# UNITED	STATES

# SECURITIES	AND	EXCHANGE	COMMISSION

# ANNUAL	REPORT	PURSUANT	TO	SECTION	13	OR	15(d)	OF	THE	SECURITIES

# EXCHANGE	ACT	OF	1934

For	the	Fiscal	Year	Ended	December	31,	2006

# TRANSITION	REPORT	PURSUANT	TO	SECTION	13	OR	15(d)	OF	THE

# SECURITIES	EXCHANGE	ACT	OF	1934

# Vertex	Pharmaceuticals	Incorporated

(Exact	name	of	registrant	as	specified	in	its	charter)

Massachusetts

(State	or	other	jurisdiction	of incorporation	or	organization)

130	Waverly	Street

Cambridge,	Massachusetts (Address	of	principal	executive	offices)

(I.R.S.	Employer Identification	No.)

(Zip	Code)

Registrant's	telephone	number,	including	area	code	(617)	444-6100

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

Title	of	Each

Class

Common	Stock,	$0.01	Par	Value	Per	Share

Rights	to	Purchase	Series	A	Junior	Participating	Preferred	Stock

Name	of	Each	Exchange	on	Which

Registered

The	Nasdaq	Global	Select	Market

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

Indicate	by	check	mark	if	the	registrant	is	a	well-known	seasoned	issuer,	as	defined	in	Rule	405	of	the	Securities	Act.		Yes	x				No	o

Indicate	by	check	mark	if	the	registrant	is	not	required	to	file	reports	pursuant	to	Section	13	or	Section	15(d)	of	the	Exchange	Act.		Yes	o				No	x

Indicate	by	check	mark	whether	the	registrant:	(1)	has	filed	all	reports	required	to	be	filed	by	Section	13	or	15(d)	of	the	Securities	Exchange	Act	of	1934	during	the	preceding 12	months	(or	for	such	shorter	period	that	the	registrant	was	required	to	file	such	reports),	and	(2)	has	been	subject	to	such	filing	requirements	for	the	past	90	days.		Yes	x				No	o Indicate	by	check	mark	if	disclosure	of	delinquent	filers	pursuant	to	Item	405	of	Regulation	S-K	is	not	contained	herein,	and	will	not	be	contained,	to	the	best	of	the	registrant's knowledge,	in	definitive	proxy	or	information	statements	incorporated	by	reference	in	Part	III	of	this	Form	10-K	or	any	amendment	to	this	Form	10-K.	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	x

Accelerated	filer	o

Non-accelerated	filer	o

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

The	aggregate	market	value	of	the	registrant's	common	stock	held	by	non-affiliates	of	the	registrant	(without	admitting	that	any	person	whose	shares	are	not	included	in	such calculation	is	an	affiliate)	based	on	the	last	reported	sale	price	of	the	common	stock	on	June	30,	2006	was	$2.3	billion.

# DOCUMENTS	INCORPORATED	BY	REFERENCE

Portions	of	the	definitive	Proxy	Statement	for	the	2007	Annual	Meeting	of	Stockholders	to	be	held	on	May	31,	2007	are	incorporated	by	reference	into	Part	III	of	this	Annual Report	on	Form	10-K.

# TABLE	OF	CONTENTS

|  | Matters | 75 |
| :--- | :--- | :--- |
| Item\t13. | Certain\tRelationships\tand\tRelated\tTransactions,\tand\tDirector\tIndependence | 75 |
| Item\t14. | Principal\tAccountant\tFees\tand\tServices | 75 |
|  | PART\tIV |  |
| Item\t15. | Exhibits,\tFinancial\tStatement\tSchedules | 76 |

The	"Company,"	"Vertex,"	"we"	and	"us"	as	used	in	this	Annual	Report	on	Form	10-K,	refer	to	Vertex	Pharmaceuticals	Incorporated,	a	Massachusetts	corporation, and	its	subsidiaries.

"Vertex"	is	a	registered	trademark	of	Vertex.	"Agenerase,"	"Lexiva"	and	"Telzir"	are	registered	trademarks	of	GlaxoSmithKline	plc.	Other	brands,	names	and trademarks	contained	in	this	Annual	Report	are	the	property	of	their	respective	owners.

# PART	I

# OVERVIEW

We	are	in	the	business	of	discovering,	developing	and	commercializing	small	molecule	drugs	for	the	treatment	of	serious	diseases.	We	have	built	a	drug	discovery capability	that	integrates	biology,	chemistry,	biophysics,	automation	and	information	technologies,	with	a	goal	of	making	the	drug	discovery	process	more	efficient	and productive.	A	Vertex-discovered	compound	for	the	treatment	of	HIV	infection,	fosamprenavir	calcium,	is	being	marketed	by	our	collaborator	GlaxoSmithKline	plc	as Lexiva	in	the	United	States	and	Telzir	in	Europe.	We	currently	are	concentrating	most	of	our	drug	development	resources	on	four	drug	candidates:	telaprevir	(VX-950) for	the	treatment	of	hepatitis	C	virus,	or	HCV,	infection,	VX-702	for	the	treatment	of	rheumatoid	arthritis	and	other	inflammatory	diseases,	VX-770	for	the	treatment	of cystic	fibrosis,	or	CF,	and	VX-883	for	the	treatment	of	bacterial	infection.

Our	lead	drug	candidate	is	telaprevir,	an	oral	hepatitis	C	protease	inhibitor,	and	one	of	the	most	advanced	of	a	new	class	of	antiviral	treatments	in	development targeting	HCV	infection,	a	serious	and	life-threatening	disease.	We	are	conducting	three	major	Phase	2b	clinical	trials	of	telaprevir.	We	expect	that	these	three	Phase	2b clinical	trials	together	will	evaluate	sustained	viral	response	rates	in	approximately	1,000	patients	infected	with	genotype	1	HCV,	the	most	prevalent	form	of	HCV, including	treatment-naïve	patients	and	patients	who	did	not	achieve	sustained	viral	response	with	current	therapies.	We	expect	the	clinical	results	from	these	Phase	2b clinical	trials	to	provide	important	information	supporting	the	design	and	initiation	in	the	second	half	of	2007	of	a	Phase	3	clinical	program	for	telaprevir.	The	United States	Food	and	Drug	Administration,	or	FDA,	has	granted	"Fast-Track"	designation	to	telaprevir.	In	June	2006,	we	entered	into	a	collaboration	agreement	with	Janssen Pharmaceutica,	N.V.,	or	Janssen,	a	Johnson	&	Johnson	company,	relating	to	telaprevir.	Under	our	agreement	with	Janssen,	we	have	retained	exclusive	commercial	rights to	telaprevir	in	North	America	and	will	lead	the	clinical	development	program.	Janssen	will	be	responsible	for	the	commercialization	of	telaprevir,	including	the manufacture	of	its	own	commercial	supply	of	telaprevir	for	the	Janssen	territories,	which	include	the	territories	outside	of	North	America	and	the	Far	East.	Janssen	has agreed	to	be	responsible	for	50%	of	drug	development	costs	under	the	development	program	for	North	America	and	the	Janssen	territories	and	to	make	additional contingent	milestone	payments	for	the	successful	development,	approval	and	launch	of	telaprevir.

In	addition	to	telaprevir,	we	currently	are	focusing	on:

·							VX-702,	a	p38	MAP	kinase	inhibitor,	which	we	currently	are	investigating	for	the	treatment	of	rheumatoid	arthritis,	or	RA.	We	are	conducting	a	12-week,	120 patient	Phase	2a	clinical	trial	in	patients	with	RA	to	evaluate	the	safety,	tolerability	and	anti-inflammatory	effects	of	VX-702	on	a	background	of	methotrexate. In	January	2007,	we	commenced	a	Thorough	QTc	study,	which	is	a	type	of	clinical	trial	required	for	all	small	molecule	drug	candidates	prior	to	the	initiation	of Phase	3	clinical	trials.	Depending	on	the	results	of	the	12-week	Phase	2a	clinical	trial	and	the	Thorough	QTc	study,	we	plan	to	conduct	a	larger	six-month Phase	2	clinical	trial	of	VX-702	on	a	background	of	methotrexate.

·							VX-770,	a	cystic	fibrosis	transmembrane	regulator,	or	CFTR,	potentiator,	which	we	are	investigating	for	the	treatment	of	CF.	We	recently	completed	a	Phase	1 clinical	trial	of	VX-770	in	healthy	volunteers	and	in	patients	with	CF	and	plan	to	initiate	a	Phase	2	clinical	trial	of	VX-770	in	patients	with	CF	in	the	second quarter	of	2007.

·							VX-883,	a	Vertex-discovered	dual-mechanism	investigational	antibiotic,	which	is	in	preclinical	development	for	the	treatment	of	patients	with	bacterial	infection. Depending	on	the	outcomes	of	our	preclinical	activities,	we	plan	to	initiate	a	Phase	1	clinical	trial	of	this	drug	candidate	in	2007.

Our	pipeline	also	includes	several	drug	candidates	that	are	being	developed	by	our	collaborators.	The	most	advanced	of	these	drug	candidates	is	MK-0457	(VX- 680),	an	Aurora	kinase	inhibitor	that	is	being

developed	by	Merck	&	Co.,	Inc.	for	the	treatment	of	cancer.	In	December	2006,	Merck	announced	results	from	the	Phase	1	clinical	trials	of	MK-0457	(VX-680),	which showed	that	MK-0457	(VX-680)	demonstrated	clinical	activity	in	select	patients	with	leukemias	and	myeloproliferative	disorders,	and	initiated	a	pivotal	Phase	2	clinical trial	of	MK-0457	(VX-680)	in	patients	with	treatment-resistant	chronic	myelogenous	leukemia,	or	CML,	and	Philadelphia	chromosome-positive	acute	lymphocytic leukemia,	or	Ph+	ALL,	containing	the	T315I	BCR-ABL	mutation.	We	also	are	collaborating	with	Merck	on	the	development	of	other	Aurora	kinase	inhibitors.

We	plan	to	continue	adding	promising	drug	candidates	to	our	development	pipeline	through	our	ongoing	commitment	to	discovery	research.	As	we	have	matured as	a	company	by	advancing	our	drug	candidates	to	later	stage	development,	we	have	chosen	to	retain	greater	development	control	and	commercial	rights	to	some	of	our drug	candidates	in	order	retain	a	greater	proportion	of	the	potential	value	of	those	drug	candidates	if	they	are	successfully	commercialized.	In	the	future,	we	expect	that we	will	retain	control	of	clinical	development	and	the	right	to	market	some	of	our	drug	candidates	in	therapeutic	and	geographic	areas	where	we	have	or	believe	we	can build	sufficient	expertise	to	independently	market	the	drug	candidate,	if	it	is	approved,	on	a	cost-effective	basis.

In	order	to	complete	the	clinical	development	program	for	telaprevir	and	prepare	to	market	telaprevir	in	North	America	if	it	is	approved,	we	are	investing	significant resources	to	expand	our	capabilities	with	respect	to	clinical	development,	regulatory	affairs	and	quality	control,	and	to	build	and	manage	a	commercial	supply	chain.	We also	expect	to	incur	significant	costs	in	2007	to	manufacture	registration	batches	of	telaprevir	and	build	telaprevir	commercial	inventory.

# OUR	STRATEGY

Our	goal	is	to	become	a	fully	integrated	pharmaceutical	company	with	industry-leading	capabilities	in	research,	development	and	commercialization	of pharmaceutical	products.	The	key	elements	of	our	strategy	are:

Focus	on	the	development	and	commercialization	of	telaprevir.			We	plan	to	invest	significant	resources	in	the	clinical	development	and	preparation	for	launch	of telaprevir.	We	have	designed	a	comprehensive	clinical	development	program	for	telaprevir	consisting	of	multiple	concurrent	clinical	trials	that	will	study	the	profile	of telaprevir.	In	addition,	we	are	investing	in	building	and	managing	a	commercial	supply	chain	for	telaprevir,	including	purchasing	significant	quantities	of	long	lead-time raw	materials	and	identifying	and	entering	into	relationships	with	third-party	manufacturers,	in	order	to	support	a	timely	launch	of	telaprevir	if	we	are	successful	in completing	development	and	obtaining	marketing	approval.

Capitalize	on	the	advances	in	our	telaprevir	clinical	program	to	build	our	general	drug	development	and	commercialization	capabilities.			We	believe	that	the progress	we	made	in	2006	and	in	particular	the	advances	we	made	in	the	development	of	telaprevir	have	positioned	us	to	expand	our	general	drug	development	and

commercialization	capabilities.	In	2007,	we	plan	to	invest	in	key	areas—including	clinical	development,	regulatory	affairs,	quality	control,	commercial	operations	and commercial	supply	chain	management—that	will	be	necessary	in	order	to	complete	development	of	telaprevir,	to	seek	approval	for	telaprevir	and	to	commercialize telaprevir	if	we	are	successful	in	obtaining	marketing	approval.	We	expect	that	these	capabilities	also	will	support	realization	of	additional	drug	candidates	that	may progress	through	our	pipeline.

Invest	in	research	and	development	and	retain	a	greater	proportion	of	rights	to	proprietary	drug	candidates.			We	intend	to	continue	to	invest	significant	amounts in	our	research	and	development	programs.	In	the	future,	we	expect	that	we	will	fund	a	greater	proportion	of	our	research	programs	than	in	past	years,	using	internal funds	rather	than	collaborator	funds.	We	believe	that	this	strategy	will	ultimately	allow	us	to	retain	greater	development	control	of,	and	commercial	rights	to,	those proprietary	drug	candidates	that	may	meet	our	strategic	internal	investment	criteria	as	in	effect	from	time	to	time.

Support	a	broad-based	portfolio	of	drug	candidates,	including	the	introduction	of	multiple	drug	candidates	into	development.			We	have	elected	to	diversify	our research	and	development	activities	across	a	relatively

broad	array	of	investment	opportunities,	due	in	part	to	the	high	risks	associated	with	the	biotechnology	and	pharmaceutical	business.	We	plan	to	continue	to	add promising	potential	drug	candidates	to	our	development	pipeline	through	our	continuing	commitment	to	discovery	research.

Continue	existing	and	establish	new	collaborations	to	develop	and	commercialize	selected	drug	candidates.			Collaborations	with	pharmaceutical	companies	have played	an	important	role	in	helping	us	advance	our	drug	discovery	capabilities	as	well	as	to	grow	and	advance	our	drug	candidate	pipeline.	Collaborations	provide	us with	financial	support	and	other	valuable	resources	for	our	research	programs,	development	resources	for	our	drug	candidates	and	marketing	and	sales	support	for	our products.	We	plan	to	continue	to	rely	on	collaborators	to	develop	and	commercialize	certain	of	our	drug	candidates	either	worldwide,	in	collaboration	with	us,	or	in markets	in	which	we	are	not	currently	concentrating	our	resources.

License	and	acquire	technologies,	resources	and	products.			In	addition	to	collaborations,	we	also	seek	opportunistically	to	license	and	acquire	technologies, resources	and	drugs	that	have	the	potential	to	strengthen	our	drug	discovery	platform,	pipeline	and	commercial	capabilities.

Appropriately	manage	our	capital	resources	in	order	to	execute	our	strategy.			We	are	focused	on	maintaining	a	financial	profile	that	will	enable	us	to	execute	our business	strategy.	In	2006,	we	increased	our	cash,	cash	equivalents	and	marketable	securities	balance	and	reduced	our	outstanding	debt	as	a	result	of	payments	received from	collaborators	and	a	series	of	capital	transactions	that	offset	significant	operating	expenses.	We	expect	to	continue	to	pursue	a	general	financing	strategy	that	may lead	us	to	undertake	one	or	more	additional	capital	transactions.

# COMMERCIAL	PRODUCT	AND	CLINICAL	DEVELOPMENT	PROGRAMS

The	drug	candidates	on	which	we	are	currently	concentrating	most	of	our	drug	development	resources,	along	with	the	drugs	and	drug	candidates	we	have	developed or	are	developing	with	collaborators,	are	set	forth	in	the	following	table.	In	addition,	we	are	currently	conducting	clinical	trials	or	engaging	in	preclinical	activities	with respect	to	a	number	of	additional	drug	candidates.

| telaprevir	(VX-950) | Chronic	HCV	infection | Phase	2b | Vertex	(North	America);<br>Mitsubishi	(Far	East);	and<br>Janssen	(Rest	of	World) |
| :--- | :--- | :--- | :--- |
| VX-702 | Rheumatoid\tarthritis\tand\tother | Phase\t2 | Vertex\t(Worldwide,\texcept\tfor\tFar\tEast);\tand |
|  | inflammatory\tdiseases |  | Kissei\t(Far\tEast,\tco-exclusive\twith\tVertex\tin\tcertain\tFar\tEast |
|  |  |  | countries) |
| VX-770 | Cystic\tfibrosis | Phase\t1 | Vertex\t(Worldwide) |
| VX-883 | Bacterial\tinfection | Preclinical | Vertex\t(Worldwide) |
| Collaborator-Led\tPrograms |  |  |  |
| Lexiva/Telzir* | HIV\tinfection\tand\tAIDS | Marketed | GlaxoSmithKline\t(Worldwide) |
| MK-0457\t(VX-680) | Oncology | Phase\t2 | Merck\t(Worldwide) |
| MK-6592\t(VX-667) | Oncology | Phase\t1 | Merck\t(Worldwide) |
| AVN-944\t(VX-944) | Oncology | Phase\t1 | Avalon\tPharmaceuticals\t(Worldwide) |
| VX-409\tand\tbackup\tcompounds | Pain | Preclinical | GlaxoSmithKline\t(Worldwide) |

*																					Fosamprenavir	calcium	is	marketed	under	the	trade	names	"Lexiva"	in	North	America	and	"Telzir"	in	the	European	Union.	Lexiva/Telzir	is	a	prodrug	of	amprenavir	(marketed as	"Agenerase"),	our	first	drug	for	the	treatment	of	HIV	infection	and	AIDS.	Lexiva/Telzir	has	replaced	Agenerase	in	worldwide	markets.

# Principal	Areas	of	Focus

# Telaprevir	(VX-950)	(investigational	oral	hepatitis	C	protease	inhibitor	for	the	treatment	of	chronic	HCV	infection)

Telaprevir,	our	most	advanced	drug	candidate,	is	an	oral	hepatitis	C	protease	inhibitor.	Telaprevir	is	designed	to	inhibit	NS3-4A	serine	protease,	an	enzyme	thought to	be	necessary	for	HCV	replication.	The	FDA	has	granted	"Fast-Track"	designation	to	telaprevir.	We	are	conducting	three	major	Phase	2b	clinical	trials	of	telaprevir, which	we	refer	to	as	the	PROVE	clinical	trials,	as	part	of	a	global	development	program	to	determine	the	safety	and	antiviral	activity	of	telaprevir.	We	expect	the	clinical results	from	these	Phase	2b	clinical	trials	to	provide	important	information	supporting	the	design	and	initiation	in	the	second	half	of	2007	of	a	Phase	3	clinical	program for	telaprevir.	We	believe	that	the	current	PROVE	clinical	trials	have	the	potential	to	generate	sufficient	safety	and	efficacy	data	in	a	broad	range	of	genotype	1	HCV patients,	together	with	safety	data	from	the	proposed	Phase	3	program,	to	support	a	New	Drug	Application,	or	NDA,	filing	in	late	2008.	If	efficacy	data	from	the	Phase 3	program	is	required	for	the	NDA,	the	NDA	filing	may	be	later	than	2008.

Under	our	agreement	with	Janssen,	we	have	retained	exclusive	commercial	rights	to	telaprevir	in	North	America	and	will	lead	the	clinical	development	program	in North	America	and	the	Janssen	territories.	Janssen	has	the	right	to	market	telaprevir	in	the	rest	of	the	world,	except	for	Japan	and	certain	Far	East	countries,	where	we are	collaborating	with	Mitsubishi	Pharma	Corporation.	Janssen	has	agreed	to	be	responsible	for	50%	of	drug	development	costs	under	the	development	program	for North	America	and	the	Janssen	territories	and	to	make	additional	contingent	milestone	payments	for	the	successful	development,	approval	and	launch	of	telaprevir. Janssen	will	be	responsible	for	the	commercialization	of	telaprevir,	including	the	manufacture	of	its	own	commercial	supply	of	telaprevir,	outside	of	North	America	and the	Far	East.

In	2007,	we	anticipate	a	clinical	trial	exploring	twice-daily	dosing	of	telaprevir	will	be	initiated	and	that	Janssen	will	conduct	this	clinical	trial	through	Tibotec,	a separate	Johnson	&	Johnson	company.	In	addition	in	2007,	we	expect	to	expand	the	clinical	development	of	telaprevir	into	patients	with	genotype	2	and	genotype	3 HCV	infection.		In	2006,	Mitsubishi	conducted	a	Phase	1	clinical	trial	of	telaprevir	in	the	Far	East.	Mitsubishi	is	designing	a	Phase	2	clinical	program	for	telaprevir	in the	Far	East.

We	have	begun	to	identify	and	enter	into	commercial	relationships	with	third-party	manufacturers	that	will	be	necessary	in	order	to	manufacture	commercial quantities	of	telaprevir.	In	2007,	we	expect	to	manufacture	registration	batches	of	telaprevir,	and	invest	in	telaprevir	commercial	supply	in	order	to	support	a	timely launch	if	we	are	successful	in	obtaining	regulatory	marketing	approval	for	telaprevir.

Telaprevir	was	discovered	in	our	collaboration,	now	ended,	with	Eli	Lilly	and	Company.	We	hold	worldwide	rights	to	all	other	second-generation	HCV	protease inhibitors	discovered	by	us	during	our	collaboration	with	Eli	Lilly.	We	will	owe	Eli	Lilly	royalties	on	any	future	sales	of	telaprevir,	if	approved,	and	certain	other	HCV protease	inhibitors.

# Background:	Treatment	of	Chronic	Hepatitis	C	Virus	Infection

HCV	infection	causes	chronic	inflammation	in	the	liver.	The	World	Health	Organization	estimates	that	there	are	as	many	as	170	million	people	chronically	infected with	HCV	worldwide	and	that	an	additional	3	million	to	4	million	people	are	infected	each	year.	Reports	published	by	the	American	Association	for	the	Study	of	Liver Disease	have	estimated	that	approximately	3.4	million	people	in	the	United	States	are	chronically	infected	with	HCV,	and	the	American	Liver	Foundation	estimates	that 8,000	to	10,000	people	in	the	United	States	die	as	a	result	of	HCV	infection	each	year.

Currently,	there	is	no	vaccine	available	to	prevent	HCV	infection.	The	current	standard	treatment	for	genotype	1	HCV	infection	is	a	combination	of	pegylated interferon,	or	peg-IFN,	and	ribavirin,	or	RBV,	administered	for	up	to	48	weeks.	This	treatment	regimen	is	associated	with	significant	side	effects,	including	fatigue,	flu- like	symptoms,	depression	and	anemia.	Among	patients	who	begin	treatment,	approximately	50%	of	patients	infected	with	genotype	1	HCV,	the	most	common	HCV genotype	in	the

United	States,	fail	to	either	complete	treatment	or	show	a	long-term	sustained	response	to	therapy.	As	a	result,	we	believe	new	safe	and	effective	treatment	options	for HCV	infection	are	needed.

# Telaprevir	Development	Program

We	are	conducting	three	major	Phase	2b	clinical	trials	of	telaprevir.	PROVE	1	is	ongoing	in	the	United	States	and	PROVE	2	is	ongoing	in	European	Union,	both	in treatment-naïve	patients.	PROVE	3	has	commenced	and	is	being	conducted	with	patients	in	North	America	and	the	European	Union	who	did	not	achieve	sustained	viral response	with	previous	interferon-based	treatments.	PROVE	1	and	PROVE	2	are	fully	enrolled,	and	we	commenced	patient	enrollment	in	PROVE	3	in	January	2007.

# PROVE	1	and	PROVE	2

We	expect	that	together,	the	PROVE	1	and	PROVE	2	clinical	trials	will	evaluate	rates	of	sustained	viral	response,	or	SVR,	in	approximately	580	treatment-naïve patients	infected	with	genotype	1	HCV,	including	patients	who	will	receive	telaprevir	and	patients	in	the	control	arms.	SVR	is	defined	as	undetectable	viral	levels	24 weeks	after	all	treatment	has	ceased.

A	description	of	each	of	the	clinical	trial	arms	for	the	PROVE	1	and	PROVE	2	clinical	trials,	including	the	intended	number	of	patients	in	each	trial,	is	set	forth	in the	following	table:

| Treatment	Regimen | Number	of<br>Patients<br>(treatment	naïve)<br>PROVE	1 | Number	of<br>Patients<br>(treatment	naïve)<br>PROVE	2 | Total |
| :--- | :--- | :--- | :--- |
| 12-week\tregimens\tof\ttelaprevir\tin\tcombination\twith\tpeg-IFN\tand\tRBV | 20 | 80 | 100 |
| 12-week\tregimens\tof\ttelaprevir\tin\tcombination\twith\tonly\tpeg-IFN | 0 | 80 | 80 |
| 12-week\tregimens\tof\ttelaprevir\tin\tcombination\twith\tpeg-IFN\tand\tRBV,\tfollowed\tby |  |  |  |
| 12\tweeks\tof\ttherapy\twith\tpeg-IFN\tand\tRBV | 80 | 80 | 160 |
| 12-week\tregimens\tof\ttelaprevir\tin\tcombination\twith\tpeg-IFN\tand\tRBV,\tfollowed\tby |  |  |  |
| 36\tweeks\tof\ttherapy\twith\tpeg-IFN\tand\tRBV | 80 | 0 | 80 |
| 48-weeks\tof\ttherapy\twith\tpeg-IFN\tand\tRBV | 80 | 80 | 160 |
| Total | 260 | 320 | 580 |

The	PROVE	1	and	PROVE	2	clinical	trials	together	have	the	following	four	key	objectives:

·							to	evaluate	the	optimal	SVR	rate	that	can	be	achieved	with	telaprevir	therapy	in	combination	with	peg-IFN	and	RBV;

·							to	evaluate	the	optimal	treatment	duration	for	telaprevir	combination	therapy;

·							to	evaluate	the	role	of	RBV	in	telaprevir-based	therapy;	and

·							to	evaluate	the	safety	of	telaprevir	in	combination	with	peg-IFN	and	RBV.

In	the	PROVE	1	and	PROVE	2	clinical	trials,	patients	receive	telaprevir	in	a	tablet	formulation	at	a	dose	of	750	mg	every	eight	hours	for	12	weeks.	The	PROVE	1 clinical	trial	is	double-blinded	and	placebo-controlled,	and	the	PROVE	2	clinical	trial	is	partially-blinded	and	placebo-controlled.

In	December	2006,	we	announced	results	from	a	planned	interim	safety	and	antiviral	activity	analysis	that	was	conducted	and	reviewed	by	the	independent	data monitoring	committee	overseeing	the	PROVE	1	clinical	trial.	As	of	the	cut-off	date	of	the	interim	analysis,	a	total	of	250	patients	had	been	enrolled	in	the	PROVE	1 clinical	trial	and	received	at	least	one	dose	of	telaprevir	or	placebo.	In	the	data	reported,	the	patients	in	all	three	telaprevir-containing	arms	(approximately	175	patients) were	pooled	together	and	the	results	were	compared	to	the	results	in	the	control	arm	of	peg-IFN	and	RBV	and	placebo	(approximately	75	patients).

At	the	time	of	the	data	cut-off	for	the	safety	analysis,	approximately	100	patients	had	completed	12	weeks	on-study	and	more	than	200	patients	had	completed eight	weeks.	The	most	common	adverse

events	were	similar	in	type	between	the	two	groups.	Of	these,	the	adverse	events	that	were	more	commonly	reported	in	the	telaprevir	arms	included	gastrointestinal disorders	and	rash.	In	the	telaprevir	groups,	9%	of	patients	had	discontinued	treatment	due	to	adverse	events,	including	3%	as	a	result	of	rash,	compared	to	3%	of patients	who	discontinued	treatment	due	to	adverse	events	in	the	control	arm.	The	difference	between	the	two	groups	is	due	to	the	greater	number	of	discontinuations	due to	rash,	gastrointestinal	disorders,	and	anemia	in	the	telaprevir	arms	compared	to	the	control	arm.	Serious	adverse	events	were	noted	in	3%	of	patients	in	the	telaprevir groups	and	1%	of	patients	in	the	control	group.

The	table	below	summarizes	available	HCV	preliminary	results	at	week	12:

# PROVE	3

In	the	PROVE	3	clinical	trial,	we	expect	to	evaluate	SVR	rates	in	approximately	440	patients	infected	with	genotype	1	HCV	located	in	North	America	and	the European	Union	who	did	not	achieve	SVR	with	previous	interferon-based	treatments.	We	expect	to	complete	enrollment	in	this	double-blinded	and	placebo-controlled clinical	trial	by	the	end	of	the	second	quarter	of	2007.	Patients	in	the	telaprevir	arms	of	the	PROVE	3	clinical	trial	will	receive	telaprevir	in	a	tablet	formulation	at	a	dose

A	description	of	each	of	the	clinical	trial	arms	of	the	PROVE	3	clinical	trial,	including	the	intended	number	of	patients	in	the	trial,	is	set	forth	in	the	following	table:

| Treatment	Regimen | Number	of<br>Patients<br>(treatment	failure)<br>PROVE	3 |
| :--- | :--- |
| 12-week\tregimens\tof\ttelaprevir\tin\tcombination\twith\tpeg-IFN\tand\tRBV,\tfollowed\tby\t12\tweeks\tof\ttherapy\twith\tpeg-IFN\tand\tRBV | 110 |
| 24-week\tregimens\tof\ttelaprevir\tin\tcombination\twith\tonly\tpeg-IFN | 110 |
| 24-week\tregimens\tof\ttelaprevir\tin\tcombination\twith\tpeg-IFN\tand\tRBV,\tfollowed\tby\t24\tweeks\tof\ttherapy\twith\tpeg-IFN\tand\tRBV | 110 |
| 48-weeks\tof\ttherapy\twith\tpeg-IFN\tand\tRBV | 110 |
| Total | 440 |

The	PROVE	3	clinical	trial	has	the	following	two	key	objectives:

·							to	evaluate	the	SVR	rate	that	can	be	achieved	with	telaprevir	therapy	in	combination	with	peg-IFN	and	RBV	in	patients	who	have	not	achieved	SVR	with previous	interferon-based	treatments;	and

·							to	evaluate	the	safety	profile	of	telaprevir	administered	in	a	24-week	course	of	therapy	of	telaprevir	in	combination	with	peg-IFN	and	RBV.

# Previous	Trials

From	late	2004	through	early	2006,	we	conducted	a	series	of	small-scale	clinical	trials	of	telaprevir	in	healthy	volunteers	and	HCV-infected	patients	designed	to evaluate	safety,	pharmacokinetics	and	antiviral	activity	of	telaprevir.	The	first	of	these	trials,	a	Phase	1	clinical	trial	of	telaprevir	in	healthy	volunteers,	was	completed	in 2004.	The	next	two	trials	were	Phase	1b	trials	conducted	in	2005—a	trial	of	telaprevir	as	monotherapy	completed	early	in	2005,	and	a	trial	of	telaprevir	dosed	together with	peg-IFN	completed	later	in	2005.	We	also	conducted	a	small	Phase	2a	combination	therapy	clinical	trial	of	telaprevir	dosed	with	peg-IFN	and	RBV,	which	was completed	in	2006.	The	results	of	these	earlier	trials	supported	the	design	and	initiation	of	the	ongoing	PROVE	clinical	trials.	The	results	of	these	trials	represent	clinical treatment	of	small	numbers	of	patients	who	were	initially	dosed	in	clinical	trials	of	telaprevir	for	short	durations	and	may	not	be	predictive	of	patient	outcomes	in	large clinical	trials	evaluating	telaprevir.

# VX-702	(oral	p38	MAP	kinase	inhibitor	for	the	treatment	of	RA	and	other	inflammatory	diseases)

VX-702	is	our	oral	p38	mitogen-activated	protein,	or	MAP,	kinase	inhibitor,	which	we	are	currently	investigating	for	the	treatment	of	RA.	In	March	2006,	we reported	data	from	our	three-month	Phase	2	clinical	trial	of	VX-702	in	patients	with	RA.	In	this	trial,	VX-702	demonstrated	statistically	significant	clinical	effects	on signs	and	symptoms	of	RA	as	measured	by	ACR 	criteria,	as	well	as	several	other	widely	used	clinical	measures.	However,	we	believe	that	the	levels	of	improvement shown	in	this	trial	did	not	warrant	further	development	of	VX-702	as	a	single	agent	for	the	treatment	of	RA.	We	are	conducting	a	12-week,	120-patient	Phase	2a	clinical trial	in	patients	with	RA	to	evaluate	the	safety,	tolerability	and	anti-inflammatory	effects	of	VX-702	on	a	background	of	methotrexate.	In	January	2007,	we	started	a Thorough	QTc	study	of	VX-702.	The	FDA	requires	that	companies	conduct	a	Thorough	QTc	study	of	any	small	molecule	drug	candidate	prior	to	the	commencement	of Phase	3	clinical	trials.	Depending	on	the	results	of	the	12-week	Phase	2a	clinical	trial	and	the	Thorough	QTc	study,	we	plan	to	conduct	a	larger	six-month	Phase	2 clinical	trial	in	patients	with	RA	of	VX-702	on	a	background	of	methotrexate. 20

We	hold	worldwide	development	and	commercialization	rights	to	VX-702,	except	for	Japan	and	certain	Far	East	countries,	where	we	are	collaborating	with	Kissei Pharmaceutical	Co.,	Ltd.	In	2006,	Kissei	completed	a	Phase	1	clinical	trial	of	VX-702	in	Japan	in	RA.

# Background

# p38	MAP	Kinase	Inhibitors	for	Inflammatory	Diseases

The	MAP	kinases	are	a	family	of	structurally-related	human	enzymes	involved	in	intracellular	signaling	pathways	that	enable	cells	to	respond	to	their	environment. The	p38	MAP	kinase	is	involved	in	a	variety	of	cellular	processes,	including	the	onset	and	progression	of	inflammation.	When	activated,	the	p38	MAP	kinase	triggers production	of	multiple	cytokines,	including	interleukin-1,	or	IL-1,	TNF-alpha	and	interleukin-6,	or	IL-6.	Excess	levels	of	IL-1	and	TNF-alpha	are	associated	with	a number	of	acute	and	chronic	inflammatory	diseases.

We	have	extensive	preclinical	and	clinical	experience	with	p38	MAP	kinase	inhibitors,	which	we	believe	may	be	a	useful	new	class	of	oral	anti-inflammatory	drugs.

# Rheumatoid	Arthritis

Rheumatoid	arthritis,	a	systemic	disease,	is	the	most	common	form	of	inflammatory	arthritis.	RA	has	a	prevalence	of	about	1%	of	the	worldwide	population	and	an annual	incidence	of	3	cases	per	10,000	adults.	RA	causes	pain,	swelling	and	loss	of	function	in	affected	joints.	The	disease	is	often	accompanied	by	significant	morbidity and	mortality.	Patients	with	RA	also	have	a	significant	impairment	in	their	quality	of	life.

The	current	first	line	standard	treatment	for	RA	is	administration	of	a	disease-modifying	anti-rheumatic	drug,	or	DMARD,	most	commonly	methotrexate.	Injectable methotrexate,	are	used	when	disease	activity	is	not	controlled	by	DMARDs	and	non-steroidal	anti-inflammatory	drugs.	We	believe	that	an	oral	agent	that	successfully targets	TNF	production	may	provide	an	attractive	treatment	option	for	patients	with	RA. anti-tumor	necrosis	factor,	or	TNF,	agents	such	as	Enbrel ®	(etanercept),	Humira ®	(adalimumab)	and	Remicade ®	(infliximab),	generally	on	a	background	of

# VX-702	Development	Program

In	March	2006,	we	obtained	results	from	our	315-patient	three-month	Phase	2	clinical	trial	of	VX-702,	in	RA	which	we	refer	to	as	the	VeRA	trial.	A	total	of	278 patients	completed	12	weeks	of	treatment	in	this	double-blind,	randomized	and	placebo-controlled	trial.	Patients	received	either	5	mg	or	10	mg	of	VX-702	once	daily,	or placebo.	In	addition	to	VX-702,	patients	could	receive	certain	DMARDs,	but	could	not	receive	methotrexate	or	anti-TNF	therapies.	At	the	end	of	12	weeks,	patients completed	dosing	with	VX-702	and	were	evaluated	for	improvement	in	clinical	signs	and	symptoms	according	to	American	College	of	Rheumatology	criteria,	or	ACR ACR 	is	a	standardized	measure	based	on	a	patient's 20 20

attainment	of	at	least	a	20%	improvement	in	ACR-specified	indicators	of	RA	activity.	In	comparing	differences	in	outcomes	between	treatments	in	a	clinical	trial, statistical	significance	testing	is	used	to	establish	the	probability	that	the	observed	differences	did	not	occur	by	chance.	The	result	of	statistical	testing	is	often	defined	in terms	of	a	"p-value,"	with	a	level	of	0.05	or	less	considered	to	be	a	statistically	significant	difference.

In	this	clinical	trial,	treatment	with	VX-702	led	to	a	dose-dependent,	statistically	significant	increase	in	week	12	ACR 	response	rates,	the	primary	endpoint	of	the clinical	trial.	Thirty	percent	of	patients	receiving	placebo,	38%	of	patients	receiving	5	mg	daily	of	VX-702	and	40%	of	patients	receiving	10	mg	daily	of	VX-702 achieved	an	ACR 	response	at	week	12	(p-value=0.04;	Jonckheere-Terpstra	test	for	increasing	dose-response).	In	addition,	32%	of	placebo	patients,	41%	of	5	mg	VX- 702-treated	patients	and	44%	of	10	mg	VX-702-treated	patients	achieved	a	EULAR	(moderate	or	good)	response	(p=0.01).	EULAR	is	another	standardized	measure	of indicators	of	RA	under	criteria	specified	by	the	European	League	Against	Rheumatism.	Dose-dependent	statistically	significant	effects	also	were	seen	on	tender	joint counts	(p=0.007),	swollen	joint	counts	(p=0.003),	disease	activity	score	(DAS28;	p=0.02)	and	morning	stiffness	(p=0.03). 20 20

In	2004,	we	completed	a	Phase	2a	double-blind,	randomized,	placebo-controlled,	dose-escalation	clinical	trial	of	VX-702	for	the	treatment	of	patients	with	acute coronary	syndrome,	or	ACS,	undergoing	percutaneous	coronary	intervention,	or	PCI,	such	as	stent	placement.	p38	MAP	kinase	regulates	the	production	of	key inflammatory	cytokines	implicated	in	the	pathogenesis	of	ACS.	This	Phase	2a	trial	of	VX-702	was	designed	to	evaluate	the	safety,	tolerability	and	pharmacokinetics	of VX-702	in	45	patients	with	unstable	angina	and	elevated	levels	of	c-reactive	protein,	a	marker	of	inflammation	measured	in	the	blood,	undergoing	PCI.	In	the	Phase	2a ACS	trial,	there	were	no	clinically	significant	differences	between	treatment	and	placebo	groups	with	respect	to	adverse	events,	and	VX-702	met	pre-established	safety and	pharmacokinetic	objectives.

Clinical	trials	of	a	number	of	other	p38	MAP	kinase	inhibitors	have	demonstrated	dose-dependent	elevations	in	liver	enzymes,	which	generally	are	thought	to	be markers	for	liver	injury.	In	2004,	we	completed	a	28-day	trial	of	VX-702	in	healthy	volunteers	designed	specifically	to	evaluate	the	effect	of	VX-702	on	liver	enzymes. This	trial	showed	some	transient	elevations	in	liver	enzymes	in	a	small	number	of	subjects.	However,	the	magnitude	of	those	enzyme	elevations	did	not	reach	clinical significance	and	did	not	require	discontinuation	of	dosing.	The	enzyme	levels	returned	to	normal	during	continued	dosing.

In	the	VeRA	trial,	premature	discontinuations	for	adverse	events	across	the	trial	arms	were:	placebo	(2%),	5	mg	(3%)	and	10	mg	(5%).	No	clinically	significant adverse	effects	were	seen	on	laboratory	parameters,	including	liver	function	tests.	The	most	common	adverse	events	that	led	to	treatment	discontinuation	in	patients receiving	VX-702	were	seen	in	two	patients	each	and	were:	gastroenteritis,	nausea/vomiting,	rash,	and	renal	impairment	(increased	serum	creatinine	levels	to	1.2	to	1.5 times	upper	limit	of	normal).	The	most	common	adverse	events	were	generally	mild	or	moderate	and	were:	infection	(5%	of	placebo	patients	and	10%	of	VX-702 patients),	gastrointestinal	disorders	(6%	placebo	and	8%	VX-702),	and	skin	disorders	(0%	placebo	and	9%	VX-702).	In	electrocardiograms	conducted	during	the	VeRA trial,	increases	in	QT	interval	(a	measure	of	electrical	conduction	in	the	heart)	were	seen	in	the	VX-702	treatment	groups,	but	no	patient	in	the	VeRA	trial	experienced	a clinically	significant	(60	msec	or	approximately	15%)	increase	in	the	Fridericia	rate-corrected	QT	interval.	We	expect	that	Thorough	QTc	trial	currently	underway	will provide	additional	information	on	the	effects	of	VX-702	on	electrical	conduction	in	the	heart.

# VX-770	(investigational	oral	CFTR	potentiator	for	the	treatment	of	cystic	fibrosis)

VX-770	is	a	small	molecule	drug	candidate	designed	to	potentiate	the	gating	activity	of	the	CFTR	protein,	a	chloride	ion	transporter	on	the	cell	surface	that	is functionally	defective	in	patients	with	cystic	fibrosis.	We	submitted	an	Investigational	New	Drug,	or	IND,	application	with	the	FDA	and	completed	a	Phase	1	clinical trial	of	VX-770	in	2006.	VX-770	received	both	"Fast	Track"	and	"Orphan	Drug"	designations	from	the	FDA	in	2006.

VX-770	was	discovered	by	us	in	our	ongoing	research	collaboration	with	Cystic	Fibrosis	Foundation	Therapeutics	Incorporated,	or	CFFT,	and	with	the	support	and participation	of	the	Cystic	Fibrosis	Foundation.	We	hold	worldwide	development	and	commercialization	rights	to	VX-770.	We	would	be	required	to	pay	CFFT	royalties on	any	future	sales	of	VX-770.

Cystic	fibrosis	is	a	genetic	disease	afflicting	approximately	30,000	people	in	the	United	States.	The	symptoms	of	cystic	fibrosis,	particularly	the	development	of thick	mucous	that	causes	lung	tissue	inflammation	and,	ultimately,	irreversible	lung	damage,	are	caused	by	defects	in	the	CFTR	protein.	A	leading	hypothesis	is	that mucous	accumulates	in	the	lung	due	to	improper	water	and	salt	(including	chloride	ion)	transport	across	the	cell	surface	membrane.	Using	our	expertise	in	ion	channels, including	high-content	cell	assays	and	medicinal	chemistry,	we	have	identified	selective	ion	channel	modulators	for	potential	application	to	the	treatment	of	CF.	VX-770 may	work	by	increasing	the	frequency	with	which	the	CFTR	channel	is	open,	which	could	result	in	an	increase	in	chloride	transport	across	the	cell	membrane.	In laboratory	studies	involving	bronchial	epithelial	cells	isolated	from	cystic	fibrosis	patients,	our	researchers	have	demonstrated	that	potentiator	compounds	may	improve CFTR	function.

In	2006,	we	completed	a	Phase	1	clinical	trial	of	VX-770	in	63	individuals,	including	healthy	volunteers	and	patients	with	CF.	Healthy	volunteers	in	the	Phase	1	trial received	escalating	doses	of	VX-770	for	treatment	durations	of	up	to	14	days,	and	patients	with	CF	received	single	doses	of	VX-770.		A	rash	was	observed	in	some subjects	during	the	multi-dose	arm	of	the	trial.	However,	we	believe	that	the	trial	results	support	a	Phase	2	clinical	trial	of	VX-770.	We	plan	to	initiate	this	Phase	2 clinical	trial	of	VX-770	in	patients	with	CF	in	the	second	quarter	of	2007.

# VX-883	(gyrase	inhibition	for	the	treatment	of	bacterial	infection)

VX-883	is	a	novel,	Vertex-discovered	dual-mechanism	investigational	antibiotic	currently	in	preclinical	development	that	targets	both	DNA	gyrase	and topoisomerase	IV.	DNA	gyrase	and	topoisomerase	IV	are	enzymes	that	are	essential	to	bacteria	during	the	replication	process.	DNA	gyrase	and	topoisomerase	IV inhibitors	already	on	the	market	have	proven	to	be	potent,	broad-spectrum	antibiotics	and	are	used	to	treat	a	variety	of	common	Gram-positive	and	Gram-negative bacterial	infections	in	various	treatment	settings.	While	existing	gyrase	and	topoisomerase	IV	inhibitors	work	by	interacting	with	the	GyrA	and	ParC	subunits	of	DNA gyrase	and	topoisomerase	IV,	VX-883	targets	the	GyrB	and	ParE	subunits.	VX-883	is	active,	in	vitro,	against	Gram-positive	and	Gram-negative	bacterial	pathogens prevalent	in	both	community	and	hospital	settings,	including	certain	pathogens	that	are	less	susceptible	to	other	classes	of	antibiotics,	such	as	agents	targeting	the	other subunits	of	gyrase	and	topoisomerase	IV.	Accordingly,	we	believe	that	VX-883	may	be	useful	in	treating	infections	caused	by	drug	resistant	bacteria,	including methicillin-resistant	Staphylococcus	aureus,	commonly	referred	to	as	MRSA,	a	major	and	growing	problem	with	currently	marketed	antibiotics.	Depending	on	the outcomes	of	specific	preclinical	activities	we	are	conducting	in	early	2007,	we	plan	to	initiate	a	Phase	1	clinical	trial	of	VX-883	later	in	2007.

We	hold	worldwide	development	and	commercial	rights	to	VX-883.

# Collaborator-Led	Programs

# Lexiva/Telzir:	HIV	protease	inhibition	for	the	treatment	of	HIV/AIDS	(GlaxoSmithKline	plc)

Infection	with	HIV	can	lead	to	AIDS,	a	severe,	life-threatening	impairment	of	the	immune	system.	According	to	the	Joint	United	Nations	Programme	on HIV/AIDS,	an	estimated	39.5	million	people	worldwide	were	living	with	HIV	in	2006.	The	United	States	National	Institutes	of	Health	has	estimated	that	there	may	be as	many	as	950,000	individuals	in	the	United	States	infected	with	HIV.	There	are	four	classes	of	antiviral	drugs	approved	for	the	treatment	of	HIV	infection	and	AIDS: nucleoside	reverse	transcriptase	inhibitors,	such	as	AZT	and	3TC;	non-nucleoside	reverse	transcriptase	inhibitors,	such	as	efavirenz;	the	fusion	inhibitor	enfuvirtide;	and HIV	protease	inhibitors,	or	HIV	PIs.	HIV	PIs	are	used	as	part	of	combination	regimens	for	the	treatment	of	HIV.	HIV	PIs	block	the	cleavage	of	HIV	polyproteins	into active	proteins,	and	result	in	the	production	of	non-infectious	viral	particles.	The	HIV	PI	ritonavir	has

been	shown	to	significantly	boost	the	levels	of	certain	other	PIs	in	the	bloodstream	and	therefore	co-administration	of	HIV	PIs	with	ritonavir	has	become	progressively more	frequent	in	clinical	practice	as	a	strategy	for	achieving	maximum	antiviral	activity,	reducing	the	likelihood	of	treatment	failure	(viral	breakthrough),	and	lowering the	overall	pill	count	for	patients.	Sales	of	HIV	PIs	in	the	United	States	exceeded	$2.0	billion	(excluding	ritonavir)	in	2006,	an	increase	of	approximately	14%	from 2005.	The	United	States	market	for	HIV	PIs	is	highly	competitive,	with	a	number	of	HIV	PIs	currently	on	the	market.

Our	HIV	PI,	fosamprenavir	calcium,	is	marketed	by	our	collaborator	GlaxoSmithKline	under	the	name	Lexiva	in	the	United	States	and	under	the	name	Telzir	in	the European	Union.	Lexiva/Telzir	was	co-discovered	by	us	and	GlaxoSmithKline	and	was	developed	by	GlaxoSmithKline	under	our	collaboration	with	them.

GlaxoSmithKline	has	worldwide	marketing	rights	for	Lexiva/Telzir,	and	we	have	the	right	to	conduct	certain	promotional	and	educational	activities	for	Lexiva/Telzir	in the	United	States	and	the	European	Union.	We	also	have	the	right,	which	we	have	not	exercised,	to	supply	bulk	drug	substance	to	GlaxoSmithKline.	We	receive royalties	on	GlaxoSmithKline's	sales	of	Lexiva/Telzir.

Lexiva/Telzir	is	a	prodrug	of	amprenavir,	which	also	was	discovered	and	developed	under	our	collaboration	with	GlaxoSmithKline	and	marketed	under	the	name Agenerase.	Lexiva/Telzir	has	replaced	Agenerase	in	worldwide	markets.	A	prodrug	is	an	inactive	compound	that	is	metabolized	by	the	body	to	become	the	active	drug. Due	to	the	physical	properties	of	prodrugs	such	as	Lexiva/Telzir,	it	is	possible	to	achieve	a	higher	effective	dose	of	the	active	drug	for	each	prodrug	pill	administered,

# resulting	in	a	smaller	pill	burden	for	patients.

In	September	2006,	GlaxoSmithKline	announced	with	us	at	the	46th	Annual	Interscience	Conference	on	Antimicrobial	Agents	and	Chemotherapy,	or	ICAAC,	data from	a	randomized,	open-label,	multicenter	international	Phase	3b	clinical	trial	comparing	the	safety	and	efficacy	of	Lexiva	in	combination	with	ritonavir	to	lopinavir	in combination	with	ritonavir.	The	analysis	of	this	clinical	trial	presented	at	ICAAC	describes	the	virologic	response	and	resistance	patterns	associated	with	virologic failure.	At	48	weeks,	four	percent	of	the	434	patients	in	the	Lexiva/ritonavir	arm	and	five	percent	of	the	444	patients	in	the	lopinavir/ritonavir	arm	experienced	virologic failure,	which	was	defined	as	either	a	failure	to	achieve	plasma	HIV-1	RNA	of	less	than	400c/mL	by	week	24,	or	confirmed	rebound	in	plasma	HIV-1	RNA	to	greater than	400	c/mL.

Lexiva	was	launched	in	the	United	States	in	late	2003,	and	in	certain	European	Union	countries	in	the	third	quarter	of	2004.	In	2006,	Lexiva	generated	the	third largest	sales	revenues	among	HIV	PI	inhibitors	in	the	United	States,	excluding	ritonavir,	and	it	currently	holds	an	approximate	11%	share	of	the	United	States	HIV	PI market	based	on	total	prescriptions	(also	excluding	ritonavir).	Lexiva/Telzir	is	currently	approved	for	sale	in	approximately	45	countries	worldwide,	including	the	United States,	France,	Germany,	Spain,	Italy,	the	United	Kingdom	and	Canada.

We	are	collaborating	with	Merck	in	the	area	of	Aurora	kinase	inhibitors,	including	MK-0457	(VX-680),	MK-6592	(VX-667)	and	additional	potential	follow-on compounds.	Aurora	kinases	are	enzymes	thought	to	play	multiple	roles	in	the	development	and	progression	of	cancer,	acting	as	regulators	of	cell	proliferation, transforming	normal	cells	into	cancer	cells	and	downregulating	p53,	one	of	the	body's	natural	tumor	suppressors.	MK-0457	(VX-680)	is	a	potent	inhibitor	of	Aurora kinases	and	of	flt-3	kinase,	a	receptor	tyrosine	kinase	that	is	known	to	be	inappropriately	activated	in	several	different	types	of	leukemia.	We	believe	that	inhibitors	of Aurora	kinases	may	be	useful	as	highly	targeted	treatments	for	a	range	of	oncology	indications.

As	part	of	the	collaboration,	we	conducted	a	joint	research	program	with	Merck	to	characterize	MK-0457	(VX-680)	activity	across	a	broad	range	of	cancer	types and	to	identify	additional	drug	candidates	targeting	the	Aurora	kinases.	Merck	holds	worldwide	development	and	commercialization	rights	to

MK-0457	(VX-680),	MK-6592	(VX-667)	and	certain	additional	compounds	identified	during	the	research	program.

In	December	2006,	Merck	initiated	a	pivotal	Phase	2	clinical	trial	of	MK-0457	(VX-680)	in	patients	with	treatment-resistant	chronic	myelogenous	leukemia,	or CML,	and	Philadelphia	chromosome-positive	acute	lymphocytic	leukemia,	or	Ph+	ALL,	containing	the	T315I	BCR-ABL	mutation	based	on	encouraging	results	from	a Phase	1	clinical	trial	of	MK-0457	(VX-680).	This	clinical	trial	is	expected	to	enroll	approximately	270	patients.	In	the	trial,	MK-0457	(VX-680)	will	be	given	as	a	five- day	intravenous	infusion	every	two	to	three	weeks	to	evaluate	both	safety	and	efficacy.

In	December	2006,	Merck	also	reported	the	results	of	its	Phase	1	clinical	trial	for	MK-0457	(VX-680)	in	patients	with	CML,	in	patients	with	Ph+	ALL	with	the T315I	BCR-ABL	mutation	and	in	patients	with	refractory	JAK-2	positive	myeloproliferative	diseases.	Merck	reported	that	the	Phase	1	dose	escalation	clinical	trial evaluated	44	adult	patients	with	advanced	leukemias	and	myeloproliferative	disorders	who	were	treated	with	MK-0457	(VX-680)	given	as	a	five-day	intravenous infusion	every	two-to-three	weeks.	Out	of	the	15	patients	with	refractory	CML,	nine	patients	had	a	T315I	BCR-ABL	mutation.	Eight	of	these	nine	T315I	patients	had either	a	hematologic	and/or	cytogenetic	response	to	MK-0457	(VX-680)	following	multiple	cycles	of	treatment.	The	six	patients	without	the	T315I	BCR-ABL	mutation (of	the	15	patients	with	refractory	CML)	did	not	exhibit	any	clinical	responses	to	administration	of	MK-0457	(VX-680).

Merck	also	reported	that	two	patients	in	the	clinical	trial	with	Ph+	ALL	carrying	the	T315I	mutation	had	either	hematologic	and/or	cytogenetic	responses,	including one	patient	who	had	a	clinical	response	with	a	full	molecular	remission.	Six	of	nine	patients	with	myeloproliferative	disorders	having	the	V617F	activating	mutation	in JAK-2	also	had	clinical	responses.	These	clinical	responses	were	consistent	with	drug	effects	observed	in	leukemic	cells.

The	Phase	1	clinical	trial	of	MK-0457	(VX-680)	was	designed	primarily	to	evaluate	the	safety	of	VX-680	given	as	a	five-day	continuous	infusion,	to	determine maximum	tolerated	dose	and	dose-limiting	toxicities,	and	to	assess	pharmacokinetics	and	pharmacodynamics.	Merck	reported	that	no	drug-related	non-hematological toxicities	were	observed	with	MK-0457	(VX-680)	in	the	clinical	trial	and	therefore	a	maximum-tolerated	dose	has	not	yet	been	established.	Side	effects	were	observed	in the	clinical	trial	and	included	a	lower	white	blood	cell	count,	nausea,	hair	loss,	and	inflammation	in	the	mouth.

Merck	also	is	conducting	a	Phase	2a	clinical	trial	of	MK-0457	(VX-680)	in	patients	with	lung	cancer,	a	Phase	1	clinical	trial	of	MK-0457	(VX-680)	in	patients	with recurrent	or	non-responsive	solid	tumors	and	a	Phase	1	clinical	trial	of	MK-0457	(VX-680)	in	patients	with	solid	tumor	and/or	colorectal	cancer.

Vertex	researchers	published	the	three-dimensional	atomic	structure	of	Aurora-A	kinase	in	2002,	and	published	the	structure	of	flt-3	kinase	in	January	2004.	We also	presented	preclinical	data	in	a	number	of	research	and	medical	venues	in	2003	suggesting	that	MK-0457	(VX-680)	should	be	further	investigated	to	determine	its potential	to	treat	several	different	cancer	types	for	which	there	are	currently	few	or	no	available	treatments.	In	a	paper	published	in	February	2004,	our	researchers reported	demonstrating	for	the	first	time	that	a	selective	small	molecule	inhibitor	of	Aurora	kinase	MK-0457	(VX-680)	inhibited	tumor	growth	and	induced	tumor regression	in	xenograft	models	of	human	pancreatic	and	colon	cancer.	In	addition,	our	researchers	have	presented	data	showing	that	MK-0457	(VX-680)	prolonged survival	and	induced	sustained	remission	in	an	oncogene-driven	model	of	acute	myelocytic	leukemia.

In	2005,	Merck	selected	MK-6592	(VX-667),	a	second	Aurora	kinase	inhibitor,	for	preclinical	development.	In	December	2006,	Merck	initiated	a	Phase	1	clinical trial	of	MK-6592	(VX-667)	in	oncology	patients	with	advanced	solid	tumors.

# AVN-944	(VX-944):	IMPDH	inhibition	for	the	treatment	of	cancer	(Avalon	Pharmaceuticals,	Inc.)

Our	collaborator	Avalon	Pharmaceuticals	is	developing	AVN-944	(VX-944),	an	IMPDH	inhibitor,	for	the	treatment	of	advanced	hematological	malignancies,	such as	leukemia,	lymphoma	or	myeloma.	Inosine	5-monophosphate	dehydrogenase,	or	IMPDH,	is	an	enzyme	thought	to	be	critical	for	the	synthesis	of	quanosine triphosphate,	a	molecule	required	for	DNA	synthesis	and	cellular	signalling.	IMPDH	is	over-expressed	in	many	cancer	cells,	especially	for	hemotological	malignancies. Reports	in	medical	literature	and	presentations	at	scientific	conferences	provide	a	clinical	rationale	for	the	development	of	IMPDH	inhibitors	for	the	treatment	of hematologic	malignancies.	Results	from	certain	preclinical	studies	of	AVN-944	(VX-944)	indicated	that	AVN-944	(VX-944)	inhibited	the	in	vitro	proliferation	of lymphoid	and	myeloid	cells,	the	principal	cells	involved	in	the	most	common	types	of	human	leukemias.	AVN-944	(VX-944)	also	significantly	prolonged	survival	in	a model	of	aggressive	mouse	leukemia.	In	a	single-dose,	dose-escalation	Phase	1	clinical	trial	of	AVN-944	(VX-944)	in	healthy	volunteers,	data	indicated	that	AVN-944 (VX-944)	was	orally	bioavailable.

In	January	2006,	Avalon	initiated	a	Phase	1	clinical	trial	in	the	United	States	of	AVN-944	(VX-944)	in	patients	with	advanced	hematological	cancer.	In December	2006,	Avalon	announced	interim	results	from	an	ongoing	open-label,	repeat	dose-escalation	clinical	trial	designed	to	evaluate	the	safety	and	tolerability	of AVN-944	(VX-944)	in	patients	with	advanced	hematologic	malignancies	and	to	determine	the	optimal	dose	for	Phase	2	clinical	trials.	Avalon	reported	that	AVN-944 (VX-944)	demonstrated	a	statistically	meaningful	impact	on	IMPDH	and	other	certain	genes	that	are	known	to	be	involved	with	cancer,	including	nucleotide biosynthesis,	energy	and	metabolism,	DNA	replication,	apoptosis	and	cell	cycle	control.

Avalon	holds	worldwide	development	and	commercialization	rights	to	AVN-944	(VX-944).

# VX-409:	Selective	sodium	channel	modulation	for	the	treatment	of	pain	(GlaxoSmithKline	plc)

GlaxoSmithKline	is	leading	the	development	of	VX-409,	an	oral,	subtype-selective	sodium	channel	modulator,	and	certain	additional	back-up	compounds	as potential	drug	candidates	for	the	treatment	of	pain.	VX-409	and	the	backup	compounds	were	discovered	through	our	San	Diego-based	ion	channel	research	program using	the	capabilities	and	proprietary	technologies	that	are	unique	to	that	site.

GlaxoSmithKline	holds	worldwide	development	and	commercialization	rights	to	VX-409	and	certain	backup	compounds.

# Other	Programs

We	have	a	number	of	additional	drug	candidates.	These	drug	candidates	include	the	following	drug	candidates	for	which	we	may	consider	entering	into collaborative	arrangements	in	order	to	advance	their	development.

VX-692	is	a	novel,	Vertex-discovered	investigational	antibiotic,	which	targets	both	DNA	gyrase	and	topoisomerase	IV	and	is	active,	in	vitro,	against	Gram-positive and	Gram-negative	bacterial	pathogens.	We	are	currently	evaluating	VX-692	in	preclinical	development.	We	hold	worldwide	development	and	commercial	rights	to	VX- 692.

# VX-166	(caspase	inhibition	for	the	treatment	of	liver	disease	and	sepsis)

VX-166	is	a	novel,	Vertex-discovered	inhibitor	of	multiple	caspases.	Inhibition	of	caspases	has	been	shown	to	inhibit	apoptosis,	a	critical	component	in	the pathology	of	several	liver	diseases	and	the	onset	and	progression	of	sepsis.	We	have	demonstrated	in	animal	models	that	administration	of	VX-166	may	be	useful	in	the treatment	of	such	indications	as	acute	liver	disease	and	sepsis.	We	hold	worldwide	rights	to	VX-166.

# VX-765	(ICE	inhibition	for	the	treatment	of	inflammatory	diseases)

We	discovered	and	have	completed	certain	development	activities	with	respect	to	two	interleukin-1	converting	enzyme,	or	ICE,	inhibitors	for	the	treatment	of inflammatory	diseases,	VX-765	and	pralnacasan.	ICE	is	an	enzyme	that	controls	the	release	of	active	IL-1	(one	of	two	forms	of	IL-1)	and	IL-18,	which	have	been correlated	with	disease	states	in	a	number	of	acute	and	chronic	inflammatory	diseases.	Phase	1	clinical	trials	of	VX-765	in	healthy	volunteers	demonstrated	a	dose- dependent	decrease	in	levels	of	IL-18,	the	first	time	this	has	been	demonstrated	for	any	therapeutic	agent.	During	2005,	we	completed	the	clinical	portion	of	our	four week,	Phase	2a	clinical	trial	of	VX-765,	in	68	patients	with	psoriasis.	We	believe	these	results	of	preclinical	studies	and	clinical	trials	to	date	warrant	further investigation	of	VX-765.

Our	first	generation	ICE	inhibitor,	pralnacasan,	was	developed	in	collaboration	with	Sanofi-Aventis	(then	Aventis).	Phase	2	clinical	trials	of	pralnacasan	conducted by	Aventis	suggested	that	treatment	with	pralnacasan	produced	positive	anti-inflammatory	effects	in	patients	with	RA	and	led	to	dose-dependent	suppression	of	the production	of	IL-1.	In	2003,	Aventis	and	Vertex	voluntarily	suspended	the	clinical	development	of	pralnacasan	pending	full	analysis	of	findings	that	emerged	from	a nine-month	nonclinical	toxicology	study.	In	that	nonclinical	study,	high	doses	of	pralnacasan	were	associated	with	the	development	of	fibrosis	in	circumscribed	areas	of the	liver	of	one	species	of	animal.

# Merimepodib	(VX-497)	(IMPDH	inhibition	for	the	treatment	of	autoimmune	diseases)

We	currently	are	completing	the	data	analysis	phase	of	our	Phase	2b	clinical	trial	of	merimepodib,	an	oral,	small	molecule	inhibitor	of	inosine	5-monophosphate dehydrogenase,	or	IMPDH,	for	the	treatment	of	HCV	infection.	The	goal	of	this	clinical	trial,	referred	to	as	the	METRO	trial,	was	to	evaluate	the	safety, pharmacokinetics	and	efficacy	of	merimepodib	in	combination	with	peg-IFN	and	RBV.	In	the	HCV	field,	we	currently	are	focusing	our	efforts	on	the	development	of direct	antivirals	such	as	telaprevir.	We	currently	do	not	plan	to	conduct	additional	merimepodib	clinical	trials	in	HCV	infection	after	the	METRO	trial	is	completed. Significant	research	on	the	IMPDH	pathway	has	demonstrated	its	potential	utility	in	transplant	and	other	autoimmune	indications.

# RESEARCH	PROGRAMS

We	believe	that	our	integrated	drug	design	approach	has	significantly	enhanced	our	ability	to	discover	and	develop	small	molecule	drug	candidates	directed	at biologically	complex	targets,	including	novel	targets	identified	by	genomic	research.	We	believe	that	our	approach	has	been	validated	through	our	ability	to	interest prospective	collaborators	in	our	research	output	and	by	our	success	in	moving	drug	candidates	into	clinical	trials.	We	have	recently	decided	to	focus	on	several	core disease	areas,	in	order	to	expand	and	develop	our	expertise	and	leadership	in	specific	disease	areas	and	to	permit	a	framework	for	portfolio	planning	and	execution. Currently,	the	four	disease	areas	of	highest	priority	to	us	are:		infectious	diseases;	immunological/inflammatory	diseases;	cancer;	and	neurological	diseases	and disorders.		These	disease	areas	were	selected	by	mapping	our	research	strengths	onto	disease	areas	with	high	unmet	need,	with	an	emphasis	on	indications	where	we believe	we,	independently	or	in	collaboration	with	other	pharmaceutical	companies,	will	be	able	to	discover,	develop,	and	commercialize	transforming	medicines consistent	with	our	core	purpose.	Within	each	disease	area,	we	intend	to	specialize	in	specific	indications.

Integrated	Drug	Innovation	Approach.			Our	drug	design	platform	integrates	biology,	pharmacology,	drug	metabolism	and	pharmacokinetics,	toxicology,	material sciences,	biophysics,	medicinal	chemistry	and	process	chemistry,	automation	and	information	technologies	in	a	coordinated	and	simultaneous	fashion	throughout	the discovery	process.	The	goal	of	our	integrated,	interdisciplinary	approach	is	to	make	the	drug	discovery	and	development	process	more	efficient	and	productive.

Focused	Drug	Discovery	in	Target-Rich	Gene	Families.			We	have	pioneered	a	novel	approach	to	drug	discovery	in	target-rich	gene	families,	which	are	groups	of genes	with	similar	sequences	that	code	for	structurally	similar	proteins.	We	organize	and	cluster	targets	within	a	gene	family	according	to	how	they

interact	with	chemical	inhibitors,	which	allows	us	to	use	high-throughput	screening	technologies,	informatics	and	medicinal	chemistry	to	rapidly	identify	drug-like classes	of	compounds	in	parallel	for	multiple	targets.	Along	with	this	approach,	we	use	a	variety	of	biological	and	chemical	methodologies	that	interrogate	the	function of	newly	discovered	proteins	in	order	to	focus	our	drug	discovery	and	development	efforts	on	the	most	promising	targets	within	the	most	promising	gene	families.	We believe	that	our	systematic	application	of	this	drug	discovery	approach	is	increasing	the	speed	and	efficiency	of	drug	design	efforts	directed	at	novel	biological	targets, and	is	securing	valuable	intellectual	property	for	us	in	gene	families	of	interest.

# Technology	Platform

We	employ	a	variety	of	technologies	and	use	information	from	a	number	of	different	scientific	disciplines	as	part	of	our	integrated	technology	platform.	The	most significant	of	them	are	as	follows.

·							Functional	Genomics.			We	use	functional	genomics	techniques,	such	as	gene	knock-out	mice,	to	help	guide	target	selection	and	test	the	potential	of	chemical compounds	in	disease	models.	We	also	use	antisense,	siRNA,	dominant	negative	cell	lines,	transcriptional	profiling,	proteomics	and	other	biological	approaches to	better	characterize	the	role	played	by	specific	targets	in	cellular	processes.

·							Biophysics.			We	generate	atomic	structural	information	on	molecular	targets	using	X-ray	crystallography	and	nuclear	magnetic	resonance,	or	NMR,	spectroscopy

to	guide	design	and	optimization	of	lead	classes	of	drugs.

·							Computer-based	Modeling.			We	apply	advanced	proprietary	computational	modeling	tools	to	guide	the	evaluation	and	selection	of	compounds	for	synthesis.

During	our	virtual	screening	process,	which	we	refer	to	as	in	silico	screening,	candidate	compounds	are	selected	for	synthesis	and	further	investigation.	We	use proprietary	algorithms	to	sort	and	filter	compounds	for	specific	properties	in	order	to	seek	compounds	that	are	more	likely	to	become	development	candidates.

·							Pharmacokinetics	and	Pharmacology.			We	employ	a	number	of	approaches	to	obtain	predictive	information	on	the	bioavailability,	pharmacokinetic	profile	and efficacy	of	potential	drug	candidates.	These	approaches	include	in	vitro	metabolism	and	toxicological	studies	and	in	vivo	assessment	of	leads	in	hypothetically predictive	animal	models.

·							Assay	Development.			We	use	modern	cell	biology,	enzymology,	and	screening	techniques	to	develop	high-throughput	assays	which	provide	high-quality information	to	support	drug	discovery.	We	also	are	utilizing	our	assay	capabilities	to	develop	novel	proprietary	in	vitro	assays	to	rapidly	establish ADME/toxicology	profiles	for	compounds	in	our	screening	library.

·							High-Throughput	Screening.			We	conduct	assays	for	most	enzyme	and	receptor	targets	using	very	high-throughput	screening	approaches,	many	of	which	are proprietary.	These	assays	enable	us	to	rapidly	generate	large	numbers	of	lead	compounds	and	drug	candidates	across	targets	from	many	different	gene	families. These	approaches	integrate	compound	management,	plate	replication	with	miniaturized	screening,	hit	(potential	lead)	identification	and	follow-up.

·							Material	Sciences.			By	applying	advanced	principles	of	physical	chemistry	and	materials	science	at	the	interface	between	preclinical	drug	discovery	and pharmaceutical	product	development,	we	are	attempting	to	ensure	that	the	drugs	in	our	pipeline	have	excellent	Chemistry,	Manufacturing	and	Controls properties,	or	CMC	properties.	CMC	refers	to	the	FDA	requirement	that	all	drugs	be	manufactured,	stored	and	administered	in	a	controlled	fashion.	Our	materials scientists	study	the	atomic	level	structures	of	drug	candidates,	as	well	as	their	physical	and	chemical	properties.		Utilizing	this	knowledge	together	with molecular	engineering	design	principles,	the	properties	of	a	drug	candidate	are	adjusted	to	improve	the	resultant	active	pharmaceutical	ingredient's	profile. Advances	in	materials	science	have	been	applied	with	great	success	to	the	consumer	products	industries,	the	electronics	industry	and	the	medical	device	industry in	products	such	as	plasma	televisions,	computer	chips	and	artificial	bone	replacements.		Leveraging	advanced	materials	science	technologies	in	the pharmaceutical	industry	to	the	selection	and	development	of	drug

candidates	offers	the	potential	for	a	higher	rate	of	success	in	clinical	development,	decreased	time	to	market,	and	enhanced	product	performance.

·							Instrumentation.			We	have	a	dedicated	research	and	application	development	group,	which	is	responsible	for	designing	and	building	automated	solutions	to address	many	of	the	more	repetitive	and	labor-intensive	aspects	and	processes	of	drug	discovery.	For	example,	most	of	our	ion	channel	research	is	conducted using	E-VIPR,	our	proprietary	screening	technology	that	uses	fluorescent	probes	and	waves	of	electrical	stimulation	to	study	ion	channels.	E-VIPR	provides	an automated,	high-throughput	platform	that	enables	us	to	collect	high	quality	data	at	speeds	up	to	a	thousand	times	faster	than	patch	clamping.

# Current	Research	Programs

Our	past	drug	discovery	efforts	have	produced	a	variety	of	drug	candidates	that	are	currently	in	preclinical	or	clinical	development.	We	believe	our	ongoing research	programs	continue	to	create	potential	value	for	us	by	generating	new	drug	candidates	in	areas	of	significant	unmet	medical	need.	These	programs	include research	targeting	certain	kinases,	ion	channels,	g-protein	coupled	receptors	and	HCV	protease	inhibitors.

# Kinase	Program

We	have	a	broad-based	drug	discovery	effort	targeting	the	human	protein	and	lipid	kinase	family,	of	which	there	are	more	than	500	members.	These	kinases	are enzymes	that	play	a	key	role	in	transmitting	signals	between	and	within	cells.	Kinases	exert	their	effect	by	phosphorylating	other	proteins,	which	then	become	activated and	perform	a	specific	function.	Kinase	activity	has	been	implicated	in	many	major	diseases,	including	cancer	and	autoimmune,	inflammatory,	cardiovascular, metabolic,	and	neurological	diseases.	As	a	result,	we	believe	that	kinases	are	ideal	targets	for	therapeutic	intervention.	The	clinical	success	of	the	oncology	drugs drug	discovery	efforts	involving	numerous	targets	in	the	kinase	gene	family	continue	to	refine	our	understanding	of	kinase	biology	and	the	design	of	kinase	inhibitors. Our	researchers	have	determined	the	atomic	structure	of	more	than	25	kinase	drug	targets	and	hundreds	of	kinase/inhibitor	co-complexes.	This	information	is	of	critical importance	in	the	design	of	selective	inhibitors	for	ongoing	research	projects.	We	also	have	designed	a	diverse	library	of	proprietary	kinase	inhibitors	and	we	continue	to expand	that	library.	We	apply	all	of	these	tools	with	the	objective	of	determining	and	optimizing	new	chemical	scaffolds	against	targets	of	interest	in	the	area	of	kinase inhibition. Gleevec ®	(imatinib	mesylate)	and	Tarceva ®	(erlotinib)	offer	examples	of	how	small	molecule	kinase	inhibitors	can	be	tailored	to	address	specific	diseases.	Our	extensive

From	2000	through	2006,	we	received	funding	and	support	for	our	research	efforts	within	the	kinase	target	family	under	our	collaboration	with	Novartis.	In accordance	with	the	terms	of	the	collaboration	agreement,	we	retain	the	rights	to	all	the	drug	candidates	and	intellectual	property	developed	under	that	collaboration.

In	2004,	we	entered	into	a	collaboration	with	Merck	for	the	development	of	MK-0457	(VX-680),	an	Aurora	kinase	inhibitor,	in	cancer,	and	for	continuing collaborative	research	through	mid-2006	in	the	area	of	Aurora	kinase	inhibition.	Under	this	collaboration	agreement,	Merck	is	currently	conducting	Phase	2	clinical trials	of	MK-0457	(VX-680)	and	a	Phase	1	clinical	trial	of	MK-6592	(VX-667).

We	are	continuing	investigation	of	several	other	kinase	inhibitors	that	play	a	role	in	the	development	and	progression	of	cancer,	inflammation	and	autoimmune disease,	infectious	diseases	and	neurodegenerative	diseases.	The	most	advanced	of	these	inhibitors	are	selective	JAK3	inhibitors,	which	we	believe	have	the	potential	to be	used	in	treatments	for	transplantation,	psoriasis	and	RA.

# Membrane	Target	Programs	(Ion	Channels	and	GPCRs)

We	are	conducting	a	broad-based	drug	discovery	program	targeting	the	ion	channel	family.	Ion	channels	are	a	gene	family	of	more	than	650	proteins	that	act	as cellular	gatekeepers,	controlling	the	flow	of	ions	across	cell	membranes.	The	ion	channel	family	contains	numerous	drugable	targets	representing

potential	therapeutic	intervention	points	for	a	variety	of	indications,	including	cystic	fibrosis,	pain	and	inflammatory,	cardiovascular	and	metabolic	diseases.	Existing therapies	such	as	amlodipine	and	nifedipine,	which	are	calcium	channel	blockers	for	the	treatment	of	hypertension,	and	lamotrigine	and	carbamazepine,	which	are sodium	channel	inhibitors	for	the	treatment	of	epilepsy,	provide	a	strong	rationale	for	developing	drugs	targeting	ion	channels.

Our	ion	channel	research	extends	across	several	ion	channel	subfamilies,	including	sodium	channels,	potassium	channels,	calcium	channels,	and	chloride	channels and	is	principally	focused	at	present	on	the	design	and	development	of	small-molecule	drugs	for	the	treatment	of	pain	and	cystic	fibrosis.	For	example,	specific	sodium channels	have	been	shown	to	increase	in	expression	and	function	in	peripheral	nerve	cells	at	the	site	of	injury,	making	them	novel	and	attractive	targets	for	the	treatment of	neuropathic	pain.	We	are	utilizing	our	expertise	in	assay	development	and	screening	to	advance	discovery	efforts	within	the	ion	channel	family.

We	have	an	ongoing	research	collaboration	with	CFFT	targeting	the	CFTR	protein.	Improper	functioning	of	CFTR	may	cause	the	accumulation	of	water	and	salt, including	chloride	ions,	that	is	believed	to	be	the	cause	of	mucous	accumulation	in	the	lungs	of	cystic	fibrosis	patients.	This	collaboration	with	CFFT	has	produced	VX- 770,	a	potentiator	of	CFTR	function	that	is	intended	to	increase	the	flux	of	chloride	ions	through	CFTR.	VX-770	is	currently	in	clinical	testing.	Our	continuing	research efforts	in	this	collaboration	are	focused	on	the	identification	of	possible	CFTR	corrector	compounds	that	may	work	to	increase	the	number	of	ion	channels	in	certain lung	cell	membranes	of	patients	with	CF	as	well	as	potentiator	back	up	compounds	that	will	increase	the	flux	of	chloride	ions	through	CFTR.

G-protein	coupled	receptors,	or	GPCRs,	represent	an	additional	gene	family	comprising	over	1000	distinct	proteins	that	transduce	extracellular	signals	to	the	inside of	the	cell	and	regulate	a	diversity	of	functions	in	both	normal	and	pathological	conditions.	A	study	has	estimated	that	approximately	25%	of	FDA-approved	drugs	target GPCRs.	Our	program	is	aimed	at	several	type	1	and	type	2	GPCR	targets	in	the	areas	of	pain	and	nervous	system	disorders.

# Additional	Discovery	Efforts

We	plan	to	utilize	our	proprietary	gene	family-based	platform	and	experience	in	structure-based	drug	design	to	pursue	targets	in	other	medically	important	gene families,	such	as	proteases.	Among	other	things,	we	have	significant	efforts	underway	targeting	follow	up	HCV	protease	inhibitors	to	strengthen	our	HCV	research	and development	franchise.

# CORPORATE	COLLABORATIONS

We	have	entered	into	corporate	collaborations	with	pharmaceutical	and	other	companies	and	organizations	that	provide	financial	and	other	resources,	including capabilities	in	research,	development,	manufacturing,	and	sales	and	marketing,	to	support	our	research	and	development	programs.	At	present,	we	have	the	following major	corporate	collaborations.

# Janssen	Pharmaceutica,	N.V.

On	June	30,	2006,	we	entered	into	a	license,	development,	manufacturing	and	commercialization	agreement	with	Janssen.	Under	the	collaboration	agreement,	we will	collaborate	with	Janssen	to	develop	and	commercialize	telaprevir.

Under	the	terms	of	the	collaboration	agreement,	we	will	retain	exclusive	commercial	rights	to	telaprevir	in	North	America	and	will	continue	to	lead	the	development plan	for	telaprevir	in	North	America	and	the	Janssen	territories.	Janssen	received	exclusive	rights	to	commercialize	telaprevir	outside	of	North	America	and	the	Far	East. In	connection	with	the	execution	of	the	collaboration	agreement,	we	received	an	up-front	payment	of	$165	million	in	July	2006.	In	addition,	we	could	receive	additional contingent	milestone	payments,	which	could	total	up	to	$380	million	if	telaprevir	is	successfully	developed,	approved	and	launched.	Janssen	has	agreed	to	be	responsible for	50%	of	drug	development	costs	under

the	development	program	for	North	America	and	the	Janssen	territories.	Each	of	the	parties	to	the	collaboration	agreement	will	be	responsible	for	drug	supply	in	their respective	territories.	The	collaboration	agreement	also	includes	a	tiered	royalty	averaging	a	mid-20%	range,	as	a	percentage	of	net	sales	in	the	Janssen	territories, depending	upon	successful	commercialization.	In	addition,	Janssen	will	be	responsible	for	certain	third	party	royalties	in	its	territories.	Janssen	may	terminate	the collaboration	agreement	upon	six	months'	notice	to	us.	In	such	an	event,	all	manufacturing,	commercialization	and	intellectual	property	rights	to	telaprevir	under	the collaboration	agreement	will	revert	to	us.

As	part	of	the	collaboration	agreement,	following	regulatory	approval	and	commercialization	of	telaprevir	in	both	North	America	and	Janssen's	territory,	we	will establish	with	Tibotec,	also	a	Johnson	&	Johnson	company,	a	global	health	initiative	to	increase	the	prevention,	diagnosis,	treatment	and	cure	of	HCV	infection,	to	be principally	directed	toward	developing	countries.

# GlaxoSmithKline	plc

In	1993,	we	entered	into	a	collaboration	with	GlaxoSmithKline	covering	the	research,	development	and	commercialization	of	HIV	protease	inhibitors,	including Agenerase	(amprenavir),	Lexiva/Telzir	(fosamprenavir	calcium)	and	brecanavir	(VX-385).	Under	the	original	agreement,	GlaxoSmithKline	had	exclusive	rights	to develop	and	commercialize	our	HIV	PIs	in	all	parts	of	the	world	except	the	Far	East.	In	2003,	we	amended	the	agreement	to	add	the	Far	East	to	GlaxoSmithKline's territory	for	development	and	commercialization	of	Lexiva/Telzir.	GlaxoSmithKline	pays	us	a	royalty	on	all	sales	of	the	HIV	PIs	covered	by	the	agreement.	We	have retained	certain	bulk	drug	manufacturing	rights	and	certain	co-promotion	rights	in	the	territories	licensed	to	GlaxoSmithKline.	We	began	earning	a	royalty	from GlaxoSmithKline	in	1999	on	sales	of	Agenerase,	in	the	fourth	quarter	of	2003	on	sales	of	Lexiva,	and	in	the	third	quarter	of	2004	on	sales	of	Telzir.	Lexiva	and	Tezir have	replaced	Agenerase	in	worldwide	markets.

GlaxoSmithKline	initiated	development	of	a	third	HIV	PI	discovered	under	the	collaboration	known	as	brecanavir	(VX-385).	GlaxoSmithKline	bore	all development	costs	for	brecanavir,	and	paid	us	$1.0	million	in	development	stage	milestones.	On	December	15,	2006,	GlaxoSmithKline	formally	notified	us	that	it	would discontinue	clinical	development	of	brecanavir,	which	had	advanced	to	Phase	2	clinical	trials.	Currently,	there	are	no	drug	candidates	being	developed	under	this collaboration,	and	we	do	not	anticipate	any	additional	milestone	payments	under	this	collaboration.

GlaxoSmithKline	has	the	right	to	terminate	its	agreement	with	us	without	cause	upon	12	months'	notice.	Termination	of	the	agreement	by	GlaxoSmithKline	will relieve	it	of	its	obligation	to	make	further	commercialization	and	development	milestone	and	royalty	payments,	and	will	end	any	license	granted	by	us	to GlaxoSmithKline	under	the	agreement.	In	June	1996,	we	and	GlaxoSmithKline	obtained	a	worldwide,	non-exclusive	license	under	certain	G.D.	Searle	&	Co.	(now owned	by	Pharmacia/Pfizer)	patents	in	the	area	of	HIV	protease	inhibition.	We	pay	Searle	a	royalty	based	on	sales	of	Lexiva/Telzir.

In	December	2005,	we	entered	into	a	separate	collaboration	agreement	with	GlaxoSmithKline	for	the	development	and	commercialization	of	VX-409	and	certain back-up	compounds.	Under	the	terms	of	the	agreement,	GlaxoSmithKline	has	the	exclusive	right	and	license	to	develop	and	commercialize	VX-409	and	the	back-up compounds	worldwide.	The	agreement	provides	for	a	$20	million	up-front	license	payment,	which	was	paid	in	December	2005,	and	potentially	additional	development and	commercial	milestone	payments	assuming	the	development	of	VX-409	and	back-up	compounds	in	major	pharmaceutical	markets	across	a	range	of	indications. GlaxoSmithKline	will	also	pay	us	royalties	on	annual	net	sales	of	any	pharmaceutical	products	commercialized	under	the	agreement.	Prior	to	commercial	launch	of	any drug	that	is	covered	by	the	agreement,	GlaxoSmithKline	can	terminate	the	agreement	without	cause	upon	six	months'	notice	to	us.	Following	commercial	launch, GlaxoSmithKline	can	terminate	the	agreement	on	one	year's	notice,	unless	the	termination	is	the	result	of	a	safety	issue	associated	with	a	drug	arising	from	the collaboration,	in	which	case	GlaxoSmithKline	may	terminate	immediately	upon	notice.

In	June	2004,	we	entered	into	a	global	collaboration	with	Merck	to	develop	and	commercialize	MK-0457	(VX-680),	our	lead	Aurora	kinase	inhibitor,	for	the treatment	of	cancer,	and	to	conduct	research	targeting	the	discovery	of	an	additional	Aurora	kinase	inhibitory	compound	or	compounds	to	follow	MK-0457	(VX-680). Merck	made	an	up-front	license	payment	of	$20	million	in	June	2004,	and	provided	research	funding	of	$15.8	million	between	June	2004	and	September	2006.	In addition,	the	agreement	provides	for	as	much	as	$350	million	in	milestone	payments,	including	up	to	$130	million	for	the	successful	development	of	MK-0457	(VX-680) in	the	first	oncology	indication	and	additional	milestone	payments	for	development	of	MK-0457	(VX-680)	and	follow-on	compounds	in	subsequent	major	oncology indications.	In	2005,	Merck	selected	MK-6592	(VX-667),	a	second	drug	candidate	covered	by	the	collaboration,	for	development.	Under	the	agreement,	Merck	made two	milestone	payments	totaling	$19.5	million	in	2005	and	three	milestone	payments	totaling	$36.3	million	in	2006.	Under	the	agreement,	Merck	is	responsible	for worldwide	clinical	development	and	commercialization	of	MK-0457	(VX-680)	and	follow-on	candidates	(including	MK-6592	(VX-667))	and	will	pay	us	royalties	on any	product	sales.	Merck	may	terminate	the	agreement	at	any	time	without	cause	upon	90	days'	advance	written	notice,	except	that	six	months'	advance	written	notice	is required	for	termination	at	any	time	when	a	product	has	marketing	approval	in	a	major	market	and	the	termination	is	not	the	result	of	a	safety	issue.

Cystic	Fibrosis	Foundation	Therapeutics	Incorporated

In	May	2004,	we	entered	into	a	collaboration	agreement	with	CFFT	providing	funding	for	our	late-stage	cystic	fibrosis	drug	discovery	effort.	The	agreement subsequently	was	amended	to	extend	the	term	of	the	drug	discovery	effort	to	March	31,	2008	and	to	include	additional	development	stage	funding	for	specified	VX-770 development	activities	through	the	end	of	2007.	The	agreement,	as	amended,	provides	that	CFFT	will	pay	up	to	$32.4	million	to	us	for	research	and	development activities.	Under	the	amended	agreement,	we	retain	the	right	to	develop	and	commercialize	any	compounds	discovered	in	the	course	of	the	research	collaboration,	and we	will	pay	a	royalty	to	CFFT	on	the	net	sales	of	any	drugs	discovered	in	the	collaboration.	CFFT	provided	$21.3	million	in	research	support	payments	related	to	the agreement	in	aggregate	in	2004	and	2005,	and	the	amended	agreement	provides	for	additional	funding	from	CFFT	for	further	research	during	the	period	from	January	1, 2006	through	March	31,	2008	directed	toward	CFTR	corrector	compounds.	CFFT	also	made	a	$1.5	million	milestone	payment	to	us	upon	advancement	of	the	first compound	from	the	research	program	into	clinical	development.	CFFT	has	the	right	to	terminate	the	agreement	without	cause,	effective	on	June	30,	2007,	upon	60	days' prior	written	notice.

# Mitsubishi	Pharma	Corporation

In	June	2004,	we	entered	into	a	license,	development	and	commercialization	agreement	with	Mitsubishi	for	the	development	and	commercialization	of	telaprevir,	in Japan	and	certain	other	Far	East	countries.	Under	the	terms	of	the	agreement,	Mitsubishi	has	the	right	to	develop	and	commercialize	telaprevir	in	its	territory.	Under	the agreement,	we	are	entitled	to	receive	up	to	$33	million	in	payments	from	Mitsubishi	through	Phase	2	clinical	development,	including	an	up-front	license	fee, development	milestone	payments	and	contributions	to	certain	drug	development	costs	incurred	by	us	for	telaprevir.	Further	cost	sharing	beyond	Phase	2	clinical development	will	be	determined	by	Mitsubishi	and	us	based	on	the	design	of	registration	trials	for	telaprevir.	We	will	also	be	entitled	to	royalties	on	sales	of	telaprevir,	if approved,	in	Mitsubishi's	territory.	Mitsubishi	may	terminate	the	agreement	at	any	time	without	cause	upon	60	days'	prior	written	notice.	In	2006,	Mitsubishi	conducted a	Phase	1	clinical	trial	of	telaprevir	in	the	Far	East.	Mitsubishi	is	designing	a	Phase	2	clinical	program	of	telaprevir	in	the	Far	East.

# Kissei	Pharmaceutical	Co.,	Ltd.

In	September	1997,	we	entered	into	a	collaboration	agreement	with	Kissei	to	identify	and	develop	compounds	that	target	p38	MAP	kinase.	The	research	phase	of the	collaboration	ended	on	June	30,	2000,	and	we	have	received	the	full	amount	of	research	funding	specified	under	the	agreement.	We	are	working	with	Kissei	to develop	and	commercialize	VX-702,	which	was	discovered	during	our	p38	MAP	kinase	research	collaboration.	Kissei	has	exclusive	rights	to	develop	and commercialize	VX-702	in	Japan	and	certain	Far	East	countries,	and	co-exclusive	rights	(with	us)	in	China,	Taiwan	and	South	Korea.	We	retain	exclusive	marketing rights	outside	the	Far	East.	Under	our	agreement,	Kissei	will	pay	us	development	milestone	payments	for	the	successful	development	of	VX-702	in	the	Far	East, including	$2.5	million	paid	in	2005	upon	Kissei's	submission	of	regulatory	filings	in	preparation	for	Phase	1	clinical	trials	of	VX-702	in	Japan.	Kissei	is	providing	a portion	of	the	funding	for	our	clinical	trials	of	VX-702	in	patients	with	RA.	If	VX-702	is	approved	for	sale	in	Kissei's	territory,	we	will	have	the	option	to	supply	Kissei with	bulk	drug	substance	for	manufacture	by	Kissei	into	drug	product.	We	will	receive	drug	supply	payments	or	royalties	on	any	product	sales.

# Avalon	Pharmaceuticals,	Inc.

In	February	2005,	we	entered	into	a	license	agreement	with	Avalon	for	the	development	and	commercialization	of	the	IMPDH	inhibitor	AVN-944	(VX-944)	for	the treatment	of	cancer.	Under	the	agreement,	Avalon	has	the	exclusive	worldwide	right	and	responsibility	to	develop	and	commercialize	AVN-944	(VX-944)	for	the treatment	of	cancer.	Avalon	made	a	$5.0	million	up-front	license	payment	to	us	and	has	agreed	to	make	additional	milestone	payments	to	us	for	the	successful development	of	AVN-944	(VX-944)	in	multiple	oncology	indications.	Avalon	will	pay	us	royalties	on	any	product	sales.	The	agreement	provides	us	with	certain	rights to	co-promote	AVN-944	(VX-944).	Neither	party	has	the	right	to	terminate	the	agreement	other	than	for	cause.

# INTELLECTUAL	PROPERTY

We	actively	seek	protection	for	our	products	and	proprietary	information	by	means	of	United	States	and	foreign	patents,	trademarks,	and	copyrights,	as	appropriate. In	addition,	we	rely	upon	trade	secret	protection	and	contractual	arrangements	to	protect	certain	of	our	proprietary	information	and	products.	In	addition	to	patents	and pending	patent	applications	that	relate	to	potential	drug	targets,	compounds	we	are	developing	to	modulate	those	targets,	and	methods	of	making	or	using	those compounds,	we	have	several	patents	and	pending	patent	applications	directed	to	proprietary	elements	of	our	drug	discovery	platform.	For	example,	some	of	these "platform"	patents	and	applications	claim	our	proprietary	E-VIPR	ion	channel	screening	technology.

Much	of	our	technology	and	many	of	our	processes	depend	upon	the	knowledge,	experience	and	skills	of	key	scientific	and	technical	personnel.	To	protect	our rights	to	our	proprietary	know-how	and	technology,	we	require	all	employees,	as	well	as	our	consultants	and	advisors	when	feasible,	to	enter	into	confidentiality agreements	that	require	disclosure	and	assignment	to	us	of	ideas,	developments,	discoveries	and	inventions	made	by	these	employees,	consultants	and	advisors	in	the course	of	their	service	to	us.

# Patents	and	Pending	Patent	Applications

We	hold	issued	patents	and	pending	patent	applications	in	the	United	States,	and	in	foreign	countries	we	deem	appropriate,	covering	intellectual	property	developed as	part	of	each	of	our	advanced	research,	development	and	commercial	programs.	Our	intellectual	property	holdings	include	but	are	not	limited	to:

·							United	States	and	foreign	patents	and	pending	foreign	patent	applications	covering	telaprevir,	and	many	other	HCV	protease	inhibitors.

·							United	States	patents	and	pending	applications	covering	assays	useful	to	evaluate	potential	inhibitors	of	HCV	protease,	including	patents	and	applications covering	the	X-ray	crystal	structures	of	HCV	protease	and	the	use	of	those	structures	to	develop	HCV	protease	inhibitors.

·							United	States	and	foreign	patents	and	foreign	patent	applications	covering	a	class	of	chemical	compounds	that	includes	VX-702	as	well	as	compositions including	VX-702	and	similar	compounds	and	the	use	of	those	compounds	to	treat	p38	MAP	kinase	related	disorders.

·							United	States	and	foreign	patent	applications	covering	potentiators	of	the	CFTR	protein,	including	VX-770	and	many	other	related	compounds,	and	the	uses	of those	potentiators	to	treat	CF.

·							United	States	and	foreign	patent	applications	covering	bacterial	gyrase	inhibitors	including	VX-883	and	VX-692	and	the	use	of	these	compounds	for	the treatment	of	bacterial	infections.

·							United	States	and	foreign	patents	that	cover	classes	of	chemical	compounds,	pharmaceutical	formulations	and	uses	of	the	same	for	treating	HIV	infection	and AIDS.	These	patents	include	specific	coverage	for	fosamprenavir	and	its	pharmaceutical	formulations,	methods	of	manufacture	and	methods	to	treat	HIV infection.	In	addition	we	have	a	non-exclusive,	worldwide	license	under	certain	patent	applications	claiming	HIV	PIs.	We	have	an	issued	patent	in	the	United States	and	foreign	patents	and	foreign	applications	covering	amprenavir	and	related	compounds.

·							United	States	and	foreign	patents	and	pending	United	States	and	foreign	patent	applications	covering	inhibitors	of	multiple	kinase	proteins.

·							United	States	and	foreign	patent	applications	covering	modulators	of	sodium	ion	channels	and	uses	thereof,	including	VX-409	and	many	other	related compounds.

·							United	States	and	foreign	patents	and	pending	foreign	patent	applications	covering	classes	of	chemical	compounds,	pharmaceutical	compositions	containing	such compounds,	and	methods	of	using	those	compounds	to	treat	or	prevent	IMPDH-mediated	diseases,	including	HCV	infection.	These	patents	cover	merimepodib (VX-497)	and	AVN-944	(VX-944),	their	combination	with	certain	other	therapeutic	agents	and	their	uses	for	IMPDH-mediated	diseases.

·							United	States	and	foreign	patents	and	pending	foreign	patent	applications	covering	several	different	classes	of	compounds	useful	as	inhibitors	of	ICE,	as	well	as pharmaceutical	compositions	containing	those	compounds	and	methods	of	using	those	compounds	to	treat	ICE-related	diseases.	These	patents	and	applications include	a	series	of	patents	and	applications	purchased	from	Sanofi	S.A.	in	July	1997,	including	a	United	States	patent	that	covers	DNA	sequences	encoding	ICE. We	also	have	applications	pending	in	the	United	States	and	other	countries	claiming	VX-765,	pralnacasan	(VX-740)	and	related	compounds.

·							Foreign	patents	and	pending	United	States	and	foreign	patent	applications	covering	many	caspase	inhibitors	including	VX-166.

From	time	to	time	we	enter	into	non-exclusive	license	agreements	for	proprietary	third-party	technology	used	in	connection	with	our	research	activities.	These license	agreements	typically	provide	for	the	payment	by	us	of	a	license	fee,	but	may	also	include	terms	providing	for	milestone	payments	or	royalties	for	the development	and/or	commercialization	of	our	drug	products	arising	from	the	related	research.	For	example,	we	have	entered	into	a	non-exclusive	license	arrangement with	Chiron	Corporation	for	rights	to	technology	in	the	HCV	area	that	may	provide	Chiron	with	certain	developmental	milestone	payments	and	royalty	payments	based on	future	sales	of	telaprevir	if	approved.

# MANUFACTURING

As	we	advance	our	proprietary	drug	candidates	through	clinical	development	toward	commercialization,	we	will	be	required	to	continue	to	build	our	manufacturing, logistics,	supply	chain	and	quality	assurance	resources.	We	currently	rely	on	a	worldwide	network	of	third-party	manufacturers	to	manufacture	and	distribute	our	drug candidates	for	clinical	trials,	and	we	expect	that	we	will	continue	to	do	so	to	meet	our	commercial	supply	needs	for	those	drugs,	if	they	are	approved	for	sale. Commercial	manufacturing	of	Lexiva/Telzir	is	being	done	by	GlaxoSmithKline.

We	have	retained	manufacturing	and	commercialization	responsibilities	for	telaprevir	in	North	America.	In	2007,	we	expect	to	undertake	significant	efforts	to prepare	for	the	commercial	supply	and	marketing	of	telaprevir,	in	support	of	a	timely	and	effective	commercial	product	launch	in	subsequent	years	if	we	are	successful in	obtaining	regulatory	marketing	approval.	Establishing	the	commercial	supply	chain	for	telaprevir	is	a	multi-step	international	endeavor	involving	the	purchase	of several	raw	materials,	the	application	of	certain	manufacturing	processes	requiring	significant	lead	times,	the	conversion	of	active	pharmaceutical	ingredient	to	tablet form	and	the	packaging	of	tablets	for	distribution.	We	expect	to	source	raw	materials,	drug	substance	and	drug	product,	including	finished	packaging,	from	third	parties located	in	the	Far	East,	the	European	Union	and	the	United	States,	and	we	are	currently	establishing	and	expanding	third-party	relationships	in	this	regard.	Establishing and	providing	quality	assurance	for	this	global	supply	chain	requires	a	significant	financial	commitment,	experienced	personnel	and	the	creation	or	expansion	of numerous	third-party	contractual	relationships.	Because	of	the	significant	lead	times	involved	in	our	supply	chain	for	telaprevir,	we	may	have	less	flexibility	to	adjust our	supply	in	response	to	changes	in	demand	than	if	we	had	shorter	lead	times.	We	have	successfully	completed	the	technical	development	work	for	the	Phase	3	and commercial	formulation	of	telaprevir.	While	we	believe	that	there	are	multiple	third	parties	that	are	capable	of	providing	the	materials	and	services	we	need	in	order	to manufacture	and	distribute	telaprevir,	if	it	is	approved	for	sale,	some	of	these	services	are	in	high	demand	and	capacity	is	constrained.	As	a	result	there	can	be	no assurance	that	we	will	be	able	to	establish	or	maintain	these	relationships	on	commercially	reasonable	terms.

We	believe	that	entering	into	arrangements	with	multiple	third-party	manufacturers	will	reduce	our	risk	of	supply	chain	disruption	by	limiting	our	reliance	on	any one	manufacturer.	In	addition,	we	are	in	the	process	of	transferring	technical	information	regarding	the	manufacture	of	telaprevir	to	Janssen	so	that	Janssen	will	be	able to	manufacture	telaprevir,	if	approved,	for	sale	in	Janssen's	territories	and	as	a	secondary	supply	source	for	us.	There	is	no	assurance,	however,	that	we	will	be	able	to establish	second	sources	for	each	stage	of	manufacturing	of	telaprevir	or	that	any	second	source	will	be	able	to	produce	sufficient	quantities	of	a	particular	material	in	the required	timeframe	to	avoid	a	supply	chain	disruption	if	there	is	a	problem	with	one	of	our	suppliers.

We	are	focusing	resources	on	the	development	of	systems	and	processes	to	track,	monitor	and	oversee	our	third-party	manufacturers'	activities.	We	evaluate	the performance	of	our	third-party	manufacturers	and	confirm	their	continuing	capabilities	to	meet	our	needs	efficiently	and	economically.	Third-party	manufacturing facilities,	both	foreign	and	domestic,	are	subject	to	inspections	by	or	under	the	authority	of	the	FDA	and	by	or	under	the	authority	of	other	federal,	state,	local	or	foreign authorities.	Any	failure	by	any	of	our	third-party	manufacturers	to	pass	any	inspection	could	adversely	affect	our	ability	to	launch	telaprevir	in	a	timely	manner,	if	it	is approved	for	sale,	or	adversely	affect	our	ability	to	continue	to	distribute	telaprevir	after	launch.

We	have	established	a	quality	assurance	program	intended	to	ensure	that	our	third-party	manufacturers	and	service	providers	produce	materials	and	provide services,	when	applicable,	in	accordance	with	the	FDA's	current	Good	Manufacturing	Practices,	or	cGMP,	and	other	applicable	regulations.	We	will	need	to	increase	our quality	assurance	resources	in	connection	with	the	commercial	launch	of	any	drug	product.

The	production	of	our	drug	candidates	is	based	in	part	on	technology	that	we	believe	to	be	proprietary.	Where	applicable,	we	license	this	technology	to	our	third- party	manufacturers	to	enable	them	to	manufacture	the	various	forms	of	our	drug	candidates	for	us.	However,	in	the	course	of	their	services,	a	third-party	manufacturer may	develop	process	technology	related	to	the	manufacture	of	our	drug	candidates	that	the	manufacturer	owns,	either	independently	or	jointly	with	us.	This	might increase	our	reliance	on	that	manufacturer	or	require	us	to	obtain	a	license	from	that	manufacturer	if	we	wish	to	have	our	drug	candidates	manufactured	by	other suppliers	utilizing	the	same	process.

# COMPETITION

We	are	engaged	in	fields	characterized	by	extensive	research	efforts,	rapid	technological	progress	and	intense	competition.	There	are	many	public	and	private companies,	including	pharmaceutical	companies,	chemical	companies	and	biotechnology	companies,	engaged	in	developing	products	for	the	same	human	therapeutic applications	as	those	we	are	targeting.	Many	of	our	competitors	have	substantially	greater	financial,	technical	and	human	resources	than	we	do	and	are	more	experienced in	the	development	of	new	drugs	than	we	are.	In	order	for	us	to	compete	successfully,	we	may	need	to	demonstrate	improved	safety,	efficacy,	ease	of	manufacturing	and market	acceptance	of	our	products	over	the	products	of	our	competitors	that	have	received	or	will	receive	regulatory	approval	for	marketing.

We	face	competition	based	on	the	safety	and	efficacy	of	our	drug	candidates,	the	timing	and	scope	of	regulatory	approvals,	the	availability	and	cost	of	supply, marketing	and	sales	capabilities,	reimbursement	coverage,	price,	patent	position	and	other	factors.	Our	competitors	may	develop	or	commercialize	more	effective,	safer or	more	affordable	products	than	we	are	able	to	develop	or	commercialize	or	obtain	more	effective	patent	protection.	As	a	result,	our	competitors	may	commercialize products	more	rapidly	or	effectively	than	we	do,	which	would	adversely	affect	our	competitive	position,	the	likelihood	that	our	drug	candidates,	if	approved,	will achieve	initial	market	acceptance	and	our	ability	to	generate	meaningful	revenues	from	those	drugs.	Even	if	our	drug	candidates	are	approved	and	achieve	initial	market acceptance,	competitive	products	may	render	our	drugs	obsolete	or	noncompetitive.	If	any	such	drug	is	rendered	obsolete,	we	may	not	be	able	to	recover	the	expenses	of developing	and	commercializing	that	drug.	With	respect	to	all	of	our	drugs	and	drug	candidates,	we	are	aware	of	existing	treatments	and	numerous	drug	candidates	in development	by	our	competitors.

# HCV	Infection

We	are	aware	of	numerous	companies	that	are	attempting	to	develop	new	treatments	for	HCV	infection,	including	Schering-Plough	Corporation,	InterMune,	Inc.	in collaboration	with	Roche,	and	Gilead	Sciences	in	collaboration	with	Achillion	Pharmaceuticals,	which	are	developing	HCV	protease	inhibitors:

·							Schering-Plough	is	developing	SCH	503034,	an	orally	available	HCV	protease	inhibitor.		SCH	503034	received	"Fast	Track"	designation	from	the	FDA	in January	2006.	Schering-Plough	has	reported	that	it	is	conducting	a	Phase	2	clinical	trial	with	approximately	350	patients.	In	2005,	Schering-Plough	commenced this	clinical	trial	of	SCH	503034	in	combination	with	peg-IFN,	with	and	without	RBV,	for	24	or	48	weeks	in	patients	with	chronic	HCV	genotype	1	who	were nonresponders	to	previous	peg-IFN	and	RBV	combination	therapy.	In	addition,	in	January	2007	Schering-Plough	disclosed	the	initiation	of	a	Phase	2	clinical trial	of	SCH	503034	in	combination	with	peg-IFN	and	RBV	in	which	it	expects	to	enroll	approximately	400	treatment-naïve	patients.

·							InterMune	in	collaboration	with	Roche	is	developing	ITMN-191,	a	HCV	protease	inhibitor.	In	December	2006,	InterMune	announced	the	initiation	of	a	Phase	1a clinical	trial	of	ITMN-191	in	healthy	volunteers.

·							Gilead	Sciences	and	Achillion	Pharmaceuticals	are	collaborating	on	the	development	of	HCV	protease	inhibitors.	In	February	2007,	Gilead	and	Achillion announced	the	discontinuation	of	the	development	of	GS	9132	(ACH-806),	which	had	been	their	lead	HCV	protease	inhibitor	drug	candidate,	based	on preliminary	data	from	a	Phase	1b/2	clinical	trial.	In	February	2007	they	also	announced	they	were	evaluating	additional	compounds	that	they	were	investigating for	the	treatment	of	HCV	infection.

In	addition	to	the	protease	inhibitor	drug	candidates,	companies	are	developing	polymerase	inhibitors,	a	drug	discovery	target	distinct	from	protease	inhibitors,	for the	treatment	of	HCV.	The	HCV	polymerase	is	responsible	for	synthesizing	viral	RNA	during	HCV	replication.	Companies	that	are	in	Phase	2	clinical	development	with polymerase	inhibitors	include:

·							Idenix	Pharmaceuticals,	Inc.	in	collaboration	with	Novartis	is	developing	valopicitabine,	an	orally	available	inhibitor	of	HCV	RNA	polymerase.	Idenix	has	two ongoing	Phase	2b	clinical	trials,	which	were	initiated	in	2005,	evaluating	the	combination	of	valopicitabine	and	peg-IFN	in	patients	infected	with	HCV	who previously	failed	to	respond	to	antiviral	treatment	and	treatment-naïve	patients.	In	addition,	in	October	2006,	Idenix	announced	that	it	had	recently	initiated	an additional	12-week	90-patient	Phase	2	clinical	trial	of	valopicitabine,	referred	to	as	a	drug/drug	interaction	trial,	to	assess	valopicitabine	when	administered	in combination	with	peg-IFN	and	RBV.

·							ViroPharma	Incorporated	in	collaboration	with	Wyeth	is	developing	HCV-796,	a	non-nucleoside	polymerase	inhibitor,	which	is	in	Phase	2	clinical	trials.

·							Roche	is	developing	R1626,	a	polymerase	inhibitor,	which	is	in	Phase	2	clinical	trials.

We	are	aware	of	numerous	other	compounds	targeting	HCV	that	are	in	clinical	trials,	and	we	believe	that	there	are	many	additional	potential	HCV	treatments	in research	or	early	development.

We	believe	that	there	is	a	potential	for	new	oral	drug	candidates,	if	approved,	to	be	administered	together	with	or	without	peg-IFN	and	RBV.	We	expect	that	in	the future	we	may	explore	the	potential	for	other	combination	therapies	and	in	particular	a	combination	where	all	the	necessary	drugs	could	be	administered	orally.

antibody,	are	now	marketed	for	the	treatment	of	RA. There	is	a	wide	range	of	drug	candidates	in	numerous	classes	being	investigated	for	the	treatment	of	RA.	Examples	include	the	IL-6	monoclonal	antibody the	potential	treatment	of	RA.	In	addition	to	Vertex,	other	companies	with	open	or	planned	Phase	2	p38	MAP	programs	in	RA	include	GlaxoSmithKline,	Pfizer,	and Roche. There	are	currently	several	biological	tumor	necrosis	factor-alpha	(TNF-a)	inhibitors	approved	by	the	FDA	for	the	treatment	of	RA	including	Enbrel ®	(etanercept), Humira ®	(adalimumab),	and	Remicade ®	(infliximab).	Additionally,	Orencia ®	(abatacept),	an	inhibitor	of	T-cell	activation,	and	Rituxan ®	(rituximab),	a	monoclonal Actemra ®	(tocilizumab)	(Roche/Chugai),	and	the	TNF-a	inhibitor	certolizumab	(UCB).	There	are	also	a	number	of	p38	MAP	kinase	inhibitors	under	investigation	for

Several	companies	are	engaged	in	the	process	of	developing	treatments	for	CF.	For	example,	PTC	Therapeutics,	Inc.	recently	has	an	ongoing	Phase	2	clinical	trials for	PTC124,	a	drug	candidate	that	targets	nonsense	genetic	mutations	that	can	cause	cystic	fibrosis	in	some	populations.	Altus	Pharmaceuticals,	Inc.	is	developing ALTU-135,	an	orally-delivered	enzyme	replacement	therapy	for	the	treatment	of	pancreatic	insufficiency,	a	condition	that	affects	many	CF	patients.	Inspire Pharmaceuticals	Inc.	currently	is	conducting	Phase	3	clinical	trials	of	denufosol	tetrasodium,	an	inhaled	molecule	that	activates	an	alternate	chloride	channel	in	the airway	of	patients	with	CF.

The	United	States	market	for	HIV	PIs	is	highly	competitive,	with	a	number	of	competitive	PIs	currently	on	the	market.	The	two	leading	HIV	PIs	in	the	United PI	inhibitor	in	the	United	States,	excluding	ritonavir,	and	it	currently	holds States	are	Bristol-Myers	Squibb	Company's	Reyataz ®	and	Abbott	Laboratories'	Kaletra ®.	In	2006,	Lexiva	was	the	third	largest	(measured	in	terms	of	sales	revenue)	HIV

an	approximate	11%	share	of	the	United	States	HIV	PI	market	based	on	total	prescriptions	(also	excluding	ritonavir).

In	the	field	of	HIV	protease	inhibition,	Abbott	Laboratories,	Bristol-Myers	Squibb,	Gilead	Sciences,	Inc.,	Johnson	&	Johnson	and	Pfizer	Inc.,	among	others,	have other	HIV	PIs	drug	candidates	in	various	stages	of	development.	In	addition	to	the	currently	marketed	protease	inhibitors,	each	of	these	compounds	and	others	that	may be	in	research	or	development	may	eventually	compete	with	Lexiva/Telzir.

# GOVERNMENT	REGULATION

Our	development,	manufacture	and	potential	sale	of	therapeutics	are	subject	to	extensive	regulation	by	United	States	and	foreign	governmental	authorities.	In particular,	pharmaceutical	products	are	subject	to	rigorous	preclinical,	nonclinical	and	clinical	testing	and	to	other	approval	requirements	by	the	FDA	in	the	United	States under	the	Food,	Drug	and	Cosmetic	Act,	and	by	comparable	agencies	in	most	foreign	countries.	In	addition	to	prohibiting	the	sale	and	distribution	of	pharmaceutical products	prior	to	regulatory	approval,	the	FDA	and	comparable	agencies	in	most	foreign	countries	prohibit	the	pre-approval	promotion	of	investigational	drugs	as	being safe	and	effective	for	the	indication	for	which	it	is	under	investigation.	Although	we	have	summarized	the	FDA	process	below,	other	countries	may	have	different approval	processes	with	which	we	will	need	to	comply	if	we	seek	to	conduct	clinical	trials	or	obtain	marketing	approval	in	those	countries.	In	addition,	even	if	we ultimately	intend	to	seek	initial	marketing	approval	in	the	United	States,	we	may	conduct	early	clinical	trials	in	other	countries,	for	a	variety	of	reasons,	and	therefore	the submission	of	our	initial	IND	in	the	United	States	may	not	occur	until	after	one	or	more	foreign-sited	clinical	trials	have	been	initiated.

# Approval	Process

As	an	initial	step	in	the	FDA	regulatory	approval	process,	toxicity	studies	in	animals	and	other	studies	typically	are	conducted	to	help	identify	potential	safety problems	that	might	be	associated	with	administration	of	the	drug	candidate	being	tested	over	the	period	of	time	planned	for	the	initial	human	trials.	For	certain	diseases, animal	models	exist	that	are	believed	to	be	predictive	of	efficacy	in	humans.	For	such	diseases,	a	drug	candidate	typically	is	tested	for	efficacy	in	that	animal	model.	The

results	of	these	nonclinical	safety	and	disease	model	studies	are	submitted	to	the	FDA	as	a	part	of	the	IND	submission,	which	is	submitted	prior	to	commencement	of human	clinical	testing	in	the	United	States.	For	several	of	our	drug	candidates,	no	appropriately	predictive	animal	model	exists.	As	a	result,	no	in	vivo	evidence	of efficacy	will	be	available	until	those	drug	candidates	progress	to	human	clinical	trials.	A	variety	of	nonclinical	studies	in	a	number	of	animal	species,	and	other nonclinical	studies,	ordinarily	are	conducted	while	human	clinical	trials	are	underway,	to	provide	supplemental	toxicology	and	other	information.	This	information	as well	as	the	results	from	the	early	clinical	trials	will	provide	a	foundation	for	the	design	of	broader	and	more	lengthy	human	clinical	trials.

Clinical	trials	typically	are	conducted	in	three	sequential	phases,	although	the	phases	may	overlap.	Phase	1	frequently	begins	with	the	initial	introduction	of	the drug	candidate	into	healthy	human	subjects	prior	to	introduction	into	patients.	The	drug	candidate	may	then	be	tested	in	a	relatively	small	number	of	patients	for	safety on	a	preliminary	basis,	dosage	tolerance,	absorption,	bioavailability,	biodistribution,	metabolism,	excretion,	clinical	pharmacology	and,	if	possible,	for	early	information on	effectiveness.	Phase	2	typically	involves	trials	in	a	small	sample	of	the	intended	patient	population	to	assess	the	efficacy	of	the	drug	for	a	specific	indication,	to determine	dose	tolerance	and	the	optimal	dose	range	and	to	gather	additional	information	relating	to	safety	and	potential	adverse	effects.	Phase	3	trials	are	undertaken	to further	evaluate	clinical	safety	and	efficacy	in	an	expanded	patient	population	at	geographically	dispersed	trial	sites,	to	determine	the	overall	risk-benefit	ratio	of	the	drug candidate	and	to	provide	an	adequate	basis	for	proposed	physician	labeling.	Each	trial	is	conducted	in	accordance	with	standards	set	forth	in	protocols	that	detail	the objectives	of	the	trial,	the	parameters	to	be	used	to	monitor	safety	and	the	efficacy	criteria	to	be	evaluated.	For	clinical	trials	in	the	United	States,	each	protocol	must	be submitted	to	the	FDA	as	part	of	the	IND	submission.	Further,	each	clinical	trial	must	be	evaluated	by	an	independent

Institutional	Review	Board,	or	IRB,	at	each	institution	at	which	the	trial	will	be	conducted.	The	IRBs	will	consider,	among	other	things,	ethical	factors,	the	safety	of human	subjects	and	the	possible	liability	of	the	institution.

Data	from	nonclinical	testing	and	clinical	trials	are	submitted	to	the	FDA	in	a	New	Drug	Application,	or	NDA,	for	United	States	marketing	approval.	The	process of	completing	nonclinical	and	clinical	testing	and	obtaining	FDA	approval	for	a	new	drug	is	likely	to	take	a	number	of	years	and	require	the	expenditure	of	substantial resources.	Preparing	an	NDA	involves	considerable	data	collection,	verification,	analysis	and	expense,	and	there	can	be	no	assurance	that	approval	will	be	granted	on	a timely	basis,	if	at	all.	The	approval	process	is	affected	by	a	number	of	factors,	including	the	severity	of	the	targeted	disease,	the	availability	of	alternative	treatments	and the	risks	and	benefits	demonstrated	in	clinical	trials.	The	FDA	may	deny	an	NDA	if	applicable	regulatory	criteria	are	not	satisfied	or	may	require	additional	testing	or information.	Among	the	conditions	for	marketing	approval	is	the	requirement	that	the	prospective	manufacturer's	quality	control	and	manufacturing	procedures	conform to	the	FDA's	cGMP	regulations,	which	must	be	followed	at	all	times.	In	complying	with	standards	set	forth	in	these	regulations,	manufacturers	must	continue	to	expend time,	money	and	effort	in	the	area	of	production	and	quality	control	to	ensure	full	technical	compliance.	Manufacturing	establishments,	both	foreign	and	domestic,	also are	subject	to	inspections	by	or	under	the	authority	of	the	FDA	and	by	or	under	the	authority	of	other	federal,	state,	local	agencies	or	foreign	authorities.

Under	the	FDA	Modernization	Act	of	1997,	the	FDA	may	grant	"Fast	Track"	designation	to	facilitate	the	development	of	a	drug	intended	for	the	treatment	of	a serious	or	life-threatening	condition	if	the	drug	demonstrates,	among	other	things,	the	potential	to	address	an	unmet	medical	need.	The	benefits	of	Fast	Track	designation include	scheduled	meetings	with	the	FDA	to	receive	input	on	development	plans,	the	option	of	submitting	an	NDA	in	sections	(rather	than	submitting	all	components simultaneously),	and	the	option	of	requesting	evaluation	of	trials	using	surrogate	endpoints.	Fast	Track	designation	does	not	necessarily	lead	to	a	priority	review	or accelerated	approval	of	a	drug	candidate	by	the	FDA.	Telaprevir	and	VX-770	have	received	Fast	Track	designation	by	the	FDA.

# Timing	to	Approval

We	estimate	that	it	generally	takes	10	to	15	years,	or	possibly	longer,	to	discover,	develop	and	bring	to	market	a	new	pharmaceutical	product	in	the	United	States	as outlined	below:

A	drug	candidate	may	fail	at	any	point	during	this	process.	Animal	and	other	nonclinical	studies	typically	are	conducted	during	each	phase	of	human	clinical	trials.

# Post-approval	Studies

Even	after	FDA	approval	has	been	obtained,	further	studies,	including	post-approval	trials,	may	be	required	to	provide	additional	data	on	safety	and	will	be required	to	gain	approval	for	the	sale	of	a	product	as	a	treatment	for	clinical	indications	other	than	those	for	which	the	product	initially	was	approved.	Also,

the	FDA	will	require	post-approval	reporting	to	monitor	the	side	effects	of	the	drug.	Results	of	post-approval	programs	may	limit	or	expand	the	indications	for	which	the drug	product	may	be	marketed.	Further,	if	there	are	any	requests	for	modifications	to	the	initial	FDA	approval	for	the	drug,	including	changes	in	indication, manufacturing	process,	labeling	or	manufacturing	facilities,	a	supplemental	NDA	may	be	required	to	be	submitted	to	the	FDA	or	we	may	elect	to	seek	changes	and submit	a	supplemental	NDA	to	obtain	approval.

# Other	Regulations

Pursuant	to	the	Drug	Price	Competition	and	Patent	Term	Restoration	Act	of	1984,	under	certain	conditions	a	sponsor	may	be	granted	marketing	exclusivity	for	a period	of	five	years	following	FDA	approval.	During	this	period,	third	parties	would	not	be	permitted	to	obtain	FDA	approval	for	a	similar	or	identical	drug	through	an Abbreviated	NDA,	which	is	the	application	form	typically	used	by	manufacturers	seeking	approval	of	a	generic	drug.	The	statute	also	allows	a	patent	owner	to	extend the	term	of	the	patent	for	a	period	equal	to	one-half	the	period	of	time	elapsed	between	the	submission	of	an	IND	and	the	filing	of	the	corresponding	NDA	plus	the	period of	time	between	the	filing	of	the	NDA	and	FDA	approval.	We	intend	to	seek	the	benefits	of	this	statute,	but	there	can	be	no	assurance	that	we	will	be	able	to	obtain	any such	benefits.

Whether	or	not	FDA	approval	has	been	obtained,	approval	of	a	drug	product	by	regulatory	authorities	in	foreign	countries	must	be	obtained	prior	to	the commencement	of	commercial	sales	of	the	product	in	such	countries.	Historically,	the	requirements	governing	the	conduct	of	clinical	trials	and	product	approvals,	and the	time	required	for	approval,	have	varied	widely	from	country	to	country.

The	FDA	may	grant	orphan	drug	designation	to	drugs	intended	to	treat	a	"rare	disease	or	condition"	that	affects	fewer	than	200,000	individuals	in	the	United	States. Orphan	drug	designation	must	be	requested	before	submitting	an	application	for	marketing	authorization.	Orphan	drug	designation	does	not	convey	any	advantage	in,	or

shorten	the	duration	of,	the	regulatory	review	and	approval	process.	If	a	product	that	has	an	orphan	drug	designation	subsequently	receives	the	first	FDA	approval	for	the indication	for	which	it	has	such	designation,	the	product	is	entitled	to	orphan	exclusivity,	which	means	the	FDA	may	not	approve	any	other	application	to	market	the same	drug	for	the	same	indication	for	a	period	of	seven	years,	except	in	limited	circumstances,	such	as	a	showing	of	clinical	superiority	to	the	product	with	orphan exclusivity.	Also,	competitors	may	receive	approval	of	different	drugs	or	biologics	for	the	indications	for	which	the	orphan	product	has	exclusivity.

Pharmaceutical	companies	also	are	subject	to	various	federal	and	state	laws	pertaining	to	health	care	"fraud	and	abuse,"	including	anti-kickback	laws	and	false claims	laws.	Anti-kickback	laws	make	it	illegal	for	any	entity	or	person	to	solicit,	offer,	receive,	or	pay	any	remuneration	in	exchange	for,	or	to	induce,	the	referral	of business,	including	the	purchase	or	prescription	of	a	particular	drug.	False	claims	laws	prohibit	anyone	from	knowingly	and	willingly	presenting,	or	causing	to	be presented,	for	payment	to	third	party	payors,	including	Medicare	and	Medicaid,	claims	for	reimbursed	drugs	or	services	that	are	false	or	fraudulent,	claims	for	items	or services	not	provided	as	claimed,	or	claims	for	medically	unnecessary	items	or	services.

In	addition	to	the	statutes	and	regulations	described	above,	we	are	also	subject	to	regulation	under	the	Occupational	Safety	and	Health	Act,	the	Environmental Protection	Act,	the	Toxic	Substances	Control	Act,	the	Resource	Conservation	and	Recovery	Act	and	other	federal,	state,	local	and	foreign	regulations,	now	or	hereafter in	effect.

# OTHER	MATTERS

# Employees

As	of	December	31,	2006,	we	had	962	employees	(945	full	time,	17	part	time),	including	707	in	research	and	development	and	255	in	general	and	administrative functions.	The	number	of	our	full	time	employees	increased	by	17%	during	2006,	from	806	on	December	31,	2005.	We	expect	to	increase	further	our	headcount	in	2007 as	we	invest	in	expanding	our	drug	development	and	commercialization	capabilities.	Of	our	employees,	84	were	located	at	our	U.K.	research	and	development	facilities, 163	were	located	at	our	facility	in	San	Diego,	California	and	715	were	based	at	our	Cambridge,	Massachusetts	headquarters.	Our	scientific	staff	members	have diversified	experience	and	expertise	in	molecular	and	cell	biology,	biochemistry,	animal	pharmacology,	synthetic	organic	chemistry,	protein	X-ray	crystallography, protein	nuclear	magnetic	resonance	spectroscopy,	microbiology,	computational	chemistry,	biophysical	chemistry,	medicinal	chemistry,	clinical	pharmacology	and clinical	medicine.	Our	employees	are	not	covered	by	a	collective	bargaining	agreement,	and	we	consider	our	relations	with	our	employees	to	be	good.

# Information	Available	on	the	Internet

Our	internet	address	is	www.vrtx.com.	Our	annual	reports	on	Form	10-K,	quarterly	reports	on	Form	10-Q,	current	reports	on	Form	8-K,	and	all	amendments	to	those reports,	are	available	to	you	free	of	charge	through	the	"Investors"	section	of	our	website	as	soon	as	reasonably	practicable	after	those	materials	have	been	electronically filed	with,	or	furnished	to,	the	Securities	and	Exchange	Commission.

# Corporate	Information

Vertex	was	incorporated	in	Massachusetts	in	1989,	and	our	principal	executive	offices	are	located	at	130	Waverly	Street,	Cambridge,	Massachusetts	02139.	We have	research	sites	located	in	San	Diego,	California,	Iowa	City,	Iowa	and	Milton	Park,	U.K.

# EXECUTIVE	OFFICERS	AND	DIRECTORS

The	names,	ages	and	positions	held	by	our	executive	officers	and	directors	are	as	follows:

| Name | Age | Position |
| :--- | :--- | :--- |
| Joshua\tS.\tBoger,\tPh.D. | 55 | President\tand\tChief\tExecutive\tOfficer |
| John\tJ.\tAlam,\tM.D. | 45 | Executive\tVice\tPresident,\tMedicines\tDevelopment,\tand\tChief\tMedical\tOfficer |
| Victor\tA.\tHartmann,\tM.D. | 57 | Executive\tVice\tPresident,\tStrategic\tand\tCorporate\tDevelopment |
| Peter\tMueller,\tPh.D. | 50 | Executive\tVice\tPresident,\tDrug\tInnovation\tand\tRealization,\tand\tChief\tScientific |
|  |  | Officer |
| Ian\tF.\tSmith,\tC.P.A.,\tA.C.A. | 41 | Executive\tVice\tPresident\tand\tChief\tFinancial\tOfficer |
| Kenneth\tS.\tBoger,\t\tM.B.A.,\tJ.D. | 60 | Senior\tVice\tPresident\tand\tGeneral\tCounsel |
| Richard\tC.\tGarrison | 58 | Senior\tVice\tPresident\tand\tCatalyst |
| Johanna\tMessina\tPower,\tC.P.A | 34 | Vice\tPresident\tand\tCorporate\tController |
| Eric\tK.\tBrandt | 44 | Director |
| Roger\tW.\tBrimblecombe,\tPh.D.,\tD.Sc. | 77 | Director |
| Stuart\tJ.M.\tCollinson,\tPh.D. | 47 | Director |
| Eugene\tH.\tCordes,\tPh.D. | 70 | Director |
| Matthew\tW.\tEmmens | 55 | Director |
| Bruce\tI.\tSachs | 47 | Director |
| Charles\tA.\tSanders,\tM.D. | 75 | Director |
| Eve\tE.\tSlater,\tM.D.,\tF.A.C.C. | 61 | Director |
| Elaine\tS.\tUllian | 59 | Director |

Dr.	Joshua	Boger	is	a	founder	of	Vertex.	He	has	been	Chief	Executive	Officer	since	1992.	He	was	our	Chairman	of	the	Board	from	1997	until	May	2005.	He	was our	President	from	our	inception	in	1989	until	December	2000,	and	was	again	appointed	our	President	in	2005.	He	was	our	Chief	Scientific	Officer	from	1989	until May	1992.	Dr.	Boger	has	been	a	director	since	Vertex's	inception.	Prior	to	founding	Vertex	in	1989,	Dr.	Boger	held	the	position	of	Senior	Director	of	Basic	Chemistry at	Merck	Sharp	&	Dohme	Research	Laboratories	in	Rahway,	New	Jersey,	where	he	headed	both	the	Department	of	Medicinal	Chemistry	of	Immunology	&

Inflammation	and	the	Department	of	Biophysical	Chemistry.	Dr.	Boger	holds	a	B.A.	in	chemistry	and	philosophy	from	Wesleyan	University	and	M.S.	and	Ph.D.	degrees in	chemistry	from	Harvard	University.	Dr.	Boger	is	the	brother	of	Mr.	Kenneth	Boger,	our	Senior	Vice	President	and	General	Counsel.

Dr.	Alam	currently	serves	as	our	Executive	Vice	President,	Medicines	Development,	and	Chief	Medical	Officer,	a	position	he	has	held	since	February	2006.	From

January	2001	to	February	2006,	he	served	as	our	Senior	Vice	President	of	Drug	Evaluation	and	Approval.	From	October	1997	to	January	2001,	he	was	our	Vice President	of	Clinical	Development.	From	1991	to	1997,	Dr.	Alam	held	a	variety	of	positions	with	Biogen,	Inc.,	including	Director	of	Medical	Research	and	Program Executive	(beta	interferon)	for	Avonex.	Prior	to	joining	Biogen,	Dr.	Alam	was	a	Research	Fellow	at	the	Dana	Farber	Cancer	Institute	and	completed	an	internal medicine	residency	at	The	Brigham	and	Women's	Hospital	in

Boston.	Dr.	Alam	holds	an	M.D.	from	Northwestern	University	Medical	School	and	an	S.B.	in	chemical	engineering	from	the	Massachusetts	Institute	of	Technology.

Dr.	Hartmann,	our	Executive	Vice	President,	Strategic	and	Corporate	Development,	joined	Vertex	in	February	2005.	From	2000	to	2005,	Dr.	Hartmann	served	as the	Senior	Vice	President,	Global	Business	Development	and	Licensing,	for	Novartis	Pharma	AG.	He	served	as	Vice	President,	Head	of	Scientific	and	Business Evaluation	at	Novartis	from	1999	to	2000.	Dr.	Hartmann	served	as	Vice	President	and	Head	of	Global	Project	Management	of	Sandoz	Pharma	Ltd.	(later	Novartis	AG) from	1995	to	1999.	Dr.	Hartmann	joined	Sandoz	as	Vice	President	and	Head	of	Clinical	Research	and	Development	in	1994.	Dr.	Hartmann	received	his	medical	degree from	the	University	of	Bonn,	Germany,	and	a	bachelor's	degree	from	Macalester	College.

Dr.	Mueller	currently	serves	as	our	Executive	Vice	President,	Drug	Innovation	and	Realization,	and	Chief	Scientific	Officer,	a	position	he	has	held	since February	2006.	From	July	2003	to	February	2006,	Dr.	Mueller	was	our	Chief	Scientific	Officer	and	Senior	Vice	President,	Drug	Discovery	and	Innovation.	Prior	to joining	Vertex,	Dr.	Mueller	was	the	Senior	Vice	President,	Research	and	Development,	of	Boehringer	Ingleheim	Pharmaceuticals,	Inc.,	with	responsibility	for	the development	of	all	drug	candidates	in	the	company's	worldwide	portfolio	in	North	America.	He	led	research	programs	in	the	areas	of	immunology,	inflammatory cardiovascular	disease	and	gene	therapy	on	a	global	basis.	During	his	time	with	Boehringer	Ingelheim,	Dr.	Mueller	oversaw	the	discovery	of	numerous	development candidates	and	held	several	positions	in	basic	research,	medicinal	chemistry	and	management.	Dr.	Mueller	received	both	an	undergraduate	degree	and	a	Ph.D.	in chemistry	at	the	Albert	Einstein	University	of	Ulm,	Germany,	where	he	also	holds	a	Professorship	in	Theoretic	Organic	Chemistry.	He	completed	fellowships	in quantum	pharmacology	at	Oxford	University	and	in	biophysics	at	Rochester	University.

Mr.	Smith	currently	serves	as	our	Executive	Vice	President	and	Chief	Financial	Officer,	a	position	he	has	held	since	February	2006.	From	November	2003	to February	2006,	he	was	our	Senior	Vice	President	and	Chief	Financial	Officer,	and	from	October	2001	to	November	2003,	he	served	as	our	Vice	President	and	Chief Financial	Officer.	Prior	to	joining	Vertex,	Mr.	Smith	served	as	a	partner	in	the	Life	Science	and	Technology	Practice	Group	of	Ernst	&	Young	LLP,	an	accounting	firm, from	1999	to	2001.	Mr.	Smith	initially	joined	Ernst	&	Young's	U.K.	firm	in	1987,	and	then	joined	its	Boston	office	in	1995.	Mr.	Smith	currently	is	a	member	of	the Board	of	Directors	of	Acorda	Therapeutics,	Inc,	Epix	Pharmaceuticals,	Inc.	and	TolerRx	Inc.	Mr.	Smith	holds	a	B.A.	in	accounting	and	finance	from	Manchester Metropolitan	University,	U.K.,	is	a	member	of	the	American	Institute	of	Certified	Public	Accountants	and	is	a	Chartered	Accountant	of	England	and	Wales.

Mr.	Kenneth	Boger	currently	serves	as	our	Senior	Vice	President	and	General	Counsel,	a	position	he	has	held	since	2001.	He	came	to	Vertex	from	the	law	firm	of Kirkpatrick	&	Lockhart	LLP,	now	known	as	Kirkpatrick	&	Lockhart	Preston	Gates	Ellis	LLP,	where	he	was	a	partner	specializing	in	business	and	corporate	law	and	was a	member	of	the	firm's	Management	Committee.	Prior	to	the	merger	of	Kirkpatrick	&	Lockhart	with	the	Boston	law	firm	of	Warner	&	Stackpole	LLP	in	1999, Mr.	Boger	was	a	partner	at	Warner	&	Stackpole,	where	he	served	on	its	Executive	Committee	from	1988	to	1997.	Mr.	Boger	holds	an	A.B.	in	history	from	Duke University,	an	M.B.A.	from	the	Graduate	School	of	Business	at	the	University	of	Chicago,	and	a	J.D.	from	Boston	College	Law	School.	Mr.	Boger	is	the	brother	of Dr.	Joshua	Boger,	our	President	and	Chief	Executive	Officer.

Mr.	Garrison,	our	Senior	Vice	President	and	Catalyst,	joined	Vertex	in	that	role	in	December	2005.	From	June	2001	to	December	2005,	Mr.	Garrison	was	the founder	and	President	of	Bink	Inc.,	a	strategic	consulting	firm.	Prior	to	that,	Mr.	Garrison	was	the	Chairman	and	CEO	of	Ingalls,	Quinn	&	Johnson,	one	of	New England's	largest	advertising	agencies,	for	18	years.	Mr.	Garrison	holds	a	B.A.	in	English	from	Princeton	University.

Ms.	Messina	Power	currently	serves	as	our	Vice	President	and	Corporate	Controller.	Since	joining	the	Company	in	1999,	Ms.	Messina	Power	also	has	served	us	as Assistant	Corporate	Controller	(from	1999	to	2000)	and	Corporate	Controller	(from	2000	to	2006).	Prior	to	joining	us,	Ms.	Messina	Power	was	employed

as	an	accountant	by	PricewaterhouseCoopers	LLP,	an	accounting	firm,	from	1995	to	1999.	She	holds	a	B.S.	in	accounting	from	Boston	College,	and	is	a	Certified	Public Accountant.

Mr.	Brandt	has	been	a	member	of	our	Board	of	Directors	since	2003.	He	is	the	President,	Chief	Executive	Officer	and	a	member	of	the	Board	of	Directors	of Avanir	Pharmaceuticals,	which	he	joined	in	2005.	Prior	to	joining	Avanir,	Mr.	Brandt	held	various	positions	at	Allergan	Inc.	from	1999	to	2005,	including	Executive Vice	President,	Finance	and	Technical	Operations	and	Chief	Financial	Officer	from	February	2005	to	September	2005,	Executive	Vice	President,	Finance,	Strategy	and Business	Development,	and	Chief	Financial	Officer	from	2003	until	February	2005,	and	Corporate	Vice	President	and	Chief	Financial	Officer	from	May	1999	to	2003. From	January	2001	to	January	2002,	he	also	assumed	the	duties	of	President,	Global	Consumer	Eye	Care	Business,	at	Allergan.	Prior	to	that,	he	held	various	positions with	the	Boston	Consulting	Group,	most	recently	serving	as	Vice	President	and	Partner,	and	a	senior	member	of	the	BCG	Health	Care	practice.	Mr.	Brandt	also currently	serves	as	a	director	of	Dentsply	International	Inc.	Mr.	Brandt	holds	a	B.S.	in	chemical	engineering	from	the	Massachusetts	Institute	of	Technology	and	an M.B.A.	from	Harvard	University.

Dr.	Brimblecombe	has	been	a	member	of	our	Board	of	Directors	since	1993	and	a	member	of	the	Board	of	Vertex	Pharmaceuticals	(Europe)	Ltd.	since	2005.	He served	as	Chairman	of	Vanguard	Medica	plc	from	1991	to	2000,	of	Core	Group	plc	from	1997	to	1999,	of	Oxford	Asymmetry	International	plc	from	1997	to	2000	and pSivida	Ltd.	From	2002	to	2007.	From	1979	to	1990,	he	held	various	Vice	Presidential	posts	in	SmithKline	&	French	Laboratories'	research	and	development organization,	including	Vice	President	R&D	for	Europe	and	Japan.	He	is	currently	a	Partner	in	MVM	Life	Science	Partners	LLP	and	a	director	of	Tissue	Science Laboratories	plc	(listed	on	the	AIM	market	in	the	United	Kingdom).	He	holds	Ph.D.	and	D.Sc.	degrees	in	pharmacology	from	the	University	of	Bristol,	England.

Dr.	Collinson	has	been	a	member	of	our	Board	of	Directors	since	July	2001.	He	currently	serves	as	a	Partner	at	Forward	Ventures.	Prior	to	our	merger	with	Aurora Biosciences	Corporation	in	2001,	Dr.	Collinson	served	as	the	President,	Chief	Executive	Officer	and	Chairman	of	the	Board	of	Aurora.	Dr.	Collinson	held	senior management	positions	with	Glaxo	Wellcome	from	December	1994	to	June	1998,	most	recently	serving	as	Co-Chairman,	Hospital	and	Critical	Care	Therapy Management	Team	and	Director	of	Hospital	and	Critical	Care.	Dr.	Collinson	received	his	Ph.D.	in	physical	chemistry	from	the	University	of	Oxford,	England	and	his M.B.A.	from	Harvard	University.

Dr.	Cordes	has	been	a	member	of	our	Board	of	Directors	since	2005,	and	a	member	of	the	Company's	Scientific	Advisory	Board	since	1996.	Dr.	Cordes	was	the Chairman	of	Vitae	Pharmaceuticals,	Inc.,	a	position	he	held	from	January	2002	to	March	2006.	Prior	to	joining	Vitae	Pharmaceuticals,	Dr.	Cordes	was	a	professor	of pharmacy	at	the	University	of	Michigan.	Dr.	Cordes	received	a	B.S.	degree	in	chemistry	from	the	California	Institute	of	Technology	and	a	Ph.D.	in	biochemistry	from Brandeis	University.

Mr.	Emmens	has	been	a	member	of	our	Board	of	Directors	since	2004.	Mr.	Emmens	is	the	Chief	Executive	Officer,	Chairman	of	the	Executive	Committee	and	a member	of	the	Board	of	Directors	of	Shire	Pharmaceuticals	Group	plc.	Before	joining	Shire	in	2003,	Mr.	Emmens	served	as	president	of	Merck	KGaA's	global prescription	pharmaceuticals	business	in	Darmstadt,	Germany.	In	1999,	he	joined	Merck	KGaA	and	established	EMD	Pharmaceuticals,	its	United	States	prescription pharmaceutical	business.	Mr.	Emmens	held	the	position	of	President	and	Chief	Executive	Officer	at	EMD	Pharmaceuticals	from	1999	to	2001.	Prior	to	this, Mr.	Emmens	held	various	positions,	including	Chief	Executive	Officer,	at	Astra	Merck,	Inc.	as	well	as	several	positions	at	Merck	&	Co.,	Inc.	Mr.	Emmens	also currently	serves	as	a	director	of	Incyte	Corporation.	Mr.	Emmens	received	a	B.S.	degree	in	business	management	from	Farleigh	Dickinson	University.

Mr.	Sachs	has	been	a	member	of	our	Board	of	Directors	since	1998.	He	is	a	General	Partner	at	Charles	River	Ventures.	From	1998	to	1999,	he	served	as	Executive Vice	President	and	General	Manager	of	Ascend	Communications,	Inc.	From	1997	until	1998,	Mr.	Sachs	served	as	President	and	CEO	of	Stratus	Computer,	Inc.	From

1995	to	1997,	he	served	as	Executive	Vice	President	and	General	Manager	of	the	Internet	Telecom	Business	Group	at	Bay	Networks,	Inc.	From	1993	to	1995,	he	served as	President	and

Chief	Executive	Officer	at	Xylogics,	Inc.	Mr.	Sachs	also	currently	serves	as	a	director	of	BigBand	Networks,	Inc.	Mr.	Sachs	holds	a	B.S.E.E.	in	electrical	engineering from	Bucknell	University,	an	M.E.E.	in	electrical	engineering	from	Cornell	University,	and	an	M.B.A.	from	Northeastern	University.

Dr.	Sanders	has	been	a	member	of	our	Board	of	Directors	director	since	1996,	has	served	as	our	lead	outside	director	since	2003	and	has	served	as	our	Chairman since	May	2006.	He	retired	in	1994	as	Chief	Executive	Officer	and	in	1995	as	Chairman	of	Glaxo	Inc.	From	1990	to	1995,	he	served	as	a	member	of	the	board	of	Glaxo plc.	From	1981	to	1989,	Dr.	Sanders	held	a	number	of	positions	at	Squibb	Corporation,	including	that	of	Vice	Chairman.	Dr.	Sanders	has	previously	served	on	the boards	of	Merrill	Lynch,	Reynolds	Metals	Co.,	Morton	International	Inc.,	Fisher	Scientific	International	and	Biopure	Corporation.	He	is	also	a	director	of	Cephalon Corporation,	Genentech,	Inc.	and	Icagen,	Inc.	Dr.	Sanders	had	his	undergraduate	education	at	University	of	Texas,	and	earned	an	M.D.	from	the	University	of	Texas Southwestern	Medical	School.

Dr.	Slater	has	been	a	member	of	our	Board	of	Directors	since	2004.	Dr.	Slater	is	board-certified	in	internal	medicine	and	cardiology	and	has	extensive	experience in	the	pharmaceutical	industry,	including	19	years	in	senior	management	positions	at	Merck	Research	Laboratories.	Most	recently,	she	was	Assistant	Secretary	for Health	at	the	United	States	Department	of	Health	and	Human	Services,	or	HHS,	where	she	served	as	Health	and	Human	Services	Secretary	Tommy	Thompson's	chief health	policy	advisor.	Prior	to	joining	HHS,	Dr.	Slater	held	senior	management	positions	at	Merck	Research	Laboratories	from	1983	to	2001,	including	Senior	Vice President	of	External	Policy,	Vice	President	of	Corporate	Public	Affairs,	Senior	Vice	President	of	Clinical	and	Regulatory	Development,	Executive	Director	of Biochemistry	and	Molecular	Biology	and	Senior	Director	of	Biochemical	Endocrinology.	Dr.	Slater	also	serves	as	a	director	of	VaxGen,	Inc.,	Phase	Forward Incorporated	and	Theravance,	Inc.	Dr.	Slater	is	a	graduate	of	Vassar	College	and	received	her	M.D.	from	Columbia	University's	College	of	Physicians	and	Surgeons.

Ms.	Ullian	has	been	a	member	of	our	Board	of	Directors	since	1997.	Since	1996,	she	has	served	as	President	and	Chief	Executive	Officer	of	Boston	Medical Center.	From	1994	to	1996,	she	served	as	President	and	Chief	Executive	Officer	of	Boston	University	Medical	Center	Hospital.	From	1987	to	1994,	Ms.	Ullian	served as	President	and	Chief	Executive	Officer	of	Faulkner	Hospital.	She	also	serves	as	a	director	of	Thermo	Fisher	Scientific	Inc.	and	Valeant	Pharmaceuticals,	Inc. Ms.	Ullian	holds	a	B.A.	in	political	science	from	Tufts	University	and	a	M.P.H.	from	the	University	of	Michigan.

# SCIENTIFIC	ADVISORY	BOARD

Our	Scientific	Advisory	Board	consists	of	individuals	with	demonstrated	expertise	in	various	fields	who	advise	us	concerning	long-term	scientific	planning, research	and	development.	The	Scientific	Advisory	Board	also	evaluates	our	research	programs,	recommends	personnel	to	us	and	advises	us	on	technological	matters. The	members	of	the	Scientific	Advisory	Board,	which	is	chaired	by	Dr.	Mark	Murcko,	our	Chief	Technology	Officer,	are:

Other	than	Dr.	Murcko	and	Dr.	Mueller,	who	are	employed	by	Vertex,	and	Dr.	Cordes,	who	is	a	member	of	our	Board	of	Directors,	none	of	the	members	of	the Scientific	Advisory	Board	is	employed	by	Vertex,	and	members	may	have	other	commitments	to	or	consulting	or	advisory	contracts	with	their	employers	or	other entities	that	may	restrict	their	availability.	Accordingly,	such	persons	are	expected	to	devote	only	a	small	portion	of	their	time	to	us.	In	addition	to	our	Scientific Advisory	Board,	we	have	established	consulting	relationships	with	a	number	of	scientific	and	medical	experts	who	advise	us	on	a	project-specific	basis.

# Risk	Factors

Investing	in	our	common	stock	involves	a	high	degree	of	risk,	and	you	should	carefully	consider	the	risks	and	uncertainties	described	below	in	addition	to	the	other information	included	or	incorporated	by	reference	in	this	Annual	Report	on	Form	10-K.	If	any	of	the	following	risks	actually	occurs,	our	business,	financial	condition	or results	of	operations	would	likely	suffer,	possibly	materially.	In	that	case,	the	trading	price	of	our	common	stock	could	fall.

# WE	EXPECT	TO	INCUR	FUTURE	LOSSES,	AND	WE	MAY	NEVER	BECOME	PROFITABLE.

We	have	incurred	significant	operating	losses	each	year	since	our	inception,	including	net	losses	of	$206.9	million,	$203.4	million	and	$166.2	million	during	2006, 2005	and	2004,	respectively,	and	expect	to	incur	a	significant	operating	loss	in	2007.	We	believe	that	operating	losses	will	continue	beyond	2007,	even	if	we	receive significant	future	payments	under	our	existing	and	future	collaborative	agreements,	because	we	are	planning	to	make	significant	investments	in	research	and development,	and	because	we	will	incur	significant	selling,	general	and	administrative	expenses	in	the	course	of	researching,	developing	and	commercializing	our	drug

candidates.	These	net	losses	have	had	and	will	continue	to	have	an	adverse	effect	on,	among	other	things,	our	stockholders'	equity,	total	assets	and	working	capital.	We expect	that	losses	will	fluctuate	from	quarter	to	quarter	and	year	to	year,	and	that	such	fluctuations	may	be	substantial.	We	cannot	predict	when	we	will	become profitable,	if	at	all.

# WE	DEPEND	HEAVILY	ON	THE	SUCCESS	OF	OUR	LEAD	DRUG	CANDIDATE,	TELAPREVIR,	WHICH	IS	STILL	UNDER	DEVELOPMENT.	IF	WE

# ARE	UNABLE	TO	COMMERCIALIZE	TELAPREVIR,	OR	EXPERIENCE	SIGNIFICANT	DELAYS	IN	DOING	SO,	OUR	BUSINESS	WILL	BE

# MATERIALLY	HARMED.

We	are	investing	a	significant	portion	of	our	time,	personnel	and	financial	resources	in	the	development	of	telaprevir,	which	is	currently	in	Phase	2b	clinical	trials.

The	clinical	development	and	commercial	success	of	telaprevir	will	depend	on	several	factors,	including	the	following:

·		successful	completion	and	favorable	outcome	of	clinical	trials;

·		ongoing	discussions	with	the	FDA	and	comparable	foreign	authorities	regarding	the	scope	and	design	of	our	clinical	trials;

·		receipt	and	timing	of	marketing	approvals	for	telaprevir	from	the	FDA	and	similar	foreign	regulatory	authorities;

·		establishing	and	maintaining	commercial	manufacturing	arrangements	for	telaprevir	with	third-party	manufacturers;

·		launching	commercial	sales	of	telaprevir	by	us	and	our	collaborators;	and

·		acceptance	of	telaprevir,	if	approved,	in	the	medical	community	and	with	third-party	payors.

If	the	data	from	our	ongoing	clinical	trials	or	non-clinical	studies	regarding	the	safety	or	efficacy	of	telaprevir	are	not	favorable,	we	may	be	forced	to	delay	or terminate	the	clinical	development	of	telaprevir,	which	would	materially	harm	our	business.	Further,	even	if	we	gain	marketing	approvals	from	the	FDA	and	similar foreign	regulatory	authorities	in	a	timely	manner,	we	cannot	be	sure	that	telaprevir	will	be	accepted	by	purchasers	in	the	pharmaceutical	market.	If	the	results	of	clinical trials	of	telaprevir,	the	anticipated	or	actual	timing	of	marketing	approvals	for	telaprevir,	or	the	market	acceptance	of	telaprevir,	if	approved,	do	not	meet	the	expectations of	investors	or	public	market	analysts,	the	market	price	of	our	common	stock	would	likely	decline.

# MANY	OF	OUR	DRUG	CANDIDATES	ARE	STILL	IN	THE	EARLY	STAGES	OF	DEVELOPMENT,	AND	ALL	OF	OUR	DRUG	CANDIDATES	REMAIN SUBJECT	TO	CLINICAL	TESTING	AND	REGULATORY	APPROVAL.	IF	WE	ARE	UNABLE	TO	SUCCESSFULLY	DEVELOP	AND	TEST	OUR	DRUG CANDIDATES,	WE	WILL	NOT	BE	SUCCESSFUL.

The	success	of	our	business	depends	primarily	upon	our	ability,	and	our	collaborators'	ability,	to	develop	and	commercialize	our	drug	candidates,	including telaprevir,	successfully.	Our	drug	candidates	are	in	various	stages	of	development	and	must	satisfy	rigorous	standards	of	safety	and	efficacy	before	they	can	be	approved by	the	FDA	or	other	regulatory	authorities	for	sale.	To	satisfy	these	standards,	we	and/or	our	collaborators	must	engage	in	expensive	and	lengthy	testing	of	our	drug candidates.	Despite	our	efforts,	our	drug	candidates	may	not:

·		offer	therapeutic	or	other	improvement	over	existing	competitive	drugs;

·		be	proven	safe	and	effective	in	clinical	trials;

·		meet	applicable	regulatory	standards;

·		be	capable	of	being	produced	in	commercial	quantities	at	acceptable	costs;	or

·		if	approved	for	commercial	sale,	be	successfully	commercialized.

Positive	results	in	preclinical	studies	of	a	drug	candidate	may	not	be	predictive	of	similar	results	in	humans	during	clinical	trials,	and	promising	results	from	earlier clinical	trials	of	a	drug	candidate	may	not	be	replicated	in	later	clinical	trials.	Findings	in	nonclinical	studies	conducted	concurrently	with	clinical	trials	could	result	in abrupt	changes	in	our	development	activities,	including	the	possible	cessation	of	development	activities	associated	with	a	drug	candidate.	Furthermore,	results	from	our clinical	trials	may	not	meet	the	level	of	statistical	significance	required	by	the	FDA	or	other	regulatory	authorities	for	approval	of	a	drug	candidate.

We	and	many	other	companies	in	the	pharmaceutical	and	biotechnology	industries	have	suffered	significant	setbacks	in	late-stage	clinical	trials	even	after	achieving promising	results	in	early-stage	development.	Accordingly,	the	results	from	the	completed	preclinical	studies	and	clinical	trials	and	ongoing	clinical	trials	for	our	drug candidates	may	not	be	predictive	of	the	results	we	may	obtain	in	later	stage	trials,	and	may	not	be	predictive	of	the	likelihood	of	approval	of	a	drug	candidate	for commercial	sale.

# IF	WE	ARE	UNABLE	TO	OBTAIN	UNITED	STATES	AND/OR	FOREIGN	REGULATORY	APPROVAL,	WE	WILL	BE	UNABLE	TO COMMERCIALIZE	OUR	DRUG	CANDIDATES.

Our	drug	candidates	are	subject	to	extensive	governmental	regulations	relating	to	their	development,	clinical	trials,	manufacturing	and	commercialization.	Rigorous preclinical	testing	and	clinical	trials	and	an	extensive	regulatory	approval	process	are	required	in	the	United	States	and	in	most	other	countries	prior	to	the	commercial sale	of	our	drug	candidates.	Satisfaction	of	these	and	other	regulatory	requirements	is	costly,	time	consuming,	uncertain	and	subject	to	unanticipated	delays.	It	is possible	that	none	of	the	drug	candidates	we	are	developing	independently,	or	in	collaboration	with	others,	will	be	approved	for	marketing.

We	have	limited	experience	in	conducting	and	managing	the	late-stage	clinical	trials	necessary	to	obtain	regulatory	approvals,	including	approval	by	the	FDA.	The time	required	to	complete	clinical	trials	and	for	the	FDA	and	other	countries'	regulatory	review	processes	is	uncertain	and	typically	takes	many	years.	Our	analysis	of data	obtained	from	preclinical	and	clinical	activities	is	subject	to	confirmation	and	interpretation	by	regulatory	authorities,	which	could	delay,	limit	or	prevent	regulatory approval.	We	may	also	encounter	unanticipated	delays	or	increased	costs	due	to	government	regulation	from	future	legislation	or	administrative	action	or	changes	in FDA	policy	during	the	period	of	drug	development,	clinical	trials	and	FDA	regulatory	review.

Any	delay	in	obtaining	or	failure	to	obtain	required	approvals	could	materially	adversely	affect	our	ability	to	successfully	commercialize	any	drug	candidate. Furthermore,	any	regulatory	approval	to	market	a	drug	may	be	subject	to	unexpected	limitations	on	the	indicated	uses	for	which	we	may	market	the	drug.	These limitations	may	limit	the	size	of	the	market	for	the	drug.

We	are	also	subject	to	numerous	foreign	regulatory	requirements	governing	the	conduct	of	clinical	trials,	manufacturing	and	marketing	authorization,	pricing	and third-party	reimbursement.	The	foreign	regulatory	approval	process	includes	all	of	the	risks	associated	with	the	FDA	approval	process	described	above,	as	well	as	risks attributable	to	the	satisfaction	of	foreign	requirements.	Approval	by	the	FDA	does	not	ensure	approval	by	regulatory	authorities	outside	the	United	States.	Foreign jurisdictions	may	have	different	approval	procedures	than	those	required	by	the	FDA	and	may	impose	additional	testing	requirements	for	our	drug	candidates.

IF	CLINICAL	TRIALS	FOR	OUR	DRUG	CANDIDATES	ARE	PROLONGED	OR	DELAYED,	WE	MAY	BE	UNABLE	TO	COMMERCIALIZE	OUR DRUG	CANDIDATES	ON	A	TIMELY	BASIS,	WHICH	WOULD	REQUIRE	US	TO	INCUR	ADDITIONAL	COSTS	AND	WOULD	DELAY	OUR RECEIPT	OF	ANY	PRODUCT	REVENUE.

We	cannot	predict	whether	or	not	we	will	encounter	problems	with	any	of	our	completed,	ongoing	or	planned	clinical	trials	that	will	cause	us	or	regulatory authorities	to	delay	or	suspend	clinical	trials,	or	delay	the	analysis	of	data	from	our	completed	or	ongoing	clinical	trials.	Any	of	the	following	could	delay	the	clinical development	of	our	drug	candidates:

·							ongoing	discussions	with	the	FDA	or	comparable	foreign	authorities	regarding	the	scope	or	design	of	our	clinical	trials;

·							delays	in	receiving	or	the	inability	to	obtain	required	approvals	from	the	independent	institutional	review	board	at	one	or	more	of	the	institutions	at	which	a clinical	trial	is	conducted	or	other	reviewing	entities	at	clinical	sites	selected	for	participation	in	our	clinical	trials;

·							delays	in	enrolling	volunteers	or	patients	into	clinical	trials;

·							a	lower	than	anticipated	retention	rate	of	volunteers	or	patients	in	clinical	trials;

·							the	need	to	repeat	clinical	trials	as	a	result	of	inconclusive	results	or	unforeseen	complications	in	testing;

·							inadequate	supply	or	deficient	quality	of	drug	candidate	materials	or	other	materials	necessary	for	the	conduct	of	our	clinical	trials;

·							unfavorable	FDA	inspection	and	review	of	a	clinical	trial	site	or	records	of	any	clinical	or	preclinical	investigation;

·							serious	and	unexpected	drug-related	side	effects	experienced	by	participants	in	our	clinical	trials;	or

·							the	placement	by	the	FDA	of	a	clinical	hold	on	a	trial.

Our	ability	to	enroll	patients	in	our	clinical	trials	in	sufficient	numbers	and	on	a	timely	basis	will	be	subject	to	a	number	of	factors,	including	the	size	of	the	patient population,	the	nature	of	the	protocol,	the	proximity	of	patients	to	clinical	sites,	the	availability	of	effective	treatments	for	the	relevant	disease,	the	number	of	other clinical	trials	competing	for	patients	in	the	same	indication	and	the	eligibility	criteria	for	the	clinical	trial.	In	addition,	subjects	may	drop	out	of	our	clinical	trials,	and thereby	possibly	impair	the	validity	or	statistical	significance	of	the	trials.	Delays	in	patient	enrollment	or	unforeseen	drop-out	rates	may	result	in	increased	costs	and longer	development	times.	While	all	or	a	portion	of	these	additional	costs	may	be	covered	by	payments	under	our	collaborative	agreements,	we	bear	all	of	the	costs	for our	development	candidates	for	which	we	have	no	financial	support	from	a	collaborator.

We,	the	FDA	or	other	applicable	regulatory	authorities	may	suspend	clinical	trials	of	a	drug	candidate	at	any	time	if	we	or	they	believe	the	subjects	or	patients participating	in	such	clinical	trials	are	being	exposed	to	unacceptable	health	risks	or	for	other	reasons.

In	addition,	it	is	impossible	to	predict	whether	legislative	changes	will	be	enacted,	or	whether	FDA	regulations,	guidance	or	interpretations	will	be	changed,	or	what the	impact	of	such	changes,	if	any,	may	be.	If	we	experience	any	such	problems,	we	may	not	have	the	financial	resources	to	continue	development	of	the	drug	candidate that	is	affected	or	the	development	of	any	of	our	other	drug	candidates.

# IF	OUR	COMPETITORS	BRING	SUPERIOR	DRUGS	TO	MARKET	OR	BRING	THEIR	DRUGS	TO	MARKET	BEFORE	WE	DO,	WE	MAY	BE UNABLE	TO	FIND	A	MARKET	FOR	OUR	DRUG	CANDIDATES.

Our	drug	candidates	in	development	may	not	be	able	to	compete	effectively	with	drugs	that	are	currently	on	the	market	or	new	drugs	that	may	be	developed	by others.	There	are	many	other	companies	developing	drugs	for	the	same	indications	that	we	are	pursuing	in	development.	In	order	to	compete	successfully	in	these	areas, we	must	demonstrate	improved	safety,	efficacy	and	ease	of	manufacturing	and	gain	market	acceptance	over	competing	drugs	that	may	receive	regulatory	approval before	or	after	our	drug	candidates,	and	over	those	that	currently	are	marketed.	Many	of	our	competitors,	including	major	pharmaceutical	companies	such	as GlaxoSmithKline,	Wyeth,	Pfizer,	Roche,	Amgen,	Novartis,	Johnson	&	Johnson	and	Schering-Plough	possess	substantially	greater	financial,	technical	and	human resources	than	we	possess.	In	addition,	many	of	our	competitors	have	significantly	greater	experience	than	we	have	in	conducting	preclinical	and	nonclinical	testing	and human	clinical	trials	of	drug	candidates,	scaling	up	manufacturing	operations	and	obtaining	regulatory	approvals	of	drugs	and	manufacturing	facilities.	Accordingly,	our competitors	may	succeed	in	obtaining	regulatory	approval	for	drugs	more	rapidly	than	we	do.	If	we	obtain	regulatory	approval	and	launch	commercial	sales	of	our	drug candidates,	we	also	will	compete	with	respect	to	manufacturing	efficiency	and	sales	and	marketing	capabilities,	areas	in	which	we	currently	have	limited	experience.

# IF	OUR	PROCESSES	AND	SYSTEMS	ARE	NOT	COMPLIANT	WITH	REGULATORY	REQUIREMENTS,	WE	COULD	BE	SUBJECT	TO	DELAYS	IN FILING	NEW	DRUG	APPLICATIONS	OR	RESTRICTIONS	ON	MARKETING	OF	DRUGS	AFTER	THEY	HAVE	BEEN	APPROVED.

We	currently	are	developing	drug	candidates	for	regulatory	approval	for	the	first	time	since	our	inception,	and	are	in	the	process	of	implementing	regulated processes	and	systems	required	to	obtain	and	maintain	regulatory	approval	for	our	drug	candidates.	Certain	of	these	processes	and	systems	for	conducting	clinical	trials and	manufacturing	material	must	be	compliant	with	regulatory	requirements	before	we	can	apply	for	regulatory	approval	for	our	drug	candidates.	These	processes	and systems	will	be	subject	to	continual	review	and	periodic	inspection	by	the	FDA	and	other	regulatory	bodies.	If	we	are	unable	to	achieve	compliance	in	a	timely	fashion, we	may	experience	delays	in	filing	for	regulatory	approval	for	our	drug	candidates.	In	addition,	any	later	discovery	of	previously	unknown	problems	or	safety	issues with	approved	drugs	or	manufacturing	processes,	or	failure	to	comply	with	regulatory	requirements,	may	result	in	restrictions	on	such	drugs	or	manufacturing	processes, withdrawal	of	drugs	from	the	market,	the	imposition	of	civil	or	criminal	penalties	or	a	refusal	by	the	FDA	and/or	other	regulatory	bodies	to	approve	pending	applications for	marketing	approval	of	new	drugs	or	supplements	to	approved	applications,	any	of	which	could	have	a	material	adverse	effect	on	our	business.	In	addition,	we	are	a party	to	collaboration	agreements	that	transfer	responsibility	for	complying	with	specified	regulatory	requirements,	such	as	filing	and	maintenance	of	marketing authorizations	and	safety	reporting,	to	our	collaborator.	If	our	collaborators	do	not	fulfill	these	regulatory	obligations,	any	drugs	for	which	we	or	they	obtain	approval may	be	withdrawn	from	the	market,	which	would	have	a	material	adverse	effect	on	our	business.

# EVEN	IF	WE	OBTAIN	REGULATORY	APPROVALS,	OUR	DRUG	CANDIDATES	WILL	BE	SUBJECT	TO	ONGOING	REGULATORY	REVIEW.	IF WE	FAIL	TO	COMPLY	WITH	CONTINUING	UNITED	STATES	AND	APPLICABLE	FOREIGN	REGULATIONS,	WE	COULD	LOSE	THOSE APPROVALS,	AND	OUR	BUSINESS	WOULD	BE	SERIOUSLY	HARMED.

Even	if	we	receive	regulatory	approval	of	any	drug	candidates	that	we	are	developing,	we	will	be	subject	to	continuing	regulatory	review,	including	the	review	of clinical	results	that	are	reported	after	our	drug	candidates	become	commercially	available,	approved	drugs.	Since	drugs	are	more	widely	used	by	patients	once	approval has	been	obtained,	side	effects	and	other	problems	may	be	observed	after	approval	that	were	not	seen	or	anticipated	during	pre-approval	clinical	trials.	In	addition,	the manufacturers	and	the	manufacturing	facilities	we	engage	to	make	any	of	our	drug	candidates	will	also	be	subject	to	periodic

review	and	inspection	by	the	FDA.	The	subsequent	discovery	of	previously	unknown	problems	with	the	drug,	manufacturers	or	manufacturing	facilities	may	result	in restrictions	on	the	drug,	manufacturers	or	facilities,	including	withdrawal	of	the	drug	from	the	market	or	our	inability	to	use	the	facilities	to	make	our	drug.	If	we	fail	to comply	with	applicable	continuing	regulatory	requirements,	we	may	be	subject	to	fines,	suspension	or	withdrawal	of	regulatory	approval,	product	recalls	and	seizures, operating	restrictions	and	criminal	prosecutions.

# OUR	DRUG	DEVELOPMENT	EFFORTS	ARE	DATA-DRIVEN	AND	THEREFORE	POTENTIALLY	SUBJECT	TO	ABRUPT	CHANGES	IN	EXPECTED OUTCOMES.

Small	molecule	drug	discovery	and	development	involve,	initially,	the	identification	of	chemical	compounds	that	may	have	promise	as	treatments	for	specific diseases.	Once	identified	as	drug	candidates,	compounds	are	subjected	to	years	of	testing	in	a	laboratory	setting,	in	animals	and	in	humans.	Our	ultimate	objective	is	to determine	whether	the	drug	candidates	have	physical	characteristics,	both	intrinsically	and	in	animal	and	human	systems	and	include	a	toxicological	profile,	that	are compatible	with	clinical	and	commercial	success	in	treatment	of	the	disease	being	targeted.	Throughout	this	process,	experiments	are	conducted	and	data	are	gathered that	could	reinforce	a	decision	to	move	to	the	next	step	in	the	investigation	process	for	a	particular	drug	candidate,	could	result	in	uncertainty	over	the	proper	course	to pursue,	or	could	result	in	the	termination	of	further	drug	development	efforts	with	respect	to	the	compound	being	evaluated.	We	monitor	the	results	of	our	discovery research	and	our	nonclinical	studies	and	clinical	trials	and	regularly	evaluate	and	re-evaluate	our	portfolio	investments	with	the	objective	of	balancing	risk	and	potential

return	in	view	of	new	data	and	scientific,	business	and	commercial	insights.	This	process	can	result	in	relatively	abrupt	changes	in	focus	and	priority	as	new	information comes	to	light	and	we	gain	additional	insights	into	ongoing	programs	and	potential	new	programs.

# WE	DEPEND	ON	OUR	COLLABORATORS	TO	WORK	WITH	US	TO	DEVELOP,	MANUFACTURE	AND	COMMERCIALIZE	MANY	OF	OUR	DRUG CANDIDATES.

We	have	granted	development	and	commercialization	rights	to	telaprevir	to	Janssen	(worldwide	other	than	North	America	and	Far	East)	and	to	Mitsubishi	(Far East).	We	also	have	granted	Far	East	rights	to	VX-702	to	our	collaborator	Kissei.	We	expect	to	receive	significant	financial	support	under	our	Janssen	collaboration agreement,	as	well	as	meaningful	technical	and	manufacturing	contributions	to	the	telaprevir	program.	The	success	of	some	of	our	key	in-house	programs,	such	as	for telaprevir	and	VX-702,	is	dependent	upon	the	continued	financial	and	other	support	that	our	collaborators	have	agreed	to	provide.

For	some	drug	candidates	on	which	we	are	not	currently	focusing	our	development	efforts,	we	have	granted	worldwide	rights	to	a	collaborator,	such	as	our	MK- 0457	(VX-680)	and	MK-6592	(VX-667)	collaboration	with	Merck,	our	Lexiva/Telzir	and	VX-409	collaborations	with	GlaxoSmithKline	and	our	AVN-944	(VX-944) collaboration	with	Avalon.

The	success	of	our	collaborations	depends	on	the	efforts	and	activities	of	our	collaborators.	Each	of	our	collaborators	has	significant	discretion	in	determining	the efforts	and	resources	that	it	will	apply	to	the	collaboration.	Our	existing	collaborations	may	not	be	scientifically	or	commercially	successful.

The	risks	that	we	face	in	connection	with	these	existing	and	any	future	collaborations	include	the	following:

·							Our	collaboration	agreements	are	subject	to	termination	under	various	circumstances,	including,	as	in	the	case	of	our	agreement	with	Janssen,	termination	without cause.	Any	such	termination	could	have	an	adverse	material	effect	on	our	financial	condition	and/or	delay	the	development	and	commercial	sale	of	our	drug candidates,	including	telaprevir.

·							Our	collaborators	may	change	the	focus	of	their	development	and	commercialization	efforts.	Pharmaceutical	and	biotechnology	companies	historically	have	re- evaluated	their	development	and	commercialization	priorities	following	mergers	and	consolidations,	which	have	been	common	in	recent	years	in	these industries.	The	ability	of	some	of	our	drug	candidates	to	reach	their	potential

could	be	limited	if	our	collaborators	decrease	or	fail	to	increase	development	or	commercialization	efforts	related	to	those	drug	candidates.

·							Our	collaboration	agreements	may	have	the	effect	of	limiting	the	areas	of	research	and	development	that	we	may	pursue,	either	alone	or	in	collaboration	with third	parties.

·							Our	collaborators	may	develop	and	commercialize,	either	alone	or	with	others,	drugs	that	are	similar	to	or	competitive	with	the	drugs	or	drug	candidates	that	are the	subject	of	the	collaboration	with	us.

# IF	WE	ARE	UNABLE	TO	ATTRACT	AND	RETAIN	COLLABORATORS	FOR	THE	DEVELOPMENT	AND	COMMERCIALIZATION	OF	OUR	DRUGS AND	DRUG	CANDIDATES,	WE	MAY	NOT	BE	ABLE	TO	FUND	OUR	DEVELOPMENT	AND	COMMERCIALIZATION	ACTIVITIES.

Our	collaborators	have	agreed	to	fund	portions	of	our	research	and	development	programs	and/or	to	conduct	the	development	and	commercialization	of	specified drug	candidates	and,	if	they	are	approved,	drugs.	In	exchange,	we	have	given	them	technology,	sales	and	marketing	rights	relating	to	those	drugs	and	drug	candidates. Some	of	our	corporate	collaborators	have	rights	to	control	the	planning	and	execution	of	drug	development	and	clinical	programs	including	for	our	drug	candidates	MK- 0457	(VX-680),	MK-6592	(VX-667),	VX-409	and	AVN-944	(VX-944).	Our	collaborators	may	exercise	their	control	rights	in	ways	that	may	negatively	affect	the timing	and	success	of	those	programs.	Our	collaborations	are	subject	to	termination	rights	by	the	collaborators.	If	any	of	our	collaborators	were	to	terminate	its relationship	with	us,	or	fail	to	meet	its	contractual	obligations,	that	action	could	have	a	material	adverse	effect	on	our	ability	to	undertake	research,	to	fund	related	and other	programs	and	to	develop,	manufacture	and	market	any	drugs	that	may	have	resulted	from	the	collaboration.	We	expect	to	seek	additional	collaborative arrangements,	which	may	not	be	available	to	us,	to	develop	and	commercialize	our	drug	candidates	in	the	future.	Even	if	we	are	able	to	establish	acceptable	collaborative arrangements	in	the	future,	they	may	not	be	successful.

# OUR	INVESTMENT	IN	THE	CLINICAL	DEVELOPMENT	AND	MANUFACTURE	OF	COMMERCIAL	SUPPLY	OF	TELAPREVIR	MAY	NOT RESULT	IN	ANY	BENEFIT	TO	US	IF	TELAPREVIR	IS	NOT	APPROVED	FOR	COMMERCIAL	SALE.

We	are	investing	significant	resources	in	the	clinical	development	of	telaprevir.	In	2006,	we	increased	our	investment	in	telaprevir	to	support	our	Phase	2b	clinical development	program.	Telaprevir	is	the	first	drug	candidate	for	which	we	expect	to	perform	all	activities	related	to	late	stage	development,	drug	supply,	registration	and commercialization	in	a	major	market.	Even	though	telaprevir	is	a	Phase	2b	drug	candidate,	we	are	planning	for	and	investing	significant	resources	now	in	preparation	for Phase	3	clinical	trials,	application	for	marketing	approval,	commercial	supply	and	sales	and	marketing.	We	also	expect	to	incur	significant	costs	in	2007	to	manufacture registration	batches	and	invest	in	telaprevir	commercial	supply.	Our	engagement	in	these	resource-intensive	activities	could	make	it	more	difficult	for	us	to	maintain	our portfolio	focus,	and	puts	significant	investment	at	risk	if	we	do	not	obtain	regulatory	approval	and	successfully	commercialize	telaprevir	in	North	America.	There	is	no assurance	that	our	development	of	telaprevir	will	lead	successfully	to	regulatory	approval,	or	that	obtaining	regulatory	approval	will	lead	to	commercial	success.	If telaprevir	is	not	approved	for	commercial	sale	or	if	its	development	is	delayed	for	any	reason,	our	full	investment	in	telaprevir	may	be	at	risk	and	our	business	and financial	condition	could	be	materially	adversely	affected.

WE	DEPEND	ON	THIRD-PARTY	MANUFACTURERS	TO	DISTRIBUTE	CLINICAL	TRIAL	MATERIALS	FOR	CLINICAL	TRIALS	AND	EXPECT	TO CONTINUE	TO	RELY	ON	THEM	TO	MEET	OUR	COMMERCIAL	SUPPLY	NEEDS	FOR	ANY	DRUG	CANDIDATE	THAT	IS	APPROVED	FOR	SALE. WE	MAY	NOT	BE	ABLE	TO	ESTABLISH	OR	MAINTAIN	THESE	RELATIONSHIPS	AND	ARE	SUBJECT	TO	SUPPLY	DISRUPTIONS	OUTSIDE	OF OUR	CONTROL.

If	we	are	successful	in	advancing	our	proprietary	drug	candidates	through	clinical	development,	we	plan	to	establish	and	maintain	a	commercial	supply	chain	and build	our	logistics	and	quality	control

capabilities.	We	currently	are	relying	on	a	worldwide	network	of	third-party	manufacturers	to	manufacture	and	distribute	our	drug	candidates	for	clinical	trials,	and	we expect	that	we	will	continue	to	do	so	to	meet	our	commercial	supply	needs	for	these	drugs,	if	they	are	approved	for	sale.	As	a	result	of	our	reliance	on	these	third-party manufacturers	and	suppliers,	including	sole	source	suppliers	of	certain	components	of	our	drug	candidates	and	drugs,	we	may	be	subject	to	significant	supply	disruptions outside	of	our	control.

We	have	retained	manufacturing	and	commercialization	responsibilities	for	telaprevir	in	North	America.	Establishing	the	commercial	supply	chain	for	telaprevir	is a	multi-step	international	endeavor	involving	the	purchase	of	several	raw	materials,	the	application	of	certain	manufacturing	processes	requiring	significant	lead	times, the	conversion	of	active	pharmaceutical	ingredient	to	tablet	form	and	the	packaging	of	tablets	for	distribution.	We	expect	to	source	raw	materials,	drug	substance	and drug	product,	including	finished	packaging,	from	third	parties	located	in	the	Far	East,	the	European	Union	and	the	United	States,	and	we	are	currently	establishing	and expanding	third-party	relationships	in	this	regard.	Establishing	and	providing	quality	assurance	for	this	global	supply	chain	requires	a	significant	financial	commitment, experienced	personnel	and	the	creation	or	expansion	of	numerous	third-party	contractual	relationships.	While	we	believe	that	there	are	multiple	third	parties	that	are capable	of	providing	the	materials	and	services	that	we	need	in	order	to	manufacture	and	distribute	telaprevir,	if	it	is	approved	for	sale,	some	of	these	services	are	in	high

demand	and	capacity	is	constrained.	There	can	be	no	assurance	that	we	will	be	able	to	establish	and	maintain	this	commercial	supply	chain	on	commercially	reasonable terms	in	order	to	support	a	timely	launch	of	telaprevir	or	at	all.

We	plan	to	identify	and	enter	into	commercial	relationships	with	multiple	third-party	manufacturers	in	order	to	reduce	the	risk	of	supply	chain	disruption	by limiting	our	reliance	on	any	one	manufacturer.	In	addition,	we	are	in	the	process	of	transferring	technical	information	regarding	the	manufacture	of	telaprevir	to	Janssen so	that	Janssen	will	be	able	to	manufacture	telaprevir,	if	approved,	for	sale	in	Janssen's	territories	and	as	a	secondary	source	for	us.	There	is	no	assurance,	however,	that we	will	be	able	to	establish	second	sources	for	each	stage	of	manufacturing	of	telaprevir,	or	any	other	drug	or	drug	candidate,	or	that	any	second	source	will	be	able	to produce	sufficient	quantities	in	the	required	timeframe	to	avoid	a	supply	chain	disruption	if	there	is	a	problem	with	one	of	our	suppliers.

Even	if	we	successfully	establish	arrangements	with	third-party	manufacturers,	supply	disruptions	may	result	from	a	number	of	factors	including	shortages	in product	raw	materials,	labor	or	technical	difficulties,	regulatory	inspections	or	restrictions,	shipping	or	customs	delays	or	any	other	performance	failure	by	any	third- party	manufacturer	on	which	we	rely.

Any	supply	disruptions	could	impact	the	timing	of	our	clinical	trials	and	the	commercial	launch	of	any	approved	pharmaceutical	drugs.	Furthermore,	we	may	be required	to	modify	our	production	methods	to	permit	us	to	economically	manufacture	our	drugs	for	commercial	launch	and	sale.	Upon	approval	of	a	pharmaceutical drug	for	sale,	if	any,	we	similarly	may	be	at	risk	of	supply	chain	disruption	for	our	commercial	drug	supply.	These	modifications	may	require	us	to	reevaluate	our resources	and	the	resources	of	our	third-party	manufacturers,	which	could	result	in	abrupt	changes	in	our	production	methods	and	supplies.	The	production	of	our	drug candidates	is	based	in	part	on	technology	that	we	believe	to	be	proprietary.	We	have	licensed	this	technology	to	enable	our	third-party	manufacturers	to	manufacture drug	candidates	for	us.	However,	in	the	course	of	their	services,	a	contract	manufacturer	may	develop	process	technology	related	to	the	manufacture	of	our	drug candidates	that	the	manufacturer	owns,	either	independently	or	jointly	with	us.	This	would	increase	our	reliance	on	that	manufacturer	or	require	us	to	obtain	a	license from	that	manufacturer	in	order	to	have	our	products	manufactured	by	other	suppliers	utilizing	the	same	process.

# WE	RELY	ON	THIRD	PARTIES	TO	CONDUCT	OUR	CLINICAL	TRIALS,	AND	THOSE	THIRD	PARTIES	MAY	NOT	PERFORM	SATISFACTORILY, INCLUDING	FAILING	TO	MEET	ESTABLISHED	DEADLINES	FOR	THE	COMPLETION	OF	SUCH	TRIALS.

We	do	not	have	the	ability	to	independently	conduct	clinical	trials	for	our	drug	candidates,	and	we	rely	on	third	parties	such	as	contract	research	organizations, medical	institutions	and	clinical	investigators	to

enroll	qualified	patients	and	conduct	our	clinical	trials.	Our	reliance	on	these	third	parties	for	clinical	development	activities	reduces	our	control	over	these	activities. Accordingly,	these	third-party	contractors	may	not	complete	activities	on	schedule,	or	may	not	conduct	our	clinical	trials	in	accordance	with	regulatory	requirements	or our	trial	design.	If	these	third	parties	do	not	successfully	carry	out	their	contractual	duties	or	meet	expected	deadlines,	we	may	be	required	to	replace	them.	Although	we believe	that	there	are	a	number	of	other	third-party	contractors	we	could	engage	to	continue	these	activities,	it	may	result	in	a	delay	of	the	affected	trial.	Accordingly,	our efforts	to	obtain	regulatory	approvals	for	and	commercialize	our	drug	candidates	may	be	delayed.

# IF	WE	ARE	UNABLE	TO	DEVELOP	INDEPENDENT	SALES	AND	MARKETING	CAPABILITIES	OR	ESTABLISH	THIRD-PARTY	RELATIONSHIPS FOR	THE	COMMERCIALIZATION	OF	OUR	DRUG	CANDIDATES,	WE	WILL	NOT	BE	ABLE	TO	SUCCESSFULLY	COMMERCIALIZE	OUR	DRUG CANDIDATES	EVEN	IF	WE	ARE	ABLE	TO	OBTAIN	REGULATORY	APPROVAL.

We	currently	have	no	experience	as	a	company	in	sales	and	marketing	or	with	respect	to	pricing	and	obtaining	adequate	third-party	reimbursement	for	drugs. GlaxoSmithKline	currently	has	exclusive	sales	and	marketing	rights	to	Lexiva/Telzir.	We	will	need	to	either	develop	marketing	capabilities	and	an	independent	sales force	or	enter	into	arrangements	with	third	parties	to	sell	and	market	any	of	our	drug	candidates	if	they	are	approved	for	sale	by	regulatory	authorities.

In	order	to	market	telaprevir	in	North	America	if	it	is	approved,	we	intend	to	build	a	marketing	organization	and	a	direct	sales	force,	which	will	require	substantial efforts	and	significant	management	and	financial	resources.	During	2007,	we	intend	to	commit	significant	personnel	and	financial	resources	to	this	effort,	staging	our commitments	to	the	extent	possible	in	consideration	of	the	ongoing	telaprevir	development	timeline.	We	will	need	to	devote	significant	effort,	in	particular,	to	recruiting individuals	with	experience	in	the	sales	and	marketing	of	pharmaceutical	products.	Competition	for	personnel	with	these	skills	is	intense	and	may	be	particularly difficult	for	us	since	telaprevir	is	still	an	investigational	drug	candidate.	In	addition,	if	we	develop	our	own	marketing	and	sales	capability,	we	may	be	competing	with other	companies	that	currently	have	experienced	and	well-funded	marketing	and	sales	operations.	As	a	result,	we	may	not	be	able	to	successfully	develop	our	own marketing	capabilities	or	independent	sales	force	for	telaprevir	in	North	America	in	order	to	support	an	effective	launch	of	telaprevir	if	it	is	approved	for	sale.

We	have	granted	commercialization	rights	to	other	pharmaceutical	companies	with	respect	to	certain	of	our	drug	candidates	in	certain	geographic	locations, including	telaprevir	(Janssen	worldwide	except	for	North	America	and	the	Far	East,	and	Mitsubishi	in	the	Far	East),	MK-0457	(VX-680)	and	MK-6592	(VX-667) (Merck	worldwide)	and	AVN-944	(VX-944)	(Avalon	worldwide).	To	the	extent	that	our	collaborators	have	commercial	rights	to	our	drugs,	any	revenues	we	receive from	any	approved	drugs,	will	depend	primarily	on	the	sales	and	marketing	efforts	of	others.	We	do	not	know	whether	we	will	be	able	to	enter	into	additional	third-party sales	and	marketing	arrangements	with	respect	to	any	of	our	other	drug	candidates	on	acceptable	terms,	if	at	all,	or	whether	we	will	be	able	to	leverage	the	sales	and marketing	capabilities	we	intend	to	build	for	telaprevir	in	order	to	market	and	sell	any	other	drug	candidate	if	it	is	approved	for	sale.

# WE	MAY	NEED	TO	RAISE	ADDITIONAL	CAPITAL	THAT	MAY	NOT	BE	AVAILABLE.

We	expect	to	incur	substantial	research	and	development	and	related	supporting	expenses	as	we	design	and	develop	existing	and	future	compounds,	undertake clinical	trials	of	drug	candidates	resulting	from	such	compounds,	and	build	our	manufacturing,	regulatory,	development	and	commercial	capabilities.	We	also	expect	to incur	substantial	administrative	and	commercialization	expenses	in	the	future.	We	may	need	to	make	significant	capital	investment	in	building	our	manufacturing capacity	and	creating	pre-launch	inventory	for	one	or	more	of	our	drug	candidates.	We	anticipate	that	we	will	finance	these	substantial	cash	needs	with:

·							cash	received	from	our	existing	collaborative	agreements;

·							cash	received	from	new	collaborative	agreements;

·							Lexiva/Telzir	royalty	revenue;

·							existing	cash	reserves,	together	with	interest	earned	on	those	reserves;	and

·							future	product	sales	to	the	extent	that	we	market	drugs	directly.

We	expect	that	funds	from	these	sources	will	be	sufficient	to	fund	our	planned	activities	for	at	least	the	next	eighteen	months	from	the	date	of	this	filing.	If	we	need additional	capital,	it	will	be	necessary	to	raise	additional	funds	through	public	offerings	or	private	placements	of	equity	or	debt	securities	or	other	methods	of	financing. Even	if	our	financial	resources	are	sufficient	to	meet	our	short	or	intermediate	term	needs,	we	may	still	decide,	as	we	have	in	the	past,	to	raise	additional	funds	when	we believe	financial	market	conditions	are	favorable.	Any	equity	financings	could	result	in	dilution	to	our	then-existing	security	holders.	Any	debt	financing,	if	available	at all,	may	be	on	terms	that,	among	other	things,	restrict	our	ability	to	pay	dividends	and	interest	(although	we	do	not	intend	to	pay	dividends	for	the	foreseeable	future). The	required	interest	payments	associated	with	any	significant	additional	debt	financing	could	materially	adversely	affect	our	ability	to	service	our	convertible subordinated	notes	and	convertible	senior	subordinated	notes.	The	terms	of	any	additional	debt	financing	may	also,	under	certain	circumstances,	restrict	or	prohibit	us from	making	interest	payments	on	our	convertible	subordinated	notes.	If	adequate	funds	are	not	available,	we	may	be	required	to	curtail	significantly	or	discontinue	one or	more	of	our	research,	drug	discovery	or	development	programs	(including	clinical	trials),	or	attempt	to	obtain	funds	through	arrangements	with	collaborators	or	others

that	may	require	us	to	relinquish	rights	to	certain	of	our	technologies,	drugs	or	drug	candidates.	Additional	financing	may	not	be	available	on	acceptable	terms,	if	at	all.

# IF	WE	FAIL	TO	EXPAND	OUR	HUMAN	RESOURCES	AND	MANAGE	OUR	GROWTH	EFFECTIVELY,	OUR	BUSINESS	MAY	SUFFER.

We	expect	that	if	our	clinical	drug	candidates	continue	to	progress	in	development,	we	continue	to	build	our	commercial	organization	and	our	drug	discovery efforts	continue	to	generate	drug	candidates,	we	will	require	significant	additional	investment	in	personnel,	management	systems	and	resources.	For	example,	the	number of	our	full	time	employees	increased	by	17%	in	2006,	and	we	expect	to	experience	significant	growth	in	2007.	Our	ability	to	commercialize	our	drug	candidates,	achieve our	research	and	development	objectives,	and	satisfy	our	commitments	under	our	collaboration	agreements	depends	on	our	ability	to	respond	effectively	to	these demands	and	expand	our	internal	organization	to	accommodate	additional	anticipated	growth.	If	we	are	unable	to	manage	our	growth	effectively,	there	could	be	a material	adverse	effect	on	our	business.

# RISKS	ASSOCIATED	WITH	OUR	INTERNATIONAL	BUSINESS	RELATIONSHIPS	COULD	MATERIALLY	ADVERSELY	AFFECT	OUR	BUSINESS.

We	have	manufacturing,	collaborative	and	clinical	trial	relationships,	and	we	and	our	collaborators	are	seeking	approval	for	our	drug	candidates,	outside	the	United States.	In	addition,	we	expect	that	if	telaprevir	is	approved	for	commercial	sale,	a	significant	portion	of	our	commercial	supply	chain,	including	sourcing	of	raw materials	and	manufacturing,	will	be	located	in	the	Far	East	and	European	Union.	Consequently,	we	are,	and	will	continue	to	be,	subject	to	risks	related	to	operating	in foreign	countries.	Risks	associated	with	conducting	operations	in	foreign	countries	include:

·							differing	regulatory	requirements	for	drug	approvals	in	foreign	countries;

·							unexpected	changes	in	tariffs,	trade	barriers	and	regulatory	requirements;

·							economic	weakness,	including	inflation,	or	political	instability	in	particular	foreign	economies	and	markets;

·							compliance	with	tax,	employment,	immigration	and	labor	laws	for	employees	living	or	travelling	abroad;

·							foreign	taxes,	including	withholding	of	payroll	taxes;

·							foreign	currency	fluctuations,	which	could	result	in	increased	operating	expenses	or	reduced	revenues,	and	other	obligations	incident	to	doing	business	or operating	a	subsidiary	in	another	country;

·							workforce	uncertainty	in	countries	where	labor	unrest	is	more	common	than	in	the	United	States;

·							production	shortages	resulting	from	any	events	affecting	raw	material	supply	or	manufacturing	capabilities	abroad;	and

·							business	interruptions	resulting	from	geo-political	actions,	including	war	and	terrorism.

These	and	other	risks	associated	with	our	international	operations	may	materially	adversely	affect	our	ability	to	attain	or	maintain	profitable	operations.

# IF	WE	LOSE	OUR	TECHNOLOGICAL	ADVANTAGES,	WE	MAY	NOT	BE	ABLE	TO	COMPETE	IN	THE	MARKETPLACE.

We	believe	that	our	integrated	drug	discovery	capability	gives	us	a	technological	advantage	over	our	competitors.	However,	the	pharmaceutical	research	field	is characterized	by	rapid	technological	progress	and	intense	competition.	As	a	result,	we	may	not	realize	the	expected	benefits	from	these	technologies.	For	example,	a large	pharmaceutical	company,	with	significantly	more	resources	than	we	have,	could	pursue	a	systematic	approach	to	the	discovery	of	drugs	based	on	gene	families, using	proprietary	drug	targets,	compound	libraries,	novel	chemical	approaches,	structural	protein	analysis	and	information	technologies.	Such	a	company	might	identify broadly	applicable	compound	classes	faster	and	more	effectively	than	we	do.	Further,	we	believe	that	interest	in	the	application	of	structure-based	drug	design,	parallel drug	design	and	related	approaches	has	accelerated	as	the	strategies	have	become	more	widely	understood.	Businesses,	academic	institutions,	governmental	agencies and	other	public	and	private	research	organizations	are	conducting	research	to	develop	technologies	that	may	compete	with	those	we	use.	It	is	possible	that	our competitors	could	acquire	or	develop	technologies	that	would	render	our	technology	obsolete	or	noncompetitive.	For	example,	a	competitor	could	develop	information technologies	that	accelerate	the	atomic-level	analysis	of	potential	compounds	that	bind	to	the	active	site	of	a	drug	target,	and	predict	the	absorption,	toxicity,	and	relative ease-of-synthesis	of	candidate	compounds.	If	we	were	unable	to	access	the	same	technologies	at	an	acceptable	price,	our	business	could	be	adversely	affected.

# THE	LOSS	OF	THE	SERVICES	OF	KEY	EMPLOYEES	OR	THE	FAILURE	TO	HIRE	QUALIFIED	EMPLOYEES	WOULD	NEGATIVELY	IMPACT OUR	BUSINESS	AND	FUTURE	GROWTH.

Because	our	drug	discovery	and	development	activities	are	highly	technical	in	nature,	we	require	the	services	of	highly	qualified	and	trained	scientists	who	have	the skills	necessary	to	conduct	these	activities.	In	addition,	as	we	attempt	to	grow	our	capabilities	with	respect	to	clinical	development,	regulatory	affairs,	quality	control	and sales	and	marketing,	we	will	need	to	attract	and	retain	employees	with	experience	in	these	fields.	Our	future	success	will	depend	in	large	part	on	the	continued	services	of our	key	scientific	and	management	personnel.	We	have	entered	into	employment	agreements	with	some	individuals	and	provide	compensation-related	benefits	to	all	of our	key	employees	that	vest	over	time	and	therefore	induce	them	to	remain	with	us.	However,	the	employment	agreements	can	be	terminated	by	the	employee	on relatively	short	notice.	The	value	to	employees	of	stock-related	benefits	that	vest	over	time—such	as	options	and	restricted	stock—will	be	significantly	affected	by movements	in	our	stock	price	that	we	cannot	control,	and	may	at	any	point	in	time	be	insufficient	to	counteract	more	lucrative	offers	from	other	companies.

We	face	intense	competition	for	our	personnel	from	our	competitors,	our	collaborators	and	other	companies	throughout	our	industry.	Moreover,	the	growth	of	local biotechnology	companies	and	the	expansion	of	major	pharmaceutical	companies	into	the	Boston	area	have	increased	competition	for	the	available	pool	of	skilled employees,	especially	in	technical	fields,	and	the	high	cost	of	living	in	the	Boston	and	San	Diego	areas	makes	it	difficult	to	attract	employees	from	other	parts	of	the country.	A	failure	to	retain,	as	well	as	hire,	train	and	effectively	integrate	into	our	organization	a	sufficient	number	of	qualified	scientists	and	professionals	would negatively	affect	our	business	and	our	ability	to	grow	our	business.	In	addition,	the	level	of	funding	under	certain	of	our	collaborative	agreements	depends	on	the number	of	our	employees	performing	research	and/or	development	under	those	agreements.	If	we	cannot	hire	and	retain	the	required	personnel,	funding	received	under the	agreements	may	be	reduced.

# IF	OUR	PATENTS	DO	NOT	PROTECT	OUR	DRUGS,	OR	OUR	DRUGS	INFRINGE	THIRD-PARTY	PATENTS,	WE	COULD	BE	SUBJECT	TO LITIGATION	AND	SUBSTANTIAL	LIABILITIES.

We	have	numerous	patent	applications	pending	in	the	United	States,	as	well	as	foreign	counterparts	in	other	countries.	Our	success	will	depend,	in	significant	part, on	our	ability	to	obtain	and	maintain	United	States	and	foreign	patent	protection	for	our	drugs,	their	uses	and	our	processes,	to	preserve	our	trade	secrets	and	to	operate without	infringing	the	proprietary	rights	of	third	parties.	We	do	not	know	whether	any	patents	will	issue	from	any	of	our	patent	applications	or,	even	if	patents	issue	or have	issued,	that	the	issued	claims	will	provide	us	with	any	significant	protection	against	competitive	products	or	otherwise	be	valuable	commercially.	Legal	standards relating	to	the	validity	of	patents	and	the	proper	scope	of	their	claims	in	the	pharmaceutical	field	are	still	evolving,	and	there	is	no	consistent	law	or	policy	regarding	the valid	breadth	of	claims	in	biopharmaceutical	patents	or	the	effect	of	prior	art	on	them.	If	we	are	not	able	to	obtain	adequate	patent	protection,	our	ability	to	prevent competitors	from	making,	using	and	selling	similar	drugs	will	be	limited.	Furthermore,	our	activities	may	infringe	the	claims	of	patents	held	by	third	parties.	Defense	and prosecution	of	infringement	or	other	intellectual	property	claims,	as	well	as	participation	in	other	inter-party	proceedings,	can	be	expensive	and	time-consuming, regardless	of	whether	or	not	the	outcome	is	favorable	to	us.	If	the	outcome	of	any	such	litigation	or	proceeding	were	adverse,	we	could	be	subject	to	significant	liabilities

to	third	parties,	could	be	required	to	obtain	licenses	from	third	parties	or	could	be	required	to	cease	sales	of	affected	drugs,	any	of	which	outcomes	could	have	a	material adverse	effect	on	our	business.

# WE	DO	NOT	KNOW	WHETHER	LEXIVA/TELZIR	WILL	CONTINUE	TO	BE	COMPETITIVE	IN	THE	MARKET	FOR	HIV	PROTEASE	INHIBITORS.

We	currently	receive	royalties	from	sales	of	Lexiva/Telzir	under	our	collaboration	with	GlaxoSmithKline.	Lexiva/Telzir's	share	of	the	worldwide	protease	inhibitor a	number	of	other	products	are	on	the	market	for	the	treatment	of	HIV	infection	and	AIDS.	Other	drugs	are	still	in	development	by	our	competitors,	including	Bristol- Myers	Squibb,	Boehringer	Ingelheim	and	Johnson	&	Johnson,	which	may	have	better	efficacy,	fewer	side	effects,	easier	administration	and/or	lower	costs	than Lexiva/Telzir.	Moreover,	the	growth	in	the	worldwide	market	for	HIV	PIs	has,	to	a	certain	extent,	occurred	as	a	result	of	early	and	aggressive	treatment	of	HIV	infection with	a	protease	inhibitor-based	regimen.	Changes	in	treatment	strategy,	in	which	treatment	is	initiated	later	in	the	course	of	infection,	or	in	which	treatment	is	more	often initiated	with	a	regimen	that	does	not	include	a	protease	inhibitor,	may	result	in	reduced	use	of	HIV	PIs.	As	a	result,	the	total	market	for	HIV	PIs	may	decline, decreasing	the	sales	potential	of	Lexiva/Telzir.	Further,	although	we	provide	education	efforts	related	to	the	promotion	of	Lexiva/Telzir	in	the	United	States	and	key markets	in	Europe,	GlaxoSmithKline	directs	the	majority	of	the	marketing	and	sales	efforts	and	the	positioning	of	Lexiva/Telzir	in	the	overall	market,	and	we	have	little control	over	the	direction	or	success	of	those	efforts.	GlaxoSmithKline	has	the	right	to	terminate	its	agreement	with	us	without	cause	upon	twelve	months'	notice,	and would	have	no	obligation	to	pay	further	royalties	to	us	upon	any	such	termination. market	may	decrease	due	to	competitive	forces	and	market	dynamics.	Other	HIV	PIs	including	Bristol-Myers	Squibbs'	Reyataz ®	and	Abbott	Laboratories'	Kaletra ®,	and

# IF	PHYSICIANS,	PATIENTS	AND	THIRD-PARTY	PAYORS	DO	NOT	ACCEPT	OUR	FUTURE	DRUGS,	WE	MAY	BE	UNABLE	TO	GENERATE SIGNIFICANT	REVENUE,	IF	ANY.

Even	if	our	drug	candidates	obtain	regulatory	approval,	they	may	not	gain	market	acceptance	among	physicians,	patients	and	health	care	payors.	Physicians	may elect	not	to	recommend	our	drugs	for	a	variety	of	reasons	including:

·							the	timing	of	the	market	introduction	of	competitive	drugs;

·							lower	demonstrated	clinical	safety	and	efficacy	compared	to	other	drugs;

·							lack	of	cost-effectiveness;

·							lack	of	availability	of	reimbursement	from	third-party	payors;

·							convenience	and	ease	of	administration;

·							prevalence	and	severity	of	adverse	side	effects;

·							other	potential	advantages	of	alternative	treatment	methods;	and

·							ineffective	marketing	and	distribution	support.

If	our	approved	drugs	fail	to	achieve	market	acceptance,	we	will	not	be	able	to	generate	significant	revenue.

# IF	THE	GOVERNMENT	AND	OTHER	THIRD-PARTY	PAYORS	FAIL	TO	PROVIDE	COVERAGE	AND	ADEQUATE	PAYMENT	RATES	FOR	OUR FUTURE	DRUGS,	OUR	REVENUE	AND	PROSPECTS	FOR	PROFITABILITY	WILL	BE	HARMED.

In	both	domestic	and	foreign	markets,	our	sales	of	any	future	drugs	will	depend	in	part	upon	the	availability	of	reimbursement	from	third-party	payors.	Such	third- party	payors	include	government	health	programs	such	as	Medicare,	managed	care	providers,	private	health	insurers	and	other	organizations.	These	third-party	payors are	increasingly	attempting	to	contain	healthcare	costs	by	demanding	price	discounts	or	rebates	and	limiting	both	the	types	and	variety	of	drugs	that	they	will	cover	and the	amounts	that	they	will	pay	for	these	drugs.	As	a	result,	they	may	not	cover	or	provide	adequate	payment	for	our	future	drugs.	We	might	need	to	conduct	post- marketing	studies	in	order	to	demonstrate	the	cost-effectiveness	of	any	future	drugs	to	such	payors'	satisfaction.	Such	studies	might	require	us	to	commit	a	significant amount	of	management	time	and	financial	and	other	resources.	Our	future	drugs	might	not	ultimately	be	considered	cost-effective.	Adequate	third-party	reimbursement might	not	be	available	to	enable	us	to	maintain	price	levels	sufficient	to	realize	an	appropriate	return	on	investment	in	product	development.

Reimbursement	rates	may	vary	according	to	the	use	of	the	drug	and	the	clinical	setting	in	which	it	is	used,	may	be	based	on	payments	allowed	for	lower-cost products	that	are	already	reimbursed,	may	be	incorporated	into	existing	payments	for	other	products	or	services,	and	may	reflect	budgetary	constraints	and/or imperfections	in	Medicare	or	Medicaid	data	used	to	calculate	these	rates.	Net	prices	for	drugs	may	be	reduced	by	mandatory	discounts	or	rebates	required	by	government health	care	programs.	In	addition,	legislation	has	been	introduced	in	Congress	that,	if	enacted,	would	permit	more	widespread	importation	of	drugs	from	foreign countries	into	the	United	States,	which	may	include	importation	from	countries	where	the	drugs	are	sold	at	lower	prices	than	in	the	United	States.	Such	legislation,	or similar	regulatory	changes	or	relaxation	of	laws	that	restrict	imports	of	drugs	from	other	countries,	could	reduce	the	net	price	we	receive	for	our	marketed	drugs.

# OUR	BUSINESS	HAS	A	SUBSTANTIAL	RISK	OF	PRODUCT	LIABILITY	CLAIMS.	IF	WE	ARE	UNABLE	TO	OBTAIN	APPROPRIATE	LEVELS	OF INSURANCE,	A	PRODUCT	LIABILITY	CLAIM	COULD	ADVERSELY	AFFECT	OUR	BUSINESS.

Our	business	exposes	us	to	significant	potential	product	liability	risks	that	are	inherent	in	the	development,	manufacturing	and	sales	and	marketing	of	human therapeutic	products.	We	currently	have	clinical	trial	insurance	and	will	seek	to	obtain	product	liability	insurance	prior	to	the	sales	and	marketing	of	any	of	our	drug candidates.	However,	our	insurance	may	not	provide	adequate	coverage	against	potential	liabilities.	Furthermore,	clinical	trial	and	product	liability	insurance	is becoming	increasingly	expensive.	As	a	result,	we	may	be	unable	to	maintain	current	amounts	of	insurance	coverage	or	obtain	additional	or	sufficient	insurance	at	a reasonable	cost	to	protect	against	losses	that	could	have	a	material	adverse	effect	on	us.	If	a	claim	is	brought	against	us,	we	might	be	required	to	pay	legal	and	other expenses	to	defend	the	claim,	as	well	as	uncovered	damages	awards	resulting	from	a	claim	brought	successfully	against	us.	Furthermore,	whether	or	not	we	are ultimately	successful	in	defending	any	such	claims,	we	might	be	required	to	direct	significant	financial	and	managerial	resources	to	such	defense,	and	adverse	publicity is	likely	to	result.

# IF	WE	DO	NOT	COMPLY	WITH	LAWS	REGULATING	THE	PROTECTION	OF	THE	ENVIRONMENT	AND	HEALTH	AND	HUMAN	SAFETY,	OUR BUSINESS	COULD	BE	ADVERSELY	AFFECTED.

Our	research	and	development	efforts	involve	the	controlled	use	of	hazardous	materials,	chemicals	and	various	radioactive	compounds.	Although	we	believe	that our	safety	procedures	for	handling	and	disposing	of	these	materials	comply	with	the	standards	prescribed	by	state	and	federal	regulations,	the	risk	of	accidental contamination	or	injury	from	these	materials	cannot	be	eliminated.	If	an	accident	occurs,	we	could	be	held	liable	for	resulting	damages,	which	could	be	substantial.	We are	also	subject	to	numerous	environmental,	health	and	workplace	safety	laws	and	regulations,	including	those	governing	laboratory	procedures,	exposure	to	blood- borne	pathogens	and	the	handling	of	biohazardous	materials.	Although	we	maintain	workers'	compensation	insurance	to	cover	us	for	costs	we	may	incur	due	to	injuries to	our	employees	resulting	from	the	use	of	these	materials,	this	insurance	may	not	provide	adequate	coverage	against	potential	liabilities.	Due	to	the	small	amount	of hazardous	materials	that	we	generate,	we	have	determined	that	the	cost	to	secure	insurance	coverage	for	environmental	liability	and	toxic	tort	claims	far	exceeds	the benefits.	Accordingly,	we	do	not	maintain	any	insurance	to	cover	pollution	conditions	or	other	extraordinary	or	unanticipated	events	relating	to	our	use	and	disposal	of hazardous	materials.	Additional	federal,	state	and	local	laws	and	regulations	affecting	our	operations	may	be	adopted	in	the	future.	We	may	incur	substantial	costs	to

comply	with,	and	substantial	fines	or	penalties	if	we	violate,	any	of	these	laws	or	regulations.

# WE	HAVE	ADOPTED	ANTI-TAKEOVER	PROVISIONS	THAT	MAY	FRUSTRATE	ANY	ATTEMPT	TO	REMOVE	OR	REPLACE	OUR	CURRENT MANAGEMENT.

Our	corporate	charter	and	by-law	provisions	and	stockholder	rights	plan	may	discourage	certain	types	of	transactions	involving	an	actual	or	potential	change	of control	of	Vertex	that	might	be	beneficial	to	us	or	our	security	holders.	Our	charter	provides	for	staggered	terms	for	the	members	of	the	Board	of	Directors.	Our	by-laws grant	the	directors	a	right	to	adjourn	annual	meetings	of	stockholders,	and	certain	provisions	of	the	by-laws	may	be	amended	only	with	an	80%	stockholder	vote. Pursuant	to	our	stockholder	rights	plan,	each	share	of	common	stock	has	an	associated	preferred	share	purchase	right.	The	rights	will	not	trade	separately	from	the common	stock	until,	and	are	exercisable	only	upon,	the	acquisition	or	the	potential	acquisition	through	tender	offer	by	a	person	or	group	of	15%	or	more	of	the outstanding	common	stock.	We	may	issue	shares	of	any	class	or	series	of	preferred	stock	in	the	future	without	stockholder	approval	and	upon	such	terms	as	our	Board	of Directors	may	determine.	The	rights	of	the	holders	of	common	stock	will	be	subject	to,	and	may	be	adversely	affected	by,	the	rights	of	the	holders	of	any	class	or	series of	preferred	stock	that	may	be	issued	in	the	future.	As	a	result,	stockholders	or	other	parties	may	find	it	more	difficult	to	remove	or	replace	our	current	management.

# OUR	STOCK	PRICE	MAY	FLUCTUATE	BASED	ON	FACTORS	BEYOND	OUR	CONTROL.

Market	prices	for	securities	of	companies	such	as	Vertex	are	highly	volatile.	Within	the	twelve	months	ended	December	31,	2006,	our	common	stock	traded between	$26.50	and	$45.38	per	share.	The	market	for	our	stock,	like	that	of	other	companies	in	the	biotechnology	field,	has	from	time	to	time	experienced	significant price	and	volume	fluctuations	that	are	unrelated	to	our	operating	performance.	The	future	market	price	of	our	securities	could	be	significantly	and	adversely	affected	by factors	such	as:

·							announcements	of	results	of	clinical	trials	or	nonclinical	studies;

·							announcements	of	financial	results	and	other	operating	performance	measures,	or	capital	structuring	activities;

·							technological	innovations	or	the	introduction	of	new	drugs	by	our	competitors;

·							government	regulatory	action;

·							public	concern	as	to	the	safety	of	drugs	developed	by	others;

·							developments	in	patent	or	other	intellectual	property	rights	or	announcements	relating	to	these	matters;

·							developments	in	domestic	and	international	governmental	policy	or	regulation,	for	example	relating	to	intellectual	property	rights;	and

·							developments	relating	specifically	to	other	companies	and	market	conditions	for	pharmaceutical	and	biotechnology	stocks	in	general.

# OUR	OUTSTANDING	INDEBTEDNESS	MAY	MAKE	IT	MORE	DIFFICULT	TO	OBTAIN	ADDITIONAL	FINANCING	OR	REDUCE	OUR FLEXIBILITY	TO	ACT	IN	OUR	BEST	INTERESTS.

As	of	December	31,	2006,	we	had	approximately	$42.1	million	in	aggregate	principal	amount	of	5%	Convertible	Subordinated	Notes	due	in	September	2007	and approximately	$59.6	million	in	aggregate	principal	amount	of	5.75%	Convertible	Senior	Subordinated	Notes	due	in	February	2011	outstanding.	In	February	2007,	we announced	that	we	will	redeem	the	5.75%	Convertible	Senior	Subordinated	Notes	due	in	February	2011	on	March	5,	2007	after	which	our	outstanding	indebtedness	will be	significantly	reduced.	Notwithstanding	the	redemption	of	our	convertible	senior	subordinated	notes	in	March	2007,	the	level	of	our	indebtedness	will	affect	us	by:

·							exposing	us	to	fixed	rates	of	interest,	which	may	be	in	excess	of	prevailing	market	rates;

·							making	it	more	difficult	to	obtain	additional	financing	for	working	capital,	capital	expenditures,	debt	service	requirements	or	other	purposes;

·							constraining	our	ability	to	react	quickly	in	an	unfavorable	economic	climate	or	to	changes	in	our	business	or	the	pharmaceutical	industry;	and

·							requiring	the	dedication	of	a	substantial	portion	of	our	expected	cash	flow	to	service	of	our	indebtedness,	thereby	reducing	the	amount	of	expected	cash	flow available	for	other	purposes.

# OUR	ESTIMATES	OF	OUR	LIABILITY	UNDER	OUR	KENDALL	SQUARE	LEASE	MAY	BE	INACCURATE.

We	leased	a	290,000	square	foot	facility	in	Kendall	Square,	Cambridge,	Massachusetts	in	January	2003	for	a	15-year	term.	We	currently	are	occupying approximately	120,000	square	feet	of	the	facility.	We	have	sublease	arrangements	in	place	for	the	remaining	rentable	square	footage	of	the	facility.	In	determining	our obligations	under	the	lease	for	the	portion	of	the	facility	that	we	are	not	occupying,	we	have	made	certain	assumptions	relating	to	the	time	necessary	to	sublease	the	space after	the	expiration	of	the	initial	subleases,	projected	future	sublease	rental	rates	and	the	anticipated	durations	of	future	subleases.	Our

estimates	have	changed	in	the	past,	and	may	change	in	the	future,	resulting	in	additional	adjustments	to	the	estimate	of	liability,	and	the	effect	of	any	such	adjustments could	be	material.

# GOVERNMENT	INVESTIGATIONS	OR	LITIGATION	AGAINST	OUR	COLLABORATORS	COULD	IMPACT	OUR	BUSINESS.

The	federal	government,	certain	state	governments	and	private	payors	are	investigating	and	have	begun	to	file	actions	against	numerous	pharmaceutical	and biotechnology	companies	alleging	that	the	reporting	of	prices	for	pharmaceutical	products	has	resulted	in	a	false	and	overstated	Average	Wholesale	Price,	or	AWP, which	in	turn	is	alleged	to	have	improperly	inflated	the	reimbursement	paid	by	Medicare	beneficiaries,	insurers,	state	Medicaid	programs,	medical	plans	and	others	to health	care	providers	who	prescribed	and	administered	those	products.	Some	payors	are	also	alleging	that	pharmaceutical	and	biotechnology	companies	are	not	reporting their	"best	price"	to	the	states	under	the	Medicaid	program.	In	addition,	recent	government	litigation	against	pharmaceutical	companies	has	focused	on	allegations	of off-label	promotion	in	connection	with	the	filing	of	false	claims	for	government	reimbursement.	In	any	AWP	cases	or	other	cases	brought	by	the	government	where	our collaborators	or	licensees	are	named	as	defendants	with	respect	to	any	products	licensed	from	us,	the	outcome	of	the	case	could	have	a	material	adverse	effect	on	our financial	results.

# SALES	OF	ADDITIONAL	SHARES	OF	OUR	COMMON	STOCK	COULD	CAUSE	THE	PRICE	OF	OUR	COMMON	STOCK	TO	DECLINE.

Sales	of	substantial	amounts	of	our	common	stock	in	the	open	market,	or	the	availability	of	such	shares	for	sale,	could	adversely	affect	the	price	of	our	common stock.	In	addition,	the	issuance	of	common	stock	upon	exercise	of	any	outstanding	option	or	the	conversion	of	any	of	our	outstanding	convertible	debt	would	be	dilutive, and	may	cause	the	market	price	for	a	share	of	our	common	stock	to	decline.	As	of	December	31,	2006,	we	had	approximately	126.1	million	shares	of	common	stock issued	and	outstanding.	We	also	had	outstanding	options	to	purchase	approximately	14.3	million	shares	of	common	stock	with	a	weighted	average	exercise	price	of $26.44	per	share.	Our	outstanding	notes	were	convertible	into	approximately	4.4	million	shares	of	common	stock	with	a	weighted	average	conversion	price	of	$22.87 per	share.	Outstanding	options	and	convertible	notes	may	be	exercised	or	converted,	as	the	case	may	be,	if	the	market	price	of	our	common	stock	exceeds	the	applicable exercise	or	conversion	price.

# SPECIAL	NOTE	REGARDING	FORWARD-LOOKING	STATEMENTS

This	Annual	Report	on	Form	10-K	and,	in	particular,	the	description	of	our	Business	set	forth	in	Item	1,	the	Risk	Factors	set	forth	in	this	Item	1A	and	our Management's	Discussion	and	Analysis	of	Financial	Condition	and	Results	of	Operations	set	forth	in	Item	7	contain	or	incorporate	a	number	of	forward-looking statements	within	the	meaning	of	Section	27A	of	the	Securities	Act	of	1933,	as	amended,	and	Section	21E	of	the	Securities	Exchange	Act	of	1934,	as	amended,	including statements	regarding:

·							our	expectations	regarding	clinical	trials,	development	timelines	and	regulatory	authority	filings	for	telaprevir	and	other	drug	candidates	under	development	by	us and	our	collaborators;

·							our	expectations	regarding	the	number	of	patients	that	will	be	evaluated,	the	anticipated	date	by	which	enrollment	will	be	completed	and	the	data	that	will	be generated	by	ongoing	and	planned	clinical	trials,	and	the	ability	to	use	that	data	for	the	design	and	initiation	of	further	clinical	trials	and	to	support	regulatory filings,	including	potentially	an	NDA	for	telaprevir;

·							our	expectations	regarding	the	scope	and	timing	of	ongoing	and	potential	future	clinical	trials,	including	the	ongoing	Phase	2b	clinical	trials	and	expected	Phase	3 clinical	program	for	telaprevir,	the	ongoing	and	planned	clinical	trials	of	VX-702,	the	planned	Phase	2	clinical	trial	of	VX-770,	the	planned	Phase	1	clinical	trial of	VX-883	and	the	ongoing	clinical	trials	of	MK-0457	(VX-680),	MK-6592	(VX-667)	and	AVN-944	(VX-944);

·							our	expectations	regarding	the	future	market	demand	and	medical	need	for	telaprevir	and	our	other	drug	candidates;

·							our	plans	to	fund	a	greater	proportion	of	our	research	programs	than	in	past	years	with	internal	funds,	and	our	beliefs	regarding	the	benefits	of	this	strategy;

·							our	beliefs	regarding	the	support	provided	by	clinical	trials	and	preclinical	and	nonclinical	studies	of	our	drug	candidates	for	further	investigation,	clinical	trials	or potential	use	as	a	treatment	of	those	drug	candidates;

·							our	planned	investments	in	our	drug	development	and	commercialization	capabilities	and	telaprevir,	including	our	expected	2007	research	and	development expenses	for	commercial	supply	investment	in	telaprevir;

·							the	focus	of	our	drug	development	efforts;

·		the	establishment,	development	and	maintenance	of	collaborative	relationships;

·		our	ability	to	use	our	research	programs	to	identify	and	develop	new	potential	drug	candidates;

·		our	ability	to	increase	our	headcount	and	scale	up	our	drug	development	and	commercialization	capabilities;

·		our	estimates	regarding	obligations	associated	with	a	lease	of	a	facility	in	Kendall	Square,	Cambridge,	Massachusetts;

·		the	potential	for	the	acquisition	of	new	and	complementary	technologies,	resources	and	drugs	or	drug	candidates;	and

·		our	liquidity.

Any	or	all	of	our	forward-looking	statements	in	this	Annual	Report	may	turn	out	to	be	wrong.	They	can	be	affected	by	inaccurate	assumptions	we	might	make	or	by known	or	unknown	risks	and	uncertainties.	Many	factors	mentioned	in	our	discussion	in	this	Annual	Report	will	be	important	in	determining	future	results. Consequently,	no	forward-looking	statement	can	be	guaranteed.	Actual	future	results	may	vary	materially.

We	also	provide	a	cautionary	discussion	of	risks	and	uncertainties	under	"Risk	Factors"	in	Item	1A	of	this	Annual	Report.	These	are	factors	that	we	think	could cause	our	actual	results	to	differ	materially	from	expected	results.	Other	factors	besides	those	listed	there	could	also	adversely	affect	us.

Without	limiting	the	foregoing,	the	words	"believes,"	"anticipates,"	"plans,"	"expects"	and	similar	expressions	are	intended	to	identify	forward-looking	statements. There	are	a	number	of	factors	that	could	cause	actual	events	or	results	to	differ	materially	from	those	indicated	by	such	forward-looking	statements,	many	of	which	are beyond	our	control,	including	the	factors	set	forth	under	"Item	1A.	Risk	Factors."	In	addition,	the	forward-looking	statements	contained	herein	represent	our	estimate only	as	of	the	date	of	this	filing	and	should	not	be	relied	upon	as	representing	our	estimate	as	of	any	subsequent	date.	While	we	may	elect	to	update	these	forward- looking	statements	at	some	point	in	the	future,	we	specifically	disclaim	any	obligation	to	do	so	to	reflect	actual	results,	changes	in	assumptions	or	changes	in	other factors	affecting	such	forward-looking	statements.

# ITEM	1B.							UNRESOLVED	STAFF	COMMENTS

We	have	not	received	any	written	comments	that	have	not	been	resolved	from	the	Securities	and	Exchange	Commission	regarding	our	filings	under	the	Securities Exchange	Act	of	1934,	as	amended.

We	lease	an	aggregate	of	approximately	650,000	square	feet	of	laboratory	and	office	space	in	nine	facilities	in	Cambridge,	Massachusetts.	The	leases	have expiration	dates	ranging	from	2009	to	2018.	We	have	the	option	to	extend	the	lease	for	our	headquarters	facility	at	130	Waverly	Street,	Cambridge,	where	we	lease approximately	100,000	square	feet	of	space,	for	one	additional	term	of	five	years,	ending	in	2015,	with	respect	to	one	portion	of	the	building,	and	for	up	to	two	additional terms	of	five	years,	ending	in	2019,	for	the	other	portion	of	the	building.	The	lease	for	approximately	192,000	square	feet	of	laboratory	and	office	space	at	200	Sidney Street,	located	adjacent	to	our	headquarters,	will	expire	in	2010.	We	have	the	option	to	extend	that	lease	for	up	to	two	additional	consecutive	ten-year	terms.	The	lease for	our	21	Erie	Street	facility	for	21,000	square	feet	of	office	space,	which	we	entered	into	in	November	2006,	expires	in	May	2012	with	the	option	to	extent	for	two additional	consecutive	five-year	terms.

The	lease	for	our	Kendall	Square,	Cambridge,	Massachusetts	facility	will	expire	in	2018.	We	have	the	option	to	extend	that	lease	for	two	consecutive	terms	of	ten years	each.	We	have	subleased	approximately	145,000	square	feet	of	the	facility,	and	are	using	the	remaining	approximately	120,000	square	feet	of	space	leased	in	the facility	for	our	research	operations.	The	subleases	are	for	terms	ending	in	2011	and	2012	with	extension	options	to	2015	and	2018.	One	of	the	subleases	has	certain termination	provisions	beginning	in	2010.

We	also	lease	approximately	81,200	square	feet	of	laboratory	and	office	space	in	San	Diego,	California.	The	lease	for	this	space	will	expire	on	August	31,	2008.	We have	the	option	to	extend	this	lease	for	up	to	two	additional	terms	of	five	years	each.

We	lease	approximately	22,000	square	feet	of	laboratory	and	office	space	in	Milton	Park,	Abingdon,	England,	for	our	United	Kingdom	business	and	research	and development	activities	under	a	lease	expiring	in	2013,	with	a	right	of	early	termination	exercisable	by	us	in	2008.

We	believe	our	facilities	are	adequate	for	our	current	needs.

We	are	not	a	party	to	any	material	legal	proceedings.	We	are	not	a	party	to	any	litigation	in	any	court	with	any	governmental	authority,	and	management	is	not aware	of	any	contemplated	proceeding	by	any	governmental	authority	against	the	Company.

There	were	no	matters	submitted	to	a	vote	of	security	holders	during	the	quarter	ended	December	31,	2006.

# PART	II

# ITEM	5.																MARKET	FOR	REGISTRANT'S	COMMON	EQUITY,	RELATED	STOCKHOLDER	MATTERS	AND	ISSUER	PURCHASES	OF	EQUITY SECURITIES

# Market	Information

Our	common	stock	is	traded	on	The	Nasdaq	Global	Select	Market	under	the	symbol	"VRTX."	The	following	table	sets	forth	for	the	periods	indicated	the	high	and low	sale	prices	per	share	of	our	common	stock	as	reported	by	Nasdaq:

| Year	Ended	December	31,	2005: | High | Low |
| :--- | :--- | :--- |
| First\tquarter | $ 11.99 | $9.20 |
| Second\tquarter | 17.06 | 8.61 |
| Third\tquarter | 22.68 | 15.33 |
| Fourth\tquarter | 29.24 | 20.31 |
| Year\tEnded\tDecember\t31,\t2006: |  |  |
| First\tquarter | $ 44.71 | $ 26.50 |
| Second\tquarter | 40.00 | 29.00 |
| Third\tquarter | 37.10 | 29.75 |
| Fourth\tquarter | 45.38 | 32.50 |

As	of	February	26,	2007,	there	were	1,515	holders	of	record	of	our	common	stock.

# Performance	Graph

# CUMULATIVE	TOTAL	RETURN

Based	on	initial	investment	of	$100	on	December	31,	2001 with	dividends	reinvested	(fiscal	years	ending	December	31)

# GRAPHIC

# Dividends

We	have	never	declared	or	paid	any	cash	dividends	on	our	common	stock,	and	we	currently	expect	that	future	earnings,	if	any,	will	be	retained	for	use	in	our business.

# Issuer	Repurchases	of	Equity	Securities

The	table	set	forth	below	shows	all	repurchases	of	securities	by	us	during	the	three	months	ended	December	31,	2006:

| Period | Total	Number<br>of	Shares<br>Purchased | Average	Price<br>Paid	per	Share | Total	Number	of	Shares<br>Purchased	as	part	of<br>publicly	announced<br>Plans	or	Programs | Maximum	Number	of<br>Shares	that	may	yet<br>be	purchased	under<br>publicly	announced<br>Plans	or	Programs |
| :--- | :--- | :--- | :--- | :--- |
| Oct.\t1,\t2006\tto\tOct.\t31,\t2006 | 13,486 | $0.01 | — | — |
| Nov.\t1,\t2006\tto\tNov.\t30,\t2006 |  |  |  |  |
|  | 5,427 | $0.01 | — | — |
| Dec.\t1,\t2006\tto\tDec.\t31,\t2006 | 4,071 | $0.01 | — | — |

Under	the	terms	of	our	1996	Stock	and	Option	Plan	and	2006	Stock	and	Option	Plan,	we	may	award	shares	of	restricted	stock	to	our	employees	and	consultants. These	shares	of	restricted	stock	typically	are	subject	to	a	lapsing	right	of	repurchase	by	us.	We	may	exercise	this	right	of	repurchase	in	the	event	that	a	restricted	stock recipient's	service	to	us	is	terminated.	If	we	exercise	this	right,	we	are	required	to	repay	the	purchase	price	paid	by	or	on	behalf	of	the	recipient	for	the	repurchased restricted	shares,	which	typically	is	the	par	value	per	share	of	$0.01.	Repurchased	shares	are	returned	to	the	applicable	Stock	and	Option	Plan	under	which	they	were issued.	Shares	returned	to	the	2006	Stock	and	Option	Plan	are	available	for	future	awards	under	the	terms	of	that	plan.

# Unregistered	Sales	of	Equity	Securities

On	February	2,	2007,	we	called	our	2011	Notes	for	redemption.	The	redemption	date	is	March	5,	2007.	As	of	February	28,	2007,	we	had	converted	$29.4	million	of aggregate	principal	amount	of	2011	Notes	into	2,173,745	shares	of	our	common	stock.	The	conversions	were	exempt	from	registration	under	the	Securities	Act	of	1933, as	amended,	pursuant	to	Section	3(a)(9)	thereof	as	they	were	exchanges	with	our	existing	security	holders	where	no	commission	or	other	remuneration	was	paid.

The	following	unaudited	selected	consolidated	financial	data	for	each	of	the	five	years	in	the	period	ended	December	31,	2006	are	derived	from	our	audited consolidated	financial	statements.	These	data	should	be	read	in	conjunction	with	our	audited	consolidated	financial	statements	and	related	notes	that	are	included elsewhere	in	this	Annual	Report	on	Form	10-K	and	with	"Management's	Discussion	and	Analysis	of	Financial	Condition	and	Results	of	Operations"	included	in	Item	7 below.

|  |  | Year	Ended	December	31, | Year	Ended	December	31, |  |  |
| :--- | :--- | :--- | :--- | :--- | :--- |
|  | 2006 | 2005 | 2004 | 2003 | 2002 |
|  |  | (In\tthousands,\texcept\tper\tshare\tamounts) | (In\tthousands,\texcept\tper\tshare\tamounts) | (In\tthousands,\texcept\tper\tshare\tamounts) |  |
| Consolidated\tStatements\tof\tOperations\tData: |  |  |  |  |  |
| Revenues: |  |  |  |  |  |
| Royalties | $41,208 | $32,829 | $17,322 | $9,002 | $10,054 |
| Collaborative\tand\tother\tresearch\tand\tdevelopment |  |  |  |  |  |
| revenues | 175,148 | 128,061 | 85,395 | 60,139 | 84,716 |
| Total\trevenues | 216,356 | 160,890 | 102,717 | 69,141 | 94,770 |
| Costs\tand\texpenses: |  |  |  |  |  |
| Royalty\tpayments | 12,170 | 10,098 | 5,649 | 3,126 | 3,334 |
| Research\tand\tdevelopment\texpenses | 371,713 | 248,540 | 192,162 | 199,636 | 198,338 |
| Sales,\tgeneral\tand\tadministrative\texpenses | 57,860 | 43,990 | 42,139 | 39,082 | 41,056 |
| Restructuring\tand\tother\texpense | 3,651 | 8,134 | 17,574 | 91,824 | — |
| Total\tcosts\tand\texpenses | 445,394 | 310,762 | 257,524 | 333,668 | 242,728 |
| Loss\tfrom\toperations | (229,038) | (149,872) | (154,807) | (264,527) | (147,958) |
| Other\tincome/(expense),\tnet | 15,069 | (5,332) | (7,994) | (1,886) | 11,000 |
| Realized\tgain\ton\tsale\tof\tinvestment(1) | 11,183 | — | — | — | — |
| Loss\ton\texchange\tof\tconvertible\tsubordinated |  |  |  |  |  |
| notes(2)(3) | (5,151) | (48,213) | — | — | — |
| Loss\ton\tretirement\tof\tconvertible\tsubordinated |  |  |  |  |  |
| notes(4) | — | — | (3,446) | — | — |
| Loss\tfrom\tcontinuing\toperations\tbefore\tcumulative |  |  |  |  |  |
| effect\tof\tchanges\tin\taccounting\tprinciples | (207,937) | (203,417) | (166,247) | (266,413) | (136,958) |
| Income\tfrom\tdiscontinued\toperations(5): |  |  |  |  |  |
| Gain\ton\tsales\tof\tassets | — | — | — | 70,339 | — |
| Income\t(loss)\tfrom\tdiscontinued\toperations | — | — | — | (693) | 28,337 |
| Total\tincome\tfrom\tdiscontinued\toperations | — | — | — | 69,646 | 28,337 |
| Loss\tbefore\tcumulative\teffect\tof\tchange\tin\taccounting |  |  |  |  |  |
| principle | $ (207,937) | $ (203,417) | $ (166,247) | $ (196,767) | $ (108,621) |
| Cumulative\teffect\tof\ta\tchange\tin\taccounting\tprinciple |  |  |  |  |  |
| —FAS\t123(R)(6) | 1,046 | — | — | — | — |
| Net\tloss | $ (206,891) | $ (203,417) | $ (166,247) | $ (196,767) | $ (108,621) |
| Basic\tand\tdiluted\tloss\tper\tcommon\tshare\tbefore |  |  |  |  |  |
| cumulative\teffect\tof\ta\tchange\tin\taccounting |  |  |  |  |  |
| principle | $(1.84) | $(2.28) | $(2.12) | $(2.56) | $(1.43) |
| Basic\tand\tdiluted\tcumulative\teffect\tof\ta\tchange\tin |  |  |  |  |  |
| accounting\tprinciple\tper\tcommon\tshare. | 0.01 | — | — | — | — |
| Basic\tand\tdiluted\tnet\tloss\tper\tcommon\tshare | $(1.83) | $(2.28) | $(2.12) | $(2.56) | $(1.43) |
| Basic\tand\tdiluted\tweighted\taverage\tnumber\tof\ncommon\tshares\toutstanding | 113,221 | 89,241 | 78,571 | 77,004 | 75,749 |

|  | 2006 | 2005 | 2004 | 2003 | 2002 |
| :--- | :--- | :--- | :--- | :--- | :--- |
|  |  |  | (In\tthousands) |  |  |
| Consolidated\tBalance\tSheets\tData: |  |  |  |  |  |
| Cash,\tcash\tequivalents\tand\tmarketable\tsecurities | $ 761,752 | $ 407,510 | $ 392,320 | $ 583,164 | $ 634,984 |
| Other\tcurrent\tassets | 66,780 | 23,898 | 14,392 | 10,642 | 21,588 |
| Restricted\tcash | 30,258 | 41,482 | 49,847 | 26,061 | 26,091 |
| Property\tand\tequipment,\tnet | 61,535 | 54,533 | 64,225 | 80,083 | 95,991 |
| Other\tnon-current\tassets | 1,254 | 21,575 | 24,669 | 24,461 | 37,066 |
| Total\tassets | $ 921,579 | $ 548,998 | $ 545,453 | $ 724,411 | $ 815,720 |
| Deferred\trevenue | $ 150,184 | $32,300 | $66,086 | $59,517 | $58,486 |
| Accrued\trestructuring\tand\tother\texpense | 33,073 | 42,982 | 55,843 | 69,526 | — |
| Other\tcurrent\tliabilities | 110,640 | 54,443 | 50,161 | 47,795 | 52,709 |
| Collaborator\tdevelopment\tloan\t(due\t2008) | 19,997 | 19,997 | 19,997 | 32,460 | 5,000 |
| Other\tlong-term\tobligations | — | — | 2,925 | 7,268 | 5,944 |
| Convertible\tsubordinated\tnotes(2)(4) | 42,102 | 42,102 | 82,552 | 315,000 | 315,000 |
| Convertible\tsenior\tsubordinated\tnotes(2)(3)(4)(7) | 59,648 | 117,998 | 232,448 | — | — |

| Stockholders'	equity | 505,935 | 239,176 | 35,441 | 192,845 | 378,581 |
| :--- | :--- | :--- | :--- | :--- | :--- |
| Total\tliabilities\tand\tstockholders'\tequity | $ 921,579 | $ 548,998 | $ 545,453 | $ 724,411 | $ 815,720 |

(1)										During	2006	we	sold	817,749	shares	of	Altus	Pharmaceuticals	common	stock	for	approximately	$11.7	million,	and	the	Altus	warrants	for	approximately $18.3	million.	As	a	result	of	the	sales	of	Altus	common	stock	and	warrants,	we	recorded	a	realized	gain	on	a	sale	of	investment	of	$11.2	million (2)										In	the	third	quarter	of	2005,	holders	of	5%	Convertible	Subordinated	Notes	due	in	September	2007	("2007	Notes")	exchanged	$40.5	million	in	aggregate	principal amount	of	2007	Notes,	plus	interest,	for	approximately	2.5	million	shares	of	newly	issued	common	stock.	As	a	result	of	this	exchange,	we	incurred	a	non-cash charge	of	approximately	$36.3	million.	In	separate	transactions,	in	the	fourth	quarter	of	2005,	holders	of	5.75%	Convertible	Senior	Subordinated	Notes	due	in February	2011	("2011	Notes")	exchanged	$114.5	million	in	aggregate	principal	amount	of	2011	Notes,	plus	interest,	for	approximately	8.1	million	shares	of	newly issued	common	stock.	As	a	result	of	this	exchange,	a	non-cash	charge	of	approximately	$11.9	million	was	incurred.	These	charges	relate	to	the	incremental	shares issued	in	the	transactions	over	the	number	of	shares	that	would	have	been	issued	upon	conversion	of	the	notes	at	the	conversion	prices	set	forth	therein.

(3)										In	the	third	quarter	of	2006,	holders	of	2011	Notes	exchanged	$58.3	million	in	aggregate	principal	amount	of	2011	Notes,	plus	accrued	interest,	for	approximately 4.1	million	shares	of	newly	issued	common	stock.	As	a	result	of	this	exchange,	we	incurred	a	non-cash	charge	of	approximately	$5.2	million.	This	charge	relates	to the	incremental	shares	issued	in	the	transaction	over	the	number	of	shares	that	would	have	been	issued	upon	conversion	of	the	notes	at	the	conversion	prices	set forth	therein.

(4)										During	2004,	we	issued	approximately	$232.4	million	in	aggregate	principal	amount	of	2011	Notes	in	exchange	for	an	equal	principal	amount	of	our	outstanding 2007	Notes.	The	Company	recorded	a	charge	related	to	the	write-off	of	the	unamortized	deferred	issuance	costs	applicable	to	the	2007	Notes	retired.

(5)										We	sold	certain	assets	and	liabilities	of	our	Discovery	Tools	and	Services	business	in	two	independent	transactions	in	March	and	December	2003.	In	October	2001,

the	FASB	issued	Statement	No.	144,	"Accounting	for	the	Impairment	of	Long-Lived	Assets"	("FAS	144").	Pursuant	to	FAS	144,	the	Statement	of	Operations	data shown	above	give	effect	to	the	disposition	of	the	assets	sold,	accounting	for	such	assets	as	discontinued	operations.

(6)										Financial	Accounting	Standards	Board	Statement	No.	123(R),	"Share-Based	Payment"	("FAS	123(R)")	requires	us	to	recognize	expense	only	for	restricted	shares expected	to	vest,	and	this	results	in	us	being	required	to	estimate	forfeitures	on	grant	date.	In	connection	with	the	adoption	of	FAS	123(R)	we	recorded	a	$1.0 million	benefit	due	to	the	cumulative	effect	of	estimating	forfeitures	on	the	grant	date	rather	than	recording	them	as	they	occur.

# ITEM	7.					MANAGEMENT'S	DISCUSSION	AND	ANALYSIS	OF	FINANCIAL	CONDITION	AND	RESULTS	OF	OPERATIONS

We	are	in	the	business	of	discovering,	developing	and	commercializing	small	molecule	drugs	for	the	treatment	of	serious	diseases.	We	have	built	a	drug	discovery capability	that	integrates	biology,	chemistry,	biophysics,	automation	and	information	technologies,	with	a	goal	of	making	the	drug	discovery	process	more	efficient	and productive.	Our	most	advanced	drug	candidate,	telaprevir,	is	being	investigated	for	the	treatment	of	hepatitis	C	virus	infection	in	three	major	Phase	2b	clinical	trials.	We are	investing	significant	resources	to	expand	our	capabilities	in	clinical	development,	regulatory	affairs,	quality	control	and	commercial	operations	and	to	build	and manage	a	commercial	supply	chain	in	preparation	for	the	Phase	3	development	and	the	potential	commercial	launch	of	telaprevir.	We	also	expect	to	incur	significant costs	in	2007	to	manufacture	registration	batches	of	telaprevir	and	build	a	telaprevir	commercial	inventory.	We	have	a	number	of	other	drug	candidates,	including candidates	targeting	rheumatoid	arthritis,	cystic	fibrosis,	bacterial	infection,	cancer	and	pain,	that	are	being	evaluated	in	preclinical	studies	or	clinical	trials	either	by	us	or in	collaboration	with	other	pharmaceutical	companies.	Our	HIV	protease	inhibitor,	fosamprenavir	calcium,	is	being	marketed	by	our	collaborator	GlaxoSmithKline	plc as	Lexiva	in	the	United	States	and	Telzir	in	Europe.

We	currently	are	concentrating	most	of	our	drug	development	resources	on	four	drug	candidates:	telaprevir,	for	the	treatment	of	HCV	infection;	VX-702,	for	the treatment	of	rheumatoid	arthritis	and	other	inflammatory	diseases;	VX-770,	for	the	treatment	of	cystic	fibrosis;	and	VX-883,	for	the	treatment	of	bacterial	infection.	In 2007,	we	expect	to	continue	Phase	2b	and	commence	Phase	3	clinical	trials	of	telaprevir,	commence	Phase	2	clinical	trials	of	VX-702	and	VX-770	and	commence	a Phase	1	clinical	trial	of	VX-883.	We	have	retained	the	right	to	commercialize	telaprevir	in	North	America	and	to	commercialize	VX-702	(except	for	the	Far	East),	VX- 770	and	VX-883	worldwide.	Our	pipeline	also	includes	several	drug	candidates	that	are	being	developed	by	our	collaborators.	The	most	advanced	of	these	drug candidates	is	MK-0457	(VX-680),	an	Aurora	kinase	inhibitor	that	is	being	developed	by	Merck	&	Co.,	Inc.	for	the	treatment	of	cancer.	We	have	a	number	of	other	drug candidates	in	development	and	a	broad-based	discovery	effort.

Our	net	loss	for	2006	was	$206.9	million,	or	$1.83	per	basic	and	diluted	common	share,	and	we	expect	to	incur	substantial	operating	losses	in	the	future.	In	2007, we	expect	that	our	research	and	development	expenses	will	be	higher	than	those	in	2006,	as	we	continue	to	incur	research	and	development	costs	related	to	telaprevir and	our	other	drug	candidates,	establish	a	commercial	supply	chain	and	build	telaprevir	commercial	inventory	to	support	markets	where	we	expect	to	launch	telaprevir,	if approved,	and	build	our	general	drug	development	and	commercialization	capabilities.

# Business	Focus

We	have	elected	to	diversify	our	research	and	development	activities	across	a	relatively	broad	array	of	investment	opportunities,	due	in	part	to	the	high	risks associated	with	the	biotechnology	and	pharmaceutical	business.	This	diversification	strategy	requires	more	significant	financial	resources	than	would	be	required	if	we pursued	a	more	limited	approach.	We	are	expending	significant	resources	on	development	and	commercialization	of	the	drug	candidates	for	which	we	currently	have principal	clinical	development	responsibility,	in	those	markets	where	we	have	commercial	rights.	We	rely	on	collaborators	to	develop	and	commercialize	certain	of	our other	drug	candidates	either	worldwide	or	in	the	markets	upon	which	we	are	not	currently	focused.

To	date,	we	have	relied	on	pharmaceutical	company	collaborators	to	develop	and	market	our	drug	candidates	that	have	advanced	to	late	stage	clinical	trials	or commercialization.	Telaprevir	is	the	first	drug	candidate	for	which	we	expect	to	perform	all	activities	related	to	late	stage	development,	drug	supply,	registration	and commercialization	in	a	major	market.	We	have	limited	experience	in	Phase	3	clinical	development,	supply	chain	management,	or	pharmaceutical	sales	and	marketing, and	we	are	building	those

capabilities	as	we	advance	telaprevir	through	clinical	development.	Even	though	telaprevir	is	a	Phase	2b	drug	candidate,	we	are	planning	for	and	investing	significant resources	now	in	preparation	for	Phase	3	clinical	trials,	application	for	marketing	approval,	commercial	supply	and	sales	and	marketing.	Our	engagement	in	these resource-intensive	activities	could	make	it	more	difficult	for	us	to	maintain	our	portfolio	focus,	and	puts	significant	investment	at	risk	if	we	do	not	obtain	regulatory approval	and	successfully	commercialize	telaprevir	in	North	America.	While	we	attempt	to	stage	our	investments	in	each	drug	candidate	to	coincide	to	some	degree	with the	occurence	of	risk-reducing	events	associated	with	the	development	of	that	drug	candidate,	we	may	not	be	able	through	this	approach	to	reduce	significantly	the overall	financial	risk	associated	with	our	drug	development	activities.	There	is	no	assurance	that	our	development	of	telaprevir	will	lead	successfully	to	regulatory approval,	or	that	obtaining	regulatory	approval	will	lead	to	commercial	success.

In	the	past,	we	have	sought	collaborator	funding	for	a	significant	portion	of	our	research	activities,	which	required	that	we	grant	to	those	collaborators	significant rights	to	develop	and	commercialize	drug	candidates	generated	by	that	research.	In	the	future,	we	expect	that	we	will	fund	a	greater	proportion	of	our	research	programs than	in	past	years,	using	internal	funds	rather	than	collaborator	funds.	We	believe	that	this	strategy	will	ultimately	allow	us	to	retain	greater	development	control	of,	and

commercial	rights	with	respect	to,	those	proprietary	drug	candidates	that	may	meet	our	strategic	internal	investment	criteria	as	in	effect	from	time	to	time.

# Discovery	and	Development	Process

Discovery	and	development	of	a	new	pharmaceutical	product	is	a	lengthy	and	resource-intensive	process,	which	may	take	10	to	15	years	or	more.	Throughout	this entire	process,	potential	drug	candidates	are	subjected	to	rigorous	evaluation,	driven	in	part	by	stringent	regulatory	considerations,	designed	to	generate	information concerning	efficacy,	proper	dosage	levels	and	a	variety	of	other	physical	and	chemical	characteristics	that	are	important	in	determining	whether	a	drug	candidate	should be	approved	for	marketing.	The	toxicity	characteristics	and	profile	of	drug	candidates	at	varying	dose	levels	administered	for	varying	periods	of	time	also	are	monitored and	evaluated	during	the	nonclinical	and	clinical	development	process.	Most	chemical	compounds	that	are	investigated	as	potential	drug	candidates	never	progress	into formal	development,	and	most	drug	candidates	that	do	advance	into	formal	development	never	become	commercial	products.	A	drug	candidate's	failure	to	progress	or advance	may	be	the	result	of	any	one	or	more	of	a	wide	range	of	adverse	experimental	outcomes	including,	for	example,	the	lack	of	sufficient	efficacy	against	the disease	target,	the	lack	of	acceptable	absorption	characteristics	or	other	physical	properties,	difficulties	in	developing	a	cost-effective	manufacturing	or	formulation methods	or	the	discovery	of	toxicities	or	side	effects	that	are	unacceptable	for	the	disease	indication	being	treated.

Given	the	uncertainties	of	the	research	and	development	process,	it	is	not	possible	to	predict	with	confidence	which,	if	any,	of	our	current	research	and	development efforts	will	result	in	a	marketable	pharmaceutical	product.	We	monitor	the	results	of	our	discovery	research	and	our	nonclinical	and	clinical	trials	and	frequently	evaluate our	portfolio	investments	in	light	of	new	data	and	scientific,	business	and	commercial	insights	with	the	objective	of	balancing	risk	and	potential.	This	process	can	result in	relatively	abrupt	changes	in	focus	and	priority	as	new	information	becomes	available	and	we	gain	additional	insights	into	ongoing	programs	and	potential	new programs.

# Clinical	Development	Programs

Our	development	of	telaprevir	illustrates	our	focus	on	maintaining	greater	development	control	of	our	drug	candidates.	We	currently	are	conducting	later	stage clinical	trials	of	telaprevir	and	expect	to	initiate	a	Phase	3	program	for	of	telaprevir	in	the	second	half	of	2007.	Designing	and	coordinating	large-scale	clinical	trials	to determine	the	efficacy	and	safety	of	drug	candidates	and	support	the	submission	of	an	NDA	requires	significant	financial	resources,	along	with	extensive	technical	and regulatory	expertise	and	infrastructure.

We	are	conducting	three	major	Phase	2b	clinical	trials	of	telaprevir.	PROVE	1	is	ongoing	in	the	United	States	and	PROVE	2	is	ongoing	in	European	Union,	both	in treatment-naïve	patients.	PROVE	3	has	commenced	and	is	being	conducted	with	patients	in	North	America	and	the	European	Union	who	did	not	achieve	SVR	with previous	interferon-based	treatments.	We	expect	the	results	from	these	clinical	trials	to	provide	important	information	supporting	the	design	and	initiation	of	the	Phase	3 clinical	program	for	telaprevir.

In	2007,	we	plan	to	conduct	Phase	2	clinical	trials	of	VX-702	in	patients	with	RA,	a	Phase	2	clinical	trial	of	VX-770	in	patients	with	CF,	and	a	Phase	1	clinical	trial of	VX-883.

Each	of	these	programs	requires	a	significant	investment	of	financial	and	personnel	resources,	time	and	expertise	by	us	and/or	any	program	collaborators	to	realize its	full	clinical	and	commercial	value.	Development	investment	at	this	stage	is	subject	to	the	considerable	risk	that	any	one	or	more	of	these	drug	candidates	will	not advance	to	product	registration.	Each	drug	candidate	could	fail	to	progress	or	advance	due	to	a	wide	range	of	adverse	experimental	outcomes,	placing	our	investment	in the	drug	candidate	at	risk.	While	we	attempt	to	stage	our	investments	to	mitigate	these	financial	risks,	drug	discovery	and	development	by	its	nature	is	a	very	risky undertaking	and	staging	of	investment	is	not	always	possible	or	desirable.	We	expect	to	continue	to	evaluate	and	prioritize	investment	in	our	clinical	development programs	based	on	the	emergence	of	new	clinical	and	nonclinical	data	in	each	program	throughout	2007	and	in	subsequent	years.

# Manufacturing	and	Commercialization	Strategy

We	have	retained	manufacturing	and	commercialization	responsibilities	for	telaprevir	in	North	America.	In	2007,	we	expect	to	undertake	significant	efforts	to prepare	for	the	commercial	supply	and	marketing	of	telaprevir,	in	support	of	a	timely	and	effective	commercial	product	launch	in	subsequent	years	if	we	are	successful in	obtaining	regulatory	marketing	approval.	Establishing	the	commercial	supply	chain	for	telaprevir	is	a	multi-step	international	endeavor	involving	the	purchase	of several	raw	materials,	the	application	of	certain	manufacturing	processes	requiring	significant	lead	times,	the	conversion	of	active	pharmaceutical	ingredient	to	tablet form	and	the	packaging	of	tablets	for	distribution.	We	expect	to	source	raw	materials,	drug	substance	and	drug	product,	including	finished	packaging,	from	third	parties located	in	the	Far	East,	the	European	Union	and	the	United	States,	and	we	are	currently	establishing	and	expanding	third-party	relationships	in	this	regard.	Establishing and	providing	quality	assurance	for	this	global	supply	chain	requires	a	significant	financial	commitment,	experienced	personnel	and	the	creation	or	expansion	of numerous	third-party	contractual	relationships.	Because	of	the	significant	lead	times	involved	in	our	supply	chain	for	telaprevir,	we	may	have	less	flexibility	to	adjust our	supply	in	response	to	changes	in	demand	than	if	we	had	shorter	lead	times.	We	have	successfully	completed	the	technical	development	work	for	the	Phase	3	and commercial	formulation	of	telaprevir.	We	expect	that	the	level	of	our	investment	in	commercial	supply	of	telaprevir,	including	costs	related	to	building	our	internal infrastructure	and	costs	related	to	third-party	manufacturing	relationships,	will	increase	significantly	in	2007.	While	most	of	this	investment	will	relate	specifically	to telaprevir,	and	is	at	risk	if	telaprevir	does	not	advance	successfully	to	registration,	we	expect	that	the	organization	and	expertise	that	we	build	as	part	of	this	process	will contribute	to	our	development	as	a	pharmaceutical	company,	and	that	it	could	serve	the	advancement	of	our	other,	earlier-stage	drug	candidates	if	they	progress	to	a commercial	manufacturing	stage.

Similarly,	we	currently	have	limited	experience	as	a	company	in	sales	and	marketing	or	with	respect	to	pricing	and	obtaining	adequate	third-party	reimbursement for	drugs.	In	order	to	market	telaprevir	in	North	America	if	it	is	approved,	we	intend	to	build	a	marketing	organization	and	a	direct	sales	force,	which	will	require substantial	effort	and	significant	management	and	financial	resources.	During	2007,	we	intend	to	commit	significant	personnel	and	financial	resources	to	this	effort, staging	our	commitments	to	the	extent	possible	in	consideration	of	the	ongoing	telaprevir	development	timeline.	We	will	need	to	devote	significant	effort,	in	particular, to	recruiting	individuals	with	experience	in	the	sales	and	marketing	of	pharmaceutical	products.	Competition	for	personnel	with	these	skills	is	intense	and	may	be particularly	difficult	for	us	since	telaprevir	is	still	an	investigational	drug	candidate.	Although	our	investment	in	this

infrastructure	might	be	lost	if	telaprevir	is	not	approved	or	if	approval	is	significantly	delayed,	we	would	expect	our	sales	and	marketing	infrastructure	for	telaprevir,	if telaprevir	is	successfully	developed	and	commercialized,	to	be	useful	to	us	if	and	when	we	commercialize	any	additional	drugs.

# Financing	Strategy

At	December	31,	2006,	we	had	$761.8	million	of	cash,	cash	equivalents	and	marketable	securities,	$42.1	million	in	principal	amount	of	5%	Convertible Subordinated	Notes	due	September	2007,	which	we	refer	to	as	the	2007	Notes,	and	$59.6	million	in	principal	amount	of	5.75%	Convertible	Senior	Subordinated	Notes due	in	February	2011,	which	we	refer	to	as	the	2011	Notes.	Because	we	have	incurred	losses	from	our	inception	and	expect	to	incur	losses	for	the	foreseeable	future,	we are	dependent	in	large	part	on	our	continued	ability	to	raise	significant	funding	to	finance	our	research	and	development	operations,	our	creation	of	a	commercial infrastructure	and	our	overhead,	and	to	meet	our	long-term	contractual	commitments	and	obligations.	In	the	past,	we	have	secured	funds	principally	through	capital market	transactions,	strategic	collaborative	agreements,	proceeds	from	the	disposition	of	assets,	investment	income	and	the	issuance	of	stock	under	our	employee	benefit programs.	For	example,	we	received	$165.0	million	in	July	2006	as	an	up-front	payment	under	our	collaboration	agreement	with	Janssen	and	we	completed	an	offering of	10	million	shares	of	our	common	stock	in	September	2006,	resulting	in	net	proceeds	to	us	of	approximately	$313.7	million.	In	addition,	we	decreased	the	aggregate

outstanding	principal	amount	of	our	convertible	debt	by	$58.4	million	in	2006	through	the	issuance	of	approximately	4.1	million	shares	of	our	common	stock.

In	February	2007,	we	announced	that	we	will	redeem	our	2011	Notes	on	March	5,	2007.		The	2011	Notes	are	convertible	into	shares	of	our	common	stock	at	the option	of	the	holder	at	a	price	equal	to	$14.94	per	share.	We	expect	the	holders	of	the	2011	Notes	will	elect	to	convert	their	notes	into	stock,	in	which	case	we	will	issue approximately	4.0	million	shares.	We	will	be	required	to	repay	any	2011	Notes	that	are	not	converted	at	the	rate	of	$1,003.19	per	$1,000	principal	amount,	which includes	principal	and	interest	that	will	accrue	to	the	redemption	date.

In	order	to	fund	our	research,	development	and	manufacturing	activities,	particularly	for	later	stage	drug	candidates,	we	expect	to	continue	to	pursue	a	general financing	strategy	that	may	lead	us	to	undertake	one	or	more	additional	capital	transactions,	which	may	or	may	not	be	similar	to	transactions	in	which	we	have	engaged in	the	past.	We	cannot	be	sure	that	any	such	financing	opportunities	will	be	available	on	acceptable	terms	if	at	all.

# Collaborations	and	Collaborative	Revenues

Collaborations	have	been	and	will	continue	to	be	an	important	component	of	our	business	strategy.	We	receive	royalty	revenues	from	GlaxoSmithKline	on	their sales	of	our	HIV	protease	inhibitor	fosamprenavir		calcium,	which	is	marketed	as	Lexiva	in	the	United	States	and	Telzir	in	Europe.	In	June	2006,	we	entered	into	a collaboration	agreement	with	Janssen	Pharmaceutica,	N.V.,	a	Johnson	&	Johnson	company,	relating	to	telaprevir.	In	July	2006,	Janssen	paid	us	a	non-refundable	license payment	of	$165	million.	Under	our	agreement	with	Janssen,	we	have	retained	exclusive	commercial	rights	to	telaprevir	in	North	America	and	will	lead	the	global clinical	development	program.	Janssen	has	agreed	to	be	responsible	for	50%	of	the	drug	development	costs	under	the	development	program	for	telaprevir	in	North America	and	the	Janssen	territories,	to	pay	us	additional	contingent	milestone	payments	based	on	successful	development,	approval	and	launch	of	telaprevir,	and	to	be responsible	for	the	commercialization	of	telaprevir	outside	of	North	America	and	the	Far	East.

Our	pipeline	also	includes	several	drug	candidates	that	are	being	developed	by	our	collaborators,	including:

·		AVN-944	(VX-944),	which	is	being	investigated	by	Avalon	Pharmaceuticals,	Inc.	for	oncology	indications;	and

·		VX-409	and	back-up	compounds,	which	are	being	investigated	by	GlaxoSmithKline	for	pain	indications.

# Critical	Accounting	Policies	and	Estimates

Our	discussion	and	analysis	of	our	financial	condition	and	results	of	operations	is	based	upon	our	consolidated	financial	statements	prepared	in	accordance	with generally	accepted	accounting	principles	in	the	United	States,	or	GAAP.	The	preparation	of	these	financial	statements	requires	us	to	make	certain	estimates	and assumptions	that	affect	the	reported	amounts	of	assets	and	liabilities,	the	disclosure	of	contingent	assets	and	liabilities	at	the	date	of	the	consolidated	financial	statements and	the	reported	amounts	of	revenues	and	expenses	during	the	reported	periods.	These	items	are	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	reflected	in	reported	results	for	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	from	our	estimates	if	past	experience	or	other	assumptions	do	not	turn	out	to	be	substantially	accurate.

We	believe	that	our	application	of	the	accounting	policies	for	restructuring,	revenue	recognition,	research	and	development	expenses,	investments	and	stock-based compensation,	all	of	which	are	important	to	our	financial	condition	and	results	of	operations,	require	significant	judgments	and	estimates	on	the	part	of	management.	Our accounting	polices,	including	the	ones	discussed	below,	are	more	fully	described	in	Note	B,	"Accounting	Policies,"	to	our	consolidated	financial	statements	included	in this	Annual	Report	on	Form	10-K.

# Revenue	Recognition

We	recognize	revenue	in	accordance	with	the	SEC's	Staff	Accounting	Bulletin	No.	101,	"Revenue	Recognition	in	Financial	Statements"	("SAB	101"),	as	amended by	SEC	Staff	Accounting	Bulletin	No.	104,	"Revenue	Recognition"	("SAB	104"),	and	for	revenue	arrangements	entered	into	after	June	30,	2003,	Emerging	Issues	Task Force	Issue	No.	00-21,	"Revenue	Arrangements	with	Multiple	Deliverables"	("EITF	00-21").

Our	revenues	are	generated	primarily	through	collaborative	research,	development,	manufacture	and	commercialization	agreements.	The	terms	of	these	agreements typically	include	payment	to	us	of	one	or	more	of	the	following:	non-refundable	up-front	license	fees,	research	and	development	funding,	milestone	payments	and royalties	on	product	sales.

Agreements	containing	multiple	elements	are	divided	into	separate	units	of	accounting	if	certain	criteria	are	met,	including	whether	the	delivered	element	has	stand- alone	value	to	the	collaborator	and	whether	there	is	objective	and	reliable	evidence	of	fair	value	of	the	undelivered	obligation(s).	The	consideration	received	is	allocated among	the	separate	units	based	on	each	unit's	fair	value	or	using	the	residual	method,	and	the	applicable	revenue	recognition	criteria	are	applied	to	each	of	the	separate units.

We	recognize	revenues	from	non-refundable,	up-front	license	fees	on	a	straight-line	basis	over	the	contracted	or	estimated	period	of	performance,	which	is	typically the	research	or	development	term.	Research	and	development	funding	is	recognized	as	earned,	ratably	over	the	period	of	effort.

Substantive	milestones	realized	in	collaboration	arrangements	are	recognized	as	earned	when	the	corresponding	payment	is	reasonably	assured,	subject	to	the following	policies	in	those	circumstances	where	we	have	obligations	remaining	after	achievement	of	the	milestone:

·							In	those	circumstances	where	collection	of	a	substantive	milestone	is	reasonably	assured,	we	have	remaining	obligations	to	perform	under	the	collaboration arrangement	and	we	have	sufficient	evidence	of	fair	value	for	our	remaining	obligations,	we	consider	the	milestone	payment	and	the	remaining	obligations	to	be separate	units	of	accounting.	In	these	circumstances,	we	use	the	residual	method	under	EITF	00-21	to	allocate	revenue	among	the	milestones	and	the	remaining obligations.

·							In	those	circumstances	where	collection	of	a	substantive	milestone	is	reasonably	assured,	we	have	remaining	obligations	to	perform	under	the	collaboration arrangement,	and	we	do	not	have	sufficient	evidence	of	fair	value	for	our	remaining	obligations,	we	consider	the	milestone	payment	and	the	remaining obligations	under	the	contract	as	a	single	unit	of	accounting.	In	those	circumstances	where	the	collaboration	does	not	require	specific	deliverables	at	specific times	or	at	the	end	of	the	contract	term,	but	rather	our	obligations	are	satisfied	over	a	period	of	time,	substantive	milestones	are	recognized	over	the	period	of performance.	This	typically	results	in	a	portion	of	the	milestone	payment	being	recognized	as	revenue	on	the	date	the	milestone	is	achieved	equal	to	the applicable	percentage	of	the	performance	period	that	has	elapsed	as	of	the	date	the	milestone	is	achieved,	with	the	balance	being	deferred	and	recognized	over the	remaining	period	of	performance.

We	evaluate	whether	milestones	are	substantive	at	the	inception	of	the	agreement	based	on	the	contingent	nature	of	the	milestone,	specifically	reviewing	factors such	as	the	scientific	and	other	risks	that	must	be	overcome	to	achieve	the	milestone	as	well	as	the	level	of	effort	and	investment	required.	Milestones	that	are	not considered	substantive	and	do	not	meet	the	separation	criteria	are	accounted	for	as	license	payments	and	recognized	on	a	straight-line	basis	over	the	remaining	period	of performance.

# Payments	received	after	performance	obligations	are	met	completely	are	recognized	when	earned.

Royalty	revenues	are	recognized	based	upon	actual	and	estimated	net	sales	of	licensed	products	in	licensed	territories	as	provided	by	the	licensee	and	are	recognized in	the	period	the	sales	occur.	Differences	between	actual	royalty	revenues	and	estimated	royalty	revenues,	which	have	not	historically	been	significant,	are	reconciled and	adjusted	for	in	the	quarter	they	become	known.

# Research	and	Development	Expenses

All	research	and	development	expenses,	including	amounts	funded	by	research	and	development	collaborations,	are	expensed	as	incurred.	Research	and development	expenses	are	comprised	of	costs	incurred	in	performing	research	and	development	activities,	including	salaries	and	benefits;	stock-based	compensation expense;	laboratory	supplies;	contract	services,	including	clinical	trial	and	pharmaceutical	development	costs;	expenses	associated	with	the	commercial	supply investment	in	telaprevir	(due	to	telaprevir's	stage	of	development);	and	infrastructure	costs,	including	facilities	costs	and	depreciation.	When	third-party	service providers'	billing	terms	do	not	coincide	with	our	period-end,	we	are	required	to	make	estimates	of	the	costs,	including	clinical	trial	costs,	contract	services	and investment	in	commercial	supply,	incurred	in	a	given	accounting	period	and	record	accruals	at	period-end.	We	base	our	estimates	on	our	knowledge	of	the	research	and development	programs,	services	performed	for	the	period,	past	history	for	related	activities	and	the	expected	duration	of	the	third-party	service	contract,	where applicable.

# Restructuring	Expense

We	record	liabilities	associated	with	restructuring	activities	based	on	estimates	of	fair	value	in	the	period	the	liabilities	are	incurred,	in	accordance	with	Financial Accounting	Standards	Board	Statement	No.	146,	"Accounting	for	Costs	Associated	with	Exit	or	Disposal	Activities"	("FAS	146").	The	liability	for	accrued	restructuring expense	of	$33.1	million	at	December	31,	2006	is	related	to	that	portion	of	our

facility	in	Kendall	Square,	Cambridge,	Massachusetts	that	we	are	not	occupying	and	do	not	intend	to	occupy.	This	liability	is	calculated	by	applying	our	best	estimate	of our	net	ongoing	obligation.	As	prescribed	by	FAS	146,	we	use	a	probability-weighted	discounted	cash-flow	analysis	to	calculate	the	amount	of	this	liability.	The probability-weighted	discounted	cash-flow	analysis	is	based	on	management's	assumptions	and	estimates	of	our	ongoing	lease	obligations,	including	contractual	rental commitments,	build-out	commitments	and	building	operating	costs,	and	estimates	of	income	from	subleases,	based	on	the	term	and	timing	of	such	subleases.	We discount	the	estimated	cash	flows	using	a	discount	rate	of	approximately	10%.	These	cash	flow	estimates	are	reviewed	and	may	be	adjusted	in	subsequent	periods. Adjustments	are	based,	among	other	things,	on	management's	assessment	of	changes	in	factors	underlying	the	estimates.	Because	our	estimate	of	the	liability	includes the	application	of	a	discount	rate	to	reflect	the	time-value	of	money,	the	estimate	will	increase	simply	as	a	result	of	the	passage	of	time,	even	if	all	other	factors	remain unchanged.

Our	estimates	of	our	restructuring	liability	have	changed	in	the	past,	and	it	is	possible	that	our	assumptions	and	estimates	will	change	in	the	future,	resulting	in additional	adjustments	to	the	amount	of	the	estimated	liability.	The	effect	of	any	such	adjustments	could	be	material.	For	example,	we	currently	have	two	subleases	for portions	of	the	Kendall	Square	facility	with	remaining	terms	of	five	and	six	years,	respectively,	and	we	have	made	certain	estimates	and	assumptions	relating	to	future sublease	terms	following	the	expiration	of	the	current	subleases.	Market	variability	may	require	adjustments	to	those	assumptions	in	the	future.	We	will	review	our assumptions	and	judgments	related	to	the	lease	restructuring	on	at	least	a	quarterly	basis	until	the	Kendall	Square	lease	is	terminated	or	expires,	and	make	whatever modifications	we	believe	are	necessary,	based	on	our	best	judgment,	to	reflect	any	changed	circumstances.

# Stock-based	Compensation	Expense

We	adopted	the	provisions	of	Statement	of	Financial	Accounting	Standards	Board	No.	123(R),	"Share-Based	Payment"	("FAS	123(R)"),	on	January	1,	2006. FAS	123(R)	requires	us	to	measure	compensation	cost	of	stock-based	compensation	at	the	grant	date,	based	on	the	fair	value	of	the	award,	including	estimated forfeitures,	and	to	recognize	that	cost	as	an	expense	ratably	over	the	employee's	requisite	service	period	(generally	the	vesting	period	of	the	equity	award).	Prior	to January	1,	2006,	we	accounted	for	stock-based	compensation	to	employees	in	accordance	with	Accounting	Principles	Board	Opinion	No.	25,	"Accounting	for	Stock Issued	to	Employees"	("APB	25"),	and	related	interpretations.	We	also	followed	the	disclosure	requirements	of	Statement	of	Financial	Accounting	Standards	No.	123, "Accounting	for	Stock-Based	Compensation"	("FAS	123").	We	elected	to	adopt	the	modified	prospective	transition	method	as	provided	by	FAS	123(R)	and	accordingly, financial	statement	amounts	for	the	periods	prior	to	January	1,	2006	that	are	presented	in	this	Form	10-K	have	not	been	restated	to	reflect	the	fair	value	method.

Under	FAS	123(R),	we	determine	the	fair	value	of	awarded	stock	options	and	shares	issued	under	the	employee	stock	purchase	plan	using	the	Black-Scholes valuation	model.	The	Black-Scholes	valuation	model	requires	us	to	make	certain	assumptions	and	estimates	concerning	our	stock	price	volatility,	the	rate	of	return	of risk-free	investments,	the	expected	term	of	the	awards,	and	our	anticipated	dividends.	In	determining	the	amount	of	expense	to	be	recorded,	we	also	are	required	to exercise	judgment	to	estimate	forfeiture	rates	for	awards,	based	on	the	probability	that	employees	will	complete	the	required	service	period.	If	actual	forfeitures	differ significantly	from	our	estimates,	our	results	could	be	materially	affected.

# Altus	Investment

In	2004	and	2005,	we	assessed	our	investment	in	Altus	Pharmaceuticals	Inc.,	which	we	accounted	for	using	the	cost	method,	on	a	quarterly	basis	to	determine	if there	had	been	any	decrease	in	the	estimated	fair	value	of	that	investment	below	its	$18.9	million	carrying	value	that	might	have	required	us	to	write	down	the	cost	basis of	the	asset.	In	2004	and	2005,	we	did	not	identify	facts	or	circumstances	that	would	cause	us	to	determine	that	the	cost	basis	of	our	interest	in	Altus	should	have	been changed.	If	any	adjustment	to	the	estimated	fair	value	of	the	investment	had	reflected	a	decline	in	the	value	of	the

investment	below	its	cost,	we	would	have	considered	the	evidence	available	to	us,	including	the	duration	and	extent	to	which	the	decline	was	other-than-temporary.	If the	decline	had	been	considered	other-than-temporary,	the	cost	basis	of	the	investment	would	have	been	written	down	to	fair	value	as	a	new	cost	basis	and	the	amount	of the	write-down	would	have	been	included	in	the	consolidated	statements	of	operations.	Altus	completed	an	initial	public	offering	of	its	common	stock	in	January	2006. In	2006,	we	sold	817,749	shares	of	Altus	common	stock	and	warrants	to	purchase	1,962,494	shares	of	Altus	common	stock	for	$30.0	million,	resulting	in	realized	net gain	of	$11.2	million,	based	on	the	difference	between	the	proceeds	of	the	sales	and	the	carrying	value	of	the	asset.

# RESULTS	OF	OPERATIONS

Our	net	loss	for	2006	was	$206.9	million,	or	$1.83	per	basic	and	diluted	common	share,	compared	to	a	net	loss	for	2005	of	$203.4	million,	or	$2.28	per	basic	and diluted	common	share.	Included	in	our	net	loss	for	2006	was	stock-based	compensation	expense	of	$39.1	million,	restructuring	expense	of	$3.7	million,	loss	on	exchange of	convertible	subordinated	notes	of	$5.2	million,	gains	related	to	an	investment	of	$11.2	million	and	the	effect	of	a	cumulative	benefit	of	accounting	change,	related	to the	adoption	of	FAS	123(R)	of	$1.0	million.	Included	in	our	net	loss	for	2005	was	stock-based	compensation	expense	of	$4.6	million,	net	restructuring	expense	of	$8.1 million	and	loss	on	exchange	of	convertible	subordinated	notes	of	$48.2	million.

While	our	net	loss	for	2006	increased	by	only	$3.5	million	as	compared	to	2005,	our	revenues	and	expenses	changed	significantly	period	to	period.	In	particular,	our

research	and	development	expenses	increased	by	$123.2	million	from	2005	to	2006,	including	a	$28.4	million	increase	in	stock-based	compensation	expense.	Overall, our	total	costs	and	expenses	increased	by	$134.6	million	from	2005	to	2006.	These	increased	costs	and	expenses	were	partially	offset	by	the	$55.5	million	increase	in revenues	from	2005	to	2006.	Our	net	loss	per	basic	and	diluted	common	share	decreased	in	2006	from	2005	as	a	result	of	an	increase	in	the	basic	and	diluted	weighted average	number	of	common	shares	outstanding	from	89.2	million	shares	to	113.2	million	shares,	which	offset	the	increase	in	the	net	loss.

# Revenues

Total	revenues	increased	to	$216.4	million	in	2006	compared	to	$160.9	million	in	2005.	In	2006,	revenues	were	comprised	of	$41.2	million	in	royalties	and	$175.1 million	in	collaborative	and	other	research	and	development	revenues,	as	compared	with	$32.8	million	in	royalties	and	$128.1	million	in	collaborative	and	other	research and	development	revenues	in	2005.

Royalty	revenues	increased	by	$8.4	million,	or	26%,	from	2005	to	2006.	Royalties	consist	of	Lexiva/Telzir	(fosamprenavir	calcium)	royalty	revenues	and	a	small amount	of	Agenerase	(amprenavir)	royalty	revenues.	Fosamprenavir	calcium	is	marketed	under	the	trade	name	Lexiva	in	the	United	States	and	Telzir	in	the	European Union.	Royalty	revenues	are	based	on	actual	and	estimated	worldwide	net	sales	of	Lexiva/Telzir	and	Agenerase.	The	increase	in	royalty	revenues	was	due	to	the	increase in	Lexiva/Telzir	sales.	By	the	end	of	2005,	Lexiva/Telzir	had	largely	replaced	Agenerase	in	worldwide	markets.

Collaborative	and	other	research	and	development	revenues	increased	$47.1	million,	or	37%,	from	2005	to	2006.	The	table	presented	below	is	a	summary	of revenues	from	collaborative	arrangements	for	2006	as	compared	with	2005.

| Janssen | $68,004 | $— |
| :--- | :--- | :--- |
| Merck | 58,705 | 24,428 |
| Novartis | 17,585 | 53,082 |
| CFFT | 12,636 | 14,490 |
| GlaxoSmithKline | 2,434 | 20,000 |
| Other | 15,784 | 16,061 |
| Total\tcollaborative\tand\tother\tresearch\tand\tdevelopment\trevenues | $ 175,148 | $ 128,061 |

In	2006,	we	entered	into	one	new	major	collaboration	agreement,	with	Janssen,	which	resulted	in	$68.0	million	of	revenues	in	2006,	including:

·		an	amortized	portion	of	the	$165.0	million	up-front	payment;

·		payments	from	Janssen	to	fund	a	portion	of	telaprevir	development	costs;	and

Our	revenues	from	Merck	increased	by	$34.3	million	in	2006	over	2005	levels	as	the	result	of	increased	revenues	recognized	from	milestone	payments	offset	by decreased	research	funding.	We	recognized	lower	revenues	from	Novartis	due	to	the	completion	of	our	research	collaboration	with	Novartis.	Our	revenues	from	our GlaxoSmithKline	collaboration	were	higher	in	2005	due	to	our	full	recognition	in	2005	of	the	$20.0	million	up-front	license	payment	paid	under	that	agreement.

In	2007,	we	expect	that	our	revenues	from	Janssen	will	increase	significantly	as	a	result	of	the	recognition	over	a	full	year	of	an	amortized	portion	of	the	up-front payment	made	to	us	by	Janssen	in	2006,	a	full	year	of	telaprevir	development	cost	sharing	under	our	collaboration	agreement	with	Janssen	and	potentially	additional milestone	payments.	We	expect	that	the	increased	Janssen	revenues	will	be	partially	offset	by	decreased	revenues	from	Novartis	and	Merck	as	a	result	of	the	completion of	the	research	programs	with	these	collaborators.	Merck	is	continuing	to	develop	drug	candidates	identified	under	the	collaboration,	and	we	may	receive	additional revenues	in	2007	from	Merck	related	to	milestone	payments.	We	do	not	expect	to	receive	any	further	revenues	from	Novartis	under	our	collaboration	agreement.	We expect	that	for	the	foreseeable	future	the	revenues	and	funding	from	collaborations	that	support	our	development-stage	compounds,	such	as	the	Janssen	and	Merck collaborations,	will	provide	a	proportionately	higher	level	of	financial	support	for	our	research	and	development	activities	than	revenues	and	funding	from	research collaboration	agreements.

# Costs	and	Expenses

# Royalty	Payments

Royalty	payments	increased	$2.1	million,	or	21%,	to	$12.2	million	in	2006	from	$10.1	million	in	2005.	Royalty	payments	relate	to	a	royalty	we	pay	to	a	third	party on	sales	of	Lexiva/Telzir	and	Agenerase.	The	increased	royalty	payments	relate	to	the	increased	royalty	revenues	we	received	in	2006	as	compared	to	2005.

Research	and	development	expenses	increased	$123.2	million,	or	50%,	to	$371.7	million	in	2006,	including	stock-based	compensation	expense	of	$32.0	million, from	$248.5	million	in	2005,	including	stock-based	compensation	of	$3.6	million.	The	increase	in	research	and	development	expenses	was	primarily	the	result	of increased	development	investment	to	support	the	global	Phase	2b	clinical

development	program	for	telaprevir,	as	well	as	$27.3	million	of	investment	in	commercial	supply	of	telaprevir,	together	with	a	$28.4	million	increase	in	stock-based compensation	expense.	The	cost	of	developing	the	commercial	supply	for	telaprevir	is	considered	a	research	and	development	expense	due	to	telaprevir's	stage	of development.	Development	expenses	increased	by	$101.3	million,	accounting	for	82%	of	the	aggregate	increase	in	research	and	development	expenses.	Research expenses	increased	by	$21.9	million,	of	which	$13.9	million	was	increased	stock-based	compensation	expense.

Research	and	development	expenses	consist	primarily	of	salary	and	benefits,	stock-based	compensation	expense,	laboratory	supplies,	contractual	services (including	pharmaceutical	development	and	clinical	trial	materials	costs),	commercial	supply	investment	in	telaprevir,	and	infrastructure	costs,	including	facilities	costs and	depreciation.	Set	forth	below	is	a	summary	that	reconciles	our	total	research	and	development	expenses	for	2006	and	2005:

|  | 2006 | 2005 | $	Change | %	Change |
| :--- | :--- | :--- | :--- | :--- |
|  |  | (in\tthousands) | (in\tthousands) |  |
| Research\tExpenses: |  |  |  |  |
| Salary\tand\tbenefits | $45,546 | $40,019 | $5,527 | 14% |
| Stock-based\tcompensation\texpense | 15,879 | 1,979 | 13,900 | 702% |
| Laboratory\tsupplies\tand\tother\tdirect\texpenses |  |  |  |  |
|  | 23,103 | 20,877 | 2,226 | 11% |
| Contractual\tservices | 6,640 | 7,619 | (979) | (13)% |
| Infrastructure\tcosts | 51,479 | 50,285 | 1,194 | 2% |

| Total	research	expenses | $ 142,647 | $ 120,779 | $21,868 |  |
| :--- | :--- | :--- | :--- | :--- |
| Development\tExpenses: |  |  |  |  |
| Salary\tand\tbenefits | $40,424 | $27,202 | $13,222 | 49% |
| Stock-based\tcompensation\texpense | 16,123 | 1,588 | 14,535 | 915% |
| Laboratory\tsupplies\tand\tother\tdirect\texpenses | 19,041 | 11,674 | 7,367 | 63% |
| Contractual\tservices | 86,146 | 61,188 | 24,958 | 41% |
| Commercial\tsupply\tinvestment\tin\ttelaprevir | 27,332 | — | 27,332 | 100% |
| Infrastructure\tcosts | 40,000 | 26,109 | 13,891 | 53% |
| Total\tdevelopment\texpenses | $ 229,066 | $ 127,761 | $ 101,305 |  |
| Total\tResearch\tand\tDevelopment\tExpenses: |  |  |  |  |
| Salary\tand\tbenefits | $85,970 | $67,221 | $18,749 | 28% |
| Stock-based\tcompensation\texpense | 32,002 | 3,567 | 28,435 | 797% |
| Laboratory\tsupplies\tand\tother\tdirect\texpenses | 42,144 | 32,551 | 9,593 | 29% |
| Contractual\tservices | 92,786 | 68,807 | 23,979 | 35% |
| Commercial\tsupply\tinvestment\tin\t\ttelaprevir | 27,332 | — | 27,332 | 100% |
| Infrastructure\tcosts | 91,479 | 76,394 | 15,085 | 20% |
| Total\tresearch\tand\tdevelopment\texpenses | $ 371,713 | $ 248,540 | $ 123,173 |  |

To	date	we	have	incurred	in	excess	of	$1.5	billion	in	research	and	development	costs	associated	with	drug	discovery	and	development.	In	2007,	we	expect	to	focus our	development	investment	on	telaprevir,	while	continuing	to	advance	the	development	of	VX-702,	VX-770,	and	VX-883.	We	expect	research	and	development expenses	in	2007	to	be	greater	than	in	2006	due	to	increased	investment	in	clinical	development,	as	we	advance	our	core	programs,	as	well	as	increased	costs	for	the investment	in	commercial	supply	of	telaprevir	drug	product	in	advance	of	obtaining	regulatory	marketing	approval.	In	2007,	we	expect	to	incur	research	and development	expenses	of	approximately	$110	million	to	$130	million	for	commercial	supply	investment	in	telaprevir.	We	are	making	this	investment	to	support	a	timely commercial	product	launch	if	we	are	successful	in	completing	development	of	telaprevir	and	obtaining	marketing	approval.	In	addition,	we	expect	that	our	combined research	and	development	expenses	will	increase	in	future	periods	as	we	add	personnel	and	capabilities	to	support	the	planned	development	of	our	lead	drug	candidates. However,	our	anticipated	2007	research	and	development	expenses	could	vary	materially	from	our	projections,	depending	on	the	occurrence	and	timing	of	clinical	trials and	clinical	trial	results.

The	successful	development	of	our	drug	candidates	is	highly	uncertain	and	subject	to	a	number	of	risk	factors.	The	duration	of	clinical	trials	may	vary	substantially according	to	the	type,	complexity	and	novelty	of	the	drug	candidate.	The	FDA	and	comparable	agencies	in	foreign	countries	impose	substantial	requirements	on	the introduction	of	therapeutic	pharmaceutical	products,	typically	requiring	lengthy	and	detailed	laboratory	and	clinical	testing	procedures,	sampling	activities	and	other costly	and	time-consuming	procedures.	Data	obtained	from	preclinical,	nonclinical	and	clinical	activities	at	any	step	in	the	testing	process	may	be	adverse	and	lead	to discontinuation	or	redirection	of	development	activity.	Data	obtained	from	these	activities	also	are	susceptible	to	varying	interpretations,	which	could	delay,	limit	or prevent	regulatory	approval.	The	duration	and	cost	of	discovery,	preclinical	studies,	nonclinical	studies	and	clinical	trials	may	vary	significantly	over	the	life	of	a	project and	are	difficult	to	predict.	Therefore,	accurate	and	meaningful	estimates	of	the	ultimate	costs	to	bring	our	drug	candidates	to	market	are	not	available.	The	most significant	costs	associated	with	drug	discovery	and	development	are	those	costs	associated	with	Phase	2	and	Phase	3	clinical	trials.	Given	the	uncertainties	related	to development,	we	are	currently	unable	to	reliably	estimate	when,	if	ever,	our	drug	candidates	will	generate	revenue	and	net	cash	inflows.

# Sales,	General	and	Administrative	Expenses

Sales,	general	and	administrative	expenses	increased	$13.9	million,	or	32%,	to	$57.9	million	in	2006	from	$44.0	million	in	2005.	This	increase	is	the	result	of increased	headcount	to	support	our	growth	as	we	advance	our	drug	candidates,	particularly	telaprevir,	into	late-stage	development.	We	expect	that	our	sales,	general	and administration	expenses	in	2007	will	be	significantly	higher	than	in	2006,	because	we	are	planning	to	build	our	capabilities	in	late-stage	development,	drug	supply, registration	and	commercialization	of	pharmaceutical	products,	as	we	advance	telaprevir	through	clinical	development.

We	recorded	net	restructuring	expense	of	$3.7	million	in	2006	compared	to	a	restructuring	expense	of	$8.1	million	in	2005.	The	expense	in	2006	resulted	primarily from	imputed	interest	and	build-out	costs	related	to	the	restructuring	liability.	The	expense	for	2005	included	a	credit	against	the	portion	of	restructuring	liability	relating to	the	portion	of	the	Kendall	Square	facility	that	we	decided	in	2005	to	occupy,	offset	by	(i)	the	estimated	incremental	net	ongoing	lease	obligation	associated	with	the portion	of	the	Kendall	Square	facility	that	we	are	not	occupying	and	do	not	intend	to	occupy	and	(ii)	imputed	interest	costs	relating	to	the	restructuring	liability.

The	activity	related	to	the	restructuring	liability	for	2006	is	as	follows	(in	thousands):

|  | Liability	as	of<br>December	31,	2005 | Cash	Payments<br>in	2006 | Cash	Received<br>from	Subleases<br>in	2006 | Additional<br>Charge<br>in	2006 | Liability	as	of<br>December	31,<br>2006 |
| :--- | :--- | :--- | :--- | :--- | :--- |
| Lease\trestructuring\tliability | $42,982 | $(21,607) | $8,047 | $3,651 | $33,073 |

|  | Liability	as	of<br>December	31,	2004 | Cash	Payments<br>in	2005 | Cash	Received<br>from	Subleases<br>in	2005 | Credit	for<br>portion	of<br>facility<br>Vertex<br>decided	to<br>occupy | Additional<br>Charge<br>in	2005 | Liability	as	of<br>December	31,<br>2005 |
| :--- | :--- | :--- | :--- | :--- | :--- | :--- |
| Lease\trestructuring\tliability | $55,843 | $(24,229) | $3,234 | $(10,018) | $18,152 | $42,982 |

In	accordance	with	FAS	146,	we	review	our	estimates	and	assumptions	with	respect	to	the	Kendall	Square	lease	on	at	least	a	quarterly	basis,	and	will	make whatever	modifications	we	believe	necessary	to	reflect	any	changed	circumstances,	based	on	our	best	judgment,	until	the	termination	of	the	lease.	Our	estimates	have changed	in	the	past,	and	may	change	in	the	future,	resulting	in	additional	adjustments	to	the	estimate	of	liability,	and	the	effect	of	any	such	adjustments	could	be material.	Because	our	estimate	of	the	liability	includes	the	application	of	a	discount	rate	to	reflect	the	time-value	of	money,	the	estimate	of	the	liability	will	increase	each quarter	simply	as	a	result	of	the	passage	of	time.

# Non-Operating	Items

Interest	income	increased	$11.0	million,	or	92%,	to	$23.0	million	in	2006	from	$12.0	million	in	2005.	The	increase	was	the	result	of	higher	invested	funds	and portfolio	yields.

In	2006,	we	sold	817,749	shares	of	the	common	stock	of	Altus	Pharmaceuticals,	Inc.	for	$11.7	million	and	warrants	to	purchase	1,962,494	shares	of	Altus	common stock	for	$18.3	million,	resulting	in	a	realized	gain	of	$11.2	million.

In	addition,	as	a	result	of	the	issuance	during	2005	and	2006	of	common	stock	in	exchange	for	a	portion	of	our	2007	Notes	and	2011	Notes,	we	recorded	non-cash charges	of	$5.2	million	in	2006	and	$48.2	million	in	2005.	These	charges	related	to	the	incremental	shares	issued	in	the	transactions	over	the	number	of	shares	that would	have	been	issued	upon	the	conversion	of	the	notes	under	their	original	terms.

In	connection	with	the	adoption	of	FAS	123(R),	during	2006	we	recorded	a	$1.0	million	benefit	from	the	cumulative	effect	of	changing	from	recording	forfeitures related	to	restricted	stock	awards	as	they	occurred,	to	estimating	forfeitures	during	the	service	period.

Our	net	loss	for	2005	was	$203.4	million,	or	$2.28	per	basic	and	diluted	common	share,	compared	to	a	net	loss	for	2004	of	$166.2	million,	or	$2.12	per	basic	and diluted	common	share.	Our	loss	in	2005	included	restructuring	expense	of	$8.1	million	and	a	charge	of	$48.2	million	for	the	exchange	of	newly	issued	common	stock	for a	portion	of	our	outstanding	convertible	notes.	Our	loss	in	2004	included	restructuring	expense	of	$17.6	million	and	a	charge	for	the	retirement	of	convertible	notes	of $3.4	million.

Our	net	loss	for	2005	increased	by	$37.2	million	compared	to	2004,	and	our	revenues	and	expenses	changed	significantly	from	period	to	period.	Our	total	revenues increased	by	$58.2	million	from	2004	to	2005.	This	increase	was	largely	offset	by	a	$56.4	million	increase	in	research	and	development	expenses.	In	addition,	our	net loss	in	2005	included	a	$48.2	million	charge	on	exchange	of	convertible	notes	for	which	there	was	no	comparable	charge	in	2004.	Our	net	loss	per	basic	and	diluted share	increased	due	to	an	increase	in	our	net	loss	partially	offset	by	an	increase	in	the	basic	and	diluted	weighted	average	number	of	common	shares	outstanding	from 78.6	million	shares	to	89.2	million	shares.

Total	revenues	increased	to	$160.9	million	in	2005	compared	to	$102.7	million	in	2004.	In	2005,	revenues	were	comprised	of	$32.8	million	in	royalties	and	$128.1 million	in	collaborative	and	other	research	and	development	revenues,	as	compared	with	$17.3	million	in	royalties	and	$85.4	million	in	collaborative	and	other	research and	development	revenues	in	2004.

Royalty	revenues	increased	by	$15.5	million,	or	90%,	from	2004	to	2005.	Royalties	consisted	of	Lexiva/Telzir	(fosamprenavir	calcium)	and	Agenerase (amprenavir)	royalty	revenue.	The	increase	in	royalty	revenues	was	due	to	an	increase	in	Lexiva/Telzir	sales.

Collaborative	and	other	research	and	development	revenues	increased	$42.7	million,	or	50%,	in	2005	as	compared	with	2004.	The	increase	in	collaborative	and other	research	and	development	revenues	was	due	to	revenues	related	to	collaboration	agreements	we	entered	into	in	2004	and	in	2005.	In	2005,	we	entered	into collaboration	agreements	with	Avalon	Pharmaceuticals	and	GlaxoSmithKline.	Under	these	collaboration	agreements,	in	2005	we	earned	$5.0	million	in	up-front	license fees	from	Avalon	and	$20.0	million	in	up-front	license	fees	from	GlaxoSmithKline.	In	2004,	we	entered	into	collaboration	agreements	with	CFFT,	Mitsubishi	Pharma Corporation,	and	Merck.	We	received	$19.5	million	in	2005	from	two	milestone	payments	made	by	Merck	in	our	Aurora	kinase	inhibitor	collaboration.	We	recognized revenues	of	approximately	$7.3	million	in	2005	related	to	these	milestones.	We	earned	$2.5	million	in	2005	in	milestone	revenues	from	Kissei	related	to	the	completion of	regulatory	filings	in	preparation	for	Phase	1	clinical	development	of	VX-702	in	Japan.	The	table	presented	below	is	a	summary	of	revenues	from	collaborative arrangements	for	2005	as	compared	with	2004.

| Novartis | $53,082 | $50,497 |
| :--- | :--- | :--- |
| Merck | 24,428 | 8,367 |
| GlaxoSmithKline | 20,000 | — |
| CFFT | 14,490 | 6,792 |
| Other | 16,061 | 19,739 |
| Total\tcollaborative\tand\tother\tresearch\tand\tdevelopment\trevenues | $ 128,061 | $85,395 |

Royalty	payments	increased	$4.4	million,	or	79%,	to	$10.1	million	in	2005	from	$5.6	million	in	2004.	Royalty	payments	relate	to	a	royalty	we	pay	to	a	third	party on	sales	of	Lexiva/Telzir	and	Agenerase.	The	increased	royalty	payments	related	to	the	increased	royalty	revenues	we	received	in	2005	as	compared	to	2004.

Research	and	development	expenses	increased	$56.4	million,	or	29%,	to	$248.5	million	in	2005,	from	$192.2	million	in	2004.	The	increase	in	research	and development	expenses	in	2005	as	compared	with	2004	was	primarily	a	result	of	investment	in	our	clinical	development	programs	for	telaprevir	and	VX-702. Development	expenses	accounted	for	87%,	or	$48.9	million,	of	the	aggregate	increase	in	research	and	development	expenses.	In	2005,	we	incurred	costs	for	Phase	2- enabling	activities	for	telaprevir,	we	completed	enrollment	in	a	315-patient	Phase	2	clinical	trial	of	VX-702	for	the	treatment	of	RA,	and	we	continued	a	Phase	2b	clinical trial,	referred	to	as	the	METRO	trial,	of	merimepodib	(VX-497).	We	initiated	the	METRO	trial	during	2004.	During	2004,	we	also	completed	a	Phase	1a	trial	of telaprevir,	and	began	a	Phase	1b	evaluation	of	telaprevir	in	patients	with	chronic	HCV	infection.

Research	and	development	expenses	consisted	primarily	of	salary	and	benefits	(including	stock-based	compensation	expense),	laboratory	supplies,	contractual services	and	infrastructure	costs,	including	facilities	costs	and	depreciation.	Set	forth	below	is	a	summary	that	reconciles	our	total	research	and	development	expenses for	2005	and	2004:

|  | 2005 | 2004 | $	Change | %	Change |
| :--- | :--- | :--- | :--- | :--- |
|  |  | (In\tthousands) | (In\tthousands) |  |
| Research\tExpenses: |  |  |  |  |
| Salary\tand\tbenefits | $40,877 | $36,772 | $4,105 | 11% |
| Laboratory\tsupplies\tand\tother\tdirect\texpenses | 20,877 | 19,052 | 1,825 | 10% |
| Contractual\tservices | 7,619 | 8,857 | (1,238) | (14)% |
| Infrastructure\tcosts | 51,406 | 48,595 | 2,811 | 6% |

| Total	research	expenses | $ 120,779 | $ 113,276 | $7,503 |  |
| :--- | :--- | :--- | :--- | :--- |
| Development\tExpenses: |  |  |  |  |
| Salary\tand\tbenefits | $28,119 | $20,493 | $7,626 | 37% |
| Laboratory\tsupplies\tand\tother\tdirect\texpenses | 11,674 | 7,600 | 4,074 | 54% |
| Contractual\tservices | 61,188 | 28,837 | 32,351 | 112% |
| Infrastructure\tcosts | 26,780 | 21,956 | 4,824 | 22% |
| Total\tdevelopment\texpenses | $ 127,761 | $78,886 | $48,875 |  |
| Total\tResearch\tand\tDevelopment\tExpenses: |  |  |  |  |
| Salary\tand\tbenefits | $68,996 | $57,265 | $11,731 | 20% |
| Laboratory\tsupplies\tand\tother\tdirect\texpenses | 32,551 | 26,652 | 5,899 | 22% |
| Contractual\tservices | 68,807 | 37,694 | 31,113 | 83% |
| Infrastructure\tcosts | 78,186 | 70,551 | 7,635 | 11% |
| Total\tresearch\tand\tdevelopment\texpenses | $ 248,540 | $ 192,162 | $56,378 |  |

Sales,	general	and	administrative	expenses	of	$44.0	million	in	2005	remained	consistent	with	2004	expenses	of	$42.1	million.

We	recorded	net	restructuring	expense	of	$8.1	million	in	2005	compared	to	$17.6	million	in	2004.	The	net	restructuring	expense	in	2005	includes	a	$10.0	million credit	to	the	restructuring	liability	made	when	we	decided	in	mid-2005	to	occupy	and	use	a	portion	of	the	Kendall	Square	facility	for	our	operations,	which	was	offset	by (i)	the	estimated	incremental	net	ongoing	lease	obligations	associated	with	the	portion	of	the	Kendall	Square	facility	that	we	do	not	intend	to	occupy	and	(ii)	imputed interest	costs	relating	to	the	restructuring	liability.	The	additional	restructuring	expense	in	2004	primarily	resulted	from	revising	our	estimates	and	assumptions	about when	we	would	identity	and	receive	subtenants	and	imputing	an	interest	charge	for	the	related	restructuring	liability.

|  | Liability	as	of<br>	December	31,<br>2003 | Cash<br>Payments<br>in	2004 | Cash	received	from<br>sublease,	net	of<br>operating	costs<br>in	2004 | Additional<br>Charge	in<br>2004 | Liability	as	of<br>December	31,<br>2004 |
| :--- | :--- | :--- | :--- | :--- | :--- |
| Lease\trestructuring\tliability\tand\tother\noperating\tlease\tliability | $69,526 | $(31,550) | $293 | $17,574 | $55,843 |

Interest	income	increased	$1.7	million	to	$12.0	million	in	2005	from	$10.3	million	in	2004.	The	increase	was	mainly	the	result	of	higher	returns	on	invested	funds.

Interest	expense	decreased	$1.0	million,	or	5%,	to	$17.3	million	in	2005	from	$18.3	million	in	2004	as	a	result	of	the	exchange	of	newly	issued	stock	for	a	portion of	our	outstanding	convertible	debt	in	the	second	half	of	2005.

In	addition,	as	a	result	of	the	issuance	during	2005	of	common	stock	in	exchange	for	convertible	subordinated	notes,	we	recorded	a	non-cash	charge	of	$48.2 million.	This	charge	related	to	the	incremental	shares	issued	in	the	transactions	over	the	number	of	shares	that	would	have	been	issued	upon	the	conversion	of	the	notes under	their	original	terms.

# LIQUIDITY	AND	CAPITAL	RESOURCES

We	have	incurred	operating	losses	since	our	inception	and	historically	have	financed	our	operations	principally	through	public	and	private	offerings	of	our	equity and	debt	securities,	strategic	collaborative	agreements	that	include	research	and/or	development	funding,	development	milestones	and	royalties	on	the	sales	of	products, investment	income	and	proceeds	from	the	issuance	of	stock	under	our	employee	benefit	programs.

At	December	31,	2006,	we	had	cash,	cash	equivalents	and	marketable	securities	of	$761.8	million,	which	was	an	increase	of	$354.2	million	from	$407.5	million	at December	31,	2005.	The	increase	was	primarily	a	result	of:

·							$313.7	million	in	net	proceeds	from	our	September	2006	public	offering	of	common	stock;

·							$165.0	million	from	an	up-front	payment	we	received	in	connection	with	signing	the	Janssen	agreement;

·							$52.4	million	from	the	issuance	of	common	stock	under	our	employee	benefit	plans;	and

·							$30.0	million	from	the	sale	of	shares	of	Altus	Pharmaceuticals	Inc.	common	stock	and	warrants	to	purchase	Altus	common	stock.

These	cash	inflows	were	partially	offset	by	the	significant	cash	expenditures	we	made	in	2006	related	to	research	and	development	expenses	and	sales,	general	and administrative	expenses.	Capital	expenditures	for	property	and	equipment	during	2006	were	$32.4	million.

At	December	31,	2006,	we	had	$42.1	million	in	aggregate	principal	amount	of	the	2007	Notes	and	$59.6	million	in	aggregate	principal	amount	of	the	2011	Notes outstanding.	The	2007	Notes	are	due	in	September	2007	and	are	convertible	into	common	stock	at	the	option	of	the	holder	at	a	price	equal	to	$92.26	per	share,	subject	to adjustment	under	certain	circumstances.	In	February	2007,	we	announced	that	we	will	redeem	our	2011	Notes	on	March	5,	2007.	The	2011	Notes	are	convertible	into shares	of	our	common	stock	at	the	option	of	the	holder	at	a	price	equal	to	$14.94	per	share.	We	expect	the	holders	of	the	2011	Notes	will	elect	to	convert	their	notes	into stock,	in	which	case	we	will	issue	approximately	4.0	million.	We	will	be	required	to	repay	any	2011	Notes	that	are	not	converted	at	the	rate	of	$1,003.19	per	$1,000 principal	amount,	which	includes	principal	and	interest	that	will	accrue	to	the	redemption	date.

In	August	2006,	we	exchanged	approximately	4.1	million	shares	of	newly	issued	common	stock	for	approximately	$58.3	million	in	aggregate	principal	amount	of

then	outstanding	2011	Notes,	plus	accrued	interest.	As	a	result	of	this	exchange	we	incurred	a	non-cash	charge	of	$5.2	million,	which	related	to	the	incremental	shares issued	in	the	transaction	over	the	number	that	would	have	been	issued	upon	the	conversion	of	the	notes	under	the	original	conversion	terms.

Our	accrued	restructuring	expense	of	$33.1	million	at	December	31,	2006	relates	to	the	portion	of	the	Kendall	Square	facility	that	we	do	not	intend	to	occupy	and includes	other	lease	obligations,	recorded	at	net	present	value.	In	2006,	we	made	cash	payments	of	$21.6	million	against	the	accrued	expense	and	received	$8.0	million in	sublease	rental	payments.	We	expect	to	make	cash	payments	of	approximately	$21.7	million	against	the	accrued	expense	in	2007	and	receive	$7.5	million	in	sublease rental	payments.	We	review	our	estimates	underlying	our	accrued	restructuring	expense	on	at	least	a	quarterly	basis,	and	the	amount	of	the	accrued	expense,	and consequently	any	expected	future	payment,	could	change	with	any	change	in	our	estimates.

The	net	increase	of	$117.9	million	in	deferred	revenue	for	the	year	ended	December	31,	2006	was	a	result	of	deferring	a	portion	of	the	$165.0	million	up-front license	payment	from	Janssen,	offset	by	recognition	of	revenues	in	2006	related	to	cash	payments	received	from	collaborators,	primarily	Novartis	and	Merck,	in	previous periods,	which	were	deferred	and	recognized	over	our	period	of	performance	in	accordance	with	our	revenue	recognition	policy.

We	also	achieved	$57.8	million	in	milestones	related	to	our	collaboration	agreements	during	2006.	Consistent	with	our	revenue	recognition	policy,	we	recognized $56.9	million	of	this	amount	and	have	deferred	recognition	of	the	remainder,	which	will	be	recognized	over	the	remaining	period	of	our	performance	under	the collaboration	agreement.

At	December	31,	2006,	we	had	$20.0	million	in	loans	outstanding	under	the	loan	facility	established	under	our	collaboration	with	Novartis,	which	is	repayable, without	interest,	in	May	2008.

We	expect	to	continue	to	make	significant	investments	in	our	pipeline,	particularly	in	clinical	trials	of	telaprevir,	VX-702,	VX-770	and	VX-883,	in	our	effort	to prepare	for	potential	registration,	regulatory	approval	and	commercial	launch	of	our	existing	and	future	drug	candidates.	We	also	expect	to	continue	to	make	a	significant investment	in	the	commercial	supply	of	telaprevir	in	order	to	manufacture	sufficient	quantities	of	drug	product	in	advance	of	obtaining	regulatory	marketing	approval,	to support	a	timely	commercial	product	launch	if	we	are	successful	in	completing	the	development	of	telaprevir	and	obtaining	marketing	approval.	We	expect	to	incur losses	on	a	quarterly	and	annual	basis	for	the	foreseeable	future.

The	adequacy	of	our	available	funds	to	meet	our	future	operating	and	capital	requirements	will	depend	on	many	factors,	including	the	number,	breadth	and prospects	of	our	discovery	and	development	programs,	the	costs	and	timing	of	obtaining	regulatory	approvals	for	any	of	our	drug	candidates	and	our	decisions	regarding manufacturing	and	commercial	investments.	Collaborations	have	been	and	will	continue	to	be	an	important	component	of	our	business	strategy.

As	part	of	our	strategy	for	managing	our	capital	structure,	we	have	from	time	to	time	adjusted	the	amount	and	maturity	of	our	debt	obligations	through	new	issues, privately	negotiated	transactions	and	market	purchases,	depending	on	market	conditions	and	our	perceived	needs	at	the	time.	We	expect	to	continue	pursuing	a	general financial	strategy	that	may	lead	us	to	undertake	one	or	more	additional	capital	transactions.	Any	such	capital	transactions	may	or	may	not	be	similar	to	transactions	in which	we	have	engaged	in	the	past.

We	believe	that	our	current	cash,	cash	equivalents	and	marketable	securities	will	be	sufficient	to	fund	our	projected	operating	requirements	for	at	least	the	next eighteen	months.	To	the	extent	that	our	current	cash,	cash	equivalents	and	marketable	securities,	in	addition	to	the	above-mentioned	sources,	are	not	sufficient	to	fund our	activities,	it	will	be	necessary	to	raise	additional	funds	through	public	offerings	or	private	placements	of	our	securities	or	other	methods	of	financing.	We	also	will continue	to	manage	our	capital	structure	and	consider	all	financing	opportunities,	whenever	they	may	occur,	that	could	strengthen

our	long-term	liquidity	profile.	There	can	be	no	assurance	that	any	such	financing	opportunities	will	be	available	on	acceptable	terms,	if	at	all.

# CONTRACTUAL	COMMITMENTS	AND	OBLIGATIONS

The	first	part	of	the	following	table	sets	forth	commitments	and	obligations	that	have	been	recorded	on	our	consolidated	balance	sheets	at	December	31,	2006. Certain	other	obligations	and	commitments,	while	not	required	under	GAAP	to	be	included	in	the	consolidated	balance	sheets,	may	have	a	material	impact	on	liquidity. We	have	presented	these	items,	all	of	which	we	have	entered	into	in	the	ordinary	course	of	business,	in	the	table	below	in	order	to	present	a	more	complete	picture	of	our financial	position	and	liquidity.

|  | 2007 | 2008-<br>2009 | 2010-<br>2011 | 2012<br>and	later | Total |
| :--- | :--- | :--- | :--- | :--- | :--- |
|  |  |  | (in\tthousands) |  |  |
| Commitments\tand\tObligations\tRecorded\ton\tthe |  |  |  |  |  |
| Consolidated\tBalance\tSheets\tat\tDecember\t31,\t2006: |  |  |  |  |  |
| Collaborator\tdevelopment\tloans | $— | $19,997 | $— | $— | $19,997 |
| Convertible\tsubordinated\tnotes | 101,750 | — | — | — | 101,750 |
| Additional\tCommitments\tand\tObligations\tat |  |  |  |  |  |
| December\t31,\t2006: |  |  |  |  |  |
| Facilities\toperating\tleases | 40,008 | 76,287 | 59,555 | 171,483 | 347,333 |
| Research\tand\tdevelopment\tand\tother\tcommitments | 1,094 | 624 | — | — | 1,718 |
| Total\tcontractual\tcommitments\tand\tobligations | $ 142,852 | $96,908 | $59,555 | $ 171,483 | $470,798 |

Commitments	and	Obligations	Recorded	on	the	Consolidated	Balance	Sheets	at	December	31,	2006

The	collaborator	development	loans	in	the	table	above	represent	indebtedness	to	Novartis	in	the	amount	of	approximately	$20.0	million,	which	will	be	repayable without	interest	in	May	2008.

At	December	31,	2006,	we	had	$42.1	million	in	aggregate	principal	amount	of	2007	Notes	and	$59.6	million	in	aggregate	principal	amount	of	2011	Notes outstanding.	In	February	2007,	we	announced	that	we	will	redeem	our	2011	Notes	on	March	5,	2007.	The	2011	Notes	are	convertible	at	the	option	of	the	holder	at	a price	equal	to	$14.94	per	share.	The	principal	amount	of	the	2011	Notes	are	shown	in	the	preceding	table	as	payable	in	2007.	However,	we	expect	that	the	entire principal	amount	of	these	notes	will	be	converted	into	common	stock	prior	to	March	5,	2007.

# Additional	Commitments	and	Obligations	Not	Required	to	be	Recorded	on	Consolidated	Balance	Sheets	at	December	31,	2006

At	December	31,	2006,	our	future	minimum	commitments	and	contractual	obligations	included	facilities	operating	leases	and	contractual	commitments	related	to our	research	and	development	programs.	These	items	are	not	required	under	GAAP	to	be	recorded	on	our	consolidated	balance	sheets.	They	are	disclosed	in	the	table presented	above	and	described	more	fully	in	the	following	paragraphs	in	order	to	provide	a	more	complete	picture	of	our	financial	position	and	liquidity	at	December	31, 2006.

Our	future	minimum	commitments	under	our	Kendall	Square	lease	for	the	period	commencing	January	1,	2007,	including	lease	payments,	are	$22.7	million	for 2007,	$47.3	for	2008	and	2009,	$47.6	million	for	2010	and	2011	and	$171.2	million	through	the	expiration	of	the	lease	in	2018.	These	amounts	are	included	in	the	table above.	We	are	using	for	our	operations	approximately	40%	of	the	Kendall	Square	facility.	We	have	entered	into	two	subleases	for	the	remaining	rentable	square	footage at	the	Kendall	Square	facility	to	offset	our	on-going	contractual	lease	obligations.	The	subleases	will	expire	in	2011	and	2012	and	contain	options	to	extend	through	2015 and	2018,	respectively.	One	of	the	subleases	has	certain	termination	provisions	beginning	in	2010.	The	future	minimum	committed	income	from	the

subleases	is	$8.2	million	for	2007,	$16.3	million	for	2008	and	2009,	$12.6	million	for	2010	and	2011	and	$1.7	million	for	years	thereafter.	These	amounts	are	not	offset against	our	obligations	set	forth	in	the	table	above.	See	Note	E,	"Restructuring"	to	our	consolidated	financial	statements	included	in	this	Annual	Report	on	Form	10-K.

Commitments	under	research	and	development	programs	represent	contractual	commitments	entered	into	for	materials	and	services	in	the	normal	course	of business.

Our	table	detailing	contractual	commitments	and	obligations	does	not	include	severance	pay	obligations	to	certain	of	our	executive	officers	in	the	event	of	a	not-for- cause	termination	under	existing	employment	contracts.	The	cash	amount	for	which	the	we	might	be	liable	upon	any	such	termination,	based	on	current	executive	pay and	bonus	levels,	could	range	from	$0	to	$1.5	million.

# Recent	Accounting	Pronouncements

In	February	2007,	the	Financial	Accounting	Standards	Board	("FASB")	issued	Statement	No.	159,	"The	Fair	Value	Option	for	Financial	Assets	and	Financial Liabilities"	("FAS	159").	FAS	159	provides	companies	with	an	option	to	report	selected	financial	assets	and	liabilities	at	fair	value.	The	objective	of	FAS	159	is	to reduce	both	complexity	in	accounting	for	financial	instruments	and	the	volatility	in	earnings	caused	by	measuring	related	assets	and	liabilities	differently.

GAAP	have	required	different	measurement	attributes	for	different	assets	and	liabilities	that	can	create	artificial	volatility	in	earnings.	The	FASB	has	stated	it believes	that	FAS	159	helps	to	mitigate	this	type	of	accounting-induced	volatility	by	enabling	companies	to	report	related	assets	and	liabilities	at	fair	value,	which would	likely	reduce	the	need	for	companies	to	comply	with	detailed	rules	regarding	hedge	accounting.

FAS	159	also	establishes	presentation	and	disclosure	requirements	designed	to	facilitate	comparisons	between	companies	that	choose	different	measurement attributes	for	similar	types	of	assets	and	liabilities.

For	example,	FAS	159	requires	companies	to	provide	additional	information	that	will	help	investors	and	other	users	of	financial	statements	to	more	easily understand	the	effect	of	the	company's	choice	to	use	fair	value	on	its	earnings.	It	also	requires	companies	to	display	the	fair	value	of	those	assets	and	liabilities	for	which the	company	has	chosen	to	use	fair	value	on	the	face	of	the	balance	sheet.	FAS	159	does	not	eliminate	disclosure	requirements	included	in	other	accounting	standards, including	requirements	for	disclosures	about	fair	value	measurements	included	in	FASB	Statement	No.	157,	"Fair	Value	Measurements"	("FAS	157"),	and FASB	No.	107,	"Disclosures	about	Fair	Value	of	Financial	Instruments."

FAS	159	will	be	effective	as	of	the	beginning	of	our	first	fiscal	year	beginning	after	November	15,	2007.	Early	adoption	is	permitted	as	of	the	beginning	of	the previous	fiscal	year	provided	that	a	company	makes	that	choice	in	the	first	120	days	of	the	relevant	fiscal	year	and	also	elects	to	apply	the	provisions	of	FAS	157.

In	September	2006,	FASB	issued	FAS	157.	FAS	157	provides	guidance	for	using	fair	value	to	measure	assets	and	liabilities	and	requires	additional	disclosure	about the	use	of	fair	value	measures,	the	information	used	to	measure	fair	value,	and	the	effect	fair-value	measurements	have	on	earnings.	FAS	157	does	not	require	any	new fair	value	measurements.	FAS	157	will	be	effective	for	us	beginning	January	1,	2008.	We	currently	are	evaluating	the	effect	of	FAS	157	on	our	consolidated	financial statements.

In	June	2006,	FASB	issued	FASB	Interpretation	No.	48,	"Accounting	for	Uncertainty	in	Income	Taxes—an	interpretation	of	FASB	Statement	No.	109"	("FIN 48").	FIN	48	clarifies	the	accounting	for	uncertainty	in	income	taxes	recognized	in	an	enterprise's	financial	statements	in	accordance	with	Statement	of	Financial Accounting	Standards	No.	109,	"Accounting	for	Income	Taxes."	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.	FIN	48	also	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	currently	are	evaluating	FIN	48	and	believe	the	adoption	of	FIN	48	will	not	have	a material	effect	on	our	consolidated	financial	statements.

In	May	2005,	the	FASB	issued	FAS	No.	154,	"Accounting	Changes	and	Error	Corrections"	("FAS	154").	FAS	154	replaces	APB	Opinion	No.	20,	"Accounting Changes"	and	Statement	No.	3,	"Reporting	Accounting	Changes	in	Interim	Financial	Statements."	FAS	No.	154	requires	retrospective	application	to	prior	periods' financial	statements	of	changes	in	accounting	principle,	unless	it	is	impractible	to	determine	either	the	period-specific	effects	or	the	cumulative	effect	of	the	change.	We adopted	SFAS	154	beginning	on	January	1,	2006.	Its	adoption	did	not	have	a	material	effect	on	our	consolidated	financial	statements.

In	November	2005,	FASB	issued	FSP	FAS	115-1	and	FAS	124-1,	"The	Meaning	of	Other-Than-Temporary	Impairment	and	Its	Application	to	Certain Investments"	("FSP	FAS	115-1"),	which	provides	guidance	on	determining	when	investments	in	certain	debt	and	equity	securities	are	considered	impaired,	whether	an impairment	is	other-than-temporary,	and	on	measuring	such	impairment	loss.	FSP	FAS	115-1	also	includes	accounting	considerations	subsequent	to	the	recognition	of an	other-than-temporary	impairment	and	requires	certain	disclosures	about	unrealized	losses	that	have	not	been	recognized	as	other-than-temporary	impairments. FSP	FAS	115-1	is	required	to	be	applied	to	reporting	periods	beginning	after	December	15,	2005.	We	adopted	FSP	FAS	115-1	in	the	first	quarter	of	2006.	Adoption	of FSP	FAS	115-1	did	not	have	a	material	effect	on	the	our	consolidated	results	of	operations	or	financial	condition.

# ITEM	7A.								QUANTITATIVE	AND	QUALITATIVE	DISCLOSURES	ABOUT	MARKET	RISK

As	part	of	our	investment	portfolio,	we	own	financial	instruments	that	are	sensitive	to	market	risks.	The	investment	portfolio	is	used	to	preserve	our	capital	until	it	is required	to	fund	operations,	including	our	research	and	development	activities.	None	of	these	market	risk-sensitive	instruments	are	held	for	trading	purposes.	We	do	not have	derivative	financial	instruments	in	our	investment	portfolio.

# Interest	Rate	Risk

We	invest	our	cash	in	a	variety	of	financial	instruments,	principally	securities	issued	by	the	United	States	government	and	its	agencies,	investment	grade	corporate bonds	and	notes	and	money	market	instruments.	These	investments	are	denominated	in	United	States	dollars.	All	of	our	interest-bearing	securities	are	subject	to	interest rate	risk,	and	could	decline	in	value	if	interest	rates	fluctuate.	Substantially	all	of	our	investment	portfolio	consists	of	marketable	securities	with	active	secondary	or resale	markets	to	help	ensure	portfolio	liquidity,	and	we	have	implemented	guidelines	limiting	the	term-to-maturity	of	our	investment	instruments.	Due	to	the conservative	nature	of	these	instruments,	we	do	not	believe	that	we	have	a	material	exposure	to	interest	rate	risk.

# ITEM	8.																FINANCIAL	STATEMENTS	AND	SUPPLEMENTARY	DATA

The	information	required	by	this	Item	8	is	contained	on	pages	F-1	through	F-42	of	this	Annual	Report	on	Form	10-K.

# ITEM	9.																CHANGES	IN	AND	DISAGREEMENTS	WITH	ACCOUNTANTS	ON	ACCOUNTING	AND	FINANCIAL	DISCLOSURE

Not	applicable.

# ITEM	9A.								CONTROLS	AND	PROCEDURES

(1)			Evaluation	of	Disclosure	Controls	and	Procedures.			The	Company's	chief	executive	officer	and	chief	financial	officer,	after	evaluating	the	effectiveness	of the	Company's	disclosure	controls	and	procedures	(as	defined	in	Exchange	Act	Rule	13a-15(c))	as	of	the	end	of	the	period	covered	by	this	Annual

Report	on	Form	10-K,	have	concluded	that,	based	on	such	evaluation,	the	Company's	disclosure	controls	and	procedures	were	effective.	In	designing	and	evaluating	the disclosure	controls	and	procedures,	the	Company's	management	recognized	that	any	controls	and	procedures,	no	matter	how	well	designed	and	operated,	can	provide only	reasonable	assurance	of	achieving	the	desired	control	objectives,	and	the	Company's	management	necessarily	was	required	to	apply	its	judgment	in	evaluating	the cost-benefit	relationship	of	possible	controls	and	procedures.

(2)			Management's	Annual	Report	on	Internal	Control	over	Financial	Reporting.			The	management	of	the	Company	is	responsible	for	establishing	and maintaining	adequate	internal	control	over	financial	reporting.	Internal	control	over	financial	reporting	is	defined	in	Rule	13a-15(f)	and	Rule	15d-15(f)	promulgated under	the	Securities	Exchange	Act	of	1934	as	a	process	designed	by,	or	under	the	supervision	of,	the	Company's	principal	executive	and	principal	financial	officers	and effected	by	the	Company's	Board	of	Directors,	management	and	other	personnel,	to	provide	reasonable	assurance	regarding	the	reliability	of	financial	reporting	and	the preparation	of	financial	statements	for	external	purposes	in	accordance	with	generally	accepted	accounting	principles.	The	Company's	internal	control	over	financial reporting	includes	those	policies	and	procedures	that:

·							pertain	to	the	maintenance	of	records	that,	in	reasonable	detail,	accurately	and	fairly	reflect	the	transactions	and	dispositions	of	the	assets	of	the	Company;

·							provide	reasonable	assurance	that	transactions	are	recorded	as	necessary	to	permit	preparation	of	financial	statements	in	accordance	with	generally	accepted accounting	principles,	and	that	receipts	and	expenditures	of	the	Company	are	being	made	only	in	accordance	with	authorizations	of	management	and	directors	of the	Company;	and

·							provide	reasonable	assurance	regarding	prevention	or	timely	detection	of	unauthorized	acquisition,	use	or	disposition	of	the	Company's	assets	that	could	have	a material	effect	on	the	financial	statements.

Because	of	its	inherent	limitations,	internal	control	over	financial	reporting	may	not	prevent	or	detect	misstatements.	Also,	projections	of	any	evaluation	of effectiveness	to	future	periods	are	subject	to	the	risk	that	controls	may	become	inadequate	because	of	changes	in	conditions,	or	that	the	degree	of	compliance	with	the policies	or	procedures	may	deteriorate.

The	Company's	management	assessed	the	effectiveness	of	the	Company's	internal	control	over	financial	reporting	as	of	December	31,	2006.	In	making	this assessment,	it	used	the	criteria	set	forth	in	the	Internal	Control-Integrated	Framework	issued	by	the	Committee	of	Sponsoring	Organizations	of	the	Treadway Commission	(COSO).	Based	on	its	assessment,	the	Company's	management	has	concluded	that,	as	of	December	31,	2006,	the	Company's	internal	control	over	financial reporting	is	effective	based	on	those	criteria.

The	assessment	of	the	Company's	management	of	the	effectiveness	of	the	Company's	internal	control	over	financial	reporting	as	of	December	31,	2006,	has	been audited	by	Ernst	&	Young	LLP,	an	independent	registered	public	accounting	firm,	as	stated	below.

(3)			Changes	in	Internal	Controls.			During	the	quarter	ended	December	31,	2006,	there	were	no	changes	in	our	internal	control	over	financial	reporting,	that materially	affected,	or	are	reasonably	likely	to	materially	affect,	our	internal	control	over	financial	reporting.

# (4)	Report	of	Independent	Registered	Public	Accounting	Firm

# To	the	Board	of	Directors	and	Stockholders	of	Vertex	Pharmaceuticals	Incorporated

We	have	audited	management's	assessment,	included	in	the	accompanying	Management's	Annual	Report	on	Internal	Control	over	Financial	Reporting,	that	Vertex Pharmaceuticals	Incorporated	maintained	effective	internal	control	over	financial	reporting	as	of	December	31,	2006,	based	on	criteria	established	in	Internal	Control— Integrated	Framework	issued	by	the	Committee	of	Sponsoring	Organizations	of	the	Treadway	Commission	(the	COSO	criteria).	Vertex	Pharmaceuticals	Incorporated's

management	is	responsible	for	maintaining	effective	internal	control	over	financial	reporting	and	for	its	assessment	of	the	effectiveness	of	internal	control	over	financial reporting.	Our	responsibility	is	to	express	an	opinion	on	management's	assessment	and	an	opinion	on	the	effectiveness	of	the	Company's	internal	control	over	financial reporting	based	on	our	audit.

We	conducted	our	audit	in	accordance	with	the	standards	of	the	Public	Company	Accounting	Oversight	Board	(United	States).	Those	standards	require	that	we	plan and	perform	the	audit	to	obtain	reasonable	assurance	about	whether	effective	internal	control	over	financial	reporting	was	maintained	in	all	material	respects.	Our	audit included	obtaining	an	understanding	of	internal	control	over	financial	reporting,	evaluating	management's	assessment,	testing	and	evaluating	the	design	and	operating effectiveness	of	internal	control,	and	performing	such	other	procedures	as	we	considered	necessary	in	the	circumstances.	We	believe	that	our	audit	provides	a	reasonable basis	for	our	opinion.

A	company's	internal	control	over	financial	reporting	is	a	process	designed	to	provide	reasonable	assurance	regarding	the	reliability	of	financial	reporting	and	the preparation	of	financial	statements	for	external	purposes	in	accordance	with	generally	accepted	accounting	principles.	A	company's	internal	control	over	financial reporting	includes	those	policies	and	procedures	that	(1)	pertain	to	the	maintenance	of	records	that,	in	reasonable	detail,	accurately	and	fairly	reflect	the	transactions	and dispositions	of	the	assets	of	the	company;	(2)	provide	reasonable	assurance	that	transactions	are	recorded	as	necessary	to	permit	preparation	of	financial	statements	in accordance	with	generally	accepted	accounting	principles,	and	that	receipts	and	expenditures	of	the	company	are	being	made	only	in	accordance	with	authorizations	of management	and	directors	of	the	company;	and	(3)	provide	reasonable	assurance	regarding	prevention	or	timely	detection	of	unauthorized	acquisition,	use,	or disposition	of	the	company's	assets	that	could	have	a	material	effect	on	the	financial	statements.

In	our	opinion,	management's	assessment	that	Vertex	Pharmaceuticals	Incorporated	maintained	effective	internal	control	over	financial	reporting	as	of December	31,	2006,	is	fairly	stated,	in	all	material	respects,	based	on	the	COSO	criteria.	Also,	in	our	opinion,	Vertex	Pharmaceuticals	Incorporated	maintained,	in	all material	respects,	effective	internal	control	over	financial	reporting	as	of	December	31,	2006,	based	on	the	COSO	criteria.

We	also	have	audited,	in	accordance	with	the	standards	of	the	Public	Company	Accounting	Oversight	Board	(United	States),	the	consolidated	balance	sheets	of Vertex	Pharmaceuticals	Incorporated	as	of	December	31,	2006	and	2005,	and	the	related	consolidated	statements	of	operations,	stockholders'	equity	and	comprehensive loss,	and	cash	flows	for	each	of	the	two	years	in	the	period	ended	December	31,	2006	of	Vertex	Pharmaceuticals	Incorporated	and	our	report	dated	February	27,	2007 expressed	an	unqualified	opinion	thereon.

/s/	Ernst	&	Young	LLP

Boston,	Massachusetts

ITEM	9B.							OTHER	INFORMATION

# PART	III

# ITEM	10.									DIRECTORS,	EXECUTIVE	OFFICERS	AND	CORPORATE	GOVERNANCE

The	information	regarding	directors	required	by	this	Item	10	will	be	included	in	the	definitive	Proxy	Statement	for	our	2007	Annual	Meeting	of	Stockholders,	or 2007	Proxy	Statement,	under	"Election	of	Directors"	and	"Information	Regarding	the	Board	of	Directors	and	its	Committees"	and	is	incorporated	herein	by	reference. Other	information	required	by	this	Item	10	will	be	included	in	the	2007	Proxy	Statement	under	"Section	16(a)	Beneficial	Ownership	Reporting	Compliance"	and	"Code of	Conduct	and	Ethics"	and	is	incorporated	herein	by	reference.	The	information	regarding	executive	officers	required	by	this	Item	is	included	in	Part	I	of	this	Annual Report	on	Form	10-K.

The	information	required	by	this	Item	11	will	be	included	in	the	2007	Proxy	Statement	under	"Executive	Compensation,"	and	"Compensation	Committee	Interlocks and	Insider	Information,"	and	is	incorporated	herein	by	reference.

# ITEM	12.									SECURITY	OWNERSHIP	OF	CERTAIN	BENEFICIAL	OWNERS	AND	MANAGEMENT	AND	RELATED	STOCKHOLDER	MATTERS

The	information	required	by	this	Item	12	will	be	included	in	the	2007	Proxy	Statement	under	"Security	Ownership	of	Certain	Beneficial	Owners	and	Management" and	"Equity	Compensation	Plan	Information"	and	is	incorporated	herein	by	reference.

# ITEM	13.									CERTAIN	RELATIONSHIPS	AND	RELATED	TRANSACTIONS,	AND	DIRECTOR	INDEPENDENCE

The	information	required	by	this	Item	13	will	be	included	in	the	2007	Proxy	Statement	under	"Election	of	Directors"	and	"Transactions	with	Related	Persons"	and is	incorporated	herein	by	reference.

# ITEM	14.									PRINCIPAL	ACCOUNTANT	FEES	AND	SERVICES

The	information	required	by	this	Item	14	will	be	included	in	the	2007	Proxy	Statement	under	"Independent	Registered	Public	Accounting	Firm"	and	is	incorporated herein	by	reference.

# PART	IV

# ITEM	15.									EXHIBITS,	FINANCIAL	STATEMENT	SCHEDULES

(a)(1)	The	Financial	Statements	required	to	be	filed	by	Items	8	and	15(c)	of	Form	10-K,	and	filed	herewith,	are	as	follows:

(a)(2)	Financial	Statement	Schedules	have	been	omitted	because	they	are	either	not	applicable	or	the	required	information	is	included	in	the	consolidated	financial statements	or	notes	thereto.

| 4.6 | Supplemental	Indenture,	dated	as	of	December	12,	2000,	between	Vertex	and<br>State	Street	Bank	and	Trust	Company. |  | S-3/A<br>(Exhibit	4.2) | January	17,	2001 | 333-49844 |
| :--- | :--- | :--- | :--- | :--- | :--- |
| 4.7 |  |  | 8-K | February\t23,\t2004 | 000-19319 |
|  | Association. |  | (Exhibit\t4.1) |  |  |
| 4.8 |  |  | 8-K | September\t17,\t2004 | 000-19319 |
|  | National\tAssociation. |  | (Exhibit\t10.2) |  |  |
| 10.1 | Research\tand\tDevelopment\tAgreement,\tdated\tas\tof\tSeptember\t10,\t1997, |  | 10-Q | November\t12,\t1997 | 000-19319 |
|  | between\tVertex\tand\tKissei\tPharmaceutical\tCo.\tLtd.† |  | (Exhibit\t10.1) |  |  |
| 10.2 | Research\tAgreement\tand\tLicense\tAgreement,\tboth\tdated\tDecember\t16,\t1993, |  | 10-K | Year\tEnded | 000-19319 |
|  | between\tVertex\tand\tBurroughs\tWellcome\tCo.† |  | (Exhibit\t10.16) | December\t31,\t1993 |  |
| 10.3 | First\tRevised\tand\tRestated\tResearch\tand\tEarly\tDevelopment\tAgreement,\tdated |  | 10-K/A | September\t8,\t2004 | 000-19319 |
|  |  |  | (Exhibit\t10.35) |  |  |
| 10.4 | License,\tDevelopment\tand\tCommercialization\tAgreement,\tdated\tas\tof\tJune\t11, |  | 8-K/A | September\t10,\t2004 | 000-19319 |
|  | 2004,\tbetween\tVertex\tand\tMitsubishi\tPharma\tCorporation.† |  | (Exhibit\t99.2) |  |  |
| 10.5 | Research,\tDevelopment\tand\tCommercialization\tAgreement,\tdated\tas\tof |  | 8-K/A | September\t10,\t2004 | 000-19319 |
|  | May\t24,\t2004,\tbetween\tVertex\tand\tCystic\tFibrosis\tFoundation\tTherapeutics |  | (Exhibit\t99.2) |  |  |
|  | Incorporated.† |  |  |  |  |
| 10.6 | Amendment\tto\tResearch,\tDevelopment\tand\tCommercialization\tAgreement, |  | 10-K | March\t16,\t2006 | 000-19319 |
|  | dated\tas\tof\tJanuary\t6,\t2006,\tbetween\tVertex\tand\tCystic\tFibrosis\tFoundation |  | (Exhibit\t10.9) |  |  |
|  | Therapeutics\tIncorporated.† |  |  |  |  |
| 10.7 | Second\tAmendment\tto\tResearch,\tDevelopment\tand\tCommercialization |  | 10-Q | May\t10,\t2006 | 000-19319 |
|  | Agreement,\tdated\tas\tof\tMarch\t17,\t2006,\tbetween\tVertex\tand\tCystic\tFibrosis |  | (Exhibit\t10.1) |  |  |
|  | Foundation\tTherapeutics\tIncorporated.† |  |  |  |  |
| 10.8 | Exclusive\tResearch\tCollaboration,\tLicense\tand\tCommercialization\tAgreement, |  | 8-K/A | September\t10,\t2004 | 000-19319 |
|  | dated\tas\tof\tJune\t21,\t2004,\tbetween\tVertex\tPharmaceuticals\tIncorporated\tand |  | (Exhibit\t99.4) |  |  |
|  | Merck\t&amp;\tCo.,\tInc.† |  |  |  |  |
| 10.9 |  |  | 10-Q | August\t9,\t2006 | 000-19319 |
|  | Vertex\tPharmaceuticals\tIncorporated. |  | (Exhibit\t10.2) |  |  |
| 10.10 | Research,\tLicense\tand\tCommercialization\tAgreement,\tdated\tas\tof |  | 10-K | March\t16,\t2006 | 000-19319 |
|  | December\t12,\t2005,\tbetween\tVertex\tand\tGlaxo\tGroup\tLimited.† |  | (Exhibit\t10.11) |  |  |
| 10.11 | License,\tDevelopment,\tManufacturing\tand\tCommercialization\tAgreement, |  | 10-Q | August\t9,\t2006 | 000-19319 |
|  | dated\tJune\t30,\t2006,\tby\tand\tbetween\tVertex\tPharmaceuticals\tIncorporated\tand |  | (Exhibit\t10.1) |  |  |
|  | Janssen\tPharmaceutica,\tN.V.\t† |  |  |  |  |
| 10.12 | Lease,\tdated\tas\tof\tMarch\t3,\t1995,\tbetween\tFort\tWashington\tRealty\tTrust\tand |  | 10-K | Year\tEnded | 000-19319 |
|  | Vertex. |  | (Exhibit\t10.15) | December\t31,\t1994 |  |
| 10.13 | First\tAmendment\tto\tLease,\tdated\tas\tof\tDecember\t29,\t1995,\tbetween\tFort |  | 10-K | Year\tEnded | 000-19319 |
|  | Washington\tRealty\tTrust\tand\tVertex. |  | (Exhibit\t10.15) | December\t31,\t1995 |  |
| 10.14 | Second\tAmendment\tto\tLease,\tdated\tas\tof\tJune\t13,\t1997,\tbetween\tFort |  | (10-K | March\t26,\t1998 | 000-19319 |
|  | Washington\tRealty\tTrust\tand\tVertex. |  | (Exhibit\t10.20) |  |  |
| 10.15 | Third,\tFourth\tand\tFifth\tAmendments\tto\tLease\tbetween\tFort\tWashington\tRealty |  | (10-K | March\t26,\t2001 | 000-19319 |
|  | Trust\tand\tVertex.† |  | (Exhibit\t10.14) |  |  |
|  |  | 77 |  |  |  |
| 10.16 | Lease,\tdated\tas\tof\tSeptember\t17,\t1999,\tbetween\tTrustees\tof\tFort\tWashington |  | 10-Q | November\t15,\t1999 | 000-19319 |
|  | Realty\tTrust\tand\tVertex.† |  | (Exhibit\t10.27) |  |  |
| 10.17 | Lease,\tdated\tas\tof\tJanuary\t18,\t2001,\tbetween\tKendall\tSquare,\tLLC\tand |  | (10-K | March\t26,\t2001 | 000-19319 |
|  | Vertex.† |  | (Exhibit\t10.16) |  |  |
| 10.18 | Agreement\tfor\tLease,\tdated\tas\tof\tNovember\t4,\t1998,\tbetween\tMilton\tPark |  | 10-K | March\t30,\t1999 | 000-19319 |
|  | Limited,\tVertex\tand\tVertex\tPharmaceuticals\t(Europe)\tLimited. |  | (Exhibit\t10.21) |  |  |
| 10.19 |  |  | 10-K | March\t3,\t2000 | 000-19319 |
|  |  |  | (Exhibit\t10.1) |  |  |
| 10.20 | 1994\tStock\tand\tOption\tPlan,\tas\tamended\tand\trestated\tas\tof\tSeptember\t14, |  | 10-K | March\t3,\t2000 | 000-19319 |
|  | 1999.* |  | (Exhibit\t10.2) |  |  |
| 10.21 |  |  | 10-K | March\t16,\t2005 | 000-19319 |
|  |  |  | (Exhibit\t10.3) |  |  |
| 10.22 |  |  | 8-K | February\t9,\t2005 | 000-19319 |
|  |  |  | (Exhibit\t10.1) |  |  |
| 10.23 | Form\tof\tRestricted\tStock\tAgreement\tunder\t1996\tStock\tand\tOption\tPlan— |  | 8-K | February\t9,\t2005 | 000-19319 |
|  | Annual\tVesting.* |  | (Exhibit\t10.2) |  |  |
| 10.24 | Form\tof\tRestricted\tStock\tAgreement\tunder\t1996\tStock\tand\tOption\tPlan— |  | 8-K | February\t9,\t2005 | 000-19319 |
|  | Performance\tAccelerated\tRestricted\tStock.* |  | (Exhibit\t10.3) |  |  |
| 10.25 | Vertex\tPharmaceuticals\tIncorporated\t2006\tStock\tand\tOption\tPlan.* |  | 8-K | May\t15,\t2006 | 000-19319 |
|  |  |  | (Exhibit\t10.1) |  |  |
| 10.26 |  |  | 8-K | May\t15,\t2006 | 000-19319 |
|  |  |  | (Exhibit\t10.2) |  |  |
| 10.27 |  |  | 8-K | May\t15,\t2006 | 000-19319 |
|  |  |  | (Exhibit\t10.3) |  |  |
| 10.28 | Form\tof\tRestricted\tStock\tAward\t(Performance\tAccelerated\tRestricted\tStock) |  | 8-K | May\t15,\t2006 | 000-19319 |
|  | under\t2006\tStock\tand\tOption\tPlan.* |  | (Exhibit\t10.4) |  |  |
| 10.29 | Executive\tEmployment\tAgreement,\tdated\tas\tof\tNovember\t1,\t1994,\tbetween |  | 10-K | Year\tEnded | 000-19319 |
|  | Vertex\tand\tJoshua\tS.\tBoger.* |  | (Exhibit\t10.6) | December\t31,\t1994 |  |
| 10.30 | Amendment\tto\tEmployment\tAgreement,\tdated\tas\tof\tMay\t12,\t1995,\tbetween |  | 10-Q | Quarter\tEnded | 000-19319 |
|  | Vertex\tand\tJoshua\tS.\tBoger.* |  | (Exhibit\t10.1) | June\t30,\t1995 |  |
| 10.31 | Second\tAmendment\tto\tEmployment\tAgreement,\tdated\tas\tof\tNovember\t8, |  | 10-Q | November\t9,\t2004 | 000-19319 |
|  | 2004,\tbetween\tVertex\tand\tJoshua\tS.\tBoger.* |  | (Exhibit\t10.9) |  |  |
| 10.32 | Amended\tand\tRestated\tEmployment\tAgreement,\tdated\tas\tof\tNovember\t8, |  | 10-Q | November\t9,\t2004 | 000-19319 |
|  | 2004,\tbetween\tVertex\tand\tIan\tF.\tSmith.* |  | (Exhibit\t10.13) |  |  |
| 10.33 | Amended\tand\tRestated\tEmployment\tAgreement,\tdated\tas\tof\tNovember\t8, |  | 10-Q | November\t9,\t2004 | 000-19319 |
|  | 2004,\tbetween\tVertex\tand\tKenneth\tS.\tBoger.* |  | (Exhibit\t10.11) |  |  |
| 10.34 | Employment\tAgreement,\tdated\tas\tof\tFebruary\t15,\t2005,\tbetween\tVertex\tand |  | 10-Q | May\t9,\t2005 | 000-19319 |
|  | Victor\tHartmann.* |  | (Exhibit\t10.2) |  |  |

†																					Confidential	portions	of	these	documents	have	been	filed	separately	with	the	Securities	and	Exchange	Commission	pursuant	to	a	request	for	confidential	treatment.

# SIGNATURES

Pursuant	to	the	requirements	of	Section	13	or	15(d)	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.

Joshua	S.	Boger

Chief	Executive	Officer

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

/s/	MATTHEW	W.	EMMENS Matthew	W.	Emmens

Director

/s/	BRUCE	I.	SACHS

# The	Board	of	Directors	and	Shareholders	of	Vertex	Pharmaceuticals	Incorporated

We	have	audited	the	accompanying	consolidated	balance	sheets	of	Vertex	Pharmaceuticals	Incorporated	as	of	December	31,	2006	and	2005,	and	the	related consolidated	statements	of	operations,	stockholders'	equity	and	comprehensive	loss,	and	cash	flows	for	the	each	of	the	two	years	in	the	period	ended	December	31, 2006.	These	financial	statements	are	the	responsibility	of	the	Company's	management.	Our	responsibility	is	to	express	an	opinion	on	these	financial	statements	based	on our	audits.

We	conducted	our	audits	in	accordance	with	the	standards	of	the	Public	Company	Accounting	Oversight	Board	(United	States).	Those	standards	require	that	we plan	and	perform	the	audit	to	obtain	reasonable	assurance	about	whether	the	financial	statements	are	free	of	material	misstatement.	An	audit	includes	examining,	on	a test	basis,	evidence	supporting	the	amounts	and	disclosures	in	the	financial	statements.	An	audit	also	includes	assessing	the	accounting	principles	used	and	significant estimates	made	by	management,	as	well	as	evaluating	the	overall	financial	statement	presentation.	We	believe	that	our	audits	provide	a	reasonable	basis	for	our	opinion.

In	our	opinion,	the	financial	statements	referred	to	above	present	fairly,	in	all	material	respects,	the	consolidated	financial	position	of	Vertex	Pharmaceuticals Incorporated	at	December	31,	2006	and	2005,	and	the	consolidated	results	of	its	operations	and	its	cash	flows	for	each	of	the	two	years	in	the	period	ended	December	31, 2006,	in	conformity	with	U.S.	generally	accepted	accounting	principles.

As	discussed	in	Notes	B	and	D	to	the	consolidated	financial	statements,	on	January	1,	2006,	the	Company	adopted	the	provisions	of	Statement	of	Financial Accounting	Standards	No.	123(R),	Share-Based	Payment.

We	also	have	audited,	in	accordance	with	the	standards	of	the	Public	Company	Accounting	Oversight	Board	(United	States),	the	effectiveness	of	Vertex Pharmaceuticals	Incorporated's	internal	control	over	financial	reporting	as	of	December	31,	2006,	based	on	criteria	established	in	Internal	Control-Integrated	Framework issued	by	the	Committee	of	Sponsoring	Organizations	of	the	Treadway	Commission	and	our	report	dated	February	27,	2007	expressed	an	unqualified	opinion	thereon.

To	the	Board	of	Directors	and	Stockholders	of

In	our	opinion,	the	accompanying	consolidated	statements	of	operations,	of	stockholders'	equity	and	comprehensive	loss	and	of	cash	flows	for	the	year	ended December	31,	2004	present	fairly,	in	all	material	respects,	the	results	of	operations	and	cash	flows	of	Vertex	Pharmaceuticals	Incorporated	and	its	subsidiaries	for	the year	ended	December	31,	2004	in	conformity	with	accounting	principles	generally	accepted	in	the	United	States	of	America.	These	financial	statements	are	the responsibility	of	the	Company's	management.	Our	responsibility	is	to	express	an	opinion	on	these	financial	statements	based	on	our	audit.	We	conducted	our	audit	of these	statements	in	accordance	with	the	standards	of	the	Public	Company	Accounting	Oversight	Board	(United	States).	Those	standards	require	that	we	plan	and	perform the	audit	to	obtain	reasonable	assurance	about	whether	the	financial	statements	are	free	of	material	misstatement.	An	audit	includes	examining,	on	a	test	basis,	evidence supporting	the	amounts	and	disclosures	in	the	financial	statements,	assessing	the	accounting	principles	used	and	significant	estimates	made	by	management,	and evaluating	the	overall	financial	statement	presentation.	We	believe	that	our	audit	provides	a	reasonable	basis	for	our	opinion.

/s/	PricewaterhouseCoopers	LLP

Boston,	Massachusetts March	15,	2005

# Consolidated	Balance	Sheets

(In	thousands,	except	share	and	per	share	amounts)

| Assets | December	31,<br>2006 | 2005 |
| :--- | :--- | :--- |
| Current\tassets: |  |  |
| Cash\tand\tcash\tequivalents | $213,171 | $78,045 |
| Marketable\tsecurities,\tavailable\tfor\tsale,\tcurrent\tportion | 491,455 | 283,112 |
| Accounts\treceivable | 62,923 | 20,595 |
| Prepaid\texpenses | 3,857 | 3,303 |
| Total\tcurrent\tassets | 771,406 | 385,055 |

| Marketable	securities,	available	for	sale,	excluding	current	portion | 57,126 | 46,353 |
| :--- | :--- | :--- |
| Restricted\tcash | 30,258 | 41,482 |
| Property\tand\tequipment,\tnet | 61,535 | 54,533 |
| Investments | — | 18,863 |
| Other\tassets | 1,254 | 2,712 |
| Total\tassets | $921,579 | $548,998 |
| Liabilities\tand\tStockholders'\tEquity |  |  |
| Current\tliabilities: |  |  |
| Accounts\tpayable | $15,368 | $6,210 |
| Accrued\texpenses\tand\tother\tcurrent\tliabilities | 91,359 | 42,061 |
| Accrued\tinterest | 1,905 | 3,184 |
| Deferred\trevenues,\tcurrent\tportion | 33,889 | 31,449 |
| Accrued\trestructuring\texpense,\tcurrent\tportion | 4,735 | 14,351 |
| Convertible\tsubordinated\tnotes,\tcurrent\tportion | 42,102 | — |
| Convertible\tsenior\tsubordinated\tnotes,\tcurrent\tportion | 59,648 | — |
| Other\tobligations | 2,008 | 2,988 |
| Total\tcurrent\tliabilities | 251,014 | 100,243 |
| Accrued\trestructuring\texpense,\texcluding\tcurrent\tportion | 28,338 | 28,631 |
| Collaborator\tdevelopment\tloan | 19,997 | 19,997 |
| Deferred\trevenues,\texcluding\tcurrent\tportion | 116,295 | 851 |
| Convertible\tsubordinated\tnotes,\texcluding\tcurrent\tportion | — | 42,102 |
| Convertible\tsenior\tsubordinated\tnotes,\texcluding\tcurrent\tportion | — | 117,998 |
| Total\tliabilities | 415,644 | 309,822 |
| Commitments\tand\tcontingencies\t(Note\tK\tand\tNote\tR) |  |  |
| Stockholders'\tequity: |  |  |
| outstanding\tat\tDecember\t31,\t2006\tand\t2005,\trespectively | — | — |
| Common\tstock,\t$0.01\tpar\tvalue;\t200,000,000\tshares\tauthorized;\t126,121,473\tand |  |  |
| 108,153,149\tshares\tissued\tand\toutstanding\tat\tDecember\t31,\t2006\tand\t2005, |  |  |
| respectively | 1,244 | 1,081 |
| Additional\tpaid-in\tcapital | 1,702,128 | 1,243,960 |
| Deferred\tcompensation,\tnet | — | (13,408) |
| Accumulated\tother\tcomprehensive\tloss | (962) | (2,873) |
| Accumulated\tdeficit | (1,196,475) | (989,584) |
| Total\tstockholders'\tequity | 505,935 | 239,176 |
| Total\tliabilities\tand\tstockholders'\tequity | $921,579 | $548,998 |

The	accompanying	notes	are	an	integral	part	of	the	consolidated	financial	statements.

# Consolidated	Statements	of	Operations

# (In	thousands,	except	per	share	amounts)

| Revenues: | 2006 | Years	Ended	December	31,<br>2005 | 2004 |
| :--- | :--- | :--- | :--- |
| Royalties | $41,208 | $32,829 | $17,322 |
| Collaborative\tand\tother\tresearch\tand\tdevelopment\trevenues | 175,148 | 128,061 | 85,395 |
| Total\trevenues | 216,356 | 160,890 | 102,717 |
| Costs\tand\texpenses: |  |  |  |
| Royalty\tpayments | 12,170 | 10,098 | 5,649 |
| Research\tand\tdevelopment\texpenses\t(including\tstock-based |  |  |  |
| compensation\texpense:\t2006—$32,002,\t2005—$3,567,\t2004— |  |  |  |
| $1,366)(1) | 371,713 | 248,540 | 192,162 |
| Sales,\tgeneral\tand\tadministrative\texpenses\t(including\tstock-based |  |  |  |
| compensation\texpense:\t2006—$7,135,\t2005—$1,065,\t2004—$295) |  |  |  |
| (1) | 57,860 | 43,990 | 42,139 |
| Restructuring\texpense | 3,651 | 8,134 | 17,574 |
| Total\tcosts\tand\texpenses | 445,394 | 310,762 | 257,524 |
| Loss\tfrom\toperations | (229,038) | (149,872) | (154,807) |
| Interest\tincome | 23,024 | 11,994 | 10,323 |
| Interest\texpense | (7,955) | (17,326) | (18,317) |
| Realized\tgain\ton\tsale\tof\tinvestment | 11,183 | — | — |
| Loss\ton\texchange\tof\tconvertible\tsubordinated\tnotes | (5,151) | (48,213) | — |
| Loss\ton\tretirement\tof\tconvertible\tsubordinated\tnotes | — | — | (3,446) |
| Loss\tbefore\tcumulative\teffect\tof\ta\tchange\tin\taccounting\tprinciple | $ (207,937) | $ (203,417) | $ (166,247) |
| Cumulative\teffect\tof\ta\tchange\tin\taccounting\tprinciple—FAS\t123(R)(1) | 1,046 | — | — |
| Net\tloss | $ (206,891) | $ (203,417) | $ (166,247) |
| Basic\tand\tdiluted\tloss\tper\tcommon\tshare\tbefore\tcumulative\teffect\tof\ta |  |  |  |
| change\tin\taccounting\tprinciple | $(1.84) | $(2.28) | $(2.12) |
| Basic\tand\tdiluted\tcumulative\teffect\tof\ta\tchange\tin\taccounting\tprinciple |  |  |  |
| per\tcommon\tshare | 0.01 | — | — |
| Basic\tand\tdiluted\tnet\tloss\tper\tcommon\tshare | $(1.83) | $(2.28) | $(2.12) |
| Basic\tand\tdiluted\tweighted\taverage\tnumber\tof\tcommon\tshares\noutstanding | 113,221 | 89,241 | 78,571 |

(1)										The	Company	adopted	Financial	Accounting	Standards	Board	Statement	No.	123(R),	"Share-Based	Payment,"	using	a	modified	prospective	method.	See	Note	D	to the	Consolidated	Financial	Statements,	"Stock-based	Compensation,"	for	further	details.

# Consolidated	Statements	of	Stockholders'	Equity	and	Comprehensive	Loss

# (In	thousands)

|  | Common	Stock | Common	Stock | Additional<br>Paid-In | Deferred | Accumulated<br>Other<br>Comprehensive | Accumulated | Total<br>Stockholders' | Comprehensive |
| :--- | :--- | :--- | :--- | :--- | :--- | :--- | :--- | :--- |
|  | Shares | Amount | Capital | Compensation | Income\t(Loss) | Deficit | Equity | Income\t(Loss) |
| Balance,\tDecember\t31,\t2003 | 78,025 | 780 | 810,407 | (1,112) | 2,690 | (619,920) | 192,845 |  |
| Net\tchange\tin\tunrealized\tholding |  |  |  |  |  |  |  |  |
| losses\ton\tmarketable\tsecurities |  |  |  |  | (4,269) |  | (4,269) | $(4,269) |
| Translation\tadjustments |  |  |  |  | 205 |  | 205 | 205 |
| Net\tloss |  |  |  |  |  | (166,247) | (166,247) | (166,247) |
| Comprehensive\tloss |  |  |  |  |  |  |  | $(170,311) |
| Issuances\tof\tcommon\tstock: |  |  |  |  |  |  |  |  |
| Benefit\tplans | 2,740 | 27 | 23,425 | (12,206) |  |  | 11,246 |  |
| Amortization\tof\tdeferred |  |  |  |  |  |  |  |  |
| compensation |  |  |  | 1,661 |  |  | 1,661 |  |
| Balance,\tDecember\t31,\t2004 | 80,765 | 807 | 833,832 | (11,657) | (1,374) | (786,167) | 35,441 |  |
| Net\tchange\tin\tunrealized\tholding |  |  |  |  |  |  |  |  |
| losses\ton\tmarketable\tsecurities |  |  |  |  | (868) |  | (868) | $(868) |
| Translation\tadjustments |  |  |  |  | (631) |  | (631) | (631) |
| Net\tloss |  |  |  |  |  | (203,417) | (203,417) | (203,417) |
| Comprehensive\tloss |  |  |  |  |  |  |  | $(204,916) |
| Issuances\tof\tcommon\tstock: |  |  |  |  |  |  |  |  |
| Equity\tOffering | 13,513 | 135 | 165,251 |  |  |  | 165,386 |  |
| Convertible\tSubordinated\tNotes |  |  |  |  |  |  |  |  |
| exchanged | 10,578 | 106 | 203,424 |  |  |  | 203,530 |  |
| Benefit\tplans | 3,297 | 33 | 41,453 | (6,172) |  |  | 35,314 |  |
| Amortization\tof\tdeferred |  |  |  |  |  |  |  |  |
| compensation |  |  |  | 4,421 |  |  | 4,421 |  |
| Balance,\tDecember\t31,\t2005 | 108,153 | 1,081 | 1,243,960 | (13,408) | (2,873) | (989,584) | 239,176 |  |
| Net\tchange\tin\tunrealized\tholding |  |  |  |  |  |  |  |  |
| gains\ton\tmarketable\tsecurities |  |  |  |  | 1,704 |  | 1,704 | $1,704 |
| Translation\tadjustments |  |  |  |  | 207 |  | 207 | 207 |
| Net\tloss |  |  |  |  |  | (206,891) | (206,891) | (206,891) |
| Comprehensive\tloss |  |  |  |  |  |  |  | $(204,980) |
| Issuances\tof\tcommon\tstock: |  |  |  |  |  |  |  |  |
| Equity\tOffering | 10,000 | 100 | 313,618 |  |  |  | 313,718 |  |
| Convertible\tSubordinated\tNotes |  |  |  |  |  |  |  |  |
| exchanged | 4,065 | 41 | 64,197 |  |  |  | 64,238 |  |
| Benefit\tplans | 3,903 | 22 | 55,670 |  |  |  | 55,692 |  |
| Reversal\tof\tdeferred\tcompensation |  |  | (13,408) | 13,408 |  |  | — |  |
| Stock-based\tcompensation\texpense |  |  | 39,137 |  |  |  | 39,137 |  |
| Cumulative\teffect\tof\ta\tchange\tin |  |  |  |  |  |  |  |  |
| accounting\tprinciple—FAS |  |  |  |  |  |  |  |  |
| 123(R) |  |  | (1,046) |  |  |  | (1,046) |  |
|  |  |  |  |  | ) | ) | 505,935 |  |
| Balance,\tDecember\t31,\t2006 | 126,121 | 1,244 | 1,702,128 | — | (962 | (1,196,475 |  |  |

# Consolidated	Statements	of	Cash	Flows

| Cash	flows	from	operating	activities: | 2006 | Years	Ended	December	31,<br>2005 | 2004 |
| :--- | :--- | :--- | :--- |
| Net\tloss | $ (206,891) | $ (203,417) | $ (166,247) |
| Adjustments\tto\treconcile\tnet\tloss\tto\tnet\tcash\tused\tin\toperating |  |  |  |
| activities: |  |  |  |
| Depreciation\tand\tamortization | 25,868 | 27,289 | 29,640 |
| Stock-based\tcompensation\texpense | 39,137 | 4,632 | 1,661 |
| Other\tnon-cash\tbased\tcompensation\texpense | 3,341 | 2,898 | 2,504 |
| Cumulative\teffect\tof\ta\tchange\tin\taccounting\tprinciple | (1,046) | — | — |
| Loss\ton\tdisposal\tof\tproperty\tand\tequipment | 10 | 344 | 43 |
| Realized\tloss\t(gain)\ton\tmarketable\tsecurities | (7,579) | 60 | (423) |
| Realized\tgain\ton\twarrants | (3,520) | — | — |
| Charge\tfor\texchange\tof\tconvertible\tsubordinated\tnotes | 5,151 | 48,213 | — |
| Charge\tfor\tretirement\tof\ta\tportion\tof\t2007\tconvertible\tsubordinated |  |  |  |
| notes | — | — | 3,446 |
| Changes\tin\toperating\tassets\tand\tliabilities: |  |  |  |
| Accounts\treceivable | (42,328) | (8,704) | (4,567) |
| Prepaid\texpenses\tand\tother\tcurrent\tassets | (554) | (802) | 817 |
| Accounts\tpayable | 9,158 | (450) | (5,646) |
| Accrued\texpenses\tand\tother\tcurrent\tliabilities | 48,523 | 4,262 | 2,362 |

| Accrued	restructuring | (9,909) | (12,861) | (13,683) |
| :--- | :--- | :--- | :--- |
| Accrued\tinterest | 280 | 268 | 1,407 |
| Deferred\trevenue | 117,884 | (33,786) | 6,569 |
| Net\tcash\tused\tin\toperating\tactivities | (22,475) | (172,054) | (142,117) |
| Cash\tflows\tfrom\tinvesting\tactivities: |  |  |  |
| Purchases\tof\tmarketable\tsecurities | (508,085) | (236,489) | (148,506) |
| Sales\tand\tmaturities\tof\tmarketable\tsecurities | 302,265 | 243,410 | 292,351 |
| Sale\tof\twarrants | 18,369 | — | — |
| Expenditures\tfor\tproperty\tand\tequipment | (32,417) | (16,959) | (12,538) |
| Restricted\tcash | 11,224 | 8,365 | (23,786) |
| Investments\tand\tother\tassets | 173 | (59) | (136) |
| Net\tcash\t(used\tin)\tprovided\tby\tinvesting\tactivities | (208,471) | (1,732) | 107,385 |
| Cash\tflows\tfrom\tfinancing\tactivities: |  |  |  |
| Issuances\tof\tcommon\tstock\tfrom\temployee\tbenefit\tplans,\tnet | 52,363 | 32,205 | 8,742 |
| Issuances\tof\tcommon\tstock\tfrom\tstock\toffering,\tnet | 313,672 | 165,386 | — |
| Principal\tpayments\ton\tcapital\tleases\tand\tother\tobligations | — | — | (12,563) |
| Issuance\tcosts\trelated\tto\t2011\tconvertible\tsenior\tsubordinated\tnotes | — | (16) | (4,805) |
| Exchange\tcosts | (170) | (119) | — |
| Net\tcash\tprovided\tby\t(used\tin)\tfinancing\tactivities | 365,865 | 197,456 | (8,626) |
| Effect\tof\tchanges\tin\texchange\trates\ton\tcash | 207 | (631) | 205 |
| Net\tincrease\t(decrease)\tin\tcash\tand\tcash\tequivalents | 135,126 | 23,039 | (43,153) |
| Cash\tand\tcash\tequivalents—beginning\tof\tperiod | 78,045 | 55,006 | 98,159 |
| Cash\tand\tcash\tequivalents—end\tof\tperiod | $213,171 | $78,045 | $55,006 |
| Supplemental\tdisclosure\tof\tcash\tflow\tinformation: |  |  |  |
| Cash\tpaid\tfor\tinterest | $7,212 | $16,077 | $15,597 |
| Cash\tpaid\tfor\ttaxes | $— $— $— | $— $— $— | $— $— $— |

# Notes	to	Consolidated	Financial	Statements

# A.	The	Company

Vertex	Pharmaceuticals	Incorporated	("Vertex"	or	the	"Company")	is	in	the	business	of	discovering,	developing	and	commercializing	small	molecule	drugs	for	the treatment	of	serious	diseases.	The	Company	intends	to	continue	investing	in	and	building	capabilities	in	research,	development	and	commercialization	of	pharmaceutical products	while	it	advances	its	drug	candidates	to	market.	Vertex	earns	royalty	revenues	from	the	sale	of	Lexiva/Telzir	(fosamprenavir	calcium),	an	HIV	protease inhibitor	for	the	treatment	of	HIV.

The	Company	currently	is	concentrating	most	of	its	drug	development	resources	on	four	drug	candidates:	telaprevir	(VX-950)	for	the	treatment	of	hepatitis	C	virus infection;	VX-702	for	the	treatment	of	rheumatoid	arthritis	and	other	inflammatory	diseases;	VX-770	for	the	treatment	of	cystic	fibrosis;	and	VX-883	for	the	treatment	of bacterial	infection.	In	June	2006,	the	Company	entered	into	a	collaboration	agreement	with	Janssen	Pharmaceutica,	N.V.,	a	Johnson	&	Johnson	company,	relating	to telaprevir.	Under	the	collaboration	agreement,	the	Company	has	retained	exclusive	commercial	rights	to	telaprevir	in	North	America	and	will	lead	the	development program.	Janssen	has	agreed	to	be	responsible	for	50%	of	the	drug	development	costs	under	the	development	program	for	North	America	and	the	Janssen	territories.	The Company's	pipeline	also	includes	several	drug	candidates	that	are	being	developed	by	its	collaborators	including	Merck	&	Co.,	Inc.,	GlaxoSmithKline	plc	and	Avalon Pharmaceuticals,	Inc.

Vertex	is	subject	to	risks	common	to	companies	in	its	industry	including,	but	not	limited	to,	rapid	technological	change	and	competition,	uncertain	protection	of proprietary	technology,	the	dependence	on	the	success	of	the	Company's	lead	drug	candidate	telaprevir,	uncertainty	about	clinical	trial	outcomes,	the	need	to	comply with	government	regulations,	share	price	volatility,	the	need	to	obtain	additional	funding,	uncertainties	relating	to	pharmaceutical	pricing	and	reimbursement, dependence	on	collaborative	relationships,	potential	product	liability	and	limited	experience	in	drug	development,	manufacturing,	and	sales	and	marketing.	The Company	expects	to	incur	operating	losses	for	the	foreseeable	future,	as	a	result	of	expenditures	for	its	research,	development	and	commercialization	programs.

# B.	Accounting	Policies

# Basis	of	Presentation

The	consolidated	financial	statements	reflect	the	operations	of	the	Company	and	its	wholly-owned	subsidiaries.	All	significant	intercompany	balances	and transactions	have	been	eliminated.	The	Company	operates	in	one	segment,	Pharmaceuticals,	and	all	revenues	are	from	United	States	operations.

# Use	of	Estimates

The	preparation	of	consolidated	financial	statements	in	conformity	with	U.S.	generally	accepted	accounting	principles	requires	management	to	make	certain estimates	and	assumptions	that	affect	the	reported	amounts	of	assets	and	liabilities	and	disclosure	of	contingent	assets	and	liabilities	at	the	date	of	the	consolidated financial	statements,	and	the	reported	amounts	of	revenues	and	expenses	during	the	reported	periods.	Significant	estimates	in	these	consolidated	financial	statements have	been	made	in	connection	with	the	calculation	of	revenues,	research	and	development	expenses,	stock-based	compensation	expense,	investments	and	restructuring expense.	The	Company	bases	its	estimates	on	historical	experience	and	various	other	assumptions	that	management	believes	to	be	reasonable	under	the	circumstances. Actual	results	could	differ	from	those	estimates.	Changes	in	estimates	are	reflected	in	reported	results	in	the	period	in	which	they	become	known.

Notes	to	Consolidated	Financial	Statements	(Continued)

B.	Accounting	Policies	(Continued)

Reclassification	in	the	Preparation	of	Financial	Statements

Certain	amounts	in	prior	years'	financial	statements	have	been	reclassified	to	conform	to	the	current	presentation.	The	reclassifications	had	no	effect	on	the	reported net	loss.

# Concentration	of	Credit	Risk

Financial	instruments	that	potentially	subject	the	Company	to	concentration	of	credit	risk	consist	principally	of	money	market	funds	and	marketable	securities.	The Company	places	these	investments	with	highly	rated	financial	institutions,	and,	by	policy,	limits	the	amounts	of	credit	exposure	to	any	one	financial	institution.	These amounts	at	times	may	exceed	federally	insured	limits.	The	Company	has	not	experienced	any	credit	losses	in	these	accounts	and	does	not	believe	it	is	exposed	to	any significant	credit	risk	on	these	funds.	The	Company	has	no	foreign	exchange	contracts,	option	contracts	or	other	foreign	exchange	hedging	arrangements.

To	date,	the	Company's	revenues	have	been	generated	from	a	limited	number	of	customers	in	the	biotechnology	and	pharmaceuticals	industries	in	the	United States,	Europe	and	Japan.	In	2006,	the	Company	had	significant	revenue	transactions	with	Janssen,	Merck	and	GlaxoSmithKline	that	accounted	for	31%,	27%	and	20% respectively,	of	the	Company's	total	revenues.	In	2005,	the	Company	had	significant	revenue	transactions	with	Novartis	Pharma	AG,	GlaxoSmithKline	and	Merck	that accounted	for	33%,	33%	and	15%	respectively,	of	the	Company's	total	revenues.	In	2004,	revenue	transactions	with	Novartis	and	GlaxoSmithKline	accounted	for	49% and	19%,	respectively,	of	the	Company's	total	revenues.

Receivables	from	Janssen	and	GlaxoSmithKline	represented	approximately	63%	and	22%,	respectively,	of	the	Company's	accounts	receivable	balance	at December	31,	2006.	Receivables	from	GlaxoSmithKline	and	Novartis	represented	approximately	46%	and	22%,	respectively,	of	the	Company's	accounts	receivable balance	at	December	31,	2005.	Management	believes	that	credit	risks	associated	with	these	collaborators	are	not	significant.

# Cash	and	Cash	Equivalents

The	Company	considers	all	highly	liquid	investments	with	original	maturities	of	three	months	or	less	at	the	date	of	purchase	to	be	cash	equivalents.	Cash equivalents	consist	principally	of	money	market	funds	and	debt	securities.	Changes	in	cash	and	cash	equivalents	may	be	effected	by	shifts	in	investment	portfolio maturities	as	well	as	by	actual	cash	receipts	and	disbursements.

# Marketable	Securities

Marketable	securities	consist	of	investments	in	municipal	bond	securities,	U.S.	government	agency	securities,	U.S.	government-sponsored	enterprises	securities,	high- grade	corporate	bonds	and	asset-backed	securities	that	are	classified	as	available-for-sale.	The	Company	classifies	marketable	securities	available	to	fund	current operations	as	current	assets	on	the	consolidated	balance	sheets.	Marketable	securities	are	classified	as	long-term	assets	on	the	consolidated	balance	sheets	if	(i)	they	have been	in	an	unrealized	loss	position	for	longer	than	one	year	and	(ii)	the	Company	has	the	ability	and	intent	to	hold	them	(a)	until	the	carrying	value	is	recovered	and (b)	such	holding	period	may	be	longer	than	one	year.	Marketable	securities	are	stated	at	fair	value	with	their	unrealized	gains	and	losses	included	as	a	component	of accumulated	other	comprehensive	loss,	which	is	a	separate	component	of	stockholders'	equity,	until	such	gains	and	losses	are	realized.	The	fair	value	of	these	securities is	based	on	quoted	market	prices.	If	a	decline	in	the	fair	value	is	considered	other-than-temporary,	based	on	available	evidence,	the	unrealized	loss	is	transferred	from other	comprehensive	loss	to	the	consolidated	statements	of	operations.	There	were	no	write-downs	of	marketable	securities	in	2006,	2005	or	2004.	Realized	gains	and losses	are	determined	on

the	specific	identification	method	and	are	included	in	interest	income	in	the	consolidated	statements	of	operations.

# Stock-Based	Compensation

The	Company	adopted	Financial	Accounting	Standards	Board	Statement	No.	123(R),	"Share-Based	Payment"	("FAS	123(R)"),	as	of	January	1,	2006.	FAS 123(R)	revises	Financial	Accounting	Standards	Board	Statement	No.	123,	"Accounting	for	Stock-Based	Compensation"	("FAS	123"),	supersedes	Accounting	Principles Board	("APB")	Opinion	No.	25,	"Accounting	for	Stock	Issued	to	Employees"	("APB	25"),	and	amends	Financial	Accounting	Standards	Board	Statement	Statement No.	95,	"Statement	of	Cash	Flows"	("FAS	95").	FAS	123(R)	requires	companies	to	expense	the	fair	value	of	employee	stock	options	and	other	forms	of	stock-based employee	compensation	over	the	employees'	service	periods.	Compensation	cost	is	measured	at	the	fair	value	of	the	award	at	the	grant	date,	including	estimated forfeitures,	and	is	adjusted	to	reflect	actual	forfeitures	and	the	outcomes	of	certain	conditions.

In	accordance	with	Financial	Accounting	Standards	Board	Statement	No.	148,	"Accounting	for	Stock-Based	Compensation,	Transition	and	Disclosure" ("FAS	148"),	for	periods	prior	to	January	1,	2006,	the	Company	adopted	the	disclosure-only	provisions	of	FAS	123	and	also	applied	APB	25	and	related	interpretations in	accounting	for	all	stock	awards	granted	to	employees.	Under	APB	25,	for	periods	prior	to	January	1,	2006,	provided	that	other	criteria	are	met,	when	the	exercise price	of	options	equaled	the	market	price	of	the	common	stock	on	the	date	of	grant,	no	compensation	expense	was	recognized.	Also	in	accordance	with	APB	25	the Company	was	not	required	to	record	compensation	expense	for	shares	issued	under	the	ESPP.	Prior	to	January	1,	2006	and	in	accordance	with	APB	25,	the	Company recorded	stock-based	compensation	expense	related	to	restricted	stock	awards	over	the	related	vesting	period	for	an	amount	equal	to	the	difference	between	the	price	per share	of	restricted	stock	issued	and	the	fair	value	of	the	Company's	common	stock	at	the	date	of	grant	or	issuance.	The	Company	recorded	forfeitures	of	restricted	stock as	they	occurred.

Please	refer	to	Note	D,	"Stock-based	Compensation,"	for	further	information.

# Restructuring

The	Company	records	costs	and	liabilities	associated	with	exit	and	disposal	activities,	as	defined	in	Financial	Accounting	Standards	Board	Statement	No.	146, "Accounting	for	Costs	Associated	with	Exit	or	Disposal	Activities"	("FAS	146"),	at	fair	value	in	the	period	the	liability	is	incurred.	In	periods	subsequent	to	initial measurement,	changes	to	a	liability	are	measured	using	the	credit-adjusted	risk-free	discount	rate	applied	in	the	initial	period.	In	2006,	2005	and	2004,	the	Company recorded	costs	and	liabilities	for	exit	and	disposal	activities	related	to	a	restructuring	plan	in	accordance	with	FAS	146.	The	liability	is	evaluated	and	adjusted	as appropriate	on	at	least	a	quarterly	basis	for	changes	in	circumstances.

Please	refer	to	Note	E,	"Restructuring,"	for	further	information.

The	Company	recognizes	revenue	in	accordance	with	the	Securities	and	Exchange	Commission's	("SEC")	Staff	Accounting	Bulletin	No.	101,	"Revenue Recognition	in	Financial	Statements"	("SAB	101"),	as	amended	by	SEC	Staff	Accounting	Bulletin	No.	104,	"Revenue	Recognition"	("SAB	104"),	and	for	revenue arrangements	entered	into	after	June	30,	2003,	Emerging	Issues	Task	Force	Issue	No.	00-21,	"Revenue	Arrangements	with	Multiple	Deliverables"	("EITF	00-21").

The	Company's	revenues	are	generated	primarily	through	collaborative	research,	development	and	commercialization	agreements.	The	terms	of	these	agreements typically	include	payment	to	Vertex	of	one

or	more	of	the	following:	non-refundable,	up-front	license	fees,	funding	of	research	and/or	development	efforts,	milestone	payments	and	royalties	on	product	sales.

Agreements	containing	multiple	elements	are	divided	into	separate	units	of	accounting	if	certain	criteria	are	met,	including	whether	the	delivered	element	has	stand- alone	value	to	the	customer	and	whether	there	is	objective	and	reliable	evidence	of	fair	value	of	the	undelivered	obligation(s).	The	consideration	received	is	allocated among	the	separate	units	based	on	their	respective	fair	values	or	the	residual	method,	and	the	applicable	revenue	recognition	criteria	are	applied	to	each	of	the	separate units.

The	Company	recognizes	revenues	from	non-refundable,	up-front	license	fees	on	a	straight-line	basis	over	the	contracted	or	estimated	period	of	performance,	which is	typically	the	research	or	development	term.	Research	and	development	funding	is	recognized	as	earned,	ratably	over	the	period	of	effort.

Substantive	milestones	realized	in	collaboration	arrangements	are	recognized	as	earned	when	the	corresponding	payment	is	reasonably	assured,	subject	to	the following	policies	in	those	circumstances	where	the	Company	has	obligations	remaining	after	achievement	of	the	milestone:

·							In	those	circumstances	where	collection	of	a	substantive	milestone	is	reasonably	assured,	the	Company	has	remaining	obligations	to	perform	under	the collaboration	arrangement	and	the	Company	has	sufficient	evidence	of	fair	value	for	its	remaining	obligations,	management	considers	the	milestone	payment	and the	remaining	obligations	to	be	separate	units	of	accounting.	In	these	circumstances,	the	Company	uses	the	residual	method	under	EITF	00-21	to	allocate revenue	among	the	milestones	and	the	remaining	obligations.

·							In	those	circumstances	where	collection	of	a	substantive	milestone	is	reasonably	assured,	the	Company	has	remaining	obligations	to	perform	under	the collaboration	arrangement	and	the	Company	does	not	have	sufficient	evidence	of	fair	value	for	its	remaining	obligations,	management	considers	the	milestone payment	and	the	remaining	obligations	under	the	contract	as	a	single	unit	of	accounting.	In	those	circumstances	where	the	collaboration	does	not	require	specific deliverables	at	specific	times	or	at	the	end	of	the	contract	term,	but	rather	the	Company's	obligations	are	satisfied	over	a	period	of	time,	substantive	milestones are	recognized	over	the	period	of	performance.	This	typically	results	in	a	portion	of	the	milestone	payment	being	recognized	as	revenue	on	the	date	the	milestone is	achieved	equal	to	the	applicable	percentage	of	the	performance	period	that	has	elapsed	as	of	the	date	the	milestone	is	achieved,	with	the	balance	being	deferred and	recognized	over	the	remaining	period	of	performance.

The	Company	evaluates	whether	milestones	are	substantive	at	the	inception	of	the	agreement	based	on	the	contingent	nature	of	the	milestone,	specifically reviewing	factors	such	as	the	scientific	and	other	risks	that	must	be	overcome	to	achieve	the	milestone	as	well	as	the	level	of	effort	and	investment	required.	Milestones that	are	not	considered	substantive	and	do	not	meet	the	separation	criteria	are	accounted	for	as	license	payments	and	recognized	on	a	straight-line	basis	over	the remaining	period	of	performance.

Royalty	revenues	are	recognized	based	upon	actual	and	estimated	net	sales	of	licensed	products	in	licensed	territories,	as	provided	by	the	licensee,	and	are recognized	in	the	period	the	sales	occur.	Differences	between	actual	royalty	revenues	and	estimated	royalty	revenues,	which	have	not	historically	been	significant,	are reconciled	and	adjusted	for	in	the	quarter	during	which	they	become	known.

All	research	and	development	expenses,	including	amounts	funded	by	research	collaborations,	are	expensed	as	incurred.	Research	and	development	expenses	are comprised	of	costs	incurred	in	performing

research	and	development	activities,	including	salaries	and	benefits;	laboratory	supplies;	contract	services,	including	clinical	trial	costs	and	pharmaceutical	development costs;	stock-based	compensation	expense;	and	infrastructure	costs,	including	facilities	costs		and	depreciation.	Due	to	telaprevir's	stage	of	development,	costs	related	to the	investment	in	its	commercial	supply	are	included	in	research	and	development	expenses.	The	Company's	collaborators	have	funded	portions	of	the	Company's research	and	development	programs	related	to	specific	drug	candidates	and	research	targets,	including,	in	2006,	telaprevir,	VX-702,	VX-770,	kinases	and	certain	cystic fibrosis	research	targets;	and	in	2005,	telaprevir,	VX-702,	kinases	and	certain	cystic	fibrosis	research	targets;	and	in	2004,	telaprevir,	kinases,	caspase	inhibitors,	and certain	cystic	fibrosis	research	targets.

The	following	table	details	the	research	and	development	expenses	incurred	by	the	Company	for	collaborator-sponsored	and	Company-sponsored	programs (collaborator-sponsored	programs	are	those	in	which	a	collaborator	has	funded	at	least	a	portion	of	the	related	program	expenses,	such	as	the	telaprevir	program)	for 2006,	2005	and	2004	(in	thousands):

|  | Research | 2006<br>Development | Total | Research | 2005<br>Development | Total | Research | 2004<br>Development | Total |
| :--- | :--- | :--- | :--- | :--- | :--- | :--- | :--- | :--- | :--- |
| Collaborator-sponsored | $39,021 | $178,253 | $217,274 | $68,194 | $72,101 | $140,295 | $62,181 | $28,294 | $90,475 |
| Company-sponsored | 103,626 | 50,813 | 154,439 | 52,585 | 55,660 | 108,245 | 51,095 | 50,592 | 101,687 |
| Total | $142,647 | $229,066 | $371,713 | $120,779 | $127,761 | $248,540 | $113,276 | $78,886 | $192,162 |

The	total	research	and	development	expenses	for	2006,	2005	and	2004	includes	$32.0	million,	$3.6	million	and	$1.4	million,	respectively,	of	stock-based compensation	expense.

# Property	and	Equipment

Property	and	equipment	are	recorded	at	cost.	Depreciation	and	amortization	is	provided	using	the	straight-line	method	over	the	estimated	useful	life	of	the	related asset,	generally	four	to	seven	years	for	furniture	and	equipment	and	three	to	five	years	for	computers	and	software.	Leasehold	improvements	are	amortized	using	the straight-line	method	over	the	lesser	of	the	useful	life	of	the	improvements	or	the	remaining	life	of	the	associated	lease.	Major	additions	and	betterments	are	capitalized; maintenance	and	repairs	to	an	asset	that	do	not	improve	or	extend	its	life	are	charged	to	operations.	When	assets	are	retired	or	otherwise	disposed	of,	the	assets	and related	allowances	for	depreciation	and	amortization	are	eliminated	from	the	accounts	and	any	resulting	gain	or	loss	is	reflected	in	the	Company's	consolidated statements	of	operations.

# Investments

Investments	include	long-term	investments	recorded	using	the	cost	method	of	accounting.	When	the	Company	holds	an	ownership	interest	in	an	entity	of	less	than 20%,	and	does	not	have	the	ability	to	exercise	significant	influence	over	the	entity's	operating	activities,	the	Company	accounts	for	its	investment	using	the	cost	method. If	any	adjustment	to	the	fair	value	of	an	investment	reflects	a	decline	in	the	value	of	that	investment	below	its	cost,	the	Company	considers	the	evidence	available	to	it, including	the	duration	and	extent	to	which	the	market	value	of	the	investment	has	been	less	than	cost,	to	evaluate	the	extent	to	which	the	decline	is	other-than-temporary.

If	the	decline	is	considered	other-than-temporary,	the	cost	basis	of	the	investment	is	written	down	to	fair	value	as	a	new	cost	basis	and	the	amount	of	the	write-down	is included	in	the	Company's	consolidated	statements	of	operations.	There	were	no	write-downs	of	investments	in	2006,	2005	or	2004.	Please	refer	to	Note	I,	"Altus Investment,"	for	further	information	about	the	Company's	investment	in	Altus	Pharmaceuticals,	Inc.

# Income	Taxes

Deferred	tax	assets	and	liabilities	are	recognized	for	the	expected	future	tax	consequences	of	temporary	differences	between	the	financial	statement	carrying amounts	and	the	income	tax	bases	of	assets	and	liabilities.	A	valuation	allowance	is	applied	against	any	net	deferred	tax	asset	if,	based	on	the	weighted	available evidence,	it	is	more	likely	than	not	that	some	or	all	of	the	deferred	tax	assets	will	not	be	realized.

# Debt	Issuance	Costs

Debt	issuance	costs	incurred	to	complete	Vertex's	convertible	subordinated	note	offerings	are	deferred	and	included	in	other	assets	on	the	consolidated	balance sheets.	The	costs	are	amortized	based	on	the	effective	interest	method	over	the	term	of	the	related	debt	issuance.	The	amortization	expense	is	included	in	interest	expense on	the	consolidated	statements	of	operations.	Unamortized	costs	related	to	exchanged	debt	is	transferred	from	other	assets	to	additional	paid-in	capital	on	the consolidated	balance	sheets.

# Stock	Offering	Costs

Expenses	incurred	in	connection	with	common	stock	issuances	are	recorded	as	an	offset	to	additional	paid-in	capital	on	the	consolidated	balance	sheets.

# Comprehensive	Loss

Comprehensive	loss	consists	of	net	loss	and	other	comprehensive	loss,	which	includes	foreign	currency	translation	adjustments	and	unrealized	gains	and	losses	on certain	marketable	securities.	For	purposes	of	comprehensive	loss	disclosures,	the	Company	does	not	record	tax	provisions	or	benefits	for	the	net	changes	in	foreign currency	translation	adjustment,	as	the	Company	intends	to	permanently	reinvest	undistributed	earnings	in	its	foreign	subsidiary.

# Foreign	Currency	Translation

The	functional	currency	of	the	Company's	foreign	subsidiary	is	the	local	currency.	Assets	and	liabilities	of	the	foreign	subsidiary	are	re-measured	into	U.S.	dollars at	rates	of	exchange	in	effect	at	the	end	of	the	year.	Revenue	and	expense	amounts	are	re-measured	using	the	average	exchange	rates	for	the	period.	Net	unrealized	gains and	losses	resulting	from	foreign	currency	translation	are	included	in	other	comprehensive	loss,	which	is	a	separate	component	of	stockholders'	equity.	Included	in	other comprehensive	loss	is	a	net	unrealized	gain	related	to	foreign	currency	translation	of	$189,000	at	December	31,	2006,	a	net	unrealized	loss	related	to	foreign	currency translation	of	$18,000	at	December	31,	2005	and	a	net	unrealized	gain	related	to	foreign	currency	translation	of	$613,000	at	December	31,	2004.

# Basic	and	Diluted	Net	Loss	per	Common	Share

Basic	net	loss	per	share	is	based	upon	the	weighted	average	number	of	common	shares	outstanding	during	the	period,	excluding	restricted	stock	that	has	been issued	but	is	not	yet	vested.	Diluted	net	loss	per	share	is	based	upon	the	weighted	average	number	of	common	shares	outstanding	during	the	period	plus	additional weighted	average	common	equivalent	shares	outstanding	during	the	period	when	the	effect	is	dilutive.	Common	equivalent	shares	result	from	the	exercise	of	outstanding stock	options	(the	proceeds	of

which	are	then	assumed	to	have	been	used	to	repurchase	outstanding	stock	using	the	treasury	stock	method),	the	assumed	conversion	of	convertible	notes	and	the vesting	of	unvested	restricted	shares	of	common	stock.	Common	equivalent	shares	have	not	been	included	in	the	net	loss	per	share	calculations	because	their	effect would	have	been	anti-dilutive.	Total	potential	gross	common	equivalent	shares	consisted	of	the	following	(in	thousands,	except	per	share	amounts):

|  | 2006 | At	December	31,<br>2005 | 2004 |
| :--- | :--- | :--- | :--- |
| Stock\tOptions | 14,279 | 14,669 | 15,820 |
| Weighted-average\texercise\tprice\t(per\tshare) | $26.44 | $22.84 | $22.67 |
| Convertible\tNotes | 4,449 | 8,354 | 16,454 |
| Weighted-average\tconversion\tprice\t(per\tshare) | $22.87 | $19.16 | $19.15 |
| Unvested\trestricted\tshares | 1,764 | 1,521 | 1,399 |

# New	Accounting	Pronouncements

Generally	accepted	accounting	principles	have	required	different	measurement	attributes	for	different	assets	and	liabilities	that	can	create	artificial	volatility	in earnings.		FASB	has	indicated	it	believes	that	FAS	159	helps	to	mitigate	this	type	of	accounting-induced	volatility	by	enabling	companies	to	report	related	assets	and liabilities	at	fair	value,	which	would	likely	reduce	the	need	for	companies	to	comply	with	detailed	rules	for	hedge	accounting.

For	example,	FAS	159	requires	companies	to	provide	additional	information	that	will	help	investors	and	other	users	of	financial	statements	to	more	easily understand	the	effect	of	the	company's	choice	to	use	fair	value	on	its	earnings.	It	also	requires	entities	to	display	the	fair	value	of	those	assets	and	liabilities	for	which	the company	has	chosen	to	use	fair	value	on	the	face	of	the	balance	sheet.		FAS	159	does	not	eliminate	disclosure	requirements	included	in	other	accounting	standards, including	requirements	for	disclosures	about	fair	value	measurements	included	in	FASB	Statement	No.	157,	"Fair	Value	Measurements"	("FAS	157"),	and	FASB Statement	No.	107,	"Disclosures	about	Fair	Value	of	Financial	Instruments."

FAS	159	is	effective	as	of	the	beginning	of	a	company's	first	fiscal	year	beginning	after	November	15,	2007.		Early	adoption	is	permitted	as	of	the	beginning	of	the previous	fiscal	year	provided	that	the	company	makes	that	choice	in	the	first	120	days	of	that	fiscal	year	and	also	elects	to	apply	the	provisions	of	FAS		157.

In	September	2006,	FASB	issued	FAS	157.	FAS	157	provides	guidance	for	using	fair	value	to	measure	assets	and	liabilities	and	requires	additional	disclosure	about the	use	of	fair	value	measures,	the	information	used	to	measure	fair	value,	and	the	effect	fair-value	measurements	have	on	earnings.	FAS	157	does	not	require	any	new fair	value	measurements.	FAS	157	will	be	effective	for	the	Company	beginning

January	1,	2008.	The	Company	is	currently	evaluating	the	effect	of	FAS	157	on	its	consolidated	financial	statements.

In	June	2006,	FASB	issued	FASB	Interpretation	No.	48,	"Accounting	for	Uncertainty	in	Income	Taxes—an	interpretation	of	FASB	Statement	No.	109"	("FIN 48").	FIN	48	clarifies	the	accounting	for	uncertainty	in	income	taxes	recognized	in	an	enterprise's	financial	statements	in	accordance	with	Statement	of	Financial Accounting	Standards	No.	109,	"Accounting	for	Income	Taxes."	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.	FIN	48	also	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	is	currently evaluating	FIN	48	and	believes	the	adoption	of	FIN	48	will	not	have	a	material	effect	on	the	Company's	consolidated	financial	statements.

In	May	2005,	FASB	issued	Statement	No.	154,	"Accounting	Changes	and	Error	Corrections	("FAS	154")."	FAS	154	replaces	APB	Opinion	No.	20,	"Accounting Changes"	and	Statement	No.3,	"Reporting	Accounting	Changes	in	Interim	Financial	Statements."	FAS	154	requires	retrospective	application	to	prior	periods'	financial statements	of	changes	in	accounting	principle,	unless	it	is	impractible	to	determine	either	the	period-specific	effects	or	the	cumulative	effect	of	the	change.	The	Company adopted	FAS	154	beginning	on	January	1,	2006.	Its	adoption	did	not	have	a	material	effect	on	the	Company's	consolidated	financial	statements.

In	November	2005,	FASB	issued	a	FASB	Staff	Position	("FSP")	on	FAS	115-1	and	FAS	124-1,	"The	Meaning	of	Other-Than-Temporary	Impairment	and	Its Application	to	Certain	Investments"	("FSP	FAS	115-1"),	which	provides	guidance	on	determining	when	investments	in	certain	debt	and	equity	securities	are	considered impaired,	whether	an	impairment	is	other-than-temporary,	and	on	measuring	such	impairment	loss.	FSP	FAS	115-1	also	includes	accounting	considerations	subsequent to	the	recognition	of	an	other-than-temporary	impairment	and	requires	certain	disclosures	about	unrealized	losses	that	have	not	been	recognized	as	other-than-temporary impairments.	FSP	FAS	115-1	is	required	to	be	applied	to	reporting	periods	beginning	after	December	15,	2005.	The	Company	adopted	FSP	FAS	115-1	in	the	first quarter	of	2006.	Adoption	of	FSP	FAS	115-1	did	not	have	a	material	effect	on	the	Company's	consolidated	financial	statements.

# C.	Common	and	Preferred	Stock

# Stock	and	Option	Plans

Under	the	2006	Plan,	the	Company	may	issue	restricted	stock	and	options	to	its	employees,	directors	and	consultants	for	services.	Stock	options	may	be	granted under	the	2006	Plan	either	as	options	intended	to	qualify	as	"incentive	stock	options"	("ISOs")	under	the	Internal	Revenue	Code	or	as	non-qualified	stock	options ("NQSOs").	Each	option	granted	under	the	2006	Plan	has	an	exercise	price	equal	to	the	fair	market	value	of	the	underlying	common	stock	on	the	date	of	grant.	For options	issued	to	current	employees,	the	date	of	grant	is	the	date	the	option	grant	is	approved	by	the	Company's	Board	of	Directors.	For	grants	to	new	employees,	the date	of	grant	is	the	employee's	first	day	of	employment.	The	price	per

# C.	Common	and	Preferred	Stock	(Continued)

share	of	restricted	stock	granted	to	employees	is	equal	to	$0.01,	the	par	value	of	the	Company's	common	stock.	Vesting	of	options	and	restricted	stock	generally	is ratable	over	specified	periods,	usually	four	years,	and	is	determined	by	the	Company's	Board	of	Directors.	All	options	awarded	under	the	2006	Plan	expire	not	more than	ten	years	from	the	grant	date.

Stock	options	granted	under	the	1991	Plan,	the	1994	Plan	and	the	1996	Plan	were	granted	either	as	ISOs	or	NQSOs.	Under	the	1991	Plan,	stock	options	could	only be	granted	to	employees	(including	officers	and	directors	who	were	employees)	and	to	consultants	of	the	Company	(NQSOs	only).	Under	the	1994	Plan	and	the	1996 Plan,	stock	rights,	which	may	be	(i)	ISOs	when	Internal	Revenue	Code	requirements	are	met,	(ii)	NQSOs,	or	(iii)	shares	of	common	stock	or	the	opportunity	to	make	a direct	purchase	of	shares	of	common	stock,	could	be	granted	to	employees	(including	officers	and	directors	who	are	employees)	and	consultants,	advisors	and	non- employee	directors	(NQSOs	and	stock	awards	only).	Under	the	1991	Plan	and	the	1994	Plan,	ISOs	could	only	be	granted	at	a	price	not	less	than	the	fair	market	value	of the	common	stock	on	the	date	of	the	grant,	and	NQSOs	could	be	granted	at	an	exercise	price	established	by	the	Board	of	Directors,	which	could	have	been	less	than, equal	to	or	greater	than	the	fair	value	of	the	common	stock	on	the	date	of	the	grant.	Stock	options	granted	under	the	1996	Plan	could	not	have	been	granted	at	a	price	less than	the	fair	market	value	of	the	common	stock	on	the	date	of	grant.	Vesting	is	ratable	over	specified	periods	for	all	plans,	is	generally	four	or	five	years,	and	was determined	by	the	Board	of	Directors.	ISOs	granted	under	the	1991	Plan,	the	1994	Plan	and	the	1996	Plan	must	expire	not	more	than	ten	years	from	the	date	of	grant.

The	ESPP	permits	eligible	employees	to	enroll	in	a	twelve-month	offering	period	comprising	two	six-month	purchase	periods.	Participants	may	purchase	shares	of the	Company's	common	stock,	through	payroll	deductions,	at	a	price	equal	to	85%	of	the	fair	market	value	of	the	common	stock	on	the	first	day	of	the	applicable twelve-month	offering	period,	or	the	last	day	of	the	applicable	six-month	purchase	period,	whichever	is	lower.	Purchase	dates	under	the	ESPP	occur	on	or	about	May	14 and	November	14	of	each	year.

7,302,380	shares	under	the	2006	Plan.	At	December	31,	2006,	the	Company	had	approximately	14,279,000	stock	options	outstanding	and	approximately	1,764,000 outstanding	and	unvested	restricted	shares.	At	December	31,	2006,	the	Company	had	approximately	5,807,000	shares	of	common	stock	available	for	grants	under	the 2006	Plan,	and	no	shares	were	available	for	grants	under	the	1991	Plan,	the	1994	Plan	or	the	1996	Plan.	As	of	December	31,	2006,	approximately	507,000	shares remained	available	for	future	purchases	under	the	ESPP	and	approximately	179,000	shares	remained	available	for	grant	under	the	401(k)	Plan.

# Rights

Each	Vertex	shareholder	also	holds	one	share	purchase	right	(a	"Right")	for	each	share	of	common	stock	owned.	Each	Right	entitles	the	holder	to	purchase	from	the Company	one	half	of	one-hundredth	of	a	share	of	Series	A	junior	participating	preferred	stock,	$0.01	par	value	(the	"Junior	Preferred	Shares"),	of	the	Company	at	a price	of	$135	per	one	half	of	one-hundredth	of	a	Junior	Preferred	Share,	subject	to	adjustment	(the	"Purchase	Price").	The	Rights	are	not	exercisable	until	after	the acquisition	by	a	person	or	group	of	15%	or	more	of	the	outstanding	common	stock	(an	"Acquiring	Person"),	or	after	the	announcement	of	an	intention	to	make	or	the commencement	of	a	tender	offer	or	exchange	offer,	the	consummation	of	which	would	result	in	the	beneficial	ownership	by	a	person	or	group	of	15%	or	more	of	the outstanding	common	stock	(the	earlier	of	such	dates	being	called	the	"Distribution	Date").	Until	the

Distribution	Date	(or	earlier	redemption	or	expiration	of	the	Rights),	the	Rights	will	be	traded	with,	and	only	with,	the	common	stock.	Until	a	Right	is	exercised,	the Right	will	not	entitle	the	holder	thereof	to	any	rights	as	a	stockholder.

If	any	person	or	group	becomes	an	Acquiring	Person,	each	holder	of	a	Right,	other	than	Rights	beneficially	owned	by	the	Acquiring	Person,	will	thereafter	have	the right	to	receive	upon	exercise	and	payment	of	the	Purchase	Price	that	number	of	shares	of	common	stock	having	a	market	value	of	two	times	the	Purchase	Price	and,	if the	Company	is	acquired	in	a	business	combination	transaction	or	50%	or	more	of	its	assets	are	sold,	each	holder	of	a	Right	will	thereafter	have	the	right	to	receive	upon exercise	and	payment	of	the	Purchase	Price	that	number	of	shares	of	common	stock	of	the	acquiring	company	that	at	the	time	of	the	transaction	will	have	a	market	value of	two	times	the	Purchase	Price.

At	any	time	after	any	person	becomes	an	acquiring	person	and	prior	to	the	acquisition	by	such	person	or	group	of	50%	or	more	of	the	outstanding	common	stock, the	Board	of	Directors	of	the	Company	may	cause	the	Rights	(other	than	Rights	owned	by	such	person	or	group)	to	be	exchanged,	in	whole	or	in	part,	for	common	stock or	Junior	Preferred	Shares,	at	an	exchange	rate	of	one	share	of	common	stock	per	Right	or	one	half	of	one-hundredth	of	a	Junior	Preferred	Share	per	Right.

At	any	time	prior	to	the	acquisition	by	a	person	or	group	of	beneficial	ownership	of	15%	or	more	of	the	outstanding	common	stock,	the	Board	of	Directors	of	the Company	may	redeem	the	Rights	at	a	price	of	$0.01	per	Right.

The	Rights	have	certain	anti-takeover	effects,	in	that	they	will	cause	substantial	dilution	to	a	person	or	group	that	attempts	to	acquire	a	significant	interest	in	Vertex on	terms	not	approved	by	the	Board	of	Directors.

# D.	Stock-based	Compensation

# For	the	twelve	months	ended	December	31,	2006

On	January	1,	2006,	Vertex	adopted	FAS	123(R),	using	the	modified	prospective	method,	pursuant	to	which	the	Company	applies	the	provisions	of	FAS	123(R)	to its	consolidated	financial	statements	on	a	going-forward	basis.	The	modified	prospective	transition	method	requires	the	application	of	the	accounting	standard	as	of January	1,	2006,	the	first	day	of	Vertex's	2006	fiscal	year.	Prior	periods	have	not	been	restated.	FAS	123(R)	requires	companies	to	recognize	share-based	payments	to employees	as	compensation	expense	using	the	"fair	value"	method.	Under	the	fair	value	recognition	provisions	of	FAS	123(R),	stock-based	compensation	cost,	measured at	the	grant	date	based	on	the	fair	value	of	the	award,	is	recognized	as	expense	ratably	over	the	service	period,	which	generally	is	the	vesting	period	of	the	award.	The	fair value	of	stock	options	and	shares	purchased	pursuant	to	the	ESPP	is	calculated	using	the	Black-	Scholes	valuation	model.	The	fair	value	of	restricted	stock	is	based	on intrinsic	value	on	the	date	of	grant.	The	expense	recognized	over	the	service	period	includes	an	estimate	of	awards	that	will	be	forfeited.	Prior	to	adoption	of	FAS 123(R),	Vertex	recorded	the	impact	of	forfeitures	of	restricted	stock	as	they	occurred.	In	connection	with	the	adoption	of	FAS	123(R)	during	2006,	Vertex	recorded	a $1.0	million	benefit	from	the	cumulative	effect	of	changing	from	recording	forfeitures	related	to	restricted	stock	awards	as	they	occurred	to	estimating	forfeitures	during the	service	period.

Stock-based	compensation	expense	recognized	during	2006	includes:	(a)	stock	option	and	restricted	stock	awards	granted	after	December	31,	2005,	based	on	the grant-date	fair	value,	and	ESPP	awards	with	the	offering	periods	commencing	May	15,	2006	and	November	15,	2006,	in	accordance	with	the	provisions	of	FAS	123(R); (b)	stock	option	and	restricted	stock	awards	granted	prior	to	but	not	yet	vested	as	of

# D.	Stock-based	Compensation	(Continued)

December	31,	2005,	based	on	the	grant-date	fair	value	estimated	in	accordance	with	the	provisions	of	FAS	123;	and	(c)	ESPP	awards	with	offering	periods	commencing May	15,	2005	and	November	15,	2005,	based	on	the	grant-date	fair	value	estimated	in	accordance	with	the	provisions	of	FAS	123.	Stock-based	compensation	expense recognized	during	the	year	ended	December	31,	2006	reflects	estimated	forfeitures	of	awards.

The	estimated	fair	value	of	Vertex's	stock-based	awards,	less	estimated	forfeitures,	is	amortized	on	a	ratable	basis	over	the	awards'	service	periods.	No	equity compensation	cost	was	capitalized	during	the	year	ended	December	31,	2006.

The	effect	of	recording	stock-based	compensation	in	2006	was	as	follows	(in	thousands):

|  | Year	Ended<br>December	31,	2006 |
| :--- | :--- |
| Stock-based\tcompensation\texpense\tby\ttype\tof\taward:\nStock\toptions | $ 29,804 |
| Restricted\tshares | 7,065 |
| ESPP | 2,268 |

| Total	stock-based	compensation	expense | $ 39,137 |
| :--- | :--- |
| Effect\tof\tstock-based\tcompensation\texpense\ton\tincome\tby\tline\titem: |  |
| Research\tand\tdevelopment\texpenses | $ 32,002 |
| Sales,\tgeneral\tand\tadministrative\texpenses | 7,135 |
| Total\tstock-based\tcompensation\texpense | $ 39,137 |
| Cumulative\teffect\tof\ta\tchange\tin\taccounting\tprinciple—FAS\t123(R) | (1,046) |
| Net\tstock-based\tcompensation\texpense\tincluded\tin\tnet\tloss | $ 38,091 |

As	a	result	of	the	adoption	of	FAS	123(R)	the	Company's:

·							net	loss	before	cumulative	effect	of	a	change	in	accounting	principle	for	2006	is	greater	by	$31.3	million;

·							basic	and	diluted	net	loss	per	share	for	2006	is	greater	by	$0.28	before	cumulative	effect	of	a	change	in	accounting	principle;	and

# Stock	Options

All	options	granted	during	2006,	2005	and	2004	were	granted	with	exercise	prices	equal	to	the	fair	market	value	of	the	Company's	common	stock	on	the	date	of grant	and	the	options	had	weighted	average	grant	date	fair	values,	measured	on	the	grant	date,	of	$20.08,	$7.11	and	$5.00,	respectively.

In	accordance	with	FAS	123(R),	the	Company	recorded	stock-based	compensation	expense	of	$29.8	million	in	2006	related	to	stock	options.	As	of	December	31, 2006,	there	was	$51.9	million	of	total	unrecognized	compensation	cost,	net	of	estimated	forfeitures,	related	to	unvested	options	granted	under	the	Stock	and	Option Plans.	That	cost	is	expected	to	be	recognized	over	a	weighted-average	period	of	2.59	years.

The	Company	uses	the	Black-Scholes	valuation	model	to	estimate	the	fair	value	of	stock	options	at	the	grant	date.	The	Black-Scholes	valuation	model	uses	the option	exercise	price	as	well	as	estimates	and	assumptions	related	to	the	expected	price	volatility	of	the	Company's	stock,	the	period	during	which	the	options	will	be outstanding,	the	rate	of	return	on	risk-free	investments,	and	the	expected	dividend	yield	for	the	Company's	stock	to	estimate	the	fair	value	of	a	stock	option	on	the	grant date.	The	Company	validates	its	estimates	and	assumptions	through	consultations	with	independent	third	parties	having	relevant	expertise.

The	fair	value	of	each	option	granted	under	the	Stock	and	Option	Plans	during	2006	was	estimated	on	the	date	of	grant	using	the	Black-Scholes	option	pricing	model with	the	following	weighted	average	assumptions:

|  | 2006 |
| :--- | :--- |
| Expected\tstock\tprice\tvolatility | 57.10% |
| Risk-free\tinterest\trate | 4.74% |
| Expected\tterm | 5.64\tyears |
| Expected\tannual\tdividends | — |

# The	weighted-average	valuation	assumptions	were	determined	as	follows:

·							Expected	stock	price	volatility:			In	2006,	the	Company	changed	its	method	of	estimating	expected	volatility	from	relying	exclusively	on	historical	volatility	to relying	exclusively	on	implied	volatility.	Options	to	purchase	the	Company's	stock	with	remaining	terms	of	greater	than	one	year	are	regularly	traded	in	the market.	Expected	stock	price	volatility	is	calculated	using	the	trailing	one	month	average	of	daily	implied	volatilities	prior	to	grant	date.

·							Risk-free	interest	rate:			The	Company	bases	the	risk-free	interest	rate	on	the	interest	rate	payable	on	U.S.	Treasury	securities	in	effect	at	the	time	of	grant	for	a period	that	is	commensurate	with	the	assumed	expected	option	term.

·							Expected	term	of	options:			The	expected	term	of	options	represents	the	period	of	time	options	are	expected	to	be	outstanding.	The	Company	uses	historical	data to	estimate	employee	exercise	and	post-vest	termination	behavior.	The	Company	believes	that	all	groups	of	employees	exhibit	similar	exercise	and	post-vest termination	behavior	and	therefore	does	not	stratify	employees	into	multiple	groups	in	determining	the	expected	term	of	options.

·							Expected	annual	dividends:			The	estimate	for	annual	dividends	is	$0.00,	because	the	Company	has	not	historically	paid,	and	does	not	intend	for	the	foreseeable future	to	pay,	a	dividend.

The	following	table	summarizes	information	related	to	the	outstanding	and	vested	options	during	2006:

|  | Stock<br>Options<br>(In	thousands) | Average<br>Exercise	Price | Remaining<br>Contractual	Life<br>(In	years) | Aggregate<br>Intrinsic	Value<br>(In	thousands) |
| :--- | :--- | :--- | :--- | :--- |
| Outstanding\tat\tDecember\t31,\t2005 | 14,669 | $ 22.84 |  |  |
| Granted | 3,205 | 35.45 |  |  |

| Exercised | (2,968) | 15.65 |  |  |
| :--- | :--- | :--- | :--- | :--- |
| Forfeited | (345) | 17.79 |  |  |
| Expired | (282) | 65.93 |  |  |
| Outstanding\tat\tDecember\t31,\t2006 | 14,279 | $26.44 | 6.09 | $ 209,721 |
| Exercisable\tat\tDecember\t31,\t2006 | 9,486 | $27.02 | 4.90 | $ 151,007 |
| Total\texercisable\tor\texpected |  |  |  |  |
| to\tvest | 13,671 | $26.37 | 5.97 | $ 204,005 |

The	aggregate	intrinsic	value	in	the	table	above	represents	the	total	pre-tax	amount,	net	of	exercise	price,	which	would	have	been	received	by	option	holders	if	all option	holders	had	exercised	all	options	with	an	exercise	price	lower	than	the	market	price	on	December	29,	2006	(the	last	trading	day	of	2006),	based	on	the	average	of the	high	and	low	price	of	the	Company's	common	stock	of	$37.51	on	that	date.

The	total	intrinsic	value	(the	amount	by	which	the	fair	market	value	exceeded	the	exercise	price)	of	stock	options	exercised	during	2006,	2005	and	2004	was	$63.4 million,	$18.4	million	and	$2.3	million,	respectively.	The	total	cash	received	from	employees	as	a	result	of	employee	stock	option	exercises	during	2006,	2005	and	2004 was	$46.5	million,	$28.3	million	and	$5.2	million,	respectively.

The	Company	settles	employee	stock	option	exercises	with	newly	issued	common	shares.

# Restricted	Stock

The	Company	recorded	stock-based	compensation	expense	of	approximately	$7.1	million,	$4.4	million	and	$1.7	million	for	2006,	2005	and	2004,	respectively, related	to	restricted	shares	outstanding	during	those	periods.

As	of	December	31,	2006,	there	was	$18.6	million	of	total	unrecognized	stock-based	compensation	expense,	net	of	estimated	forfeitures,	related	to	unvested restricted	stock	granted	under	the	Stock	and	Option	Plans.	That	cost	is	expected	to	be	recognized	over	a	weighted-average	period	of	2.53	years.

The	following	table	summarizes	the	restricted	stock	activity	of	the	Company	during	2006:

|  | Restricted<br>Stock<br>(Shares	in	thousands) | Weighted-Average<br>Grant	Date	Fair	Value<br>(per	Share) |
| :--- | :--- | :--- |
| Outstanding\tand\tunvested\tat\tDecember\t31,\t2005 | 1,521 | $ 11.02 |
| Granted | 592 | 35.46 |
| Vested | (266) | 11.83 |
| Cancelled | (83) | 18.98 |
| Outstanding\tand\tunvested\tat\tDecember\t31,\t2006 | 1,764 | $18.72 |

The	total	fair	value	of	the	shares	vesting	during	2006,	2005	and	2004	(measured	on	the	date	of	vesting)	was	$9.9	million,	$4.7	million	and	$0.3	million, respectively.

# Employee	Stock	Purchase	Plan

The	stock-based	compensation	expense	related	to	the	ESPP	for	2006	is	$2.3	million.	As	of	December	31,	2006,	there	was	$1.3	million	of	total	unrecognized compensation	expense,	net	of	estimated	forfeitures,	related	to	ESPP	shares.	That	cost	is	expected	to	be	recognized	during	2007.

During	2006,	the	following	shares	were	issued	to	employees	under	the	ESPP	(shares	in	thousands):

The	weighted	average	fair	value	of	each	purchase	right	granted	during	2006,	2005	and	2004	was	$13.07,	$6.42	and	$5.34,	respectively.	The	following	table	reflects the	weighted	average	assumptions	used	in	the	Black-Scholes	valuation	model	for	2006:

|  | 2006 |
| :--- | :--- |
| Expected\tstock\tprice\tvolatility | 55.84% |
| Risk-free\tinterest\trate | 4.99% |
| Expected\tterm | 0.75\tyears |
| Expected\tannual\tdividends | — |

The	expected	stock	price	volatility	for	ESPP	offerings	beginning	before	the	fourth	quarter	of	2005	is	based	on	historical	volatility,	while	the	volatility	for	offerings beginning	in	the	fourth	quarter	of	2005	and	the	second	quarter	of	2006	is	based	on	implied	volatility.	The	expected	term	represents	purchases	and	purchase	periods	that take	place	within	the	offering	period.	The	Company	bases	the	risk-free	interest	rate	on	the	interest	rate	payable	on	U.S.	Treasury	securities	in	effect	at	the	time	of	grant for	a	period	that	is	commensurate	with	the	assumed	expected	term.	The	expected	annual	dividends	estimate	is	$0.00,	because	the	Company	has	not	historically	paid,	and does	not	for	the	foreseeable	future	intend	to	pay,	a	dividend.

# For	Periods	Prior	to	the	Adoption	of	FAS	123(R)

In	accordance	with	FAS	148,	for	periods	prior	to	January	1,	2006,	the	Company	adopted	the	disclosure-only	provisions	of	FAS	123	and	also	applied	APB	25	and related	interpretations	in	accounting

for	all	stock	awards	granted	to	employees.	Under	APB	25,	provided	that	other	criteria	were	met,	when	the	exercise	price	of	stock	options	granted	to	employees	equaled the	market	price	of	the	common	stock	on	the	date	of	the	grant,	no	compensation	expense	was	recognized.	Additionally,	under	APB	25,	the	Company	was	not	required	to record	compensation	expense	for	the	cost	of	options	or	shares	issued	under	the	ESPP.	Accordingly,	no	expense	related	to	options	or	ESPP	shares	was	recorded	prior	to January	1,	2006,	except	for	$0.2	million	in	stock-based	compensation	expense	in	2005	related	to	the	acceleration	of	options	in	accordance	with	one	executive's	severance agreement.

Prior	to	January	1,	2006,	the	Company	recorded	stock-based	compensation	expense	related	to	restricted	stock	awards	over	the	related	vesting	period	for	an	amount equal	to	the	difference	between	the	price	per	share	of	restricted	stock	issued	and	the	fair	value	of	the	Company's	common	stock	at	the	date	of	grant	or	issuance.	Prior	to January	1,	2006,	the	Company	recorded	forfeitures	of	restricted	stock	as	they	occurred.

The	following	table	illustrates	the	effect	on	net	loss	and	net	loss	per	share	for	the	years	ended	December	31,	2005	and	2004	if	the	fair	value	recognition	provisions of	FAS	123	had	been	applied	to	the	Company's	stock-based	employee	compensation	in	such	periods.	Employee	stock-based	compensation	expense	was	amortized	on	a straight-line	basis,	because	the	Company's	valuation	of	options	subject	to	FAS	123	assumed	a	single	weighted-average	expected	term	for	each	award.	Included	in employee	stock-based	compensation	expense	for	the	year	ended	December	31,	2005	is	expense	related	to	the	modification	of	certain	stock	awards	in	accordance	with	an officer's	severance	agreement.

|  | Year	Ended	December	31, | Year	Ended	December	31, |
| :--- | :--- | :--- |
|  | 2005 | 2004 |
|  | (In\tthousands,\texcept\tper\nshare\tdata) | (In\tthousands,\texcept\tper\nshare\tdata) |
| Net\tloss\tattributable\tto\tcommon\tstockholders,\tas\treported | $ (203,417) | $ (166,247) |
| Add:\tEmployee\tstock-based\tcompensation\texpense\tincluded\tin\tnet\tloss,\tnet\tof\ttax | 4,632 | 1,661 |
| Deduct:\tTotal\tstock-based\temployee\tcompensation\texpense\tdetermined\tunder\tthe\tfair |  |  |
| value\tbased\tmethod\tfor\tall\tawards,\tnet\tof\ttax | (38,217) | (39,504) |
| Pro\tforma\tnet\tloss | $ (237,002) | $ (204,090) |
| Basic\tand\tdiluted\tnet\tloss\tper\tcommon\tshare,\tas\treported | $(2.28) | $(2.12) |
| Basic\tand\tdiluted\tnet\tloss\tper\tcommon\tshare,\tpro\tforma | $(2.66) | $(2.60) |

The	weighted	average	fair	value	of	options	granted	during	2005	and	2004	was	$7.11	and	$5.00,	respectively.	The	fair	value	of	each	stock	option	granted	during	the years	ended	December	31,	2005	and	2004	was	estimated	on	the	date	of	grant	using	the	Black-Scholes	option	pricing	model	with	the	following	weighted-average assumptions:

|  | Year	Ended	December	31, | Year	Ended	December	31, |
| :--- | :--- | :--- |
|  | 2005 | 2004 |
| Expected\tstock\tprice\tvolatility | 60.00% | 60.00% |
| Risk-free\tinterest\trate | 3.78% | 2.95% |
| Expected\tterm | 4.20\tyears | 4.00\tyears |
| Expected\tannual\tdividends | — | — |

The	weighted	average	fair	value	of	purchase	rights	granted	during	2005	and	2004	was	$6.42	and	$5.34,	respectively.	The	fair	value	of	each	ESPP	purchase	right outstanding	during	the	years	ended	December	31,	2005	and	2004	was	estimated	on	the	date	of	subscription	using	the	Black-Scholes	option	pricing	model	with	the following	weighted-average	assumptions

|  | Year	Ended	December	31, | Year	Ended	December	31, |
| :--- | :--- | :--- |
|  | 2005 | 2004 |
| Expected\tstock\tprice\tvolatility | 59.00% | 65.00% |
| Risk-free\tinterest\trate | 3.59% | 1.35% |
| Expected\tterm | 0.43\tyears | 0.80\tyears |
| Expected\tannual\tdividends | — | — |

# E.	Restructuring

On	June	10,	2003,	Vertex	adopted	a	plan	to	restructure	its	operations	to	coincide	with	its	increasing	internal	emphasis	on	advancing	drug	candidates	through clinical	development	to	commercialization.	The	restructuring	was	designed	to	re-balance	the	Company's	relative	investments	in	research	and	development	to	better support	the	Company's	long-term	strategy.	The	restructuring	plan	included	a	workforce	reduction,	write-offs	of	certain	assets	and	a	decision	not	to	occupy approximately	290,000	square	feet	of	specialized	laboratory	and	office	space	in	Cambridge,	Massachusetts	under	lease	to	Vertex	(the	"Kendall	Square	Lease").	The Kendall	Square	Lease	commenced	in	January	2003	and	has	a	15-year	term.	In	the	second	quarter	of	2005,	the	Company	revised	its	assessment	of	its	real	estate requirements	and	decided	to	use	approximately	120,000	square	feet	of	the	facility	subject	to	the	Kendall	Square	Lease	(the	"Kendall	Square	Facility")	for	its	operations, beginning	in	2006.	The	Company	is	now	occupying	this	portion	of	the	Kendall	Square	Facility.	The	remaining	rentable	square	footage	of	the	Kendall	Square	Facility currently	is	subleased	to	third	parties.

In	accordance	with	FAS	146,	the	Company's	initial	estimate	of	its	liability	for	net	ongoing	costs	associated	with	the	Kendall	Square	Lease	obligation	was	recorded in	the	second	quarter	of	2003	at	fair	value.	The	restructuring	expense	incurred	from	the	second	quarter	of	2003	through	the	end	of	the	first	quarter	of	2005	(i.e., immediately	prior	to	the	Company's	decision	to	use	a	portion	of	the	Kendall	Square	Facility	for	its	operations)	relates	to	the	estimated	incremental	net	ongoing	lease obligations	associated	with	the	entire	Kendall	Square	Facility,	together	with	imputed	interest	costs	relating	to	the	restructuring	liability.	The	restructuring	expense incurred	in	the	period	beginning	in	the	second	quarter	of	2005	continues	to	be	estimated	in	accordance	with	FAS	146,	but	relates	only	to	the	portion	of	the	building	that the	Company	currently	does	not	intend	to	occupy	for	its	operations.	The	remaining	lease	obligations,	which	are	associated	with	the	portion	of	the	Kendall	Square	Facility that	the	Company	occupies	and	uses	for	its	operations,	are	recorded	as	rental	expense	in	the	period	incurred.	The	Company	reviews	its	assumptions	and	estimates quarterly	and	updates	its	estimates	of	this	liability	as	changes	in	circumstances	require.	As	required	by	FAS	146,	the	expense	and	liability	recorded	is	calculated	using probability-	weighted	discounted	cash-flows	of	the	Company's	estimated	ongoing	lease	obligations,	including	contractual	rental	and	build-out	commitments,	net	of

# estimated	sublease	rentals,	offset	by	related	sublease	costs.

In	estimating	the	expense	and	liability	under	its	Kendall	Square	Lease	obligation,	the	Company	estimated	(i)	the	costs	to	be	incurred	to	satisfy	rental	and	build-out commitments	under	the	lease	(including	operating	costs),	(ii)	the	lead-time	necessary	to	sublease	the	space,	(iii)	the	projected	sublease	rental	rates,	and	(iv)	the anticipated	durations	of	subleases.	The	Company	validates	its	estimates	and	assumptions	through	consultations	with	independent	third	parties	having	relevant	expertise. The	Company

# E.	Restructuring	(Continued)

uses	a	credit-adjusted	risk-free	rate	of	approximately	10%	to	discount	the	estimated	cash	flows.	The	Company	will	review	its	estimates	and	assumptions	on	at	least	a quarterly	basis,	until	the	termination	of	the	Kendall	Square	Lease,	and	will	make	whatever	modifications	management	believes	necessary,	based	on	the	Company's	best judgment,	to	reflect	any	changed	circumstances.	The	Company's	estimates	have	changed	in	the	past,	and	may	change	in	the	future,	resulting	in	additional	adjustments	to the	estimate	of	liability,	and	the	effect	of	any	such	adjustments	could	be	material.	Because	the	Company's	estimate	of	the	liability	includes	the	application	of	a	discount rate	to	reflect	the	time-value	of	money,	the	estimate	of	the	liability	will	increase	each	quarter	simply	as	a	result	of	the	passage	of	time.	Changes	to	the	Company's estimate	of	the	liability	are	recorded	as	additional	restructuring	expense/(credit).

The	restructuring	accrual	of	$33.1	million	at	December	31,	2006	relates	solely	to	the	portion	of	the	Kendall	Square	Facility	that	the	Company	does	not	intend	to	use for	its	operations	and	includes	other	lease	obligations,	recorded	at	net	present	value.	The	Company	classified	$4.7	million	of	the	total	amount	at	December	31,	2006	as short-term,	and	$28.3	million	as	long-term.	The	short-term	portion	of	the	restructuring	liability	represents	the	net	amount	the	Company	expects	to	pay	in	2007.

In	2006,	the	Company	recorded	net	restructuring	expense	of	$3.7	million,	which	was	primarily	attributable	to	imputed	interest	and	to	build-out	costs	relating	to	the restructuring	liability.

Activity	with	respect	to	the	restructuring	liability	for	2006	was	as	follows	(in	thousands):

|  | Liability	as	of<br>December	31,	2005 | Cash<br>Payments<br>in	2006 | Cash	received<br>from	subleases<br>in	2006 | Additional	Charge<br>in	2006 | Liability<br>as	of<br>December	31,<br>2006 |
| :--- | :--- | :--- | :--- | :--- | :--- |
| Lease\trestructuring\tliability | $ 42,982 | $(21,607) | $ 8,047 | $ 3,651 | $ 33,073 |

In	2005,	the	Company	recorded	net	restructuring	expense	of	$8.1	million.	This	net	expense	includes	a	$10.0	million	credit	to	the	restructuring	liability	made	when the	Company	decided	to	occupy	and	use	a	portion	of	the	Kendall	Square	Facility,	which	was	offset	by	(i)	the	estimated	incremental	net	ongoing	lease	obligations associated	with	the	portion	of	the	Kendall	Square	Facility	that	the	Company	does	not	intend	to	occupy	and	(ii)	imputed	interest	costs	relating	to	the	restructuring	liability. The	portion	of	the	$18.2	million	additional	charge	in	2005	that	was	for	incremental	lease	obligations	was	related	to	the	revision	of	certain	key	estimates	and	assumptions about	operating	costs,	including	real	estate	taxes	associated	with	the	portion	of	the	Kendall	Square	Facility	that	the	Company	does	not	intend	to	occupy.		Activity	with respect	to	the	restructuring	liability	for	2005	was	as	follows	(in	thousands):

| Liability	as	of<br>December	31,	2004 | Cash	Payments<br>in	2005 | Cash	received<br>from	subleases<br>in	2005 | Credit	for<br>portion	of<br>facility	Vertex<br>decided	to<br>occupy	in<br>2005 | Additional	Charge<br>in	2005 | Liability<br>as	of<br>December	31,<br>2005 |
| :--- | :--- | :--- | :--- | :--- | :--- |
| $ 55,843 | $(24,229) | $ 3,234 | $(10,018) | $ 18,152 | $ 42,982 |

In	2004,	the	Company	recorded	$17.6	million	of	additional	restructuring	expense,	which	primarily	resulted	from	the	revision	of	estimates	and	assumptions	about when	subtenants	would	be	identified	and	secured	and	imputing	an	interest	charge	for	the	related	restructuring	liability.	Activity	with	respect	to	the	restructuring	liability for	2004	was	as	follows	(in	thousands):

| Liability	as	of<br>December	31,	2003 | Cash	Payments<br>in	2004 | Cash	received<br>from	sublease,	net<br>of	operating	costs<br>in	2004 | Additional<br>Charge	in<br>2004 | Liability	as	of<br>December	31,	2004 |
| :--- | :--- | :--- | :--- | :--- |
| $ 69,526 | $(31,550) | $293 | $ 17,574 | $ 55,843 |

In	2003,	the	Company	recorded	restructuring	and	other	related	expenses	of	$91.8	million.	The	$91.8	million	includes	$78.7	million	of	lease	restructuring	expense, $6.0	million	of	lease	operating	expense	incurred	prior	to	the	decision	not	to	occupy	the	Kendall	Square	Facility,	$2.6	million	for	severance	and	related	employee transition	benefits	and	$4.5	million	for	a	write-off	of	leasehold	improvements	and	other	assets.

The	activity	related	to	restructuring	and	other	liability	for	the	twelve	months	ended	December	31,	2003	is	presented	below	(in	thousands):

# F.	Marketable	Securities

A	summary	of	cash,	cash	equivalents	and	marketable	securities	is	shown	below	(in	thousands):

| December	31,	2006 | Amortized<br>Cost | Gross<br>Unrealized<br>Gains | Gross<br>Unrealized<br>Losses | Fair	Value |
| :--- | :--- | :--- | :--- | :--- |
| (Maturities\tstated\tare\teffective\tmaturities) |  |  |  |  |
| Cash\tand\tcash\tequivalents |  |  |  |  |
| Cash\tand\tmoney\tmarket\tfunds | $ 200,059 | $— $— | $— $— | $ 200,059 |
| Corporate\tdebt\tsecurities | 13,115 | 1 | (4) | 13,112 |
| Total\tcash\tand\tcash\tequivalents | $ 213,174 | $1 | $(4) | $ 213,171 |
| Marketable\tsecurities\nMunicipal\tbonds,\tdue\tafter\t10\tyears | $1,802 | $— | $— | $1,802 |
| U.S.\tgovernment\tsecurities |  |  |  |  |
| Due\twithin\t1\tyear | 18,026 | 4 | (136) | 17,894 |
| Due\tafter\t1\tyear\tthrough\t5\tyears | 53,440 | 51 | (389) | 53,102 |
| Total\tUS\tgovernment\tsecurities | 71,466 | 55 | (525) | 70,996 |
| Corporate\tdebt\tsecurities |  |  |  |  |
| Due\twithin\t1\tyear | 409,044 | 169 | (240) | 408,973 |
| Due\tafter\t1\tyear\tthrough\t5\tyears | 67,417 | 49 | (656) | 66,810 |
| Total\tcorporate\tdebt\tsecurities | 476,461 | 218 | (896) | 475,783 |
| Total\tmarketable\tsecurities | $ 549,729 | $273 | $ (1,421) | $ 548,581 |
| Total\tcash,\tcash\tequivalents\tand\tmarketable\tsecurities | $ 762,903 | $274 | $ (1,425) | $ 761,752 |

# F.	Marketable	Securities	(Continued)

| December	31,	2005 | Amortized<br>Cost | Gross<br>Unrealized<br>Gains | Gross<br>Unrealized<br>Losses | Fair	Value |
| :--- | :--- | :--- | :--- | :--- |
| (Maturities\tstated\tare\teffective\tmaturities) |  |  |  |  |
| Cash\tand\tcash\tequivalents |  |  |  |  |
| Cash\tand\tmoney\tmarket\tfunds | $73,288 | $1 | $— | $73,289 |
| Corporate\tdebt\tsecurities | 4,757 | — | (1) | 4,756 |
| Total\tcash\tand\tcash\tequivalents | $78,045 | $1 | $(1) | $78,045 |
| Marketable\tsecurities\nMunicipal\tbonds,\tdue\tafter\t10\tyears | $8,370 | $— | $— | $8,370 |
| US\tgovernment\tsecurities |  |  |  |  |
| Due\twithin\t1\tyear | 23,275 | — | (205) | 23,070 |
| Due\tafter\t1\tyear\tthrough\t5\tyears | 41,658 | 5 | (702) | 40,961 |
| Total\tUS\tgovernment\tsecurities | 64,933 | 5 | (907) | 64,031 |
| Corporate\tdebt\tsecurities |  |  |  |  |
| Due\twithin\t1\tyear | 184,841 | 10 | (753) | 184,098 |
| Due\tafter\t1\tyear\tthrough\t5\tyears | 72,622 | 5 | (1,212) | 71,415 |
| Due\tafter\t5\tyears\tthrough\t10\tyears | 1,553 | — | (2) | 1,551 |
| Total\tcorporate\tdebt\tsecurities | 259,016 | 15 | (1,967) | 257,064 |
| Total\tmarketable\tsecurities | $ 332,319 | $20 | $ (2,874) | $ 329,465 |
| Total\tcash,\tcash\tequivalents\tand\tmarketable\tsecurities | $ 410,364 | $21 | $ (2,875) | $ 407,510 |

The	Company	has	marketable	securities	of	$491.5	million	and	$283.1	million	classified	as	current	assets	on	the	consolidated	balance	sheets	as	of	December	31, 2006	and	2005,	respectively,	and	$57.1	million	and	$46.4	million	classified	as	long	term-assets	on	the	consolidated	balance	sheets	as	of	December	31,	2006	and	2005, respectively.

The	Company	reviews	investments	in	marketable	securities	for	other-than-temporary	impairment	whenever	the	fair	value	of	an	investment	is	less	than	amortized cost	and	evidence	indicates	that	an	investment's	carrying	amount	is	not	recoverable	within	a	reasonable	period	of	time.	To	determine	whether	an	impairment	is	other- than-temporary,	the	Company	considers	whether	it	has	the	ability	and	intent	to	hold	the	investment	until	a	market	price	recovery	and	considers	whether	the	evidence indicating	the	cost	of	the	investment	is	recoverable	outweighs	evidence	to	the	contrary.	Evidence	considered	in	this	assessment	includes	reasons	for	the	impairment, compliance	with	the	Company's	investment	policy,	the	severity	and	the	duration	of	the	impairment	and	changes	in	value	subsequent	to	year	end.	The	following	table summarizes	the	fair	value	and	gross	unrealized	losses	related	to	marketable	securities,	aggregated	by	investment	category	and	length	of	time	that	individual	securities have	been	in	a	continuous	unrealized	loss	position	as	of	December	31,	(in	thousands):

|  | Less	than	12	months | Less	than	12	months | 12	months	or	more | 12	months	or	more |  |
| :--- | :--- | :--- | :--- | :--- | :--- |
|  | Fair\tValue | Gross\nUnrealized\nLoss | Fair\tValue | Gross\nUnrealized\nLoss | Fair\tValue |
| U.S.\tgovernment\tsecurities | $19,609 | $(56) | $34,163 | $(469) | $53,772 |
| Corporate\tdebt\tsecurities | 56,563 | (95) | 67,517 | (805) | 124,080 |
| Total | $76,172 | $ (151) | $ 101,680 | $ (1,274) | $ 177,852 |

|  | Less	than	12	months | Less	than	12	months | 12	months	or	more | 12	months	or	more | Total |  |
| :--- | :--- | :--- | :--- | :--- | :--- | :--- |
|  | Fair\tValue | Gross\nUnrealized\nLoss | Fair\tValue | Gross\nUnrealized\nLoss | Fair\tValue | Gross\nUnrealized\nLoss |
| U.S.\tgovernment\tsecurities | $20,680 | $(180) | $40,916 | $(727) | $61,596 | $(907) |
| Corporate\tdebt\tsecurities | 151,521 | (710) | 94,573 | (1,258) | 246,094 | (1,968) |
| Total | $172,201 | $(890) | $135,489 | $(1,985) | $ 307,690 | $ (2,875) |

The	Company	owned	164	available-for-sale	marketable	securities	at	December	31,	2006.	Of	these	164	securities,	there	were	104	securities	with	losses.

Unrealized	losses	in	the	portfolio	relate	to	various	debt	securities	including	U.S.	government	securities,	U.S.	government-sponsored	enterprise	securities,	corporate debt	securities	and	asset-backed	securities.	For	these	securities,	the	unrealized	losses	are	primarily	due	to	increases	in	interest	rates.	The	investments	held	by	the Company	are	high	investment	grade	and	there	were	no	adverse	credit	events.	Because	the	Company	has	the	ability	and	intent	to	hold	these	investments	until	a	recovery of	fair	value,	which	may	be	maturity,	the	Company	does	not	consider	these	investments	to	be	other-than-temporarily	impaired	as	of	December	31,	2006	and	2005.

# G.	Restricted	Cash

At	December	31,	2006	and	2005,	the	Company	held	$30.3	million	and	$41.5	million	respectively,	in	restricted	cash.	At	December	31,	2006	and	2005	the	balance was	held	in	deposit	with	certain	banks	predominantly	to	collateralize	conditional	stand-by	letters	of	credit	in	the	names	of	the	Company's	landlords	pursuant	to	certain operating	lease	agreements.

# H.	Property	and	Equipment

Property	and	equipment	consist	of	the	following	at	December	31	(in	thousands):

|  | 2006 | 2005 |
| :--- | :--- | :--- |
| Furniture\tand\tequipment | $97,638 | $98,387 |
| Leasehold\timprovements | 74,875 | 66,318 |
| Computers | 19,733 | 18,971 |
| Software | 21,274 | 18,683 |
| Total\tproperty\tand\tequipment,\tgross | 213,520 | 202,359 |
| Less\taccumulated\tdepreciation\tand\tamortization | 151,985 | 147,826 |
| Total\tproperty\tand\tequipment,\tnet | $61,535 | $54,533 |

In	2006	and	2005,	the	Company	wrote	off	certain	assets	that	were	fully	depreciated	and	no	longer	utilized.	There	was	no	effect	on	the	Company's	net	property	and equipment.	Additionally,	the	Company	wrote	off	or	sold	certain	assets	that	were	not	fully	depreciated.	The	net	loss	on	disposal	of	those	assets	was	$10,000	for	2006, $344,000	for	2005	and	$43,000	for	2004.

# I.	Altus	Investment

Altus	Pharmaceuticals,	Inc.	("Altus")	completed	an	initial	public	offering	in	January	2006.	As	of	the	completion	of	the	offering,	Vertex	owned	817,749	shares	of common	stock	and	warrants	to	purchase	1,962,494	shares	of	common	stock	(the	"Altus	Warrants").	In	addition,	the	Company,	as	of	the	completion

# I.	Altus	Investment	(Continued)

of	the	offering,	held	450,000	shares	of	redeemable	preferred	stock,	which	are	not	convertible	into	common	stock	and	which	are	redeemable	for	$10.00	per	share	plus annual	dividends	of	$0.50	per	share,	which	have	been	accruing	since	the	redeemable	preferred	stock	was	issued	in	1999,	at	Vertex's	option	on	or	after	December	31, 2010,	or	by	Altus	at	any	time.	The	Company	was	restricted	from	trading	Altus	securities	for	a	period	of	six	months	following	the	initial	public	offering.

When	the	Altus	securities	trading	restrictions	expired,	the	Company	sold	the	817,749	shares	of	Altus	common	stock	for	approximately	$11.7	million,	resulting	in	a realized	gain	of	approximately	$7.7	million	in	August	2006.	Additionally	when	the	restrictions	expired,	the	Company	began	accounting	for	the	Altus	Warrants	as derivative	instruments	under	the	Financial	Accounting	Standards	Board	Statement	No.	FAS	133,	"Accounting	for	Derivative	Instruments	and	Hedging	Activities" ("FAS	133").	In	accordance	with	FAS	133,	in	the	third	quarter	of	2006,	the	Company	recorded	the	Altus	Warrants	on	its	consolidated	balance	sheet	at	a	fair	market value	of	$19.1	million	and	recorded	an	unrealized	gain	on	the	fair	market	value	of	the	Altus	Warrants	of	$4.3	million.	In	the	fourth	quarter	of	2006	the	Company	sold	the Altus	Warrants	for	approximately	$18.3	million,	resulting	in	a	realized	loss	of	$0.7	million.	As	a	result	of	the	Company's	sales	of	Altus	common	stock	and	Altus Warrrants	in	2006,	the	Company	recorded	a	realized	gain	on	a	sale	of	investment	of	$11.2	million.

In	accordance	with	the	Company's	policy,	as	outlined	in	Note	B,	"Accounting	Policies,"	the	Company	assessed	its	investment	in	Altus,	which	it	accounts	for	using the	cost	method,	and	determined	that	there	had	not	been	any	adjustments	to	the	fair	values	of	that	investment	that	would	require	the	Company	to	write	down	the investment	basis	of	the	asset,	in	2005	and	2006.	The	Company's	cost	basis	carrying	value	in	its	outstanding	equity	and	warrants	of	Altus	was	$18.9	million	at December	31,	2005.

# J.	Accrued	Expenses	and	Other	Current	Liabilities

Accrued	expenses	and	other	current	liabilities	consist	of	the	following	at	December	31	(in	thousands):

|  | 2006 | 2005 |
| :--- | :--- | :--- |
| Research\tand\tdevelopment\tcontract\tcosts | $57,761 | $20,098 |
| Payroll\tand\tbenefits | 25,115 | 15,832 |
| Professional\tfees | 3,848 | 4,816 |
| Other | 4,635 | 1,315 |
| Total | $91,359 | $42,061 |

# K.	Commitments

The	Company	leases	its	facilities	and	certain	equipment	under	non-cancelable	operating	leases.	The	Company's	leases	have	terms	through	April	2018.	The	term	of the	Kendall	Square	Lease	began	January	1,	2003	and	lease	payments	commenced	in	May	2003.	The	Company	had	an	obligation	under	the	Kendall	Square	Lease,	staged through	2006,	to	build-out	the	space	into	finished	laboratory	and	office	space.	This	lease	will	expire	in	2018,	and	the	Company	has	the	option	to	extend	the	term	for	two consecutive	terms	of	ten	years	each,	ultimately	expiring	in	2038.	The	Company	occupies	and	uses	for	its	operations	approximately	120,000	square	feet	of	the	Kendall Square	Facility.	The	Company	has	sublease	arrangements	in	place	for	the	remaining	rentable	square	footage	of	the	Kendall	Square	Facility,	with	initial	terms	that	expires in	April	2011	and	August	2012.	See	Note	E,	"Restructuring"	for	further	information.

# K.	Commitments	(Continued)

At	December	31,	2006,	future	minimum	commitments	under	facility	operating	leases	with	non-cancelable	terms	of	more	than	one	year	(including	commitments under	the	Kendall	Square	Lease)	are	as	follows	(in	thousands):

| Year | Kendall	Square<br>Lease | Sublease	income	for<br>Kendall	Square<br>Facility | Other	Operating<br>Leases | Total	Operating<br>Leases |
| :--- | :--- | :--- | :--- | :--- |
| 2007 | $22,718 | $(8,156) | $ 17,290 | $31,852 |
| 2008 | 23,621 | (8,156) | 16,638 | 32,103 |
| 2009 | 23,683 | (8,156) | 12,345 | 27,872 |
| 2010 | 23,748 | (8,156) | 11,307 | 26,899 |
| 2011 | 23,816 | (4,466) | 684 | 20,034 |
| Thereafter | 171,237 | (1,747) | 246 | 169,736 |
| Total\tminimum\tlease |  |  |  |  |
| payments | $ 288,823 | $(38,837) | $ 58,510 | $308,496 |

Rental	expense	for	2006	was	$26.7	million,	which	included	$9.5	million	related	to	the	Kendall	Square	Facility.	Rental	expense	for	2005	was	$20.4	million,	which included	$4.7	million	related	to	the	space	in	the	Kendall	Square	Facility	that	the	Company	occupied	in	2006	in	the	Kendall	Square	Facility.	For	2004,	rental	expense primarily	related	to	facilities,	excluding	the	Kendall	Square	Facility,	was	$16.3	million.

The	Company	has	future	contractual	commitments	in	connection	with	its	research	and	development	programs.	For	2007	and	2008	the	amount	committed	under these	contracts	is	$1.1	million	and	$0.6	million,	respectively.

# L.	Convertible	Subordinated	Notes

On	February	13,	2004,	the	Company	issued	approximately	$153.1	million	in	aggregate	principal	amount	of	5.75%	Convertible	Senior	Subordinated	Notes	due	in February	2011	(the	"February	2011	Notes")	in	exchange	for	an	equal	principal	amount	of	its	outstanding	5%	Convertible	Subordinated	Notes	due	in	September	2007 (the	"2007	Notes").	On	September	17,	2004,	the	Company	issued	approximately	$79.3	million	in	aggregate	principal	amount	of	5.75%	Convertible	Senior	Subordinated Notes	due	in	February	2011	(the	"September	2011	Notes")	in	exchange	for	an	equal	principal	amount	of	its	2007	Notes.	The	terms	of	the	September	2011	Notes	are identical	to	those	of	the	February	2011	Notes	(the	February	2011	Notes	and	the	September	2011	Notes	are	referred	to	together	as	the	"2011	Notes").

The	2011	Notes	are	convertible,	at	the	option	of	the	holder,	into	common	stock	at	a	price	equal	to	$14.94	per	share,	subject	to	adjustment	under	certain

circumstances.	The	2011	Notes	bear	interest	at	the	rate	of	5.75%	per	annum,	and	the	Company	is	required	to	make	semi-annual	interest	payments	on	the	outstanding principal	balance	of	the	2011	Notes	on	February	15	and	August	15	of	each	year.	On	or	after	February	15,	2007,	the	Company	may	redeem	the	2011	Notes	at	a redemption	price	equal	to	the	principal	amount	plus	accrued	and	unpaid	interest,	if	any.	The	deferred	issuance	costs	associated	with	the	issuance	of	the	2011	Notes, which	are	classified	as	long-term	other	assets,	were	approximately	$3.0	million	for	the	February	2011	Notes	and	$1.9	million	for	the	September	2011	Notes.

The	2007	Notes	are	convertible,	at	the	option	of	the	holder,	into	common	stock	at	a	price	equal	to	$92.26	per	share,	subject	to	adjustment	under	certain circumstances.	The	2007	Notes	bear	interest	at	the	rate	of	5%	per	annum,	and	the	Company	is	required	to	make	semi-annual	interest	payments	on	the	outstanding principal	balance	of	the	2007	Notes	on	March	19	and	September	19	of	each	year.	The	2007	Notes	are	redeemable	by	the	Company	at	any	time	at	specific	redemption prices	if	the	closing	price	of	the

# L.	Convertible	Subordinated	Notes	(Continued)

Company's	common	stock	exceeds	120%	of	the	conversion	price	for	at	least	20	trading	days	within	a	period	of	30	consecutive	trading	days.	The	deferred	issuance	costs associated	with	the	original	sale	of	the	2007	Notes	were	$9.3	million.	Payment	in	full	of	the	outstanding	principal	and	accrued	interest	on	these	2007	Notes	is	due	in September	2007.

As	a	result	of	the	2004	exchanges	of	the	2007	Notes	for	2011	Notes,	the	Company	recorded	a	charge	in	the	amount	of	$2.5	million	on	the	retirement	in February	2004	of	$153.1	million	in	aggregate	principal	amount	of	the	2007	Notes,	and	a	charge	in	the	amount	of	$1.0	million	on	the	retirement	in	September	2004	of $79.3	million	in	aggregate	principal	amount	of	the	2007	Notes.	These	charges	represent	that	portion	of	the	unamortized	deferred	issuance	costs	applicable	to	the	amount of	2007	Notes	retired.

In	September	2005,	the	Company	exchanged	approximately	2.5	million	shares	of	newly	issued	common	stock	for	approximately	$40.5	million	in	aggregate principal	amount	of	then	outstanding	2007	Notes,	plus	accrued	interest.	As	a	result	of	the	exchange,	the	Company	incurred	a	non-cash	charge	of	$36.3	million	in	2005. This	charge	is	related	to	the	incremental	shares	issued	in	the	transaction	over	the	number	that	would	have	been	issued	upon	conversion	of	the	2007	Notes	under	their original	terms,	at	the	original	conversion	price	of	$92.26.

In	the	fourth	quarter	of	2005,	the	Company	exchanged	approximately	8.1	million	shares	of	newly	issued	common	stock	for	approximately	$114.5	million	in aggregate	principal	amount	of	then	outstanding	2011	Notes,	plus	accrued	interest.	As	a	result	of	the	exchange,	the	Company	incurred	a	non-cash	charge	of	$11.9	million in	2005.	This	charge	is	related	to	the	incremental	shares	issued	in	the	transaction	over	the	number	that	would	have	been	issued	upon	conversion	of	the	2011	Notes	under their	original	terms,	at	the	original	conversion	price	of	$14.94.

In	the	third	quarter	of	2006,	the	Company	exchanged	approximately	4.1	million	shares	of	newly	issued	common	stock	for	approximately	$58.3	million	in	aggregate principal	amount	of	then	outstanding	2011	Notes	plus	accrued	interest.	As	a	result	of	this	exchange,	the	Company	incurred	a	non-cash	charge	of	$5.2	million	in	2006. This	charge	is	related	to	the	incremental	shares	issued	in	the	transaction	over	the	number	that	would	have	been	issued	upon	the	conversion	of	the	2011	Notes	under	their original	terms,	at	the	original	conversion	price	of	$14.94.

The	following	items	related	to	the	2005	and	2006	exchanges	were	recorded	as	an	offset	to	additional	paid-in	capital	on	the	consolidated	balance	sheets:	accrued interest,	remaining	unamortized	issuance	costs	of	the	exchanged	notes	and	issuance	costs	of	the	common	stock.

For	the	year	ended	December	31,	2006,	$0.5	million	was	amortized	to	interest	expense	for	the	issuance	costs	of	the	remaining	2007	Notes	and	the	2011	Notes.	For the	year	ended	December	31,	2005,	$1.0	million	was	amortized	to	interest	expense	for	the	issuance	costs	of	the	remaining	2007	Notes	and	the	2011	Notes.	For	the	year ended	December	31,	2004,	$1.3	million	was	amortized	to	interest	expense	for	the	issuance	costs	of	the	2007	Notes	and	the	2011	Notes.

At	December	31,	2006,	there	was	approximately	$42.1	million	in	aggregate	principal	amount	of	the	2007	Notes	and	approximately	$59.6	million	in	aggregate principal	amount	of	the	2011	Notes	outstanding.	At	December	31,	2006,	the	2007	Notes	and	the	2011	Notes	had	fair	values	of	$41.3	million	and	$150.1	million, respectively,	as	obtained	from	a	quoted	market	source.

In	February	2007,	the	Company	announced	that	it	will	redeem	the	2011	notes	on	March	5,	2007.	If	the	holders	of	the	2011	Notes	all	elect	to	convert	their	2011 Notes	into	common	stock	at	the	conversion	price	of	$14.94	per	share,	the	Company	will	be	required	to	issue	approximately	4.0	million	shares	of	the

Company's	common	stock	in	full	satisfaction	of	the	2011	Notes.	If	the	holders	of	the	2011	Notes	do	not	elect	to	convert	their	2011	Notes	into	common	stock,	the Company	will	be	required	to	redeem	the	2011	Notes	at	a	redemption	price	of	$1,003.19	per	$1,000	principal	amount,	which	includes	principal	and	unpaid	interest	that will	accrue	through	the	redemption	date.

# M.	Equity	Offering

In	September	2006,	the	Company	completed	a	public	offering	of	10,000,000	shares	of	common	stock,	including	the	underwriters'	over-allotment	of	900,000 shares,	at	a	price	of	$33.00	per	share.	This	transaction	resulted	in	net	proceeds	of	approximately	$313.7	million	to	the	Company.

In	June	2005,	the	Company	completed	a	public	offering	of	13,512,500	shares	of	common	stock,	including	the	underwriters'	over-allotment	of	1,762,500	shares,	at	a price	of	$13.00	per	share.	This	transaction	resulted	in	net	proceeds	of	approximately	$165.4	million	to	the	Company.

# N.	Income	Taxes

For	the	years	ended	December	31,	2006,	2005	and	2004,	there	is	no	provision	for	income	taxes	included	in	the	consolidated	statements	of	operations.

The	Company's	federal	statutory	income	tax	rate	for	2006,	2005,	and	2004	was	34%.	The	Company	has	incurred	losses	from	operations	but	has	not	recorded	an income	tax	benefit	for	2006,	2005	and	2004,	as	the	Company	has	recorded	a	valuation	allowance	against	its	net	operating	losses	and	other	net	deferred	tax	assets	due	to uncertainties	related	to	the	realizability	of	these	tax	assets.

The	difference	between	the	Company's	"expected"	tax	provision	(benefit),	as	computed	by	applying	the	U.S.	federal	corporate	tax	rate	of	34%	to	(loss)	before provision	for	income	taxes,	and	actual	tax	is	reconciled	as	follows	(in	thousands):

|  | 2006 | 2005 | 2004 |
| :--- | :--- | :--- | :--- |
| Loss\tbefore\tprovision\tfor\tincome\ttaxes | $ (206,891) | $ (203,417) | $ (166,247) |
| Expected\ttax\tbenefit\tat\t34% | $(70,343) | $(69,162) | $(56,524) |
| State\ttaxes,\tnet\tof\tfederal\tbenefit | (12,972) | (12,754) | (10,424) |
| Unbenefited\toperating\tlosses | 81,593 | 64,262 | 66,983 |
| Non-deductible\texpenses | 1,817 | 17,450 | 40 |
| Other | (95) | 204 | (75) |
| Income\ttax\tprovision | $— | $— | $— |

For	federal	income	tax	purposes,	as	of	December	31,	2006,	the	Company	has	net	operating	loss	carryforwards	of	approximately	$1,257.2	million,	and	$29.7	million of	tax	credits,	which	may	be	used	to	offset	future	federal	income	and	tax	liability,	respectively.	For	state	income	tax	purposes,	the	Company	has	net	operating	loss carryforwards	of	approximately	$826.5	million,	and	$15.5	million	of	tax	credits,	which	may	be	used	to	offset	future	state	income	and	tax	liability,	respectively.	These operating	loss	carryforwards	began	to	expire	in	2005,	and	the	tax	credit	carryforwards	began	to	expire	in	2004.	After	consideration	of	all	the	evidence,	both	positive	and negative,	management	has	established	a	valuation	allowance	for	the	full	amount	of	the	2006	net	deferred	tax	asset	since	it	is	more	likely	than	not	that	the	net	deferred	tax asset	will	not	be	realized.

# N.	Income	Taxes	(Continued)

Deferred	tax	assets	and	liabilities	are	determined	based	on	the	difference	between	financial	statement	and	tax	bases	using	enacted	tax	rates	in	effect	for	the	year	in which	the	differences	are	expected	to	reverse.	The	components	of	the	deferred	taxes	at	December	31	were	as	follows	(in	thousands):

| Deferred	Tax	Assets: | 2006 | 2005 |
| :--- | :--- | :--- |
| Net\toperating\tloss | $352,014 | $278,765 |
| Tax\tcredit\tcarryforwards | 39,981 | 27,942 |
| Property,\tplant\tand\tequipment | 16,130 | 14,955 |
| Deferred\trevenue | 343 | 596 |
| Stock-based\tcompensation | 15,761 | 243 |
| Capitalized\tresearch\tand\tdevelopment | 15,591 | 21,471 |
| Accrued\texpenses\tand\tother | 12,580 | 15,022 |
| Gross\tDeferred\tTax\tAssets | 452,400 | 358,994 |
| Valuation\tAllowance | (441,342) | (347,936) |
| Total\tDeferred\tTax\tAssets | 11,058 | 11,058 |
| Deferred\tTax\tLiabilities: |  |  |
| Gain\ton\tInvestment | (11,058) | (11,058) |
| Net\tDeferred\tTax\tAssets/(Liabilities) | $— | $— |

As	discussed	in	Note	D	"Stock-based	Compensation,"	the	Company	adopted	FAS	123(R)	effective	January	1,	2006	for	stock-based	compensation	plans.	Generally, tax	return	deductions	are	allowable	on	such	arrangements,	but,	may	arise	in	different	amounts	and	periods	from	when	compensation	costs	are	recognized	in	the	financial statements.	Pursuant	to	FAS	123(R),	if	the	tax	return	deduction	for	an	award	exceeds	the	cumulative	compensation	expense	recognized	in	the	financial	statements,	any excess	tax	benefit	shall	be	recognized	as	additional	paid-in	capital	when	the	deduction	reduces	income	tax	payable.	Prior	to	adoption,	the	Company	recognized	deferred tax	assets,	along	with	an	offsetting	valuation	allowance,	for	net	operating	loss	carryforwards	that	included	deductions	for	excess	tax	benefits	from	stock-based compensation.	On	adoption,	the	Company	has	chosen	to	derecognize	the	deferred	tax	asset	for	these	excess	tax	deduction	in	the	net	operating	loss	carryforwards,	along with	the	offsetting	valuation	allowance,	adjusting	the	prior	year	footnote	information	accordingly.	The	net	tax	amount	of	the	unrealized	excess	tax	benefits	as	of December	31,	2006,	no	longer	included	and	disclosed	as	a	deferred	tax	asset,	is	approximately	$111.7	million.	The	gross	amount	of	this	excess	tax	deduction	in	the	net operating	loss	carryforward	is	approximately	$284.0	million.

The	valuation	allowance	increased	by	$93.4	million	during	2006	due	primarily	to	the	increase	in	net	operating	losses	from	operations	and	tax	credits.

Ownership	changes,	as	defined	by	Internal	Revenue	Code,	may	limit	the	amount	of	net	operating	losses	and	research	and	experimentation	credit	carryforwards	that can	be	utilized	annually	to	offset	future	taxable	income	and	taxes	payable.

# O.	Significant	Revenue	Arrangements

The	Company	has	formed	strategic	collaborations	with	pharmaceutical	companies	and	other	organizations	in	the	areas	of	drug	discovery,	development,	and commercialization.	Research,	development	and	commercialization	agreements	provide	the	Company	with	financial	support	and	other	valuable	resources	for	its	research programs,	for	the	development	of	clinical	drug	candidates,	and	for	the	marketing	and	sales	of	products.

# Collaborative	Research,	Development	and	Commercialization	Agreements

In	the	Company's	collaborative	research,	development	and	commercialization	programs	the	Company	seeks	to	discover,	develop	and	commercialize pharmaceutical	products	in	conjunction	with	and	supported	by	the	Company's	collaborators.	Collaborative	research	and	development	arrangements	may	provide research	funding	over	an	initial	contract	period	with	renewal	and	termination	options	that	vary	by	agreement.	The	agreements	may	also	include	non-refundable,	up-front license	fees	as	well	as	milestone	payments	based	on	the	achievement	of	a	pre-agreed	objective	or	the	occurrence	of	a	designated	event.	The	agreements	may	also	contain development	expense	reimbursement	provisions,	royalty	rights	or	profit	sharing	rights,	and	manufacturing	options.	The	Company	has	entered	into	significant	research and	development	collaborations	under	terms	that	vary	from	agreement	to	agreement.

In	June	2006,	the	Company	entered	into	a	collaboration	agreement	with	Janssen	for	the	development,	manufacture	and	commercialization	of	telaprevir,	the Company's	investigative	HCV	protease	inhibitor.	Under	the	agreement,	Janssen	has	agreed	to	be	responsible	for	50%	of	the	drug	development	costs	incurred	under	the development	program	for	the	parties'	territories	(North	America	for	the	Company,	and	the	rest	of	the	world,	other	than	the	Far	East,	for	Janssen)	and	has	exclusive	rights to	commercialize	telaprevir	in	its	territories	including	Europe,	South	America,	the	Middle	East,	Africa	and	Australia.	Janssen	made	a	$165	million	up-front	license payment	to	the	Company	in	July	2006.	Janssen	has	agreed	to	make	additional	contingent	milestone	payments,	which	could	total	up	to	$380	million	if	telaprevir	is successfully	developed,	approved	and	launched.	The	agreement	also	provides	the	Company	with	royalties	on	any	sales	of	telaprevir	in	the	Janssen	territories,	with	a tiered	royalty	averaging	in	the	mid-20%	range,	as	a	percentage	of	net	sales	in	the	Janssen	territories,	depending	upon	successful	commercialization	of	telaprevir.	Each	of the	parties	will	be	responsible	for	drug	supply	in	their	respective	territories.	However,	the	agreement	provides	for	the	purchase	by	Janssen	from	the	Company	of materials	required	for	Janssen's	manufacture	of	the	active	pharmaceutical	ingredient.	In	addition,	Janssen	will	be	responsible	for	certain	third-party	royalties	on	net	sales in	its	territories.	Janssen	may	terminate	the	agreement	without	cause	at	any	time	upon	six	months'	notice	to	the	Company.

During	2006,	the	Company	recognized	$68.0	million	in	revenue	under	the	Janssen	agreement,	which	includes	an	amortized	portion	of	the	upfront	payment,	a milestone	achievement	of	$15.0	million	based	on	interim	results	of	the	Company's	first	Phase	2b	clinical	trial	of	telaprevir,	and	funding	of	reimbursable	drug development	costs.

# O.	Significant	Revenue	Arrangements	(Continued)

In	December	1993,	the	Company	and	GlaxoSmithKline	entered	into	a	collaboration	agreement	to	research,	develop	and	commercialize	HIV	protease	inhibitors, including	Agenerase	(amprenavir),	Lexiva/Telzir	(fosamprenavir	calcium)	and	brecanavir	(VX-385).	Under	the	collaboration	agreement,	GlaxoSmithKline	agreed	to pay	the	Company	an	up-front	license	payment,	product	research	funding,	development	and	commercialization	milestone	payments	and	royalty	payments	on	sales	of drugs	developed	under	the	collaboration.

The	Company	began	earning	a	royalty	from	GlaxoSmithKline	in	1999	on	sales	of	Agenerase,	in	the	fourth	quarter	of	2003	on	sales	of	Lexiva,	and	in	the	third quarter	of	2004	on	sales	of	Telzir.	In	the	fourth	quarter	of	2004,	GlaxoSmithKline	paid	the	Company	a	milestone	payment	of	$1	million	based	on	the	initiation	of	Phase 2	clinical	trials	for	brecanavir.	In	the	third	quarter	of	2004,	GlaxoSmithKline	paid	the	Company	a	milestone	payment	of	$1.5	million	in	connection	with	the	regulatory approval	of	Telzir	in	the	European	Union.

On	December	15,	2006,	GlaxoSmithKline	formally	notified	the	Company	that	it	would	discontinue	clinical	development	of	brecanavir	(VX-385),	which	had advanced	to	Phase	2	clinical	trials.	Currently,	there	are	no	drug	candidates	being	developed	under	this	collaboration	and	the	Company	does	not	anticipate	any	additional research	funding	or	milestone	payments	under	this	collaboration.	Under	the	original	agreement,	GlaxoSmithKline	had	exclusive	rights	to	develop	and	commercialize Vertex's	HIV	protease	inhibitors	in	all	parts	of	the	world	except	the	Far	East.	In	2003,	the	Company	amended	the	agreement	to	add	the	Far	East	to	GlaxoSmithKline's territory	for	development	and	commercialization	of	Lexiva/Telzir.	The	Company	has	retained	certain	bulk	drug	manufacturing	rights	and	certain	product	educational rights	in	territories	licensed	to	GlaxoSmithKline.	GlaxoSmithKline	has	the	right	to	terminate	its	arrangement	with	the	Company	without	cause	upon	twelve	months' notice.	Termination	of	the	agreement	by	GlaxoSmithKline	will	relieve	it	of	its	obligation	to	make	further	payments	to	the	Company	and	will	end	any	license	granted	to GlaxoSmithKline	by	Vertex	under	the	agreement.

In	June	1996,	the	Company	and	GlaxoSmithKline	obtained	a	worldwide,	non-exclusive	license	under	certain	G.D.	Searle	&	Co.	("Searle,"	now	owned	by Pharmacia/Pfizer)	patents	in	the	area	of	HIV	protease	inhibition.	The	Company	pays	Searle	a	royalty	based	on	sales	of	Agenerase	and	Lexiva/Telzir.

In	the	fourth	quarter	of	2005,	GlaxoSmithKline	and	the	Company	entered	into	a	collaborative	agreement	to	develop	and	commercialize	VX-409	and	certain	back-up compounds,	which	are	being	investigated	for	the	treatment	of	pain.	Under	the	terms	of	the	agreement,	GlaxoSmithKline	has	the	exclusive	right	and	license	to	develop and	commercialize	VX-409	and	certain	back-up	compounds	worldwide.	Vertex	received	a	$20	million	up-front	license	payment	and	could	receive	up	to	$385	million	in additional	development	and	commercial	milestone	payments	assuming	the	development	of	VX-409	and	back-up	compounds	in	major	pharmaceutical	markets	across	a range	of	indications.	GlaxoSmithKline	will	also	pay	Vertex	royalties	on	annual	net	sales	of	any	drugs	commercialized	under	the	agreement.

Revenues	and	royalties	earned	from	GlaxoSmithKline	under	both	agreements	were	$43.6	million,	$52.8	million	and	$19.8	million	in	2006,	2005	and	2004, respectively.

In	June	2004,	Vertex	entered	into	a	global	collaboration	with	Merck	&	Co.,	Inc.	to	develop	and	commercialize	MK-0457	(VX-680),	Vertex's	lead	Aurora	kinase inhibitor,	and	additional	follow-on	compound(s),	for	the	treatment	of	cancer.	The	Merck	collaboration	agreement	provided	for	an	up-front

license	payment	of	$20	million,	which	was	made	in	June	2004,	and	for	research	funding	of	$14	million	over	two	years,	ending	in	June	2006.	In	2006,	the	Company agreed	with	Merck	to	extend	the	research	program	term	and	corresponding	research	funding	for	the	parties'	ongoing	research	collaboration	for	an	additional	three months	beyond	the	original	research	program	termination	date.	Vertex	could	also	receive	as	much	as	$350	million	in	milestone	payments,	including	up	to	$130	million for	the	successful	development	of	MK-0457	(VX-680)	in	the	first	oncology	indication	and	additional	milestone	payments	for	development	of	MK-0457	(VX-680)	and follow-on	compounds	in	other	major	oncology	indications.	In	2005,	Merck	selected	MK-6592	(VX-667),	a	follow-on	compound,	for	development.	Merck	is	responsible for	worldwide	clinical	development	and	commercialization	of	MK-0457	(VX-680)	and	MK-6592	(VX-667),	and	any	other	Aurora	kinase	inhibitors	discovered	during the	research	program	and	has	agreed	to	pay	Vertex	royalties	on	product	sales.	Merck	may	terminate	the	agreement	without	cause	at	any	time	upon	90	days'	advance written	notice,	except	that	six	months'	advance	written	notice	is	required	at	any	time	when	a	product	has	marketing	approval	in	a	major	market	and	the	termination	is	not the	result	of	a	safety	issue.	In	2005,	Vertex	received	two	milestone	payments	from	Merck	totaling	$19.5	million.	In	2006,	Vertex	received	three	additional	milestone payments	from	Merck	totaling	$36.3	million.	Vertex	recognized	$58.7	million,	$24.4	million	and	$8.4	million	of	revenue	related	to	research	support,	milestone payments	and	the	up-front	license	payment	for	this	collaboration	in	2006,	2005	and	2004,	respectively.

In	May	2004,	Vertex	entered	into	an	agreement	with	Cystic	Fibrosis	Foundation	Therapeutics	Incorporated	("CFFT")	that	provided	funding	through	December	31, 2005	for	Vertex's	late-stage	cystic	fibrosis	drug	discovery	effort.	In	2006,	Vertex	amended	its	agreement	with	CFFT	to	extend	the	term	of	the	drug	discovery	effort	to March	31,	2008	and	to	include	additional	development	stage	funding	for	specified	VX-770	development	activities	through	the	end	of	2007.	The	agreement,	as	amended, provides	that	CFFT	will	pay	up	to	$32.4	million	to	Vertex	for	research	and	development	activities.	Under	the	amended	agreement,	Vertex	retains	the	right	to	develop	and commercialize	VX-770	and	any	other	compounds	discovered	in	the	research	collaboration,	and	will	pay	royalties	to	CFFT	on	net	sales	of	any	drug	candidate	approved and	commercialized	under	the	collaboration.

In	2006,	2005	and	2004,	Vertex	recognized	$12.6	million,	$14.5	million	and	$6.8	million,	respectively,	in	revenue	related	to	its	agreement	with	CFFT.	During	the first	quarter	of	2004,	under	an	earlier	agreement,	Vertex	earned	revenue	of	$1.9	million.	CFFT	has	the	right	to	terminate	the	agreement	without	cause,	effective	June	30, 2007,	upon	60	days'	prior	written	notice.

# Novartis	Pharma	AG

In	May	2000,	the	Company	entered	into	an	agreement	with	Novartis	Pharma	AG	to	collaborate	on	the	discovery,	development	and	commercialization	of	small molecule	drugs	directed	at	protein	kinases.	The	agreement	was	amended	in	February	2004.	Under	the	original	agreement,	the	Company	was	responsible	for	drug discovery	and	clinical	proof-of-concept	testing	of	all	drug	candidates.	Novartis	agreed	to	pay	the	Company	up	to	$200	million	in	research	funding	through	April	2006, and	to	loan	the	Company	up	to	$200	million	on	a	non-interest-bearing	basis	to	support	clinical	proof-of-concept	studies.	Development	loans	with	respect	to	any	drug candidates	accepted	by	Novartis	for	development	would	be	forgiven.	Under	the	amended	agreement,	Vertex	continued	to	receive	research	funding	through	April	2006 along	with	development	milestone	payments	and	royalties	with	respect	to	drug	candidates	selected	by	Novartis	for	development.	Novartis	held	an	option	to	develop	drug candidates	meeting	certain	pre-agreed	criteria.	Restrictions	under	the	original	agreement	that	limited	Novartis'	right	to	pursue	kinase	research	and

development	outside	the	collaboration	were	removed,	and	the	development	loan	facility	was	terminated.	Following	completion	of	the	research	term,	Novartis' development	option	with	respect	to	all	compounds	discovered	in	the	research	program,	none	of	which	were	then	in	development	by	Novartis,	had	expired.	Vertex	retains all	rights	to	those	candidates,	as	well	as	to	all	of	the	intellectual	property	it	generated	under	the	collaboration.

In	November	2004,	Novartis	accepted	VX-322	for	preclinical	development	and	made	a	$10	million	milestone	payment	to	Vertex	that	was	recognized	as	revenue over	the	term	of	the	contract.	Novartis	had	exclusive	worldwide	development,	manufacturing	and	commercialization	rights	to	VX-322.	That	compound	is	no	longer	in development	by	Novartis,	and	Novartis's	worldwide	development,	manufacturing	and	commercialization	rights	to	VX-322	have	terminated.

In	June	2004,	the	Company	exercised	its	option	under	the	amended	agreement	to	develop	MK-0457	(VX-680),	and	the	Aurora	kinases	it	targets,	outside	the Novartis	collaboration	and	repaid	approximately	$12.5	million	of	unspent	and	uncommitted	development	loans	previously	advanced	on	account	of	MK-0457	(VX-680).

In	2006,	2005	and	2004,	the	Company	recognized	approximately	$17.6	million,	$53.1	million	and	$50.5	million,	respectively,	in	revenue	under	this	agreement.	At December	31,	2006,	there	were	approximately	$20.0	million	in	remaining	loans	outstanding	under	the	loan	facility.	These	loans	are	repayable,	without	interest,	in May	2008.

In	June	2004,	Vertex	entered	into	a	collaboration	agreement	with	Mitsubishi	Pharma	Corporation,	pursuant	to	which	Mitsubishi	agreed	to	provide	financial	and other	support	for	the	development	and	commercialization	of	telaprevir.	Under	the	terms	of	the	agreement,	Mitsubishi	has	the	right	to	develop	and	commercialize telaprevir	in	Japan	and	certain	other	Far	East	countries.	The	agreement	provides	for	up	to	$33	million	in	payments	by	Mitsubishi	to	Vertex	through	Phase	2	clinical development,	including	an	up-front	license	fee,	development	stage	milestone	payments	and	reimbursement	of	certain	drug	development	costs	for	telaprevir.	Further	cost sharing	beyond	Phase	2	clinical	development	will	be	determined	by	Mitsubishi	and	Vertex	based	on	the	design	of	registration	studies	for	telaprevir.	The	agreement	also provides	Vertex	with	royalties	on	any	sales	of	telaprevir	in	the	Mitsubishi	territory.	Mitsubishi	may	terminate	the	agreement	at	any	time	without	cause	upon	60	days' prior	written	notice.	In	the	fourth	quarter	of	2004,	Mitsubishi	paid	the	Company	a	milestone	payment	of	$4.0	million	for	first	dosing	of	telaprevir	in	a	patient	in	the Phase	1b	clinical	trial	in	the	United	States.	In	the	third	quarter	of	2006,	Mitsubishi	paid	the	Company	a	milestone	payment	of	$3.0	million	for	the	first	dosing	of telaprevir	in	a	patient	by	Mitsubishi	in	the	Mitsubishi	territory.	Vertex	recognized	$8.6	million,	$3.4	million	and	$5.8	million	in	revenue	under	this	agreement	in	2006, 2005	and	2004,	respectively.	The	revenue	includes	an	amortized	portion	of	the	up-front	payment,	milestone	achievements,	and	reimbursement	of	certain	of	Vertex's expenses	incurred	in	telaprevir	development.

The	Company	and	Kissei	Pharmaceutical	Co.,	Ltd.	("Kissei")	are	parties	to	an	agreement	to	collaborate	on	the	identification	of	inhibitors	of	p38	MAP	kinase	and the	development	of	those	compounds	as	novel,	orally	active	drugs	for	the	treatment	of	inflammatory	and	neurological	diseases.	Under	the	terms	of	the	agreement,	Kissei agreed	to	pay	the	Company	up	to	$22	million	comprised	of	a	$4	million	up-front	license	payment,	$11	million	of	product	research	funding	over	three	years	and

$7	million	of	development	and	commercialization	milestone	payments.	Additionally,	Kissei	agreed	to	reimburse	the	Company	for	certain	development	costs,	including	a portion	of	costs	for	Phase	2	trials	of	VX-702.	Research	funding	ended	under	this	program	in	June	2000,	and	the	Company	has	received	the	full	amount	of	research funding	specified	under	the	agreement.	Kissei	has	exclusive	rights	to	develop	and	commercialize	VX-702	in	Japan	and	certain	Far	East	countries	and	co-exclusive	rights in	China,	Taiwan	and	South	Korea.	The	Company	retains	exclusive	marketing	rights	outside	the	Far	East	and	co-exclusive	rights	in	China,	Taiwan	and	South	Korea.	In addition,	the	Company	will	have	the	right	to	supply	bulk	drug	material	to	Kissei	for	sale	in	its	territory	and	will	receive	royalties	or	drug	supply	payments	on	future product	sales,	if	any.	In	2006,	2005	and	2004,	approximately	$6.4	million,	$7.3	million	and	$3.5	million,	respectively,	was	recognized	as	revenue	under	this	agreement. The	$7.3	million	of	revenue	recognized	in	2005	includes	a	$2.5	million	milestone	paid	upon	Kissei's	completion	of	regulatory	filings	in	preparation	for	Phase	1	clinical development	of	VX-702	in	Japan.

# P.	Employee	Benefits

The	Company	has	a	401(k)	retirement	plan	(the	"Vertex	401(k)	Plan")	in	which	substantially	all	of	its	permanent	employees	are	eligible	to	participate.	Participants may	contribute	up	to	60%	of	their	annual	compensation	to	the	Vertex	401(k)	Plan,	subject	to	statutory	limitations.	The	Company	may	declare	discretionary	matching contributions	to	the	Vertex	401(k)	Plan	that	are	payable	in	the	form	of	Vertex	common	stock.	The	match	is	paid	in	the	form	of	fully	vested	interests	in	a	Vertex	common stock	fund.	Employees	have	the	ability	to	transfer	funds	from	the	Company	stock	fund	as	they	choose.	The	Company	declared	matching	contributions	to	the	Vertex 401(k)	Plan	as	follows	(in	thousands):

| Discretionary	matching	contributions	during	the	year	ended | 2006 | 2005 | 2004 |
| :--- | :--- | :--- | :--- |
| December\t31, | $ 3,341 | $ 2,894 | $ 2,492 |
| Shares\tissued\tduring\tthe\tyear\tended\tDecember\t31, | 91 | 215 | 239 |
| Shares\tissuable\tas\tof\tthe\tyear\tended\tDecember\t31, | 28 | 19 | 57 |

# Q.	Related	Party	Transactions

As	of	December	31,	2006,	2005	and	2004,	the	Company	had	a	loan	outstanding	to	a	former	officer	of	the	Company	in	the	amount	of	$36,000,	$36,000,	$97,000, respectively,	which	was	initially	advanced	in	April	2002.	The	loan	balance	is	included	in	other	assets	on	the	consolidated	balance	sheets.

In	2001,	the	Company	entered	into	a	four	year	consulting	agreement	with	a	director	of	the	Company	for	the	provision	of	part-time	consulting	services	over	a	period of	four	years,	at	the	rate	of	$80,000	per	year	commencing	in	January	2002.	The	consulting	agreement	terminated	in	January	2006.

# R.	Contingencies

The	Company	has	certain	contingent	liabilities	that	arise	in	the	ordinary	course	of	its	business	activities.	The	Company	accrues	a	reserve	for	contingent	liabilities when	it	is	probable	that	future	expenditures	will	be	made	and	such	expenditures	can	be	reasonably	estimated.

# S.	Guarantees

As	permitted	under	Massachusetts	law,	Vertex's	Articles	of	Organization	and	Bylaws	provide	that	the	Company	will	indemnify	certain	of	its	officers	and	directors for	certain	claims	asserted	against	them	in	connection	with	their	service	as	an	officer	or	director.	The	maximum	potential	amount	of	future	payments	that	the	Company could	be	required	to	make	under	these	indemnification	provisions	is	unlimited.	However,	the	Company	has	purchased	directors'	and	officers'	liability	insurance	policies that	could	reduce	its	monetary	exposure	and	enable	it	to	recover	a	portion	of	any	future	amounts	paid.	No	indemnification	claims	are	currently	outstanding	and	the Company	believes	the	estimated	fair	value	of	these	indemnification	arrangements	is	minimal.

Vertex	customarily	agrees	in	the	ordinary	course	of	its	business	to	indemnification	provisions	in	agreements	with	clinical	trials	investigators	and	sites	in	its	drug development	programs,	in	sponsored	research	agreements	with	academic	and	not-for-profit	institutions,	in	various	comparable	agreements	involving	parties	performing services	for	the	Company	in	the	ordinary	course	of	business,	and	in	its	real	estate	leases.	The	Company	also	customarily	agrees	to	certain	indemnification	provisions	in its	drug	discovery	and	development	collaboration	agreements.	With	respect	to	the	Company's	clinical	trials	and	sponsored	research	agreements,	these	indemnification provisions	typically	apply	to	any	claim	asserted	against	the	investigator	or	the	investigator's	institution	relating	to	personal	injury	or	property	damage,	violations	of	law or	certain	breaches	of	the	Company's	contractual	obligations	arising	out	of	the	research	or	clinical	testing	of	the	Company's	compounds	or	drug	candidates.	With	respect to	lease	agreements,	the	indemnification	provisions	typically	apply	to	claims	asserted	against	the	landlord	relating	to	personal	injury	or	property	damage	caused	by	the Company,	to	violations	of	law	by	the	Company	or	to	certain	breaches	of	the	Company's	contractual	obligations.	The	indemnification	provisions	appearing	in	the Company's	collaboration	agreements	are	similar,	but	in	addition	provide	some	limited	indemnification	for	its	collaborator	in	the	event	of	third	party	claims	alleging infringement	of	intellectual	property	rights.	In	each	of	the	cases	above,	the	indemnification	obligation	generally	survives	the	termination	of	the	agreement	for	some extended	period,	although	the	obligation	typically	has	the	most	relevance	during	the	contract	term	and	for	a	short	period	of	time	thereafter.	The	maximum	potential amount	of	future	payments	that	the	Company	could	be	required	to	make	under	these	provisions	is	generally	unlimited.	The	Company	has	purchased	insurance	policies covering	personal	injury,	property	damage	and	general	liability	that	reduce	its	exposure	for	indemnification	and	would	enable	it	in	many	cases	to	recover	a	portion	of any	future	amounts	paid.	The	Company	has	never	paid	any	material	amounts	to	defend	lawsuits	or	settle	claims	related	to	these	indemnification	provisions.	Accordingly, the	Company	believes	the	estimated	fair	value	of	these	indemnification	arrangements	is	minimal.

In	March	2003,	the	Company	sold	certain	assets	of	PanVera	LLC	to	Invitrogen	Corporation	for	approximately	$97	million.	In	December	2003,	the	Company	sold certain	instrumentation	assets	to	Aurora	Discovery,	Inc.	for	approximately	$4.3	million.	The	agreements	with	the	buyers	each	require	the	Company	to	indemnify	the buyer	against	any	loss	it	may	suffer	by	reason	of	Vertex's	breach	of	certain	representations	and	warranties,	or	failure	to	perform	certain	covenants,	contained	in	such agreement.	The	representations,	warranties	and	covenants	contained	in	the	agreements	are	of	a	type	customary	in	agreements	of	this	sort.	The	Company's	aggregate obligations	under	the	indemnity	contained	in	each	agreement	are,	with	a	few	exceptions	which	the	Company	believes	are	not	material,	capped	at	one-half	of	the applicable	purchase	price,	and	apply	to	claims	under	representations	and	warranties	made	within	fifteen	months	after	closing	(which	period	has	ended)	although	there	is no	corresponding	time	limit	for	claims	made	based	on	breaches	of	covenants.	Neither	Invitrogen	or	Aurora	has	made	any	claims	to	date	under	the	applicable	indemnities, and	the	Company	believes	that	the	estimated	fair	value	of	the	remaining	indemnification	obligations	is	minimal.

# S.	Guarantees	(Continued)

On	February	10,	2004,	Vertex	entered	into	a	Dealer	Manager	Agreement	with	UBS	Securities	LLC	in	connection	with	the	exchange	of	approximately $153.1	million	of	the	February	2011	Notes	for	approximately	$153.1	million	of	2007	Notes.	On	September	13,	2004,	the	Company	entered	into	a	second	Dealer Manager	Agreement	with	UBS	Securities	in	connection	with	the	exchange	of	approximately	$79.3	million	of	the	September	2011	Notes	for	approximately	$79.3	million of	2007	Notes.	Each	of	the	Dealer	Manager	Agreements	requires	the	Company	to	indemnify	UBS	Securities	against	any	loss	UBS	Securities	may	suffer	by	reason	of	the Company's	breach	of	representations	and	warranties	relating	to	the	exchanges	of	the	convertible	notes,	the	Company's	failure	to	perform	certain	covenants	in	those agreements,	the	inclusion	of	any	untrue	statement	of	material	fact	in	the	disclosure	materials	provided	to	potential	investors	in	the	2011	Notes,	the	omission	of	any material	fact	needed	to	make	those	materials	not	misleading,	and	any	actions	taken	by	the	Company	or	its	representatives	in	connection	with	the	exchanges.	The

representations,	warranties	and	covenants	in	the	Dealer	Manager	Agreements	are	of	a	type	customary	in	agreements	of	this	sort.	The	Company	believes	the	estimated	fair value	of	these	indemnification	obligations	is	minimal.

On	June	7,	2005	and	September	14,	2006,	the	Company	entered	into	Purchase	Agreements	with	Merrill	Lynch,	Pierce,	Fenner	&	Smith	Incorporated,	as	the representative	of	the	several	underwriters	named	in	such	agreements,	relating	to	the	public	offering	and	sale	of	shares	of	the	Company's	common	stock.	The	Purchase Agreement	relating	to	each	offering	requires	the	Company	to	indemnify	the	underwriters	against	any	loss	they	may	suffer	by	reason	of	the	Company's	breach	of representations	and	warranties	relating	to	that	public	offering,	the	Company's	failure	to	perform	certain	covenants	in	those	agreements,	the	inclusion	of	any	untrue statement	of	material	fact	in	the	prospectus	used	in	connection	with	that	offering,	the	omission	of	any	material	fact	needed	to	make	those	materials	not	misleading,	and any	actions	taken	by	the	Company	or	its	representatives	in	connection	with	the	offering.	The	representations,	warranties	and	covenants	in	the	Purchase	Agreement	are	of a	type	customary	in	agreements	of	this	sort.	The	Company	believes	the	estimated	fair	value	of	these	indemnification	obligations	is	minimal.

# T.	Quarterly	Financial	Data	(unaudited)

|  |  | Three	Months	Ended | Three	Months	Ended |  |
| :--- | :--- | :--- | :--- | :--- |
| Revenues: | March\t31,\n2006 | June\t30,\n2006 | Sept.\t30,\n2006 | Dec.\t31,\n2006 |
| Royalties | $9,179 | $9,005 | $10,902 | $12,122 |
| Collaborative\tand\tother\tresearch\tand\tdevelopment\trevenues | 29,908 | 20,721 | 42,387 | 82,132 |
| Total\trevenues | 39,087 | 29,726 | 53,289 | 94,254 |
| Costs\tand\texpenses: |  |  |  |  |
| Royalty\tpayments | 2,995 | 2,885 | 3,113 | 3,177 |
| Research\tand\tdevelopment\texpenses | 75,202 | 91,250 | 96,115 | 109,146 |
| Sales,\tgeneral\tand\tadministrative\texpenses | 12,879 | 14,370 | 14,773 | 15,838 |
| Restructuring\texpense | 767 | 443 | 1,415 | 1,026 |
| Total\tcosts\tand\texpenses | 91,843 | 108,948 | 115,416 | 129,187 |
| Loss\tfrom\toperations | (52,756) | (79,222) | (62,127) | (34,933) |
| Interest\tincome | 3,980 | 3,921 | 5,330 | 9,793 |
| Interest\texpense | (2,357) | (2,357) | (1,767) | (1,474) |
| Realized\tgain\t(loss)\ton\tsale\tof\tinvestment | — | — | 7,663 | (730) |
| Unrealized\tgain\ton\twarrants | — | — | 4,250 | — |
| Loss\ton\texchange\tof\tconvertible\tsubordinated\tnotes | — | — | (5,151) | — |
| Loss\tbefore\tcumulative\teffect\tof\ta\tchange\tin\taccounting |  |  |  |  |
| principle | (51,133) | (77,658) | (51,802) | (27,344) |
| Cumulative\teffect\tof\ta\tchange\tin\taccounting\tprinciple—FAS |  |  |  |  |
| 123(R) | 1,046 | — | — | — |
| Net\tloss | $(50,087) | $(77,658) | $(51,802) | $(27,344) |
| Basic\tand\tdiluted\tloss\tbefore\tcumulative\teffect\tof\ta\tchange\tin |  |  |  |  |
| accounting\tprinciple\tper\tcommon\tshare | $(0.48) | $(0.72) | $(0.46) | $(0.22) |
| Basic\tand\tdiluted\tcumulative\teffect\tof\ta\tchange\tin\taccounting |  |  |  |  |
| principle\tper\tcommon\tshare | 0.01 | — | — | — |
| Basic\tand\tdiluted\tnet\tloss\tper\tcommon\tshare | $(0.47) | $(0.72) | $(0.46) | $(0.22) |
| Basic\tand\tdiluted\tweighted\taverage\tnumber\tof\tcommon\tshares\noutstanding | 107,440 | 108,523 | 112,803 | 123,942 |

# T.	Quarterly	Financial	Data	(unaudited)	(Continued)

|  |  | Three	Months	Ended | Three	Months	Ended |  |
| :--- | :--- | :--- | :--- | :--- |
| Revenues: | March\t31,\n2005 | June\t30,\n2005 | Sept.\t30,\n2005 | Dec.\t31,\n2005 |
| Royalties | $6,153 | $7,467 | $9,466 | $9,743 |
| Collaborative\tand\tother\tresearch\tand\tdevelopment\trevenues | 22,453 | 24,854 | 26,741 | 54,013 |
| Total\trevenues | 28,606 | 32,321 | 36,207 | 63,756 |
| Costs\tand\texpenses: |  |  |  |  |
| Royalty\tpayments | 2,030 | 2,489 | 2,796 | 2,783 |
| Research\tand\tdevelopment\texpenses | 57,435 | 59,357 | 63,590 | 68,158 |
| Sales,\tgeneral\tand\tadministrative\texpenses | 9,627 | 10,814 | 10,738 | 12,811 |
| Restructuring\texpense | 1,914 | (1,743) | 1,565 | 6,398 |
| Total\tcosts\tand\texpenses | 71,006 | 70,917 | 78,689 | 90,150 |
| Loss\tfrom\toperations | (42,400) | (38,596) | (42,482) | (26,394) |
| Interest\tincome | 2,319 | 2,247 | 3,733 | 3,695 |
| Interest\texpense | (4,639) | (4,639) | (4,505) | (3,543) |
| Loss\ton\texchange\tof\tconvertible\tsubordinated\tnotes | — | — | (36,324) | (11,889) |

| Net	loss | $ (44,720) | $ (40,988) | $ (79,578) | $(38,131) |
| :--- | :--- | :--- | :--- | :--- |
| Basic\tand\tdiluted\tnet\tloss\tper\tcommon\tshare | $(0.56) | $(0.50) | $(0.84) | $(0.38) |
| Basic\tand\tdiluted\tweighted\taverage\tnumber\tof\tcommon\tshares\noutstanding | 79,428 | 82,274 | 94,590 | 100,535 |



Question: what was the percent change in depreciation and amortization expense between 2004 and 2005?
Calculation: depreciation_2005 = 26.3
depreciation_2004 = 28.4
change = depreciation_2005 - depreciation_2004
percent_change = change / depreciation_2004
answer = percent_change * 100
Answer: -7.4%