UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

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

For the quarterly period ended March 31, 2007

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

For the transition period from            to

NxStage Medical, Inc.

Delaware		04-3454702
(State of Incorporation)		(I.R.S. Employer Identification No.)
439 S. Union Street 5th Floor, Lawrence, MA		01843
(Address of Principal Executive Offices)		(Zip Code)

Registrant’s Telephone Number, Including Area Code: (978) 687-4700

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

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, $0.001 par value

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

     Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act: (Check One):

Large accelerated filer o       Accelerated filer þ       Non-accelerated filer o

     Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o No þ

     There were 29,924,152 shares of the registrant’s common stock issued and outstanding as of the close of business on May 3, 2007.

 

 

NXSTAGE MEDICAL, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED MARCH 31, 2007
TABLE OF CONTENTS

				Page
		PART I – FINANCIAL INFORMATION
Item 1.		Financial Statements (unaudited):
		Condensed Consolidated Balance Sheets at March 31, 2007 and December 31, 2006			3
		Condensed Consolidated Statements of Operations for the Three Months Ended March 31, 2007 and 2006			4
		Condensed Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2007 and 2006			5
		Notes to Condensed Unaudited Consolidated Financial Statements			6
Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations			19
Item 3.		Quantitative and Qualitative Disclosures About Market Risk			32
Item 4.		Controls and Procedures			32
		PART II – OTHER INFORMATION
Item 1A.		Risk Factors			33
Item 2.		Unregistered Sales of Equity Securities and Use of Proceeds			49
Item 6.		Exhibits			50
SIGNATURES					51
Ex-10.6 Shelter Agreement dated March 21, 2007
Ex-31.1 Section 302 Certification of CEO
Ex-31.2 Section 302 Certification of CFO
Ex-32.1 Section 906 Certification of CEO
Ex-32.2 Section 906 Certification of CFO

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

NXSTAGE MEDICAL, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)

		March 31,				December 31,
		2007				2006
ASSETS
Current assets:
Cash and cash equivalents		$	53,189,692			$	49,958,540
Short-term investments			17,481,298				11,843,275
Accounts receivable, net (including affiliate amounts of $2,106,395 and $769,040, respectively)			7,073,365				4,301,557
Inventory			13,302,342				10,419,030
Prepaid expenses and other current assets			719,419				1,014,688
Total current assets			91,766,116				77,537,090
Property and equipment, net			3,234,929				3,025,560
Field equipment, net			19,794,189				20,615,952
Other assets			6,779,118				546,178
Total assets		$	121,574,352			$	101,724,780
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable		$	8,993,380			$	5,918,437
Accrued expenses			4,683,108				4,104,058
Current portion of long-term debt			2,800,000				2,800,000
Total current liabilities			16,476,488				12,822,495
Deferred rent obligation			633,409				648,604
Deferred revenue			10,468,349				228,542
Long-term debt			3,916,667				4,616,667
Total liabilities			31,494,913				18,316,308
Commitments and contingencies
Stockholders’ equity:
Undesignated preferred stock: par value $0.001, 5,000,000 shares authorized; zero shares issued and outstanding as of March 31, 2007 and December 31, 2006			—				—
Common stock: par value $0.001, 100,000,000 shares authorized; 29,923,695 and 27,806,543 shares issued and outstanding as of March 31, 2007 and December 31, 2006, respectively			29,924				27,807
Additional paid-in capital			225,505,287				206,848,097
Accumulated deficit			(135,633,566	)			(123,640,441	)
Accumulated other comprehensive income			177,794				173,009
Total stockholders’ equity			90,079,439				83,408,472
Total liabilities and stockholders’ equity		$	121,574,352			$	101,724,780

See accompanying notes to these condensed consolidated financial statements.

NXSTAGE MEDICAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)

		Three Months Ended
		March 31,
		2007				2006
Revenues (includes $1,884,166 and $456,394, respectively, from affiliate)		$	8,373,993			$	3,400,722
Cost of revenues			9,917,161				4,857,254
Gross profit (deficit)			(1,543,168	)			(1,456,532	)
Operating expenses:
Selling and marketing			4,731,580				3,192,983
Research and development			1,435,806				1,778,894
Distribution			2,344,441				1,289,599
General and administrative			2,667,022				1,974,729
Total operating expenses			11,178,849				8,236,205
Loss from operations			(12,722,017	)			(9,692,737	)
Other income (expense):
Interest income			903,960				595,407
Interest expense			(175,068	)			(157,640	)
			728,892				437,767
Net loss		$	(11,993,125	)		$	(9,254,970	)
Net loss per share, basic and diluted		$	(0.41	)		$	(0.44	)
Weighted-average shares outstanding, basic and diluted			29,019,836				21,182,717

See accompanying notes to these condensed consolidated financial statements.

NXSTAGE MEDICAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)

		Three Months Ended
		March 31,
		2007				2006
Cash flows from operating activities:
Net loss		$	(11,993,125	)		$	(9,254,970	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization			1,435,289				497,740
Amortization/write-off of debt discount			—				35,208
Stock-based compensation			760,093				495,406
Changes in operating assets and liabilities:
Accounts receivable			(2,771,809	)			(1,221,270	)
Inventory			(9,377,236	)			(4,416,148	)
Prepaid expenses and other current assets			292,686				151,597
Accounts payable			3,063,327				2,689,146
Accrued expenses			756,481				551,708
Deferred rent obligation			(15,195	)			(8,322	)
Deferred revenue			7,239,808				—
Net cash used in operating activities			(10,609,681	)			(10,479,905	)
Cash flows from investing activities:
Purchases of property and equipment			(401,246	)			(512,327	)
Purchases of short-term investments			(5,638,023	)			(14,692,810	)
Increase in other assets			(209,293	)			(158,555	)
Net cash used in investing activities			(6,248,562	)			(15,363,692	)
Cash flows from financing activities:
Net proceeds from private placement sale of common stock			19,957,344				—
Proceeds from stock option and purchase plans			941,870				15,228
Repayment of loans and lines of credit			(700,000	)			(411,707	)
Net cash provided by (used in) financing activities			20,199,214				(396,479	)
Foreign exchange effect on cash and cash equivalents			(109,819	)			51,449
Increase (decrease) in cash and cash equivalents			3,231,152				(26,188,627	)
Cash and cash equivalents, beginning of period			49,958,540				61,223,377
Cash and cash equivalents, end of period		$	53,189,692			$	35,034,750
Supplemental Disclosure
Cash paid for interest		$	172,606			$	57,653
Noncash Investing Activities
Transfers from inventory to field equipment		$	6,648,751			$	2,866,506
Noncash Financing Activities
Deferred compensation and paid-in capital		$	1,517			$	16,731

See accompanying notes to these condensed consolidated financial statements.

NXSTAGE MEDICAL, INC.

1. Description of Business

     Operations

     NxStage Medical, Inc. (the “Company”) is a medical device company that develops, manufactures and markets products for the treatment of kidney failure and fluid overload. The Company’s primary product, the NxStage System One (the “System One”), was designed to satisfy an unmet clinical need for a system that can deliver the therapeutic flexibility and clinical benefits associated with traditional dialysis machines in a smaller, portable, easy-to-use form that can be used by healthcare professionals and trained lay users alike in a variety of settings, including patient homes, as well as more traditional care settings such as hospitals and dialysis clinics. The System One is cleared by the United States Food and Drug Administration (the “FDA”) and sold commercially in the United States for the treatment of acute and chronic kidney failure and fluid overload. The System One consists of an electromechanical medical device (cycler), a disposable blood tubing set and a dialyzer (filter) pre-mounted in a disposable, single-use cartridge, and fluids used in conjunction with therapy.

     As of March 31, 2007, the Company had approximately $70.7 million of cash, cash equivalents and short-term investments. The Company has experienced and continues to experience negative operating margins and cash flow from operations and it expects to continue to incur net losses in the foreseeable future. The Company believes that it has sufficient cash to meet its funding requirements at least through 2007. The Company expects to be able to extend the availability of its cash resources through the sale rather than rental of its System One cyclers to chronic customers in the future. There can be no assurance as to the availability of additional financing or the terms upon which additional financing may be available in the future if, and when, it is needed. If the Company is unable to obtain additional financing when needed, it may be required to delay, reduce the scope of, or eliminate one or more aspects of its business development activities, which could harm the growth of its business.

     Basis of Presentation

     The condensed consolidated financial statements reflect the operations of the Company and its wholly-owned subsidiaries. The interim financial statements and notes thereto have been prepared pursuant to the rules of the Securities and Exchange Commission (the “SEC”) for quarterly reports on Form 10-Q and do not include all of the information and note disclosures required by accounting principles generally accepted in the United States of America (“GAAP”). In the opinion of management, the interim financial statements reflect all adjustments consisting of normal, recurring adjustments necessary for a fair presentation of the results for interim periods. Operating results for the three months ended March 31, 2007 are not necessarily indicative of results that may ultimately be achieved for the entire year ending December 31, 2007. These condensed consolidated financial statements should be read in conjunction with the audited financial statements and notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006.

     On February 7, 2007, the Company entered into a National Service Provider Agreement with DaVita Inc., its largest customer. In connection with this National Service Provider Agreement, the Company sold 2,000,000 shares of its common stock to DaVita for $10 per share, for an aggregate purchase price of $20.0 million. As a result of the common stock purchase, DaVita acquired approximately 7% of the Company, making DaVita an affiliate. The accompanying consolidated financial statements have been presented to include affiliate transactions and balances.

2. Summary of Significant Accounting Policies

(a) Principles of Consolidation

     The accompanying condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All material intercompany transactions and balances have been eliminated in consolidation.

(b) Use of Estimates

     The preparation of the Company’s condensed consolidated financial statements in conformity with United States generally accepted accounting principles requires management to make estimates and assumptions that affect reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

(c) Revenue Recognition

     The Company recognizes revenue from product sales and services when earned in accordance with Staff Accounting Bulletin, or SAB, No. 104, Revenue Recognition, and Emerging Issues Task Force, or EITF 00-21, Revenue Arrangements with Multiple Deliverables. Revenues are recognized when: (a) there is persuasive evidence of an arrangement, (b) the product has been shipped or services and supplies have been provided to the customer, (c) the sales price is fixed or determinable and (d) collection is reasonably assured.

     Chronic Care Market

     Prior to 2007, the Company derived revenue in the chronic care market from short-term rental arrangements with its customers as its principal business model in the chronic care market. These rental arrangements, which combine the use of the System One with a specified number of disposable products supplied to customers for a fixed amount per month, are recognized on a monthly basis in accordance with agreed upon contract terms and pursuant to a binding customer purchase order and fixed payment terms. In the chronic care market, rental arrangements continue to represent the majority of the arrangements the Company has with its customers.

     Beginning in 2007, the Company entered into long-term customer contracts to sell the System One and PureFlow SL equipment along with the right to purchase disposable products and service on a monthly basis. Some of these agreements include other terms such as development efforts, training, market collaborations, limited market exclusivity and volume discounts. The equipment and related items provided to the Company’s customers in these arrangements are considered a multiple-element sales arrangement pursuant to EITF 00-21. When a sales arrangement involves multiple elements, the deliverables included in the arrangement are evaluated to determine whether they represent separate units of accounting. The Company has determined that it cannot account for the sale of equipment as a separate unit of accounting. Therefore, fees received upon the completion of delivery of equipment are deferred, and are recognized as revenue on a straight-line basis over the expected term of the Company’s obligation to supply disposables and service, which is five to seven years. The Company has deferred both the unrecognized revenue and direct costs relating to the delivered equipment, which costs are being amortized over the same period as the related revenue.

     The Company entered into a National Service Provider Agreement and a Stock Purchase Agreement with DaVita, Inc. on February 7, 2007. Pursuant to EITF 00-21, the Company considers these agreements a single arrangement. In connection with the Stock Purchase Agreement, DaVita purchased 2,000,000 shares of the Company’s common stock for $10.00 per share, which represented a premium of $1.50 per share, or $3.0 million. The Company has recorded the $3.0 million premium as deferred revenue and will recognize this revenue ratably over seven years, consistent with its equipment service obligation to DaVita. During the three months ended March 31, 2007, the Company recognized revenue of $71,428 associated with the $3.0 million premium.

     Critical Care Market

     In the critical care market, the Company structures sales as direct product sales or as a disposables-based program in which a customer acquires the equipment through the purchase of a specific quantity of disposables over a specific period of time. The Company recognizes revenue from direct product sales at the later of the time of shipment or, if applicable, delivery in accordance with contract terms. Under a disposables-based program, the customer is granted the right to use the equipment for a period of time, during which the customer commits to purchase a minimum number of disposable cartridges or fluids at a price that includes a premium above the otherwise average selling price of the cartridges or fluids to recover the cost of the equipment and provide for a profit. Upon reaching the contractual minimum purchases, ownership of the equipment transfers to the customer.

Revenue under these arrangements is recognized over the term of the arrangement as disposables are delivered. During the reported periods, the majority of our critical care revenue is derived from direct product sales.

     Our contracts provide for training, technical support and warranty services to our customers. We recognize training and technical support revenue when the related services are performed. In the case of extended warranties, the revenue is recognized ratably over the warranty period.

(d) Deferred Costs

     Costs relating to equipment sold in the chronic care market for which deferral of revenue is required are capitalized and amortized ratably over the same period in which the associated revenue is being recognized. Deferred costs relating to equipment sold in the chronic care market at March 31, 2007 and December 31, 2006 totaled $6.2 million and zero, respectively, and are included in other assets in the accompanying condensed consolidated balance sheets. Amortization of deferred costs charged to cost of revenue was $79,700 and zero for the three months ended March 31, 2007 and 2006, respectively.

(e) Foreign Currency Translation and Transactions

     Assets and liabilities of the Company’s foreign operations are translated in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 52, Foreign Currency Translation. In accordance with SFAS No. 52, assets and liabilities of the Company’s foreign operations are translated into U.S. dollars at current exchange rates, and income and expense items are translated at average rates of exchange prevailing during the year. Gains and losses realized from transactions denominated in foreign currencies, including intercompany balances not considered permanent investments, are included in the condensed consolidated statements of operations. The Company’s foreign exchange losses totaled approximately $46,000 and $30,000 for the three months ended March 31, 2007 and 2006, respectively.

(f) Cash, Cash Equivalents and Short-Term Investments

     The Company considers all highly-liquid investments purchased with original maturities of 90 days or less to be cash equivalents. Cash equivalents include amounts invested in federal agency securities, certificates of deposit, commercial paper and money market funds. Cash equivalents are stated at cost plus accrued interest, which approximates market value.

     The Company accounts for its investments in marketable securities in accordance with SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities. In accordance with SFAS No. 115, the Company has classified all of its short-term investments in marketable securities as held-to-maturity for the periods ended March 31, 2007 and December 31, 2006. Held-to-maturity securities are carried at amortized cost because the Company has the intent and ability to hold investments to maturity.

     Held-to-maturity securities consisted of the following:

		March 31,				December 31,
		2007				2006
Commercial paper		$	12,446,781			$	4,896,000
U.S. government securities			2,668,525				5,008,312
Certificates of deposit			2,365,992				1,938,963
Total held-to-maturity securities		$	17,481,298			$	11,843,275

     At March 31, 2007, maturities of all held-to-maturity securities were less than one year. At March 31, 2007, the estimated fair value of each investment approximated its amortized cost and, therefore, there were no significant unrecognized holding gains or losses.

(g) Fair Value of Financial Instruments and Concentration of Credit Risk

     Financial instruments consist principally of cash and cash equivalents, short-term investments, accounts receivable, accounts payable and long-term debt. The estimated fair value of these instruments approximates their

carrying value due to the short period of time to their maturities. The fair value of the Company’s debt is estimated based on the current rates offered to the Company for debt of the same remaining maturities. The carrying amount of long-term debt approximates fair value.

(h) Inventory

     Inventory is stated at the lower of cost (weighted-average) or market (net realizable value). The Company regularly reviews its inventory quantities on hand and related cost and records a provision for any excess or obsolete inventory based on its estimated forecast of product demand and existing product configurations. The Company also reviews its inventory value to determine if it reflects lower of cost or market, with market determined based on net realizable value. Appropriate consideration is given to inventory items sold at negative gross margins, purchase commitments and other factors in evaluating net realizable value.

     Inventories at March 31, 2007 and December 31, 2006 are as follows:

		March 31,				December 31,
		2007				2006
Purchased components		$	4,454,613			$	2,864,892
Finished goods			8,847,729				7,554,138
		$	13,302,342			$	10,419,030

     Inventory is shown net of a valuation reserve of approximately $208,000 and $492,000 at March 31, 2007 and December 31, 2006, respectively.

(i) Property and Equipment and Field Equipment

     Property and equipment is carried at cost less accumulated depreciation. A summary of the components of property and equipment is as follows:

		March 31,				December 31,
		2007				2006
Machinery, equipment and tooling		$	2,713,490			$	2,572,332
Leasehold improvements			1,001,000				987,307
Computer and office equipment			1,002,526				958,916
Furniture			408,694				408,694
Construction-in-process			656,740				436,902
			5,782,450				5,364,151
Less accumulated depreciation and amortization			(2,547,521	)			(2,338,591	)
Property and equipment, net		$	3,234,929			$	3,025,560

     Depreciation expense for property and equipment was $202,000 and $149,000 for the three months ended March 31, 2007 and 2006, respectively.

     Field equipment is carried at cost less accumulated depreciation as follows:

		March 31,				December 31,
		2007				2006
Field equipment		$	23,574,466			$	24,101,844
Less accumulated depreciation and amortization			(3,780,277	)			(3,485,892	)
Field equipment, net		$	19,794,189			$	20,615,952

     During the three months ended March 31, 2007, the Company sold equipment to customers in the chronic care market who were formerly renting the equipment. Due to the sale of equipment, $6.2 million of net field equipment costs were reclassified to deferred costs and are being amortized ratably over the same period in which the associated revenue is being recognized. Deferred costs are included within other assets in the accompanying balance sheet.

     Depreciation expense for field equipment was $1,233,000 and $349,000 for the three months ended March 31, 2007 and 2006, respectively.

     The estimated service lives of property and equipment and field equipment are as follows:

		Estimated
		Useful Life
Machinery, equipment and tooling		5 years
Leasehold improvements		Lesser of 5 years or lease term
Computer and office equipment		3 years
Furniture		7 years
Field equipment		5 years

(j) Accounting for Stock-Based Compensation

     Stock-Based Compensation

     Until December 31, 2005, the Company accounted for stock-based employee compensation awards in accordance with Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees”, and related interpretations. Accordingly, compensation expense was recorded for stock options awarded to employees and directors to the extent that the option exercise price was less than the fair market value of the Company’s common stock on the date of grant, where the number of shares and exercise price were fixed. The difference between the fair value of the Company’s common stock and the exercise price of the stock option, if any, was recorded as deferred compensation and was amortized to compensation expense over the vesting period of the underlying stock option. All stock-based awards to nonemployees were accounted for at their fair value in accordance with SFAS No. 123, “Accounting for Stock-Based Compensation”, and related interpretations.

     On January 1, 2006, the Company adopted SFAS No. 123R “Share-Based Payment”, using a combination of the prospective and the modified prospective transition methods. Under the prospective method, the Company will not recognize the remaining compensation cost for any stock option awards which had previously been valued using the minimum value method, which was allowed until the Company’s initial filing with the Securities and Exchange Commission, or SEC, for a public offering of securities (i.e., stock options granted prior to July 19, 2005). Under the modified prospective method, the Company has (a) recognized compensation expense for all share-based payments granted after January 1, 2006 and (b) recognized compensation expense for awards granted to employees between July 19, 2005 and December 31, 2005 that were unvested as of December 31, 2005. The Company recognizes share-based compensation expense using a straight-line method of amortization over the vesting period.

     The Company filed a registration statement on Form S-1 for an initial public offering of its common stock on July 19, 2005 and closed the initial public offering on November 1, 2005. Stock options granted prior to July 19, 2005 were valued using the minimum value method, while stock options granted after July 19, 2005 were valued using the Black-Scholes option-pricing model. The minimum value method excludes the impact of stock volatility, whereas the Black-Scholes option-pricing model includes a stock volatility assumption in its calculation. The inclusion of a stock volatility assumption, the principal difference between the two methods, ordinarily yields a higher fair value.

     As a result of adopting SFAS 123R on January 1, 2006, the Company’s net loss for the three months ended March 31, 2007 and 2006 was $609,823 and $443,350 higher, respectively, than if it had continued to account for share-based compensation under APB No. 25. Basic and diluted loss per share for the three months ended March 31, 2007 and 2006 was $0.02 and $0.02 higher, respectively, than if the Company had continued to account for share-based compensation under APB No. 25.

     Pursuant to SFAS 123R, the Company reclassified $259,910 of deferred compensation relating to non-qualified stock options awarded to an executive and a consultant to additional paid-in capital on January 1, 2006.

     The Company recognized the impact of its share-based payment plans in the consolidated statement of operations for the three months ended March 31, 2007 and 2006 under SFAS 123R. The following table presents the captions in which share-based compensation expense is included in the Company’s consolidated statement of operations, including share-based compensation recorded in accordance with APB No. 25:

		Three Months				Three Months
		Ended				Ended
		March 31, 2007				March 31, 2006
Cost of revenues		$	40,785			$	11,250
Selling and marketing			209,206				112,069
Research and development			40,123				28,036
Distribution			—				2,297
General and administrative			469,979				341,754
Total		$	760,093			$	495,406

     The weighted-average fair value of options granted during the three months ended March 31, 2007 and 2006 was $5.77 and $9.06, respectively. The fair value of options at date of grant was estimated using the Black-Scholes option-pricing model with the following assumptions:

		Three Months		Three Months
		Ended		Ended
		March 31, 2007		March 31, 2006
Expected life		4.75 years (1)		4.75 years (1)
Risk-free interest rate		4.63% – 4.75% (2)		4.35% – 4.75% (2)
Expected stock price volatility		75% (3)		85% (3)
Expected dividend yield		—		—

     The Company has estimated expected forfeitures of stock options with the adoption of SFAS 123R and records stock-based compensation net of estimated forfeitures. In developing a forfeiture rate estimate, the Company considered its historical experience, its growing employee base and the limited trading history of its common stock.

(k) Warranty Costs

     For a period of one year following the delivery of products to its critical care customers, the Company provides for product repair or replacement if it is determined that there is a defect in material or manufacture of the product. For sales into the critical care market, the Company accrues estimated warranty costs at the time of shipment based on contractual rights and historical experience. Warranty expense is included in cost of revenues in the consolidated statements of operations. Following is a rollforward of the Company’s warranty accrual for the three months ended March 31, 2007:

Balance at December 31, 2006		$	172,244
Provision			83,820
Usage			(79,851	)
Balance at March 31, 2007		$	176,213

(l) Distribution Expenses

     Distribution expenses consist of the costs incurred in shipping products to customers and are charged to operations as incurred. Shipping and handling costs billed to customers are included in revenues and totaled $8,961 and $15,397 for the three months ended March 31, 2007 and 2006, respectively.

(m) Research and Development Costs

     Research and development costs are charged to operations as incurred.

(n) Income Taxes

     The Company accounts for federal and state income taxes in accordance with SFAS No. 109, “Accounting for Income Taxes”. Under the liability method specified by SFAS No. 109, a deferred tax asset or liability is determined based on the difference between the financial statement and tax basis of assets and liabilities, as measured by the enacted tax rates. The Company’s provision for income taxes represents the amount of taxes currently payable, if any, plus the change in the amount of net deferred tax assets or liabilities. A valuation allowance is provided against net deferred tax assets if recoverability is uncertain on a more likely than not basis.

     In June 2006, the FASB issued FASB Interpretation (“FIN”) No. 48, “Accounting for Uncertainty in Income Taxes”, which clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements in accordance with SFAS No. 109. FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. In addition, FIN 48 provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. The Company adopted FIN 48 on January 1, 2007. The adoption of FIN 48 did not have a material impact on the Company’s financial position or results of operations. Upon adoption and as of March 31, 2007, the Company had no unrecognized tax benefits recorded.

     The Company files federal, state and foreign tax returns. The Company has accumulated significant losses since its inception in 1998. Since the net operating losses may potentially be utilized in future years to reduce taxable income, all of the Company’s tax years remain open to examination by the major taxing jurisdictions to which the Company is subject.

     The Company recognizes interest and penalties for uncertain tax positions in income tax expense. Upon adoption and as of March 31, 2007, the Company had no interest and penalty accrual or expense.

(o) Net Loss per Share

     The Company calculates net loss per share based on the weighted average number of shares of common stock outstanding, excluding unvested shares of restricted common stock. The following potential common stock equivalents were not included in the computation of diluted net loss per share as their effect would have been anti-dilutive:

		March 31,
		2007				2006
Options to purchase common stock			1,377,928				1,028,514
Warrants to purchase common stock			18,750				172,321
Total			1,396,678				1,200,835

(p) Comprehensive Income (Loss)

     SFAS No. 130, “Reporting Comprehensive Income”, establishes standards for reporting comprehensive income (loss) and its components in the body of the financial statements. Comprehensive income (loss) consists of net income (loss) and other comprehensive income (loss). Other comprehensive income (loss) includes certain changes in equity, such as foreign currency translation adjustments, that are excluded from results of operations.

     At March 31, 2007 and December 31, 2006, accumulated other comprehensive income (loss) consists of foreign currency translation adjustments.

(q) Recent Accounting Pronouncements

     In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements”, which addresses the measurement of “fair value” where such measure is required for recognition or disclosure purposes under GAAP. Among other provisions, SFAS No. 157 includes (1) a new definition of fair value, (2) a fair value hierarchy used to classify the source of information used in fair value measurements, (3) new disclosure requirements of assets and liabilities measured at fair value based on their level in the hierarchy, and (4) a modification of the accounting presumption that the transaction price of an asset or liability equals its initial fair value. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007 (i.e., beginning in 2008 for NxStage). The Company is currently evaluating the expected impact of SFAS No. 157 on its consolidated financial statements.

     In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities — Including an amendment of FASB Statement No. 115,” which permits entities to choose to measure many financial instruments and certain other items at fair value. SFAS No. 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007. The Company is currently evaluating if it will elect the fair value option for any of its eligible financial instruments and other items.

3. Financing Arrangements

Debt

     In December 2004, the Company entered into a debt agreement in the principal amount of $5.0 million, which was payable monthly over a three-year term and was secured by all the assets of the Company. Interest accrued at a rate of 7.0% annually and monthly principal and interest payments were made in advance. In addition, a final interest payment of $650,000 was due at the scheduled maturity date of December 2007, or earlier if the loan was prepaid in advance. This additional interest payment was accrued on a monthly basis using the interest method over the 36-month life of the loan and was included in accrued expenses in the accompanying consolidated balance sheets. Concurrent with entering into a new equipment line of credit in May 2006, the Company repaid all outstanding borrowings in the aggregate amount of $3.4 million, which included principal and accrued interest and the final interest payment of $650,000. This extinguishment of debt gave rise to the early recognition of approximately $434,000 of interest expense for the year ended December 31, 2006.

     On May 15, 2006, the Company entered into an equipment line of credit agreement for the purpose of financing field equipment purchases and placements. The line of credit agreement provides for the availability of up to $20.0 million through December 31, 2007, and borrowings bear interest at the prime rate plus 0.5% (8.75% at March 31, 2007). Under the line of credit agreement, $10.0 million was available through December 31, 2006 and an additional $10.0 million is available from January 1, 2007 through December 31, 2007. The availability of the line of credit is subject to a number of covenants, including maintaining certain levels of liquidity, adding specified numbers of patients and operating within certain net loss parameters. The Company is also required to maintain operating and/or investment accounts with the lender in an amount at least equal to the outstanding debt obligation. Borrowings are secured by all assets of the Company other than intellectual property and are payable ratably over a three-year period from the date of each borrowing. At March 31, 2007, the Company had outstanding borrowings of $6.7 million and $11.6 million of borrowing availability under the equipment line of credit.

     Annual maturities of principal under the Company’s debt obligations at March 31, 2007 are as follows:

2007		$	2,100,000
2008			2,800,000
2009			1,816,667
		$	6,716,667

4. Segment and Enterprise Wide Disclosures

     SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information”, establishes standards for reporting information regarding operating segments in annual financial statements. Operating segments are identified as components of an enterprise about which separate discrete financial information is available for evaluation by the chief operating decision-maker in making decisions on how to allocate resources and assess performance. The Company views its operations and manages its business as one operating segment. All revenues were generated in the United States and substantially all assets are located in the United States.

     The Company sells products into two markets, critical care and chronic care. The critical care market consists of hospitals or facilities that treat patients that have suddenly, and possibly temporarily, lost kidney function. The chronic care market consists of dialysis centers and hospitals that provide treatment options for patients that have end stage renal disease (“ESRD”). Revenues recognized in these markets were as follows:

		Three Months Ended
		March 31,
		2007				2006
Critical care market		$	2,939,297			$	1,584,607
Chronic care market			5,434,696				1,816,115
Total revenues		$	8,373,993			$	3,400,722

     For the three months ended March 31, 2007, the Company’s affiliate represented 23% of revenues and 29% of accounts receivable at March 31, 2007, while one other customer represented 10% of accounts receivable at March 31, 2007. For the three months ended March 31, 2006, the Company’s affiliate represented 13% of revenues and 17% of accounts receivable at March 31, 2006, while one other customer represented 12% of accounts receivable as of March 31, 2006.

5. Stockholders’ Equity

Common and Preferred Stock

     On February 7, 2007, the Company sold 2,000,000 shares of its common stock to DaVita in a private placement at a price of $10.00 per share and with aggregate net proceeds of approximately $20.0 million. The shares sold to DaVita represent approximately seven percent (7%) of the Company’s issued and outstanding shares of common stock.

     On June 14, 2006, the Company completed a follow-on public offering of 6,325,000 shares of its common stock at a price of $8.75 per share and with aggregate net proceeds of approximately $51.3 million. On November 1, 2005, the Company completed its initial public offering of 6,325,000 shares of its common stock at a price of $10.00 per share and with aggregate net proceeds of approximately $56.5 million. In connection with the initial public offering, all shares of all series of the Company’s outstanding preferred stock were automatically converted into an aggregate of 12,124,840 shares of common stock.

Warrants

     At March 31, 2007, warrants to purchase a total of 73,460 shares of common stock were outstanding. These warrants have a weighted average exercise price of $8.17 and expire in December 2011. There were no warrant or grant exercises during the three months ended March 31, 2007.

6. Stock-Based Awards

     At March 31, 2007, the Company has reserved 3,666,306 shares of common stock for issuance upon exercise of stock options, 21,697 shares for issuance under the 2005 Employee Stock Purchase Plan (the “2005 Purchase Plan”) and 73,460 shares for issuance upon exercise of warrants.

Stock Options

     The Company maintains the 1999 Stock Option and Grant Plan (the “1999 Plan”) under which 4,085,009 shares of common stock were authorized for the granting of incentive stock options (“ISOs”) and nonqualified stock options

to employees, officers, directors, advisors, and consultants of the Company. Effective upon the closing of the Company’s initial public offering, no further grants have been or will be made under the 1999 Plan. ISOs under the 1999 Plan were granted only to employees, while nonqualified stock options under the 1999 Plan were granted to officers, employees, consultants and advisors of the Company. The Company’s board of directors (the “Board”) determined the option exercise price for incentive and nonqualified stock options and grants, and in no event were the option exercise prices of an incentive stock option less than 100% of the fair market value of common stock at the time of grant, or less than 110% of the fair market value of the common stock in the event that the employee owned 10% or more of the Company’s capital stock. All stock options issued under the 1999 Plan expire 10 years from the date of grant and the majority of these grants were exercisable upon the date of grant into restricted common stock, which vests over a period of four years. Prior to the adoption of the 1999 Plan, the Company issued non-qualified options to purchase 55,252 shares of common stock, of which 45,755 shares remain outstanding at March 31, 2007.

     In October 2005, the Company adopted the 2005 Stock Incentive Plan (the “2005 Plan”) which became effective upon the closing of the initial public offering. Concurrently, the Company ceased granting stock options and other equity incentive awards under the 1999 Plan and 971,495 shares, which were then still available for grant under the 1999 Plan, were transferred and became available for grant under the 2005 Plan. The number of shares available for grant under the 2005 Plan will be increased annually beginning in 2007 by the least of (a) 600,000 shares, or (b) 3% of the then outstanding shares of the Company’s common stock, or (c) a number determined by the Board. During the three months ended March 31, 2007, the number of shares available for grant under the 2005 Plan was increased by 600,000 shares. Unless otherwise specified by the Board or Compensation Committee, stock options issued to employees under the 2005 Plan expire seven years from the date of grant and generally vest over a period of four years. Stock option grants to directors expire five years from the date of grant and vest 100% on date of grant. At March 31, 2007, options for the purchase of 649,289 shares of common stock are available for future grant under the 2005 Plan.

     A summary of the Company’s stock option activity under all plans is as follows:

						Weighted
						Average
						Exercise
Fixed Options		Shares				Price
Outstanding at December 31, 2006			3,068,430			$	7.00
Granted			65,500			$	9.11
Exercised			(107,800	)		$	8.74
Forfeited or expired			(9,113	)		$	8.78
Outstanding at March 31, 2007			3,017,017			$	6.98
Vested at March 31, 2007			1,719,643			$	5.83
Exercisable at March 31, 2007			1,923,965			$	5.78

     The aggregate intrinsic value at March 31, 2007 was $18.9 million for stock options outstanding, $12.8 million for stock options vested and $14.4 million for stock options exercisable. The intrinsic value for stock options outstanding, vested and exercisable is calculated based on the exercise price of the underlying awards and the market price of the Company’s common stock as of March 31, 2007, excluding out-of-the-money awards. The total intrinsic value of options exercised during the three months ended March 31, 2007 and 2006 was $494,000 and $84,000, respectively. The total fair value of shares vested during the three months ended March 31, 2007 and 2006 was $1.1 million and $286,000, respectively.

     The following table summarizes information about stock options outstanding at March 31, 2007:

		Options Outstanding												Options Exercisable
						Weighted				Weighted								Weighted
						Average				Average								Average
		Number				Remaining				Exercise				Number				Exercise
Range of Exercise Prices		Outstanding				Contractual Life				Price				Exercisable				Price
$0.34 to $0.55			96,551			2.0 years				$	0.36				96,551			$	0.36
$1.37			2,924			3.2 years				$	1.37				2,924			$	1.37
$2.74 to $4.10			808,284			4.8 years				$	3.88				808,284			$	3.88
$5.47 to $6.84			585,021			7.5 years				$	6.03				581,867			$	6.03

		Options Outstanding												Options Exercisable
						Weighted				Weighted								Weighted
						Average				Average								Average
		Number				Remaining				Exercise				Number				Exercise
Range of Exercise Prices		Outstanding				Contractual Life				Price				Exercisable				Price
$7.90 to $9.27			1,139,087			6.6 years				$	8.51				217,640			$	8.50
$9.63 to $11.78			117,550			4.8 years				$	10.78				84,000			$	10.83
$12.28 to $13.65			267,600			5.1 years				$	12.69				132,699			$	12.65
$0.34 to $13.65			3,017,017			5.8 years				$	6.98				1,923,965			$	5.78

     The following table summarizes the status of the Company’s nonvested stock options:

						Weighted
						Average
						Exercise
Fixed Options		Shares				Price
Nonvested at December 31, 2006			1,363,423			$	8.54
Granted			65,500			$	9.11
Vested			(122,436	)		$	9.14
Forfeited			(9,113	)		$	8.78
Nonvested at March 31, 2007			1,297,374			$	8.51

     Certain outstanding stock option awards are subject to an early exercise provision. Upon exercise, the award is subject to a repurchase right in favor of the Company. The repurchase right terminated upon the closing of the Company’s initial public offering.

     At March 31, 2007, approximately $6.0 million of unrecognized stock compensation cost is expected to be recognized over a weighted-average period of 3.3 years.

Employee Stock Purchase Plan

     The Company’s 2005 Purchase Plan authorizes the issuance of up to 50,000 shares of common stock to participating employees through a series of periodic offerings. Each six-month offering period begins in January or July. An employee becomes eligible to participate in the 2005 Purchase Plan once he or she has been employed for at least three months and is regularly employed for at least 20 hours per week for more than three months in a calendar year. The price at which employees can purchase common stock in an offering is 95 percent of the closing price of the Company’s common stock on the NASDAQ Global Market on the day the offering terminates, unless otherwise determined by the Board or Compensation Committee.

     The weighted-average fair value of stock purchase rights granted as part of the Company’s 2005 Purchase Plan during the three months ended March 31, 2007 and 2006 was $1.86 and $2.45, respectively. The fair value of the employees’ stock purchase rights was estimated using the Black-Scholes option-pricing model with the following assumptions:

		Three Months				Three Months
		Ended				Ended
		March 31, 2007				March 31, 2006
Expected life		6 months				6 months
Risk-free interest rate			4.90	%			4.42	%
Expected stock price volatility			61.7	%			50.9	%
Expected dividend yield			—				—

     The Company recognized share-based compensation expense of $16,500 and $12,000 for the three months ended March 31, 2007 and 2006, respectively, relating to the 2005 Purchase Plan.

7. Related-Party Transactions

Medisystems Corporation

     The Company purchases completed cartridges, tubing and certain other components used in the System One disposable cartridge from Medisystems Corporation, an entity owned by a stockholder of the Company and member of the Company’s Board of Directors. The Company purchased approximately $2.1 million and $759,000 during the three months ended March 31, 2007 and 2006, respectively, of goods and services from this related party. Amounts

owed to Medisystems Corporation totaled $658,000 and $926,000 at March 31, 2007 and December 31, 2006, respectively, and are included in accounts payable in the accompanying consolidated balance sheets. At March 31, 2007, the Company had commitments to purchase approximately $2.7 million of products from Medisystems Corporation.

     On January 4, 2007, the Company entered into a seven-year Supply Agreement (the “Medisystems Supply Agreement”), with Medisystems that expires on December 31, 2013. Prior to entering into the Medisystems Supply Agreement, the Company purchased products from Medisystems through purchase orders. Pursuant to the terms of the Medisystems Supply Agreement, the Company will purchase no less than ninety percent (90%) of its North American requirements for disposal cartridges, or Medisystems products, for use with its System One from Medisystems.

DaVita Inc.

     On February 7, 2007, the Company entered into a National Service Provider Agreement (the “DaVita Agreement”) with DaVita Inc. (“DaVita”), the Company’s largest customer. Pursuant to the terms of the Agreement, the Company granted DaVita certain market rights for the System One and related supplies for home hemodialysis therapy. DaVita is granted exclusive rights in a small percentage of geographies, which geographies collectively represent less than ten percent (10%) of the U.S. ESRD patient population, and limited exclusivity in the majority of all other U.S. geographies, subject to DaVita’s meeting certain requirements, including patient volume commitments and new patient training rates. Under the DaVita Agreement, the Company can continue to sell to other clinics in the majority of geographies. If certain minimum patient numbers or training rates are not achieved, DaVita can lose all or part of its preferred geographic rights. The DaVita Agreement limits, but does not prohibit, the sale by the Company of the System One for chronic patient home hemodialysis therapy to any provider that is under common control or management of a parent entity that collectively provides dialysis services to more than 25% of U.S. chronic dialysis patients and that also supplies dialysis products.

     The DaVita Agreement has an initial term of three years, terminating on December 31, 2009, and DaVita has the option of renewing the DaVita Agreement for four additional periods of six months each if DaVita meets certain patient volume targets.

     Under the DaVita Agreement, DaVita purchased all of its existing System One equipment currently being rented from the Company (for a purchase price of approximately $5.0 million) and committed to buy a significant percentage of its future System One equipment needs. DaVita is granted most favored nations pricing for the products purchased under the DaVita Agreement provided that DaVita achieves certain requirements, including certain patient volume targets. Further, the DaVita Agreement contemplates certain collaborations between the parties, including efforts dedicated towards advancing market awareness of the Company’s therapies and home and more frequent hemodialysis.

     Either party may terminate the DaVita Agreement if the other party becomes the subject of bankruptcy or similar proceedings or loses its eligibility to bill for services under the Medicare or Medicaid programs.

     In connection with the DaVita Agreement, the Company issued and sold to DaVita 2,000,000 shares (the “DaVita Shares”) of its common stock, $0.001 par value per share, at a purchase price of $10.00 per share, for an aggregate purchase price of $20.0 million pursuant to the terms of the Stock Purchase Agreement dated as of February 7, 2007 by and between the Company and DaVita (the “Stock Purchase Agreement”). The Shares represent approximately seven percent (7%) of the Company’s issued and outstanding shares of common stock as of March 31, 2007. As discussed in Note 1 to these financial statements, this ownership percentage qualifies DaVita as an affiliate for financial statement presentation purposes.

     In connection with the issuance of the DaVita Shares, the Company and DaVita entered into a Registration Rights Agreement. Pursuant to the Registration Rights Agreement, on April 2, 2007, the Company filed a registration statement on Form S-3 with respect to the resale by DaVita of the DaVita Shares, which was declared effective by the SEC on May 8, 2007. In addition, the Company shall use commercially reasonable efforts to keep the Registration Statement continuously effective until the date which is the earliest of (i) two years after the Registration Statement is declared effective by the SEC, (ii) such time as all the securities covered by the

Registration Statement have been publicly sold or (iii) such time as all securities may be sold pursuant to Rule 144(k) without volume restrictions. If the Company is unable to meet the above registration requirements, the Company must (a) transfer cash consideration to DaVita equal to one percent (1.0%) of the aggregate purchase price paid for the Shares (i.e., $200,000) and (b) make a monthly pro rata cash payment equal to 1.0% of the aggregate purchase price until cured. The Registration Rights Agreement provides for no limitation to the maximum potential consideration that may be paid by the Company. The Company believes the likelihood is remote that it will owe an obligation resulting from the Registration Rights Agreement.

8. Commitments and Contingencies

     During the three months ended March 31, 2007, the Company entered into a long-term agreement with the Entrada Group, or Entrada, to establish manufacturing and service operations in Mexico, initially for its cycler and PureFlow SL disposables and later for its PureFlow SL hardware. The agreement obligates Entrada to provide the Company with manufacturing space, support services and a labor force through 2012. Subject to certain exceptions, the Company is obligated for the facility fees through the term of the agreement. The agreement may be terminated upon material breach, generally following a 30-day cure period.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Special Note Regarding Forward Looking Statements

     The following discussion should be read with our unaudited condensed consolidated financial statements and notes included in Part I, Item 1 of this Quarterly Report for the three months ended March 31, 2007 and 2006, as well as the audited financial statements and notes and Management’s Discussion and Analysis of Financial Condition and Results of Operations for the fiscal year ended December 31, 2006, included in our Annual Report on Form 10-K filed with the Securities and Exchange Commission, or SEC. This Quarterly Report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements regarding future events and our future results are based on current expectations, estimates, forecasts and projections and the beliefs and assumptions of our management including, without limitation, our expectations regarding our results of operations, revenues, cost of revenues, distribution expenses, sales and marketing expenses, general and administrative expenses, research and development expenses, interest expense and the sufficiency of our cash for future operations. Words such as “anticipate,” “target,” “project,” “believe,” “goals,” “estimate,” “potential,” “predict,” “may,” “will,” “expect,” “might,” “could,” “intend,” variations of these terms or the negative of those terms and similar expressions are intended to identify these forward-looking statements. Readers are cautioned that these forward-looking statements are predictions and are subject to risks, uncertainties and assumptions that are difficult to predict. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements.

     Among the important factors that could cause actual results to differ materially from those indicated by our forward-looking statements are those discussed under the heading “Risk Factors” in Item 1A of Part II. We undertake no obligation to revise or update publicly any forward-looking statement for any reason. Readers should carefully review the risk factors described under the heading “Risk Factors” in Item 1A of Part II of this Quarterly Report, as well as in the documents filed by us with the SEC, as they may be amended from time to time, including our Annual Report on Form 10-K and Quarterly Reports on Form 10-Q.

Overview

     We are a medical device company that develops, manufactures and markets innovative systems for the treatment of end-stage renal disease, or ESRD, acute kidney failure and fluid overload. Our primary product, the NxStage System One, is a small, portable, easy-to-use hemodialysis system designed to provide physicians and patients improved flexibility in how hemodialysis therapy is prescribed and delivered. We believe the largest market opportunity for our product is the home hemodialysis market for the treatment of ESRD.

     From our inception in 1998 until 2002, our operations consisted primarily of start-up activities, including designing and developing the System One, recruiting personnel and raising capital. Historically, research and development costs have been our single largest operating expense. However, with the launch of the System One in the home chronic care market, selling and marketing costs became our largest operating expense in 2006 and continued to be our largest operating expense during the three months ended March 31, 2007 as we expanded our U.S. sales force to increase market share and grow revenues.

     Our overall strategy since inception has been to (1) design and develop new products for the treatment of kidney failure, (2) establish that the products are safe, effective and cleared for use in the United States, (3) further enhance the product design through field experience from a limited number of customers, (4) establish reliable manufacturing and sources of supply, (5) execute a market launch in both the chronic and critical care markets and establish the System One as a preferred system for the treatment of kidney failure, (6) obtain the capital necessary to finance our working capital needs and build our business and (7) achieve profitability. The evolution of NxStage, and the allocation of our resources since we were founded, reflects this plan. We believe we have largely completed steps (1) through (4), and we plan to continue to pursue the other strategic objectives described above.

     We sell our products in two markets: the chronic care market and the critical care market. We define the chronic care market as the market devoted to the treatment of patients with ESRD and the critical care market as the market devoted to the treatment of hospital-based patients with acute kidney failure or fluid overload. We offer a different configuration of the System One for each market. The United States Food and Drug Administration, or FDA, has

cleared both configurations for hemodialysis, hemofiltration and ultrafiltration. Our product may be used by our customers to treat patients suffering from ESRD or acute kidney failure and we have separate marketing and sales efforts dedicated to each market.

     We received clearance from the FDA in July 2003 to market the System One for treatment of renal failure and fluid overload using hemodialysis as well as hemofiltration and ultrafiltration. In the first quarter of 2003, we initiated sales of the System One in the critical care market to hospitals and medical centers in the United States. In late 2003, we initiated sales of the System One in the chronic care market and commenced full commercial introduction in the chronic market in September 2004 in the United States. At the time of these early marketing efforts, our System One was cleared by the FDA under a general indication statement, allowing physicians to prescribe the System One for hemofiltration, hemodialysis and/or ultrafiltration at the location, time and frequency they considered in the best interests of their patients. Our original indication did not include a specific home clearance, and we were not able to promote the System One for home use at that time. The FDA cleared the System One in June 2005 for hemodialysis in the home.

     In March 2006, we received clearance from the FDA to market our PureFlow SL module as an alternative to the bagged fluid presently used with our System One in the chronic care market, and we commercially launched the PureFlow SL module in July 2006. This accessory to the System One allows for the preparation of high purity dialysate in the patient’s home using ordinary tap water and dialysate concentrate. The PureFlow SL is designed to help patients with ESRD more conveniently and effectively manage their home hemodialysis therapy by eliminating the need for bagged fluids. Since its launch, PureFlow SL penetration has reached approximately 47% of all of our chronic patients. The product is still early in its commercial launch and we continue to work to improve product reliability and user experience, based upon customer feedback. We expect that over time our chronic care home patients will predominantly use our PureFlow SL module at home and will use bagged fluid for travel and use outside of the home. Bagged fluids will continue to be used in the critical care market.

     Medicare provides comprehensive and well-established reimbursement in the United States for ESRD. Reimbursement claims for therapy using the System One are typically submitted by the dialysis clinic or hospital to Medicare and other third-party payors using established billing codes for dialysis treatment or, in the critical care setting, based on the patient’s primary diagnosis. Expanding Medicare reimbursement over time to cover more frequent therapy may be critical to our market penetration and revenue growth in the future.

     Our System One is produced through internal and outsourced manufacturing. We purchase many of the components and subassemblies included in the System One, as well as the disposable cartridges used in the System One, from third-party manufacturers, some of which are single source suppliers. In addition to outsourcing with third-party manufacturers, we assemble, package and label a quantity of disposable products in our leased facilities in Lawrence, Massachusetts and North Andover, Massachusetts. NxStage GmbH & Co. KG, our wholly-owned German subsidiary, is the sole manufacturer of the dialyzing filter that is a component of the disposable cartridge used in the System One. During the three months ended March 31, 2007, we entered into a long-term agreement with the Entrada Group, or Entrada, to establish manufacturing and service operations in Mexico, initially for our cycler and PureFlow SL disposables and later for our PureFlow SL hardware. The agreement obligates Entrada to provide us with manufacturing space, support services and a labor force through 2012. The agreement may be terminated upon material breach, generally following a 30-day cure period.

     We market the System One through a direct sales force in the United States primarily to dialysis clinics and hospitals and we expect revenue from this source to continue to increase in the near future. Our revenues were $8.4 million for the three months ended March 31, 2007, a 146% increase from revenues of $3.4 million in the three months ended March 31, 2006 and a 14% increase from revenues of $7.4 million for the three months ended December 31, 2006. We have increased the number of sales representatives in our combined sales force from 25 at March 31, 2006 to 29 at March 31, 2007. We expect to add additional sales and marketing personnel as needed in the future. At March 31, 2007, 1,295 ESRD patients were using the System One at 200 dialysis clinics, compared to 459 ESRD patients at 97 dialysis clinics at March 31, 2006, and compared to 1,022 ESRD patients at 174 dialysis clinics at December 31, 2006. In addition, at March 31, 2007, 82 hospitals were using the System One for critical care therapy, compared to 54 and 77 hospitals at March 31, 2006 and December 31, 2006, respectively.

     The following table sets forth the amount and percentage of revenues derived from each market for the periods indicated:

		Three Months Ended
		March 31,
		2007								2006
Critical care		$	2,939,297				35.1	%		$	1,584,607				46.6	%
Chronic care			5,434,696				64.9	%			1,816,115				53.4	%
Total		$	8,373,993				100	%		$	3,400,722				100	%

     We have not been profitable since inception, and we expect to incur net losses for the foreseeable future as we expand our sales efforts and operations. Our accumulated deficit at March 31, 2007 was $135.6 million. We expect our revenue in the chronic care market to increase faster than those in the critical care market and believe they will continue to represent the majority of our revenues.

Statement of Operations Component

Revenues

     Our product consists of the System One, an electromechanical device used to circulate the patient’s blood during therapy (the cycler); a single-use, disposable cartridge, which contains a preattached dialyzer, and dialysate fluid used in our therapy, sold either in premixed bags or prepared with our PureFlow SL module. We distribute our products in two markets: the chronic care market and the critical care market. We define the chronic care market as the market devoted to the treatment of ESRD patients in the home and the critical care market as the market devoted to the treatment of hospital-based patients with acute kidney failure or fluid overload. We offer a different configuration of the System One for each market. The FDA has cleared both configurations for hemodialysis, hemofiltration and ultrafiltration. Our product may be used by our customers to treat patients suffering from either condition and we have separate marketing and sales efforts dedicated to each market.

     We derive our revenue from the sale and rental of equipment and the sale of the related disposable products. In the critical care market, we generally sell the System One and disposables to hospital customers. In the chronic care market, customers rent or purchase the machine and then purchase the related disposable products based on a specific patient prescription. We generally recognize revenue when a product has been delivered to our customer, or, in the chronic care market, for those customers that rent the System One, we recognize revenue on a monthly basis in accordance with a contract under which we supply the use of a cycler and the amount of disposables needed to perform a set number of dialysis therapy sessions during a month. For customers that purchase the System One in the chronic care market, we recognize revenue from the equipment sale ratably over the expected service obligation period, while disposable product revenue is recognized upon delivery.

     Our rental contracts with dialysis centers for ESRD patients generally include terms providing for the sale of disposable products to accommodate up to 26 treatments per month per patient and the purchase or monthly rental of System One cyclers and, in some instances, our PureFlow SL module. These contracts typically have a term of one year and are cancelable at any time by the dialysis clinic with 30 days’ notice. Under these contracts, if home hemodialysis is prescribed, supplies are shipped directly to patient homes and paid for by the treating dialysis clinic. We also include vacation delivery terms, providing for the free shipment of products to a designated vacation destination. We derive an insignificant amount of revenues from the sale of ancillary products, such as extra lengths of tubing. Over time, as more chronic patients are treated with the System One and more systems are placed in patient homes under monthly agreements that provide for the rental of the machine and the purchase of the related disposables, we expect this recurring revenue stream to continue to grow.

     During the three months ended March 31, 2007, we entered into long-term contracts with three larger dialysis chains, including DaVita, Inc., or DaVita, which was our largest customer during the three months ended March 31, 2007. Revenues from DaVita represented approximately 23% of our revenues during the three months ended March 31, 2007, and we expect revenue from DaVita will continue to account for a significant portion of our revenues for the remainder of 2007. Each of these agreements has a term of at least three years, and may be cancelled upon a material breach, subject to certain curing rights. These contracts provide the customer the option to purchase as well as rent the System One equipment, and, in the case of the DaVita contract, DaVita has agreed to purchase rather than

rent a significant percentage of its future System One equipment needs. During the three months ended March 31, 2007, two of these dialysis chain customers elected to purchase, rather than rent, a significant percentage of their System One equipment currently in use. It is not clear what percentage of our customers, if any, will migrate to this model, and we expect, at least in the near term, that the majority of our customers will continue to rent the System One in the chronic care market.

Cost of Revenues

     Cost of revenues consists primarily of direct product costs, including material and labor required to manufacture our products, service of System One equipment that we rent and sell to customers and production overhead. It also includes the cost of inspecting, servicing and repairing equipment prior to sale or during the warranty period and stock-based compensation. The cost of our products depends on several factors, including the efficiency of our manufacturing operations, the cost at which we can obtain labor and products from third party suppliers, product reliability and related servicing costs and the design of the products.

     We are currently operating at negative gross profit as we continue to build a base of recurring revenue. We expect the cost of revenues as a percentage of revenues to decline over time for four general reasons. First, we anticipate that increased sales volume and realization of economies of scale will lead to better purchasing terms and prices along with broader options and efficiencies in indirect manufacturing overhead costs. Second, we are introducing several process and product design changes that have inherently lower cost than our current products. For example, in July 2006 we commercially released our PureFlow SL module, which is expected to reduce our cost of revenues and distribution costs by reducing the volume of dialysate fluid which we currently purchase and ship to customers. Third, we plan to move the manufacture of certain of our products, including the System One cycler, to lower labor cost markets. Fourth, and finally, we continue to improve product reliability.

Operating Expenses

     Selling and Marketing. Selling and marketing expenses consist primarily of salary, benefits and stock-based compensation for sales and marketing personnel, travel, promotional and marketing materials and other expenses associated with providing clinical training to our customers. Included in selling and marketing are the costs of clinical educators, usually nurses, we employ to teach our customers about our products and prepare our customers to instruct their patients in the operation of the System One. We anticipate that selling and marketing expenses will continue to increase as we broaden our marketing initiatives to increase public awareness of the System One in the chronic care market and as we add additional sales and marketing personnel.

     Research and Development. Research and development expenses consist primarily of salary, benefits and stock-based compensation for research and development personnel, supplies, materials and expenses associated with product design and development, clinical studies, regulatory submissions, reporting and compliance and expenses incurred for outside consultants or firms who furnish services related to these activities. We expect limited research and development expense increases in the foreseeable future as we continue to improve and enhance our core products.

     Distribution. Distribution expenses include the freight cost of delivering our products to our customers or our customers’ patients, depending on the market and the specific agreement with our customers, and salary, benefits and stock-based compensation for distribution personnel. We use common carriers and freight companies to deliver our products, and we do not operate our own delivery service. Also included in this category are the expenses of shipping products from customers back to our service center for repair if the product is under warranty, and the related expense of shipping a replacement product to our customers. We expect that distribution expenses will increase at a lower rate than revenue due to expected efficiencies gained from increased business volume, the expected customer adoption of our PureFlow SL module, which significantly reduces the weight and quantity of monthly disposable shipments, and improved reliability of System One equipment.

     General and Administrative. General and administrative expenses consist primarily of salary, benefits and stock-based compensation for our executive management, legal and finance and accounting staff, fees for outside legal counsel, fees for our annual audit and tax services and general expenses to operate the business, including insurance and other corporate-related expenses. Rent, utilities and depreciation expense are allocated to operating expenses

based on personnel and square footage usage. We expect that general and administrative expenses will increase in the near term as we add additional administrative support for our growing business.

Results of Operations

     The following table presents, for the periods indicated, information expressed as a percentage of revenues. This information has been derived from our consolidated statements of operations included elsewhere in this Quarterly Report on Form 10-Q. You should not draw any conclusions about our future results from the results of operations for any period.

		Three Months Ended
		March 31,
		2007				2006
Revenues			100	%			100	%
Cost of revenues			118				143
Gross profit (deficit)			(18	)			(43	)
Operating expenses:
Selling and marketing			57				94
Research and development			17				52
Distribution			28				38
General and administrative			32				58
Total operating expenses			134				242
Loss from operations			(152	)			(285	)
Other income (expense):
Interest income			11				18
Interest expense			(2	)			(5	)
			9				13
Net loss			(143	)%			(272	)%

Comparison of Three Months Ended March 31, 2007 to Three Months Ended March 31, 2006

Revenues

     Our revenues for the three months ended March 31, 2007 and 2006 were as follows:

		Three Months Ended
		March 31,				March 31,								Percentage
		2007				2006				Increase				Increase
		(In thousands, except percentages)
Revenues		$	8,374			$	3,401			$	4,973				146	%

     The increase in revenues was attributable to increased sales and rentals of the System One in both the critical care and chronic care markets, primarily as a result of an increase in the number of chronic care patients on therapy resulting from increased sales and marketing efforts. The number of chronic care patients on therapy was 1,295 at March 31, 2007 compared to 459 at March 31, 2006. In addition, during the three months ended March 31, 2007 we increased the number of dialysis clinics offering the System One by 26, bringing the total number of clinics to 200. Revenues in the chronic care market increased to $5.4 million in the three months ended March 31, 2007 compared to $1.8 million in the three months ended March 31, 2006, an increase of 199%, while revenues in the critical care market increased 85% to $2.9 million in the three months ended March 31, 2007, compared to $1.6 million in the three months ended March 31, 2006. During the three months ended March 31, 2007 we increased by five the number of hospitals using the System One for critical care patients, bringing the total number of hospitals to 82.

Cost of Revenues and Gross Profit (Deficit)

		Three Months Ended
		March 31,				March 31,								Percentage
		2007				2006				Increase				Increase
		(In thousands, except percentages)
Cost of revenues		$	9,917			$	4,857			$	5,060				104	%
Gross profit (deficit)		$	(1,543	)		$	(1,456	)		$	87				6	%
Gross profit percentage			(18.4	%)			(42.8	%)

     The increase in cost of revenues was attributable primarily to our increased sales volume. For the chronic care market, we added 273 net patients during the three months ended March 31, 2007 and 836 net patients during the twelve months ended March 31, 2007, which resulted in a $3.6 million increase in cost of revenues. In addition, cost of revenues increased during the three months ended March 31, 2007 because of an increase in manufacturing personnel, which resulted in additional salaries, health benefits and payroll taxes of $0.9 million and increased inbound freight costs of $0.4 million to support our higher production volume. The introduction of PureFlow SL had a negative impact on gross margin of approximately six percentage points in the quarter as a result of increased labor, inbound freight and extra disposables related to the introduction of this product. These increased costs are expected to last until production is moved to Mexico later in the year. We are currently operating at negative gross profit as we continue to build our base of recurring revenues. The improvement in gross margin during the three months ended March 31, 2007 was attributable to (i) increased sales volume and realization of economies of scale that led to better purchasing terms and prices, and efficiencies in indirect manufacturing overhead costs, (ii) lower labor costs for the manufacture of certain of our products, and (iii) continued improvement in reliability of the Cycler. We expect the cost of revenues as a percentage of revenues to continue to decline over time for these same reasons. In addition, over the long-term, we expect the new PureFlow SL to help reduce future costs of our product offerings. Inventory at March 31, 2007 and December 31, 2006 has been reduced to net realizable value through charges to cost of revenues.

Selling and Marketing

		Three Months Ended
		March 31,				March 31,								Percentage
		2007				2006				Increase				Increase
		(In thousands, except percentages)
Selling and marketing		$	4,732			$	3,193			$	1,539				48	%
Selling and marketing as a percentage of revenues			57	%			94	%

     The increase in selling and marketing expenses was the result of several factors. Approximately $1.2 million of the increase was due to higher salary, benefits and stock-based compensation from increased headcount. We increased our combined sales force from 25 sales representatives at March 31, 2006 to 29 sales representatives at March 31, 2007. The increase in selling and marketing expense was also the result of $191,000 related to consulting and recruiting costs, and a higher level of sales and marketing activity in both the chronic and critical care markets. We anticipate that selling and marketing expenses will continue to increase in absolute dollars as we broaden our marketing initiatives to increase public awareness of the System One in the chronic care market and as we add additional sales and marketing personnel.

Research and Development

		Three Months Ended
		March 31,				March 31,								Percentage
		2007				2006				Decrease				Decrease
		(In thousands, except percentages)
Research and development		$	1,436			$	1,779			$	(343	)			(19	)%
Research and development as a percentage of revenues			17	%			52	%

     The decrease in research and development expenses was attributable to decreased salary, benefits and payroll taxes of $135,000 as a result of decreased headcount and a $217,000 reduction in PureFlow SL development costs. We expect limited research and development expense increases in the foreseeable future as a substantial portion of the development effort on the System One and PureFlow SL has been completed and future expenditures will be limited to enhancements. We expect research and development expenses to continue to decline as a percentage of revenues.

Distribution

		Three Months Ended
		March 31,				March 31,								Percentage
		2007				2006				Increase				Increase
		(In thousands, except percentages)
Distribution		$	2,344			$	1,290			$	1,054				82	%
Distribution as a percentage of revenues			28	%			38	%

     The increase in distribution expenses during the three months ended March 31, 2007 compared to the same period in 2006 was due to increased volume of shipments of disposable products to a growing number of patients in the chronic care market. We expect that distribution expenses will increase at a lower rate than revenues during the remainder of 2007 due to expected shipping efficiencies gained from increased business volume and density of customers within geographic areas, and the reduction of higher cost deliveries associated with bagged fluid due to the commercial launch of our PureFlow SL module which began in July 2006.

General and Administrative

		Three Months Ended
		March 31,				March 31,								Percentage
		2007				2006				Increase				Increase
		(In thousands, except percentages)
General and administrative		$	2,667			$	1,975			$	692				35	%
General and administrative as a percentage of revenues			32	%			58	%

     The increase in general and administrative expenses was the result of several factors. Approximately $270,000 of the increase was due to higher salary, benefits and stock-based compensation from increased headcount. The increase in general and administrative expense was also the result of $404,000 of legal and administrative expenses incurred as a result of operating as a public company. We expect that general and administrative expenses will continue to increase in absolute dollars, but decrease as a percentage of revenue, in the near term as we add support structure for our growing business and as a result of costs related to operating as a public company.

Interest Income and Interest Expense

     Interest income is derived primarily from U.S. government securities, certificates of deposit, commercial paper and money market accounts. For the three months ended March 31, 2007, interest income increased by $309,000 compared to the same period in 2006 due to increased cash and investment balances available for investment resulting from the sale of our common stock to DaVita and our follow-on public offering and, to a lesser degree, higher interest rates.

     Interest expense during the three months ended March 31, 2007 totaled approximately $175,000 and related to gross borrowings of $8.4 million under our equipment line of credit. Interest expense during the three months ended March 31, 2006 totaled approximately $158,000 and related to gross borrowings of $5.0 million, which included amortization of debt discount and interest relating to a final balloon payment. We expect interest expense will continue to increase in the future if interest rates increase or if we utilize the available funds under our equipment line of credit.

Liquidity and Capital Resources

     We have operated at a loss since our inception in 1998. At March 31, 2007, our accumulated deficit was $(135.6) million and we had cash, cash equivalents and short term investments of approximately $70.7 million. On February 7, 2007, we issued and sold 2,000,000 shares of common stock to DaVita in which we received net proceeds, after deducting legal expenses, of approximately $20.0 million. On June 14, 2006, we closed a follow-on public offering in which we received net proceeds, after deducting underwriting discounts, commissions and expenses, of approximately $51.3 million from the sale and issuance of 6,325,000 shares of common stock. On May 15, 2006, we entered into an equipment line of credit agreement for the purpose of financing field equipment

purchases and placements. The line of credit agreement provides for the availability of up to $20.0 million through December 31, 2007, and borrowings bear interest at the prime rate plus 0.5% (8.75% at March 31, 2007). Under the line of credit agreement, $10.0 million was available through December 31, 2006 and an additional $10.0 million is available from January 1, 2007 through December 31, 2007. The availability of the line of credit is subject to a number of covenants, including maintaining certain levels of liquidity, adding specified numbers of patients and operating within certain net loss parameters. We are also required to maintain operating and/or investment accounts with the lender in an amount at least equal to the outstanding debt obligation. Borrowings are secured by all of our assets other than intellectual property and are payable ratably over a three-year period from the date of each borrowing. At March 31, 2007, we had outstanding borrowings of $6.7 million and $11.6 million of borrowing availability under the equipment line of credit.

     The following table sets forth the components of our cash flows for the periods indicated (in thousands):

		Three Months Ended
		March 31,
		2007				2006
Net cash used in operating activities		$	(10,610	)		$	(10,480	)
Net cash used in investing activities			(610	)			(671	)
Net cash provided by (used in) financing activities			20,199				(396	)
Effect of exchange rate changes on cash			(110	)			51
Net cash flow		$	8,869			$	(11,496	)

     Net Cash Used in Operating Activities. For each of the periods above, net cash used in operating activities was attributable primarily to net losses after adjustment for non-cash charges, such as depreciation, amortization and stock-based compensation expense. Significant uses of cash from operations include increases in accounts receivable and increased inventory requirements for production and placements of the System One, offset by increases in accounts payable, accrued expenses and deferred revenue. Non-cash transfers from inventory to field equipment for the placement of rental units with our chronic care customers represented $6.6 million and $2.9 million, respectively, during the three months ended March 31, 2007 and 2006.

     Net Cash Used in Investing Activities. For each of the periods above, net cash used in investing activities reflected purchases of property and equipment, primarily for research and development, information technology, manufacturing operations and capital improvements to our facilities. Excluded from these figures is the purchase of $5.6 million and $14.7 million, respectively, of short-term investments purchased during the three months ended March 31, 2007 and 2006.

     Net Cash Provided By (Used In) Financing Activities. Net cash provided by financing activities during the three months ended March 31, 2007 included approximately $20.0 million of net proceeds received from the sale of 2,000,000 shares of common stock to DaVita and $0.9 million of proceeds from the exercise of stock options, offset by debt payments of $0.7 million. Net cash used in financing activities during the three months ended March 31, 2006 included $412,000 of debt payments, offset by $15,000 of proceeds from exercise of stock options.

     We expect to continue to incur net losses for the foreseeable future. We believe we have sufficient cash to meet our funding requirements at least through 2007. We expect to be able to extend the availability of our cash resources through the sale rather than rental of our System One cyclers to chronic customers in the future. In February 2007, we entered into long-term agreements with three large dialysis chains, who are existing chronic customers, that provide them the option, and in the case of DaVita, the obligation, to purchase, rather than rent, some portion of their System One equipment. To date, these customers have purchased nearly $7.4 million of equipment. Also in February 2007, we received cash proceeds of $20.0 million from the sale to DaVita of our common stock. Cash received from the sale of our common stock and sale of equipment will be used for working capital purposes. If our existing resources are insufficient to satisfy our liquidity requirements, we may need to sell additional equity or issue debt securities. Any sale of additional equity or issuance of debt securities may result in dilution to our stockholders, and we cannot be certain that additional public or private financing will be available in amounts or on terms acceptable to us, or at all. If we are unable to obtain this additional financing when needed, we may be required to delay, reduce the scope of, or eliminate one or more aspects of our business development activities, which could harm the growth of our business.

     The following table summarizes our contractual commitments at March 31, 2007 (unaudited) and the effect those commitments are expected to have on liquidity and cash flow in future periods:

						Payments Due by Period
						Less Than												More Than
		Total				One Year				1-3 Years				3-5 Years				5 Years
		(In thousands)
Notes payable		$	6,717			$	2,800			$	3,917			$	—			$	—
Operating leases			4,062				743				1,561				1,571				187
Purchase obligations(1)			43,279				30,380				4,756				2,442				5,700
Total		$	54,058			$	33,923			$	10,235			$	4,013			$	5,887

Summary of Critical Accounting Policies and Estimates

     Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States, or GAAP. The preparation of these consolidated financial statements requires us to make significant estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. These items are regularly monitored and analyzed by management for changes in facts and circumstances, and material changes in these estimates could occur in the future. Changes in estimates are recorded in the period in which they become known. We base our estimates on historical experience and various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ substantially from our estimates.

     A summary of those accounting policies and estimates that we believe are most critical to fully understanding and evaluating our financial results is set forth below. This summary should be read in conjunction with our consolidated financial statements and the related notes included in our 2006 Annual Report on Form 10-K.

Revenue Recognition

     We recognize revenues from product sales and services when earned in accordance with Staff Accounting Bulletin, or SAB, No. 104, Revenue Recognition, and Emerging Issues Task Force, or EITF 00-21, Revenue Arrangements with Multiple Deliverables. Revenues are recognized when: (a) there is persuasive evidence of an arrangement, (b) the product has been shipped or services and supplies have been provided to the customer, (c) the sales price is fixed or determinable and (d) collection is reasonably assured.

Chronic Care Market

     Prior to 2007, we derived revenue in the chronic care market from short-term rental arrangements with our customers as our principal business model in the chronic care market. These rental arrangements, which combine the use of the System One with a specified number of disposable products supplied to customers for a fixed amount per month, are recognized on a monthly basis in accordance with agreed upon contract terms and pursuant to a binding customer purchase order and fixed payment terms. Rental arrangements continue to represent the majority of the arrangements we have with our customers in the chronic care market.

     Beginning in 2007, we entered into long-term customer contracts to sell System One and PureFlow SL equipment along with the right to purchase disposable products and service on a monthly basis. Some of these agreements include other terms such as development efforts, training, market collaborations, limited market exclusivity, and volume discounts. The equipment and related items provided to our customers in these arrangements are considered a multiple-element sales arrangement pursuant to EITF 00-21. When a sales arrangement involves multiple elements, the deliverables included in the arrangement are evaluated to determine whether they represent separate units of accounting. We have determined that we cannot account for the sale of equipment as a separate unit of accounting. Therefore, fees received upon the completion of delivery of equipment are deferred, and recognized as revenue on a straight line basis over the expected term of our obligation to supply

disposables and service, which is five to seven years. We have deferred both the unrecognized revenue and direct costs relating to the delivered equipment, which costs are being amortized over the same period as the related revenue.

     We entered into a national service provider agreement and a stock purchase agreement with DaVita on February 7, 2007. Pursuant to EITF 00-21, we consider these agreements a single arrangement. In connection with the stock purchase agreement, DaVita purchased 2,000,000 shares of our common stock for $10.00 per share, which represented a premium of $1.50 per share, or $3.0 million over the current market price. We have recorded the $3.0 million premium as deferred revenue and will recognize this revenue ratably over seven years, consistent with our equipment service obligation to DaVita. During the three months ended March 31, 2007, we recognized revenue of $71,428 associated with the $3.0 million premium.

Critical Care Market

     In the critical care market, sales are structured as direct product sales or as a disposables-based program in which a customer acquires the equipment through the purchase of a specific quantity of disposables over a specific period of time. We recognize revenues from direct product sales at the later of the time of shipment or, if applicable, delivery in accordance with contract terms. Under a disposables-based program, the customer is granted the right to use the equipment for a period of time, during which the customer commits to purchase a minimum number of disposable cartridges or fluids at a price that includes a premium above the otherwise average selling price of the cartridges or fluids to recover the cost of the equipment and provide for a profit. Upon reaching the contractual minimum purchases, ownership of the equipment transfers to the customer. Revenues under these arrangements are recognized over the term of the arrangement as disposables are delivered. During the reported periods, the majority of our critical care revenues were derived from direct product sales.

     Our contracts provide for training, technical support and warranty services to our customers. We recognize training and technical support revenue when the related services are performed. In the case of extended warranty, the revenue is recognized ratably over the warranty period.

Inventory Valuation

     Inventories are valued at the lower of cost (weighted-average) or estimated market. We regularly review our inventory quantities on hand and related cost and record a provision for excess or obsolete inventory primarily based on an estimated forecast of product demand for each of our existing product configurations. We also review our inventory value to determine if it reflects lower of cost or market, with market determined based on net realizable value. Appropriate consideration is given to inventory items sold at negative gross margins, purchase commitments and other factors in evaluating net realizable value. The medical device industry is characterized by rapid development and technological advances that could result in obsolescence of inventory. Additionally, our estimates of future product demand may prove to be inaccurate.

Field Equipment

     We capitalize field equipment at cost and amortize field equipment through cost of revenues using the straight-line method over an estimated useful life of five years. We review the estimated useful life of five years periodically for reasonableness. Factors considered in determining the reasonableness of the useful life include industry practice and the typical amortization periods used for like equipment, the frequency and scope of service returns, actual equipment disposal rates and the impact of planned design improvements. We believe the five-year useful life to be reasonable at March 31, 2007.

Accounting for Stock-Based Awards

     Until December 31, 2005, we accounted for stock-based employee compensation awards in accordance with Accounting Principles Board, or APB, Opinion No. 25, “Accounting for Stock Issued to Employees”, and related interpretations. Accordingly, compensation expense was recorded for stock options awarded to employees and directors to the extent that the option exercise price was less than the fair market value of our common stock on the date of grant, where the number of shares and exercise price were fixed. The difference between the fair value of our

common stock and the exercise price of the stock option, if any, was recorded as deferred compensation and was amortized to compensation expense over the vesting period of the underlying stock option. Prior to becoming a public company on October 27, 2005, there had been no public market for our common stock. Absent an objective measure of the fair value of our common stock, the determination of fair value required judgment. Our board of directors periodically estimated the fair value of our common stock in connection with any stock option grants. The fair value of our common stock was estimated based on factors such as independent valuations, sales of preferred stock, the liquidation preference, dividends, voting rights of the various classes of stock, our financial and operating performance, progress on development goals, the issuance of patents, the value of other companies involved in dialysis, general economic and market conditions and other factors that we believed would reasonably have a significant bearing on the value of our common stock.

     Prior to January 1, 2006, we followed the disclosure requirements of Statement of Financial Accounting Standard, or SFAS No. 123, “Accounting for Stock-Based Compensation” for stock-based awards granted to employees. All stock-based awards granted to non-employees were accounted for at their fair value in accordance with SFAS No. 123 and related interpretations. For purposes of the pro forma disclosures required by SFAS No. 123, stock options granted subsequent to July 19, 2005, the date of filing our initial registration statement with the SEC, were valued using the Black-Scholes option-pricing model. Prior to July 19, 2005, we used the minimum value method permitted under SFAS No. 123.

     We adopted SFAS No. 123R, “Share-Based Payment”, on January 1, 2006. SFAS 123R requires all share-based payments to employees, including grants of employee stock options, to be recognized in the statement of operations based on their fair values. In addition, SFAS 123R requires the use of the prospective method for any outstanding stock options that were previously valued using the minimum value method. Accordingly, with the adoption of SFAS 123R, we did not recognize the remaining compensation cost for any stock option awards which had previously been valued using the minimum value method. In addition, SFAS 123R prohibits the use of pro forma disclosures for stock option awards valued under the minimum value method (i.e., our pre-July 19, 2005 stock option awards). Stock option awards granted prior to July 19, 2005, the date on which we filed our preliminary prospectus with the SEC, that are subsequently modified, repurchased or cancelled after January 1, 2006 shall be subject to the provisions of SFAS 123R.

     We used the modified prospective method under SFAS 123R for any stock options granted after July 19, 2005. The aggregate value of the unvested portion of stock options issued between July 19, 2005 and December 31, 2005 totaled $4.4 million as of December 31, 2005, net of estimated forfeitures. Beginning in 2006, we began recognizing this aggregate value as compensation expense in our consolidated statement of operations ratably over the remaining vesting period.

     As a result of adopting SFAS 123R on January 1, 2006, our net loss for the three months ended March 31, 2007 and 2006 was $609,823 and $443,350 higher, respectively, than if we had continued to account for share-based compensation under APB No. 25. Basic and diluted loss per share for the three months ended March 31, 2007 and 2006 was $0.02 and $0.02 higher, respectively, than if we had continued to account for share-based compensation under APB No. 25. Management continues to evaluate the use of stock-based awards and may consider other forms of equity-based compensation arrangements (such as restricted stock units) or reduce the volume of stock option grants in the future.

     Pursuant to SFAS 123R, we reclassified $259,910 of deferred compensation relating to non-qualified stock options awarded to an executive and a consultant to additional paid-in capital on January 1, 2006.

     Prospectively, we use the Black-Scholes option-pricing model to estimate the fair value of stock-based compensation awards on the dates of grant. In accordance with SAB 107, based upon our stage of development and the short period of time that our common stock has been publicly traded on the NASDAQ Global Market, we have used the following assumptions in the Black-Scholes option-pricing model to estimate the fair value of equity-based compensation awards:

Expected Term – the expected term has been determined using the simplified method, as defined in SAB 107, for estimating expected option life of “plain-vanilla” options. Unless otherwise determined by the Board or the Compensation Committee, stock options granted under the 2005 Stock Incentive Plan have a contractual term of

seven years, resulting in an expected term of 4.75 years calculated under the simplified method.

Risk-Free Interest Rate – the risk-free interest rate for each grant is equal to the U.S. Treasury rate in effect at the time of grant for instruments with an expected life similar to the expected option term.

Volatility – the objective in estimating expected volatility is to ascertain the assumption about expected volatility that marketplace participants would likely use in determining an exchange price for an option. Because we have no options that are traded publicly and because of our limited trading history as a public company, our volatility assumption has been based upon an analysis of the stock volatility experienced by similar companies in the medical device and technology industries, consistent with the methodology used in 2005. For the year ended December 31, 2006, we used a volatility rate assumption of 85% for stock option grants. During the three months ended March 31, 2007, we updated our stock volatility analysis, which yielded a volatility rate of 75%. For the three months ended March 31, 2007, we used a volatility rate assumption of 75% for stock option grants. Our common stock will reach its two-year trading anniversary during the fourth quarter of 2007. With two years of historical trading activity, we expect to have sufficient trading activity of our common stock on which to base our assumption about expected volatility.

     We also estimated expected forfeitures of stock options upon adoption of SFAS 123R. In developing a forfeiture rate estimate, we considered our historical experience, our growing employee base and the limited trading history of our common stock. Actual forfeiture activity may differ from our estimated forfeiture rate.

Accounting for Income Taxes

     We account for federal and state income taxes in accordance with SFAS No. 109, “Accounting for Income Taxes.” Under the liability method specified by SFAS No. 109, a deferred tax asset or liability is determined based on the difference between the financial statement and tax basis of assets and liabilities, as measured by the enacted tax rates. Due to uncertainty surrounding the realization of deferred tax assets through future taxable income, we have provided a full valuation allowance and no benefit has been recognized for the net operating loss and other deferred tax assets. Accordingly, a valuation allowance for the full amount of the deferred tax asset has been established at March 31, 2007 and December 31, 2006 to reflect these uncertainties.

     In June 2006, the Financial Accounting Standards Board, or FASB, issued FASB Interpretation No. 48, or FIN, “Accounting for Uncertainty in Income Taxes”, which clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements in accordance with SFAS 109. FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. In addition, FIN 48 provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. We adopted FIN 48 on January 1, 2007. The adoption of FIN 48 did not have a material impact on the Company’s financial position or results of operations. Upon adoption and as of March 31, 2007, we had no unrecognized tax benefits recorded.

     We file federal, state and foreign tax returns. We have accumulated significant losses since our inception in 1998. Since the net operating losses may potentially be utilized in future years to reduce taxable income, all of our tax years remain open to examination by the major taxing jurisdictions to which we are subject.

     We recognize interest and penalties for uncertain tax positions in income tax expense. Upon adoption and as of March 31, 2007, we had no interest and penalty accrual or expense.

Related-Party Transactions

Medisystems Corporation

     Medisystems Corporation is our supplier of completed cartridges, tubing and certain other components used in the System One disposable cartridge. The chief executive officer and sole stockholder of Medisystems is a member of our board of directors and owns approximately 6.7% of our outstanding common stock at March 31, 2007. We

purchased approximately $2.1 million and $759,000 during the three months ended March 31, 2007 and 2006, respectively, of goods and services from this related party. At March 31, 2007, amounts owed to Medisystems totaled $658,000 and we have commitments to purchase approximately $2.7 million of products from Medisystems.

     On January 4, 2007, we entered into a seven-year Supply Agreement, which we refer to as the Medisystems Supply Agreement, with Medisystems that expires on December 31, 2013. Prior to entering into the Medisystems Supply Agreement, we purchased products from Medisystems through purchase orders. Pursuant to the terms of the Medisystems Supply Agreement, we will purchase no less than ninety percent (90%) of our North American requirements for disposal cartridges, or Medisystems products, for use with our System One from Medisystems.

DaVita Inc.

     On February 7, 2007, we entered into a national service provider agreement with DaVita Inc. (“DaVita”), our largest customer. Pursuant to the terms of the DaVita agreement, we granted DaVita certain market rights for the System One and related supplies for home hemodialysis therapy. DaVita is granted exclusive rights in a small percentage of geographies, which geographies collectively represent less than ten percent (10%) of the U.S. ESRD patient population, and limited exclusivity in the majority of all other U.S. geographies, subject to DaVita’s meeting certain requirements, including patient volume commitments and new patient training rates. Under the agreement, we can continue to sell to other clinics in the majority of geographies. If certain minimum patient numbers or training rates are not achieved, DaVita can lose all or part of its preferred geographic rights. The DaVita agreement limits, but does not prohibit, our sale of the System One for chronic patient home hemodialysis therapy to any provider that is under common control or management of a parent entity that collectively provides dialysis services to more than 25% of U.S. chronic dialysis patients and that also supplies dialysis products.

     The DaVita agreement has an initial term of three years, terminating on December 31, 2009, and DaVita has the option of renewing the DaVita agreement for four additional periods of six months each if DaVita meets certain patient volume targets.

     Under the DaVita agreement, DaVita purchased all of its existing System One equipment currently being rented from us (for a purchase price of approximately $5.0 million) and committed to buy a significant percentage of our future System One equipment needs. DaVita is granted most favored nations pricing for the products purchased under the Agreement provided that DaVita achieves certain requirements, including certain patient volume targets. Further, the Agreement contemplates certain collaborations between the parties, including efforts dedicated towards advancing market awareness of our therapies and home and more frequent hemodialysis.

     In connection with the DaVita agreement, we issued and sold to DaVita 2,000,000 shares of our common stock, $0.001 par value per share, at a purchase price of $10.00 per share, for an aggregate purchase price of $20.0 million pursuant to the terms of the stock purchase agreement dated as of February 7, 2007 by and between us and DaVita. The Shares represent approximately seven percent (7%) of our issued and outstanding shares of common stock as of March 31, 2007. As discussed in Note 1 to our financial statements, this ownership percentage qualifies DaVita as an affiliate for financial statement presentation purposes.

     In connection with the issuance of the shares, we and DaVita entered into a registration rights agreement. Pursuant to the registration rights agreement, on April 2, 2007, we filed a registration statement on Form S-3 with respect to the resale by DaVita of the Shares, which was declared effective by the SEC on May 8, 2007. In addition, we shall use commercially reasonable efforts to keep the Registration Statement continuously effective until the date which is the earliest of (i) two years after the Registration Statement is declared effective by the SEC, (ii) such time as all the securities covered by the Registration Statement have been publicly sold or (iii) such time as all securities may be sold pursuant to Rule 144(k) without volume restrictions. If we are unable to meet the above registration requirements, we must (a) transfer cash consideration to DaVita equal to one percent (1.0%) of the aggregate purchase price paid for the shares (i.e., $200,000) and (b) make a monthly pro rata cash payment equal to 1.0% of the aggregate purchase price until cured. The registration rights agreement provides for no limitation to the maximum potential consideration that may be paid by us. We believe the likelihood is remote that we will owe an obligation resulting from the registration rights agreement.

     Consistent with the requirements of our Audit Committee Charter, this transaction was reviewed and approved by our Audit Committee, which is comprised solely of independent directors, as well as our Board.

Off-Balance Sheet Arrangements

     Since inception we have not engaged in any off-balance sheet financing activities except for leases which are properly classified as operating leases and disclosed in the “Liquidity and Capital Resources” section above.

Recent Accounting Pronouncements

     In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements”, which addresses the measurement of “fair value” where such measure is required for recognition or disclosure purposes under GAAP. Among other provisions, SFAS No. 157 includes (i) a new definition of fair value, (ii) a fair value hierarchy used to classify the source of information used in fair value measurements, (iii) new disclosure requirements of assets and liabilities measured at fair value based on their level in the hierarchy, and (iv) a modification of the accounting presumption that the transaction price of an asset or liability equals its initial fair value. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007 (i.e., beginning in 2008 for NxStage). We are currently evaluating the impact of SFAS No. 157 on our consolidated financial statements.

     In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities — Including an amendment of FASB Statement No. 115,” which permits entities to choose to measure many financial instruments and certain other items at fair value. SFAS No. 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007. We are currently evaluating if we will elect the fair value option for any of our eligible financial instruments and other items.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

     During the three months ended March 31, 2007, there were no material changes in our market risk exposure. For quantitative and qualitative disclosures about market risk affecting NxStage, see Item 7A, “Quantitative and Qualitative Disclosures About Market Risk,” of our Annual Report on Form 10-K for the fiscal year ended December 31, 2006, which is incorporated herein by reference.

Item 4. Controls and Procedures

     Our management, with the participation of our chief executive officer and chief financial officer, evaluated the effectiveness of our disclosure controls and procedures as of March 31, 2007. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of NxStage’s disclosure controls and procedures as of March 31, 2007, our chief executive officer and chief financial officer concluded that, as of such date, NxStage’s disclosure controls and procedures were effective at the reasonable assurance level.

     No change in NxStage’s internal control over financial reporting occurred during the fiscal quarter ended March 31, 2007 that has materially affected, or is reasonably likely to materially affect, NxStage’s internal control over financial reporting.

PART II – OTHER INFORMATION

Item 1A. Risk Factors

     In addition to the factors discussed in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in this report, the following are some of the important risk factors that could cause our actual results to differ materially from those projected in any forward-looking statements.

Risks Related to our Business

We expect to derive substantially all of our future revenues from the rental or sale of our System One and the sale of our related disposable products used with the System One.

     Since our inception, we have devoted substantially all of our efforts to the development of the System One and the related products used with the System One. We commenced marketing the System One and the related disposable products to the critical care market in February 2003. We commenced marketing the System One for chronic hemodialysis treatment in September 2004. We expect that the rental or sale of the System One and the sale of related products will account for substantially all of our revenues for the foreseeable future. Most of our related products cannot be used with any other dialysis systems and, therefore, we will derive little or no revenues from related products unless we sell or otherwise place the System One. To the extent that the System One is not a successful product or is withdrawn from the market for any reason, we do not have other products in development that could replace revenues from the System One.

We cannot accurately predict the size of the home hemodialysis market, and it may be smaller or slower to develop than we expect.

     Although home hemodialysis treatment options are available, adoption has been limited. The most widely adopted form of dialysis therapy used in a setting other than a dialysis clinic is peritoneal dialysis. Based on the most recently available data from the USRDS, the number of patients receiving peritoneal dialysis was approximately 26,000 in 2004, representing approximately 8% of all patients receiving dialysis treatment for ESRD in the United States. Very few ESRD patients receive hemodialysis treatment outside of the clinic setting; USRDS data indicates approximately 2,000 patients were receiving home-based hemodialysis in 2004. Because the adoption of home hemodialysis has been limited to date, the number of patients who desire to, and are capable of, administering their own hemodialysis treatment with a system such as the System One is unknown and there is limited data upon which to make estimates. Our long-term growth will depend on the number of patients who adopt home-based hemodialysis and how quickly they adopt it, and we do not know whether the number of home-based dialysis patients will be greater or fewer than the number of patients performing peritoneal dialysis. We received our home use clearance for the System One from the FDA in June 2005 and we will need to devote significant resources to developing the market. We cannot be certain that this market will develop, how quickly it will develop or how large it will be.

We will require significant capital to build our business, and financing may not be available to us on reasonable terms, if at all.

     We believe that the chronic care market is the largest market opportunity for our System One hemodialysis system. Historically, we have typically billed the dialysis clinic for the rental of the equipment and the sale of the related disposable cartridges and treatment fluids. In our recent DaVita agreement, DaVita agreed to purchase all of its System One equipment then being rented from us and to buy a significant percentage of its future System One equipment needs. It is not clear what percentage of our future chronic customers will purchase rather than rent System One equipment. However, it is possible that a significant percentage of our chronic customers will continue to rent rather than purchase System One equipment and that, as a result, we will generate a significant percentage of our revenues and cash flow from the use of the System One over time rather than upfront from the sale of the System One equipment. In this event, we will need significant amounts of working capital to manufacture System One equipment for rental to dialysis clinics.

     We only recently began marketing our System One to dialysis clinics for the treatment of ESRD, and we have not achieved widespread market acceptance of our product. We may not be able to generate sufficient cash flow to meet our capital needs. If our existing resources are insufficient to satisfy our liquidity requirements, we may need to sell additional equity or issue debt securities. Any sale of additional equity or issuance of debt securities may result in dilution to our stockholders, and we cannot be certain that additional public or private financing will be available in amounts or on terms acceptable to us, or at all. If we are unable to obtain this additional financing when needed, we may be required to delay, reduce the scope of, or eliminate one or more aspects of our business development activities, which could harm the growth of our business.

We have limited operating experience, a history of net losses and an accumulated deficit of $(135.6) million at March 31, 2007. We cannot guarantee if, when and the extent that we will become profitable, or that we will be able to maintain profitability if it is achieved.

     Since inception, we have incurred losses every quarter, and at March 31, 2007, we had an accumulated deficit of approximately $(135.6) million. We expect to increase operating expenses as we continue to grow our business. Additionally, in the chronic care market, the cost of manufacturing the System One and related disposables currently exceeds the market price. We cannot provide assurance that we will be able to lower the cost of manufacturing the System One and related disposables below the current chronic care market price, that we will achieve profitability, when we will become profitable, the sustainability of profitability should it occur, or the extent to which we will be profitable. Our ability to become profitable is dependent in part upon achieving a sufficient scale of operations, obtaining better purchasing terms and prices, achieving efficiencies in manufacturing overhead costs, implementing design and process improvements to lower our costs of manufacturing our products and improve reliability and achieving efficient distribution of our products.

     In March 2006, we received clearance from the FDA to market our PureFlow SL module as an alternative to the bagged fluid presently used with our System One in the chronic care market, and we commercially launched the PureFlow SL module in July 2006. This accessory to the System One allows for the preparation of high purity dialysate in the patient’s home using ordinary tap water and dialysate concentrate. The PureFlow SL is designed to help patients with ESRD more conveniently and effectively manage their home hemodialysis therapy by eliminating the need for bagged fluids. Since its launch, PureFlow SL penetration has reached approximately 47% of all of our chronic patients. The product is still early in its commercial launch and we continue to work to improve product reliability and user experience, based upon customer feedback. Any failure to further improve reliability and user experience, and thereby gain rapid market acceptance of the PureFlow SL module, including converting our installed base of patients currently using bagged fluid, could adversely affect our ability to achieve profitability.

We compete against other dialysis equipment manufacturers with much greater financial resources and better established products and customer relationships, which may make it difficult for us to penetrate the market and achieve significant sales of our products.

     Our System One competes directly against equipment produced by Fresenius Medical Care AG, Baxter Healthcare, Gambro AB, B. Braun and others, each of which markets one or more FDA-cleared medical devices for the treatment of acute or chronic kidney failure.

     To date, only one company has had a hemodialysis product specifically cleared for home use, Aksys Ltd., which recently announced the withdrawal of its product from the market. Products sold by our other competitors have also been used in the home, in particular Fresenius systems. Each of these competitors offers products that have been in use for a longer time than our System One and are more widely recognized by physicians, patients and providers. These competitors have significantly more financial and human resources, more established sales, service and customer support infrastructures and spend more on product development and marketing than we do. Many of our competitors also have established relationships with the providers of dialysis therapy and, Fresenius owns and operates a chain of dialysis clinics. Most of these companies manufacture additional complementary products enabling them to offer a bundle of products and have established sales forces and distribution channels that may afford them a significant competitive advantage. Finally, one of our competitors, Gambro AB, is subject to an import hold imposed by the FDA on its acute and chronic dialysis machines. It is not clear what the chronic and acute market impact will be when the import hold is lifted. We believe the overall impact of the import hold has been positive to us, however, we are not sure of the magnitude of the impact this import hold has had on revenues.

     The market for our products is competitive, subject to change and affected by new product introductions and other market activities of industry participants, including increased consolidation of ownership of clinics by large dialysis chains. If we are successful, our competitors are likely to develop products that offer features and functionality similar to our System One. Improvements in existing competitive products or the introduction of new competitive products may make it more difficult for us to compete for sales, particularly if those competitive products demonstrate better safety, convenience or effectiveness or are offered at lower prices than our System One. Our ability to successfully market the System One could also be adversely affected by pharmacological and technological advances in preventing the progression of ESRD and/or in the treatment of acute kidney failure or fluid overload. If we are unable to compete effectively against existing and future competitors and existing and future alternative treatments and pharmacological and technological advances, it will be difficult for us to penetrate the market and achieve significant sales of the System One.

Our success will depend on our ability to achieve market acceptance of our System One.

     The System One has limited product and brand recognition and has only been used at a limited number of dialysis clinics and hospitals. In the chronic care market, we will have to convince four distinct constituencies involved in the choice of dialysis therapy, namely operators of dialysis clinics, nephrologists, dialysis nurses and patients, that our system provides an effective alternative to other existing dialysis equipment. Each of these constituencies will use different considerations in reaching their decision. Lack of acceptance by any of these constituencies will make it difficult for us to grow our business. We may have difficulty gaining widespread or rapid acceptance of the System One for a number of reasons including:

	•		the failure by us to demonstrate to patients, operators of dialysis clinics, nephrologists, dialysis nurses and others that our product is equivalent or superior to existing therapy options or, that the cost or risk associated with use of our product is not greater than available alternatives;
	•		competition from products sold by companies with longer operating histories and greater financial resources, more recognizable brand names and better established distribution networks and relationships with dialysis clinics;
	•		the ownership and operation of some dialysis providers by companies that also manufacture and sell competitive dialysis products;
	•		the introduction of competing products or treatments that may be more effective, safer, easier to use or less expensive than ours;
	•		the number of patients willing and able to perform therapy independently, outside of a traditional dialysis clinic, may be smaller than we estimate; and
	•		the inability of customers to continue to obtain satisfactory reimbursement from healthcare payors, including Medicare.

Current Medicare reimbursement rates limit the price at which we can market the System One, and adverse changes to reimbursement could affect the adoption of the System One.

     Our ability to attain profitability will be driven in part by our ability to set or maintain adequate pricing for our System One. As a result of legislation passed by the U.S. Congress more than 30 years ago, Medicare provides comprehensive and well-established reimbursement in the United States for ESRD. With over 80% of U.S. ESRD patients covered by Medicare, the reimbursement rate is an important factor in a potential customer’s decision to use the System One and limits the fee for which we can rent the System One and sell the related disposable cartridges and treatment fluids. Current CMS rules limit the number of hemodialysis treatments paid for by Medicare to three times per week, unless there is medical justification for additional treatments. Most patients using the System One in the home treat themselves, with the help of a partner, up to six times per week. To the extent that Medicare contractors elect not to pay for the additional treatments, adoption of the System One may be slowed. Changes in Medicare reimbursement rates could negatively affect demand for our products and the prices we charge for them.

As we continue to commercialize the System One, we may have difficulty managing our growth and expanding our operations successfully.

     As the commercial launch of the System One continues, we will need to expand our regulatory, manufacturing, sales, marketing, distribution and on-going development capabilities or contract with other organizations to provide these capabilities for us. As our operations expand, we expect that we will need to manage additional relationships with various partners, suppliers, manufacturers and other organizations. Our ability to manage our operations and growth requires us to continue to improve our operational, quality systems, financial and management controls and reporting systems and procedures. Such growth could place a strain on our administrative and operational infrastructure. We may not be able to make improvements to our management information and control systems in an efficient or timely manner and may discover deficiencies in existing systems and controls.

If we are unable to improve on the product reliability performance typically experienced in the early stages of a product’s life cycle, our ability to grow our business and achieve profitability could be impaired.

     Our System One is still early in its product launch, and our PureFlow SL module was only introduced during the third quarter of 2006. As with all newly introduced medical devices, we continue to experience product reliability issues that are higher than we expect long-term, which lead us to incur increased service and distribution costs, as well as increase the size of our field equipment base. This, in turn, negatively impacts our gross margins and increases our working capital requirements. Additionally, product reliability issues can also lead to decreases in customer satisfaction and our ability to grow our revenues. We continue to work to improve product reliability, and have achieved significant improvements to date. If we are unable to continue to improve product reliability, our ability to achieve our growth objectives as well as profitability could be impaired.

We have a significant amount of field equipment, and our ability to effectively manage this asset could negatively impact our working capital requirements and future profitability.

     Because the majority of our chronic care business continues to rely upon an equipment rental model, our ability to manage System One equipment is important to minimizing our working capital requirements. In addition, our gross margins may be negatively impacted if we have excess equipment deployed, and unused, in the field. If we are unable to successfully track, service and redeploy equipment, we could (1) incur increased costs, (2) realize increased cash requirements and/or (3) have material write-offs of equipment.

Our agreement with DaVita confers certain geographic market rights to DaVita and limits our ability to sell the System One to Fresenius, both of which may present a barrier to adoption of the System One.

     Fresenius and DaVita own and operate the two largest chains of dialysis clinics in the United States. Fresenius controls approximately 33% of the U.S. dialysis clinics and is the largest worldwide manufacturer of dialysis systems. DaVita controls approximately 27% of the U.S. dialysis clinics, and has entered into a preferred supplier agreement with Gambro pursuant to which Gambro will provide a significant majority of DaVita’s dialysis equipment and supplies for a period of at least 10 years. Each of Fresenius and DaVita may choose to offer their dialysis patients only the dialysis equipment manufactured by them or their affiliates, to offer the equipment they contractually agreed to offer or to otherwise limit access to the equipment manufactured by competitors.

     Our recent agreement with DaVita confers certain market rights for the System One and related supplies for home hemodialysis therapy. DaVita is granted exclusive rights in a small percentage of geographies, which geographies collectively represent less than 10% of the U.S. ESRD patient population, and limited exclusivity in the majority of all other U.S. geographies, subject to DaVita’s meeting certain requirements, including patient volume commitments and new patient training rates. Under the agreement, we can continue to sell to other clinics in the majority of geographies. If certain minimum patient numbers or training rates are not achieved, DaVita can lose all or part of its preferred geographic rights. The agreement further limits, but does not prohibit, the sale by NxStage of the System One for chronic home patient hemodialysis therapy to any provider that is under common control or management of a parent entity that collectively provides dialysis services to more than 25% of U.S. chronic dialysis patients and that also supplies dialysis products. Therefore, our ability to sell the System One for chronic home patient hemodialysis therapy to Fresenius is presently limited.

     It is not yet clear what impact this agreement may have on the market acceptance for our product. It is also not yet clear to what extent DaVita will purchase the System One from us. For the three months ended March 31, 2007, sales to DaVita represented 23% of our total revenues. Although we expect that DaVita will continue to be a significant customer of ours, the agreement imposes no purchase obligations upon DaVita and we cannot be certain whether DaVita will continue to purchase and/or rent the System One from us in the future. We believe that any future decision by DaVita to stop or limit the use of the System One would adversely affect our business, at least in the near term.

If kidney transplantation becomes a viable treatment option for more patients, the market for our System One may be limited.

     While kidney transplantation is the treatment of choice for most ESRD patients, it is not currently a viable treatment for most patients due to the limited number of donor kidneys, the high incidence of kidney transplant rejection and the higher surgical risk associated with older ESRD patients. According to the most recent USRDS data, in 2004 approximately 17,000 patients received kidney transplants in the United States. The development of new medications designed to reduce the incidence of kidney transplant rejection, progress in using kidneys harvested from genetically engineered animals as a source of transplants or any other advances in kidney transplantation could limit the market for our System One.

If we are unable to convince hospitals and healthcare providers of the benefits of our products for the treatment of acute kidney failure and fluid overload, we may not be successful in penetrating the critical care market.

     We sell the System One for use in the treatment of acute kidney failure and fluid overload. Physicians currently treat most acute kidney failure patients using conventional hemodialysis systems or dialysis systems designed specifically for use in the ICU. We will need to convince hospitals and healthcare providers that using the System One is as effective as using conventional hemodialysis systems or ICU specific dialysis systems for treating acute kidney failure and that it provides advantages over conventional systems or other ICU specific systems because of its significantly smaller size and ease of operation.

We are subject to the risk of costly and damaging product liability claims and may not be able to maintain sufficient product liability insurance to cover claims against us.

     If our System One is found to have caused or contributed to injuries or deaths, we could be held liable for substantial damages. Claims of this nature may also adversely affect our reputation, which could damage our position in the market. As is the case with a number of other medical device companies, it is likely that product liability claims will be brought against us. Since their introduction into the market, our products have been subject to two voluntary recalls and one voluntary product withdrawal. Our first voluntary recall occurred in February 2001 in Canada and related to a software glitch that we detected in our predecessor system, which could have increased the likelihood of a clotted filter during treatment. There were no patient injuries associated with this recall, and the software glitch was remedied with a subsequent software release. The second voluntary recall occurred in April 2004 in the United States relating to pinhole-sized dialysate leaks in our cartridge. The leaks were readily observable and required a cartridge replacement to continue treatment. There were no patient injuries associated with this recall. We subsequently switched suppliers and instituted additional testing requirements to minimize the chance for leaks in our cartridges. The voluntary market withdrawal occurred in the United States in May 2002 when we suspended sales of our predecessor system while we addressed issues involving limited instances of contaminated hemofiltration fluids compounded by a pharmacy and supplied by a third party. Six patients exposed to contaminated fluids reported fevers and/or chills, with no lasting clinical effect. We subsequently modified our cartridge to allow for an additional filter to remove contaminants from fluids used with our product. Our products may be subject to further recalls or withdrawals, which could increase the likelihood of product liability claims. We have also received several reports of operator error from both patients in the home hemodialysis setting and nurses in the critical care setting. We have sought to address many potential sources of operator error with product design changes to simplify the operator process. In addition, we made improvements in our training materials and product labeling. However, instances of operator error cannot be eliminated and could also increase the likelihood of product liability claims.

     Although we maintain insurance, including product liability insurance, we cannot provide assurance that any claim that may be brought against us will not result in court judgments or settlements in amounts that are in excess of the limits of our insurance coverage. Our insurance policies also have various exclusions, and we may be subject to a product liability claim for which we have no coverage. We will have to pay any amounts awarded by a court or negotiated in a settlement that exceed our coverage limitations or that are not covered by our insurance.

     Any product liability claim brought against us, with or without merit, could result in the increase of our product liability insurance rates or the inability to secure additional insurance coverage in the future. A product liability claim, whether meritorious or not, could be time consuming, distracting and expensive to defend and could result in a diversion of management and financial resources away from our primary business, in which case our business may suffer.

We maintain insurance at levels deemed adequate by management, however, future claims could exceed our applicable insurance coverage.

     We maintain insurance for property and general liability, directors’ and officers’ liability, workers compensation, and other coverage in amounts and on terms deemed adequate by management based on our expectations for future claims. Future claims could, however, exceed our applicable insurance coverage, or our coverage could not cover the applicable claims.

We have had limited sales, marketing, customer service and distribution experience. We need to expand our sales and marketing, customer service and distribution infrastructures to be successful in penetrating the dialysis market.

     We currently market and sell the System One through our own sales force, and we have had limited experience in sales, marketing and distribution of dialysis products. As of March 31, 2007, we had 90 employees in our sales, marketing and distribution organization, including 29 direct sales representatives. We plan to expand our sales, marketing, customer service and distribution infrastructures as we continue to grow. We cannot provide assurance that we will be able to retain or attract experienced personnel and build an adequate sales and marketing, customer service and distribution staff or that the cost will not be prohibitive.

We face risks associated with having international manufacturing operations, and if we are unable to manage these risks effectively, our business could suffer.

     In addition to our operations in Lawrence, Massachusetts, we operate a filter manufacturing facility in Rosdorf, Germany, we purchase components and supplies from foreign vendors and we are establishing manufacturing operations in Fresnillo, Mexico. We are subject to a number of risks and challenges that specifically relate to these international operations, and we may not be successful if we are unable to meet and overcome these challenges. These risks include fluctuations in foreign currency exchange rates that may increase the U.S. dollar cost of the disposables we purchase from foreign third-party suppliers, costs associated with sourcing and shipping goods internationally, difficulty managing operations in multiple locations and local regulations that may restrict or impair our ability to conduct our operations.

Risks Related to the Regulatory Environment

We are subject to significant regulation, primarily by the FDA. We cannot market or commercially distribute our products without obtaining and maintaining necessary regulatory clearances or approvals.

     Our System One and related products, including the disposables required for its use, are all medical devices subject to extensive regulation in the United States, and in foreign markets we may wish to enter. To market a medical device in the United States, approval or clearance by the FDA is required, either through the pre-market approval process or the 510(k) clearance process, unless the device is exempt. We have obtained the FDA clearances necessary to sell our current products under the 510(k) clearance process. Medical devices may only be promoted and sold for the indications for which they are approved or cleared. In addition, even if the FDA has approved or cleared a product, it can take action affecting such product approvals or clearances if serious safety or other problems develop in the marketplace. We may be required to obtain 510(k) clearances or pre-market approvals for

additional products, product modifications or for new indications for the System One. We cannot provide assurance that such clearances or approvals would be forthcoming, or, if forthcoming, what the timing and expense of obtaining such clearances or approvals might be. Delays in obtaining clearances or approvals could adversely affect our ability to introduce new products or modifications to our existing products in a timely manner, which would delay or prevent commercial sales of our products.

Modifications to our marketed devices may require new regulatory clearances or pre-market approvals, or may require us to cease marketing or recall the modified devices until clearances or approvals are obtained.

     Any modifications to a 510(k) cleared device that could significantly affect its safety or effectiveness, or would constitute a major change in its intended use, requires the submission of another 510(k) pre-market notification to address the change. Although in the first instance we may determine that a change does not rise to a level of significance that would require us to make a pre-market notification submission, the FDA may disagree with us and can require us to submit a 510(k) for a significant change in the labeling, technology, performance specifications or materials or major change or modification in intended use, despite a documented rationale for not submitting a pre-market notification. We have modified various aspects of the System One and have filed and received clearance from the FDA with respect to some of the changes in the design of our products. If the FDA requires us to submit a 510(k) for any modification to a previously cleared device, or in the future a device that has received 510(k) clearance, we may be required to cease marketing the device, recall it, and not resume marketing until we obtain clearance from the FDA for the modified version of the device. Also, we may be subject to regulatory fines, penalties and/or other sanctions authorized by the Federal Food, Drug, and Cosmetic Act. In the future, we intend to introduce new products and enhancements and improvements to existing products. We cannot provide assurance that the FDA will clear any new product or product changes for marketing or what the timing of such clearances might be. In addition, new products or significantly modified marketed products could be found to be not substantially equivalent and classified as products requiring the FDA’s approval of a pre-market approval application, or PMA, before commercial distribution would be permissible. PMAs usually require substantially more data than 510(k) submissions and their review and approval or denial typically takes significantly longer than a 510(k) decision of substantial equivalence. Also, PMA products require approval supplements for any change that affects safety and effectiveness before the modified device may be marketed. Delays in our receipt of regulatory clearance or approval will cause delays in our ability to sell our products, which will have a negative effect on our revenues growth.

Even if we obtain the necessary FDA clearances or approvals, if we, our suppliers or our providers of operations services fail to comply with ongoing regulatory requirements, our products could be subject to restrictions or withdrawal from the market.

     We are subject to the Medical Device Reporting, or MDR, regulations that require us to report to the FDA if our products may have caused or contributed to patient death or serious injury, or if our device malfunctions and a recurrence of the malfunction would likely result in a death or serious injury. We must also file reports of device corrections and removals and adhere to the FDA’s rules on labeling and promotion. Our failure to comply with these or other applicable regulatory requirements could result in enforcement action by the FDA, which may include any of the following:

	•		untitled letters, warning letters, fines, injunctions and civil penalties;
	•		administrative detention, which is the detention by the FDA of medical devices believed to be adulterated or misbranded;
	•		customer notification, or orders for repair, replacement or refund;
	•		voluntary or mandatory recall or seizure of our products;
	•		operating restrictions, partial suspension or total shutdown of production;
	•		refusal to review pre-market notification or pre-market approval submissions;
	•		rescission of a substantial equivalence order or suspension or withdrawal of a pre-market approval; and
	•		criminal prosecution.

Our products are subject to market withdrawals or product recalls after receiving FDA clearance or approval, and market withdrawals and product recalls could cause the price of our stock to decline and expose us to product liability or other claims or could otherwise harm our reputation and financial results.

     Complex medical devices, such as the System One, can experience performance problems in the field that require review and possible corrective action by us or the product manufacturer. We cannot provide assurance that component failures, manufacturing errors, design defects and/or labeling inadequacies, which could result in an unsafe condition or injury to the operator or the patient will not occur. These could lead to a government mandated or voluntary recall by us. The FDA has the authority to require the recall of our products in the event a product presents a reasonable probability that it would cause serious adverse health consequences or death. Similar regulatory agencies in other countries have similar authority to recall devices because of material deficiencies or defects in design or manufacture that could endanger health. We believe that the FDA would request that we initiate a voluntary recall if a product was defective or presented a risk of injury or gross deception. Any recall would divert management attention and financial resources, could cause the price of our stock to decline and expose us to product liability or other claims, including contractual claims from parties to whom we sold products, and harm our reputation with customers. A recall involving the System One could be particularly harmful to our business and financial results, because the System One is our only product.

If we or our contract manufacturers fail to comply with FDA’s Quality System regulations, our manufacturing operations could be interrupted, and our product sales and operating results could suffer.

     Our finished goods manufacturing processes, and those of some of our contract manufacturers, are required to comply with the FDA’s Quality System regulations, or QSRs, which cover the procedures and documentation of the design, testing, production, control, quality assurance, labeling, packaging, sterilization, storage and shipping of our devices. The FDA enforces its QSRs through periodic unannounced inspections of manufacturing facilities. We and our contract manufacturers have been, and anticipate in the future being, subject to such inspections. Our U.S. manufacturing facility has previously had three FDA QSR inspections. The first resulted in one observation, which was rectified during the inspection and required no further response from us. Our last two inspections, including our most recent inspection in March 2006, resulted in no observations. We cannot provide assurance that any future inspections would have the same result. If one of our manufacturing facilities or those of any of our contract manufacturers fails to take satisfactory corrective action in response to an adverse QSR inspection, the FDA could take enforcement action, including issuing a public warning letter, shutting down our manufacturing operations, embargoing the import of components from outside the United States, recalling our products, refusing to approve new marketing applications, instituting legal proceedings to detain or seize products or imposing civil or criminal penalties or other sanctions, any of which could cause our business and operating results to suffer.

Changes in reimbursement for treatment for ESRD could affect the adoption of our System One and the level of our future product revenues.

     In the United States, all patients who suffer from ESRD, regardless of age, are eligible for coverage under Medicare, after a requisite coordination period if other insurance is available. As a result, more than 80% of patients with ESRD are covered by Medicare. Although we rent and sell our products to hospitals, dialysis centers and other healthcare providers and not directly to patients, the reimbursement rate for ESRD treatments is an important factor in a potential customer’s decision to purchase the System One. The dialysis centers that purchase our product rely on adequate third-party payor coverage and reimbursement to maintain their ESRD facilities. The CMS provides the composite rate for dialysis services, which is subject to regional variation and varies depending upon whether the facility is hospital-based or an independent clinic. The composite rate is intended to cover most items and services related to the treatment of ESRD, but does not include payment for physician services or separately billable laboratory services or drugs. Changes in Medicare reimbursement rates could negatively affect demand for our products and the prices we charge for them.

     Most ESRD patients who use our product for dialysis therapy in the home treat themselves six times per week. CMS rules, however, limit the number of hemodialysis treatments paid for by Medicare to three a week, unless there is medical justification for the additional treatments. The determination of medical justification must be made at the local Medicare contractor level on a case-by-case basis. If daily therapy is prescribed, a clinic’s decision as to how

much it is willing to spend on dialysis equipment and services will be at least partly dependent on whether Medicare will reimburse more than three treatments per week for the clinic’s patients.

     Unlike Medicare reimbursement for ESRD, Medicare only reimburses healthcare providers for acute kidney failure and fluid overload treatment if the patient is otherwise eligible for Medicare, based on age or disability. Medicare and many other third-party payors and private insurers reimburse these treatments provided to hospital inpatients under a traditional DRG system. Under this system, reimbursement is determined based on a patient’s primary diagnosis and is intended to cover all costs of treating the patient. The presence of acute kidney failure or fluid overload increases the severity of the primary diagnosis and, accordingly, may increase the amount reimbursed. For care of these patients to be cost-effective, hospitals must manage the longer hospitalization stays and significantly more nursing time typically necessary for patients with acute kidney failure and fluid overload. If we are unable to convince hospitals that our System One provides a cost-effective treatment alternative under this diagnosis related group reimbursement system, they may not purchase our product. In addition, changes in Medicare reimbursement rates for hospitals could negatively affect demand for our products and the prices we charge for them.

Legislative or regulatory reform of the healthcare system may affect our ability to sell our products profitably.

     In both the United States and foreign countries, there have been legislative and regulatory proposals to change the healthcare system in ways that could affect our ability to sell our products profitably. The federal government and some states have enacted healthcare reform legislation, and further federal and state proposals are likely. We cannot predict the exact form this legislation may take, the probability of passage, or the ultimate effect on us. Our business could be adversely affected by future healthcare reforms or changes in Medicare.

Failure to obtain regulatory approval in foreign jurisdictions would prevent us from marketing our products outside the United States.

     Although we have not initiated any marketing efforts in jurisdictions outside of the United States and Canada, we intend in the future to market our products in other markets. In order to market our products in the European Union or other foreign jurisdictions, we must obtain separate regulatory approvals and comply with numerous and varying regulatory requirements. The approval procedure varies from country to country and can involve additional testing. The time required to obtain approval abroad may be longer than the time required to obtain FDA clearance. The foreign regulatory approval process includes many of the risks associated with obtaining FDA clearance and we may not obtain foreign regulatory approvals on a timely basis, if at all. FDA clearance does not ensure approval by regulatory authorities in other countries, and approval by one foreign regulatory authority does not ensure approval by regulatory authorities in other foreign countries. We may not be able to file for regulatory approvals and may not receive necessary approvals to commercialize our products in any market outside the United States, which could negatively effect our overall market penetration.

We currently have obligations under our contracts with dialysis clinics and hospitals to protect the privacy of patient health information.

     In the course of performing our business we obtain, from time to time, confidential patient health information. For example, we learn patient names and addresses when we ship our System One supplies to home hemodialysis patients. We may learn patient names and be exposed to confidential patient health information when we provide training on System One operations to our customer’s staff. Our home hemodialysis patients may also call our customer service representatives directly and, during the call, disclose confidential patient health information. U.S. Federal and state laws protect the confidentiality of certain patient health information, in particular, individually identifiable information, and restrict the use and disclosure of that information. At the federal level, the Department of Health and Human Services promulgated health information and privacy and security rules under HIPAA. At this time, we are not a HIPAA covered entity and consequently are not directly subject to HIPAA. However, we have entered into several business associate agreements with covered entities that contain commitments to protect the privacy and security of patients’ health information and, in some instances, require that we indemnify the covered entity for any claim, liability, damage, cost or expense arising out of or in connection with a breach of the agreement by us. If we were to violate one of these agreements, we could lose customers and be exposed to liability and/or our reputation and business could be harmed. In addition, conduct by a person that is not

a covered entity could potentially be prosecuted under aiding and abetting or conspiracy laws if there is an improper disclosure or misuse of patient information.

     Many state laws apply to the use and disclosure of health information, which could affect the manner in which we conduct our business. Such laws are not necessarily preempted by HIPAA, in particular, those laws that afford greater protection to the individual than does HIPAA. Such state laws typically have their own penalty provisions, which could be applied in the event of an unlawful action affecting health information.

We are subject to federal and state laws prohibiting “kickbacks” and false and fraudulent claims which, if violated, could subject us to substantial penalties. Additionally, any challenges to or investigation into our practices under these laws could cause adverse publicity and be costly to respond to, and thus could harm our business.

     The Medicare/Medicaid anti-kickback laws, and several similar state laws, prohibit payments that are intended to induce physicians or others either to refer patients or to acquire or arrange for or recommend the acquisition of healthcare products or services. These laws affect our sales, marketing and other promotional activities by limiting the kinds of financial arrangements, including sales programs, we may have with hospitals, physicians or other potential purchasers or users of medical devices. In particular, these laws influence, among other things, how we structure our sales and rental offerings, including discount practices, customer support, education and training programs and physician consulting and other service arrangements. Although we seek to structure such arrangements in compliance with applicable requirements, these laws are broadly written, and it is often difficult to determine precisely how these laws will be applied in specific circumstances. If one of our sales representatives were to offer an inappropriate inducement to purchase our System One to a customer, we could be subject to a claim under the Medicare/Medicaid anti-kickback laws.

     Other federal and state laws generally prohibit individuals or entities from knowingly presenting, or causing to be presented, claims for payments from Medicare, Medicaid or other third-party payors that are false or fraudulent, or for items or services that were not provided as claimed. Although we do not submit claims directly to payors, manufacturers can be held liable under these laws if they are deemed to “cause” the submission of false or fraudulent claims by providing inaccurate billing or coding information to customers, or through certain other activities. In providing billing and coding information to customers, we make every effort to ensure that the billing and coding information furnished is accurate and that treating physicians understand that they are responsible for all billing and prescribing decisions, including the decision as to whether to order dialysis services more frequently than three times per week. Nevertheless, we cannot provide assurance that the government will regard any billing errors that may be made as inadvertent or that the government will not examine our role in providing information to our customers concerning the benefits of daily therapy. Anti-kickback and false claims laws prescribe civil, criminal and administrative penalties for noncompliance, which can be substantial. Moreover, an unsuccessful challenge or investigation into our practices could cause adverse publicity and be costly to respond to, and thus could harm our business and results of operations.

Foreign governments tend to impose strict price controls, which may adversely affect our future profitability.

     Although we have not initiated any marketing efforts in jurisdictions outside of the United States and Canada, we intend in the future to market our products in other markets. In some foreign countries, particularly in the European Union, the pricing of medical devices is subject to governmental control. In these countries, pricing negotiations with governmental authorities can take considerable time after the receipt of marketing approval for a product. To obtain reimbursement or pricing approval in some countries, we may be required to supply data that compares the cost-effectiveness of the System One to other available therapies. If reimbursement of our products is unavailable or limited in scope or amount, or if pricing is set at unsatisfactory levels, it may not be profitable to sell our products outside of the United States, which would negatively affect the long-term growth of our business.

Our business activities involve the use of hazardous materials, which require compliance with environmental and occupational safety laws regulating the use of such materials. If we violate these laws, we could be subject to significant fines, liabilities or other adverse consequences.

     Our research and development programs as well as our manufacturing operations involve the controlled use of

hazardous materials. Accordingly, we are subject to federal, state and local laws governing the use, handling and disposal of these materials. Although we believe that our safety procedures for handling and disposing of these materials comply in all material respects with the standards prescribed by state and federal regulations, we cannot completely eliminate the risk of accidental contamination or injury from these materials. In the event of an accident or failure to comply with environmental laws, we could be held liable for resulting damages, and any such liability could exceed our insurance coverage.

Risks Related to Operations

We depend on the services of our senior executives and certain key engineering, scientific, manufacturing, clinical and marketing personnel, the loss of whom could negatively affect our business.

     Our success depends upon the skills, experience and efforts of our senior executives and other key personnel, including our chief executive officer, certain members of our engineering staff, our marketing executives and managers, our manufacturing executives and managers and our clinical educators. Much of our corporate expertise is concentrated in relatively few employees, the loss of which for any reason could negatively affect our business. Competition for our highly skilled employees is intense and we cannot prevent the resignation of any employee. Virtually all of our employees have agreements which impose obligations that may prevent a former employee of ours from working for a competitor for a period of time; however, these clauses may not be enforceable, or enforceable only in part, or the company may choose not to seek enforcement. We do not maintain “key man” life insurance on any of our senior executives, other than our chief executive officer.

We obtain some of the components, subassemblies and completed products included in the System One from a single source or a limited group of manufacturers or suppliers, and the partial or complete loss of one of these manufacturers or suppliers could cause significant production delays, an inability to meet customer demand and a substantial loss in revenues.

     We depend on single source suppliers for some of the components and subassemblies we use in the System One. KMC Systems, Inc. is our only contract manufacturer of the System One cycler, although we are considering a plan to develop alternative manufacturing capabilities for this product; B. Braun Medizintechnologie GmbH is our only supplier of bicarbonate-based dialysate used with the System One; Membrana GmbH is our only supplier of the fiber used in our filters; PISA is our primary supplier of lactate-based dialysate; and Medisystems Corporation is the only supplier of our disposable cartridge and several cartridge components. Medisystems is a related party to NxStage. David Utterberg, the chief executive officer and sole stockholder of Medisystems, is a member of our board of directors and, at March 31, 2007, held approximately 6.7% of our common stock. We also obtain certain other components included in the System One from other single source suppliers or a limited group of suppliers. Our dependence on single source suppliers of components, subassemblies and finished goods exposes us to several risks, including disruptions in supply, price increases, late deliveries, and an inability to meet customer demand. This could lead to customer dissatisfaction, damage to our reputation, or customers switching to competitive products. Any interruption in supply could be particularly damaging to our customers using the System One to treat chronic ESRD and who need access to the System One and related disposables.

     Finding alternative sources for these components and subassemblies would be difficult in many cases and may entail a significant amount of time and disruption. In the case of B. Braun, for bicarbonate, and Membrana, for fiber, we are contractually prevented from obtaining an alternative source of supply, except in certain limited instances. In the case of Medisystems, we are contractually prevented from obtaining an alternative source of supply for more than 10% of our North American requirements, except in certain limited instances. In the case of other suppliers, we would need to change the components or subassemblies if we sourced them from an alternative supplier. This, in turn, could require a redesign of our System One and, potentially, further FDA clearance or approval of any modification, thereby causing further costs and delays.

Certain of our products are recently developed and we, and certain of our third party manufacturers, have limited manufacturing experience with these products.

     We continue to develop new products and make improvements to existing products. As such, we and certain of our third party manufacturers, have limited manufacturing experience with certain of our products, including key products such as the PureFlow SL and related disposables. We are, therefore, more exposed to risks relating to product quality and reliability until the manufacturing processes for these new products mature.

We do not have long-term supply contracts with many of our third-party suppliers.

     We purchase components and subassemblies from third-party suppliers, including some of our single source suppliers, through purchase orders and do not have long-term supply contracts with many of these third-party suppliers. Many of our third-party suppliers, therefore, are not obligated to perform services or supply products to us for any specific period, in any specific quantity or at any specific price, except as may be provided in a particular purchase order.

     We do not maintain large volumes of inventory from most of our suppliers. If we inaccurately forecast demand for components or subassemblies, our ability to manufacture and commercialize the System One could be delayed and our competitive position and reputation could be harmed. In addition, if we fail to effectively manage our relationships with these suppliers, we may be required to change suppliers, which would be time consuming and disruptive and could lead to disruptions in product supply, which could permanently impair our customer base and reputation.

Risks Related to Intellectual Property

If we are unable to protect our intellectual property and prevent its use by third parties, we will lose a significant competitive advantage.

     We rely on patent protection, as well as a combination of copyright, trade secret and trademark laws to protect our proprietary technology and prevent others from duplicating our products. However, these means may afford only limited protection and may not:

	•		prevent our competitors from duplicating our products;
	•		prevent our competitors from gaining access to our proprietary information and technology; or
	•		permit us to gain or maintain a competitive advantage.

     Any of our patents may be challenged, invalidated, circumvented or rendered unenforceable. We cannot provide assurance that we will be successful should one or more of our patents be challenged for any reason. If our patent claims are rendered invalid or unenforceable, or narrowed in scope, the patent coverage afforded our products could be impaired, which could make our products less competitive.

     At March 31, 2007, we had 50 pending patent applications, including foreign, international and U.S. applications, and 25 U.S. and international issued patents. We cannot specify which of these patents individually or as a group will permit us to gain or maintain a competitive advantage. We cannot provide assurance that any pending or future patent applications we hold will result in an issued patent or that if patents are issued to us, that such patents will provide meaningful protection against competitors or against competitive technologies. The issuance of a patent is not conclusive as to its validity or enforceability. The U.S. federal courts or equivalent national courts or patent offices elsewhere may invalidate our patents or find them unenforceable. Competitors may also be able to design around our patents. Our patents and patent applications cover particular aspects of our products. Other parties may develop and obtain patent protection for more effective technologies, designs or methods for treating kidney failure. If these developments were to occur, it would likely have an adverse effect on our sales.

     The laws of foreign countries may not protect our intellectual property rights effectively or to the same extent as the laws of the United States. If our intellectual property rights are not adequately protected, we may not be able to commercialize our technologies, products or services and our competitors could commercialize similar technologies, which could result in a decrease in our revenues and market share.

Our products could infringe the intellectual property rights of others, which may lead to litigation that could itself be costly, could result in the payment of substantial damages or royalties and/or could prevent us from using technology that is essential to our products.

     The medical device industry in general has been characterized by extensive litigation and administrative proceedings regarding patent infringement and intellectual property rights. Products to provide kidney replacement therapy have been available in the market for more than 30 years and our competitors hold a significant number of patents relating to kidney replacement devices, therapies, products and supplies. Although no third party has threatened or alleged that our products or methods infringe their patents or other intellectual property rights, we cannot provide assurance that our products or methods do not infringe the patents or other intellectual property rights of third parties. If our business is successful, the possibility may increase that others will assert infringement claims against us.

     Infringement and other intellectual property claims and proceedings brought against us, whether successful or not, could result in substantial costs and harm to our reputation. Such claims and proceedings can also distract and divert management and key personnel from other tasks important to the success of the business. In addition, intellectual property litigation or claims could force us to do one or more of the following:

	•		cease selling or using any of our products that incorporate the asserted intellectual property, which would adversely affect our revenues;
	•		pay substantial damages for past use of the asserted intellectual property or pay contractual claims to certain parties that have purchased the System One;
	•		obtain a license from the holder of the asserted intellectual property, which license may not be available on reasonable terms, if at all and which could reduce profitability; and
	•		redesign or rename, in the case of trademark claims, our products to avoid infringing the intellectual property rights of third parties, which may not be possible and could be costly and time-consuming if it is possible to do so.

Confidentiality agreements with employees and others may not adequately prevent disclosure of trade secrets and other proprietary information.

     In order to protect our proprietary technology and processes, we also rely in part on confidentiality agreements with our corporate partners, employees, consultants, outside scientific collaborators and sponsored researchers, advisors and others. These agreements may not effectively prevent disclosure of confidential information and trade secrets and may not provide an adequate remedy in the event of unauthorized disclosure of confidential information. In addition, others may independently discover or reverse engineer trade secrets and proprietary information, and in such cases we could not assert any trade secret rights against such party. Costly and time consuming litigation could be necessary to enforce and determine the scope of our proprietary rights, and failure to obtain or maintain trade secret protection could adversely affect our competitive position.

We may be subject to damages resulting from claims that our employees or we have wrongfully used or disclosed alleged trade secrets of other companies.

     Many of our employees were previously employed at other medical device companies focused on the development of dialysis products, including our competitors. Although no claims against us are currently pending, we may be subject to claims that these employees or we have inadvertently or otherwise used or disclosed trade secrets or other proprietary information of their former employers. Litigation may be necessary to defend against these claims. If we fail in defending such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights. Even if we are successful in defending against these claims, litigation could result in substantial costs, damage to our reputation and be a distraction to management.

Risks Related to our Common Stock

Our stock price is likely to be volatile, and the market price of our common stock may drop.

     The market price of our common stock could be subject to significant fluctuations. Market prices for securities of early stage companies have historically been particularly volatile. As a result of this volatility, you may not be able to sell your common stock at or above the price you paid for the stock. Some of the factors that may cause the market price of our common stock to fluctuate include:

	•		timing of market acceptance of our products;
	•		timing of achieving profitability and positive cash flow from operations;
	•		changes in estimates of our financial results or recommendations by securities analysts or the failure to meet or exceed securities analysts’ expectations;
	•		actual or anticipated variations in our quarterly operating results;
	•		disruptions in product supply for any reason, including product recalls or the failure of third party suppliers to deliver needed products or components;
	•		reports by officials or health or medical authorities, the general media or the FDA regarding the potential benefits of the System One or of similar dialysis products distributed by other companies or of daily or home dialysis;
	•		announcements by the FDA of non-clearance or non-approval of our products, or delays in the FDA or other foreign regulatory agency review process;
	•		product recalls;
	•		regulatory developments in the United States and foreign countries;
	•		changes in third-party healthcare reimbursements, particularly a decline in the level of Medicare reimbursement for dialysis treatments;
	•		litigation involving our company or our general industry or both;
	•		announcements of technical innovations or new products by us or our competitors;
	•		developments or disputes concerning our patents or other proprietary rights;
	•		our ability to manufacture and supply our products to commercial standards;
	•		significant acquisitions, strategic partnerships, joint ventures or capital commitments by us or our competitors;
	•		departures of key personnel; and
	•		investors’ general perception of our company, our products, the economy and general market conditions.

     The stock markets in general have experienced substantial volatility that has often been unrelated to the operating performance of individual companies. These broad market fluctuations may adversely affect the trading price of our common stock.

     In the past, following periods of volatility in the market price of a company’s securities, stockholders have often instituted class action securities litigation against those companies. Such litigation, if instituted, could result in substantial costs and diversion of management attention and resources, which could significantly harm our profitability and reputation.

Anti-takeover provisions in our restated certificate of incorporation and amended and restated bylaws and under Delaware law could make an acquisition of us more difficult and may prevent attempts by our stockholders to replace or remove our current management.

     Provisions in our restated certificate of incorporation and our amended and restated bylaws may delay or prevent an acquisition of us. In addition, these provisions may frustrate or prevent attempts by our stockholders to replace or remove members of our board of directors. Because our board of directors is responsible for appointing the members of our management team, these provisions could in turn affect any attempt by our stockholders to replace current members of our management team. These provisions include:

	•		a prohibition on actions by our stockholders by written consent;
	•		the ability of our board of directors to issue preferred stock without stockholder approval, which could be used to institute a “poison pill” that would work to dilute the stock ownership of a potential hostile acquirer, effectively preventing acquisitions that have not been approved by our board of directors;
	•		advance notice requirements for nominations of directors or stockholder proposals; and
	•		the requirement that board vacancies be filled by a majority of our directors then in office.

     In addition, because we are incorporated in Delaware, we are governed by the provisions of Section 203 of the Delaware General Corporation Law, which prohibits a person who owns in excess of 15% of our outstanding voting stock from merging or combining with us for a period of three years after the date of the transaction in which the person acquired in excess of 15% of our outstanding voting stock, unless the merger or combination is approved in a prescribed manner. These provisions would apply even if the offer may be considered beneficial by some stockholders.

If there are substantial sales of our common stock in the market by our existing stockholders, our stock price could decline.

     If our existing stockholders sell a large number of shares of our common stock or the public market perceives that existing stockholders might sell shares of common stock, the market price of our common stock could decline significantly. We have 29,923,695 shares of common stock outstanding at March 31, 2007. Shares held by our affiliates may only be sold in compliance with the volume limitations of Rule 144. These volume limitations restrict the number of shares that may be sold by an affiliate in any three-month period to the greater of 1% of the number of shares then outstanding, which approximates 299,237 shares, or the average weekly trading volume of our common stock during the four calendar weeks preceding the filing of a notice on Form 144 with respect to the sale.

     At March 31, 2007, subject to certain conditions, holders of an aggregate of approximately 15,511,174 shares of common stock have rights with respect to the registration of these shares of common stock with the SEC. This aggregate number of shares includes registration rights granted in February 2007 to DaVita in connection with their purchase of 2 million shares of our common stock which were registered effective May 8, 2007 and can now be sold by DaVita in the public market without regard to the volume limitation described above. If we register any of the additional holders’ shares of common stock, they will be able to sell those shares in the public market without being subject to the volume limitations described above.

     At March 31, 2007, 3,688,003 shares of common stock are authorized for issuance under our stock incentive plan, employee stock purchase plan and outstanding stock options. At March 31, 2007, 3,017,017 shares were subject to outstanding options, of which 1,923,965 were exercisable and which can be freely sold in the public market upon issuance, subject to the restrictions imposed on our affiliates under Rule 144.

Our costs have increased significantly as a result of operating as a public company, and our management is required to devote substantial time to comply with public company regulations.

     As a public company, we incur significant legal, accounting and other expenses that we did not incur as a private company. In addition, the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, as well as new rules subsequently implemented by the SEC and the NASDAQ Global Market, have imposed various new requirements on public companies, including changes in corporate governance practices. Our management and other personnel now need to devote a substantial amount of time to these new requirements. Moreover, these rules and regulations increase our legal and financial compliance costs and make some activities more time-consuming and costly. In addition, the Sarbanes-Oxley Act requires, among other things, that we maintain effective internal controls for financial reporting and disclosure controls and procedures. As part of these obligations, we must perform system and process evaluation and testing of our internal controls over financial reporting to allow management and our independent registered public accounting firm to report on the effectiveness of our internal controls over financial reporting, as required by Section 404 of the Sarbanes-Oxley Act. Our compliance with Section 404 requires that we incur substantial accounting expense and expend significant management efforts. If we or our independent registered public accounting firm identify deficiencies in our internal controls over financial reporting that are deemed to be material weaknesses, the market price of our stock could decline and we could be subject to sanctions or investigations by the NASDAQ Global Market, the SEC or other regulatory authorities.

We do not anticipate paying cash dividends, and accordingly stockholders must rely on stock appreciation for any return on their investment in us.

     We anticipate that we will retain our earnings for future growth and therefore do not anticipate paying cash dividends in the future. As a result, only appreciation of the price of our common stock will provide a return to investors. Investors seeking cash dividends should not invest in our common stock.

Our executive officers, directors and current and principal stockholders own a large percentage of our voting common stock and could limit new stockholders’ influence on corporate decisions or could delay or prevent a change in corporate control.

     Our directors, executive officers and current holders of more than 5% of our outstanding common stock, together with their affiliates and related persons, beneficially own, in the aggregate, approximately 48% of our outstanding common stock. As a result, these stockholders, if acting together, will have the ability to determine the outcome of all matters submitted to our stockholders for approval, including the election and removal of directors and any merger, consolidation or sale of all or substantially all of our assets and other extraordinary transactions. The interests of this group of stockholders may not always coincide with our corporate interests or the interests of other stockholders, and they may act in a manner with which you may not agree or that may not be in the best interests of other stockholders. This concentration of ownership may have the effect of:

	•		delaying, deferring or preventing a change in control of our company;
	•		entrenching our management and/or board;
	•		impeding a merger, consolidation, takeover or other business combination involving our company; or
	•		discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of our company.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

     We registered shares of our common stock in connection with our initial public offering under the Securities Act of 1933, as amended. The Registration Statement on Form S-1 (File No. 333-126711) filed in connection with our initial public offering was declared effective by the SEC on October 27, 2005. The offering commenced on October 27, 2005 and did not terminate before any securities were sold. We sold 5,500,000 shares of our registered common stock in the initial public offering and an additional 825,000 shares of our registered common stock in connection with the underwriters’ exercise of their over-allotment option. The underwriters of the offering were Merrill Lynch, Pierce, Fenner & Smith Incorporated, Thomas Weisel Partners LLC, William Blair & Company and JMP Securities LLC.

     All 6,325,000 shares of our common stock registered in the offering were sold at the initial public offering price of $10 per share. The aggregate purchase price of the offering was $63,250,000. The net offering proceeds received by us, after deducting expenses incurred in connection with the offering was approximately $56.5 million. These expenses consisted of direct payments of:

	i.		(a) $4.4 million in underwriters discounts, fees and commissions,
	ii.		(b) $1.6 million in legal, accounting and printing fees, and
	iii.		(c) $0.7 million in miscellaneous expenses.

     No payments for such expenses were directly or indirectly to (i) any of our directors, officers or their associates, (ii) any person(s) owning 10% or more of any class of our equity securities or (iii) any of our affiliates.

     We closed our initial public offering on November 1, 2005, and we have invested the aggregate net proceeds in short-term investment-grade securities and money market accounts.

     From the effective date of our Registration Statement on Form S-1, October 27, 2005, through March 31, 2007, we have used the full $56.5 million of net proceeds of our initial public offering to finance working capital needs.

Item 6. Exhibits

Exhibit
Number
10.1 (1) †		Supply Agreement dated January 4, 2007 between the Registrant and Medisystems Corporation
10.2 (1) †		Supply Agreement dated January 5, 2007 between the Registrant and Membrana Gmbh
10.3 (1) †		National Service Provider Agreement dated February 7, 2007 between the Registrant and DaVita Inc.
10.4 (1)		Stock Purchase Agreement dated February 7, 2007 between the Registrant and DaVita Inc.
10.5 (1)		Registration Rights Agreement dated February 7, 2007 between the Registrant and DaVita Inc.
10.6 ±		Shelter Agreement dated March 21, 2007 between the Registrant and Entrada Partners
31.1		Certification of Chief Executive Officer pursuant to Exchange Act Rules 13a-14 or 15d-14, as adopted pursuant to Section 302 of Sarbanes-Oxley Act of 2002.
31.2		Certification of Chief Financial Officer pursuant to Exchange Act Rules 13a-14 or 15d-14, as adopted pursuant to Section 302 of Sarbanes-Oxley Act of 2002.
32.1		Certification of Chief Executive Officer pursuant to Exchange Act Rules 13a-14(b) or 15d-14(b) and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of Sarbanes-Oxley Act of 2002.
32.2		Certification of Chief Financial Officer pursuant to Exchange Act Rules 13a-14(b) or 15d-14(b) and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of Sarbanes-Oxley Act of 2002.

SIGNATURES

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