The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the accompanying condensed consolidated financial statements and notes thereto contained in Item 1 of Part I of this Form 10-Q and our audited financial statements and notes thereto as of and for the year ended December 31, 2008 included in our Form 10-K filed with the Securities and Exchange Commission ("SEC") to provide an understanding of our results of operations, financial condition and cash flows.

Forward-Looking Statements

This Form 10-Q, including the sections titled "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Risk Factors," contains forward-looking statements regarding our future performance. All forward-looking information is inherently uncertain and actual results may differ materially from assumptions, estimates or expectations reflected or contained in the forward-looking statements as a result of various factors, including those set forth under "Risk Factors" and elsewhere in this quarterly report on Form 10-Q, and in our annual report on Form 10-K for the year ended December 31, 2008. Forward-looking statements convey our current expectations or forecasts of future events. All statements contained in this Form 10-Q other than statements of historical fact are forward-looking statements. Forward-looking statements include statements regarding our future financial position, business strategy, budgets, projected costs, plans and objectives of management for future operations. The words "may," "continue," "estimate," "intend," "plan," "will," "believe," "project," "expect," "anticipate" and similar expressions may identify forward-looking statements, but the absence of these words does not necessarily mean that a statement is not forward-looking. With respect to the forward-looking statements, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. These forward-looking statements speak only as of the date of this Form 10-Q. Unless required by law, we undertake no obligation to publicly update or revise any forward-looking statements to reflect new information or future events or otherwise.

Overview

We are a medical device company and a leader in developing, manufacturing and selling innovative cardiac surgical ablation systems designed to create precise lesions, or scars, in cardiac, or heart, tissue. Our primary product line, which accounts for a majority of our revenues, is our AtriCure Isolator® bipolar ablation system, or Isolator system. Our Isolator system consists primarily of a compact power generator known as an ablation and sensing unit, or ASU, a switchbox unit, or ASB, which allows physicians to toggle between multiple products and multiple configurations of our Isolator Synergy™ clamps. We sell two configurations of our clamps, one designed for ablation during open-heart, or open, procedures and one designed for ablation during sole-therapy minimally invasive procedures. We also sell a multifunctional pen which is often used by physicians in combination with our Isolator system to ablate cardiac tissue and for temporary pacing, sensing, stimulating and recording during the evaluation of cardiac arrhythmias. During 2008, we introduced our Coolrail linear ablation device which has been adopted by physicians to create an extended lesion set during minimally invasive procedures. Additionally, we sell various configurations of enabling devices, such as our Lumitip dissection tool. In August 2007, we acquired a cardiac cryoablation product line, which uses extreme cold to ablate tissue. Prior to our acquisition of this product line, we sold the product line as a distributor. In March 2009, we introduced a disposable cryoablation device, Cryo1™, which is being adopted by physicians for cardiac ablation during open procedures.

In the United States, we primarily sell our products through our direct sales force. AtriCure Europe, B.V., our wholly-owned European subsidiary, which is incorporated and based in the Netherlands, sells our products throughout Europe, primarily through distributors, with the exception of Germany, Switzerland and Austria, where we sell our products through our direct sales force. Additionally, we sell our products to other international distributors, primarily in Asia, South America and Canada. Our business is primarily transacted in U.S. dollars, with the exception of transactions with our European subsidiary, which are primarily transacted in Euros. Our sales outside of the United States represented 18.5% and 15.3% of our revenues for three month periods ended June 30, 2009 and 2008, respectively, and 17.6% and 13.8% of our revenues for the six month periods ended June 30, 2009 and 2008, respectively.

Our costs and expenses consist of cost of revenues, research and development expenses, selling, general and administrative expenses and a non-recurring expense related to the impairment of our goodwill during the six month period ended June 30, 2009. Cost of revenues consist principally of the cost of purchasing materials and manufacturing our products. Research and development expenses consist principally of expenses incurred with respect to internal and external research and development activities and the conduct of clinical activities and trials. Selling, general and administrative expenses consist principally of costs associated with our sales, marketing and administrative functions.

Results of Operations

Three months ended June 30, 2009 compared to June 30, 2008

The following table sets forth, for the periods indicated, our results of
operations expressed as dollar amounts and as percentages of total revenues:



                                                           Three Months Ended June 30,
                                                        2009                         2008
                                                               % of                         % of
                                                Amount       Revenues        Amount       Revenues
                                                             (dollars in thousands)
Revenues                                       $ 13,778         100.0 %     $ 14,859         100.0 %
Cost of revenues                                  3,108          22.6 %        3,495          23.5 %

Gross profit                                     10,670          77.4 %       11,364          76.5 %
Operating expenses:
Research and development expenses                 3,138          22.8 %        2,594          17.5 %
Selling, general and administrative expenses      8,565          62.1 %       10,595          71.3 %

Total operating expenses                         11,703          84.9 %       13,189          88.8 %

Loss from operations                             (1,033 )        (7.5 )%      (1,825 )       (12.3 )%
Other income (expense):
Interest expense                                   (278 )        (2.0 )%         (43 )        (0.3 )%
Interest income                                      15           0.1 %           73           0.5 %
Other                                              (158 )        (1.2 )%         203           1.4 %

Other (expense) income                             (421 )        (3.1 )%         233           1.6 %
Loss before income tax benefit                   (1,454 )       (10.6 )%      (1,593 )       (10.7 )%
Income tax benefit                                   11           0.1 %           -             -

Net loss                                       $ (1,443 )       (10.5 )%    $ (1,593 )       (10.7 )%

Revenues. Total revenues decreased 7.3%, from $14.9 million for the three months ended June 30, 2008 to $13.8 million for the three months ended June 30, 2009. The decrease in revenues was due primarily to a reduction in revenues from capital equipment sales. This reduction was partially due to fewer ORLab units being sold, which was driven by the current hospital spending environment on capital equipment and adoption by a majority of minimally invasive customers during 2008. In addition, we experienced a reduction in unit sales of our CCS-200 cryo generator due to our conversion during the second quarter to placing them on loan with our direct customers in combination with our launch of our disposable cryo probe, Cryo1 contributed to the reduction in revenues.

Cost of revenues. Cost of revenues decreased $0.4 million, from $3.5 million for the three months ended June 30, 2008 to $3.1 million for the three months ended June 30, 2009. As a percentage of revenues, cost of revenues decreased from 23.5% for the three months ended June 30, 2008 to 22.6% for the three months ended June 30, 2009. The decrease in gross profit and the decrease in cost of revenues was primarily due to a reduction in capital equipment sales, which carry a higher cost of revenue than our disposable products, and a reduction in product cost for our disposable products, partially offset by an increased mix in the percentage of units sold internationally.

Research and development expenses. Research and development expenses increased $0.5 million, from $2.6 million for the three months ended June 30, 2008 to $3.1 million for the three months ended June 30, 2009. As a percentage of revenues, research and development expenses increased from 17.5% for the three months ended June 30, 2008 to 22.8% for the three months ended June 30, 2009. The increase was primarily attributable to an increase in expenditures for our ABLATE and EXCLUDE clinical trials of $0.4 million, an increase in share-based compensation of $0.2 million and an increase in product development project costs of $0.2 million.

Selling, general and administrative expenses. Selling, general and administrative expenses decreased $2.0 million or 19.2%, from $10.6 million for the three months ended June 30, 2008 to $8.6 million for the three months ended June 30, 2009. The decrease was primarily due to lower headcount-related expenses of approximately $1.4 million, primarily the result of our reduction in force which occurred in the fourth quarter of 2008, and a $0.5 million decrease in sales and marketing expenses, due primarily to reduced spending in support of tradeshows and educational grants. These reductions were partially offset by an increase in legal expense of $0.3 million, due primarily to our investigation by the DOJ, and an increase in share-based compensation. As a percentage of total revenues, selling, general and administrative expenses decreased from 71.3% for the three months ended June 30, 2008 to 62.2% for the three months ended June 30, 2009.

Net interest expense. Net interest expense increased $0.3 million to $0.3 million for the three months ended June 30, 2009, due primarily to the write-off of deferred financing costs of $0.1 million in connection with the termination of our credit facility with National City Bank, interest associated with borrowings under the term loan component of our new credit facility with Silicon Valley Bank of $0.1 million and the amortization of the discount on long-term debt related to the warrant issued in conjunction with the new credit facility of $44,657.

Other (expense) income. Other (expense) income consists of foreign currency transaction (loss) gain, grant income and non-employee option (expense) income related to the fair market value change for fully vested options outstanding for consultants, which are accounted for as free standing derivatives. For the three months ended June 30, 2009, other expense of $0.2 million included $0.1 million related to foreign currency transaction losses associated with partial settlement of intercompany balances and $0.1 million of certain non-employee option expense due to an increase in the value of the options. Other income of $0.2 million for the three months ended June 30, 2008 included income of $0.1 million associated with a reduction in value of certain non-employee stock options and $0.1 million in grant income related to our grant agreement with the Cleveland Clinic Foundation.

Six months ended June 30, 2009 compared to June 30, 2008

The following table sets forth, for the periods indicated, the results of operations expressed as dollar amounts and as percentages of total revenues:

                                                            Six Months Ended June 30,
                                                        2009                         2008
                                                               % of                         % of
                                                Amount       Revenues        Amount       Revenues
                                                             (dollars in thousands)
Revenues                                       $ 27,452         100.0 %     $ 28,389         100.0 %
Cost of revenues                                  6,053          22.0 %        6,726          23.7 %

Gross profit                                     21,399          78.0 %       21,663          76.3 %
Operating expenses:
Research and development expenses                 6,055          22.1 %        5,027          17.7 %
Selling, general and administrative expenses     17,497          63.7 %       22,358          78.8 %
Goodwill impairment                               6,812          24.8 %           -             -

Total operating expenses                         30,364         110.6 %       27,385          96.5 %

Loss from operations                             (8,965 )       (32.7 )%      (5,722 )       (20.2 )%
Other income (expense):
Interest expense                                   (339 )        (1.2 )%         (82 )        (0.3 )%
Interest income                                      36           0.1 %          234           0.8 %
Other                                              (182 )        (0.7 )%         372           1.3 %

Other (expense) income                             (485 )        (1.8 )%         524           1.8 %
Loss before income tax benefit                   (9,450 )       (34.4 )%      (5,198 )       (18.3 )%
Income tax benefit                                   42           0.1 %           -             -

Net loss                                       $ (9,408 )       (34.3 )%    $ (5,198 )       (18.3 )%

Revenues. Total revenues decreased 3.3%, from $28.4 million for the six months ended June 30, 2008 to $27.5 million for the six months ended June 30, 2009. The decrease in revenues was due primarily to a decrease in revenues from the sale of capital equipment. This reduction was partially due to fewer ORLab units being sold, which was driven by the current hospital spending environment on capital equipment and adoption by a majority of minimally invasive customers during 2008. In addition, we experienced a reduction in unit sales of our CCS-200 cryo generator due to our conversion during the second quarter to placing them on loan with our direct customers in combination with our launch of our disposable cryo probe, Cryo1 contributed to the reduction in revenues.

Cost of revenues. Cost of revenues decreased $0.7 million, from $6.7 million for the six months ended June 30, 2008 to $6.0 million for the six months ended June 30, 2009. As a percentage of revenues, cost of revenues decreased from 23.7% for the six months ended June 30, 2008 to 22.0% for the six months ended June 30, 2009. The decrease in gross profit and cost of revenues was primarily due to a reduction in sales of capital equipment, which carry a higher cost of revenues than our disposable products and a reduction in product cost for our disposable products, partially offset by an increased mix in the percentage of units sold internationally.

Research and development expenses. Research and development expenses increased $1.0 million, from $5.0 million for the six months ended June 30, 2008 to $6.0 million for the six months ended June 30, 2009. As a percentage of revenues, research and development expenses increased from 17.7% for the six months ended June 30, 2008 to 22.1% for the six months ended June 30, 2009. The increase was primarily attributable to an increase in expenditures for our ABLATE and EXCLUDE clinical trials of $0.6 million, an increase in share-based compensation of $0.4 million and an increase in product development project costs of $0.4 million.

Selling, general and administrative expenses. Selling, general and administrative expenses decreased $4.9 million, from $22.4 million for the six months ended June 30, 2008 to $17.5 million for the six months ended June 30, 2009. The decrease was primarily due to lower headcount-related expenses and travel of $3.9 million, primarily the result of our reduction in force which occurred in the fourth quarter of 2008 and a $0.5 million decrease in marketing expenses due primarily to reduced spending in support of tradeshows.

Those reductions were partially offset by an increase in share-based compensation of $0.3 million and legal expenses of $0.2 million related primarily to our DOJ investigation. As a percentage of total revenues, selling, general and administrative expenses decreased from 78.8% for the six months ended June 30, 2008 to 63.7% for the six months ended June 30, 2009.

Goodwill impairment. As a result of a reduction in our market capitalization during the first quarter of 2009, we believed an indication of impairment existed and we performed an interim Step 1 analysis of our goodwill as of March 31, 2009. The Step 1 analysis concluded that the carrying value of our goodwill exceeded the estimated fair value, and as such, we recognized a full impairment loss of $6.8 million as of March 31, 2009. As required, we performed a Step 2 goodwill analysis, which compares the implied fair value of the reporting unit's goodwill with the carrying amount of the goodwill. If the carrying amount of our goodwill exceeds the implied fair value of goodwill, an impairment loss is recognized for an amount equal to that excess. We completed our Step 2 analysis during the three month period ended June 30, 2009. Based on the results of our Step 2 analysis, we concluded our goodwill was fully impaired and that the loss of $6.8 million on a before and after tax basis was appropriately recorded as of March 31, 2009. This loss was recorded as an increase in operating expenses, loss from operations, and net loss in the Condensed Consolidated Statement of Operation as of March 31, 2009.

Net interest income (expense). Net interest income (expense) decreased from $0.2 million for the six months ended June 30, 2008 to ($0.3) million for the six months ended June 30, 2009 primarily due to the write-off of deferred financing costs of $0.1 million in connection with the termination of our credit facility with National City Bank, interest associated with borrowings under the term loan component of our new credit facility and the amortization of the discount on long-term debt related to the warrant issued in conjunction with our new credit facility.

Other (expense) income. Other (expense) income consists of foreign currency transaction (loss) gain, grant income and non-employee option (expense) income related to the fair market value change for fully vested options outstanding for consultants, which are accounted for as free standing derivatives. For the six months ended June 30, 2009, other expense of $0.2 million included $0.1 million related to foreign currency transaction losses associated with partial settlements of intercompany balances and $0.1 million of certain non-employee option expense due to an increase in the value of the options. Other income of $0.4 million for the six months ended June 30, 2008 included income of $0.2 million associated with a reduction in value of certain non-employee stock options, $0.1 million related to foreign currency transaction gains associated with the partial settlement of intercompany balances, and $0.1 million in grant income related to our grant agreement with the Cleveland Clinic Foundation.

Liquidity and Capital Resources

As of June 30, 2009, we had cash, cash equivalents and short-term investments of $15.7 million and short-term and long-term debt of $5.8 million (net of $0.4 million discount on long-debt), resulting in a net cash position of $9.9 million. We had working capital of $21.6 million and an accumulated deficit of $86.9 million.

Cash flows used in operating activities. Net cash used in operating activities was $1.2 million for the six months ended June 30, 2009 and $6.5 million for the six months ended June 30, 2008. Net cash used in operating activities for the six months ended June 30, 2009 was primarily attributable to the net loss of $9.4 million, an increase in accounts receivable of $0.9 million due to an increased mix of international revenues and the timing of revenues within the quarter and a decrease in accounts payable and accrued liabilities of $1.5 million due primarily to a reduction in our overall expense structure. These uses of cash were offset by a goodwill impairment charge of $6.8 million and non-cash charges related to share-based compensation of $2.0 million. Net cash used in operating activities was $6.5 million for the six months ended June 30, 2008. Net cash used in operating activities for the six months ended June 30, 2008 was primarily attributable to the net loss of $5.2 million, increases in accounts receivable and inventory of approximately $2.2 million and $0.6 million, respectively, and decreases in accounts payable and accrued liabilities of approximately $1.2 million. Net cash used by operations was partially offset by adjustments for depreciation and amortization of $1.4 million and non-cash charges related to share-based compensation of $2.0 million. The increase in accounts receivable was primarily due to an increase in and the timing of revenues. The increase in inventories was primarily related to anticipated growth and new product introductions. The decrease in accounts payable and accrued liabilities was primarily related to payments for year-end legal, accounting, and other professional services, as well as payments to material suppliers.

Cash flows provided by investing activities. Net cash provided by investing activities was $3.2 million for the six months ended June 30, 2009 and $3.6 million for the six months ended June 30, 2008. Net cash provided by investing activities for the six months ended June 30, 2009 was due to $6.0 million in positive cash flows related to the release of the restriction on our cash and cash equivalents due to the re-payment of the borrowings under the National City credit facility, partially offset by $2.0 million in purchases of available-for-sale securities and $0.8 million in purchases of property and equipment relating primarily to capital equipment loaned to our customers. Net cash provided by investing activities for the six months ended June 30, 2008 was attributable to net purchases and maturities of available-for-sale securities of $5.1 million, offset by purchases of property and equipment of $1.1 million relating primarily to capital equipment loaned to our customers and the repayment of a $0.4 million note associated with our acquisition of a product line.

Cash flows provided by (used in) financing activities. Net cash provided by (used in) financing activities for the six months ended June 30, 2009 and 2008 was $0.1 million and ($47,017), respectively. For the six months ended June 30, 2009, cash flows provided by financing activities was attributable to proceeds from borrowings of long-term debt under our new credit facility of $6.5 million, and $0.1 million in proceeds from the issuance of common stock under our employee stock purchase plan, offset by payments made on our debt and capital lease obligations of $6.4 million, including a $6.0 million repayment in full of our National City credit facility, and $0.1 million in payment of debt origination fees. For the six months ended June 30, 2008, cash flows used in financing activities included payments made on our debt and capital lease obligations of $0.2 million, partially offset by proceeds from exercises of stock options of $0.2 million.

Credit facility. On May 1, 2009, we entered into a Loan and Security Agreement (the "Agreement") with Silicon Valley Bank (the "Bank") that provides a term loan and a revolving credit facility under which we can borrow a maximum of $10.0 million. We have borrowed the maximum amount of $6.5 million under the term loan. We can borrow up to $10.0 million under the revolving loan facility with the availability subject to a borrowing base formula. The Agreement also includes up to a $1.0 million sublimit for stand-by letters of credit. As of June 30, 2009, we have no outstanding borrowings under the revolving loan facility and borrowing availability of approximately $1.0 million. The Agreement matures on April 30, 2012 and is secured by all of our assets, including intellectual property, and a pledge of sixty-five percent of our stock in our subsidiary, AtriCure Europe, B.V.

Interest on the term loan accrues at a rate of 10.0% per year, and interest on the revolving loan will accrue at a fluctuating rate equal to the Bank's announced prime rate of interest, subject to a floor of 4.0%, plus between 1.0% and 2.0%, depending on our Adjusted Quick Ratio (as defined in the Agreement). Principal on the term loan will be amortized over 36 months of equal principal payments, plus applicable interest. In addition, in connection with the term loan under the Agreement, the Bank received a warrant to purchase 371,732 shares of our common stock at $1.224 per share, exercisable for a term of 10 years.

As of June 30, 2009, we had no borrowings under the revolving credit facility and borrowings of $6.1 million under the term loan, which includes approximately $2.2 million classified as current maturities of long-term debt. We are required to make monthly principal payments on the term loan of $0.2 million plus interest. The warrant associated with our term loan was recorded as discount on long-term debt at its intrinsic value and is being amortized over the term of the loan. It is reflected as a reduction of long-term debt in our Condensed Consolidated Financial Statements. Amortization expense totaled $44,657 for the three and six month periods ended June 30, 2009. The effective interest rate on borrowings under the term loan, including amortization of the warrant and debt issuance costs, is 15.2%.

On July 1, 2008 we entered into a two-year credit facility with National City Bank. This credit facility was terminated effective May 1, 2009 and the outstanding balance was repaid in full. As of December 31, 2008, $6.0 million was outstanding under the credit facility and $6.0 million was held as restricted cash and cash equivalents and reported as long-term liabilities and assets, respectively.

Uses of liquidity and capital resources. Our future capital requirements depend on a number of factors, including possible acquisitions and joint ventures, the rate of market acceptance of our current and future products, the resources we devote to developing and supporting our products, future expenses to expand and support our sales and marketing efforts, costs associated with the Department of Justice investigation, costs relating to changes in regulatory policies or laws that affect our operations and costs of filing, prosecuting, defending and enforcing our intellectual property rights. Global economic turmoil may adversely impact our revenue, access to the capital markets or future demand for our products.

We believe that our current cash, cash equivalents and short-term investments, combined with availability under our revolving loan with Silicon Valley Bank and . . .