INTEGRA LIFESCIENCES HOLDINGS CORP - 10-Q Quarterly Report

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended March 31, 2005

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

For the transition period from to

COMMISSION FILE NO. 0-26224

INTEGRA LIFESCIENCES HOLDINGS CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

DELAWARE 51-0317849
- ------------------------------- ---------------------
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)

311 ENTERPRISE DRIVE
PLAINSBORO, NEW JERSEY 08536
- ------------------------------- ---------------------
(ADDRESS OF PRINCIPAL (ZIP CODE)
EXECUTIVE OFFICES)

REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (609) 275-0500

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

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

The number of shares of the registrant's Common Stock, $.01 par value,
outstanding as of May 5, 2005 was 29,391,459.

INTEGRA LIFESCIENCES HOLDINGS CORPORATION

INDEX

Page Number
-----------

2

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

INTEGRA LIFESCIENCES HOLDINGS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)

(In thousands, except per share amounts)

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

3

INTEGRA LIFESCIENCES HOLDINGS CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)

(In thousands, except per share amounts)

March 31, December 31,
2005 2004
------------ ------------

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

4

INTEGRA LIFESCIENCES HOLDINGS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)

Supplemental cash flow information:
At March 31, 2005 and 2004, the Company had $3.3 million and $2.2 million,
respectively, of cash pledged as collateral in connection with its interest rate
swap agreement.

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

5

INTEGRA LIFESCIENCES HOLDINGS CORPORATION
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

BASIS OF PRESENTATION

General

In the opinion of management, the March 31, 2005 unaudited consolidated
financial statements contain all adjustments (consisting only of normal
recurring adjustments) necessary for a fair presentation of the financial
position, results of operations and cash flows of the Company. Certain
information and footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have been
condensed or omitted in accordance with the instructions to Form 10-Q and Rule
10-01 of Regulation S-X. These unaudited consolidated financial statements
should be read in conjunction with the Company's consolidated financial
statements for the year ended December 31, 2004 included in the Company's Annual
Report on Form 10-K. Operating results for the three-month period ended March
31, 2005 are not necessarily indicative of the results to be expected for the
entire year.

The preparation of consolidated financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the reported amount of
assets and liabilities, the disclosure of contingent liabilities, and the
reported amounts of revenues and expenses. Significant estimates affecting
amounts reported or disclosed in the consolidated financial statements include
allowances for doubtful accounts receivable and sales returns, net realizable
value of inventories, estimates of future cash flows associated with long-lived
asset valuations, depreciation and amortization periods for long-lived assets,
valuation allowances recorded against deferred tax assets, and loss
contingencies. These estimates are based on historical experience and on various
other assumptions that are believed to be reasonable under the current
circumstances. Actual results could differ from these estimates.

In 2004, the Company determined that its investments in auction rate securities
should be classified as short term investments. Auction rate securities are
reset to current interest rates periodically, but no later than every 90 days.
These securities were previously recorded in cash and cash equivalents due to
the liquidity provided by their short-term pricing reset features and the
Company's ability to liquidate them in monthly auctions. Prior period cash flow
information has been revised to conform to the current year presentation.
Accordingly, cash flows from investing activities decreased by $2.1 million in
the three months ended March 31, 2004. There was no impact on the Company's net
income or cash flows from operations or financing activities as a result of this
revision. The Company does not have any debt covenants that are affected by
reported cash balances.

Certain other prior year amounts have been reclassified to conform to the
current year's presentation.

Recently Issued Accounting Standards and Other Matters

In November 2004, the Financial Accounting Standards Board (FASB) issued
Statement No. 151, "Inventory Costs-an amendment of ARB No. 43, Chapter 4"
(Statement 151), which is effective beginning January 1, 2006. Statement 151
requires that abnormal amounts of idle facility expense, freight, handling costs
and wasted material be recognized as current period charges. Statement 151 also
requires that the allocation of fixed production overhead be based on the normal
capacity of the production facilities. We are currently assessing the potential
effect that Statement 151 could have on our financial position or results of
operations.
6

In March 2004, the FASB Emerging Issue Task Force (EITF) reached a consensus on
Issue 03-01, "The Meaning of Other-Than-Temporary Impairment and Its Application
to Certain Investments". Issue 03-01 provides guidance regarding recognition and
measurement of unrealized losses on available-for-sale debt and equity
securities accounted for under Statement of Financial Accounting Standard No.
115, "Accounting for Certain Investments in Debt and Equity Securities". The
application of certain paragraphs covering the measurement provisions of Issue
03-01 have been deferred pending the issuance of a final FASB Staff Position
providing implementation guidance on Issue 03-01. The disclosures were effective
in annual financial statements for fiscal years ending after December 15, 2003.
Management is currently assessing the impact that the recognition and
measurement provisions of Issue 03-01 could have on our financial statements.

The American Jobs Creation Act of 2004 (the "Act") was signed into law in
October 2004 and has several provisions that may impact the Company's income
taxes in the future, including the repeal of the extraterritorial income
exclusion and a deduction related to qualified production activities taxable
income. The FASB proposed that the qualified production activities deduction is
a special deduction and will have no impact on deferred taxes existing at the
enactment date. Rather, the impact of this deduction will be reported in the
period in which the deduction is claimed on the Company's tax return. Management
is currently evaluating the impact of the FASB guidance related to qualified
production activities on the Company's effective tax rate in future periods.

In December 2004, the FASB issued Statement No. 123 (revised 2004), "Share-Based
Payment," which is a revision of Statement No. 123, "Accounting for Stock-Based
Compensation." Statement 123(R) replaces APB Opinion No. 25, "Accounting for
Stock Issued to Employees," and amends Statement No. 95, "Statement of Cash
Flows." Statement 123(R) requires all share-based payments to employees,
including grants of employee stock options, to be recognized in the financial
statements based on their fair value. Pro forma footnote disclosure will no
longer be an alternative to financial statement recognition.

Statement 123(R) must be adopted no later than January 1, 2006. Statement 123(R)
permits companies to adopt its requirements using either the "modified
prospective" method or the "modified retrospective" method. Management is
currently evaluating the potential impact of Statement 123(R) on our
consolidated financial position and results of operations and the alternative
adoption methods.

Equity-Based Compensation

The Company recognizes employee stock based compensation using the intrinsic
value method prescribed by APB Opinion No. 25 "Accounting for Stock Issued
to Employees" and FASB Interpretation No. 44 "Accounting for Certain
Transactions Involving Stock Compensation - an interpretation of APB Opinion
No. 25".

7

Had the compensation cost for the Company's stock option plans been determined
based on the fair value at the date of grant consistent with the provisions of
SFAS No. 123, the Company's net income and basic and diluted net income per
share would have been as follows:

As options vest over a varying number of years and awards are generally made
each year, the pro forma impacts shown above may not be representative of future
pro forma expense amounts. The pro forma additional compensation expense related
to all options granted prior to October 1, 2004 was calculated based on the fair
value of each option grant using the Black-Scholes model, while the pro forma
additional compensation expense related to all options granted on or after
October 1, 2004 was calculated based on the fair value of each option grant
using the binomial distribution model.

BUSINESS ACQUISITIONS

On January 3, 2005, the Company acquired all of the outstanding capital stock of
Newdeal Technologies SA for 38.3 million euros ($51.9 million) in cash, subject
to a working capital adjustment. Additionally, the Company has agreed to pay the
sellers up to an additional 1,250,000 euros if each of the sellers continues his
employment with Integra through January 3, 2006. This additional 1,250,000 euro
payment is being accrued to general and administrative expense on a
straight-line basis over the one year employment requirement period.

Based in Lyon, France, Newdeal is a leading developer and marketer of specialty
implants and instruments specifically designed for foot and ankle surgery.
Newdeal's products include a wide range of products for the forefoot, the
mid-foot and the hind foot, including the Bold(R) Screw, Hallu-Fix(R) plate
system and the HINTEGRA(R) total ankle prosthesis. The company sells its
products through a direct sales force in France, Belgium and the Netherlands,
and through distributors in more than 30 countries, including the United States
and Canada. Newdeal's target physicians include orthopedic surgeons specializing
in injuries of the foot, ankle and extremities, as well as podiatric surgeons.
The goodwill recorded in connection with this acquisition is based on the
benefits the Company expects to generate from the synergy between Newdeal's
reconstructive foot and ankle fixation products and Integra's regenerative
products that are used in the treatment of chronic and traumatic wounds of the
foot and ankle.

8

The following summarizes the preliminary fair value of the assets acquired and
liabilities assumed:

(All amounts in thousands)
Cash ................................. $ 2,520
Other current assets ....................... 8,477
Property, plant and equipment ........ 1,120 Wtd. Avg. Life
Intangible assets: --------------
Tradename ......................... 2,926 37 years
Customer relationships ............ 6,032 10 years
Technology ........................ 3,387 10 years
Non-competition agreement ......... 745 5 years
Goodwill ............................. 34,786
Other assets ......................... 43
-------
Total assets acquired ............. 60,036

Liabilities assumed, excluding debt .. 7,640
Debt assumed ......................... 529
-------
Net assets acquired .................. $51,867

The preliminary fair value of assets acquired and liabilities assumed was
determined with the assistance of a third party valuation firm. The Company is
in the process of finalizing its estimates of fair value for certain tangible
assets acquired in this acquisition and expects to complete this process by the
end of the second quarter.

The acquired intangible assets are being amortized over lives ranging from 5 to
40 years.

In May 2004, the Company acquired the MAYFIELD(R) Cranial Stabilization and
Positioning Systems and the BUDDE(R) Halo Retractor System business from
Schaerer Mayfield USA, Inc. (formerly Ohio Medical Instrument Company) for $20.0
million in cash paid at closing, a $0.3 million working capital adjustment, and
$0.3 million of acquisition related expenses. The MAYFIELD and BUDDE lines
include skull clamps, headrests, reusable and disposable skull pins, blades,
retractor systems, and spinal implants. MAYFIELD systems are the market leader
in the United States and have been used by neurosurgeons for over thirty years.
The products are sold in the United States through the Integra NeuroSciences
direct sales organization and in international markets through distributors.

In May 2004, the Company acquired all of the capital stock of Berchtold
Medizin-Elektronik GmbH, now named Integra ME, from Berchtold Holding GmbH for
$5.0 million in cash. Integra ME manufactures and markets the ELEKTROTOM(R) line
of electrosurgery generators and the SONOTOM(R) ultrasonic surgical aspirator,
as well as a broad line of related handpieces, instruments and disposables used
in many surgical procedures, including neurosurgery. Integra ME markets and
sells its products to hospitals and physicians primarily through a network of
distributors.

In January 2004, the Company acquired the R&B instrument business from R&B
Surgical Solutions, LLC for $2.0 million in cash. The R&B instrument line is a
complete line of high-quality handheld surgical instruments used in neuro- and
spinal surgery. The Company markets these products through its JARIT sales
organization.

In January 2004, the Company acquired the Sparta disposable critical care
devices and surgical instruments business from Fleetwood Medical, Inc. for $1.6
million in cash. The Sparta product line includes products used in plastic and
reconstructive, ear, nose and throat (ENT), neuro, ophthalmic and general
surgery. The Company sells the Sparta products through a direct marketing
organization and an existing distributor network.

9

The goodwill acquired in the MAYFIELD/BUDDE, R&B, and Sparta acquisitions is
expected to be deductible for tax purposes.

The following unaudited pro forma financial information summarizes the results
of operations for the three months ended March 31, 2004 as if the acquisitions
consummated in 2005 and 2004 had been completed as of the beginning of that
period. The pro forma results are based upon certain assumptions and estimates
and they give effect to actual operating results prior to the acquisitions and
adjustments to reflect increased depreciation expense, increased intangible
asset amortization, and increased income taxes at a rate consistent with
Integra's effective rate in each year. No effect has been given to cost
reductions or operating synergies. As a result, these pro forma results do not
necessarily represent results that would have occurred if the acquisition had
taken place on the basis assumed above, nor are they indicative of the results
of future combined operations.

Three Months Ended
March 31, 2004
--------
(in thousands)

Total revenue ......................................... $61,494

Net income ............................................ 8,018

Basic net income per share ............................ $ 0.27
Diluted net income per share .......................... $ 0.25

Because the Newdeal acquisition was consummated on January 3, 2005, the
Company's results of operations for the three months ended March 31, 2005 would
not have been materially different from those presented herein.

INVENTORIES

Inventories consisted of the following:

March 31, December 31,
2005 2004
---- ----
(in thousands)

Raw materials.............................. $13,131 $11,961
Work-in process............................ 9,189 7,496
Finished goods............................. 43,015 36,490
------- -------
$65,335 $55,947
======= =======

GOODWILL AND OTHER INTANGIBLE ASSETS

Changes in the carrying amount of goodwill for the three months ended March 31,
2005, were as follows:

Balance at December 31, 2004 ..................................... $ 39,237
Newdeal acquisition .............................................. 34,786
Foreign currency translation ..................................... (2,234)
--------
Balance at March 31, 2005 ........................................ $ 71,789
========

10

The components of the Company's identifiable intangible assets were as follows:

March 31, 2005 December 31, 2004
Weighted ---------------------- ----------------------
Average Accumulated Accumulated
Life Cost Amortization Cost Amortization
-------- -------- ------------ -------- ------------
(in thousands)

Completed technology ....... 14 years $ 20,089 $ (4,833) $ 17,108 $ (4,505)
Customer relationships ..... 17 years 23,116 (3,632) 17,417 (3,214)
Trademarks/brand names ..... 36 years 31,449 (2,120) 28,689 (1,862)
Noncompetition agreements... 5 years 7,039 (1,551) 6,352 (1,198)
All other .................. 11 years 2,233 (1,243) 2,233 (1,203)
-------- ------------ -------- ------------
$ 83,926 $(13,379) $ 71,799 $(11,982)
Accumulated amortization .. (13,379) (11,982)
-------- --------
$ 70,547 $ 59,817
======== ========

Annual amortization expense is expected to approximate $5.9 million in 2005,
$5.8 million in 2006, $5.5 million in 2007, $5.2 million in 2008, and $4.5
million in 2009. Identifiable intangible assets are initially recorded at fair
market value at the time of acquisition generally using an income or cost
approach.

5. RETIREMENT BENEFIT PLANS

The Company maintains defined benefit pension plans that cover employees in its
manufacturing plants located in Andover, United Kingdom and Tuttlingen, Germany.
Net periodic benefit costs for the Company's defined benefit pension plans
included the following amounts:

Three Months Ended March 31
2005 2004
-------- --------
(in thousands)

Service cost ..................................... $ 61 $ 31
Interest cost .................................... 103 92
Expected return on plan assets ................... (86) (79)
Recognized net actuarial loss .................... 35 37
-------- --------
Net periodic benefit cost ..................... $ 113 $ 81

For the three months ended March 31, 2005, the Company made $41,000 of
contributions to its defined benefit pension plans.

6. COMPREHENSIVE INCOME

Comprehensive income was as follows:

Three Months Ended
March 31,
--------------------------
2005 2004
-------- --------
(in thousands)

Net income ........................................... $ 8,443 $ 7,438
Foreign currency translation adjustment .............. (4,256) (205)
Unrealized holding gains (losses) on
available-for-sale securities, net of $163 tax .. (455) 345
-------- --------
Comprehensive income ................................. $ 3,732 $ 7,578
======== ========

A significant portion of the foreign currency translation adjustment recorded
for the three months ended March 31, 2005 was related to the appreciation of the
U.S. dollar against the euro following the Company's acquisition of Newdeal
Technologies, whose functional currency is the euro, on January 3, 2005.

11

7. NET INCOME PER SHARE

Basic and diluted net income per share was as follows:

Three Months Ended
March 31,
------------------
2005 2004
------ ------
(In thousands, except
per share amounts)

Basic net income per share:
- ---------------------------
Net income ....................................................... $ 8,443 $ 7,438

Weighted average common shares outstanding ....................... 30,561 29,704

Basic net income per share ....................................... $ 0.28 $ 0.25

Diluted net income per share:
- ---------------------------
Net income ....................................................... $ 8,443 $ 7,438
Add back: Interest expense and other income/(expense) related
to convertible notes payable, net of tax ............... 544 520
-------- --------
Net income available to common stock ............................. $ 8,987 $ 7,958

Weighted average common shares outstanding - Basic ............... 30,561 29,704
Effect of dilutive securities:
Stock options ................................................. 1,069 1,155
Shares issuable upon conversion of notes payable .............. 3,514 3,514
-------- --------
Weighted average common shares for diluted earnings per share..... 35,144 34,373

Diluted net income per share ..................................... $ 0.26 $ 0.23

Options outstanding at March 31, 2005 and 2004, respectively, to purchase
approximately 42,000 and 35,000 shares of common stock were excluded from the
computation of diluted net income per share for the three month periods ended
March 31, 2005 and 2004 because their exercise price exceeded the average market
price of the Company's common stock during the period.

In October 2004, the EITF reached a consensus on Issue 04-08 "The Effect of
Contingently Convertible Instruments on Diluted Earnings per Share" that
requires issuers of contingent convertible securities to account for these
securities on an "if-converted" basis pursuant to Statement of Financial
Accounting Standards No. 128 "Earnings Per Share", in computing their diluted
earnings per share whether or not the issuer's stock is above the contingent
conversion price. The provisions of Issue 04-08 were applied on a retroactive
basis, and this reduced previously reported diluted earnings per share by $0.01
to $0.23 in the three months ended March 31, 2004.

8. SEGMENT AND GEOGRAPHIC INFORMATION

Integra management reviews financial results and manages the business on an
aggregate basis. Therefore, financial results are reported in a single operating
segment, the development, manufacture and marketing of medical devices for use
in neuro-trauma, neurosurgery, reconstructive surgery and general surgery.

12

Revenues consisted of the following:

Three Months Ended
March 31,
(in thousands) 2005 2004
------ ------

Implant products ................................... $25,888 $18,332
Instruments ........................................ 22,527 16,043
Monitoring products ................................ 11,374 11,198
Private label products ............................. 6,010 5,862
------ ------
Total product revenues ............................. 65,799 51,435
Other revenues ..................................... 40 1,008
------ ------
Total revenues ..................................... $65,839 $52,443

Certain of the Company's products, including the DuraGen(R) Dural Graft Matrix
products, NeuraGen(TM) Nerve Guide, INTEGRA(R) Dermal Regeneration Template,
INTEGRA(TM) Bi-Layer Matrix Wound Dressing, and BioMend(R) Absorbable Collagen
Membrane, contain material derived from bovine tissue. Products that contain
materials derived from animal sources, including food as well as pharmaceuticals
and medical devices, are increasingly subject to scrutiny from the press and
regulatory authorities. These products comprised 30% and 31% of total revenues
in the three month periods ended March 31, 2005 and 2004, respectively.
Accordingly, widespread public controversy concerning collagen products, new
regulation, or a ban of the Company's products containing material derived from
bovine tissue, could have a material adverse effect on the Company's current
business or its ability to expand its business.

Total revenues by major geographic area are summarized below:

United Asia Other
States Europe Pacific Foreign Total
-------- -------- -------- -------- --------
(in thousands)

Three months ended March 31, 2005... $ 47,367 $ 12,762 $ 3,048 $ 2,662 $ 65,839
Three months ended March 31, 2004... 41,394 7,248 1,829 1,972 52,443

9. COMMITMENTS AND CONTINGENCIES

Various lawsuits, claims and proceedings are pending or have been settled by the
Company. The most significant of those are described below.

In July 1996, the Company filed a patent infringement lawsuit in the United
States District Court for the Southern District of California (the "Trial
Court") against Merck KGaA, a German corporation, Scripps Research Institute, a
California nonprofit corporation, and David A. Cheresh, Ph.D., a research
scientist with Scripps, seeking damages and injunctive relief. The complaint
charged, among other things, that the defendant Merck KGaA willfully and
deliberately induced, and continues willfully and deliberately to induce,
defendants Scripps Research Institute and Dr. Cheresh to infringe certain of the
Company's patents. These patents are part of a group of patents granted to The
Burnham Institute and licensed by Integra that are based on the interaction
between a family of cell surface proteins called integrins and the
arginine-glycine-aspartic acid ("RGD") peptide sequence found in many
extracellular matrix proteins. The defendants filed a countersuit asking for an
award of defendants' reasonable attorney fees.

In March 2000, a jury returned a unanimous verdict in the Company's favor and
awarded Integra $15.0 million in damages, finding that Merck KGaA had willfully
infringed and induced the infringement of our patents. The Trial Court dismissed
Scripps and Dr. Cheresh from the case.

In October 2000, the Trial Court entered judgment in Integra's favor and against
Merck KGaA in the case. In entering the judgment, the Trial Court also granted

13

to the Company pre-judgment interest of $1.4 million, bringing the total award
to $16.4 million, plus post-judgment interest. Merck KGaA filed various
post-trial motions requesting a judgment as a matter of law notwithstanding the
verdict or a new trial, in each case regarding infringement, invalidity and
damages. In September 2001, the Trial Court entered orders in favor of Integra
and against Merck KGaA on the final post-judgment motions in the case, and
denied Merck KGaA's motions for judgment as a matter of law and for a new trial.

Merck KGaA and Integra each appealed various decisions of the Trial Court to the
United States Court of Appeals for the Federal Circuit (the "Circuit Court"). In
June 2003, the Circuit Court affirmed the Trial Court's finding that Merck KGaA
had infringed our patents. The Circuit Court also held that the basis of the
jury's calculation of damages was not clear from the trial record, and remanded
the case to the Trial Court for further factual development and a new
calculation of damages consistent with the Circuit Court's decision. Merck KGaA
filed a petition for a writ of certiorari with the United States Supreme Court
(the "Supreme Court") seeking review of the Circuit Court's decision, and the
Supreme Court granted the writ in January 2005. Oral arguments before the United
States Supreme Court were held in April 2005. We expect the Supreme Court to
render a decision before the end of its current term.

In September 2004, the Trial Court ordered Merck KgaA to pay Integra $6.4
million in damages. following the Circuit Court's order. Further enforcement of
the Trial Court's order has been stayed pending the decision of the Supreme
Court.

The Company has not recorded any gain in connection with this matter, pending
final resolution and completion of the appeals process.

Three of the Company's French subsidiaries that were acquired from the
neurosciences division of NMT Medical, Inc. received a tax reassessment notice
from the French tax authorities seeking in excess of 1.7 million euros in back
taxes, interest and penalties. NMT Medical, the former owner of these entities,
has agreed to indemnify Integra against direct damages and liability arising
from misrepresentations in connection with these tax claims. In April 2005, NMT
Medical, Inc. negotiated a settlement agreement with the French authorities that
will satisfy the outstanding tax assessments. This settlement will not have any
impact on the Company's financial statements.

In addition to these matters, the Company is subject to various claims, lawsuits
and proceedings in the ordinary course of its business, including claims by
current or former employees, distributors and competitors and with respect to
our products. In the opinion of management, such claims are either adequately
covered by insurance or otherwise indemnified, or are not expected, individually
or in the aggregate, to result in a material adverse effect on the Company's
financial condition. However, it is possible that our results of operations,
financial position and cash flows in a particular period could be materially
affected by these contingencies.

14

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

The following discussion and analysis of our financial condition and results of
operations should be read in conjunction with our consolidated financial
statements and the related notes thereto appearing elsewhere in this report and
our consolidated financial statements for the year ended December 31, 2004
included in our Annual Report on Form 10-K.

This discussion and analysis contains forward-looking statements that involve
risks, uncertainties and assumptions. Our actual results may differ materially
from those anticipated in these forward-looking statements as a result of many
factors, including but not limited to those set forth below under the heading
"Factors That May Affect Our Future Performance."

GENERAL

Integra develops, manufactures and markets medical devices for use in
neuro-trauma, neurosurgery, reconstructive surgery and general surgery. Our
business is organized into product groups and distribution channels. Our product
groups include implants and other devices for use in surgical procedures,
monitoring systems for the measurement of various parameters in tissue (such as
pressure, temperature and oxygen), hand-held and ultrasonic surgical
instruments, and private label products that we manufacture for other medical
device companies.

Our distribution channels include three sales organizations in the United
States: one that we employ to call on neurosurgeons known as our Integra
NeuroSciences(TM) sales organization, another employed to call on reconstructive
surgeons and a third group that utilizes a network of third-party distributors.
Internationally, we combine resources across different sales channels in some
cases with direct sales organizations in France, Germany, the United Kingdom and
the Benelux region. Outside of these areas, we operate through a number of
distributors that sell our products in over 90 countries. We invest substantial
resources and management effort to develop our sales organizations, and we
believe that we compete very effectively in this aspect of our business. We
distribute private label products through strategic alliances.

We manufacture most of the implant, monitoring and private label products that
we sell in various plants located in the United States, Puerto Rico, France, the
United Kingdom and Germany. We also manufacture the ultrasonic surgical
instruments and source most of our hand-held surgical instruments through
specialized third-party vendors.

We believe that we have a particular advantage in the development, manufacture
and sale of specialty tissue repair products derived from bovine collagen. We
develop and build these products in our manufacturing facility in Plainsboro,
New Jersey. Taken together, these products accounted for approximately 30% and
31% of total revenues in the three months ended March 31, 2005 and 2004,
respectively.

We manage these multiple product groups and distribution channels on a
centralized basis. Accordingly, we report our financial results under a single
operating segment - the development, manufacturing and distribution of medical
devices.

Our objective is to build a customer-focused and profitable medical device
company by developing or acquiring innovative medical devices and other products

15

to sell through our sales channels. Our strategy therefore entails substantial
growth in product revenues both through internal means - through launching new
and innovative products and selling existing products more intensively - and by
acquiring existing businesses or already successful product lines.

We aim to achieve this growth in revenues while maintaining strong financial
results. While we pay attention to any meaningful trend in our financial
results, we pay particular attention to measurements that tend to support the
view that our profitability can grow for a period of years. These measurements
include revenue growth, derived through acquisitions and products developed
internally, gross margins on products revenues, which we hope to increase to
more than 65% over a period of several years, operating margins, which we hope
to continually expand on as we leverage our existing infrastructure, and
earnings per fully diluted share of common stock.

RESULTS OF OPERATIONS

Our strategy for growing our business includes the acquisition of complementary
product lines and companies. Recent acquisitions (as discussed in Note 2 to our
unaudited consolidated financial statements), may make our financial results for
the three month period ended March 31, 2005 not directly comparable to those of
the corresponding prior year period.

Net income for the three months ended March 31, 2005 was $8.4 million, or $0.26
per diluted share, as compared to net income of $7.4 million, or $0.23 per
diluted share, for the three months ended March 31, 2004.

These amounts include the following costs associated with the closing of various
facilities and related transitions, and acquisition and integration related
costs:

Three Months Ended
March 31,
(in thousands) 2005 2004
------ ------

Inventory fair market value purchase accounting adjustments........... $ 269 $ --
Acquisition and integration related costs, including costs
associated with the closing of various facilities and
related transitions and foreign dealer terminations ............... 517 --

We believe that, given our on-going, active strategy of seeking acquisitions,
identifying such costs related to acquisitions and integrations provides useful
information to measure the comparative performance of our business operations.

Revenues and Gross Margin on Product Revenues

Three Months Ended
March 31,
(in thousands) 2005 2004
------ ------

Implant products ................................... $25,888 $18,332
Instruments ........................................ 22,527 16,043
Monitoring products ................................ 11,374 11,198
Private label products ............................. 6,010 5,862
------ ------
Total revenues ..................................... $65,799 $51,435
Other revenues ..................................... 40 1,008
------ ------
Total revenues ..................................... $65,839 $52,443

Cost of product revenues ........................... 24,133 20,001

Gross margin on total revenues ..................... 41,706 32,442
Gross margin as a percentage of total revenues ..... 63% 62%

16

For the quarter ended March 31, 2005, total revenues increased 26% over the
prior year to $65.8 million. Domestic revenues increased $6.0 million in 2005 to
$47.4 million, or 72% of total revenues, as compared to 79% of revenues in the
first quarter ended March 31, 2004.

Sales of implant products and instruments, which reported a 41% and 40%
increase, respectively, in sales over 2004, led our growth in revenues in 2005.

Rapid growth in the NeuraGen(TM) Nerve Guide, the INTEGRA(R) Dermal Regeneration
Template and the INTEGRA(TM) Bilayer Matrix Wound Dressing products, and new
sales of Newdeal products for the foot and ankle accounted for most of the
increase in implant product revenues. Sales of our NeuraGen(TM) and
NeuraWrap(TM) products increased 96% over the prior year period. Sales of our
dermal repair products, including the INTEGRA(R) Dermal Regeneration Template
and the INTEGRA(TM) Bilayer Matrix Wound Dressing products, and the INTEGRA(TM)
Matrix Wound Dressing, increased 56% over the first quarter of 2004. Newdeal
product revenues of $4.5 million met our expectations for the quarter. Sales of
the NPH(TM) Low Flow Hydrocephalus Valve that we introduced in late 2004 also
contributed to the growth in implant product revenues for the quarter. Our
DuraGen(R) family of duraplasty products continued to grow, albeit at slower
rates than in recent years.

Revenues from our instrument product lines increased principally as a result of
increased sales of our JARIT surgical instrument line and from sales of the
recently acquired MAYFIELD cranial stabilization product line, the ELEKTROTOM
electrosurgery generators, and the SONOTOM(R) ultrasonic surgical aspirator
product line.

Slower than expected acceptance of our LICOX(R) Brain Oxygen Monitoring Systems
in the United States and a slow-down in the growth of our drainage systems led
to minimal year-over-year growth in monitoring product revenues. We expect that
the launch of Integra's NeuroSensor(R) cerebral blood flow monitoring system
later this year will improve the performance of this category.

Increased sales of our Absorbable Collagen Sponge that we supply for use in
Medtronic's INFUSE(TM) bone graft product offset the decrease in Signature
Technologies revenues following the expiration of our supply contract in June
2004.

Revenues from product lines acquired since the beginning of the second quarter
of 2004 accounted for $9.4 million of the $14.4 million increase in product
revenues over the prior year period. Changes in foreign currency exchange rates
also accounted for $0.4 million of the increase in product revenues.

We have generated our recent product revenue growth through acquisitions, new
product launches and increased direct sales and marketing efforts both
domestically and in Europe. We expect that our future revenue growth will be
driven by our expanded domestic sales force, the continued implementation of our
direct sales strategy in Europe and from internally developed and acquired
products. We also intend to continue to acquire businesses that complement our
existing businesses and products.

Our gross margin on total revenues was 63% and 62% in the quarter ended March
31, 2005 and March 31, 2004 respectively. The current quarter's gross margin
benefited from strong growth in our higher margin products sold during the
quarter, including the Newdeal product line. Inventory fair market value
purchase accounting adjustments totaling $269,000 reduced reported gross margins
by 1 percentage point in the first quarter of 2005.

17

Other Operating Expenses:

The following is a summary of other operating expenses as a percent of total
revenues:

Three Months Ended
March 31,
(in thousands) 2005 2004
------ ------

Research and development ............................... 5% 5%
Selling, general and administrative .................... 36% 32%

Total other operating expenses, which exclude cost of product revenue but
include amortization, increased 39% to $28.8 million in the first quarter of
2005, compared to $20.7 million in the first quarter of 2004.

Research and development expenses increased approximately $0.5 million to $3.4
million in the first quarter of 2005. Expenses increased due to higher spending
on research and clinical activities related to our absorbable implant technology
products. In 2005, we expect our research and development expenses as a
percentage of total revenues to remain consistent with 2004 as we increase
expenditures on research and clinical activities directed towards expanding the
indications for use of our absorbable implant technology products, including a
multi-center clinical trial suitable to support an application to the FDA for
approval of the DuraGen Plus(TM) Adhesion Barrier Matrix product in the United
States that was initiated in the first quarter of 2005.

Sales, general, and administrative expenses increased 41% over the prior year
period to $23.9 million. In 2005, we continue to build our direct sales and
marketing organizations around all three direct selling platforms and have
increased corporate staff to support the recent growth in our business and
integrate acquired businesses. Additionally, we have recently made significant
investments in our infrastructure with the implementation of a new enterprise
business system and the relocation and expansion of our distribution
capabilities through a third-party service provider.

Amortization expense increased in the first quarter of 2005 as a result of
amortization of intangible assets from recent acquisitions.

Non-Operating Income And Expenses

Interest expense is related to the $120 million of contingent convertible
subordinated notes we have outstanding and a related interest rate swap
agreement. Our reported interest expense includes $0.2 million of non-cash
amortization of debt issuance costs. Debt issuance costs totaled $4.0 million
and are being amortized using the straight-line method over the five-year term
of the notes.

We will pay additional interest ("Contingent Interest") on our convertible notes
under certain conditions. The fair value of this Contingent Interest obligation
is marked to its fair value at each balance sheet date, with changes in the fair
value recorded to interest expense. In the first quarter of 2005 and 2004, the
changes in the estimated fair value of the Contingent Interest obligation were
not significant.

In August 2003, we entered into an interest rate swap agreement with a $50.0
million notional amount to hedge the risk of changes in fair value attributable
to interest rate risk with respect to a portion of our fixed rate convertible
notes. The interest rate swap agreement qualifies as a fair value hedge under
SFAS No. 133, as amended "Accounting for Derivative Instruments and Hedging
Activities". The net amount to be paid or received under the interest rate swap
agreement is recorded as a component of interest expense. Interest expense
associated with the interest rate swap for the three months ended March 31, 2005
was not significant. Interest expense for the three months ended March 31, 2004
included a $210,000 benefit associated with the interest rate swap.

18

The net fair value of the interest rate swap at December 31, 2004 was $1.4
million. At March 31, 2005, the net fair value of the interest rate swap
increased $0.7 million to $2.1 million and this amount is included in other
liabilities. In connection with this fair value hedge transaction, during the
first quarter of 2005, we recorded a $0.8 million net increase in the carrying
value of our convertible notes. The net difference between changes in the fair
value of the interest rate swap and the contingent convertible notes represents
the ineffective portion of the hedging relationship, and this amount is recorded
in other income.

Our net other expense increased by $76,000 in the first quarter of 2005 and
included a $204,000 loss associated with the settlement of a foreign currency
collar, which was used to reduce our exposure to fluctuations in the exchange
rate between the euro and the US dollar as a result of our commitment to acquire
Newdeal Technologies for 38.3 million euros ($51.9 million) in January 2005.

Income tax expense was approximately 34.5% and 36.8% of income before income
taxes for the first quarters of 2005 and 2004, respectively. Income tax expense
for the first quarters of 2005 and 2004 included a deferred income tax provision
of $3.1 million and $3.2 million, respectively. The decrease in the effective
income tax rate in 2005 resulted primarily from the benefits received from the
recent reorganization of our European assets.

International Operations

Because we have operations based in Europe and we generate revenues and incur
operating expenses in euros and British pounds, we have currency exchange risk
with respect to those foreign currency denominated revenues or expenses.

In the first quarter of 2005, the cost of products we manufactured in our
European facilities or purchased in foreign currencies exceeded our foreign
currency-denominated revenues. We expect this imbalance to continue. We
currently do not hedge our exposure to foreign currency risk. Accordingly, a
weakening of the dollar against the euro and British pound could negatively
affect future gross margins and operating margins. We will continue to assess
the potential effects that changes in foreign currency exchange rates could have
on our business. If we believe this potential impact presents a significant risk
to our business, we may enter into derivative financial instruments to mitigate
this risk.

Additionally, we generate significant revenues outside the United States, a
portion of which are U.S. dollar-denominated transactions conducted with
customers who generate revenue in currencies other than the U.S. dollar. As a
result, currency fluctuations between the U.S. dollar and the currencies in
which those customers do business may have an impact on the demand for our
products in foreign countries.

Our sales to foreign markets may be affected by local economic conditions,
regulatory or political considerations, the effectiveness of our sales
representatives and distributors, local competition, and changes in local
medical practice.

Relationships with customers and effective terms of sale frequently vary by
country, often with longer-term receivables than are typical in the United
States.

19

Total revenues by major geographic area are summarized below:

United Asia Other
States Europe Pacific Foreign Total
-------- -------- -------- -------- --------
(in thousands)

Three months ended March 31, 2005... $ 47,367 $ 12,762 $ 3,048 $ 2,662 $ 65,839
Three months ended March 31, 2004... 41,394 7,248 1,829 1,972 52,443

For the three months ended March 31, 2005, revenues from customers outside the
United States totaled $18.5 million, or 28% of total revenues, of which
approximately 69% were to European customers. Of this amount, $14.3 million was
generated in foreign currencies primarily by our subsidiaries in the Europe.

For the three months ended March 31, 2004, revenues from customers outside the
United States totaled $11.0 million, or 21% of total revenues, of which
approximately 66% were to European customers. Of this amount, $8.1 million was
generated in foreign currencies by our subsidiaries in Europe.

LIQUIDITY AND CAPITAL RESOURCES

Cash and Marketable Securities

At March 31, 2005, we had cash, cash equivalents and current and non-current
investments totaling approximately $157.9 million. Our investments consist
almost entirely of highly liquid, interest bearing debt securities.

At March 31, 2005, we had $3.3 million of cash pledged as collateral in
connection with our interest rate swap agreement.

Cash Flows

Cash provided by operations has recently been and is expected to continue to be
our primary means of funding existing operations and capital expenditures. We
have generated positive operating cash flows on an annual basis, including $34.8
million in 2003, $39.0 million in 2004, and $13.2 million of operating cash
flows in the three months ending March 31, 2005. Operating cash flows for the
quarter ending March 31, 2004, were $10.9 million.

Our principal uses of funds during the three month period ended March 31, 2005
were $49.3 million for acquisition consideration, net of cash acquired, $0.2
million for purchases of investments, net of maturities and sales, and $2.8
million for purchases of property and equipment. In addition to the $13.2
million in operating cash flows for the three months ended March 31, 2005, we
received $2.3 million from the issuance of common stock through the exercise of
stock options during the period.

Based on our current unused net operating loss carryforward position and various
other future potential tax deductions, we expect our operating cash flows to
continue to benefit from actual cash tax payments being lower than our effective
book income tax rate for at least the next two years.

Working Capital

At March 31, 2005 and December 31, 2004, working capital was $174.0 million and
$192.0 million, respectively. The decrease in working capital was primarily
related to the cash used in the Newdeal acquisition in January of 2005.

We expect our days on hand in accounts receivable and inventory to return to
historic trend levels during the second half of 2005.

20

Debt

We have outstanding $120.0 million of 2 1/2% contingent convertible subordinated
notes due 2008. We are obligated to pay $3.0 million of interest per year on the
notes and to repay their principal amount on March 15, 2008, if the notes are
not converted into common stock before that date. We will also pay contingent
interest on the notes if, at thirty days prior to maturity, Integra's common
stock price is greater than $37.56, subject to certain conditions.

We also have outstanding an interest rate swap agreement with a $50 million
notional amount to hedge the risk of changes in fair value attributable to
interest rate risk with respect to a portion of the convertible notes. We
receive a 2 1/2% fixed rate from the counterparty, payable on a semi-annual
basis, and pay to the counterparty a floating rate based on 3 month LIBOR minus
35 basis points, payable on a quarterly basis. The interest rate swap agreement
terminates on March 15, 2008, subject to early termination upon the occurrence
of certain events, including redemption or conversion of the contingent
convertible notes.

We also have outstanding long-term indebtedness totaling $0.5 million related to
the recently acquired Newdeal business.

Share Repurchase Plan

In May 2005, our Board of Directors authorized us to repurchase shares of our
common stock for an aggregate purchase price not to exceed $40 million through
December 31, 2006. We may repurchase no more than 1.5 million shares under this
program. Shares may be purchased either in the open market or in privately
negotiated transactions.

Dividend Policy

We have not paid any cash dividends on our common stock since our formation. Any
future determinations to pay cash dividends on our common stock will be at the
discretion of our Board of Directors and will depend upon our financial
condition, results of operations, cash flows, and other factors deemed relevant
by the Board of Directors.

Requirements and Capital Resources

We believe that our cash and marketable securities are sufficient to finance our
operations and capital expenditures in the near term. We expect to invest
approximately $3.5 million in 2005 associated with the continued worldwide
implementation of our new enterprise business software. Additionally, we have
agreed to pay the sellers of Newdeal Technologies SA up to an additional
1,250,000 euros if each of the sellers continues his employment with Integra
through January 3, 2006.

Given the significant level of liquid assets and our objective to grow by
acquisition and alliances, our financial position could change significantly if
we were to complete a business acquisition by utilizing a significant portion of
our liquid assets.

Currently, we do not have any existing borrowing capacity or other credit
facilities in place to raise significant amounts of capital if such a need
arises.

21

Contractual Obligations and Commitments

Under certain agreements, we are required to make payments based on sales levels
of certain products or if specific development milestones are achieved.

OTHER MATTERS

RECENTLY ISSUED ACCOUNTING STANDARDS AND OTHER MATTERS

In November 2004, the Financial Accounting Standards Board (FASB) issued
Statement No. 151, "Inventory Costs-an amendment of ARB No. 43, Chapter 4"
(Statement 151), which is effective beginning January 1, 2006. Statement 151
requires that abnormal amounts of idle facility expense, freight, handling costs
and wasted material be recognized as current period charges. Statement 151 also
requires that the allocation of fixed production overhead be based on the normal
capacity of the production facilities. We are currently assessing the potential
effect that Statement 151 could have on our financial position or results of
operations.

In March 2004, the FASB Emerging Issue Task Force (EITF) reached a consensus on
Issue 03-01, "The Meaning of Other-Than-Temporary Impairment and Its Application
to Certain Investments". Issue 03-01 provides guidance regarding recognition and
measurement of unrealized losses on available-for-sale debt and equity
securities accounted for under Statement of Financial Accounting Standard No.
115, "Accounting for Certain Investments in Debt and Equity Securities". The
application of certain paragraphs covering the measurement provisions of Issue
03-01 have been deferred pending the issuance of a final FASB Staff Position
providing implementation guidance on Issue 03-01. The disclosures were effective
in annual financial statements for fiscal years ending after December 15, 2003.
Management is currently assessing the impact that the recognition and
measurement provisions of Issue 03-01 could have on our financial statements.

The American Jobs Creation Act of 2004 (the "Act") was signed into law in
October 2004 and has several provisions that may impact our income taxes in the
future, including the repeal of the extraterritorial income exclusion and a
deduction related to qualified production activities taxable income. The FASB
proposed that the qualified production activities deduction is a special
deduction and will have no impact on deferred taxes existing at the enactment
date. Rather, the impact of this deduction will be reported in the period in
which the deduction is claimed on our tax return. We are currently evaluating
the impact of the FASB guidance related to qualified production activities on
our effective tax rate in future periods.

In December 2004, the FASB issued Statement No. 123 (revised 2004), "Share-Based
Payment," which is a revision of Statement No. 123, "Accounting for Stock-Based
Compensation." Statement 123(R) replaces APB Opinion No. 25, "Accounting for
Stock Issued to Employees," and amends Statement No. 95, "Statement of Cash
Flows." Statement 123(R) requires all share-based payments to employees,
including grants of employee stock options, to be recognized in the financial
statements based on their fair value. Pro forma footnote disclosure will no
longer be an alternative to financial statement recognition.

Statement 123(R) must be adopted no later than January 1, 2006. Statement 123(R)
permits companies to adopt its requirements using either the "modified

22

prospective" method or the "modified retrospective" method. Management is
currently evaluating the potential impact of Statement 123(R) on our
consolidated financial position and results of operations and the alternative
adoption methods.

FACTORS THAT MAY AFFECT OUR FUTURE PERFORMANCE

Our Operating Results May Fluctuate.

Our operating results, including components of operating results, such as gross
margin on product sales, may fluctuate from time to time, which could affect our
stock price. Our operating results have fluctuated in the past and can be
expected to fluctuate from time to time in the future. Some of the factors that
may cause these fluctuations include:

- the impact of acquisitions;
- the timing of significant customer orders;
- market acceptance of our existing products, as well as products in
development;
- the timing of regulatory approvals;
- the timing of payments received and the recognition of those payments
as revenue under collaborative arrangements and other alliances;
- changes in the rate of exchange between the U.S. dollar, the euro and
the British pound;
- expenses incurred and business lost in connection with product field
corrections or recalls;
- our ability to manufacture our products efficiently; and
- the timing of our research and development expenditures.

Non-Cash Compensation Charges May Affect Our Future Earnings.

In December 2004, the Financial Accounting Standards Board issued Statement No.
123 (revised 2004), "Share-Based Payment," which is a revision of Statement
No. 123, "Accounting for Stock-Based Compensation." Statement 123(R) replaces
APB Opinion No. 25, "Accounting for Stock Issued to Employees". Statement
123(R) requires all share-based payments to employees, including grants of
employee stock options, to be recognized in the financial statements based on
their fair value.

Statement 123(R) must be adopted no later than January 1, 2006. For purposes of
disclosing pro forma financial results in our financial statements as if
compensation cost for our stock option plans had been determined based on the
fair value at the grant consistent with the provisions of Statement No. 123, we
historically estimated the fair value of stock options granted prior to October
1, 2004 using the Black-Scholes valuation model. However, we estimated the pro
forma additional compensation expense related to all options granted on or after
October 1, 2004 using a binomial distribution model. Management believes that
the binomial distribution model is preferable to the Black-Scholes model because
the binomial distribution model is a more flexible model that considers the
impact of non-transferability, vesting and forfeiture provisions in the
valuation of employee stock options. Because Statement 123(R) prohibits pro
forma footnote disclosure as an alternative to financial statement recognition,
management is currently evaluating the potential impact that Statement 123(R)
will have on our future results of operations. Previous estimates of option
values using the Black-Scholes method may not be indicative of results from
applying the binomial distribution model for valuing future option grants.

The Industry And Market Segments in Which We Operate Are Highly Competitive,
And We May Be Unable to Compete Effectively with Other Companies.

In general, the medical technology industry is characterized by intense
competition. We compete with established medical technology and pharmaceutical
companies. Competition also comes from early stage companies that have

23

alternative technological solutions for our primary clinical targets, as well as
universities, research institutions and other non-profit entities. Many of our
competitors have access to greater financial, technical, research and
development, marketing, manufacturing, sales, distribution services and other
resources than we do. Our competitors may be more effective at implementing
their technologies to develop commercial products.

Our competitive position will depend on our ability to achieve market acceptance
for our products, develop new products, implement production and marketing
plans, secure regulatory approval for products under development and obtain
patent protection. We may need to develop new applications for our products to
remain competitive. Technological advances by one or more of our current or
future competitors could render our present or future products obsolete or
uneconomical. Our future success will depend upon our ability to compete
effectively against current technology as well as to respond effectively to
technological advances. Competitive pressures could adversely affect our
profitability. For example, two of our largest competitors have recently
introduced an onlay dural graft matrix, and other companies may be preparing to
introduce similar products. The introduction of such products could reduce the
sales, growth in sales and profitability of our duraplasty products, including
our DuraGen(R), DuraGen Plus(TM). Suturable DuraGen(TM) and EnDura(TM) product
lines, which are among our largest and fastest growing products.

Our largest competitors in the neurosurgery markets are the Medtronic
Neurotechnologies division of Medtronic, Inc., the Codman division of Johnson &
Johnson, the Aesculap division of B. Braun and the Valleylab division of Tyco
International Ltd. In addition, many of our product lines compete with smaller
specialized companies or larger companies that do not otherwise focus on
neurosurgery. Our reconstructive surgery business is small compared to its
principal competitors, which include major medical device and wound care
companies such as Smith and Nephew plc, LifeCell Corporation and Organogenesis
Inc., as well as companies focused on foot and ankle surgeons including Wright
Medical Group, Inc., the DePuy division of Johnson & Johnson and Synthes, Inc.
Our private label products face diverse and broad competition, depending on the
market addressed by the product. Finally, in certain cases our products compete
primarily against medical practices that treat a condition without using a
device, rather than any particular product, such as autograft tissue as an
alternative for the INTEGRA(R) Dermal Regeneration Template, our duraplasty
products and the NeuraGen(TM) Nerve Guide.

Our Current Strategy Involves Growth Through Acquisitions, Which Requires Us
To Incur Substantial Costs And Potential Liabilities For Which We May Never
Realize The Anticipated Benefits.

In addition to internal growth, our current strategy involves growth through
acquisitions. Since 1999, we have acquired 20 businesses or product lines at a
total cost of approximately $213 million.

We may be unable to continue to implement our growth strategy, and our strategy
ultimately may be unsuccessful. A significant portion of our growth in revenues
has resulted from, and is expected to continue to result from, the acquisition
of businesses complementary to our own. We engage in evaluations of potential
acquisitions and are in various stages of discussion regarding possible
acquisitions, certain of which, if consummated, could be significant to us. Any
potential acquisitions may result in material transaction expenses, increased
interest and amortization expense, increased depreciation expense and increased
operating expense, any of which could have a material adverse effect on our
operating results. As we grow by acquisitions, we must integrate and manage the
new businesses to realize economies of scale and control costs. In addition,
acquisitions involve other risks, including diversion of management resources

24

otherwise available for ongoing development of our business and risks associated
with entering new markets with which our marketing and sales force has limited
experience or where experienced distribution alliances are not available. Our
future profitability will depend in part upon our ability to develop further our
resources to adapt to these new products or business areas and to identify and
enter into satisfactory distribution networks. We may not be able to identify
suitable acquisition candidates in the future, obtain acceptable financing or
consummate any future acquisitions. If we cannot integrate acquired operations,
manage the cost of providing our products or price our products appropriately,
our profitability could suffer. In addition, as a result of our acquisitions of
other healthcare businesses, we may be subject to the risk of unanticipated
business uncertainties, regulatory matters or legal liabilities relating to
those acquired businesses for which the sellers of the acquired businesses may
not indemnify us. Future acquisitions may also result in potentially dilutive
issuances of securities.

To Market Our Products under Development We Will First Need To Obtain Regulatory
Approval. Further, If We Fail To Comply With The Extensive Governmental
Regulations That Affect Our Business, We Could Be Subject To Penalties And Could
Be Precluded From Marketing Our Products.

Our research and development activities and the manufacturing, labeling,
distribution and marketing of our existing and future products are subject to
regulation by numerous governmental agencies in the United States and in other
countries. The Food and Drug Administration (FDA) and comparable agencies in
other countries impose mandatory procedures and standards for the conduct of
clinical trials and the production and marketing of products for diagnostic and
human therapeutic use.

Our products under development are subject to FDA approval or clearance prior to
marketing for commercial use. The process of obtaining necessary FDA approvals
or clearances can take years and is expensive and full of uncertainties. Our
inability to obtain required regulatory approval on a timely or acceptable basis
could harm our business. Further, approval or clearance may place substantial
restrictions on the indications for which the product may be marketed or to whom
it may be marketed. Further studies, including clinical trials and FDA
approvals, may be required to gain approval for the use of a product for
clinical indications other than those for which the product was initially
approved or cleared or for significant changes to the product. In addition, for
products with an approved PMA, the FDA requires annual reports and may require
post-approval surveillance programs to monitor the products' safety and
effectiveness. Results of post-approval programs may limit or expand the further
marketing of the product.

Another risk of application to the FDA relates to the regulatory classification
of new products or proposed new uses for existing products. In the filing of
each application, we make a legal judgment about the appropriate form and
content of the application. If the FDA disagrees with our judgment in any
particular case and, for example, requires us to file a PMA application rather
than allowing us to market for approved uses while we seek broader approvals or
requires extensive additional clinical data, the time and expense required to
obtain the required approval might be significantly increased or approval might
not be granted.

Approved products are subject to continuing FDA requirements relating to quality
control and quality assurance, maintenance of records, reporting of adverse
events and product recalls, documentation, and labeling and promotion of medical
devices.

The FDA and foreign regulatory authorities require that our products be
manufactured according to rigorous standards. These regulatory requirements may
significantly increase our production or purchasing costs and may even prevent
us from making or obtaining our products in amounts sufficient to meet market
demand. If we or a third-party manufacturer change our approved manufacturing

25

process, the FDA may require a new approval before that process may be used.
Failure to develop our manufacturing capability may mean that even if we develop
promising new products, we may not be able to produce them profitably, as a
result of delays and additional capital investment costs. Manufacturing
facilities, both international and domestic, are also subject to inspections by
or under the authority of the FDA. In addition, failure to comply with
applicable regulatory requirements could subject us to enforcement action,
including product seizures, recalls, withdrawal of clearances or approvals,
restrictions on or injunctions against marketing our product or products based
on our technology, and civil and criminal penalties.

We are also subject to the regulatory requirements of countries outside of the
United States where we do business. For example, Japan is in the process of
reforming its medical device regulations. A recent amendment to Japan's
Pharmaceutical Affairs Law went into effect on April 1, 2005. New regulations
and requirements exist for obtaining approval of medical devices, including new
requirements governing the conduct of clinical trials, the manufacturing of
products and the distribution of products in Japan. Significant resources also
may be needed to comply with the extensive auditing of all manufacturing
facilities of our company and our vendors by the Ministry of Health, Labor and
Welfare in Japan to comply with the amendment to the Pharmaceutical Affairs Law.
These new regulations may affect our ability to obtain approvals of new products
as well as maintain the certain businesses in Japan. Sales in Japan accounted
for approximately $3.1 million of our revenues in 2004.

Certain Of Our Products Contain Materials Derived From Animal Sources And May
Become Subject To Additional Regulation.

Certain of our products, including the DuraGen(R) Dural Graft Matrix, DuraGen
Plus(TM) Dural Regeneration Matrix, Suturable DuraGen(TM) Dural Regeneration
Matrix and DuraGen Plus(TM) Adhesion Barrier Matrix products, the NeuraGen(TM)
Nerve Guide, the NeuraWrap(TM) Nerve Protector, the INTEGRA(R) Dermal
Regeneration Template, the INTEGRA(TM) Bilayer Matrix and INTEGRA(TM) Matrix
Wound Dressing, the Helistat(R)/Helitene(R) Absorbable Collagen Hemostatic
Agents, our Absorbable Collagen Sponges, the CollaCote(R), CollaTape(R) and
CollaPlug(R) Absorbable Wound Dressings and the BioMend(R) and BioMend(R) Extend
Absorbable Collagen Membranes, contain material derived from bovine tissue.
Products that contain materials derived from animal sources, including food as
well as pharmaceuticals and medical devices, are increasingly subject to
scrutiny in the press and by regulatory authorities. Regulatory authorities are
concerned about the potential for the transmission of disease from animals to
humans via those materials. This public scrutiny has been particularly acute in
Japan and Western Europe with respect to products derived from cattle, because
of concern that materials infected with the agent that causes bovine spongiform
encephalopathy, otherwise known as BSE or mad cow disease, may, if ingested or
implanted, cause a variant of the human Creutzfeldt-Jakob Disease, an ultimately
fatal disease with no known cure. Recent cases of BSE in cattle discovered in
Canada and the United States have increased awareness of the issue in North
America.

We take great care to provide that our products are safe and free of agents that
can cause disease. In particular, the collagen used in the manufacture of our
products is derived only from the deep flexor tendon of cattle from the United
States that are less than 24 months old. The World Health Organization
classifies different types of cattle tissue for relative risk of BSE
transmission. Deep flexor tendon, the sole source of our collagen, is in the
lowest risk category for BSE transmission (the same category as milk, for
example), and is therefore considered to have a negligible risk of containing
the agent that causes BSE (an improperly folded protein known as a prion).
Nevertheless, products that contain materials derived from animals, including
our products, may become subject to additional regulation, or even be banned in
certain countries, because of concern over the potential for prion transmission.
Significant new regulation, or a ban of our products, could have a material
adverse effect on our current business or our ability to expand our business.

26

In addition, we have been notified that Japan has issued new regulations
regarding medical devices that contain tissue of animal origin. Among other
regulations, Japan may require that the tendon used in the manufacture of
medical devices sold in Japan originate in a country that has never had a case
of BSE. Currently, we purchase our tendon from the United States and have
qualified a source of tendon from New Zealand, a country which has never had a
case of BSE. If we cannot continue to qualify a source of tendon from New
Zealand or another country that has never had a case of BSE, we will not be
permitted to sell our collagen hemostatic agents and products for oral surgery
in Japan. We do not currently sell our dural or skin repair products in Japan.

Lack Of Market Acceptance For Our Products Or Market Preference For Technologies
That Compete With Our Products Could Reduce Our Revenues And Profitability.

We cannot be certain that our current products or any other products that we may
develop or market will achieve or maintain market acceptance. Certain of the
medical indications that can be treated by our devices can also be treated by
other medical devices or by medical practices that do not include a device. The
medical community widely accepts many alternative treatments, and certain of
these other treatments have a long history of use. For example, the use of
autograft tissue is a well-established means for repairing the dermis, and it
competes for acceptance in the market with the INTEGRA(R) Dermal Regeneration
Template.

We cannot be certain that our devices and procedures will be able to replace
those established treatments or that either physicians or the medical community
in general will accept and utilize our devices or any other medical products
that we may develop. For example, we cannot be certain that the medical
community will accept the NeuraGen(TM) Nerve Guide over conventional
microsurgical techniques for connecting severed peripheral nerves.

In addition, our future success depends, in part, on our ability to develop
additional products. Even if we determine that a product candidate has medical
benefits, the cost of commercializing that product candidate may be too high to
justify development. Competitors may develop products that are more effective,
cost less or are ready for commercial introduction before our products. For
example, our sales of shunt products could decline if neurosurgeons increase
their use of programmable valves and we fail to introduce a competitive product,
or our sales of certain catheters may be adversely affected by the recent
introduction by other companies of catheters that contain anti-microbial agents
intended to reduce the incidence of infection after implantation. If we are
unable to develop additional commercially viable products, our future prospects
could be adversely affected.

Market acceptance of our products depends on many factors, including our ability
to convince prospective collaborators and customers that our technology is an
attractive alternative to other technologies, to manufacture products in
sufficient quantities and at acceptable costs, and to supply and service
sufficient quantities of our products directly or through our distribution
alliances. In addition, limited funding available for product and technology
acquisitions by our customers, as well as internal obstacles to customer
approvals of purchases of our products, could harm acceptance of our products.
The industry is subject to rapid and continuous change arising from, among other
things, consolidation and technological improvements. One or more of these
factors may vary unpredictably, which could materially adversely affect our
competitive position. We may not be able to adjust our contemplated plan of
development to meet changing market demands.

27

Our Intellectual Property Rights May Not Provide Meaningful Commercial
Protection For Our Products, Which Could Enable Third Parties To Use Our
Technology Or Very Similar Technology And Could Reduce Our Ability To Compete In
The Market.

Our ability to compete effectively depends in part, on our ability to maintain
the proprietary nature of our technologies and manufacturing processes, which
includes the ability to obtain, protect and enforce patents on our technology
and to protect our trade secrets. We own or have licensed patents that cover
aspects of certain of our product lines. However, you should not rely on our
patents to provide us with any significant competitive advantage. Others may
challenge our patents and, as a result, our patents could be narrowed,
invalidated or rendered unenforceable. Competitors may develop products similar
to ours that our patents do not cover. In addition, our current and future
patent applications may not result in the issuance of patents in the United
States or foreign countries. Further, there is a substantial backlog of patent
applications at the U.S. Patent and Trademark Office, and the approval or
rejection of patent applications usually takes from 18 to 24 months.

Our Competitive Position Depends, In Part, Upon Unpatented Trade Secrets Which
We May Be Unable To Protect.

Our competitive position also depends upon unpatented trade secrets. Trade
secrets are difficult to protect. We cannot assure you that others will not
independently develop substantially equivalent proprietary information and
techniques or otherwise gain access to our trade secrets, that our trade secrets
will not be disclosed or that we can effectively protect our rights to
unpatented trade secrets.

In an effort to protect our trade secrets, we require our employees, consultants
and advisors to execute proprietary information and invention assignment
agreements upon commencement of employment or consulting relationships with us.
These agreements provide that, except in specified circumstances, all
confidential information developed or made known to the individual during the
course of their relationship with us must be kept confidential. We cannot assure
you, however, that these agreements will provide meaningful protection for our
trade secrets or other proprietary information in the event of the unauthorized
use or disclosure of confidential information.

Our Success Will Depend Partly On Our Ability To Operate Without Infringing Or
Misappropriating The Proprietary Rights Of Others.

We may be sued for infringing the intellectual property rights of others. In
addition, we may find it necessary, if threatened, to initiate a lawsuit seeking
a declaration from a court that we do not infringe the proprietary rights of
others or that their rights are invalid or unenforceable. If we do not prevail
in any litigation, in addition to any damages we might have to pay, we would be
required to stop the infringing activity or obtain a license for the proprietary
rights involved. Any required license may be unavailable to us on acceptable
terms, or at all. In addition, some licenses may be nonexclusive and allow our
competitors to access the same technology we license. If we fail to obtain a
required license or are unable to design our product so as not to infringe on
the proprietary rights of others, we may be unable to sell some of our products,
which could have a material adverse effect on our revenues and profitability.

28

It May Be Difficult To Replace Some Of Our Suppliers.

Outside vendors, some of whom are sole-source suppliers, provide key components
and raw materials used in the manufacture of our products. Although we believe
that alternative sources for many of these components and raw materials are
available, any supply interruption in a limited or sole source component or raw
material could harm our ability to manufacture our products until a new source
of supply is identified and qualified. In addition, an uncorrected defect or
supplier's variation in a component or raw material, either unknown to us or
incompatible with our manufacturing process, could harm our ability to
manufacture products. We may not be able to find a sufficient alternative
supplier in a reasonable time period, or on commercially reasonable terms, if at
all, and our ability to produce and supply our products could be impaired. We
believe that these factors are most likely to affect the following products that
we manufacture:

- our collagen-based products, such as INTEGRA(R) Dermal Regeneration
Template, DuraGen(R) Dural Graft Matrix, DuraGen Plus(TM) Dural
Regeneration and Suturable DuraGen(TM) Dural Regeneration Matrix
products, and our Absorbable Collagen Sponges;
- our products made from silicone, such as our neurosurgical shunts and
drainage systems and hemodynamic shunts; and
- products which use
many different electronic parts from numerous suppliers, such as our
Camino(R), Ventrix(R) and NeuroSensor(TM)lines of intracranial
monitors and catheters.

If we were suddenly unable to purchase products from one or more of these
companies, we could need a significant period of time to qualify a replacement,
and the production of any affected products could be disrupted. While it is our
policy to maintain sufficient inventory of components so that our production
will not be significantly disrupted even if a particular component or material
is not available for a period of time, we remain at risk that we will not be
able to qualify new components or materials quickly enough to prevent a
disruption if one or more of our suppliers ceases production of important
components or materials.

If Any Of Our Manufacturing Facilities Were Damaged And/Or Our Manufacturing Or
Business Processes Interrupted, We Could Experience Lost Revenues And Our
Business Could Be Seriously Harmed.

We manufacture our products in a limited number of facilities. Damage to our
manufacturing, development or research facilities due to fire, natural disaster,
power loss, communications failure, unauthorized entry or other events could
cause us to cease development and manufacturing of some or all of our products.
In particular, our San Diego, California facility that manufactures our
Camino(R) and Ventrix(R) product line is as susceptible to earthquake damage,
wildfire damage and power losses from electrical shortages as are other
businesses in the Southern California area. Our silicone manufacturing plant in
Anasco, Puerto Rico is vulnerable to hurricane damage. Although we maintain
property damage and business interruption insurance coverage on these
facilities, we may not be able to renew or obtain such insurance in the future
on acceptable terms with adequate coverage or at reasonable costs.

In addition, we are implementing in several stages over several years an
enterprise business system for use in all of our facilities. This system will
replace several systems on which we now rely. We have outsourced our product
distribution function in the United States and are also planning to outsource
our European product distribution function. A delay or other problem with the
system or in our implementation schedule for either of these initiatives could
have a material adverse effect on our operations.

29

We May Be Involved In Lawsuits To Protect Or Enforce Our Intellectual Property
Rights, Which May Be Expensive.

To protect or enforce our intellectual property rights, we may have to initiate
legal proceedings, such as infringement suits or interference proceedings,
against third parties. Intellectual property litigation is costly, and, even if
we prevail, the cost of that litigation could affect our profitability. In
addition, litigation is time consuming and could divert management attention and
resources away from our business. We may also provoke these third parties to
assert claims against us.

We Are Exposed To A Variety Of Risks Relating To Our International Sales And
Operations, Including Fluctuations In Exchange Rates, Local Economic Conditions
And Delays In Collection Of Accounts Receivable.

We generate significant revenues outside the United States in euros, British
pounds and in U.S. dollar-denominated transactions conducted with customers who
generate revenue in currencies other than the U.S. dollar. For those foreign
customers who purchase our products in U.S. dollars, currency fluctuations
between the U.S. dollar and the currencies in which those customers do business
may have an impact on the demand for our products in foreign countries where the
U.S. dollar has increased in value compared to the local currency.

Because we have operations based in Europe and we generate revenues and incur
operating expenses in euros and British pounds, we experience currency exchange
risk with respect to those foreign currency-denominated revenues and expenses.
In 2003 and 2004, the cost of products we manufactured in our European
facilities or purchased in foreign currencies exceeded our foreign
currency-denominated revenues. We expect this imbalance to continue.
Accordingly, a further weakening of the dollar against the euro and British
pound could negatively affect future gross margins and operating margins.

Currently, we do not use derivative financial instruments to manage operating
foreign currency risk. As the volume of our business transacted in foreign
currencies increases, we will continue to assess the potential effects that
changes in foreign currency exchange rates could have on our business. If we
believe that this potential impact presents a significant risk to our business,
we may enter into derivative financial instruments to mitigate this risk.

In general, we cannot predict the consolidated effects of exchange rate
fluctuations upon our future operating results because of the number of
currencies involved, the variability of currency exposure and the potential
volatility of currency exchange rates.

Our sales to foreign markets also may be affected by local economic conditions,
legal, regulatory or political considerations, the effectiveness of our sales
representatives and distributors, local competition and changes in local medical
practice. Relationships with customers and effective terms of sale frequently
vary by country, often with longer-term receivables than are typical in the
United States.

Changes In The Health Care Industry May Require Us To Decrease The Selling Price
For Our Products Or May Reduce The Size Of The Market For Our Products, Either
Of Which Could Have A Negative Impact On Our Financial Performance.

Trends toward managed care, health care cost containment and other changes in
government and private sector initiatives in the United States and other
countries in which we do business are placing increased emphasis on the delivery
of more cost-effective medical therapies that could adversely affect the sale
and/or the prices of our products. For example:

30

- major third-party payors of hospital services and hospital outpatient
services, including Medicare, Medicaid and private health care
insurers, have substantially revised their payment methodologies,
which has resulted in stricter standards for reimbursement of hospital
charges for certain medical procedures;
- Medicare, Medicaid and private health care insurer cutbacks could
create downward price pressure on our products;
- numerous legislative proposals have been considered that would result
in major reforms in the U.S. health care system that could have an
adverse effect on our business;
- there has been a consolidation among health care facilities and
urchasers of medical devices in the United States who prefer to limit
the number of suppliers from whom they purchase medical products, and
these entities may decide to stop purchasing our products or demand
discounts on our prices;
- we are party to contracts with group purchasing organizations that
require us to discount our prices for certain of our products and
limit our ability to raise prices for certain of our products,
particularly surgical instruments;
- there is economic pressure to contain health care costs in
international markets;
- there are proposed and existing laws, regulations and industry
policies in domestic and international markets regulating the sales
and marketing practices and the pricing and profitability of companies
in the health care industry; and
- there have been initiatives by third-party payors to challenge the
prices charged for medical products that could affect our ability to
sell products on a competitive basis.

Both the pressures to reduce prices for our products in response to these trends
and the decrease in the size of the market as a result of these trends could
adversely affect our levels of revenues and profitability of sales.

Regulatory Oversight Of The Medical Device Industry Might Affect The Manner In
Which We May Sell Medical Devices

There are laws and regulations that regulate the means by which companies in the
health care industry may market their products to health care professionals and
may compete by discounting the prices of their products. Although we exercise
care in structuring our sales and marketing practices and customer discount
arrangements to comply with those laws and regulations, we cannot assure you
that:

- government officials charged with responsibility for enforcing those
laws will not assert that our sales and marketing practices or
customer discount arrangements are in violation of those laws or
regulations; or
- government regulators or courts will interpret those laws or
regulations in a manner consistent with our interpretation.

In January 2004, ADVAMED, the principal U.S. trade association for the medical
device industry, put in place a model "code of conduct" that sets forth
standards by which its members should abide in the promotion of their products.
We have in place policies and procedures for compliance that we believe are at
least as stringent as those set forth in the ADVAMED Code, and we provide
routine training to our sales and marketing personnel on our policies regarding
sales and marketing practices. Nevertheless, we believe that the sales and
marketing practices of our industry will be subject to increased scrutiny from
government agencies.

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Our Private Label Business Depends Significantly On Key Relationships With
Third Parties, Which We May Be Unable To Establish And Maintain.

Our private label business depends in part on our entering into and maintaining
collaborative or alliance agreements with third parties concerning product
marketing, as well as research and development programs. Our most important
alliance is our agreement with the Wyeth BioPharma division of Wyeth for the
development of collagen matrices to be used in conjunction with Wyeth
BioPharma's recombinant bone protein, a protein that stimulates the growth of
bone in humans. Termination of any of our alliances would require us to develop
other means to distribute the affected products and could adversely affect our
expectations for the growth of private label products.

We May Have Significant Product Liability Exposure And Our Insurance May Not
Cover All Potential Claims.

We are exposed to product liability and other claims in the event that our
technologies or products are alleged to have caused harm. We may not be able to
obtain insurance for the potential liability on acceptable terms with adequate
coverage or at reasonable costs. Any potential product liability claims could
exceed the amount of our insurance coverage or may be excluded from coverage
under the terms of the policy. Our insurance may not be renewed at a cost and
level of coverage comparable to that then in effect.

We Are Subject To Other Regulatory Requirements Relating To Occupational
Health And Safety And The Use Of Hazardous Substances Which May Impose
Significant Compliance Costs On Us.

We are subject to regulation under federal and state laws regarding occupational
health and safety, laboratory practices and the use, handling and disposal of
toxic or hazardous substances. Our research, development and manufacturing
processes involve the controlled use of certain hazardous materials. Although we
believe that our safety procedures for handling and disposing of those materials
comply with the standards prescribed by the applicable laws and regulations, the
risk of accidental contamination or injury from these materials cannot be
eliminated. In the event of such an accident, we could be held liable for any
damages that result and any related liability could exceed the limits or fall
outside the coverage of our insurance and could exceed our resources. We may not
be able to maintain insurance on acceptable terms or at all. We may incur
significant costs to comply with environmental laws and regulations in the
future. We may also be subject to other present and possible future local,
state, federal and foreign regulations.

The Loss Of Key Personnel Could Harm Our Business.

We believe our success depends on the contributions of a number of our key
personnel, including Stuart M. Essig, our President and Chief Executive
Officer. If we lose the services of key personnel, those losses could
materially harm our business. We maintain key person life insurance on Mr.
Essig.

FORWARD-LOOKING STATEMENTS

We have made statements in this report, including statements under "Management's
Discussion and Analysis of Financial Condition and Results of Operations" which
constitute forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
These forward-looking statements are subject to a number of risks, uncertainties
and assumptions about the Company, including those described under "Factors that
May Affect Our Future Performance" in the Company's Annual Report on Form 10-K
for the year ended December 31, 2004 filed with the Securities and Exchange
Commission and those set forth under the heading "Factors That May Affect our

32

Future Performance" in this report. In light of these risks and uncertainties,
the forward-looking events and circumstances discussed in this report may not
occur and actual results could differ materially from those anticipated or
implied in the forward-looking statements.

You can identify these forward-looking statements by forward-looking words such
as "believe," "may," "could," "will," "estimate," "continue," "anticipate,"
"intend," "seek," "plan," "expect," "should," "would" and similar expressions in
this report.

33

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are exposed to various market risks, including changes in foreign currency
exchange rates and interest rates that could adversely impact our results of
operations and financial condition. To manage the volatility relating to these
typical business exposures, we may enter into various derivative transactions
when appropriate. We do not hold or issue derivative instruments for trading or
other speculative purposes.

Foreign Currency Exchange Rate Risk

A discussion of foreign currency exchange risks is provided under the caption
"International Operations" under "Management's Discussion and Analysis of
Financial Condition and Results of Operations".

Interest Rate Risk - Marketable Securities

We are exposed to the risk of interest rate fluctuations on the fair value and
interest income earned on our cash and cash equivalents and investments in
available-for-sale marketable debt securities. A hypothetical 100 basis point
movement in interest rates applicable to our cash and cash equivalents and
investments in marketable debt securities outstanding at March 31, 2005 would
increase or decrease interest income by approximately $1.6 million on an annual
basis. We are not subject to material foreign currency exchange risk with
respect to these investments.

Interest Rate Risk - Long Term Debt and Related Hedging Instruments

We are exposed to the risk of interest rate fluctuations on the net interest
received or paid under the terms of an interest rate swap. At March 31, 2005, we
had outstanding a $50.0 million notional amount interest rate swap used to hedge
the risk of changes in fair value attributable to interest rate risk with
respect to a portion of our $120.0 million principal amount fixed rate 2 1/2%
contingent convertible subordinated notes due March 2008.

Our interest rate swap agreement qualifies as a fair value hedge under SFAS No.
133, as amended, "Accounting for Derivative Instruments and Hedging Activities".
At March 31, 2005, the net fair value of the interest rate swap approximated
$2.1 million and is included in other liabilities. The net fair value of the
interest rate swap represents the estimated receipts or payments that would be
made to terminate the agreement. A hypothetical 100 basis point movement in
interest rates applicable to the interest rate swap would increase or decrease
interest expense by approximately $500,000 on an annual basis.

34

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

We maintain disclosure controls and procedures that are designed to ensure that
information required to be disclosed in our Exchange Act reports is recorded,
processed, summarized and reported within the time periods specified in the
Securities and Exchange Commission's rules and forms and that such information
is accumulated and communicated to our management, including our principal
executive officer and principal financial officer, as appropriate, to allow for
timely decisions regarding required disclosure. Disclosure controls and
procedures, no matter how well designed and operated, can provide only
reasonable assurance of achieving the desired control objectives, and management
is required to apply its judgment in evaluating the cost-benefit relationship of
possible controls and procedures. Management has designed our disclosure
controls and procedures to provide reasonable assurance of achieving the desired
control objectives.

As required by Rule 13a-15(b) under the Exchange Act, we have carried out an
evaluation, under the supervision and with the participation of our management,
including our principal executive officer and principal financial officer, of
the effectiveness of the design and operation of our disclosure controls and
procedures as of the end of the quarter covered by this report. Based on the
foregoing, our principal executive officer and principal financial officer
concluded that our disclosure controls and procedures were effective at the
reasonable assurance level.

Changes in Internal Control Over Financial Reporting

No changes in our internal control over financial reporting (as defined in Rules
13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the quarter
ended March 31, 2005, that have materially affected, or are reasonably likely to
materially affect, our internal control over financial reporting.

Internal control over financial reporting cannot provide absolute assurance of
achieving financial reporting objectives because of its inherent limitations.
Internal control over financial reporting is a process that involves human
diligence and compliance and is subject to lapses in judgment and breakdowns
resulting from human failures. Internal control over financial reporting also
can be circumvented by collusion or improper management override. Because of
such limitations, there is a risk that material misstatements may not be
prevented or detected on a timely basis by internal control over financial
reporting. However, these inherent limitations are known features of the
financial reporting process. Therefore, it is possible to design into the
process safeguards to reduce, though not eliminate, this risk.

35

PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEDINGS

In July 1996, the Company filed a patent infringement lawsuit in the United
States District Court for the Southern District of California (the "Trial
Court") against Merck KGaA, a German corporation, Scripps Research Institute, a
California nonprofit corporation, and David A. Cheresh, Ph.D., a research
scientist with Scripps, seeking damages and injunctive relief. The complaint
charged, among other things, that the defendant Merck KGaA willfully and
deliberately induced, and continues willfully and deliberately to induce,
defendants Scripps Research Institute and Dr. Cheresh to infringe certain of the
Company's patents. These patents are part of a group of patents granted to The
Burnham Institute and licensed by Integra that are based on the interaction
between a family of cell surface proteins called integrins and the
arginine-glycine-aspartic acid ("RGD") peptide sequence found in many
extracellular matrix proteins. The defendants filed a countersuit asking for an
award of defendants' reasonable attorney fees.

In March 2000, a jury returned a unanimous verdict in the Company's favor and
awarded Integra $15.0 million in damages, finding that Merck KGaA had willfully
infringed and induced the infringement of our patents. The Trial Court dismissed
Scripps and Dr. Cheresh from the case.

In October 2000, the Trial Court entered judgment in Integra's favor and against
Merck KGaA in the case. In entering the judgment, the Trial Court also granted
to the Company pre-judgment interest of $1.4 million, bringing the total award
to $16.4 million, plus post-judgment interest. Merck KGaA filed various
post-trial motions requesting a judgment as a matter of law notwithstanding the
verdict or a new trial, in each case regarding infringement, invalidity and
damages. In September 2001, the Trial Court entered orders in favor of Integra
and against Merck KGaA on the final post-judgment motions in the case, and
denied Merck KGaA's motions for judgment as a matter of law and for a new trial.

Merck KGaA and Integra each appealed various decisions of the Trial Court to the
United States Court of Appeals for the Federal Circuit (the "Circuit Court"). In
June 2003, the Circuit Court affirmed the Trial Court's finding that Merck KGaA
had infringed our patents. The Circuit Court also held that the basis of the
jury's calculation of damages was not clear from the trial record, and remanded
the case to the Trial Court for further factual development and a new
calculation of damages consistent with the Circuit Court's decision. Merck KGaA
filed a petition for a writ of certiorari with the United States Supreme Court
(the "Supreme Court") seeking review of the Circuit Court's decision, and the
Supreme Court granted the writ in January 2005. Oral arguments before the United
States Supreme Court were held in April 2005. We expect the Supreme Court to
render a decision before the end of its current term.

In September 2004, the Trial Court ordered Merck KgaA to pay Integra $6.4
million in damages. following the Circuit Court's order. Further enforcement of
the Trial Court's order has been stayed pending the decision of the Supreme
Court.

The Company has not recorded any gain in connection with this matter, pending
final resolution and completion of the appeals process.

In addition to the Merck KGaA matter, the Company is subject to various claims,
lawsuits and proceedings in the ordinary course of its business, including
claims by current or former employees, distributors and competitors and with
respect to our products. In the opinion of management, such claims are either
adequately covered by insurance or otherwise indemnified, or are not expected,
individually or in the aggregate, to result in a material adverse effect on the

36

Company's financial condition. However, it is possible that our results of
operations, financial position and cash flows in a particular period could be
materially affected by these contingencies.

Three of the Company's French subsidiaries that were acquired from the
neurosciences division of NMT Medical, Inc. received a tax reassessment notice
from the French tax authorities seeking in excess of 1.7 million euros in back
taxes, interest and penalties. NMT Medical, the former owner of these entities,
has agreed to indemnify Integra against direct damages and liability arising
from misrepresentations in connection with these tax claims. In April 2005, NMT
Medical, Inc. negotiated a settlement agreement with the French authorities that
will satisfy the outstanding tax assessments. This settlement will not have any
impact on the Company's financial statements.

ITEM 6. EXHIBITS

31.1 Certification of Principal Executive Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
31.2 Certification of Principal Financial Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
32.1 Certification of Principal Executive Officer Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002
32.1 Certification of Principal Financial Officer Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002.

37

SIGNATURES

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

INTEGRA LIFESCIENCES HOLDINGS CORPORATION

Date: May 10, 2005 /s/ Stuart M. Essig
-------------------
Stuart M. Essig
President and Chief Executive Officer

Date: May 10, 2005 /s/ David B. Holtz
-------------------
David B. Holtz
Senior Vice President, Finance

38

Exhibits

31.1 Certification of Principal Executive Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
31.2 Certification of Principal Financial Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
32.1 Certification of Principal Executive Officer Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002
32.2 Certification of Principal Financial Officer Pursuant to Section 906 of
the Surcharge-Oxley Act of 2002.

39