Surmodics Inc – ‘10KSB’ for 9/30/99

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Annual Report — Small Business   —   Form 10-KSB
Filing Table of Contents

Document/Exhibit                   Description                      Pages   Size 

 1: 10KSB       Annual Report -- Small Business                       21     88K 
 2: EX-13       Portions of Annual Report                             22    115K 
 3: EX-23       Consent of Independent Public Accountants              1      5K 
 4: EX-27       FDS for Form 10-Ksb                                    1      6K 

10KSB   —   Annual Report — Small Business
Document Table of Contents

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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

 FORM 10-KSB

Annual Report Pursuant to Section 13 or 15(d) of
 The Securities Exchange Act of 1934

For the fiscal year ended September 30, 1999
Commission file number 0-23837

 SURMODICS, INC.
(Name of Small Business Issuer in its Charter)

Minnesota                                   41-1356149                          
(State or Other Jurisdiction of             (IRS Employer Identification Number)
Incorporation or Organization)                                                  

 9924 West 74th Street
 Eden Prairie, Minnesota 55344
(Address of Principal Executive Offices; Zip Code)

 Issuer's telephone number Including Area Code: (612) 829-2700

Securities registered Under Section 12(b) of the Act: None

Securities registered Under Section 12(g) of the Act: Common Stock

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

Check if no disclosure of delinquent filers pursuant to Item 405 of Regulation  
S-B is contained in this form, and no disclosure will be contained, to the best 
of registrant's knowledge, in definitive proxy or information statements        
incorporated by reference in Part III of this Form 10-KSB or any amendment to   
this Form 10-KSB. [ X ]                                                         

The issuer's revenues for the fiscal year ended September 30, 1999 were         
$13,493,540.                                                                    

The aggregate market value of the Issuer's Common Stock held by non-affiliates  
(persons other than officers, directors or holders of more than 5% of the       
outstanding stock) as of December 15, 1999, was approximately $137.7 million    
(based on the closing sale price of the Issuer's Common Stock on such date).    

Shares of Common Stock outstanding on December 15, 1999: 7,736,674              

 DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Registrant's Annual Report to Shareholders for the fiscal year  
ended September 30, 1999 are incorporated into Part II of this Form 10-KSB.     
Portions of the Registrant's Proxy Statement for its 1999 Annual Meeting of     
Shareholders are incorporated by reference into Part III of this Form 10-KSB.   

Transitional Small Business Disclosure Format (check one):  Yes       No   X    

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PART I

ITEM 1.  DESCRIPTION OF BUSINESS                                                

General                                                                         

         SurModics, Inc. ("SurModics" or the "Company") is a leading provider of
surface modification solutions to the medical device industry. The Company's    
primary focus is the commercialization of its patented PhotoLink process through
third-party licensing arrangements. PhotoLink is a versatile, easily applied,   
light-activated coating technology that modifies medical device surfaces by     
creating covalent bonds between those surfaces and a variety of chemical agents.
Through the PhotoLink process, these chemical agents can impart many            
performance-enhancing characteristics, such as lubricity, hemocompatibility,    
infection resistance and drug delivery, onto the surface of a medical device    
without materially changing the dimensions or physical properties of the device.
The Company believes that medical device manufacturers who utilize the Company's
technology are able to significantly improve the performance of their products  
and, in many cases, differentiate their products in a highly competitive        
marketplace.                                                                    

        The Company focuses on providing high value-added surface modification
solutions to a variety of medical device markets and product categories.        
Examples of products in the market or under development that incorporate the    
PhotoLink technology include interventional cardiology catheters, vascular      
stents, interventional neurology catheters, guide wires and shunts, cardiac     
rhythm management devices, and urological and gynecological devices. The surface
properties created by the PhotoLink technology have greatly reduced treatment   
times in catheter-based vascular procedures and have shown the potential to     
enhance the long-term performance of implantable devices by improving infection 
resistance and promoting host cell attachment, growth and subsequent tissue     
integration. During fiscal 1999, the Company introduced its first coated        
product: 3D-Link Activated Slides. This product is a coated glass slide used by 
the genomics market to orient DNA strands for analysis. The Company believes    
further opportunities exist to commercialize its PhotoLink technology both in   
the genomics market and other market applications.                              

 The Company has commercialized its PhotoLink technology through
licensing arrangements with medical device manufacturers who apply the PhotoLink
coatings to their own products. The Company believes this approach allows it to 
focus its resources on further development of its technology and expansion of   
its licensing activities, while leveraging the established manufacturing, sales 
and marketing capabilities of its licensees. Revenues from these arrangements   
include initial license fees, development revenue, minimum royalties, and earned
royalties based on a percentage of licensees' product sales. In addition to     
licensing its PhotoLink technology, the Company also licenses certain diagnostic
technology to Abbott Laboratories for use with rapid point-of-care diagnostic   
tests, such as pregnancy and strep tests. The Company also manufactures and     
sells the chemical reagents used in the PhotoLink process, and offers a line of 
stabilization products used to extend the shelf life of immunoassay diagnostic  
tests.                                                                          

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       The Company was organized as a Minnesota corporation in June 1979 and
changed its name from BSI Corporation to SurModics, Inc. in June 1997.          

Markets and Need for Surface Modification                                       

  Recent trends in healthcare toward improved patient outcomes and
reduced total costs have resulted in intense competition for the development of 
medical devices that demonstrate superior product performance, reduced procedure
times, improved outcomes and overall cost effectiveness. Medical device         
manufacturers have attempted to address these competitive pressures by          
developing innovative medical devices manufactured from a wide variety of       
synthetic materials, including many new, expensive and exotic materials. In an  
effort to further differentiate their products through improved product         
performance, a growing number of medical device manufacturers are turning to the
emerging field of surface modification technology. Surface modification         
technology enables device manufacturers to provide medical devices with desired 
surface characteristics including improved lubricity, hemocompatability and     
infection resistance, as well as the ability to deliver drugs and promote cell  
growth and tissue integration.                                                  

       Although it is an emerging field, surface modification technology has
been used to improve medical devices in many different industry segments. The   
table below identifies several of these market segments and the surface         
properties the Company believes are desired by each segment.                    

Market Segment Served                Desired Surface Property and         
                          Examples of Applications

Interventional cardiology      Lubricity:  catheters, guide wires             
and vascular access            Hemocompatability:  vascular stents, catheters,
guide wires 
                               Therapeutic drug delivery and release: vascular
    stents,catheters
                            Infection resistance: catheters, implantable
ports       
Cardiac rhythm management      Lubricity:  pacemaker and  defibrillator leads,
             electrophysiology devices
                             Hemocompatability:  electrophysiology devices
Cardiothoracic surgery         Infection resistance:  heart valves            
                             Hemocompatability:  minimally invasive bypass
                            devices,  vascular grafts, ventricular
    assist devices
                         Cell growth and tissue integration: heart
              valves,  vascular grafts
Interventional neurology       Lubricity:  catheters, guide wires             
and neurosurgery               Infection resistance:  catheters, shunts       

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Urology and gynecology          Lubricity:  urinary catheters, incontinence     
                                  devices,  ureteral stents, fertility devices
                         Infection resistance:  urinary catheters,
                            incontinence devices, ureteral stents,
                        fertility devices, penile implants
Orthopedics                     Cell growth and tissue integration:  bone       
  regeneration

  In addition to the above-identified market segments, the Company
believes that one of the next areas of growth for surface modification          
technology will be the genomics market. SurModics recently launched its 3D-Link 
Activated Slides which provide lower background levels and more consistent      
results for reproducible microarrays used in DNA analysis to screen for new     
drugs, to sequence unknown portions of the human genome, or to search for signs 
of viruses. The Company believes the slides will benefit from surface           
modification technology to provide biomolecule immobilization and wettability   
properties.                                                                     

The PhotoLink Solution                                                          

   PhotoLink is a versatile, easily applied, light-activated coating
technology that modifies medical device surfaces by creating covalent bonds     
between those surfaces and a variety of chemical agents. The PhotoLink solution 
to surface modification involves the utilization of proprietary, light sensitive
(photochemical) reagents. These reagents can consist of advanced polymers or    
active biomolecules having desired surface characteristics and an attached      
light-reactive chemical compound (photogroup). When the reagent is exposed to a 
direct light source, typically ultraviolet, a photochemical reaction creates a  
covalent bond between the photogroup and the surface of the medical device,     
thereby imparting the desired property to the surface. A covalent bond is a very
strong chemical bond which results from the sharing of electrons between carbon 
molecules of the substrate and the applied coating.                             

      SurModics' proprietary PhotoLink reagents work on most polymer-based
(e.g., plastic) substrates, biological substrates (latex rubber, cellulose,     
tissue and natural fibers), and metal and glass substrates. Metal and glass     
substrates generally require pretreating with polymers to make a carbon-molecule
available for bonding prior to the application of the PhotoLink reagents. The   
reagents are easily applied to a clean material surface by dipping, spraying,   
roll coating, ink jetting or brushing. SurModics continues to develop           
proprietary photochemical reagents providing new product features while         
expanding the number and type of substrates on which the reagents can be        
applied.                                                                        

      The Company believes that its proprietary PhotoLink process provides
its licensees with a number of benefits.                                        

o        Flexibility. PhotoLink coatings can be applied to many different kinds 
      of surfaces and can immobilize a variety of chemical, pharmaceutical
       and biological agents, which allows licensees to be innovative in the
        design of their products without significantly changing the dimensions
or physical properties of the devise.                         

o        Variety of Surface Properties. The PhotoLink process can be tailored to
provide SurModics' licensees with the ability to improve the  
performance of their devices by choosing the specific coating 
properties desired for particular applications. The PhotoLink 
   technology also provides the medical device manufacturer with the
      ability to combine multiple surface-enhancing characteristics on the
same device.                                                  

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o        Ease of Use. The PhotoLink coating process is a relatively simple      
         process that does not require expensive special equipment or the use of
       hazardous materials and does not subject the coated products to harsh
  chemical, pressure or temperature conditions. Further, PhotoLink
       coatings are compatible with all the generally accepted sterilization
    processes, so the surface attributes are not lost when the medical
device is sterilized prior to usage.                          

Surface Properties                                            

SurModics' PhotoLink process has been used by manufacturers of
pacemaker leads, drug infusion catheters, laser and balloon angioplasty         
catheters, urinary drainage catheters, vascular closure devices, wound drains,  
guide wires, stent delivery catheters, angiography catheters, ureteral stents   
and hydrocephalic shunts, among other devices. The PhotoLink process can be used
to provide medical device manufacturers with the following surface properties to
improve product performance:                                                    

o        Lubricity. Low friction or lubricious coatings reduce the force and    
   time required for insertion, navigation and removal of devices in
    vascular, neurological and urogenital applications. Lubricity also
 reduces tissue irritation and damage caused by products such as
    catheters, guide wires and endoscopy devices. Based on Company and
     licensee testing, when compared to uncoated surfaces, the PhotoLink
        process has reduced the friction on surfaces by as much as 85% to 95%,
depending on the substrate being coated.                      

o        Hemocompatibility. Hemocompatible coatings help reduce adverse         
       reactions that may be created when a device is inserted into the body
       and comes in contact with blood. Heparin has been used for decades as
        an injectable drug to reduce blood clotting in patients. SurModics can
       immobilize heparin on the surface of blood-contacting medical devices
     thereby inhibiting blood clotting on the device surface, minimizing
     patient risk and enhancing the performance of the device. PhotoLink
     heparin coatings have been shown in Company and licensee testing to
reduce blood clotting by greater than 90% compared to uncoated
surfaces.                                                     

o        Infection Resistance. Antimicrobial coatings are advantageous for most 
   implantable medical devices where risk of infection is a concern.
     PhotoLink technology can apply passive coatings which significantly
reduce bacterial adhesion to the device or active coatings    
   incorporating antimicrobial agents which kill bacteria around the
  device. Testing by the Company has demonstrated that a PhotoLink
   coating can reduce the adherence of microorganisms to biomaterial
   surfaces by 97% to over 99% depending on the base material of the
        device. In addition, when compared to uncoated products, the PhotoLink
       process has been shown to increase the uptake of antimicrobial agents
  applied to the device just prior to implantation and prolong the
release of these agents.                                      

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o        Drug Delivery. PhotoLink technology can be used to create reservoirs to
         entrap drugs on the surface of medical devices. These drugs can then be
  released from the surface on a controlled basis by tailoring the
  polymers, by adjusting the extent of crosslinking, or by using a
  barrier coating to control diffusion. For example, SurModics has
 developed a PhotoLink coating that would allow a coronary stent
      manufacturer to incorporate a drug onto the surface of a stent which
        would be released over time to reduce the incidence of restenosis (the
re-narrowing of the artery).                                  

o        Wettability. PhotoLink hydrophilic coatings have been shown in tests by
  the Company and its licensees to accelerate liquid flow rates on
normally hydrophobic (water repelling) materials by 75%. Rapid
      point-of-care diagnostic tests, such as home monitoring or physician
  monitoring of glucose levels in diabetics, are currently done by
        pricking a patient's finger and carefully placing a drop of blood onto
         a polymer strip which is then inserted into a blood glucose reader. The
      Company believes that the time it takes for the blood to flow up the
         strip to provide the patient with a readout can be dramatically reduced
        and the consistency can be greatly improved with PhotoLink technology.

o        Cell Growth, Tissue Integration and Other Tissue Engineering. Studies  
 have shown that attachment of extracellular matrix proteins and
     peptides onto surfaces of implantable medical devices improves host
      cell attachment, growth and subsequent tissue integration. PhotoLink
        technology has been used to coat biomedical devices with photoreactive
        collagens and other proteins upon which cells normally grow within the
   body. Company studies have shown that biomedical devices (such as
      vascular grafts and ocular implants) coated with such proteins, have
    improved attachment, growth of cells and acceptance by surrounding
tissues. In addition, the Company is also using its PhotoLink 
   technology to produce three-dimensional scaffolds to promote bone
regeneration.                                                 

o        Biomolecule Immobilization. During a DNA gene analysis, typically      
  hundreds of different probes need to be placed in a pattern on a
     surface, called a DNA microarray. These microarrays are used by the
       pharmaceutical industry to screen for new drugs, by genome mappers to
 sequence unknown portions of the human genome, or by diagnostic
      companies to search a patient sample for disease causing bacteria or
         viruses. However, DNA does not readily adhere to most surfaces that are
    important for DNA assays. The Company has demonstrated a versatile
         method for the immobilization of DNA on various surfaces and introduced
a coated slide during fiscal 1999.                            

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Current Licensing Arrangements                                                  

 The Company has commercialized its PhotoLink technology through
licensing arrangements with medical device manufacturers who apply the PhotoLink
coatings to their own products in their own facility. The Company believes this 
approach allows it to focus its resources on further developing its technology  
and expanding its licensing activities, while leveraging the established        
manufacturing, sales and marketing capabilities of its licensees for the        
marketing of the specific medical device utilizing the PhotoLink technology. The
Company's licensing agreements are designed to allow manufacturers to           
incorporate the PhotoLink process into their own manufacturing processes so they
can control production and quality without the need to send product outside     
their facility.                                                                 

   The licensing process begins with the medical device manufacturer
specifying the surface characteristics it desires. Because each surface is      
unique, the Company routinely conducts a feasibility study at no charge to the  
customer to qualify each new potential product application. Once the feasibility
has been proven, the customer typically funds further development by SurModics  
to optimize the coating formulation to meet the customer's technical needs. A   
license agreement is then executed granting the licensee the rights to use the  
technology. SurModics' technical personnel are then available to provide        
services in the transfer of the PhotoLink technology into the licensee's        
manufacturing process. Such services can include further coating optimization,  
process control and trouble shooting which are billable to the licensee. The    
Company also manufactures and sells the chemical reagents used by all licensees 
in the PhotoLink process, thus creating another source of revenue.              

       The term of a license agreement is generally for a period of 15 years
or the life of SurModics' patents, whichever is longer, although an agreement   
may be terminated for any reason upon prior written notice, typically required  
at least 90 days before termination. The worldwide license can be either        
exclusive or nonexclusive for a particular medical device, but over 80% of the  
Company's licensed applications are nonexclusive. SurModics requires the payment
of a non-refundable license fee which has historically ranged from $25,000 to   
$750,000 and quarterly "earned" royalties of 2% to 6% on the sales of products  
incorporating SurModics' technology. The amount of license fees and the royalty 
rate are based on whether the arrangement is exclusive or nonexclusive, the     
perceived value of the PhotoLink application to the device and the size of the  
potential market. Certain nonrefundable license and research and development    
fees are recoverable by the licensees as offsets against a percentage of future 
earned royalties. Most of SurModics' agreements also incorporate a minimum      
royalty to be paid by the licensee while the medical devices are developed,     
tested and commercialized. In most cases, payment of these minimum royalties    
will not commence until several months after the execution of an agreement for a
particular application. On a quarterly basis a client will pay the greater of   
earned or minimum royalties to SurModics                                        

Other Products                                                                  

Stabilization Products                                        

  Although the primary focus of the Company is the development and
marketing of its PhotoLink technology, the Company also markets stabilization   

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products for use by manufacturers of immunoassay diagnostic tests. SurModics'   
StabilCoat and StabilZyme Stabilizers are designed to maintain the activity of  
biological components of the immunoassays, resulting in a longer shelf life.    
These products offer SurModics' customers the benefit of product differentiation
and improvement while providing the ultimate end users the benefit of a faster  
test with fewer steps and fewer errors. In fiscal 1999, SurModics generated $2.3
million of revenue from its stabilization products.                             

Diagnostic Formats                                            

  The Company also licenses a format for in vitro diagnostic tests
developed during the early years of the Company. This format has found broad    
application in the expanding area of rapid point-of-care diagnostic testing,    
such as pregnancy and strep tests, and generated $2.8 million of royalty revenue
for the Company in fiscal 1999 pursuant to a license agreement with Abbott      
Laboratories. Although this revenue is expected to grow in the future with the  
increased sales of licensed products, limited additional SurModics-funded       
research and development is being undertaken in this area.                      

Industrial Applications                                       

       While it is not the Company's primary focus, the Company occasionally
pursues industrial applications for its PhotoLink technology. The Company only  
pursues those applications that are perceived to be high value applications in a
market that is not considered to be price sensitive. To date, revenue associated
with industrial applications has been immaterial and is not expected to be      
significant in the foreseeable future.                                          

Research and Development                                                        

       SurModics' research and development department supports the sales and
marketing staff in performing feasibility studies, providing technical          
assistance to potential licensees, optimizing the coating methodologies for     
specific licensee applications, assisting in training licensees and integrating 
the Company's technology and know-how into licensee manufacturing processes. In 
addition, the research and development department works to enhance and expand   
the PhotoLink technology through the development of new reagents and new        
applications.                                                                   

       As medical devices become more sophisticated and complex, the Company
believes the need for optimized surface properties will grow. The Company       
intends to continue its development efforts to expand its PhotoLink technology  
to provide additional optimized surface properties to meet these needs. The     
Company's technical strategy is to target selected coating characteristics for  
further development, in order to facilitate and shorten the license cycle. The  
Company has begun to perform research into applications for future products both
on its own and in conjunction with some of its licensees. Some of the research  
and development projects currently being worked on include coatings for         
site-specific drug release, bone and cartilage repair, enhanced tissue growth,  
long-term blood compatibility and DNA immobilization methods. In addition to    
expanding the number of medical applications that may use PhotoLink technology, 
the Company is working on improving the coating process for metals, developing a
process for coating the interior diameter of medical devices, expanding the     
portfolio of PhotoLink reagents, and developing additional proprietary products 
in which PhotoLink reagents serve as the end product. An example of this is the 
3D-Link Activated Slide.                                                        

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        The technical staff of the Company consists of 61 employees, including
eleven with Ph.D. degrees, seven with Masters degrees and 40 with Bachelor      
degrees, with expertise in chemistry, biomedical engineering, biology,          
microbiology, cell biology and biochemistry. The technical staff is organized   
into five areas of specialization: hydrophilicity, microbiology,                
hemocompatibility, biochemistry and tissue engineering. In addition, a chemistry
group supports the synthesis of new reagents needed by the other five groups.   

 In fiscal 1998 and 1999, the Company's research and development
expenses were $4.5 million and $5.2 million, respectively. The Company's        
research and development efforts are often funded by commercial licensees and   
government agencies. Such research and development revenues were approximately  
$2.0 million in both years.                                                     

  Since its founding, the Company has actively participated in the
federal government's Small Business Innovative Research ("SBIR") program to fund
development efforts. Since 1979, 141 research contracts resulting in revenues of
over $25.0 million have been awarded to SurModics, primarily under the SBIR     
program. Grant proposals are generally directed toward the commercial strategies
of the Company. The Company retains commercial rights to discoveries and        
technologies resulting from the research and development efforts funded by these
grants. Where possible, licensees' products or substrates are used when         
performing research under the grant; thus the results are often directly        
applicable to SurModics' licensees. Grant funding has also allowed SurModics to 
maintain a larger and more technologically diverse employee base than would     
otherwise be possible.                                                          

Patents and Proprietary Rights                                                  

   The Company has taken steps intended to protect certain PhotoLink
related inventions through a series of patents covering a variety of coating    
methods, reagents and formulations, as well as particular medical device        
applications, based on or employing the Company's proprietary photoreactive     
chemistry. The patents related to the PhotoLink technology include 16 issued    
U.S. patents, twelve pending U.S. patent applications, 30 issued foreign        
patents, and 40 pending foreign patent applications. The Company generally files
international patent applications in parallel with its U.S. applications. The   
Company generally files national or regional applications in Australia, Canada, 
Europe, Japan, and Mexico. In addition to the patents related to the PhotoLink  
technology, SurModics has seven issued U.S. patents, one pending U.S. patent    
application, 19 issued foreign patents and four pending foreign patent          
applications related to its diagnostic technology. There can be no assurance    
that any of the pending patent applications will be allowed.                    

   The Company also relies heavily upon trade secrets and unpatented
proprietary technology. The Company seeks to maintain the confidentiality of    
such information by requiring employees, consultants and other parties to sign  
confidentiality agreements and by limiting access by parties outside the Company

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to such information. The Company also does not divulge the detailed chemical    
structure of its reagent chemical to anyone, including clients. There can be no 
assurance, however, that these measures will prevent the unauthorized disclosure
or use of this information or that others will not be able to independently     
develop such information. Additionally, there can be no assurance that any      
agreements regarding confidentiality and non-disclosure will not be breached,   
or, in the event of any breach, that adequate remedies would be available to the
Company.                                                                        

Marketing and Sales                                                             

         The Company markets its PhotoLink technology throughout the world using
a direct sales force consisting of three licensing managers who focus on        
specific markets such as cardiology, neurology, urology and orthopedic products.
This specialization fosters an in-depth knowledge of the issues faced by        
SurModics' licensees within these markets such as technology changes,           
biomaterial changes and the regulatory environment.                             

  Because the sales cycle can take several months from feasibility
demonstration to the execution of a license agreement, the Company focuses its  
sales efforts on potential licensees with established market positions rather   
than those with only development stage products which may never come to market. 
Generally, the PhotoLink technology is licensed on a nonexclusive basis to      
medical device manufacturers for use on specific products. This strategy enables
the Company to license the PhotoLink technology to multiple licensees in the    
same market. SurModics also targets selling new applications to existing        
licensees. The Company believes the sales cycle is much faster in these         
situations because the licensee is already familiar with the technology and the 
general terms of the license have already been negotiated.                      

    As part of its marketing strategy, the Company publishes technical
literature on each surface capability of the PhotoLink technology (i.e.,        
lubricity, hemocompatibility, etc.). In addition, the Company participates at   
major trade shows and technical meetings, advertises in trade journals and      
through its website, and conducts direct mailings to appropriate target markets.

        The Company also offers ongoing customer service and technical support
throughout a licensee's relationship with SurModics. This service and support   
begins with a coating feasibility study at no charge to the licensee and also   
includes additional services such as assistance in the transfer of the          
technology to the licensee, further coating optimization, process control and   
trouble shooting, and assistance with FDA submissions for coated product        
approval. Certain of these services are billable to the client.                 

Competition                                                                     

        Competition in the medical device industry has resulted in an increase
in competition in the surface modification market. The Company's PhotoLink      
technology competes with technologies developed by Carmeda (a division of Norsk 
Hydro, Inc.), Specialty Coatings Systems, Spire Corporation and STS Biopolymers 
Inc., among others. In addition, many medical device manufacturers have         
developed or are engaged in efforts to develop surface modification technologies
for use on their own products. Most competitors marketing surface modification  
to the outside marketplace are divisions of organizations with businesses in    
addition to surface modification. Overall, the Company believes the worldwide   
market is very fragmented with no competitor marketing to third parties having  

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more than a 10% market share. Some of the Company's existing and potential      
competitors (especially medical device manufacturers pursuing coating solutions 
through their own research and development efforts) have substantially greater  
financial, technical and marketing resources than the Company.                  

    SurModics attempts to differentiate itself from its competition by
providing what it believes is a high value-added solution to surface            
modification. The Company believes that the primary factors customers consider  
in choosing a particular surface modification technology are performance, ease  
of manufacturing, ability to produce multiple properties from a single process, 
compliance with manufacturing regulations, customer service and pricing. The    
Company believes that its PhotoLink process competes favorably with respect to  
these factors, enabling it to charge a premium price. The Company believes that 
the cost and time required to obtain the necessary regulatory approvals         
significantly reduces the likelihood of a manufacturer changing the coating     
process it uses once a device has been approved for sale.                       

        Because a significant portion of the Company's revenue is dependent on
the receipt of royalties based on sales of medical devices incorporating        
PhotoLink coatings, the Company is also affected by competition within the      
markets for such devices. The Company believes that the intense competition     
within the medical device markets creates opportunities for the Company's       
coating technology as medical device manufacturers seek to differentiate their  
products through new enhancements or to remain competitive with enhancements    
offered by other manufacturers. Because the Company seeks to license its        
technology on a non-exclusive basis, the Company may further benefit from       
competition within the medical device markets by offering its PhotoLink         
technology to multiple competing manufacturers of a device. However, competition
in the medical device markets could also have an adverse effect on the Company. 
While the Company seeks to license its products to established manufacturers, in
certain cases the Company's licensees may compete directly with larger, dominant
manufacturers with extensive product lines and greater sales, marketing and     
distribution capabilities. The Company also is unable to control other factors  
that may impact commercialization of PhotoLink-coated devices, such as the      
marketing and sales efforts of its licensees or competitive pricing pressures   
within the particular device market. There can be no assurance that products    
coated with the PhotoLink technology will be successfully commercialized by the 
Company's licensees or that such licensees will otherwise be able to effectively
compete.                                                                        

      The primary competition for SurModics' stabilization products is its
customers' internally developed formulations. The consolidation of the          
diagnostic industry increases the availability of internally developed          
stabilizers to the market. There are several direct competitors that have       
recently emerged, of which Pierce Medical Products, Inc. and Medix, Inc. are the
two largest. The Company believes that quick market penetration is the best     
strategy for addressing these threats. As in the coating market, the Company    
also believes that once its stabilization products are accepted in an           
FDA-approved diagnostic test, the likelihood of change is reduced because of the
cost and time required to qualify a new component. SurModics' marketing strategy
for its stabilization products is to develop a strong market presence by        
offering superior product performance and technical service.                    

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Manufacturing                                                                   

         In accordance with its licensing strategy, the Company does not perform
the actual coating of its licensees' medical devices, nor does it manufacture   
any of these devices. The Company has, however, adopted a strategy of developing
and manufacturing the reagents itself, allowing it to maintain the quality of   
the reagents and their proprietary nature, while providing an additional source 
of revenue. PhotoLink reagents are specialty photoreactive chemicals that are   
prepared using a proprietary formula in small batch processes (as contrasted    
with commodity chemicals prepared by large continuous methods). Generally, all  
PhotoLink reagents share a similar production process: a water soluble polymer  
is synthesized in a glass reactor; reactive photochemical groups are attached to
the polymer; the solution is purified and freeze-dried, thus removing the water 
and creating a solid; and the PhotoLink reagents are packaged in standard       
quantities in light- and moisture-proof packaging. The reagents are sold dry,   
requiring the licensee, in most cases, to simply add water or a water and       
isopropyl alcohol mix before application. The Company has developed proprietary 
testing and quality assurance standards for manufacturing the reagents and does 
not disclose the reagent formulas or manufacturing methods. Although licensees  
may purchase the requisite chemical reagents from any source, all have elected  
to purchase them from the Company.                                              

 The Company also manufactures its stabilization products. These
products are a group of sterile-filtered liquids that generally share a         
three-step production process. A standard recipe of chemicals is mixed in high  
purity water, these liquids are sterile-filtered into specific container sizes  
under aseptic conditions, and the resultant finished goods are bottled and      
labeled.                                                                        

  The Company maintains multiple sources of supply for the key raw
materials used to manufacture reagents and stabilization products. The Company  
does, however, purchase some raw materials from single sources, but it believes 
that additional sources of supply are readily available.                        

     Although not required to follow Good Manufacturing Practice quality
procedures, SurModics does follow such procedures in part to respond to requests
of licensees to establish compliance with their criteria. The Company has not   
yet sought ISO 9001 certification but may do so in the future.                  

Government Regulation                                                           

       Although PhotoLink technology itself is not directly regulated by the
FDA, the medical devices incorporating this technology are subject to FDA       
regulation. The burden of demonstrating safety and efficacy of such medical     
devices, the ultimate criteria applied by the FDA, rests with the Company's     
licensees (the medical device manufacturers). Medical products incorporating the
PhotoLink technology may generally be marketed only after 510(k) or PMA         
applications have been submitted and approved by the FDA, which process can take
anywhere from six months for a 510(k) application, to two or three years for a  
PMA application. These applications are prepared by the manufacturer and contain
results of extensive laboratory toxicity, mutagenicity and clinical evaluations 
on animals and humans conducted by the manufacturer.                            

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   The Company maintains confidential Device Master Files at the FDA
regarding the nature, chemical structure and biocompatibility of the PhotoLink  
reagents. Although the Company's licensees do not have access to these files,   
the licensees may, with the permission of the Company, reference these files in 
any medical device submission to the FDA. This process allows the FDA to        
understand in confidence the details of the PhotoLink technology without the    
Company having to share this highly confidential information with its licensees.

         Recent U.S. legislation allows device manufacturers, prior to obtaining
FDA approval to market a medical device in the U.S., to manufacture the device  
in the U.S. and export it for sale in international markets, which generally    
allows SurModics to realize earned royalties sooner. However, sales of medical  
devices outside the U.S. are subject to international requirements that vary    
from country to country. The time required to obtain approval for sale          
internationally may be longer or shorter than that required by the FDA.         

Employees                                                                       

     As of December 1, 1999, SurModics had 102 full-time and 4 part-time
employees of whom 74 were engaged in development or manufacturing positions,    
with the remainder in marketing, quality or administrative positions. Of        
SurModics' employees, 11 hold Ph.D. degrees and 15 hold Masters degrees. The    
Company is not a party to any collective bargaining agreements and believes that
its employee relations are good.                                                

        Management believes that the future success of the Company will depend
in part on its ability to attract and retain qualified technical, management and
marketing personnel. Such experienced personnel are in high demand, and the     
Company must compete for their services with other firms which may be able to   
offer more favorable benefits.                                                  

ITEM 2.  DESCRIPTION OF PROPERTY                                                

     In May 1999, SurModics purchased the land and building it currently
occupies in Eden Prairie, Minnesota for approximately $3.2 million. The purchase
of the building was internally funded and remains unencumbered. The building has
approximately 64,000 square feet of space. The Company occupies approximately   
48,000 square feet and rents the remaining 16,000 square feet to two tenants. In
August 1999, the Company began approximately $1.0 million of construction to    
convert 12,000 square feet of space previously leased by two tenants to         
additional laboratory space and office space. When construction is completed in 
December 1999, there will be approximately 17,000 square feet of office space,  
23,000 square feet of laboratory space and 8,000 square feet of manufacturing   
space. Approximately 6,000 square feet of the manufacturing space is a          
HEPA-filtered, highly controlled environment, but not certified as a "clean     
room" under FDA standards. The Company believes that projected capacity of the  
manufacturing area is adequate to service the needs of its licensees for the    
foreseeable future.                                                             

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ITEM 3.  LEGAL PROCEEDINGS                                                      

         The Company is not a party to nor is any of its property subject to any
material pending legal proceedings.                                             

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

      There were no matters submitted to a vote of security holders during
the fourth quarter of fiscal 1999.                                              

 PART II

ITEM 5.  MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS               

      (a)        Use of Proceeds for the period ending September 30, 1999.

(1)        Effective Date:                 March 3, 1998      
 SEC File Number:                333-43217
(2)        Offering Date:                  March 3, 1998      
   (4)(i)     The offering has terminated; all securities registered
were sold.                              
         (4)(ii)    Managing Underwriter:           John G. Kinnard and Company,
                                                  Incorporated
(4)(iii)   Title of Securities:            Common Stock       
(4)(iv)    Amount Registered:              2,300,000          
   Aggregate Offering Price:       $17,250,000
 Amount Sold:                    2,300,000
   Aggregate Offering Price Sold:  $17,250,000
(4)(v)     Underwriting Discounts and                         
   Commissions                     $ 1,293,750
   Other Expenses                  $   435,148
   Total  Expenses                 $ 1,728,898
        All the above items represented direct or indirect payments to others.
(4)(vi)    Net Offering Proceeds           $15,521,102        
(4)(vii)   Use of Net Offering Proceeds:                      
   Research and development        $ 1,066,000
   Sales and marketing             $   825,000
   Building and equipment upgrades $ 5,046,000
   Patent protection               $   111,000
Working capital and general             
   corporate purposes              $   666,000
   Administration                  $    62,000
   Money market funds              $ 7,745,102
                   All the above items represented direct or indirect payments
to others.                              

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         (b) The information required by Item 5 relating to the Company's Common
Stock and other shareholder matters is incorporated herein by reference to the  
section entitled "Stock Listing and Price History" which appears in the         
Company's 1999 Annual Report to Shareholders.                                   

ITEM 6.  MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS             

         The Section entitled "Management's Discussion and Analysis of Financial
Condition and Results of Operations" in the 1999 Annual Report to Shareholders  
is incorporated herein by reference.                                            

ITEM 7.  FINANCIAL STATEMENTS                                                   

         The balance sheets as of September 30, 1999 and 1998 and the statements
of operations, stockholders' equity and cash flows for each of the three years  
in the period ended September 30, 1999 together with the Report of Independent  
Public Accountants contained on pages 14 through 24 of the Company's Annual     
Report to Shareholders for the year ended September 30, 1999 are incorporated   
herein by reference.                                                            

ITEM 8.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND        
FINANCIAL DISCLOSURE                                          

None.                                                         

PART III

ITEM 9.  DIRECTORS,  EXECUTIVE OFFICERS,  PROMOTERS AND CONTROL PERSONS;        
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT             

       The names, ages and positions of the Company's executive officers are
as follows:                                                                     

Name                          Age                Position                       
----                          ---                --------                       
Dale R. Olseth ............    69   Chairman and Chief Executive Officer        
James C. Powell ...........    50   President and Chief Operating Officer       
Stephen C. Hathaway .......    44   Vice President and Chief Financial Officer  
Patrick E. Guire, Ph.D. ...    63   Senior Vice President of Research and       
                        Chief Scientific Officer
Walter H. Diers, Jr........    48   Vice President of Corporate Development     
Marie J. Versen ...........    38   Vice President of Quality Management and    
                     Regulatory Compliance

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   Dale R. Olseth joined the Company in 1986 as its President, Chief
Executive Officer and a director of the Company and has served as Chairman since
1988. Mr. Olseth also serves on the Board of Directors of The Toro Company and  
Graco Inc. He served as Chairman or President and Chief Executive Officer of    
Medtronic, Inc. from 1976 to 1986. From 1971 to 1976, Mr. Olseth served as      
President and Chief Executive Officer of Tonka Corporation. Mr. Olseth received 
a B.B.A. degree from the University of Minnesota in 1952 and an M.B.A. degree   
from Dartmouth College in 1956.                                                 

         James C. Powell joined the Company in 1987. He became Vice President of
Technical Operations in 1992 and was elected President and Chief Operating      
Officer in 1998. He was employed at Precision-Cosmet Company, Inc., a           
manufacturer of contact and intraocular lenses, from 1978 until he joined       
SurModics. Mr. Powell received a B.S. degree in wood sciences from Texas A&M    
University in 1972 and an M.S. degree in polymer science in 1975 from the       
University of Washington.                                                       

        Stephen C. Hathaway joined the Company as its Vice President and Chief
Financial Officer in September 1996. Prior to joining SurModics, he served as   
Director of Finance for Ceridian Employer Services, Ceridian Corporation from   
1995 to 1996. Prior to that, Mr. Hathaway was Vice President - Finance &        
Operations for Wilson Learning Corporation from 1988 to 1995. He also spent ten 
years with Arthur Andersen LLP. Mr. Hathaway received a B.S. degree in          
accounting in 1977 from Miami University and became a Certified Public          
Accountant in 1980.                                                             

       Patrick E. Guire, Ph.D. is a co-founder of the Company and has served
as Senior Vice President of Research and Chief Scientific Officer and a director
since 1980. Dr. Guire is responsible for the research affairs of the Company.   
Prior to founding SurModics, Dr. Guire was employed by Kallestad Laboratories,  
Inc. as a senior scientist from 1978 to 1979 and was a researcher at the Midwest
Research Institute, Inc. in Kansas City, Missouri from 1972 to 1978. He received
a B.S. degree in Chemistry from the University of Arkansas, Fayetteville in 1958
and a Ph.D. in biochemistry from the University of Illinois in 1963.            

         Walter H. Diers, Jr. joined the Company in 1988 and currently serves as
Vice President of Corporate Development. He served as a consultant to several   
small, high technology companies from 1984 until he joined SurModics. Prior to  
that, he was the Controller of the Laserdyne division of Data Card Corporation. 
Mr. Diers received a B.S. degree in economics and a B.S. degree in business in  
1977 and an M.B.A. degree in finance in 1979 from the University of Minnesota.  

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         Marie J. Versen joined the Company in 1987, and in 1996 became its Vice
President of Quality Management and Regulatory Compliance. She was previously   
employed at Precision-Cosmet Company, Inc. from 1983 to 1986. Ms. Versen        
received a B.S. degree in chemical engineering from the University of Minnesota 
in 1983.                                                                        

The executive officers of the Company are elected by and serve at the discretion
of the Board of Directors.                                                      

         The information required by Item 9 relating to directors and compliance
with Section 16(a) is incorporated herein by reference to the sections entitled 
"Election of Directors" and "Section 16(a) Beneficial Ownership Reporting       
Compliance" which appear in the Company's definitive proxy statement for its    
1999 Annual Meeting of Shareholders.                                            

ITEM 10. EXECUTIVE COMPENSATION                                                 

         The information required by Item 10 is incorporated herein by reference
to the section entitled "Executive Compensation" which appears in the Company's 
definitive Proxy Statement for its 1999 Annual Meeting of Shareholders.         

ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT         

         The information required by Item 11 is incorporated herein by reference
to the section entitled "Shareholdings of Principal Shareholders and Management"
which appears in the Company's definitive Proxy Statement for its 1999 Annual   
Meeting of Shareholders.                                                        

ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS                         

         The information required by Item 12 is incorporated herein by reference
to the section entitled "Certain Transactions" in the Company's definitive Proxy
Statement for its 1999 Annual Meeting of Shareholders.                          

ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K                                       

      (a) Exhibits.  See "Exhibit Index" on the page following signatures.

(b) Reports on Form 8-K. No reports on Form 8-K were filed    
during the fourth quarter ended September 30, 1999.                             

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SIGNATURES

                Pursuant to the requirements of Section 13 of the Securities
Exchange Act of 1934, the Registrant has caused this Report to be signed on its 
behalf by the undersigned, thereunto duly authorized.                           

             SURMODICS, INC.
            ("Registrant")

Dated:  December 22, 1999              By: /s/ Dale R. Olseth                   
                    Dale R. Olseth
                                          Chairman and Chief Executive Officer

                  Pursuant to the requirements of the Securities Exchange Act of
1934, this Report has been signed by the following persons on behalf of the     
Registrant, in the capacities, and on the dates, indicated.                     

 (Power of Attorney)

         Each person whose signature appears below constitutes and appoints DALE
R. OLSETH and STEPHEN C. HATHAWAY as his true and lawful attorneys-in-fact and  
agents, each acting alone, with full power of substitution and resubstitution,  
for him and in his name, place and stead, in any and all capacities, to sign any
or all amendments to this Annual Report on Form 10-KSB and to file the same,    
with all exhibits thereto, and other documents in connection therewith, with the
Securities and Exchange Commission, granting unto said attorneys-in-fact and    
agents, each acting alone, full power and authority to do and perform each and  
every act and thing requisite and necessary to be done in and about the         
premises, as fully to all intents and purposes as he might or could do in       
person, hereby ratifying and confirming all said attorneys-in-fact and agents,  
each acting alone, or his substitute or substitutes, may lawfully do or cause to
be done by virtue thereof.                                                      

Signature                   Title                                  Date   

/s/ Dale R. Olseth        Chairman, Chief Executive Officer   December 22, 1999 
Dale R. Olseth            and Director (Chief Executive                         
Officer)                    
/s/ Stephen C. Hathaway   Vice President and Chief Financial  December 22, 1999 
Stephen C. Hathaway       Officer (Chief Financial and                          
Accounting Officer)         

------------------------- Director                            December __, 1999 
Donald S. Fredrickson, M.D.                                                     

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------------------------  Director                            December __, 1999 
James J. Grierson                                                               

/s/ Patrick E. Guire      Director                            December 22, 1999 
Patrick E. Guire                                                                

/s/ Kenneth H. Keller     Director                            December 22, 1999 
Kenneth H. Keller                                                               

/s/ David A. Koch         Director                            December 22, 1999 
David A. Koch                                                                   

/s/ Kendrick B. Melrose   Director                            December 22, 1999 
Kendrick B. Melrose                                                             

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SECURITIES AND EXCHANGE COMMISSION    
WASHINGTON, D.C. 20549

EXHIBIT INDEX TO FORM 10-KSB

For the Fiscal Year Ended September 30, 1999

 SURMODICS, INC.

Exhibit                                                                         

3.1      Restated Articles of Incorporation, as amended--incorporated by        
    reference to Exhibit 3.1 to the Company's Quarterly Report on Form
    10-QSB for the quarter ended March 31, 1998, SEC. File No. 0-23837

3.2      Bylaws, as amended to date--incorporated by reference to Exhibit 3.1 to
     the Company's Quarterly Report on Form 10-QSB for the quarter ended
December 31, 1998, SEC. File No. 0-23837.                     

10.1*    Company's Incentive 1987 Stock Option Plan, including specimen of      
        Incentive Stock Option Agreement--incorporated by reference to Exhibit
     10.2 to the Company's Registration Statement on form SB-2, Reg. No.
333-43217                                                     

10.2*    Company's Incentive 1997 Stock Option Plan, including specimen of      
        Incentive Stock Option Agreement--incorporated by reference to Exhibit
     10.3 to the Company's Registration Statement on form SB-2, Reg. No.
333-43217                                                     

10.3*    Form of Restricted Stock Agreement--incorporated by reference to       
         Exhibit 10.4 to the Company's Registration Statement on form SB-2, Reg.
No. 333-43217                                                 

10.4*    Form of Non-qualified Stock Option Agreement--incorporated by reference
       to Exhibit 10.5 to the Company's Registration Statement on form SB-2,
Reg. No. 333-43217                                            

10.5     Form of License Agreement--incorporated by reference to Exhibit 10.6 to
       the Company's Registration Statement on form SB-2, Reg. No. 333-43217

10.6     License Agreement with Abbott Laboratories dated November 20, 1990, as 
     amended--incorporated by reference to Exhibit 10.7 to the Company's
Registration Statement on form SB-2, Reg. No. 333-43217       

10.7     Purchase and Sale Agreement dated March 31, 1999 between the Company   
       and Prairie View Jack Ltd.--incorporated by reference to Exhibit 10.1
        to the Company's Quarterly Report on Form 10-QSB for the quarter ended
March 31, 1999, SEC. File No. 0-23837.                        

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10.8*    SurModics, Inc. Executive Income Continuation Plan--incorporated by    
   reference to Exhibit 10 to the Company's Quarterly Report on Form
    10-QSB for the quarter ended June 30, 1999, SEC. File No. 0-23837.

13       Portions of Annual Report to Shareholders for the fiscal year ended    
  September 30, 1999 incorporated by reference in this Form 10-KSB

23       Consent of Arthur Andersen LLP                                         

24       Power of Attorney (included on signature page of this Form 10-KSB).    

27       Financial Data Schedule                                                
----------------                                                                
*Management contract or compensatory plan or arrangement                        

ii

Dates Referenced Herein   and   Documents Incorporated by Reference

				Referenced-On Page
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Filed on:		12/23/99
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		12/1/99		13
For Period End:		9/30/99		1		21
		6/30/99		21					10QSB
		3/31/99		20					10QSB
		12/31/98		20					10QSB
		9/30/98		15					10KSB40
		3/31/98		20					10QSB
		3/3/98		14
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