UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

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

For the quarterly period ended: July 2, 2004

OR

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

For the transition period from __________ to __________

Commission file number: 0-11634

STAAR SURGICAL COMPANY

1911 Walker Avenue
Monrovia, California
91016
(Address of principal executive offices)
(Zip Code)

(626) 303-7902
(Registrant’s telephone number, including area code)

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 a check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). YES [X] NO [ ]

The registrant has 20,564,864 shares of common stock, par value $0.01 per share, issued and outstanding as of August 9, 2004.

STAAR SURGICAL COMPANY

INDEX

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

STAAR SURGICAL COMPANY AND SUBSIDIARIES

Note: The amounts presented in the January 2, 2004 balance sheet are derived from the audited financial statements for the year ended January 2, 2004. See accompanying summary of accounting policies and notes to the condensed consolidated financial statements.

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STAAR SURGICAL COMPANY AND SUBSIDIARIES

See accompanying notes to the condensed consolidated financial statements.

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STAAR SURGICAL COMPANY AND SUBSIDIARIES

See accompanying notes to the condensed consolidated financial statements.

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STAAR SURGICAL COMPANY AND SUBSIDIARIES

1. Organization and Description of Business

     STAAR Surgical Company (the “Company”), a Delaware corporation, was incorporated in 1982 for the purpose of developing, producing, and marketing Intraocular Lenses (“IOLs”) and other products for minimally invasive cataract surgery. The Company has evolved to become a developer, manufacturer and global distributor of products used by ophthalmologists and other eye care professionals to improve or correct vision in patients with cataracts, refractive conditions and glaucoma. Products manufactured by the Company for use in restoring vision adversely affected by cataracts include its line of IOLs, the SonicWAVE^™ Phacoemulsification System, and Cruise Control, a disposable filter used in phacoemulsification. Products manufactured by the Company for use in correcting refractive conditions such as myopia (near-sightedness), hyperopia (far-sightedness) and astigmatism include the VISIAN^™ ICL (“ICL”), the VISIAN^™ TICL (“TICL”) and the Toric IOL. The Company’s AquaFlow^™ Collagen Glaucoma Drainage Device is surgically implanted in the outer tissues of the eye to maintain a space that allows increased drainage of intraocular fluid thereby reducing intraocular pressure, which otherwise may lead to deterioration of vision in patients with glaucoma. The Company also sells other instruments, devices and equipment that are manufactured either by the Company or by others in the ophthalmic products industry.

     STAAR Surgical AG is a wholly owned subsidiary formed in Switzerland to develop and manufacture certain of the Company’s products and to distribute worldwide both the Company’s products and products from various other manufacturers.

2. Basis of Presentation

     The accompanying condensed consolidated financial statements include the accounts of the Company, and its wholly owned and its majority owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation. Assets and liabilities of foreign subsidiaries are translated at rates of exchange in effect at the close of the period. Revenues and expenses are translated at the weighted average of exchange rates in effect during the period. The resulting translation gains and losses are deferred and are shown as a separate component of stockholders’ equity as accumulated other comprehensive income. During the six months ended July 2, 2004 and July 4, 2003, the net foreign currency translation gain (loss) was ($268,000) and $132,000, respectively. Net foreign currency transaction gain for the three months ended July 2, 2004 and July 4, 2003 was $13,000 and $197,000, respectively, and for the six months ended July 2, 2004 and July 4, 2003 was $143,000 and $141,000, respectively.

     Investment in the Company’s joint venture, CANON-STAAR Company, Inc., is accounted for using the equity method of accounting.

     The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. The financial statements for the three and six months ended July 2, 2004 and July 4, 2003, in the opinion of management, include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the financial condition and results of operations. These financial statements should be read in conjunction with the audited financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended January 2, 2004.

     The results of operations for the three and six months ended July 2, 2004 and July 4, 2003 are not necessarily indicative of the results to be expected for any other interim period or the entire year.

     Each of the Company’s reporting periods ends on the Friday nearest to the quarter ending date and generally consists of 13 weeks.

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STAAR SURGICAL COMPANY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)

     The Company has adopted the disclosure-only provisions of Statement of Financial Accounting Standards (“SFAS”) No. 123 and SFAS No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure.” Under these provisions, the Company continues to measure the cost of stock-based compensation issued to employees using the intrinsic value method provided by Accounting Principles Board Opinion No. 25, while disclosing the effect the fair-value method would have on net income (loss) on a pro forma basis. Under the intrinsic value method, the Company has recognized no cost for options granted under its stock option plans because all options had an exercise price equal to the market value of the underlying common stock on the date of grant.

     Pro forma net loss and loss per share for the three and six months ended July 2, 2004 and July 4, 2003, had the Company accounted for stock options issued to employees and others in accordance with the fair value method of SFAS 123, are as follows (in thousands, except per share data):

3. Geographic and Product Data

     The Company develops, manufactures and distributes medical devices used in minimally invasive ophthalmic surgery. The Company distributes its medical devices in the cataract, refractive and glaucoma sectors within ophthalmology. While the Company has expanded its marketing focus beyond the cataract market to include the refractive and glaucoma markets, the cataract market remains the Company’s primary source of revenues and, therefore, the Company operates as one business segment for financial reporting purposes.

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STAAR SURGICAL COMPANY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)

     The Company markets and sells its products in over 35 countries and has manufacturing sites in the United States and Switzerland. Other than the United States and Germany, the Company does not conduct business in any country in which its sales in that country exceed 5% of the Company’s consolidated sales. Sales are attributed to countries based on the location of customers. The composition of the Company’s sales to unaffiliated customers between those in the United States, Germany, and other locations for each period is set forth below (in thousands):

     The Company sells its products internationally, which subjects the Company to several potential risks, including fluctuating exchange rates (to the extent the Company’s transactions are not in U.S. dollars), regulation of fund transfers by foreign governments, United States and foreign export and import duties and tariffs and possible political instability.

4. Inventories

     Inventories are stated at the lower of cost, determined on a first-in, first-out basis, or market and consisted of the following at July 2, 2004 and January 2, 2004 (in thousands):

5. Goodwill and Other Intangible Assets

     Goodwill represents the excess of the purchase price over the fair value of identifiable net assets acquired in business combinations. The Company adopted SFAS No. 141, “Business Combinations,” and No. 142, “Goodwill and Other Intangible Assets,” on December 29, 2001.

     Goodwill, which has an indefinite life and was previously amortized on a straight-line basis over the periods benefited, is no longer amortized to earnings but instead is subject to periodic testing for impairment. Intangible assets determined to have definite lives are amortized over their remaining useful lives. Goodwill of a reporting unit is tested for impairment on an annual basis or between annual tests if an event occurs or circumstances change that would reduce the fair value of a reporting unit below its carrying amount. As provided under SFAS 142, an annual assessment of goodwill for possible impairment was completed during fiscal year 2003 and no impairment was identified. As of July 2, 2004, the carrying value of goodwill was $7.5 million.

     During the quarter ended July 2, 2004, the Company entered into an agreement for the purchase of the 20% minority interest of an 80% owned subsidiary in exchange for cash of $282,000, a short-term note in the amount of $486,000 due in August 2004 included in Other Current Liabilities, and a long-term note in the amount of $542,000 due on November 1, 2007 included in Other Long-Term Liabilities. The transaction resulted in the recording of goodwill of $1.3 million.

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STAAR SURGICAL COMPANY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)

     The Company has intangible assets consisting of patents and licenses, with a gross book value of $11.5 million and accumulated amortization of $5.8 million as of July 2, 2004. Amortization is computed on the straight-line basis over the estimated useful lives, which are based on legal and contractual provisions, and range from 10 to 20 years. Amortization expense for the three and six months ended July 2, 2004 and July 4, 2003, was $203,000 and $407,000, and $249,000 and $490,000, respectively.

     The weighted average amortization period for other intangible assets is approximately 15 years. The following table shows the estimated amortization expense for these assets for each of the five succeeding years (in thousands):

6. Loss Per Share

     The Company presents loss per share data in accordance with the provision of SFAS No. 128, “Earnings per Share” (“SFAS 128”), which provides for the calculation of basic and diluted earnings per share. Basic loss per share of common stock is computed by dividing net loss by the weighted average number of common shares outstanding during the period. For the three and six months ended July 2, 2004 and July 4, 2003, 2,578,748 and 2,538,412 and 2,036,735 and 2,390,526 options to purchase shares of the Company’s common stock, were not included in the determination of the weighted average number of shares outstanding, as their inclusion would be antidilutive.

7. Supply Agreement

     In December 2000, the Company entered into a minimum purchase agreement with a manufacturer for the purchase of viscoelastic solution. In addition to the minimum purchase requirement, the Company is also obligated to pay an annual regulatory maintenance fee. The agreement contains provisions to increase the minimum annual purchases in the event that the seller gains regulatory approval of the product in other markets, as requested by the Company. Purchases under the agreement during the three months ended July 2, 2004 and July 4, 2003, were approximately $192,000 and $128,000, respectively, and for the six months ended July 2, 2004 and July 4, 2003 were approximately $346,000 and $270,000, respectively.

     As of July 2, 2004, minimum annual purchase commitments are as follows (in thousands):

8. Private Placement

     During the quarter ended July 2, 2004, the Company completed a private placement of 2,000,000 shares of its common stock for net proceeds of $11.7 million.

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STAAR SURGICAL COMPANY AND SUBSIDIARIES

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

The matters addressed in this Item 2 that are not historical information constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Although the Company believes that the expectations reflected in these forward-looking statements are reasonable, such statements are inherently subject to risks and the Company can give no assurances that its expectations will prove to be correct. Actual results could differ from those described in this report because of numerous factors, many of which are beyond the control of the Company. These factors include, without limitation, those described below under the heading “Factors That May Affect Future Results of Operations.” The Company undertakes no obligation to update these forward-looking statements that may be made to reflect events or circumstances after the date of this report or to reflect actual outcomes.

The following discussion should be read in conjunction with the Company’s financial statements and the related notes provided under Item 1— Financial Statements above.

Overview

     STAAR develops and sells innovative products for surgical eye care. We provide products for eye care professionals operating in three sectors of the ophthalmic products industry: cataract surgery, refractive surgery and glaucoma surgery. Our mission is to develop, manufacture and market innovative, visual implants that simplify surgery and improve patient’s quality of vision.

History

	•		STAAR developed, patented, and licensed the first foldable intraocular lens, or IOL, for cataract surgery. Made of pliable material, the foldable IOL permitted surgeons for the first time to replace a cataract patient’s lens with minimally invasive surgery. The foldable IOL quickly became the standard of care for cataract surgery throughout the world. STAAR introduced its first versions of the lens, made of silicone material, in 1991.
	•		In 1998 STAAR introduced the Toric IOL, the only implantable lens approved for the treatment of astigmatism. The Toric IOL was STAAR’s first venture into the refractive cataract market.
	•		In 2000 STAAR introduced an IOL made of our proprietary Collamer® lens material, a uniquely biocompatible polymerized collagen. Collamer mimics the clarity and refractive qualities of the natural human lens better than acrylic lens materials, and is better tolerated by the eye than either silicone or acrylic.
	•		In 2003, STAAR’s VISIAN™ ICL became the first phakic IOL to receive an “approvable” recommendation from the FDA’s Ophthalmic Devices Panel. Using the unique biocompatible properties of the Collamer material, the VISIAN™ ICL is implanted in front of the patient’s natural lens to treat refractive errors, such as myopia (nearsightedness). Currently under review in the U.S., the VISIAN™ ICL has received CE Marking, is approved for sale in 37 countries and has been implanted in more than 35,000 eyes worldwide
	•		In 2004 STAAR, through its joint venture partner CANON-STAAR, introduced the first pre-loaded lens injector system in international markets. Offering surgeons unprecedented convenience and reliability, the pre-loaded injector will, STAAR’s management believes, become the new standard of care in IOL surgery. The pre-loaded injector is not yet available in the U.S.

Principal Products

     Cataract Surgery. The production and sale of IOLs for use in cataract surgery remains our core business. Our product range for cataract surgery includes the following:

	•		Silicone IOLs, in both three-piece and one-piece plate designs;
	•		Silicone Toric IOLs, used in cataract surgery to treat astigmatic vision abnormalities;

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STAAR SURGICAL COMPANY AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OPERATIONS (Continued)

	•		Collamer® IOLs, in both three-piece and one-piece plate designs;
	•		STAARVISC™ II, a viscoelastic material, which is used as a tissue protective lubricant and to maintain the shape of the eye during surgery;
	•		the SonicWAVE™ Phacoemulsification System, which is used to remove a cataract patient’s cloudy lens and has unique low energy and high vacuum characteristics:
	•		Cruise Control™, a disposable filter used to increase safety and control during phacoemulsification; and
	•		Other auxiliary products for cataract surgery which strengthen our ability to offer a complete range of procedural products.

     Sales of our cataract surgery products accounted for approximately 90 % of our total revenues for the 2003 fiscal year and also for the quarter ended July 2, 2004.

     Refractive Surgery. We have used our uniquely biocompatible Collamer material to develop and manufacture lenses to treat refractive disorders such as myopia (near-sightedness), hyperopia (far-sightedness) and astigmatism. These include the VISIAN™ ICL, or ICL®, and the Toric VISIAN™ TICL, or TICL®. Lenses of this type are generically called “phakic IOLs” or “phakic implants” because they work along with the patient’s natural lens, or phakos, rather than replacing it.

     The ICL has not yet been approved for use in the United States. On October 3, 2003, the Ophthalmic Devices Panel of the Center for Devices and Radiological Health of the United States Food and Drug Administration, or FDA, recommended that, with specified conditions, the FDA approve the ICL for use in correcting myopia in the range of -3 to -15 diopters and reducing myopia in the range of -15 to -20 diopters. If approved, we believe that the ICL will have a significant market as an alternative to LASIK and other available refractive surgical procedures and will likely replace cataract surgery products as STAAR’s largest source of revenue. We are presently working with the FDA to obtain regulatory approval for the ICL.

     The ICL is approved for use in the countries comprising the European Union and in Korea and Canada. The TICL is in clinical trials in the United States, and is approved for use in the countries comprising the European Union and Canada.

     Glaucoma Surgery. We have developed the AquaFlow™ Collagen Glaucoma Drainage Device, also referred to as the AquaFlow Device, as an alternative to current methods of treating open angle glaucoma. The AquaFlow Device is implanted in the sclera (the white of the eye), using a minimally invasive procedure, for the purpose of reducing intraocular pressure.

Significant Factors Affecting Our Business and Recent Highlights

Changing Focus of Research and Development.

     STAAR’s executive management was completely replaced in 2001. The new management team, led by David Bailey, assumed control of a company with a long record of innovation in ophthalmology, but one that had failing financials and was burning cash at a significant rate. STAAR was also embroiled in several legal actions in the past which have affected our cash reserves and we underwent significant restructuring and implemented other cost-cutting measures in 2000 and 2001 to conserve our cash resources. Despite all of these cutbacks, STAAR has continued to devote a significant amount of its resources to developing and introducing the ICL. STAAR management believed (and still believes) that the ICL will ultimately obtain U.S. FDA approval and have long-term advantages over its competition because of its placement in the posterior

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STAAR SURGICAL COMPANY AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OPERATIONS
(Continued)

chamber of the eye and the biocompatability of its Collamer material. To date, these beliefs have been borne out both in the results of the U.S. FDA clinical trial and the growing use of the VISIAN ICL internationally.

     Because of its significant investment in ICL technology, STAAR had limited resources for further developing its mature and well accepted IOL products for cataract treatment but nevertheless introduced the revolutionary pre-loaded injector system developed by its joint venture company in Japan, CANON-STAAR. Management believes however that during the long process of developing and approving the ICL, STAAR overall had failed to match some of its competitors’ improvements to IOL technology and standard delivery systems.

     As U.S. approval of the ICL became more likely in late 2003, and the focus of the ICL project shifted from development to marketing, management began to devote research and development resources to making STAAR’s IOL delivery systems more competitive. In an effort to strengthen the areas of research and development, in December 2003, we bifurcated our research and development function from our regulatory and compliance function and hired Tom Paul, PhD, as Vice President, Research and Development. The resources for these efforts were made available by STAAR’s 2003 private sale of common stock, the proceeds of which would also fund the launching and marketing of the ICL.

     The Warning Letter received from the FDA on December 29, 2003 caused a reassessment of regulatory and compliance spending. The letter made it clear that STAAR needed to accelerate its efforts to improve its quality and regulatory compliance systems. The delay in the approval of the ICL until compliance issues were resolved put additional strain on the Company’s ability to grow its top line, further accelerating the need to invest in improvements to its IOL delivery systems in order to bolster it’s historical cataract base business.

     As a result of the above factors and the receipt of a second Warning letter, the first six months of 2004 saw significant new investments in the restructuring of STAAR’s quality assurance and regulatory compliance functions, and in improving IOL technology, particularly lens delivery systems. While some R&D expense is directly attributable to the response to the FDA’s warning letters of December 22, 2003 and April 26, 2004 and related audits of STAAR’s Monrovia and Nidau facilities, the bulk of the expense results from systemic changes intended to produce a permanent improvement in the areas of research and development and quality assurance and regulatory compliance.

     As described below, the initiative to improve IOL delivery technology resulted in significant progress towards the completion of an improved one-piece Collamer IOL injector, continuous improvements to cartridge injector components for all lenses and a redesigned three-piece Collamer IOL injector. The continuous improvements to cartridges resulted in intermittent supply problems, particularly in the second quarter. The timing of this interruption, which coincided with increased R&D expenditures and a decline in sales of silicone IOLs, contributed to the drop in earnings in the second quarter. The decision to upgrade it’s three piece Collamer lens design to coincide with the introduction of the first dedicated injector for this lens, coupled with a revised Quality System, have resulted in the combined introduction being delayed until late 2004.

     Private Placement. As a result of the delay in the FDA approval of the ICL we needed further cash reserves to adequately invest in research and development and regulatory and compliance. We completed a private placement of 2,000,000 shares of our common stock on June 10, 2004 and received net proceeds of $11.7 million during the quarter ended July 2, 2004. As a result of this transaction, we had approximately $14.9 million in cash and cash equivalents at July 2, 2004, compared to $7.3 million at January 2, 2004.

     Contraction of Silicone IOL market. Market share for silicone IOLs has steadily decreased over the last several years, as many surgeons now choose lenses made of acrylic material rather than silicone for their patients. Management believes that Collamer lens material will ultimately be competitive with acrylic, but to date sales of Collamer IOLs have only partially offset declining sales of silicone IOLs.

     Redesign of Injectors and Three-Piece Collamer IOL. In an effort to improve the competitiveness of our lens injection systems for Collamer IOLs, in the first six months of 2004 we devoted significant resources to improving the injector for the one-piece Collamer IOL and redesigning the three-piece Collamer injector. The redesign of the three-piece Collamer injector resulted in a hiatus in three-piece Collamer lens production, which STAAR took as an opportunity to make minor

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OPERATIONS
(Continued)

improvements and enhancements to the lens design. As a result of these efforts, three-piece Collamer IOLs had limited availability in the U.S. during the first six months of 2004.

     Despite weak sales in the second quarter of 2004, sales of Collamer IOLs were still up for the first six months of 2004, compared to the first six months of 2003 driven by one-piece Collamer IOL sales. The redesigned three-piece Collamer IOL injector received 510K approval by the FDA in the second quarter of 2004. We will begin field testing of the redesigned three-piece Collamer lens and injector system in the fourth quarter of 2004 and expect to begin marketing the redesigned system in the U.S. shortly thereafter. Management believes that with the introduction of the improved products growth in Collamer IOL sales will resume in the fourth quarter of 2004 and will accelerate in the first half of 2005.

     The idling of our three-piece Collamer lens production capacity during the redesign process contributed to a drop in gross profit margins during the second quarter. Our gross profit margin was 51.1% for the quarter ended July 2, 2004, compared with 54.5% for the same period in 2003, and 53.9% for the first quarter of 2004.

     Decline in U.S. Sales of IOLs. During the second quarter, the long-term contraction in the Silicone IOL market was intensified by the negative perception in the marketplace of the Warning Letters and recalls, resulting in a 26% decline in U.S. silicone IOL sales. The market noise around compliance issues, along with an interruption in the supply of cartridges, also resulted in a decline in sales of Collamer IOLs. In contrast to recent periods in which improving sales of Collamer IOLs have partially offset declining sales of silicone IOLs, sales of Collamer IOLs instead declined 13% in the second quarter, worsening overall results for the U.S. cataract business during the quarter and resulting in an overall decline of 7.6% in U.S. sales in the quarter.

     Growth in International Sales of VISIAN ICLs and Preloaded Silicone IOLs. The decline in the U.S. cataract business was offset in part by a 22 % increase in international sales of the VISIAN ICL and TICL. In addition, our preloaded silicone lens injector system, newly launched in international markets, experienced strong sales.

     Decline in Distributed Products. Along with our own products we have historically distributed complementary products from other manufacturers to eye care professionals, especially in international markets. As part of our strategy to improve gross profit margins, we are focusing on the distribution of our own higher margin proprietary products. As a result, sales of distributed products sourced from third parties are declining. Despite the increased sales of ICL, TICL and preloaded IOLs internationally, total international sales declined 3.7% in the second quarter of 2004 compared to the same period in 2003 due to decreased sales of distributed products.

     FDA Warning Letters. We received Warning Letters issued by the FDA, dated December 22, 2003 and April 26, 2004, which outlined deficiencies related to our manufacturing and quality assurance systems in our Monrovia, California facility. We are aggressively pursuing corrective actions to remedy the issues. While these issues do not directly relate to the ICL, until the FDA is satisfied with our response it will not grant approval to market the ICL in the United States and we may face FDA restrictions on our established domestic lines of business. These Warning Letters have affected our reputation in the ophthalmic market and affected our product sales adversely for the second quarter of 2004. We also experienced an increase in our research and development expenses as we made fundamental improvements to our quality assurance and regulatory compliance functions to prevent any recurrence of the issues raised in the Warning Letters.

     FDA Inspections. On June 17, 2004, the FDA completed an audit of our Nidau, Switzerland manufacturing facility. The FDA did not observe any violations of our Quality System and Good Manufacturing Practices requirements during this audit. The FDA began their re-audit of the Monrovia, California facility on July 28, 2004 and as of the filing date of this quarterly report, this audit is ongoing. Costs associated with the preparation for these FDA Inspections, and the fundamental improvements made to our quality assurance and regulatory compliance functions, contributed to the 50.1% increase in our research and development expenses for the quarter ended July 2, 2004, compared to the same period in 2003. This absolute level of expenditure is not expected to be repeated going forward.

     Foreign Currency Fluctuations. Our products are sold in more than 35 countries. For the quarter ended July 2, 2004, revenues from international operations were 56% of total revenues. The results of operations and the financial position of certain of our offshore operations are reported in the relevant local currencies and then translated into U.S. dollars at the applicable exchange rates for inclusion in our consolidated financial statements, exposing us to currency translation risk. For the three months ended July 2, 2004, currency exchange rates had a favorable impact on product sales of approximately $276,000, and an adverse impact on our marketing and selling expenses of approximately $132,000.

     Product Recalls. During the first six months of 2004, we initiated several voluntary recalls of selected lots of IOL cartridges and injectors and in actions the FDA considers a recall but where there is no requirement for product to be returned to us, we issued letters to healthcare professionals advising them of the potential for a change in manifest refraction over time in

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OPERATIONS
(Continued)

rare cases involving the single-piece Collamer IOL. Although the direct costs associated with the recalls have not been material, we believe the recalls have adversely affected our revenues from product sales, although the amount of the impact cannot be determined.

     Marketing and Selling. Even if approved by the FDA, the ICL will not reach its full sales potential unless we successfully plan and execute its launch and marketing in the United States. For the quarter ended July 2, 2004, marketing and selling expense increased 16.9% compared to the same period in 2003, due primarily to increased headcount and promotional activities primarily in preparation for the launch of the ICL in the United States.

     Research and Development. We spent 13.1% of our revenue on research and development for the six months ended July 2, 2004, and we expect to spend between 10 % to 11% of our revenue on an annual basis in the future. For the quarter ended July 2, 2004, research and development expenses increased 50.1% compared to the same period in 2003. This was primarily due to our increased investment in insertion systems, the Collamer three-piece IOL system redesign and preparing for the FDA audit of our facilities in Nidau, Switzerland and Monrovia, California, which we have described in greater detail above.

     Purchase of Minority Interest. We also entered into an agreement for the purchase of the 20% minority interest of an 80% owned subsidiary, ConceptVision Australia Pty Limited, in exchange for cash of $282,000, a short-term note in the amount of $486,000 due in August 2004 and a long-term note in the amount of $542,000 due on November 1, 2007. The transaction resulted in the recording of goodwill of $1.3 million.

Results of Operations

     The following table sets forth the percentage of total revenues represented by certain items reflected in the Company’s statements of operations for the periods indicated and the percentage increase or decrease in such items over the prior period.

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STAAR SURGICAL COMPANY AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OPERATIONS
(Continued)

Revenues

     Product sales for the three months ended July 2, 2004 decreased to $12.0 million, compared to the three months ended July 4, 2003 when they were $13.0 million. Changes in currency exchange rates had a favorable impact on product sales of approximately $276,000. The primary reason for the decrease in product sales, excluding the impact of exchange, was a decrease in U.S. IOL sales due to the market response to the Company’s compliance issues with the FDA and the lack of competitive lens delivery systems. The silicone IOL market, which comprised the largest percentage of the decline in product sales, was also impacted by a believed contraction of this market segment. The decreases in U.S. IOL sales were partially offset by increased sales of the Company’s Visian™ ICL (“ICL”) and Visian™ TICL (“TICL”) in international markets, sales of the newly launched preloaded IOL in international markets, and increased sales of Cruise Control. Despite the growth in sales of ICL, TICL, and preloaded IOLs internationally, total international sales declined due to decreased sales of distributed products as the Company concentrates on the distribution of its higher margin in-house proprietary products. Total revenues for the second quarter of 2003 included $1,000 in royalties from technology licenses that terminated in 2003.

     Product sales for the six months ended July 2, 2004 decreased to $25.6 million, compared to the six months ended July 4, 2003 when they were $25.7 million. Changes in currency exchange rates had a favorable impact on product sales of approximately $1.2 million. The primary reason for the decrease in product sales, excluding the impact of exchange, was a decrease in U.S. silicone IOL sales due to the market response to the Company’s compliance issues with the FDA, the lack of competitive lens delivery systems, and believed contraction of this market segment. Sales of distributed products in international markets also decreased as the Company concentrates its focus on the distribution of its higher margin in-house proprietary product. These sales decreases were partially offset by increased sales of Collamer IOLs, increased sales of the Company’s Visian™ ICL (“ICL”) and Visian™ TICL (“TICL”) in international markets, sales of the newly launched preloaded IOL in international markets, and increased sales of Cruise Control. Total revenues for the first six months of 2003 included $48,000 in royalties from technology licenses that terminated in 2003.

Gross Profit Margin

     Gross profit margin decreased to 51.1% and 52.6% of revenues for the three and six months ended July 2, 2004, respectively, from 54.5% and 54.4% of revenues for the three and six months ended July 4, 2003, respectively. The most significant impact on gross margins for the three and six month periods resulted from increased expenses associated with Manufacturing Engineering and Quality Control and Assurance and the cost related to the three-piece Collamer production capacity that has been idle during the redesign of that system. Margins were also negatively impacted by the decline in U.S. silicone IOL sales which carry higher margins than the majority of products currently sold in the U.S.

Sales and Marketing

     Marketing and selling expense for the quarter ended July 2, 2004 increased $747,000 or 16.9% over the quarter ended July 4, 2003 and $1,522,000 or 17.7% over the same year-to-date period. The increase in marketing and selling expense is due to increased headcount and promotional activities primarily in preparation for the launch of the Visian™ ICL in the U.S. and as a result of the unfavorable impact of foreign exchange. These increases were partially offset by decreased commissions and the cost savings realized from the closure of a subsidiary. The expense related to the launch of the Visian™ ICL is expected to remain at or near second quarter levels in the remaining periods of 2004.

Research and Development

     Research and development expense for the quarter ended July 2, 2004 increased $689,000 or 50.1% over the quarter ended July 4, 2003 and $798,000 or 31.3% over the same year-to-date period. The increased spending is due to a concentrated investment in lens delivery systems and the three-piece Collamer IOL redesign, costs associated with the preparation for the FDA audit of the Company’s Nidau, Switzerland facility and the re-audit of its Monrovia, California facility and increased headcount. While the Company expects to continue its expanded efforts in R&D, the level of expenditure is expected to decline from the levels in the second quarter of 2004.

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OPERATIONS (Continued)

Income Taxes

     The Company recorded income taxes for the three months ended July 2, 2004 and July 4, 2003 of $129,000 and $315,000, respectively, and for the six months ended July 2, 2004 and July 4, 2003 of $615,000 and $644,000, respectively, primarily based on the income of its German subsidiary.

Liquidity and Capital Resources

     Cash and cash equivalents at July 2, 2004 increased by approximately $7.6 million relative to January 2, 2004, as a result of net proceeds of $11.7 million received during the quarter from a private placement of 2,000,000 shares of the Company’s common stock, $286,000 received in proceeds from the exercise of stock options, and $120,000 received in payment on a note of a former director. These increases were partially offset by the net loss of $4.7 million adjusted for depreciation, amortization, and other non-cash items totaling $1.6 million and by purchases of property and equipment of $884,000 and the initial payment of $282,000 for the purchase of the minority interest of an 80% owned subsidiary.

     Inventories at July 2, 2004 increased $501,000 relative to January 2, 2004, as the Company’s Switzerland manufacturing facility built additional single-piece Collamer IOL inventory to make facilities available for building ICL inventory in the coming months as the Company prepares for the launch of the ICL in the U.S. Although the dollar value of inventories has increased, the number of days of inventory on hand has decreased to 206 days at July 2, 2004 from 210 days at January 2, 2004.

     During the quarter ended July 2, 2004, the Company entered into an agreement for the purchase of the 20% minority interest of an 80% owned subsidiary in exchange for cash of $282,000, a short-term note in the amount of $486,000 due in August 2004 included in Other Current Liabilities, and a long-term note in the amount of $542,000 due on November 1, 2007 included in Other Long-Term Liabilities. The transaction resulted in the recording of goodwill of $1.3 million.

     Subsidiaries of the Company have foreign credit facilities with different banks to support operations in Switzerland and Germany.

     The Swiss credit agreement, which provides for borrowings of up to 3.75 million Swiss Francs “CHF” (approximately $3.0 million based on the rate of exchange on July 2, 2004), permits either fixed-term or current advances. The interest rate on current advances is 6.0% and 6.5% per annum at July 2, 2004 and July 4, 2003, respectively, plus a commission rate of 0.25% payable quarterly. There were no current advances outstanding at July 2, 2004 or July 4, 2003. The base interest rate for fixed-term advances follows Euromarket conditions for loans of a corresponding term and currency plus an individual margin (4.2% and 4.3% at July 2, 2004 and July 4, 2003, respectively). Borrowings outstanding under the note were CHF 3.7 million at July 2, 2004 (approximately $3.0 million based on the rate of exchange at July 2, 2004) and CHF 4.0 million at July 4, 2003 (approximately $3.0 million based on the rate of exchange on July 4, 2003). The credit facility is secured by a general assignment of claims and includes positive and negative covenants which, among other things, require the maintenance of a minimum level of equity of at least CHF 15.8 million (approximately $12.6 million based on the exchange rate on July 2, 2004) and prevent the subsidiary from entering into other secured obligations or guaranteeing the obligations of others. The agreement also prohibits repayment of loans made by the Company to the subsidiary without the prior consent of the lender. This financial covenant was not met as of July 2, 2004, but the bank has waived such non-compliance. The Company expects to continue to be in violation of this covenant in the near-term and, therefore, is currently renegotiating the terms of the agreement with the bank.

     The Swiss credit facility is divided into two parts: Part A provides for borrowings of up to CHF 3.0 million ($2.4 million based on the exchange rate on July 2, 2004) and does not have a termination date; Part B presently provides for borrowings of up to CHF 1.0 million ($0.8 million based on the exchange rate on July 2, 2004). The loan amount under Part B of the agreement reduces by CHF 250,000 ($200,000 based on the exchange rate on July 2, 2004) semi-annually.

     The German credit agreement, entered into during fiscal year 2003, provides for borrowings of up to 210,000 EUR ($255,000 at the rate of exchange on July 2, 2004), at a rate of 8.5% per annum and is scheduled to mature in November 2004. The agreement prohibits the subsidiary from paying dividends and is personally guaranteed by the president of the Company’s German subsidiary. There were no borrowings outstanding as of July 2, 2004, but borrowings outstanding as July 4, 2003 were Euro 93,000 ($113,000 based of the exchange rate on July 2, 2004).

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OPERATIONS (Continued)

     The following table represents the Company’s known contractual obligations at July 2, 2004 (in thousands):

     As of July 2, 2004, the Company had a current ratio of 2.8:1, net working capital of $23.0 million and net equity of $42.4 million compared to January 2, 2004 when the Company’s current ratio was 2.4:1, its net working capital was $15.9 million, and its net equity was $35.2 million.

     The Company’s liquidity requirements arise from its working capital needs, primarily inventory, work-in-process and accounts receivable. The Company’s primary sources for working capital and capital expenditures are cash flow from operations, proceeds from the private placement of Common Stock, proceeds from option exercises, debt repayments by former officers, and borrowings under the Company’s bank credit facilities. Any withdrawal of support from its banks could have serious consequences to the Company’s liquidity. The Company’s liquidity is dependent, in part, on customers paying within credit terms, and any extended delays in payments or changes in credit terms given to major customers may have an impact on the Company’s cash flow. In addition, any abnormal product returns or pricing adjustments may also affect the Company’s short-term funding.

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Critical Accounting Policies

The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an on-going basis, we evaluate our estimates, including those related to revenue recognition, allowance for doubtful accounts, inventory reserves and income taxes, among others. Our estimates are based upon historical experiences, market trends and financial forecasts and projections, and upon various other assumptions that management believes to be reasonable under the circumstances and at that certain point in time. Actual results may differ, significantly at times, from these estimates under different assumptions or conditions.

     The Company believes the following represent its critical accounting policies.

	•		Revenue Recognition. In general, the Company supplies foldable IOLs on a consignment basis to customers, primarily ophthalmologists, surgical centers, hospitals and other eye care providers and recognizes sales when the IOLs are implanted. Sales of all other products, including sales to foreign distributors, are generally recognized upon shipment.
	•		Impairment of Long-Lived Assets. Intangible and other long lived-assets are reviewed for impairment whenever events such as product discontinuance, plant closures, product dispositions or other changes in circumstances indicate that the carrying amount may not be recoverable. In reviewing for impairment, the Company compares the carrying value of such assets to the estimated undiscounted future cash flows expected from the use of the assets and their eventual disposition. When the estimated undiscounted future cash flows are less than their carrying amount, an impairment loss is recognized equal to the difference between the assets’ fair value and their carrying value.
	•		Goodwill. Goodwill, which has an indefinite life and was previously amortized on a straight-line basis over the periods benefited, is no longer amortized to earnings, but instead is subject to periodic testing for impairment. Intangible assets determined to have definite lives are amortized over their remaining useful lives. Goodwill of a reporting unit is tested for impairment on an annual basis or between annual tests if an event occurs or circumstances change that would reduce the fair value of a reporting unit below its carrying amount. As provided under SFAS 142, an annual assessment was completed during 2003, and no impairment has been identified. As of July 2, 2004, the carrying value of goodwill was $7.5 million.
	•		Patents and Licenses. The Company also has other intangible assets consisting of patents and licenses, with a gross book value of $11.5 million and accumulated amortization of $5.8 million as of July 2, 2004. Amortization is computed on the straight-line basis over the estimated useful lives, which are based on legal and contractual provisions, and range from 10 to 20 years.

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Factors That May Affect Future Results of Operations

     Our short and long-term success is subject to many factors that are beyond our control. Stockholders and prospective stockholders in the Company should consider carefully the following risk factors, in addition to other information contained in this report. This Quarterly Report on Form l0-Q contains forward-looking statements, which are subject to a variety of risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth below.

     We have a history of losses.

     We have reported losses in each of the last three fiscal years and have an accumulated deficit of $53.8 million as of July 2, 2004. If losses from operations continue, they could adversely affect the market price for our Common Stock and our ability to obtain new financing. In June 2000, we began implementing a restructuring plan aimed at reducing costs and improving operating efficiency. In connection with this plan, we recognized pre-tax charges to earnings of $15.3 million, $7.8 million, and $1.5 million in fiscal 2000, 2001, and 2002. While the restructuring plan has generally improved our profit margins, we cannot be certain that we will succeed in restoring our profitability.

We have limited access to credit and have been in default of the terms of our loan agreements.

     As of July 2, 2004, we failed to comply with a covenant under our principal foreign loan agreement, which prohibits the repayment of loans made by the Company to its Swiss subsidiary without the prior consent of the lender. Accordingly, we had to obtain a waiver from our lender. As of July 2, 2004, we have outstanding balances on the loans of our European subsidiaries of approximately $3.0 million, based on exchange rates on that date. We believe that sufficient cash to fund operations and current growth plans will be provided by cash from operations and existing cash balances. However, it is likely that we will also need access to credit to finance operations and fund future growth. Because of our history of losses we may not be able secure adequate financing for these purposes on terms that are favorable to us or on any terms.

We have received Warning Letters from the FDA, which will delay approval of the ICL and could limit our existing business in the United States.

     On December 29, 2003 and April 26, 2004, we received Warning Letters issued by the FDA. While we are acting to correct the deficiencies identified in the Warning Letters, until the FDA is satisfied with our response, we will not be granted approval to market the ICL in the United States and we may face FDA restrictions on our established domestic lines of business. Even if the FDA approves our corrective action, the publication of the Warning Letters or similar actions in the future could further harm our reputation and sales. A copy of the first Warning Letter is attached as Exhibit 99.1 to our Current Report on Form 8-K filed with the Securities and Exchange Commission on January 9, 2004, and a copy of the second Warning Letter is attached as Exhibit 99.1 to our Current Report on Form 8-K filed with the Securities and Exchange Commission on May 6, 2004.

Our success depends on the ICL, which has not been approved for use in the United States.

     We have devoted significant resources and management attention to the development and introduction of our ICL and TICL. Our management believes that the future success of STAAR depends on the approval of the ICL by the FDA and a successful launch of the ICL in North America. The ICL is already approved for use in the countries comprising the European Union and Canada and in parts of Asia. The TICL is approved for use in the countries comprising the European Union. In October 2003, the FDA Ophthalmic Devices Panel recommended that the FDA approve, with conditions, specified uses of the ICL. The FDA has not yet acted on this recommendation, and it could decide to reject the Ophthalmic Devices Panel recommendations. Until the FDA is satisfied with our response to its Warning Letters dated December 22, 2003 and April 23, 2004, we will not be granted approval to market the ICL in the United States. If the FDA does not grant approval of the ICL, or significantly delays its approval, whether because of the issues contained in the Warning Letters or otherwise, our prospects for success will be severely diminished.

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Our success depends on the successful marketing of the ICL in the United States market.

     Even if it is approved by the FDA, the ICL will not reach its full sales potential unless we successfully plan and execute its launch and marketing in the United States. This will present new challenges to our sales and marketing staff and to our independent manufacturers’ representatives. In countries where the ICL has been approved to date, our sales have grown steadily, but slowly. In the United States in particular, patients who might benefit from the ICL have already been exposed to a great deal of advertising and publicity about laser refractive surgery, but have little if any awareness of the ICL. As a result, we expect to make extensive use of advertising and promotion targeted to potential patients through providers, and to carefully manage the introduction of the ICL. We do not have unlimited resources and we cannot predict whether the particular marketing, advertising and promotion strategies we pursue will be as successful as we intend. If we do not successfully market the ICL in the United States, we will not achieve our planned profitability and growth.

Our core domestic business has suffered declining sales, which sales of new products have only partially offset.

     STAAR pioneered the foldable IOL for use in cataract surgery, and the foldable silicone IOL remains our largest source of revenue. Since we introduced the product, however, competitors have introduced IOLs employing a variety of designs and materials. Over the years these products have gradually taken a larger share of the IOL market, while the market share for STAAR IOLs has decreased. In particular, many surgeons now choose lenses made of acrylic material rather than silicone for their typical patients. In an effort to maintain our competitive position we have introduced a new biocompatible lens material, Collamer, to our line of IOLs. We have also introduced new IOL designs, such as the Toric IOL, and have continued to improve and refine the silicone IOL. Sales of these new products, however, have only partially offset declining sales of our silicone IOLs.

We depend on independent manufacturers’ representatives.

     In an effort to manage costs and bring our products to a wider market, we have entered into long-term agreements with independent regional manufacturers’ representatives, who introduce our products to eye surgeons and provide the training needed to begin using some of our products. Under our agreements with these representatives, each receives a commission on all of our sales within a specified region, including sales on products we sell into their territories without their assistance. Because they are independent contractors, we have a limited ability to manage these representatives or their employees. In addition, a representative may represent manufacturers other than STAAR, although not in competing products. We have been relying on the independent representatives to introduce our new products like Collamer IOLs, Toric IOLs and the AquaFlow Device, and we will rely on them, in part, to help introduce the ICL if it is approved. However, in an effort to balance the risks associated with a purely independent sales force, we have introduced direct sales representatives in certain areas of the U.S. and have also introduced direct application specialists to assist in proctoring and surgeon training to ensure physician compliance and enhance patient outcomes with our high technology products. If the introduction of direct application specialists is not successful, or our independent manufacturers’ representatives do not devote sufficient resources to marketing our products, or if they lack the skills or resources to market our new products, our new products will fail to reach their full sales potential and sales of our established products could decline.

Product recalls have been costly and may be so in the future.

     Medical devices must be manufactured to the highest standards and tolerances, and often incorporate newly developed technology. Despite all efforts to achieve the highest level of quality control and advance testing, from time to time defects or technical flaws in our products may not come to light until after the products are sold or consigned. In those circumstances, we have previously made voluntary recalls of our products. Recalls significantly impacted our revenue in 2001 when, in separate instances, we voluntarily recalled our three-piece Collamer lens and certain silicone lenses, and as a result wrote down approximately $3.4 million in inventory in that year. In January 2004, we voluntarily recalled selected lots of IOL cartridges and in February 2004, in an action the FDA considers a recall but where there is no requirement for product to be returned to us, we issued a letter to healthcare professionals advising them of the potential for a change in manifest refraction over time in rare cases involving the single-piece Collamer IOL. Similar recalls could take place again. Courts or regulators can also impose mandatory recalls on us, even if we believe our products are safe and effective. Recalls can result in lost sales of the recalled products themselves, and can result in further lost sales while replacement products are manufactured, especially if the replacements must be redesigned. If recalled products have already been implanted, we may bear some or all of the cost of corrective surgery. Recalls may also damage our professional reputation and the reputation of our products. The inconvenience

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caused by recalls and related interruptions in supply, and the damage to our reputation, could cause some professionals to discontinue using our products.

     We compete with much larger companies.

     Our competitors, including Alcon, Inc., AMO, and Bausch & Lomb, Inc., have much greater financial resources than we do and some of them have large international markets for a full suite of ophthalmic products. Their greater resources for research, development and marketing, and their greater capacity to offer comprehensive products and equipment to providers, make it difficult for us to compete. We have lost significant market share to some of our competitors.

Most of our products have single-site manufacturing approvals, exposing us to risks of business interruption.

     We manufacture all of our products either at our facility in Monrovia, California or our facility in Nidau, Switzerland. Most of our products are approved for manufacturing only at one of these sites. Before we can use a second manufacturing site for an implantable device we must obtain the approval of regulatory authorities. Because this process is expensive we have generally not sought approvals needed to manufacture at an additional site. If a natural disaster, fire, or other serious business interruption struck one of our manufacturing facilities, it could take a significant amount of time to validate a second site and replace lost product. We could lose customers to competitors, thereby reducing sales, profitability and market share.

Risks Related to the Ophthalmic Products Industry

If we fail to keep pace with advances in our industry or fail to persuade physicians to adopt the new products we introduce, customers may not buy our products and our revenue may decline.

     Constant development of new technologies and techniques, frequent new product introductions and strong price competition characterize the ophthalmic industry. The first company to introduce a new product or technique to market usually gains a significant competitive advantage. Our future growth depends, in part, on our ability to develop products to treat diseases and disorders of the eye that are more effective, safer, or incorporate emerging technologies better than our competitors’ products. Sales of our existing products may decline rapidly if one of our competitors introduces a substantially superior product, or if we announce a new product of our own. Similarly, if we fail to make sufficient investments in research and development or if we focus on technologies that do not lead to better products, our current and planned products could be surpassed by more effective or advanced products.

     In addition, we must manufacture these products economically and market them successfully by persuading a sufficient number of eye care professionals to use them. For example, glaucoma requires ongoing treatment over a long period of time; thus, many doctors are reluctant to switch a patient to a new treatment if the patient’s current treatment for glaucoma remains effective. This has been a challenge in selling our Aquaflow Device.

Resources devoted to research and development may not yield new products that achieve commercial success.

     We spent 13.1% of our revenue on research and development for the six months ended July 2, 2004, and we expect to spend between 10-11% of our revenue on an annual basis in the future. Development of new implantable technology, from discovery through testing and registration to initial product launch, is expensive and typically takes from three to seven years. Because of the complexities and uncertainties of ophthalmic research and development, products we are currently developing may not complete the development process or obtain the regulatory approvals required for us to market the products successfully. It is possible that few or none of the products currently under development will become commercially successful.

Failure of users of our products to obtain adequate reimbursement from third-party payors could limit market acceptance of our products, which could affect our sales and profits.

     Many of our products, in particular IOLs and products related to the treatment of glaucoma, are used in procedures that are typically covered by health insurance, HMO plans, Medicare or Medicaid. These third-party payors have recently been trying to contain costs by restricting the types of procedures they reimburse to those viewed as most cost-effective and capping or reducing reimbursement rates. These policies could adversely affect sales and prices of our products. Physicians, hospitals and

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other health care providers may be reluctant to purchase our products if third-party payors do not adequately reimburse them for the cost of our products and the use of our surgical equipment. For example:

	•		Major third-party payors for hospital services, including government insurance plans, Medicare, Medicaid and private health care insurers, have substantially revised their payment methodologies during the last few years, resulting in stricter standards for reimbursement of hospital and outpatient charges for some medical procedures, including cataract procedures and IOLs;
	•		Numerous legislative proposals have been considered that, if enacted, would result in major reforms in the United States’ health care system, which could have an adverse effect on our business;
	•		Our competitors may reduce the prices of their products, which could result in third-party payors favoring our competitors;
	•		There are proposed and existing laws and regulations governing maximum product prices and the profitability of companies in the health care industry; and
	•		There have been recent initiatives by third-party payors to challenge the prices charged for medical products. Reductions in the prices for our products in response to these trends could reduce our profits. Moreover, our products may not be covered in the future by third-party payors, which would also reduce our sales.

We are subject to extensive government regulation, which increases our costs and could prevent us from selling our products.

     Government regulations and agency oversight apply to every aspect of our business, including testing, manufacturing, safety and environmental controls, efficacy, labeling, advertising, promotion, record keeping, the sale and distribution of products and samples. We are also subject to government regulation over the prices we charge and the rebates we offer to customers. Complying with government regulation substantially increases the cost of developing, manufacturing and selling our products.

     In the United States, we must obtain approval from the FDA for each product that we market. Competing in the ophthalmic products industry requires us to continuously introduce new or improved products and processes, and to submit these to the FDA for approval. Obtaining FDA approval is a long and expensive process, and approval is never certain. In addition, our operations in the United States are subject to periodic inspection by the FDA. Such inspection may result in the FDA ordering changes in our business practices, which changes could be costly and have a material adverse effect on our business and results of operations. In particular, we received Warning Letters from the FDA on December 29, 2003 and April 26, 2004, requiring us to take corrective action as discussed elsewhere in this report.

     Products distributed outside of the United States are also subject to government regulation, which may be equally or more demanding. Our new products could take a significantly longer time than we expect to gain regulatory approval and may never gain approval. If a regulatory authority delays approval of a potentially significant product, the potential sales of the product and its value to us can be substantially reduced. Even if the FDA or another regulatory agency approves a product, the approval may limit the indicated uses of the product, or may otherwise limit our ability to promote, sell and distribute the product, or may require post-marketing studies. If we cannot obtain regulatory approval of our new products, or if the approval is too narrow, we will not be able to market these products, which would eliminate or reduce our potential sales and earnings.

The global nature of our business may result in fluctuations and declines in our sales and profits.

     Our products are sold in more than 35 countries. Revenues from international operations make up a significant portion of our total revenue. For the quarter ended July 2, 2004 revenues from international operations were 56% of total revenues. The results of operations and the financial position of certain of our offshore operations are reported in the relevant local currencies and then translated into United States dollars at the applicable exchange rates for inclusion in our consolidated financial statements, exposing us to translation risk. In addition, we are exposed to transaction risk because some of our expenses are incurred in a different currency from the currency in which our revenues are received. Our most significant currency exposures

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are to the Euro, the Swiss Franc, and the Australian dollar. The exchange rates between these and other local currencies and the United States dollar may fluctuate substantially. We have not attempted to offset our exposure to these risks by investing in derivatives or engaging in other hedging transactions. Fluctuations in the value of the United States dollar against other currencies have not had a material adverse effect on our operating margins and profitability in the past.

     Economic, social and political conditions, laws, practices and local customs vary widely among the countries in which we sell our products. Our operations outside of the United States are subject to a number of risks and potential costs, including lower profit margins, less stringent protection of intellectual property and economic, political and social uncertainty in some countries, especially in emerging markets. Our continued success as a global company depends, in part, on our ability to develop and implement policies and strategies that are effective in anticipating and managing these and other risks in the countries where we do business. These and other risks may have a material adverse effect on our operations in any particular country and on our business as a whole. We price some of our products in U.S. dollars, and as a result changes in exchange rates can make our products more expensive in some offshore markets and reduce our revenues. Inflation in emerging markets also makes our products more expensive there and increases the credit risks to which we are exposed.

We depend on proprietary technologies, but may not be able to protect our intellectual property rights adequately.

     We have numerous patents and pending patent applications. We rely on a combination of contractual provisions, confidentiality procedures and patent, trademark, copyright and trade secrecy laws to protect the proprietary aspects of our technology. These legal measures afford limited protection and may not prevent our competitors from gaining access to our intellectual property and proprietary information. Any of our patents may be challenged, invalidated, circumvented or rendered unenforceable. Furthermore, we cannot be certain that any pending patent application held by us will result in an issued patent or that if patents are issued to us, the patents will provide meaningful protection against competitors or competitive technologies. Litigation may be necessary to enforce our intellectual property rights, to protect our trade secrets and to determine the validity and scope of our proprietary rights. Any litigation could result in substantial expense, may reduce our profits and may not adequately protect our intellectual property rights. In addition, we may be exposed to future litigation by third parties based on claims that our products infringe their intellectual property rights. This risk is exacerbated by the fact that the validity and breadth of claims covered by patents in our industry may involve complex legal issues that are not fully resolved.

     Any litigation or claims against us, whether or not successful, could result in substantial costs and harm our reputation. In addition, intellectual property litigation or claims could force us to do one or more of the following: to cease selling or using any of our products that incorporate the challenged intellectual property, which would adversely affect our revenue; to negotiate a license from the holder of the intellectual property right alleged to have been infringed, which license may not be available on reasonable terms, if at all; or to redesign our products to avoid infringing the intellectual property rights of a third party, which may be costly and time-consuming or impossible to accomplish.

We obtain some of the components of our products from a single source, and an interruption in the supply of those components could reduce our revenue.

     We obtain some of the components for our products from a single source. For example, only one supplier produces our viscoelastic product. Although we believe we could find alternate supplies for any of these components, the loss or interruption of any of these suppliers could increase costs, reducing our revenue and profitability, or harm our customer relations by delaying product deliveries.

We may not successfully develop and launch replacements for our products that lose patent protection.

     Most of our products are covered by patents that give us a degree of market exclusivity during the term of the patent. We have also earned revenue in the past by licensing some of our patented technology to other ophthalmic companies. The legal life of a patent is 20 years from application. Patents covering our products will expire from this year through the next 20 years. Upon patent expiration, our competitors may introduce products using the same technology. As a result of this possible increase in competition, we may need to charge a lower price in order to maintain sales of our products, which could make these products less profitable. If we fail to develop and successfully launch new products prior to the expiration of patents for our

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existing products, our sales and profits with respect to those products could decline significantly. We may not be able to develop and successfully launch more advanced replacement products before these and other patents expire.

Our activities involve hazardous materials and emissions and may subject us to environmental liability.

     Our manufacturing, research and development practices involve the controlled use of hazardous materials. We are subject to federal, state and local laws and regulations in the various jurisdictions in which we have operations governing the use, manufacturing, storage, handling and disposal of these materials and certain waste products. Although we believe that our safety and environmental procedures for handling and disposing of these materials comply with legally prescribed standards, we cannot completely eliminate the risk of accidental contamination or injury from these materials. Remedial environmental actions could require us to incur substantial unexpected costs, which would materially and adversely affect our results of operations. If we were involved in a major environmental accident or found to be in substantial non-compliance with applicable environmental laws, we could be held liable for damages or penalized with fines.

     We risk losses through litigation.

     We are currently party to various claims and legal proceedings arising out of the normal course of our business. These claims and legal proceedings relate to contractual rights and obligations, employment matters, and claims of product liability. While we do not believe that any of the claims known to us is likely to have a material adverse effect on our financial condition or results of operations, new claims or unexpected results of existing claims could lead to significant financial harm.

     We depend on key employees.

     We depend on the continued service of our senior management and other key employees. The loss of a key employee could hurt our business. We could be particularly hurt if any key employee or employees went to work for competitors. Our future success depends on our ability to identify, attract, train and motivate other highly skilled personnel. Failure to do so may adversely affect future results.

Risks Related to Ownership of Our Common Stock

Our Certificate of Incorporation could delay or prevent an acquisition or sale of our company.

     Our Certificate of Incorporation empowers the Board of Directors to establish and issue a class of preferred stock, and to determine the rights, preferences and privileges of the preferred stock. We also have a Stockholders’ Rights Plan, which could discourage a third party from making an offer to acquire us. These provisions give the Board of Directors the ability to deter, discourage or make more difficult a change in control of our company, even if such a change in control would be in the interest of a significant number of our stockholders or if such a change in control would provide our stockholders with a substantial premium for their shares over the then-prevailing market price for the common stock.

Our bylaws contain other provisions that could have an anti-takeover effect, including the following:

	•		only one of the three classes of directors is elected each year;
	•		stockholders have limited ability to remove directors;
	•		stockholders cannot call a special meeting of stockholders; and
	•		stockholders must give advance notice to nominate directors.

Anti-takeover provisions of Delaware law could delay or prevent an acquisition of our company.

     We are subject to the anti-takeover provisions of Section 203 of the Delaware General Corporation Law, which regulates corporate acquisitions. These provisions could discourage potential acquisition proposals and could delay or prevent a change in

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control transaction. They could also have the effect of discouraging others from making tender offers for our common stock or preventing changes in our management.

     Future sales of our common stock could reduce our stock price.

     While our Board of Directors currently has no plans to issue additional shares of common or preferred stock, it may do so in the future to raise additional capital or for other corporate purposes without stockholder approval. In addition, the Board of Directors could designate and sell a class of preferred stock with preferential rights over the common stock with respect to dividends or other distributions. Sales of common or preferred stock could dilute the interest of existing stockholders and reduce the market price of our common stock. Even in the absence of such sales, the perception among investors that additional sales of equity securities may take place could reduce the market price of our common stock.

     The market price of our common stock is likely to be volatile.

     Our stock price has fluctuated widely, ranging from $3.05 to $15.44 during the year ended January 2, 2004. Our stock price could continue to experience significant fluctuations in response to factors such as quarterly variations in operating results, operating results that vary from the expectations of securities analysts and investors, changes in financial estimates, changes in market valuations of competitors, announcements by us or our competitors of a material nature, additions or departures of key personnel, future sales of Common Stock and stock volume fluctuations. Also, general political and economic conditions such as recession or interest rate fluctuations may adversely affect the market price of our stock.

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STAAR SURGICAL COMPANY AND SUBSIDIARIES

ITEM 3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     In the normal course of business, our operations are exposed to risks associated with fluctuations in interest rates and foreign currency exchange rates. The Company manages its risks based on management’s judgment of the appropriate trade-off between risk, opportunity and costs. Management does not believe that these market risks are material to the results of operations or cash flows of the Company, and, accordingly, does not generally enter into interest rate or foreign exchange rate hedge instruments.

     Interest rate risk. Our $3.0 million of debt is based on the borrowings of our international subsidiaries. The majority of our international borrowings bear an interest rate that is linked to Euro market conditions and, thus, our interest rate expense will fluctuate with changes in those conditions. If interest rates were to increase or decrease by 1% for the year, our annual interest rate expense would increase or decrease by approximately $30,000.

     Foreign currency risk. Our international subsidiaries operate in and are net recipients of currencies other than the U.S. dollar and, as such, we benefit from a weaker dollar and are adversely affected by a stronger dollar relative to major currencies worldwide (primarily, the Euro and Australian dollar). Accordingly, changes in exchange rates, and particularly the strengthening of the US dollar, may negatively affect our consolidated sales and gross profit as expressed in U.S. dollars. Additionally, as of July 2, 2004, all of our debt is denominated in Swiss Francs and as such, we are subject to fluctuations of the Swiss Franc as compared to the U.S. dollar in converting the value of the debt in U.S. dollars. The U.S. dollar value of the debt is increased by a weaker dollar and decreased by a stronger dollar relative to the Swiss Franc.

ITEM 4 – CONTROLS AND PROCEDURES

     The Company’s Chief Executive Officer, David Bailey, and Chief Financial Officer, John Bily, with the participation of the Company’s management, carried out an evaluation of the effectiveness of the Company’s disclosure controls and procedures pursuant to Exchange Act Rule 13a-15(e). Based upon that evaluation, the Chief Executive Officer and the Chief Financial Officer believe that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures are effective in timely making known to them material information relating to the Company (including its consolidated subsidiaries) required to be included in this report.

     Disclosure controls and procedures, no matter how well designed and implemented, can provide only reasonable assurance of achieving an entity’s disclosure objectives. The likelihood of achieving such objectives is affected by limitations inherent in disclosure controls and procedures. These include the fact that human judgment in decision-making can be faulty and that breakdowns in internal control can occur because of human failures such as simple errors, mistakes or intentional circumvention of the established processes.

     There was no change in the Company’s internal control over financial reporting, known to the Chief Executive Officer or the Chief Financial Officer, that occurred during the period covered by this report that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

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STAAR SURGICAL COMPANY AND SUBSIDIARIES

PART II – OTHER INFORMATION

ITEM 1 LEGAL PROCEEDINGS

We are currently party to various claims and legal proceedings arising out of the normal course of our business. These claims and legal proceedings relate to contractual rights and obligations, employment matters, and claims of product liability. We do not believe that any of the claims known to us is likely to have a material adverse effect on our financial condition or results of operations.

ITEM 2 CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY SECURITIES

Not applicable

ITEM 3 DEFAULTS UPON SENIOR SECURITIES

Not applicable

ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

a.		The annual meeting of the stockholders of the Company (the “Annual Meeting”) was held on May 18, 2004.
b.		At the Annual Meeting, two Class III directors were elected to serve until the annual meeting of stockholders in 2007 and until their successors are duly elected and qualified. The vote was as follows:

      The directors whose terms continued after the Annual Meeting and the years their terms expire are as follows:

c.

At the Annual Meeting, the appointment of BDO Seidman, LLP as the Company’s independent auditors for the fiscal year ending December 31, 2004 was ratified by the stockholders. The vote was as follows:

ITEM 5 OTHER INFORMATION

Not applicable

ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K

     (a)  Exhibits

3.1		Certificate of Incorporation, as amended.(1)
3.2		By-laws, as amended.(2)
4.5		Stockholders’ Rights Plan, dated effective April 20, 1995.(2)
4.9		Amendment No. 1 to Stockholders’ Rights Plan, dated April 21, 2003.(3)
10.1		Stock Purchase Agreement, dated June 4, 2004.(4)
31.1		Certification Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.(5)

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31.2		Certification Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.(5)
32.1		Certification Pursuant to 18 U.S.C. Section 1350, Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.(5)

(b) Reports on Form 8-K

     On May 6, 2004, the Company filed a Current Report on Form 8-K, attaching a Warning Letter the Company received from the U.S. Food and Drug Administration on April 26, 2004.

     On June 9, 2004, the Company filed a Current Report on Form 8-K, announcing that on June 4, 2004, the Company entered into a purchase agreement with a group of private investors for the private placement of 2,000,000 shares of the Company’s common stock.

     On June 18, 2004, the Company filed a Current Report on Form 8-K, providing information related to the completion of the pre-approval inspection of the Company’s Nidau, Switzerland facility, conducted June 14-17, by the U.S. Food and Drug Administration.

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SIGNATURES

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

STAAR SURGICAL COMPANY

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