement. In the industrial segment, SG&A costs declined by approximately $100,000 due primarily to lower personnel costs of approximately $45,000, lower charges for depreciation of approximately $31,000 and lower spending for travel and entertainment of approximately $22,000. In the corporate segment, SG&A costs increased by approximately $418,000 due primarily to higher personnel costs of approximately $173,000, due to a full year of salary for our CEO, higher charges for professional fees of approximately $203,000, due to fees related to the Medtronic Agreement and the 3BY Agreements and severance costs of $35,000, due to the separation from service of a corporate officer.

        R&D expenses increased in the medical segment by approximately $289,000, while declining by approximately $27,000 in the corporate segment. In the medical segment costs for personnel to work on projects increased by approximately $150,000. The remainder of the increase was due primarily to costs related to the development of new products: ENT-1000, TNE D scope, cystoscope, ENT Sensory EndoSheath, the flexible endoscope and EndoSheath System for the cardiothoracic market, the line of peripheral products for image capture and archiving and the VEE program. We reduced our efforts in Israel for the application of CMOS patent applications. We expect our R&D expense will be greater in FY 05 than in FY 04 due to continued development work on the products listed above, and for other new products where we believe our EndoSheath technology can increase physicians' practice efficiency.

        We recorded a charge of $3,398,036 for an increase in the fair market value of non-qualified stock options granted to non-employees, of which approximately $2.9 million was incurred in our fourth fiscal quarter. See footnote 1(m) in the attached financial statements. We used the Black-Scholes option pricing model to value these options, a primary component of which is the fair market value of the underlying common stock at the date of valuation. Our stock price increased from $1.72 per share at December 31, 2003 to $3.69 at March 31, 2004, resulting in the largest component of the charge. As of March 31, 2004, we amended the contracts to allow us to issue unregistered securities to option holders upon their exercise. This change resulted in a reclassification of these non-qualified stock options from liability instruments to equity instruments. Consequently, we will account for these options in accordance with EITF 96-18. We may incur charges for stock-based compensation for the issuance of new options in the future, but we do not expect a charge for this group of non-qualified options issued to non-employees.

Other Income (Expense)

        Interest income declined, due primarily to lower interest rates during FY 04. Other income increased slightly due to higher royalties on a patent licensed to a company in the urology market.

        Our net loss of $3,748,203, or $.12 per share, would have been $350,167, or $.01 per share without the charge for stock-based compensation. This compares to a loss of $1,822,104, or $.07 per share in FY 03, excluding the credit for stock-based compensation in that year. The number of shares increased due to the sale of new shares in April 2003 and option exercises by employees and non-employees during FY 04.

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Fiscal Years Ended March 31, 2003 and 2002

Sales

        Net sales in FY 03 were $6,429,642, a decrease of $283,465, or 4%, compared to net sales in FY 02. Sales in the medical segment increased by $311,049, or 9%, to $3,775,066, while sales of the industrial segment declined by $594,514, or 18%, to $2,654,576. In the medical segment, the change in sales by market was as follows ($000's):

Medical Segment—ENT Market

        Sales to the ENT market include products for domestic and international markets as follows:

        We further delineate the products sold to the domestic ENT market as follows:

        The primary reason for the increase in sales of ENT EndoSheaths was an increase in the number of customers and an increase in usage per customer, offset partially by lower pricing for first-time users. We sold 132,745 ENT EndoSheath units in FY 03, an increase of 23%, compared to FY 02. Our user base grew by 128 customers in FY 03, an increase of 16%, compared to FY 02. We believe the larger customer base was due to our pro-active efforts to contact ENT health-care providers and also to promotional pricing for first-time users. We believe the increased usage by customers was due primarily to the improved practice efficiencies they realize when using the ENT EndoSheath.

        We further delineate the products sold to the international ENT market as follows:

        In the international market we sold 182,690 ENT EndoSheath units, an increase of 40%, compared to FY 02. This increase was due primarily to higher demand for the EndoSheath in Europe, where cost considerations related to disinfecting endoscope are important, and concerns regarding cross-infection, specifically about the spread of variant Creutzfeldt-Jacob disease, persisted.

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        The decline in sales of ENT endoscopes to the international market was due to a number of factors, such as local country promotions of competitor's products and particular needs of some customers that do not repeat consistently from year to year. We experienced this in our fourth fiscal quarter of FY 03 when large orders of endoscopes that we delivered in the comparable fiscal quarter of FY 02 did not recur in FY 03.

Medical Segment—GI and Pulmonary Markets

        Sales of endoscopes and EndoSheaths to the GI and pulmonary markets decreased due primarily to the continued lack of reimbursement for these EndoSheaths by insurance companies to health care providers. In addition, we increased the price of these products in November 2002 to help us recover our costs, and this resulted in some users abandoning the products.

Industrial Segment

        Sales in FY 03 of products in this segment declined by approximately $470,000, or 22%, and sales of repair services declined by approximately $124,000, or 11%, compared to FY02. This segment continued to suffer from lower demand by the manufacturers of commercial jet engines.

Gross Profit

        Gross profit was $1,667,230, a decrease of $555,148, or 25%, compared to FY 02. The gross profit of the medical segment increased by $17,195 to $1,021,535, and was 27% of sales, while the gross profit of the industrial segment decreased by $572,343 to $645,695, and was 24% of sales.

        The increase in the gross profit of the medical segment was due to the higher unit volume of ENT EndoSheaths, offset partially by lower volume and higher unit costs of GI and pulmonary EndoSheaths. The higher prices for GI EndoSheaths did not take effect until Q4 03, whereas the higher costs reflected changes to standard costs made at the end of FY 02.

        During FY 03, we lowered the unit costs of ENT EndoSheaths by installing new production equipment that automates much of the process. As we did not complete that installation until our fourth fiscal quarter, the effect of these cost savings were not as great for all of FY 03 as the combined effects of volume and prices.

        The lower gross profit in the industrial segment was due primarily to the lower volume of shipments. The industrial segment continued to look for contracts in other markets, especially in defense, to replace the lost volume in the commercial aircraft engine manufacturing market.

Operating Expenses

        Operating expenses increased by $22,788 in FY 03, compared to FY 02. Selling, general and administrative expenses ("SG&A") increased by $126,000, research and development increased by $106,000 and stock-based compensation expenses declined by $209,000. In the medical segment, SG&A expenses increased by approximately $127,000, due primarily to higher charges for personnel costs and product promotion. The higher personnel costs include a full year of costs for our Vice President of Sales, compared to a half year in FY 02. In the industrial segment, SG&A costs declined by approximately $55,000 due primarily to lower expenses for commissions, in turn due to the lower sales. In the corporate segment, SG&A costs increased by approximately $54,000 due primarily to higher personnel costs, including the hiring of our new President and CEO in February 2003.

        Research and development expenses increased in the medical segment by approximately $136,000, while declining by approximately $30,000 in the corporate segment. In the medical segment we hired more personnel to work on our new projects, while we reduced our efforts in Israel for the application of CMOS patent applications. In the medical segment, we concentrated on developing three new

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products that we believe would address market needs to allow physicians to perform procedures in their offices that currently they could only perform in a hospital setting.

        We recorded a reduction in stock-based compensation costs in FY 03 related to various non-qualified stock options granted to non-employees that are valued at fair market value. This reduction was due primarily to a lower stock price at the end of FY 03 than FY 02, and less volatility in the price of our common stock during FY 03 as compared to FY 02.

Other Income (Expense)

        We did not record equity in the losses of 3DV in FY 03, as our investment balance was $0 at March 31, 2002 and did not made further investments in that entity. Interest income declined, due primarily to lower interest rates and to declining cash balances during FY 03. Other income increased due to higher royalties on a patent licensed to a company in the urology market.

        Our net loss was $1,707,095, or $.06 per share, compared to $1,894,527, or $.07 per share, in FY 02. The number of shares increased due to the sale of new shares in March 2003 and option exercises during FY 03.

Liquidity and Capital Resources

        In FY 04, the amount of cash used in our operations was approximately $741,000, compared to a usage of approximately $1,718,000 in FY 03. The improvement in our loss before stock-based compensation charges was the primary cause for the improvement, offset by a usage of approximately $595,000 to support working capital. We expect our working capital needs will increase, especially for accounts receivable due to higher sales, and to inventory due to manufacturing a broader range of product offerings and a desire to build safety stock for some key inventory components.

        Cash used in investing activities was approximately $365,000, comprised of spending for the purchase of property and equipment to support our increased production, the purchase and installation of new computers and advances to 3BY used to build machines for the ENT line. We expect we will spend approximately $700,000 for new property, plant and equipment in FY 05, primarily for production equipment related to the manufacture of new products, changes to our offices in Natick and Orangeburg and further improvements in our computer networks.

        Cash generated from financing activities totaled approximately $1,078,000. The primary source of this cash was the exercise of options to purchase common stock by employees and non-employees during the fiscal year, and the completion of a private placement of 524,098 shares of our Common Stock in April 2003. There are approximately 2.9 million vested options to purchase Common Stock outstanding at March 31, 2004, about evenly split between employees and non-employees. These options have a weighted average exercise price of $1.40 per share. It is possible some of these options will be exercised in FY 05.

        The primary composition of customers in the medical segment includes Medtronic Xomed and international distributors. We have good relations with all these customers and expect our collection experience will remain approximately the same in FY 05 as in FY 04. Our days sales outstanding ("DSO"), a calculation of the number of calendar days that accounts receivable remain unpaid, at March 31, 2004 for the medical segment was 33. The composition of customers in the industrial segment includes large and small industrial companies, and aircraft maintenance companies. The DSO for that group of customers was 47 at March 31, 2004. We monitor our customer accounts formally on a monthly basis, and more often as necessary. During FY 04, the change in our strategy from selling directly to a customer base of approximately 1,000 customers in the ENT market to selling to one customer, Medtronic Xomed, our exclusive distributor of products to the ENT market in the U.S.A. and Canada, and our experience of steady collections from them resulted in a higher confidence level

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in the balance of accounts receivable, resulting in a reduction to the allowance for doubtful accounts of approximately $24,000, net. We will continue to monitor our receivables and will adjust the allowance for doubtful accounts accordingly.

        At March 31, 2004, our principal sources of liquidity included $2.7 million in cash and cash equivalents. In July 2003, we renewed our bank agreement, which is subject to renewal in July 2004. This bank agreement includes a revolving line of credit under which we may borrow up to $1,000,000, net of up to $250,000 of any outstanding letters of credit and banker's acceptances. Borrowings under these loan arrangements must be fully cash collateralized. The agreement also stipulates that when we achieve positive cash flow, as defined in the agreement, we will be eligible to negotiate changes to these loan arrangements that may include changing the borrowing base for revolving loans, and the release of the pledged cash collateral. Any borrowing under this demand line would bear interest at the prime rate, which was 4.00% on March 31, 2004.

        We have incurred losses since our inception, and although we expect to reach break even in FY 05, there can be no assurance that we will be successful. We have funded the losses principally with the proceeds from public and private equity financings. We expect to generate operating income in the second half of FY 05, due primarily to higher sales and lower costs of production in the medical segment. There can be no assurance that our strategy will result in an operating income during FY 05, and we may seek equity capital during FY 05. However, there can be no assurance that capital will be available on terms acceptable to us, if at all.

Contractual Obligations

        The following chart summarizes our contractual obligations as of March 31, 2004.

Off-Balance Sheet Arrangements

        We have no off-balance sheet arrangements that have, or are reasonably likely to have, a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

Certain Factors That May Affect Our Future Operating Results

        Factors that may affect our future operating results include, without limitation, the following:

        We have incurred substantial losses since our inception, and there can be no assurance that we will achieve a profitable level of operations in the future. We anticipate a negative cash flow during FY 05, due primarily to increased working capital and capital expenditures. We had cash and marketable securities totaling $2.7 million as of March 31, 2004. Although we do not anticipate the need for additional financing in FY 05, management has decided that new financing may be desirable. However, there can be no assurance that such financing will be available on terms acceptable to us, if at all.

        There can be no assurance that third-party reimbursement will continue to be available for procedures performed with our products. In addition, reimbursement standards and rates may change. We believe that the failure of users of our GI and pulmonary products to obtain adequate reimbursement from third-party payors has had a materially adverse effect on our sales.

        Our products and manufacturing practices are subject to regulation by the FDA and by other state and foreign regulatory agencies. The process of obtaining required regulatory clearances can be lengthy

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and expensive, and compliance with the FDA's QSR can be burdensome. Moreover, there can be no assurance that the required regulatory clearances will be obtained, and those obtained may include significant limitations on the uses of the product in question. In addition, changes in existing regulations or the adoption of new regulations could make regulatory compliance by us more difficult in the future. The failure to obtain the required regulatory clearances or to comply with applicable regulations may result in fines, delays, suspensions of clearances, seizures, recalls of products, operating restrictions or criminal prosecutions, and could have a material adverse effect on our operations.

        Certain critical components of our products, such as image bundles, are currently being purchased solely from Pentax, a competitor of ours. These components are being purchased pursuant to a supply agreement, which expires in March 2005, subject to earlier termination by mutual consent or upon breach or bankruptcy, and which may be extended with the consent of both parties. We believe that while substitute components, which are currently produced by sources other than Pentax, would be available, such substitute components may be more expensive and of a lower quality and may require a redesign of our endoscope and additional regulatory clearances. Moreover, such substitute components may not be immediately available in quantities needed by us. Our inability to obtain a sufficient quantity of such critical components on favorable terms could materially adversely affect our business. In addition, our industrial borescopes are assembled using components and subassemblies purchased from independent vendors. While most components and subassemblies are currently available from more than one supplier, certain critical components are currently purchased only from Pentax and Machida Endoscope Company, Ltd. The failure of us to obtain a sufficient quantity of such components on favorable terms could materially adversely affect our business.

        Our ability to compete in our markets is affected by our product development and innovation capabilities, our ability to obtain required regulatory clearances, our ability to protect the proprietary technology included in our products, our manufacturing and marketing skills and our ability to attract and retain skilled employees. The flexible endoscopes and related products currently sold and under development by us face competition primarily from medical products companies such as Olympus and Pentax. In addition, any company that is able to significantly redesign conventional flexible endoscopes to simplify the cleaning process, or significantly improve the current methods of cleaning flexible endoscopes, would provide competition for our products. The principal competitors for our industrial products are Olympus and Welch Allyn. Many of our competitors and potential competitors have greater financial resources, research and development personnel, and manufacturing and marketing capabilities than we have. In addition, it is possible that other large health care companies may enter the flexible endoscope market in the future.

        Our success depends in part on our ability to maintain patent protection for our products, to preserve our trade secrets and to operate without infringing the proprietary rights of third parties. There can be no assurance that our pending patent applications will result in patents being issued or that our competitors will not circumvent, or challenge the validity of, any patents issued to us. There can be no assurance that measures taken by us to protect our proprietary information will prevent the unauthorized disclosure or use of this information, or that others will not be able to independently develop such information. In addition, in the event that another party infringes our patent rights or other proprietary rights, the enforcement of such rights is at our option and can be a lengthy and costly process, with no guarantee of success. Moreover, there can be no assurance that claims alleging infringement by us of other's proprietary rights will not be brought against us in the future or that any such claims will not be successful.

        The nature of our products expose us to significant product liability risks. We maintain product liability insurance with coverage limits of $2,000,000 per year. We believe that this level of coverage is adequate, given our past sales levels, our anticipated sales levels for FY 05 and our claims expereince. We will reevaluate the adequacy of this coverage when and if our sales substantially increase. No product liability claims have been brought against us to date. However, there can be no assurance that

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product liability insurance will continue to be available to us on acceptable terms, or that product liability claims in excess of our insurance coverage, if any, will not be successfully asserted against us in the future.

Recently Issued Accounting Standards

        In November 2002, the EITF reached consensus on EITF No. 00-21, Revenue Arrangements with Multiple Deliverables. Revenue arrangements with multiple deliverables include arrangements that provide for the delivery or performance of multiple products, services and/or rights to use assets where performance may occur at different points in time or over different periods of time. EITF No. 00-21 was effective for the Company beginning October 1, 2003. Adoption of EITF No. 00-21 did not have a material effect on the Company's operations.

Item 7A.    Quantitative and Qualitative Disclosures About Market Risk

        We, in the normal course of business, are subject to the risks associated with fluctuations in interest rates and changes in foreign currency exchange rates.

Interest and Market Risk

        We attempt to limit our exposure to interest rate and credit risk by placing our investments with high-quality financial institutions and we have established investment guidelines relative to diversification and maturities designed to maintain safety and liquidity. We have not used derivative financial instruments in our investment portfolio.

        Investments in both fixed rate and floating rate interest earning instruments carry a degree of interest rate risk. Fixed rate securities may have their fair market value adversely impacted due to a rise in interest rates, while floating rate securities may produce less income than expected if interest rates decline. Due in part to these factors, our future investment income may fall short of expectations due to changes in interest rates or we may suffer losses in principal if forced to sell securities which have seen a decline in market value due to changes in interest rates.

Foreign Currency Exchange

        We face exposure to adverse movements in the value of the Japanese yen due to purchases of raw materials from Japanese suppliers. This exposure may change over time, and could have a materially adverse effect on our financial results. We may attempt to limit this exposure by purchasing forward contracts, as required. Most of our liabilities are settled within 90 days of receipt of materials. At March 31, 2004, our liabilities relating to Japanese yen were approximately $90,000.

Item 8.    Financial Statements and Supplementary Data

        Financial statements and unaudited supplementary data are contained in Appendix A to this annual report on Form 10-K.

Item 9.    Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

        Upon the recommendation of our Audit Committee, on July 1, 2002, our Board of Directors decided to change our principal accountants from Arthur Andersen LLP ("Arthur Andersen") to BDO Seidman, LLP ("BDO Seidman"). We subsequently engaged BDO Seidman on July 30, 2002.

        During FY 02 and the subsequent interim period preceding the decision to change principal accountants, there were no disagreements with Arthur Andersen on any matter of accounting principles or practices, financial statement disclosure or auditing scope or procedure, which, if not resolved to the satisfaction of Arthur Andersen, would have caused it to make reference to the subject matter of the

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disagreement in connection with its report. Arthur Andersen's reports on our financial statements for the two years preceding their dismissal did not contain an adverse opinion or a disclaimer of opinion, nor were they qualified or modified as to uncertainty, audit scope or accounting principles. During FY 02 and the subsequent interim period preceding the decision to change principal accountants, there were no reportable events as defined in Regulation S-K Item 304(a)(1)(v).

        During FY 02 and the subsequent interim period prior to engaging BDO Seidman, neither us nor anyone on our behalf consulted with BDO Seidman regarding the application of accounting principles to a specified transaction, either completed or proposed, or the type of audit opinion that might be rendered on our financial statements, and neither a written report nor oral advice was provided to us by BDO Seidman that was an important factor considered by us in reaching a decision as to any accounting, auditing or financial reporting issue.

Item 9A.    Controls and Procedures

a) Evaluation of Disclosure Controls and Procedures

        Our Chief Executive Officer and Chief Financial Officer have reviewed and evaluated the effectiveness of our disclosure controls and procedures (as defined in Exchange Act Rules 240.13a-15e) and 15d-15(e) as of March 31, 2004, the end of the period covered by this annual report on Form 10-K. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that our current disclosure controls and procedures are effective, providing them with material information relating to the Company as required to be disclosed in the reports we file or submit under the Exchange Act on a timely basis.

b) Changes in Internal Controls

        There were no changes in our internal controls over financial reporting that occurred during our most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

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Part III

Item 10.    Directors and Executive Officers of the Registrant

        The information required by this Item appears under the headings "Proposal 1: Election of Directors" and "Section 16(a) Beneficial Ownership Reporting Compliance" in our Proxy Statement for our 2004 Annual Meeting of Stockholders (the "2004 Proxy Statement"), which sections are incorporated herein by reference, and in Part I hereof under the caption "Executive Officers of the Company."

        The information regarding our code of ethics and the audit committee and audit committee financial experts is contained under the captions "Code of Ethics" and "Report of the Audit Committee of the Board of Directors", respectively, in our 2004 Proxy Statement.

Item 11.    Executive Compensation

        The information required by this Item appears under the headings "Proposal 1: Election of Directors—Director Compensation", "—Executive Compensation", "—Agreements with Named Executive Officers", and "—Compensation Committee Report on Executive Compensation" in the 2004 Proxy Statement, which sections are incorporated herein by reference.

Item 12.    Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

        The information required by this Item appears under the heading "Stock Ownership of Certain Beneficial Owners and Managers" in the 2004 Proxy Statement, which section is incorporated herein by reference, and in Part II hereof under the caption "Securities Authorized for Issuance Under Equity Compensation Plans."

Item 13.    Certain Relationships and Related Transactions

        The information required by this Item appears under the heading "Certain Relationships and Related Transactions" in the 2004 Proxy Statement, which section is incorporated herein by reference, and in Part II hereof under the caption "Market for Registrant's Common Stock and Related Stockholder Matters."

Item 14.    Principal Accountant Fees and Services

        The information required in this item is incorporated herein by reference from the 2004 Proxy Statement.

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Item 15.    Exhibits, Financial Statement Schedules, and Reports on Form 8-K

(a)

Index to Consolidated Financial Statements.

1.

Financial Statements. The following financial statements and schedules of Vision-Sciences, Inc. are included as Appendix A of this Report:

Report of Registered Independent Public Accounting Firm

Report of Independent Public Accountants for the Years Prior to March 31, 2003

Consolidated Balance Sheets—March 31, 2003 and 2004.

Consolidated Statements of Operations—For the years ended March 31, 2002, 2003 and 2004.

Consolidated Statements of Stockholders' Equity—For the years ended March 31, 2002, 2003 and 2004.

Consolidated Statements of Cash Flows—For the years ended March 31, 2002, 2003 and 2004.

Notes to Consolidated Financial Statements.

2.

Financial Statements. The following financial statements and schedules of 3DV Systems Ltd. are included as Appendix B of this Report:

Consolidated Balance Sheets—December 31, 1999, 2000 and 2001.

Consolidated Statements of Operations—For the years ended December 31, 1999, 2000, 2001 and from inception.

Consolidated Statements of Stockholders' Equity—For the years ended December 31, 1999, 2000, 2001 and from inception.

Consolidated Statements of Cash Flows—For the years ended December 31, 1999, 2000 and 2001 and from inception.

Notes to Consolidated Financial Statements.

3.

Financial Statement Schedules.

All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are not applicable and, therefore, have been omitted.

4.

Exhibits. The exhibits which are filed with this report or which are incorporated herein by reference are set forth in the Exhibit Index.

(b)

Reports on Form 8-K.

None.

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SIGNATURES

        Pursuant to the requirements of Sections 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.

        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 and on the date indicated.

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APPENDIX A

Vision-Sciences, Inc. and Subsidiaries

CONSOLIDATED FINANCIAL STATEMENTS
as of March 31, 2003 and 2004
Together with Auditors' Report

VISION-SCIENCES, INC. AND SUBSIDIARIES

Index to Consolidated Financial Statements

REPORT OF REGISTERED INDEPENDENT PUBLIC ACCOUNTING FIRM

To the Shareholders and Board of Directors of Vision-Sciences, Inc. and Subsidiaries:

        We have audited the accompanying consolidated balance sheets of Vision-Sciences, Inc. and subsidiaries as of March 31, 2003 and 2004, and the related consolidated statements of operations, stockholders' equity and cash flows for the years then ended. These financial statements are the responsibility of Vision-Sciences, Inc.'s management. Our responsibility is to express an opinion on these financial statements based on our audits. The consolidated financial statements of the Company as of March 31, 2002, and for the year then ended were audited by other auditors who have ceased operations and whose report dated May 6, 2002 expressed an unqualified opinion on those statements.

        We conducted our audits in accordance with auditing standards of the Public Company Accounting Oversight Board. 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, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Vision-Sciences, Inc. and subsidiaries as of March 31, 2003 and 2004 and the consolidated results of their operations and their cash flows for the years then ended, in conformity with United States generally accepted accounting principles.

/s/ BDO SEIDMAN, LLP

Boston, Massachusetts
May 20, 2004

F-1

This is a copy of the audit report previously issued by Arthur Andersen LLP in connection with Vision-Sciences Inc.'s filing on Form 10-K for the year ended March 31, 2002. This audit report has not been reissued by Arthur Andersen LLP in connection with this filing on Form 10-K, as Arthur Andersen LLP ceased providing audit services as of August 31, 2002. The balance sheets as of March 31, 2001 and March 31, 2002 and the statements of operations, stockholders' equity and cash flows for the years ended March 31, 2000 and March 31, 2001 referred to in this report have not been included in the accompanying financial statements.

        We have audited the accompanying consolidated balance sheets of Vision-Sciences, Inc. (a Delaware corporation) and subsidiaries as of March 31, 2001 and 2002, and the related consolidated statements of operations, stockholders' equity and cash flows for each of the three years in the period ended March 31, 2002. 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 did not audit the financial statements of 3DV Systems Ltd., which statements reflect total assets and total net loss of 7% and 17% in 2001, and 0% and 26% in 2002, respectively, of the related consolidated totals. Those statements were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the amounts included for that entity, is based solely on the report of the other auditors.

        We conducted our audits in accordance with auditing standards generally accepted in the 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 and the report of other auditors provide a reasonable basis for our opinion.

        In our opinion, based on our audits and the report of other auditors the financial statements referred to above present fairly, in all material respects, the financial position of Vision-Sciences, Inc. and subsidiaries as of March 31, 2001 and 2002, and the results of their operations and their cash flows for each of the three years in the period ended March 31, 2002 in conformity with accounting principles generally accepted in the United States.

        As explained in Note 1(m) to the Consolidated Financial Statements, effective June 30, 2001 the Company changed its method of accounting for its derivative instruments.

/s/ Arthur Andersen LLP

Boston, Massachusetts
May 6, 2002

F-2

Vision-Sciences, Inc. and Subsidiaries

Consolidated Balance Sheets—March 31, 2003 and 2004

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

F-3

Vision-Sciences, Inc. and Subsidiaries

Consolidated Statements of Operations

for the Fiscal Years Ended March 31, 2002, 2003 and 2004

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

F-4

Vision-Sciences, Inc. and subsidiaries

Consolidated Statements of Stockholders' Equity

for the Fiscal Years Ended March 31, 2002, 2003 and 2004

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

F-5

Vision-Sciences, Inc. and Subsidiaries

Consolidated Statements of Cash Flows

for the Fiscal Years Ended March 31, 2002, 2003 and 2004

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